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Executives

David James Anderson - Chief Financial Officer and Senior Vice President

Elena Doom -

David M. Cote - Chairman and Chief Executive Officer

Analysts

Howard A. Rubel - Jefferies & Company, Inc., Research Division

Scott R. Davis - Morgan Stanley, Research Division

C. Stephen Tusa - JP Morgan Chase & Co, Research Division

John G. Inch - BofA Merrill Lynch, Research Division

Shannon O'Callaghan - Nomura Securities Co. Ltd., Research Division

Honeywell International (HON) Q3 2011 Earnings Call October 21, 2011 9:30 AM ET

Operator

Good day, ladies and gentlemen, and welcome to the Honeywell Third Quarter 2011 Conference Call. [Operator Instructions] As a reminder, this conference is being recorded. I would now like to turn the call over to your host, Elena Doom, Vice President of Investor Relations. Please go ahead.

Elena Doom

Thank you, Stephanie. Good morning, and welcome to Honeywell's Third Quarter 2011 Earnings Conference Call. Here with me today are Chairman and CEO, Dave Cote; and Senior Vice President and CFO, Dave Anderson. This call and webcast, including any non-GAAP reconciliations, are available on our website at www.honeywell.com/investor. Note that elements of today's presentation do contain forward-looking statements that are based on our best view of the world and of our businesses as we see them today. Those elements can change, and we would ask that you interpret them in that light. This morning, we will review our financial results for the third quarter, share with you our expectations for the fourth quarter and remainder of 2011, as well as discuss the framework for 2012.

And of course allow time for your questions.

With that, I'll turn the call over to Dave Cote.

David M. Cote

Thanks, Elena. Good morning, everyone. You might imagine that we're pretty anxious to talk to you about how we did because there's a lot of caveats [ph] this quarter. As you saw from our press release, we had another great quarter with better-than-expected operational performance reflecting terrific execution and continued momentum in most of our key end markets, that yielded EPS above the high end of our range.

Now before we get to the financials, we're obviously pleased the progress we made in the quarter on new repositioning actions, smartly redeploying book gains and CPG sale proceeds in the third quarter. Dave will take you through more details in a moment but we utilize both the gain on the sale of CPG, as well as the OPEB curtailment gains to fund substantial business repositioning. That will deliver tangible benefits in 2012 and beyond. So our reported sales were $9.3 billion, up 14% or 8% organic, reflecting continued advancement in our new products, high-growth regions and continued healthy end markets overall.

Segment margins expanded 50 basis points to 14.7% in the quarter, which included a $30 million accrual to prefund a new employee health savings plan design. This new plan design is consistent with our overall benefit strategy to empower employees to take ownership and optimize their benefits by making smarter decisions about their healthcare cost and improving quality outcomes going forward. By implementing this plan design change, we'll see a benefit in our healthcare cost next year.

We generated earnings per share of $1.10, up an impressive 45% over 2010 and you'll all recognize that was a good quarter also. And it's above the high end of our guidance range even when you exclude the favorable $0.04 tax benefit in the quarter, which will be fully offset in the fourth quarter as Dave will explain. Free cash flow was $884 million, reflecting 103% net income conversion. This really reinforces the quality of our earnings performance, volume leverage and continued cost controls, while maintaining our seed planting for the future. Given the strength and continued momentum of our year-to-date financial performance and positive outlook for the fourth quarter, we are again raising our full year guidance.

We now expect pro forma earnings in the range of $4 to $4.05 a share, reflecting a 33% to 35% increase in earnings over the prior year. We think this is top-tier performance amongst our multi-industry peer group. Our early cycle businesses, including Advanced Materials, ACS Products and turbochargers, continue to show a healthy pace of growth although moderating. While our longer cycle businesses like Commercial Aerospace, Process Solutions and UOP are starting to kick in with double-digit growth in the quarter. Further, our investments and focus in emerging regions continue to pay off with sales in Asia overall up approximately 20%.

We had another quarter of robust new product launches and technical certification. So when you look at the commercial and biz jet and general aviation side, we have a number of large platform wins with high content and are driving terrific retrofit upgrades with our latest suite of cockpit enhancements. There are several unannounced business aircrafts scheduled to debut over the next few years where Honeywell has been selected to provide the avionics. In virtually every instance, we were selected based on our advanced technology capabilities. And in some instances, the cockpits are not even put out for bid as our competitors' technology did not meet the OEM's requirements.

Turning to 2012, while we're not denying the potential for another recession, we think the high probability outcome is a slow growth economic environment. We're still in the early stages of our planning. However, we believe we're well positioned for growth across all 4 of our business segments again next year, given what we're seeing in our major end markets, the size of long cycle backlog, the strength of our execution and what we've been able to do with advance repositioning.

Dave will walk you through an updated view by business and market when he discusses the planning framework for 2012. But from an overall Honeywell view, the key drivers will be traction on our key process initiatives, growth investments in new products and services, our acquisitions and our expanding global footprint. Based on all of that, we feel confident in our ability to generate good earnings growth at 2x to 3x sales growth again in 2012.

So our strong quarterly performance and once again improved outlook for 2011, reinforce that our strategy is working and puts us further ahead on achieving our 2014 sales and margin commitments, our 5-year plan. Having great positions in good industries, the power of One Honeywell, and our consistent focus on improving every year in each of our 5 initiatives, it really makes the difference.

So with that, I'll turn it over to Dave.

David James Anderson

Thanks very much. Good morning, everyone, and thanks for participating. Let's go to Slide 4, 3Q financial analysis operating performance. In the next 3 slides, starting with Slide 4, I want to take you through our very solid operating performance and then the onetime items or nonoperational items in the quarter. And then finally, on Slide 6, I'm going to show you the all-in reported financials. Hopefully, this will provide real clarity in terms of the operating performance that's really driving the earnings growth that we're seeing in the quarter for Honeywell.

So first on Slide 4, you see a pro forma summary of the results for the third quarter. We presented again this way to reflect the terrific operating results that lived through. Sales of $9.3 billion were up 14%, 8% organic. Net acquisitions contributed 3% in the quarter and currency yielded a tailwind of approximately 3%. On an operating basis, segment profit grew 21%, taking margins to 15%, up 80 basis points. We had margin expansion in all 4 business segments in the quarter.

If you look below the line, the ongoing run rate for pension and OPEB was $50 million, so in line with your expectations. And including the run rate for environmental asbestos interest and stock compensation expense, it was $212 million. And again, within that range that you would have expected for Honeywell for the quarter. If you apply our normal 26.5% tax rate to those pretax earnings, that would give you $1.06 per share before the onetime items I'm going to review on the next slide.

So an impressive 39% increase year-over-year, $0.05 ahead of the high end of our previous guidance range.

So let's go on to now Slide #5 and talk about the details of the onetime items and the deployment geography for both the CPG and OPEB gains. Starting now with segment profit. As you can see, we recognized, and as Dave said, a $30 million corporate expense as a result of the decision to fund employee Health Savings Accounts in 2011. The design of these new plans, coupled with the medical decision support tools, that is now available to our employees, will enable higher-quality, better-value healthcare. It will also drive efficiencies in '12 and future periods, enabling us to offset the rising cost of healthcare, as well as improve the quality outcomes for our employees. If you move lower in the page, you see a small amount of incremental environmental related to proactive agreements that we saw on several remediation actions. And importantly, I'm going to take you through more of the repositioning details in a moment but we recorded close to $300 million of repositioning in the quarter, utilizing the remaining portion of the quarter's gains.

Finally, we also had a pretax -- had a tax rate favorability in the quarter generating $0.04 of benefit relative to our normal 26.5% rate. We expect the third quarter benefit to be fully offset or nearly offset in the fourth quarter, given the timing of certain tax planning items. So we're still -- another way of saying it, we're still expecting 26.5% effective tax rate for the year. So that implies a fourth quarter tax rate of approximately 27.5%.

So now let's go to Slide 6. When you sum all of the onetime items, you can see on Slide 6 that on a reported basis, inclusive of those items, which nets to 0, segment profit incorporating the HSA funding, our margin is now 14.7%, still up 50 basis points year-over-year. If you move below the line, you can see the onetime deployment actions that net against the ongoing portion of the below the line expenses that are included in our reported EPS. You also see the $0.04 tax benefit at the 23.2% effective tax rate, and then the $0.23 gain from the divestiture of CPG. What all that nets to again, is reported earnings per share of $1.10, an increase of 45% over the third quarter of last year.

So in summary, another terrific quarter for Honeywell no matter how you look at it with better-than-expected earnings performance and again, important to remember, the driver for this solid came from underlying options, none of the CPG gain, none of the OPEB gain lived through. Let's go now to Slide #7 and talk a little bit more about the after-tax gain deployment.

Slide 7 highlights in more detail the types of projects and projected benefits to the repositioning actions for the quarter. So again, on the left-hand side, you can see that we had a total gain in the quarter of the $0.33, the $0.23 for CPG, the $0.10 for OPEB. On the right side, you can see we had a mix of projects including structural transitions, providing us with meaningful benefits for future periods. On average, these projects have longer paybacks but higher IRRs than our historic track record. They still contribute about $50 million of operating income benefit in 2012 and importantly, provide an annualized run rate operating income benefit of approximately $135 million. So the actions, we're continuing to consolidate our global footprint, we're building out our emerging region capabilities and in some cases, eliminating unprofitable product lines.

All around, we feel very good about the flexibility of these projects give us for 2012, especially in a slower growth environment.

Slide #8. Let's talk a little bit about repositioning and take a broader over time perspective. This is one that we shared with you just a couple of weeks ago, we want to just to update for the estimated repo benefits that we expect as a result of the actions we took in the third quarter. So consistent with our strategy to smartly deploy below the line gains, we funded almost $700 million in repositioning charges over the last 3 years, which obviously is helping us better position the businesses and has provided meaningful savings. In total, the actions have amounted to about 7,000 net census reductions over the last 3 years, including those actions that we took in the third quarter. We now expect incremental savings from all the actions, including those that we took in the third, to total about $150 million of incremental operating income in 2012, which gives us a much more competitive cost structure going forward and better positions Honeywell for earnings growth in 2012, as well as future periods.

So with that background, let's now go through each of the segments in turn, starting on Slide #9 with Aerospace. Aero had a very strong quarter. Sales were up 8% in the quarter, 7% organic. Commercial sales were up 20% driven by continued momentum in the commercial aftermarket and also strong shipments of original equipment. Commercial OE sales grew by 25% or 22% organic, excluding the EMS acquisition benefit. We saw a terrific growth in air transport OE driven by the ramp-up in build rates, and the continued uptake of airline selectables with enhancements of our APU and our other safety and navigation upgrades.

In business aviation OE, which is up approximately 40% after adjusting for launch contributions in '10 and the EMS acquisitions, is benefiting from shipments of high Honeywell content OE deliveries in the mid to large cabin classes. The commercial aftermarket sales were up 17% in the quarter. And while we've seen several quarters of strong spares growth, up 28% year-to-date, our overall spares revenues are still below prior peak levels despite the modest restocking on the part of both U.S. and European carriers.

So based on the higher utilization of the existing fleets, we think there is further room to run in the aftermarket near term. Let's go through a couple of the details. Air transport in regional flight hours were up approximately 5% in the quarter, so slightly lower than the approximate 5.7% we've seen -- we saw in the first half of this year. Now we still expect flight hours to grow about 5% for the full year of 2011. We expect the pace to decelerate in '12 but to still be positive. Spares were strong, up 28% in the quarter, in line with what we saw in the first and second quarters. In addition, we're seeing older aircraft, which needs more spare parts in Repair & Overhaul return to service and to the shop floor.

Importantly, R&O was up 10% in the quarter, approximately 2x the rate of flight hours. Now we're also seeing increased software RMU sales of newly launched enhanced navigation and satellite communication packages. These are high margin contributors and with revenue per shop visit expanding, this also bodes well for this segment in 2012. Now as expected, defense and space sales in the Aero were down 4% in the quarter, driven primarily by program completions and also anticipated program wind downs. Now we continue to plan for further U.S. defense budgetary pressures and reprogramming and we reiterate our forecast for modest declines in D&S going forward.

Segment profit for Aero, up 120 basis points to 18.2% due to increased commercial demand, favorable aftermarket mix, favorable pricing and also productivity. It's important to note that Aero's favorable aftermarket mix is more than offsetting higher RD&E investments this year, which we're spending on new platforms and new growth programs. So very positive overall quarter for Aerospace.

Let's turn now to Slide 10, Automation and Control Solutions. Sales for ACS were up 14% in the quarter, another good quarter of organic growth of 4%. Acquisitions including Experion and EMS added 6%, while foreign exchange contributed 4% growth in the quarter to ACS. ACS also continue to see good emerging region penetration with sales in emerging regions up over 22%, led by China, India and also the Middle East.

The products businesses were up 15% reported, 4% organic, excluding foreign exchange. Growth was led by the industrial businesses for fire products, Personal Protection Equipment and Gas Detection were particularly strong. Scanning & Mobility and S&C also saw good growth although at a slower pace versus what they experienced in the first half. Residential and commercial end markets have yet to recover but retrofit activity continues to show modest signs of life. ACS did see however, softer order books in July and August in their distributor channels in several businesses but September rebounded nicely. So it's something we'll continue to watch closely through the fourth quarter.

On the Solutions side of ACS, sales were up 12% reported, 5% organic. We had impressive growth in Process/Solutions as they execute on their large global project backlogs. In emerging regions, for the Process businesses, for the Solutions businesses grew by more than 30%, again, driven party by China, India and the Middle East. Building Solutions is seeing strong overall install orders and backlog growth and we expect growth to continue to accelerate there over the next few quarters as they continue to convert a large number of project wins.

Now the sales conversion for ACS was on track at about 15%. Segment margins were up 20 basis points to 13.8%, and while Solutions will to continue to convert incremental sales in the mid-teens, ACS expects higher conversion rates in the fourth quarter due to the lapping of Experion, you recall from last year, as well as in the investments that we made in growth across the portfolio beginning in the second half of 2010. So we expect full year margins for ACS to be up approximately 40 basis points over 2010 for the full year 2011.

Let's turn now to Slide 11, Transportation Systems. Sales in TS were up 22%, driven by volume increases primarily in Turbo, and then also some favorability in terms of foreign exchange. Turbo sales continue to outperform the industry macros. European light vehicle production, they increased 4% in the quarter. European diesel penetration expanded 2 points over comparable period last year. And Turbo unit sales were very strong again this quarter, up mid-teens with shipments exceeding prior peak levels in the same period of 2007, that's a notable accomplishment for Turbo.

Now, Turbo's performance also reflects the businesses high win rates on both gas and diesel platforms, as well as increased penetration for Turbos globally. Sales in the Americas and Europe were particularly strong and we continue to see weak commercial vehicle sales in China due to a slowdown in construction spending and also some reduction or elimination of government incentives. Segment profit was up 32% from last year with margins expanding 90 basis points to 12.6% due to volume increases and also productivity, partly offset by higher commodity costs.

Let's now finish the segment by going to Slide 12 and talking about Specialty Materials. Another great quarter for SM. Strong double-digit growth at both UOP and Advanced Materials, terrific organic sales conversions. Sales in the quarter were up 25% for SM, 18% organic. Segment margin was 17.3%, which included the dilutive impact of the phenol plant acquisition that closed in July. UOP was up an impressive 36%, delivering upside with refining and specialty catalysts sales, which were up over 40%. UOP also had growth in projects and services.

Now UOP continues to benefit, of course, from the front-end engineering design portion, the feed portion of their large Petrobras project and is seeing the expected ramp up in refining its specialty catalysts, which is forecast to continue in the fourth quarter. UOP's order book very importantly is growing, their book-to-bill is now 1.2 and we expect to see that strength continue into 2012. And we'll talk about that in a little bit when we talk about the highlights of our planning framework for 2012.

The Advanced Materials sales were up 20%, 10% organic. We had strong demand for caprolactam and resins in Asia, which boosted R&C sales. We also had favorable price over raw spread and the addition of the phenol plant revenues. Now it's expected we're seeing some moderation in the pricing in fluorine products and also the impact of the seasonal ramp-down of refrigerants in the quarter. In the specialty product side, the growth was led by the penetration of new product applications in advanced fibers.

Now the segment margin for SM continued to be high in the third quarter due to the favorable price over raw material spreads, higher UOP catalysts revenues and productivity, partially offset by investments for growth and strong plant reliability and upgrades. We're now planning SM margins of about 18.5% for the full year, representing obviously significant growth over 2012.

So that review of the segments for the third quarter. Let's go to Slide 13 and talk about the fourth quarter for Honeywell.

As you can see, here what we've shown is by business, as well as some summary numbers at the bottom of the slide for total Honeywell. Just focusing on that takeaway at the bottom, we're expecting total sales in the range of $9.4 billion to $9.6 billion in the fourth quarter, up 7% to 10% from last year, 6% to 8% organic. And we're looking for EPS in the quarter of $1 to $1.05, assuming a higher-than-normal effective tax rate. Again, using a 27.5% rate as opposed to our normalized 26.5% rate.

In Aero, we expect sales to be in the range of $3 billion to $3.1 billion. This reflects continued commercial momentum, partially offset by lower Defense and Space sales. And again, the commercial OE backlog is robust and will continue to provide a tailwind for us in 2012 and beyond. We also think that the macro indicators in the personal aftermarket: Flight hours, parked aircraft, airline inventory levels, passenger load factors and airline profitability will continue to provide momentum in the spares and R&O business in the fourth quarter as well.

For ACS, we expect sales in the fourth quarter in the $4.1 billion to $4.2 billion range, reflecting good organic growth and also minimal net benefits from acquisitions, roughly about 1% benefit from acquisitions. We see good growth rates continuing to moderate on the product side of ACS as we lap tougher comps in the fourth quarter of '10 in ECC, S&C, as well as Scanning & Mobility. And we expect further acceleration on the other hand in the Solutions businesses given their strong backlog. And also worth mentioning, we anticipate ACS margins to be up approximately 80 to 100 basis points over 2010 in the fourth quarter, a nice finish for ACS for the year.

At TS, sales are estimated to be in the range of $0.9 billion to $1 billion, $900 million to $1 billion, reflecting continued momentum on new launches. We continue to forecast lower growth in light vehicle production in Europe, as well as stable diesel penetration rates in the fourth quarter. So as a result, we expect the rate of growth for TS to moderate as production schedules and diesel penetration both level off.

And at Specialty Materials, we anticipate sales in the fourth quarter of $1.4 billion to $1.5 billion. With robust sales at UOP, continued outperformance in Advanced Materials, as well as the favorable impact of the phenol acquisition. So SM margins, however, are expected to continue to moderate in the fourth quarter as price to raw spreads further stabilize.

So in summary, another strong quarter anticipated for Honeywell in the fourth quarter, $1 to $1.05, 15% to 20% year-over-year. For the full year, we expect sales now at the high end of our previous range of $36.5 billion to $36.7 billion, up 13% over 2010. And 2011 pro forma earnings per share, as Dave said, we've now increased our estimate to be in the range of $4 to $4.05, an increase of 33% to 35% year-over-year, an impressive year anyway you slice it.

And as a reminder, that excludes the potential for fourth quarter mark-to-market adjustments for pension, which given lower asset returns year-to-date and the lower interest rate and discount rate environment is likely. And with that note, let's turn to Slide 14 and just give you a quick update on pension, it's worth talking about for a quick minute.

Now you recall, just -- first talking about mark-to-market. Any change in discount rates or plan returns versus the actuarial assumptions that we utilize at the beginning of the year, so those that we apply at the end of 2010 for 2011, generate either a gain or loss. And the amount outside the corridor is recognized in the form of a below the line fourth quarter mark-to-market adjustment. With the fluctuation in rates and the lower-than-anticipated pension rate plan returns, we anticipate a mark-to-market loss in the fourth quarter with that sensitivity to the size of the adjustment reflected in the table that you can see on the page, at the top of the page at various year-end discount rates and plan returns.

Now it's important to note and we all know that there's going to be variability in these 2 factors between now and the end of the year. And just to demonstrate that, last year, rates moved approximately 50 basis points in the last month of 2010. Equity markets rallied and it drove our mark-to-market adjustments lower by about $600 million versus what we had assumed just a month earlier. So for illustrative purposes for 2011, if we were to estimate the mark-to-market adjustments today using a 5% discount rate, which appears to be about where it is, it's come up about 20 basis points in the last week or so, and return on assets, it's somewhere, hovering somewhere between 0% to minus 3%, something in that range because it's moved around with each trading day and given the volatility of the market. We would be somewhere in the range of approximately $1.5 billion to $2 billion in terms of a mark-to-market adjustment in the fourth quarter.

Moving below and importantly, the other dimension and one that I know is very much on your minds, is the initial implications for 2012 ongoing pension expense. And from the sensitivity table, you can see that we anticipate that our 2012 pension expense will be roughly flat to last year's expense or something -- to this year's expense I should say, we're something in the range of $110 million. So if you look again at the table and just look at a 5% discount rate and something in the range of 0% to 5% in terms of rate of return, in terms of where it's been hovering recently. It would give you that kind of range in terms of pension expense year-over-year.

That of course is going to be determined also by any incremental funding that we make to the pension plan, that will also be influenced in terms of that year-over-year expense.

With that, let's turn to Slide 15, the 2012 planning framework. As Dave said, we're going to continue to obviously update you. We've got a formal review with you in mid-December. But we thought it would be helpful to take you through some of the factors as we think about 2012. We think we're well positioned, again, as we stated for organic growth across all 4 segments, given what we're seeing in our major end markets, what we're hearing from our customers and the strength of our long cycle backlog and of course, the continued traction that we're getting on new products and geographic growth. While the growth in our short cycle businesses such as Turbo and ACS products are expected to moderate, we'll see strong -- the strong orders trends in our long cycle businesses will be reflected in higher sales growth for those businesses in 2012.

So starting with this page, the 2012 Honeywell framework, Slide 15. Starting on the right-hand side. When you think about obviously the commercial aftermarket in aerospace, a significant market that's now moving in the right direction. We feel confident that we're looking at attractive, continued growth in that segment. Also on the OE's side of Aero, we have a backlog in order rates to support continued growth. New platforms, the increase production rates, they're going to benefit us next year, as well as the continued traction in the commercial aftermarket that I referenced. So we expect -- while we expect a moderation in global flight hours next year, we'll still see healthy growth. And then we expect to benefit from higher spares and R&O revenues, as well as look for growth coupled in line with flight hours over the course of 2012. Aero launch contributions had a negative impact to the P&L this year of $100 million to $110 million. We're planning for significantly lower launch contributions in 2012. In emerging markets, we continue to see good organic growth. We'll have about a 20% revenue increase this year from emerging markets, and we expect these high-growth regions to comprise roughly 20% of our revenues in 2011, a substantial increase over 2010.

And while there've been pockets of softness in China as a result of their efforts to curb inflation and maintain healthy slower growth, we think the trend there will continue to be positive and obviously, lots of opportunity for Honeywell. Refining, Petrochemical, as well as metals and mining are positive stories for us, particularly in UOP and Process/Solutions. UOP backlog is up 33% year-over-year. Process backlog is up 16%. We've got some great wins and new products that will sustain growth in these markets next year.

Building Solutions also continues to be strong with backlog up 15% year-over-year. The Turbo launches continue to be a positive story for us and we continue to see almost 2/3 of the growth in Turbo chargers coming from new wins. So despite the macro OE production factors and stable diesel penetration that we expect, we'll see more launches on the horizon and we think this businesses will continue to grow in 2012.

Now again, it's important to note that in our major markets like Europe and U.S., production rates are still significantly below prior peak levels. Lastly, on the tailwind column is our repositioning benefits and as I mentioned earlier, we will estimate, there's approximately $115 million of incremental operating income that we'll see in 2012 as a result of the repositioning actions we've taken over the last 3 years. And consistent with our strategy to fund repositioning actions with onetime gains, our 2012 repositioning expense at this stage is really a TBD but likely to be modest compared to the actions that we've taken in 2011.

On the headwinds side, we obviously have Defense and Space, we would anticipate some additional slowing in D&S next year. We're not counting on some of the favorability that we saw in the first half of this year in D&S to repeat in the second half of next year. In Fluorines product, as expected, we're seeing more demand-supply equilibrium as we've cited in the marketplace and a narrowing of price-raw spreads. So while the Fluorines team is working on ways to offset this headwind, we're certainly planning for less favorability in terms of pricing on a year-over-year basis.

Regarding Aero R&D, with a number of new platform wins and the ramping OE production that correlates to higher R&D spend in the near term, so we think in a year-over-year basis that's going to be a slight headwind. However, we expect this will be more than offset by significantly lower launch contributions in '12 compared to 2011. Eurozone growth rates and residential retrofits benefited us in 2011, particularly when you think about our Turbo and ACS short cycle businesses. But macro indicators are signaling slow growth and we'll continue to monitor the outlook for those markets obviously very closely.

And then in the center of the chart, we've got a number of items that we're still weighing, obviously industrial and short cycle businesses. They continue to do well. We're not seeing fundamental change in terms of customer behavior or order activity. We remain cautious but positive. For non-res, for example, that's a TBD for us now. We seem to be bouncing along the bottom. We don't see a catalyst for near-term improvement. On the other hand, we also don't see a significant risk of further degradation. Pricing overall has benefited us in 2011, we'll continue to emphasize new product introductions, as well as commercial excellence tools to recognize value despite the economic environment. Commodities are obviously yet to be determined. There has to be some retreat of most of the -- there has been a retreat on a number of commodities and we're looking to take advantage of that in terms of the current environment to ensure we've adequately covered key exposures for next year. And then finally, foreign exchange, always subject to fluctuation. We've just shown that as a TBD at this point.

So while some things are too early to be definitively forecast, the preliminary framework for '12 remains appropriately balanced and positive on the operating side. And as Dave said earlier, we expect good earnings growth in 2012 at a rate of 2x to 3x our sales growth in what will likely be a slower global growth environment overall. So as always, we look forward to sharing with you more details in our guidance call in December. We'll plan to take you through all of our major assumptions at that time and of course, build up the numbers business by business.

So now let's just do a quick summary on Slide 16 before turning it back to Elena for Q&A. We're obviously very pleased with the third quarter and the year-to-date performance for Honeywell, reflecting continued momentum and solid execution across the portfolio. We have continued positive order rates across all of our segments, which gives us confidence in our raised guidance for 2011, yielding approximately a 13% sales increase and over 30% earnings growth anticipated in 2011 compared to 2010. It puts us further ahead in achieving our long-term financial targets that we've communicated to you. Now the actions that we took in the third quarter to utilize the onetime gains, these allow us to get further ahead of what is seemingly a slower growth environment. And the planning framework that we've taken you through for 2012, coupled with our expectation for growth in each of our business segments, really sets the stage for next year and really sets the stage for the discussion of more detailed outlook that we'll have with you in mid-December.

So with that, Elena, let's go to you for Q&A

Elena Doom

Great. Stephanie, can you please open the line and we'll take our first question?

Question-and-Answer Session

Operator

[Operator Instructions] Our first question comes from Scott Davis of Barclays Capital.

Scott R. Davis - Morgan Stanley, Research Division

Guys, is there any risk in Europe Turbo for next year? I mean, how do you think about it? I guess, how do you think about those risks?

David M. Cote

Well, I think about risk not so much specific to any business as it is just the global economic environment. This is probably as amorphous a time to try predicting what's going to happen as any we've seen recently. When things were going really bad, it was easy to tell. When things were going -- started to get better, you can tell. This one is tough to know because it's really now dependent upon what government does both in the U.S. and Europe. And we think the high probability outcome here as we've tried to describe it is a slow growth environment, for a couple of reasons. One is when you look at things like non-res construction, res construction, auto build, they're kind of at a much lower point than they were, say, 3 years ago. And our guess is that governments in both regions will do the minimal amount possible. So that's the way we ought to plan it. And as a result of that, we think you end up in a slow growth environment. There is a risk of recession though, if governments don't even do the minimal amount possible, we can end up with a recession and then all businesses will get affected. On the other side, even though it's tough to imagine, there is a possibility for a robust recovery if governments actually went beyond that minimum and address the problems that they have. Because you look at the U.S. balance sheet, corporate balance sheet, best in 60 years. Consumers, the amount of income devoted to debt best in about the last 20 years in the U.S. So there's a real basis here for something better. But we don't think that's the high probability outcome. We'll stick with slow growth and we're planning all our businesses that way, while making sure everybody stays conservative but very flexible. Because you just don't know which way this thing is going to go, and that's that we're thinking about it. It will affect every business, that outcome, whatever happens with government is going to affect every business.

Scott R. Davis - Morgan Stanley, Research Division

Understood. And, guys, I mean, your Specialty Materials business has been a real gem for you and it's just -- it's really fantastic. But can you talk about UOP? I mean, the sustainability of -- if we're in a middle of reload cycle, catalyst reloads cycle, how long does that normally last? And when does this business start to -- I mean, obviously you get tougher comps. But when does it start getting tougher, I guess, is my question?

David M. Cote

Well, I think the way to look at that one is, if you take a look at the first 6, 7 months of the year, you actually didn't see a lot from UOP because they were building order backlog, and that order backlog has done very well for us beyond just catalyst reloads. And that's going to start to play more into fourth quarter and next year. So I think it's not just the catalyst reload impact, which actually has been doing well for us. But, Dave, anything else you want to add there?

David James Anderson

Well, I would just reinforce what we talked about in the call this morning is the growth, Dave, in the orders that we've seen. You referenced the growth in the backlog. And importantly, Petrobras has obviously been a positive. But if you take that out of the numbers, the trend line of improvement in UOP is very impressive. So what you're seeing is just the underlying core refining and petrochemical pieces of UOP really, really coming on very, very nicely. And we see, Scott, specifically to your question on catalyst and catalyst reloads, probably, and again this is a little early, we'll cover this in more detail in December. But probably even more tailwind on the petrochemical side, which bodes very well for us. When you look at the composition of that backlog, that bodes very well for us for both '12 and '13. So I would say the macros right now are set up very, very nicely for UOP and we're going to see continued real strength in performance out of that business.

Operator

Our next question comes from Howard Rubel from Jefferies.

Howard A. Rubel - Jefferies & Company, Inc., Research Division

I just want to follow up a little bit on what you've talked about in ACS and how you've been able to improve profitability, Dave. I mean, my sense is that this is a little bit of a breakout and maybe there's a little bit of some magic behind that? Or is it just blocking and tackling?

David M. Cote

Well, as you know, over the last 10 years, we haven't relied on magic all that much. What we've tended to do is just have a consistent strategy and execute it consistently. And that you do that day by day, quarter by quarter. It's amazing where you get to over a number of years. And you're just starting to see the benefit of that. In addition, we mentioned this back in, I think, starting in the fourth quarter of last year, where ACS had hired ahead, further ahead than they should have and Roger would say that. And what you're starting to see is the benefit of getting that back in line. And that's why you're going to see further improvement in the fourth quarter. But they're just doing a good job of executing every day. Dave, anything you want to add?

David James Anderson

Yes, I think the other thing we would say is that there's a portion of that repositioning, Dave, that we've done that's really going to benefit ACS and we talked broadly about that being a tailwind again for us for 2012, but it's going to be an important tailwind for ACS. And again, just to kind of remind everybody, we're going to see probably anywhere between 80 and 100 basis points of margin expansion for ACS, call it, 25% to 30% conversion in the fourth quarter. So I mean, you're seeing not only as you said, Dave, kind of really working through some of that investment we made but we're also seeing now the benefit of growing into those investments that we've done. So actually good organic, as well as overall growth in ACS this year.

Howard A. Rubel - Jefferies & Company, Inc., Research Division

And then one balance sheet question. You've hit your $1 billion share repurchase mark. And then, so is there any desire or indication to do a little bit more? And then it looks like the cash balances grew very nicely but so did the CP. Is that still attributable to the mismatch between currency or location of the cash? And is there anything you can do about that?

David M. Cote

At the end of the day, when it comes to repurchasing, we're pretty consistent with the strategy we've talked about in the past and that we want to be able to hold share count relatively constant. And when it comes to the cash deployment, we're going to continue to be, I think, pretty thoughtful about how we go about doing that. At the end of the day, I don't mind cash building on the balance sheet, especially when we're in an uncertain time. But we'll continue to play it that way.

Operator

Our next question comes from John Inch of Bank of America.

John G. Inch - BofA Merrill Lynch, Research Division

ACS, it's nice to see the fourth quarter rebound in incrementals. This has been sort of though the fifth quarter of sluggish results. We are kind of rolling into some of the headwinds that, Dave Anderson, you described with respect to a couple of these end markets. Just curious, like sort of where do you see or how do you see the trend line of profit conversion for ACS? Is there some sort of a normative trend line that we should be thinking of for planning purposes? Because it sounds like mid-teens is too low but then I don't know, 30% is maybe a little too high. So is the answer really somewhere in the middle just based on the natural mix?

David M. Cote

Well, please let me first take issue with the adjective sluggish because, while you could say the margin rate improvement has not been as great as we might have hoped initially because of the hiring ahead. When you actually look at the earnings growth, ACS has consistently grown earnings very well over the last 6 or 7 years. So I would take issue with that, while acknowledging that margin rate improvement has not been as great as we had hoped initially, but largely because of that hire ahead. At the end of the day, ACS is very much on track for that 5-year commitment that we talked about on margin rate growth and sales growth. And I think you're going to start to see the impact of that even more in the fourth quarter and as we get into 2012. The conversion rate, I'll let Dave address that further. But conversion rates been pretty low over these last 4 quarters, largely because of a point that I just mentioned. But we expect that conversion rate to be very much improving in the out years, '12 and beyond. Dave, anything...

David James Anderson

Well, I think a couple of things, Dave, to underscore your point. I mean, number one, we've seen on a constant currency acquisition adjusted basis 6% organic growth for ACS on a year-to-date basis. So I mean, we're talking about very good performance when you think about, again, some of the overall market conditions that are out there, I mean, that's very good execution. And second, 30 basis points of margin expansion on a year-to-date basis, which isn't shabby, again, when you think of the flow-through of both the investments they've made as well as the acquisitions, which we're now lapping. So the important thing, and to John's point, we're now lapping that. I would say in terms of expectations, John, particularly when you look at 2012 and again, this is moving ahead a little bit of what we'll talk about in more detail in December, we talked about the very strong backlog that we've got on the Solutions side of the business that's going to convert. We'll see the benefit in terms of the continued repositioning actions, et cetera. Depending on our acquisitions going forward at this point in time, there's nothing significant that's going to impact ACS. So I think we're looking at conversion rate in the 20% kind of range. I mean, I think that's what you should expect from us and that gets very, very good growth given the -- and performance, given the kind of continued investment we're going to make in R&D, marketing, global expansion in this business. I mean, this is a very much a growth business for this company and again, that's underscored by the year-to-date performance.

John G. Inch - BofA Merrill Lynch, Research Division

Yes. Those are good answers. Dave Cote, my context was really the last 4 quarters. I just wanted to really -- the essence of the question was really to just discern, I think, a little bit more your level of confidence in the capacity of the business to expand its profits in the coming years. That was all. What kind of quiet restructuring -- can you just remind me, Dave Anderson, what kind of quiet restructuring have we done in 2012 that wasn't matched? And is that trajectory, all else equal sort of around the similar mark for next year?

David James Anderson

It's really, really 0.

John G. Inch - BofA Merrill Lynch, Research Division

Yes, that's what I thought, okay.

David James Anderson

Yes.

John G. Inch - BofA Merrill Lynch, Research Division

So your commentary around restructuring for 2012, would you be looking to match that if there were some opportunistic event, is that the way to think about it? I know you still own the BAE shares and so forth or what?

David James Anderson

Yes, I think that's the way to think about it. I think you have to look at us as smartly deploying gains and you can't always predict gains or the size of them. So we will continue to always be vigilant in terms of looking at opportunities, John. Now it's fair to say that given what we've done and what we've announced today, what we've already accrued for and what we've announced today, we've got a fairly full plate in terms of execution, right? There's a lot of things now to execute and get right. So again for 2012, what we feel so good about and Dave has really underscored this morning, is that we've really gotten out ahead. We feel really good about that. And, John, that's a real positive for us and positive business. We're obviously not looking just at 2012, we're looking at multiyear performance here, continuing to deliver value and delivering outperformance over time, and that's what we are committed to do. And these repositioning actions just falling very, very nicely in terms of timing and the way we think we'll be able to execute these to support that.

John G. Inch - BofA Merrill Lynch, Research Division

Just lastly, the pension framework, Dave, that you presented. Because the footnote says, "and additional prefunding", would that be about another $1 billion or so? And really the question kind of also comes back to, if you do put another $1 billion into the plan and given all else equal, your cash commitments, where does that put Honeywell in terms of the flexibility to either do more share repo, the way Howard suggested or perhaps do some M&A? Or -- does that make 2012 kind of a holding period? Or do you still feel like you've got some balance sheet flexibility?

David James Anderson

First of all, let me just say that on the pension contribution side, it's very much to be determined. We would anticipate today, John, that we would make an additional cash investments in the fourth quarter. 2012 is very much to be determined. I mean...

David M. Cote

Depends on what happens.

David James Anderson

That's exactly right. And also just the progression of markets and the interest rates over the course of 2012. I mean, we've seen some bank estimates that are saying as much as a 50 basis points lift on the 10-year treasury over the course of '12. I mean, so much of this will be addressed and solved just by an elevation of rates. So that's very much -- the good question is very much to be determined. On the share buyback, what we've stated is this. That our number one priority obviously is to continue to grow our strong businesses, to use M&A strategically as a growth vehicle for Honeywell, and that's what you should look for. It's a very smart strategic growth complementing our core organic growth for Honeywell. It's very much a part of the story. So that's the number one priority. Number 2 obviously is we want to continue to look at the dividend as a very important component of Honeywell valuation, very important to our investors. Number 3, we're going to look at holding shares constant, holding shares flat. And depending upon circumstances and events around M&A and depending on pricing in Honeywell in the marketplace, we will be opportunistic in terms of share buyback. But kind of in that sequence that's the way you ought to think about it. Dave, anything you would add to that?

David M. Cote

I think that's perfect.

Operator

Our next question comes from Nigel Coe from Morgan Stanley.

Nigel Coe

So just wanted to dig into the Aero margins and obviously we've got this drip, drip down in the S&D revenues. I mean, how is the margin rate in Defense and Space holding up? Because roughly -- my understanding is that D&S margins are roughly equivalent to the average. I'm just wondering if you've got a headwind on margins there? Or if the margin rate is remaining broadly stable?

David M. Cote

It's consistent with the past, stable, I think is a good way to put it.

Nigel Coe

Okay, great. And then just a couple of clarification on pension. The matrix on the sensitivity that's pretax based?

David James Anderson

Well, it's a pretax, so that's a PBT, if you will, Nigel.

Nigel Coe

Yes, okay. And the 250, is that on top of the 1.4?

David James Anderson

Yes.

Nigel Coe

Okay, great. Fantastic. And then just a clarification, Dave, on the resi retrofit comments. Just want to understand why that would get incrementally worse in 2012 versus this year?

David James Anderson

Well, I think what we're seeing is on the retrofit business, we're just seeing some pullback in the trade and distribution channels, we saw that in the third quarter. Specifically, what we saw, Nigel, is relatively weak July and August and then we saw a rebound in September. Now, so I'm really highlighting that as to be monitored, to be watched. It's just something that we want to be very, very mindful of. So it's really flagging it from that standpoint.

Nigel Coe

So was that inventory burn, let's say, the big boxes?

David James Anderson

Yes, we think that took place.

Elena Doom

And just to build on that, the first half, tremendous growth in resi retrofit for us. So if you look at ECC or even within fluorine products, you had strong double-digit growth there.

Nigel Coe

Right, right. And then just finally, on the OPEB, we've got a couple of gains coming through on the curtailments, any possibility that we might see 1 or 2 more of those breaking free in 2012?

David M. Cote

Minimal.

Operator

Our next question comes from Shannon O'Callaghan from Nomura Securities International.

Shannon O'Callaghan - Nomura Securities Co. Ltd., Research Division

So just on the fluorines pricing thing, I mean it seems like it hung in a little longer as a benefit this year than we thought. I mean, as we head into next year, that's sort of one of your few headwinds to worry about. I mean, any ballpark on sort of how to quantify that or the dynamics that might play out?

David M. Cote

Well, you could have probably put that in TBD as well as putting it into headwind in terms of do any of us really know exactly what's going to happen there. But we're looking at it and thinking about it as a headwind just because you end up knowing this month by month really. So we just think that's the right way to think about it today. And I wouldn't -- -- I'd hesitate to put a number on what it could or couldn't be because we just don't know. To your point, it's held on better than we had expect it. So that could very well occur next year or it could degrade. We just really don't know.

Shannon O'Callaghan - Nomura Securities Co. Ltd., Research Division

Okay. And then I understand the point about defense not expecting some of the favorability earlier this year to live through. But other than that, I mean any color on how things are playing out in the defense business? Anything you think is going to get particularly worse next year?

David M. Cote

Well, you'll have to put it in the overall context that we still expect defense spending to be coming down over time. I just don't see how the U.S. ever resolve the debt issue we have unless there's some kind of tax reform that's coupled with entitlements and defense. I just don't see how that happens. So we think that's the right way to think about it. At the same time, we've had 1 or 2 contracts that have come to conclusions, so that will impact us some. And we just think that's the best way to think about it and to plan for it. This is not a time I think to ever think about Defense and Space as being a tailwind. We're going to continue to stay conservative. We've done better than we'd estimated this year but we still think staying conservative is the smart thing to do there.

David James Anderson

Yes, that's good. And, Shannon, you noticed that we benefited from international spares sort of short cycle in the first half, where at today's point, where we don't expect that. So if you look at -- to continue with sort of the underlying growth rate or run rate, coupled with some of the program specific items that he mentioned, that really leads you to more of that down 4%, maybe down 5% kind of range in terms of our run rate. So that's the way we're planning and we think that's smart, as Dave said, we think that's the smart approach to planning for this business going forward.

Shannon O'Callaghan - Nomura Securities Co. Ltd., Research Division

Okay. I mean, I guess as you look through these headwinds, I mean, after those 2, I mean, doesn't sound like you're particularly worried about a lot of these headwinds. I mean is that fair to say?

David James Anderson

So just the thing is that I would say there's a little bit, if I could just sort of in the reverse, and that is the confidence that we have in the tailwinds. When you look at the Honeywell story for 2012, it really sets up very nicely. When you think of the strength of that commercial, both aftermarket and OE, this continued strength we're seeing in emerging markets, the backlogs that we have in our long cycle. We talked about UOP earlier, referenced some of the specifics of that, which will by the way, not only manifest themselves in terms of positive revenue growth for UOP but also positive mix for UOP. And then we think launches on Turbo will offset macros. So within a reasonable range of expectations, you take the range of analyst estimates for European production specifically for 2012 and that's the broadest range of any region. Within that reasonable range, launches are going to offset those macros, so we're going to see growth in that business. And then finally, what we really, really reinforce is the smart and disciplined redeployment of the gains for the repo benefits. So while we clearly got the known headwinds, the fact of the matter is, the highlight really of the message today is the strength of those tailwinds. And how well we think we're positioned to continue to grow in 2012.

David M. Cote

We feel -- I'd say, Shannon, another way to say it is, I feel very well positioned internally. The biggest issue that we're going to face is externally, and what does government do over the next 2 or 3 months to empower the economy to grow. Regardless of the economy, we think we've positioned ourselves very well to outperform.

Operator

Our final question comes from Steve Tusa from JPMorgan.

C. Stephen Tusa - JP Morgan Chase & Co, Research Division

So just on the 2012, I'm not sure if you discussed this before. But why was the non-res move from headwinds to a TBD for the 2012 framework? I think a few weeks ago you had it as a headwind? And then also I think you moved OPEB, removed OPEB from headwinds as well?

David James Anderson

Well, a couple of comments, on the non-res side as we stood back and I said that, Steve, just briefly in my comments earlier. Really, when you look at the fact that we don't see any real signs of life on the other hand, we don't see a lot of risk further downside. So when you think about it in terms of a fee, what you should think about on a year-over-year basis, we took it off. The other thing on the OPEB is that when you consider that OPEB gains were fully redeployed into repositioning, fact of the matter is, the run rate then on OPEB is essentially even 2012, our current expectation compared to 2011. So it's really a refinement. We think smart requirements of the slide, which as you know, we continually do that. That's kind of the process of thinking through and trying to give you the very best judgment on these items.

C. Stephen Tusa - JP Morgan Chase & Co, Research Division

Okay. And then one other question on the Aerospace side. Was there a weep, payment tailwind this quarter? For business jets I think it was? How big was that? I think we had around $20 million year-over-year. But those numbers kind of move around a little bit. Was there any tailwind there?

David James Anderson

It was small. It was $15 million for Aerospace in the quarter, Steve.

C. Stephen Tusa - JP Morgan Chase & Co, Research Division

Okay. And then if I heard you correctly one more time just on the ACS side, I think somebody asked about it before. So I mean you're saying this is kind of a breakthrough quarter. So after all this hemming and hawing over the leverage there, we're going to really start to see some clean numbers at ACS going forward?

David James Anderson

Well, I think what we said is that we're now lapping the investments that we made in the second half of 2010. We're also growing into those from a revenue standpoint. Also we had the Experion acquisition-related accounting expenses flowing through the P&L. So we're going to see very good margin lift and attractive revenue conversion in ACS in the fourth quarter. What we said on a run rate basis, all the puts and takes, the strength of the backlog in the Solutions businesses, the lapping of very, very tough comps on the product side, some of the headwinds that we'll have. For example, we think in the residential retrofit market, et cetera, that conversion rate in and around 20% for ACS in terms of modeling purposes and expectation purposes make sense.

Elena Doom

All right. I'd now like to turn the call over to Dave Cote for your final comments.

David M. Cote

Well, as you might imagine we are quite pleased with our accomplishments for the year and the quarter. And I trust our investors are quite pleased also. Our consistent strategy, consistently applied, really makes a big difference. And while none of us can predict today what the 2012 economic environment globally will be, we do believe we are well positioned to outperform given our long cycle backlog, our growth programs with new products and emerging regions and our repositioning actions. Thanks for listening.

Operator

Thank you, ladies and gentlemen. That does conclude today's conference. You may all disconnect and have a wonderful day.

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