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Whirlpool Corporation (NYSE:WHR)

Q3 2007 Earnings Call

October 23, 2007 10:00 am ET

Executives

Larry Venturelli - Vice President of Investor Relations

Jeff Fettig - Chairman and Chief Executive Officer

Mike Todman - President of North American Division

Roy Templin - Chief Financial Officer

Analysts

Sam Darkatsh - Raymond James

Michael Rehaut – JP Morgan

David MacGregor - Longbow Research

Ike Borcia - Morgan Keegan

Eric Bosshard - Cleveland Research

Jeff Sprague - Citigroup

Operator

Good day, everyone and welcome to today's Whirlpool Corporation Third Quarter 2007 Earnings Release Conference Call. Today's call is being recorded. For opening remarks and introductions, I would now like to turn the call over to the Vice President of Investor Relations, Larry Venturelli. Please go ahead.

Larry Venturelli

Thank you.  Good morning, and welcome to our third quarter earnings conference call. Our opening remarks will refer to a slide presentation, which is available on our investor web page. During the call, we will be making forward looking statements to assist you in your understanding of Whirlpool's future expectations.

Our actual results could differ materially from these statements due to many factors discussed in our latest 10-K and 10-Q.  During the call, we will be making comments on pre-cash flow and non-GAAP measure.  Listeners are directed to slide 41 for additional disclosures regarding this item.

Now, I’d like to turn the call over to our Chairman and Chief Executive Officer, Jeff Fettig for his opening remarks.

Jeff Fettig

Thank you.  Good morning, everyone, and thank you for joining us today.  As you've probably seen by now earlier this morning, we released our financial results for the third quarter.  Those of you following the slide presentations, these results are summarized on slides two and three.

For the quarter, earnings from continuing operations came in at $175 million, or $2.20 per diluted share. This was up approximately 31% from the $134 million or $1.68 per share recorded in the same period last year.  Net sales were $4.8 billion, which were impacted by a weak U.S. market, and remained unchanged from last year's record levels.  The increase in earnings for the quarter reflect several items including strong performance in our international businesses, continued strong efficiency benefits associated with the Maytag integration, productivity improvement combined with very strong cost controls and lower global taxes.

Our results were also negatively impacted by unfavorable currency and an overall very challenging third quarter in our North America business.  There in North America our results were negatively affected by significantly higher material and oil related costs, lower industry shipments in the United States, and higher than normal new product introduction costs and promotional expenses.

As you've seen, this has been a very challenging year for the U.S. appliance industry for a number of reasons.  On slide four, you can see that since the second half of 2004 through our forecast in 2007, we as a company globally will have absorbed about $1.7 billion in higher material and oil-related costs. About $570 million of that will be incurred during 2007.  And within that, our North America business represents about 70% of those costs or $400 million.

Below this chart on slide four, you will see the U.S. industry's T7 volume over the last 21 years, and there are a couple of observations that I’d like to point out.  First, you'll note that our current 2007 U.S. industry estimate is now, should be down approximately 4%.  That's likely to be the largest decline that we've seen in the past 21 years.

Secondly, you’ll note that the steep year over year decline in the U.S. appliance industry volume are not common.  In fact, the appliance industry in the U.S. is a largely replacement market and, on average, grows between 2.5% and 3% a year.  The industry has only been down more than 2.5% in two of the last 21 years, one year being 1989 and the other being 2007.

This is the first year ever where we've seen a significant decline in demand in the U.S. and significant raw material inflation.  In essence, we've had both a demand decline and cost spike at the same time. Globally we've been able to effectively manage these challenges by leveraging our global footprint in the mix of our business to deal with this negative environment and stay on track to deliver a record year of revenues, earnings and strong pre cash flow.

I’d like to update you on our share repurchase program, which we announced in April, we would resume.  During the third quarter we repurchased about $150 million stock in the open market. Today we have approximately $214 million remains open under our $500 million share repurchase program.

Our guidance for 2007 is unchanged and shown on slide five; we continue to expect earnings for the full-year of $8 to $8.50 per share and pre cash flow to be in the $600 to $650 million range.

Joining me today on the call is Mike Todman, President of our North American business, and Roy Templin, our CFO.  At this point in time, I would like to turn it over to Mike to discuss the North America business.

Mike Todman

Thanks, Jeff.  And good morning, everyone.  Let me start by giving my perspective on North America's performance during the quarter.  As you will see on slide six, third quarter revenue $2.9 billion was down about 8% versus the previous year.

The decline was primarily due to weak U.S. industry demand, which was down approximately 5% for the quarter and year to date period respectively, as well as lower OEM shipments.  Operating profit of $132 million declined 24% from the previous year primarily due to the continuation of significant material and oil-related cost increases for base metals, component parts, steel and fuel, as well as lower than expected U.S. demand.

Our margins were also negatively impacted by increased brand merchandising support, to support new product transitions, as well as increased support during a very challenging industry demand environment in the U.S.

Continued strong acquisition efficiencies partially offset the higher costs.  Overall, we were disappointed with our operating results during the quarter.  We are clearly focused on actions, which we expect would significantly improve our margin in the fourth quarter and 2008.  We expect the combination of improved industry demand, improved product mix, continued strong acquisition efficiencies, execution of our Maytag growth plans, higher levels of productivity and new product introductions to drive significant financial improvement in the fourth quarter.

Industry shipment trends are expected to improve during the fourth quarter following five consecutive quarters of year over year declines.  You will recall that fourth quarter industry volume was down approximately 8% last year.  We expect the current year fourth quarter to be up about 1.5% as we begin to go up against easier comps.

Based on current economic conditions, the company now expects full year U.S. industry unit shipments to decline approximately 4%.  We continue to introduce new innovation to the marketplace.  The newest example of our consumer relevant product innovation is the Whirlpool Steam Washer and Dryer, an industry first shown on slide seven.  That debuted on the sales floors this month.

Here, you see the products in our New Aspen Green color. In 2008 we will introduce a new color palate across our entire laundry line.  We've already introduced the steam option in other product categories across our brands globally.  In addition to laundry, steam options can be found in our dishwasher, another industry first, and in cooking products.  We are the global appliance leader in steam, and that is another example of how we are leveraging our innovation globally.

The strength in our appliance innovation has created opportunities to expand into adjacent businesses.  In September, Whirlpool Corporation launched Affresh, a washer cleaner tablet shown on slide eight.  These tablets remove odor-causing residues in washing machines. This type of adjacent business is a source of ongoing growth.

I’d like to make a few comments regarding the integration status and growth plans for the Maytag business.  Effective in the fourth quarter, we've completed the remaining laundry manufacturing integration with the production exit from the Newton, Iowa facility.  To date, the integration and efficiency realization has gone well, and we believe we have effectively laid the foundation to address Maytag's cost structure.

Acquisition efficiencies from the combined company have been robust and continue to track above our initial plans.  With the integration activity largely behind us, we are now in the midst of a product innovation and growth plan, which are being supported by additional brand investment.

Understanding the consumer is vital to our strategy as demonstrated on slide nine.  The Maytag consumer base is large, established and loyal.  Today, more than 30% of U.S. households currently own at least one Maytag appliance, providing tremendous opportunity for future purchases.  The Maytag consumer demands durable and reliable products, which we are now able to deliver.

During the third quarter, we introduced new Maytag and Jenn-Air products as shown on slides 10 through 15.  This cadence of new innovative product introductions will continue through 2008.  Slide 16 shows expected Maytag product launches in 2008.

You will see significant product differentiation and innovation launches over the next several quarters, which clearly support the Maytag positioning of dependability and durability.  New top load and front load Maytag laundry pairs will be launched in the second and third quarters of 2008.

A new visual brand language for free-standing ranges goes into production during the third quarter of 2008.  Approximately 10% of the Maytag dishwasher line is new with 30% turned by the end of the first quarter of 2008.  And as for refrigeration, the transition of all side by sides and bottom out will be substantially complete by the end of 2008.

This commitment to brand investment, innovation and growth has enabled us to increase our distribution during the first three quarters of this year and positions us to grow the share of our Maytag brands beginning in the fourth quarter of 2007 and into 2008.

And now I would like to turn the call back over to Jeff.

Jeff Fettig

I'm going to turn to slide 17, where we’ll talk about our international businesses and you can see that we made significant progress over the past few years, improving our financial performance in all international markets.

We've essentially doubled our operating profit margins from about 4% in 2004 to over 8% this year.  Year to date in our international businesses, we've increased revenues by about 19%, and we expect this growth to continue for the balance of this year.

I’ll now turn to our European business on slide 18, where revenue reached a record level of $1 billion in revenues during the quarter, increasing 12% for the prior year driven by sales of local brand and new innovative product offerings that we brought to the marketplace.  And local currency sales increased by about 3%. Year over year unit shipments in the region exceeded industry demand during the quarter, which we estimated to have come in at 2%.  Our third quarter operating profit increased from $57 million to $84 million during the period.  The current quarter included a $32 million asset sales gain compared to $8 million gain reported in the prior year.

Our results also reflect productivity improvements, the benefits from hard volume and improved mix. Partially offsetting the improved operating profit performance was the impact of significantly higher material costs, which we absorbed during the quarter.

In Europe, our innovation teams remain strong, and we continue to leverage our global operating platform and innovation pipeline.  You can see a couple of these exciting new innovations we bring into the market on slides 19 and 20.  In Europe, we continue to expect full year 2007 industry unit shipments to increase by 2% to 3%.  

I’ll now turn to slide 21 to review our Latin America business where we reported record third quarter revenue and all time record operating profit.  Our revenue increased by 23% to $830 million in sales, driven by strong appliance industry growth, the impact from our cost base price adjustments, which we implemented during the quarter, continued new product innovations, and strong economic conditions throughout the region.

Excluding the impact of currency sales for appliances our [inaudible] increased about 10%.  Regional shipments of appliances were slightly below industry demand, which we estimate grew by 16%, and this was primarily due to the fact that we implemented our price increase during the quarter.  For the full year or year to date, our regional shipments continue to significantly outpace industry growth.  And we do continue expect to see this kind of growth of 15% to 20% for the full year in Latin America.

Our operating profit increased 85% to an all time quarterly record of $103 million during the period and our margins expanded to 12.7% from 8.5% last year.  Strong demand for our leading brands and innovation, improved pricing, and strong productivity, mitigated significantly higher material costs during the quarter.  Innovation as in the other region continues to fuel our Latin America business, and you can see some examples of this on slide 22 to 24.

I would like to take a couple of minutes to take you into a deeper look into what's driving the business in Latin America.  If you take a look at slide 25 you will see that Latin America has been the fastest growing appliance region worldwide during the last five years.  From 2002 to 2006, the region has had a compounded annual appliance growth rate of 13%, and we expect that number to be even higher this year.  The economy of Brazil, which is our largest market in Latin America, has been resilient and exhibits very strong fundamentals, and you can see that on slide 26.

What we’re seeing, economically, in Brazil are low levels of inflation; declining consumer interest rates, significantly lower country debt and high levels of international reserves, strong and growing GDP growth and improving consumer real income growth.  These economic conditions, combined with very low appliance penetration in many of the key product categories within this region, position us very well for growth for the number of years ahead.

On slide 28, you can see our brand position and leadership across the region.  In Brazil, the Consul brand remains the number one appliance brand in the country, while the Brastemp brand is the leading premium appliance brand.  The Brastemp brand is also the fifth most well-known top of mind consumer brand in Brazil, following great brands like Coca-Cola, Nestle and Nike.  Whirlpool is the clear leader in this region.  Our position is driven by a strong presence in all the key markets with powerful consumer brands and a continuous stream of innovation launches going on throughout the region.

If you can see an example of that on slide 29 where our Latin America business has launched more than two new products every week, between 2006 through year to date 2007.  This has, in part, helped enable us to grow faster in the market while improving our margins.

I will turn now to slide 30 in Asia where we reported quarterly revenues of $123 million, an increase of 18%, excluding the impact of currency sales increased by about 7%, led by new successful product launches, as well as improved mix and strong performance in India which is our largest market within Asia.  We had an operating loss of $5 million in the region from the last year's level primarily due to increased brand investment and higher transition costs associated with new product launches.  You can see also, as you have in other regions, the innovations we are bringing to market on slides 31 to 33.  Based on the current conditions we see in Asia, we still expect to see robust growth in 2007 in the 5% to 10% range.

At this point in time, I will turn it over to Roy Templin.

Roy Templin

Thanks Jeff, and good morning, everyone.  Before I begin, and as a reminder, during the first quarter of this year, the company adopted changes to its segment reporting consistent with realignment made to our regional business operations.  Regional results for 2006 have been reclassified to reflect these changes and are shown on slide 34.  As Jeff discussed in his opening comments and as shown on slide 35, net earnings from continuing operations were $175 million or $2.20 per share compared to $134 million or $1.68 per share last year.

Overall operating profit of $258 million increased about 15% from a year ago and included approximately $150 million of higher material and oil related costs.  These higher costs negatively impacted our operating profit margin by approximately three points in the quarter.  Year to date, we have absorbed about $455 million of higher material and oil related costs; roughly 70% of these increases impacted our North American business.

Acquisition efficiencies continue to be strong.  During the quarter, efficiencies were about $120 million, and integration costs were approximately $5 million.  For the first three quarters of the year, total efficiencies were about $345 million and one time costs were $29 million.

Included in our third quarter results for 2007 and 2006 are some large gains and losses which I would like to highlight.  A portion of these gains and losses are reflected within operating profit while others fall below the operating profit line.  We've also included these items on slide 36 for your ease of reference.

First, I will discuss the items, which impacted our operating profit performance in both 2007 and 2006. During the third quarter of this year we recognized approximately $34 million in asset sale gains within the operating profit line of which the single largest transaction was a $32 million gain recorded in our European business.  Results also reflect $12 million of non income based international tax credits.

As we previously discussed with you last year, at this time, we had four large gains and losses which, when combined contributed about $1 million to operating profit.  Last year's operating profit included the benefits from an asset sale gain and a favorable warranty settlement.  These benefits were essentially offset by a pension curtailment loss and settlement losses on non income based taxes.  

Below operating profits, interest and sundry expense of $17 million in 2007 compares to $24 million of income in 2006.  The $41million negative year over year impact on our results is primarily due to $32 million in gains associated with business sales during 2006 and foreign currency losses on balance sheet positions in the current year.

The company also recognized a $7 million investment gain this quarter resulting from the sale of shares in our India subsidiary to meet New Bombay exchange requirements.  Our effective tax rate was down significantly during the quarter when compared to the prior year.

As we've discussed with you all year, the adoption of FIN 48, can drive additional volatility in our tax rate from quarter to quarter.  The lower rate in the third quarter was primarily due to required recognition of a discreet tax benefit within our international business, based on our current outlook; we now expect our annual rate to be in the low 20’s.

To conclude my walk through of the P&L, you’ll note that equity in affiliates and minority interests negatively impacted our net earnings by $11 million.  This is due to operating losses incurred by an international equity investment and higher minority earnings associated with the improved earnings in our Latin American business.

Turning to Slide 37, I will briefly comment on our cash flow performance.  Year to date, cash provided by continuing operations of $128 million was $168 million lower than last year's results, as current year results include higher restructuring activity primarily in support of the Maytag integration, higher pension contributions, and cash outflow for the Maytag product recall which we've previously disclosed with you.  Other cash flows include several adjustments to align accrual accounting to true cash flows from earnings.

Overall, working capital levels, as a percentage of sales, ended the quarter at 13.2% versus last year's reported level of 12.4%.  Our overall inventory position at the end of the quarter increased $350 million from the same period last year.  The year over year impact from currency increased inventories by about $140 million due to appreciation in both the Euro and Real.  Higher inventory level values to support strong sales growth in Latin America contributed about $100 million to the increase, and material cost increases contributed just under $50 million of the overall increase.  The remaining $60 million represents roughly two excess days versus the prior year levels.

Turning to slides 38 and 39, you will note that our guidance for acquisition efficiencies and integration costs remain unchanged.  We continue to expect full-year earnings per share from continuing operations to be between $8 and $8.50, which represents about a 30% improvement from the prior year.

During the fourth quarter, our earnings performance will be driven by continued strong performance from our international businesses, positive industry growth in the U.S. of about 1.5 points compared to an industry which was down almost eight points last year, improved product mix, strong productivity as the benefits from projects initiated earlier in the year fully ramp up in the last quarter.  We expect continued strong acquisition efficiencies and the benefits, from market share improvements tied to new innovative product introductions that Mike referenced earlier.  

We continue to expect our free cash flow for the year to be between $600 million to $650 million.  Historically, due primarily to seasonality, the company generates a significant portion of its annual cash flow in the last quarter of the year, the main drivers of our fourth quarter free cash flow will come from cash earnings and working capital reductions primarily within inventory, partially, offset by the remaining capital spending.

The company does not expect any additional pension contributions during the fourth quarter.  We will achieve our annual guidance in a year marked by perhaps the steepest year over year appliance decline in the last 20 plus years.  And during a period of unprecedented material and oil related cost increases.

These results reflect the benefit from strong international momentum, a vibrant global operating platform and strong consumer brands backed by industry leading innovation.

At this point, I will turn the call back over to Jeff.

Jeff Fettig

Well, I would just summarize by saying, given the environment that we described, a very significant increase in material costs, weak U.S. demand and I would say very robust growth in the international markets, we are pleased with the balance that we have across our portfolio and in managing the business and delivering operating results.  That certainly, challenges that we have that we're addressing, we think, as we are still in a very good position to deliver a record year performance, even within these challenging business environments of 2007.

So, I'm going to stop here and open this up for your questions.

Question and Answer Session

Operator

[Operator Instructions]  We'll go first to the site of Sam Darkatsh from Raymond James. Your line is open.

Sam Darkatsh - Raymond James

Good morning, gentlemen.  Couple questions here.  First off, with the free cash flow in the fourth quarter, and it looks like, if my math holds I guess around $700 million or so of free cash flow. And you are saying there is not going to be any pension contributions.  In the third quarter your share repurchase activity was roughly equal to your free cash flow generation.  Can we expect that sort of ratio or activity on a go-forward basis; we're based on where the stock is?

Roy Templin

Sam, as you know, we don't comment on prospective share repurchases, I will simply reiterate what Jeff said in his script and that is that we still have $214 million remaining open on our authorization, but again, as you know Sam, we don't forecast share repurchases.

Sam Darkatsh - Raymond James

Well, then directionally, how would you comment to the statement that it would appear as though the best home for incremental cash flow at this point might be share repurchase vis-à-vis or in lieu of debt pay down?  Would you comment on that statement?

Jeff Fettig

Sam this is Jeff.  I would say we are continuing to execute to the priorities that we've established which was number one; fund the business we are doing that, there's nothing new there.  Number two; pay down debt, we’re on track to do that and we'll continue to do that.  Number three; return to shareholders through the share repurchase and those are the priorities we are executing with our free cash flow.

Roy Templin

Sam, as you know just to reiterate what Jeff said, I think our focus has been and our commitment was to get our debt levels back to pre-acquisition levels.  We ended the third quarter, Sam just for your point of reverence, that debt EBITDA of 1.7.  As you know, our goal is to be 1 to 1.5, and we would be within that goal by the end of the fourth quarter.

Jeff Fettig

For clarity.

Sam Darkatsh - Raymond James

Okay. Second question, this is more of a housekeeping thing.  In your earnings guidance for the year, are there any, it doesn't appear as though at least in your cash flow guidance there would be any subsequent asset sales, but would there be any P&L impact of a one time nature in the fourth quarter that you would anticipate at this point?

Roy Templin

Sam again, without going into the quarterly guidance, I'm not aware of any significant P&L or cash flow one time items from asset sales in fourth quarter, no.

Sam Darkatsh - Raymond James

Okay. Last question then I will defer to others.  As it stands right now if raw materials remained at current levels or inputs remained at current prices. What does 08’ look like directionally versus 07’ from a raw material inflation standpoint?  I mean you had rough $570 million in headwinds in 07’.  Half that, three-quarters that, a third of that for next year?  If you could directionally help us.

Jeff Fettig

If you just take the current prices today with commodities, spot market steel, etc., which obviously the way we buy new things will obviously have opportunities across the business, but if you just take the markets as they exist today, you would expect something about half of what you saw this year.

Sam Darkatsh - Raymond James

And so would you anticipate then that the incremental Maytag efficiencies be almost enough to offset that inflation that you are seeing at this point on 08’ versus 07’?

Jeff Fettig

I guess, we are not really prepared to give any specific guidance about 08’. And only thing I would say in the Maytag efficiencies is, as we ramp up our run rates this year, there will be residual effect next year.

Sam Darkatsh - Raymond James

Okay. I'll get back in queue. Thank you, folks.

Operator

We'll take our next question from the site of Michael Rehaut with JP Morgan Securities. Your line is open.

Michael Rehaut – JP Morgan

Hi. Thanks. Good morning.  First question is around the progress with Maytag in the new products. It's certainly, as you spoke over a couple times during the summer, it was an area of focus and benefit that you were looking for in the second half of the year.  During the prepared remarks, you talked a lot about innovation in that area, particularly as it relates to 08’, across the year almost pretty evenly distributed, but I was wondering if you could help me with where you are in 2H07.  It seems like you continue to lose some market share, if you could kind of talk about how those new product launches in the back half of the year progressing relative to your plans.  If perhaps the overall market weakness and perhaps higher competitive backdrop, may have affected the smooth rollout and acceptance of those products?

Mike Todman

Sure, Mike. Let me comment on that. Actually, I would tell you that our Maytag launches, our Maytag grand launches are going as we had planned, and essentially, we at the end of the third quarter, have introduced our new front load washing machines in the Maytag brand that are very distinctive for that brand, so therefore different from what we've got out in the marketplace in the Whirlpool brand.

We've introduced new dishwashers in the Maytag brand and so we are continuing to ramp our launch activity, and actually, if we look at the share of the Maytag brands, year over year, we are about flat. So actually, what that says is we were beginning to recover and get to the kinds of growth levels that we expect to have for the Maytag brand.  That will only be strengthened in 2008 as we continue to launch products.

Michael Rehaut – JP Morgan

So in looking at the sales decline where within the North American segment; where did the share loss come from?  And what do you think are the drivers to that perhaps if that would continue into the fourth quarter or where do you see the weakness?

Mike Todman

Mike, there are really two areas.  One is our value brands and that's actually the biggest portion of the share loss, and I think I commented on the last call that we made some conscious decisions to really exit some of the lower and unprofitable segments that our value brands were in.  

And the other is the weakness of our OEM supplier, or our OEM product.  And that's an area where we continue to work with new products, new launches, to try to maintain their rate of sale.  I can tell you our balance of sale with them continues to be where it has always been, but that's obviously, an area that is also challenged.  But the value brand segment is really the largest portion, so we expect, fully expect from the fourth quarter to really regain market share in our key brands as we have been doing all year with the Whirlpool brand.

Michael Rehaut – JP Morgan

And lastly, in terms of, just two more real quick questions. In terms of the raw materials obviously, oil has gotten out of hand here in the last quarter, but I was wondering if you could kind of walk through the puts and takes and why you are still comfortable with the 570 in material inflation for the year?

Mike Todman

Well Michael, there clearly has been a lot of volatility and all across of the whole value chain.  The raw materials starting with, I would say, base metals, but also steel, also oil related which affects plastics, have had increases or dramatic increases throughout the course of the year.  I guess our comfort level is are almost at the end of the year.  So, we pretty much know what our costs are going be between now and the end of the year, but the volatility is high and some of these are going to fall over into 2008.  There, given the nature and the structure of many contracts, it’s still too early to predict accurately what 2008 will look like, but we feel very confident about what the balance of this year is going to look like.

Michael Rehaut – JP Morgan

Thanks and one last question, I'm sorry.  The tax rate, clearly a big surprise during the quarter and as of the last conference call, you were talking about a mid 20’s rate for the full year which implied a thirtyish percent rate for the back half for 3Q and 4Q.  I was wondering, if you could go through what drove that this quarter, and why you still expect a low 20’s tax rate.  What are the, I mean, there's just such a massive difference and I was wondering if you could comment, going forward on what your thoughts are for 08’?

Mike Todman

Michael, let me talk a little bit about the tax rate.  First of all, a couple of reminders.  We, initially, at the end of the last call told you our guidance for the year will be somewhere in the mid 20’s. And as I said in my script, we now think that will be a low 20’s, and that will compare to a rate a year ago at about 20% or 21%, as well, so just to sort of level set rates. 

Let me talk specifically about the quarter, and let me go back to a couple of things, Michael.  One, as you know and we've talked about, I guess, probably over the last year on these calls is we've been executing a tax strategy around the world in terms of making our overall tax liabilities more efficient with respect to our earnings around the globe.  Our highest effective tax rate is in North America where we have about a 37% rate and then it goes down as you walk around the world to the low point in Asia at 23%.  So, part of what happened this quarter was a dispersion piece and a dispersion component because as North American and overall earnings go down, we actually benefit on the tax line, but that was a small piece.

The real happening in the quarter was that we had a deferred tax asset in our international business that we had fully reserved that based upon performance in the operation and our tax strategy that we executed in the quarter, we took the benefit of that in the third quarter and that was about 15 point reduction in the rate, Michael.

Now, a little bit of reminder from an accounting perspective.  As you know, and FIN 48 clarifies, that as we execute our tax strategy, those pieces and components that relate to current year operations flow through the rate as a blended component of our effective tax rate for the year.  However, those items, like this deferred tax asset that we now recognize, that don't relate to current year operations per se, all the benefits of those items are recognized in the quarter in which that particular action is taken and so, the issue for the third quarter or the result of the third quarter is that you had a big benefit 15 points from this tax strategy action.  You had some favorable dispersion, and then you had a few points, Michael, that were simply a result of some other tax action that we've taken over the course of the year.

Michael Rehaut – JP Morgan

I appreciate that detailed response. And its 15 points, what's that, I'm sorry, in a dollar number?

Mike Todman

Well, I think the average dollar effect there is about $7 to $8 million.  Is that right?

Jeff Fettig

The total asset was $30 million.  I thought you were asking in terms of the percentage point and impact on the effective tax rate, Michael.

Michael Rehaut – JP Morgan

Okay. That's the 15% as you said but the 30 is the dollar number.

Jeff Fettig

That's correct.

Michael Rehaut – JP Morgan

Thanks so much.

Operator

We can go next to David MacGregor from Longbow Research.  Your line is open.

David MacGregor - Longbow Research

Good morning, guys.  As we look forward to 2008, obviously you’ve got a lot of new product coming out under the Maytag brand.  Can you talk a little bit about what commitments you may have received from retailers on increased sales floor presence or sales floor square footage for the Maytag brand?  And maybe in the context of providing that answer, you can also address investor concerns about potential losses to the Whirlpool floor space presence as a result of the Maytag gains.

Jeff Fettig

Yeah, David, let me address that.  What we have done is we've taken out some of these new Maytag brand innovations.  Frankly, this is what we are getting from retailers is a very positive response and this is not about replacing any of the Whirlpool brand product, that’s currently on the floor, it's really expanding their floors with new Maytag brand innovation.  As we've talked about, I think many times, it is a very different consumer and I think our retailers understand that there are different consumers that are buying the Maytag brand, that aren’t buying the Whirlpool brand and what we have made a very conscious decision is to ensure that these products are very differentiated.  So, walking on the floor, frankly, you wouldn't be able to tell that it comes from the same manufacturer because they are different.  They are attacking different segments and not only how we're positioning them, but frankly, the features and so on that the brands have are different from one to the other.  So, we are actually feeling very good about where retailers are the commitments that they are making and, frankly, the floor space that both brands will occupy.

David MacGregor - Longbow Research

And, there is still one retailer that is conspicuously absence from your distribution neutrality, any thoughts on where that may be going?

Jeff Fettig

You need to help me, David.

David MacGregor - Longbow Research

Home Depot.

Jeff Fettig

Well, I think, we feel very good about what this Maytag brand can do to help Home Depot and their appliance business.  I would leave it at that.  They are welcoming the new innovation and I feel good about where we’re positioned.

David MacGregor - Longbow Research

Yeah. I guess, I was referring with respect of the Whirlpool brand and a broader brand offering for that retailer.

Jeff Fettig

I really at this point, really don't have any other comment to make, David.

David MacGregor - Longbow Research

Okay. Can you talk a little bit about the value brand demise?  You said that you consciously walked away from some business and you're probably to be congratulated for that but can you quantify, how the value brands were down year over year, so that we can exclude that from the net number?

Jeff Fettig

It was slightly over two points David, if you are talking specifically about market share.  And again, that's something that we consciously made some decisions, just kind of given where those value brands were performing.

David MacGregor - Longbow Research

Okay and what is the risk to the current levels of profitability in Latin America for 2008?

Jeff Fettig

David, we are very positive, as I described in some of the slides that we put in there.  We are very positive about the economic environment of Latin America.  It's as structural and strong, as we have ever seen over any period.  I think there is a lot of historical concern appropriately so for the historical ups and downs that you would see in those markets.  But, I really think particularly Brazil, but also a number of other markets are going through some very fundamental structural changes, so, I would just say from an economic and growth standpoint, we are rather bullish about the Latin America market over the next two to four years.

David MacGregor - Longbow Research

You see the developments are sustainable for at least the next 12, 18 months?

Jeff Fettig

Yes, we do.

David MacGregor - Longbow Research

Okay, that's fantastic.  And then, last question, just globally, is there still a move to low cost geography story here?

Jeff Fettig

David, not necessarily for us.  There is of number of elements across the supply chain that as we will look at our factories, we have slightly over 40 factories around the world and our view is every factory has to be best cost, best quality, best availability for the products they produce for the market they serve. That has changed and there will continue to be some change with certain products at certain times.

But also, our component and material supply chain continues to change, our manufacturing evolves, but I don't think, we feel pretty good about where we are.  There will be changes over time as we make new investments, but our need; we don't have a huge need to ship production to LCCs because they aren't necessarily the best cost country depending on what product and what market you sell to.

David MacGregor - Longbow Research

Thanks very much, guys.

Operator

We will take our next question from the site of Laura Champine from Morgan Keegan. Your line is open.

[Ike Borcia] - Morgan Keegan

Hi. Good morning. This is actually [Ike Borcia] calling in for Laura today who is traveling.

[Ike Borcia] - Morgan Keegan

My question is, what can you do to improve the U.S. OEM business and how can you reduce your exposure to that business?

Jeff Fettig

Let me maybe address that.  I think, first of all what we do and what we will continue to do is ensure that we provide them with the series with the right kind of product innovations that support their overall business and then work with them to ensure that consumers know and want to shop in that environment but, I will tell you the other thing that we need to do and we are doing is leveraging all of our brands in our brand portfolio.  Essentially, that means that we are bringing on innovation in the Whirlpool brand, bringing on innovation in the Maytag brand, continuing to support our premium brands in Kitchen Aid and Jenn-Air, and I think if we continue to do those things, in fact, no matter where consumers decide to shop, our brands will be available for those consumers, and that's essentially what’s our approach and the strategy is.

[Ike Borcia] - Morgan Keegan

Do you feel you're maintaining share within the OEM business?

Jeff Fettig

Yes, we were.

[Ike Borcia] - Morgan Keegan

Okay. And last question on what should we expect in terms of year end inventory levels?

Roy Templin

Well Ike, this is Roy.  We don't talk specifically about inventory per se, but we have said, and we remain committed to ending the year with working capital below where we ended the year last year.  Point of reference, I think, we ended the year last year at 11% the assumption that you are probably going to make, and it would be a fair one, is that in most of the reduction from where we are today to where we will be by the end of the year will be a result of lower inventory levels.

[Ike Borcia] - Morgan Keegan

Okay. Thank you.

Roy Templin

You're welcome.

Operator

We’ll go next, the site of Eric Bosshard from Cleveland Research. Your line is open.

Eric Bosshard - Cleveland Research

Thanks. Good morning.  A couple of pretty simple questions.  First of all, within the North American business, I think you indicated total North American revenues were down 8%.  Can you give us a sense of what the difference was between the legacy Maytag side of the business and the Whirlpool side of the business versus that 8% number?

Jeff Fettig

Eric, no we are really not splitting those businesses up.  I mean really, as we progressed through this year, it's more and more difficult to assess that, so we don't break that information out.

Eric Bosshard - Cleveland Research

Okay, is there a sense at all, of which is performing better and which is performing worse?

Jeff Fettig

Not well, but think about it this way, our premium brands Kitchen Aid and Jenn-Air are performing fine.  Mike had said that Maytag brand if you will, that’s Maytag, Amana and Jenn-Air, in the third quarter were flat year over year, so, we have had three quarter or whatever decline and we are now calendaring that and we are now flat, and we expect that to improve and grow in the fourth quarter and beyond and the Whirlpool brand has been growing share although all during this period of time.

Eric Bosshard - Cleveland Research

Okay, so the share erosion then is centrally focused on the value brands?

Jeff Fettig

Well number one, its value brands, number two is our OEM business.  For the quarter, that's what it is. For the year, yes, our Maytag brands prior to the third quarter were down year over year, but they were the smallest of the three contributors.

Eric Bosshard - Cleveland Research

That's great. And secondly, within the North American profit in the quarter, I think the reported profit was $132 million, and it sounded like the net cost savings were around $113 million.  And I guess I would love to get a little bit better understanding of how the North American profit ended at such a level that was somewhat well below what I had expected, and what the prior trend had been, and looking to the fourth quarter clearly what you are assuming takes place in the fourth quarter.  So, can you just help understand the components that drove the magnitude of the shortfall within the North American profit especially when understanding how big the cost savings were?

Roy Templin

Eric, why don't I start with the components and sort of give you the mathematics of what happens year over year in the quarter for North America, and then Mike can talk a little bit about the composition of those and the fourth quarter piece, the second part of your question.

The biggest piece by far, Eric, in North America results continues to be material cost.  I think Jeff said this in his script, if you look at materials year to date, up $455 million, 70% of that increase is in the North American business.  Year over year, Eric that lowered their margins by about 3.5 points.  And again, that by far was the biggest piece of the reduction year over year.

The second piece is we also had a little over a point of lower price mix when you look at price mix year over year in the North American operations and those were offset by two elements.  The first one is productivity, which was about a point better.  Again, when you look year over year and then the Maytag efficiencies and your numbers are very close.  Maytag efficiencies was about 3% improvement when you look at Q3 this year versus Q3 last year.  So, you got five negative and four positive there, Eric, in terms of the key components.

Mike Todman

You know, Eric, maybe what I can do is also give a little bit of perspective then on the other part of your question, which is going into the fourth quarter, and why we feel good about improving our margins in the fourth quarter.

First of all, we have talked about a slightly increased industry demand, and that will have a positive impact.  Secondly, just seasonality and the kind of the seasonality of our business and we feel good about that, but I would say, most importantly, these products that we’ve launched that did cost us some transition in the third quarter, we feel very good about how they are ramping up, how they are getting on the floors and, frankly, early indications of the sell through in the fourth quarter and those products are at, largely, at the higher end and so, we see a positive margin mix coming from those products.  So, a combination of all those things, and, I guess, the last item is in the fourth quarter, you actually get a more positive impact from productivity so although material costs will continue, we will also get more productivity in the fourth quarter.  So, those are really the drivers to our confidence that we will improve our margins in the fourth quarter.

Eric Bosshard - Cleveland Research

It was the price mix assumption, which I'm kind of surprised it was negative when considering you mixed out of a lot of value brands.  Is the price mix assumption turn into a favorable one in the fourth quarter and why?

Mike Todman

Yes. We do expect it to turn favorable in the fourth quarter. And a little bit of what I've just stated is what we see is, we are seeing with the products that we've launched an improvement in our overall mix.   We have to bear the cost of kind of that transition as we came out of the third quarter, and that actually deteriorated some of our mix.

And then secondly, last year at this time, we actually had a price increase so; we had a slightly negative impact as we get into this third quarter.  We feel very good about kind of how we were coming out of this quarter.

Eric Bosshard - Cleveland Research

And then lastly, within Europe, when you strip away the gains, it appears that the underlying operating margin contracted 30 basis points year over year. Can you talk about if anything is changing materially within the profit or momentum of the European market and business?

Jeff Fettig

Well, yes, Eric, you may be right.  It's basically the margins pulling that out were flatter, within a tenth of each other.  So, I view them basically as flat and given materials have hit there too; we had about $30 million quarter over quarter material increase in Europe in the third quarter.  Given the way European production works, July, August holidays, and then September is the primary production month, that is not a very good productivity quarter normally for us, anyway.  So, actually we thought pretty good about the European performance, and expect that our productivity will catch up with material costs in the fourth quarter, and we'll see margin expansion in the fourth quarter.

Eric Bosshard - Cleveland Research

And then just one last question, the SG&A looks like it was down about $50 million year over year.  I don't know if there are some other gains that show up in that, but is there a simple answer for the big improvement in SG&A year over year in the quarter that was different than what we saw in the first half?

Jeff Fettig

I think that the simple answer, Eric, is there are two pieces.  One is the Maytag efficiencies, and that's about seven tenths of a point reduction when you look year over year.  The second key item, and you asked specifically about any of the one time gains or losses, the non income based tax credit that we had, the $12 million, was in fact in SG&A and that was about three tenths of a point.  And then there are two other feature is that there are sort of offsetting. One is continued increase in brand investments offset by cost controls throughout the business.

Eric Bosshard - Cleveland Research

Thank you, very much.

Operator

We have time for one further question.  And we’ll go to Jeff Sprague from Citigroup Investment Research.  Your line is open.

Jeff Sprague - Citigroup

Thank you. Good morning.  Could we just drill for a minute on this price mix question?  It is surprising, as the prior questioner said that the price mix is negative one, if you moved out of these value brands and particularly, just going back to my notes, price mix was positive five in Q2.  I'm just wondering if you get just aggregate that a little bit for us.  Is the mix actually positive and prices down a couple of points here?

Roy Templin

Yes. Jeff, first of all, for clarity on price mix, that the price mix response was, Eric had asked about margins.  So, I want to clarify, first of all, that price mix and again that was relative to North America.  If you look at total business, it was about six to seven tenths of a point on total margins.  Price mix from a top line perspective was actually favorable.  If you do the math on unit’s reductions, we ended with basically flat sales.  We had about 3.5 points of currency improvement and about a point of favorable price mix in the top line so; I want to be clear on that point.

Jeff Sprague - Citigroup

Okay. And that's the total Whirlpool number, one point, or that's a North American number?

Roy Templin

That is a total Whirlpool number.

Jeff Sprague - Citigroup

And could you give us North America?

Roy Templin

Yes. North America was actually favorable by 1.5 points.

Jeff Sprague - Citigroup

And then if I could come back to this tax, Roy, I'm a little bit confused here still. If I think about the $30 million number you gave us and gross up the year to date for that that would imply your year to date tax rate is 19%.  I would think based on what you said, that would be then your target full year tax rate would be something like 19%.

Roy Templin

Yes, Jeff, first of all, I mean, without having precision here, the full year tax rate, as I said in my script is in the low 20’s.  I think part of the difference in your math is we talked specifically about dispersion; we talked specifically about this recognition of a deferred tax asset.  They’re obviously a number of other components going throughout the tax rate, some of which get annualized as part of the operations and some of which were discreet year to date.  But net net, if you would factor in a couple of the other discreet items that we had in the quarter, you would end up with a rate in the low 20’s versus your 19%.

Jeff Sprague - Citigroup

All right. And then the $12 million tax item you are talking about is that [Inaudible] or is that something else?  And if it's not [inaudible] it could you give us the [inaudible] number?

Roy Templin

Sure.  First of all, it's not [inaudible].  It's actually a social tax credit.  Again, it came through SG&A, [inaudible], Jeff, was $25 million for the quarter versus $17 million a year ago Q3.

Jeff Sprague - Citigroup

And, I guess this question of North American margins has been asked a couple of times, but maybe again just to try to think about framing what's changed.  Although these raw materials costs are obviously very onerous, I don't think your raw material headwind guidance has actually changed for the year.  So on roughly flat sequential sales, you do have a pretty meaningful drop in North American operating profit.  It sounds like we are getting this isolated down to promotion primarily is what I’ve have been able to glean so far, but how else would you characterize that?  If we think about raw mat guidance hasn't changed, revenues are roughly flat, price mix is actually positive, is it all promotion?

Roy Templin

First of all our revenues were lower than we had expected.  We reduced production so there is a volume loss in this.  What Mike, had described is we did have higher than normal and fairly substantial new product introduction cost during the quarter and there is promotional expense associated with that in the quarter.  When you add that up, on top of that, raw materials were higher during the quarter even though our 570 didn't change for the year, they were higher during the quarter.  The flip of that is we think they will be lower in the fourth quarter.

Jeff Sprague - Citigroup

Okay. And I guess just last question, any change in the way you guys negotiate raw mats?  I think you had a mix of annual contracts and spot and just giving us volatility and pressure over the last couple of years. Is anything changing in the way you try that set and determine your costs?

Jeff Fettig

Well, Jeff, as you know in that market, frankly speaking, the way contracts are done today, it's changing all the time and it's basically moved to a much shorter time frame or an index.  So there is inherently, I think, for most people who buy these types of products, more volatility and less long term contracts.  And that's what we are seeing in our business, as well.

Jeff Sprague - Citigroup

Okay. Thank you.

Jeff Fettig

Thank you.  Well, listen, everyone. Again, thank you for joining us today, and we look forward to talking to you next time.

Operator

This does conclude today's teleconference. Have a great day.

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Source: Whirlpool Corporation Q3 2007 Earnings Call Transcript
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