NCR Corp. Q3 2009 Earnings Call Transcript

Oct.22.09 | About: NCR Corporation (NCR)

NCR Corp. (NYSE:NCR)

Q3 2009 Earnings Call

October 22, 2009 8:00 am ET

Executives

Gavin Bell – Investor Relations

Bill Nuti – Chief Executive Officer

Tony Massetti – Chief Financial Officer

John Bruno – EVP, Industry Solutions

Robert Fishman – Interim Chief Financial Officer

Analysts

Katie Huberty - Morgan Stanley

Paul Coster – JP Morgan

Reik Read - Robert W. Baird

Kartik Mehta – Northcoast Research

Gil Luria – Wedbush

Matt Summerville – KeyBanc

Operator

Welcome to the NCR Corporation third quarter 2009 earnings conference call. (Operator Instructions) I would now like to turn the call over to Mr. Gavin Bell. Thank you, Sir, you may begin.

Gavin Bell

Good morning everyone and thanks for joining us for our third quarter 2009 earnings call. Bill Nuti, NCR's Chairman and Chief Executive Officer will lead our conference call this morning. After Bill’s opening remarks, John Bruno, Executive Vice President of our Industry Solutions group will update you on progress with respect to certain initiatives. Bob Fishman, NCR’s Interim Chief Financial Officer will then provide comments on NCR’s total company financial results. Tony Massetti is also here with us and will participate in the Q&A session this morning.

Our discussion today includes forecasts and other information that are considered forward-looking statements. While these statements reflect our current outlook, they are subject to a number of risks and uncertainties that could cause actual results to vary materially. These risk factors are described in NCR's periodic filings with the SEC and our annual report to stockholders.

On today's call we will also be discussing certain non-GAAP financial information such as free cash flow and results excluding the impact of pension and other items. Reconciliations of our non-GAAP financial results to our reported and forecasted GAAP results and other information concerning such measures are included on our earnings release and are also available on the Investor page of NCR's website.

A replay of this conference call will be available later today on NCR's website, www.ncr.com. For those listening to the replay of this call, please keep in mind that the information discussed is as of October 22, 2009 and NCR assumes no obligation to update or revise the information included in this conference call whether as a result of new information or future results.

With that, I will now turn the call over to Bill.

Bill Nuti

Good morning and thank you all for joining us today. The macroeconomic environment has been a dominant theme of 2009 and despite emerging signs of recovery this theme will continue through year-end and into 2010.

While the near-term remains challenging and an environment of cautious business spending continues, we enter the last quarter with confidence that 2010 will be a better year for our industry and for our customers. We closely monitored customer buying patterns, spend a considerable amount of time talking with our customers and adjust our business accordingly. As such we feel it is prudent to adjust our expectations for the full-year 2009 for reasons that we will address in greater detail on this call today.

As we have discussed on previous calls we continue to see pockets of solid business activity providing evidence of several market opportunities such as continued early, positive results in some of our new verticals, automated deposit roll outs by major U.S. banks and sustained performance in emerging markets like China and India where we just won the single largest ATM award in that country.

Overall, however, end market capital spending visibility still remains somewhat limited particularly in the retail industry. Therefore, we feel it is responsible to retain a more cautious posture relative to expected near-term performance. We have updated our full-year 2009 guidance and my remarks today will provide additional detail and also give you some early indications of what we see for 2010.

In financial services, while global market conditions continue to be challenging the rapid adoption of intelligent deposit by major U.S. banks continues to be a bright spot for our business. Deposit technology continues to gain momentum and as the financial services market and broader economy begin to recover, overall segments of the banking market will continue to address the competitive advantage that major banks are amassing.

The current weakness we are seeing in mid-sized banks, however, does span throughout western and eastern Europe and several Middle East countries, all of which typically contribute significantly to NCR’s top line. Asia continues to see solid demand with China remaining strong and India beginning to demonstrate signs of renewed growth. Overall, despite the global economic downturn we are pleased with our execution in these areas of opportunity and we are well positioned for a recovery.

Turning to retail, we continue to see significant near-term challenges in this market. Retail did not recover at all in Q3 and in fact worsened from our perspective. New store growth and store refurbishment activity is at an all time low and retailers continue to remain extremely cautious on capital spending. Retailers are closely watching how the upcoming holiday season develops as they think ahead to growth plans in 2010.

At present we believe that 2010 will be a better environment than 2009. However, any potential growth will be building off the weak compare and visibility remains poor. As the market recovers we are well positioned with competitive, leading edge solutions such as our Self Check Out as our customers continue to recognize the positive economic advantages and strong consumer demand for a self-service option.

We are very pleased to announce the completion of our first deployment of Self Check Out in the United States convenience store channel with Quick Check in the third quarter. We have strong convictions about this opportunity in this sector and expect to see many more future rollouts in the large C-store segment. Our retail vertical shows strong future opportunity both within our current installed base and with prospective new customers.

We are staying close to each and every customer as we move through this pause in retail capital investment and taking the opportunity to strengthen our relationships, our service levels and our offerings.

This past year has been the worst economy in 50 years, a challenge that has affected our short-term financial performance but not affected our execution or resolve. In our discussions with investors over the past couple of years we have laid our strategic priorities build around themes of generating profitable revenue growth, building a best in class cost structure and continuing to improve our capital structure.

I would like to take a moment to update you on our accomplishments in the execution against these priorities especially as we continue to build a pipeline that will ensure accelerated business performance as our customers return to the marketplace.

We have chosen to invest in our future during the economic downturn creating profitable revenue opportunities for the years ahead. In addition to continued investments in new products in the traditional financial and retail areas we are moving aggressively into new self-service verticals. Our highest profile initiative is entertainment and we are on target to hit our goal of installing our first 2,500 DVD rental kiosks this year. We are building our pipeline for the remainder of this year and into 2010 and John Bruno will tell you more about that and some other developments in other targeted verticals like travel and gaming as well as notable wins in our traditional financial and retail areas.

Moving from revenue to expenses we have talked with you about the next phase of our efforts to build our industry’s lowest cost structure. We have taken visible actions to streamline our cost structure in the past year. Some were planned and others were executed to respond to the realities of the economic downturn. Our expenses as a result are down 14% year-over-year. We will continue to take actions to size our global workforce most efficiently as evidenced by our decision to reduce our global workforce by an incremental 5-10% by year-end 2009.

We continue to create significant leverage in our cost structure and our future results will benefit from these tangible actions when the business climate improves. Our multi-year cost reduction program remains well on track and we expect to achieve annualized cost reductions of $200-250 million by the end of 2011. These are transformational cost reduction initiatives that will be sustainable in nature.

Our goal is to extend to improvements in organizational alignment that will enable us to mine efficiencies in product design and engineering and in customer services while also driving revenue growth as we learn to better market and sell across verticals. Throughout this past year we have aligned our go-to-market model under the core verticals of financial, retail and hospitality, entertainment, travel and gaming and healthcare.

In the third quarter we took the next step integrating our global services organization into the industry solutions groups. I will ask John to talk a little bit more about how this benefits NCR but suffice it to say that by moving field service closer to industry solutions we will be able to increase revenue, drive improvements in product design and serviceability which will lower our costs and better align services offers to our products and proving our value add to our customers.

At the same time we have taken major steps to realign our manufacturing infrastructure. Before the end of 2009 we will open two new manufacturing plants in Columbus, Georgia and Manaus, Brazil. Both plants will be shipping product in volume in the first quarter of 2010. These are noteworthy accomplishments not just in terms of speed to market but the ability for NCR to improve margins as a result. Both plants, particularly the Brazil facility are margin accretive for NCR.

More importantly, the Brazil initiative provides NCR an opportunity to better compete for business in the third largest ATM market in the world, something we have not been able to do effectively until now. With the move of corporate headquarters to Georgia which is proceeding smoothly and on schedule, NCR will now be able to have engineering, services and operations co-located on a technology campus for the first time since the 1960’s, providing us with an ability to improve product design especially for manufacturability and serviceability. This move also allows us to lower our costs on a pre-tax basis of approximately $90 million from 2011 through 2019.

Lastly, we are cutting the ribbon and opening a world class employee training and development center in Georgia for our field workforce and customers. Investments like these ensure us balancing our cost controls with long-term sustainability and developing the most important part of a successful and lasting company, our people.

The third major strategic initiative is to continue improving our capital structure. We closed the third quarter with a strong balance sheet with $419 million of cash on hand and $11 million of debt. Despite the macroeconomic environment and even with significant investment underway in our business our financial position is improving and is as healthy as it has been in many years. You will continue to see NCR focus on capital structure strategy with the goal to drive high rates of return on capital.

We are entering the last quarter of 2009 with optimism about where NCR will stand ending the year as measured against our strategic goals. I feel good about the execution of our team throughout the company and am confident that NCR is navigating this unprecedented downturn. While the revenue environment will remain challenging and we are adjusting our full year guidance we are setting aggressive fourth quarter performance goals internally and we will push for a strong finish to the year.

We expect revenues in 2009 to decline in a range of 12-14% on a constant currency basis. Based on average exchange rates in September this would translate to the top line being down in a range of 14-16%. We expect non-pension operating income or NPOI to be in a range of $270 million to $290 million for the year which includes the impact of approximately $30 million of investment in the entertainment line of business as previously announced.

We expect earnings per share in a range of $0.45 to $0.55 in 2009 which includes approximately $0.15 of dilution from the entertainment investment. Pension expense is estimated to be $170 million in line with our previous guidance. Our pension cash funding requirement is now expected to be approximately $100 million in 2009 down from the previous estimate of $120 million. I will come back to our efforts on the pension front in just a moment because NCR is playing a leadership role in pension reform.

Our full-year tax rate is expected to be approximately 20% and finally we expect free cash flow to be approximately $10-50 million in 2009 which also includes the impact of the entertainment investment. Bob Fishman will take you through the specifics of the quarter later in the call.

Given our solid execution and the fact we will leverage our structural changes and investments throughout 2009 we are confident we are well positioned for 2010. As we have done in the past we will provide 2010 guidance in conjunction with our Q4 earnings call in late January.

However, our early view is that modest growth is achievable in the low to mid single digit range in 2010 and beyond, a view consistent with our long-term targets. We believe our expense control actions are largely sustainable and therefore we expect margin expansion to result in NPOI growth of at least 10%, also in line with our longer term goals. This is an early look and can change when we speak together again in January but we wanted to provide a framework for what we currently see in 2010 as our visibility is beginning to slightly improve quarter-over-quarter and year-over-year.

Our pension expense for 2010 won’t be calculated until December 31 of this year so it is too early to call the ball. We do, however, have a good sense from the cash side. Our current estimate for cash funding in 2010 is $120-150 million as previously disclosed. We are also actively working in support of legislation currently making its way through the House of Representatives. This legislation will provide timing relief for companies like NCR as we seek to restore our benefit plans to fully funded positions after the downturn.

Earlier this month I testified on behalf of NCR and the American Benefits Council before the House Ways and Means Committee in Washington, D.C. I walked away encouraged that our political leadership across both parties understand the importance of pension reform. It was clear the House Ways and Means Committee understands that our pension obligation is an important issue for workers and companies alike as we make capital allocation decisions that will contribute to investment, jobs and economic recovery.

To wrap up, while early signs of recovery point to a better 2010, NCR will continue to experience a subdued revenue environment through the balance of this year. Strategically it has been a highly productive year, a year like no other from an investment in our future perspective. Based on how far we have come during 2009 we are pleased to be in a position where our longer-term goals remain well in reach as markets recover.

I will now turn the call over to John Bruno to update you in more detail on some of the initiatives I have mentioned earlier and then Bob will review the quarter’s financial results. John?

John Bruno

Thank you Bill. Good morning. As Bill mentioned there is enthusiasm within NCR and our customers given the strategic progress we are making in a number of areas. Starting with the entertainment market we are on track with our plans to deploy more than 2,500 Blockbuster branded kiosks by year-end. We have secured a number of new customers in Q3 such as Big Y grocery chain and the Tedeschi Food Shops convenience store chain, both located in New England.

Through these deals we have deployed Blockbuster branded kiosks and the early returns with respect to our performance metrics are in line with our expectations. During the quarter we also accelerated the deployment of kiosks in Publix Supermarkets and expect complete installation in most Florida area Publix locations by November 1. We are also deploying kiosks in a number of additional markets in Georgia, South Carolina and Alabama for Publix.

We announced earlier this week the launch of our first outdoor DVD rental kiosk. This weather protected outdoor kiosk is the most advanced and highest capacity outdoor DVD rental kiosk in the industry able to hold as many as 950 DVD’s. With this new outdoor kiosk we will be able to expand our deployment of Blockbuster Express branded DVD rental kiosks to more convenience store and smaller footprint locations creating 24-hour automated retail stores.

Beyond the Blockbuster Express deployment the new NCR outdoor kiosk can be used by retailers and operators to automate case rental and package sell through of media titles in a 24-hour outdoor setting. This new solution features the latest self-service technology from NCR including a 19 inch touch screen display that is specifically designed for viewing in direct sunlight. An optional 26 inch LCD screen at the top of this unit can be used as digital signage for inventory promotion or other brand advertising.

Beyond the standard features our new solution is built with the future in mind as its flexible architecture enables us to upgrade units with new technologies when they are ready to be deployed such as digital download of video files. Early successes like these underscore our enthusiasm for the entertainment kiosk industry and also reinforce our strength in delivering self-service solutions across our end markets.

The percentage of movie rental business revenue being captured by rental kiosks is increasing as consumers increasingly demonstrate that value and convenience are the factors in their purchase decision. Beyond our entertainment initiative we saw positive customer developments across all of our end markets, both traditional areas like financial services and new verticals such as travel and healthcare.

Bill mentioned our win with the State Bank of India, 3,800 ATM units plus servicing for this customer which is the largest single ATM contract award we have seen in this market. NCR’s leadership in large, emerging economies like India and China continues and these types of wins will play a significant role in supporting NCR’s performance gains as economic conditions improve.

While retail remains exceptionally challenging we are driving new opportunities with customers like the convenience store Quick Chek which is the first such retailer to pilot self checkout solutions. Looking at newer verticals we are extending our global leadership in airline check in kiosks to curbside as US Airways became the first major airline to install our TouchPort 80 kiosks at the curb at 16 airports.

We also made good progress in rolling out our paperless boarding pass technology underscoring our focus on a multi-channel self service strategy. In healthcare another large hospital has installed our mini kiosk and eClipboard technology at a new outpatient facility which will speed up the patient check in process.

When you take all these developments together you begin to see a picture of NCR as an increasingly critical business partner across multiple industries as we enable businesses to engage with their customers more frequently and more cost effectively whether you are online, using a mobile device at an ATM, at a point of sale or renting a DVD at one of our automated retail stores.

The consumer preference for self-service channels is taking deeper root each day and we are continuing to invest in our technology, our offering and our service capabilities as well. Along with those investments we are evolving our organizational structure to support and drive our market opportunities. Over the course of 2009 we have been in the process of transitioning to a line of business operating model organized under the Industry Solution Group of financial, retail and hospitality, entertainment, travel and gaming and healthcare.

As part of this process we centralized research and development into one team leveraging industry best practice and our next step now includes the integration of NCR’s services into the ISG model. This realignment will unlock a number of growth drivers for NCR and strengthen our organization. Having our product and development and services teams working together side by side will forge a stronger link between the groups and facilitate the development of higher quality products that are easier to service.

The shared voice of our product development and services group will help NCR identify and avoid service design issues and challenges, forging closer relationships with our customers and ensuring that our next generation solutions are designed in a manner that embraces serviceability from the start. We believe these opportunities will serve to accelerate our services revenue through the improved alignment of our solutions and in turn will increase the value proposition of our offerings and make them easier to sell.

With that I will hand it back to Bill.

Bill Nuti

Thank you John. I am going to ask Bob Fishman to take you through the Q3 financial results here in more detail in a moment but as you all know we announced a couple of weeks ago that Tony Massetti is leaving NCR to take another CFO position. This is Tony’s last call with us and I would like to take this opportunity to thank him for contribution to NCR during his tenure. Tony played a key role in uncertain economic times and throughout this phase of NCR’s transformation. We wish Tony the best in his future endeavors.

Having a strong bench of talent is critical in any company and any organization and we are very confident in the strength and depth of this finance organization. NCR has a great history of organizational strength in finance and I have no doubt in our finance team’s ability to ensure a seamless transition. Many of the senior folks here including Bob Fishman have been working on a multi-phase, cost structure improvement program for several years. This work will continue uninterrupted as we conduct the search for the next CFO of NCR.

As we stated at the beginning of the call Tony is here with us today and will participate in the Q&A session with us as well.

With that I will hand it over to Bob. Bob?

Robert Fishman

Thanks Bill. I appreciate your support and also echo your comments about the strong NCR finance team. Let me get right into the numbers for the third quarter. NCR’s total revenue from continuing operations for the quarter was $1.14 billion down 18% versus Q3 2008. This includes a one point negative impact from currency translation.

We reported GAAP income from continuing operations of $15 million or $0.09 per diluted share. This compares to GAAP income from continuing ops of $82 million or $0.49 per diluted share in Q3 2008. NCR’s results from continuing operations include special items in both periods. In Q3 2009 there were two items; a $17 million impairment charge related to our e-Play investment and a $6 million litigation charge. These two items totaled $15 million after tax or $0.10 per diluted share.

In Q3 2008 there was a charge for organizational realignment activities of $10 million or $0.06 per diluted share. Excluding these items non-GAAP diluted income per share was $0.19 per share in Q3 2009 versus earnings of $0.55 per diluted share in Q3 2008. Pension expense was $41 million in Q3 2009 compared to $5 million in Q3 2008.

To analyze NCR’s operational performance without the effect of special items and pension expense please see the supplemental financial schedule included in our earnings press release that reconciles our GAAP to non-GAAP results. The following comments up to NPOI exclude the impact of special items and pension expense.

Our Q3 2009 gross margin was 21.8% compared to 23.5% in the prior year period as lower product sales and unfavorable mix offset the benefits from our manufacturing realignment and successful implementation of cost reduction initiatives. Operating expenses excluding pension expense and special items were down 14% or $30 million versus Q3 2008 as a direct result of our sharp focus on optimizing our cost structure in the face of a challenging end market environment.

Total company non-GAAP income from operations or NPOI was $70 million in the third quarter compared to $117 million in last year’s Q3. Income tax represented a benefit of $12 million on a GAAP basis in the third quarter compared to income tax expense of $17 million in Q3 2008. The income tax benefit in the third quarter of 2009 was due to the closure of certain audits and tax years in various jurisdictions. NCR expects its full year 2009 effective tax rate to be approximately 20%.

Turning to the balance sheet, cash on hand at September 30, 2009 was $419 million with long-term debt of just $11 million at the end of the quarter. Approximately $26 million of board authorization remained under our current share repurchase plan with an additional $8 million available under the dilution offset program.

Moving to the cash flow statement, NCR generated $51 million of cash from operating activities in Q3 2009 versus $157 million in the prior-year period. Capital expenditures totaled $53 million in Q3 2009 compared to $37 million in prior year and that is primarily due to investments in the entertainment industry.

NCR generated negative free cash flow of $2 million as we were impacted by lower profitability and larger working capital improvements in the prior year period. NCR defines free cash flow from operations less capital expenditures from property, plant and equipment and additions to capitalized software. We continue to deliver good performance with our working capital.

Now I will turn the call back over to Bill for closing comments.

Bill Nuti

Thank you Bob. In challenging times like 2009 where end markets experienced seismic shifts in their business outlooks leaders must balance short-term tactics with long-term strategy and manage each fiscal quarter as if it were a fiscal year. That acute focus while difficult also sharpens a company’s execution and strengthens its strategic resolve.

Companies that adjust to the market and test their strategy and execution capabilities emerge better and stronger than those that don’t. That has been the premise by which we lead NCR. We remain vigilant and executed well on our plans to transform this company. We have taken proactive measures to invest across the company in product development in new industries and emerging markets, in manufacturing and in employee development and productivity. We have not wavered from our plans to consolidate disparate locations and create new centers of excellence.

It would have been easy to not make these investments and postpone our transformation but we feel very strongly that the time to make ourselves strategically more efficient versus tactically more efficient is now. We remain confident in our conviction these investments will pay significant dividends in the years to come.

NCR’s vision is to lead the global self-service movement now and into the future and we will as we are in more industries, more countries, have touched more consumers can have more domain knowledge of multi-industry self-service than any other company. We believe that our future is as a software driven, hardware enabled and services led company. The barrier of entry for others to achieve this vision is extremely high and we intend to capitalize on our competitive differentiation.

In the last few days you have likely withdrawn cash at one of our ATM’s, checked in for a flight at one of our airline kiosks, checked into a hotel at one of our hotel kiosks, checked out of a supermarket at one of our self-service checkout systems or rented a DVD from one of our entertainment kiosks. If so, you have experienced our technology expertise and understand that our future business is growing across multiple verticals.

The new NCR is a company who has broadened our reach into not just new verticals but also new application areas such as online self service and multi-channel mobile self service. When we wrap up 2009 we will be able to say we controlled what we could given this extraordinary downturn and executed well from an operational perspective. We were able to move much closer to the operating structure that will enable us to realize our vision and do so at a lower cost to serve our markets and our customers.

All of our investments are setting the company up to emerge much stronger as the global economy recovers. We are working hard to finish 2009 strong and are now turning our focus to the programs that will allow us to get off to a quick start in 2010.

Thank you for your time and I would now like to open the call to your questions.

Question-and-Answer Session

Operator

(Operator Instructions) The first question comes from the line of Katie Huberty - Morgan Stanley.

Katie Huberty - Morgan Stanley

What do you think caused the slight pause in ATM spending this quarter versus what you saw in June?

Bill Nuti

ATM spending or the financial vertical was actually better sequentially for the company. In fact it was our second quarter in a row of improved sequential performance meaning the declines are still there but they got better. The pause in spending that we saw in Q3 that was most prominent was in retail. Retail actually got sequentially worse. So while we have seen financial services get better Q2 over Q1, Q3 over Q2, and by the way we expect it to be significantly better financial services in Q4 over Q3, retail got incrementally worse and probably cost us in the range of $60 million of revenue in the quarter.

Let me give you a statistic, if retail were just flat on a year-over-year basis with Q2 in terms of year-over-year growth we would have had $60 million more of revenue in Q3 but it actually worsened in Q3 and that was the big driver to the top line being down further than we expected.

Katie Huberty - Morgan Stanley

How would you compare the rate of orders in the month of October versus what you saw in July at the start of the September quarter?

Bill Nuti

The order story is a good story for us. Again, Q4 will be our third quarter in a row of sequential order growth. Orders in Q4 are likely to be close to $100 million higher than they were in Q1. We saw good traction in orders which have resulted by the way as well in our backlog for the first time in a long time now being a $1 billion backlog. We haven’t seen that since last year. The order story is a better story than the revenue story and it helped us to build a stronger backlog.

Katie Huberty - Morgan Stanley

Lastly, any update on when you think the DVD kiosk business can get to break even?

John Bruno

In alignment with our plan, as we get out of our run rate in 2011 that is when we focusing on getting the business towards profitability. So on a run rate basis late 2011.

Operator

The next question comes from the line of Paul Coster – JP Morgan.

Paul Coster – JP Morgan

We have been doing some work on the major national banks domestically and their deployment of deposit taking ATM’s and it feels like we are in the peak deployment phase for at least a couple of them and by mid 2010 they will have completed their upgrade cycle. Do you concur with that? Does that introduce any kind of risk to the 2010 numbers?

Bill Nuti

We are confident that deployment of deposit in the major U.S. banks will continue through 2010. We should see some significant movement in the mid sized banks as well in 2010 and really the beginnings of that segment of the market rolling out deposit taking ATM’s. You are also going to see deposit or intelligent deposit solutions begin to broaden outside the U.S. and into other markets, particularly Brazil and India, but generally speaking in the U.S. I think you are right. I think 2010 per se is probably going to be the peak year for deployment with some hangover in 2011 and then I think the regional banks take over at some point in 2010 into 2011 and then you are going to see some international markets kick in 2011 and 2012.

Paul Coster – JP Morgan

Obviously you have been in dialogue with the regionals. What are their business rationale? Is it efficiency? Customer loyalty? If you were able to prioritize could you just give us a sense of what those priorities are?

Bill Nuti

It is interesting, I have spent a lot of time just this past week with regionals traveling around the U.S. I would say the level of interest is significantly heightened and the reason being they are recognizing the competitive advantage that some of the large nationals now have in their footprint and the need to move more quickly on deposit taking ATM’s. The decision criteria for them is relatively simple. Certainly productivity is number one on their list because they are so focused on capital efficiency. It clearly has proven to be a technology that has a brilliant return on investment.

Secondarily, consumer convenience. Consumers have now become trained in the market place to utilize ATM’s for intelligent deposit taking and if you are not providing that service you are actually at risk of maintaining and/or acquiring new customers in the marketplace.

Thirdly, as I just mentioned it is strictly to keep pace with some of their larger competitors in the market.

Paul Coster – JP Morgan

In the last downturn of less magnitude than this some of the technology companies had a problem coming out of the slowdown owing to a large market of refurbished equipment. To what extent is that a challenge for you?

Bill Nuti

The only place we have seen it and it really has been I would say immaterial to date has been in retail. In the retail space I have had a few customers talk to us about the fact they are willing to take a look at refurbished point of sale terminals as opposed to buying new. Of course we have programs we can offer in that space but it has been I would say relatively muted. I have not seen anything like what we saw in 2001 when I was at Cisco and there was a rash of what I would call after market availability of routers and switches.

Differently in this particular case, these devices typically are amortized over a much longer period of time so when they get old they get old quickly and certainly driven by the size of the applications they are supporting. I don’t think we are going to see it in the financial services space. I certainly haven’t seen it in financial services. We might see an effect in retail albeit I think it is going to be small.

Paul Coster – JP Morgan

Being new to the story, the $200-250 million in savings by the end of 2011 what was the baseline for that?

John Bruno

2008 spending.

Bill Nuti

Yes. 2008 spending. The baseline year you mean?

Paul Coster – JP Morgan

Yes.

Bill Nuti

2008.

Operator

The next question comes from the line of Reik Read - Robert W. Baird.

Reik Read - Robert W. Baird

Just to follow-up on that last question and maybe you answered this but I want to make sure. In retail with stores having shut down and therefore excess equipment perhaps coming into the marketplace have you seen a risk or any incidence of cannibalizing those parts to allow existing equipment to run longer or simply replacing worn out equipment with some of that equipment that comes from a closed operation?

Bill Nuti

This year we have. What has happened this year and the impact since Q1 on our retail business to some degree has been where our customers have been closing stores they redeploy what is in place if the technology is new. What you are going to find is that most of the stores that have closed typically have very old technology so the ability to redeploy that technology is less available to them. They typically don’t close newer stores. They typically go and close older stores and what you are going to find is the technology has probably been in place for maybe 5, 10 and in some cases longer numbers of years.

So while in some cases where retailers have closed more new stores they can redeploy that technology and we have seen some of that. Most of the closures have been for older footprints and therefore not usable. The interesting data point will be what happens in 2010. In my discussions with customers right now I would say you are going to see an incrementally better year on refurbishments, a slightly better year on new store openings and less in the way of bankruptcies in retail than we saw in 2009.

Reik Read - Robert W. Baird

Just to go back to kind of that excess equipment floating out there. Is that a situation where you think most of that has kind of run its course and now people have to think about what they want to do next?

Bill Nuti

I would say whatever is out there will probably flush through in the next quarter or two in the marketplace. We saw a lot of that going on in Q1, Q2 and Q3. I would say Q4 and Q1 you will see what is left in the market flush through. Again it is newer technology that will flush through. The older technology they simply just have already written down and they scrap. I think in the latter part of next year, Q2 and beyond, you will begin to see a ramp up albeit moderate in new technology spending because you will see greater investment in refurbishments and greater investment albeit moderate year-over-year in new store openings.

Reik Read - Robert W. Baird

Can you just talk about the state of the equipment out there? I guess I look at it from the standpoint that the last meaningful upgrade seemed to occur in 2003 and 2004. Typically you get 5-6 years in between upgrades. There was a blip in 2007 which probably made the equipment base a little bit more new than you would see. But it seems like you are getting to that point where either people need to refurbish or they need to start buying new. Maybe that is not correct. I would just like to get your view on that.

Bill Nuti

I would say two things. One is in direct reference to your question on the ability to redeploy. The trend in point of sale is towards thicker, more robust applications at the point of sale. Point of sale, for example, extending from simply transactions and tendering to promotions and offers and the capability to drive personalization at the point of sale and greater payments capability. More flexible payment options.

So as applications get more complex at the front end you need a stronger computer at the front end to run those applications. One driver of our business has simply been the thickness and complexity of the point of sale application and how much retailers are adding to that application. CRM is the big driver.

Secondly, I would say as you look out in terms of upgrade cycles my forecast today is that you are going to see RFP’s hit the street some time in 2010 and we are looking for another upgrade cycle to start in 2011. Could it start earlier? It could because you are right. The age of some of this equipment is significant. However, I do think retailers will continue to be very cautious in 2010 and hence what we are already seeing is a lot of activity on help us figure out what our needs are because at some point in 2010 we want to make a decision on what the future platform will be for greater rollout in 2011 and 2012.

Operator

The next question comes from the line of Kartik Mehta – Northcoast Research.

Kartik Mehta – Northcoast Research

I wanted to ask you a little bit about the ATM and retail business. You said that retail cost about $60 million in revenues this year. For right now I am assuming that is mostly U.S. If that is true would that imply the ATM business is probably only down low single digits this quarter?

Bill Nuti

I want to clarify my point I made earlier. Hopefully it was clear. I think retail cost us $60 million-ish in revenue in Q3. The simple math I am giving you on this is if we just had been down on a year-over-year basis in Q3 at the same percentage we were down in Q2 we would have gotten back about $60 million in revenue. We saw an incrementally more difficult quarter for retail in Q3. That is one piece of the puzzle. That was a big driver to our revenue difficulties in the quarter.

What I said about financial services is it has incremental improved in Q2 over Q1 and Q3 over Q2. It is still down in the double digits but it is incrementally better. Financial services will get much more healthy in Q4 for us. Candidly as I look out into 2010 I am anticipating we will probably see growth in financial services in Q1.

So we are seeing a much better story for financial services and I remain because of the Q3 issue much more cautious on our top line albeit lower margin top line, I remain cautious on it and on the first quarter of next year. So there is no question retail is our top challenge and there is no question financial services has quickly gotten better for the company.

Kartik Mehta – Northcoast Research

Another point you made and I want to make sure I understand is you talked about the automated deposit rollout especially for regional banks in the U.S. and potentially for Brazil and India. I am wondering what you are basing those comments on. Have you seen more pilots? Are you possibly seeing orders? What gives you the confidence we will see that deployment in 2010 or some time in 2010?

Bill Nuti

Simply meeting with customers. I don’t think in overseas markets you will see deployments in deposit in 2010. I am confident though that you will see deployments in overseas markets starting in 2011 and certainly 2012. As an example, I spent a lot of time in Brazil. Brazil today processes over 300 million checks a month. So you are talking about a massive market place for intelligent deposit and I know they are working on in Brazil intelligent deposit in the back end environment today.

In the U.S. market for nationals my comments were again related to spending a lot of time with our regional customers. Certainly there was a pause in 2009. We expected much greater pick up in deposit in 2009 when we were thinking about deposit in 2007 and 2008 before the economic crisis hit. Subsequent to the economic crisis most regionals clamped down fairly hard on capital spending and paused in this particular space for investment while their larger competitors have been moving aggressively into their footprint with deposit taking ATM’s.

This has now woken up the regionals to some degree and in my conversations with regionals I am hearing a lot more optimistic, if you will, points of view about the importance of deposit going into 2011. We are also seeing more business in that space.

Kartik Mehta – Northcoast Research

Could you talk about maybe what the working capital impact is going to be with changing of facilities? Obviously you have given some guidance for 2010 and I am just wondering what you anticipate working capital doing in 2010 as it relates to free cash flow.

Bill Nuti

It is diminimous right now. I think to some degree I want to make sure that we demystify this myth that is out there that the move to Georgia is going to be a capital intensive move. It is not. It is not the big driver. The big driver of 2010 capital spending will be entertainment. That is the big driver. To be very candid with you while we are not giving the specifics of our agreement with the state of Georgia, as I mentioned in my script I want to make this very clear. This is a very accretive transaction for the shareholder. NCR on a pre-tax basis will realize $90 million in savings from 2011 to 2019 spread over those years. We were also provided significant capital spending benefits as a result of this.

As an example, we are not paying a dime for our manufacturing plant in Columbus, Georgia. The state is paying fully for that investment for NCR.

Kartik Mehta – Northcoast Research

So conversely do you think there is an opportunity for working capital improvement going into 2010 as a result that is a positive to free cash flow?

Bill Nuti

Too early to say. Let us come back to you on that in the January timeframe. We have a lot of moving parts. Candidly, if we could we would like to actually accelerate the investment in entertainment. This is a market that is starting to show itself as an extremely promising, very large opportunity for the company and speed to market is critical in our ability to drive both revenue growth and profit growth so that we can more quickly get this business to a profitable run rate and hopefully we can do that at the end of 2010.

Kartik Mehta – Northcoast Research

Your thoughts on what is happening in the pricing environment for ATM’s worldwide?

Bill Nuti

No difference. No change quarter-over-quarter. Again this is another subject that I think requires a little more perspective because I know that at least one of my industry peers and I are in complete agreement about the pricing environment. Let me just say it this way, the mix of all of the industry business has changed in the last year meaning we are all as an industry selling to fewer, larger customers. When you take out that midsized bank market whether it is in the U.S. or in Russia, you take out a portion of the customer base that is typically higher margin and as a result pricing is much more of a favorable environment.

So when you are only selling, not only but mostly selling to large banks who have always typically gotten better pricing because of the size and the volume of the business you can conclude that the pricing environment has changed. It has not. Pricing to those large banks has not been any different in terms of year-over-year declines than it has been in the last several years. The difference is we are all selling to fewer of those midsized banks where pricing has typically been less of an issue.

Now as I said before, pricing in the emerging markets, the growth markets, has been and continues to be more sensitive in those market places. Again, my commentary is it is no different than it has been in prior quarters where those markets have always been more of a [nice flight] so to speak on a daily basis for business. I think very responsible as well.

Operator

The next question comes from the line of Gil Luria – Wedbush.

Gil Luria – Wedbush

On the DVD business it sounds like your goal for 2,500 by the end of the year is still there. Should we expect the goal of 10,000 by the middle of next year to still be there? Longer term, 30,000 in 3-5 years? Also some equipment purchases and equipment rollouts in the second half of next year?

John Bruno

Yes. Our plan is still on track. Based on the ramp we need to attain the numbers that I told you about for this year and we are meeting our expectations there which does take us through middle to end of next year on our total target of 10,000 so yes you would continue to see incremental CapEx investments in that business as we ramp throughout 2010.

Gil Luria – Wedbush

So by the middle or the end of 2010?

John Bruno

Right now it is second half. That is where. It is really difficult to tell on the locations because the placements take the time of the contracts so we are targeting it in the second half so we would not have 10,000 at a run rate basis on the first day of the second half. It would be throughout the second half.

Gil Luria – Wedbush

So in terms of free cash flow for 2010 we know that the $120-150 million for pensions, given what you said and what Red Box has said about the cost of one of these DVD kiosks that is at least $75-90 million of capital expenditures on that business next year. More if you decide to accelerate or roll out more than 10,000 by the end of next year. Should we expect negative free cash flow for 2010 now?

Bill Nuti

We will come back to you in January on the outlook for free cash flow. The goal isn’t negative free cash flow for 2010. Let me be clear on that. So I don’t think you are going to see negative free cash flow next year.

Gil Luria – Wedbush

In terms of the organization I think a couple of years ago you transitioned to more of a geographically aligned organization and the discussion today is more about aligning by businesses. A couple of years ago you did that. You moved to reporting by geography. Now with a little more business unit realignment can we expect you to start reporting again at a business unit level also? So by the verticals that you spoke of?

Robert Fishman

It is obviously not inconceivable to see us changing our reporting in the future. We have a lot of work to do between now and reporting externally. We have to obviously align all of our management reporting, produce historical data in that same format, so I agree with your thought process. It is just we are not anywhere near there today.

Gil Luria – Wedbush

On the ATM business, do you see more of an opportunity in managed services especially with the U.S. regionals and if so what does that mean for the length of the sales cycle?

Bill Nuti

Managed services business is doing well. We do see more opportunity going forward in managed services both in and outside of the U.S. Typically it would be with the regionals. Sales cycles in that space are similar to sales cycles that you see in the hardware space. I don’t think the length of time is any more or less than that. We would welcome more managed service business because of the annuity base and margins it brings to the company. We continue to create greater offers in that space and new offers in that space.

In fact in 2010 we have several new offers coming to market in services that we actually hope drives substantial market share improvements for the company in the managed services space. I don’t think you should expect a longer sales cycle than we would typically see in hardware.

Operator

The next question comes from the line of Matt Summerville – KeyBanc.

Matt Summerville – KeyBanc

In your prepared remarks you didn’t provide an update on the final programs you have with the e-Play machines at WalMart and Best Buy. I was hoping to get an update there as well as whether or not you have been successful in getting any other major pilots out there? Then just more broadly on that business you talk a lot about what you are doing domestically. What is your national strategy for medium entertainment?

Bill Nuti

Two great questions. I did not give that update. I should have. We are still focused on the two customers that you mentioned. The whole buy/sell/trade space on gaming remains to be a very large market opportunity in this industry. It has yet to be an industry from a business model perspective that has seen wide spread adoption for the kiosk channel. So as we look at bare disk technology and buy/sell/trade we are staying focused on those two accounts right now to make sure we work very closely with the retailers and we understand how to drive proper revenue and margins within the machine.

It is within our business plan and we are pleased with the results we have seen so far. Our customers like the model itself but we both want to see how it is that we drive the types of revenue contributions that we want to see from those machines before we start rolling them out more broadly. It is a purposeful, controlled pilot for that area but it is an area of focus for us. We remain committed to it and we continue to invest in it both on the software and the hardware platform side because the design of the machines themselves are very different than the pure play rental machine we discussed in my prepared remarks.

On the international side, absolutely. We continue to work right now. We have controlled pilots outside the United States in both Asia and in Europe and we are doing the same types of things that I just mentioned with regard to the e-Play machines. Because the market is slightly different, consumer adoption is slightly different and so is also the way in which you build your revenue model and your rev share model as you go into these markets. So controlled pilots remains the focus for us in the second half of this year which is right now with a plan to deploy in those markets next year. That is part of our overall deployment strategy.

Matt Summerville – KeyBanc

You mentioned in your prepared remarks and also in the press release it was there that NCR is planning on doing another reduction in force somewhere in the range of 5-10%. I would assume that is the current employment base because you have been gradually I think laying people off throughout the year. I guess given we might be near somewhat of an inflection point in your two hardware centric businesses, I guess I am curious as to why do the additional layoff now. You would think your employment level would kind of be flattening out.

Bill Nuti

Largely around productivity. We are just on a productivity per head basis not where we need to be in the marketplace and in the industry. We want to get back to productivity per head levels we experienced in 2007 and 2008 whether it is revenue per head, profit per head or gross margin per head on that basis. So while we have used a scalpel versus an axe and will continue to reduce headcount it is really in the vein of improving our productivity and our efficiency for the company.

Candidly, we also believe that we can do a better job internally on spends, layers and on becoming a bit less bureaucratic as we go into 2010 and candidly as well every single year we should be doing a bottom five program in this company and taking out the bottom performers in NCR. This is not unusual for us and we are going to continue to do it. Some of those headcount amounts may very well be added back of the 5-10% over time but we have to get much more disciplined on taking the bottom five out of the company.

Matt Summerville – KeyBanc

Would these individuals tend to be not customer facing or part of the broader service organization and have their feet on the street?

Bill Nuti

These would tend to be not customer facing. That doesn’t mean we aren’t going to rotate customer facing. As an example, we may go after the bottom five in customer facing roles and give those teams an opportunity to rehire so that we upgrade the team. In non-customer facing roles we will take those positions out permanently.

Matt Summerville – KeyBanc

I was a little confused with the order and backlog comments you made. Can you just sort of go through that again, third quarter as far as what you expect in Q4 and how the backlog is evolving here?

Bill Nuti

Sure. What I said was that Q2 orders were sequentially better than Q1 quarter-over-quarter. Q3 orders were sequentially better than Q2 and we expect Q4 orders to be sequentially better than Q3 so that would be the third quarter in a row of sequential order growth. The order growth that we had in Q3 when Katie asked the question she asked about the last month of the quarter. It was a good month for us. It enabled us to get our backlog to $1 billion for the first time in a year plus.

Matt Summerville – KeyBanc

And that is total backlog?

Bill Nuti

That is total backlog. We have been in the $900 million to $1 billion in backlog for the last several quarters. The $1 billion backlog number is an important number for the company. When we were growing double digits and high single digits for a few years on a quarter-over-quarter basis our backlog was typically over $1.1 billion or $1.150 billion. Our goal is to get back to that kind of volume level in the backlog because we know what it means to our business. The fact that orders are improving sequentially, they will be close to $100 million better in Q4 than they were in Q1 and it is a positive sign.

Matt Summerville – KeyBanc

Do you think based on what you see right now and the conversations you are having with customers could you see a positive order comparison in Q4 relative to 4Q08? Are we still a little ways away before we see the year-over-year positive order comps?

Bill Nuti

Probably if I had to make a bet today we will probably be down around 7% or so year-over-year in Q4. It is probably in that range. A lot better than year-over-year in Q3 and Q2. So it is getting a lot smaller. I do anticipate right now Q1 will be probably our first positive order growth quarter. So the declines have gotten much smaller, rapidly here in the last several quarters and I am optimistic we move to growth in orders in Q1.

Matt Summerville – KeyBanc

Based on how, I know there is a tremendous amount of math and moving parts that go into this, you referenced pension earlier. If the year were to stop today some sort of sense for what pension expense might look like given the interest rates? I know this is something you are probably calculating on a daily basis and I am not asking you to be specific but maybe a down zero to 25? Or down 25-50? Is there some sort of number you can throw out there?

Bill Nuti

Sure. What I can tell you because we don’t mark to market and you can’t mark to market on these funds. You use your 12/31 end date and it will be slightly higher than it is this year. That is what we know right now. But again I am hesitant to give any guidance on what we know today because the world can change in the next 60 days and all of a sudden we are going to be wrong. Right now it would be higher in my view.

Operator

At this time I will turn the call back over to the speakers.

Bill Nuti

Thank you all very much for joining us today. We appreciate your time and we look forward to talking to you again throughout the quarter and also again in January.

Operator

This does conclude today’s conference. We thank you for your participation. At this time you may disconnect your lines.

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