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Newell Rubbermaid Inc. (NYSE:NWL)

Q2 2009 Earnings Call

July 30, 2009 10:00 am ET

Executives

Nancy O'Donnell – Vice President, Investor Relations

Mark Ketchum – President and Chief Executive Officer

Pat Robinson – Executive Vice President and Chief Financial Officer

Analysts

Michael Kelter – Goldman Sachs

John Faucher – JP Morgan

Lauren Lieberman – Barclays Capital

Bill Schmitz – Deutsche Bank Securities

Wendy Nicholson – Citi Investment Research

Chris Ferrara – BAS-ML

Budd Bugatch – Raymond James

Connie Maneaty – BMO Capital Markets

Mark Rupe – Longbow Research

Joe Altobello – Oppenheimer & Co

William Chappell – Suntrust Robinson Humphrey

Linda Bolton Weiser – Caris & Company

Operator

Good morning ladies and gentleman. And welcome to Newell Rubbermaid's Second Quarter 2009 earnings conference call. (Operator Instructions). I would now like to turn the call over to Nancy O'Donnell, Vice President of Investor Relations.

Nancy O'Donnell

Thanks. Welcome to Newell Rubbermaid's Second Quarter call. We appreciate you, once again, taking the time to join us. The members of our management team with me today are Mark Ketchum, President and Chief Executive Officer and Chief Financial Officer Pat Robinson.

I'll begin the call with our forward-looking statement reminder. Today's announcement includes certain forward-looking statements which are based on current factual information and certain assumptions which management believes to be reasonable.

These statements are subject to known and unknown risks and uncertainties. Actual results could differ materially from those indicated by these statements due to various factors which are discussed in detail in Newell Rubbermaid's 2008 Annual Report on Form 10-K and other periodic filings with the SEC. We further caution you that the company does not undertake and specifically disclaims any obligation to update any forward looking statements that we make today.

In addition, we refer to certain non-GAAP financial measures. Reconciliations of these non-GAAP financial measures to the most directly comparable GAAP measures are included in our earnings release and the investor section of our website.

So with that, I will now turn it over to Mark.

Mark Ketchum

Thank you, Nancy. Good morning everyone and thank you for joining us today. I'm pleased to report that Newell Rubbermaid delivered strong earnings and cash flow results this quarter.

Normalized EPS of $0.47 was well ahead of our guidance range as a result of strong gross margin performance and rigorous expense management. Operating cash flow also increased noticeably to approximately $100 million during the quarter, as compared to only $2 million in last year's Q2.

During the first six months of 2009, we generated operating cash flow of $88 million, an improvement of more than $200 million compared to the first half of 2008, when we used cash. This impressive performance for the quarter and year-to-date is the result of our operating units' continued discipline in reducing inventories and using working capital more efficiently.

We're quite proud of the fact that even in a very difficult economic environment we've done what we said we would do. For the past six months, we told you that our plan was to manage the business, to protect earnings and maximize cash flow in spite of top line weakness and volatility, and we've delivered on that promise.

As anticipated, our top line has been under pressure. Net sales declined almost 18% during the quarter. [Quarter] sales were down about 8%, in line with our guidance of a high single digit decline. Product line exits and foreign exchange accounted for the other 10 points of sales decline.

Gross margin increased to 37.1% this quarter, a 300 basis point improvement over last year. This expansion reflects the positive impact of the planned exits from low margin and commoditized product categories. Gross margin also benefitted from the carryover effect of 2008 pricing initiatives and input cost moderation compared with the dramatic inflation we experienced in 2008. For the first half of 2009, gross margin was 36.2%, a 200 basis point improvement over the first half of 2008.

As mentioned in my opening, we've also been extremely diligent in controlling SG&A expenses to protect the bottom line. Year-to-date, SG&A expense is down $113 million, or 15% of last year. This improvement reflects permit reductions in structural SG&A, as well as strategic SG&A reductions. In some cases, the strategic spending has been eliminated for the year, while in other cases it was deferred for possible reinstatement in the back half.

A combination of higher gross margins and significantly lower SG&A expense helped drive normalized EPS of $0.47, well above our earlier guidance range of $0.30 to $0.37. Operating margin in the second quarter improved a healthy 260 basis points to 15.2% of sales.

Our strong year-to-date performance gives us even greater confidence in our ability to meet the financial targets we originally set for the year. With that confidence in hand, we will resume some of the investment spending we chose to defer during the first half. Over the next two quarters, we'll invest $40 million to $50 million more than in the first half in two primary areas.

First, on selective advertising, promotion and sales support to drive sales in the back half focused on the important back-to-school and gift giving seasons. Second, on longer term R&D, discretionary training, market research and measurement and outside agency support to build our new product pipeline and help develop growth platforms for 2010 and beyond.

The areas targeted for investment will be those with the highest near term sales growth potential based on our current economy, our home and family businesses and office products categories including technology, markers and highlighters and fine writing.

About half of the $40 million to $50 million represents spending that was delayed from Q1 to Q2, while the other half is investment spending that was originally budgeted for the back half. Of course, we'll continue to manage all of our SG&A spending closely. And we'll calibrate our investment to the sales environment in order to meet our financial commitments.

Turning to our outlook for the year, we expect sales will remain under pressure due to weak consumer demand and customer inventory reductions. While we believe inventory destocking has stabilized with most of our retail customers, we've seen additional corrections since our last earnings call in the commercial and industrial channels, as well as in parts of Europe.

If you'll recall, that commercial activity did not start to decline until a quarter or so later than retail. Thus, it's taking longer to stabilize. Consequently, we are maintaining our full year 2009 sales guidance of a 10% to 15% decline. We are currently trending to come in at the bottom end of that guidance range.

This outlook reflects a high single digit decline in year-over-year core sales consistent with what we saw in the first and second quarters. The balance of the decline reflects planned product line exits and unfavorable FX.

Positive news is that our strong normalized EPS and cash flow results in the first half of the year give us the confidence to raise guidance on those two metrics. Our 2009 outlook now anticipates operating cash flow of approximately $500 million, as compared to our previous forecast of more than $400 million. This is nearly a $50 million improvement over 2008, despite a much lower sales base.

We are also increasing our 2009 normalized EPS projections to a range of $1.15 to $1.30, from our previous guidance of $1.00 to $1.25. This improvement reflects the flow through of our year-to-date earnings upside partially offset by a higher investment and strategic brand building activities in the back hat.

Before I turn the call over to Pat, I would like to briefly highlight a few of the individual business unit successes that we've had during the quarter. I think it's important to note that even in this recessionary environment, our brands are continuing to introduce innovative new products and continuing to develop creative and engaging marketing campaigns to drive market share and gain additional product listings.

For example, our culinary lifestyles business continues to turn in a strong performance led by exciting new product introductions. Sales for this GBU were once again up mid-single digits to last year which is particularly impressive in this relatively high price point category.

Last quarter, we told you about the launch of Calphalon's Unison line of non-stick dishwasher safe gourmet cookware. Unison combines two revolutionary non-stick surfaces in the same set, the Slide for easy release and Sear to seal in flavor.

Since its Q1 exclusive launch with Williams-Sonoma, Unison has performed extremely well exceeding our expectations and driving market share gains for Calphalon. We have now expanded Unison availability to other fine retailers, and we expect continued success with this innovative new product.

In our office products segment, we are taking share and gaining distribution in our markets and highlighters business on the strength of a new integrated marketing campaign for their Sharpie brand. With the new tagline, Uncap What's Inside, the campaign uses a combination of print, TV, in-store and digital advertising, as well as social media, to better communicate the relevance and value of the Sharpie portfolio. Early results indicate strong consumer engagement and we anticipate additional sales and share growth going forward.

A third example is from the Graco brand in our baby and parenting GBU. Graco has generated market share gains in several categories through the successful launch of innovative new products such as the Blossom 4-in-1 Feeding Chair and the new Pack 'n Play Play Yard with a Newborn Napper feature. This is the first ever play yard with a separate station designed to cuddle your newborn.

Graco's success with these new products proves our thesis on innovation. When you introduce an exciting new product with features driven by consumer insights, retailers support it and consumers buy it.

So just a few examples to demonstrate that even in these difficult times, we are continuing our progress in building brands that matter across the portfolio. Our success in driving gross margins allows us to invest, in fact to re-invest, into consumer-driven innovation branding and marketing initiatives that will help position the company for future sustainable growth.

At this point, I'll turn the call over to Pat who will walk you through the financials in additional detail and then I will return to provide some final comments.

Pat Robinson

I'll start with a review of our second quarter 2009 income statement on a normalized earnings basis. Net sales for the quarter were $1.5 billion, down 17.6% the last year and slightly favorable to our guidance of a sales decline of approximately 20%.

Our core sales decline, which excludes currency and product line exits, was approximately 8% in the quarter in line with guidance. This reflects the weak consumer sales environment as well as some inventory destocking, primarily in the industrial and commercial channels.

It's difficult to measure precisely, but we think about a third of the quarter sales decline was attributable to inventory adjustments with the remaining two-thirds reflecting lower consumer sell-through. Our planned product line exits reduced sales by six points and unfavorable foreign currency contributed to negative four points. Both of these metrics came in on the favorable side of our expectations. As of April 1st, we anniversaried the acquisitions of technical concepts in Aprica so sales from both of these businesses are now reflected in core sales.

Gross margin continued to be a very positive story for us this quarter. We generated $558 million or 37.1% of net sales which was a 300 basis point improvement over the second quarter of 2008 and a 430 basis point improvement over the full year 2008 gross margin percentage.

This improvement was largely driven by the favorable impact of our product line exits, more favorable input costs as we start the comp against the dramatic raw material inflation from a year ago and the read-through from our 2008 pricing actions.

These positives more than offset an unfavorable customer and product mix as our plant utilization rates resulting from the sales decline and the significant take-down in inventory levels. We continued to aggressively manage down both our strategic and structural SG&A spending during the quarter which we indicated we would do, particularly if core sales remained under pressure.

SG&A expenses were down $64 million year-over-year. About $45 million of this improvement was attributable to cost reduction activities initiated in 2008, as well as incremental contingency plans implemented this year in response to sales weakness. Foreign currency translation accounted for the remaining $19 million decrease.

Operating income was $229 million or 15.2% of sales compared to $230 million or 12.6% of sales last year. Our year-to-date operating margin was 12.6%, an improvement of 160 basis points for last year.

Interest expense was $40 million, $1.6 million higher than the previous year due to marginally higher average margin rates in 2009.

Our continuing tax rate was 31.4% compared to 28.5% last year. The increase was driven by changes in the geographic mix of earnings outside the U.S. [Looking at] earnings per share, the combination of strong gross margin expansion and continued aggressive SG&A management drove normalized EPS up $0.47, well above our guidance of $0.37.

This $0.47 excludes approximately $0.01 of dilution from our convertible bonds issued back in the first quarter and $0.01 of cost incurred in connection with the early retirement of $325 million of medium term notes. Normalized EPS also excludes approximately $30 million or $0.08 per share in restructuring related impairment charges related to project acceleration.

Operating cash flow was another very positive story for us this quarter. We generated approximately $100 million in cash flow, $98 million better than the second quarter a year ago. This reflects a great deal of focus and discipline on the part of our operating units to manage working capital, particularly inventory.

We reduced inventory by $108 million during the quarter, compared to a $1 million build in Q2 of last year, this despite the meaningful sales decline resulting in a five-day improvement in days-on-hand year-over-year.

Year-to-date, we generated an operating cash flow of $88 million as compared to a use of $121 million last year. That's an improvement of $209 million. With strong first half performance in hand, we're now comfortable taking up our full year guidance for cash flow to approximately $500 million compared with the previous guidance of more than $400 million back on the April call. We continue to anticipate approximately $100 million in restructuring payments this year and full-year capital expenditures of about $150 million.

Now I'll turn to our segment information. I'll start with the home and family segment. Net sales were $617 million, a decrease of 14% versus last year. Core sales volume declined about 2%. Core sales in our baby and parenting and culinary lifestyle businesses grew in the mid-single digit range, but those improvements were offset by declines from the other businesses in the segment. Planned product exits accounted for approximately 10 points of the overall sales decline while unfavorable FX contributed a negative two points.

Operating income for home and family was $80 million or 13% of net sales compared to $70 million or 9.7% of sales a year ago. This 330 basis point improvement reflects disciplined SG&A management, in addition to lower input costs and the benefit from product line exits. These positives more than offset the impact from lower sales volumes and unfavorable mix.

Office products second quarter sales were $497 million, a decrease of 18%. Core sales declined about 7% as the office products category continues to be challenged both here in the U.S. and internationally. Approximately six points of the overall sales decline resulted from planned product line exits and another six points was attributable to the foreign currency translation. Operating income in the segment was $99 million, down $3 million to last year. Operating margin was 20%, up 330 basis point, again reflecting aggressive SG&A management and the benefit from product line exits.

In our tools, hardware and commercial products segment, net sales were $390 million, down 22% the last year. Core sales declined about 18% as this business continued to be impacted by softness in commercial and industrial channels along with the sustained weakness in residential housing. Unfavorable FX reduced sales by four points. Operating income for the tools segment was $68 million or 17.3% of sales down from $80 million or 16.1% of sales last year, and I will now turn to our 2009 outlook.

As Mark noted, we are reiterating our full year sales guidance for decline of 10% to 15%. Based on sales trends year-to-date we believe we are more likely to end the year at the unfavorable end of this range. We expect the core sales decline in the high single digits, a four to six point decline from planned pipeline exits and a two to three point drag from foreign currency. Acquisitions will contribute about one point of growth.

We'll continue to closely manage our SG&A spending at the back half of the year. However, as Mark noted, given our year-to-date results we plan to increase strategic spending in areas where we believe we can have a meaningful impact on back half sales performance, or where we can accelerate innovation and new product development for future growth.

So while you'll continue to see year-over-year reductions in SG&A, those reductions will not continue at the same rate you saw in the first half of the year. We're raising full year guidance for normalized EPS to $1.15 to $1.30 based on our solid results in the first two quarters. This compares to our previous guidance of $1.00 to $1.25 and excludes dilution for the convertible bonds issued during the first quarter of the year.

In other full year data points, interest expense is now estimated to be approximately $150 to $155 million. Our effective tax rate is expected to be 30% to 31%. We anticipate pre-tax restructuring charges of between $100 million and $150 million or $0.28 to $0.43 per share, and these restructuring charges are excluded from our normalized EPS guidance.

For the third quarter we're guiding to a net sales decline in the high teens percent range. This reflects a high single digit core sales decline, a six to eight point decline from product line exits and unfavorable foreign currency translation of two to four points. Normalized EPS for the quarter is expected in the range of $0.25 to 0$.35 compared to $0.36 a year ago. We expect quarter three operating cash flow to range from $200 million to $250 million.

In closing, we're proud of our first half performance. It reflects a lot of hard work on the part of a lot of people. We demonstrated an ability to generate strong cash flow, strengthen our balance sheet and deliver on EPS guidance in the face of some difficult economic times.

We'll certainly continue our efforts in the back half of the year, and we're confident we'll exit the year with an improved gross margin, a new leaner more efficient cost structure and poised to resume top line growth once economic conditions start to improve.

With that I'll hand it back to Mark for his final comments.

Mark Ketchum

Thank you, Pat. 2009 has been without a doubt our most challenging year ever, but I'm upbeat. I'm encouraged by our first half results. Earlier this year, I asked everyone at Newell Rubbermaid to rise to the challenge and deliver a year they can be proud of despite the historic economic downturn.

Since then the new Rubbermaid team has done an outstanding job reducing costs, conserving cash, gaining market share and operating more efficiently and effectively. I want to commend all of our employees for their hard work. By focusing on the things that are within our control we've proven our ability to weather this economic storm and position ourselves to emerge even stronger once it has passed.

We are entering the second half of the year with some positive momentum. We'll continue to prioritize managing expenses and generating cash flow, but we now see our way to release selective investments and strategic SG&A to help build our brands and enhance our new product pipeline.

While we continue to face an uncertain and volatile economic environment, I'm convinced we are doing the right things to both insure near term profitability and enable long-term prosperity. We're operating consistent with our strategies, investing in consumer-driven innovation and branding, optimizing our portfolio with higher growth and higher margin businesses, and achieving best cost in efficiency across the organization.

As always we thank our shareholders for their continued support, and with that I will now ask the operator to open the line for questions.

Question-and-Answer Session

Operator

(Operator Instructions). Your first question comes from Michael Kelter – Goldman Sachs.

Michael Kelter – Goldman Sachs

I just wanted to ask first, I guess, about the gross margin which is much better than I think anyone expected even though everyone did see resin coming down and you talked about the divestiture impact. Maybe you can give a little more color around what the drivers were, more specifically, quantitatively around the resin versus the divestitures versus the productivity gains you guys have experienced.

Pat Robinson

We're not going to get into specifics on what each contributed but the big three contributors we already spoke about, the product line exits, the carryover pricing from 2008, which we've been able to keep in place pretty much across the board, with a few exceptions and then finally the year over year input costs improvement, particularly resin but in some other commodities also.

Those are the three big contributors. The offsets to that are volume – the volume in our plants is way down to a year ago, and the mix, I'm sorry – the unfavorable mix. Consumers are still mixing down pretty much across the board, those two offsets.

Michael Kelter – Goldman Sachs

And Pat, should we then think about this new level, the 37% level as kind of your new normal to look forward and with the productivity already in place, the divestitures now kind of done and resins somewhat stable, we would be looking forward from 37% here?

Pat Robinson

Well, I think I would look at the first half. The first half was 36.2%. I think that would be more in line with a sustainable rate. In fact, we may see some pressure in the back half from pricing and also from the commodity comparisons to a year ago. Now for the front half and back half, we also think the commodities will be slightly higher in the back half than in the front. So I think the 36.2% would be more in line than the 37.1% and maybe even slightly below that, but that would be kind of our internal target.

Mark Ketchum

Mike, I would add to that in saying I think we do have upward run rate going forward after this year. We'll get full year benefit of exiting these categories whereas this year we get partial year benefit. We continue to do restructuring, manufacturing restructuring projects under our project acceleration mantle that will benefit this year and next year.

As volumes come back we'll get better factory capacity utilization which will absorb overhead costs in a more effective way, and so I think we have a number of upside vectors that will continue to drive that margin in future years.

Michael Kelter – Goldman Sachs

Again, and finally, on SG&A, that's always been kind of an offset for a gross margin improvement for you guys. Is there anything that's going to change over the last maybe ten years it just keeps creeping up as a percentage of sales and that's despite taking headcount down significantly and number of plants down significantly? What maybe would give us confidence that SG&A as a percentage of sales will really turn around after this year?

Pat Robinson

Well, first of all I'd price out the SG&A into two buckets, right, our strategic and our structural. We have been successful in reducing our structural SG&A over the last several years and that continues to be one of our focuses. We're doing that because we want to invest more in strategic. So I'll remind you in 2005 we were spending less than 4% of our sales on strategic SG&A on brand building SG&A.

We had that up over 6% , we'll probably a little bit less than that this year, but on an ongoing basis I think that number ought to be especially as we continue to change the mix of our portfolio into businesses that respond innovation brand building, the number is probably closer to 8%. So I think the total may not change much but you'll continue to see a shift within that total bucket as we save in structural and reinvest in strategic.

Michael Kelter – Goldman Sachs

Thank you very much guys.

Operator

Our next question comes from John Faucher – JP Morgan.

John Faucher – JP Morgan

Yes good morning, so if I take a look at your top line guidance in terms of getting to the down 15 it looks as though that implies that if you strip out the comps from last year so you do sort of a two year run rate the top line will actually decelerate into the back half of the year, sort of down 16% over the last two years, again adjusting for the comparisons.

Can you talk a little bit about maybe what's getting worse to get us to that and also given the additional spending, do you think that can provide a little bit of a boost to the top line or is this spending that's mainly going to be more of a 2010 impact? Thanks.

Pat Robinson

First, I'm not sure I'm looking at the same numbers as you have. We're not showing things are getting worse, we're showing that the third quarter would be comparable to the first half in core sales decline, in other words down high single digits, and that's what we've seen so far.

We do expect the fourth quarter to improve that rate, driven by two things. First, we believe the inventory destocking should be largely behind us even the commercial and industrial channels at that point. And secondly, the comps get much easier for us in the fourth quarter. So we saw our sales really drop off in the fourth quarter of '08 compared to the first three quarters. That was the big drop, so we think the fourth quarter this year will be a lower percentage decline and hopefully we'll start to see things start to get a little better in 2010.

John Faucher – JP Morgan

Yes I think what I was referring to was if you would adjust to the comparisons because the top line gross in the back half of '08 decelerated into Q3 from Q2 and then obviously fell off a lot in Q4, so if you would adjust for those comps it looks like you're still expecting top line to be sort even fundamentally a little bit lower, but it doesn't sound like – did you understand what I am asking?

Pat Robinson

I do understand what you are asking, but again I don't know how this last year numbers. My recollection is that the third quarter wasn't that different from the first two last year, in other words they were all close to about breakeven, around 1% up or 1% down. It was the fourth quarter that we saw the dramatic decline.

John Faucher – JP Morgan

Right.

Mark Ketchum

And in fact John the fourth quarter the course sales were up about 8%. So in fact you could say the last three quarters we've have seen 8% to 10% course sales decline. That's in the same range that we're estimating for the third quarter for this year, so that will be four consecutive quarters with all high single digits course sales decline. So when we get to the fourth quarter we don't have that in there anymore, we don't have that kind of year-over-year course sales decline. The things that continue to put a drag on the top line are currency and [inaudible].

John Faucher – JP Morgan

Okay and going back to the spending piece, how long do you think it will take for this extra spending to come through and maybe give a further boost to the top line?

Mark Ketchum

Look, I think some of it can and will and can have an effect in the second half of this year and some of it will affect and get us off to a better start in the second half. So let me just give you a few examples to kind of bring this area to life.

I talked before about the Sharpie media campaign. We like what we are seeing and we are going to invest in it. One of things I didn't say in my script was that the media has a strong value reframing element to it. So the Sharpie campaign message talks about things like longer write life.

Our Sharpies last about one-third longer than most comparable markers and highlighters. We're pointing that out. We offer a twin tip Sharpie. It's got a fine point on one end and a blunt point on the end, so it's getting two in one. You know we talk about the ways you can use Sharpie.

You can use a Sharpie for instance – buy a less expensive plain notebook for back to school and decorate yourself instead of buying an expensive decorated covered notebook. And so there's a strong value element in that messaging that's very relevant to today. We think that people respond to that.

We talked about the Calphalon Unison, which is very well. We're going to continue to spend in and expand our spending behind that, so we're kind of feeding something that's working.

We're also feeding the Rubbermaid food storage campaign. We've had two strong years introducing Premier, then easy-to-find lids and Produce Saver and this year Lock-It and we're continuing to invest because again that's something that's worked.

There's two areas in the economy that are not down and that's education and the health industry, and we're spending into that. We got a terrific product, our mimio whiteboard capture and projection product. That is a superior product for two reasons. One, it's rated much easier to use by teachers and second, its cost per classroom is about half of what the competitor is. So again that's right on target in this economy. It's something that's easier to use and a great value in an area where there is still spending and stimulus spending in fact.

And in the health care area, we got a terrific line of Rubbermaid medical carts that are new to the market within the last couple years, but again health care is an area that hasn't cut back; spending continues to be available and we're expanding our sales coverage for that. So these are just a few examples of the kind of things we're spending our money on, that we're spending because we got a good indication that these things are working and/or the consumer is responsive and the market is responsive at this time. Does that help?

Operator

Our next question comes from Lauren Lieberman – Barclays Capital.

Lauren Lieberman – Barclays Capital

Just a quick question on working capital and inventory, since you did such a good job on inventory levels this quarter I was wondering if in the back half there will be less manufacturing curtailments, a little bit less negative operating leverage from trying to manage working capital?

Pat Robinson

If you look at our sales in the back half of – I'll talk about that first – it will be a little higher than the front half, so we'll get some help there. But the inventory change back half and front half should be almost the same. So I think the volumes will be slightly higher in the back half, so we get a little bit of help there.

Lauren Lieberman – Barclays Capital

Okay, so it's primarily from volumes being higher rather than less manufacturing curtailment to control inventory that's sort of not – at least not yet a dynamic?

Pat Robinson

That's right, in other words on the front half – I've got to look up the number. I believe we have taken out about 75 million of inventory and I think you should look for us to take out a similar number in the back half, so that will help. It will be neutral.

Lauren Lieberman – Barclays Capital

Okay. And then the second question was just with you know all of the chatter on changing shelf sets at retail, a lot of the dialogue has been around some of the more consumable categories, but I was wondering what you seen in your categories and in any kind of notable win or loses or changes that are going on?

Mark Ketchum

I'd say Lauren that there's not a sea change effect there. I think we believe that the battles are intense as they always are for shelf space and we can provide a compelling product proposition. So we've had some wins. We've had some wins in our writing instruments categories. We have had some wins in our personal care area in Goody.

And we do some trading back and forth, so sometimes gaining at one account and losing some on another account. So the only thing I can tell you is that it's not a – what the customers are doing and what we're doing is not a sea change effect either for them or for us in our categories.

Lauren Lieberman – Barclays Capital

And the other thing with just on pricing, Pat, I think you mentioned there could be a little bit of pressure on pricing in the second half. Now was that more about kind of Q4 lapping increases you've taken or is it pricing adjustments that you may be making?

Pat Robinson

I think it's a little of both. We will lap the fourth quarter that we took last year, that's definite. And then, we are seeing some pressure on all of our business frankly get back some price. We're resisting that the best we can.

Lauren Lieberman – Barclays Capital

And year-to-date – it's sort of – it's largely held?

Pat Robinson

Yes, it's largely held.

Mark Ketchum

And Lauren, again, to put that in perspective most of our pricing, it's just gotten us caught up for what we're behind in 2008. And so I if look over now at 2008 and 2009, whereas in' 08 we were behind, we got kind of caught up and so now, that pricing now is getting right with the world.

Operator

Our next question comes from Bill Schmitz – Deutsche Bank Securities

Bill Schmitz – Deutsche Bank Securities

Did you know what the capacity utilization was in the quarter? Do you have that number?

Pat Robinson

No, I will have to get back to you on that, Bill.

Bill Schmitz – Deutsche Bank Securities

Okay, definitely down, obviously. How about back-to-school again? I think I asked you a month and a half ago. I mean has anything changed with your thoughts in the back-to-school season? And then Pat, just another question along those lines, are you still reserved for Office Depot and Office Max and some of the issues over at those two retailers?

Pat Robinson

We're you know fully from an accounting standpoint there is no change in their financial situation. So I think we're adequately reserved and we realize that there could be some issues, probably not in the near future but down the road.

Mark Ketchum

And to your other question, how is back to school looking? I think, again, we were satisfied with our sell-in and I think the other dynamic that I didn't discuss with you before, Bill, was the fact that retailers in general are taking less stock in their back-to-school season.

So in the past the practice was load up the stores to the gills and then try and blow it through. Now they're being more cautious in terms of inventory they take in so they're managing their cash in the same way we're managing ours.

And so the sell-in in that context, though, we think was pretty good and now we need to see it sell through and the new model would be we would get – if this works and sales year over year were similar in terms of their – what they're selling out the door at retail we would get more replenishment orders in the third quarter than we have in past years. That's the dynamic that has yet to play out and so we're all waiting and seeing.

Bill Schmitz – Deutsche Bank Securities

And then just in terms of the product line exits, are you mostly done after the third quarter?

Mark Ketchum

No, we'll still have planned exits through this year and even we'll have the carryover impact into next year because we didn't get out on day one this year. So the products that were exiting, for instance in two, three and four will impact Q1 and so forth. But it'll be a little less in Q4 than we'll see here in the third quarter.

Bill Schmitz – Deutsche Bank Securities

Okay, then lastly, I promise, the cash flow – are there any other calls on cash besides the dividend and the capital expenditures? I mean, is there any sort of one-off funding requirements or anything or will most of that be used to repay debt?

Pat Robinson

It will mostly be used to repay debt. I guess the one change year over year is we're likely to make a pension contribution here in the third quarter.

Bill Schmitz – Deutsche Bank Securities

Okay, how big is that?

Pat Robinson

I'm sorry?

Bill Schmitz – Deutsche Bank Securities

How big is that going to be, do you know?

Pat Robinson

I can't give you an exact number but it'll probably be in the $50 million range.

Bill Schmitz – Deutsche Bank Securities

Okay, great, thank you.

Pat Robinson

I don't know, something around that number.

Operator

Our next question comes from Wendy Nicholson – Citi Investment Research.

Wendy Nicholson – Citi Investment Research

Hi, could you talk a little bit more about the commercial business? Your order of magnitude – exactly how much was it down? And I know you said that that lagged the rest of the business in terms of the timing of the slow down.

But I think historically that's actually been a very high margin business for you so I was kind of surprised to see the tools, hardware and commercial segment not get hit more on the operating margins and is that likely something to comment on in the third and the fourth quarter, I guess? Thanks.

Pat Robinson

You saw the tools and hardware segments down about 18% in total and the commercial industrial piece was higher than that. So in other words the tools that we sell through retail are sort of down I guess high single digits and it was north of 20% in the commercial and industrial channels.

Wendy Nicholson – Citi Investment Research

And that was mostly a volume drop off or have you had to get a lot more aggressive on price there?

Pat Robinson

It's a volume drop off.

Wendy Nicholson – Citi Investment Research

Okay.

Mark Ketchum

And our Lenox business, our industrial band saws, and so on, that tracks very closely with industrial production so as industrial production in the auto industry or other industries that cut a lot of metal goes down, that's what drives that. And then in the – our Rubbermaid commercial business is affected by the rate of new properties that are opening up and obviously they've been – a lot of those properties have been slowed way down.

And building maintenance service providers are also cutting back their normal replenishment of old items, that normally they'd have some schedule to replace their carts or whatever other equipment that they would typically source from us and they just slow down that replacement strip. Use their beat up carts for longer, so both those factors are what's affecting those channels.

Pat Robinson

As far as the operating margins, there are other margins, that segment's under the most pressure on the top line and they've been very aggressive about taking their SG&A down to match that sales decline. And so I don't expect the back half margins to be much different than the front in that segment.

Wendy Nicholson – Citi

Okay, and then just a follow-up question on Bill's question on the product lines exits. I think when you initially identified the $500 million, my understanding was you might just discontinue those SKUs or you were looking to sell some of the businesses. But is it my sense now that you're just basically going to discontinue them all and that trying to actually get any value from them and selling any of those smaller brands or whatnot is kind of off the table?

Mark Ketchum

No, it's not off the table. But obviously we haven't sold any so far and the environment hasn't been really good for doing that. So we continue to keep those options open and over the next six months or so we're going to – we'll have to do one or the other. But we've actually kind of held off on a couple of them because we still think there's an opportunity to sell them.

Wendy Nicholson – Citi Investment Research

But if I follow your math this year if you kind of picked the mid-point of a range it looks like you're going to have sort of $300 million of that $500 million gone from the portfolio?

Pat Robinson

We also had some in the fourth quarter of '08.

Wendy Nicholson – Citi Investment Research

Yes. So fair to say by the middle of 2010 and certainly by the end of 2010 this whole initiative's behind us and we won't hear about product line exits anymore? Is that fair?

Pat Robinson

That's fair.

Operator

Our next question comes from Chris Ferrara – BAS-ML.

Chris Ferrara – BAS-ML

Hey guys. Pat, can you just talk about the tax rate a little bit? Is this new rate normalized and I guess what changed so quickly with international geographies that would have driven up as far as it came from the run rate we've been looking at?

Pat Robinson

Well, it's just the mix of where we're making our money. So we're making less in areas that either have our tax advantage or have tax loss carry forward right now, so that's driven the rate up. We said 30% going into the year. We're saying 30% to 31% now. So it isn't dramatically higher than our expectation going into the year.

Chris Ferrara – BAS-ML

Okay, and then, I guess, can you talk a little bit about the impact of the loss-fixed cost leverage? Is there any way to, I guess, roughly quantify that because it kind of strikes me 37 gross margin – I don't think I've ever seen a 37 gross margin out of you guys despite –

Pat Robinson

Thank you for the compliment

Chris Ferrara – BAS-ML

Despite all of the headwind. But how do I think about where – forget next quarter or the following quarter. How do I think about where that's going long term because it would occur to me that if you just do a basic break out of what we think fixed versus variable costs are it seems like if you get a little volume going through these plants – like low single, mid-single digits it's an easy step right to 40%. Is that way off?

Mark Ketchum

Well, Chris, I wouldn't call it an easy step but as I did reference earlier it is one of the vectors that gives us confidence that there is upward momentum going forward over the next few years. So fill in the plants, continue to get the full year benefit of these product line exits, and the –

Pat Robinson

Full impact of project acceleration –

Mark Ketchum

Yes, yes, yes, getting the full impact of project acceleration as well as the continued work we're doing on mix I think gives us a pathway to 40.

Pat Robinson

Yes.

Chris Ferrara – BAS-ML

So is there anything in – is there anything – I get SG&A, I mean, look SG&A is somewhat flexible – you don't want to throw good money after bad. Things get better, you spend more. Is there any temporary aspect of all of the cost cuts you're running through COGS?

Pat Robinson

I would say no.

Chris Ferrara – BAS-ML

Great. That's helpful. Thanks, guys.

Mark Ketchum

Just one last comment on that, Chris, too. I think the other thing is you can't – there's not an easy formula to apply because recall that about half of our goods are sourced and about half are manufactured so we obviously have to leverage on those that we continue to manufacture. We kind of build into our pricing contracts with our suppliers something that would dampen the effect of volume on our source products.

Pat Robinson

Our facilities the overhead rates about – it varies by plant but it's in the 25% to 30% range.

Chris Ferrara – BAS-ML

And there is some leverage to even this up in project manufacturing, right? And I presume you get better rate at a higher volume, right?

Pat Robinson

That's right, that's correct.

Mark Ketchum

Exactly, yes, exactly.

Operator

Our next question comes from Budd Bugatch – Raymond James.

Budd Bugatch – Raymond James

I'm having a little difficulty kind of walking through to the third quarter guidance range, if you could help us some. Assuming that the high teens reduction year-over-year of let's say 18% gets you for about a $1.44 billion for the third quarter which is $60 million below the second quarter, and if you do project a 30% contribution margin, that's $18 million of an operating profit or about $0.04.

If you spend all of the extra strategic SG&A that's about $0.12 so that gets you to about $0.31 or the midpoint of your guidance range. If you just take half of it it's like $0.08 or the top end of the guidance range. What am I missing here? What piece are we missing? Is there just a buffer for being conservative? How should we think about that?

Pat Robinson

There's a buffer, I couldn't follow all those numbers. I have to jot them all down. But the biggest change is the SG&A span quarter-over-quarter. That is the biggest difference. So the margins should be relatively – well actually the gross margin will not – we don't believe it will hold at 37%. Quarter two is driven by some mix. We have favorable mix within our businesses. As I mentioned before, I use the first half gross margins, not the second quarter gross margins, okay.

And then you can use the sales numbers that we guided and then the SG&A would be the difference between the two quarters, that and the margin gap between the first margin gap.

Budd Bugatch – Raymond James

I'll go back over those with you offline but the second question I had and let's ball two questions up into one, you gave us a 200 basis point bogey for gross margin year-over-year as an improvement. You did 300 basis points this quarter. I wondered whether that still holds.

And secondly, can you kind of quantify for us what the strategic SG&A in the second half will be on a percentage to sale. Is it going to be about 7%, is that – if 5% was the first quarter, first half is it 7% in the second half?

Mark Ketchum

We have to do the math and get back to you.

Pat Robinson

I don't have that percentage in the second quarter. What was the first part again, Budd, I'm sorry.

Budd Bugatch – Raymond James

The bogey for gross profit.

Pat Robinson

Yes, we will be north of 200. I think more in the 275 to 300 range it looks like now for the year.

Operator

Our next question comes from Connie Maneaty – BMO Capital Markets

Connie Maneaty – BMO Capital Markets

Good morning. I hate to ask about product line exits but I will and it's a slightly different question. We're all hearing that consumer behavior is changing and maybe in a permanent way. And once you get through discontinuing all the low margin products, are you really left with the kind of portfolio that will grow in a slower growth environment, or do you think that there are more decisions to be made about the portfolio that remain?

Mark Ketchum

Connie, I don't think it will be a portfolio question going forward. I think it will be a question of can we deliver innovation that really is important to consumers and consumers respond to. And then second to make sure we have in some categories, where it's necessary, to have a range of product price points to that we can appeal to different elements of the consumer population.

So it's important to have strollers or car seats that hit three or four different price points and we need to make sure every one of them can deliver average margins for us. And so it's a challenge for us but it's not a portfolio question going forward. I think we'll have solved for the obvious portfolio issues. That said, we are always and constantly every year, we'll look at is there other trimming of the sales that we need to do, but I don't think it will be anything big.

Operator

And your next question comes from Mark Rupe – Longbow Research.

Mark Rupe – Longbow Research

Hey guys, congratulations on the quarter. Can you give us an update on some of the brands you're taking into some new geographic areas, how that's proceeding and then just if the economy's impacting that process at all?

Mark Ketchum

Well yes, the economy does – it's impacting everywhere in the world, so first a broad answer to that question is that it impacts everywhere, and in fact has slowed down some of the investments we might have otherwise made. We're continuing to expand our fine writing instruments. We continue to expand our markers and highlighters. We continue to expand our Rubbermaid commercial and our industrial band saw products in new geographies. Those would be probably top of the list.

Mark Rupe – Longbow Research

How about some of the recent acquisitions?

Mark Ketchum

Well the recent acquisitions as you're aware were ones that came with a strong international geographic profile and so yes, obviously the Rubbermaid commercial business includes the technical concept acquisition, which was – already had a large international footprint and we continue to as part of what I referenced when I said we were expanding Rubbermaid commercial. The Aprica is in Japan and then I referenced baby care so yes, those are both the examples that would support that.

Mark Rupe – Longbow Research

So I mean you're still thinking – the thought process is expanding like Africa into other geographic areas as well then?

Mark Ketchum

Exactly, exactly, in the case of Africa into the U.S. and eventually Western Europe as an example, so it's kind of coming in the reverse.

Operator

Our next question comes from Joe Altobello – Oppenheimer & Company

Joe Altobello – Oppenheimer & Company

Thanks. Good morning, guys. Just want to go back to the volume leverage question for a second. This is probably the second or third quarter that we've heard about inventory destocking from a number of companies, including you guys, and it sounds like you're joining the chorus this morning and saying that it's starting to wane a little bit.

Some have even gone so far as to say that inventories at retail in North America are at relatively low levels and you could see a restock whether or not that could happen later this year or early next. And I imagine that's not baked into your guidance, but where do you guys stand in terms of right now inventory levels at retail, and is there a possibility we could see a restock let's say early 2010?

Mark Ketchum

Yes, Joe, as I had said earlier, we do think that most of the destocking at retail is behind us and you're right, we haven't built in any upside from potential restocking but I think that's a possibility. But I'll wait to see it as opposed to predicting it because I think in some categories and some customers there was frankly room to take inventory in the same way that we've – the silver lining in the cloud was as we knew we had to go really attack inventory in order to generate cash.

I think we've learned that we can operate at lower inventory levels and still do so with very good customer service, and I think they may find some of the same. So I'm not going to predict that one yet. But yes, but I will reaffirm what you started with, which is mostly the retail destocking I think is behind us.

We are still seeing though some destocking in our industrial and commercial channels because, as I said, the economy affected them in terms of consumption at a later point and so that's why restocking is still going on in those commercial and industrial channels.

Pat Robinson

As well as internationally, we're still seeing some destocking outside the U.S.

Mark Rupe – Longbow Research

Okay and then secondly, you just hired a person to head a new spot, President of Asia-Pacific. This is a region that you've been relatively underdeveloped in and I guess this sort of follows on to the last question, but what's the opportunity there and how do you – what's sort of the timeframe when you guys feel like you can build up that business to be a real contributor to the bottom line?

Mark Ketchum

Well first to clarify, I didn't hire a new person, Magnus Nicolin was already the President of our EMEA.

Mark Rupe – Longbow Research

Sorry, right.

Mark Ketchum

And so I just added the APAC responsibilities. Look, even though Asia-Pacific is also undergoing a lot of economic challenge probably with the exception of China, in the long run it's clearly a high growth opportunity.

And in the short run even China would be a growth opportunity so the appointment of Magnus I think is a signal that we're devoting a high level strategic resource to put better definition around how to best exploit this opportunity. It's a relatively small percentage of our business today, 5% or 6%, but obviously has the potential to be a lot larger.

And so we're going to take advantage of this current opportunity, meaning the – especially in China where the economy is not as impaired and really try and better define the opportunity and figure out how we can exploit it. It should be a bigger piece to our business, that's all there is to it but I don't have any numbers and I don't want to throw made up numbers at you today.

Operator

Our next question comes from Bill Chappelle – Suntrust Robinson Humphrey.

William Chappelle – Suntrust Robinson Humphrey

Good morning. I just, digging a little further into the strategic spend for the second half, is that equal weighted across all three divisions or is it focused more on kind of the home products. I mean, how should we look at that?

Mark Ketchum

It's not equal weighted. It's focused more on home and family and office products. So while there will be some within the tools, hardware and commercial products specific to a couple of new innovations we're launching in the Rubbermaid commercial business, the majority of that is home and family and office products.

There's also some corporate investments we're going to make, so corporate investments in delayed training, investments in our IT infrastructure and things like that.

William Chappelle – Suntrust Robinson Humphrey

And just trying to understand how much of this is of catch up to get you back to a normalized level of spend and how much of it is really focusing on growth with, I guess, a hope of a rebound next year?

Pat Robinson

We said about half of it was delayed from the front half, okay. And the other half frankly was budgeted or planned in the back half but was available to cut if we didn't have stronger first half as we had. So I think the spend rate in the back half will be comparable certainly to what we did in '07 when we were spending a little over 6%. I think we'll be back to those type of rates in the back half.

William Chappelle – Suntrust Robinson Humphrey

One last, I understand home and family is holding up relatively well. As you look at office products, which you're spending back into, do we see the light at the end of the tunnel there? I mean, by the time we get to the fourth quarter or first quarter next year of it bottoming out or maybe starting to rebound?

Mark Ketchum

Yes, well again if you look at its core reductions, its core reductions are very consistent with the total company, the 7% to 10% range. And so it's kind of looking what I'd call average, and the answer is we do think that that's one of the segments that'll come back faster than some of the others.

Operator

Our last question comes from Linda Bolton Weiser with Caris & Company.

Linda Bolton Weiser – Caris & Company

Hi. Maybe you were talking about this already but can we think about possible acquisitions again in 2010 or is that more a possibility for 2011?

Mark Ketchum

It's probably 2011 or beyond there.

Pat Robinson

Our first goal is to get our credit metrics back in line with the solid, sort of BBB rating, so that's our focus right now with cash.

Operator

And that does conclude our question-and-answer session. We'll now turn the conference over to our hosts for any closing or additional remarks.

Mark Ketchum

I don't think I have any concluding remarks other than to once again thank you for your interest and your support. And talk to you again next quarter.

Operator

Thank you very much. If we were unable to get to your question during this call, please call Newell Rubbermaid Investor Relations at area code 770-418-7662. Today's call will be available on the Web at www.newellrubbermaid.com and on digital replay at 888-203-1112 or area code 719-457-0820 for international callers with a conference code of 6144181, starting two hours following the conclusion of today's call and ending August 14 at 1 pm Eastern Time.

This concludes today's conference. You may now disconnect.

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Source: Newell Rubbermaid Inc. Q2 2009 Earnings Call Transcript

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