Westinghouse Air Brake Technologies Corporation (WAB) Q3 2015 Earnings Report, Transcript and Summary

Good morning and welcome to the Wabtec Third Quarter 2015 Earnings Release. All participants will be in listen-only mode. [Operator Instructions] Please note this event is being recorded. I would now like to turn the conference over to Tim Wesley. Please go ahead.

Thanks, Amy. Good morning, everybody. Welcome to our 2015 third quarter earnings call. As usual in the room here with me we have Al Neupaver, our Executive Chairman; Ray Betler, our President and CEO; our CFO, Pat Dugan; and John Mastalerz, our Corporate Controller. We will make our prepared remarks as always and then we will be happy to take your questions. Certainly, during the call, we will make forward-looking statements. So, please review our press release today for the appropriate disclaimers. Al?

Thanks, Tim. Good morning, everyone. We had a solid operating performance in the third quarter with sales of $810 million and earnings of $1.02 per diluted share, our second highest EPS number ever. With our operating margins, it continued to expand nicely and was at a record 18.8%. And we achieved these results despite a global economy that remains sluggish. So, the business is performing well, thanks to our diversified business model, our strategic growth initiatives and the power of our Wabtec Performance System. Although we share some of the short-term concerns of our customers in the U.S. and abroad, we continue to be optimistic and excited about the long-term opportunities in our key freight and transit rail markets. These markets are large and global and they will continue to grow over time. As they do, we are well-positioned to benefit from that. Today, we also affirmed our 2015 earnings guidance with the full year earnings per diluted share expected to be at $4.10. This is based on sales growth of about 9% for the year. This guidance implies that we expect a stronger fourth quarter despite some uncertainty in the marketplace. The guidance assumes the following: slow growth in the global economy taking into account current conditions in all of our key markets; it assumes no disruptions in the U.S. rail industry as Congress considers an extension for the PTC deadline; it assumes top line growth will come from our freight group with about half of its growth coming from organic initiatives, our transit group results will continue to be affected by headwinds from foreign exchange rates and some project delays. We assume no changes in foreign exchange rates from the current levels. As well, we assume a tax rate of about 32% for the year, slightly higher than we expected due to a greater percentage of our sales coming in the U.S. which has its higher tax rate than some of our international locations. As always, we will be disciplined when it comes to controlling cost. We will be totally focused on generating cash to invest in growth opportunities and ready to respond if market conditions change. I thought I would start out by giving a little update on our acquisition process of Faiveley Transport. As we recently announced, we have now signed a definitive agreement to acquire from the members of the Faiveley family, about 51% of Faiveley Transport. Faiveley Transport is a leading global provider of value-added integrated systems and services in the railway industry with annual sales of about $1.2 billion. We have also entered into a definitive tender offer agreement with Faiveley Transport and a definitive shareholders agreement with the majority shareholders. Closing of the transactions is subject to various customary conditions, including the completion of the remaining regulatory requirements. Timing of these completions still cannot be predicted. Under the agreement, Wabtec plans to purchase the family shares for €100 per share. It’s payable 25% in cash, 75% in Wabtec preferred stock, which converts automatically after three years into a total about $6.5 million Wabtec common shares. Upon completing the family share purchase, we will begin a tender offer for the remaining publicly traded Faiveley shares. The public shareholders will have the option to elect to receive €100 per share in cash and Wabtec preferred stock with the preferred stock capped at 75% of the consideration. The total purchase price is about $1.8 billion, including assumed debt. We plan to fund the cash portion with cash on hand, existing credit facilities and potentially, other debt financing. This opportunity without a doubt is probably has the most compelling strategic rationale of any acquisition that we have ever made. We will be recombining the original WABCO well divisions to create one of the world’s largest public well equipment companies with total revenues of about $4.5 billion in a worldwide freight rail and passenger transit industry. The combined companies offer complementary geographies with minimal overlap. It offers diversified end-market offerings. It’s an extension of product and service capabilities of each company. We should see enhanced technology and innovation and initiative opportunities, an expanded relationship with blue-chip and global customers. In addition, we have significant synergies to help drive this growth. We expect the long-term annual synergies of at least €40 million to be achieved through supply chain efficiencies, operational efficiencies and cost savings, and leveraging the SG&A capabilities. Highly complementary geographic presence products and engineering services and activities do exist. Our combined global scale in freight and transit rail equipment market will help drive operational excellence. These synergies will improve our ability to offer safety, productivity and efficiency enhancements to the global rail markets. So, we are very excited about the future growth opportunities provided by this acquisition and we are working through the process to get it completed. In the meantime, we remain totally focused on running our business. Right now, we will cover a little bit about our current markets and our growth strategies. Ray?

Thanks, Tim. I would like to start with some general comments about the global economy. As Al stated, we think sluggish is a good way to describe it as lower commodity prices are having an effect on a number of transportation and industrial markets. The massive rail industry is seeing lower rail volumes due in part to reduce shipments of coal and other commodities, such as metals, minerals and oil. As China’s growth has slowed in recent years that has led to reduced demand for natural resources in places like Brazil and Australia. In energy, low oil prices have reduced the number of drilling rigs in the U.S. In this environment, Wabtec has still managed to perform well because of our diversified business model and because we remain focused on what we can control, which is an aggressive pursuit of our growth strategies and our continuous focus on cost improvement initiatives. Let’s focus on freight rail for a minute. In NAFTA, freight rail traffic is down almost 1% this year, that’s an increase of 3% in intermodal has been offset by 4% decrease in general merchandise and car loadings. Of the 10 commodity groups reported by the railroads, half are actually higher than a year ago, but coal was the largest and it’s down about 9%. Earlier this year, traffic was basically flat, which means third quarter volumes were down for most of our customers. Despite lower traffic OEM rolling stock deliveries in 2015 will be above the long-term averages with about 1,300 locomotives and 75,000 freight cars to be delivered this year. The freight car backlog has come down in recent quarters, but it is more diversified than in recent years, which is a positive effect. Third quarter deliveries were about 20,000 cars, while orders were about 7,000 cars. So the current backlog is about 123,000, which extends into the first half of 2017 at the current delivery rates. That is also positive. Meanwhile, freight traffic in some of our global markets is mix, the decreases in the UK, Germany and Russia exists but in South Africa, Transnet has reported an increase. So we are focused on increasing our global footprint and our product offerings beyond just as traditional aftermarket. Remember that about 75% of the installed base of locomotives and freight cars exist outside of NAFTA. In the transit markets, stability remains the same both in the U.S. and abroad. In the U.S. and Canada, ridership is basically flat in the most recent quarter reported. The UK and Germany saw increases. This year, we are expecting the North America transit car deliveries to be higher than last year and bus deliveries to be about the same. Transit funding in the U.S. is also stable at about $11 billion, slightly higher than last year. And as I am sure you realized there is long-term bills that are being considered even as temporary funding bills are set to expire and won’t be extended. So it’s a difficult opportunity for the people that are relying on this funding and for us to predict what the eventual outcome will be. Of course, we have been in this situation before and the funding always seems to get approved. Reported revenues in our transit business this year are down about 5%, but if you exclude the effects of FX, they are actually up about 4%. So our transit backlog is growing which bodes well for our future. Our multi-year transit backlog is at a record high and our 12-month backlog increased for the first time since last year. Our book to bill ratio in the third quarter is at 1.12%, another positive indicator. Among orders that we booked, the PRASA order in South Africa is valued at about $160 million, MBTA at about $70 million in Boston and San Francisco Muni at about $50 million. And remember, just as in the freight market we are focused on the global growth and increasing our product offerings internationally because the international markets are larger than NAFTA. We estimate that the global installed base of transit cars is about 330,000 and about 95% of that fleet is outside of NAFTA. We continue to focus on growth and cash generation. In this quarter, we generated $144 million of cash flow from operations. And for the first nine months, we generated about $255 million which gives us ample capacity for investment. Our priorities throughout getting free cash have not changed. The first is to fund internal growth programs including product development and CapEx, followed by acquisitions, followed by returning money to our shareholders through a combination of dividends and stock buybacks. In May, we announced the dividend increase for the fifth consecutive year and during the third quarter we bought back 237,000 shares for about $22 million. That still leaves $151 million left on our $200 million buyback authorization. We remain focused on increasing free cash flow by managing costs, driving down working capital and controlling capital expenditures. Our corporate growth strategies and our focus remain the same, to grow globally in our served markets, to expand our aftermarket and services sector, to expand through new product development innovation and new technologies, and to expand through acquisitions. So let’s talk about some progress in each of these areas. Growth strategies, on the global market expansion front in the quarter, sales outside of the U.S. were $372 million. That’s nearly half of our total sales versus about one-third 5 years ago. As in recent quarters, some markets such as Brazil and Australia remain challenging due to lower commodity prices, but we continue to win orders around the world. In China, brake equipment for freight and transit in a conductive rail system through our Fandstan business has been one. Our JV in India through Texmaco, the country’s largest freight car manufacturer also won orders for draft gears and we won orders in Brazil to extend our services agreement which is a 5-year contract extension for MRS for our back shop operations. On the aftermarket expansion side, our overall aftermarket sales were $466 million. That represents 60% of our total sales. We won orders for traction motor overhauls in the UK, for locomotive overhauls in the U.S. and for digital video cameras for commuter railroads. In the new product areas, we have many ongoing internal development activities. Positives train control has been one of the several growth drivers in Wabtec. PTC related sales came in at about $95 million this quarter. So we are on track to increase about 20% for the full year, depending on the pace of orders from railroads and transit authorities in Q4. As you all know, the PTC deadline is just a couple of months away and the industry has been saying it cannot meet the deadline. Congress is discussing an extension with the railroads have talked about curtailing operations later this year, so they do not violate the law. As we have always said, we will support our customers in their expectations. We will follow closely the activities in the industry and address our activities appropriately. ECP is another new product in the headlines and as you know the FRA has announced new rules associated with tank cars that includes ECP. The rule is currently being appealed, so we will have to wait and see how that all plays out. The appeals probably will not be finished until the 2017 timeframe. Oil-free compressors, we continue to have good field test results with our new oil-free compressors, both on the transit side as well as on the freight side. And we have received orders in both market sectors. Tier 4 cooling systems, our investment in this technology demonstrates our ability to address the environment as well as productivity and efficiency improvement requirements and opportunities for our customers. On the acquisition side, we have a very strong and active pipeline. We are pleased with the opportunities that we are reviewing. That’s on top of the Faiveley discussion. Al talked about our planned acquisition of Faiveley. I would like to say a few words about Track IQ, another acquisition that we closed this week. A manufacturer of wayside center systems in the global rail industry, Track IQ has sales of about $15 million. Its customers include Class 1s in the U.S. and throughout Europe and Australia. Track IQ’s products use acoustic sensors on the track infrastructure to monitor and measure operating conditions of bearings and wheels on freight and passenger rail vehicles. The product provides data used to improve preventive maintenance and safety performance. The company’s systems have been installed in more than 150 locations around the world. With its core sensor technology, Track IQ expands our capability into an important segment of the wayside market. We see opportunities that the rate the company’s sensors into Wabtec’s existing train control signaling and electronic product offerings. In addition, we can leverage Track IQ’s technology and expertise as we develop enhancements and additional features in our train control product areas and we can utilize our worldwide sales and marketing network to expand Track IQ’s presence throughout the world. And with that, Pat, I would like to pass it over to you to address the financial details of the third quarter.

Okay. Thanks, Ray. Good morning, everybody. Sales for the third quarter were about $810 million, about 2% higher than last year’s quarter. This also – this includes a negative comparative impact for that quarter of about $39 million or about 5% from changes in foreign exchange rates. Excluding this FX impact, about three-fourths of the remaining increase was from acquisitions. Looking at our segments, freight sales increased 12%. When you exclude FX again, it would have been about 14% increase. That growth was from increases in freight car components we supply to our customers, locomotive rebuilds and also from acquisitions. The transit segment sales declined about 12% as the negative effects of changes in FX freights more than offset any growth. Excluding FX, transit sales would have been down about 5%. For 2015, revenues will increase in our freight segment, while transit will be down mostly due to FX. When you look at our operating income for the quarter, it was $152 million, or 18.8% of sales, which is a record. In 2014, our third quarter operating margin was 17.1%. So, we have continued to find ways to improve our operating margin. SG&A for the quarter was about $82 million, or about $6 million lower than a year ago quarter and this was due to three factors: changes in FX, again, which lowered our expenses as we consolidated the results from our foreign units; internal cost control and initiatives, we reduced our cost overall, especially in our acquisitions; and lower cost from benefits and compensation. The fourth quarter number, when you look at our run-rate going forward, be somewhere between $85 million and $87 million. Interest expense was $4.4 million for the quarter, slightly less than a year ago. Other expense and income, you will note that we had an expense of $2.9 million in the quarter, mainly from non-cash foreign currency translation losses. So, when you combine the figure that figure, the $2.9 million in the quarter with the negative effects of FX on our consolidated pre-tax income, it’s about $7.7 million or about $0.05 per diluted share. For the most part, we have nat projects against currency fluctuations by selling and producing in local markets and to the extent we do have an exposure, we will enter into forward hedges. I also want to comment on the effect of FX on our guidance. We have an exposure due to the consolidation of our results and today’s guidance does taking into account FX rates at current levels. Further changes could affect our 2015 results. Our effective tax rate for the quarter was 31.5% versus 31.3% in the year ago quarter, slightly higher mainly due to a greater mix of profits in the United States versus our international locations, some of which have lower tax rates. We expect the annual rate to be about 32% this year. Remember, that’s an annual forecast and quarters will vary due to timing of any discrete items. When you look at our balance sheet, it remains strong providing the financial capacity and flexibility to invest in our growth opportunities. We had investment grade credit rating and our goal is to continue to maintain it. Looking at working capital at September 30, trade and unbilled receivables were about $625 million, inventories were about $518 million, and accounts payable were about $319 million. The unbilled receivables are related to long-term contracts, where we need to hit certain project milestones before we are able to bill for the work. Unbilled receivables ended the quarter at $151 million compared to $174 million at the end of Q2. I will just point out and remind everybody that those are offset by customer deposits which stood at $107 million at the end of the quarter. Cash on hand at September 30 was about $208 million, mostly held outside the United States. It was $265 million at June 30. Just a quick note, our balance sheet – that balance at $208 million does not include about $210 million in cash we are currently holding in escrow related to the Faiveley transaction and that will be reflected on our balance sheet as an other current assets. Debt at June 30, 451 compared – I am sorry, September 30, was $451 million compared to $400 million at June 30. Cash from operations, we generated $144 million which brings us up to $255 million for the first nine months and we view that as a solid performance. Just a couple of miscellaneous items that everybody asks about, depreciation for the quarter at $11 million compared to $10.3 million in the last year’s quarter; amortization, $5.5 million compared to $6.7 million in last year’s quarter; and CapEx was $12.2 million versus $12.4 million last year. For the year, our capital expenditures we expect to be up between $45 million and $50 million. Looking at our backlog at September 30, our multi-year backlog was $2.2 billion, slightly lower than the end of the second quarter. Transit was a record $1.4 billion and freight was about $773 million. Changes in FX rates reduced the backlog by about $100 million. Rolling 12 months backlog which is a subset of the multiyear backlog was at $1.3 billion compared to about $1.4 billion in the second quarter. Transit was $641 million and freight was about $658 million. This was the first sequential increase in the transit backlog since the end of last year. So, that’s a positive sign. Total backlog figures do not include about $225 million of pending orders and contract options that are not counted in the backlog until our customers exercise those options. So, with that, I will turn it over back to Al for summary comments.

Thanks, Pat. Thanks, Ray. Once again, we had a good performance in the third quarter. As we look at the rest of the year, we do see ongoing challenges in the global markets, but based on our third quarter performance and our outlook for the rest of the year, we affirm our EPS guidance of about $4.10 on revenue growth of about 9%. We are pleased with our strategic progress and the long-term growth opportunities we see. We continue to benefit from our strong team of employees and management, a diverse business model and the Wabtec Performance System, which provides the tools we need to generate cash and reduce cost. With that, we will be happy to answer questions.

Thank you. [Operator Instructions] Our first question comes from Scott Group at Wolfe Research.

Hey, guys. Thanks. Good morning.

Good morning.

Good morning.

So obviously, there is some concern out there with the stock and I am not sure how much you guys are willing to talk about next year yet, but can you help us think about how to frame like the organic growth rate on the freight side for next year given kind of some of the comments on the backlog and just in general, what we are seeing with from the rails from a CapEx standpoint? So, yes, any color on kind of organic growth in freight for next year? And then yes, I guess, that’s the first question.

Okay, Scott, let me kind of take this. Obviously, we can’t comment on 2016, because we will do that early next year, but I think what we can comment further on as what Ray presented, market conditions. I think if we group market conditions in two areas, one headwinds, the other one, tailwinds, obviously, and we stated this last quarter and I think it’s obvious from the railcar order intake that the railcar build is probably peaked. And how it will play out, I think is – I don’t think that the past is necessarily a good indicator here. I think we are in a little different situation. What’s caused the peak to happen and the condition of the economy right now, I think that in past times, most of the low points in the car build was driven by the economy. Our economy seems strong. You look at the car loadings, with more than half of their categories up and coal being the negative drag. You also have the place of oil that impacts that. So if you look forward from a car build – railcar build standpoint, I think that there is some concern, but I am not sure that there is a cliff that it’s going to fall off like it’s done in past cycles. So I wouldn’t say we are optimistic about car build, but I think that it’s something that we have to watch and be ready to react as we see it playing out. I have seen estimates all over the place and what ‘16 would look like, but right now it’s a little early for us to give that number, but if you look at other headwinds and in the freight market, I think that one other things we had was we actually had a reduction in the locomotive build from ‘14 to ‘15. We think that there maybe some continued reduction only because of the Tier 4 locomotives that were purchased at least on order maybe not delivered. But we don’t see a drastic change in the freight locomotive areas, especially in North America. And globally, we think there is major opportunities in the locomotive freight area. So I think that from a freight standpoint, we see those concerns. What are some of the tailwinds in freight? Well, obviously it has a lot to do with us, what our growth strategies are. If you look at our growth strategies, number one is the strategy is to further extend our business. And as we do, although some of those freight marks especially in the mining countries have been impacted by the demand out of China. We still grow our market share and have opportunity to new countries. So that’s a positive. The other positive here is our technology. Products that we have, Ray talked about PTC and our revenue in that particular area. And we expect that to continue to grow as we go forward. ECP really hasn’t impacted the resolution of that mandate still creates an opportunity if the appeal is not one. You look at our opportunity on some of the other technology related to things that Ray mentioned, the Tier 4 locomotives technology as well. We have expanded our aftermarket offerings in freight in the locomotive services area. So I can’t say that the future is grayed out there. There are some headwinds, but I think our by executing our strategies as we have in the past, I think that we are pretty excited about the future. As a matter of fact, I won’t comment about all the markets, but Ray and his team just presented the Board, their strategic plans for the next 5 years. And I must tell you, we are more excited about the next 5 years than we were about the last 5. We have tremendous opportunities for growth on the long-term and that’s what we focus on. That was a long-winded question Scott, but we are pretty excited about the future.

Okay, that’s helpful. So if we get a 3-year delay to PTC like it – it seems like eventually we will get, would you think that PTC sales are up, down, flat next year versus this year?

Again, we can’t give 2016 guidance, but what we can do is provide a little bit of color. Only part of our PTC revenue is related to onboard computers. And I think that we have shared in the past and I don’t think the percentage of locomotives that are completed is anything new, but I think it’s like 39% are PTC ready right now out of 20,000. But our revenues come from more than just the onboard and that’s typically what would be impacted. At the same time, when we talk about how we feel this is a business opportunity around technology for the railroads, how do we create enhancement to capabilities, the aftermarket, the service portion of the business creates an opportunity for us. We have global opportunities and global projects that we are working on. The transit authorities, probably only about a third, the authorities are really in the revenue area for us right now. We still have to work with each of those. We have expanded our offerings by doing more on the construction and maintenance awaiting area for PTC. So it’s a delay. Would it slow down, I don’t know. The railroads have – I think have worked intensely and extremely hard to get this thing done by the deadline. And they will continue to work hard to complete it, but if it’s extended 1 year, 2 years, 3 years and we obviously have to support that effort. As Ray said, we are ready to support it and anything that we can do to help them meet this deadline, next deadline or whatever it is, we are ready to do that.

Okay, great. And just one last quick question if I can, can you give us any kind of car and when you think your through the process of closing Faiveley and any just views on as we think about those synergies if those are front end loaded, back end loaded and if there is accounting issues that keep us from seeing much of that accretion next year?

Okay. Again, we can’t give you the exact timing. As I stated, we are in the process. We have got the first two stages done. And the definitive agreement signing is a major step forward. What’s basically left is going through the regulatory requirements that we have. We still are working with the European regulators, as well as the Department of Justice. Those activities, we will know more in probably another month or so. We are working very hard to complete it. We do not anticipate any issue whatsoever. However, we can’t give you or provide you with an exact timing, because we have no control over it. As far as the opportunity, as I stated in my remarks, we think it’s at acquisition at the end of the day, it just makes ultimate sense. You are combining two companies that used to exist to complement each other in almost any aspect. And the opportunities that we have stated thus far at EUR40 million, those are opportunities we – if we didn’t think we can get them readily, we wouldn’t state that number.

Okay. Thank you for the time guys. I appreciate it.

Thank you.

Your next question is from Justin Long with Stephens.

Thanks and good morning. I wanted to start with a bigger picture question. The performance of your business was very impressive during the last recession. You had a minimal step down in margins and earnings. As we process all of the uncertainty that we are hearing about in the global industrial economy, do you think the business is just as defensive today as it was in 2008 and 2009 or with this big step up we have seen in margins from a pickup in North America, PTC, etcetera, do you think Wabtec’s performance would be more volatile during the next recession?

Yes. I could honestly say, I feel that we are in better position today than we were going into 2009. The diversity of the company, the capabilities, the processors that have been put in place, I really feel that the company is better prepared if there was a recessionary period that we would be faced with.

And the other thing is, Justin our backlog is at our record high. So it’s not like we don’t have business. We have good opportunities outside pretty diverse product mix, much more than we had back then. And certainly, our focus on cost containment and process improvement has – is very disciplined and it’s very intense.

One of the things I think worth stating, if you look at the – keep in mind, we only give annual guidance. And our third quarter is typically our weakest quarter and the fourth quarter is usually our best quarter. And when Ray made the comment about record backlog, one other things that in the quarter that we saw was there was a lot of delays on transit projects that we just don’t have a control over. You know these are usually large projects that sometimes gets extended and that’s why we talk about the lumpiness from quarter-to-quarter. So, I just want to make that point that there is we can’t say all those delays won’t extend into next year, but we do know that there is project delays on projects that will happen and occur, they are just delayed at this point and part of our backlog.

Okay, that’s all very helpful. Going back to what you said on the potential for North American railcar and locomotive builds to be down next year, which certainly seems to be the consensus view. If we think about the business pro forma for Faiveley, what percentage of your consolidated revenue is tied to railcar and locomotive OEM business in North America specifically?

Yes, it’s basically insignificant. No more than I think $40 million, $50 million total is associated with railcar.

$40 million to $50 million for railcar. And what about locomotive OEM business?

Basically, I don’t think they have much at all.

Okay, that’s helpful. And then maybe to build on that last question...

The question – I want to make sure I understood the question. That was Faiveley’s total business in North America freight. Is that right?

It was actually on a pro forma basis for the Faiveley acquisition. What that percentage or did that exposure to North American OE and freight would be?

You can take ours incrementally. What I was giving you in the incremental which is insignificant.

Okay. And then, so I guess, on a pro forma basis, what would those numbers be if you were to add in your existing exposure today?

On the railcar, we talked about the OEM portion which is normally impacted by this is less than 10% and it really would not move the needle in that area. And I think it’s probably about the same on locomotives.

Yes. So pro forma would be less than 10%.

Right.

Okay, that’s helpful. And then last question just to build on that, if we do see a step down in North American railcar and locomotive deliveries next year, do you think that presents risk to the aftermarket business or should we be looking more at rail volumes next year as we think about?

I think it’s directly correlated to rail volume, the aftermarket. And we tracked that through the last downturn almost proportionally.

Okay, perfect. I appreciate the time. I will leave it at that. Thanks, guys.

Hey, thanks.

The next question is from Matt Brooklier at Longbow Research.

Hey, thanks. Good morning. Just kind of a follow on to Justin’s question, you talked about your exposure to North American freight railcars and also the locomotive component. Are there any other kind of North American freight-centric revenue buckets that we should be thinking about as if the market is getting a little bit softer here?

I think the only thing we would say is remember, we do have business that’s related to energy and oil. So, 15% of our business is outside of rail and I think it’s less than 5% of that is associated with energy and oil. So, I think that’s another one of those headlines. Since the question was directed toward the freight car, that’s why I didn’t include that, but that would be the other headwind and actually to expand on that, we mentioned China, we mentioned energy and oil, but FX which it exists, but it’s a translation issue that will disappear end of the first quarter when we look at it quarter-to-quarter comparison, because everything fell early last year.

Okay. Just to confirm, the energy in rail businesses you are talking about are centric to North America, but those are non-rail businesses, correct?

Yes.

Okay. And then in terms of the guidance, the 9% for revenue, which I think step down from 10%. I am just trying to get a feel for how much of that is kind of your current operating outlook. And again, the market maybe decelerating a little bit here and how much of that was potentially due to the change in your FX expectations?

FX in the fourth quarter is estimated at – it’s $35 million, which it will be over $150 million for the year. And we are not using – FX is a fact of life. It’s also a fact of life, if you really adjust for it. The performance of Wabtec in these last 12 months, even in the quarter when you adjust for it, it’s one heck of a performance to overcome that kind of headwind in the performance. So, you take it away and you look at all of Wabtec in a year like this and we are talking about growth of over 17% in revenue when you adjust for FX. And that’s a volume increase. And I think the reason why we mentioned it is that’s the real number at the end of the day. It was one heck of a performance.

Yes, okay. And I think that $150 million is above your prior expectations, you had like a 145ish number. So, I guess some of the guide arguably impacted by your FX outlook here. Do you have the $85 million in PTC rev for the quarter? Do you have the breakout between freight and transit?

Yes, freight was almost 75% of it and just a little bit internationally, because we are winding down on the MRS project right now.

Okay. And just my final question, you talked the ECP potential tailwind, but it sounds like it’s going to be a ways until we get kind of a decision on the appeals process here. I am just curious as to how the market is positioning itself. I think it’s slightly more expensive to build two sets of breaks versus potentially leaving some wiggle room if ECP is included in the final rule. So, just curious to hear how the market is positioning itself into the potential for ECP to be part of this tanker rule?

So, Matt, the ECP in terms of cost, we have said it’s about $4,000 to $6,000 a car if ECP were included. So, it’s relatively small part of the incremental cost to comply with the regulation that’s been passed. So, there has been reports that have been published, studies that have been published in the market that it drafts all the recommendations, the safety enhancements. And as you know, there has been court cases filed and that’s the reason for the delay in processing the ECP and freight and tank car regulations. So, we basically are in a position to support implementation of the ECP technology. We have ECP technology applied around the world, but it’s going to depend on how these court cases ultimately are resolved and that process takes a long time as you know.

Okay. I guess what I am trying to figure out is new rail cars that are coming out currently, is the customer leaving some room for the ability to add an overlay system later on down the road?

Yes, we certainly have the capability to do that in the freight car builder is so sensitive to that. So, they have provisioned for that, but they are not running ECP for their....

We are making the vehicles ECP ready.

Okay, very good. I appreciate the time.

Thank you.

Our next question comes from Allison Poliniak at Wells Fargo.

Hi, guys. Good morning.

Good morning, Allison. On the EBIT level performance, obviously fairly strong in the face of headwinds, could you help us walk through the components of that? Was that mainly of productivity or was there some sort of mix issue that help this quarter there?

Yes, there is a whole host of reasons for that, Allison. Productivity is one, mix in terms of aftermarket business mix in terms of freight business. All those benefited to allow a strong quarter in the EBIT area.

But continued focus, all of our cost initiatives, the lean manufacturing, again we start ratcheting up on all of our approaches related to sourcing, cost of poor quality, lean application. Those are things that are discontinuous. And how many times we have been asked, what’s your goal? Our goal is to continuously improve and that improvement I think we stay totally focused on. And those are parts of why you see the number where it’s at. But we also have to be realistic and honest with you that when you start doing more freight and transit, the mix was favorable for us. And we have a better margin in North America than we do internationally and those – both of those trends helped.

Great, that’s helpful. And then just a question on the freight backlog, the 12-month backlog, I know it can be lumpy and maybe now a bit of a backlog business. But there was a noticeable step down sequentially. Can you talk to about a little bit, help us understand that?

Well, I think as far as freight car build – the orders have started to reduce pretty significantly. 7,000 were ordered this last quarter, so you are still seeing a reduction in the backlog associated with the reduction in new orders. Allison, we would hit those 123,000 right now in the backlog, it was around 142,000. And that’s probably going to continue, but there is enough backlog to take you out into 2017. And while we won’t give that number until we give guidance in 2016, we still think it’s going to be pretty substantial. As Al said, we don’t anticipate a dramatic reduction in new freight car builds next year.

Great. And then Al just to your comments about the transit project delays, these are just your normal type of delays that you would see in this, not anything in terms of indicative of a larger issue, correct?

Yes. Ray you wanted to say…

It’s pretty normal on the transit side for big vehicle projects to be delayed. And whereas some suppliers – our schedule is pretty much dictated and controlled by the car builders. So basically, this is fortunately or unfortunately not an unusual occurrence in the transit industry. So we have several large projects that we are implementing right now. And most of those projects are experiencing some degree of delay. For that matter, we have several pretty significant orders that we bid on that have also been delayed in the market. So, some of those were as much as 2 years. So there is plenty of business out there. There is plenty of new business opportunities out there. But both parts of that market have seen delays.

Great. Thanks guys.

Thank you.

The next question is from Tom Albrecht at BB&T.

Hi guys.

Hi Tom.

Hi Tom.

Let me just clarify one or two things and then ask others. Did you say the FX negative impact for the full year is now 150, up from 145, I think I heard that?

That’s correct. It’s actually a little higher than with the estimate in the fourth quarter.

What’s the estimate in the fourth quarter, because a year ago, the drag was $14 million in Q4?

Yes. $35 million, I think.

Okay. And then, there has been some good discussion about a lot of the things we are all thinking about, but I was just kind of wondering big picture when you look around the world outside of North America, what are two or three of your weakest markets and maybe two or three of your strongest markets whether that would be freight, I guess more likely than transit, but if you could just kind of comment on weakness and strength in some of those international markets?

If you – go ahead.

I think, Tom, a couple of weaker markets, Australia right now is very weak. And Brazil has come down. Brazil and Australia are impacted by China. That’s really the biggest issue for them, mining and commodities and things like that. The strong markets are frankly in this transit side. There is still a lot of transit business around the world. We told you that we have this pretty significant order in South Africa and there is a lot of business you will be in – left over in Europe. It’s always a big market. North America is obviously a strong market. It’s not falling apart over here, it’s gone down. But it’s still a very strong market in North America.

Okay. And then, I want to make sure, I guess Al, when you were talking about your exposure to U.S. locomotives and rail cars especially, that was less than 10% before the pro forma with Faiveley, right, I want to think that’s what I heard...?

Yes. That’s correct. That’s correct.

Right. And what kind of momentum are you having in China because you are relatively small. The annual numbers you gave showed some pretty good growth in China last year, but China is slowing down and seems to be a cause for a lot of angst right now, what sort of year have you had with revenue growth in China?

China is an interesting market, Tom. We could spend a lot of time talking about China. China high-speed rail is down. Their market is probably in a recession of sorts for them. We have picked up our business in braking [ph] transit business and what the Fandstan acquisition we have picked up a fairly substantial amount of business. So we have an operation in Hong Kong, one in Tianjian associated with Fandstan. Both of our businesses are performing above expectations. So it’s a mixed in China. On the freight side, there is no new car builds, zero. And they hasn’t been for 2 years. So it’s a very mixed market. But again, because of our diversification and our product mix over there, we are able to at least maintain reasonably strong balance.

Okay. And then, the last question, I think in the last quarter or two quarters, you described that about two-thirds of the FX hit was flowing through transit. I don’t know if you gave a number for this latest quarter. It sounds almost like it might be even greater than the two-thirds impact hitting transit?

In the quarter, it’s 25 out of 39.

Okay, that’s helpful.

Well, I am not quick enough to tell you what looks like.

A little over 60%. Okay. Thank you very much guys.

Thank you.

Our next question is from Jason Rodgers at Great Lakes Review.

Hello guys. Looking at transit again, would you anticipate the fourth quarter performance on an organic basis to be similar as the third quarter?

I think we are going to have a good fourth quarter Jason, because some of these delays and again, this is fairly typical in the transit market. Some of these delays are basically month-to-month. So we will be able to deliver our product and recognize revenue for some other things that should have been able to be recognized in Q3. And we have a very strong aftermarket position in transit that is always better in Q4 than Q3. Q3 in general is a slow month for everyone.

That’s encouraging. And then looking at the Faiveley acquisition, you talked about EUR40 million savings by year three. What would be the – what would be the estimated savings in the first year after the closing?

We don’t have that really detailed yet. But as I said earlier that if these are – if we didn’t think we could readily get these kind of synergies, we sure wouldn’t put it out on paper.

We are going to work to make it as close to the €40 as possible though, I can tell you that.

All you are saying is almost €40 in the first year?

I am saying we are going to work towards it.

That’s obviously what we are going to work toward. We are not allowed to sit down and have detailed discussions with the Faiveley folks until we get through this antitrust. So, we don’t have those kind of detailed plans available yet. We can develop them when we sit down with the executive team in Faiveley, we will be able to do that fairly quickly as soon as we are given the go ahead.

The one thing you might explain as an example of what we can’t do is talk about Fandstan opportunity and what we have been able to do there as far as margin and our improvement in services. So, Jason, when we acquired Fandstan, their margins were lower than our transit business by a few points and we said that we were going to acquire them, we were going to bring them into our business, apply the WPS methodologies and we were going to try to get to the transit margins as quickly as possible and we anticipated that would take a couple of years. We just as Al said just finished our board meeting and reported to the board that we basically have the Fandstan business at our transit margins already after the first year. So, again, I think hopefully people appreciate is that we have a very discipline intense methodology and when we applied the methodology with the management expertise and focus that exist in our company, it’s pretty effective and I think the Fandstan story is the demonstration of that. We will obviously work hard with the Faiveley folks. They have a really good – we have seen their strategy, their strategic plan, their goal is to basically accomplish the same kind of property improvement objectives that we have. So, when we pride the WPS methodology to that, I think we are going to see pretty effective and rapid improvement.

Okay. And just two quick number questions. The impact on the operating margin, the quarter from FX and what was the shareholders’ equity for the quarter?

Well, shareholders’ equity is $1,985,000,441.

FX in the quarter was 7.3 on EBIT. No, no, proportion of that was…

Similar with the other.

With the other. So, it’s 7.3 and 8.29, so a $4 million of impact on your operating margin. Yes, your operating profits and so you can do a math in the margin there.

Okay, thanks a lot.

The next question is from Cleo Zagrean at Macquarie.

Good morning. So, maybe we can go back to the board meeting and can you help us with some insight into what is driving your excitement to be higher for the upcoming 5 years than the last? Obviously, there is great concern about North American market to the freight market, railcar way falling, that’s 20% of revenue, but there is 80% that depends on something else? There is concern about global market slowing. So, I am thinking it has to do something with share gains. Maybe you can talk to us about initiatives helping drive those and some top examples on an organic basis, because M&A is going to be my next question. Thank you.

Yes. Cleo, as far as concerns that wasn’t the tone at the discussion at the board meeting, I can tell you that. We were talking about 5-year long-term plans, medium to long-term business objectives. But we started, so you know, we started the strategic presentation by comparing the last 5-year performance to our strategic plan that we presented 5 years ago. We are 50% above what we anticipated in our strategic plan 5 years ago. So, the excitement is that we believe we can perform to the strategic objectives we have put in front of our board and/or better. So, those strategic objectives as we have always communicated, is for double-digit growth through the business cycle. So, we don’t see any reason why we can continue to grow this corporation. We have market share opportunities in our existing markets. We have new markets that we haven’t even passed. We have acquisition candidates when we – by the way, our straps did not include Faiveley. So, we did not superimpose Faiveley’s numbers over ours. When you do that, the story is even better. So, if you look at our diversification, you look at our technical capability and innovation opportunities, the growth opportunities in Wabtec are honestly, they are endless. So, are there short-term concerns about the market here? Yes, we would like China’s economy to pick back up. We would like the commodities market to pick back up. We would like the oil to start flowing again. We would like to see coal on the railroads and maybe some of that will come with the new administration, who knows, but that’s all short-term issues that we are going to manage through.

Maybe can you help explain what of the upcoming strength even for the next year, we don’t see sort of the backlog, because obviously there are concerns driven by the backlog itself, but I have the sense that, that is not a complete indicator of the path ahead. Am I anywhere near, right?

I think that if you look at the backlog traditionally, our freight backlog mostly flows out in the short period of time. Almost half of the backlog flows out in 12 months where it’s totally different than the transit market. As Ray said that there is delay in some of the projects we already have in the backlog, but there has also been delays in some of the projects awards. And I think that you kind of view it from a transit and freight standpoint and I think what he has tried to also emphasize is the fact that this is why we have a diverse business and we just we want to make sure everyone to remind it about that. We are not just a supplier to one particular area and we know the brutal fact is that some of our businesses are cyclical. There are wide swings top to bottom and we have built a business model that will help sustain our growth and earnings per share growth through that business cycle in double-digits level. So, I think you’ve got to take those into effect when you look at the backlog.

Thank you. And my last question relates to M&A, so the first part of that is how do you think about M&A in a rolling cycle? Is that more or less of an environment that you are interested in and how do you think about it now that Faiveley is on its way to becoming part of Wabtec? Thank you.

Yes, go ahead. So, the M&A pipeline is good. It hasn’t stopped any activity, the Faiveley acquisition from any of our other ongoing activity in terms of evaluating good candidates and pursuing good candidates. We do that in strategic ways. Also, Cleo look at this track IQ focused. Our focus is on technology areas, it’s on high growth opportunities. This is a technology area that complements our electronics area. It complements our overall signaling infrastructure, electronics network capability. It’s a worldwide – it’s a product that can be applied worldwide and can be integrated into a much higher value-added system and applied to support our customers, especially in the area of safety, but also in the area of productivity and efficiency. So, it’s a perfect strategic fit. It’s small $15 million. We obviously have a chance to grow it because of our footprint and our presence. And if you look at them, if I turn to Faiveley now and just talk about that, when Faiveley comes on board, we are going to have 5,000 more people with ideas about acquisitions and new opportunities. So our M&A focus is just going to increase. I have said before, our biggest difficulty is to be able to prioritize and select the right acquisition candidates to pursue, because we can’t pursue them all.

Thank you very much.

Thank you.

Your next question is from Samuel Eisner at Goldman Sachs.

Yes. Good morning everyone.

Good morning Sam.

Good morning Sam.

Most of my questions have been answered, but I want to just go back to the transit project delays. I mean you commented that’s negatively impacting this quarter, but is it also impacting the Faiveley business and is the backlog growth that you are seeing because of frankly projects not being booked as revenue this quarter?

We don’t have visibility into their backlog at this point. I think reading the financial reports and the analysts, we think that they really are – they have been able to be successful in a lot of those international markets. And keep in mind, we are complimentary. Most of the products and projects they have are projects and programs that we would not be involved in. That’s the real value of this opportunity.

So just one comment that’s been in the press. So we obviously, aren’t involved in anyway in their operational business and we don’t have insight into their numbers and revenue stream, but one project in particular that’s been in the papers, Toronto [ph]. So if you go and research that project, it’s been delayed significantly and they are the supplier for several of our major subsystems. So they deal with the same issues as we deal within their business, yet they have record orders year in terms of new orders entry this year and record backlog on their side. So yes, this is common. Unfortunately, it’s common in the trends of the business, the ups and downs and some projects are delayed longer than others is one of them, in particular is to run all of these.

Got it, that’s helpful. And when we look at the freight business, I get the commentary or at least the forward commentary on expectations for OE, did you say that you expect freight OE or even railcar deliveries to be flat next year, could you give any commentary regarding that?

No. We think that – what we said is that we think that the deliveries and orders have peaked – backlogs peaked.

But we said that we don’t anticipate a repeat of 2008, 2009. We do think that it’s going to be a dramatic drop, but it will be a drop.

Got it. And then how has your aftermarket – your freight aftermarket business held up, I know that through the first half of the year I think it was holding in there despite the fact that you have had volume declines throughout the industry, how is that attributed in the third quarter?

I think it’s actually, trace the car-loading volumes, so it’s actually been good.

And then lastly, I guess on the margin expansion on a year-on-year basis, the 170 bps, is there a way to perhaps parse out what the drivers are, whether its price, cost or cost containment mix, just wanted to have a better idea of what the real drivers are behind there, if you can maybe put into some kind of larger buckets for us, that will be helpful? Thanks.

As far as the drivers for improvement, how much – what percentage of this improvement was mix versus activities, is that what you are asking, Sam?

Yes. I guess if you could put it into some main buckets, right, is mix of the 170 basis points, is it half of the improvement is cost containment, the other half, are you gaining any prices. So I just want to understand what the major drivers are because you only saw about 2% top line growth, yet you had almost 140% incremental, so I wanted to understand what the real drivers are there?

Yes. I didn’t do the math. It can easily be done and maybe you could follow-up Tim and actually do the math. I would think that, that margin improvement quarter-on-quarter what is 17.1 to 18.8. If you look at the mix change quarter-to-quarter, off the top of my head, I would say yes, 30%, 40% of it is related to mix. And I think the balance is actually activities but...

I think probably, we can do the math and we can give you a more definitive answer. But I agree with Al, I think its additional margin coming out of the aftermarket additional margin coming out of freight versus transit.

That is back of an envelope calculation. He think it could be close to half and half, 50-50.

We have sales mix and margin improvement on those sales and costs and cost containment.

Okay, thanks so much.

Our next question is from Steve Barger at KeyBanc Capital Markets.

Hi, thank you. I have just got a quick one. Al, in response to an earlier question, you said PTC will continue to grow and I think you were talking about internationally. Do you see a growth coming from – yes, is that from regulatory mandates or is that really from the value proposition of the product and are the margin internationally as strong as for the domestic?

Okay. A couple of questions here, first of all yes, this was globally what will happen with our train control business. And internationally, is all driven by productivity and the advantages that these type of train control systems offer. From a margin standpoint, it’s project to project dependent and it’s hard to label whether it will be more or less profitable. I think at some cases, it’s similar, in other cases, maybe less.

Okay, perfect. And one I guess just in terms of pipeline, do you have line of sight on any new PTC projects or are you just talking broadly that that’s scenario you expect will continue to grow?

We do [indiscernible] now let’s tell you. We always have projects we are working on and it’s a little different arena when you get out of the U.S. but we do have projects we have a line or site up.

Alright, I appreciate it. Thanks.

Okay. Thank you.

[Operator Instructions] This concludes our question-and-answer session. I would like to turn the conference back over to Al Neupaver for closing remarks.

Okay. We appreciate your questions and interest. We will talk to you again soon. Thanks a lot.

The conference has now concluded. Thank you for attending today’s presentation. You may now disconnect.