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Anixter International (NYSE:AXE)

Q2 2011 Earnings Call

July 26, 2011 10:30 am ET

Executives

Chris Kettmann - Senior Vice President

Theodore Dosch - Chief Financial Officer and Executive Vice President of Finance

Robert Eck - Chief Executive Officer, President, Director, Chief Executive Officer of Anixter Inc. and President of Anixter Inc

Analysts

Ted Wheeler - Buckingham Research

Shawn Harrison

Anthony Kure - KeyBanc Capital Markets Inc.

Jeffrey Beach - Stifel, Nicolaus & Co., Inc.

Ryan Merkel - William Blair & Company L.L.C.

John Stimac - BB&T Capital Markets

David Manthey - Robert W. Baird & Co. Incorporated

Brent Rakers - Morgan Keegan & Company, Inc.

Operator

Good day, and welcome to the Anixter International Second Quarter Earnings Conference Call. As a reminder, today's call is being recorded. At this time, I would like to turn the conference over to Mr. Chris Kettmann for opening comments and remarks. Please begin when you're ready, Mr. Kettmann.

Chris Kettmann

Thank you. Good morning, everyone, and thank you for joining us today to discuss Anixter's Second Quarter 2011 Results. By now, everyone should have received a copy of the press release, which was sent out earlier this morning. If anyone still needs a copy, you can go to Anixter's website or call Chris Kettmann at (312) 553-6716, and I can resend the information.

On the line today from Anixter's management team are Bob Eck, President and CEO; and Ted Dosch, Executive Vice President, Finance. After management completes their opening remarks, we'll open the line for a Q&A session.

Before we begin, I want to remind everyone that statements on this conference call, including words such as believe, expect, intend, anticipate, contemplate, estimate, plan, project, should, may, will or similar expressions are forward-looking statements. They are subject to a number of factors that could cause the company's actual results to differ materially from what is indicated here. These factors include: general economic conditions, including the severity of current economic and financial market conditions; the level of customer demand, particularly for capital projects in the markets we serve; changes in supplier sales strategies or financial viability; political, economic or currency risks related to foreign operations; inventory obsolescence; copper price fluctuations; customer viability; risks associated with accounts receivable; the impact of regulation and regulatory, investigative and legal proceedings and legal compliance risks; potential impairment of goodwill and risks associated with the integration of acquired companies.

These uncertainties may cause our actual results to be materially different from those expressed in any forward-looking statements. We do not undertake to update any forward-looking statements. Please see the company's SEC filings for more information.

At this point, I'll turn the call over to Ted.

Theodore Dosch

Thank you, Chris. Good morning, and thank you, everyone for joining us. Looking at our overall quarterly results, we are very pleased to report another strong performance, which resulted in a 100 basis point improvement in the year-on-year operating margin, as well as a sequential 60 basis point improvement. In addition, we delivered our fifth consecutive quarter of double-digit leverage with an 11% incremental operating margin on increased sales. The second quarter of 2011 marks our first postrecession operating margin performance over 6%, as well as the highest quarterly revenue and operating margin performance in 3 years.

Now let's begin with a more detailed discussion of our second quarter sales results. In the second quarter, we reported an 18% increase in year-on-year sales. After adjusting for $29.8 million of sales from the fourth quarter 2010 acquisition of Clark Security Products, an estimated $30.4 million of favorable copper prices, and $47.2 million of favorable foreign exchange effects, organic sales still grew by 10% over the prior-year period.

All 3 of our end markets, as well as each of our 3 geographic segments, delivered strong year-on-year growth during the quarter. The 6% sequential quarter increase in reported sales more closely approximates longer-term historical seasonality trends. All segments reported sequential growth from the first quarter of 2011. We believe our positive sales results reflect the combined impact of moderately improving macroeconomic factors and the success of our global strategic growth initiatives, which Bob will discuss in more detail later on in the call.

Looking at second quarter sales trends within each of our end markets, we experienced the following: On a worldwide basis, Enterprise Cabling and Security Solutions sales increased organically by 5% as compared to the second quarter of last year, exclusive of foreign currency and the Clark Security acquisition. Total security sales grew an estimated 34% compared to the second quarter of 2010 and 18% on an organic basis. Geographically, our Enterprise Cabling and Security Solutions sales reflect an organic sales growth of 4% in North America, 16% in the emerging markets, and remained relatively flat in Europe compared to the year-ago quarter. The smaller growth rate in North America is partially attributed to one very large non-recurring project reflected in the second quarter of 2010 sales. On a sequential basis from the first to the second quarter of 2011, Enterprise Cabling and Security sales increased by 7% organically. With the continued strong organic growth in security sales plus the addition of Clark, sales from Security products now account for 24% of our worldwide Enterprise Cabling and Security and market. Worldwide Electrical Wire & Cable sales, exclusive of foreign currency and estimated copper price effects, experienced a year-on-year organic sales improvement of 14% globally, with North America showing an increase of 15% while Europe declined by 8%. In addition, sales were up 166% in the much smaller but strategically important emerging markets in which we continue to invest.

We continue to see our Project business strengthen while the Day-To-Day business grows as well. On a sequential basis from the first to the second quarter of 2011, worldwide Electrical Wire & Cable sales increased by 4% organically, a very positive result for the company as we return to more normalized historical seasonality patterns. Worldwide OEM Supply sales once again reflected a strong 19% organic sales growth compared to the year-ago quarter. This end market is the only end market of our 3 that has delivered a double-digit year-on-year growth each of the last 5 quarters, averaging 19% organic growth during that time. North America experienced an organic sales increase of 16% year-on-year, while Europe was up 22% and emerging markets were up 43%.

Our global OEM Supply businesses benefited not only from the higher production levels of our OEM customers in almost every customer vertical, but we have also achieved market share gains by adding new customers and new [indiscernible] to existing customers. Sequentially, worldwide OEM Supply sales were up 2% organically in the second quarter.

With the exception of the Aerospace [indiscernible] customer segment, we believe this end market is benefiting from gradually improving corporate and consumer confidence levels as spending on capital industrial goods and durable consumer goods drive demand in this business.

Bob will discuss current business trends and the implications for the future in greater detail in a few moments.

Turning next to gross margin. We reported second quarter gross margin of 23.2%, which was a 30-basis point improvement year-on-year and flat sequentially. As we have discussed in each of the last 3 earnings calls, gross margin continues to be negatively impacted by cost pressures in our European OEM Supply business due to significant unilateral cost increases from European-based fastener manufacturers. While we continue to make progress in passing on these cost increases through pricing to our customers, we have not fully recovered to the level of our second quarter 2010 gross margin in this end market. However, we anticipate exiting this year near that level.

Looking next at operating expenses, we reported a year-on-year increase of approximately 6% from $242.9 million in the year-ago quarter to $258 million in the current quarter, excluding expenses associated with the Clark Security acquisition and the impact of currency. This increase of 6% compares very favorably with the 10% year-on-year increase in organic sales, which also excludes the acquisition, currency and copper pricing impact. As expected, operating expenses increased sequentially by approximately 3%, excluding the currency impact in the current quarter and the European restructuring charge in the previous quarter.

Both the year-on-year and the sequential quarter increase in operating expenses are due to higher variable compensation and other costs associated with the increase in sales and earnings.

To summarize, operating income was $97.8 million in the second quarter, representing a very strong 40% improvement from the $70.1 million reported in the prior-year quarter. The 6.1% operating margin in the current quarter is a 100-basis point improvement over the 5.1% margin in the year-ago quarter. Improved gross margin, combined with the lower operating expense run rates, contributed to the strong second quarter performance. We also continue to improve our competitive cost position in the quarter, which can be further leveraged as we take advantage of a continued macroeconomic recovery.

As we move further down the income statement, interest expense of $12.8 million was down $400,000 from the year-ago quarter. The decrease was driven by a lower average cost of debt, partially offset by higher debt levels. The 5% average cost of debt in the second quarter of 2011 compares favorably with the 6.3% in the year-ago quarter. The continued reduction in this metric was primarily due to the early retirement of high-cost debt. At the end of the current quarter, approximately 60% of our outstanding debt had fixed interest rates, either by the terms of the debt or through hedging contract. During the second quarter, repurchases of the 3 1/4% zero coupon convertible notes resulted in a reduction of $16.3 million of accretive value for these notes, which, along with the refinancing of our revolving credit facility, generated a net pretax loss of $100,000. This slight loss compares to the $800,000 pretax gain associated with the early retirement of debt in the year-ago quarter. After completing the call on the remaining 3 1/4% convertible notes in early July, we have fully retired all remaining debt from this issue.

The effective tax rate for the second quarter was 37.5% versus 40% in the year-ago quarter. The lower rate in the current quarter is primarily a result of improved earnings in all reporting segments and various foreign tax effects. The global dispersion of income projected for full year 2011 allows us to more fully benefit from lower tax rates in some of our foreign operations. At this point in the year though, it's very difficult to anticipate the impact that country level profitability will have on the full year effect of tax rate.

For the second quarter, the company reported net income of $52.1 million or $1.43 per diluted share, compared to $34.6 million or $0.98 per diluted share reported in the year-ago period. This 51% improvement in net income would have been 56%, excluding the impact of the early retirement of debt in both periods and the Venezuelan foreign exchange gain in the prior year's quarter.

Moving on to cash flow, we generated $18.3 million of cash from operations during the quarter, despite the increased working capital requirements associated with the 18% increase in sales. Capital expenditures increased $8.4 million in the current quarter, compared to $6 million in the year-ago quarter. We anticipate positive cash flow generation for the balance of the year but at a rate lower than last year, as we continue to support the working capital requirements associated with further increases in sales.

Also, during the second quarter, we utilized funds from our long-term revolving credit facility and accounts receivable securitization facility to reduce debt through the repurchases previously mentioned. We ended the second quarter with a debt-to-total-capital ratio of 46.1%, down slightly from 46.9% at year-end 2010. This leverage ratio was within our targeted range of 45% to 50% debt to capital.

At the end of the second quarter, we had $259.8 million in available, committed, unused credit lines, $245 million of outstanding borrowings under a $275 million accounts receivable facility, and invested cash balances of $57.1 million. Over the last 3 months, we refinanced and increased our revolving credit facility, renewed and increased our accounts receivable securitization facility, and eliminated the 3 1/4% convertible notes from our debt structure. The combination of these actions, along with our continued strong operational performance, puts us in an excellent position to support our growing business while giving us the flexibility to consider strategic acquisitions or return of capital to shareholders. Our current leverage on the balance sheet and other favorable financial characteristics provide Anixter with the flexibility to quickly adjust to new market realities, fund investments in crucial long-term growth initiatives, and allow us to efficiently capitalize on an improved yet uncertain global economic environment.

At this point, let me turn the call over to Bob to discuss strategic initiatives, current business trends and the near-term outlook.

Robert Eck

Thanks, Ted. Thanks, everyone for joining us today. The second quarter generated modestly stronger sales sequentially than we had been expecting, based on continued growth in North America and accelerating growth in the emerging markets. The sales strength was seen across most end markets, reflecting a mix of our initiatives, economic strength and share gains. We experienced continued strong growth in North America and in the emerging markets. While sales growth was more uneven across the end markets in EMEA, we are pleased to continue to deliver improved operating profit in net reporting segment, consistent with our plan for this year. Expenses continue to be well-controlled, growing at a slower rate in sales, reflecting ongoing attention to productivity and the leverage achievable from our global supply chain platform. We do anticipate that as growth continues through this year, we will need to invest to add capacity to the business, which will likely decelerate our operating leverage as the year continues. We are very pleased with our performance for the quarter and first half of the year, and we will continue to drive initiatives targeted at increased sales growth and efficient use of working capital.

The Enterprise Cabling and Security Solutions end market experienced slower growth in our more mature markets, but continued high organic growth in the emerging markets. In the second quarter, we began to anniversary into a more challenging comparable period as last year's second quarter was a solid recovery quarter for Enterprise end market. While some of our customers have slowed some IT project spending in the U.S. and Europe during the first half of the year, project pipelines indicate some acceleration in the second half of the year. However, project activity has continued to be strong in the emerging markets due to domestic activity, as well as US-based multinational companies investing more heavily in IT infrastructure in the emerging markets. Security growth continued to accelerate across all geographies, reflecting both continued investment in security and a shift to sophisticated Internet protocol-based systems. Security growth this year, excluding the acquisition of Clark Security Products, increased 18% year-to-date, with growth in the emerging markets exceeding 30%.

Moving now to the Electrical and our Electronic Wire & Cable end market, the second quarter experienced organic growth of nearly 15% in North America and very significant acceleration in the emerging markets, leading to market share gains in those geographies. We continue to experience solid project activity as well as continued strong OEM demand. The continued global growth trends in industrial production, mining, oil and gas development and energy generation should continue to drive sales growth in our wire and cable market as we go through this year. We are seeing continued strong porting activity and increased opportunity to leverage our global platform in this end market. The investment we made beginning in 2009 in Latin America to organically build the Wire and Cable business has begun to show significant improvement in line with our expectations. We have begun a similar organic investment program in the Asia-Pacific region to build a broader Wire & Cable business, expanding on our small existing sales in southern China. If the price of copper stabilizes at or near its current level, the impact of copper price inflation on our business results on a year-on-year basis will continue but decline in significance in the second half of the year. Supply around material increases in both the Enterprise and Electrical Cabling end markets have translated into higher prices for our customers. As most of the sales in these markets do not have contractually fixed prices, we are able to quickly pass price increases from suppliers on to our customers. This has been a minimal contributor to sales growth in the Enterprise Cabling & Security end market this year.

Turning to the OEM Supply end market. In the industrial vertical, we are continuing to experience strong sales growth compared to the already strong sales growth in Q2 of 2010. The recovery in manufacturing continues to lift production rates at our customers, translating into stronger sales. We achieved strong sales growth in North America due to both new wins and increased volumes of existing parts at current customers. Sales in EMEA were also well ahead of prior year on new business and improving production volumes at our customers. Gross margin initiatives in EMEA continue to lag behind the ongoing price increases from our supply base. The price increase activity we have been working through in Europe began to affect North America during the second quarter. We continue to seek and gain price increases from our customers while pursuing the resourcing of supply to lower-cost countries. We have added temporary and full-time engineering staff to accelerate the supply qualification process, both internally and with our customers. In addition, through implementation of new forecasting and scheduling software that directly engages both our customers and suppliers, we are improving our inventory turns while also improving service levels to our customers. We expect to continue to manage this issue for some time as steel-related cost increases continue to come at us from our suppliers. While we work through the margin challenges, we have also continued to develop a strong pipeline of opportunities in the Americas, Europe and the rest of the world.

The Aerospace vertical market continues to experience weak sales as the market broadly is not showing growth. Therefore, we anticipate ongoing challenges for the Aerospace vertical market until the commercial aircraft market experiences a meaningful recovery.

We do have an active pipeline of new opportunities and anticipate implementing recent wins as we go through 2011. All end markets and geographic segments are pursuing multiple initiatives to drive growth, including product and technology initiatives, new customer development, cross-selling, and promoting the efficiency benefits for our customers to be realized to our supply chain management services. In addition, we continue to focus on geographic expansion, both within our existing country presence, as well as evaluating the opportunity to enter additional countries. As the only distributor in the end markets in which we participate, delivering a value-added technical support and supply chain service model in over 50 countries around the world, we continue to find success with customers by providing global reach with a local touch, and selling across our end market specialties. As we look forward to the balance of this year, we believe we will continue to generate 2011 sales growth solidly in excess of GDP growth rates through market share gains and our growth initiatives. Comparisons will become more challenging as the year progresses due to the impact of the economic recovery and our sales improvement last year.

In addition, there is some uncertainty in the macroeconomic environment due to European government debt concerns and the U.S. debt limit negotiations; however, we will continue to invest in growth initiatives that can lead to better operational leverage of our extensive global service platform.

The combination of sales growth and continued operating leverage should lead to further improvement in operating margins as we progress through the year. We also anticipate generating positive cash flow from operations this year in spite of improving sales and the related growth in working capital. We will work to build on the improvements in managing working capital that we achieved in the past couple of years. Operating cash flow, coupled with our available borrowing capacity, provides us with ample liquidity to pursue acquisitions or capital structure actions that can enhance shareholder returns in the coming year. We will now open the call for questions.

Question-and-Answer Session

Operator

[Operator Instructions] Our first caller is Matt McCall with BB&T Capital Markets.

John Stimac - BB&T Capital Markets

This is actually Jack Stimac filling in for Matt today. Ted, you talked about you continue to return to normal seasonality, and maybe you could just kind of talk us through that a little bit. Are there any -- looking at historically, it looks like Q2 to Q3 is usually about a 3% sequential increase. Is there any difference in mix or with acquisitions or anything that would change that or just the overall macro environment?

Theodore Dosch

No, I think your estimate is right on. Typically, we have a 2% to 3% seasonality increase in the top line from Q2 to Q3 and with Q1 to Q2 right at about 6%, and historically it's been kind of mid-single digits. From what we can see today, it would appear that we're pretty much back on track with that longer-term historical seasonality trend, but I don't think there's anything we see in the short term that would differ from that Q2 to Q3.

John Stimac - BB&T Capital Markets

Okay, great. And then from an operating contribution margin with kind of the pickup in Project business, and then you guys have talked about how you're going to need to invest in some capacity as sales continue to increase, how should we think about contribution margin in terms of ramping at that [ph]? I mean it was 11% this quarter, is 10% reasonable next quarter. Do you think it'll fall below double digits, and maybe if you could just talk about how do you think it'll play out over the rest of the year?

Theodore Dosch

Yes, I think for the back half of the year, it should be in that high single digit to 10% range. I think what we said last time, and I still think it's a good estimate, that we'll be in that 10% to 11% for the full year. We were 12% Q1, 11% Q2, and I think we'll be pretty close to that 10% for the balance of the year.

John Stimac - BB&T Capital Markets

Okay, and if I could just sneak one more in on the impact of copper. What -- so you gave us the impact for Q2, and Q3, do you think, where prices are trending now, you expect it to -- do you think you'd be able to pass all that through, or do you think it'll have a negative impact on gross margins from this point? I mean is it -- are you able to pass that through completely? I know you talked about gross margins impacted by the European OEM business, but are you able to kind of fully recover copper on the gross margin line?

Robert Eck

Yes. I think -- this is Bob. I think I addressed that when I talked about how raw material is affecting the Enterprise business and the Electrical Wire & Cable business. In the case of copper, we are able to pass that through, and in the current environment, I would not expect that to change. So we wouldn't expect to see a gross margin impact -- a negative gross margin impact from any change in copper prices as we go through the year.

Operator

And we'll go next to Ryan Merkel with William Blair.

Ryan Merkel - William Blair & Company L.L.C.

So in terms of new project bookings, is it fair to say that data centers, energy and mining are the strongest areas, or is there any other end markets that you would add?

Robert Eck

I think power generation continues to be strong, oil and gas, mining are all strong. Data centers are strong, and frankly, security projects are strong as well. Those are the areas where we see strength, and I think, when I say they're strong, it -- we're seeing really healthy numbers, as you can see out of the Wire & Cable business and our security growth. IT spending is a little bit more muted, although there is clearly a healthy project funnel we believe going into the second half of the year. And as I mentioned in my prepared comments, some of it is simply a shift in spend and if you look at some of the announcements from large U.S. companies, you can see an orientation to spend money in emerging markets versus U.S. as well as some deferral of spending altogether. So there's certainly a data center activity probably not quite as strong as we would've liked in the first half of the year.

Ryan Merkel - William Blair & Company L.L.C.

Okay. And then second question I want to ask about your Aerospace Distribution business, how are sales trending? Have you won any new contracts lately? And then what is your outlook for the rest of the year and maybe next year?

Robert Eck

Well, over the course of the past, say 12 months, we've won a number of new contracts. There's a big delay in implementing the new contracts. The first delay factor is the customer typically has a contractual obligation to burn through inventory from the incumbent supplier who we've displaced. That creates the first delay. The other delay frankly is, a lot of -- for our business, a lot of us is commercial aircraft-oriented and the commercial aircraft market is still slow, so although you see a lot of new order kind of activity, there were a lot of reports that came out of the Paris Air Show of new order activity. The execution on that lags years actually after those announcements. So we're still at a low level of production, which causes some delay in the ramp-up on those implementations of new programs.

Operator

And we'll go next to David Manthey with Robert W. Baird.

David Manthey - Robert W. Baird & Co. Incorporated

Bob, in your comments earlier, you mentioned something about the issues you're working through in Europe starting to show up in North America or benefit North America. I just was wondering what you meant by that?

Robert Eck

Okay. Dave, that's specifically around the GP percent or our gross profit margin squeeze that we're experiencing in Europe OEM Supply. Remember, that started with protectionism in Europe basically to counterweigh [ph] our duties on Chinese products that created an opportunity for European manufacturers to jack up prices. What's leaking into the U.S. now is actually the steel-driven cost increases, which we experienced actually for the first time in the second quarter, seeing price increases impacting the U.S. part of our OEM Supply business. And we're trying to get out in front of that much like in Europe, and I guess I'd hope that from our experience in Europe, we're more aggressively trying to get out ahead of that in the Americas to get price increases through the customers.

Operator

And we'll go next to Shawn Harrison with Longbow Research.

Shawn Harrison

Want to focus in on kind of the European Wire & Cable business. Sales were down sequentially, maybe if you could just talk a little bit about that, and was that the primary factor between EBIT margins sliding sequentially as well in the region?

Theodore Dosch

Yes, Shawn, just a couple of things on European Wire & Cable. Probably the 2 main drivers is we had an exceptionally large project in Spain last year that wasn't a recurring project, combined with significantly lower demand in the U.K. defense industry, which is a pretty significant portion of our business there. The project part we feel is mostly timing and won't be an ongoing impact over the back half of the year, and we've begun to see recovery in some of the defense industry spends in the U.K. as well. From a -- your question, second part of your question in regards to...

Shawn Harrison

Operating profitability declining sequentially.

Theodore Dosch

Yes, that was more a function of operating expense, some internal project-related spend and adjustments to some receivable reserves for one particular project, but nothing recurring that we see that should have an impact on -- a recurring impact on European profitability in the back half of the year.

Robert Eck

Yes. I think it'd be fair to say, some of those impacts were purely timing, and we won't expect to see them repeated at all in the second half of the year.

Shawn Harrison

So as we see volume growth in the back half of the year, we should see leverage off these investments?

Theodore Dosch

Absolutely.

Robert Eck

Yes.

Shawn Harrison

Okay. And then, I guess a clarification, maybe 2 quick clarifications. The other expense this quarter, what was that tied to, and I guess, will that be recurring? And then second, as we just look at the working capital, inventory turns holding steady right around, say mid-4s, is there any reason you'd expect you'd see any lift in that in the back half of the year given kind of the good turns you're already doing?

Theodore Dosch

Yes, the first part of your question, the other expense, the only thing we had significant in there was some FX for I think about $500,000. We had a very small expense associated with the early retirement of the debt, so FX was really the only other significant driver. As far as working capital, as occurred in Q1 and then to a lesser degree in Q2, obviously we were building up some higher levels of working capital to support the big increase in sales. I think we had a little bit of timing impact relative to receivables. The way the quarter ended with July 1 being a holiday in Canada influenced -- negatively influenced collections in Canada, but I don't think we saw anything that we would view as a negative impact on an ongoing basis.

Robert Eck

And I think specifically to your inventory turn question, since what you see on the balance sheet is sort of a snapshot in time, look at the end of the year, there were some timing issues there as well. When we get into heavier project flow, one of the things that happens is we certainly buy to project schedules, and sometimes the projects come off as scheduled, sometimes there are delays in the scheduling. Normally, that kind of washes through. We had a couple of bigger project deliveries that we had anticipated actually happening in the second quarter, some of which have already happened in July, so I think you'll see that inventory adjust a little bit. So I don't think there's huge upside in inventory turns, but I think we'll see probably slight improvement in inventory turns as we go through the end of the year.

Operator

And from KeyBanc, we'll go next to Anthony Kure.

Anthony Kure - KeyBanc Capital Markets Inc.

Just a couple of quick ones here. I apologize if I missed this, but in regards to the pricing versus the suppliers increasing pricing for you, was pricing a net positive during the quarter, or was it a net headwind during the quarter?

Robert Eck

Copper was a positive in the Wire & Cable business. There was -- there's gross profit benefit on that as well because we're marking up from a cost end from the manufacturers. There's slight positive pricing benefit in the Enterprise Cabling market but I'd say small enough that it would be hard to separate out in the growth number. And then in the OEM Supply end market, price pressures from our suppliers into us would be a negative, and it's the same story we've been talking about for nearly a year now.

Anthony Kure - KeyBanc Capital Markets Inc.

Okay, so overall, it's pretty much a wash then for the whole quarter?

Robert Eck

I'd say there's nothing new and different from what you saw on the release and our prepared comments.

Theodore Dosch

Yes, and Tony, just to add on that. I would say it would be a slight negative -- I mean, if you break it down into 2 parts that Bob referred to. In the OEM Supply business, that pricing impact on the margin would be a slight negative still in the year-over-year comparison, but a slight improvement from Q2 -- from Q1, excuse me. So sequentially, we're continuing to recover more of that, but it's still a net negative for us year-over-year. In the copper portion, as we showed in the release, the $30 million or so impact at the top line due to copper translates into about $6 million of incremental gross margin.

Anthony Kure - KeyBanc Capital Markets Inc.

Okay, thanks, that's really helpful. In the emerging markets, it looks like you're kind of in the press release that you're still investing there, and it looks like that's still maybe a little headwind on the margin expansion. Just wondering on the timing of that? Is that a defined project that it's going to -- you're going to see that elevated level of investment over the next couple of quarters, or is that something that is more of a long-term dynamic that's going to play out in the next couple of years?

Robert Eck

Yes. I'd rather not try to time it specifically to quarters, and I'll tell you strategically what we're doing. And we've gone through this in the past. The idea is that we have a global platform in 50-plus countries. The opportunity to leverage that by expanding end markets into countries where an end market is not present today creates a lot of leverage. So for example, across all of those countries, we have an enterprise presence. We don't have a Wire & Cable or an OEM Supply presence in most of those countries, so -- across many of those countries, I should say. So we've already put the infrastructure in place that's highly leverageable. The investment then to expand Wire & Cable or OEM Supply is largely people and a little bit of working capital. So where we are in the emerging markets today is, we think that there is, sort of in a macro -- in a multi-year, macroeconomic view, we believe there will be stronger growth in the emerging markets than in North America and EMEA. I don't think that's a shocking assumption. We want to take advantage of that, and we want to build out our presence for Wire & Cable and OEM Supply in those markets. So while that's creating a little bit of headwind in the emerging markets, operating margin right now, we do expect to see that turn around to actually a benefit as we move through this investment process which -- again, I don't want to say you're going to see the turnaround in 1 quarter, 2 quarters, but over time, you'll see improvement in it. And I think as I said earlier in my comments, in the Wire & Cable market in Latin America, we saw a significant pickup in the second quarter very much in line with what we would have expected, and we've been in that investment program for 2 years now. So we invested, we added people, we put a little bit of inventory in place, leveraged all the other infrastructure. It takes time to build the pipeline, it takes time to build the supplier and customer relationships in the geography, and then we basically saw a hockey stick kind of growth pattern in the second quarter. And I don't know if we would've expected the hockey stick, but that kind of investment and then payback is very much what we would expect with these investments. So I think for the long term, I'll say the near long term, the 2 to 3-year time horizon making these investments is really critical for us and will generate significant returns.

Anthony Kure - KeyBanc Capital Markets Inc.

Okay, thanks, that's really helpful. Last question is just any seasonality associated with the Clark acquisition that you could, at this point, put your finger on?

Theodore Dosch

No. We don't anticipate that, and as you probably saw from the numbers, our second quarter sales were almost identical to first quarter sales, so there shouldn't be any significant impact in the back half.

Operator

And we'll go next to Jeff Beach with Stifel, Nicolaus.

Jeffrey Beach - Stifel, Nicolaus & Co., Inc.

I have a couple of questions on the weakness, just to contrast, the weakness in Electrical Wiring [ph], you're up with the strong gains in OEM sales were both, I view them as industrial-oriented. You mentioned one thing on the Electrical was the big project in Spain last year. If you took that out, could you kind of contrast the differences in the end markets between those 2 divisions in Europe?

Theodore Dosch

Yes, let me answer it in a couple of parts. First off, just taking out that 1 project, that would account for probably 60-plus percent of the decline in revenue year-over-year. The other thing, from a more macro standpoint, and you may remember us commenting on this in the past, one big difference between the Wire & Cable business of ours there versus the OEM Supply, this Wire & Cable business is much more heavily concentrated in the U.K. In fact, almost 2/3 of the sales in that business are in the U.K., and that economy is not, overall, performing as well as the markets we're selling in our OEM Fasteners business. We've seen very strong improvement across the continent in everything from heavy truck to automotive to agriculture to appliances, virtually every customer vertical were selling in on the continent, both with the production-level increases that we're seeing our customers have, as well as increased market share through some customer wins and expanded partnerships [ph] with existing customers. So I would say part of it is kind of the geographic mix, if you will, of that Wire & Cable business heavily being concentrated in the U.K., and part of it is much more significant, like share gains, in the OEM Supply in the more recent periods.

Jeffrey Beach - Stifel, Nicolaus & Co., Inc.

All right. A second question. These end markets that are project-oriented that you listed, there's a power generation, oil and gas, mining, data centers, are they also so strong right now that they are having a meaningful effect on your day-to-day sales, or is it really very broad among a large percentage of your end markets with the day-to-day?

Robert Eck

The day-to-day sales are basically always there. They do move somewhat with economics. Frankly, if a customer has more activity, they tend to require more MRO kind of products and more, in the Enterprise space, loose ends [ph] and changes kind of the churn in the business. And that stuffs always there, it has variability with economic cycles. The project activity is what tends to have greater variability with economic cycles. So what you're seeing in the pickup in Wire & Cable is some improvement in day-to-day along with significant improvement in the project activity as we've come out of the recession.

Jeffrey Beach - Stifel, Nicolaus & Co., Inc.

Right. And last question on the increased investment in infrastructure to handle a larger growing base of sales, is this going to come over the next couple of quarters in a kind of a step function, or is this going to be ongoing heavy expenditures for the next year or two that will influence your contribution margin?

Robert Eck

It will be modest investments that will occur over time, so I don't -- I would not infer from what we've said about investments that you should see significant operating margin compression. In fact, I think we said we expect to expand operating margin as we work our way through the second half of the year in spite of having to make some investments on the business. So these are very targeted additions to headcount typically that work their way through over many, many months.

Jeffrey Beach - Stifel, Nicolaus & Co., Inc.

I was referring to contribution margin, not pressure on your operating...

Robert Eck

Was that operating? Okay. I think Ted addressed operating leverage earlier and he said that our expectation was that we would be in the second half of the year high single digits, and full year somewhere around the 10-ish percent kind of number.

Jeffrey Beach - Stifel, Nicolaus & Co., Inc.

And my question was, going past '11, is that increased investment going to continue to pressure the contribution margin from returning back up into the low double digits?

Theodore Dosch

I want to make sure that we're clear. You're saying contribution margin but referring to double digits. The double-digit number is the incremental operating margin leverage, so we're not confusing the two. I would expect that in -- after 2011, so going into 2012, if we continue to have, I'll say, at least the same levels of broad economic recovery that we're seeing here, that we ought to be able to deliver incremental operating margin level -- incremental operating margin leverage in the high single digits, well in excess of our overall operating margin, which will be well north of 6%. So we can do 9% to 10% next year. I think that would be a very good performance on revenue growth that's maybe in the high single digits-type level.

Robert Eck

I think important also, Jeff, to highlight is that when we talk about these investments, these aren't all in, say, back-of-the-shop SG&A functions. Most of the investments are actually skewed towards sales-generating positions. It's -- what happens is we had high levels of sales productivity, so we have to add more salespeople because we aren't able to cover up [ph] on territories and initiatives in a way that we would like to. As you bring that salesperson on in the short term, the salesperson is not as productive as they've become as the months go by. It's important to have the perspective that when we talk about those investments, they're skewed absolutely towards sales-generating physicians.

Theodore Dosch

And just one last thing, Jeff, as you know, people cost is our biggest portion of our operating expense, north of 55% of the total. So if you look at quarter 2 this year to quarter 2 last year, with an organic sales growth of about 10%, our headcount, excluding our acquisitions, was up less than 4%. So I think we are doing a bigger job of balancing these strategic investments that Bob's referred to, with salespeople to support things like Wire & Cable growth in emerging markets, increase security sales, industrial automation, et cetera, but yet getting good leverage out of the rest of the infrastructure to support our business.

Operator

And we'll go next to Ted Wheeler with Buckingham Research.

Ted Wheeler - Buckingham Research

I wanted to just circle back for just a minute on the expenses for growth that you'd highlighted in the developing economies you commented on. I just wondered, is that run rate that we're seeing in this quarter, does that represent sort of the end of a bulge in spending or putting in place the infrastructure to move forward with the initiatives in Wire & Cable and OEM, or are we going to be ramping up sequentially on these expenses from here?

Robert Eck

Let me take it in 2 chunks. In Latin America, we're at the end of the bulge in investment, and we're very much in the sort of repayment or earning period on the investment. In Asia-Pacific, we're actually -- we began investment in the second quarter and expect to make some more investments there as we move through the next couple of quarters. Again, importantly, these are revenue-generating positions and they're not tens of people. I think in the past we've talked about how, in our model, sales drags through investment. So we'll make a little bit of investment on the front end, and then as we generate sales, we'll add investment that's being dragged through by strong demand. So I think that that's an important perspective on how we manage this. We're -- I think what we've always tried to do as an organization is balance short-term delivery of operating profit with investment in the business so we can continue to generate healthy operating profit returns over the long term. So we're very careful about getting too far ahead of ourselves in terms of these investments. That's why I say that sales drags through the additional investments once we have sorted the base investment in place.

Ted Wheeler - Buckingham Research

Yes, I see that phenomena for the whole company, but if I just confine my comments to the emerging markets, it looks as though expenses are ramping first. I mean the margins were flat sequential and normally they would go up a little bit, I think, given the revenue, what we saw. Isn't that -- isn't there a little bit of investment head [ph] in the emerging numbers?

Robert Eck

No. Actually, there's a little bit of product mix in the emerging market numbers in the quarter as well. We had pretty significant growth in unified communication products or active electronics, things like voice and data switching equipment, which for us is a unique business in Latin America. We don't participate in that in any meaningful way outside of Latin America. That tends to be lower gross margin, and that definitely contributes to some of the pressure that you saw.

Ted Wheeler - Buckingham Research

I see. And, well, just as we go forward, do you expect any more normal-looking margin from the emerging markets?

Robert Eck

Yes.

Ryan Merkel - William Blair & Company L.L.C.

It seems to me this was a little lower than normal, the way I read it.

Theodore Dosch

Yes. We would definitely agree with that point.

Robert Eck

A small piece of that, Ted, is the investment, and the Unified Communications skewing in the product mix was definitely a meaningful contributing factor as well.

Ted Wheeler - Buckingham Research

Got it. Thanks for the clarification very much.

Robert Eck

Yes, we should've called that up, sorry.

Operator

[Operator Instructions] And we'll go next to Brent Rakers with Morgan Keegan.

Brent Rakers - Morgan Keegan & Company, Inc.

I guess I'm going to beat the dead horse I guess here, but Ted, I think you said earlier on the headcount up 4% year-over-year on an organic basis, just wanted to get a sense for what that might be ramping to on a year-over-year basis during the second half of the year. And then if you could even maybe put some, or Bob or Ted, put some historical context on that, you go back even to the last expansion and kind of guesstimating, but it doesn't really look like you ever made that type of internal investment in headcount previously, if you could just provide some perspective there.

Theodore Dosch

I'm not exactly sure what the second part of your question is asking, but let me take a shot at it and then tell me if I missed the mark. We still, with the -- with this 4% increase in headcount, keep in mind that as we were driving very positive leverage of our cost structure last year, we delivered a 10% increase in revenue and yet our headcount was flat from the end of the year, end of 2010 versus beginning of 2010. So the reductions that we made in the recession, again keep in mind in 2009 when our revenue was dropping 16%, we took out about 10% of our headcount, we felt that was as far as we should go because of the critical investment and the technical skills of our people and customer relationships, et cetera. We knew the fact that we've reduced our headcount less than the sales volume gave us lots of upside for leverage. So last year, 10% sales increase, 0% increase in headcount this year, so in the quarter, for example, 10% organic sales increase and less than a 4% headcount increase. So I think what you're seeing is where we are in adding headcount, they are more strategic investments like Bob referred to, say in Wire & Cable in emerging markets, or directly in the kind of revenue-producing positions like inside and outside sales folks. Going forward, we still are not at the peak headcount levels than we were at pre-recession, and I think that's...

Robert Eck

And another important thing I want to point out, we're pacing to a revenue level well ahead of our pre-recession peak, if you look at the year-to-date numbers.

Theodore Dosch

Right. So I think we're able to make some of these strategic investments that, yes, are increasing our -- some operating expense versus last year in some of these regions, but the more significant impact on the operating expense year-over-year is the volume-related driver affecting compensation and other variable expenses.

Brent Rakers - Morgan Keegan & Company, Inc.

And would there be a way to dissect that 4%, and I guess that's approximately 300 or 400 people, and say how much of that is just to fulfill managing the existing -- bringing that kind of capacity of your workforce back up to service current needs versus how many of those people who are being added really dedicated towards future revenue growth?

Robert Eck

That would be very hard to do. Frankly, I don't think it would be fruitful for us because when we had a sales headcount, sales headcount may be supporting a mix of initiatives or territory expansion as well as picking up some current customer activity. I think to try to split that in a refined way would be misleading.

Brent Rakers - Morgan Keegan & Company, Inc.

And then could you also maybe comment on SG&A in terms of incentive compensation, bonus compensation, where that might be now in relationship to maybe where it was back in 2008? Have we completed the recovery phase there?

Theodore Dosch

Yes, I think so. Again, we've absorbed, say, 3 years of inflation since that time. We also now are at a point where the incentive-related compensation, say, in 2011 is running pretty comparable to where the incentive-related compensation was in 2010, so it's not really influencing our overall profitability on a year-over-year comparison.

Brent Rakers - Morgan Keegan & Company, Inc.

And then just final quick question. I think in your opening remarks on revenue for North American Enterprise, you talked about the comp being difficult from one very large non-recurring project, did I hear that correctly?

Theodore Dosch

Yes. And that'll be pretty much a non-issue for us in the back half of this year. That was a very large project that shipped out and billed in Q1 and Q2 of last year.

Brent Rakers - Morgan Keegan & Company, Inc.

Ted, this was the same project you referenced in the first quarter as well?

Theodore Dosch

Yes, it is.

Brent Rakers - Morgan Keegan & Company, Inc.

And a similar degree of contribution in Q2?

Theodore Dosch

A little less in Q2 than it was in Q1.

Operator

And we'll go next to a follow-up question from Jeff Beach with Stifel, Nicolaus.

Jeffrey Beach - Stifel, Nicolaus & Co., Inc.

Can you provide the intangible amortization for this quarter?

Theodore Dosch

Depreciation was 5.8 and the intangible amortization was 3, for a total of 8.8.

Operator

And at this time, there are no further questions. I'll turn the call back to our speakers.

Robert Eck

Thanks very much. Thanks, everyone, for joining us today. We believe that the global economy is undergoing a modest recovery, and our global reach, strategic initiatives and value-added business model position us well to support our customers in the improving economic environment. Thank you.

Operator

And ladies and gentlemen, that does conclude today's presentation. We thank you for your participation.

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