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Herman Miller Inc. (NASDAQ:MLHR)

F3Q2014 Results Earnings Conference Call

March 20, 2014 9:30 AM ET

Executives

Brian Walker - President and CEO

Greg Bylsma - Executive Vice President and CFO

Jeff Stutz - Chief Accounting Officer, Vice President, IR and Treasurer

Analysts

Josh Borstein - Longbow Research

Todd Schwartzman - Sidoti & Company

Matt McCall - BB&T Capital Markets

Bobby Griffin - Raymond James

Operator

Good morning, everyone. And welcome to this Herman Miller Incorporated Third Quarter Fiscal Year 2014 Earnings Results Conference Call. This call is being recorded. This presentation will include forward-looking statements that involve risks and uncertainties that could cause actual results to differ materially from those in the forward-looking statements.

These risks and uncertainties include those risk factors discussed in the company's reports on Form 10-K and 10-Q, and other reports filed with the Securities and Exchange Commission.

Today's presentation will be hosted by Mr. Brian Walker, President and Chief Executive Officer; and Mr. Greg Bylsma, Executive Vice President and Chief Financial Officer. Mr. Walker will open the call with brief remarks, followed by a more detailed presentation of the financials by Mr. Bylsma. We also will then open the call to your questions. We will limit today’s call to 60 minutes and ask our callers limit their questions to allow time for all participants.

At this time, I would like to begin the presentation by turning the call over to Mr. Walker. Please go ahead, sir.

Brian Walker

Good morning, everyone. We appreciate you’re joining us for today’s call. As we noted in yesterday’s release Herman Miller’s third quarter demonstrated solid performance across the business. We were pleased with our operating results and in fact, our reported sales, gross margins, operating expenses and EPS, were all in line with the guidance we provided to you in December.

Greg will share more of the specific in his review, but I'll open with a few highlights and some added context, including both recent industry indicators and the broader economy, as well as for our consolidated business and within the reporting segments.

Our industry’s general backdrop like the larger economy continued to showed signs of strengthening. The most recent BIFMA forecast call for modest growth in calendar ‘14 and outlines the more bullish outlook for 2015, but the growth forecasted a better than 10%. If you’ve been following this forecast you will note that the timing of stronger demand has continued to shift out.

At the same time, the underlying drivers of demand look to be firming and the downdraft in the federal government should have less of an impact as we move forward. In addition, employment trend, the architectural billings index outlook and construction, and less focus on partisanship in Washington are all more positive than we've seen in several quarters.

There are still uncertainties in the global economy related to China's domestic economy and more recently the geopolitical events unfolding in Eastern Europe. With that said, we are optimistic that we will see continued strengthening in the global business climate.

For Herman Miller specifically, the clear headline for this past quarter was order momentum, highlighted by an improving trend that drove organic order growth of 11% compared to the same period of last year.

Organic sales growth in the quarter was more modest, but even at 4% demonstrated acceleration from the levels we’ve reported in recent quarters. Likewise, consolidated gross margins and operating earnings were also up relative to last year. In short, no matter how you slice it the organization performed well.

Looking back over the past couple of years, each quarter had a mix of pluses and minuses within and across our operating segments that impacted our consolidated results. Cumulatively, over the -- over that time we’ve reported steady progress but in any given quarter there’s been one or more areas of rough water to navigate. That’s the reflection of the economic conditions and operational challenges we have been working through in our respective segment, businesses -- business units and geographies.

While we have been steadily executing our strategy of investment and diversification, these headwinds have acted as a damper on performance each quarter. Simply put, this third quarter, Herman Miller was firing on virtually every cylinder.

To be clear, we are a long way from fulfilling our strategic vision. There is a lot more work to do in building the offer and optimizing our operations, and there are still economic uncertainties in front of us both regionally and globally.

As a company, we will continue to be challenged including in this current quarter, but our recent segment and consolidated performance is encouraging and we are working hard to sustain that momentum.

In North America we have solid organic sales and order growth for the quarter. Both measures were held by general strengthen in our core work business, including some large projects that have been in the pipeline. But we again experienced double-digit decline in sales for the federal government, which also had an impact on our healthcare shipment.

However, healthcare recorded strong orders for the quarter in both the Nemschoff and Herman Miller brands, and for the first time in 10 quarters, I am pleased to report order growth within the federal government segment.

To be frank, that gain was modest and we are far from declaring a turnaround in government demand. But we told you in Q2 that we believe we are starting to see signs of a bottom forming. We will continue to take a cautious attitude, but it is encouraging to see the first real signs of stabilization in that sector.

Turning to our international segment, which we have renamed ELA, to better reflect the geographic market to describe. We reported solid sales and order growth across nearly every region, the largest percentage growth in EMEA and Latin America. Asia-Pacific order growth was a particular highlight given the year-on-year declines we've seen in recent quarters, but here again, we still have work in front of us.

We must work to expand our global brand recognition and product offer, and we are continuing to work through integration of our newly acquired POSH manufacturing operations. But I am pleased to see the progress made by our ELA teams.

Specialty and Consumer, the segment’s year-over-year sales gains were driven by Maharam, which offset a flat to modest sales with decline in the collection and retail, and more significant drop in Geiger’s more project driven business.

However, consistent with the third quarter’s trend the orders for Specialty and Consumer were outstanding segment wide. We recorded strong double-digit order gain in all of our year-over-year comparisons and with the addition of Maharam, we achieved a better than 110% growth in total segment orders.

We believe some of the growth is a reflection of seasonal order pacing related to our consumer channel and several important new product introductions. But even accounting for that influence, we still see momentum in this key segment.

In addition to contributing to strong margins and business diversification, the Specialty and Consumer segment continue to play a vital role in our overall brand strategy, enhancing our visibility and reputation among both consumers and key design audience.

As an example, in the latest furniture brand value scorecard study made by the Dwell Insights Group, which is an independent market research division of Dwell Media, Herman Miller ranked number one is the brand that best exemplifies design leadership in a survey of full consumers and design professionals.

While we are gaining traction among consumers, Herman Miller also remains committed to our leadership position in workplace knowledge and setting, exemplified by our award-winning Living Office initiative. And we continue to look further to wherever people learn, heal and live. This is a core of our strategy and ambition to be a lifestyle brand that crosses the human experience in virtually every application in the built environment.

We are doing that both domestically and internationally, and with a practiced ability to respond to the currents of social change that we -- that we see unfolding in global culture.

As I said earlier, we have a great deal of work still in front of us, but we believe this quarter showed the people of Herman Miller are making real progress in delivering our strategy.

With that brief introduction, let me turn the call over to Greg for more details on the quarter.

Greg Bylsma

Thanks, Brian. As a reminder, we provided supplemental financial information specific to the quarter on the Investor website at hermanmiller.com. Now for the details on the quarter.

Consolidated sales of $456 million were almost 8% higher than the same quarter last year. Orders in the period of $464 million were 21% above the prior year level. At the beginning of February, we increase our general list prices an average of 2.5%. As a result, we estimate orders totaling approximately $22 million were pulled ahead into the third quarter that would otherwise have been entered in the fourth quarter.

Excluding the impact of the Maharam acquisition, dealer divestitures and foreign currency translations, sales increased 4% in the prior year. Organic order book which is just for the full head impact of the price increase totaled approximately 11% in the third quarter.

Although our results in the quarter were again negatively impacted by lower sales to the U.S. federal government, we're very encouraged to see year-over-year order growth in this sector for the first time in two and half years. As Brian mentioned while it’s too early to reach any firm conclusions here, this is the welcome sign that the government headwinds are beginning to subside.

Sequentially, net sales in the quarter decreased 3% from the second quarter, a change consistent with average historical seasonal patterns for our business. New orders decreased 8% relative to our second quarter and in amount that compares favorably to historical seasonality due in part to the acceleration of the orders in advance of the price increase.

Within our North American segment, sales were $294 million in the third quarter. This represents an increase of 3% from Q3 of last year. Adjusting for the impact of dealer divestures and foreign currency translations, segment sales were up approximately 6% from last year.

New orders in the segment totaled $292 million in the third quarter. This resulted 9% higher than Q3 last year and 6% higher on an organic basis. Our ELA segment reported sales of $98 million for the quarter. This represents an 8% increase from Q3 of last year with the largest contributors of this growth coming from the EMEA and the Latin American regions.

Orders in the quarter were $101 million. This is up almost 25% from last year and the increase was seen across nearly all the regions. We are especially pleased with our order growth of approximately 10% in the Asia-Pacific region after seeing year-over-year declines in recent quarters.

Adjusted for the impact of changes in foreign currency translation, ELA segment sales increased almost 10% while orders were up 26% in the prior year third quarter. Within our specialty consumer segment, sales in the quarter totaled $64 million, an increase of over 35% over the same quarter last year.

This increase is attributed to addition of Maharam which was not included in our consolidated numbers at this time last year. Excluding the impact from this acquisition, segment sales decreased 16% on a year-over-year basis. Majority of the decline resulted from a relative decrease in large projects at our Geiger subsidiary.

New orders in this segment were almost $72 million in the third quarter. This represents an increase of 111% on a year-over-year basis. On an organic basis, excluding the impact from Maharam acquisition, the estimated impact in the price increase, segment orders increased nearly 17% compared to last year.

This order growth was broad based across the segment and included double-digit growth at Geiger, the consumer business and Herman Miller collection. We estimate the translation impact from changes in currency exchange rates reduced our consolidated net sales and orders in the quarter by approximately $4 million and $3 million, respectively relative to the third quarter of last year. This resulted from the strengthening of the U.S. dollar against certain other currencies compared to a year ago.

I’ll now move onto expenses and earnings in the quarter. Our consolidated gross margin this quarter was 35.7%. By comparison, consolidated gross margin during Q3 of last year was 34.1% or 34.3% after adjusting for the impact of legacy pension charges. The year-over-year improvement in gross margin percentage is primarily attributed to favorable product and channel mix, improved labor and other operational cost savings. These factors were partially offset this quarter by the negative impact of foreign currency exchange rates relative to Q3 last year.

Operating expenses in third quarter came in line with our expectations at a $128 million. This compares to adjusted operating expenses of $114 million in the third quarter of last year. The primary contributor of this increase relates to the operating expenses at Maharam.

Additionally during the third quarter, we incurred restructuring expenses aimed at improving efficiencies in our North American sales and distribution channel in Geiger manufacturing operations. These actions focused primarily on targeted workforce reductions and resulted in the recognition of pretax restructuring expenses of $1.1 million.

On a GAAP basis including restructuring expenses, we reported operating income of $34 million or 7.5% of sales in the quarter. Excluding these charges, adjusted operating earnings were $35 million or 7.7% of sales. In the third quarter of last fiscal year, operating earnings totaled $27 million on a GAAP basis. In that same period, adjusted operating earnings were $31 million or 7.4% of sales.

Our effective tax rate in the third quarter was 33.3% compared to 29.4% in the same quarter last year. The prior year rate was lower due primarily to benefits associated with the extension of the R&D tax credit legislation, which was signed into law last year.

Finally net earnings in the third quarter totaled $19 million or $0.33 per share on a diluted basis. Excluding the impact of restructuring charges, adjusted earnings per share totaled $0.34 which compared to adjusted earnings of $0.32 last year in Q3.

With that, I'll now move on giving update on cash flow on balance sheet. We entered the third quarter with total cash and cash equivalents of $77 million, an increase of approximately $4 million from the end of November. Net cash from operating activities in the quarter totaled $23 million while changes in working capital resulted in a net use of cash of $11 million.

Capital expenditures in the quarter totaled $12 million, bringing the year-to-date total to $32 million. We expect our full-year capital spending to be approximately $50 million. Cash dividends paid in the quarter were $7.4 million compared to $5 million paid in Q3 of last year.

The dividend increase we announced last December reflected in our upcoming April payment and we’ll increase our annual payout by approximately $4 million. We remain in compliance with all debt covenants. And as of quarter end, our gross debt-to-EBITDA ratio was approximately 1.2:1.

The availability -- available capacity on our bank credit facility stands at $143 million and we’re confident we can meet the finance needs of the business moving forward given our cash position, expected cash flows from ongoing operations and our available borrowing capacity.

With that overview, I'll move on to cover our sales and earnings guidance for the fourth quarter of fiscal ‘14. In determining the estimated sales range, we considered the volume of orders in our backlog scheduled to ship beyond the end of fourth quarter.

The percentage of these orders are bit higher than normal and we anticipate seeing a similar scheduling pattern of some of the projects we expect to enter early part of the fourth quarter.

Taking these factors into consideration, we expect sales to range between $485 million and $505 million in the quarter. This implies total revenue growth between 5% and 10% over Q4 of last year and on organic basis to just year-over-year growth of 2% to 7%. Earnings in the quarter are expected to be between $0.43 a share and $0.47 a share and this assumes an effective tax rate of between 32% and 33%.

We expect our consolidated gross margin in the fourth quarter to improve from the third quarter level, driven primarily by higher factory production levels and some initial benefit from the February price increase and these positive factors will be likely partially offset by increases in material costs.

In total, we expect our gross margin to range between 36% and 37%. We anticipate a sequential ramp up in operating expenses this quarter driven by higher sales volume, and increase spending on program marketing in support of upcoming new product launches in the NEOCON trade show.

In total, our fourth quarter operating expenses are expected to range between $134 million and $137 million. And with that, I will turn the call back over to the operator so we can take your questions.

Question-and-Answer Session

Operator

Thank you. (Operator Instructions) The first question comes from Josh Borstein from Longbow Research. Your line is open. Please go ahead.

Josh Borstein - Longbow Research

Hi, Brian and Greg. Thanks for taking my questions and congratulations on the quarter. Just with respect to the GSA business, you noted it wasn’t down as much as you had expected and orders actually were positive for the first time in two and a half years. And I know you don’t want to call a trend here with one quarter alone. What are you hearing from your customers regarding the outlook for GSA?

Brian Walker

Well, there is no singular customer. Our GSA is a difficult thing and it’s always going to be based on what's going on projects. I don't know that I would -- they actually put a lot of stock in, what people tell you. I think what we are seeing is and we saw this and we talked to you about it in the second quarter. What you're starting to see is relative stability quarter-over-quarter sort of on a sequential basis of what we are seeing in order patterns. And I would say right now that's probably the best predictor we have is actually looking at what the patterns are and what types of projects.

Now again, this is a lower part of the year typically for orders. I mean, the really heavy time is late summer, early fall. So, this is intermediate quota if you will, the government selling season. On the other hand, I think what you are starting to see is a pattern where it looks like it has done some stabilizing. We also did some of our own work. We actually went on and look at econometric models around the government particularly and that actually is the pattern that a lot of that detail work told us that eventually, we’d start to see the thing sort of normalized. And in a while, I wouldn't go there yet and we’d love to say, I can’t go any further down and it has. If they get to zero, that's not really true. But we’ve certainly have seen a much firmer pattern over the last bit year.

Josh Borstein - Longbow Research

Okay. Great. I appreciate that. And then on the North American segment, you guys put up some nice margins in that business and actually you’ve done a very nice job all year long. Is there anything structurally different in this segment of the business at North to suggest that even margins in the high single double-digit margins are sustainable?

Brian Walker

We think they are sustainable. I don’t think there is anything that would tell us that they are not. We are constantly, as you guys follow us closely, we are constantly working on how we get new products out to drive higher margins, how do we use our work in lean to actually drive cost out of the business.

And if we get volume increases, we will get good leverage on operating expenses and that’s probably been the hardest one to come by is when you're growing at 2% to 3%, it’s hard to get over that kind of inflationary cost that come into the business. As soon as we start to get up into the 5% above, you start to get better leverage on those costs for sure.

Josh Borstein - Longbow Research

Okay. Thanks. And then just one more for me on the BIFMA forecast for 2015, some nice strength there, strength, we really haven’t seen for a while. Is that an outlook that you subscribe to and what are you seeing or hearing that may suggest that 10% growth maybe possible?

Brian Walker

It’s always hard because you are using forecasted numbers to forecast numbers, which always makes you nervous. And I don't know that I would ever opine on the absolute number. I think that the factors if you read the detailed report and you look at the factors behind it, it makes reasonable sense that we should see a improving picture for the industry, particularly when you take the negative downdraft of the government out. We probably if you looked at, I would guess is one to two points of growth have been. You’ve got a negative headwind in the industry over the last couple of years in the federal government.

So you take that factor out of that that really is hitting a point of stability, that’s going to be a big factor already on what we are seeing in the industry. But if you look at the other measures that are underneath there, corporate profits, we are starting to get to a spot that employment is starting to pick up at one level. I think the other big question is that, there is a fair amount of activity of folks realizing that we are at this point that a lot of the stock of furniture that was sold at the peak was in the late 90s. And you can imagine that stuff is now nearly 15 years old.

We are now in the meat of the generational shift of the baby boomers ending their career and companies realizing, they got to get the next generation and I think the question is those things catalyze together to start this kind of a period of reenergizing the industry. And I would say the data underneath definitely looks reasonable. I don’t know if I could tell you one-way or the other, what is the exact number as much as I would say directionally. It feels like there's a good chance of having stronger dynamics in the industry through the second half of ‘14 and as we get into ’15.

I think the other big, maybe big wildcard out there is we seem to always as a global population constantly have these little things that show up like Ukraine, that’s a little thing, that you don't know if they derail all the positive trends. But assuming, we don't see some other factors that we can't predict today that looks pretty reasonable.

Josh Borstein - Longbow Research

Appreciate the color. Thanks and good luck.

Operator

Thank you. And our next question comes from Todd Schwartzman from Sidoti and Company. Your line is open. Please go ahead.

Todd Schwartzman - Sidoti & Company

Hi. Good morning, Jeff and Greg. Wanted to ask for an update on -- timetable update on the shipping of the large entity project, maybe give us a sense of what transpired in Q3 and how that's expected to ship over the next year or so?

Greg Bylsma

Yeah. Sure, Todd. So like we said, this thing is going to start shipping in the second quarter which it did in November and it’s going to really ship over 14 months. And for the most part, that’s pretty stable over that time period because the revenue will be recognized as the floors are completed and installed. Think about kind of orders into revenue on a one quarter delay. So the third quarter was the first quarter we had significant revenue. And I think that revenue will continue to be about the same amount over this kind of 14-month period. Does that help?

Todd Schwartzman - Sidoti & Company

Yes, it does. Thanks. In terms of commercial construction in North America, any -- are we seeing anything different than three months ago?

Brian Walker

Nothing we see any different than we saw three months ago. I think if you read the BIFMA or the IHS forecast maybe to be more specific. If you read the details of it, the one thing that I picked out in there that I hadn't seen is, yes they're talking about continued construction. And as I’ve always said, that's not as important as an immediate driver, it’s longer-term, that you want to make sure people have places to move to a reasonable rent. That's a bigger driver.

But I think the thing they know that was interesting to me was that they're expecting a good-sized uptick in healthcare facilities over the next 24 months in terms of construction. What they didn't breakdown is how much of that is hospital versus other things. Our belief is a lot of that is going to be outpatient clinic ambulatory things, doc practices and like, there you’re seeing is people respond to how does the whole healthcare system sort of reform itself.

Todd Schwartzman - Sidoti & Company

Got it. With regard to raw materials, are there any headwinds pertaining to a specific input or maybe even in the aggregate that you want to address maybe picking six months view things?

Brian Walker

Well, Todd, if you look at, you can go back to the fall, there was lot of noise that steel was really going to start to increase and the mills were sort of running down that path. You did see a little bounce up in Q3, and prices not a big one. That seems to have tapered off a bit. And as you know, we kind of have the three-month lag with prices. So we'll see a little bit of an impact in our numbers in the fourth quarter that really relates to the increases that kind of came around in January. That looks pretty level, coppers come down here recently. And you had some things like a aluminum bounce up a little bit, but we think the pricing action that we took covers any risk we have on that front.

Todd Schwartzman - Sidoti & Company

And then you could remind us with the order pull forward from Q4 to Q3, what is the extent of the price increases?

Brian Walker

Are you talking about the $22 million Todd, I’m not sure I got your question correctly?

Todd Schwartzman - Sidoti & Company

Yes. So what's happening with the ASPs?

Brian Walker

So they went up on average 2.5%. And as you know typically whenever we do a price increase like this, we have a bulk of orders that kind of gets pull forward into the picture. And so we get a big rush of orders that week and the following week as we tried to get things through the system, which came -- which was basically February 1. And then the way we do the math on the 22 is we look at the schedule of the backlog right now and say, well, how much of this backlog has scheduled farther than normal and relative to historical trends and then we basically subtract trends from what we have and why lie to get $22 million. So is that a perfect number, no, but plus or minus a couple $1 million it’s probably not.

Todd Schwartzman - Sidoti & Company

And Maharam, what was the sales and EPS contribution for Q3?

Greg Bylsma

Sales are $24.8 million I think Todd on top of my head.

Brian Walker

And if you saw -- I mean if you look at the segment reporting you will note that the Specialty and Consumer segment operating margins were lower than we’ve seen particularly from last year. There were two real factors Todd just to get to your question about EPS. First of all, Geiger had a very light quarter in terms of shipments, good quarter in terms of orders, but a light quarter in terms of shipments. So that part of the profitability.

The other thing that happened in this quarter with Maharam, their volume was lighter than we had seen in prior quarters. To be frank, some of this is, I think we didn’t expect them to see as much seasonality. This is our first time going through the third quarter with them. In fact, our seasonality looked a lot more like what we see in our core business and that probably shouldn’t have surprised us to be frank but indeed.

They also had a higher level of operating expenses related to sampling and putting new SKUs in place that with lower volume. And you remember when you got to kind of gross margins they have, when you drop a couple $1 million with the volume out of that business, it’s a big impact. And we actually raised operating expenses a bit to get some marketing programs ahead of some of the new offers they are launching for the spring. You will see a lot of activity around Maharam with some new carpet, a new carpet offering from Danskina, one of the company that’s part of the Maharam Group and a joint venture that we have with Kvadrat and then a bunch of new SKUs on the textile side. So actually the EPS addition for Maharam was quite small this quarter.

Todd Schwartzman - Sidoti & Company

So with that in mind, are you or have you adjusted your initial full year contribution EPS guidance?

Greg Bylsma

For Maharam particularly?

Todd Schwartzman - Sidoti & Company

Yes.

Greg Bylsma

Not a ton, it might be up, maybe a penny or so.

Todd Schwartzman - Sidoti & Company

Yes. I got right. And with Geiger, I know I think you had said that orders were up in Q3, but regarding that shipment decline, was there something about the prior year quarter that made the bar, that set the bar abnormally high? What were the issues going on with regards to the Geiger shipment during the quarter?

Brian Walker

I meant that business always given its size and the size of project that can roll through there, you always get a bunch of lumpiness. There was not anything special and the Q3 was pretty good last year. And the orders in the fall that drove revenue in Q3 this year weren’t quite as good, but last fall that team was saying, hey, look a lot of stuff in the pipeline and that showed up in terms of orders in the third quarter and so there is nothing, its always a very volatile, lumpy business due to the size of the total business relative to the size of the project that we win.

Todd Schwartzman - Sidoti & Company

Sounds good. Thank you, gentlemen.

Operator

Thank you. Our next question comes from Matt McCall from BB&T Capital Markets.

Matt McCall - BB&T Capital Markets

Thanks. Good morning, guys.

Brian Walker

Good morning, Matt.

Matt McCall - BB&T Capital Markets

So on the SG&A front, it looks like historically there has been about a $5 million or 5%, I have looked at it couple of different ways increase in SG&A spend in Q3 to Q4? Is there, it looks like a little higher than that this year on a little bit higher base? I am just curious as to what’s driving that, you talked about new products introductions?

And then, as you look out in the next year, I think we have talked about for a while now, the potential of incremental margins rebounding a little bit after a couple years of spending, so can you discuss the spending expectations and incremental margin expectations next year?

Greg Bylsma

Yeah. Matt, the biggest thing that that has the operating expense up a little more than what we have normally see, as we are in a really heavy phase around the Living Office and a heavy phase around some of the work we have been doing with the sales forces on rescaling them around solution based selling.

Those two things alone are the big -- are probably the biggest drivers of it. We have a lot of the products we launched last year, NeoCon was, I would describe as a soft launch, we didn’t have all the marketing materials though. One of the things we’ve going on right now as you are implementing those products lot of the dealer showrooms, a lot of our showrooms across the country. So you got a lot of investment to sort of restock showrooms if you will, not only just in terms of product, but also in terms of marketing brochures, those kind of things.

So there is a really heavy marketing effort going on right now. In fact, in some ways, while there is a lot of R&D work, which is another driver of the uptake as well is as you down to those final throws, you’ve got lots of work being done at R&D not only in the new product -- on the new product platform for the Living Office. But as well we are trying to make sure the pipeline doesn’t dry up and we are starting to pushing into new areas that will build on the work we have done.

So, to be frank, it’s really sort of we are at the end -- not -- I don’t say at the end but we are near the end of the big snake of work around the Living Office and that's a big drive for it. What was the second part of your question, I think?

Matt McCall - BB&T Capital Markets

Well, you kind of eluded to, you are going to continue to invest, so I think, my anticipation was that we would see a pullback in some of this gross spending next year as you start to reap some of the benefits, but its sounds like its going to continue or should we see the incrementals rebound further?

Greg Bylsma

Matt, I would say this way that, our thought process is, hey, look that, I think year-to-date our leverage is about 18% over the prior year that's probably about what you would tend to see next year, if the average BIFMA growth rate is in our model when we put this together was, we were thinking around 3%. Given the uptake, if you start to see volume increases like go higher than certainly like, Brian, described earlier, you will see better leverage than 18%.

Matt McCall - BB&T Capital Markets

Okay. And that kind of leads to the next question, you have got, I think a target or a goal, I don’t exactly what you call it, but for revenue you had $2.2 billion and for EBIT margin you had 10%.

Greg Bylsma

Yeah.

Matt McCall - BB&T Capital Markets

So, maybe, if you could reference where you stand there and your view on that, but more specifically, I am curious about the segment margin targets given, I think, Brian, you just talked about the ELA segment, Specialty and Consumer, that’s a little bit lower, what’s the target margin that you’re looking for each one of your segment?

Greg Bylsma

Well, first of all, let me just talk about the broad goal that we set out three years ago. We have been pretty open, we just put a thing out on our website and we are going to update those in the fourth quarter. So we are in the process of finishing up our planning. So I don’t know what I am -- we are ready to tell you what the goals are going to be yet and we are working on it.

And we will have that stuff out when we release in the fourth quarter. We actually have our Broad meeting in three or four weeks and not be a little bit ahead of myself, if I didn’t make sure that they got their own order on what they thought they should be as well. So we are kind of at the end of that process.

We always told folks that getting to those goals will have two big factors, what is the industry do and where were we in terms of acquisitions. If you go back and look at where we were and to be frank, the one thing, I think, we did not anticipate when we set those goals was the drop we have seen in the federal government. If that drop had not occurred and I’d say we are probably back and one sort of acquisition away from our goals if you go back and look at it.

Now the question of whether we will get there or not, I think that's going to depend a little bit on the conversation we just had around what’s in the growth rate for next year for BIFMA. And I think earlier question of the subscribed for their number, my answer is I don’t know if I subscribed as a number, I wouldn’t plan our business around that level of an increase because I think you get ahead of yourself.

On the other hand, I think there are good signs that it’s going to be on the upper end of what we’ve seen for quite a while. So if we get really up for the more aggressive end of the BIFMA range, it certainly would have a big impact on our ability to get there and we are, you know we feel really good about our position of the balance sheet and think there are other things that we can continue to look at to build out where we are starting to head from a strategy perspective. So where we get there exactly on the date that we said may be not.

Now longer term, our goal still remains, I’d say mid-to-long term as we got to get to double-digit operating income. To get that you can have two segments that run at half of that rate. So for the long time, we had international and the consumer and specialty business both ran near to that cooperate average number. I think we’ve got two things going on the international side. One of them in our control, that is that we still got some integration work to get through with POSH.

The second one is not in our control. It is what’s happened with exchange rates. Exchange rates if you look at and go through Greg’s numbers, exchange rates have put a real dent in gross margins in the international side this year. So we will look at how much of that we can recoup through the pricing but you want to be careful of the lever between pricing and margins. So longer term, those two segments, I actually think the specialty and consumer segment longer run should be higher than our average. It has higher gross margins on average.

We got to figure how to get it up there. Now some of those gross margins also come up in higher operating expenses, especially on the consumer side and I’m hearing where you spend more money on the marketing side of things. But net-net, I would say longer term I think S&P should run higher than our average and international should be right about our average is my gut.

Now it will take us a while to get through the question of the exchange rate. And I think the other thing is where we forward investing. And of course, in the U.S., we got a fairly stable base, a big thing to playoff from and we sort of are doing incremental growth. When you get to the other two, we’re investing in them.

You take as an example in international this next year, we’re going to open a new assembly facility in India. We’re going to have cost setting up that assembly facility to be able to drive demand. But we’re really not going to drive much revenue out of that new facility until probably fiscal 2016.

So you’re going to constantly have sort of lumpiness in those businesses, if we’re making investments to open new capabilities. I think the trickier question here longer term is going to be what is the sort of running profitability of those businesses versus what we report when we go through kind of step ups in investments as we open up new channels to market or new capabilities to enable us to continue to get the growth, that make sense.

Matt McCall - BB&T Capital Markets

It does. So if I do that math, it sounds like 10% is not the longer term target that was a three-year target. If you just add up what you just said, it seems like there has to be something higher than that longer term. And it seems like that the North American business needs more volume whereas the other businesses. Maybe it's just some of the investment lapse and some of the integration lapses, things like that. Is that correct?

Greg Bylsma

Well, I'm not going to say correct to your first part because I didn't give you that number. You forecasted the number. And as I told you we’ll come out with a new set of three-year guidelines when we get to the end of the year. Until then we don’t have that work done, Matt, to be frank. And again I think you’re going to have to those mix of where the investments are as well.

Matt McCall - BB&T Capital Markets

Okay.

Greg Bylsma

So that’s why I’m trying to be -- I want to be careful that you don't run away and say well, Jeez, we’re going to take up because I was trying to be careful to say, yeah, there will be an operating level of profitability but then you’re going to have investments you're making to extend the reach of some of those businesses.

So there may be some offset to that as we’re ramping some of them. If you look at the growth rates we’ve got in the ELA business right now, to keep that up, you got to put infrastructure in place. If you look at S&C, where we started to try to open new channels, we’re going to have some investment as we go forward around marketing to continue to drive the kind of growth we are getting. And so that’s my only caution to you is to be careful with just taking out and say, hey, I’m going to add these all up and they’re going to be significantly higher, that’s my one caution.

Matt McCall - BB&T Capital Markets

Okay. That’s fair. Thank you, Brian

Operator

Thank you. And our next question comes from Budd Bugatch from Raymond James. Your line is open. Please go ahead.

Bobby Griffin - Raymond James

Hi guys. This is Bobby filling in for Budd. Thanks for taking my question and congrats on the quarter.

Greg Bylsma

Thanks, Bobby.

Bobby Griffin - Raymond James

Quickly, can you, maybe, is there any other issues besides the currency that’s affecting the international margins? And if maybe, is there if you were trying to back in the X currency, what the margin would look like because it’s down from year-over-year?

Greg Bylsma

Yeah. Bob, this is Greg. Now this is going to be -- we have Canada in it too, which is going to play across the North American segment. But the total impact in terms of dollars on gross margin year-on-year is about 3 million bucks on the gross margin line. So, one of the things we talked about internally is we’re really pleased with 35.7%, given that headwind that we were facing.

So, I don't remember off top my head, what the difference between Canada and the rest of business. I think it was in the neighborhood of Canada, was a pretty healthy part of that, 3 million bucks. I want to say more than a million but I can't remember off that my head, Bobby.

Bobby Griffin - Raymond James

I appreciate that. The color is helpful. And then maybe just for modeling purposes, a little color on for next quarter, some revenue by segment. Last quarter, you called out strength again in our international revenue. You are expecting to see that again going-forward next quarter?

Greg Bylsma

Bobby, for that question, I’d look at our orders this quarter and say that’s for modeling purposes, that’s what I would use.

Bobby Griffin - Raymond James

All right. And can you give us the percentage of federal government as a percentage of sales?

Greg Bylsma

Yeah. I didn’t do the exact math. It’s in the neighborhood of about 4%, Bobby, maybe 3.7%, somewhere between 3.5% and 4%.

Bobby Griffin - Raymond James

All right. Perfect. I appreciate it. And then one last quick one on, you did give some color on the large energy project but is it possible to get the dollar value that contributed to the quarter?

Greg Bylsma

I'd say on order side, organic order growth without that was just under 10%.

Bobby Griffin - Raymond James

All right. I appreciate that. Thank you. And best of luck going forward, guys.

Greg Bylsma

Thanks.

Brian Walker

Thanks.

Operator

Thank you. Our next question comes from Josh Borstein from Longbow Research. Your line is open. Please go ahead.

Josh Borstein - Longbow Research

Thanks. And just a quick follow-up, on the restructuring actions that you took with the Geiger subsidiary, what exactly are those and are there any estimated savings associated with that and if so, when should they be realized?

Greg Bylsma

Yeah. So it was a combination of things and the Geiger, there was a shift change where we combined some two shifts and kind of into for purposes of one shift. That’s where the biggest savings will come from. My guess is you are talking about in the neighborhood of about equal to the amount of the restructure on an annual basis.

Josh Borstein - Longbow Research

Okay. Thanks. And then just lastly, with the improvement in the economy and the pickup in orders and acceleration you are seeing, have you also seen a step-up in the quality of products or price points that customers are purchasing right now?

Greg Bylsma

I don’t know that we’ve seen any change, Josh, in patterns of what folks are purchasing from our perspective. If you look at the industry overall, you might see that. But of course, we wouldn’t have that data. For us, of course, we sell what we probably have and we don't really play across that broad of a spectrum in that case. So for us mix has not changed a great deal.

Josh Borstein - Longbow Research

Okay. Thank you.

Operator

Thank you. And now, I’m showing no further questions at this time gentlemen. I would like to hand the conference back over for any closing remarks.

Brian Walker

Well, thank you, all for taking time to join us this morning. Before our next reporting window, we hope to see you personally at NeoCon. Meanwhile, we’ll remain focused on delivering great business performance for our shareholders and we look forward to sharing those results in June. Thanks. And we’ll talk to you soon.

Operator

Ladies and gentlemen, thank you for participating in today's conference. This concludes our program. You may all disconnect and have a wonderful day.

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