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Executives

Mark Doheny – Director, IR

Kirk Hachigian – Chairman and CEO

Dave Barta – SVP and CFO

Analysts

Bob Cornell – Barclays Capital

Jeff Sprague – Vertical Research Partners

Daniel Garrod – Citi Investment Research

Christopher Glynn – Oppenheimer

Rich Kwas – Wells Fargo Security

Eli Lustgarten – Longbow Securities

Nigel Coe – Deutsche Bank

Terry Darling – Goldman Sachs

Shannon O’Callaghan – Nomura

Julian Mitchell – Credit Suisse

Cooper Industries Ltd. (CBE) Q4 2010 Earnings Call Transcript January 26, 2011 12:00 PM ET

Operator

Good day, ladies and gentlemen, and welcome to the Fourth Quarter 2010 Cooper Industries PLC Earnings Conference call. My name is Shanell and I will be your operator for today. At this time, all lines are in listen-only mode. Later, we will conduct a question-and-answer session. (Operator Instructions)

I would now like to turn the conference over to your host for today’s call, Mr. Mark Doheny, Director of Investor Relations. Please proceed.

Mark Doheny

Thank you, operator. Welcome to the Cooper Industries’ Fourth Quarter 2010 Earnings Conference call. With me today is Kirk Hachigian, Chairman and Chief Executive Officer and Dave Barta, Senior Vice President and Chief Financial Officer.

We have posted a presentation on our website that we’ll refer to throughout this call. If you’d like to view this presentation, please go to the Investors section of our website www.cooperindustries.com.

As a reminder, comments made during this call may include forward-looking statements under the Private Securities Litigation Reform Act of 1995. These statements are subject to various risks and uncertainties, many of which are outside the control of the company and therefore, actual results may differ materially from those anticipated by Cooper.

A discussion of these factors may be found in the company’s Annual Report on Form 10-K and other recent SEC filings. In addition, comments made here may include non-GAAP financial measures. To the extent that they’ve been anticipated, reconciliations of those measures to the most directly comparable GAAP measures are included in the press release and the web presentation.

Now, let me turn the call over to Kirk.

Kirk Hachigian

Thanks Mark. Good morning. 2010 closed out on a very positive note for Cooper Industries. Our full year revenues were up 5.4% with earnings up over 30% to $3.20 a share. Our second half core growth however was a spectacular strong and we exited with great momentum as we headed into 2011. I have a page on that in a second.

We ended the year with 39% of our sales outside the U.S. and 24% vitality index which is the percent of our sales from products introduced in the last three years. Both of these records are for Cooper Industries. We delivered our 10th consecutive year where our free cash flow exceeded reoccurring income and we have the strongest balance sheet in recent memory with over a billion dollars of cash on hand.

We closed the Tools joint venture mid way through the year allowing us to focus a 100% on our electrical platforms and we continue to fully fund our core growth initiatives. We took up our dividend 8% last February, we purchased our stock at attractive prices, and maintained a well funded pension program.

Of course none of this would have been possible without the commitment and dedication of our 28,000 employees worldwide. 2009, 2010 were probably the most challenging economies in the last 50 years and yet our company has never been in better shape positioned for faster core growth, increased international penetration, and introducing more exciting new products than at any time in our history.

Now if you turn the page 2 of our handout, Dave and I will give you specific comments on the fourth quarter performance and provide you our outlook for 2011. Our total electrical revenues for fourth quarter were 14.2%. Our fourth quarter core was up 14.1%. Energy and safety solutions was up 15, with the electrical products group up 13, just terrific, terrific growth numbers, the best in our company’s history.

Earnings per share were $0.85, up 12% from the fourth quarter last year, again the full year 2010 came in at $3.20 up 30%. Our operating margins came in at 14.3% for the electrical group excluding Tools, down 20 basis points. Energy and Safety solutions operating margins at 16.8 were up 90 basis points from prior year, and Electrical Products group margins were at 13.8, down a 120 basis points.

Price, material inflation and several one-time unusual items impacted our fourth quarter margins obviously and Dave will provide you details on these margins shortly. The full year cash flow was $607 million, 13% of sales. As I mentioned our 10th consecutive year where our free cash flow has been greater than our reoccurring income and our sixth consecutive year where we’ve had a percent of sales of free cash flow greater than 10%.

Tools equity income for the quarter was $0.07 right on the top end of range, we had given you $0.05 to $0.07 and revenues and performance at the Tools group has been very strong, I’m very happy with the first six months performance in the new joint venture.

For the full year upon revenue is 30% on earnings per share, again free cash flow at 13%. If you turn to page 3, you can see the momentum that we built in the second half of the

year starting down negative six and then ending the third and fourth quarters up eight and up 14 and an exit rate of 14% again the best in our history and providing great momentum as we head into 2011.

If you turn to page 4, I’ll make specific comments now in marketing and conditions, the industrial MRO business remains very strong, industrial production continued to grow at a solid pace with capacity utilization in the U.S. climbing the 76%, a nice recovery from 65% we saw in 2009 but still off the 30 year average of 80.6%.We continue to see good strength in most of our international industrial markets.

Commercial construction, commercial markets continued to improve up very depressed levels with office vacancy rates beginning to improve, the ABI numbers over 50 now, and some segments of the market starting to turn. We continue to see strength in international and energy efficiency products and solutions.

Our utility markets continue to maintain the momentum that we discussed in the third quarter with strong demand in just about all produce lines across all geographies. As you can see starting in the third quarter and continuing into the fourth quarter the impact of an improving utility market on our overall poor growth rates.

And lastly residential, still remain flat as there has been really no improvement in unemployment, any increased inventory of housing in our country. Big box expectation for this year retail were some between 2% to 3% same store sales growth.

In summary, the repositioning of the portfolio during the last several years to a 100% electrical, focused on critical global trends with more exposure to emerging market and the penetration of key verticals allowed us to drive record core growth while over a third of the portfolio, the construction markets, are still near recession low levels, so we’re very happy.

Turning to page 5, let me comment on two of our business segments, Energy and Safety Solutions, Cooper Power Systems, Cooper Crouse-Hinds, and Cooper Safety Europe are later cycle businesses with 50% of our sales overseas. The backlog for this segment over the course of the year ended up over 30% with broad strength across all three businesses.

We delivered strong core sales growth in all three businesses with Copper Power Systems up over 20% in the quarter. We continue to see strength oversees with developing markets up over 25% and our margins remained strong at 16.8%, up 90 basis points from the year earlier.

We continue to grow more excited about the outlook for our ESS segment as we had built strong backlog, utility spending improves, and large global oil and gas projects are released, and the European markets continue to recover.

If you go to page 6, Electrical Product Group Highlights, again, our shorter cycle businesses with more domestic presence had a solid quarter with core revenues up 13%. Revenues were up from a range of single-digit, high single-digits to north of 20%. So again, our broad based recovery across the four businesses.

We were able to offset lower construction demand with strong international growth up 25% and higher demand for energy efficiency new products. But the margins again were negatively impacted by strong commodity inflation and onetime costs which were offset by productivity.

Naturally, we have instituted a range of price increases during the first several months of this year and expect to regain margin leverage by the second quarter. While we saw the margin squeeze coming, November and December are very difficult months to implement price increases.

We are very pleased with the overall performance of our construction related businesses during 2010 holding relatively flat for the year with very strong improvement in our industrial businesses. And we continue to see growth in 2011 as construction recovers and global infrastructure projects are released and factory utilization continues to improve.

Now, let me turn the call over to Dave to provide you with additional details on the quarter and updates you on our 2011 outlook.

Dave Barta

Thanks, Kirk. Before I begin my comments as in the prior quarter, many of our slides have been adjusted to exclude the Tools business from the prior year for comparability. On those slides, we have noted that if it applies.

So turning to slide 7, revenue for the fourth quarter was up $1.26 billion which is a 14% increase over the fourth quarter of 2009. As Kirk mentioned, core revenue increased, it was 14.1 which is the record of core growth rate for Cooper. Revenue decreased 0.6% as a result of the impact of currency translation and acquisition increased sales by 0.7%, so basically offset in currency.

For the quarter, price is just a little over 1% positive, so throughout the year again we had positive price in each and every quarter. And those results again were fairly consistent with the third quarter by business and by segment, one thing I would call out, power systems pricing was slightly more favorable in the fourth quarter than the third. So we continue to see pricing stabilize and firm up there as we expected.

Overall, net price inflation did have a negative impact on margins year-over-year as material inflation impact worsened during the fourth quarter. This was particularly evident in the EPG group.

However, if you combine price, material inflation, and the productivity impacts, the ESS group was net positive and the EPG group was basically neutral. So while this is an okay result, our approach is for price to offset material inflation and productivity to either be reinvested in our business or follow the bottom line, so not the ideal equation. Because of the current and expected material cost pressures, all of our businesses are implementing price increases during the first quarter of 2011 and those will be effective obviously throughout the quarter and hopefully fully in effect by the second quarter.

Our book-to-bill and total was just under a 100% obviously on a strong revenue base for the quarter. Sales outside the U.S. were 40% of total sales in the fourth quarter. The U.S. core sales increased 11.2% and the international core revenue was up almost 17%, lead by growth in Latin America, and Asia, and even Western Europe was up 4.4% core. So as shown in this morning’s release, we reported $0.85 in earnings per share from continuing operations which is compared to $0.76 per share in last year’s fourth quarter.

Looking at gross margins on slide 8, the gross margin total was 33.1 in the fourth quarter as compared to 34% last year. As I mentioned earlier, net of price, material inflation, and productivity, the net of all that was slightly favorable. Last year’s 34% also included a LIFO benefit of over $7 million or 60 basis points.

Additionally, this year’s results, as Kirk mentioned included more restructuring and a fixed cost absorption impact, a negative impact as a result of the inventory reduction. These two factors combine to impact margins this year reducing the gross margin by about 50 basis points.

Selling, general, administrative expense for the quarter as a percent of sales was 19.8 compared to 20.2 in the prior year fourth quarter, a 40 basis point decline. We continue to be very focused on SG&A cost controls; we are also very focused on investing in strategic growth opportunities.

Our general corporate expense was $26.2 million as it compared to $19.2 million a year ago. The primary driver of the increase is related to certain legal and environmental matters which we provided for in the quarter as well cost related M&A activity.

Turning to slide 9, operating earnings increased 12.3% to a $180.3 million. Our operating margin decreased 20 basis points to 14.3 from the adjusted fourth quarter 2009 operating margin of 14.5, due to the drivers that I previously mentioned.

On slide 10, our effective tax rate for the fourth quarter was 15.1 versus 12.1 for the fourth quarter of 2009. Last year’s fourth quarter was impacted to a greater degree by more favorable discreet tax items. So our four quarter, continuing income increased 10.2% to a $141.9 million.

Now, I’ll dive into the segments a little bit. On slide 11, the Energy and Safety segment. Sales for this segment increased 15% to $676.7 million with currency negatively impacting sales by 1.2% and acquisitions positively impacting sales by 1.3%. This performance was largely driven by the power system products. However, it was nice to see the Crouse-Hinds business reflect a very nice increase in sales of that business starts to come online as later cycle business.

The segment operating margin increased 90 basis points to 16.8%. Margins for the segment were positively impacted by productivity which fell to the bottom line as price and material inflation were basically neutral.

Looking at the Electrical Product group on slide 12, segment core sales increased 13% for the quarter. This segment continues to benefit from strong MRO and industrial demand, strong demand for electronics, and strong demand for energy efficient lighting products.

The electrical products group operating margin decreased 100 basis points, the 13.8% versus the fourth quarter of 2009. This decrease on a net basis was really driven by three fairly discrete items. Number one, the impact of ongoing restructuring, about a $2 million year-over-year hit to their margins. Also the negative impact of the LIFO benefit we got in ’09, it didn’t repeat in 2010, again almost a $3 million impact.

Then lastly the impact, they were very, very successful in reducing inventories and that resulted in a fixed overhead absorption impact again around the $2 million impact on a year-over-year basis. So in there segment, the price inflation of productivity basically were neutral to margins.

From a Tool standpoint, we did not have a slide in here on Tools, but the business was in line, it performed in line with our expectations. Sales in the Tools business were up almost 20% and continued to be strong across most of their geographies and most of their product channels.

On slide 13, this is a pictorial description I guess of the comments I’ve made regarding segment margins. It’s certainly obvious from this slide more red minuses we’d like to see, but it’s important to note that the strong productivity results which is netted with the unfavorable price inflation impact actually ends up to get small amount of positive margins.

Also although red for this chart, the restructuring will add to our productivity results as these projects are completed in the future. And last again, I’ll mention that the fourth quarter 2009 did include approximately a $7 million LIFO benefit across both segments.

On slide 14, cash and debt. We are very pleased to report another strong cash flow quarter and another year where free cash flow exceeds recurring income. Year-to-date cash flow was $606.6 million as compared to $632.6 million in 2009. Our balance sheet continue to be in great shape, with our debt to total capitalization that of cash at 10.9 at the end of the quarter.

We ended the year with over $1 billion of cash as a result of the strong cash performance throughout the year and then the debt we issued during the quarter. The debt we issued was in two tranches, the first, a five year unsecured or unsecured five year notes, the second were 10 year unsecured notes in the blended rate, about 3.125.

The debt issuance is motivated by our consistent approach to capital allocation. First, funding the core, second, looking for attractive M&A opportunities, and third, returning cash to shareholders.

Diving a little deeper on our cash performance on slide 15, working capital. Our teams continue to have an extreme focus on working capital metrics to offset the use of cash that you generally see resulting from growth. Inventory turns increased from a 6.8 to 7.4 to end the quarter.

With regard to accounts receivable, DSO did remain flat at 59 days, which is not a bad result considering more of our business growing in international markets where DSOs are generally longer than here in the States. However, we were able to – nice offset to that with payables improving from 44 to 51 days. All this result in our operating working capital turns improving to 6.1 turns as compared to 5.6 turns in the fourth quarter of 2009.

Turning to slide 16, our capital expenditures for 2010 were $98.5 million compared to a $126.7 million for 2009. We did not repurchase any of our stock in the fourth quarter, but for the year, we repurchased over 6.2 million shares at an average price just a little over $44.

So our balance sheet is in great shape and with our consistent cash flow generation we continue to have tremendous flexibility to fund our organic growth opportunities, considered acquisition opportunities, pay a competitive dividend, and repurchase our common stock.

Turning to slide 17, and closing of the year, we started the year slow on the top line as Kirk mentioned, so that’s a very strong finish, we ended 5% over 2009 on top line basis. Segment margins for the year improved nicely as a result of volume and productivity which obviously was offset to a degree by the net unfavorable impact from materials inflation and that of the price increases.

Earnings per share excluding the loss recorded as a result of the formation of the Tools JV ended at $3.20 up 30% for 2009. As I previously mentioned, free cash flow $607 million above recurring income for the 10th consecutive year.

Now, turning to look at 2011 and I’ll add on this, we will obviously give much more color on our view of 2011 in our Annual Outlook Meeting. So for the first quarter we are forecasting revenues to increase 10% to 14% with the ESS segment up 13% to 17% reflecting the continuing strength in utility business and the growing strength in the Crouse-Hinds business, and EPG segment up 7% to 11%.

The forecast does include negative impact from currency of about 1%, but a favorable impact of 1% from acquisitions. Now we are projecting GAAP earnings per share to be in the range of $0.80 to $0.84 per share for the first quarter. This compares to a reported number in Q1 of 2010 of $0.70.

The first quarter 2011 tax rate assumption is in the range 19% to 20%, which is a sequential increase of 500 basis points from the fourth quarter, reducing our EPS as compared to the fourth quarter by about $0.05. I would suggest using a 19% to 20% range for each of the quarters throughout 2011. However, we will provide a more definitive guidance by quarter going forward.

We are also assuming, the similar contribution for the Tools JV in the first quarter as we recorded in the fourth quarter of 2010. For the year, we are forecasting the revenue to increase 6% to 9% and earnings per share including restructuring of $3.60 to $3.80 per share. As it’s based on the assumptions previously provided as well as the share count consistent with our fourth quarter results.

We also expect free cash flow to approximate recurring income; I think this will be more of a challenge here as a result of number one, the working capital requirements as we continue to see the growth that we expect. And number two, the significant working capitals improvements we made in recent years we have more to go but certainly we’ve made a nice improvements.

And then our CapEx plans for 2011 are right now forecast to be at $120 million to $140 million. So this is obviously a little above our traditional run rates it then results from several plant expansions that we have for emerging market opportunities.

Now, I’ll turn the call back over the Kirk. Kirk?

Kirk Hachigian

Thanks, Dave. We believe, we’re entering a broad based location recovery of our end markets lead by the strength in our industrial MRO businesses, which we saw occur early in 2010 and continue through the year.

Oil, gas, utility markets exposure will increase in 2011 and recovery in construction markets in 2012 and beyond. We position the portfolio through organic investments and acquisitions to play a more relevant role in the utility upgrade around the world, energy conservation, global infrastructure build out, and safety and protection of people and equipment.

In 2010, we achieved 39% of our sales outside the U.S. at a record level of new product introductions. Our cost structure is well aligned and our global footprint is extremely competitive to ensure our success in a faster, more complex global economy and between ongoing productivity actions and pricing offsets to material inflation, we believe we can continue to achieve solid margin expansion in 2011 with leverage between 25% and 30%.

Lastly, despite our investments in new productions, globalization, acquisition, share buyback in our dividend, we end the year with a billion dollars of cash on hand with great financial flexibility as we move in to this new year.

All in all, we are very optimistic about our ability to deliver high single-digit core growth rate in 2011 and return to record earnings per share for the year. Thank you, and now I’ll turn the call back over to Mark to take your questions.

Mark Doheny

Thanks, Kirk. Before we open the call for questions, I’d like to remind the investment committee to join us for Cooper’s 2011 Outlook meeting which will again be held at the New York Mandarin Oriental Hotel on Tuesday March 1st. We will begin presentations around 8:30 am and conclude by around 11.

As we did last year, we’ll have presentations from both Corporate Senior Executives and Division Management. This year, we will have the Presidents from our Cooper Lighting, Copper Power Systems, Cooper Crouse-Hinds, and Cooper Bussmann Divisions presenting.

Operator, first question please.

Question-and-Answer Session

Operator

Thank you. (Operator Instructions) And your first question comes from the line of Bob Cornell, Barclays Capital.

Bob Cornell – Barclays Capital

Yes. So I’ll ask the tough question here. Obviously, we all like to, the sales momentum so forth Kirk but, could you give us more color around the margins by some of the individual electrical products for businesses specifically lighting, I’m guessing Bussmann played a good quarter but some of the others, I’m not so sure about.

Kirk Hachigian

Yes, I saw your note this morning Bob. So let me give you a little bit more on it. It was the heavier material content businesses where you had, sort of a more of a tougher demand cycle. Actually lighting took an increase earlier in the year and despite the fact that lot of the competition didn’t follow that increase of course it built well for the back half of the year.

I saw some of the competitors in that space announcing some increases; we’re out with increases as well so that will do well. But it was more in the B line side of it and a little bit more on some of the international pieces in Europe and such. But Bob, the biggest issue is just trying to take price increases in November, December, it was a timing issue, we saw this coming and we talked about it in the third quarter and it states that our productivity was at record levels and so we offset the hit on it.

So we are confident with the increases we have in the market now. And if you go back to 2006, 2007, 2008 as you see demand picking up and you listen to what’s going on with everybody else, I am fairly certain we will pull most of the price that we have in the marketplace and get back to the equation that Dave mentioned, which is price covering material economics and then having productivity either drop to bottom line or reinvest it in the core, right.

So I think this is a quarter event, there are some other unusual that Dave walked through about absorption and LIFO and things like that that were unusual. End of year are sometimes are little sloppy, some legal things and some true ups, but I am not overly concerned by it, I think we have the corrective actions in place and again I think if you look at 2011 in the mid-range of the revenue and the earnings Bob, you’d come up with high 20s on the leverage for the overall numbers that we just gave you guys and so we feel pretty confident we get back to leveraging about that 25 to 30%.

Bob Cornell – Barclays Capital

Yes, just what materials are giving you the most trouble in the quarter, what was doing it?

Dave Barta

Steel far and away in terms of the impact, so it’s obviously very core input into the B line business where again across the board probably had some of the, on the percent of sales toughest inflation hurdles. Obviously seeing it in copper, aluminum, zinc, we are seeing some inflationary pressures in some plastics and some other electrical component parts as well, which impacted in fact our safety business in some cases actually Bussmann also saw pretty good stuff up, the inflation given on the copper run and some of the other metals that go to their products.

Bob Cornell – Barclays Capital

Okay, thanks very much you guys.

Kirk Hachigian

Thanks, Bob.

Operator

Your next question comes from the line of Jeff Sprague of Vertical Research Partners.

Jeff Sprague – Vertical Research Partners

Thank you, good afternoon fellows.

Kirk Hachigian

Hey Jeff, how are you?

Dave Barta

Cold eye back.

Jeff Sprague – Vertical Research Partners

Say that again.

Dave Barta

Your cold eye back.

Jeff Sprague – Vertical Research Partners

No, I am in Ohio boy, it’s not so bad, all these. Hey, just on the other side of that coin and actually I mean obviously the cost pressures we can kind of all see it out there in the spot prices like, to what degree do you have your cost defined. In terms of hedging contracts, other long-term agreements and like, just some sense of how much is locked down versus how much is kind of spot exposure over the course of the year?

Dave Barta

Yes, we haven’t given specific numbers and aren’t going start today. But I guess I would tell you, we do look at certain key currencies and obviously key commodities in terms of trying to manage our risk and exposure. So we do have active programs around hedging copper, aluminum, some other metals, so like the currencies as well. Steel is top, there is not a real good way to go out and – active hedge market would have to go in direct there, so we do look at that in terms of contracts, as you know very tough in today’s world with the field suppliers to come up with something that eliminates the exposures due to volatility.

So we do try to manage that, so we do have some degree of uncertainty as Kirk said, it wasn’t that we didn’t know we were going to have a struggle in the fourth quarter where we saw billing throughout the year. These price increases are going in today will get us back to where we need to be and also hopefully cover what likely will be further inflation.

So we do try to cover that, you got to be careful, your urge is always to go out and lock things in when it’s at high and we’ve seen copper run from, eight years ago from $0.80 a pound to $4 to $2.50 back to $4.50. So you do have to be a little careful there but we do try to manage the risk and we have a lot uncertainty around at least the next quarter or two.

Jeff Sprague – Vertical Research Partners

And Kirk can you give a little more pressure on, I mean a little more color on utility, it sounds like it was very broad base, but kind of key versus T versus D or switchgear, what’s really moving? Is there something in the complexion of what’s going on that gives you a signal into the later part of the year and into next year?

Kirk Hachigian

Yes, they were up north of 20%. Their order intake and even given the fourth quarter Jeff, it was terrific as well. Just about a one-to-one, book-to-bill. Yeah, the EAS business was up another 30% in order intake, so that’s two quarters in a row up, that kind of number. So when you look at international, if it’s broad-based and if you look across the product lines switchgear, and light, and transformers almost all equally – I think the international and emerging markets are doing extremely well.

Again, as I said before, I think the U.S. utilities took the inventories down too far, took the capital spend down too far, replenishing inventories, you’ve had some very inclement weather both hot summers and now a very tough winter coast-to-coast. So we think the order pattern stay at these kinds of levels. We don’t see – we didn’t see anything tapering off in December or the end of the year and we January kind of picking up on the same track and as you know we carry a nice backlog, it’s one of our businesses that carries a pretty nice backlog and that backlog was up 30% on the year.

So, we are certainly thinking and you’ll just see Mike at the Outlook Meeting, I think Jeff you’ve met him before, but he will be there with us and he will give you a little bit more color where this all coming from. But, we feel pretty good about that and as I sort of said in the third quarter once that utility business starts kicking in for us, you will see what kind of core growth rates we can put up.

So feel pretty good about it and the pricing as Dave mentioned, we’re getting good price offset on material economics there and they’ve got some extra restructuring and some productivity programs going in this year as well. So, we think those margins begin to start climbing back to those ’08 margins and you will see what happens with that safety and – Energy and Safety solutions group.

Jeff Sprague – Vertical Research Partners

Could you comment on deals that you got, very smallest things done in the fourth quarter, what does the pipeline look like, I mean obviously the markets have moved now, evaluations have moved. Do you see an opportunity to get things done in ’11 and is there any difference in kind of the size or type of deals that you might be dealing?

Kirk Hachigian

Here there are, I mean we’ve got bigger couple of $100 million and we’re even looking at some larger deals than that that we are in the early phases of it. I think I’ve mentioned this before; we have a fulltime business development team in Europe now at Bussmann, at Power Systems, at Lighting, at Crouse-Hinds. So the way we go about this – these idea are generated from the division op and so they are all over the world, they are many and the reason why we went out and took on the additional debt is because we do think there is a strong opportunity for us to close. I would say we’d target certainly north of the 5% of sales which is usually our model and try to stretch to something closer to 10% of sales this year which should be $500 million or more in acquisitions this year.

Jeff Sprague – Vertical Research Partners

Great, thank you.

Operator

Your next question comes from the line of Dan Garrod of Citi Investment Research.

Daniel Garrod – Citi Investment Research

Thank you, good day everybody. Just to clarify and follow up on that last point you made Kirk, I think the last update we had in terms of the M&A was expectations that $200 million to $300 million. So you think you could actually increase that closer to 5?

Kirk Hachigian

Well, we said 5% of sales, you’re right that would be about $250 million of revenue, but we’ve stepped down as a leadership team. We just finished our management meeting and I’ve challenge the group with the resources we have in the field and given what happened to our top line between the recession and Tools joint venture, we’ve come down from $6.5 billion at peak and we will be tracking right around five, five, two and you got, sort of the Tools numbers on an apples-and-apples, so you got to be fair about that.

But I think certainly this company runs most efficiently above that $6 billion number plus. So that would be 10% core gain would get us 510% acquired would give us 500 and that would give us an exit rate and it’s an internal plan that we have to get out of this year at about a $6 billion run rate. So that’s the lead, that’s why we took on the debt, the rates were of course staggeringly low. And so it was a good time to borrow up to have that flexibility. But, we’ll look at the dividend in February like we always do, there’s certainly room there, we’ll suggest an increase to the board I’m sure.

You saw what we did in the third quarter when our stock price does funny things, we reserved the right to go in there and be aggressive on the buyback too. So, we’ve been balanced in our approach. I think if you look at the slides that Mark has been using, it’s almost been a 50-50 allocation between distribution to our shareholders through buyback in dividends and through capital investments and acquisitions. We spent about a billion dollars in acquisitions in the last five years and then of course our dividends is about $165 million a year, about a $1.08 right now. And again, I’d expect the Board to give that a hard look and we make a suggestion to the Board in the February.

Daniel Garrod – Citi Investment Research

Can you comment about more buybacks in the fourth quarter?

Kirk Hachigian

Well we just loaded up kind of on the third and so we are pretty active on sort of the M&A side looking at a bunch of different things and we are borrowing the $500 million. So, I wouldn’t read much into it. We are committed to buying back the creep year-over-year and we’ve certainly done much better than that over the last several years.

Daniel Garrod – Citi Investment Research

And then just last one for me on the transformer side. I know its medium transformers but just give us an update that’s been through a lot in terms of expectations and delays and the upgrades. But where transformers stand into pricing and expected demand?

Dave Barta

I think the positive there as – we’ve seen the, I think switchgears started off this year pretty strong and the business continues to see a very strong demand there. Transformers then started picking up and as we expected, we saw – as the volume was coming back, the pricing firm up. I think the business not only is writing a little bit of what’s going on with the demand and what the industry does with pricing, but I think our business is being very diligent about pricing projects and jobs and products.

So we’ve seen that pricing pick up and the Power Systems business has turned from overall kind of a negative price situation to where they were actually in total power systems business was positive price in the fourth quarter which they had not done in any of the first three quarters. So I would say very positive in terms of that recovering on what we would see as a normal type recovery.

Kirk Hachigian

The core growth being – just to add to that, in the fourth quarter it was right at about 20%. So the volume is pretty consistent with what we are seeing across the whole business.

Daniel Garrod – Citi Investment Research

That’s helpful, thank you.

Operator

Your next question comes from the line of Christopher Glynn from Oppenheimer.

Christopher Glynn – Oppenheimer

Thanks. Just want to dig into tools a little bit, what we can expect there, if we look at the levels wherein we had no fixed rate. Even in the second quarter this year it was very strong. I am not sure what the restructuring tale is for the JV, but when would we see that kind of turn back to those levels and perhaps it should exceed that given the expected accretion and synergies?

Dave Barta

Yes, we’ll probably give you more details on that at the outlook meeting but again for this year to help you out there, I said that the Tools contribution would be similar to what we saw in the fourth quarter, I think it was about $12 million contribution, it will be 10 to 12 in the first quarter and that should actually improve where we are getting out some of the initial, obviously purchase accounting impacts, some of the restructuring, there you have more restructuring to go but we’ll start to see some of that benefits of that rolling through.

I think for this year, you’ll see about a $60 million contribution for the year. So we start out 10 to 12, you would expect to see that contribution improve each and every quarter and full year exiting with about $60 million contribution.

Christopher Glynn – Oppenheimer

Okay, thank you for that. And then on the inventory reduction, it looks like most of that EPG but you just had heck of an acceleration in the top line there so, why now on the inventory, what’s the kind of thoughts behind all that?

Dave Barta

Well, I think you will know, one of the critical measures for this company and something we are extremely proud of historically is our ability to generate cash. I think we are a company that believes that cash really is an indicator of quality of earnings. So there is a huge focus in this company not only on top line growth and EPS growth but translating that through the solid cash results.

Historically we’ve had opportunities in working capital. I think you really see now the benefits of the operating excellence program that was put in a number of years ago. We are finally at the point where we’ve got every plant and every facility globally march into the same metrics, same direction. We compensate people around variable compensation, have a cash component. So all of those things I think together are resolving in our business is getting better and better of what they do.

They are cutting out inventory they don’t need, they are improving lead times, they are trying to do this to also help service customers better and all that results in bringing inventory down. So we’ve got our turns at record type levels, if you look across our peer groups we are not doing bad but I’ll tell you we are still aren’t done. This is something that’s wasn’t a one quarter event, we are going to keep pushing our working capital across the board.

I think it’s particularly important as we start seeing the type of growth. Working capital, the huge use of cash when you are growing can offset it to some degree with performance. So we are continuing to push hard on working capital metrics.

Christopher Glynn – Oppenheimer

Thanks Dave, I’ll just leave with one more. Would you expect sort of comparable margin increases at each of the two electrical segments for this year?

Dave Barta

Probably little bit better I guess, the figure with exit rate on EPG, a little bit better margin there but we can see margin improvement across both. And we will express that out look at our – we'll give a full look at the full year on both segments.

Christopher Glynn – Oppenheimer

Thanks again.

Kirk Hachigian

Thanks Chris.

Operator

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

Rich Kwas – Wells Fargo Security

Hi guys, how are you?

Kirk Hachigian

Hi Rich.

Rich Kwas – Wells Fargo Security

Kirk on utility, I know this has been hammered a bit here, but just within your expectations for 2011 on utility, legacy business, legacy type products were kind of weak ’09 early ’10, should mix within that be more favorable in 2011. I’m really talking about legacy stuff versus smart grid type stuff.

Kirk Hachigian

Yes, in that the switchgear business is strong and some of the better margin segments of it are strong but again, transformers are equally as strong. So, I think the margin recovery in Power Systems overall to your point is going to be a very good story for 2011. They tended to go down when the lost mid 20% of their top line in ’09 as we’ve set all long and Rich I think you know this, there is a heavier capital intensive fixed cost kind of business.

And so when you lose volume in that business and you lose price, our margins dip down to low double-digit. And at the peak that business kind of gets back up to that 15%, 16% kind of margins. So ex-restructuring, we would expect that kind of an improvement in a shorter amount of time with this kind of volume running back to those plants. So I would say that our expectations on margin improvement in Power Systems are several 100 basis points, step-up improvement this year.

Rich Kwas – Wells Fargo Security

Okay. Dave, in terms of restructuring plants in 2011, can you quantify what’s embedded in the guidance?

Dave Barta

Yes, we again, well I will probably find more specifics to you at the Outlook. But year-over-year there is going to be an increase in the cost related to and it’s called heavy productivity projects and will probably have $7 million to $10 million incrementally year-over-year. It’s not a huge number, but certainly not (inaudible) sequential either.

Rich Kwas – Wells Fargo Security

All right, okay thanks. I appreciate it.

Operator

Your next question comes from the line of Eli Lustgarten of Longbow Securities.

Eli Lustgarten – Longbow Securities

I’ve enclosed a lot of things, good morning.

Unidentified Participant

I wasn’t sure who that was, do you know. It’s going to be a good question after all though.

Eli Lustgarten – Longbow Securities

Let me get a couple of classifications like then one, you said book-to-bill is little under one, can give the book-to-bill for these (inaudible)?

Kirk Hachigian

Almost equal, there are both in high 90s.

Eli Lustgarten – Longbow Securities

Okay. Restructuring, you gave us some of the extra cores in EPG but restructuring I think you guide those $0.03 at a quarter, was it about $0.03 in quarter or what will be actually restructuring and what were the legal charges, that was 50, the corporate numbers is 20 to 26.

Dave Barta

Yes, it was about I guess little over $0.02 in restructuring and legal and related again kind of spread throughout the products or the segments and also some at corporate that number was probably $0.03 to $0.04 as well.

Eli Lustgarten – Longbow Securities

And there was little onetime charges or anything?

Dave Barta

You like to believe so, I always hate to use that word onetime. It will haunt you but very discrete items I mean for example, there’s a $2 million related to a settlement on particular legal matters so those, we hope you don’t see those things come back so.

Eli Lustgarten – Longbow Securities

I mean such things ongoing but legal – it’s not legal. Okay, can you talk a little about what you’re seeing from the emergent market demand scenario particularly in the China area and with some of the inflation there and some of the – it just great, would you be seeing any impact in this line of business or is it still strong?

Dave Barta

No, almost the opposite Eli, Southeast Asia finished extremely strong, Asia finished very strong, Australia was way up, South America was very strong for us. Middle East kind of got back to flat on the full year which is a very strong recovery in the back half of the year. Our commercial businesses in the Middle East were heavily dependent on Dubai construction and so were able to offset that slowdown there with places Doha and Abu Dhabi and Saudi Arabia. So, very happy there and our expectations in ’11, our emerging markets again up north of 15%. So very, very happy would be the international piece.

Eli Lustgarten – Longbow Securities

And once again can you spoke about Europe and what you’re seeing there?

Dave Barta

Yes, our business is again as you know are more related to Germany, France, and U.K. and not so much in places like Greece, Italy, Spain or Portugal and even Ireland for that matter. We continue to see stripping out effects, I’m looking at the core now, good volume increases, signal digit, mid-single digit kind of volume increases and we continue to bake that into 2011. So we think things get modestly better in 2011 from here. Again, the German GDP last year was I think was at a record level for the full year. So there are parts of Europe that are doing extremely well.

Eli Lustgarten – Longbow Securities

Thank you.

Dave Barta

Thank you Eli.

Operator

Your next question comes from the line of Nigel Coe of Deutsche Bank.

Nigel Coe – Deutsche Bank

Thanks, good afternoon.

Dave Barta

Hi Nigel.

Nigel Coe – Deutsche Bank

Or is it good morning, as I’m calling from Texas. So, on the price increases, one of the – can you maybe quantify how much are you trying to get in price as it goes into 2011, and do you have any sense on how much of the full Q order strength was driven by maybe some demand pulled ahead of that price increase?

Kirk Hachigian

So I would answer, we have a complexity of businesses with complexity product lines, and somewhere between 3% and 7%. But all businesses are out with increases, and again it’s not peanut buttered across the board, but somewhere between 3% and 7%. So again if you go back to history, I would tell you we’ve planned to capture more than half or a lion share of that price increase. So the second part of your question I would say, none of this demand was a pull through.

These price increases were announced after the first of the year and we certainly with the strength that we saw in the fourth quarter were not trying to encourage anybody to place orders ahead of the increases that we would come out with. So, I think nothing. You could see some pull forward on the first quarter because of these increases now, and we’ll see how that materializes. We can talk to that in February when we see you. But I would tell you the fourth quarter was as unexciting from our side of it of trying to pull anything through, as you could imagine.

Nigel Coe – Deutsche Bank

Okay, and then you said, again I think you said you would (inaudible) inflation on the second quarter. So I am actually wondering in 1Q, do we see a similar price inflation impact at 4Q or is it somewhere in between 2Q and 4Q?

Dave Barta

I think it will be somewhere in between. The increases that are out there, we have some of our divisions that had effective dates in January, so they’ll get the majority of the quarter. We have some that were later in the quarter and you can imagine by customer varies, some cases you have notice periods and new – product sheets have to be – systems have to be updated.

So it varies, you have something have to be negotiated, you have projects, they may have already been quoted that you don’t get the price until the next time you get the quote. So it should be spread in, we are right now anticipating a better net situation in the first quarter than we had in the fourth quarter. So improving likely still a little bit negative, particularly given the commodities, needed to push upwards. Second quarter, we should have everything in place and I would expect to be looking at more of a neutral type of situation then.

Nigel Coe – Deutsche Bank

Okay then Dave, could you maybe just remind us, was there any lumpy LIFO stuff coming through on 1Q10.

Dave Barta

No, not in the first quarter, no. Generally you got to be a fourth quarter final through up of LIFO last year favorable and nothing else.

Nigel Coe – Deutsche Bank

Right, and then maybe probably Kirk if you could maybe – you mentioned LED seems that momentum is gathering there, you called out in press release, could you maybe put some color on that comments.

Kirk Hachigian

Yes I mean think the, you know where the overall construction markets are, but we continue to see a great activity. We have the highest vitality index that we’ve ever had in the lighting business north of 30% and over half of the new products that we’ve been introducing has been with embedded LED technology and so the energy savings piece of our business is still exploding.

The interest around LED is very good. The growth on the controls package is very good. So, as prices come down on efficiencies and you get the economies going the right direction we are still highly encouraged that that will be a growth platform into 2011 and as Mark told you how the – Neil Schrimsher with us who runs that or used to run that business now it’s a different guy, but Neil kinds of sit over that. But he’ll kind of walk you through, show you some of the new products and designs and talk to you about specifics with where we are seeing that growth come from.

Nigel Coe – Deutsche Bank

Thank you very much.

Operator

Your next question comes from line of (inaudible) Capital markets.

Unidentified Analyst

Thank you. First just on the incremental margins, pricing dynamic. So you expect pricing actions to gain traction in the first quarter, so I guess incremental margins ramp up and then in the first quarter going to second and go fully up to 25%, 30% in the second half, is that correct translation?

Kirk Hachigian

No, I’d say for the full year we expect average for the full year. But your math is right, the first quarters will be a little less, improve in the second quarter as Dave mentioned, you get the full impact of your price increases through. You start wrapping up your productivity programs, but I’d say our expectation on the average for the full year all in is about 25% to 30%, which is what we’ve been saying all along.

Unidentified Analyst

Sure, good. And then maybe talk about the recent acquisition harness, this is your third, and the harsh, and hazardous platform. So maybe talk broadly about the opportunity you see there.

Kirk Hachigian

Well we like that space. You know Crouse is a billion dollars in that space, the chunk of safety is on the signaling and some communications in that space. We’ve done some international pieces and some acquisitions over time. We did MTL which is the instrumentation package in that same space, we did Pauluhn which was the offshore lighting, again in the harsh and heavy duty space.

So, it’s a theme around safety and protection, it’s a space we’ve know very, very well, Crouse-Hinds is an over a 100 year old brand in that space. So sure you’d expect us to continue to do more product line bolt-on, there was a glance business called Mount that was a public traded company in the U.K. that we also closed late in the year, which kind of sits around that same theme.

So it’s middle east, it’s South Asia, it’s South America, a place to our customer base around there, we built the new technology center here in Houston around the EPCs. If you look at Halliburton’s numbers and Baker Huges, its exploding on the investment side, and whether its shale or natural gas or oil or petrochem or food processing, just a terrific opportunity around the world for to continued growth for years to come in that area. So we know that we have been there forever, we love it and we are going to continue to add on to it.

Unidentified Analyst

Okay, sounds good. Thank you.

Operator

Your next comes from the line of Terry Darling, Goldman Sachs.

Terry Darling – Goldman Sachs

Thanks, a couple of follow ups on from the guidance side. Just on the first quarter revenue guidance, it’s the high end of the range that you have on Page 18 and it implies an acceleration year-over-year change at the high end for ESS and decel for EPG. I just wonder if you can help us understand that. Is that utility on the ESS side and I am not sure what it might be on the EPG side. But maybe you can sort it out?

Dave Barta

On the ESS side, you are right, I mean number one the utility but also as I mentioned, the Crouse-Hinds business which didn’t suffer as bad in the down turn, but we’ve had it sitting back waiting for these large projects to kick off and as Kirk mentioned we are seeing more and more of those. So we are starting to see the Crouse-Hinds business pickup and high hopes for that business, their core business and MTL and other parts that they’ve added to.

On the EPG side and that’s fairly a deceleration in terms of ESS numbers, but there is a case where that contains more of our early cycle business, for example the Bussmann business within there. So unfortunate task they have is they are starting the anniversary some decent growth period. So there it just becomes more of a comp issue that does something decelerating that business continue to be very, very strong.

Kirk Hachigian

And we have not baked in significant growth in the construction market in the back half of ’11, probably thinking maybe it comes a little earlier in ’12 than recovering construction in ’11.

Terry Darling – Goldman Sachs

Yes, maybe you just answered my next question which was the implied decel in the back half is sharper in ESS than EPG, maybe that’s the answer there.

Dave Barta

Yes at that point, anniversary and the Bussmann strong end to the year and from a lighting standpoint, energy efficient, we continue to believe that energy efficient products are going to continue to lead the way there. But we are not counting on commercial construction being a wind in to their back, much at the end of this year, as again as Kirk said, more probably of a 2012 view at this point.

Terry Darling – Goldman Sachs

Okay and then I just, I want to make sure I understand the way you are explaining the Q1 EPG margin, you are talking about that year-over-year material pressure still there but to a lesser extent. So your margins was down 40 basis points year-over-year in – you were down a 120 basis points year-over-year in the fourth quarter of 10.

You are saying down still significantly from 14.3 but less dramatically than that 120, is that way it would translate the answer that you gave in the earlier question or am I missing something in there.

Dave Barta

Actually they should (inaudible)

Kirk Hachigian

We’ll be down…

Dave Barta

North of 15 Terry in the first quarter for the electrical products group.

Terry Darling – Goldman Sachs

North of 15 first quarter EPG. Okay. And then can you help us with what you are assuming then on the corporate line for Q1 and for the full year?

Dave Barta

Yeah our corporate line is somewhere around the $22 million, probably $22 million to $23 million in the first quarter. It should run fairly consistently at that type of a rate, barring any kind of unusual items that would flow through there.

Terry Darling – Goldman Sachs

Okay, and then on the revenue growth assumption in the Tools guidance, can you help us out with that, I understand we have to wait till March for the buildup in the margin. So maybe you can help us with the organic assumption that you are using on Tools?

Dave Barta

Yes, I actually did not bring any more detail other than what I’ve provided. So I think you’ll have to wait to get of more insight there. But again there is nothing to say that this is not going to continue to have a pretty nice growth profile, but the exact numbers all are deferred into the Outlook.

Terry Darling – Goldman Sachs

Okay, and then last for me. Kirk can you just touch on your thoughts on larger acquisitions and additional legs to the stool, obviously you have been pretty clear on the bolt-on profile here on the near term but what you’ve said with potentially doing some larger things?

Kirk Hachigian

Larger, yes, new legs, no. The markets that we serve around Power Systems, Crouse-Hinds, Bussmann, Safety, even B-Line, even the Interconnect business, we do not run short of opportunities that provide size and scale. Global, we talk about our $30 billion, $40 billion market served. So, the probability of us getting into something diversify that you – that does not fit into one of our seven businesses today is zero. So bolt-ons yes, adjacencies yes, global penetration yes and something north of $500 million in size and scale, which by our standards would be a larger deal is yes as well.

Terry Darling – Goldman Sachs

Great, thanks very much.

Operator

And the next question comes from the line of Shannon O’Callaghan of Nomura.

Shannon O’Callaghan – Nomura

Hi, guys.

Dave Barta

Good afternoon.

Shannon O’Callaghan – Nomura

Question on this pick up and Crouse-Hinds, could you I guess tell a little bit more when you really saw that start to accelerate and what you’re assuming for that business in ’11?

Dave Barta

So kind of a horrible first half of last year Shannon. Order rates pick up over the second half, really nice both order rates and shipments in the fourth quarter double-digit, but if you talk to them and you look at what’s going on with the – the Halliburton, and the Smith Internationals and Baker Hughes is into that space.

And you look at the investment profiles of the large vertical integrated the Exxon Mobil’s, the Chevron’s, all up the numbers that we are seeing something north of 10% some north of 15%. So we think that bolts very well and we know and track of course a lot of these large projects around the world from Korea where all the EPCs are headquartered in China and India.

So we’re seeing much more collocation activity, we’re seeing much more liquidity and funding of these large projects and we think a lot of these projects are going to be placed and ordered over the course of this year. So we think ’11 looks really good and ’12 probably looks good as well. So that’s the way we just sort of track and think about that business. But yes here I’ll be thinking double-digit growth for that business in 2011.

Shannon O’Callaghan – Nomura

Yes, okay, sounds good. And just on the tax rate, I think you guys said 19 to 20, not only for the first quarter, but for the year, in terms of I guess when we think out the 12 and things I mean are you guys, have you been able to do some tax planning to kind of sustain a rate down there or should we still think of upward pressure with incremental earnings?

Kirk Hachigian

Yes, it’s basically the ladder and it’s really driven by the – our structure basically provides a kind of a fixed benefit. So as we grow our income line, you’re going to – tax effects to add more of an incremental rate, so it pulls you overall up. So, you’ll continue to see that, I would tax your incremental earnings at more of a 35 rate, so that will again pull that way in up a touch.

Shannon O’Callaghan – Nomura

Yes, okay. I figured11 came in a little lower, and I was thinking but that make sense for ’12. All right, great thanks guys.

Kirk Hachigian

Thanks Shannon.

Operator

And your next and final question comes from the line of Julian Mitchell, Credit Suisse.

Julian Mitchell – Credit Suisse

Hi, thanks. My first question was just on the net effect of price and material. I mean it sounds like you guys think overall for 2011 that should be around zero, is that right?

Dave Barta

That’s correct.

Julian Mitchell – Credit Suisse

And then productivity, how much roughly do you think you’ll get this year?

Dave Barta

A lot. Now, it’s usually kind of low single-digit overall type productivity and we’re working to push that number up. So I’m not going to get terribly specific for competitors want to get specific on these points maybe we would too but don’t want to help them out too much.

But we got a lot of things in the offer, full decks for productivity projects at every business that at least gets their plan if not exceeds it and so we are pushing hard on that front.

Kirk Hachigian

But again, Julian, just to make sure we are clear on the first part of your question which is the material price economics. I mean as Dave said our plan is to recapture all of it. There is a chance that you don’t always recapture all that and that’s where Dave first said that we’d use the productivity to make sure that we don’t get margin compression et cetera.

So, I think it’s going to be a little freaky environment, these materials and commodity prices nobody knows where they’re going to go, it certainly taking a nice run from here. The best thing that happens as they stabilize even at these higher prices if we stabilize, but in this global economy who knows where these things are going. So we’ll have to be a little bit careful about that but the plan certainly is to recapture all in price economics.

Julian Mitchell – Credit Suisse

Thanks. Okay, and then just the last one on the profits in lighting, specifically how are those in Q4, and how do you think that will be in Q1. Just rough order of magnitude on...

Dave Barta

They are good, they are good, up a long way good being double-digit, I’m not going to give you specific numbers, but no issues. Expansion, they’ve got some restructuring going on. The newer products blended at higher margins, so you’re seeing good leverage on mix. We’ve seen a lot of inflation there though. And so there would be some price increases as well. But they pulled some price during the earlier parts of the year, as I said, they’ve been getting good productivity and we’re pleased, that it’s not drag and not causing us any concern.

Julian Mitchell – Credit Suisse

Great, thanks.

Dave Barta

Good.

Operator

Ladies and gentlemen that conclude today’s Q&A session. I’ll now like turn the call back over to Mark Doheny, Director of Investor Relations.

Mark Doheny

And with that, thanks for joining us today. I know there were several calls we didn’t get to, so I’ll be in the office obviously all day to follow-up with the folks who couldn’t get a chance to ask the questions and we’ll end with that. Thanks.

Operator

Ladies and gentlemen, and that concludes the presentation, thank you for your participation, you may now disconnect. Have a great day.

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