Pentair plc (PNR) Q2 2008 Earnings Report, Transcript and Summary

Good morning. My name is Krystal and I'll be your conference operator today. At this time, I would like to welcome everyone to the Pentair Q2, 2008 Earnings Conference Call. All lines have been placed on mute to prevent any background noise. After the speaker's remarks there will be a question-and-answer session. [Operator Instructions]. Thank you. Mr. Gleason, you may begin your conference.

Thanks Krystal. And welcome to Pentair's second quarter earnings release conference call. We're glad you could join us. I'm Todd Gleason, Vice President of Investor Relations. With me today is Randy Hogan, our Chairman and Chief Executive Officer and John Stauch, our Chief Financial Officer. On today's call we will provide details on our second quarter results as well as discuss our guidance for the third quarter and update you on Pentair's outlook for the remainder of 2008. Before we begin, let me remind you that any statements made about the company's anticipated financial results are forward-looking statements subject to the future risks and uncertainties such as the risk outlined in Pentair's 10-K as of December 31st, 2007 and Pentair news releases. Forward-looking statements included herein are made as of today and the company undertakes no obligation to update publicly such statements to reflect subsequent events or circumstances. Actual results could differ materially from anticipated results. Today's webcast is accompanied by a presentation, which can be found in the informational section of Pentair's website at www.pentair.com. We will reference these slides throughout our prepared remarks, any reference to non-GAAP financials are reconciled in the appendix of the presentation. I'd also like to point out that all financial results and references to year-over-year numbers in today's call and presentation are on a continuing operation basis unless otherwise noted or highlighted. As is our custom we will reserve time for questions and answers after our prepared remarks. I will now hand the call over to Randy, who will take you through Pentair's second quarter results and highlights, provide detail on significant actions and initiatives we are driving and provide his summary for our first half results. Then John will conclude our formal remarks with an overview of the impact of various actions we are undertaking in the year as well as discuss our future guidance. Randy?

Thanks, Todd. Thank you all for joining us today. Let's begin by reviewing our second quarter results shown on slide number two. Looking at our second quarter, we had solid performance as we'll walk you through on the call we embarked on a number of new important initiatives that will continue to enable our organization to deliver on our commitments. Let's walk through the highlights. In the quarter, we delivered reported earnings per share from continuing operations of $1.39, which includes a number of non-recurring items. The first is a non-recurring gain of $0.86 per share associated with the transaction we completed with GE to combine our residential water filtration businesses. The reported EPS also includes a negative non-recurring $0.14 per share impact from settling the Horizon legal case. And reported EPS includes a negative $0.01 per share impact from severance and restructuring actions taken in the quarter. If you remove those non-recurring items, which we feel is the most accurate way to evaluate our true operating performance, we delivered $0.68 of EPS, on an adjusted basis. That $0.68 is up 11% versus the $0.61 in the second quarter of 2007. The $0.68 also bested the high end of our EPS guidance of $0.64 to $0.67 by $0.01 per share. Strong performance in our technical products business enabled us to offset weaker results in our water segment driven from our pool business. We will provide additional detail on each business in a few minutes, but first here are some more of the headlines. Pentair second quarter sales of $910 million were up 1% above the $899 million in sales we generated last year. Our organic growth was flat in the quarter or down 3% in local currency, a strong growth in our technical products segment could not completely offset declines in residential water segments. Second quarter sales in our water segment were down 6%, year-over-year. The segment details will demonstrate we've had a tail of two cities in water. One camp is growing sales nicely while those exposed to residential end markets continue to be challenged. Our technical products business achieved record sales levels and grew 18% in the second quarter versus Q2 '07. Technical products has been firing in all cylinders and we continue to be bullish on the growth prospects for our various technical products vertical markets. As the slide shows, Pentair expanded margin, 50 basis points. Looking at total company margins year-over-year, the positive impact from volume, price, and product mix coupled with solid productivity provided 360 basis points of margin growth in aggregate. This offset a negative 310 basis point impact from total inflation in foreign exchange. Our second quarter effective tax rate was 33%, reflecting the investments we have made to position our global operations more optimally. The 33% rate is the sustainable rate we expect for the full-year. In the quarter, we bought back shares worth approximately $9 million, we have a little over $28 million remaining on our authorization, which we expect to fully utilize in 2008. And as expected, interest expenses provided a year-over-year benefit of $0.01 of EPS versus last year as our debt levels are down significantly. We continued to be on track to deliver full-year free cash flow above adjusted net income. In the second quarter, we delivered $135 million of free cash flow, which brings us to a positive $57 million year-to-date. So, those are the Pentair level highlights for the second quarter. Now lets turn to the slide number three, as our press release highlights, we had a busy quarter with lots of moving parts. When I think about our results in the quarter versus the guidance we provided in April, this slide pretty much sums it up. The guidance we suggested in April had sales between $910 million and $925 million, operating income between $114 million and $120 million, and EPS in the range of $0.64 to $0.67. So actual sales hit the low end of the range at $910 million. Operating income came in comfortably within the range at $118 million. And adjusted EPS was $0.68 as our tax rate improved slightly versus our guidance. But there is good news here, because as I just mentioned, this 33% rate is sustainable going forward. Despite this pretty simple sounding performance explanation, there were some pretty large variances within some of our business results. In April, our expectations for our pool and spa business were for sales to be down low double digits. While customer sell-through activity was in line with that expectation, several key distributors aggressively drew down inventory in the second quarter which created a larger revenue decline for suppliers. This revenue shortfall hurt us by $0.07 per share versus guidance. On the flip side, throughout the second quarter we continued to witness stronger than expected demand in our technical products business. We capitalized our ability to meet customer demand in our lien driven productivity culture delivered outstanding margins. The upside in technical products delivered about $0.07 per share of benefit versus our April guidance, enough to offset the decline in our pool and spa business. We've highlighted the expanding diversity of our portfolio over the past three to four quarters. The result of our quarter provides additional proof of that broader balance. A few years ago, a $0.07 miss in our pool businesses largest quarter may have been insurmountable. Today, we have a more balanced global presence, stronger exposure to attractive vertical markets and a rigorous productivity culture that is driving hard in many difficult environments. In sum, we endured the worst pool season in Pentair's history. We continue to navigate through various soft residential markets and we've executed extremely well in non-residential water and technical products to deliver outstanding results. In order to insure long term results and control our own destiny we continue to aggressively improve our portfolio and execution culture. Let's review some of the major actions we accomplished or announced in the second quarter. Please turn to slide four. This slide highlights four major events or actions, each one uniquely improves the position of our company. First, as we highlighted last month, we combined forces with General Electric in the Residential Water Filtration business. We have several slides on this topic in a minute, so to highlight a few key takeaways, I'd just say both Pentair and GE are excited about the growth prospects of Residential Water Filtration. We expect this new combination will produce strong sales, meaningful cost synergies and tremendous value to our customers globally. Second, we're happy to announce we settled the longstanding Horizon litigation. Today's Press Release is the first instance since I've been CEO that we do not have to include Horizon litigation in our risk discussion of our forward-looking statement. By putting this case in the rear view mirror our shareholders can cross off an uncertainty that has been associated with our shares for many years. We're still working to recover an additional $10 million in insurance associated with this case. This was not included in the charge, so any recovery would be a future benefit that we would spell out at that time. Third, we continue to address our cost structure by taking aggressive actions. In the second quarter, we shut down two European facilities which created a non-recurring $2 million charge. In the third and fourth quarter of this year, we've announced the closure of six more factories as well as taken action to reduce our G&A structure and consolidate distribution centers. We'll be talking more about the timing and location of these actions in a few minutes. The last major item is the bond tender we announced earlier this month. We reached out to holders of our 7.85% bond due in October 2009, soliciting for early retirement. Our goal is to retire a significant portion of this note and use our credit facility which currently has rates under 4%. By essentially refinancing this portion of our debt, we reduced exposure in 2009 when it would normally be due and while this action will result in a charge of approximately $0.03 per share, we expect to have lower interest expense of about $0.01 per share, starting in fourth quarter this year. Let's go to slide five and discuss the Residential Water Filtration transaction we completed with GE in more detail. As a very simple snapshot, here is what each side contributed to create the Residential Water Filtration business. The new business will start with annualized sales of approximately $450 million and high teens operating margins. With 13 combined manufacturing facilities, we're taking immediate action to rationalize our production locations. We'll have access to GE's technology for the residential market, which hasn't been a priority for them and have access to the GE brand. So by combining Pentair's sizeable strength and distribution along with GE's technology and brand and great people, we're confident Pentair's Residential Water Filtration business will be a stronger business with improved growth potential. Pentair will consolidate the revenue and operating income of the combined business and account for GE's percent of the profits as a minority interest. Now, please turn to slide six to review our revenue growth and cost take-out strategies in the new Residential Water Filtration business in more detail. On the left side of the slide you can see we detail a number of revenue growth opportunities. We're excited about current solutions that the combined businesses have such as Ultra Filtration Whole House Systems and Tankless Reverse Osmosis Systems, but we're also eager to introduce a number of products and systems for emerging regions with proprietary technologies. As we merge the two businesses, we must ensure our customer service and quality levels remain very good. By combining the businesses, we expect to improve customer education about water quality, marketing and invest more heavily in filtration technology to benefit residential customers. On the Cost Take-out side associated with the Residential Filtration business, this week we announced the closure of five factories. Sheboygan, Wisconsin, Rockford, Illinois, Limay, France, and two in Asia. Our integration team is driving for quick results and we expect to not only reduce manufacturing in G&A structure, but also take advantage of pre-existing supply agreements and other programs to maximize results. Bottom line, we believe through identifiable and actionable growth and cost synergies the new Residential Water Filtration business can produce an additional $0.27 per share by 2010. And that's our commitment. Let's transition back to review our second quarter performance in more detail, starting with an overview of our water results. Please turn to slide number seven. We're covering a lot of information today and this is one of our standard slides. Let me just hit some of the highlights. Overall, water sales were down $37 million to $605 million or down 6% versus last year. As we discussed in April when we provided guidance, we got a difficult year-over-year comp in our Flow Technologies business. Last year we sold $21 million of municipal pumps to the core engineers for the City of New Orleans. So that's a piece of our sales decline that we expected. However, the biggest reason for the contraction in water sales was the poor sell-in this pool season for our Pool and Spa business. As I said earlier, end market demand was inline with our down 10% prediction adding end of the quarter. However, additional pressure came as distributors reduced inventory levels earlier and more aggressively than we expected. This pushed our pool sales down 22% versus last year. 8% growth in filtration coupled with 20% growth in Asia and single-digit growth in EMEA could not overcome this dramatic decline in pool and spa. We're going to discuss our water growth in the next slide, so let's skip over to our operating income walk. On the top right you can see our year-over-year operating income for water. Adjusted margins were 13.3%, down 60 basis points year-over-year, inflation impacted water margins by over 310 basis points, it could not be overcome by productivity, price and product mix. I'd point out that the Horizon legal settlement and non-recurring restructuring charges have been adjusted from our 13.3% margins. The impact of these non-recurring items are shown in the chart as a $23 million charge. While we're disappoint in margin contraction in the quarter, we endured a very difficult pool season and we're taking significant actions to rationalize our global footprint, reduce structure and drive growth opportunities. These will reverse the margin declines once the residential market settles out. Let's take a closer look at our water segment by comparing sales growth rates between our different Markets. Please turn to slide eight. Approximately 40% of our water business is exposed to residential markets. This slide shows you the year-over-year comparable sales growth rates we experienced in the first half of this year along with our expectations for the second half and full-year 2008. Sales declined approximately 15% in the first half of 2008 residential markets, including pool and spa, flow technologies and residential filtration. Our second half sales outlook for these residential markets is down 7%, while still negative the sequential improvement is primarily the result of a higher sales from the GE combination. For the year, we're forecasting a 12% overall decline in sales for residential water markets, when extrapolated out the impact of total Pentair is approximately negative, four points of sales decline for full-year 2008. Conversely, the growth in our non-residential and international water businesses continues at solid levels. As the slide shows, in the first half of the year our non- residential sales grew 12% year-over-year in aggregate. When we add the impact from foreign exchange, in the Q2 2007 New Orleans project, which we had removed from municipal core growth, non-residential water was up about 13%. We expect about 8% growth in the second half of this year in non-residential and international markets or up about 10% including foreign exchange. When you take that out for the full year, we see about 10% growth in non-residential and international markets, which provides about five points of growth to total Pentair. So we have solid growth in non-residential and international markets being masked by continued sales declines in soft residential markets. This provides you with a different segmentation of water sales and one which we think may be of interest as we, at some point, begin to lack the most difficult comps on the residential front. Now, lets turn to slide number nine to review our technical products second quarter 2008 results. As usual we provide you with total business sales and operating income walks at the upper half of the chart. Technical products results in the first quarter were outstanding as we grew sales 18% and adjusted margin to 16.4%. Let's review what enabled our businesses to have better than originally expected performance in the quarter. As we look at our sales results, our global electrical business grew 14% versus last year as we continue to take advantage of a strong and diverse business model. Our thermal and networking vertical markets each grew double digits as we continue to see solid performance in our core Hoffman channels. We'll evaluate technical products major vertical markets in a few minutes. Our global electronics business grew 24%. Every region posted positive growth, paced by our Asian Pacific electronics business, which grew 39%. Looking at technical product's margins, growth and productivity together contributed 530 basis points of margin expansion. This easily offset the impact of a negative 300 basis points from total inflation. Our lean driven productivity actions continue to produce solid results. We're executing well on the 2007 restructuring actions, which included the shut down of facilities outside Chicago and one in the U.K. By reducing our technical products footprint, we believe we'll get even better operating leverage, even if we see lower growth markets. Given the increases in metals prices, mainly steel for technical products we recently introduced new price actions in the segment. We believe these actions have been accepted by our customers and are appropriately sized to offset commodity pricing pressures. So in sum, technical products delivered a strong topline and had great execution to deliver outstanding bottom line results in Q2. We believe this segment is well positioned for the balance of the year. Now let's review the major vertical markets within technical products. Please turn to slide ten. Rather than read all of the numbers, let me just highlight a few items. First, we want to share with you the technical products has more diversity and balance than even just a few years ago, which is one of the key reasons we have experienced tremendous growth over the past 12 months. In particular, the energy and infrastructure verticals have been performing very well, as our new products in networking and commercial markets. The business continues to invest in new product introductions and global expansion. And while we expect sales growth in the second half of the year to moderate versus Q2, we remain confident in our ability to outperform our end markets. I leave you with the observation that having this vertical market better positions our organization to attack the appropriate markets with the appropriate strategies. Also, it helps us ensure our financial forecasts are based on end market realities. So we see strength continuing in several major end markets within technical products and also some end markets where we expect some slowing, but in total this will be a great growth year in tech products. Let's turn to slide number 11 which shows our financial metrics. I'd like to highlight cash and ROIC which are shown in the chart with the red box around the figures. As mentioned earlier, we generated $135 million of free cash flow in the second quarter, about $11 million less than the same period of 2007. We continue to make progress in regard to working capital, but there's still a lot of opportunity to improve it further particularly in inventories. If you take a look at the components of return on invested capital to the right of slide, you see our four quarter trailing adjusted net operating profit after tax, or NOPAT, was $292 million. Our average invested capital was $2.96 billion, which gives us an after tax ROIC of 9.9%. This is up 40 basis points versus the same metric a year ago. We're continuing to move this metric in the right direction with several quarters of sequential expansion now. Our ending working capital was $463 million, an increase of $24 million versus Q2 2007. About $15 million is related to inventory we acquired as part of the GE transaction. Our five quarter moving average working capital was $432 million, which is 12.7% of four quarter trailing sales. Our total debt was just over $1 billion for a debt to total capital ratio of 33%. As a reminder, the non-GAAP to GAAP reconciliations of these calculations and numbers are included in the appendix to this presentation. Before I turn it over to John, let me share my summary thoughts about our performance and outlook. Please turn to chart number 12. We've touched on most of these themes already, so I'll be brief. Our performance of technical products has been fantastic and they continue to set records for sales and margins. And while we continue to see double-digit growth in non-residential and international markets... international water businesses, the residential market declines have masked much of our solid performance in the rest of water. We had the worst pool season in Pentair history. We also believe that in difficult times, strong companies can get stronger. Our pool and spa business has launched new restructuring actions and continues to invest for future growth. Commodities remain stubbornly high, the recent price actions have mitigated the inflation to date. However, with higher costs and several of our key markets remaining soft, we believe aggressive productivity is the only way to insure we can meet or exceed our commitment to you, our shareholders. So we'll continue to focus on productivity as well as actions to improve our portfolio, like our first quarter divestiture of National Pool Tile and the formation of the Residential Water Filtration business with GE. It's been a busy first half of 2008 and one filled with significant accomplishments and real challenges. Now I'll turn it over to John and he will help you understand how we are thinking about the second half of the year and how we're positioning our businesses to drive even more improvement. John?

Thanks, Randy. As mentioned earlier, we have a lot going on at Pentair. Let me try to summarize a few of the moving pieces. Please turn to Slide 13. This slide is divided into three sections. The top section provides you with our reported GAAP EPS earnings for the second quarter and year-to-date as well as our outlook for the balance of 2008. We then walk across the adjustments to our year-to-date results as well as expected adjustments in the second half of the year. This middle section reconciles the GAAP to adjusted EPS so you can better understand our operating performance. The third section summarizes for the same period in 2007, the GAAP EPS and adjusted EPS results for comparison. Starting at the top, our second quarter reported GAAP EPS was $1.39. Walking down the adjusted earnings, you would move with the non-recurring $0.86 per share benefit from the gain created from the exchange of 20% of Pentair's residential filtration business for 80% of GE's residential filtration business. This gain was the result of a low double-digit multiple being applied to each company's trailing 2007 EBITDA results. The multiple is at the lower end of the range of filtration transaction multiples. Continuing to walk down the chart, the second quarter also included an unfavorable non-recurring charge to earnings related to the Horizon settlement. As Randy mentioned, it is nice to not have to reference the previous uncertainty any longer in our 10-K's, 10-Q's or forward-looking statements. The net impact to the settlement after accruals already taken and insurance coverage was $0.14 hit to Q2 earnings. This negative impact does not include a potential insurance recovery of approximately $10 million to one of our previous insurance carriers. The net cash impact to the third quarter from this settlement will be approximately $18 million net of insurance and tax benefits. Finally, the last adjustment to the second quarter is related to restructuring charges, which cost Pentair $0.01 per share in the period. Thus, after adjusting for these non-recurring items, second quarter EPS is $0.68, up 11%. These results included a second quarter tax rate of 33%, we now expect our full-year sustainable rate will be 33% for 2008. Since we do not have any adjustments for the first quarter these adjustments carryover to the year-to-date column, so by adding the $0.53 of EPS we delivered in Q1 plus the $0.68 of adjusted Q2 EPS you get to $1.21 of EPS year-to-date, up 17% [ph] versus 2007. For the second half, we are forecasting reported results of $0.52-$0.57 per share, which includes an expectation that the negative charges for restructuring and other items in the second half will be between $0.50 and $0.60 per share. This would produce a full year reported EPS of between $2.44 and $2.49. By adjusting the full year impact of these restructuring charges, we now expect our adjusted full-year EPS to be between $2.28 and $2.33. This adjusted EPS does include about $0.07 of incremental cost related to the GE transaction and restructuring actions in water and technical products. This amount was not contemplated in guidance we previously provided because we had not embarked on these actions. You can think of this $0.07 as expenses that would fall into [inaudible] bucket associated with restructuring charges. The $2.28 to $2.33 range would provide full-year EPS growth of between 9% to 11% for the year. Please turn to slide 14. Starting with our second quarter guidance on the April earnings call, at that time we anticipated $0.64 to $0.67 for Q2 and between $1.10 and $1.23 for the second half. This would have delivered a full-year EPS of between $2.30 to -$2.40 for 2008. Based on our actual results in Q2 being at the high end of guidance, coupled with our current business performance and the expectation that our effective tax rate will be approximately 33%, our full-year outlook before incremental actions has moved slightly higher to between $2.35 to $2.40. This number is shown in the top section of the slide with a circle around it. Having weathered the difficult pool season, we'll also continue to see strength in our technical products segment as well as international water and non-residential water businesses, we feel this reflects our core business performance for the year. This also takes into consideration that our price actions which continue to be successful, offset material inflation for the year. However, as we said on the last slide, based on the impacts from the GE transaction as well as the expenses associated with our announced restructuring actions our full-year 2008 adjusted EPS range reflects an additional $0.07 of expenses, which brings our new range to $2.28 to $2.33. Let's walk through some of the details quickly because as you'll see, we feel this investment has an attractive pay back. Please focus on the middle section of the slide 14. These are the major actions that we recently announced and that we feel are going to accelerate Pentair earnings in 2009 and 2010. Starting with the GE transaction, we have announced the closure of the GE Rockford, Illinois residential filtration plant and the closure of the Pentair Sheboygan, Wisconsin plant. These sites will be consolidated into existing Milwaukee area facilities as well as Suzhou, China and Reynosa Mexico over the next 12 to 18 months. In addition to these two Milwaukee plants we also announced the closure of a French operation in two China locations, which will be absorbed into existing Pentair facilities within the same region. Also we expect to realize the benefit of more leveraged and reduced structure from both businesses. The impact of these integration activities are [inaudible], and will cost us about $0.02 of EPS in both Q3 and Q4 of 2008 and another $0.06 of EPS in early 2009, but will yield an expected 2009 benefit of $0.15 of incremental EPS to Pentair in 2009 and $0.25 of EPS when all actions are fully implemented in 2010. Inventory step up and intangibles amortization in connection with GE transaction will cost us another $0.04 of EPS in 2008 and amortization will continue to impact EPS by $0.04 annually. Net-net, the impact of the GE transaction in residential filtration is expected to negatively impact Pentair adjusted EPS by $0.08 in 2008, be $0.05 accretive in 2009 and it's expected to be $0.20 accretive in 2010. We focus on the next section of slide 14, you could see the impact of the other actions we recently announced. These expenses are not restructuring charges, but similar to the GE transaction, they are pay as you go expenses associated with these transitions. In this section, they're related to actions we are taking in pool and spa, flow technologies, filtration and our Western Europe water operations. This primarily reflects the closure of our Cypress, California operations within commercial filtration. The net impact of these rooftop consolidations are expected to result in a reduction or transfer of significant number of manufacturing positions and shifting from higher to lower cost locations. We have also reduced non-manufacturing positions throughout water and in the North American and EMEA electronics businesses within technical products. The net impact of these already determined actions is expected to be neutral to 2008 results and $0.06 to 2009 expectations and an ongoing benefit of greater than $0.15, on an annual basis. Offsetting these actions is the potential interest benefit of our bond tender action recently announced. We are seeking to repurchase 7.85% coupon bonds due in October of 2009. Swapping out this high fixed debt for more favorable variable debt is expected to yield about a penny benefit per quarter based on a 50% tender of the bonds. So if you add the full-year 2008 impact from the two middle sections you get the $0.07 of negative EPS impact associated with these actions. Therefore adjusted EPS guidance drops from what would have been $2.35 to $2.40, down to $2.28 to $2.33. It's important to note these actions yield a sizeable benefit starting in 2009 and accelerating in 2010, as the right two columns indicate, we see $0.15 per share benefit in 2009, net of expenses and anticipate up to $0.40 per share benefit in 2010. We appreciate you taking the time to let us grind through some of this detail, but as you could see, we believe the impact of actions we're taking today will have a meaningful pay back and when you consider we continue to prove our tax rate, we have removed the uncertainty associated with our Horizon legal case and we continue to invest in global growth, I think you'll see a continued strong performance from Pentair. Let's turn to slide 15. This is a summary look at current sales and EPS guidance versus the initial guidance we offered at the beginning of the year. Just quickly, in the upper left portion of this slide, our initial revenue guidance for continuing operations has been negatively impacted by sharper decline in the pool market as well as the North American residential exposed portions of our filtration and flow businesses. Technical product sales have exceeded our initial guidance and the rest of our operations sales are about as planned. In the upper right hand corner of the slide you can see our initial EPS guidance has also been impacted by the steep downturn in the pool market as well as a continued downturn in North American residential. However, this has been offset by strengthened technical products as well as a non-North American residential exposed water businesses. Benefits from pricing actions have offset incremental raw material inflation and benefits to the tax rate and interest have also helped offset the residential downturn. And, while it's not listed specifically on this slide, our cash outlook remains on track to exceed 100% of adjusted net income. Turning to slide 16, let's review our outlook for Q3. Overall, we expect sales to be up 3% to 4% to $845 million to $855 million. Adjusted operating income of $92 million to $96 million and adjusted EPS of $0.51 to $0.53. We expect water sales to be up about 3% on a reported basis and down a few points, excluding FX. Technical products faces tougher year-over-year comparison, but is still expected to grow mid-single digits. Overall, we expect Pentair adjusted margins to be about 11%. Our margin expectations include the residential filtration related impacts as well as the previously discussed restructuring actions. We expect our tax rate to be 33% and interest to be about 14 million. Our share count is expected to be close to 99.3 million shares, down over 1% year-over-year. And finally, we expect cash flow to be between $50 million and $75 million. Turning to slide 17, let's review our outlook for the full year. Overall, we expect sales to be up 4% to 5% to approximately $3.5 billion. Adjusted operating income is expected to be in the range of $415 million and as we've discussed in detail, adjusted EPS of $2.28 to $2.33. We expect water to be up about 1% for the year, technical products revenue is expected to be up low-double digits. Overall, Pentair margins are expected to be up modestly as we continue to overcome difficult residential markets and high commodity costs. Also in this margin assumption are the expenses associated with integration of the residential water filtration business and the pay as you go expenses for restructuring actions. We expect our tax rate to be 33%, as previously mentioned and interest to be about $60 million. Our share count is expected to be close to 99.4 million shares, down 1% year-over-year and we expect free cash flow to be greater than $235 million. Our debt position at the end of the year is expected to be approximately $940 million, including the purchase of 50 million of our shares under our authorization and debt to total capital is expected to be 31% to 32%. We appreciate your time and attention as we walk through a tremendous amount of detail. In summary, we continue to strengthen our business portfolio and persevere through the challenges of certain end markets and commodity pressures. Our updated EPS guidance reflects the cost of the actions we are taking today to yield a great pay back over the next 12 to 24 months. As a reminder, our 10-Q will be filed today so you can be on the look out for it. That concludes our review. Operator? We'll now open it up to questions. Question and Answer

[Operator Instructions] Your first question comes from the line of Jim Lucas with Janney Montgomery Scott.

Thanks, good afternoon guys.

Hi, Jim.

And thank you very much for all the detail today. Two questions here, on technical products you touched on the end markets, but could you speak a little bit about some of the benefits if your getting them already of the GBU, combining electronic and electrical given some of the historical fits and starts you had on the electronic side.

Right, we got your comments. As you were referencing we combined the electronic and the electrical under [inaudible] the longtime leader of the electrical side of the business. The first benefit is he has done lot of G&A consolidation leveraging the expertise and capability in electrical to help take the cost out. The SG&A actually its higher in electronics, even though the margin in lower. So, it's clearly a big opportunity on the SG&A side. The second is, is that we had electrical plants, particularly owns in Mexico which were frankly running at 98% capacity in the electric side and running at 50% to 60% on the electronic side. So we are getting better leverage of the utilization there and also we are taking a broad technical products view on the growth side, so there is inferences in India and in China we are well rescued towards electronics, right now we are getting more of an effort on electricals. I think they are off to a really, really good start to get more cost benefit and growth benefit from it.

Okay. And from a strategic standpoint, I mean, clearly this was a very nice transaction with a new joint venture, you had the one divestiture earlier in the year, can you talk about from a managerial standpoint, how you are feeling about the portfolio today and are you in a position to pursue or are you even looking at anything along this scale, currently?

You mean something of a similar size?

Yes.

The opportunity to merge the residential businesses into one business, we had a lot of sense to us and our team has worked really well. The nice thing about it is we picked up some great people, including the GM of this business actually comes from the GE side. And so we've actually picked up talent. We have also beefed-up our operating leadership under my Mike Schrock to better handle client consolidations and I think we have a really, really good plan for that. So the filtration business is going to be pretty tied up with this residential venture, but it is not going to slow us in terms of our organic growth investment and really in flow technology hasn't been affected by this and actually selling the National Pool Tile business, like we did is allowing our pool and spa business to focus on the heavy lifting they have to do their, given the downturns. So I don't feel like they were management constraint to do other deals. That said, my main focus is to build the same kind of organic growth culture in water that we've proven we have in technical product.

And finally on the Young acquisition, could you just bring us up-to-date there of how that integration has proceeded and has it delivered on what you had targeted when you made the deal?

Yes, they are slightly ahead of plan versus our acquisition plan, they have great product line, they've had solid growth, they've been everything we thought they could be in terms of helping us in Eastern Europe. I think there is more we can do in taking that product in the Middle East, I think there is more in that... I am not complaining because our Middle East business was up over 60% in water in the quarter. But I think there is still even more opportunity to leverage that. And as we solidify the GBU structure, I think that there is more we can do with the technology and their product lines globally. So, financially good, sales good and strategy still more opportunity.

Great, thank you very much.

Thanks, Jim

Your next question coms from the line of Deane Dray with Goldman Sachs.

Hi, gentlemen, you had kind of stepped us through the commentary, you said it twice that this was the worst pool season in the history of Pentair. So, just take us through where you think end market demand went during the course of the quarter, I mean, there is some replacement cycle that should still be somewhat resilient. So what's happening really in sell through, are you losing share and with distributor inventories being this slow, wouldn't that suggest that we're going to see a little bit further demand coming out of distributors later on?

Yes, Dean, let me start with the end market, as I mentioned, that is you pointed it out. The end market sales are sales out of distribution into the actual... in the actual pools came in about where we thought it would be, we thought it would be down about 10% driven largely... we are between 55% and 60% replacement, but with housing starts down so steeply, particularly where we have our largest market share. We are the largest market share player in Southern California, Las Vegas, Arizona, Texas, Florida. With the exception at Texas those are all the markets that have been impacted the worst in terms of the housing slowdown. That came in about like we thought. In terms of the end market sales, the replacement is happening, but the upgrades that we might expect to have happened isn't, people aren't upgrading like... they're not upgrading controls the way they... we'd like to see them do. So, I think we have an opportunity to do some better marketing and sales on the replacement cycle, but they are replacing pumps and they are replacing filters. So, in terms of the distribution drawing down inventory, I think part of that was the weather, it was a little bit of a slow start to the summer. So, I think they were over inventoried and that was one of the factors, but I also think they are being very cautious because they didn't see the pick up and together managing their own cash. So, I think we... I don't think we were bullish about what would happen with inventory, but I don't think we anticipated this. We anticipated later in the year, they typically take their inventory down at the end of the third quarter, which gets to maybe your last point, your last question, which was shouldn't the inventory be done, shouldn't that bow low for the second half. I wanted to put that... we wanted to that on the upside, we didn't want to count on this, so when we say that we expect the business to be down in the second half to 15%, we are not expecting a big inventory to climb, but that's also worse than a 10% run rate sell through. So, I'd say that our outlook is the sober one on that. I don't think we are losing share, I think that the markets that have slow down less are where we have lower share. So, I view that as an opportunity to be beef up [ph] our share, I am talking about the Midwest would stay right as strong where Pentair isn't such a strong brand. In the Northeast, Hayward is still the Number 1 brand, I think we have opportunities to beef up our share there.

What about new products, I know in previous pool seasons there was a lot of commentary about the launch of new products in vitality index and it was awfully quite this quarter with regard to... last quarter, with regard to the expectations on new product contributions. Did that get dialed back or was there just not a contribution that you might...?

No, they... I wish they were bigger. They are about in line, given... the whole problem is being down 22%, they couldn't really hold sway. We are being able to sell those in markets that are more sensitive, I think there is still more marketing we can do. When we did the marketing in Southern California, for instance, on the Intelliflo Pump and the IntelliTouch Controls, we did well. I think that we can do more of that. That said, we've been scrambling the deal with the 22% downturn. So, I think if the mix is about what we thought it would be. The uptake in the replacement market is a little softer than we'd like in some of these newer technology, but we are within... we are within striking distances when we thought we'd be volume lines on the new products.

Okay. And just over line the joint venture, could you describe for us, I mean, you referred to the economics and a little about the scope of the joint venture, but how about on the product side in what markets specifically are you attacking jointly with this combination and where does the line on the joint venture end and where does the traditional some pump and paradigm that has residential exposure, where does that end?

Yes, actually, this is... let me just bound it for you. It's really one business, we're operating it as the vision of Pentair, we have a majority share owned by GE. But, we like that idea of keeping GE in a game because what they're bringing is the brand and they're bringing technologies, they're investing in some very good technology, residential isn't their focus, their market. So, they like the idea of getting a little bit up, check on some of their technologies they have developed. In particular, the technologies that they are bringing into this venture that we like, the home point or home springs, excuse me, the home spring whole-house ultrafiltration, which came from the Zenon acquisition and then the what's called [inaudible] RO system, which, we think both of those products have opportunities if they were more broadly distributed through the pro-channel, because it's a pro-channel kind of sale for most of those firms. So, we see real opportunity of that and we also see some other technologies that they are developing for the industrial and municipal space. They can triple down to the residential space. The scope of this is water conditioning valves, tanks, water filtration products, there are now some pumps there that none of our flow technologies business went into this venture. So, that's the scope around there. So, no well pumps and no well pumps. That set to the extent that we can leverage distribution like we've been trying to do and we've had some success of preferences with our industrial trust, between flow and filtration. I think we will do that, there certainly won't be any impediments to do that, though the cells were obviously can either get booked and flow technologies are in the residential filtration business.

So, do you know that that is an exclusive channel for residential in the market that Randy shared with you and it's a prepared supplier into the commercial, industrial side and each RDG and Pentair will continue to bring its own sales force to the industrial, commercial and municipal market.

Thank you.

Thank you.

Your next question comes from the line of Michael Schneider with Robert .W. Baird.

Good morning guys.

Good morning.

May be first, we could just focus on international water, curious when you look at the growth rates, by geography, international has been up about 10% according to the slide eight. And then the domestic business is municipal and commercial have been up about 12.5%, call it on on average. I'm curious why the domestic pump business is still not growing international given your lesser penetration overseas, its been a focused now for several years, Young pump that was growing strongly. Is there any particular constraint on the growth rate there?

Yes, we are going to refine that by the way, because its, I think there is still some export numbers getting booked in, and we're trying to separate them by vertical end market, but I think in particular in the pump arena where still lot of that product is getting booked as domestic even those going export for instance. Our...if you just take a look at our commercial pump business in North America, it grew up about 10%, we actually grew in the U.S. in flat market, commercial market we see as flat it actually grew mid-single digits, but it grew 50% exports. So, I don't think, we're probably don't have that split quite right yet, the reason ... Europe that's without the benefit of FX, those growth rate. And Europe, Western Europe has slowed to being single-digit kind of growth, so that drags it down. Asia continues to be the 30% kind of grower in China and India that we've been seeing and as I mentioned Middle East actually has grown over 60%. So, we are continuing to put efforts against that. So, I think when we have our Analyst Day, which is coming up, our Investors Day, we are going to refine these numbers more fully. So, I wouldn't say that there is much more than that, just find the difference.

Okay. And then could you just dig one level deeper and talk about Aurora and Fairbanks Morse domestically? Have you seen pressures on municipal budgets or project delays at all begin to unfold in those businesses?

Well, we've seen... I was talking about Aurora actually when I gave you those numbers before. It was over 5%, [inaudible] 5% and 8% growth in domestic commercial sales, although we think commercial construction was flat. So, we think some of our new products at variable speed and some of our other new products have actually helped us gain share in the US and as I mentioned, exports are way up. So... and that is Asia and that is Middle East where those exports are going. So, that's how we view Aurora. Aurora is really probably, I don't the exact number, but probably approaching 40% non-US now, which is outstanding. In the municipal side, if you take out the big New Orleans whale [ph] and look at year-over-year, our municipal backlog is up and our order rate has been really, really strong even excluding the additional efforts we've done outside. So, we haven't seen any slowing in municipal, not in our book of business.

Okay. And then in Technical Products, the growth rates on slide 10 show that you are expecting the growth [ph] from 16% to 9% first half to second half. It looks like... and at least we heard from your distributors there was another price increase that went out effective mid-year. Did you enjoy a pre-buy in Q2 that would have detracted from what's coming in Q3?

We've probably picked up a little of benefit, Mike, but not significant order rates. We are pretty good all through the quarter, strong all through the quarter. And frankly the first couple of weeks of July were pretty good too. So, my guess was we thought we might pick up a little, but... we probably did, but it's not... it's not really significant in my mind.

It would probably be a point or two, Mike. I think the one thing to remind you is that if you take a look at electronics last year, we had a difficult first half of 2007 and we began recovering in Q3 and Q4 of 2007. So, part of the year-over-year delta in the growth rate is a squeeze in the electronics contribution in second half of the year. Electrical, we are forecasting to be a little slower growth and we are anticipating that the price increase hold a couple of points as mentioned from Q3 into Q2.

And then similar question on margins. Is it... is it the case where pricing in the first half has actually outpaced or preceded your raw material inflation curve such that it looks like you are actually forecasting down margins in the second half, is that just raw materials now actually flowing through inventory in the income statement?

Well, we do think we'll see greater inflation in the second half, which is one of the pressures on margin. But the other big one, Mike, is we are assuming that electronics is going to play a bigger role in global and they have lower margins than North American electrical by a lot, as we've talked about before. We still haven't gotten electronics close to the 10% goal that I have for that business for those segments. So, I'd say it's probably as larger mix as the increased inflation in the second half.

Okay. Then John, just a nuance on the income statement regarding the GE joint venture, will there be a new line item there in the equity income being detected below the line going forward?

No. We already have that line right now for the paradigm, where we put the paradigm in the minority interest. So, we will put this through that same line. It's still exploring exact answers that Mike [ph], but that's our intent right now, and if you guys needed, I mean you could see the paradigm piece right now, and the delta will be with the GE pieces.

Yeah, okay and in my writings, it's going to run four plus million a quarter, is that sounds right ?

No, that's probably a little high, I mean right now if you are taking a look at a forecast number there... they are going have to observe about 20% of the DNA and 20% of the inventories step-ups and 20% of the integration as well. So it's more in the $2.5 million range for Q3 and Q4 and then it would ramp up to the number that you are referring to and the '09 in 2010 timeframe.

Got it. Thank you again.

Thank you, Mike.

Your next question comes from the line of Curtis Woodworth with JPMorgan.

Hi, good afternoon, guys.

Hi, Curtis.

In terms of the facility rationalization of the six plants you commented on, $0.40 of cost saving that associated with that, can you walk through the timing and when you expect all those facilities to be fully rationalize?

Sure. Let me start with the residential filtration business first. We announced the Rockford and Sheboygan plants yesterday, and those are the two large ones within resin filtration piece. Rockford, we would expect that we'd be able to get after that in about a year time frame. We are anticipating on the Sheboygan side that that's probably more than 18 month closure because of the certifications required due to the tanks in the water filtration that we are make in that particular plant. Sheboygan pieces the commercial and residential plants. So we are moving the commercial products to some of our locations locally and also overseas, as well as we move into China and Mexico on both Rockford and Sheboygan. So, call it 12 months for Rockford, about 18 months for Sheboygan. The France consolidation will be record over six months, a type of transition and the easier moves that Randy mentioned will also be within that six months time frame. There are pretty much least facilities closed to our locations, and we should be able to move the assets relatively quickly. The other large factory that we mentioned is our Cyprus, California, and that's in our industrial filtration business that probably posted the one year time frame for closure.

Okay. So, in terms of the $0.40, how much of that would be additive to the savings you identified with the GE joint venture?

I think we broke it out. Net charge is about $0.20 related to the JV and the rest related to non-JV [inaudible].

Okay. So that... that encompasses then kind of the aggregate of all these moves, the joint venture and...?

Yeah, we try to break them out [inaudible] to say, okay, $0.20 comes from the residential, but $0.16 comes from these factory and G&A structure moves and then the $0.04 comes from the bond.

Got it, I got. And then in terms of the outlook and back half of the year for the commercial and industrial segments, you are basically articulating the similar growth rate in the first half of up 10%, I guess for U.S. and Europe, can you walk us through, how that analysis was made, I mean it seems that from a conservative outlook on the global economy, the growth rates, you would think that there would may be a little bit lower or similar what you are seeing in technical products, I am just curious, what you are seeing, how your backlog is looking to give you the confidence in that number?

I mean, I think, we are pretty comfortable with the numbers we gave. I mean we have certain end markets like agricultural, certainly oil and gas, a lot of those markets are really doing well and continue to be robust. As to remind everybody, Porous Media is still a fantastic operation that we have acquired and they are benefiting from the energy and the [inaudible] as well and ahead of plan. So, we have some good tailwind in some of the end markets we're servicing. And other than what I would say... and food service continues to be stronger as well.

Yeah. Food service is a great story. I mean we are up double digits in food service, and I think by all rights and measure, I don't think the food service industry is growing right now. So, I think if the testaments are new products and our ability to gain market share, these numbers on the charts are sales, so for instance our commercial markets, we think commercial probably be down as the market, but we have new products both in water and in tech products, which we think will still allow us to grow in the single digit kind of category. Okay?

Okay. And one final question on the water margins, if you would have tried to normalize for the pool business, the incremental margins are very high there in 2Q for pool, could you give us a sense for how the water margins would have looked this quarter or said in another way, what was the margin hit from pool?

Well, it was the $7 million just from... well, if you took it all out, it will be more than $0.07 a share, and it will be more than that.

I would think of it as, our pool equipment business was roughly a 10% margin business. It is a easier math, I would just think a 30% conversion.... on the job.

If you go to page seven and you look at the lost sales, that's largely $30 million in the… and you take 30% that's $9 million and $9.642 million would have been a... we are actually been up year-over-year in margin.

I got. Okay. Great, thanks very much.

Thanks, Curt.

Your next question comes from the line of Christopher Glynn with Oppenheimer & Co. Christopher Glynn - Oppenheimer & Co: Thank you. Most of mine have been asked... hey, how are you?

Good. Christopher Glynn - Oppenheimer & Co: Most of mine have been asked, just on the price, I was thinking maybe inching that closer to two, maybe you are not getting some areas little tougher to get the price you may be anticipate a little earlier in the year?

No. I would say that in technical products, we came out of the gate, three technical products with the price increase early and as Mike mentioned we also went in within our Q2. I would candidly say I think our water businesses were a little bit more optimistic on the benefit of sourcing early in the year and by the time they got the price increases in, it was towards the tail end of Q2.

Because when they did, they did with expecting a little bit lighter inflation. So, and now we are adjusting, we will increase the price action to cover the impact of the raw materials. Christopher Glynn - Oppenheimer & Co: So more price in the second half?

Correct. Yes. Christopher Glynn - Oppenheimer & Co: Okay. And on the sourcing, what kind of start out there held it back?

I think, primarily the... there's two-fold. One is the impact of the raw materials and is not much any of us can do to control the inflation that's happening out there in certain core products, especially things like motors and that would be an area that we have lost ground on and then the second one is any time you are losing volume, you have less scale to go out and to negotiate from, and with the downturn in the volume in some of the water core markets, we are struggling a little bit with the commodity negotiations. Christopher Glynn - Oppenheimer & Co: Okay. So nothing in terms of feed on the Streeter exploring the opportunities in low cost regions or anything like that?

No. I assure you we're all over that and we will definitely, Randy, Mike, and I have all turned up to eat on that and... Christopher Glynn - Oppenheimer & Co: I agree.

The source index and we got to make faster progress here.

All right. I mean the resin, steel, motors, they are all higher so a lot of the productivity has to come with innovation to change one of the things, Mike [ph] was talking about changing the bronze in color to stainless steel, and that's a re-design we make, we have that product line, but it's a different sale for the customer. So it's just... it's a steeper help, but we got good ideas. Christopher Glynn - Oppenheimer & Co: Okay. And just one book keeping, the six facilities cited in the restructuring in the press release and the five through the GE JV, those are... there is overlap there, right?

I am sorry, say it again, Chris. Christopher Glynn - Oppenheimer & Co: Yeah. The restructuring announced in the press release showing six facilities and then in the slides five facilities related to the GE JV?

Five related to the residential filtration business plus the Cyprus, California plant is the sixth. And that's an industrial filtration. Christopher Glynn - Oppenheimer & Co: Okay. Great, Thanks a lot.

Thank you.

Chris [ph].This is Todd. We were comfortable in overtime. Just to want to check to see how many people are in the queue?

You have one more person.

All right. You go. Do that and close that.

And your next question comes from Francesca McCann with Stanford Financial.

Hi, [inaudible].

Hi, Francesca.

I'll be pretty quick here. Do you think you can walk us through any additional detail in terms of what actions you are going to take for pool?

Yeah, I will be specific and brief. I think the one area that we continue to explore is what we can do about Spa and Bath and our Spa and Bath business just like our pool equipment business is exposed to a difficult market, and we are exploring all options there from monetizing the athletes to taking a look at what we can do to more effectively run the business in its current operation. And we want to make the right economic position and our team is all over. We have a great leader who is driving the process and we continue to make progress.

What about actions related to pool non-Spa, I mean ...we've known for a long time that Spa business is not a very good business, so what about for the rest of the business?

Well. We have been aggressively taking cost out of the factories. We've maintained our investments in new product developments and actually we've increased our investment in the commercial pool area, which is actually not declined as we've seen growth in that, and it's not reading out because of the big downturn in residential. Structurally, the pool business, we owned that for ten years, this was the worst quarter in ten years, and for 8.5 of those years, the pool business was our fastest growing, most innovative, and frankly most attractive part of water. And the last 18 months has proven, it is not recession-proof, particularly after an 18-year party, but this business had in terms of growth. And, my view is as I said in the script, I think, I am expecting this business to be stronger coming out. I expect them to have a... maintain their leadership and the sales force that we have, maintain the leadership in the product innovation that we have, and to improve our share in some of the markets where we are weaker mostly in the North, which hasn't had this steeper decline as the South... in North America. So, I think we... it's the one thing I didn't mention is that the Pool has never read out as one of our great manufacturing operations. I really like to see them come out of it as being at least average.

Okay. And once we finally do so see some turnaround in the housing market, what kind of time delay do you anticipate with some uptick in... for you in pool?

My bet, and I've been through a downturn in the pool, so my bet would be as soon as the market comes back [inaudible] inventory and it could come back pretty fast. I don't anticipate that in the second half.

Right. But say another three or four quarters, you think that Pool sales would kind of be automatically correlated with an improvement in the housing market?

I think we are in from six to nine months or twelve month delay and I think housing market come back, that's been benefit our flow and filtration businesses quicker, the housing starts [inaudible] behind the new house or house within a year time frame, and we will see that lag slightly for Q4 of 2009, I think we will be the telling quarter for us and what would be the early buyers for the 2010 anticipation. And we will probably have indications of any inventory built prior to that. Will you add, Randy?

I would, but I will bet it's faster than that.

Okay. Yeah I just wanted your take on that, and then one other question, you're looking out longer term, kind of overall margin about a year, year and half ago, you had been talking about margin goal of 15%. I know that we will see more volatility coming up, but looking at adjusted margins for all of the restructuring efforts that you are putting in, where do you see kind of broken down between water and technical products margins being in near longer term?

I think as I said to you, Francesca, and said to many and all, I think our water business is a 20% plus margin business, I mean that's what our expectation is, and 15% as a point along the way, and I think the actions that we've laid out today clearly identify a pretty clear path to 15% plus, and as Randy mentioned earlier, technical products, which today is 16% has a significant amount of opportunity in global tech products, especially with electronics. So, I think both of these businesses will be high teens and heading to $0.20, that's kind of where we are hoping to drive them and that's our expectation.

And that's over the next two, three years or beyond?

Three to four.

Three to four. Okay. Alright I think that's it for me. Thank you.

Alright, thank you. Todd?

Yeah, okay Crystal [ph], thank you for helping us host the call and everyone thanks for participating on today's call. We will be around, if you have any questions, feel free to give us a call and also we hope to see everyone here in Minneapolis on September 9th and 10th for our annual investor and analyst day. Thank you.

This concludes today's conference call. You may now disconnect.