Stanley Black & Decker, Inc. (SWK) Q4 2007 Earnings Report, Transcript and Summary

Good morning. My name is Matthew and I will be your conference operator today. At this time, I would like to welcome everyone to The Stanley Works Fourth Quarter earnings Release Conference Call. All lines have been placed on mute to prevent any background noise. After the speakers' remarks, there will be a question-and-answer session. [Operator Instructions]. I would now like to introduce Gerry Gould, VP of Investor Relations. I will turn the call over to him at this time. Thank you. Mr. Gould, you may begin your conference.

Okay. Thank you, Matthew. Good morning, everybody. On the call this morning with me are John Lundgren, our Chairman and CEO; and Jim Loree, our Executive VP and CFO. We have two press releases out in that I refer to the 4Q update and initial ’08 guidance we issued on January 7, and then the fourth quarter results and ’08 guidance we issued this morning, both on our website. Also our PowerPoint presentation is on the website. We will refer to these charts as we go along. We have got PDF version out there about 20 minutes ago. John and Tim will review the results and then we will have a Q&A period following. The either call last about an hour. There will be replay available beginning at 1 PM today through the end of the day Saturday which is February 2. The replay number is 800-642-1687. You did need a code for the replay which is 30996508, and after it will remain on our site. You can call me with questions at 860-827-3833. And we just have two quick announcements, the first regarding Reg G. We issue an update our earnings guidance on an annual basis in our press release. At the beginning of the quarter, and we cannot comment upon and thereafter. If it changes materially, we would issue a press release and conduct a call. And secondly, certain statements contained in this discussion by the various Stanley participants are forward-looking statements. They are based on assumptions on future events that may not prove to be accurate; as such they involve risks and uncertainty. And actual results may differ materially from those expected or implied. So, we direct you to the cautionary statements in Form 8-K, which we filed with today's release and then our recent 34 Act filings. With that, I would like to turn the call over to John Lundgren.

Thanks, Gerry. Good morning everybody. What I am going to do is touch on some of the 2007 full year as well as fourth quarter highlights. Then turn it over to Jim Loree. Jim is going to go through some of our progress on cash flow, provide a little more detail, drill a littler deeper into the segments, and talk about some of our recent repurchase activity as well as 2008 guidance. The 2007, in general, and the fourth quarter, in particular, I think provides us some pretty good evidence on the merits of our ongoing portfolio diversification As you know that started arguably five years ago, certainly started to gain traction about four years ago, and it continues to reduce our volatility that enabled us to achieve sales earnings as well as cash flow growth due in part to a higher European and industrial and security content in the obvious lower dependence on the construction and DIY markets, which we have heard for the last six months are fairly weak in North America. Looking quickly, revenues $4.5 billion, up 12%, 26% increase in operating margin and Jim’s going to get into the drivers at that. 15% EPS growth, 25% growth in EBITDA, we are quite pleased with our cash flow, both from an operating cash flow perspective as well as free cash flow. All of these numbers on this page are in the release and in the appended financial statements. But to say the least we were far from disappointed, in fact we are quite pleased with these results in light of the market conditions, particularly North America where we compete throughout 2007. Looking at the fourth quarter financial results, good solid revenue growth and I am going to provide more details on it in the next slide. But revenue growth at 15%, earnings per share of a $1.04 in fourth quarter ’06 increasing to a $1.11, a 7% increase, 16% increase without the check… check win that I am going to touch on in a minute. Just as it relates to guidance we normally don’t spend a lot of time talking about how we performed versus guidance, but in October of ’07 we were out with a $1.10 to a $1.15. Given some of the… much of the uncertainty out in the market, we did provide updated guidance even though there was not a material change in our business which historically is not our custom, but we updated our guidance to a $1.06 to a $1.11 as Jerry suggested in early January. The $0.04 was simply reflection of $0.04 of settlements of some legal issues for which at the time we saw no offsets, and as you can see from the results we came in at the very top end of our revised guidance, or in fact right in the middle of our initial guidance. So, throughout the volatility, very little change really attesting to the strength at least in our view of where we are. Nice accretion in operating margin of 600 basis points in the quarter, the tax rate up to 21.3%, that was within our guidance range but that was about $0.09 worth of EPS headwind versus prior year. Our share count on average was about the same in the quarter, down 600,000 shares but as Jim will touch on later we did refer to just about a $100 million worth of stock in the fourth quarter, and another $100 million in the first quarter not included in this share count. So, earnings growth was consistent with our guidance that we provided in October, as well as updated in early January. Looking at a little more detail the fourth quarter revenues, again the 15% improvement, the sources of growth are pretty straight forward. Volume was 1% globally. Price was 1% for 2% organic growth and I’m going to talk a little bit more about that on the next slide. But in terms of the price that 1% gave us about 75% inflation recovery for the year. Where early on in the year in our calls, in our annual guidance which was $4 and that’s where we finished. We assumed about $60 million of commodities inflation. Our best estimate at the end of the year, we absorbed about $67 million, so it was a pretty accurate estimate. The difference between the $60 million and $67 million was the overwhelming majority of that difference was the elimination of value added tax rebate reductions from China… resulting increase. So, we had a pretty good handle on that at the beginning of the year, there were obviously some foots and calls but the good news is of the $67 million that we felt that we absorbed, pricing covered three quarters of it so more of our productivity could fall to the bottom line. And lead to our margin expansion. Currency added 5%, about 35% of our revenues are outside the U.S. the majority of that is in Europe and acquisitions added another 8%, the biggest single piece there was HSM. Looking real quickly at the segments you see construction, DIY flat on an organic basis, up 5% in total for the fourth quarter that’s primarily the inclusion of Besco Pneumatic, our strategic Taiwanese and Chinese tool manufacturer that we purchased mid year. Really strong performance in our industrial segments, both from an organic perspective, Jim’s going to provide more detail on that but both automotive repair, automotive and industrial tools as well as our engineered solutions businesses performed well, 15% in total the difference being primarily attributable to our InnerSpace acquisition. That’s industrial storage included from mid year on. Security, 1% organic in total as strong performance in the mechanical business offset some negative growth in the legacy of conversion security solutions business, and of course is that we are placing on the Stanley Fulfillment system which has taken place really over the last 12 months or so. We talked about it briefly on the March 8,analyst meeting. Second the winter inventory position that we have now comes at an excellent time given the uncertain economic outlook in the slowing world economy. Thirdly the improvements are based on process improvement and not some sort of a tactical or knee jerk reaction to bringing inventories down and they do not come at the expense of customer service levels which is very important. And then finally the extra cash that we generated from our fourth quarter working capital improvement totaled $86 million and that helped fund our ability to do another $100 million share re-purchase in the first few weeks of 2008. So moving on to the cash flow statement. As I discussed working capital clearly was one of the key catalysts in the fourth quarter, you can see the $86 million there. We were also aided by strong depreciation and amortization and strong net income. We had a total operating cash flow of $218 million and free cash flow of $186 million. On the right hand side for the total year, free cash flow was a record $457 million, the big story here in addition to working capital was depreciation and amortization and this is increasingly becoming a huge cash generator for us. All that intangible amortization that’s come from the four, five years of acquisitions now totals about $160 million a year that we add to the net income and then on top of that we had a good working capital improvement of $31 million given the sales growth that we experienced. And what you don’t see on the page here is about $60 million of cash out which would be in that other line related to severance and mostly from the Facom acquisition, a good portion of which is not likely to recur in ’08 and that should help our center prospective basis. All of that yielded a record free cash flow which exceeded our forecast of $400 million to $450 million which we introduced on March 8th back in New York and the $457 million gives us a good, solid platform to go into ’08 with. When you look at cash flow form a longer term perspective clearly the ’07 performance caps a string of really strong cash flow performances over the last ten years or so. And this performance has really been a result of the portfolio transformation that John talked about in recent years and interestingly of the transformation itself has both been an enabler of ongoing growth as well as a kind of a manifestation of that portfolio shift and so it’s a virtuous circle so to speak and as we look at ’08 our expectation is for $500 million plus of free cash flow and a continuation of this strong performance. And as I said it should be doable because we have a good, strong net income and lower restructuring and then the benefits of Stanley Fulfillment System should continue to appear in the cash flow statement. So, very, very strong position going into ’08 from a cash perspective. Just a brief comment or two on the portfolio shift, we have covered this before, but we have been able to achieve 16% average annual growth since ’02 growing the revenues from $2.6 billion to $4.5 billion. And the company is no longer dominated by the construction and DIY market. In fact the US portion is about 25% versus 50% just 5 years ago. And as John indicated this certainly is fortuitous for us in this weak United States construction DIY market environment. And what we have here is a company that also, their largest, our largest customer is only 8% of revenues today versus 22% a few years ago and our dependence on the US home centers and mass merchants is greatly reduced down to below 20% from about 40% in 2002. We have a larger, more depressed company and a stronger company to stand up to some of the pressures that we are encountering from an external perspective. And now we will go through the segments in a little more detail as John indicated. The construction in DIY segment had an okay performance from a revenue perspective and a good one when you consider the degree of difficulty in the environment. Segment profit was down 8% and our segment profit rate was down 190 basis points. Now, notably $3 million of the $5 million segment profit decline is associated with the legal matters that John discussed in the quarter. So that would be kind of a one off if you will. But clearly the US was adversely impacted by the residential construction market issues. In fact, the US construction DIY was down about 4% but the rest of the world was a great story. The sales were up 19%, continued to be strong in the wake of the strong third quarter performance and here we had some benefits from an ongoing wave of new product introductions in Europe, Canada, Australia, Latin America and Asia and outstanding execution in those areas and a little help from decent economic environments from most of those places. The segment profit rate as I mentioned in addition to the $3 million decline related to legal matters was also somewhat suppressed by unfavorable product mix within the consumer tools and storage business and therein we had a mix towards consumer storage both plastic and metal storage and you can imagine plastic and metal storage, the plastic being affected by the rise in prices related to oil and the metal being affected by the strong Canadian currency as we ship those products from Canada into the US. And there was also a currency benefit significant in this segment however, these… the constructions DIY business also had a significant inventory reduction. So, this is true for the total company but it is also true for the construction DIY segment, the benefits of the currency in the quarter were significant and the total for the company was $7 million and it was a couple of million for the CDIY segment, but the inventory is coming down from a P&L perspective basically offset that so, there’s really no significant impact from currency when you factor in the inventory reductions. Moving on to industrial, here we have a terrific story, revenues up 15% as John indicated, the segment profit up double that 31% with almost 200 basis point increase in the segment profit rate. When you break it down into the sub-segments if you will, the industrial and automotive repair tools part of it, which is your Facom Mac Proto piece, that was up 11% of which 5% was organic. Proto had a terrific quarter up 17% revenues without any acquisitions, there was some share gain, there was some customers buying ahead of price increases, price increase effective in January of 3% and there was also some good market strength as in particular the petrochemical demand continues playing into one of our strengths in Proto. And Facom although it was a little bit less in terms of organic growth than they encountered in the third quarter still had a strong organic performance netting out currency, they were up 2%. Engineered Solutions, terrific quarter, up 15% organic and up almost 30% with the acquisition of InnerSpace, we encountered double-digit growth in all three of the elements Industrial Storage, Assembly and Hydraulics. Each driven by good gains in product innovation as well as decent end markets. And then the segment profit range within Industrial increased as well and here we saw the result of what I would consider excellent execution in the area of price realization and productivity with price offsetting inflation and then productivity basically following through and in Stanley we have a very robust process for tracking inflation and making sure that the price increases are implemented on or about at the same pace and the idea here is to try to offset the inflation with pricing cuts, stay ahead of the curve as much as possible and we have very good market intelligence from our sourcing organizations about when those inflationary costs are coming through, how much they are and there would be sourcing people on the… Operations people work hand in hand with the marketing folks to make sure that they’re armed with the data to go to their customers in real time and implement price increases. It’s easier in industrial than it is in construction in DIY. That’s why our price inflation recovery is about 100%, slightly above industrial in the fourth quarter. Whereas it was much, much lower in construction DIY, say less than 50%. But still we have that process throughout the company and you can see the benefits clearly in industrial. Security also had a fantastic quarter, with revenues up 30 % on the strength of the HSM acquisition. Segment profit was up 44% and our profit rate was again up almost 200 basis points. Mechanical access really strong, 8% revenue growth despite the Home Depot hardware loss. Of that 8%, 4% was organic; the other 4% was smaller acquisitions. The hardware loss in Home Depot cost us $10 million of revenue in the quarter. As John said, if we had benefited from it, from a delay in the loss of that business during the previous quarters. It really hit us in the fourth quarter. We expected it. That was the good news. But it had a five-point impact on organic growth in mechanical and a couple of points on the total segment. Convergent, HSM performed very well. HSM had 11% organic growth performance; if you consider it, consider that on a pro forma basis as if we owned HSM in the fourth quarter of last year, even though we didn’t. So, they executed well. We continue to have the negative pressure from our business model change that is taking place in the U.S. systems integration business. But this is a very good thing because we're shedding unprofitable business and it cost us 50% negative organic growth in the legacy USSI business in the quarter. However, we have basically one or two more quarters to go anniversary out of that and the business we're taking on today is very profitable business. Much more similar to HSM’s business, with a nice recurring revenue content as well. The segment profit increase was also driven by price realization as well as the realization of the HSM synergies and good strong productivity projects within the mechanical access business. So, all of that goodness allowed us to because a little bit more active in terms of repurchasing shares. As you know in November and December of ’07 we repurchased 2 million. In May of ’07 we repurchased 1.7 million and with the depressed price levels in the early days of January of this year we repurchased another 2.2 million. So, in the last 12 months or so we've spent now $300 million on share repurchases at an average price of $51.70. With this most recent repurchase, the shares outstanding have dipped slightly below $80 million fully diluted shares. Our total debt at the end of the year was about $1.5 billion. If we take the $100 million that we spent on the share repurchases, probably now closer to $1.6 billion as we said here today. And at $47 a share or so, the company is trading for an enterprise value of about $5.3 billion with ‘07 EBITDA of about $694 million, that would be about 7.6 times trailing EBITDA. So, when you look at the value inherent that we see in the stock, hence the attractiveness or buying back shares at this time. And as we move now to 2008 guidance this is nothing new here, this is all reaffirmation of what we introduced in the early days of January, when we pre announced our fourth quarter as well as updated our ’08 guidance and as most folks on the call know, we are no longer providing quarterly guidance, we announced that over a year ago. And so this is the annual guidance for 2008 and the organic growth has been tempered to flat up 1% we are anticipating a very mild and short lived recession by definition and that would be in the US by definition, that would mean two quarters of negative GDP growth in the US. However, we do not expect it to go beyond that level of recession because the monetary and apparently the fiscal stimulus will be fairly strong coming into this year. So, hopefully this will be short lived and so that 0% to 1% growth would be consistent with how we performed in past recessions we’ve done some work looking at it, typically will be a flattish to maybe up or down a point during a recession and we might have two quarters of negative a couple quarters of negative growth during the year where that, organic growth, where that occurred. As far as other assumptions related to sales growth we’re looking for to do some acquisitions. We haven’t built anything in to the guidance obviously we’re looking for a share count of about 82 million shares which anticipates a nominal share creep and no new repurchase although we are not ruling repurchases out at this point in time. We have our free cash flow expectation of around $500 million. We have about $100 million-ish kind of a dividend and there’s $400 million to work with to keep within our ratings. Roughly to keep within our ratings profile we spent $100 million of it so there’s $300 million left to spend and we’ll be looking at acquisitions, we’ll be looking at share repurchases and we’ll make whatever informed judgments that we deem appropriate at the time. As far as inflation goes, we had a very consistent track record in ’07 of predicting inflation, we certainly anticipate that to continue into ’08. We're looking for about $75 million of inflation including currency EVRR [ph] all those sorts of things. We’ll get about 80% of that back and recovered in price we believe it this time. Similar to our ’07 performance we expect to generate another $70 million or so in productivity. Our SG&A would probably be a slightly increase in dollars versus ’07 and a slightly, very slightly increase perhaps in percent of sales, if that sales forecast comes to fruition as it will increase slightly faster than in all likely hood than the sales growth with it’s tempered sales outlook. And I mentioned free cash flow already and the tax rate we’re looking for a similar tax rate in ’08 that we experienced in ’07 and I think we are very well positioned for some. Earnings growth despite a very challenging market environment. With that I will turn it back over to Q&A. Matthew we are ready to take questions. Question and Answer

[Operator Instructions] Your first question comes from the line of Peter Lisnic with Robert W. Baird.

Pete?

Can you hear me?

Yes Pete we hear you now.

Ok sorry. Jim I was intrigued I guess by your comments on Facom with the growth slowing, looks like you have kind of a mid to high single-digit for the past couple of quarters and then down to two. Can you give us a sense as to what your expectations for the European economy might look like for ’08. The slowing growth of Facom is something that we ought to be incrementally concerned about or just kind of what’s your thought there?

I think the Facom growth was not a… earlier in the year was not a direct result of any economic boom over in Europe. Clearly there was one point higher of GDP growth than we typically had been experiencing in Europe over the last X number of years and Facom and GDP would be expected to track fairly closely. So, I think, the growth was more a function of the Facom folks joining a company that was willing to fund new product introductions and was a real tool company and there was some revenue synergies that we talked about that we didn’t anticipate in our financial forecast for Facom when we bought the company. And all those things were positive but the comps are getting tougher and yes I think the likelihood of the economy maintaining that slightly higher than historical GDP growth in the context of a US slowdown is not very high. And so we have tempered our growth outlook on a prospective basis for Facom. We are looking at probably something closer to flat to up a point or so for Facom as we go forward.

Okay great. Thanks on that one and then the follow-up question I guess. The working capital obviously was quite strong in the fourth quarter. I’m just wondering how sustainable is this working capital improvement through the fulfillment system and another way of asking the question might be you have a longer term target or there is something there that would encourage us to say, this is sustainable, this is where Stanley is going in terms of working cap?

Yes Pete, I am going to start and Jim will take it. We’d like to think it’s sustainable and we are not going to put a specific longer term target up there other than to say, the Stanley Fulfillment System is all about continuous improvement. We’ve been working, I don’t want to say quietly behind the scenes but working very hard, focusing each and every one of our business unit leaders on, among other things working capital efficiency and working capital improvement and as you are probably aware a meaningful piece of every P&L owner’s compensation is based on measurable improvement in working capital turns on an annual basis. At the corporate level we are measuring on cash flow and the business unit level it is on working capital turns. So, simply said it will be continuous improvement. We have been working on it a while, I think the fourth quarter we really began to gain some traction and saw the first tangible results of that. Jim you might want to add something.

Yes. I think that’s… its very consistent with what I would say as well. The only thing I would add is that inventories were the star of the show in the fourth quarter and will continue to put upward pressure on the working capital turns through our process improvements in from a Stanley Fulfillment System. What we would like to see in ’08 and beyond is a continuation of the inventory improvements… continuation of the payables improvements which have been now in place for about two years and then the beginning of some improvements in receivables as well and that would be something that we are working on very diligently and I believe that there is some opportunity there, receivables are $800 million, North of $800 million and clearly there is some process improvement opportunities there. Perhaps not as much as in inventories because they are dictated by terms and terms have to be negotiated in their economic tradeoffs that one makes but there is a lot of waste in receivables in any company that doesn’t have fully standardized processes and a process focus and Stanley’s history with all of acquisitions and everything and it certainly left some opportunities on the table so I think we will se a broader based working capital improvement as we go through ‘08 but we certainly won’t let up on inventories or payables.

Thank you very much.

Your next question comes from the line of Richard Radbourne Atlantic Equities.

Hello.

Hi Richard.

Yes. This is actually Joe Herick with Gutermine[ph] Research. A couple of questions. You guys talked about continuous improvements a while ago

What firm?

Hello.

What firm are you with?

Joe Herick with Gutermine [ph] Research. You guys talked earlier about continuous improvement initiatives. Regarding your operational initiative what are you guys doing regarding lean manufacturing, TPN to Six Sigma and how do you expect them to affect the bottom line?

The end your question was how to what about the bottom line?

How are you expecting looking at Lean manufacturing, Six Sigma within your operational plans and how do you expect them to--?

Listen, we’ve reviewed that at great length on previous calls. Lean, Six Sigma et cetera are tools, they are not processes within themselves that are going to contribute to improved working capital efficiency as well as margin accretion and we will take that offline to the extent we need to but we have got 19 people in the queue and don’t want to spend any more time on that on this particular call.

Your next question comes from the line of Ken Zener with Merrill Lynch.

Hi Ken. Good morning.

If you can update us on the status of Bostitch given that it’s such a large business and I know the margins, You guys had expected them to go up roughly100 basis points sequentially in ’07 and into ’08. Can you tell us where we were or refresh us at the beginning of ’06, end of ’07 and what your expectations are?

Yes. Basically I can’t, as we have said on several occasions. Bostitch was in terms of margin and performance, the business was shrinking due to a combination of market and us consciously shedding unprofitable business, up to 5% even arguably approaching 10% of revenues although some of that will get back. They will load mid single digit operating margins at the end… by the end of ‘06. What we said we would like to do is March from about four to 12 in the course of eight quarters, on average 100 basis points a quarter, I mean the state quarter spends a 100 basis points getting us to 12. What we also said is that we wouldn’t be perfectly linear. We can’t say by the end of the year without providing more detail than we intend to for all of ’07. They made a nice sequential improvement. Fourth quarter was a bit of a setback. That been said there were three things…two things going on that are really difficult to isolate. As you know we had a about$ 4 million… $3.7 million charge that hit above our P&L. That’s easy to isolate, unfavorable product liability litigation but it did show up in the Bostitch numbers. We had the preliminary implications of the anti-dumping legislation that in some cases increased costs, but the flip side of that gave the opportunity to improve prices. No telling where that will settle out in the short-term. But it was too upsetting factors for Bostitch. And then third. The business is 75% North American… in North American at least half of that residential construction related and that’s a tough business. So they got a lot of market headwind. Long answer to a simple question. We're happy with where we are in manufacturing restructuring. We have our Besco pneumatic that we purchased. We've very successfully closed our Chihuahua plant. Ramping up in Langfang we have world-class production on three continents. North America, Poland and China and we're still cautiously optimistic about the future of that business. But there are tremendous marketplace uncertainties that are tempering our optimism.

Yes. And I remind you there’s one additional clarification on the guidance I wanted to make relative to the anti-dumping decision that was made by the department of commerce. And that is that the inflation and the price information that I actually gave you, excludes the anti-dumping impact because it’s been, it has been happening in real time, happened last week, late last week, in terms of the decision and we haven’t had an opportunity to fully wet it although we believe that it’s going to be essentially a neutral to a slightly positive, very slightly positive for us for the year from a financial perspective. So, we're not excluding it because it’s a negative or anything like that. We're simply excluding it because we don’t have accurate numbers for the price inflation impact related to it and you can imagine it at a 30, 29 point something, 29.6% I think it is percent. Tariff and many of our nails that we import from China as well as all the other nails that are imported from China ranging anywhere from, in the low teens of percentage up to 110% and so our competitors are going to experience, in many cases the same type of impact if not worse and from a strategic perspective it really, I think, is a positive for us. A very big positive for the Bostitch business because it’s… this business has really had to compete in a very, very unfair environment over the last couple of years as the Chinese startups have been dumping these nails into our country and certainly the punitive tariffs that were put in place, especially the ones that are North of 30% are really going to change and they are going to level the playing field, we hope and on top of that we have the most diverse manufacturing base of nail manufacturing of all our competitors. With manufacturing in Eastern Europe, North America and China and we have the flexibility to move production around from place to place as the economics of producing the… cost economics of producing change so we actually hail the advent of this anti dumping issue. I think it is going to be kind of a real positive for the business on a go forward basis.

Give a follow up Kim?

I do I appreciate the expansion of that as well Jim. The consumer margins, just to focus on this, I think that’s where a lot of people do have this concern though, obviously your other 60 plus % of businesses are operating very well. The consumer business, you talked about the 190 basis points margin drop earlier related to U.S. mix and absence of price recovery. Can you talk about the mix A and B, why we see better pricing outside the US relative to the U.S.? Thank you very much.

Well, first of all we need to make sure that everyone the $68 million going to $63 million is a $5 million decrease in profit rate, of which 60% of which, is related to non recurring items. The legal matters, and I don’t know if that was entirely clear when I said it but make sure that we understand that. And so if we added the three back to the $63 million we’d be at $66 million divided by 459, am just doing math in real time here, We would be at 14.3 instead of 13.7 so we’d be a 130 basis points decline so that’s a piece of it. The mix issue itself, in the quarter it’s simply one of… we were doing some refreshing of some product lines in both ZAG and our consumer storage business, and it just so happens those are our lowest margin businesses in construction DIY, and unfortunately you know that’s just what happened. That would be a big piece of the remainder of the negative there, and we don’t see an inherent profitability issue in this segment, on a go forward basis especially with Bostitch recovering and with construction in DIY being so strong outside the country. Now there is pricing power outside the U.S. is actually a bit higher than it is in the U.S. although not dramatically higher and that results from the fact that we are planning in many fragmented markets… much more fragmented markets from a customer prospective outside of the U.S. whether it’s in Latin America, or Europe or Australia, whatever. That said there’s some very large customers that wield a very significant amount of power. There’s been a lot of talk about China inflation and so forth as well in our business and other businesses that were affected by China inflation and there’s a lot of people getting exercised about inflation from China and how that might negatively impact these types of businesses, in particular these segments and in fact we look and again it’s China inflation is more of a positive than a negative for us because the single largest competitive for Stanley Works is not another branded tool company, it’s private label in the aggregate. Private label in the aggregate buys 80% to a 100% of their product from China, and with prices going up the retailers are facing pricing… unprecedented price increases and pressure from China and that just simply is a positive for us, because on a comparable basis it means that we are more competitive with our non-China manufacturing and that we are on a level playing field from a China perspective.

Thank you.

Your next question comes from the line of Jim Lucas with Janney.

Two questions on the acquisition integration side please. First, could you bring us up to date, you talked a little bit about Facom’s end markets, but in terms of the overall European industrial strategy, both from a manufacturing standpoint as well as going to market of combining the Facom and Stanley brand? Can you just give us a quick update there and secondarily with regards to the convergence business… you had alluded to it in the opening remarks in terms of as the strategy there evolves but in terms of the older lower margin business that you have been purposely changing the portfolio from. How far long are we on that and just overall how do you feel about how that convergence strategy is coming together?

Yeah Jim, it’s John. I will take them both and Jim will add on if need be. First of all, in Europe in the integration, I think there’s two important integrations going on if you will, backroom and front room, the strength our customer facing. From the backroom perspective, if it doesn’t face the customer and end user, we are trying to do within one place, one way, we are making… at they were making great progress there including a seamless transition in leadership on the Facom side of the business. But, importantly we have no intention to combine the Stanley and Facom brands other than in emerging markets where we don’t have the structure and the scale to have if you will, a dedicated sales force. So, in markets where we are spread a little thin, you do have one individual reporting jointly to the Facom and Stanley side, but in general and you know this well, Facom Is an iconic brand for professional automotive repair and industrial tools. Stanley brand in Europe is overwhelmingly construction and DIY, and we intend to keep them that way. So, we are quite pleased with the integration in terms of cost synergies, the organizations are working better, very well together, better than in fact we had hoped for and all we can say on that one is now we are 24 months into it, so far so good and the two businesses are working well together. The other point that Jim made on Facom is I think an important one up to the first caller to Pete Lisnic’s question. The improvement in Facom revenues is a combination of great new product vitality which has always been the case but less attrition or cannibalization from the existing business and I think that is the strength of the combination. Real quickly to touch on conversion and security, Jim suggested we probably have two more quarters before some of… I will say the bad legacy business, primarily installation driven at low margins is going to filter through the system. In terms of the two organizations, again we are as pleased as we could be at this point with how well they are working together. I think everyone understands on the Stanley side, it was a little bit difficult to say, wait a minute we have just bought… excuse me… we have just bought HSM. We are doing a reverse integration but the margins speak for themselves, the business processes speak for themselves, the percent of recurring revenue speaks for themselves and I think by now they are starting to… they really are starting to behave as one team. We have got the majority of the office consolidation behind us, leadership is aligned and we are… on both those fronts we are certainly not complacent but we are on or ahead of schedule in terms of the integration and looking for some margin improvement on the legacy Stanley side going forward.

[Operator Instructions]. Your next question comes from the line of Eric Bosshard with Cleveland Research.

Two questions for you. First of all, the mechanical side you commented of the improved growth out of assets, it sounds like almost 10% excluding the hardware. What’s driving that and what’s the sustainability of that?

Well, there’s a number of factors driving it. And I would say they are more related to execution and… than anything else. And the first is, and I guess I mentioned last quarter, there is a real intangible benefit to having split the mechanical and the electronic businesses. I think in reality they are quite different businesses and the issues that one has to deal with in transforming an electronic business model are very distracting to someone who is trying to go out there to do business, that is trying to go out and gain share in the electronic, I mean in the mechanical business. That said, I think over the last few years we have assembled a very broad based product line that covers virtually all of the important elements of a full fledged mechanical product line. Why is this important? Because in the past we were losing bids in mechanical and losing business occasionally, when competition had products in certain areas, an example of the exit devices in closers and so forth and another example which we have yet to plug but we hope to someday, that will be hollow metal doors where they would underbid one element and overbid another element of the proposal to win the business where we couldn’t compete in the areas where we didn’t have the business. That’s virtually behind us, we have one remaining hole now which is hollow metal doors, as I mentioned. Another benefit to the mechanical business has been the tremendous strength of the Access technologies business, the automatic door business and that particular business basically put together a value proposition to the customer which is predicated on national footprint with 24x7 service and a service contract type of mentality where it is a service based business and they pull through a lot of mechanical product. Justin’s actually been talking about this for years and gradually and methodically putting together that service value proposition and that certainly paying off in spades, so and then the final thing is we have added specifiers. We have added specifiers in the mechanical business deal best Access Legacy business, if you will and the combination of all those factors have contributed to good solid building momentum in that particular business. To understand those re-structural factors is the reasonable the thing that you can see sustained better growth like we saw in the fourth quarter.

Well, I think the thing we have to be realistic about in mechanical is we are going to encounter some market headwinds and I don’t think they are going to be dramatic like they are in the residential side but take that small piece of security, it’s probably 30% of security roughly that is commercial construction related business. When you have a… I think we all expect to see some pull back in commercial construction, I don’t know how much, various people expect that in our case we expect to see some pullback but not o go negative like we saw in residential construction and I think that is, that is probably weigh down the Mechanical Access performance a bit lower than it has in the last couple of quarters, but that said that strong momentum that we have in the fundamentals there is going to help us continue to have a very good ’08, we would think even though we expect to see some market slowdown, all of that which has been built into the overall guidance for the Company.

And then a follow up, I think Bostitch, things are changing pretty rapidly right now in regards to the cost side of the equation but can you talk about the expectation of getting to this 12% margins over eight quarters is… should we be thinking about a different schedule at this point or do you do anything different to ensure that you do stay on schedule?

Yes. That’s really fair Eric. There’s enough uncertainty in the marketplace. Let me just say we are not thinking about it any differently. We think and the reason being… we think we have as much to gain as we do to lose with the pricing follow on to the anti-dumping legislation but it is going to take us three to six months to see for Denise [ph] to entertain to see where that settles out in the marketplace. In terms of everything we can do internally we think we have done it, it’s on track, it’s really good to see it. We are producing tools in both Taiwan and China. That’s very, very encouraging so one answer to that simple question is we are not backing off that and if something sculls in the marketplace or executionally that would allow us to do that we would be the first to raise our hands, but we are still looking at our… we are hoping and targeting a double digit run rate exiting 2008 for that business in terms of operating margin.

Your next question comes from the line of Sam Darkatsh with Raymond James

Good morning, gentlemen. How are you?

Hey Sam.

Hey Sam.

Couple of real quick questions here. Chimera’s structuring actions in ’08. What are your expectations there?

At the moment what we are looking at is something that is going to be, I think fairly similar to ’07, so that would be something in the mid teens. If the recession gets deeper, we could do more but if we do more, it will be, it should be relatively neutral to earnings because the benefits from those re-structuring would be reflected at least partially in the current year, ’08 P&L.

Got you. Second question, I think I heard you say share count assumption for ’08 would be 82 million shares, but right now with the action that we are taking earlier this month, it is actually under 80. Option creep is that much or I am confused as to why you wouldn’t just assume 80 or 81 share count.

Well, when the stock goes back up to 64, we will lose a couple of million shares or add a couple of million shares of the outstanding… that’s the game plan here is to execute, be rewarded by higher stock price and then we will go from there, so it is a bit of a tongue and cheek response but the Company is undervalued right now. Our expectation is the price will go up. That will create share creep and the last thing we want to do is have that impact our ability to deliver the earnings so that’s the reason for the guidance being constructed that way.

I’ll be sure to put that on my mind. A last quick question John, this is for you. Because you go through Europe, looking at it broadly from 30,000 foot on a consumer industrial combined basis where you’re seeing changes in growth rates on a country by country basis. I mean, if France is were your biggest exposure is but are you starting to see things weaken or are there… is it looking to be pretty steady and stable at this point?

No. l… we’re… Jim, this is John. Jim and I are obviously in daily contact with all the key regional leaders, even country by country you’re absolutely right. France and the UK provide the overwhelming majority of our business, we’ve seen no softening on the industrial or consumer side at this stage. Germany is booming which is an opportunity for us, we don’t have a lot of business in Germany, but it’s… growth from a low base and I can’t under emphasize the extent to which the opportunity to grow and I’ll call them emerging former central European markets. It’s filling in a lot of holes. Remember we’ve got good production in Poland, we’ve got teams on the ground there and that’s still in a lot of the… what we call it former Western European gap or potential softness. So, we’re cautiously optimistic on the European outlook and maybe for the first time in my career, Europe for a variety of reasons, this is going to follow the U.S. one way or another, at least you’ve read as much about that as we have. So, simple answer to this question is we are all over in terms of staying current. We’re not building much of a slump into our assumption.

Your next question comes from the line of Nicole Delabase [ph] with Deutsche Bank.

I’m asking questions on behalf of Nigel Coe today. How are you?

Good Nicole.

Quick question for you on FatMax. Where are you guys on the roll out both in the U.S. and international.

FatMax is… I don’t want to say yesterday’s news. But, that at this stage is one step behind what we call FatMax’s Xtreme in the U.S. and XL in Europe and simply said, Nicole, where we’ve said we’ve been and we will continue. We are two thirds of the way through a previously announced sequential roll out. That’s roughly two waves of new product introductions per year in the spring and fall which is the best selling seasons for relatively low priced consumer hand tools. And we have had tremendous success in terms of the shipments of those products, in two areas the POFs for the retail takeaway for the XL and for the extreme is up mid single to low double digit rates with less FatMax cannibalization than we’ve seen in the past. So, looking forward what you can expect is until we say something differently, or get further ahead of ourselves in terms of announcements. Another two ways in 2008, the only difference being we’ll do it simultaneously in the U.S. and Europe, historically we’ve trailed in Europe, but we think we have our supply chain to the point now where we can do them simultaneously, and we are looking for another $20 million, $30 million of growth from those new product introductions and the question will be, can we keep the cannibalization of the base FatMax line as well as it’s been so, the overwhelming majority of that becomes incremental.

Your next question comes from the line of Michael Rehaut with JP Morgan.

Hi, thanks good morning.

Morning Mike.

First question, just on CDIY. Can you just break out what was the rest of the world excluding FX?

Yes. 5% less than… you want the quarter or the year?

Quarter please.

19%.

So that was, okay that was excluding the benefits. And also what was the benefit on the margin line from currency?

Probably 100 basis points, but I don’t have it at the top of my head, we actually… we think it would be a pro rata percentage, but I don’t have that number out of the top of my head. Jim might be able to give you better estimate.

The 19% is half currency and half organic growth just to clarify.

Okay.

And I missed the second part of your question because I was busy researching…

No actually I think that was my fault. I think you did say previously, it was a one to two million currency benefit.

Right.

The second question just on ’08. You had mentioned that you are expecting a kind of a decent backdrop. It’s a little bit in contrast to some economists that are looking for a little bit of a slow down and in the housing markets in the extent that certainly, you are a lot less exposed to the housing markets but particularly driven by housing market down 5% on average in terms of completions across a lot of G-7 type nation. So, is your outlook or your game plan in Europe, mostly end-market tied or do you also have kind of new product share gain initiatives that would bolster your confidence of Europe?

Well based on performance in the U.S. it down turned to 20% set us down 5%. We operate the same business model in Europe. On the CDIY side is that you said to… It’s in response to Nicole’s question. We've got two more waves of excel coming in Europe. They’ve been extraordinarily successful. So, we think the fact that our new product vitality on the consumer side. That’s what’s allowing us to gain share in a down market because of very high percentage thus far. 60 to 80 of its been incremental. Not a lot of cannibalization from the base business and Jim made a very important point earlier. Why we were far from bullish, Mike, but while we're cautiously optimistic. Despite the weakness of the dollar. The strengthening of the… of our if you will the Chinese currency relative to the dollar, relative to Europe. It’s going to have a big impact. Private Label’s a big piece in Europe. Whether it’s generic or Private Label with an European home center. The cost of those products are going to go up dramatically. We're the market… we're number one or two in the market in every product category where we compete and with a lot of experience and a variety of branded products, in situations like this the market leader is quite often the one who gains as SKU’s are rationalized et cetera. We have this, I think, a chance to gain as much as we have to lose. That’s what provides, if you will a floor to our believe that despite some market headwind we think we can, we can grow a little bit and maintain our margins even in the European market.

And just one last question. You kind of highlighted your ability to recover some of the cost inflation this year pretty effectively at least on the industrial side. A little bit more competitive on the CDIY side. I was wondering if you could give us your outlook for ’08 and that as well what’s big then--?

Sure.

And in terms of incremental raw material cost inflation and if you're… given that, it would likely to be up. Have you already started to be concerned in certain pricing initiatives in your different businesses?

The answer is yes. Jeff touched on it. I’m going to turn it over to him. But we're looking at slightly more raw materials inflation and about the same percentage of recovery in the same place. But I think, Jeff can give you a little more granularity on that. I think, it’s important that you have it looking out at our guidance. Because we’ll update it if it changes.

Yes. I mean the numbers.

Those are the numbers and of the 75 or so that I mentioned when we did the guidance page.

About 50 or so is actually materials. A lot of those materials are sourced from China so we're having the currency impact. We're having the EDRR impact. We're having the wage inflation impact. And we have pretty good visibility too. We have a centralized sourcing operation, which has very good, which has written contracts with these big suppliers et cetera and we kind of know where we are. We have a lot of our contracts have been finalized for ’08 and no, we have some freight inflations and wage inflation and some energy inflation on top of that and that accounts for the 75.

Your next question comes from the line of Seth Weber with Banc of America.

Hey, good morning.

Good morning, Seth.

Back on the security business, on the last call you guys talked about, I think, adding somewhere between or targeting 3 to 6 new cities for the HSM business and that kind of contributing to pretty robust organic growth rates. Is that still the case and can you talk about whether the competitive… the pricing environment in that business has changed here with the economic outlook?

Yes and no. We still continue… we are targeting between 3 and 6 or roughly one a quarter cities to add, as we get confident we can have the scale to run a profitable operation. The no, is that is not the primary contributor to the HSM growth. I’d say with 70 field offices these are going to be much, much smaller offices. The primary contributor to our growth is continuing to execute the reverse integration that Jim described in quite a bit of detail and continue the trend to increase the percentage of recurring revenue i.e. the service piece of the business that comes along with the installation. Executing the of say the HSM model where its unlikely if not inconceivable, that we would do an installation without the monitoring and/or service contract that came with it. That’s what’s the driver of the organic growth.

Okay. And any change to the pricing environment in that business and can you also just, going back to the Home Depot situation, should we expect another quarterly differential in this quarter and when will that kind of stop?

Lets take them one at a time. The Home Depot situation which relates to the hardware business is in mechanical and that is roughly a $40 million impact in total and a $30 million impact in ’08 and it will anniversary after the third quarter is complete so the fourth quarter will have completely anniversaried that issue. And you can expect it to be, hardware is a vending machine business so in theory so, it’s pretty evenly spread throughout the first three quarters. And you want do the other part of the question Eric? And just repeat the other part of your question.

The second part. Oh, Seth won't be able to.

OK.

I think, it was the pricing, I’m sorry, it was the pricing environment on the…

On HSI?

And quite frankly no is the simple answer. It’s a service business, it’s a very small part of an operator’s cost and the cost of failure is so high compared to the cost of doing it right. And I think by maintaining the current reputation we have as the premier service provider in the industry it’s obviously a competitive business but we do not see tremendous competitive pricing pressure particularly on the service side of that business.

You’re last question comes from Robert Wertheimer with Morgan Stanley.

I’ll try to be brief. On CDIY just wanted to ask about margins by geography stripping out Bostitch. Is there any material in other words are margins higher or lower overseas versus the US?

No. In lots of businesses they are but in ours margins are quite similar and we anticipate seeing the same going forward. The team works hard to keep it that way. We manage it as a global business from a product development and a pricing prospective so that in itself is part of the reason but the simple answer to your question is no. They’re very consistent.

Thank you very much. And the second question, I’m just curious whether the economic uncertainty has an impact on your acquisition strategy? You have a lot of cash to deploy, especially I guess you’re taking a slightly more positive view on Europe. And does that uncertainty reduce or change your appetite for acquisitions? New ones.

Go ahead Gerry.

Yes, well we look at this both tactically and strategically. And strategically there’s no difference whatsoever. Our strategy remains as we presented it on March 8, and supplemented it in discussions and various conference calls afterwards. From a tactical prospective there’s always a trade off that one has to make in our positions when looking at buying oneself versus spending the next $100 million to buy an acquisition. And as I said we’re trading at 7.6 times EBITDA and that’s a fairly compelling evaluation on a historical basis, on an intrinsic basis, on almost any basis you can derive. So, we’re not saying that we’re out of the acquisition hunt because we’re not, but yet when we look at the shares trading and the levels they have been trading it’s really difficult to get really excited about spending nine or ten times EBITDA doing all the work to take out the cost and everything to get it so that your buying it at basically seven to eight times EBITDA when you can buy yourself at really, with buying exactly, knowing exactly what your buying. So we’ll see. This year we could, we may not do any major acquisitions. We may focus purely on share buybacks, but, if a really compelling acquisition were to come around and we contracted the two, it looked like it was a smart move and it was strategically consistent then we would definitely go in that direction. So we’re keeping our options open, we’re staying flexible and we’ll see where we go.

There are no further questions at this time. I would now like to turn the call back over to John for any closing remarks.

Thanks Matthew. Two things. Just very briefly. We read over but we wanted to get virtually everybody in the queue. One point I just wanted to make. Numerous companies on calls earlier this, last weekend earlier this week, have had imposters calling in and I’ve abruptly dismissed the second caller which was not Richard Radbourne from Atlantic Securities. We know Richard well, he follows the company. And we simply removed his line because he signed on for someone he wasn’t. So, for anybody who thought that somebody was dismissed rather abruptly he was and in the future if they like to sign on as to who they are we’ll get then in the queue and if we don’t get to it during the Q&A Jerry is available always as he is. So, I just wanted to make that clarification. Second just a couple milestones before I close. Jim talked about the terrific performance of our industrial group. In general the Engineered Solutions in particular. We had our first shipments of our System 100 RFID enabled industrial storage unit. Really, really strategic, important product. And we're very exited about it in terms of our entrance into the healthcare segment. From the hydraulic side, good market strength, the business continues to grow. This business is almost twice as big as it was three or four years ago. And after a lot of joint development effort, our assembly technology’s business has received its first orders from Toyota Motors. And as you know a lot of those decisions are initially made in Japan before they cascade to the US. So we’re real pleased with some of those, I will say, small but strategically important milestones within our industrial storage business. Thanks for your interest on a call that we extended just so we could try to address everyone’s concerns. And we’ll talk to you next quarter.

Thank you. This concludes today’s Stanley Works conference call. You may now disconnect.