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Executives

Richard Koch – Director of Investor Relations

Eric Fast – President and Chief Executive Officer

Tim MacCarrick – Vice President and Chief Financial Officer

Analysts

Shannon O'Callaghan – Barclays

Matt Summerville – KeyBanc

Ronald Epstein – BAS-ML

[Rand Guessing] – Neuberger Berman

Crane Co. (CR) Q1 2009 Earnings Call April 21, 2009 10:00 AM ET

Operator

Please standby, we're about to begin. Good day, everyone, and welcome to today's Crane's first quarter 2009 earnings results conference call. Today's call is being recorded. At this time, I would like to turn the call over to the Director of Investor Relations, Mr. Dick Koch. Please go ahead, sir.

Richard Koch

Welcome to Crane's first quarter 2009 earnings release conference call. I'm Dick Koch, Director of Investor Relations. On our call this morning, we have Eric Fast, our President and CEO, and Tim MacCarrick, our Vice President and CFO.

We will start off our call with a few prepared remarks, after which we will respond to questions. Just as a reminder, the comments we make on this call may include some forward-looking statements. We would refer you to the cautionary language at the bottom of our news release and also in our annual report, 10-K and subsequent filings pertaining to forward looking statements.

Also, during the call, we will be using some non-GAAP numbers, which are reconciled to the comparable GAAP numbers, in a table at the end of our press release which is available on our website at www.craneco.com, in the investor relations section.

Now, let me turn the call over to Eric.

Eric Fast

Thank you, Dick.

I thought we had a solid performance in the first quarter, while sales declined much more sharply than we had planned, our overall earnings, while considerably lower, were in line with our internal projections.

Overall core sales declined 16% in the quarter versus our 7% guidance to the full year. Extremely difficult end markets in engineered materials and merchandising systems resulted in unprecedented sales declines in the quarter of 54% and 34% respectively. Both of these businesses are leaders in the niche markets they serve and we believe are winning market share.

Aerospace and electronics, including fluid handling sales were in line with our expectations. Disciplined cost control throughout 2008 by our leadership team, focusing on headcount, discretionary spending, the restructuring program announced in the fourth quarter, and aggressive actions with suppliers all contributed to profitability in line with our expectations in spite of the core sales decline.

Given the weak first quarter sales and even weaker orders, our backlog was reduced 7% from year-end 2008. Recent project deferrals in our fluid handling segment and rescheduling in the commercial aerospace business suggests continued difficult markets.

As a result, we expect our cost reduction activities to be substantially greater than the $75 million we previously announced and we view them as ongoing, continuous adjustments to end-market demand.

In spite of the more difficult markets and excluding the impact of the Coachmen legal settlement announced last night, we have reaffirmed earnings guidance. Our free cash flow guidance remains unchanged.

Our balance sheet remains strong and we have excellent liquidity. We ended the quarter with $210 million in cash, a $300 million four-year revolving credit facility, no near-term debt maturities and $150 million expected in free cash flow in 2009.

Our strategy remains unchanged, with our focus continuing to be to win in the marketplace and to take market share. We are executing on this strategy by maintaining our customer facing activities, continuing our operational excellence programs and accelerating the introduction of new products.

At the same time, we are aggressively reducing costs and managing cash flow. We feel that the measure of the company will be how we come out of this global downturn and believe strongly that the successful execution of this strategy will give us clear opportunity to leverage volume when it turns.

Now, let me turn the call over to Tim MacCarrick, who will provide additional details on our first quarter results.

Tim MacCarrick

Thank you, Eric.

Turning now to specific segment comments, which compare the first quarter of 2009 with 2008 and include restructuring charges and benefits, aerospace group sales of $93.4 million deceased $8 million or 8%, from $101.5 million in the prior year.

Total OEM sales declined 10% and although after-market sales also decreased 5%, they were stronger than anticipated and contributed to a favorable OEM after-market mix of 60% to 40%, compared to last year's first quarter of 62% to 38%. We did see improvement in military OEM and spare sales in higher modernization and upgrade activity on certain products.

Operating profit in aerospace declined by $1.3 million, as the impact of the lower OEM and after-market sales more than offset a $3.3 million decline in engineering expense associated with the 787 and A400M programs.

In the first quarter of 2009, our aerospace engineering spending was $21 million or 22% of sales, compared to fourth quarter 2008 spending of $28 million or 27% of sales. As previously communicated, we have reached key milestones for the 787 program, including delivery of initial hardware and software for first flight, and expect a complete aversion for commercial application during the second quarter.

Our engineering expense reduction activities remain on track and are being intensified, with clear and improved line-of-sight to productivity opportunities. We expect to see accelerating, sequential and year-over-year declines in aerospace engineering expense throughout the balance of the year. At this time, it is our expectation that we will exceed the previously communicated $25 million year-over-year reduction in engineering expense on the full year 2009 basis.

As previously disclosed, Boeing has communicated certain changed aircraft requirements that affect the 787 brake control system, and we remain in discussions with our customer, GE Aviation Systems, regarding development of a new version of the brake control system, including whether this additional development work will be funded by the customer. Although these discussions are continuing, our position remains that we are not required to undertake this additional development work, without customer funding.

Electronics group sales of $58.7 million increased $1.5 million or 3% primarily driven by relatively stable demand on key military programs. This sales growth, together with ongoing management actions, including stringent spending controls, stronger program management and improved manufacturing performance, resulted in a $2.6 million improvement in operating profit compared to the first quarter of 2008.

These actions have also enabled improvements in key operating and customer metrics within the electronics business, including lead time and on time delivery.

In the first quarter, engineered material sales of $38.2 million decreased $45 million or 54% reflecting substantially lower demand across all areas of the business. First quarter 2009 sales declined 76% in the recreational vehicles business, [22]% in transportation related, and 30% in our building products segment, all representing increased rates of sales decline on a quarter-over-quarter and year-over-year basis.

Although we experienced a Q1 decline in sales of 54%, our continued efforts to responsibly manage the cost basis of this business through ongoing headcount reduction, price versus material discipline and lower manufacturing and general costs, engineered materials posted an operating profit of $1.5 million in the first quarter of 2009. This represents a decline of $11.7 million versus Q1 of 2008, but an improvement in profit performance compared to the fourth quarter of 2008. To date, we have reduced headcount levels by 45% compared to year-end 2007, and by 18% since December of 2008.

The restructuring actions within engineered materials, including the reduction of our manufacturing footprint, from eight to five plants, remain on track to deliver meaningful savings in the second half and are expected to deliver pre-tax savings of approximately $7 million in 2009.

We recently shut down operations in our Zenicon thermal plastics facility in Joliet, Illinois, and at the end of March, we ceased manufacturing operations at our Grand Junction, Tennessee facility. As previously announced we will complete the consolidation of our two facilities in Goshen, Indiana later this year.

Finally, related to the separately announced legal settlement within the engineered materials business, we agreed to a mediation with Coachmen in an effort to resolve this lawsuit and we are satisfied that the settlement outcome is in the best interest of the business.

Overall merchandising systems segment sales declined 37% versus the first quarter of 2008 reflecting continued difficult end market conditions. Resulting operating profit declined $11 million or 79%, and margins eroded 8 points to 4.2%. Demand declined for both our vending and payment systems products during the second half of 2008, and we experienced further decline in the first quarter of 2009.

The fundamental drivers of this end-market softness for vending are continuing as commercial office space vacancies rise, factory employment levels declined and vending root operators experienced margin pressure.

In addition to the slowdown in the vending channel, payment systems felt the impact of the global slowdown in gaming, retail and transportation end-markets. In response to these ongoing market conditions, we have reduced employment levels by 21% compared to the end of 2007.

The recently announced consolidation of our St. Louis, Missouri production operations into our Williston, South Carolina facility is underway, on track and will be completed by year end. We expect this plant consolidation and other restructuring-related actions within merchandising systems to save approximately $9 million pre-tax in 2009.

Despite the disappointing current market environment, we are continuing our efforts to stimulate near term sales and position this business for improved profits when markets return. New product introductions such as Currenza, Merchant and our glass-front beverage machines have been very favorably received by the marketplace. We are taking market share, and we continue to maintain solid operational and customer metrics across the business.

Food handling, which represents 45% of Crane's total revenue, experienced a $22 million or 8% reduction in sales and an $8 million or 18% decrease in operating process. Although the Q1 core sales decline at 5% was consistent with our expectations, we incurred $40 million or 14% of unfavorable foreign currency translation, which had a significant impact on our sales performance.

These declines were partially offset by $33 million or 11% of sales generated from Delta Food Products and Krombach. These late 2008 acquisitions, which broadened our product offerings and enhanced our manufacturing capabilities, are performing well and are integrating smoothly into the Food Handling Group.

Food Handling margins declined 170 basis points to 13.8% compared to the record first quarter of 2008 primarily, reflecting unfavorable foreign exchange and lower sales. However, despite a quarterly sequential sales decline of $12 million, margins were essentially flat compared to Q4 2008, reflecting our continued and growing cost productivity efforts within the food handling business. Food handling backlog was $276 million at quarter end, a decline of $27 million compared to December 2008 levels.

New order demand continues to be under pressure as certain customers push out project timelines and demand slows across the chemical, oil and gas, pharmaceutical and building products and services industries. Accordingly, we do expect further sales deterioration and consequently are intensifying cost reduction efforts across the food handling businesses.

In our control segment, sales decreased $8.8 million and operating margins fell to 1.5% driven by lower demand for oil and gas, transportation and military end-use applications that primarily impacted our Barksdale and Azonix business units.

Now reflecting back on our top line performance across the business, our core sales declined 16% in the first quarter compared to our investor guidance of a 7% full year decline. Our first quarter and, in fact our first half comparisons, will be made against record levels of performance in Q1 and Q2 of 2008.

This comparative growth effect will be mitigated somewhat in the second half given our relative performance in Q3 and Q4 of 2008. Having said that, it is likely, that our core sales for the full year may decline more than originally anticipated. And accordingly we are taking actions to intensify our cost productivity actions.

We have implemented a comprehensive systematic and culturally embedded process to reduce areas of general cost in every part of the company. Our employees are actively supporting this effort on an ongoing basis and we've seen excellent results. We expect that this pervasive effort will continue to yield significant benefits, thereby allowing us to exceed our prior productivity expectations for general cost savings.

As I mentioned earlier, we also expect even greater reductions in Aerospace Engineering spending throughout 2009. And finally, our restructuring program announced in 2-4 '08 to reduce headcount facilities and infrastructure costs across the company remains on track to deliver savings of $37 million in 2009. Accordingly, we now anticipate that these cost focus initiatives will result in pre-tax year-over-year savings substantially exceeding our previous 2009 estimate of $75 million. We have disciplined processes in place to verify the traction of all of our cost savings programs and to extend and accelerate them in response to ongoing market placement as required.

Turning now to certain key financial items of interest, the first quarter tax rate was 30.6% compared to 32.3% in the first quarter of 2008. And we continue to estimate that the full year tax rate will be 30%. Our balance sheet remains strong and we ended the quarter with $210 million in cash. We have no significant near-term debt maturing as half of our long-term debt of $398 million is due in 2013 and the other half is due in 2036.

Capital expenditures in the first quarter were $10 million and included some carry-over spending on projects initiated in 2008. We have set 2009 capital budgets to limit spending to approximately $35 million compared with the $45 million spent in 2008. Now back to you, Dick.

Richard Koch

Thank you, Eric and Tim. This marks the end of our prepared comments. Operator, we are now ready to take questions.

Question-and-Answer Session

Operator

(Operator Instructions) Our first question comes from Shannon O'Callaghan – Barclays.

Shannon O'Callaghan – Barclays

Can you give us a little more flavor on your new expectation for core sales? You're saying worse than the down seven-year expected, but you mentioned, 1Q down 16. It sounds like the orders were down more than that. Do you expect that kind of trend to continue? Do you expect it to get worse from 1Q, better from 1Q and what drives that?

Eric Fast

We're not going to give out a specific on [guidance] but our view is that we – our thinking is that the rate of decline was slow as we go through the year. That's what we currently have pretty much in our forecast, and we're adjusting our cost base to accommodate that.

Shannon O'Callaghan – Barclays

You mentioned a few markets that are in fluid handling, where are you seeing the biggest drop off?

Eric Fast

We are globally seeing delays in significant major projects, and we're seeing a reduction in our daily MRO out flows both in Europe and here in the U. S.

Shannon O'Callaghan – Barclays

Any particular end-markets that are weaker than others?

Eric Fast

No. Pretty much across the board. Pretty much across the board. Refineries, if you think about it, spreads are thin in refineries, the chemical plants, power plants. It's pretty much across the board because of the downturn in demand and the credit [space].

Shannon O'Callaghan – Barclays

On aerospace, we've got two things going in opposite directions a little bit. On the one hand, it sounds like you've got this modification hanging out there which may require you to do more work. On the other hand, you're apparently ahead of plan on the existing set of breaks because you're reducing the R&D. So can you flush that out a little bit? Any more color on what's driving this required modification? I mean is the version you've done really completely up to customer requirements? Are there still issues with that? Where do you stand?

Eric Fast

Our version that we're currently working on meets all of the originally specified requirements. We're going to meet first flight. It's TIA. We're in solid shape there. The differences on the new request for a new [break] control which has new requirements and our position remains the same that we're not prepared to do without customer funding. There's not really been a change in this since our last quarterly call or our February update.

Shannon O'Callaghan – Barclays

In terms of this additional cost action you're taking how is that going to be accounted for? Are you going to run that expense through the P&L? I mean you're still saying that your guidance includes the same $0.15 per share restructuring, so are there going to be additional back deck charges or how are you going to do that?

Eric Fast

I think Tim did a nice job on this. We do expect our engineering – our previous guidance was $25 million. We expected the savings to be more there. Secondly on our discretionary spending the disciplined process and the way the company has reacted we just – we're going to get a lot more savings than what we had previously planned.

And then thirdly on the restructuring we reaffirmed that it would be approximately the $15 million that we have in – that we gave in our previous guidance. Some of that will change from what we originally thought but we think largely it's going stay in that ballpark.

Going forward the nature of the additional restructuring is multi – is severance and at the present time there is no additional facilities being contemplated. That could change but it's really the additional cost is severance.

Operator

Our next question is from Ronald Epstein – Bank of America Securities.

Ronald Epstein – Bank of America Securities

Eric, can you talk about in a very general sense what you're seeing kind of out in the market in terms of M&A and maybe the pipeline, are there willing sellers that kind of thing?

Eric Fast

We're seeing dogs and cats. That’s not very professional. Just bits and pieces, we're starting to see some dislocations of some of the weaker companies. We've – we're kind of coming through a period here where people have old price expectations and they're starting to be reset.

As we start looking at our radar screen at the moment we don’t have anything large on the screen, continues to be relatively modest opportunities. The challenge, Ron, is to be disciplined in terms of what your earnings expectations are for '09 and '10 and make sure that they're realistic.

Ronald Epstein – Bank of America Securities

Then maybe just circle back to the 787 brake software. When you look at in the end how much it costs and then what the original plan was, could you say how much over it cost? I mean how many multiples of the original plan it was?

Eric Fast

We haven't really disclosed that but you can go back and look at the spending and it's clearly far exceeds anything that we originally contemplated of the – it is all in the P&L. There's none in the balance sheet and I can say that universally among the supply chain community for this airplane we're not alone in unfortunately exceeding our original target.

Ronald Epstein – Bank of America Securities

I guess this is kind of the point that I was driving at. What was the underlying root cause? I mean was it just kind of you had changing expectations from your customer or was it just a very hard engineering task?

Eric Fast

I think there's a combination of factors that include new technology on our part which wasn't as developed as it should have been and it's taken us a lot more money to develop that technology. I think that it's a new way that the airplane went together in terms of very loose requirements at the initial stage which require constant changes.

And then even as recently as over the last six months a lot of changes that have come because as they start to put the plane together we're required to make changes in our original design, both hardware and software. So not a pretty picture but it's all in the P&L and it's really as we deliver this first set of brake controls is going to be largely behind us here after the second quarter.

Operator

(Operator Instructions) Our next question is from Matt Summerville – KeyBanc.

Matt Summerville – KeyBanc

Couple of questions, just first on engineered materials and merchandising systems I missed a couple minutes of your prepared remarks, Eric, if you hit this I apologize. But are your cost structures in both of those business to the point now where they're more in align with current demand? And just in terms of demand have you started to see any sort of bottoming out in either one of those segments or any of the pieces of those segments?

Eric Fast

Well I'm not about to call what we see in terms of future demand. Clearly in both of these business it's substantially worse than what the industry thought and what we plan. My comment on engineered material is that I think the team has done a terrific job here when you can have sales down 54% and you make money that's saying something.

If you notice our sales are actually down from the fourth quarter when we've lost a little money and even though they're down in the first quarter we made some money. So clearly the headcount reductions that started last – in the second quarter of last year were down 466 people since the end of '07.

That's a reduction in discretionary spending and discipline on price versus material. I think the team's done a solid job there and as I've said in my remarks we feel like it's hard to see because the orders are so small but we feel we are taking market share in a very tough market.

I really think the same comments apply to merchandising systems. We did not anticipate a 30% decline in sales, if you go back and look at previous guidance for the year nothing like that. So much sharper than what we expected.

Hard to call demand here; we'll have to – usually second quarter is usually a pretty – a better quarter because the bobblers come in but we'll have to wait and see whether that happens. Again we have 26% deleverage and I would say that in both engineering materials and merchandising systems a lot of the savings from the restructuring activity will now start to come in the latter part of this year.

We just – in engineered material we close the Grand Junction plant at the very end of the quarter and the Goshen consolidation is not going to take place until third or fourth quarter and then in merchandising systems the big St. Louis-Williston plant consolidation will not take place until very late in the year.

So there is almost nine – Tim made the comment there in only almost $9 million in savings we expect from those activities in merchandising systems and we think we only used about – only got about $1.5 or $2 million of them in the first quarter.

Tim MacCarrick

I think just to add to that the on the restructuring actions as I indicated everything is on track and proceeding accordingly. As Eric mentioned we won't complete the St. Louis move to Williston, South Carolina until later in the year but all of these activates are well in hand and moving forward.

Matt Summerville – KeyBanc

Okay and then Eric can you just provide a little bit of color in fluid handling how order rates looked month-to-month and if you've seen any discernable change thus far in April?

Eric Fast

I'm not going to comment on April. I would say that March was slightly better but I wouldn’t see that as a – we didn’t feel that that was a – constituted a new trend.

Operator

And we'll go next to [Rand Guessing] – Neuberger Berman

[Rand Guessing – Neuberger Berman]

On fluid handling can you just sort of give us an update as relation in sort of the drivers of holding margin. I know we talked in February about the importance of pricing but I just want to get a sense for you about what, you know, how you feel about markets if their sliding a bit and how we'll hold margins to some degree.

Eric Fast

I would make a couple comments. I'd reiterate first what Tim said that volume went down $12 million from the fourth quarter and we held margins, so if you know at 13, 13.5, 13.8% is a pretty solid. Going forward [Rand], we do expect conditions to worsen in our fluid handling business and as a result of that a lot of our additional cost take out activities are coming in the fluid handling business and all of that is well underway.

[Rand Guessing] – Neuberger Berman

And I think you also felt the price was going to be sort of a weapon for us this year, just any update as to that?

Eric Fast

I feel that to date we continue to be very disciplined on price, and at the same time we've aggressively gone after our material costs, so we maintain a positive variance there, certainly through the first quarter.

I guess not chasing projects that won't pay us. It's going to – I expect it to get harder and harder, right? It's going to get harder and harder. But we've done a good job and I don't see why we can't continue.

[Rand Guessing] – Neuberger Berman

Okay, and obviously you're getting the savings that you felt from the foundry closure and all that ?

Eric Fast

Yes, yes. Branford's closed, Ipswich is closed; it's on track.

[Rand Guessing] – Neuberger Berman

Okay, the electronics piece of aerospace seems like it's sort of coming out of the hole, is that a better performance there?

Eric Fast

I wouldn't describe it coming out of the hole right now.

[Rand Guessing] – Neuberger Berman

Well, we're finally getting some you know.

Eric Fast

We're getting you're right, you're right. We've been stable at electronics, right, running about 10% margin and really what you're seeing in the first quarter is a little bit of volume, some nice through put efficiencies, again on time delivery here has gone from 75% in the low 90's. Our pass-through backlog has gone from 15 million down to 2 million or 3 million, and there's a real nice solid cost control environment that they've created.

I was just out there last week, I mean margins you know were in the mid teens in the quarter and the challenge for electronics is to see if they can hold that kind of performance for the rest of the year, but it's a good start.

Operator

And we have a follow-up from Shannon O'Callaghan – Barclays

Shannon O'Callaghan – Barclays

Hey, just thinking through you know what declines moderate from here, I mean fluid handling we're going to see the declines get worse I think is what you're saying, so is it mainly in [mostly] materials and merchandising as the declines moderate or when you think of moderation from the 1Q rate what drives that?

Eric Fast

Well a couple of things, first you get better comparisons in the second half than you do in the first half right?

Shannon O'Callaghan – Barclays

Yes. Yes.

Eric Fast

Secondly we expect aerospace the recent cancellations and delays and orders I expect the aerospace to start to decline so you've got aerospace fluid handling going down. It's hard to see engineered materials and merchandising really getting much worse here. These are short cycle book and ship businesses that are early on in the cycle so, you know, how much our dealers are down 72% our sales were – how much lower can you go?

Shannon O'Callaghan – Barclays

Yes. Any direct impact, I mean obviously impact, but I mean do you think the customer bankruptcies in the quarter make it any another leg down or no?

Eric Fast

Well they haven't helped but, you know, it is what it is.

Shannon O'Callaghan – Barclays

Okay, and just on the brake modification just one more question, these discussions that are going on do you have any kind of timeline on those when you might get clarity one way or the other?

Eric Fast

Hard to say. Our position remains firm.

Tim MacCarrick

We have clarity on our position.

Operator

And as we have no more questions in the queue we'll go back to Mr. Koch.

Richard Koch

Thank you very much for joining us this morning and for your continued interest in Crane. Good bye.

Operator

And that does conclude our call for today. We thank you so much for your participation and have a great day.

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