Global X U.S. Cash Flow Kings 100 ETF
Q4 2016 Earnings Call Transcript

Published: 8 Feb 2017

[Operator:]

Good morning, ladies and gentlemen, and welcome to the SPX FLOW Fourth Quarter Earnings Conference Call. At this time, all participants are in a listen-only mode. Later we will have a question-and-answer session and instructions will be given at that time. [Operator Instructions] As a reminder this conference call is being recorded. I would now like to turn the call over to your host for today's conference, Mr. Ryan Taylor, Vice President of Investor Relations. Sir, you may begin.

[Ryan Taylor:]

Thanks Brigette and good morning everyone. Thank you for joining us. With me on the call this morning are Marc Michael, our President and CEO and Jeremy Smeltser, our Chief Financial Officer. Our Q4 and full-year 2016 earnings release was issued this morning and can be found on our website at spxflow.com. We also provided our 2017 guidance which we will discuss in greater detail this morning. This call is also being webcast with a presentation located on the Investor Relations section of our Web site. I encourage you to follow along with the presentation during our prepared remarks. A replay of this webcast will also be available later today on our Web site. As a reminder, portions of this presentation and comments are forward-looking and subject to Safe Harbor provisions. Please also note the risk factors in the most recent SEC filings. In the appendix of today's presentation, we have provided reconciliations for all non-GAAP and adjusted financial measures presented. The appendix also includes 2016 revenues split by product and market and geography on both consolidated basis and by segment. And with that, I’ll turn the call over to Marc.

[Marc Michael:]

Thanks, Ryan. Good morning, everyone. Thanks for joining us on the call. This morning I'll provide an overview of our 2016 performance and update on our realignment program in order trends by end market, then Jeremy will take you through the details of our fourth quarter results and 2017 guidance. I'll begin with a brief review of 2016. 2016 marked our first full year as a standalone company following our spin off from SPX Corporation in late 2015. As an independent company one of our primary objectives has been transitioning from a portfolio managed organization to a streamlined operating enterprise. At the outset of 2016 we outlined a plan to realign and simplify our business through structural changes which allow us to operate more efficiently, reduce our cost structure and streamline our global functions. As part of this plan we are also making strategic investments to expand our capabilities in higher growth regions and to improve our competitive position. Our ultimate goal is to create a more customer centric service oriented organization that delivers greater value to our customers, investors and employees. We made great progress towards this goal in 2016 despite challenging end markets and foreign currency headwinds. I am really proud of our teams across the enterprise with their hard work and relentless effort to aggressively execute our realignment program. As a result, we established a strong foundation for the future and are better positioned to efficiently serve our customers and grow our business. While much of the focus in our realignment program is on improving our cost structure, we've also deployed capital in what we believe are high return, strategic investments that will enable us to expand our market presence and customer reach. In Poland, Korea and India we've expanded our manufacturing capabilities to improve our competitive position and reduce lead times. In the Middle East we opened two service centers in Abu Dhabi and Saudi Arabia enabling us greater access to provide support to customers operating our large installed base of energy pumps in that region. And we plan to open two additional service centers this year, one in Iraq and one in the U.S. In China we opened an innovation center to support our Food & and Beverage customers across Asia Pacific as this region continues to demonstrate strong consumer growth in dairy products. During 2016 we also took significant actions to secure capital structure refinancing $600 million of senior notes and expanding the leverage ratio in our credit facility. We've also taken steps to more closely align incentive compensation to performance across all levels by adding EBITDA and ROIC targets to certain incentive plans beginning in 2017. As a result of all the progress we made last year we entered 2017 with a significantly reduced cost structure, more flexible footprint and streamlined functional support. Looking at the details of our realignment program, given the strong effort from her teams across the enterprise we were able to accelerate several actions last year. By doing so we achieved $60 million of savings within the year versus our initial guidance of $40 million. For this year we are targeting incremental savings of $55 million with an additional $15 million next year bringing our total annualized savings to $140 million or approximately 7% of revenue. This represents a $30 increase over our original savings target of $110 million. Two thirds of the savings are structural in nature and we completed the most difficult structural changes last year. With those steps behind us we continue to work diligently to complete the remaining actions in a timely manner so that we can dedicate more resources to growing our business. We expect the realignment program to be substantially complete by the second half of this year and in 2018 we expect to see the full benefit of this critical program in our financial and operational performance. A key element of our realignment program is repositioning our footprint to be closer to our customers, improve our operational efficiency and reduce lead times. To that point we have consolidated four manufacturing sites and plan to begin two more consolidations in the first half of the year. In conjunction with these consolidations we've made investments in other locations to enable us to better leverage our global footprint. One of our most critical investments was to expand our manufacturing in Bydgoszcz, Poland where we opened a new 300,000 square-foot facility in Q1 of 2016. I'm pleased to say that we have now successfully completed the transfer of production for sanitary valves, marginizers [ph] and heat exchangers from Germany and Denmark into Poland. I'm proud of our teams who contributed to the success of execution of this initiative beginning with the team at Bydgoszcz we received strong support from our functional teams. We have close collaboration between product management and the Bydgoszcz operational team we are now quoting market best lead times on several key food and beverage files [ph]. With the first two plant transitions in Poland complete we have begun to process the transfer of manufacturing operations marine and agricultural pumps from Sweden to Bydgoszcz. I am very pleased with our progress in Poland thus far and look forward to continued success as we move into the next step of this transition. In Korea and India we've made small investments to expand our existing manufacturing presence and localized production of select high-value product lines within our power and energy and industrial segments. When complete we expect to be in a better position to serve customers across the Asia-Pacific region. Overall, our global footprint provides the flexibility to produce in the regions we sell which not only benefits our ability to respond to customers, but also mitigates economic risk from policy changes and currency fluctuations. Moving on to orders, to provide greater visibility for investors we plan to include orders as part of our quarterly reporting going forward. Given the short cycle nature many of our product lines and aftermarket services we view quarterly orders as the key leading indicator for our future revenue and profit. Here you can see our consolidated orders by quarter for 2016 with orders greater than $15 million broken out to more clearly show the trends in our run rate business. In 2016 we booked just over $1.9 billion of orders. Only three orders were greater than $15 million reflecting the cyclical downturn in our key end markets and the low level of capital investments by our customers, particularly in oil and dairy markets. On a positive note, in Q4 run rate orders grew 3% sequentially driven by an uptick in Power & Energy aftermarket activity and an increase in components installed small system orders in our Food & Beverage business. And this year is off to a promising start with January orders up modestly versus the prior year. Based on what we've seen in Q4 and at the outset of 2017 it appears that orders bottomed in Q3 2016 and were seeing early signs of recovery in our key end markets. Looking at the order trends by segment beginning with Food & Beverage. Food & Beverage orders were $714 million in 2016 with organic orders down 5% year-over-year and a 2% impact from currency. The organic decline was due primarily to lower level of large system orders as the global surplus of skimmed and whole milk powders delayed customer investments for new capacity. Exiting 2016 we are encouraged by the sequential stability with Q4 orders up 2% on an organic basis. In our 2017 guidance we have assumed order trends consistent in the second half of last year and we're not counting on large orders. That said, leading market indicators have been improving over the past several months with prices of milk and milk powders up sharply off trough levels, dairy production being curtailed in certain regions and import activity to China increasing. And our front log of systems opportunities remained strong with new projects concentrated in fresh liquid dairy, nondairy alternatives and nutritional beverages. In Power & Energy we booked $510 million of orders in 2016 down 25% versus the prior year. Currency was a 4% impact. On an organic basis orders declined 21% or $146 million. The organic decline was primarily due to sharp downturn in the North American pipeline valve market as well as a very low level of activity in OE pumps used in offshore upstream applications. We also saw a lower level of aftermarket spending last year as customers tightened their budgets to conserve cash. Although we're not counting on a quick recovery in our oil related businesses, we do think recent stability in oil prices and new political influences could lead to incremental opportunities going forward. Excluding the $18 million nuclear order run rate orders were up 20% Q3 to Q4 driven by an uptick in OE pump orders and aftermarket activity. And at the outset of 2017 we've seen a nice pickup in orders and quoting activity for pipeline valves. These are very encouraging signs that lead us to believe Q3 2016 represents the trough order period for this segment. In our Industrial segment we booked $696 million of orders last year, down 8% versus the prior year. Excluding currency, orders were down 6%. The organic decline was broad-based with the biggest declines in our hydraulic tools and dehydration product lines. In contrast the year-over-year decline quarterly orders were relatively stable in 2016. This is our shortest cycle segment and has historically been highly correlated to macroeconomic indicators. As such we are encouraged by the recent positive trends in PMI in industrial manufacturing data. That said, we haven’t assumed any market recovery for this segment in our 2017 guidance. Taking a brief look at our guidance, our 2017 guidance assumes run rate orders consistent with the second half of 2016 and we have not factored any new large orders to our revenue targets. Based on these assumptions, we expect revenue to be down 5% to 9% versus the prior year primarily due to the lower opening backlog position in currency headwind of $65 million or 3%. Despite lower revenue we are targeting adjusted EBITDA to grow 10% to approximately $20 million and adjusted EPS to increase 35%. We are targeting approximately 180 points of margin expansion driven primarily by the $55 million cost savings, lower transitions cost, onsite consolidations and improved project execution. Adjusted free cash flow is expected to be about $140 million or 110% conversion of cash net income. Based on our midpoint guidance, we are targeting net leverage to be down to about 3.4 times by year end. Overall, across our three segments we are cautiously optimistic they were in the very early stages of recovery. That said, we are planning prudently for 2017 and 2018. As such improvement in run rate orders or large orders will represent incremental upside to our 2017 guidance and 2018 framework. With that, I'll turn the call over to Jeremy.

[Jeremy Smeltser:]

Thanks Marc. Good morning everyone. I'll begin with our fourth quarter results. We reported earnings of $0.16 per share. This includes special charges of $0.27 related to our realignment program. In conjunction with our annual impairment testing we recorded non-cash impairment charges of $0.26 per share. The impairments are associated with the Bran+Luebbe trade name in our Power & Energy segment and to a lesser extent a technology investment in our Food & Beverage segment. These charges were partially offset by a $0.23 net tax benefit related to a handful of discrete and other tax items including a $0.07 benefit from a reduction in the corporate tax rate at Bran. Excluding these items, adjusted EPS was $0.46. Looking at our Q4 results as compared to our guidance, currency movements within the quarter had a notable impact on our results, primarily the strengthening of the US dollar versus the British pound and euro. Revenue was $495 million which includes a currency translation impact of $17 million as compared to our guidance. Segment income was $55 million at the low end of our guidance range due to a $2.4 million currency impact and modestly higher project costs in our Food & Beverage segment. Corporate expense and special charges were in line with our expectations. We accrued just over $15 million of special charges in the period the majority related to actions being executed in the first half of this year. Adjusted earnings per share of $0.46 included a $0.04 headwind for currency during the quarter. And adjusted free cash flow was $32 million lower than we anticipated due primarily to the timing of milestone payments from certain projects and to a lesser extent the impact of currency in the quarter. Now comparing Q4 versus the prior year revenue was down $170 million or 19% year-over-year. Currency had 3% or $19 million impact. Organic revenue declined 16% reflecting reduced capital and operational spending by our customers across all three segments. Segment income declined $15 million to $55 million. On a year-over-year basis decremental margins in Q4 were only 13% underscoring the benefits from our realignment program. Now on a sequential basis segment margins improved 90 points to 11.2% marking our highest margin performance in 2016. Moving on to the segment results, beginning with Food & Beverage revenue was $183 million down 17% versus the prior year. Currency was a modest headwind. Organic revenue was down 16% due primarily to lower revenue from large system projects. Segment income was $26 million or 10% of revenue. As compared to last year profitability was lower due to the organic revenue decline and elevated project costs the majority of which related to one large project. As compared to our guidance model this was about a $2 million headwind in the quarter. In Our Power & Energy segment revenue was $130 million down 33% or $64 million versus the prior year. Currency had a 6% impact. Organic revenue declined 27% or $52 million due primarily to a lower volume of OE pump sales into upstream and downstream oil applications as well as lower sales of valves into the North American pipeline market. To a lesser extent aftermarket sales were down year-over-year. Segment income was $7.7 million or 5.9% of revenue. The decline in profitability was primarily attributable to the lower revenue offset partially by savings from restructuring actions. And for our Industrial segment Q4 revenue was $183 million down 8% versus the prior year. Currency had a 2% impact. Organic revenue declined 6% due to lower sales of dehydration equipment and hydraulic tools. These declines were due to constraints on customer budgets from both OE and MRO spending in the oil and gas markets and to a lesser extent in mining markets. Segment income was $30 million up $4 million versus the prior year and margins increased 330 points to 16.1%. The improved profitability underscores the impact of our realignment program and the cost saving we are achieving. Looking at backlog at year-end our backlog was $784 million down 14% year-over-year and 9% sequentially. Currency movements within Q4 reduced the backlog by about $40 million. Entering 2017 our opening backlog is $123 million lower than it was a year ago and we expect about 85% of the backlog to ship this year. Given the lower opening backlog our assumptions for short cycle orders remained consistent in the second half of last year. We expect revenue to decline 5% to 9% in total. Currency is expected to be a 3% headwind based on December 31, exchange rates and organic revenue is expected to be down 2% to 6%. Despite the revenue declines we are targeting a 10% increase in segment income with margins improving about 150 points to approximately 12%. The increase in profitability is expected to be driven by a realignment savings and to a lesser extent lower transition costs on facility moves and improved project execution. Looking at our 2017 targets by segment for Food & Beverage we are targeting just under $700 million of revenue down about 5% year-over-year primarily due to currency. Margins are expected to improve sharply this year driven by restructuring savings, forward transition costs and reduced level of large project activity. For Power & Energy we are targeting about $500 million of revenue down about 11% year-over-year. Currency is 4% headwind and organic revenue is expected to decline in the mid to high single digits. Margins are expected to improve to about 7% primarily driven by restructuring savings and a higher concentration of aftermarket revenues. And for Industrial we are targeting about $675 million of revenue down about 4% year-over-year. Currency is a 2.5% headwind and we modeling a modest organic revenue decline. We are targeting industrial margins to be between 14% and 15% with restructuring savings and lower transition costs offsetting the volume declines. On a consolidated basis we are targeting $1.825 billion to $1.9 billion of revenue and approximately $220 million of segment income. Corporate expense is expected to decline about 3% versus the prior year to about $56 million. Interest expense is expected to be flat year-over-year as reduced interest on our bonds is offset by increased interest on our credit facility due to a higher LIBOR rate and a modest increase in our pricing grid following the recent limit to our credit facility. We plan to record $40 million of special charges this year as we complete our realignment program. This is down from $80 million in 2016. On an adjusted basis excluding special charges our EPS guidance range is $1.60 to $1.90 per share. This assumes a 30% tax rate and 42 million shares outstanding. We plan to generate approximately $140 million of free cash flow. This assumes a working capital benefit of about $15 million and $30 million of CapEx. And we are targeting adjusted EBITDA to be between $210 million and $230 million. For the first quarter we are targeting revenue to be between $420 million and $440 million just over 70% of the revenue target within the year in backlog. However, as compared to last year our Q1 shippable backlog is down by about $75 million with the majority of the decline in our Power & Energy backlog. As we get into the subsequent quarters our backlog coverage is more comparable to the prior year period. On a year-over-year basis, currency is expected to be a 4% headwind of the topline. Organic revenue is expected to decline 10% to 13% and we are targeting $28 million to $35 million of segment income in the first quarter. This assumes a modest loss in our Power & and Energy segment where we expect to have absorption challenges from some of our larger facilities. We are addressing these challenges through restructuring actions. In Q1 we expect to record $8 million to $10 million of special charges. From an EPS perspective we expect a loss of $0.12 to $0.22 in the first quarter on a GAAP basis. Excluding special charges EPS is expected to be around breakeven and we are targeting adjusted EBITDA to be between $25 million and $32 million. Looking at our financial position we ended the year with just over $1.1 billion of total debt and $215 million of cash on hand the majority of which was outside the U.S. The strengthening of the dollar in the quarter reduced our year-end cash balance by $22 million or 10%. This also had an adverse impact on net leverage which was 4.1 times at year end. During the quarter we amended our credit facility to provide a period of covenant relief through December 31, 2018. The net leverage covenant is now at 4.75 times with step down periods over the next two years. The amendment includes a modest increase in the pricing grid during the covenant relief periods. It also provide us the option to terminate the covenant relief period when our net leverage is less than or equal to 3.25 times. The midpoint of our 2017 guidance implies exiting this year with net leverage of approximately 3.4 times. We are very pleased with the ongoing support of our lenders. The amended credit facility provides us flexibility to continue executing our – and invest in the organic growth initiatives. This chart is a snapshot of our debt structure; we don’t have any material requiring debt payments until 2020 and our maturities have staggered providing us flexibility as we go forward. In summary we are in a stable financial position with adequate liquidity. We are focused on reducing net leverage through a combination of EBITDA growth and cash generation. Over the next two years we are targeting double-digit EBITDA growth driven by our realignment savings and we expect to be well positioned to deliver strong incremental margins as our end markets recover. That concludes my prepared remarks. At this time I’ll turn the call back over to Marc.

[Marc Michael:]

Thanks Jeremy. In summary, I’m proud of our teams across the enterprise for their dedication during this cyclical downturn and I’m pleased with the progress we've made on our realignment program. We expect the realignment to be substantially complete by the second half of 2017 and I’m confident we will achieve our target savings of $140 million including incremental savings of $70 million over the next two years. On the order front I’m encouraged by the sequential uptick in Q4 orders and the continued momentum into January. Although we did not assume order growth in our 2017 guidance, I’m cautiously optimistic that we are in the early stages of recovery across our end markets. And we are well positioned to support our customers across all three broad end markets with strong product brands that have been among the leading technology providers within their respective markets for many decades. Building off our 2017 guidance, we’ve updated our 2018 framework. The revised framework assumes 2018 revenue as flat to up 3% on consistent run rate orders and execution of our backlog. An increase in run rate orders and any large orders would represent upside to this framework. Based on these relatively conservative order and revenue assumptions, we believe we can achieve double-digit EBITDA growth and generate about $150 million of free cash flow in 2018 by executing our realignment program and focusing on operational improvement. Additionally, we are launching several new products in 2017 and investing in opportunities to drive by a higher level of aftermarket penetration and grow our high value product lines. Overall, I’m excited about the opportunities in front of us to unlock our potential, execute at a higher level and expand our market presence. We are committed to creating value for shareholders and we continue to work towards creating a better future for all our stakeholders. That concludes our prepared remarks. I appreciate you joining us on the call this morning. At this time we will be happy to take your questions.

[Operator:]

[Operator Instructions] Our first question comes from Shannon O’Callaghan with UBS. Your line is open.

[Shannon O’Callaghan:]

Good morning guys.

[Marc Michael:]

Good morning Shannon.

[Jeremy Smeltser:]

Good morning Shannon.

[Shannon O’Callaghan:]

Hey Marc, in terms of the sequential pickup and the order improvement in Power & Energy how much visibility do you have into things that were - that you saw that had been deferred that are now coming forward, specific projects or things versus just kind of a broader pickup in aftermarket spending may be deferred maintenance and things like that? I mean how much visibility do you have at the things that you knew might come back at some point versus just a broader loosening?

[Marc Michael:]

Yes, well we saw sequentially Shannon, the uptick was in upstream and downstream pumps as well as some in our Copes valves and Power and then the aftermarket bounce. So if you think about those OE orders, there is some visibility to those orders and timing was a big question throughout 2016, but these were again more, they were smaller orders in nature. So visibility is there for those OE orders and they did come through which was good to see. It was really nice to see the aftermarket bounce and it was really driven in our spares part of our business. So, seeing those spares pull through, those are not always quite as predictable, that part was nice to see in the quarter and we’re looking at the investments we're making in 2017 to continue to help that part of our business since it is the higher margin part.

[Shannon O’Callaghan:]

Okay, great thanks. And then you mentioned some absorption I was just kind of curious how is the plant productivity ramping in the Poland plant and some of the other plants that you've been making investments in?

[Marc Michael:]

Yes, in productivity in Poland is going really well. As we mentioned the transitions have been made. We're up to schedule on our valves. We're up to schedule on our heat exchangers and making progress on the homogenizers which we transferred in at the end of the year. So productivity there is really progressing nicely and we saw that throughout the second half of the year and especially in Q4. In the P&E sides with the slower order intake for the OE part of the business that's where we've been taking steps and actions to offset some of the under visualization that we have been seeing and we’ll continue to look at that and balance that out with the order front log as it develops and we will be taking some steps as we move through 2017 to make sure that stays in sync.

[Shannon O’Callaghan:]

Okay, great. Thanks guys.

[Operator:]

And our next question is from Mike Halloran with Robert W. Baird. Your line is open.

[Mike Halloran:]

Hey, good morning guys.

[Marc Michael:]

Good morning Mike.

[Jeremy Smeltser:]

Good morning Mike.

[Mike Halloran:]

So, we've talk a little bit about the cadence as you guys think through the year here and obviously breakeven in the first quarter here, how does the ramp through the year that you are assuming the guidance compared to normal? And then also may be give some context on how some of the phasing works from either some of the onetime things starting to roll off, project over runs and look at the cost whatever as well as the phasing in of the benefits from all the restructuring actions you are doing?

[Jeremy Smeltser:]

Sure, Mike. Yes the ramp is a little bit more steep I would say starting low in Q1, but I suspect that that the rest of the year will be relatively consistent on the quarterly basis based on forecasting with current order run rates and that’s really driven by as I mentioned earlier the timing of the backlogs that we had as we started the year. The timing of the shipments in that backlog and so as I look at the phasing in the backlog over the quarters it lines up really well with how we’ve guided Q1 versus the rest of the year. We do have some specific orders that start to ship in Q2 that make us comfortable with that ramp from Q1 to Q2 and then the rest of the year typically weighs out relatively consistent with the progression in margins as the year goes on. So, on the revenue front I think it makes a lot of sense. On the profitability front to your point on the project over runs in Food & Beverage the one large project that we’ve and challenged by over the last couple of quarters is expected to get to mechanical completion in probably the beginning or middle of the second quarter. So, we front loaded our margin expectations being lower in the first few months of the year based on that project essentially being at a breakeven point now form a margin perspective compared to the revenue that we'll be recognizing. Second, as a reminder this is a pretty massive drying plant, multiple plants in fact that it is being build onsite it is essentially a large construction project. So, it’s been in construction for quite a long period of time now and we do see it nearing the end though I have mentioned we had a couple million dollars of incremental cost over runs in the fourth quarter.

[Mike Halloran:]

That makes sense and then on the Power & Energy side you talked about some restructuring actions, may be just holistic view of how you are thinking about the segment strategically right now? Obviously you are starting to see some signs of life, that’s good. Are there any pieces in that portfolio you are yet to do more significant restructuring work, what kinds of things are being envisioned at this point and how much of that is assumed in what your outlook looks like from a framework perspective for 2018 guidance this year and things like that?

[Jeremy Smeltser:]

Yes, sure. So breaking it down between in the different areas and the big challenge 2016 especially as we move through the second half was our ROE pump order business for upstream and downstream and upstream especially and we’ve taken steps there throughout last year to restructure that part of the business. And as we get into 2017 we’ll continue to watch how orders develop there, but a lot of steps taken last year in that part of the business. In our pipeline business throughout last year we expected projects to come in and they didn't develop and so we’re looking at some steps there in that part of our business and making sure that we've got again the right balance of the expected order intake with the cost structure. And then overall I would say in other parts of our power business, the nuclear business we saw some good orders come in for our nuclear pumps last year, so relatively good spot there. And then our Copes products and conventional power with the likelihood we are going to really hit a spot there. So as we look at the P&E segment overall, lot of steps taken, a few more we will need to take to make sure we've got the right cost structure there. And we'll look at the facilities as well as some other parts of the operations just to make sure that we've got right balance of the current run rate of the business versus cost structure.

[Mike Halloran:]

Thanks guys. I appreciate the time.

[Jeremy Smeltser:]

Sure. Thank you, Mike.

[Operator:]

And our next question is from Nathan Jones with Stifel. Your line is open.

[Nathan Jones:]

Good morning Marc, Jeremy, Ryan.

[Marc Michael:]

Hi Nathan.

[Jeremy Smeltser:]

Hi Nathan.

[Ryan Taylor:]

Hi Nathan.

[Nathan Jones:]

I'd just like to start with the guidance and the way you’ve approached that. I mean it sounds like you're looking at 2H run rates staying the same throughout 2017 that you’re talking about seeing an improvement in short cycle orders you’re seeing an improvement in the leading indicators for that. I would think that is some North American pipeline opportunities that are likely to come your way this year. Is it fair to say that you’re taking about as conservative a view as possible to the market conditions that are baked into your guidance?

[Jeremy Smeltser:]

I think you can only do work in conservatives Nathan as you look what’s happened to the manufacturing environment over the last couple of years, but I would point out that the experience that Marc talked about in Q4 was some improvement in select areas that is reflected in the order rate that we forecasted for the year, but I do feel like this is a very balanced plan that we have here. There are some potential midstream opportunities out there. We’ve all been monitoring them. Some of those are very close I would say to being booked and so couple of them as I mentioned earlier are essentially assumed in our ramp in Q1 to Q2. So there is a little bit of benefit there, so I wouldn’t call it the most conservative in the world, but I'd call it very balanced from my perspective.

[Marc Michael:]

I just add too. As we look at the how we range things to going in the upper end I mean the pickup in the short cycle business outside of just the value business it could help us and we’re taking that into consideration that’s our DI business our mix of business, some of our heat exchanger and pump business. So, we will be watching that closely, but we feel again as Jeremy indicated we’ve looked at the various groupings of the product lines and taken a very balanced approach across all the different products.

[Nathan Jones:]

Okay and then on the cost side of runs that hit 3Q results and hit the 4Q guidance and it looks like there is a another step up again. I think you said it has gone from a mid single digit to a breakeven project now. It looks like you took some very aggressive timing on that, that you weren’t able to make. Are there any other projects in the backlog with a similar kind of profile which could create any elevated execution risk to your guidance in 2017 and if there are how have you factored that into guidance?

[Marc Michael:]

I’ll say some first comments and Jeremy wants to add some. This project first of all let me say we are working very closely with the customers. The customer relationships are every good. The suppliers that we have working on the project are working to - finished with the project is as Jeremy had indicated we believe will be early in the second quarter, but by the end for sure the second quarter will have mechanical completion done. So, overall we’re working really well with the customer to get through some of the challenges they have been seeing on the project. This is somewhat unique project I would say and there are no other projects like this in the backlog. It's again a drying project and if we get past this beginning of the Q2, mid Q2 timeframe and mechanical completion is done we’ll have majority of the work behind us.

[Nathan Jones:]

Okay and then just one more from a longer term perspective, it's my view that it takes that, probably significantly more than two years to transform from a holding company to an operating company and I would imagine with 2017 being the end of the first round that there are more projects and more things that you guys are considering and looking at and working on to be tackled in 2018 and 2019, if that’s correct when will you guys begin to talk about that and give us an idea of what’s next in this transformation?

[Marc Michael:]

Yes, we made a great progress and there is still to your points some lifting to be done and when we started as we mentioned at the beginning of 2016 we were viewing this as a three-year journey. So we’re in kind of the third inning and continuing to progress. As we go through this year we'll always be looking forward to how to continue to optimize all aspects of our operations and our functional support groups and most importantly, focusing on the markets where we can see growth being closer to our customers, we're introducing some new products this year. I mentioned the service centres we’ve opened. We’re expanding selectively in some of our facilities in Asia Pacific. So, we’ll continue to focus on the future and the big part of the heavy lifting of the restructuring realignment we expect to be done with this year and really turn our attention even more so towards growing the business and so we hope to be in a much better spot as we exit the year in terms of flexibility.

[Nathan Jones:]

Okay, thanks very much for the help.

[Marc Michael:]

Sure.

[Jeremy Smeltser:]

Thanks, Nathan.

[Operator:]

And our next question is from Ryan Cassil with Seaport Global. Your line is open.

[Ryan Cassil:]

Good morning.

[Marc Michael:]

Hi, Ryan.

[Ryan Cassil:]

In the Food & Beverages side there are specifically very, Marc this is a business you are quite familiar with, can you provide some color on what you guys were seeing in the fourth quarter specific to may be fresh versus powder and then may be touch on how you think 2017 might shape up from an order standpoint based on the moves we have seen in dairy commodities over the last couple of months?

[Marc Michael:]

Yes, sure. So let me just may be recap versus sequential moves we saw Q3 to Q4 and we saw some of this really in the whole second half of the year in terms of our small executed [ph] business and these medium sized orders in the systems business. We’re steady in the second half and so that’s always encouraging because those are nice orders for us again that are pretty clean to execute and that was really a good run rate based business for us. Components were up sequentially in pumps and valves. The larger equipment was steady also good to see and overall our aftermarket business some choppiness in our spares, but holistically I would say we're in a pretty spot in terms of the sequential improvement. When we look at what was going on in the market, pretty big bounce off the bottom for dairy prices in whole milk powder, skimmed milk powders as we exited the year which is always encouraging to see, imports increasing in China, lower output in certain large milk producing countries, so it starts to build towards what we would hope to see some opportunities starting to develop in 2017. When I look at the mix of the front log, it was a bit of a mixed shift into few more dry projects and again we typically look at more the high value dry projects, more in the whey protein areas, for example versus the commodity ones. So that was, it is encouraging to see that. We believe we have technology associated with great whey proteins that provide a good value proposition for our customers. So, all that being said that front log for systems has been very steady. The larger projects again as we indicated we're still not depending on those or counting on those and they would represent opportunity for us as we see those coming to the backlog in 2017. But again encouraging to see the bounce off the bottom in the powder pricing which should help the customers to feel a little more comfortable with capital deployment as we move through the next 12 to 18 months.

[Ryan Cassil:]

Okay and I know there is, we have been hearing that intervention in places like the EU. Do you feel like this commodity price is expandable or you perhaps that that we see it retrench a little bit, what do you hear on that front?

[Marc Michael:]

Yes, so far the interventions have subsided and we see import increases into some of the major countries that do importing like China and I think most importantly some of the downturn in production in the major milk producing countries it should bode for if we look forward that you get some stability off these low levels.

[Ryan Cassil:]

Okay, great and then on the realignment and you mentioned things are progressing with Poland could you just refresh me on the Germany and Denmark facilities, are we out of those facilities yet or what is sort of the status there?

[Marc Michael:]

Yes, we are substantially out of those facilities. We've been ramping up our closure those facilities here in January so for the most part we’re out of those facilities.

[Ryan Cassil:]

Okay and then lastly from me, you touched on it on an earlier question, this is about the cadence of the business during the quarter, but historically free cash generation has been backend loaded. Is that in line with your prior comments, is that bigger back end loaded this year than in period years any color you give there will be great?

[Marc Michael:]

Yes, I don’t expect it to be a larger backend load in 2017 and then in prior years, no.

[Ryan Cassil:]

Okay, great. Thanks guys.

[Marc Michael:]

Thanks Ryan.

[Operator:]

Our next question is from Nigel Coe with Morgan Stanley. Your line is open.

[Nigel Coe:]

Thanks. Good morning gents.

[Marc Michael:]

Good morning Nigel.

[Nigel Coe:]

So Marc, you touched on the front log activity in Food & Beverage specifically, I just wanted, I'm just trying to gauge how conservative the second half from the on the short cycle orders, small orders is, but the guidance, so I mean just to broaden that discussion on front log and bidding activity to the Power & Energy and Industrial development?

[Marc Michael:]

Yes, so Power & Energy we are encouraged that there is - we’re seeing some pickup in the valve part of the business and I would specifically call that out and that’s the M&J value from again North American pipeline. So, that’s an encouraging sign on that OE part of the business. In Industrial we haven’t seen any significant upturns in terms of larger project there which again would be more in the $10 million range. There are some things on the horizon that have kind of been there that we’ve been following, that we would hope to start to develop, and again in both cases we’re haven’t really embedded a significant upturns in that part of our business. Although the front log is active and we would hope to see some real developments start to happening as we move through the year.

[Nigel Coe:]

Okay and the second half run rate go forward and specifically this was a change in your planned process, I would assume that normally you’ve taken into account, the way that the orders trended, views of management, order activity and I’m thinking that you normal events or accounts in developing your bottoms up plan for the following year?

[Jeremy Smeltser:]

Yes, that’s right Nigel and it is a big change and it really, it goes to Marc’s comments throughout the year on the move to go more streamline operating company a different philosophy. We expected to be more accurately the better decision making and we do expect it to lead to more accurate guidance on a yearly and a quarterly basis. And I think as I reflect back on Q4, as we made the change at the beginning of Q4, Q4 is a good example of that where if we had not had the currency headwind that developed during Q4, we essentially would have been right at the midpoint of our guidance and that’s what we really want to see in such that market conditions and commercial initiatives that lead to increased order rates well right through to our projections as we move forward.

[Nigel Coe:]

Okay great and then just one more from me. The 140 of cost reduction you talked about the proof in our structural [indiscernible] take out and obviously a portion of it was a bit more board independence, your 2018 plan it seems no revenue recovery in 2018 to 2017, but the full 140 of cost. So I’m just wondering if we do get shockingly a 5% or so revenue increase is that enough to start feathering back in some costs, I mean at what point and what timeframe do you see that kind of more variable costs came back in?

[Marc Michael:]

Yes, I mean I think of the base where we are at right now Nigel it would really be dependent on the exact product lines where we saw improvements because I really think, the real risk right now would be just adding back direct which is always a good thing just monitoring direct label versus overtime and whatever plants we see an improvement in the – run rates I think, we’ve had to go after incremental savings, one we have had the opportunity to see that we haven’t increased our special charge target that’s because we have been more efficient in some of the actions that we had previously done. And two with the volumes down as compared to when we started our initial program in Poland and we’re not experiencing at these volumes levels the initial total savings that we expected in Poland. We're achieving the savings from a productivity and a labor rate perspective, but the volumes are running through the plant the way they were three years ago and so that would be upside as well of those orders happened to come back into Poland. And so, from my perspective as I sit here and look across the manufacturing locations and product lines I feel like we’re going to leverage very well so whenever that welcome 5% popped outcome.

[Nigel Coe:]

Okay, that’s fair color, thanks a lot.

[Marc Michael:]

Thanks Nigel.

[Operator:]

Next question is Julian Mitchell with Credit Suisse. Your line is open.

[Julian Mitchell:]

Hi, good morning.

[Marc Michael:]

Hey, good morning Julian.

[Julian Mitchell:]

Good morning. I just had a general question, I guess on pricing trends that you are seeing right now, is there any update as pricing sort of framing out may be as order volumes start to bottom. And then related to that perhaps the Industrial segment margin guide, you are not assuming much of an increase in 2017 in the margins for the Industrial segment. It did though have a good increase in Q4 despite a revenue decline. So, I just wondered if there was something on the mix or specific product or pricing issue in 2017 that may be mute to the impact of the cost savings coming through in Industrial.

[Jeremy Smeltser:]

On the last question I’ll answer that first because I think as quick as the Q4 in Industrial we did have a good mix for us particularly with the current low level of revenue and the popped margins. And we've seen that a couple of times in the past you see that a couple of times in the past and Industrial is and we've had a couple of good projects o – had a couple good projects run through, so that’s really the reason as Q4 was higher than we would expect certainly the first half of 2017 to be.

[Julian Mitchell:]

Then on pricing throughout 2016 we saw pretty good stability of pricing in the aftermarket business OE did have some pressure especially in the oil and gas part of the business but I wouldn’t say that we saw, substantial changes moving through Q4 one way or the other.

[Jeremy Smeltser:]

Yes, I think it’s relatively consistent from what I have seen across all of the contract approvals that we see coming through the next 90 days.

[Julian Mitchell:]

Great, thank you and then my follow up would just be maybe I brought the question around the short of that the market shares in the overall ability to compete of the company. If you looked back say pre the downturn things like Power & Energy didn’t grow sales in 2013 and 2014, even when the oil price was very high. Since then you've had an extremely sfor the extremely severe downturn massive cost cutting. So I just wondered how you felt about the ability of the company to sustain market share if and when the recovery does come.

[Jeremy Smeltser:]

I think I'll on the first part and I'll let Marc finish. Just as a reminder if you recall in 2013 and 2013 in particular in the order book in Power & Energy which will lend to 2013 and 2014 revenue for Power & Energy we were taking a very different approach to the market than the previous owners ClydeUnion are order rates came down dramatically, but as you will recall, there were a lot of projects in the backlog we inherited it we're loss making and/or breakeven. And so that really masked I think what was happing on our CTO business in Clyde and so you really have to take that into account as it relates to the performance of the business through that part of the cycle?

[Marc Michael:]

Yes, market share going forward, I think we’re positioned well to be responsive in the market still, I mean the holistically again if you step back from the investments that we're making in Poland to be more flexible increase capacity there and that helps out our Industrial and our Food & Beverage business, the things that we're doing in Korea and India to support Asia Pacific, that's more targeted our industrial and P&E business and the adjustments we’ve made in the facilities that are seeing the downturn as Jeremy indicated we’ve kept a core group of intellectual property holders in the business obviously to be able to support customers still and it will be more about responded to direct labouring [ph].

[Julian Mitchell:]

Great, thank you.

[Marc Michael:]

Sure.

[Operator:]

Our next question is from John Walsh with Vertical Research. Your line is open.

[John Walsh:]

Hi, good morning.

[Marc Michael:]

Hey John.

[Jeremy Smeltser:]

Good morning John.

[John Walsh:]

So, just thinking about the tax rate, just wondering if you have any high level thoughts around potential for corporate tax reform in the U.S. and then whether or not you are a net import or net export position?

[Marc Michael:]

Sure, we definitely are net exporter materially so, which from a broader adjustment tax perspective that’s probably a positive. I would say that I don’t think it’s real risk to us, but going you’re able to easily to see your direct supply chain, but your second Tier and third Tier supply chain, if you had to analyze to that level would be a lot of work, still I don’t think we would get anywhere close to being even and I think we're substantially that exporter. The corporate tax rate reduction is obviously a benefit particularly in the U.S. Historically, we’ve been able to minimalize our U.S. taxable income because all of our interest expenses has been here in the U.S, as well as the majority of our corporate expense and so the BB in the details that, we’ll probably take according to six to eight months to work out. So, a disallowance of net interest expense would be something that we would have to address through some structural change, but certainly one that we can address, but that would be an issue for us. Everything else that we’re seeing is a net positive frankly and I think ultimately in my mind I focus more on the impact it has on our customers mindset to investing that I think that will have a larger impact to our overall profitability?

[Jeremy Smeltser:]

And I will just add as we mentioned in the prepared remarks one of our goals is to be closer to our customers and be able to support their needs in shorter lead times, the right cost structuring, We are pretty much across the globe. We were producing products primarily and selling them into regions where they are produced which again helps us in terms of any mitigating any potential issues with any policies.

[John Walsh:]

Got you, thanks for that color and then just thinking about the Q1 margin, you obviously called out direct fully some of the impacts, but enough there, if you want to put a finer point on any of them, I mean Power & energy, low single digit are modestly above zero last year and just trying to understand the cadence in Food & Beverage I think it kind of implies we hit the mid teens in the back half obviously gave us a lot already, but you obviously will know if you have a finer point on any of the Q1 segment guys.

[Jeremy Smeltser:]

Yes, everyone is not going to give specific on each segment by quarter, but as we said earlier we do expect to be in modest net loss position in Power & Energy and that’s really what’s driving the overall margin down and that’s really about a low watermark of revenue and our expectations for P&E in Q1.

[John Walsh:]

Great, thank you.

[Jeremy Smeltser:]

Thanks John.

[Marc Michael:]

Thank you, John.

[Operator:]

And our next question is from Robert Barry with Susquehanna. Your line is open.

[Robert Barry:]

Hey guys, good morning.

[Marc Michael:]

Good morning Robert.

[Robert Barry:]

Thanks for taking the question and thanks for the orders data, it's very helpful. Just a couple of things actually I wanted to clarify something on these orders. You are talking about assuming the trends are consistent with second half, does that mean you are assuming the kind of absolute dollar amounts of orders is the same so we will see kind of year-over-year decline in the first half and then flat orders in the second half or…?

[Marc Michael:]

Yes, that – mathematically adjusted for currency.

[Robert Barry:]

Yes, okay good. And then I think you mentioned in the prepared remarks that a lot of boost for the structural work was now behind you on the restructuring. I mean, if you look across the manufacturing footprint, what percent of output or however you’d measure it would you say have a lead time where do you feel they need to be at this point?

[Marc Michael:]

Yes, I mean we monitor lead times as one of our key metrics and most importantly to customer on-time delivery associated with our commitments and something what is a continuous improvement area for us and we're always working on and it's a metric that David Kowalski and the GMO are putting plans in place. And so I mentioned lead times again for example in Poland where we've moved valves in the first half of last year we are at market leading lead times on some of those product lines now. And so we holistically look at every or individually look at every plan, every product line and work on improvements to our on-time delivery and the lead times associated with them. So important metric for us and we're able to continue to improve as we move forward we are confident we that we will continue to improve as we move forward.

[Jeremy Smeltser:]

I would add, I think the lead time challenge is that we see which aren’t all that substantial frankly across the portfolio today. I typically come where we haven’t localized a product or a demand in a certain region think about growth in developing economies where we might still be – or have co-manufacturing and engineering in Europe or the U.S. and those lead times above particularly shipping across water that's the real challenge for us. And so the investments that we do make I've mentioned earlier organic growth initiatives, many of those are just continued localizations of our manufacturing and engineering around the world.

[Marc Michael:]

Yes, that's a great point, Jeremy and just add on to that, again the investments we've made in Poland, that we're making in India, in Korea, is to get the products closer to our customers where we expect to see grow either through the just the market momentum or the ability to respond better. And so we have identified a number of product lines that we're going to take advantage of these new manufacturing locations and we're going to be moving them into Poland, into Korea and into India during the course of this year.

[Robert Barry:]

Okay, maybe just lastly from me it is a little bit more of a followup to one of your question about the outlook in upstream within Power & Energy I know I think about a quarter is upstream and maybe a significant amount is offshore. I think many have kind of multiyear outlook for when that end market kind of is being offshore might recover. I'm curious what you are kind of baking into the plan and whether just strategically at this point the decision is to just wait that out and whether any new capital needs to be continued there or while you kind of wait that out or just how are thinking about that part of the business?

[Marc Michael:]

Yes, I would, the upstream offshore is fairly and obviously the most capital-intensive for our customer base. And it is the first to go when it lags coming back we expect to see the onshore business come back most rapidly. You know, the thing to consider about our upstream offshore business in the OE part of our business it's really reached a very low point and even though overall our upstream businesses are positioned in the information we've provided a percentage that also includes how we service that business, support the service and aftermarket rolls into that. But the OE upstream business is at a low level and we've accounted for that in how we look at the second half orders is accounted for how we're looking at 2017. We've taken into consideration and how we continue to reshape the business. So, we've reached a point where we've really troughed in the OE part of that business. The important piece that it's the upstream offshore and that large installed base is our service business and our aftermarket spares and that's where we continue to make investment as I mentioned, we opened the two new facilities in Abu Dhabi and Saudi Arabia last year. We have one in the US and one in Iraq planned for this year. So we're continuing to invest there and we want to grow that part of the business. I think that's also an important takeaway.

[Robert Barry:]

Great, thank you.

[Marc Michael:]

Thanks Robert.

[Jeremy Smeltser:]

Thank you.

[Operator:]

And our last question is from Deane Dray with RBC Capital Markets. Your line is open.

[Deane Dray:]

Thank you. Good morning everyone.

[Marc Michael:]

Good morning, Deane.

[Deane Dray:]

You have covered a lot of ground here. I just want to circle back and make sure I got this right on the new order data that you'll be presenting, will you indicate any pricing that's embedded in the orders as they are booked, just give us a sense of the economics of the backlog?

[Marc Michael:]

We won't be giving specific price versus volume on the orders though we will point out any notable trends as they developed on a higher level.

[Deane Dray:]

Okay, and then how about Jeremy on these service centers that are being opened. There is always a tradeoff between having spares and inventory availability for quick turnaround, but that does weight on working capital demand. So how do you, what's the optimal number of service centers and what sort of concessions do you need to make on working capital to make sure they are stocked to give the quick turnaround the customers will be looking for?

[Jeremy Smeltser:]

Sure, yes. I don’t know that I can give you specific on the optimal number of service centers right now. You know in the P&E group we have over 30. We also have service centers across our Industrial and Food & Beverage right there embedded and some of the larger plants. So in total probably another 15 or 20. And the question would be, can we expand the capability of all those to service a whole portfolio or at least more of those than we have today? The inventory investments, working capital investments around spares or even around particular aftermarket initiatives our view is rather immaterial as it is linked to the overall working capital opportunities that we have. So we will balance those as looking at the return on invested capital of each particular request that comes in and whether or not we approve them. But in my mind given the margin that comes with the spares and the aftermarket revenue increase, I think it pays for itself many times over.

[Deane Dray:]

Got it, thank you.

[Jeremy Smeltser:]

Thanks Deane.

[Marc Michael:]

Thanks Deane.

[Ryan Taylor:]

Thanks Deane. This is Ryan Taylor coming back on. This concludes our call for the day. We appreciate everybody joining us. Per the usual Stu and I will be available through the balance of the day to help answer any followup questions you might have. Thanks again for joining us and we'll talk to you next time.

[Operator:]

Ladies and gentlemen, this does conclude the program and you may now disconnect. Everyone have a great day.