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Airgas (NYSE:ARG)

Q2 2012 Earnings Call

October 27, 2011 10:00 am ET

Executives

Robert M. McLaughlin - Chief Financial Officer and Senior Vice President

Peter McCausland - Founder, Chairman, Chief Executive Officer, President and Member of Executive Committee

R. Jay Worley - Vice President of Communications & Investor Relations

Analysts

Jeffrey Hung - Jefferies & Company, Inc., Research Division

Robert Koort - Goldman Sachs Group Inc., Research Division

Christopher Perrella

Mark R. Gulley - Ticonderoga Securities LLC, Research Division

Ryan Merkel - William Blair & Company L.L.C., Research Division

Steven Schwartz - First Analysis Securities Corporation, Research Division

Edward H. Yang - Oppenheimer & Co. Inc., Research Division

David J. Manthey - Robert W. Baird & Co. Incorporated, Research Division

Peter Cozzone - KeyBanc Capital Markets Inc., Research Division

Operator

Good morning, and welcome to the Airgas Second Quarter 2012 Earnings Conference Call. Today's call is being recorded at the request of Airgas. [Operator Instructions] For opening remarks and introductions, I will now turn the call over to the Vice President of Communications and Investor Relations, Jay Worley. Please go ahead.

R. Jay Worley

Good morning, and thank you for attending our second quarter earnings teleconference. Joining me today are: Peter McCausland, Chairman and CEO; and Bob McLaughlin, Senior Vice President and CFO.

Our earnings press release was made public this morning and is available on our website as are the teleconference slides. To follow along, please go to airgas.com, click the Investors shortcut at the top of the screen, and go to the Earnings Calls and Events page.

During the course of our presentation, we will make reference to certain non-GAAP financial measures, and unless specified otherwise, metrics referred to in today's discussion will be adjusted for the unusual items. Reconciliations to the most comparable GAAP measures can be found in our earnings release, in the slide presentation and on our website.

This teleconference will contain forward-looking statements based on current expectations regarding important risk factors, which are identified in the earnings release and in our slide presentation. Actual results may differ materially from these statements, so we ask that you please note our Safe Harbor language.

We'll take questions after concluding our prepared remarks, and we plan to end the teleconference by 11 a.m. Eastern Time.

Now I'll turn the call over to Peter to begin our review.

Peter McCausland

Thanks, Jay. Good morning. Please start by turning to Slide 2.

Our 14,000 associates have once again delivered a record quarter. Adjusted earnings per share were $1.03, a 24% increase over last year on sales growth of 12%. But at volumes, they are still below prerecession levels.

We continue to see strengths in the manufacturing-intensive regions of the U.S. as evidenced by the strong performances of our Great Lakes, North Central and Mid-America regions. In addition to Manufacturing customers, Petrochemical and Energy segments are also performing very well. Second quarter sales were $1.2 billion, marked by a strong same-store sales increase of 10%, gas and rent same-store sales increased 7% and hardgoods increased 14%.

Acquisitions contributed 2% of sales. The relative out-performance in our hardgoods business on the strength of sales to large manufacturing customers and the mix shift within hardgoods to welding and automation equipment had a dilutive effect on our gross margin and account for the majority of the gross margin compression we experienced this quarter. However, both dynamics are generally indicative of sustained activity levels in the manufacturing economy and future demand for industrial gases and welding consumables.

Later in the quarter, we found ourselves slightly behind the curve on rising hardgoods product cost which also had a dilutive effect on our hardgoods gross margin for the quarter. In addition, we had to overcome supply-chain disruptions in a few gases, including helium, acetylene and argon.

We will be initiating a pricing action in both gas and hardgoods in the coming days in order to get back in front of the cost curve. While strong hardgoods sales and a favorable pricing outlook are both calls for optimism, given the global or economic uncertainty that unfolded during that quarter, we are playing -- we are paying close attention to our business trends. As we have proven in the past, we can quickly adjust our cost structure if warranted.

Adjusted operating margin for the quarter improved 20 basis points from the prior year to 12.2%, an impressive result considering it includes a 70 basis point impact from SAP implementation cost and depreciation expense incurred during the quarter, as well as a very difficult comps on our other operations segment. Even with the burden of SAP implementation cost, the strength of our business in a period of modest economic growth is evident. Our return on capital increased by 140 basis points over last year to 12.3% as we continue to leverage our national footprint and industry-leading platform on rising sales volumes.

Since the beginning of our fiscal year in April. In April we have acquired 5 businesses with nearly $70 million in aggregate annual revenues. Among them were Pain Enterprises, our carbon dioxide and dry ice producer and distributor with 20 locations and more than 140 employees in the midwestern U.S. and ABCO, an industrial gas and welding distributor with 12 locations and more than 100 employees in New England.

While our acquisition pipeline is far more active than it was last year, some potential sellers are delaying decisions in the wake of market volatility. Our appetite for acquisitions remains strong, and we're still targeting a goal of $150 million in acquired annual sales for this fiscal year. On the strength of our second quarter results and outlook for sustained volumes in the coming quarter, we have raised our earnings guidance from -- for fiscal '12 to a range of $397 million to $407 million, representing 19% to 22% growth over fiscal '11.

October sales are trending well, consistent with the favorable daily sales run rates we saw in September.

Please turn to Slide 3 to review some of our key initiatives. Our sales and marketing strategy, focused on segment alignment, continues to gain momentum. In the second quarter, Strategic Account business was up 14% from the prior year, driven by new account signings across all customer segments and by increased activity in our existing metal fab, power and materials, and oil gas and chemicals customer basis. New and existing strategic account customers drove particularly strong results in safety products and filler metals this quarter. Strategic Accounts present us with a tremendous cross-sell opportunities, both in terms of product lines and locations, and represent more than 20% of our sales.

I encourage you to review our Strategic Account -- product slide in the Appendix in detail after our call, but in the interest of time, I'll provide you with an overview of the second quarter.

Strategic Products, which combined to make up 40% of our revenue, increased to 8% over the prior year at 4% sequentially from the first quarter. Each of our Strategic Product categories experienced good year-over-year growth this quarter, with particular strength in safety products sales driven by increased activity in Strategic Accounts.

Our Radnor private label products were up 19% for the quarter. The long-term growth opportunity for Radnor brand remains strong. In addition to building brand loyalty with our customer base, gross margins on Radnor products are 1.5x or more than those on comparable OEM products.

I'd now like to provide you an update on the status of our SAP conversion. Please turn to Slide 4. We are progressing well through our planned phase rollout whereby our business units implement the new SAP system in succession. We now have nearly $1 billion in annual revenue and 2,600 active users running smoothly on SAP. And we believe implementation risks associated with the remaining business units is significantly diminished.

Our hardgoods infrastructure businesses, including Airgas Safety and our national buying centers and distribution centers have been running successfully on SAP since going live at July 2010. All fulfillment metrics are at or above pre-conversion levels.

Our first regional distribution company, Airgas South, successfully went live on SAP at the beginning of April. All major processes have been functioning well, and there has been no system downtime. Our implementation team did a tremendous job applying the lessons learned during the implementation of Airgas South to the training programs in preparation work for the conversion of our second regional company, Airgas Great Lakes, which went live at the beginning of September and by all measures, exceeded our expectations. For example, the Great Lakes conversion did not result in any necessary programming modifications to the system, and the cylinder supply-chain challenges that we experienced in the Airgas South conversion were almost completely mitigated at Great Lakes.

Our implementation schedule accelerates this quarter with the conversion of our third and fourth regional companies in November and December, and we expect our distribution business to be fully converted to SAP by the summer of 2012.

These are the businesses where we expect to realize substantially all of the benefits we have announced thus far. We have quantified the economic benefits expected to be achieved in 3 key areas: accelerated sales growth through expansion of the telesales platform; price management; and administrative and operating efficiencies. Upon full implementation, we expect these 3 areas alone to yield an aggregate of $75 million to $125 million in incremental operating income on an annual run rate basis. In fact, pricing management and the telesales initiative are already underway at Airgas South with encouraging signs, and we have began the process to consolidate administrative functions across the country, which Bob will discuss shortly.

On all 3 fronts, our progress, thus far, reinforces our confidence in the benefits estimates. These 3 areas do not represent the full earnings power of our SAP conversion, however, and we expect to identify additional economic benefits as the implementation progresses.

Now please turn it to Slide 5. Based on our experience to date, we are confident that by the end of calendar 2013, the benefits we detailed will be achieved and will constitute a minimum of $75 million in annual run rate operating income with the likelihood that these benefits will ultimately reach or exceed $125 million. SAP implementation costs are still expected to be heaviest in fiscal '12 as we complete the conversions of our regional distribution companies over the next 12 months, resulting in net EPS dilution of $0.30 to $0.34 this year, and $0.10 to $0.15 in fiscal '13. As highlighted in blue, we expect the combination of a lower implementation cost and the ramp-up of SAP-related benefits to yield year-over-year earnings accretion of approximately $0.20 in fiscal '13, above and beyond our base business performance, and to add, between $0.50 to $0.65 year-over-year accretion in fiscal '14.

We believe our SAP costs and benefits are largely independent of the macro economy. We expect to progress through our current implementation schedule regardless of the prevailing economic climate and the success of our benefits programs should primarily be a function of our internal execution rather than that of an improving economy. Combine the benefits of our SAP implementation with our favorable business trends and sharp operating focus, and Airgas shareholder's benefit from superior attractive future prospects.

Before I conclude my remarks today, I'd like to acknowledge one of our board members, Lee Thomas, Chairman and CEO of Rayonier, has announced his plan of retirement from Rayonier in May of 2012. Lee assumed the role on 2007, and since that time, Rayonier increased its market cap by $1.3 billion, resulting in a total shareholder return of 63%. Lee's many contributions to the Airgas Board of Directors have also been significant, and we look forward to the benefit of his continued leadership on our board in the future.

So to summarize our results. We've just completed an impressive quarter and we're on track for continued success. Business is strong. The incremental profitability of our sales growth wasn't as strong as we'd like due to compress gross margins, but the strong volumes we're seeing in hardgoods sales, particularly in welding equipment and automation, bode well for future demand for welding consumables and industrial gases. In addition, the lower margin safety business and new Strategic Accounts will continue to open doors for future gas business.

Large customers are leading the way in today's economy as the forces of consolidation are evident in not just our industry, but across all of our customer segments. While high-volume customers tend to dampen gross margin, they're the ones driving growth and they generally have a lower net cost-to-serve. Airgas is uniquely positioned to capitalize on this opportunity.

We've achieved strong revenue growth through a very challenging time in our phased SAP implementation. And while margins were squeezed in the back half of the quarter on rising product costs and some logistics expense from supply chain disruptions, we are in a position to recover with the pricing action in the near future. The economic recovery has been slow, but seems to be gaining momentum in the sectors we serve. Our strategy was to position Airgas to emerge as an even stronger company in the economic recovery, and we're realizing on the success of that strategy. We are delivering strong growth in operating income and earnings with attractive expansion and return on capital, while volumes are still below pre-recession levels. Our industry is still very fragmented, and we've built the only true nationwide platform in the business with the broadest available product and service offering. The benefits of our customers' history, culture and our new sales alignment are just starting to develop, and will yield even greater value for the customers more, than 1 million strong, to make Airgas their supplier of choice.

Completing our SAP implementation over the next couple of years will only enhance our value proposition. As I love to remind people, the best time in Airgas is now. Bob will give you a financial review of the quarter and provide updated guidance for this year.

Robert M. McLaughlin

Thank you, Peter, and good morning, everyone. I'd like to start today by briefly reviewing the progress we are making on the first phase of our SAP-enabled administrative efficiencies. The conversion of operating systems of our 12 regional distribution companies to a single platform enables consolidation of many administration functions across the company. As we announced in May, this is the ideal time in the evolution of Airgas to restructure our regional company support functions into 4 divisional business support centers in order to better utilize our resources across regional boundaries. As of today, we have identified the financial leadership for each of the 4 divisions, as well as a physical location of each business support center and have began staffing of the centers in accordance with our implementation schedule.

The costs associated with this restructuring include severance, relocation and other transition costs. We recorded a $0.10 charge in the first quarter of this year, and incurred negligible cost in the second quarter and expect $0.07 of further cost over the balance of fiscal '12. The restructuring is planned to be completed in fiscal '13, at which point, it begins to yield benefits consistent with our estimates.

Now to review our consolidated results, please turn to Slide 6. Sales increased to $1.2 billion, reflecting acquisition growth of 2% and total same-store growth of 10%, comprised of a 7% increase in gas and rent, and a 14% increase in hardgoods. Total volume was up 6% and price was up 4%. Sequentially, sales increased 2% from the first quarter on the same number of selling days, with acquired sales accounting for 1% of that increase. Sales of both hardgoods and gas and rent improved sequentially.

Gas and rent represented approximately 63% of our sales mix in the quarter, down from last year's gas and rent mix of 64% and slightly below the first quarter.

Gross margin for the quarter was 53.5%, decline of 160 basis points in the prior year, reflecting continued acceleration and out-performance of hardgoods sales, a mix shift within hardgoods to lower margin welding and automation equipment, continued sales mix shift to sales to large customers that generally carry lower margins and a lower net cost to serve, and as Peter mentioned, we also got behind the cost curve on some recent vendor price increases. Despite the pressure on gross margins, we achieved adjusted operating margin of 12.2% for the quarter, which included 70 basis points of impact from SAP implementation costs and depreciation expense.

Excluding a $0.02 asset impairment charge related to one of our liquid CO2 plants, adjusted earnings per diluted share were a record $1.03, an increase of 24% from $0.83 in the prior year. The adjusted EPS of $1.03 includes a year-over-year increase of $0.02 in SAP implementation costs and depreciation expense, which were more than offset by the accretion from our share repurchase programs. There were approximately 77.3 million weighted average diluted shares outstanding for the quarter, down 10% year-over-year and down 4% sequentially, driven by the share repurchase programs that were completed in the first quarter of this year and the fourth quarter of last year.

Return on capital, which is a trailing 4 quarters calculation, was 12.3%, an improvement of 140 basis points over last year on the strength of our improving operating income. We expect our return on capital to continue to expand with our operating income as we continue to leverage our national footprint and industry-leading platform as sales, volumes continue to recover.

Our working capital metrics including DSO and hardgoods inventory turns, held largely consistent with recent trends. Year-to-date adjusted cash from operations was $256 million, and free cash flow was $106 million. The decrease in free cash flow from prior year's $188 million reflects an increase in capital expenditures and working capital to support sales growth.

Total debt increased approximately $535 million year-over-year to $2.2 billion at September 30, reflecting $600 million spent on share repurchase programs and $108 million spent on acquisitions, partially offset by debt pay down of $173 million. Our fixed low debt ratio at the end of September was 51% fixed, and our debt-to-EBITDA ratio was 2.7%, within our target range of 2% to 3%.

In September, we received A2 and P2 ratings for our new commercial paper program from S&P and Moody's, and recently began to utilize this program to reduce borrowing -- to reduce the borrowings under our revolving line of credit. The all-in rates on our commercial paper program is roughly LIBOR plus 50 basis points, which is 75 basis points below our revolver cost. We are well-positioned to continue to effectively manage our balance sheet leverage within our target range, while capitalizing on an improving acquisition environment and continuing to invest in growth CapEx.

Now turning to Slide 7, we'll look at our segment results. SAP implementation costs, which are included in our consolidated adjusted operating results, have not been allocated to our business segments, nor have the special items that have been excluded from consolidated adjusted operating results.

Distribution sales in the quarter were up 11% versus the prior year to $1.1 billion, with same-store sales up 10%. Gas and rent same-store sales were up 7% and hardgoods were up 15%, with price up 4% and volumes up 6%. Hardgoods volume growth accelerated this quarter to 11% year-over-year versus 9% year-over-year growth in the first quarter. On a sequential basis, sales in the distribution segment increased by 2%, with hardgoods outpacing gas and rent. Distribution gross margin was 54%, a decrease of 150 basis points from the prior year and 120 basis points sequentially. Both the year-over-year and sequential declines were primarily driven by the sales mix shift to hardgoods, and within hardgoods to lower-margin welding and automation equipment, as well as a mix shift towards larger customers.

Gas and rent represented 51.8% of distribution sales in the second quarter, down from 59.6% in the prior year and 58.7% in the first quarter. Hardgoods growth outpacing gas growth is typical in the early stages of a recovery. Operating income in the distribution segment increased 18% year-over-year to $131 million, and operating margin improved 70 basis points to 12.5%, driven by strong operating leverage on our organic sales growth. All other operations reflects our CO2, Dry Ice, Refrigerants, Ammonia, and Nitrous Oxide businesses. Sales for all other operations were up 16% from the prior year with same-store sales up 7%. The same-store sales increase was driven by a significant increase in Ammonia sales on both the volume and price basis. Sequentially, sales in all other operations increased by 2%.

Gross margin for all other operations was down 290 basis points from the prior year, primarily driven by margin compression in the Ammonia business, which has experienced significant and frequent cost increases over the past several quarters, and our price increases continue to lag. We have additional pricing actions planned for our third quarter to address this erosion. We have also experienced margin compression in Refrigerants as margins ran at more normal levels after last year's market anomalies. Both Ammonia and Refrigerants businesses had strong performances in the first half of the prior year and the comps for these businesses will ease in the back half of the current fiscal year.

Sequentially, 50 basis point increase in gross margin from the first quarter was primarily attributable to a seasonal sales mix shift to CO2 and Dry Ice, away from lower-margin Refrigerants. Operating income for all other operations was $19 million, and operating margin of 13.2% was down 430 basis points year-over-year, driven primarily by the Ammonia and Refrigerants gross margin compression.

Sequentially, the 70 basis point decline in operating margins is primarily attributable to the effect of seasonality in the Refrigerants business.

Please turn to Slide 8, Capital Expenditures. Year-to-date, our CapEx, as a percent of sales, was 7.1% in the second quarter. Construction and process was the asset category with the highest year-over-year growth in spending, driven by the construction of our new ASU in Clarksville, Tennessee an expansion of our hardgoods distribution center in Deloitte, Georgia, and projects to expand or consolidate plants and branches across the country as we continue to focus on improving the efficiency of our operations.

The cylinders in both tank categories were also a contributor to the year-over-year increase as improved gas and rent same-store sales reflect improvements in demand for our core revenue generating assets.

Rent to welders also increased by $8 million due to the improvement in our Red-D-Arc business.

Slide 9 presents our fiscal 2012 third quarter and full year guidance. For the third quarter, we expect same-store sales growth in the high-single digits, with adjusted earnings per share in the range of $0.95 to $0.98. It's an increase of 19% to 23% over the prior year, which includes $0.08 of SAP implementation costs and depreciation expense, $0.06 of which is incremental over the prior year. For the full year, we are raising our adjusted earnings expectations to be in the range of $3.97 to $4.07 per diluted share, up 19% to 22% over fiscal 2011, which includes $0.32 of SAP implementation cost and depreciation expense, $0.18 which are incremental over last year. The previous announced range was $3.90 to $4.05.

We expect same-store sales growth to land in the high-single digits for the full fiscal year, and adjusted operating margin to be in the range of 12.3% to 12.5%, including the dilutive impact of the increased SAP cost. CapEx is expected to be around 7% of sales for the year.

Our fiscal 2012 adjusted EPS guidance includes the assumption for future pricing actions and assumes continued modest economic recovery in the high end while the low end allows for some moderation. The guidance excludes the impact of restructuring charges, which I mentioned earlier, and also excludes the impact of the asset impairment charge, the net impact related to the 2011 unsolicited takeover attempt and any multi-employer pension plan withdrawal charges.

Slide 10 presents a walk through the primary elements of our third quarter guidance using the second quarter adjusted EPS of $1.03 as a starting point. We have also included in this slide, a walk through the primary elements of the resulting fourth quarter guidance implied by our third quarter and updated full year guidance using our third quarter guidance range as a starting point.

Sequentially, the third quarter includes a headwind of between $0.05 and $0.06 due to 2 fewer selling days and the impact of holidays in the third quarter as compared to the second quarter. In addition, the third quarter had a headwind of between $0.03 and $0.05 due to the seasonality of our CO2, Dry Ice and Refrigerants businesses, which typically slow during the cooler months of the year, partially offset by higher sales in our Red-D-Arc Welder business due to the Fall turnaround season.

We also expect $0.01 of sequential headwind from a higher SAP implementation cost in the third quarter as our next 2 regional distribution companies are scheduled to be converted during the third quarter. We expect the core business to expand sequentially, contributing $0.04 on continued modest improvement in the manufacturing economy and solid execution on our operating efficiency programs. In the fourth quarter, the addition of 2 selling days and the loss of the negative third quarter impact to the holidays should provide $0.05 to $0.06 benefit to EPS. The seasonal nature of our CO2, Dry Ice and Red-D-Arc businesses will continue to be a headwind and the ongoing conversion of regional distribution companies to SAP during the fourth quarter is expected to be a modest sequential headwind. We expect the core business to expand sequentially, contributing $0.02 to $0.05 on continued modest improvement in the manufacturing economy and pricing gains.

I'll now turn it back to Jay to begin the question-and-answer session.

R. Jay Worley

Well, that conclude our prepared remarks today. [Operator Instructions] The operator will now give instructions for asking questions.

Question-and-Answer Session

Operator

[Operator Instructions] Our first question today comes from Ryan Merkel with William Blair.

Ryan Merkel - William Blair & Company L.L.C., Research Division

I wanted to start with gross margins. It's been challenging the last couple of quarters and you've called out some of the dynamics there. But as we look out over the next 12 months or so, can we expect mixed pricing and SAP benefits to help get us back up to 55% gross margins again?

Peter McCausland

I think that's highly likely. I mean, we -- as I mentioned we're intending to initiate pricing actions as early as tomorrow, I think. And the mix issues have -- they'll turn for us this. The automation equipment, and welding equipment and cutting equipment that our customers are buying inevitably will lead to higher gas sales and higher accessories sales, which carry higher margins. So I think a combination. And also, we're also addressing the pass-through of hardgoods pricing, where I think we had a couple of execution issues in a few areas and -- so I think the combination of all of those will result. And the last thing that I'd say is as we get into the last quarter our gas ops should improve as well, dramatically. Maybe, Bob, you could walk Ryan through the impact that gas ops has had on this margin.

Robert M. McLaughlin

Well, gas ops has had significant impact on our operating margin, and you can see that on the segment slide. But just a follow-up on Peter's comment, I do -- we do think that we will certainly be in the range, as you mentioned, on the distribution side. That's baked into the forecast. The seasonality will add some challenges to the margin -- the consolidated margin, just because of the CO2 and Dry Ice going down in the third and fourth quarter. But overall, we absolutely expect to get back to the levels that we're at and ahead. But we definitely had margin compression. And as I mentioned, particularly, in the Ammonia business as that's a commodity-driven business that has had very significant and very frequent price increases, and we're working hard to stay up with them. But it keeps going up, and we keep lagging slightly. So we have a game plan in place to address that. And as we have mentioned, we have some very difficult comps related to that business and Refrigerants last year, so we think that we're on the uptick.

Peter McCausland

In Ammonia, not only are we taking pricings action, we've also booked some pretty significant service business that carries a very high margin that -- we didn't have any of that in this quarter in our Ammonia business. So I think that's going to help there as well.

Ryan Merkel - William Blair & Company L.L.C., Research Division

Great. And then my second question was moving to the Bulk Gas business. Can you speak to the competitive conditions there and pricing in the market place? And then do you think you're taking market share?

Peter McCausland

Well, overall, market is strong. There are shortages of argon in some regions. Capacity utilization has moved up nicely, and I'd say pricing is good in the Bulk business. Our growth rate for Bulk, in this quarter, was only 5% and last quarter it was 7% or 8%. But that was primarily the result of some very tough comps that we had in all of our strategic products but especially Bulk. We've always said that where we have a good bulk supply, where we have a wonderful opportunity to expand our business, because we grew up in the Packaged Gas business and generally had all the Gas business except the Bulk, and many of our customers. So when we proposed sole-sourcing arrangements and things like that -- and just because we're in there everyday with 1,500 salesmen, I think we have a good opportunity to grow our bulk that way. But we're also in there seeing new opportunities. So I think maybe we are taking a little share, but we're doing it -- we're certainly not doing it on price. We're doing it because we have a very better value proposition for the customer.

Operator

Our next question will come from Robert Koort with Goldman Sachs.

Robert Koort - Goldman Sachs Group Inc., Research Division

Peter, I think you called out some execution issues in some of the hardgoods price recovery. Is that something that gets rectified as the SAP gets implemented? Or what's necessary to ensure that doesn't happen? And then on the Ammonia side of things, I guess I thought maybe that end market was a little more consolidated, and you'd be able to be a little bit more nimble. So is there anything around the SAP that helps you be quicker so you could move quickly to recover those inflationary costs in the future? Or is it just sort of a good old-fashioned 60- to 90-day issue.

Peter McCausland

With Ammonia, let me take down that one first. I'd say that the -- that it's the latter. I mean, the run-off in ammonia prices was just unprecedented, and that's a volatile commodity to begin with. And we've been raising prices, but we haven't been raising prices fast enough and so we're accelerating the process now. You'll recall that 1.5 years ago, when we were on the other side of that, we we're printing money in that business. And unfortunately, that's the nature of the beast. And even though it's less commoditized and there's a much higher service element to the business at our level, which is at less than truckload quantities, it's very hard to keep up with the price increases on a wicked commodity cycle like that. On the hardgoods side, I think -- we're still -- first of all, we are going to correct it and we're going to correct it right away on terms of the hardgoods margin. And we're confident that we can correct it. Secondly, we're looking very hard at our process, at where we input pricing for our Strategic Accounts program, and because clearly that was part of the reason for the compression. Then we have -- there are other issues when you implement SAP. For instance, Airgas South didn't have the last price increase which was a March price increase for us until September 1. So only one quarter, their price increase were -- was in these results. And that's because we have to lock down the data, and we didn't want to be going through all the machinations of a price increase while we were in that pre-conversion and post-conversion stages. And then other conversions like Great Lakes, we had to lock down the data 30 days before and 30 days after. So if you take the Strategic Accounts center, and probably we dropped the ball a little bit there, and some of the disruptions caused by SAP, I think it explains that portion of the margin compression that relates to execution. But that's a small portion of the overall. The overall had to do with mix within the hardgoods segment. And that -- the silver lining is when you sell that heavy equipment and the automation equipment, it inevitably leads to sales of gases and consumables with much higher margins.

Robert Koort - Goldman Sachs Group Inc., Research Division

Okay. And on the -- just curious in the shale gas arena. I know you guys obviously sell equipment and welding stuff that goes into that business. Is there any chance you can evolve to a bulk gas supply there, given your relationships with these CO2 streams that you have access to?

Peter McCausland

You mean bulk CO2?

Robert Koort - Goldman Sachs Group Inc., Research Division

Yes.

Peter McCausland

Well, to be quite honest, I know we supplied CO2 to oil and gas service companies. I don't know if -- most of the shale gas I think is done with water, although there's been some discussion of using nitrogen in certain formations. And certainly nitrogen or CO2 is preferable as an environmental solution. But I don't think that's been a big part of our business. We do watch it very closely. We not only serve the contractors who built these pipelines and gathering systems, but we're serving a lot of the oil service companies as well now. So we're very close to it. And whether or not horizontal shale drilling results in a big market for nitrogen or CO2 is yet to be seen.

Operator

Our next question will come from David Manthey with Robert W. Baird.

David J. Manthey - Robert W. Baird & Co. Incorporated, Research Division

First off, does the $0.05 to $0.06 for days and holiday impact, does that factor in the loss of more than 2 effective selling days? And the reason I'm asking is that -- are you hearing from customers that there's going to be potentially some more extended shutdowns around that timeframe, given the placement of the holidays this year?

Peter McCausland

Well, we're actually hearing the opposite from customers. Customers are telling us that they're expanding and that they're hiring, and -- which is not what we're reading in the newspapers, but Bob, what about the -- how many -- we're not...

Robert M. McLaughlin

No, we are not. We're assuming the 2 and the holiday impact. And it's a consistent range that we had used last year.

David J. Manthey - Robert W. Baird & Co. Incorporated, Research Division

Okay. Perfect. And then on the price realization, it's plus 6%. It looks pretty good. Bob, I don't know, did you break out hardgoods versus gas and rent price realization in the quarter? Forgive me if that's in the slide.

Robert M. McLaughlin

Actually the price was 4 and the volume was 6. And it was pretty consistent, I believe, between hardgoods and gases, which says we're not seeing a price deterioration. We just got behind a little bit on the cost curve. So that steady 4% which is what it was, and roughly what it was in the first quarter we've been able to maintain.

David J. Manthey - Robert W. Baird & Co. Incorporated, Research Division

Okay. And then finally, Peter, you're clearly taking a different tone on here than you were back in the Fall of '08 in the release, at least. It sounds like as you're talking about that things are going pretty well. But can you talk about anything you learned back then or signposts that you're seeing now that are leading to the change in tone?

Peter McCausland

Well, we're trying to -- our people in the field are really psyched up. They're seeing a lot of business activity across our customer segments, particularly in manufacturing, energy, petchem. But even the ones that have been growers for many, many years like life sciences, research, healthcare, they're starting to come to life after the credit crunch. If I have to compare it to 2008, our business stayed strong very late in the game. But our industrial and manufacturing, the whole industrial business, the manufactures, energy companies and things like that, really peaked into 2006. And we had a pretty nice pricing environment in terms of volume. But we had a pretty nice pricing environment there for the next 18 months. Here, we're seeing sort of the opposite. This economy was very slow to recover, and it's still kind of steady-as-she-goes. We're still not back to peak. Pricing has gotten better as the economy has marched on here. But it's a big customer recovery. I think it's partially because capacity utilization is still not back to the peak, so our customers aren't outsourcing. When they get to full capacity, they start outsourcing and the smaller customers tend to do better. So we're seeing a real volume growth situation here that we didn't see in 2008. And I would say that's the biggest difference. And I don't know what's going to happen in the economy. We have -- sales in October have been very strong. So we have pretty good visibility for this quarter. The next quarter, who knows? But being a daily sales company for most of our business, we don't have a crystal ball. But it looks very promising to us and our people are psyched and our guidance, I think, tones down our people a little bit, based on what we're reading in the newspapers and based on the political gridlock that we have in this country.

Operator

Mike Harrison with First Analysis has our next question.

Steven Schwartz - First Analysis Securities Corporation, Research Division

It's actually Steve Schwartz sitting in for Mike. Looks like fuel prices could becoming lower. Are you hearing anything from your construction customers about a new project activity going up?

Peter McCausland

We're being told that new projects are for calendar year '12. Our Construction business actually is pretty damn strong right now and Red-D-Arc is doing very well. And in fact, we just approved the first sort of significant fleet buy for Red-D-Arc in some time. But that's basically on the strength of outages and debottleneckings and things like that. And I think we've taken some share in construction because so many of these construction companies find our strategic account offering to be of value, being able to deal with one customer anywhere in the country and get the equipment they need when they need it and where they need it. But it's mostly outages, and they're talking about big projects in 2012. Now specifically, when we -- we just had a construction review. There were 4 or 5 very low-range construction companies who have wound down jobs, 2 or 3 jobs this year, and they've actually identified new jobs for us that there's -- that we'll be supplying that start up in early '12. And -- but that's only a few companies and it's anecdotal. I think generally, people are thinking that maybe even in the late '12 before we have the big projects breaking ground again.

Steven Schwartz - First Analysis Securities Corporation, Research Division

Okay. And just as a follow-up, looks like some steel mills may be taking some downtime during the December quarter. And -- so can you talk a little bit about what that might do to your argon availability?

Peter McCausland

That could be a problem for argon. We think we have secured sources of supply of argon and good relationships with a number of gas companies, and we have sort of assumed bumps in the supply road like this in our planning. But I think we'll get the argon we need for our customers, but I do think it has the potential to drive argon pricing significantly higher.

Steven Schwartz - First Analysis Securities Corporation, Research Division

Okay. So in other words it is, in spec, something you are kind of expecting, you're planning around it, and you think you can minimize the impact. Is that a good summary?

Peter McCausland

Yes. And I would say the benefits of higher prices will offset any negative impacts. That's certainly what happens in these cycles. And these cycles are hard to predict because some -- these steel companies, sometimes they say they're going to shut down, they don't. Sometimes they say they're not going to, and then they shut down 3 of them and so you got to -- you have to have multiple sources of supply, as we do.

Operator

Next we'll take a question from Mark Gulley, Ticonderoga Securities.

Mark R. Gulley - Ticonderoga Securities LLC, Research Division

Peter, you and Robert talked a lot about the benefit of SAP. Is there any possibility accelerating that implementation, perhaps even if it involves some premiums, to bring those benefits onboard a little faster?

Peter McCausland

As we said in the beginning, we're going to take this slow and steady and get it right. We've done years of planning. We're spending $200 million, and it's going very, very well. And we have a plan that we think taxes our organization to the limit. And by the limit means -- it means that we can still deliver the kind of sales growth and profit growth that we promised our shareholders. And we don't want to jeopardize that. So we have a schedule. We like meeting our plans and the expectation -- the reasonable expectations of our investors, and we're going to stick to that plan.

Mark R. Gulley - Ticonderoga Securities LLC, Research Division

Secondly, you talked about the volume detriment relative to prior peak. Sometimes you've had a slide that kind of outlines that. Can you remind us about how much in terms of maybe sales and perhaps EBIT? You are below the prior peak on a kind of a same-store basis, I believe is they way you've deployed it in the past.

R. Jay Worley

Well, sales dollars were approaching where we were. From a volume standpoint is where we're down, and that's the encouraging part. So from a gas standpoint, I don't have the numbers right in front of me, but if I had to guess, I'd say probably around the 7% to 8% area on the gas volume standpoint, and higher than that on hardgoods.

Peter McCausland

And then cylinder. One other thing that we look at cylinder utilization, and cylinder utilization is still below peak by several percent.

Mark R. Gulley - Ticonderoga Securities LLC, Research Division

Okay. And then finally, one of your competitors seems to have reawakened with respect to pursuit of packaged gas deals. You indicated your appetite is still very high. Are you seeing any increased level of competition for deals that could possibly impair your ability to reach the 150 sales growth goal on an annual basis?

Peter McCausland

Well, we think we're going to meet that goal, and that's why we confirmed that today. But irrespective of that, we pay good prices. We got more synergies than anyone else, but that doesn't mean that one or more of our competitors might act crazy and overpay for these things. And overpayment is something that's very difficult to recover from, and so we're fairly cautious that way. And yes, there's a couple of companies that have a frac [ph] there, and Matheson both [ph] have indicated, and there's a private equity firm that's actually bought a company recently, that have indicated an interest in making more acquisitions. But we've had competition now for 30 years and we're the only company that's been a buyer every one of those 30 years. And I'm sure that we'll continue to get our fair share.

Operator

Next is Edward Yang with Oppenheimer.

Edward H. Yang - Oppenheimer & Co. Inc., Research Division

Just going back quickly on this cost side issue again on the hardgoods. Bob mentioned the vendor-led price increases in hardgoods. So was that all just Ammonia? We're you seeing that in welding equipment? Or what areas of hardgoods did you see that?

Peter McCausland

Well, Ammonia is not in that. That's in all other ops, and all other ops had a big impact on our overall gross margins, and that was the point we were trying to make. In the distribution good -- the Goods Distribution segment, the pricing -- the cost increases tended to be in the wire and filler metal areas and also in safety products. And so how much of that has to do with steel prices. How much has -- that has to do with higher costs coming out of China? I'm sure that they were all factors. But we're a distribution company, and one of our core competencies is making sure that we pass on price increases to our customers. And we could have done a better job, I think, than we did last quarter. It will be rectified next quarter.

Edward H. Yang - Oppenheimer & Co. Inc., Research Division

I'm actually surprised that you saw cost pressures on filler metals. I would think that that would start to decline for you.

Peter McCausland

Well, it's not a perfect world, where the day the steel price goes down, that filler metals prices go down. We did see pressures on filler metals. And, of course, some of our filler metals come from overseas, too. So you've got more than one factor. It's not just steel prices that have worked there. But -- and the pricing actions tends to lag the steel prices increases anyway.

Edward H. Yang - Oppenheimer & Co. Inc., Research Division

Okay. And, Peter, you mentioned confidence in your -- hitting your acquisition target for this year. Are you -- what's your latest thinking in terms of international acquisitions? You got some experience there historically, have molded over sporadically. What's your latest thinking there?

Peter McCausland

Well, our first priority is acquisitions in our core business, and then secondly would be product line acquisitions for our core business and adjacencies where we have established like Processed Chemicals or Refrigerants or -- but -- and our third priority has been overseas acquisitions, just because the opportunities in the first 2 categories are so large. We continue to look overseas. There are a number of very interesting companies where -- that have critical mass in their markets, or the markets are fragmented and critical mass could be achieved over time. But we want to go for the right opportunity and at the right price and I can't really predict when an overseas acquisition could might happen.

Edward H. Yang - Oppenheimer & Co. Inc., Research Division

Do you expect any distressed opportunities, maybe in Europe? The dollar is also stronger as well.

Peter McCausland

I mean, there's that possibility, and we're not overseas. We're not part of the club. So we don't have the same antitrust issues that other potential buyers might have. So -- and we continue to look. But it's impossible for me to say, with any certainty, that we'll be successful.

Operator

Our next question will come from Peter Cozzone with KeyBanc Capital Markets.

Peter Cozzone - KeyBanc Capital Markets Inc., Research Division

Most of my questions have been answered but just a quick one. Could you remind us the dynamic between hardgoods and gases? We've seen an up-pace in gas [indiscernible] for several quarters now. I mean, when do you expect that customers will start folding in gas purchases to supply these new machines and equipment?

Peter McCausland

Well, it should happen directly. I mean, we should start to see that over the next few quarters, because this -- the equipment sales have been very, very strong. Welding equipment, cutting equipment and automation. And so there shouldn't be much of a lag at all as soon as the stuff is installed. And one reason why hardgoods leads -- one element of why hardgoods leads in the beginning of a recovery is because you have people buying equipment to gear up for production. And the reason gases lag is because of that sequence. They have to buy the equipment first and gear up production and then gas -- a lot of gases -- that peak for gases is at full production. But also the pricing for gases tends to be better in the middle-to-later part of that cycle than it does in the early part of the cycle. So there's a good number of dynamics at work here, but we're looking for gas increases and consumables increases to follow the significant sales of equipment.

Peter Cozzone - KeyBanc Capital Markets Inc., Research Division

Okay. And then can you provide some more color on maybe just on the competitive pricing environment, and maybe your thoughts on your ability to pass pricing through, given kind of more uncertain macro environment. And in the event of a potential slowdown in 2012, would you generally be able to hold on in pricing?

Peter McCausland

I think if you're in our industry, you -- 95% of what you do is going to be influenced by what you see in your business, in your industry, in your customer segment. And what we're seeing is a very good demand and a good pricing environment as a result of that demand. And capacity utilization is moving higher, which adds -- will add additional support for the pricing environment. I don't think people read the newspapers about Europe and go out and decide to lower prices. If anything, they probably try to get higher prices. This recession that we just came through was a very difficult one for our industry. And the industry, I think, is of a mindset to get healthy through this slow and steady expansion and through pricing. And -- I mean, I don't know what's in the minds of everybody, but I just look across the landscape and it seems like a fairly good pricing environment now. If people got really scared and the economy turned down, we might see the same thing we saw at the last recession, that people start to get aggressive and -- but in our industry, it's really -- that happens, but the overall impact on our margins is pretty minimal, as we've displayed in our last -- with our numbers in the last recession. So all I can tell you is it seems like a pretty good pricing environment. I think our customers will support the price increase that we're going to come out with forthwith.

Robert M. McLaughlin

And we didn't -- back in the very difficult great recession period, we did not have -- maybe one quarter we had a 1% decline. But we basically held pricing throughout that great recession. What didn't happen is we didn't get the frequent increases that we had seen before that. But we didn't really have a meaningful degradation in pricing even during that hard task.

Operator

Laurence Alexander with Jefferies is next.

Jeffrey Hung - Jefferies & Company, Inc., Research Division

This is Jeff Hung for Lawrence. Just quickly, your acquisition has contributed 2% of sales and 1% sequentially. What's -- what do you contribute to operating profits?

Robert M. McLaughlin

I don't have that in front of me, but I -- it would not be a needle-mover relative to the -- in the early stages of an acquisition, we certainly get some very modest accretion, but it wouldn't have been a needle-mover relative to -- it would be proportioned to the increase in the sales.

Jeffrey Hung - Jefferies & Company, Inc., Research Division

And is it easy to sync up new businesses and acquisitions to your new systems, or does that take time, effort and a lot of money?

Robert M. McLaughlin

No. We have had some very core competency of ours, and particularly in the regional distribution businesses, it's pretty seamless. We have that playbook down to a tee, and we can very quickly and very efficiently integrate businesses, both from an operational and a systems standpoint.

Operator

We'll take our final question from Kevin McCarthy with Bank of America Merrill Lynch.

Christopher Perrella

This is Chris Perrella in for Kevin McCarthy. I just want to follow up on the SAP implementation at the 2 distribution companies in November and December. If you're implementing pricing in the coming weeks here, how is that going to be implemented in those 2 regions considering you have to lock in Airgas South and Great Lakes 30 or 60 days ahead of time?

Peter McCausland

Right. Well, in our implementation schedule, we assumed, I mean, we planned for a price increase in the second half of the year, and our implementation schedule is such that it has pricing increased windows in it. So we're all set.

Christopher Perrella

All right. And where -- what's the capacity utilization on your ASUs?

Peter McCausland

In the low 80s.

Operator

And that does conclude our question-and-answer session. At this time, I will turn the call back over to Mr. Jay Worley for closing remarks.

R. Jay Worley

Well, again we thank you all for joining us today. I will be available all afternoon for follow-up questions. Have a nice day.

Operator

And that does conclude today's conference call. Thank you for your participation.

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