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Goodrich (NYSE:GR)

Q4 2007 Earnings Call

January 31, 2008 10:00 am ET

Executives

Paul Gifford - Vice President, Investor Relations

Marshall Larsen - Chairman of the Board, President and Chief Executive Officer

Scott Kuechle – Chief Financial Officer

Analysts

Joe Nadol - JP Morgan

Robert Spingarn - Credit Suisse

JD Groh - D. A. Davidson

George Shapiro – Citi

Gary Liebowitz - Wachovia Securities

David Strauss – UBS

Scott Blumenthal - Emerald Advisors

Ron Epstein - Merrill Lynch

Ben Fidler - Deutsche Bank

Cai von Rumohr - Cowen and Co

Steve Binder - Bear Stearns

Peter Arment - American Technology Research

Operator

Welcome to the Goodrich fourth quarter and full year results Conference Call. Today’s call is being recorded. At this time, for opening remarks and introductions, I’d like to turn the call over to the Vice President of Investor Relations, Mr. Paul Gifford. Please go ahead, sir.

Paul Gifford

Thank you for joining us today as we discuss our fourth quarter 2007 results. Joining us today are Marshall Larsen, our Chairman, President, and CEO and Scott Kuechle, our CFO. We will start with some brief prepared remarks, followed by Q&A. A presentation is available at our website www.Goodrich.com which together with our press release provides the basis for most of our remarks.

Before we start, let me remind you that today’s remarks include forward-looking statements that involve risks and uncertainties and actual results could differ materially from those projected in the forward-looking statements.

The risks and uncertainties are detailed from time to time in our reports filed with the Securities and Exchange Commission, including our annual report on Form 10-K and quarterly reports on Form 10-Q. They are also detailed in today’s earnings press release. I urge you to read them carefully.

This conference call is being webcast, and replays will be available at our Internet site beginning this afternoon.

Now I’ll turn the meeting over to Marshall, who will provide you with an overview of the fourth quarter 2007 results and our full year outlook for 2008.

Marshall Larsen

Thank you, Paul. I assume you’ve all had the opportunity to review today’s earnings release and related presentations. Today, I’ll describe the key factors that led to our strong fourth quarter 2007 performance and our views on our industry and the outlook for Goodrich in 2008.

Our fourth quarter was another excellent quarter with strong sales growth of 12% including commercial after-market sales growth of 11%. Our fourth quarter 2007 net income per diluted share was $1.04 compared to fourth quarter 2006 of $0.78 per diluted share, an increase of 33%. Main drivers of this improvement were strong sales growth in all three of our major market channels. Additionally, we settled our A380 related claim with Northrop Grumman generating pre-tax income of about $18.5 million or $0.09 per diluted share. During the fourth quarter, we had an effective tax rate of 33% which was significantly higher than last year, but inline with our previous outlook for the fourth quarter 2007.

During the fourth quarter and in early January, we had several significant accomplishments. We completed the sale of our airframe heavy maintenance business and enhanced our position in the high growth helicopter market with the acquisition of Skyline Industries. We continued to invest in our growing after-market business with announced expansion of our Monroe North Carolina MRO campus and the formal unveiling of our new MRO campus in Dubai during the Dubai Air Show.

For the full year of 2007, our results for sales were inline with the outlook we provided you with last October and our net income per diluted share for continuing operations exceeded our prior expectations largely due to the excellent operational performance by our businesses, which totaled about $0.10 a diluted share and the settlement of the A380 claim with Northrop Grumman which was a benefit of about $0.09 per diluted share.

Our full year sales growth of 12% was driven by a good growth in each of our major market channels: 8% growth in the large commercial airplane original equipment sales and 20% growth in regional business and general aviation airplane original equipment sales. Commercial after-market sales increased 16% for the year with double-digit sales growth across all segments. Defense and space sales increased 7%.

Net cash provided by operating activities minus capital expenditures was about 63% of income from continuing operations in 2007, also in line with our expectations and significantly greater than a similar figure for 2006.

As we look forward into 2008 and beyond, our views of our industry fundamentals and the expectations for continued strong after-market sales to our airline customers have not changed since we issued our outlook last October despite market concerns of US precision or economic slowdown.

For 2007, Boeing and Airbus recorded net orders for more than 2,700 airplanes driving their backlogs to an all-time high. They have more than 6,800 airplanes on order, which translates to about six years of expected deliveries. This record backlog for aircraft provide many years of growing production for the manufacturers and suppliers including Goodrich.

Regarding the 787 program, while we haven’t concluded discussions with Boeing regarding delivery schedules, we do not believe that any foreseeable schedule change would have a material impact on our earnings forecast flow for 2008 or 2009 and sales associated with new programs generally have very low profit margins. Regarding our status in the program, we are not one of the problem suppliers. We will continue to support the program and their schedule.

Airline load factors remain very high at about 80% and capacity in the worldwide airline system will continue to grow for the foreseeable future. Goodrich is very well positioned to take advantage of these trends because of our strong balanced portfolio of products and our key positions on the most popular aircraft. If we look at expected aircraft retirements over the next several years, we have far less content on the airplanes that are most likely to be retired, especially the older McDonald Douglas airplanes than we do on the airplanes that are likely to remain in service.

We believe that the active fleet of commercial aircraft should grow at about 4% per year net of retirements, but the portion of the fleet with Goodrich content such as the A320, the 737NG, 787, A380, etcetera will grow at about double that rate.

In today’s release, we reaffirmed our outlook for 2008. We expect strong sales growth in 2008 driven by increased commercial aircraft production rates and continued commercial after-market growth at above market rates. We also expect to show solid defense and space sales growth.

For our major market channels, we expect the following growth rates in 2008: large commercial airplane original equipment sales are expected to grow about 20% and regional business and general aviation airplane original equipment sales are expected to grow about 13%. Commercial after-market sales are expected to increase by 8% to 10% and defense and space sales are expected to increase at about 5% to 8%. In total, we expect to generate $7.1 billion to $7.2 billion in annual sales in 2008, representing an expected growth rate of about 11% to 13%.

Our outlook for 2008 net income for diluted share remains at $4.15 to $4.30, which reflects an increase of 10% to 14% over our outlook for 2007 income for diluted share from continuing operations.

Our 2008 outlook continues to assume, among other factors, a full year effective tax rate of 33% to 35% which includes the benefit of the extension of the US research tax credit. This effective tax rate is higher than the 31% we experienced in 2007.

For 2008, we expect net cash provided by operating activities minus capital expenditures to exceed 75% of net income. This outlook reflects the continuation of working capital investments to support the production start-up for the Boeing 787, cash expenditures for investments in the Airbus A350 and capital expenditures for low cost country manufacturing and productivity initiatives. The company expects capital expenditures for 2008 to be in a range of $250 million to $270 million.

Our fourth quarter results and our outlook for 2008 demonstrate our confidence in our ability to grow the top line at rates faster than the overall market and drive significant increases in income per diluted share. Over the last several years, we have grown our market share in key businesses and product areas and continue to invest in our businesses.

We expect these actions to drive above market growth rates in sales for the foreseeable future. Our strong after-market presence should drive margins and earnings growth after the OE cycle peaks and our cash flow improvement trends should continue over the balance of this cycle.

Our management team has demonstrated its ability to execute effectively. Because of all of these factors, Goodrich is uniquely positioned for sales, earnings and cash flow growth.

Now, I look forward to taking your questions.

Question-and-Answer Session

Operator

Your first question comes from Joe Nadol - JP Morgan.

Joe Nadol - JP Morgan

First question is on just the large commercial after-market sales. Looking sequentially Q3 to Q4, what are you seeing overall for the company?

Marshall Larsen

Sequentially, the total was just about flat Q3 to Q4. We did get very nice growth on our Actuation and Landing System segment sequentially. In terms of the fourth quarter of after-market at a total of about 12% growth that compares very favorably to our fourth quarters of the last three years, where we have averaged roughly about 10%. So, what you are seeing in our after-market is just a continuation of a very good year.

Joe Nadol - JP Morgan

Specifically looking at the sales, it’s a little difficult to tell because we don’t have much history with the segments. But, it was a sequential downtick in sales and particularly in margins and it was I realized in ‘06 as well. I am wondering how much of that is seasonality and how much of that is something else going on?

Marshall Larsen

You hit it right on ahead there. The seasonality with both passenger and freighters, I mean the airlines running all out during that fourth quarter, so you don’t get as much time for maintenance in that fourth quarter. So, what happens is you end up getting some of those sales you would have got in the fourth quarter and the third in the first.

Joe Nadol - JP Morgan

On the cash flow side, I think you had indicated that you hoped to come in at the higher end of your range and you were in the middle towards the lower end. Was there anything that changed the last couple of months relative to your expectations?

Scott Kuechle

I don’t recall suggesting which end of that range. I mean our target was to be in that range and we hit that right on the money; actually some favorable surprises if you will is our working capital performance continued the trend of the last six months and I thought it was very good in the fourth quarter. Inventory was actually reduced; this is inventory excluding the preproduction excess over average. So it’s raw materials, work-in-process, finished goods, traditional inventory, actually came down from a level from the third quarter and we are about at where we were in the second quarter.

So the last six months we’ve been able to slightly reduce our inventory while growing sales at about 6%. We saw a similar trend in receivables where we were able to reduce receivables in the fourth quarter again despite good sales growth and a lot of focus by our businesses in reducing past dues. My pleasant surprise was just how strong our working capital performance was in the quarter.

Joe Nadol - JP Morgan

In the other income expense line, it looked like there was some sort of a reversal there potentially for previously-owned businesses, a pretty big swing. I was just wondering what that was.

Scott Kuechle

We had some favorable legal settlements and some lower litigation expenses that we incurred in prior quarters. A lot of that was resolution of some issues where we had overrun frankly in the earlier part of the year.

Another item I’d probably highlight there is we had a transfer pricing adjustment that negatively impacted our margins in Actuation and Landing Systems to the tune of about $5 million that created a benefit in other income and expense.

Joe Nadol - JP Morgan

So there was a minus from Actuation that turned into a plus in other?

Scott Kuechle

That’s correct. So when I look at corporate and other together, we had about $40 million of expense for the quarter and our run rate in 2008 should be in the $43 million range. So, you bucket those together, it is pretty consistent with where we would expect to be going forward.

Operator

Your next question comes from Robert Spingarn - Credit Suisse.

Robert Spingarn - Credit Suisse

This is going to sound like a small number, but you were looking for an after-market 17% in ‘07, you did 16%. We’ve talked about in the past about your 8% to 10% guidance for this year, was there anything that changed in the trend last year that maybe continues to pressure this growth rate toward the number you are projecting in ‘08?

Marshall Larsen

No, there was nothing in that trend in ‘07 that makes us feel any less optimistic about that trend continuing in ‘08.

Robert Spingarn - Credit Suisse

Have you seen any behavioral changes from the airlines, particularly here? We ask the question because a lot of folks out there are worried about capacity pressure. You did a good job Marshall saying upfront that you are on the right airplanes.

Marshall Larsen

That’s right. In fact, I would refer everyone to the presentation we put on the website. There is a new graph on it that shows those airplanes by year from year 2000 through 2014 that have our content and those that have not much of our content. As I referenced in the script, the ones that have the much lower content are actually declining in total dollars each year and the ones that we’re on are averaging 8% compound annual growth through 2014. That’s why we’re fairly optimistic about our after-market success going forward.

Robert Spingarn - Credit Suisse

Can you give us a little characterization of the sub-segments within the after-market for ‘08 in terms of large jet, regional jet, and business jet?

Scott Kuechle

Well, as we said, we would do about 8% to 10% going forward on the after-market which includes the regional in business. The regional business is growing very nicely too right along with it. So, we’re just saying putting it all together it’s about 8% to 10% that was our best estimate, and if we can get towards the higher end of that, which we maybe able to do, it will be even better for the company.

Robert Spingarn - Credit Suisse

It’s about the same across the board?

Scott Kuechle

At least in 2007 full year our after-market growth in regional was pretty similar to our after-market growth in commercial. Obviously, the large commercial side is bigger in terms of total dollars but growth rates are roughly similar for the full year.

Robert Spingarn - Credit Suisse

What did do you see in biz jet?

Scott Kuechle

That’s a much smaller market relative to us and we did see growth there but it’s not a big component of our total.

Operator

We will go next to JD Groh - D. A. Davidson.

JD Groh - D. A. Davidson

Thanks for the comments on the seasonality. I had a question in that regard. Wouldn’t you see a similar sort of impact in high load summer months? I mean if I look at last year, margins in each segment sort of built throughout the year and then understandably go down in Q4 with the exception of electronics. Is there a reason for that? I am guessing we’re going to see that same sort of seasonality this year?

Marshall Larsen

Well there really isn’t that much seasonality when you get into those summer months. I know we’ve always seen some of that in the US Airlines but we’re talking about worldwide after-market sales here for us. So, it’s different in every region so I can’t really say there is a seasonality going on there.

JD Groh - D. A. Davidson

But with the margins, you mentioned for Q4 this year that was one of the reasons you cited for Actuation being down sequentially and the sales being down sequentially. Why doesn’t that happen in electronic, is there a reason for that?

Marshall Larsen

Remember, electronic is only about 50% commercial, 50% military and they have a different mix of the kinds of things they are on so you can’t really say they’re going to follow exactly the same pattern.

JD Groh - D. A. Davidson

So it’s that commercial military mix that makes the other two segments more subject to the seasonality?

Marshall Larsen

That’s right.

Operator

Your next question comes from George Shapiro – Citi.

George Shapiro - Citi

In the charts that you provided it shows that the after-market sequentially was down 2%. Was that isolated to commercial, regional, or is that the normal trend that we’ve seeing in the past? I don’t remember that from last year’s fourth quarter.

Marshall Larsen

Sequentially it was just due to commercial. The regional and business after-market was little bit better than that. But two very nice quarters going on there so it’s not something we worry about at all.

George Shapiro - Citi

Did you see any difference as you when through the quarter between October and December or am I trying to split hairs too much?

Marshall Larsen

I think you are probably splitting hairs. December is always going to be a little bit shy of October, November because of the holidays and you just don’t have the same amount of time to do maintenance of airplanes.

Scott Kuechle

George, we’re coming into the first quarter with a good backlog of after-market, the order patterns that we’ve seen have been good so there is nothing that we’ve seen coming into the quarter that suggest any downturn, or any flowing in the underlying market conditions that we expected.

George Shapiro - Citi

Scott, just to clarify I think a question that you had responded to from Joe. The charge you got, $7 million $0.5 a share of other income that you kind of detail in your build up to get from 4Q06 to 4Q07 can you just explain again what that $0.5 was?

Scott Kuechle

It was a combination of things. There were some favorable legal settlements, lower litigation costs that we incurred in the fourth quarter of this year relative to the same period a year ago. As I mentioned earlier, a lot of that was with the catch up of some overruns that we had in the earlier part of the year so over the course of the year, not all incremental. Then there was some transfer pricing adjustments in our Actuation and Landing Systems business related to a joint venture that we have in France which transferred margin, if you will, from the Actuation and Landing Systems operating income line to the other income and expense line.

Operator

Your next question comes from Gary Liebowitz - Wachovia Securities.

Gary Liebowitz - Wachovia Securities

One more question about the commercial after-market. In the past you used to give a forecast for global ASM growth usually a 4% or 5% number. Do you have a number like that for ‘08 and how low would that have to go before you think the 8% to 10% sales growth from the after-market would be at risk?

Marshall Larsen

We don’t expect any difference really between, what we’ve seen in ‘07. I think that 4% to 5% is probably about right. We would expect to have a same kind of more aggressive growth in the after-market compared to ASMs than we’ve had.

Gary Liebowitz - Wachovia Securities

Separately as you look at cash deployment, have you seen valuations for acquisition candidates come in such that you might allocate more cash towards acquisitions versus share buyback?

Marshall Larsen

Well we continue to find a number of smaller bolt-on type acquisitions as we go forward. But, in terms of our buyback right now we have no further authorization other than to continue to offset the effects of dilution because of compensation programs and that’s what we’ve been trying to do.

I would highlight for you, Gary, we did make a very small acquisition in the first quarter, Skyline Industries a helicopter seating business. It’s a relatively small transaction but it’s a good one for us, it fits very well strategically. The valuation that we got for the business allows it to be immediately accretive.

So I’m not sure that that’s a trend in terms of valuations, but I think it’s indicative of the kinds of things we look for, close fitting, fit well from a strategic standpoint with our businesses and with an attractive valuation and so we’ll continue to look forward.

Gary Liebowitz - Wachovia Securities

How accretive did you say that would be?

Scott Kuechle

It’s a very small transaction, but we use the word accretive just to indicate that we are able to cover any kind of purchase accounting adjustments already in the first year of that transaction. It’s probably a penny, in that kind of a range.

Paul Gifford

One more thing, you had asked what happens if ASMs or RPMs go down lower than say a number of 4% to 5%, I think we believe that if that were to occur, the airplanes that would be taken out of service are indeed these older airplanes like McDonald Douglas, DC-9s, MD-80s, which we do have very, very little content on. So I just want to continue to reiterate that particular point.

Operator

Your next question comes from David Strauss - UBS.

David Strauss - UBS

When you look at your sales growth on the OEM side Boeing and Airbus and then on the expense side, you did come in a little bit light relative to what your forecast have been for both of those areas. Was there any delay in some of the shipments that you expected to see in the fourth quarter, did those slip potentially into the first quarter into 2008?

Scott Kuechle

There was a little bit of timing difference there just relative to what we expected. I wouldn’t suggest there is any major move back and forth, but I think it’s fair to say we saw a little bit of that.

David Strauss - UBS

Because you did come in towards the bottom end of what your full year sales guidance have been, I think that’s a part of it?

Scott Kuechle

Within OE, that’s right.

David Strauss - UBS

Again back on the after-market Scott, you talked about that you are seeing good trends in the first quarter, but can you talk about your visibility and maybe your book of business looking further out than that? If you look over the past couple of years, you’ve historically underestimated what the after-market growth would be for the full year. Can you just talk about the kind of visibility you think you have in the after-market? And if things would slow, how quickly you would pick up on that in terms of looking at your book of business?

Scott Kuechle

Let me give you just a couple of comments. Frankly I’d refer back to the comments Marshall made in the slide that we put in the presentation, I think it’s slide 20. The underlying longer-term trends in the after-market for us are really driven by ASM fleet utilization, but probably more or so in terms of which airplanes are flying and if there is a downturn which airplanes come out of service first.

What Marshall referenced earlier is we’ve got a lot of after-market content and probably two-thirds of the active large commercial aircraft fleet and those are the planes that are going to continue flying. That growth rate, just if you look at addition to the fleet minus small number of retirements in that portion of the fleet, that’s growing around 8% per year into the future just based off of delivery schedules from the airframers. So that’s a pretty good quarter.

The other part, the airplanes that we have very little content on the old McDonnell Douglas Aircraft, some of the 737 classes, 747 early models, et cetera. If those come out of service, they are not going to have a big impact to us in the after-market. So any kind of near-term capacity adjustments that we would expect would probably come in those fleets rather than the core that drives our after-market.

So it’s hard to predict with a lot of specificity the number we will see quarter-to-quarter or for the full year, but there is a really good underlying trend that I think supports our business into the future.

Marshall Larsen

You have to realize it’s global for us. The A320 program is a very good program for us going forward on the after-market. It is growing at significantly greater rates than the ASMs in the industry. We also have a record OE backlog in commercial aircraft that are being delivered every year and the delivery has far outpaced the retirements. So that fleet continues to grow significantly at 4% plus each year, which just adds that much more to the after-market because it’s just a matter of time before they start getting spare parts and maintenance.

We have a much greater content on those new aircraft going forward than we had on the aircraft that we are replacing. That being said, you don’t have the same kind of backlog in after-market that you do in OE, you don’t have as much visibility. However, our modeling would indicate that we are going to continue our growth as we have expected. If we get more majors than just spare parts, during the course of the year, we will be at the high end of that growth range.

David Strauss - UBS

Scott, you talked about the $5 million transfer pricing impact in Actuation and then coming through in other. In your mind, was there anything else unusual or one-time in nature in the quarter?

Scott Kuechle

Well, relative to Actuation and Landing Systems, those were the two big items in the quarter. So if you remove those, their margins were around 9% and that business has kind of been running in the 9% to 10% range for the last several quarters and that’s inline, very much in line with our expectations. So I wouldn’t highlight anything unusual in any of the other segments and nothing else that I’d highlight for you within Actuation and Landing Systems either.

Operator

Your next question comes from Scott Blumenthal - Emerald Advisors.

Scott Blumenthal - Emerald Advisors

Getting back to the 787 for a second, what are your expectations for compensation or relief from Boeing based upon the delays and the investments you have to make and inventory you have to hold? Do you have any preference as to what form those come in?

Marshall Larsen

Well, obviously even if we had some ironclad agreement that we were going to get something, we wouldn’t discuss it. It’s just confidential information. But if you look at Goodrich, the delta in this slippage because of 787 just is not material to either our earnings per share or cash flow in ‘08. So I don’t expect that we would have any great claims based on that.

I think the overall program is going to be such a good program. We will work with Boeing on their rescheduling. Hopefully, we will get some relief. We’ll not have to have as much working capital, but I wouldn’t count on anything like that.

Scott Kuechle

I would also highlight for you Scott that the biggest components that we have on the airplane, we get paid when we ship within in a normal terms period after we ship. So we are not experiencing the same inventory build that some other suppliers might for the biggest components that we’ve got in that airplane. So as a result, we don’t see as much impact to us as others might from this slip.

Scott Blumenthal - Emerald Advisors

Thank you for that. Can you also talk about the implied tax rate in your guidance, which came in a little bit higher than the current year? That’s probably what’s making up the difference between what everybody else has out there as their expectations for earnings performance next year and what you’ve guided. Are you assuming a higher growth rate in domestic, can you give us a little bit of insight on that?

Scott Kuechle

Yes. We are expecting for 2008 a higher tax rate somewhere in 2 to 2.5 points higher than what we experienced in 2007. We had some favorable items in 2007 which we were able to forecast actually back when we originally put out 2007 guidance. So none of the things we saw in 2007 were a surprise to us, but they are not going to repeat in 2008.

So the tax rate that we expect is in the 33% to 35% range for ‘08 and that represents a drag on earnings of about $0.15 a share. So the fact that we are growing our earnings next year by $0.30, $0.40 a share, we are absorbing that tax rate increase in our number, so that’s fully expected.

Scott Blumenthal - Emerald Advisors

You do expect the share count to remain about where we saw it in Q4 with options and repurchases trying to keep it around where it is?

Scott Kuechle

That’s certainly the near-term objective is to keep the share count even. So whenever we have share issuance from equity comp programs that we buy those back either just before or just after their issuance. So we very much try to keep that constant.

Operator

Your next question comes from Ron Epstein - Merrill Lynch.

Ron Epstein - Merrill Lynch

Marshall, can you walk through your thinking on your R&D spending going forward? Maybe give us some color on that? And what’s your thinking in terms of maybe impact that A350 could have, C-Series could have, that kind of thing?

Marshall Larsen

Well, we are going to see our R&D spending trending slightly down. If you think about 787, we are right at the tail end of spending on that. So that is coming down. A350 is ramping up a little. It will certainly eat into that ramp down but we will still have R&D spending slightly down in ‘08.

Scott Kuechle

Ron, that’s both the expense side as well as the part that we capitalize under contract accounting. We will see some reduction in both of those numbers next year.

Ron Epstein - Merrill Lynch

Do you have any thoughts on the C-Series and what’s going to happen there?

Marshall Larsen

Well, I think it hasn’t been launched yet obviously, but I would expect it to be launched at a certain point in time. You know that Pratt & Whitney is pretty actively interested in that launch given their gear turbofan. I think that this particular C-Series, particularly at the 110 passenger and below, looks very doable.

Operator

Your next question comes from Ben Fidler - Deutsche Bank.

Ben Fidler - Deutsche Bank

Firstly, just on the earnings guidance for 2008, you have delivered quite nicely in 2007 for the full year, yet no guidance surplus to your previous ‘08 earnings expectations. Could you just share with us your thinking about why that uplift hasn’t emerged?

Scott Kuechle

We have the same outlook that we had in October. Traditionally, and probably prudently in many cases, we don’t really raise our earnings guidance in the first few weeks of the year even though we are optimistic about where it’s going. It’s just simple as that.

Ben Fidler - Deutsche Bank

Second one was just a little bit more on that after-market growth number, the 8% to 10% that you talk about. The chart that you showed shows the majority of the Goodrich heavy fleet growing, I know it’s a long-term rate, but 8% volume growth over the coming few years. Your guidance of 8% to 10% would appear to be either very conservative on the volume growth or very conservative on the pricing growth. Wondered if you could just talk about that a little bit more?

Scott Kuechle

Well, we have traditionally or historically been able to grow it faster than the growth rate of the fleet both through taking market share, more flight hour agreements and being very fast in our response to airline customers, particularly on the sales side, and that has allowed us to grow faster and capture more share and we would expect to continue to do that; and where we can, get selective price increases.

Ben Fidler - Deutsche Bank

It would just seem you are either being very selective on the price increase or the volume growth is again rather conservative if you are seeing the majority of your fleet.

Scott Kuechle

Duly noted, duly noted.

Ben Fidler - Deutsche Bank

So that’s a fair conclusion to take. Thank you.

Scott Kuechle

I think you have to make that conclusion right now. I’ve said before we are optimistic about the year and I can’t give you any more information than that at this point in time.

Operator

Your next question comes from Cai von Rumohr - Cowen and Co.

Cai von Rumohr - Cowen and Co

You had $15 million in long term contract adjustments in Nacelle. Can you give us little more color on what those were.

Scott Kuechle

A very good news item. We’ve had a very consistent track of some favorable adjustments throughout 2007. The way we do contract accounting, we’re always looking forward at cost reductions and what’s flowing through in terms of cost reduction opportunities, future pricing opportunities, et cetera. So when we see correct changes in those contracts, that’s an indication that things continue to improve, that operational performance continues to get better in our businesses.

In the quarter that the adjustments that we saw were well spread across the 15 to 20 contracts that we’ve worked with at any point in time. So, we’re not seeing one particular item or one particular contract contribute to that. It’s all of the contracts generally moving in a favorable direction, generally due to underlying good conditions in the business, good operational performance, good cost control, et cetera.

Cai von Rumohr - Cowen and Co

To get back to the commercial air transport after-market, you make a good case about this growth but so that we can have a little bit of help in trying to figure this out can you give us some sense? You keep on mentioning A320 and 737NG, what percent are those of your commercial air transport after-market sales in 2007?

Scott Kuechle

I don’t think we’ve every given that percentage out, Cai.

Cai von Rumohr - Cowen and Co

But you understand from our perspective, you say it’s good but if you give us some metrics ‘X’ percent of our sales are from the old MD-80, those types of programs, ‘X’ percent from the A320 and 737NG, it’s a lot easier for us to make our own conclusions.

Marshall Larsen

I think what you can say, is you can look at the number of A320s in particular or 737NGs in a fleet. In A320s, the amount in the fleet has been growing faster than that 8% to 10% It’s been growing double-digit and above. So, you can kind of just figure out the percentage that is of the total fleet and that’s pretty representative. And then the growth rates faster on it than the rest of the fleet.

Scott Kuechle

The other thing we could point you to is at our investor conference, we did give some kind of notional indications in terms of relative sizes of some of those fleets.

Cai von Rumohr - Cowen and Co

But if you would give us some hard data, clearly A320 the ball was much bigger than most of the others. But even grouping A320 and 737NG would be helpful, just a thought. To follow up to Ben’s question, what is your average price hike on commercial after-market in 2008?

Marshall Larsen

Well, it generally varies, but I’d say, anywhere from zero to 4% somewhere in there depending on the customer. Because sometimes we will forego the price increase to get a greater share or a longer-term agreement.

Cai von Rumohr - Cowen and Co

So, the average is only 2%?

Scott Kuechle

I would say that, yes. Generally we’ve been able to increase our share and that’s certainly played a large part in it. In some instances, we get good price increases, especially where you have non-production aircraft. In other words, aircraft that not longer being produced by Airbus or Boeing, that we have good content on like a 717 for instance.

Operator

Your next question comes from Steve Binder - Bear Stearns.

Steve Binder - Bear Stearns

Scott, I think in your MD&A you talked about the sales increase of $32 million and when you isolate what sales volume alone was $32 million in profit improvement dollar for dollar?

Scott Kuechle

Great leverage, isn’t it?

Steve Binder - Bear Stearns

No, I know, especially given the fact that your commercial after-market sales were above from that, I was little surprised to see that kind of dollar to dollar. So there is nothing one-time nature in that at all?

Scott Kuechle

You have the 15 million?

Steve Binder - Bear Stearns

No, that’s isolated separately though.

Scott Kuechle

You are going year-over-year?

Steve Binder - Bear Stearns

Yes.

Scott Kuechle

If you look at year over year, the principal mix story is after-market. We had good growth in after-market, I think $25 million kind of number year-over-year which drives good profitability so the offset was in other areas.

That was the principal area of growth on the sales line. I mean if you look at the cost side, you isolate the cume correct. We also had more R&D spending, expense spending in 2007 in the fourth quarter than we did in the year ago period. So, it’s very much a volume and mix story and when the after-market grows at a robust pace, we get a lot of leverage in that business.

Steve Binder - Bear Stearns

I was just wondering if you can just talk about book-to-bill on the parts side of your after-market both up in the sales and down in Actuation, just total, Marshall. What were you seeing on book-to-bill as you look at kind of through catalog parts throughout the year? Because obviously your sales growth lightened up in Q4, but I was just wondering if you look at book-to-bill, what were you seeing?

Marshall Larsen

Well, they are very short-term orders, so they really don’t follow a traditional book-to-bill way. I mean we track daily sales in this and we watch the trends of those daily sales that give us a good indication of what’s going to happen here for the month and the quarter, but you are talking about a very short-term phenomenon and even I gave you a book-to-bill, it wouldn’t be worth anything more than a quarter probably.

Steve Binder - Bear Stearns

Just touching on the sales, if you look at the last several quarters just going back into the second quarter of ‘06, it does look like the slowest growth rate in the after-market and sales for the segment and granted there was a reorg in ‘07, but it is the slowest growth rate.

If you kind of look at the business A320 weighted and it’s primarily outside the United States. Can you isolate what caused that slower growth if you’re just looking the sales alone? Is it parts, is it services, is it tougher compares last year because of some big outsourcing agreements you got last year, do you have any sense of that?

Scott Kuechle

A lot of it is just the MRO seasonality that you are seeing right at the end of the year. As Marshal mentioned earlier, the airlines want to run their fleet very heavily in that Thanksgiving to Christmas time period. So our MRO shops don’t do as much business during that time period. Right at the tail end of the year we also rescheduled a few things into the first quarter that typically would have fallen into the fourth quarter and that happens every month, every quarter. So, there is nothing in there that’s unusual in terms of the underlying demand that we saw or underlying demand that we’ve seen so far in the first quarter.

Steve Binder - Bear Stearns

My only point though Scott is just in sales alone it is a slower growth rate in Q4 this year than it was in Q4 last year, the after-market alone?

Marshall Larsen

I would just say it’s timing. I wouldn’t attribute that to anything fundamental at all.

Operator

Your next question comes from Peter Arment - American Technology Research.

Peter Arment - American Technology Research

Can you remind us what your exposures on FX for 2008, Scott?

Scott Kuechle

We’re about 97% hedged for 2008 so we’re expecting about a $36 million year-over-year reduction in earnings pre-tax because of FX; that’s in line with our earlier expected number. I think we said $33 million at our earnings conference for our analyst conference in October.

So similar year-over-year drag on earnings to what we’ve seen in ‘05, ‘06,’07, going into 2008. But that 97% hedged, whatever happens to the dollar near-term is not going to have much of an impact on 2008.

Peter Arment - American Technology Research

For ‘07, where did you guys end up in terms of your overall sales mix from an international versus domestic perspective, do you have that number?

Marshall Larsen

If you count Boeing as domestic, we are probably just over 50% of revenues outside US. But most of those airplanes that Boeing is delivering are outside the US. So the majority of our sales would be outside.

Operator

Your next question comes from David Strauss - UBS.

David Strauss - UBS

You gave 2008 on the FX side, could you also give us an update on ‘09? I think you’ve been looking last time $25 million to $27 million hit ‘09 versus ‘08?

Scott Kuechle

We are about 75% hedged now going into 2009, and I think we would expect ‘09 versus ‘08 to be in the neighborhood of $24 million, $25 million year over year. So, little less drag than what we are seeing this year, but similar in magnitude to what we’ve seen in the last couple.

David Strauss - UBS

Corporate expense for ‘08 and the other income line, what do you think there?

Scott Kuechle

We should generally track around $30 million per quarter in corporate expenses in 2008, which is down quite a bit from 2007. On the other income and expense line, somewhere in the $13 million, $14 million per quarter range.

Operator

Your next question comes from Steve Binder - Bear Stearns.

Steve Binder - Bear Stearns

Scott, do you have a discount rate for the pension plan?

Scott Kuechle

On the pension plan?

Steve Binder - Bear Stearns

Yes.

Scott Kuechle

On the US side, 6.3%, so that gives us pension expense for 2008 somewhere around $70 million worldwide versus $90 million in 2007, so it’s about a $20 million improvement. That’s spot on with what we thought and what we said at our investor conference in October, so right in line with our expectations.

Steve Binder - Bear Stearns

What did you finish with as far as after-tax returns in ‘07?

Scott Kuechle

I think it was about 6.5% after-tax for the full-year, again that’s just the US plan net of fees.

Operator

This does conclude our question-and-answer section. I would like to turn the call back over to Mr. Gifford for any closing comments.

Paul Gifford

Thanks Tony and thank you all for joining us. I’m sure I will be talking to many of you over the next few days and weeks. Thanks and have a good day.

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Source: Goodrich Q4 2007 Earnings Call Transcript
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