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Anixter International Inc. (NYSE:AXE)

Q3 2008 Earnings Call

October 21, 2008 10:30 am ET

Executives

Chris Kettman – Investor Relations

Dennis J. Letham – Chief Financial Officer, Executive Vice President - Finance

Robert J. Eck – President, Chief Executive Officer

Analysts

Celeste Santangelo – Merrill Lynch

Jeff Beach – Stifel, Nicolaus & Company, Inc.

Kyle O'Meara – Robert W. Baird & Company, Inc.

Sean Connor – BB&T Capital Markets

Ted Wheeler – Buckingham Research

Nat Kellogg – Next Generation Equity Research, LLC

Bob Franklin – Prudential Financial

Operator

Good day everyone. Welcome to our Anixter’s third quarter earnings call. Today’s call is being recorded. At this time for opening remarks and introductions I would like to turn the call over to Mr. Chris Kettman. Please go ahead, Mr. Kettman.

Chris Kettman

Thank you. Good morning, everyone, and thank you for joining us today to discuss Anixter’s third quarter 2008 results. By now, everyone should have received a copy of the press release, which was sent out earlier this morning. If anyone still needs a copy, you can either go to Anixter’s website or call Chris Kettmann at 312-553-6716 and I can resend the information.

On the line today from Anixter’s management team are Bob Eck, President and CEO; and Dennis Letham, Chief Financial Officer. After management completes their opening remarks, we will open the lines for a Q&A session.

Before we begin, I want to remind everyone that statements on this conference call, including words such as believe, expect, intend, anticipate, contemplate, estimate, plan, should, may or similar expressions are forward-looking statements. They are subject to a number of factors that could cause the company’s actual results to differ materially from what is indicated here. These factors include general economic conditions, technology changes, changes in supply or a customer relationship, risks associated with the integration of recently acquired companies, commodity price fluctuations, exchange rate fluctuations, and new or changed competitors. Please see the company’s SEC filings for more information.

At this point, I will turn the call over to Dennis.

Dennis J. Letham

Thanks, Chris. Good morning and thank you for joining us. Let me begin by broadly commenting on the overall business pattern that evolved in the third quarter.

The quarter began on a very solid note with July being a record four-week month. Typically we see a slowdown in sales from July to August as vacations, particularly in Europe, effect activity levels and many of our OEM supply customers have factory shutdowns for scheduled maintenance, model year tooling changes or vacations. This year the August slowdown was slightly more pronounced than historical patterns. However, the real issue in the quarter was the normal bounce back in sales activity from August to September was much weaker than historical patterns would indicate. While this was generally true throughout most of the business, it was most pronounced in Europe and within our OEM supply customers where we saw either extended shutdowns or reduced production schedules once business resumed after the August shutdowns.

While the effect of this was a further deceleration of the sales growth rates, we still managed to generate 4% sales growth during the quarter versus the prior year. Equally important is the fact that after adjusting for acquisitions and a small amount of positive foreign currency translation impact, we had positive organic growth of approximately 2% during the period.

Although this was the lowest year-on-year growth rate we reported in a number of years, we are pleased that it remained positive despite an increasingly challenging global economic environment. Despite this slower sales growth and some additional margin pressure that I will discuss in a few moments, we were still able to leverage good expense management to generate operating margins of 7.4% during the quarter. This operating margin compares favorably to the record annual operating margin of 7.5% we generated in 2007 with much high organic growth and the 7.4% operating margin we reported in the first half of this year exclusive of costs associated with the retirement of our former CEO.

The last point I want to highlight before turning to some of the details in the quarter is with respect of foreign exchange. During the third quarter when the U.S. dollar staged a strong rebound, particularly versus some of the emerging market currencies, where our ability to cost-effectively hedge – if indeed we can hedge at all – produced foreign exchange losses that reduced net income by 2.7 million or approximately $0.07 per diluted share.

With that overview, let us turn to the actual financial results for the third quarter which included sales of 1.59 billion, or up 4% from the 1.52 billion reported in the year ago quarter. Operating income of 117.9 million declined marginally from the 118.2 million in last year’s third quarter. Net income in the quarter, inclusive of the after tax foreign exchange losses of 2.7 million, decreased by 5% to 61.7 million from the 64.8 million in the prior year quarter.

Diluted earnings per share, inclusive of the $0.07 per diluted share of foreign exchange losses, increased 5% to $1.58 as compared to $1.51 in the year ago quarter as the effects of a 9% reduction in shares outstanding more than offset the lower net income.

Now let's take a few minutes to review the major components of our third quarter financial results. The 4% sales growth achieved in the third quarter includes 22 million from acquisitions completed over the past year and favorable foreign exchange rate impact of 9.8 million in the period compared to the prior year. As noted earlier, after adjusting for the acquisitions and exchange rate differences, we has 2% organic sales growth as compared to the year ago third quarter.

Spot market copper prices averaged 3.45 per pound in the current quarter as compared to 3.48 per pound in the year ago quarter. This decrease, when combined with inter-quarter volatility of spot market copper prices, did not have a meaningful impact on sales between years. Obviously in the last few weeks copper prices have been running at rates well below the third quarter average. But until we see how prices trend through the balance of the fourth quarter, it is too early to quantify what impact, if any, there will be on future results.

Digging a little deeper into third quarter sales growth, it is important to note that we achieved good results by executing on several company initiatives, including continued success in building our presence in the security market and geographic expansion of our electrical wire and cable business in Europe.

In the security market world-wide year-on-year sales increased by 25% to 171.4 million in the third quarter. In Europe, electrical wire and cable sales increased by 18% to 65.6 million. Electrical wire and cable sales outside the UK market, where historically the bulk of our business has been centered, saw sales grow by over 29%. Bob will discuss these initiatives in greater detail in a few minutes.

Our total North American sales of 1.12 billion increased by 5% versus the year ago quarter. Favorable foreign exchange rate effects has a minimal impact but did increase reported sales by 2.9 million. We have looked at this by end market in North American, we see that enterprise cabling and security solution sales in North America were 585.5 million, translating to a 2% year-on-year gain. Within this end market we saw approximately 28% growth in security market related sales and solid day-to-day business while the number and average size of projects we saw in the current quarter were both smaller.

North American electrical wire and cable sales were 394.1 million, resulting in a 6% year-on-year increase as larger project volume remained relatively healthy despite the more difficult economic environment. Our sales in the North American OEM supply market were 140 million or approximately 18% higher than the year ago quarter. Included in the current quarter sales growth is 11.6 million from an acquisition completed during the quarter.

Sales growth associated with aerospace and defense customers was again especially strong on solid fundamentals in that vertical market which helped to offset weakness with certain customers in the industrial portion of this market related to customer production slowdowns.

European third quarter sales of 328.1 million reflected 2% increase from the year ago quarter. Current quarter acquisitions added 9 million to sales and exchange rate differences added 3 million as compared to the year ago quarter. Excluding acquisitions and foreign exchange effects, year-on-year sales in Europe declined by 2%.

As noted earlier, European electrical wire and cable sales grew by 18% on the strength of our initiative to expand the business beyond its historical base in the UK. European OEM supply market sales experienced modest growth of 2% as sales increased to 149.8 million. Contributing to year-on-year sales growth were sales of 9 million from two acquisitions completed in the quarter. At the same time the unfavorable foreign exchange effects of a stronger U.S. dollar versus the U.K. pound sterling reduced sales by 2.3 million.

Generally, the OEM supply business in Europe was negatively affected by extended vacation shutdowns and reduced customer production schedules. Enterprise Cabling & Security Solutions sales declined 6% to 112.7 million. The decline was partially mitigated by favorable foreign exchange effects of a weaker U.S. dollar versus the Euro, which added 5.3 million to sales, along with 20% growth in security sales.

Generally speaking, the weakness experienced in the first half of 2008 within the U.K. market expanded to additional parts of Europe in the third quarter.

In the emerging markets of Latin America and Asia Pacific, sales of 143.1 million reflected 10% year-on-year increase, including 51% growth in security sales to a quarterly total of 15.8 million. Foreign exchange added 3.9 million to sales and an acquisition added 1.4 million. Excluding the impact of foreign exchange on acquisitions, emerging market sales were 6% higher than the year ago quarter. Sales growth in the emerging markets was negatively impacted by an 8% drop in Asia Pacific where project volume was down noticeably year-on-year, while a continued strong project flow in Latin America contributed to 19% growth in sales in that region.

Turning to gross margins, we reported second quarter gross margins of 23.4% versus 24.1% in the year ago quarter. Contribution to the decline between years were the effects of lower supplier volume incentives, resulting from lower year-on-year sales growth rates. A sales mix shift resulting from slower sales in our higher gross margin OEM supply business and a resolution of a customer pricing dispute, that reduced current quarter gross profit by $3 million, or approximately 20 basis points of gross margin. This latter item is a one-time item that will not repeat in the fourth quarter. So, everything else being equal, we would expect approximately a 20 basis point improvement in gross margins in the fourth quarter.

Moving down the income statement, operating expenses in the third quarter increased $6 million, or approximately 2% year-on-year. The third quarter operating expenses included 5.2 million of operating expenses associated with acquisitions made in the quarter. The weaker U.S. dollar also caused reported expenses to increase by approximately 2.3 million, as compared to the year ago quarter. Excluding operating expenses related to the acquired businesses, and the effects of foreign exchange rates, third quarter operating expenses actually declined by $1.5 million versus the year ago period.

The decline in operating expenses was achieved despite continued growth in spending in support of our initiatives to grow our security business, expand the geographic presence of the electrical wire and cable business, develop a presence in the industrial automation market, and expansion of our emerging markets business. Operating expense control remains a top priority in these uncertain economic times, and we are confident of our ability to continue sound expense management programs that do not compromise important strategic initiatives.

So, to summarize from an operating and income perspective, the effects of 4% sales growth and good expense control, we counter-balanced by lower gross margins, resulting in essentially flat operating income on a year-on-year basis.

As noted earlier, for the quarter we generated operating margins of 7.4%, which are in line with the average operating margins of the preceding six quarters.

As we move further down the income statement, interest expense in the third quarter increased by about $500,000, or 4%. The increase reflects $141.8 million increase in borrowings during the past 12 months, resulting from 136.2 associated with acquisition, and 183.7 million spent on share repurchases, less cash generated from operations.

In the current quarter, our average cost of borrowings were 4%, as compared to 4.3% in the year ago quarter. At the end of the third quarter, approximately 66% of our outstanding debt had fixed interest rates, either by the terms of the debt, or through hedging contracts.

The other income and expense line showed a major change from income of $200,000 in the year ago quarter, to an expense of 5.2 million in the most recent quarter. The difference in other income and expense between years largely reflects foreign exchange losses in the current quarter that arose in emerging market countries, which is attributable to the sharp change in the relationship between the U.S. dollar and the local currencies.

When the U.S. dollar suddenly strengthened against a number of the secondary currencies and where there are a few, if any, cost effective hedging mechanisms, it resulted in losses. This is an area of our income statement that is likely to remain volatile until the world works through the current economic problems and the attendant exchange rate volatility subsides.

The third quarter tax provision reflects an effective tax rate of 38.8% versus 39.4% in the year ago quarter. The decrease in the effective tax rate year-on-year is due to a change in the mix in the company's projected earnings by taxing jurisdiction.

Net income in the quarter was $61.7 million, or 5% lower than the $64.8 million reported in the year ago period. On a diluted basis, earnings per share were $1.58 in the most recent quarter, as compared to $1.51 in the year ago quarter.

The current quarter's fully diluted earnings per share benefited from approximately 9% drop in fully diluted share count, primarily as a result of share repurchases over the past year.

Looking at cashflow in the 3rd quarter, we used $8.3 million in cash for operations, as compared to $10 million generated from operations in the year ago 3rd quarter. The cash used in operations was associated with working capital increases driven by an increase in inventory because of the dropoff in sales late in the quarter, coupled with an increase in customer receivables, resulting from an exceptionally early fiscal month end on September 26th. This meant that many customer calendar month-end payments were not received until after the fiscal month end.

We fully expect that working capital will move back in line with historical trends in the coming quarters. In fact, with an expectation of dealing with a softer global economy and slower growth in the coming quarters, we would expect strong positive cashflow as incremental working capital requirements will remain low and the cash generated from earnings will be available for deleveraging acquisitions or share repurchases.

Our debt-to-total-capital ratio at the end of the 3rd quarter was 50.9% as compared to 49.4% at the end of 2007. The debt-to-total-capital leverage ratio has risen despite strong earnings during the first nine months of 2008, as a result of the outlay of $104.6 million to repurchase 1,750,000 shares in the first nine months of the year and $136.1 million associated with acquisitions. As of September 26, 2008, we have approximately 241 million in available, committed unused credit lines to support organic growth and other strategic initiatives.

Given questions we have heard from some of you during the past couple of weeks concerning debt covenants and debt maturities, I want to take a minute and comment on that topic. With regard to debt covenants, we are very comfortable within the state of requirements, both as defined today and with respect to any scheduled tightening of those covenants. The only significant debt maturity between now and 2011 is with our accounts receivable securitization facility. That facility is a 364-day facility that was just renewed at the end of September 2008. Not only was the facility successfully renewed, but it was renewed at an expanded amount from the expiring facility.

While we're closing monitoring credit market conditions, we believe we not only have adequate credit facilities to weather the current situation, but we also have the expectation that I discussed a moment ago of strong cashflow to further support our capital needs.

Before turning the call over to Bob Eck to comment on business conditions, strategic initiatives, and the business outlook, I want to make a few concluding remarks related to the 4th quarter.

The first point is with respect to the recently announced acquisitions. During the 3rd quarter, we completed the acquisition of the assets and operations of QSM Industries in the United States and its affiliate, Quality Screw de Mexico, and we completed the acquisition of the Sofrasar and Camille Gergen businesses in Europe. In the 3rd quarter, these acquisitions added $22 million to sales from their respective dates of acquisition through quarter end.

At the beginning of the 4th quarter, we completed the acquisition of the assets and operations of World Class Wire and Cable. Looking to the 4th quarter, we expect these acquisitions to collectively add approximately $55 million to $60 million to sales on a year-on-year basis.

We expect these acquisitions to offset a good portion of normal amount of seasonal sales softness we see in the 4th quarter, when sales are impacted by the number of holidays and are generally down between 2% and 3% on a consecutive quarter basis.

At the same time, our 4th quarter will be impacted by the fact that on or fiscal calendar, where our year end is the Friday closest to December 31st, we will have a 53-week fiscal year as the 2008 fiscal year ends on Friday, January 2nd, 2009. After consideration of the New Year's holiday, this extra week will add the equivalent of approximately three-days worth of sales to the 4th quarter. At the same time, however, it will add a week to most operating expenses since people are paid for the holiday and rent expense is there regardless of whether we are working or not.

Because of the mismatch in the number of days of added sales versus the number of days of added operating expense, the net effect on operating profitability is not expected to be material. Bob, let me turn it over to you for comments at this time.

Robert J. Eck

Thanks Dennis and thanks everyone for joining us today. As Dennis has just described, after a solid start to the quarter in July we experience a noticeable slowing in growth, which combined with the rapid strengthening in U.S. dollar and gross margin pressure, contributed to essentially flat operating earnings versus the prior year 3rd quarter.

However, given these challenges, we still reported positive organic sales growth versus the year ago quarter. I am also pleased that we were able to control operating expenses while supporting our initiatives and completing three acquisitions that continue our strategy to expand the OEM supply and electrical wiring cable businesses.

The enterprise cabling and security solutions business experienced low growth in North America, as project spending was weak. While we entered the quarter with market surveys projecting growth in IT spending, we exited the quarter with new surveys reporting a decline in IT spending this year. This rapid change in outlook is reflected in the enterprise sales numbers.

At this time, our view is that given deterioration in the credit markets and the economy as a whole, corporate spending has slowed or declined for discretionary items, including certain information technology projects. This conservative approach to IT spending appears to be in place in North America and Europe. Our Asia Pacific business also saw the effect in the third quarter of reduced spending by Western multinationals in their Asian operation. Our Latin American business, however, experienced solid growth as the economics, particularly in South America, appear to be less affected by the broader economic slowdown that is impacting spending elsewhere.

While we have been very cautious to properly manage our volume-related expenses, we have continued to build our security team to take advantage of the two trends we have been seeing in that market. First, expanded interest in implementing security systems, and secondly, the shift towards digital technology in video surveillance and access control. Our continued focus on security in our enterprise business has led to year-to-date growth of 28% in North America, 20% in Europe, and 51% in emerging markets. I would expect that we will continue to see a difficult environment in North America and Europe for larger IT projects for some period of time into the future. At the same time, I believe the security market continues to offer us good opportunities for growth and adding new customers. Finally, the ability to reduce costs and delay working capital investments though the use of our supply chain services should position us well to bring value to our customers in a challenging economic environment.

As Dennis previously mentioned, we experienced solid growth in the electrical wire and cable business in both North America and Europe. Project activity in power generation, alternative energy, oil petrochemical gas development and processing and mining continued to be strong.

Engineering procurement and construction companies continue to have strong backlogs for these projects around the world. The economic fundamentals underlying power and energy indicate that project and related MRO activity should continue to be healthy in coming quarters, provided customers have adequate access to capital and commodity prices support the investment.

Our initiative to expand the electrical wire and cable business in continental Europe and the Middle East continues to make good progress, as evidenced by the 29% growth achieved in the third quarter. We also continued to add people and inventory in the emerging markets to expand our electrical wire and cable business there. Our ability to leverage our global footprint has been very important for this business, as projects are often engineered in one country and delivered in another. Our ability to directly interface with customers in both countries during the project phase, and then provide the needed local support for MRO after the project is installed, gives a unique value proposition for the customer.

Our cable management service enables us to help customers implement new construction and maintenance more effectively with less waste and just-in-time deliveries to minimize working capital requirements. The global expansion market presents an excellent opportunity for growth because they are a large market in which we have a small presence today, and there is no clear wire and cable specialty distribution. Our business model focuses on deeper knowledge of products and applications and offers supply chain services not typically provided by full-line electrical distributors who are the main competition in these markets. As we have noted before, due to the size of the markets we can gain significant growth without disrupting pricing and diluting gross margins.

We continue to advance our industrial automation initiative. We have begun adding new control systems integrator customers to our business through this initiative. Our unique ability to understand both fieldbus communication and industrial Ethernet positions us well to help integrators implement new technology alongside legacy systems and manufacturing and processing environments.

Shortly after the end of the quarter we announced the closure of our acquisition of World Class Wire & Cable. World Class is a specialty distributor of cable to the OEM market. We have built a presence in this market for a number of years, both organically and through acquisition, offering specialized services for OEMs, including just-in-time deliveries, consignment inventory, and dying, striping and twisting of wire. World Class fills a gap in our coverage of the central U.S. market and brings a very knowledgeable and experienced team of people to our OEM wire and cable business.

Before leaving electrical wire and cable, I would like to touch on the decline on the price of copper in recent weeks. This mirrors other commodity price decreases that have been occurring along with concerns about the slowing demand in the global economy. While we can’t predict the level at which copper will settle, we can manage our inventory and pricing to try to minimize the impact of the decline. A sustained lower copper price can lower average selling prices in the electrical wire and cable market, which can in turn impact earnings as the operating expense to sell and manage footage volume does not decline correspondingly. We continue to watch our operating expense and gross margins in the wire and cable business accordingly and price at levels consistent with the cost of our inventory.

Turning to the OEM supply business, as Dennis has mentioned, our results were negatively impacted by a customer pricing issue that impacted gross margins by $3 million. Aside from that one-off event, margins benefited from realizing steel-related price increases negotiated during the second quarter and implemented in the third.

While there has been a lot of press recently reporting on steel price declines, those declines are largely limited to the flat roll of steel market and are not affecting the steel wire market which supplies fastener manufacturers. Sales in the North America OEM supply market benefitted from solid growth in the aerospace segment as well as sales contributed by the acquisition of QSM. At the same time, we experienced reduced manufacturing volumes at certain customers due to economic softness.

The acquisition of QSM brings our OEM supply business and expanded customer base, strong engineering skills, particularly in quality control, and limited manufacturing capacity that enables us to fill supply chain gaps that may arise in implementing new programs or low cost country sourcing. While we do not intend to become a manufacturer, this capability is a competitive advantage for us as we continue to expand this business.

Our European OEM supply business showed modest growth in the quarter, unplanned production cuts at several customers were offset by sales from our acquisition of Sofrasar and Camille Gergen. The reduction in customer production levels initiated in August as an extension to normal vacation Dutch shut downs continued through September.

Looking ahead to the fourth quarter, the OEM supply business will benefit from the full quarter impact of the acquisitions as well as the price increases implemented in the third quarter. The business will also benefit from new revenue generated by several large customer contracts awarded in the second quarter that are implementing now. While we have continued to make progress on opening our new OEM supply sourcing, quality and distribution center in Shuzo, China, we do not expect it to contribute new sales volumes until next year.

In closing, in a difficult environment in the third quarter, we were able to achieve modest growth over prior year, manage operating expenses down organically both sequentially and over prior year and continue to invest in organic and acquisition growth opportunities across our business. Epson performed exchange losses and single customer issue in the OEM supply business, we would have shown an improvement in operating in net income. As we look forward to the fourth quarter, continued economic difficulty particularly in North America and Europe will create an uncertain environment for growth. We will now open the call to questions.

Question-and-Answer Session

Operator

Thank you, Mr. Eck. The question and answer session will be conducted electronically. (Operator Instructions.) We take our first question from Celeste Santangelo with Merrill Lynch.

Celeste Santangelo – Merrill Lynch

Good morning. Just a question on the outlook, you walked through some of the puts and takes for the top line growth, are you looking at top line growth of maybe 5 to 6% now, given the acquisitions and then the three extra days? Am I looking at that correctly?

Dennis J. Letham

Well, basically what we are saying is that the acquisitions will offset the normal seasonal softness so if you go in and you take the current run rate, kind of a 23 - $24 million a day rate, pick up the three extra days, I haven’t done the math on that but that would imply unless there’s further softness in the quarter that you could pick up 50 to $60 million sequentially. The thing I would say is we look at how the fourth quarter has started is so far through the first three weeks of October, the sales run rates are pretty much mirroring what we saw in September.

The real wild card in the quarter will be what happens at the holidays. The experience of the last several holidays going back to the end of last year with the Christmas and New Year’s holiday were that holidays have tended to be much quieter than what they have been historically and including the surrounding days so I think the real issue is what’s the holiday impact that we’ll see later in the quarter? But just on math you could get to a number where you pick up $50 - $60 million dollars or more in revenue Q3 to Q4. But keep in mind there is a full week of expenses that comes with that three days of revenue so it will help the top line but it doesn’t necessarily do anything for the operating profit line.

Robert J. Eck

I think Celeste, to pick up on Dennis’ point, one of the things that is happening with holidays that I think has changed are revenue numbers around holidays from a historical trend is the shift in our revenue mix towards the OEM supply business over time. You know, if you look back a number of years ago we didn’t have that business at all.

As that’s become a bigger part of the revenue mix, what we tend to see are factory shutdowns around the holidays that have a bigger impact than say maintenance or construction kind of projects that tend to flow during the holiday season. You know, you see in the OEM business a plant shut down for a week between Christmas and New Year’s where contractors would tend to work some of the time between Christmas and New Year’s and I think that contributes to our caution around what we will see at the holidays.

Celeste Santangelo – Merrill Lynch

Okay and you provided some detail on the rapid change and the outlook for the enterprise projects from the beginning of Q3 to the end of Q3. I know we are only three weeks into the quarter but are there any significant changes to that outlook? I mean, Dennis your point just was that the first three weeks kind of seem in line to what was going on exiting Q3 but I guess if we could just focus on the Enterprise projects.

Dennis J. Letham

You know, Celeste, there's actually no change in the trend in October that we can point to.

Celeste Santangelo – Merrill Lynch

Operator

(Operator Instructions) We go next to Jeff Beach with Stifel Nicolaus.

Jeff Beach – Stifel, Nicolaus & Company, Inc.

Yes, good morning.

Dennis J. Letham

Morning, Jeff.

Jeff Beach – Stifel, Nicolaus & Company, Inc.

I'd like you to discuss a little bit the impact of copper on your operations going forward. If copper would remain at this level, let's say for the next 12 months, are you facing the potential of some inventory losses or is pricing coming down and your turns at rate that you can avoid taking a loss in inventories to get your levels in line with where copper is right now?

Dennis J. Letham

I guess a couple of things on that. There is really the inventory question that you lay out very clearly. There is kind of the run rate impact of lower copper prices, too, that goes hand in hand with that. I think with respect to the inventory position there is no question there is some exposure there but I think the positive side of that is because the prices have come down relatively quickly, I would say the industry in general in terms of the distribution channel is probably all sitting there with some overpriced inventory and as a result of that I think that will mitigate how quickly actual market prices come down and serve as a bit of a buffer there until we cycle through a turn of inventory.

Robert J. Eck

And to pick up on Dennis' point, another important point about our Wire and Cable inventory is some of the inventory is committed to projects under non-cancelable, non-returnable purchase orders. So that inventory, while it may be higher-priced than the current cost of copper, effectively is out of risk.

Dennis J. Letham

So that's kind of, there's no question there is some inventory risk there but we don't view that as being a significant item and if it is it will happen in the course of roughly a quarter because the inventory turns in round numbers four times a year. So I don't view that as being a big issue. I think the more important issue, probably, is if copper settles around this low $2 price range versus the kind of $3.40 range it's been at in the last couple of years, that probably implies in the range of $100 million or so less in run-rate revenue in the business and of course if margins are held at around 24 points that implies about $24 million less of gross margin.

And I mean, there's nothing different about that story than what we've been telling you for the last three years when copper had jumped from '05 to '06 and we're just basically confirming what the message that we've had out there for a couple of years on that point.

Jeff Beach – Stifel, Nicolaus & Company, Inc.

Alright, thanks. Just as a follow-up, the decline in Asia-Pacific was a little bit surprising. Is that something where you see continued year-over-year declines in sales or do you think there's something specific about that region and you'd look for a little better results ahead?

Robert J. Eck

I think the quick answer is that it is going to be a little bit challenged just like Europe and North America enterprises are right now. Our customer base there is substantially Western multinationals so they're really spending money in that region somewhat differently from the trend we see in North America and Europe. In other words there is investment in expanding business that are going on with a number of customers there. They still tend to have some project volume flowing.

But we are also seeing some of the same slowdown. I think one of the things that large corporations tend to be pretty good at when their outlook changes is tightening up on spending on projects that they believe they can defer until better times. And so we're seeing some of that tightening. I think we'll be challenged in Asia-Pacific in the next quarter and really probably until we start to see some pick-up in the broader economy.

Jeff Beach – Stifel, Nicolaus & Company, Inc.

Alright, thank you.

Operator

We go next to Kyle O'Meara with Robert W. Baird

Kyle O'Meara – Robert W. Baird & Company, Inc.

Hi, good morning. I guess could you just discuss the factors that impacted the company the last recession versus this go-around, if we are in a recession, and the pros and cons there? and then just as a follow-up to that, similarities and differences in what you're seeing today versus '01 or a different slowdown, maybe perhaps at the early '90s would be more applicable. Thanks.

Robert J. Eck

Okay, Kyle. I'll start and Dennis will jump in. The first thing that I think has to be highlighted is that the recession was led last time around really by a sudden fall-off in the whole dotcom C/LECT sort of market. There was overbuilding or overspending on infrastructure in that marketspace. At that point in time we had built roughly a half a billion revenue dedicated to that market segment.

When that spending sharply declined in 2001, and I think we’re all familiar with a wave of bankruptcies among the IXCs and alternative carriers, that business went from a half a billion dollars in 2000 to

$150 million in revenue in 2001, so a very sudden fall-off, but initially pretty focused in that specific sector in a company as Anixter that was much more focused on enterprise in the communication markets and percent of sales mix, and also much more U.S. dependent.

So if you look today, you’ve got a different mix in terms of a much larger electrical and electronic wire and cable business, which as we have seen is really running on different fundamentals. It is running on resource investment, mineral development, oil/gas/petrochemical development projects. so that is running on different fundamentals than we saw the last time around, and right now, even with oil at the kind of $70-a-barrel range, the projects we are engaged in are highly economically beneficial at that kind of an oil price. So I think those dynamics in the electrical wire and cable business are a bit different.

In addition we have greater geographic spread, which has pros and cons. I mean, the coverage in western Europe right now is creating a little bit of drag particularly in the enterprise space; on the other hand, the presence in western Europe and the Middle East in the electrical wire and cable business, which was much smaller in the last recession, is creating an off-set to the drag that we are seeing in the enterprise business. The OEM –

Dennis J. Letham

I think, Bob, just on that point of geographic coverage, too, the other important thing is if we look back to the beginning of this decade in that recession, in our emerging market businesses we really did not have operational critical mass at that point in time. We would have a red quarter, a black quarter, because we were kind of hovering around the break-even point and the recession parked us solidly in the red for a period of time. Today we’ve got, you know, good critical mass in those operations. They are running with operating margins around the corporate average in the mid-sevens, so I think we have got a much different operating leverage story on some of the international business today than we did six, seven years ago.

Robert J. Eck

Yeah, and I think that the OEM supply business, while it creates exposure to some cyclical manufacturing, it also has exposure to aerospace, which right now is at a very high end of the cycle, so you know, you mix all that stuff together and I guess the quick answer is you have a different company than you had in 2001-2002. In a lot of respects I would say we will be therefore impacted differently this time around than we were in the last go-around.

Kyle O'Meara – Robert W. Baird & Company, Inc.

Okay, thanks. And I guess what – you know, in the event that we are, you know, in a recession, what levers do you guys have available to pull to scale back operating expenses, that sort of thing, in the event of a slow-down?

Robert J. Eck

The key lever and the quickest lever is expense related to people. People-related expenses make up roughly 55% of our operating expense in the company. Obviously a chunk of that is incentive pay. That lever is virtually on auto-pilot. If you have lower volumes, that means managers, people on performance-related incentive plans aren’t making as much money on performance-related incentive plans so that scales down very rapidly, and as I say, virtually on auto-pilot. In addition, you can reduce staffing in warehouses, you can reduce staffing in sales organizations, reduce staffing in staff functions as well, so we do look at all those things.

Now, one thing we are very focused on is we want to manage this business for both short-term and long-term. That means that we are not going to make decisions in the short-term that we think significantly impair our opportunity to pursue long-term initiatives, strategic initiatives that we have. So as I have said earlier in my comments, we are focused very much on controlling volume-related expenses, which would be just kind of the normal ebb and flow in the business, and things like the incentive pay, but we are not going to under-invest in initiatives like automation and security where we are seeing significant growth, and we are not going to under-invest in opening our wire and cable business more broadly in the emerging markets. I think those would be bad long-term decisions for the organization, so we are not going to take those decisions to save relatively small dollars in the short term.

Kyle O'Meara – Robert W. Baird & Company, Inc.

Okay, thanks.

Operator

(Operator instructions.) We take our next question from Matt McCall with BB&T Capital Markets.

Sean Connor – BB&T Capital Markets

Good morning, this is Sean Connor for Matt. I have got a quick question. You guys talked about the revenue benefit of the acquisitions in Q4; I wanted to try to get an idea of the EPS trajectory in the next few quarters. I know you guys quantify the annual benefit and I think all in – you know, all five of them, like $0.23 to $0.29 – will that be consistently realized where there is any near-term inefficiencies or costs associated with getting them integrated before you realize that full—

Dennis J. Letham

It is not so much a cost issue as it is a seasonal pattern issue. Those businesses, all three of them – well, really all five companies that we acquired are OEM supply-related businesses where they are feeding customer factories from a production standpoint. Those businesses tend to have their strongest quarters in Q1 and Q2 because there is a minimal number of holidays in those two quarters. They end up having their weakest quarters in the third and fourth quarters because you either have scheduled summer vacations or factory shutdowns for maintenance or model year tooling changes, those sorts of things. And then of course the fourth quarter has, at least in North America, the Thanksgiving, and then globally, Christmas and New Year’s holidays in it. So it is more an issue of seasonal patterns than it is, you know, any sort of ramp into achieving the type of numbers we have talked about in the acquisition releases.

Sean Connor – BB&T Capital Markets

Are we in outlook that you guys saw this, you know in these quarters that changed your expectations for those businesses? Any?

Dennis J. Letham

I think time will tell.

Sean Connor – BB&T Capital Markets

I agree. Alright, I guess just kind of looking at – you lot of talk around Q4, I mean, even looking out to next year of get 15% to 20% of your business that is, you know, mostly, shows the most variation with the economy is – I mean, is growth possible next year on an organic level?

Dennis J. Letham

First the 15 to 20% applies to the electrical wire and cable in the Enterprise business because that’s really comparing sort of a project volume of revenue versus the moves, adds and changes in the Enterprise business or MRO spending; maintenance, repair and operations spending in the electrical wire and cable business.

So, first kind of curve off the OEM supplies not being sensitive to that project volume. And then as I said before I think, the way we see it today and certainly things can change. But the way we see it today, the economic fundamentals that are underlying the project spending in the electrical wire and cable business continue to be strong. We continue to see really good project backlogs at the EPC so we think that business should hold up reasonably well.

The business we think has been affected in the project space as we’ve said is the Enterprise business and your guess is as good as mine. What happens to the corporate IT spending next year, but my sense is at least in the early part of the year, our guess, our expectation right now is that project spending will be softer in the Enterprise space in the first half of the year and how the rest of the year unfolds is difficult to project at the moment.

Sean Connor – BB&T Capital Markets

Okay, great! Thank you.

Operator

Okay. Our next question is from Ted Wheeler with Buckingham Research.

Ted Wheeler – Buckingham Research

Yes, hi. Good morning, just following up on that idea. If you look at the Enterprise piece here, where would you say the project activity level is in this fourth quarter or in the last month of the third quarter, as a percentage? I guess you talked about 15 to 20% range, but that sounds like more of an average. Where do you think it is right now?

Robert J. Eck

It’s probably in the mid to low teens right now.

Dennis J. Letham

It has definitely pooled in the last couple of quarters. You know, we were probably pushing that 20% number late last year, early part of this year. And I think we definitely probably given up at least 5 percentage points in the make shift there.

Robert J. Eck

I think what happens, Ted, if you look back over the prior four years, we saw a really strong growth in the enterprise business and that was on the strength of good corporate spending on projects in IT infrastructure where we tend to do particularly well because of our business model. When the market slows, the chunk of the market that we do particularly well and ends up being a little bit smaller and so we see an effect from that pretty quickly in our business.

Ted Wheeler – Buckingham Research

Right, I guess I’m trying– You know in the last cycle, I guess it got down to 10% or so or lower?

Dennis J. Letham

I think at that time we were making comments we felt it was down in the mid to high single digits.

Ted Wheeler – Buckingham Research

Okay. Thank you.

Operator

We’ll take our next question form Nat Kellogg with Next Generation Equity Research.

Nat Kellogg – Next Generation Equity Research, LLC

Hi guys. Most of my questions have been answered, but just a couple of quick ones. Dennis, you mentioned briefly, just heard talking about working capital. I just wanted to touch on it. As you guys grow through acquisition on OEM supply side, are there any differences as far as their working capital needs versus sort of a co-annex or business, I mean to which we expect inventory turns will be slower because of these acquisitions or faster or any difference?

Dennis J. Letham

In total, the working capital needs are particularly different by the line item there, there are probably some slight differences, I mean, since the customers tend to be larger multi-nationals, probably a slightly shorter collection cycle on receivables.

On the other hand, because of the nature of the service model, the inventory returns are lower, but you certainly don’t want to be in a position, you know, being in a stock-out and shutting your customer down over small components. But when you put those two things together and look at the working capital; the turn number there is not significantly different as it is in the rest of our business in total.

Nat Kellogg – Next Generation Equity Research, LLC

Okay. The tax rate seemed a little higher in the quarter, is that just to true things up to get the full year number correct, or is there is anything going on?

Dennis J. Letham

Yes, well as you might imagine, with the softness we saw in Europe in the third quarter, we now expect lots of our full year income to come out of Europe than we were expecting at the end of June. And as you probably aware, virtually every country of consequence in Europe has lower corporate tax rates than we have in the U.S. and you know, if you look at the fact that we’re pretty heavily invested in the U.K. I think the rate differential there is above 30% for the U.K. corporate tax rates versus here a combined federal and state rate of 39%. So all that’s happening there in the third quarter is kind of truing up on a year-to-date basis the current expectation of country level income.

Nat Kellogg – Next Generation Equity Research, LLC

Okay and then just, last question, sort of on the electrical wiring cable side given the pullback receding copper prices, have you guys – just curious about what you’ve seen as far as in the marketplace, your suppliers and have they started to lower pricing by how much and what you’re seeing on sort of a competitive landscape type of issue?

Robert J. Eck

Actually on a competitive landscape issue in the short-term we’ve really seen no change. As I said in my comments we’re still pricing off the cost of our inventory which is higher cost inventory than the current cost of copper and we’re not seeing any pushback in the market. We’re not – we don’t feel that we’re losing projects with that kind of pricing strategy. And we don’t see unnecessary discounting.

There’s a variety of products across that electrical wire and cable space, some of which are priced pretty heavily off copper specifically on the day you place an order. Other products actually work off a price list that isn’t quite as sensitive to copper. So in replenishment in inventory the very copper sensitive products will start coming down in new inventory. But frankly there’s a lot of inventory in the channel that has to be burned off. I think Dennis captured it perfectly when he said the inventory issue lasts roughly a quarter. Sometimes during the course of the quarter you start burning off expensive inventory, bringing in lower cost inventory in the mix. And that’ll start to probably create some downward pressure on pricing towards the later part of the quarter. I think margins hold up through that exercise.

Nat Kellogg – Next Generation Equity Research, LLC

And from the supplier side have you guys – you guys have obviously, it sounds like, just started to see some lower prices on the copper – cable you’re now buying in the marketplace.

Robert J. Eck

Well again, the products that are very copper sensitive which are more medium voltage kind of products will – are starting to show some discounting related to copper. But there’s not broad discounting hitting the market right now. And there’s not discounting at all on the products that are selling off price list. I think what you have to keep in the back of your mind is that it’s difficult I think right now for people to understand where copper’s going to end up. We’re clearly in a fairly sudden drop in the commodity based on probably a whole range of factors – speculation around what the – where commodities have been. There was certainly a push toward investing in commodities earlier in the year. Now I think a lot of the trading activity is around speculation on where the economy’s going and if there’s softer demand what does that do?

Those kind of – the reality of what’s happening to demand hasn’t flushed through yet. So nobody’s really clear where coppers going to settle. I think therefore, particularly if you’re selling a product off a price list, you wouldn’t be quick to discount that product.

Nat Kellogg – Next Generation Equity Research, LLC

Yes, okay. Yes, I think I agree. It’s anyone’s guess where it’s going to end up so it should be interesting. And then just, I’m sorry, one last question. If I look at you guys historically you’ve gotten a little bump in gross margin Q4 and obviously I think, Dennis, you and I have spoken before, that’s often times due to the hitting volume targets and getting discounts and rebates from suppliers. Is there anything else in there that leads to that sort of pickup by the end of the year? So obviously I would expect that you’re not going to hit those this year. I mean, as you guys have been saying. But is there anything else in there that sort of can tweak Q4 gross margins that we should be paying attention to or is that –

Dennis J. Letham

No, there’s nothing else in there and your comment with regard to what’s driven that slight pickup in the fourth quarter is accurate. So given the fact we’ve been commenting for a couple of quarters about lower volume incentives it’s realistic not to expect that pickup in Q4.

The only thing that works positively Q3 to Q4 would be this customer pricing adjustment both Bob and I have commented on that was – cost us about 20 basis points in Q3 will not be there in Q4.

Nat Kellogg – Next Generation Equity Research, LLC

Right, right, okay. Alright, guys, thanks for taking my questions and appreciate the time.

Robert J. Eck

Thanks.

Operator

(Operator Instructions.) We have a final question from Bob Franklin with Prudential Financial.

Bob Franklin – Prudential Financial

Hi, you mentioned uses of cash flow as delivering acquisitions and share repurchases. Is that in order of importance by any chance?

Dennis J. Letham

Well, deleveraging certainly will happen on a day-to-day, week-by-week basis as we generate cash flow. Acquisitions will be dependent on what opportunities are available in the marketplace. And I think at least at the moment share repurchases are probably a solid third. I think like most of corporate America we will be hording precious capital for the moment.

Bob Franklin – Prudential Financial

Okay, and when you say deleveraging will occur as the cash builds up, are you talking about on a net basis or do you actually intend to repay debt or repurchase bonds –

Dennis J. Letham

We would not be taking out any long-term debt. What we’re talking about is reductions in short-term borrowings.

Bob Franklin – Prudential Financial

Okay and what’s your revolver at right now?

Dennis J. Letham

In terms of – well there’s 240 million of availability on a facility that’s got a total size of –

Bob Franklin – Prudential Financial

450?

Dennis J. Letham

– 450, yes. So about 200 – roughly 200 million borrowed on it.

Bob Franklin – Prudential Financial

Okay great, thank you.

Operator

And gentlemen there are no questions in the queue at the moment. I’ll turn the conference back over to you for any additional or closing remarks.

Robert J. Eck

Thanks. Thanks for joining us on the call today. We continue to see growth in the electrical wire and cable, OEM supply and security markets. Our combination of knowledge about products, applications and changing technologies coupled with the cost saving supply chain services position us well to bring value in difficult markets. The enterprise business will face challenges in North America, Europe and Asia due to IT spending constraints by larger end users. However Latin America will continue to present growth opportunities in the Enterprise market.

We will continue to manage the business for both the short- and long-term by closely managing volume expenses while also investing in initiatives and opportunities for future growth. Thanks for your time today.

Operator

Ladies and gentlemen that does conclude today’s conference. Once again we thank you for your participation. We wish you a pleasant day and you may now disconnect.

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