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Rockwell Automation, Inc. (NYSE:ROK)

F2Q10 (Qtr End 03/31/10) Earnings Call

April 28, 2010 8:30 am ET

Executives

Rondi Rohr-Dralle - VP of IR

Keith Nosbusch - Chairman and CEO

Ted Crandall - CFO

Analysts

John Inch - Merrill Lynch

Bob Cornell - Barclays Capital

Mark Koznarek - Cleveland Research

Steve Tusa - JPMorgan

Rich Kwas - Wells Fargo Securities

Operator

Thank you for holding and welcome to Rockwell Automation’s quarterly conference call. I need to remind everyone that today’s conference call is being recorded. Later in the call, we will open the lines for questions. (Operator Instructions)

At this time, I would now like to turn the call over to Rondi Rohr-Dralle, Vice President of Investor Relations. Ms. Rohr-Dralle; please go ahead.

Rondi Rohr-Dralle

Thanks, [Monika]. Good morning everyone. Thank you for joining us for Rockwell Automation’s second quarter fiscal 2010 earnings release conference call. Our results were released this morning and the press release and charts have been posted to our website at www.rockwellautomation.com. Please note that the press release and charts include reconciliations to non-GAAP measures. Additionally, a webcast of the call is accessible at that website and will be available for replay for the next 30 days.

With me today, as always are Keith Nosbusch, our Chairman and CEO; and Ted Crandall, our Chief Financial Officer. Our agenda includes opening remarks by Keith and that will include highlights of the second quarter and thoughts about our outlook for the remainder of fiscal 2010. Then Ted will provide more details around the second quarter financial performance and our revised 2010 guidance. There will of course be time at the end of the call to take your questions and we’ll try to get to as many of you as possible.

We expect the call today to take about an hour. As is always the case on these calls, I need to remind you that our comments will include statements related to the expected future results of the company and are therefore forward-looking statements as defined by the Private Securities Litigation Reform Act of 1995. Our actual results may differ materially from our forecasted projections due to a wide range of risks and uncertainties that are described in our earnings release and detailed in all of our SEC filings.

So with that, I’ll turn the call over to Keith.

Keith Nosbusch

Thanks Rondi and good morning to everyone and thank you for joining us on today’s call. At our last earnings release, I said that we believe we were seeing the signs of the start of a recovery. Our performance in Q1 had exceeded our expectations, particularly in our products businesses and we significantly increased our revenue and earning guidance in January.

Our second quarter provided more good news. It appears that an industrial recovery has taken hold, as evidenced by continued improvement in key global economic indicators like industrial production and PMI, as well as our strong sequential growth in the quarter. I’ll talk more about our second half outlook later, but first let me give you my thoughts on the quarter and as always Ted will be discussing the numbers in greater detail in his remarks.

This quarter marked to return to year-over-year organic growth for the first time since Q4 of fiscal 2008. Product revenue in the quarter was once again better than our expectations. We think restocking in our channel benefited Q2 sales by about three points and we suspect that some of the strength in product business that we have seen in both Q1 and Q2 was due to pent-up MRO demand. In our Solutions & Services businesses revenue declined year-over-year as expected, at the book-to-bill was above one, again this quarter.

Growing volume leverage in the quarter resulted in a seven point year-over-year margin improvement and a two point sequential margin improvement, in spite of the incremental costs in the quarter from reversing our temporary cost reductions and some other items that Ted will provide more detail on. We have continued to deliver very strong free cash flow with careful management of both working capital and capital spending.

There are some other positive developments in the quarter, over 13% sequential growth in the U.S. and Canada with continued strength in automotive; strong growth in emerging Asia, with 24% year-to-year growth in India and 15% in China. Multiple process industry winds against in French competitors, especially in Water Wastewater and oil and gas. OEM conversion started to bare fruit, validating our focus on these important customers during the downturns, and this impact will become more important as market conditions improve.

Finally, I want to thank our talented and dedicated employees and partners, whose unwavering commitment to our customers enabled these great results and I’m very pleased to announce that we are now able to implement a pay increase across our global employee base.

Let me set the stage for our outlook for the second half of the year. By the recovery is underway, the shape of the recovery remains uncertain. The strength in our product business through Q2 has been largely based on strong MRO demand and smaller projects with some contribution from channel restocking. Given the improvement, we have seen in OEM business has been more about machine level investment than production line level and we have yet to see any significant improvement in large capital project spending and it’s difficult to know when that might kick in.

So for products, we believe the second half could range from flat to moderately up compared to the Q2 run rate. To get to the higher end of our revised revenue guidance, we need to see improvement in that large capital project business relatively early in the second half. For Solutions & Services, we do expect significant sequential revenue growth in the second half, given the orders performance in Q1 and Q2; with this backdrop and with two quarters of solid performance under our belt. We are providing the revised outlook for fiscal 2010. Full-year revenues are $4.6 billion to $4.8 billion, compared to our previous lines of $4.4 billion to $4.6 billion.

As in our previous guidance to achieve the high end of the range, we need to have meaningful second half over first half revenue growth. At these new revenue levels, we do expect to incur some additional compensation expense and we will increase spending to support growth, particularly in technology, domain expertise and customer-facing resources in emerging markets. We are also raising our earnings per share guidance to $2.60 to $2.90.

Before I turn this over the Ted, let me provide a few closing comments. The earlier part of this recovery has been surprisingly strong and we are now solidly on a year-over-year growth path. As I mentioned earlier, sequential growth rates in the product business were likely moderate in the second half of the year, but long-term growth prospects are bright.

I’m excited by the new opportunities we are seen everyday, particularly in the areas of process control, OEMs and the emerging markets. The entire organization is energized and committed to serving our customers needs as to recovery progresses and we know that this commitment to our customer success has provided superior long-term returns for our shareholders in the past and I believe that this will continued to be the case.

Now, let me turn it over to Ted.

Ted Crandall

Thanks, Keith and good morning to everybody on the call. We’ve posted search to our website and my comments will reference those charts. Building on some of Keith’s comments, this was very good quarter for the company with strong results in sales, earnings and cash flow and I’ll start to briefing on chart one, which is Q2 result summary.

Revenue on the quarter was $1.164 billion up 10% from Q2 last year with currency contributing five points to the increase. As Keith noted, Q2 represents our return to year-over-year growth and provide evidence of the continued recovery in market conditions. Total segment operating earnings were $177 million up from $86 million in Q2 last year, very strong earnings conversion. I’ll discuss that further on the next slide.

General corporate net expense was $23.6 million, compared to $14.7 million a year ago, that’s a significant year-over-year increase, and primarily due to performance based compensation were we reversed accruals in Q2 last year and incurred above the average expense this year. We also made a contribution to our charitable corporation in Q2 this year.

General Corporate Net was about $3 million to $4 million higher in Q2 than our expected quarterly run rate. The $4 million of income shown as special item in Q2 last year was the reversal of previous restructuring accruals. The effective tax rate in the quarter was approximately 16% that’s considerably below our previous guidance range for the full-year estimated rate. We experienced about a five point benefit in the quarter related to the favorable settlement of our prior year tax matter.

EPS from continuing operations was $0.77 up from $0.29 in the second quarter of last year, the tax settlement are referred to contributed about $0.05 in this quarters results. We recognized income from discontinued operations of $25 million in quarter two, or $0.18 per share primarily due to the favorable resolution of tax matters related to the sale of our Power Systems business in fiscal year 2007, so in total, earnings per share for the quarter was $0.95.

Average diluted shares outstanding in the quarter were $144.4 million, and we resumed share purchases during Q2 and repurchased approximately 463,000 shares for $25.5 million. We have $596 million remaining under our existing $1 billion repurchase authorization.

Now if you would please turn to chart two, Q2 results Rockwell Automation total, on the left side of the slide you can see the 10% year-over-year sales increase. Sales were up 9% sequentially. We experienced robust growth in our product businesses, year-over-year and sequentially. Solutions and service business revenues declined year-over-year, but improved somewhat sequentially.

Moving to the earnings side of the chart, operating earnings increased by 106%, compared to Q2 last year and you can also see here a significant sequential earnings increase. Operating margin for the quarter was 15.2%, up 7.1 points compared to last year and up 2.4 points sequentially.

The year-over-year improvement was primarily due to higher margins in the Architecture & Software segment, but in total for the company reflects strong volume leverage, improved mix, and the impact of our cost reduction actions from last year. This favorable margin performance in Q2 was realized despite some significant expense increases in the quarter primarily related to employee compensation.

As we discussed in the last earnings release, we restored pay cuts and 401K match effective on January 1. In addition, we have decided to implement wage and salary increases for employees globally. It will take us a few months to implement this pay increase, but we intend to make a payment and implementation to catch up back to January 1; and performance-based compensation expense increased significantly compared to Q2 last year.

In total, these three items increased expense year-over-year by $42 million in Q2. As a partial offset to these incremental expenses, there were no restructuring costs in Q2 this year compared to a $20 million restructuring charge in last year’s second quarter. Obviously, a lot of puts and takes in the quarter with respect to operating earnings and margins, but taking all of that into account still very strong earnings conversion.

In January, on our earnings call I mentioned that we intended to begin the increased spending in Q2 and as Keith noted particularly in the areas of technology, domain expertise, and commercial facing in emerging markets. Frankly, other than the compensation items I just covered, we didn’t see much other spending increase in Q2. After clamping down so tightly last year, spending in these other areas as ramping more slowly than we expected, but we do expect to see increased spending principally in the targeted areas, in the balance of the year and that’s reflected in our revise guidance.

We continued to believe, we are well positioned to deliver exceptional year-over-year earnings conversion for the full-year and you’ll that as well reflected in our guidance. Although not displayed on the chart, our trailing four quarter return on invested capital was 13.2% that’s down from 18.7% last year, but up from 9.5% last quarter. Through the balance of the year, we expect return on invested capital to steadily improve as we continued to see favorable year-over-year earnings comparisons.

If you would turn to chart three, this chart summarizes that quarter two results of the Architecture & Software segment. Looking at the left side of this chart, you will see very strong sales performance in our Architecture & Software segment for the quarter. This is the fourth consecutive quarter of increased sales.

Sales were up 31%, compared with the same quarter of last year including a six point contribution from currency, sequentially sales increase 10%. Operating margin for the quarter was 23.8%, that’s 15.4 points higher than the second quarter of last year and predominantly due to volume leverage. Operating margin improved 2.7 points sequentially.

Chart four covers our Control Products & Solutions segment. Sales in Q2 were down 2% compared to last year, an organic decline as 7% offset by a four point benefit from currency and one point of growth from acquisitions. Sales in Control Products & Solutions increased 8% sequentially.

In the product businesses of the Control Products & Solutions segment, sales increased both year-over-year and sequentially at rates similar to the Architecture & Software segment. In the Solutions & Services businesses of CP&S, sales were down in the mid teens compared to Q2 last year, but increased above 3% sequentially. Solutions & Service orders have continued to improve with the book-to-bill for Q2 just slightly higher than the 1.15 that we experienced in Q1.

Segment operating earnings and operating margin were up slightly from last year on lower sales with better mix. On the right slide, you can see a significant sequential operating and earnings improvement in Q2 and segment operating margins expanded by 2.1 point sequentially.

Turning to the next chart, chart five provides a geographic breakdown of our sales for Q2. The center column displays overall growth rates by region; therefore our right column shows growth rates excluding the effects of currency translation. I’ll focus my comments on the far right column. In the U.S., sales were up 10% year-over-year, up 13% sequentially. Canadian sales increased 12% compared to prior year, but that includes the effect of an acquisition made last year, excluding sales from the acquisition, the year-over-year increase was about 4%. Sequentially, Canadian sales increased by 18%.

In EMEA, sales declined by 7% compared to Q2 last year but increased 3% sequentially. Asia Pacific increased by 12% compared to last year, and 1% sequentially an emerging Asia including China saw 15% growth year-over-year. As Keith mentioned, we had a standout quarter for India with year-over-year growth of 24%.

Latin America was down 4% year-over-year with improved product revenues offset by declines in the Solutions & Services business. You may recall, last year Latin America held up well through Q2 and then fell off, so compared with the other regions a relatively more difficult year-over-year comparison for Latin America, sequentially, Latin America sales increased by 8%.

Now please turn to chart six, free cash flow. We’re continuing to see strong cash generation and conversion on that income. Free cash flow for the quarter was a $167 million, that’s despite some increased working capital to support higher sales levels. Year-to-date, free cash flow is $275 million, which represents about a 145% conversion.

Our balance sheet also remains very strong, related to that during the quarter we renewed our 364 day credit facility, the expiring facility was $267.5 million; the new facility is $300 million. There were no difficulties in renewing and we experienced strong interest from the banking community. We have a separate $267.5 million facility expiring on March 15, 2012, so the total amount available under the two facilities is now $567.5 million.

And that brings us to the last chart, which addresses our current outlook for fiscal ‘10. As Keith mentioned, we are revising our full year guidance. We’ve increased the range of full year sales from the previous guidance of 4.4 billion to 4.6 billion to a new guidance range of 4.65 billion to 4.8 billion.

Excluding currency effects, the new revenue range represents year-over-year growth of between 4% and 8%. We expect currency to contribute about three points to year-over-year growth, that’s one point lower than our January guidance. We’ve increased our estimated segment operating margins to a range of 13.5% to 14.5%.

As I mentioned earlier, there are lot of puts and takes in the year-over-year margin comparisons, but overall throughout the guidance range, we’re expecting segment operating earnings conversion of about 60%. We’ve increased our fiscal 2010 EPS guidance to a range of $2.60 to $2.90 that compares to our previous EPS guidance range of $2 to $2.40.

We now expect a full year tax rate of 19% to 21%, which is basically the lower end of our previous tax rate guidance. Given that we are halfway through the year as you can see we have somewhat narrowed both the sales and the earnings guidance range and we continue to expect free cash flow conversion above 100%.

Now, I’ll turn it over to Rondi to begin Q-and-A.

Rondi Rohr-Dralle

Great, thanks, Ted. Monika, let's open the line for questions.

Question-and-Answer-Session

Operator

(Operator Instructions) Your first question comes from the line of John Inch with Merrill Lynch.

John Inch - Merrill Lynch

Ted, the catch-up payment for pay increase, I think through January, did that imply there is a charge coming in the current quarter? And if so, what’s roughly the magnitude?

Ted Crandall

Actually, John, we incurred expense in Q2 with the plan catch-up of about $8 million.

John Inch - Merrill Lynch

Okay. So that’s already in there, so there is no -- in basic.

Ted Crandall

Yeah, sorry, that’s only in Q2 and that run rate will not change in Q3 and Q4.

John Inch - Merrill Lynch

Okay. So this $42 million that you called out, that’s roughly the run rate per quarter. Is that correct?

Ted Crandall

Yeah, I think that’s fair.

John Inch - Merrill Lynch

Could you talk a little bit about the auto vertical, I just maybe sort of how much it was up. And then clearly, you’ve got a lot of vehicle launches to come. Does that give you confidence that auto, which is obviously a very rich mix for logics and other products, can continue?

Ted Crandall

Well, certainly automotive is one of the, I would say greatest year-over-year improvements for us as a business and just a put that in contact it’s up in total over the run rate at the end of ’09 over a 100% on a year-over-year basis first half of ’09 versus second half of – second half ’09 versus first half of ’10. We are seeing that certainly domestically is probably where the greatest increases have come and you’re right it has not been largely driven yet by the new platforms, particularly the new platforms at Chrysler and at General Motors.

Ford continued to invest throughout the period and I would say we probably won’t see a significant delta there, but the comments I made about large CapEx spending having to pick up in the second half of the year for our products to grow. We do expect at probably in our fourth quarter that we’ll see a pick up in automotive project spending and therefore some improvement in our product sales from that and certainly the automotive is a very rich A&S content on those projects.

John Inch - Merrill Lynch

That’s sort of where I was going, Keith. Basically, are you classifying auto then as these large CapEx projects? Because it strikes me, I know what you said, they have to pick up, but it strikes me, at least in that vertical, it is almost guaranteed just based on what the OEs are planning, that would at least start?

Keith Nosbusch

That’s true, John, but the comment was make in a somewhat of a broader context of which certainly automotive we think we have the highest confidence in that picking up, where the other areas that we’re looking at is, where you looking for line expansions at OEMs as opposed to just replacing an old machine that has to be a capacity expansion in things like food and brewing and beverage and home and personnel care in particular where the capital spending is a more significant piece of the project and then also we would be expecting it to grow or needed to go I should say in the Oil & Gas sector later in our fiscal year. And with mining we’re expecting that to probably not pick up a lot and that we’ll see the revenue, but we do expect projects that will improve next year’s large capital spending in that vertical. So it's a mixture of -- across what I would say more of the heavy process industry and then new lines in what I would call the consumer transportation types of industries as to what we mean when we say the larger capital projects.

John Inch - Merrill Lynch

That's helpful. Just lastly, Keith, as we start this expansion cycle, how are you thinking of your global footprint, and perhaps requirement to make investments? And how would you compare it to the start of the last cycle? And by investments, I'm thinking say manufacturing capacity, I don't know, new iterations of logics, you've even talked about sales expansion right in emerging markets. How does your footprint in spending trajectory or requirements compare?

Keith Nosbusch

I would say there’s a lot of pieces there, so let me try to parse it a little and try to get adjust of your question. If you talk about your manufacturing footprints, we believe most of that spending is done at this point in time if you remember we started that probably about two years ago and made a significant transformation of our operating footprints into emerging markets and in particular at that point we talked about China, we talked about Singapore, we talked about Latin American in particular Mexico to a smaller degree, Brazil, and then Eastern Europe and in particular Poland.

And the strategy was to grow that business, grow that footprint to be able to absorb the growth that we were anticipating at that point in particular in the emerging markets. With the significant decline that we had, we accelerated some of those moves to be ale to absorb that capacity quicker while reducing our foot print in the higher cost mature markets, so that’s been growing on and our team has done a great job of moving I’ll just say in that direction.

So I think from an operation stand point and a manufacturing capacity, obviously we up to add machines or alien or may be a shift, but as far as significant investments, I believe those are behind us at this point in time.

The one area that we do have to continue spending in is the evolution of our business systems outside of the United States and that’s something that is still probably a couple of years of investments in our new business system. We’re getting close to completion of that from the core functionality but as far as moving it into Europe, into Latin America and into Asia Pacific, we still have that in front of us, but I do not believe that will be an incremental spend that we have to take it, so I’ll just say a reallocation of our current spending from more North American and more function to more regional activities.

So that piece of the spending, where we will see a need to increase the spending is in our core technology and in particular logics, we are increasing and we’ll continue to increase over the next two years. Spending to continue to expand the scalability of that platform and also to increase functionality and performance of the platform and that’s something now that we’ve been talking about with the community, the financial community for the last couple of quarters for sure and that’s what Ted mentioned, we didn’t ramp up very much in the second quarter. But we know that’s in front of us and certainly is an important dimension of our portfolio and therefore we need to continue to improve the investments in that technology.

The other area where we will have to continue to incrementally spend and it’s another point that Ted made is in customer facing resources and domain expertise, and what that means is sales people and application engineering or our solutions businesses that deliver the automation and/or information projects and obviously there we’re expecting the greatest growth in emerging markets, so that’s where you will see us putting more spending. It’s an area that we try to protect as best we could, because as you know we made significant investment particularly in Asia a couple of years ago.

And we did not want to take any of that out in the downturn and now, we are in a position and have started adding to that. So investments in emerging markets will be important and investments in the growth accelerators that we’ve outlined at our analyst day would be the areas that you are going to see us putting our next incremental investments into.

John Inch - Merrill Lynch

That’s great color, Keith. Thank you.

Keith Nosbusch

You’re welcome. And I’m sorry it took so long to get though it.

Operator

Your next question comes from line of Bob Cornell with Barclays Capital.

Bob Cornell - Barclays Capital

Thanks, everybody. Well, it was worth the wait, Keith. Thanks very much.

Keith Nosbusch

Okay, Bob. I appreciate your consideration.

Bob Cornell - Barclays Capital

What does control products revenue had to do in the second half to get to your targets, You talked about the backlog and the book-to-bill in the overall guide, but control products are running negative, I mean, when does that business break positive to or what is the outlook for control products revenues in the guidance?

Keith Nosbusch

Well, obviously control products is made up of the two pieces that we always say, but if you look at second half we would expect depending on where we are in the range it would go any where from, lets say about 10% growth to the high teens at the high-end of the range. So that’s what we would expect first half versus second half in CP&S.

Bob Cornell - Barclays Capital

So second half would be, is that year-over-year growth or second half or first half?

Keith Nosbusch

I’m sorry, it’s second half versus first half.

Bob Cornell - Barclays Capital

Okay. Now, I will let someone else ask the process questions, but one of the things that has always interested me is the growth in the machine control, the CompactLogix business. In the December quarter you mentioned a big order you got, and I think you’ve gotten lot of design wins over the last year when the market was quiet and I think you referenced the fact that could percolate as the market comes back. Maybe you could just flush out the CompactLogix machine control market. And that market is not too far smaller than the whole process market.

Keith Nosbusch

You’re right, Bob. And that’s why we talk about our growth accelerated being the OEM market for Rockwell Automation. It an area that we’ve focused on very aggressively the last couple of years, in particular when we came out with CompactLogix, because it is our scalable part of the logics and potential that is well suited for machine builders and certainly that’s what the target was and with that we can found that we allowing that automation portfolio and our confidence in particular, our safety components and that’s is the very strong package that we offer value to our machine builders.

Bob Cornell - Barclays Capital

When are we going to see the revenues? I mean I understand you had design win that will last 12 months…

Keith Nosbusch

The OEM growth is the big part of why A&S grew at the rate at this quarter. It was probably the most significant contributor to grow was the OEM improvements. So, we are seeing the growth Bob and in particular CompactLogix growth in the quarter was up in for the high 30s on a quarter-over-quarter basis. So, we are seeing that pick up and we would expect that to continue in particular as the volume of those machines where we made the conversions on over the last year start to grow more revenue for the machine builders.

So we’re very pleased with where we’re at and that's on a global basis. We have very strong OEM programs in Europe, in the U.S., and in Asia-Pacific in particular China and to some degree the smaller markets in Latin America both Mexico and Brazil. So we are seeing the growth I guess would be my comment Bob to your question.

Bob Cornell - Barclays Capital

Final question. Processor growth -- group performance in the quarter?

Keith Nosbusch

Yes, the Logics business was up 36% year-over-year higher, basically 10 points higher than the A&S organic total and we see that as another very good sign for the future and certainly puts us back into the higher rate of growth compared to the overall company products average. And as I said, Compact was even a little bit of higher than that or I should say Compact was higher than Control and the combination was 36. So we feel very good about that pickup in the quarter.

Bob Cornell - Barclays Capital

Legacy?

Keith Nosbusch

Legacy grew, actually as you would expect given the fact that a lot of this is coming from MRO and to some degree OEMs, a lot of those machines are designed with the legacy systems in and so our legacy sales were up almost 10% on a year-over-year basis, so we had been talking about 10% annual declines in our legacy products. We certainly expect over the cycle that that will continue, but it’s another region we believe pent-up demand and restocking and small machines, or I should say, individual machine expenditures is what’s occurring because of that growth that we saw in the legacy business.

Operator

Your next question comes from the line of Mark Koznarek with Cleveland Research.

Mark Koznarek – Cleveland Research

Could you elaborate a little bit more about that earlier comment about channel restock, contributing three points to growth. Was that your channel partners or is that end customers?

Keith Nosbusch

That was a specific question about our channel, our distributors.

Mark Koznarek – Cleveland Research

Okay. Now, from your perspective, has the channel restocked fully? Or will we still get some additional lift from that in the second half?

Keith Nosbusch

No not at these run rates, we believe now that we have the appropriate levels of inventory for the current demand and obviously we said that last quarter but the demand went up so we got a little more restocking push, but given our outlook now, what we talked about in our products business, we believer we’ve seen the benefit of that and quite frankly, that’s one of the headwinds that we see in the second half is the loss of that restocking, a point in Q1, the three points in Q2 is something that we have to push against for the rest of the years.

Mark Koznarek - Cleveland Research

Which is that together with your prior comment about the Logix grows overall, would those two items suggest that we have had a richer than usual mix of products, and the type of products here in the first and second quarter and that will reverse some in the second half, just setting aside the solutions business just talking about products here?

Keith Nosbusch

It’s tough to say, if we’re just talking products. It really is some element of mix obviously as Ted mentioned, if you took our products sales of CP&S, it looked a lot like A&S. So it’s not like we’re seeing any deviation in products in total that says, no know totaling A&S products.

So I don’t think the product per se is going to see a significant change. The big mix is the one you discounted and the big mix shift for us in the second half as solutions growing in the mid-to-high teens and products much lower. So you’ll see that as a natural mix impact going into the second half that you didn’t see in the first half.

Ted Crandall

Mark, I think there could be some small favorable mix impact in Q1 and Q2 and it’s really related to the strength we have seen in North America, were obviously, we have a in North America, were obviously we have a much larger installed base and benefit from more MRO and we also look at Q1 and Q2 and think that in that period MRO spending may have been a little bit overheated. So I think there could be a small favorable impact, but as Keith noted, the big mix impact is really going to solutions versus product.

Mark Koznarek - Cleveland Research

Final one here is, with the strong growth in the implied further acceleration in the second half here. Can you talk about your own internal supply and logistics situation? We’ve been hearing a little bit about constraints on certain product categories and you know is that likely to become more of an issue before debates, because of the revenue acceleration that you’re expecting?

Keith Nosbusch

Certainly, we don’t believe that, the logistics’ supply chain issues impacted our performance in the quarter of any significantly. There was no question that given the increases that we have seen that we are stretching the supply chain; and we’re stretching it quite dramatically. In particular, we have issues on electronic component, isolated issued on electronic components, because of the growth in, I’ll just call it the high-tech industries in a particular consumer electronics has put a number of those parts on allocation and Rockwell really is being not treated differently than other manufactures, who are demanding the same parts based upon the increase and so we’re managing through that, the impact has been the greatest in a couple of our product lines in our small controller business, the MicroLogix business in particular, and some isolated input, output devices and really in the rest of our portfolio we’ve been able to deal with it.

That’s one of the advantages of having a great channel, they’re our first line of defense and they’ve been working very hard and very diligently to help us get through a difficult period driven by a very quick increase in volume. Obviously, when the supply chain shrunk last year, it shrunk dramatically and people took capacity out and now they’re hesitant to bring it back.

So though we are experiencing some issues, they’re isolated, we’re managing those across the portfolios with our channel, with our sales organization and we believe the increase that we’ll see in the second half will not create a bigger problem than we currently have, we think the backlog if you will has stabilized, and we expect over the third quarter to work is done, and to be able to put that behind us and once again given the current delivery commitments on these parts. So we think, we’re passed the most difficult period and that we will work our ways through the remainder over quest of Q3 and certainty by the end of Q4 being a very, very solid position.

Operator

Your next question comes from the line of Steve Tusa with JPMorgan..

Steve Tusa - JPMorgan

So just to clarify on some of the cost you’re loading into the back half, so 2Q, how much more cost do we have to go? How fully loaded is 2Q? So, if you could just maybe give a little more detail, I know you spend a little bit of time on this, but I wasn’t quite clear what the total incremental cost bump-up is in the second half?

Ted Crandall

Yes, basically Steve, let me walk through this and maybe kind of remind you some of things we talked of our last quarter. So basically, regarding year-over-year cost savings from the restructuring actions, we’re still counting on $120 million year-over-year, basically all of that is in the Q2 run rate. So no significant change in savings as we go into Q3 and Q4.

Compared to our previous full-year guidance, we now have additional cost headwinds of about $50 million related to additional compensation expense. That includes to the cost of the pay increase that we talked about, an increase performance based compensation and it split roughly equally between those two. As it relates to performance based compensation, one thing I would remind you of is, when we talk about that, that is a very broad based performance based compensation plans that kind of works across all of our salary and in all of the employees, but compared to the Q2 run rates, there is minor increase in those expenses in Q3 and Q4.

Steve Tusa - JPMorgan

Okay, in both quarters, so it steps up in both quarters?

Ted Crandall

But minor, minor in those quarters, okay. I would take a larger expected run rate change in the quarter is really that other spending that both Keith and I have talked about that is related to new product investment and our growth accelerators, and there we’re expecting about $50 million increase in the second half of the year. I think if anything it maybe a little bit more heavily weighted to our Q4 than Q3, but it’s about $15 million increase in the second half.

Steve Tusa - JPMorgan

Then when you’re talking about on the book-to-bill, is that’s not entire CPS, that’s just the services and bets the solutions book-to-bill, such as the part of CPS, right?

Ted Crandall

That’s correct.

Steve Tusa - JPMorgan

So one more question is on CPS, I think the answer to the question to Bob Cornell’s question, second half over first half, you think at the low end, CPS is up 10% at the high end, 19% for second half over first half. That would imply a relatively low rate of sequential growth at Architecture & Software. Is that inline with normal seasonality or what are you seeing in April? Or is there anything in April that you’re seeing that drives that caution? Or is this just, you’re looking at the back half of the year and your short cycle business, so you’re not sure the sustainability of the product strength?

Keith Nosbusch

First let me just say, we’re not quite that high on CP&S as the high end, it’s more in the mid-17% as the high end. You’re right it is about the component story that’s what’s been driving the growth so far. We believe, we’ll see some flattening out and at the high end of our guidance of our products do grow quite frankly in the second half, quite substantially.

So at the low end the first half over second half, or I should say, second half over first half, we’re expecting the mid-single-digit growth in A&S and certainly that’s a significant step up from where we are at this point in time and obviously there is some normal slowdown from a summer standpoint, if you will and in some of the major mature markets, but we’re not expecting any, I’ll say, meaningful deviation from our traditional rates in those businesses. It’s just that solutions starts picking up and we see that being the predominant growth driver in the second half of our years. So we still expect and have targeted some product growth in both A&S and CP&S to hit our revenue guidance.

Steve Tusa - JPMorgan

One last question, just looking at the 24% margin in Architecture & Software, should we still think about kind of the longer term targets here, in the context of incremental margins, and obviously anybody would be happy with a 24% to 25% margin, but I’m just curious as to longer term, where you think these things should go. I mean there’s only so much money you can throw at the business. So if you’re doing this early in the cycle, a little bit of revenue growth, I mean do we think about this as stable margins? Is there continued room for improvement here, unless like to peak out at 27%. I’m just curious as the --?

Keith Nosbusch

I think we have always said that we think reasonable margin targets for Architecture & Software. We’re in the mid to higher 20 range and we continue to believe that. I think what you’re experiencing this early in the cycle is the very strong volume leverage we get in Architecture & Software and our inability to ramp investment spending up as quickly as we might have like.

Operator

Your next question comes from the line of Rich Kwas with Wells Fargo Securities.

Rich Kwas - Wells Fargo Securities

Question on the MRO comments that you had earlier, you said it was pretty strong here. Is there some expectation with that kind of fades as we move through the rest of the year and to what degree, just big picture, how should we think about that?

Keith Nosbusch

I think that's kind of the other piece of Steve’s question that I’ve been answer. So thank you for the question. One of the reason, we do expect that pent-up demand does pay for all to some degree and that's why we have a little slower growth in the second half of the year in our products business because it has to come from new projects as opposed to just the MRO piece of it. So that is the way to be thinking about the MRO and leads going in then it kind of stabilizes at slower growth run rate and that's the phenomena and that you're seeing in the second half of our year and it's a normal phenomenon.

So I don't think there’s anything here that we’re surprised that. The surprise was how fast to change, not the best that it’s going to be going down as the recovery continues to progress, but we certainly saw such a deep reduction in both CapEx and OpEx second half of last year that's the spending just had to come and production picked up and so as IP industrial production numbers picked up, people have to support that with investment and that's what drove the MRO strength, so a natural phenomenon very solid, very steep at the start because of the drop and now starting to flatten out in the second half.

Rich Kwas - Wells Fargo Securities

Then in terms of the restocking, it just seems that as you look at the second half of the year, I know there’s some mix changes in the growth rate relative to this last quarter may not be as significant, but it just seems like there’s some potential for some restocking, based on your bigger picture outlook and so should we think of it as three points this quarter, it was one point in the fiscal first quarter. I mean it sounds like you still see some restocking taking place in the second half?

Ted Crandall

No Rich, I think you got to got to kind of the notion of what’s reflected in our guidance for product and as Keith mentioned, on the product side, our guidance says at the low end it would be rather flat to the Q2 run rate and that the high end were up mid single-digits to the Q2 run rate. I mean if we’re up if we hit closer to the high end, there will be some natural restocking. I think our message is we don’t think that’s the big number. Its not going to be another 3% per quarter going forward even at the high end, it might be 1%.

Rich Kwas - Wells Fargo Securities

Then just last question, China grew 15% year-over-year. Last year at this time, China was on its back a little bit. I was just curious on your comp for that 15%, and then as you go through the rest of the year, given the recent strength in China, how do you see your growth rate there with customer winds and potential customer winds and just overall growth there right now?

Keith Nosbusch

Well, certainly we expect in the second half of the year that China will be above the company average in growth and we would expect that to have similar numbers that you’ve seen in this quarter on a year-over-year basis. So we’ve made great inroads in China, particularly at OEM and also with this stimulus spending that has been going on in China that as driven a lot of our business and the automotive activities are also very positive there. So we see the continued evolution to a more consumer based economy and we think that both wells for us in addition to the OEM activities and pickup of our ability to address a broader suite of oil and gas industry application to China, our opportunities for us to continue to drive that higher growth rate.

Rich Kwas - Wells Fargo Securities

Again, what was your comp last year, at this time for last year's quarter for China?

Keith Nosbusch

I don’t know that, on top of my head that’s something that will have run the get back to --

Rich Kwas - Wells Fargo Securities

Okay, that’s fine. I’ll get offline.

Rondi Rohr-Dralle

Operator, I think we are about ready to ramp up the call. So I want to thank everyone for joining us today and if anyone has any follow-up questions, just give me call, we’ll go through that. Thanks a lot.

Operator

Ladies and gentlemen, this concludes the presentation and you may now disconnect. Thank you.

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