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Tyco International Ltd. (NYSE:TYC)

F4Q09 Earnings Call

November 10, 2009 8:30 am ET

Executives

Ed Arditte - Senior Vice President Strategy, Investor Relations

Ed Breen - Chairman and Chief Executive Officer

Chris Coughlin - Chief Financial Officer,

Analysts

Scott Davis – Morgan Stanley

Jeff Sprague – Citigroup

John Inch – Merrill Lynch

Steven Winoker – Sanford Bernstein

Deane Dray – FBR Capital Markets

Nigel Coe – Deutsche Bank

Shannon O'Callaghan – Barclays Capital

Terry Darling – Goldman Sachs

Steve Tusa – JP Morgan

Operator

(Operator Instructions) I would now like to turn the meeting over to your host, Mr. Ed Arditte.

Ed Arditte

Thanks for joining our conference call to discuss Tyco’s fourth quarter results for fiscal year 2009 and the press release issued earlier this morning. With me today are Tyco’s Chairman and Chief Executive Officer, Ed Breen and our Chief Financial Officer, Chris Coughlin.

Let me remind you that during the course of the call we will be providing certain forward looking information. We ask you to look at today’s press release and read through the forward looking cautionary informational statements that we’ve included there. In addition we will use certain non-GAAP measures in our discussions and we ask you to read through the sections of our press release that address the use of these items. The press release issued this morning and all related tables, as well as the conference call slides, can be found on the Investor Relations portion of our website at www.tyco.com.

Now, let me quickly recap this quarter’s financial results.. Revenue in the fourth quarter was $4.4 billion which represented a 12% organic revenue decline. Earnings per share from continuing operations were $0.44 and included $0.17 related to special items. Earnings per share from continuing operations before special items was $0.61 and this compared to our previous guidance of $0.50 to $0.53.

Compared to the street consensus of $0.54 our operations were better by $0.13 driven by solid operating performance in each of our businesses. The net impact of higher corporate expense and below the line items cost us $0.06 per share.

With that, let me turn the call over to Ed Breen for some opening comments.

Ed Breen

Although 2009 will be remembered as a year of significant challenges I am pleased with both our operating performance in this economic environment, and how we have positioned ourselves for the future. Before I get into our results for the quarter I want to spend a few minutes reviewing our key areas of operational focus in 2009.

First, given the environment, cost management became our top priority. As the economy weakened we quickly responded with additional restructuring actions to reduce our cost structure. Throughout the year we were very active in executing these plans which resulted in charges of about $250 million. These actions, which should provide incremental savings of $175 million in 2010 included staffing reductions as well as the consolidation of both back office operations and manufacturing facilities.

In addition to the restructuring actions we launched various other cost containment initiatives which reduced our operating expenses in 2009, helping to partially offset the revenue decline. The benefits from these efforts are reflected in our operating margin. While our operating margin before special items declined 170 basis points year over year, this was primarily driven by the weaker results in Electrical and Metal products. The operating margin for the rest of the company remained similar to last year despite a $3 billion decline in revenue.

Next, we continued to invest in our businesses for long term growth. First, our large and growing service revenue base has provided stability and consistency to our performance in 2009 and now represents about 40% of our total revenue. A significant portion of our service revenue is contractual recurring revenue in ADT which grew 4% organically for the year with growth across all geographic regions.

Second, we continued to invest capital to grow our company, targeting recurring revenue in ADT. In 2009 we increased our capital and dealer spending level over the prior year and coupled with the early stages of a multi-year ramp up in our residential sales force in ADT we grew our count base by 3%.

Next, we continued to devote additional engineering headcount to our R&D efforts. We recently launched a wireless electronic security control panel which provides secure wireless communication between the panel and all elements of a residential home security system. Additionally, we recently developed an emergency management system for monitoring emergency personnel on the scene of a fire. This technology not only allows site commanders to monitor those on scene but monitors air tank pressure and sends out an evacuation alert if danger becomes imminent.

In addition, our R&D centers in Shanghai and Bangalore are focused on developing products tailored to meet both the needs and cost considerations of local markets. In addition, the emerging markets have grown nicely over the past several years and although growth did moderate in 2009 the infrastructure build out in these regions over the last few years has allowed to strengthen our global footprint while providing revenue and earnings diversification. We currently operate or sell in over 40 emerging market countries which account for approximately 15% of our total revenue.

Lastly, our strong operational focus and execution allowed us to finish 2009 with a stronger balance sheet then when the year began. During the year we actively managed our working capital, keeping our days flat year over year, despite the revenue decline. Additionally, we made significant progress in settling most of our remaining legacy legal matters. We ended the year with $2.4 billion of cash which provides us with the financial flexibility to execute on our strategy.

Our priorities for using cash are clear:

Investing in organic growth initiatives.

Funding productivity improvements in our businesses.

Making acquisitions.

Returning capital to shareholders.

Now let me give you a quick overview of our results in the quarter for each of our businesses. Starting with ADT our performance in the quarter exceeded expectations on both the top line and operating income. Organic revenue was similar to the third quarter with growth in recurring revenue helping to partially offset declines in our product and systems installation revenue.

We also saw continued improvement in our operating margin both sequentially and year over year as growth in the higher margin recurring revenue base, coupled with the benefits of cost containment initiatives and restructuring activities more then offset the decline in volume. The attrition rate remained flat with the third quarter and account growth and ARPU continued their positive trend.

Next, Flow Control did somewhat better then expected on the revenue line while the operating margin exceeded our expectations by a full margin point. Improved productivity and cost containment initiatives allowed us to increase the operating margin in the quarter both sequentially and year over year.

Turning to Fire, we continue to focus on increasing our service revenue which is now about half of Fire’s total revenue. The summer seasonality of our service work as well as the additional benefits from restructuring and cost containment initiatives resulted in a better then expected operating margin in the quarter.

In Safety Products the revenue line remained consistent with the prior quarter. However, a sequential shift in product mix, coupled with cost savings, resulted in a stronger then expected operating margin.

Finally, Electrical and Metal products returned to profitability in the quarter. Although steel volume was flat with the prior quarter the improvement in steel spreads resulted in better then expected operating margins.

Now let me turn the call over to Chris to discuss our operating results in some more detail.

Chris Coughlin

Let me start in talking about ADT Worldwide. Revenue of $1.8 billion declined 5% organically as the 4% growth in recurring revenue was more then offset by a 14% organic revenue decline in systems installation and service. Recurring revenue, which represents more then half of ADT total revenue continues to be resilient in this environment. However, systems installation and service revenue continued to be impacted by the weaker economy.

Despite pressure on the top line the operating margin before special items in the quarter of 14.3% improved 160 basis points over the prior year and the full year operating margin before special items improved 70 basis points to 13.6%. Cost containment actions and restructuring activities coupled with growth in our higher margin recurring revenue business more then offset volume headwinds resulting in year over year operating margin improvement.

From a regional perspective within ADT our US residential business grew its recurring revenue 6% organically in the quarter and the operating margin before special items improved nicely over the prior year. We continued to be opportunistic in this area with a focus on growing our recurring revenue which currently represents more then 85% of our residential business.

On a year over year basis we have added headcount to our internal sales force and increased our dealer spend generating account growth of almost 5% and an increase in our average revenue per user of 3%. Additionally, our residential attrition rate improved 20 basis points to 13.4% on a quarter sequential basis.

Turning now to our US commercial business, the revenue mix is quite different with 40% recurring revenue the remaining 60% is related to systems installation and service. Organically revenue declined about 13% as our commercial end markets continued to impacted by the economic downturn. However, the operating margin before special items improved year over year as the benefits of restructuring and cost containment initiatives have offset the volume decline. Orders remain flat with the prior quarter as did the attrition rate at 14.1%.

Moving on to Europe/Middle East/Africa organic revenue declined 10%, however, the benefits of our restructuring actions are taking hold and the operating margin before special items improved almost three percentage points over the prior quarter to a seasonally strong 7.4%. In other regions around the world we are predominantly commercial and organic revenue grew 5% with year over year operating margin improvement. The operating margin before special items for those regions was in the low teens.

From a global perspective we continue to see positive traction in all of our key metrics. Our account base grew 3% year over year and excluding the impact of foreign currency our average revenue per user grew 1% to $46.23. Additionally, attrition held steady at 13.4%.

Now let me turn to Flow Control which had revenue in the quarter of $1 billion with a 10% organic revenue decline. Valves decline 7%, water declined 17%, and thermal controls declined 12%, as softness in the global economy impacted capital spending. Before special items, operating income was $141 million and the operating margin was 14%.

Year over year, the operating margin before special items improved 40 basis points despite the volume headwind as we continue to drive our cost management initiatives and restructuring actions. For the full year, the operating margin before special items remained flat with 2008 at 14.3% despite a $568 million revenue decline. This results from the actions we took throughout the year to address our cost structure.

Excluding currencies, order rates declined 18% year over year but grew 11% sequentially primarily due to a large previously announced Pacific water project order. Excluding this project order rates were down 27% year over year and about flat sequentially. The backlog of $1.7 billion increased $65 million or 4% in the quarter but declined 1% foreign currency.

Turning to the Fire business, revenue in the quarter of $904 million declined 7% organically with continued softness in both service and systems installation revenue. Within service revenue the growth in inspection and maintenance contract revenue was more then offset by customers delaying other service projects resulting in an organic revenue decline of 5%. Our systems installation activity, which represents about half Fire’s revenue decline 8% organically as it continues to be impacted by the economic environment.

Backlog of $1.2 billion decreased $58 million or 5% in he quarter and excluding foreign currency backlog declined 7%. Operating income before special items was $96 million and the operating margin of 10.6% improved 60 basis points year over year. We have been focused on cost reduction activities globally and its these initiatives that have helped again offset the volume decline.

Turning next to our Safety products business, revenue in the quarter of $382 million declined 22% organically which is about what we had expected. Weak demand in our end markets resulted in an organic revenue decline of 26% for fire suppression and 21% for electronic security. Organic revenue in life safety declined 13% primarily due to a decline in municipal spending. Before special items, operating income was $60 million and the operating margin was 15.7%.

Our operating margin was driven by product mix and the favorable impact of cost containment initiatives and restructuring activities. Year over year, however our operating margin continued to be significantly impacted by under absorption in our manufacturing facilities. Despite this lower revenue generation we did not back away from our R&D and sales and marketing growth initiatives.

Additionally, we executed restructuring actions totaling $63 million during the year which included the consolidation of three manufacturing facilities into a single 200,000 square foot manufacturing facility in a lower cost region. These actions, coupled with our cost reduction activities and initiatives are positioning safety products for enhanced overall performance when these end markets improve.

Now I’ll turn to Electrical and Metal products where revenue of $326 million declined 41% organically. The revenue decline was primarily due to significantly lower average selling prices for both steel and copper products and to a lesser extent a decline in volume. Operating income before special items of $21 million was a nice turn around from the $7 million operating loss in the third quarter. The sequential improvement was entirely attributable to improved steel spreads.

Although average selling prices remained relatively flat with the third quarter the average cost of our steel inventory sold declined significantly. As we look ahead to 2010 we are not planning on a pick up in volume but the improvement in steel spreads is expected to result in full year operating income before special items of approximately $120 million. For the first quarter we expect revenue of about $300 million and the operating income before special items of about $20 million.

Before I turn the call back over to Ed, let me touch on a couple of other important items. First, from a cash Flow perspective we had a strong finish to the year. Our free cash Flow for the fourth quarter was $614 million and included $84 million of payment for restructuring and legacy legal matters. For the full year, free cash Flow was just over $1.2 billion and included $261 million of payments for restructuring and legacy legal items.

Our cash Flow performance is partly attributable to the strong focus on working capital. We aggressively managed inventory levels, working the balance down over the course of the year and the quality of our accounts receivable remained solid.

Next, corporate expense in the fourth quarter excluding special items totaled $149 million. This is somewhat higher then our previous guidance due mostly to a one time payment made to some of our employees whose salaries were frozen earlier in the year. Our full year corporate expense including special items was $447 million, a 13% expense reduction. As we look ahead to 2010 we expect corporate expense for the full year to approximate $430 million with about $110 million of that expense in the first quarter.

Turning now to interest expense we had $64 million in net interest expense in the quarter given the current interest rate environment we issued $500 million of long term debt in October with a 4 1/8 coupon resulting in incremental net interest expense of about $3 million per quarter. Full year net interest expense in 2010 is expected to approximate $270 million.

Next, other expense in the quarter of $19 million is primarily related to a reduction of tax liabilities for periods prior to the separation of Tyco into three companies. As these tax liabilities are governed by a tax agreement we decreased the receivables due from Providian and Tyco Electronics. This resulted in an $18 million of expense which is reported as other expense. This was offset by a favorable benefit reflected in our income tax line.

Turning to our income tax rate, our GAAP tax rate for the quarter was 9.9%. Adjusting for special items our tax rate for the quarter was 14.6% bringing our full year tax rate to 15.7%. For 2010 we are expecting an annual tax rate of 19% to 20% due to more income in higher tax jurisdictions.

I also want to touch on pension expense for a moment. Our year end pension valuations and related discount rate will result in increased pension expense in 2010 versus 2009 of approximately $0.05 per share. We do not expect a significant impact on our cash contributions.

Finally, our weighted average share count for fiscal 2009 was 475 million. Normal option dilution is expected to increase the share count to 480 million share in 2010.

Before I turn the call back over to Ed I want to quickly explain the impact of currency translation on our 2009 results and our assumptions of the impact of currency may have on our results in 2010. As you know, more then 50% of our revenue was generated outside the United States. The strengthening of the US dollar in fiscal 2009 reduced our reported revenue by 7.5 percentage points. With the recent weakening of the US dollar and assuming the exchange rates at the end of October remain constant, we expect translation to favorably impact our 2010 full year revenue by approximately 5 percentage points.

Now let me turn the call back over to Ed Breen to wrap up this mornings call.

Ed Breen

Let’s turn now to what we are seeing on our order activity. Orders improved 4% on a quarter sequential basis, primarily related to a new Pacific water project. Excluding the Pacific water project, orders were relatively flat sequentially which is similar to the last few quarters. Although we continue to see a pick up in quoting activity this is not yet translated into a meaningful change in order levels.

While order conversion is different from business to business it typically takes three to six months for an order to convert into revenue. We currently expect our order activity in the first half of the year to be similar to the last few quarters and we are assuming just a modest improvement in the second half of the year.

From a revenue perspective this will result in an organic revenue decline in the first half of the year in the low double digits, where the year over year comparisons are more challenging. We expect much smaller organic revenue declines in the second half of the year with the possibility of positive organic revenue growth in the fourth quarter if economic conditions improve somewhat.

Let me also comment on a few other items that will impact our results in 2010. first, we expect incremental savings related to our 2009 restructuring actions to generate a year over year tailwind of $175 million. While most of these savings may be needed to offset absorption issues driven by lower organic revenue a portion of these savings will fall to the bottom line.

Second, improving steel spreads in Electrical and Metal products should generate incremental operating income of approximately $100 million year over year based on our current estimate.

Next, as Chris mentioned and based on our current exchange rates, the US dollar could be a tailwind for us in 2010 and is currently estimated to favorably impact our full year revenue by 5 percentage points.

Finally, we have assumed that our cash continues to be invested in short term deposits, our guidance does not assume using our cash for acquisitions or share repurchase activity. Based on these assumptions we are planning on a year with organic revenue down 4% to 6% which could be fully offset by currency translation. This would result in total 2010 revenue of approximately $17 billion. Despite the organic decline we expect Tyco’s overall operating margin to improve 40 to 60 basis points over the 9.3% operating margin before special items we had in 2009.

When combined with the other below the line items Chris updated you on, this is expected to result in full year 2010 earnings per share from continuing operations before special items in the range of $2.30 to $2.50. We are planning on restructuring actions in the range of $100 to $150 million in 2010. As the timing of when these restructuring charges will be incurred and the exact amounts of these charges is difficult to forecast these charges are excluded from our guidance. We will, however, continue to provide you with all of the restructuring details on a segment by segment basis.

Now let me give you some thoughts on 2010 from an operational perspective. In ADT our recurring revenue grew almost 4% organically in 2009 with growth in our count base and average revenue per user. Our outlook is for recurring revenue continue to grow in the 3% to 4% range in 2010. On the other hand, systems installation and service revenue declined 11% organically in 2009 and 14% in the fourth quarter.

Although we have seen a stabilization in orders we expect systems installation and service revenue to decline organically in the 10% range in 2010 with the largest decline in the first quarter given the tougher compare with the year ago. For all of ADT we see positive growth in recurring revenue, offset by a revenue decline in systems installation and service. This is expected to result in a full year organic revenue decline of approximately 2% to 4% with a year over year improvement in ADT’s operating margin before special items.

Next, our Fire business was still in a positive growth environment in the early part of 2009. We expect to begin the first fiscal quarter of 2010 with an organic revenue decline around 10% which should moderate during the remaining quarters, resulting in a full year organic decline in the mid to high single digits. We expect that the actions we have taken this year to reduce our cost structure will partially offset the revenue decline resulting in an operating margin before special items in the range of 7.5% to 8%.

Next, Flow Control is where we expect the most significant year over year change due to the strong first half of 2009. While order activity has remained flat over the last several quarters it is the near term timing of deliveries that impacts revenue. Based on our delivery schedule we expect a sequential revenue decline of approximately $100 million in the first quarter and this decline is expected to result in an operating income before special items of approximately $110 million. For the full year we expect to see an organic revenue decline in the high single digits which would adversely impact the operating margin by 100 to 150 basis points due to volume de-leveraging.

Lastly, our Safety products business had a seasonally strong fourth quarter. However, we expect the economic environment pressure, our performance particularly in the first quarter, or the impact of seasonality on revenue, coupled with volume de-leveraging is expected to result in operating income before special items of approximately $40 million. For the full year, we expect organic revenue to decline in the upper single digit range with an operating margin before special items similar to 2009.

Now let’s shift to guidance for the first quarter. We anticipate an organic revenue decline of 11% to 13% for total Tyco. Partially offsetting this decline will be the currency tailwind which we are currently estimating to be about 5% of revenue. This will result in total revenue for the quarter of approximately $4.1 billion.

This is about a $300 million sequential revenue decline which is typical given our fourth quarter is our strongest seasonal quarter. We are expecting a normal volume pick up throughout the remaining quarters which is built into our full year outlook. We expect our earnings per share from continuing operations before special items in the first quarter to be between $0.48 and $0.50.

Thanks for joining us on the conference call this morning. Operator, if you could open it up for any questions.

Question-and-Answer Session

Operator

(Operator Instructions) Your first question comes from Scott Davis – Morgan Stanley

Scott Davis – Morgan Stanley

I understand you’ve been very conservative on guidance the last two years and you’ve successfully beaten guidance quite nicely. Can you give us a little bit of a frame of reference on what type of macro environment you’re looking at for 2010, how you view the quarters sequentially getting better because your first quarter guidance certainly I think is probably below consensus, it looks a little conservative at least based on our model? Given the incremental currency tailwind that you’ll have and not much of a pension issue and you just put up a $0.68 it just seems a little conservative. Maybe just a little bit of color around that.

Ed Breen

Let me mention first that the first part of your question on the macro picture to make that clear. We have assumed that the current environment continues well into the year. As we said in our prepared remarks with some modest, I emphasize modest pick up in order activity in the second half of the year. I don’t know if we’re being conservative there but we’re not seeing the order pick up yet. We are seeing the quoting activity picking up but we’re making that as an assumption. Assuming orders stay at these levels.

As far as the first quarter guidance goes, when you look every year, our fourth quarter to first quarter we clearly have seasonality because our service volumes drop off from the higher activity we have in the summer months. If you look at that we’re expecting our revenue will drop $300 to $320 million which gets you to that $4.1 million and you do the math on the decremental margins off of that $320 million of revenue you get $0.17 or $0.18 of earnings of volume de-leveraging there.

Then there’s a little bit higher tax rate, interest, and pension which is another $0.04 or $0.05. When you take that off $0.68 or $0.70 in the quarter we just did and you back that down that’s that seasonality you get that gets us into that guidance range that we just gave. Then we do, our revenue will pick up as the year goes. With all the cost actions we’ve taken we should get very nice leverage off of that to improve our bottom line as the year goes.

Chris Coughlin

We’ll see more of the restructuring benefits as we get into the second half as we were back weighted in this year on our restructuring actions as well.

Ed Breen

We did a lot in the fourth quarter as you saw so we’ll get some of that benefit as Chris said.

Scott Davis – Morgan Stanley

That was going to be my follow up question, how much of that cost out is structural versus how much of it is going to come back into the system.

Ed Breen

We mentioned this last quarter also that kind of two thirds to 70% of it is structural change, that’s why we mentioned in our remarks we’ve been very focused on back office consolidation, manufacturing and distribution center consolidation. Although we have done the staffing reductions on what I’ll call our variable overhead businesses that will come back, that’s the 30% that will come back as volumes pick up. What I feel really good about is we really focused on what is the structural changes we can make that will last for us.

For instance, the comment Chris mentioned on consolidated. We consolidated a really nice few facilities in our safety products business from what I consider semi-high cost regions into one very low cost center and we’re already seeing the benefits as you analyze the numbers we’re seeing a nice impact. We’re going to continue to put more volume into that low cost facility. Its that type of thing that’s more permanent.

Scott Davis – Morgan Stanley

You mentioned the Australia water project, what’s the timing deliveries there and the revenue recognition?

Ed Breen

Most ships, I say 80% of it, 90% of it ships in fiscal 2010 which is good. The order was approximately $120 million. We’re giving you the numbers with and without it in so you can see we don’t think order activity across the board has picked up, the quoting is but Flow Control is a business where you get one time nice orders, its a real order and its going to ship this year.

Operator

Your next question comes from Jeff Sprague – Citigroup

Jeff Sprague – Citigroup

The absence of the use of cash in the guidance is a bit conspicuous, certainly the playbook you mentioned for use growth and restructuring and deals and share repurchases is kind of the same refrain. I wonder given how liquid you are at this point do you actually see an increase in deal opportunities and at what point if deals don’t materialize do you start thinking about share repurchase?

Ed Breen

We’d like to add on clearly onto our Fire Flow or Security platform with some bolt on opportunities. I think there’s the potential that there could be a couple things that are there during the year. I would say though overall you know we’ve bought shares back in significant quantities in the past. I’m not going to put a timeframe on it but we’re not going to sit on gobs of cash for a long period of time, there’s no need to do that.

We are balancing a couple different opportunities here between share repurchase and some bolt ons. The things we’re looking at I consider right down the middle of the plate for us that we could execute on with low risk and good returns to our shareholders. We’re going to play that out for just a little bit.

Chris Coughlin

We’re in a solid cash position, our balance sheet is really strong as we go into 2010. Given that current economic climate and state of the financial markets and potential opportunities that we see out there we always want to maintain that flexibility. As we said, we look at share repurchase opportunities all the time. I would not expect any in the first quarter.

Ed Breen

I’d also point out just cash going through 2010, as we always talk about in this portfolio that there’s no big blips going to occur in our spending here. We are going to restructure maybe another $100 to $150 million this year, that would be good structural changes for us so we’ll spend some money there. We’re going to continue to spend on the dealer side. You saw we ramped that up nicely this year because we’re getting good economics there and better economics in this past year then we had in the prior year even and we expect that to continue.

Having said all that, with no big blips coming we should have consistent cash performance again. The only thing that would maybe knock us off approximating net income, which we should be able to do it again, is the hopeful thing, if the economy is picking up we might build working capital during the year and that would be a nice problem to have.

Jeff Sprague – Citigroup

Would you elaborate a little on the dealer spend? It sounds like you’re seeing some increased opportunities to do some bulk buys. Are those distress smaller players, what’s behind that? Is there a lot of that type of opportunity in 2010?

Chris Coughlin

We’re building both our internal sales force and there are two aspects of this, one our dealers as well as our internal sales force we’ve ramped up our marking programs, our training programs from a sales force. Both are internal force as well as our dealer network are becoming more productive and had a very solid year in bringing more accounts in.

In addition to that, as you said, we have seen some increased availability of accounts. I think its a number of things there. I think some of the smaller players in the environment that we’re in have had some economic issues and wanted to be able to monetize some of their accounts and there aren’t many players out there with the size, scale, and balance sheet that we have to be able to take advantage of it.

We were able to do some of these what we call bulk account purchases at a much more favorable term. It think its the economic environment, its the lack of competitive activity in these that have made these available to us at much higher rates of return that we’ve seen historically. We did about $150 million of bulk account purchases this year and our dealer spend was also up. Increased productivity plus the availability of some very good accounts at lower rates.

Jeff Sprague – Citigroup

ADT Europe does look better, you sighted seasonality would certainly help. Where are you at in the process of addition by subtraction there trying to get out of some of the secondary and tertiary cities that I know of hurt the margins over time?

Ed Breen

You’ll probably see in the very near future a couple announcements on some exits, right to your point, they’re not going to be scalable for us or the profit targets that we want going forward. We’re still doing the back office restructuring as the number one initiative and clearly 1(a) is exiting some of these locations and keeping our core of Europe together. You’ll see some of that very shortly. We’re making good progress but nothing that’s been public yet.

Chris Coughlin

I might add on that, I wouldn’t expect though that as we’re looking at our volume in Europe, particularly in the first quarter and the first half we’re going to see continued double digit organic revenue declines which will continue to put pressure in the near term on those margins in Europe. We’re likely to see a bit of a decline from Q4 to Q1 in that margin we saw in Europe.

Operator

Your next question comes from John Inch – Merrill Lynch

John Inch – Merrill Lynch

Trying to put together some of the pieces of your overall guidance, starting from the $2.35 you earned this year. Restructuring by your numbers is about a $0.30 tailwind and I think you said operations, which I’m assuming include the temp improvement, that looks to be about $0.10 based on the $17 billion. Offsetting that pension a little bit, a little bit of interest but I don’t know, I’m not coming up with something that would even have a flat number in the range. Could you help me with what am I missing? Also, is the entire tax increase is that a function of temp, it wasn’t entirely clear?

Chris Coughlin

On tax, obviously having less income in the US with a high tax jurisdiction that has an impact as we’ve said all along of about 2% to 3%. On a full in basis we had a tax rate this year of about 17% when I take that other income, other expense item we had in Q4 and you add the 2% to 3% that’s how you get to that rate.

I think the one thing you’re missing, I’ll ask Ed also to comment on this, on that year over year its the de-leveraging impact that we have of the organic revenue decline on our manufacturing businesses. While we do get a tailwind from FX it doesn’t cover that kind of tailwind.

Ed Breen

We’re saying that our organic revenue will be down 4% to 6% this year from the prior year. If you do the math on that you’ll de-leverage decremental margins 30% to 35% on that. You can pick a midpoint and do the math. You get the tailwind that gets you back to the $17 billion of revenue on currency but you get 10% bottom line help out of that. You’ve kind of got a 20% decremental margin negative headwind which eats up a lot of, we need that restructuring to offset that. That’s a piece of the math.

Let me walk you through a way to look at it from 2009 to 2010 putting that aside because you’ve got to take that into account. We did $2.36 this past year, we’re telling you that, again these are swags because you never know with Electrical and Metal, we think that’s $120 million of profitability this year, you get $0.18 of earnings from that that you didn’t have the year before. Then all the items that Chris mentioned, corporate, pension, other below the line items, you lose $0.17. You’re still sitting there at $2.37 about what we did in 2009.

Then all our other operations excluding temp we’re saying with our guidance of $2.30 to $3.50 you’re either a little below $2.37 or you’re somewhat above $2.37 to get closer up to $2.50. The two pieces I would mention to you there is we expect some headwind as we mentioned from Flow, that might be conservative in the second half of the year but that’s our assumption. We expect security to be positive for us. They somewhat do some offsetting to each other. You can get a little positive or negative off that $2.37.

John Inch – Merrill Lynch

Emerging markets that you mentioned, if you look at the CapEx budget for next year what is it and are you anticipating materially spending up in some of these emerging markets either on a hiring basis or a physical plant basis or something like that?

Ed Breen

We do expect to spend more money, we’re very focused on the emerging markets. By the way, four of them, the big ones, Brazil, Middle East, India, and China specifically as far as our infrastructure goes. Of note, we added significantly in our Fire and Security business in China, we doubled the number of offices that we have because their service locations around different markets in China as an example. We would expect to add to that again this year.

Maybe the good news to that is that does not really cost a lot of money in the scheme of Tyco’s numbers. These are not big facilities that you spend $100 million on, there are a lot of locations some R&D centers we’re opening up service centers and then we pump our products through those. We are definitely adding, to its a lot of activity but then when you sit back and look at the dollars its really not a lot. That’s the activity going on.

I would expect, Chris you can comment a little more on the CapEx, on the dealer side and the bulk purchase side if the opportunities are there at the right economics we’ll spend whatever we can spend to get those accounts. On the CapEx side I don’t see much of a change from where we’ve been running.

Chris Coughlin

I think our CapEx will remain relatively stable. Again will flex up or down based on the market on the dealer spend. The other thing I’ll mentioned around emerging markets obviously we’re also look at acquisition opportunities that could help build our presence certainly in those markets as well.

John Inch – Merrill Lynch

You were pretty excited about the generation of these interactive services for ADT. I think some of the stuff is in the Beta test, would you expect any kind of official launch in 2010 or maybe just a little bit of an update there.

Ed Breen

I would think we do launch in 2010. I won’t say it’ll be a full bore roll out across all regions but I would expect we will be out of Beta test and into some type of a roll out and clearly that would be in the second half of the fiscal year. I won’t get into all the details but we are still feeling positive about it, the technology is working nice.

There is a certain part of the market that’s going to want this type of product, what we’re still testing is where are those price points, what’s the tradeoff in volume and percent of customers you can get and the price you charge for it and we’re still working our way through that in trials. We’re feeling good about that. It’ll be second half of 2010.

Operator

Your next question comes from Steven Winoker – Sanford Bernstein

Steven Winoker – Sanford Bernstein

On pricing and costs relationship, pricing across Flow, Fire, ADT what trends are you seeing now, what are you building into your expectations for next year?

Ed Breen

We are seeing some pressure, I mentioned this last quarter. I’d say we’re maybe seeing a little bit additional pressure. A little bit in Flow, some on our systems installation side, as I mentioned last quarter we see some on our sprinkler business itself was actually the first area we saw it. However, having said that, as you’ve noticed we’ve been working very hard on the cost side of the house on our lean side, our sic sigma and maybe the more important environment with our suppliers.

We’ve been very direct dialogue, if we’re seeing a little bit of pain we need you to be our partner, we’re together long term. We’ve been able to mitigate any of that, as you can see, across all four of our platforms ex. Electrical and Metal by holding our margins flat year over year. A little bit of price pressure, nothing that has me alarmed but we are seeing some. I think its the longer the downturn stays and order don’t pick up you would tend to see a little bit of that. We’ve been able to offset that with good actions with our vendors.

Steven Winoker – Sanford Bernstein

I think I heard you say that decrementals you were expecting in the 20% range volume line?

Ed Breen

30% to 35%

Steven Winoker – Sanford Bernstein

In the fourth quarter, my numbers showed decrementals that you achieved were about 18% net across all the businesses but upwards of 37% at ANT and lower numbers elsewhere. Is that not consistent with what you think you did? The only reason I’m saying that is if it was 20% in the fourth quarter and you’re looking at 30% plus decrementals next year, what are you expecting to get worse?

Ed Breen

The one thing that is more of a pressure point, as we mentioned, again it might be just the first half of the year we don’t know yet, its Flow Control because its a good margin business and its a fixed overhead business. We held the margins flat exactly flat year over year which I thought was a very nice accomplishment by the Flow Control team, I compliment them on that but that gets harder and harder to do if you continue to see the softness. I would think that’s the one area, we point that out, we think the margins are going to drop 100 to 150 basis points in the forward guidance that we gave you.

Chris Coughlin

Our first quarter is always our seasonally lowest quarter, just a point to that. Again, the revenue decline, the absolute revenue decline is going to impact the margins in Q1.

Ed Arditte

That’s where we did refer to the 30% really only for the first quarter because as Chris just pointed out there is a big seasonal change north of $300 million in terms of revenue and that’s just a temporary, if you will, de-leveraging.

Steven Winoker – Sanford Bernstein

Those decrementals are for the first quarter.

Ed Breen

That happens every year on our volume, there’s some years we’ve been down $250 million, there was a year we were down in the high $400 million, its very typical of our seasonality and that’s where we see it.

Steven Winoker – Sanford Bernstein

The two thirds to 70% of the structural costs that are out, for the part that comes back are you anticipating that, I assume given the current climate, not in 2010 correct?

Ed Breen

The assumptions we’ve made is that that would not come back because we’re saying we don’t see volumes picking up much at all and certainly not on the systems installation side. We’re assuming that stays flat where it is. When that does come back though a lot of that will be the feel on the street, its the men and women out in our vans doing a lot of the systems installation work so that’s where you’d get that variable add back.

I would point out that although we would bring a chunk of that would obviously be a permanent employees coming back, we will be careful and flex that with some third party work so we’re very cautious as we bring it back on as we did in the past.

Chris Coughlin

The increase would not negatively impact margins.

Steven Winoker – Sanford Bernstein

On the top line, the biggest swing factors, at least in the first quarter that you’re looking at affecting the top line positive and negative.

Ed Breen

The big one would be Flow where we expect $100 million reduction in volume from $1 billion to about $900 million, that would be the single biggest piece. Electrical and Metal we’ve given you the exact number on that. You do it by all the arithmetic we gave you.

Chris Coughlin

Safeway TSP is going to be down and Fire.

Ed Breen

Fire is seasonably down ATD will keep the same dynamic at TAD, recurring growing systems down a little about the same number.

Steven Winoker – Sanford Bernstein

Any place where you could see a positive surprise?

Chris Coughlin

I don’t know if we want to say a positive surprise. I think we’re not seeing a big up tick in the orders but we’re seeing some quoting activity. As we get into the second half if we saw some of that come through with some of our additional restructuring savings. We’re sort of estimating business as we see it right now.

Ed Breen

The two big things, we are going to do another $100 to $150 million of restructuring, can we get some benefit of that in the second half of the year. Then do orders pick up at all, I think for a lot of our peer companies if orders pick up some we’re going to get nice leverage here, again, not counting on much.

Operator

Your next question comes from Deane Dray – FBR Capital Markets

Deane Dray – FBR Capital Markets

A follow up on your last comment regarding the restructuring expectations, what would drive you to either the low end or the high end on the restructuring plans for 2010?

Ed Breen

Good payback programs. We’re analyzing some now, we’ve got some work coming in from the team. As you can see, we’ve got good leverage on the dollars we spent. We’ve really stressed to the team that we put certain parameters around the paybacks that we want on it. If we get $150 million in with the right payback we’re going to do it, if its a little less then that that’s where we’ll end up.

Chris Coughlin

Obviously the other thing is just volume. If we see continued pressure on the volume side that we don’t see coming back we’ll have to continue to take costs out. If we see volumes start to pick up in the second half then there might be less of it.

Ed Breen

I will point out, we made this comment, we’ve been very careful not to cut what I would call our growth initiative spend. I’m really pleased we did that through 2009. Our R&D headcount was up in 2009, we expect it to be up again in 2010. As you can see, we’re not skimping on our capital spend or our dealer or bulk spend, however you want to look at that. As I mentioned in my prepared remarks, I won’t get into the details on numbers because of competitive issues, we are adding headcount right now to our sales force on the residential side of ADT.

Deane Dray – FBR Capital Markets

As you shift into what’s now the second year of the restructuring activities, what changes in terms of the expect payback, some of the low lying fruit has been picked up and are you going to see a longer payback period on these projects?

Chris Coughlin

It really depends on where it is. I think we generally have about a two year payback on these and we haven’t seen a big differential. Obviously if we get into more manufacturing consolidations they tend to have a longer payback but they can also be offset depending on the mix of business by the quicker payback in our variable cost businesses.

Deane Dray – FBR Capital Markets

I may have missed these data points but did you say that the 2010 savings is now $175 was the previous number $150 and what’s driving that.

Chris Coughlin

We ramped up in the second half of this year and so we expect as we move into 2010 particularly the second half will get some benefits over what we did in Q4.

Deane Dray – FBR Capital Markets

Last data point on this restructuring what’s the expectations for the first quarter, did you say how much you might be doing?

Chris Coughlin

No, we haven’t broken it out by quarter.

Ed Arditte

As we’ve indicated, sometimes timing in a particular quarter is often times difficult depending on certain milestones that have to be met.

Deane Dray – FBR Capital Markets

On backlog, within Flow and Fire, any comments on push outs, cancellations, you said order activity seems high but talk about specifically the push outs and anything along those lines.

Ed Breen

Very little on the push outs. Let me give you the two data points again. Our backlog in Fire was down 7% and our backlog basically held in Flow which to me was somewhat of a positive sign. I thought we would eat into that a little bit in the quarter but that remained about flat. We’re not seeing the push outs, what we’re seeing on the Fire side is the new stuff is down, the systems installation business is down but not dropping anymore but staying at those levels.

The one thing we have seen, although we’ve seen this for a couple quarters, some people are holding off, what I call some of our a little more recurring business in Fire on the service side and they’re delaying some of their service work. Not the contractual part of what they need to do if they have a maintenance agreement, but those that normally would do a little more on the service side are holding off.

I sense you can’t do that for too long because that’s a life safety product. You’ve got to be really careful there. As you noticed, we did see four to five points organic decline in that part of the business the last couple of quarters. I’ve got to think that doesn’t last too long. The systems installation part I think could potentially drag out a little bit longer here.

The Flow side is where we’ve seen even more of the quoting activity and I’ve noticed a couple of the peer companies in that space have also said the same comments. I think its pretty universal. At some point you would think that’s going to convert into some additional orders but some of these are big projects, people have to fund them, they’re multi billion dollar projects so our assumption is let’s assume it doesn’t happen much this year and how do we plan around that.

Operator

Your next question comes from Nigel Coe – Deutsche Bank

Nigel Coe – Deutsche Bank

Do you call out what your dealer account acquisitions what’s in your guidance for 2010.

Ed Arditte

We did not, but as Chris indicated we would expect, obviously it depends on market environment particularly with respect to the bulk activity, the opportunistic purchases. Not illogical to think that our spending in 2010 could be very similar to 2009.

Chris Coughlin

We can’t count on those big bulk account purchases so again we’ll look to that but that’s the swing factor and we had about $150 million of those. It could be $150 or $50 million if we can get another $100 million we’ll get another $100 million if they’re the right economics.

Nigel Coe – Deutsche Bank

Every $100 million delta given that you’re assuming cash whatever it is 1% you’re getting pretty good returns on dealer account. If you spend say an extra $100 million does that have an impact on UPS?

Chris Coughlin

Depending on the time of year that you do it but it wouldn’t have a great impact in the first year. You’re right these are quite profitable in terms of if we can find the accounts with the right credit scores and able to get the right kind of a transactions where again we usually have a hold back where if the accounts go bad in the first year or so we put them back to the seller. If we can still do those kinds of deals we’ll do them.

Ed Arditte

As you know, what it does is it continues to add to the solid recurring revenue base which has done well in this environment.

Nigel Coe – Deutsche Bank

On Electrical and Metal you’re basically projecting $20 million for 1Q and $120 million for the full year. I’m trying to understand why you’d have a sequential decline from 4Q ’09 to 1Q 2010?

Ed Arditte

Its about the same, we don’t really.

Nigel Coe – Deutsche Bank

Why wouldn’t we see an expansion in the EBIT Q on Q given the spreads are widening?

Ed Arditte

Spreads widened in the fourth quarter compared to the third quarter but we’re really not in an environment now where unless prices increase from where we are today, spreads will widen further. Its really our guidance for the first quarter is really a continuation of what we saw in the fourth quarter ’09. Obviously market conditions in the steel market move around and can move around quickly.

If we see an expansion in price that obviously would be helpful to our spreads and helpful to our numbers. We’re not in this environment, as we indicated in our remarks, any up tick whatsoever in volume. It could only be spread and spread could really only come based on where we are today from better price.

Nigel Coe – Deutsche Bank

You talked about the margin up tick being primarily mix, could we see any production up tick there Q on Q? Volume through the factories.

Ed Breen

No, in fact our organic revenue has continued to decline and so we’re expecting that again in Q1. Some of that is the seasonal mix.

Operator

Your next question comes from Shannon O'Callaghan – Barclays Capital

Shannon O'Callaghan – Barclays Capital

On the recurring revenue mix at ADT are we seeing a shift in the drivers there? The account base is now accelerating in terms of growth and the ARPU is decelerating down to 1%. Is there more juice left in the ARPU or are we seeing a shift in gears here?

Ed Arditte

Let me make a quick comment. I think one of the things that’s important to recognize with respect to the ARPU is that that ARPU that we’re giving you is totally ADT wide ARPU both residential and commercial. In the environment that we’re in right now we’re adding accounts on the residential side but the commercial side given what’s going on in the economy has actually seen some modest loss of accounts.

When you think about that you’re losing a commercial account, its something in the $80 to $90 range in terms of monthly revenue. You’re bringing in a residential account at much lower, maybe in the $35 to $40 range. That puts, if you will, a little bit of a structural headwind on your ability to grow ARPU at a much faster rate. That’s one of the things that is keeping that where it is in this environment.

Ed Breen

That’s the big point. I’m point out one comment that Chris made in his comments. I’ll use North America as an example, our accounts grew 5% and our ARPU grew 3% that’s right at our data point. On the resi side we’re actually keeping the ARPU moving along but its being offset when we give you the number lumped together because of the commercial.

Chris Coughlin

Just think about the strip mall kinds of shops, those are the ones that are hurting the most.

Shannon O'Callaghan – Barclays Capital

On the Fire services point, of that services part of the revenue base how much of that would you characterize as this more discretionary stuff that you can defer if you want to?

Ed Arditte

As we look at it, the traditional service, maintenance contracts and things like that was relatively flattish but total service was down 5%. I think the difference between those two numbers was really this discretionary spend, its really small jobs that are done onsite by our service organizations. That’s really where we’ve seen a slowing over the last couple of quarters, in particular in the fourth quarter.

Operator

Your next question comes from Terry Darling – Goldman Sachs

Terry Darling – Goldman Sachs

How do we translate the FX tailwind to the EPS level? Is it take the company average margin and go from there, anything more complicated then that?

Chris Coughlin

Its not a whole lot more complicated. I would say that our margins outside the US are slightly below that overall then what they are in the US, particularly when you think about the US ADT residential business. That’s essentially how you do it.

Terry Darling – Goldman Sachs

The reconciliation on John’s earlier question, the pieces to the puzzle to walk from this year to next year, did that include EPS benefit from FX tailwinds?

Chris Coughlin

Yes it did. So that offsets partially the absorption and de-leveraging of the organic revenue decline.

Terry Darling – Goldman Sachs

It was in ops piece of the puzzle.

Chris Coughlin

Yes.

Operator

Your last question comes from Steve Tusa – JP Morgan

Steve Tusa – JP Morgan

What was the ultimate incremental restructuring benefit for this year? For 2009.

Chris Coughlin

It was probably around the $150 million. Maybe a little bit more.

Steve Tusa – JP Morgan

Incremental $150 million.

Chris Coughlin

Yes.

Steve Tusa – JP Morgan

One last quick one on Flow, I understand that there’s a little bit of a mix impact of Forex but the decremental margin on that revenue decline looks pretty severe, losing 100 to 150 bps on high single digit revenue decline, I know Forex helps out. Is there anything else going on there? Maybe you could just talk specifically to price costs in Flow Control?

Chris Coughlin

When you say high single digits what we’re looking at, again the first part of the year its going to be more significant then that we’re doing some restructuring activities that we’ve gotten underway that should help us in the back half. Again, we have a large manufacturing base, a type of business that Flow is a lot of manufacturing operations around the world. As that volume declines that’s the de-leveraging impact that can have a fairly significant impact which is why we think it can be 100 to 150 basis points.

Steve Tusa – JP Morgan

You guys had a 10% pretty dramatic decline this quarter and the decrementals were only like 10%. That would tell you that there’s maybe something else going on in this number other then just volume de-leverage.

Ed Breen

We did a really nice job getting costs out during the year. Maybe we’ll do better but it gets harder to get as much cost out next year after what we did this year that’s what we’re a little nervous about. We took enough costs actions on a fixed cost business to hold our margins this year on an almost $600 million drop in revenue. That was a lot of quick, hard costs action. There’s not as many easy ones sitting on the table.

Steve Tusa – JP Morgan

The 175 that you’re going after there’s less of a focus on Flow in that 175 then there was in the 150?

Ed Breen

We will focus just as much of Flow but I will say to you those projects, to get them done and get the benefit are longer because its bricks and mortar.

Steve Tusa – JP Morgan

Its not price?

Ed Breen

No it really isn’t.

Chris Coughlin

80% of that business is outside the United States so what happens when you have to do these projects in a business like Flow in terms of restructuring the timeframe is much longer, you’re dealing with the workers councils outside the US and manufacturing environment. Its a longer term process.

Ed Arditte

We’re going to wrap up the call here. We tried to get to as many of you as we possibly could. I recognize there may still be some people on the line. We’re happy to follow up with you offline. Thanks for joining us today. We look forward to joining you again right around the first of February to discuss our results for the first quarter of fiscal year 2010. Thanks for joining us.

Operator

This concludes today’s conference.

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