RBC Bearings Incorporated
Q2 2014 Earnings Call Transcript

Published: 30 Jul 2014

[Operator:]

Good morning, and welcome to the Regal Beloit Second Quarter 2014 Earnings Conference Call. [Operator Instructions] Please note, this event is being recorded. I would now like to turn the conference over to John Perino, Vice President, Investor Relations. Please go ahead.

[John M. Perino:]

Thank you, Emily. Good morning, and welcome to the Regal Beloit Second Quarter 2014 Earnings Conference Call. Joining me today are Mark Gliebe, Chairman and CEO; Jon Schlemmer, COO; and Chuck Hinrichs, Vice President and CFO. Before turning the call over to Mark, I'd like to remind you that the statements made in this conference call that are not historical in nature are forward-looking statements. Forward-looking statements are not guarantees since there are inherent difficulties in predicting future results, and actual results could differ materially from those expressed or implied in forward-looking statements. For a list of those factors that could cause actual results to differ materially from projected results, please refer to today's earnings release and our filings with the SEC. We will mention -- we are presenting certain non-GAAP financial measures related to adjusted diluted earnings per share, adjusted gross profit, adjusted gross profit as a percentage of sales, adjusted income from operations and free cash flow. We believe that these are useful financial measures for providing you with additional insight into our operating performance. Please read this slide for information regarding these non-GAAP financial measures, and please see the appendix where you can find the reconciliations of these measures to the most comparable measures in accordance with GAAP. Now I'll turn the call over to Mark.

[Mark J. Gliebe:]

Good morning, everyone, and thank you for joining our second quarter call and for your interest in Regal. For today's agenda, I'll give some opening comments, Chuck Hinrichs will handle the financial update, Jon Schlemmer will give color on products, markets and our most recent acquisitions, and then I'll summarize and we'll move to Q&A. Regal had a solid second quarter, delivering overall sales growth, high-single-digit earnings growth and strong free cash flow. Our adjusted EPS of $1.27 was in line with our guidance. Our revenues for the quarter were up 3.5% year-over-year. Sales in our North American residential HVAC business were up 3.3%, representing the third consecutive quarter of year-over-year growth in that business. We also grew in our European, global power generation and mechanical businesses. Our revenues in our North American commercial and industrial motors business were down approximately 2.7%, driven mostly by continued weakness in commercial and industrial refrigeration and irrigation. In Asia, sales into China slowed, sales in India are down slightly and Australia remains challenged. And finally, our recent acquisitions, Cemp and Hy-Bon, performed well in the second quarter. Cemp is benefiting from a mild recovery in Europe, as well as continued growth in oil and gas. Hy-Bon is benefiting from recent EPA rulings requiring oil producers to either flare or recover vapors from oil storage tanks. Our latest acquisition, Benshaw, which we closed after the second quarter, is also off to a great start. On profit margins, as expected, our operating income improved year-over-year 7.5% and on an adjusted basis, 11.5%. Our simplification projects continue to progress forward. The Acuña and Australia restructuring will be completed by year end as planned. With the Springfield transition, the move has been delayed in order to serve higher-than-anticipated customer demand. We expect to complete the transition by year end as originally communicated, and there is no change in the overall expected benefit stream, just a change in the timing. Also in the quarter, we announced an additional closure of our 2 Kentucky-based motor parts plants. These 2 facilities produce motors for parts we now make in Mexico -- parts from -- and produce parts for motors we now make in Mexico. The production of these parts will be transitioned to existing facilities in McAllen, Texas and Mexico. Jon will walk you through the benefits and cost of this transition. As you know, our simplification efforts include consolidating plants, consolidating design platforms, combining ERP systems and rationalizing suppliers. When it comes to our progress on simplification, we are in the middle stages of execution, but still only in the early stages as it pertains to the expected benefit stream. Our free cash flow for the quarter was 140% of net income, making our June year-to-date free cash flow 103% of net income. Our goal is for free cash flow to exceed net income every year. And with our second quarter performance, we are on the path to making 2014 the fourth year in a row of reaching this goal. In the third quarter, we announced the acquisition of Benshaw, a manufacturer of motor starters and custom drives for the oil and gas and commercial HVAC end markets. This business fits well with our Unico and commercial and industrial businesses. It's still early, but we are off to a good start and we're glad to have Benshaw part of the Regal family. As far as other acquisitions go, our headset and bias towards acquisition has not changed, and our pipeline is quite strong. We are fortunate to be in the position with a balance sheet where we can pursue acquisitions and return cash to shareholders. As we look to the third quarter, in North American residential HVAC, our guidance reflects modest growth with typical seasonality. Further, we expect our North American commercial and industrial motors business to be relatively flat for the quarter, with growth in certain segments of pumps and compressors offsetting the weakness in commercial and industrial refrigeration and irrigation. We expect strong growth in our mechanical businesses and continued growth in Europe. Internationally, we expect year-over-year improvements in China and India, and we anticipate continued weakness in Australia. We have 2 headwinds in the quarter impacting our margins. First, the instability in Venezuela has been challenging. We have included in our guidance an approximate $4 million to $5 million margin decline, driven by lower sales into Venezuela as we manage through the economic uncertainties. Going forward, we expect this continued volatility. However, independent of potential currency devaluation, our best view today is that we will have less of an issue in the fourth quarter. The second key issue is the one that I mentioned earlier. As a result of the pushout of our Springfield transition, the benefits of that move will shift into the late fourth or early first quarter. We still expect the transition to be completed by year end. I will now turn it over to Chuck Hinrichs.

[Charles A. Hinrichs:]

Thank you, Mark, and good morning, everyone. I will start with a reconciliation of our results on a GAAP EPS basis to adjusted EPS. Earnings in the second quarter 2014 on a GAAP basis were $1.24 per share. This is in line with our earlier guidance for GAAP EPS of $1.19 to $1.27 per share. Restructuring charges in the quarter were $3.6 million or $0.05 per share related to our continuing work on our simplification initiative. Then we add back the purchase accounting adjustments and acquisition costs of $0.01 per share. And finally, we had a gain on a property sale of $0.03 per share. Adding back these adjustments results in adjusted earnings per share for the second quarter 2014 of $1.27. This is in line with our earlier guidance for adjusted EPS of $1.24 to $1.32 per share. Our second quarter 2014 sales were $850 million, an increase of 3.5% from the prior year. The impact of foreign currency translation in the quarter was a negative 0.4% on total net sales as compared to the prior year. Sales in the quarter increased $31.8 million from the Cemp and Hy-Bon acquisitions. Adjusting for these 2 items, organic sales were flat in the quarter versus the prior year. In the second quarter of 2014, our adjusted gross margin was 25.2% compared to the prior year gross margin of 25.6%. Gross margins, as reported, were adjusted for both restructuring charges and purchase accounting adjustments. Our operating expenses in the second quarter of 2014 were $122.3 million. This includes $5 million of SG&A from acquisitions, $0.3 million of restructuring charges, $0.6 million of acquisition diligence expenses and a $2 million pretax gain on a sale of property. You may recall that in the prior year, we called out $2.9 million of acquisition diligence expenses, $0.4 million of restructuring charges and $1.4 million for an increase in the AR reserve. Net of these adjustments, our SG&A expenses declined $5 million or 4% from the prior year and declined 2% from the prior quarter. This slide provides some financial metrics for the second quarter 2014. Our capital expenditures in the quarter were $20.6 million, including the nearly completed new industrial motor facility in Wuxi, China. For 2014, we estimate capital expenditures will be $80 million to $85 million. Our effective tax rate in the second quarter was 26.5%. We estimate our ETR for the second half of 2014 to be 27%, consistent with our guidance from last quarter. In the lower left quadrant, we provide data on our quarter end balance sheet. Our total debt was $767 million and our net debt was $322 million. Our credit metrics remain strong, as our debt to adjusted EBITDA was 1.8x and our net debt to adjusted EBITDA was 0.8x. The Benshaw acquisition, which we closed early in this third quarter, will have only a minor impact on one of these credit metrics, with a slight increase in our net debt to adjusted EBITDA to 0.9x. In the lower right quadrant, we present information on our free cash flow in the second quarter of 2014. We generated $79 million of free cash flow in the quarter or 140% of net income in the quarter and 102% for year-to-date 2014. We continue to exceed our goal of generating free cash flow greater than 100% of net income. We exceed this goal in 2014. We will generate free cash flow in excess of net income in each of the last 4 years. Our third quarter 2014 guidance is for GAAP EPS of $1.05 to $1.13 per share. On an adjusted basis, that is $1.12 to $1.20 per share after adding back the estimated $0.05 per share of restructuring charges from previously announced projects and $0.02 per share of purchase accounting adjustments relating to our Benshaw acquisition. As we previously communicated, we expect Benshaw to be $0.02 per share dilutive in the second half of 2014, including the purchase accounting adjustments on inventory. Our third quarter guidance assumes a headwind of $4 million to $5 million in operating profit in our Venezuelan operations. With the economic uncertainty in Venezuela, we are managing the risks of future currency devaluations, import tariffs and the impact on our product pricing. Lower sales in the third quarter compared to the prior year are resulting in the operating profit headwind. Our annual sales into Venezuela, primarily oil and gas products, are approximately $30 million, less than 1% of total Regal sales. Due to the project nature of this business, sales are uneven across the quarters. During the second quarter, we accounted for our Venezuelan operations at the official exchange rate of VEF 6.3 to the dollar, as we continue to qualify to conduct business at the official rate with the government oil company. If the exchange rate were to change in the future to the current SICAD I rate of VEF 11.7, the impact on our Venezuelan operations could be a currency translation loss in the range of $5 million to $7.5 million. At the current SICAD II rate of VEF 50.8, the currency translation loss could be in the range of $9 million to $14 million. This is based on our estimate of net monetary assets of VEF 10.6 million. Now I'll turn the call over to Jon Schlemmer.

[Jonathan J. Schlemmer:]

Thanks, Chuck. Good morning, everyone. I'll start by giving some color on the end markets and customer demand. Performance of our North American residential HVAC products was in line with our expectations for the quarter, with sales up 3.3% compared to the same period prior year. The OEM customer dynamics that we've previously communicated negatively impacted our sales, as expected, in the quarter, and we have now substantially lapsed these difficult comparisons. The aftermarket side of our business slowed in June, likely impacted by the mild summer weather, with distributors reacting by reducing inventory levels. We also continued to see growth of products sold into other non-HVAC residential applications, such as pools, spas and water heaters. As an example, demand for our energy-efficient V-Green pool pump motors and controls was up substantially in the quarter. As we look forward, our third quarter guidance reflects mid-single digit growth in our North America residential businesses. Sales in our North America commercial and industrial motor businesses decreased by 2.7%. Orders had improved in the early part of the quarter but did decrease midway through the quarter. The decrease in sales was driven by weakness in the commercial and industrial refrigeration and irrigation end markets. Orders are stable as we've entered the third quarter, and we are expecting North America commercial and industrial motor sales to be flat in the quarter. We had another good quarter in our global power generation business, with sales up mid-single digits compared to the same period prior year. The strength in both generators and switchgear equipment continues to be driven by a combination of new accounts, new products and strong demand in the data center segment. Sales increased in our North American mechanical business by 2.8%, driven by order strength in a number of our mechanical business, including Milwaukee Gear. The sales increase in Milwaukee Gear resulted from increased demand for hydraulic fracturing equipment. Distribution sales for our mechanical business were slightly up in the quarter. Looking forward to the third quarter, we expect solid growth in our mechanical business. Excluding the impact of currency, sales outside the U.S. increased slightly and represented approximately 34% of our overall sales for the quarter. We again experienced solid growth in both our European and Latin America businesses. Orders remain robust in our European businesses, and we expect to see solid growth again in the third quarter. After 3 consecutive quarters of sales growth in China, sales declined slightly compared to the same period prior year. Looking at our order rates as we've entered the third quarter, we expect to see some improvement on a year-over-year basis in our China businesses. We continue to experience weak orders in our Australia business. Sales in our India business declined slightly, with the industrial markets continuing to be a challenge. On the innovation front, high-efficiency product sales grew by approximately 4%, representing 20% of our total sales in the quarter. We saw year-over-year growth in a number of our high-efficiency products, including our HVAC ECM motors, variable speed pool motors and high-efficiency gearing. I'd like to give you an update on our simplification efforts, and I'll start with our design platforms. On our last call, we talked about the completion of our Worm Gear design simplification program, the first of 5 such programs. Today, I'd like to talk about the second program that has now been completed, the new IEC high-efficiency industrial motor platform. This program simplifies our industrial motor designs sold into the international market. Back in February, we discussed our plans to develop this product for our customers in Europe and Asia. I'm excited today to announce that the new platform is now complete and we started production. We're calling the new product TerraMAX, and the platform gives us a full range of IEC industrial motors from 1 to 500 horsepower that meets the IE3 energy efficiency levels. IE3 efficiency levels become a requirement in Europe starting in January 2015, and we expect this -- a substantial conversion of the market in both Europe and Asia over the next 3 years. Over time, we will migrate to this platform for nearly all of our industrial IEC motor requirements. This migration will eliminate a number of existing design platforms, standardizing our designs and improving our margins. The new TerraMAX motors are being built in our brand new manufacturing facility in Wuxi, China. We have largely completed the construction of our new facility in Wuxi and have begun transitioning the equipment from our existing facility into the new plant. Our plans are to complete the transition in the second half of the year. We have 3 more design simplification programs to go. While the last 3 programs are more challenging, they offer the greatest benefits. We expect all 3 of these programs to be substantially completed in 2015. On the manufacturing front, we continue to make progress simplifying our footprint. On the last call, we provided updates on the closure of our Springfield, Missouri motor and parts operation, the consolidation of our residential hermetic motor operations in Acuña, Mexico and the consolidation of our operations in Australia. An increase in customer demand has created some challenges for our Springfield program. This is an -- impacted the program by delaying the transition schedule and pushing out the benefits. We still expect the transition to be completed by year end and to provide the annual benefits we've previously communicated. All of these programs are moving forward and will begin to provide benefits toward the end of the year and into 2015. During the second quarter, we announced additional restructuring with our plan to exit our parts-making facilities in Mount Sterling and Winchester, Kentucky. These facilities provide motor laminations primarily for our motor assembly operations located in Mexico. To help reduce lead times to our customers and to improve our cost structure, we will be transitioning the manufacturing into existing operations in McAllen, Texas and Mexico. This move will further simplify our North America manufacturing footprint, making us more competitive. The operations in Winchester and Mount Sterling supply a significant number of motor parts to our Mexico-based plants, making this one of our larger restructuring programs to date. We will begin the transition in the third quarter, and the plans are to complete the transition by the end of the third quarter of 2015. We are estimating that we will spend $7 million in restructuring expenses to complete the transition, with annual benefits in excess of $5 million. The benefits will start in the second half of 2015 and carry over into 2016. Decisions that result in the closure of any of our facilities are never easy. However, we know we must continue to simplify our business in order to better serve our customers and to remain globally competitive. We've updated the estimated restructuring expenses to show the actual expenses in the second quarter, the forecast for both the third and fourth quarters and the first half of 2015. This includes the Springfield, Acuña, Australia and Kentucky restructuring programs. I'd like to wrap up by giving you some additional information on our latest acquisition, Benshaw. Benshaw is a manufacturer of custom low and medium voltage variable frequency drives and soft starters. This is a $60 million business based in Pittsburgh. Their products are used in a wide range of applications, including commercial HVAC, oil and gas and general industries. These custom solutions provide precise control for motor-driven systems, optimizing the performance of the customer's application. We see Benshaw as a great fit with our Unico and C&I businesses. The Benshaw team, combined with our Unico capabilities, gives us an excellent product offering and technical capability to provide system solutions to our commercial and industrial customers. Unico already has an excellent capability to provide custom low-voltage drive solutions. The addition of both low and medium voltage starters and medium voltage drives from Benshaw rounds out our product range and technical capability. As energy efficiency requirements continue to increase, more and more applications require the use of intelligent control to optimize the complete system. We expect earnings per share to be accretive by $0.06 to $0.09 in 2015. We're excited to have Benshaw joining the Regal family. With that, I'll turn it back over to Mark. Thank you.

[Mark J. Gliebe:]

I'll just take a second to summarize here. We finished the quarter in line with our guidance, with the top line growing 3.5%. We had high-single-digit earnings growth in the quarter and our margin performance was in line with our expectations. We announced yet another significant leg of our simplification plans with the closure of our 2 Kentucky facilities, and the benefits from that program are sizable. We continue to believe that our simplification and innovative -- innovation initiatives will deliver meaningful margin improvement over the longer term. We announced the acquisition of Benshaw in the quarter, which was the third acquisition in the last 3 quarters. The acquisitions are integrating well and performing. Our acquisition pipeline is strong. And while we have a bias towards acquisitions, we are fortunate to have a balance sheet that will allow us to pursue acquisitions and return cash to shareholders. We will now take your questions.

[Operator:]

[Operator Instructions] Our first question comes from Julian Mitchell of Crédit Suisse.

[Julian Mitchell:]

So you laid out very clearly the kind of restructuring costs quarterly. Maybe just talk about -- including all the measures you've announced on productivity and simplification so far, what's the kind of full savings we should expect kind of incrementally in 2015 now when you're rolling everything together?

[Mark J. Gliebe:]

Well, Julian, from -- we took a pass at this, I think, a year or so ago and laid out what we thought the benefits of simplification were over a 3-year period. And everything that we've announced so far was already in that plan and consistent with what we laid out there a year or so ago. And I think the number was in the $30 million range that we identified that was coming out, most of it which we thought we would keep. And it's being spread out over the 2014, 2015, 2016 time frame. So as I've said earlier, we're in the middle stages of the execution of all this simplification, but still, the early stages of getting the benefit stream.

[Julian Mitchell:]

Got it. And I guess, looking at sort of the Q3 guide, it looks like your 9 months kind of income from operations is probably about flat year-on-year, not really much sign of a big cyclical bounce on the horizon. So is there an impetus to kind of accelerate that cost reduction beyond what you'd envisaged maybe a year ago when the macro outlook was a little bit brighter?

[Mark J. Gliebe:]

Well, I would say we have tremendous number of programs -- of simplification initiatives in place. I think Jon did a nice job of -- of lining out all of the different things that are going on, 5 different design platforms, simplification programs going on and 4 or 5 different manufacturing programs going on. And we have the pedal to the metal relative to executing everything we need to do to get the benefits we've outlined. So there's no -- there's a tremendous sense of urgency in the company to head down that path.

[Jonathan J. Schlemmer:]

And I would add, Julian, that the restructuring plans in Australia were exactly what you said, a reaction to the economic environment there and the need to accelerate the cost reductions in that particular part of our company.

[Julian Mitchell:]

And then just lastly for me, so the gross margin pressure, I guess, from the plant closures, you had about 100 bps back in Q1. I guess it was about similar in Q2 and some headwind in Q3. When do you think that gross margin starts to kind of flip back? Is it sort of Q4 or more into early next year?

[Mark J. Gliebe:]

So we talked about the operational inefficiencies that we thought would occur in Q1 and Q2, and I think we ended up being about 80 bps in Q1 and probably 25 bps in Q2. And relative to Q3, we have 2 issues that we identified, $4 million to $5 million headwind relative to the Venezuela uncertainties and then a sizable piece relative to us delaying the transition of our Springfield facility as a result of being in the high season of shipping -- of serving the HVAC market. So our -- we haven't changed our perspective or our view on the benefit stream coming out of the Springfield transition. And in terms of our outlook for the fourth quarter on Venezuela, the best we can see right now is it'll be less of an impact to us in the fourth quarter.

[Operator:]

Our next question is from Scott Graham of Jeffries.

[R. Scott Graham:]

I actually thought that the $30 million number that you referred to started off a couple of years back at a higher level. I remember that pretty clearly. I recognized that, at that time, you had realized some of those savings, which, off of your bar chart, if you'll recall, when we compared that bar to the EPC savings, it seemed to imply $45 million to $50 million. And there's I think been some restructuring -- I think that there's been some restructuring incremental to that. So I would've thought that, that $30 million number was kind of more north of $50 million. Is -- where is my math wrong on this?

[Charles A. Hinrichs:]

Scott, this is Chuck. So when we laid out that slide, we had the EPC synergies, which were originally announced at $35 million and then upsized to $38 million. But we had already obtained over $10 million of that in the first year. So the EPC part of that bar chart would've been something like $25 million to $28 million. And so the simplification initiative sized against that was the $28 million to $30 million that Mark had just referenced. So that's been consistent with what we've communicated as the future benefit through 2015 for the simplification initiative for a couple of years now.

[Mark J. Gliebe:]

And I'll just add that in the December investors meeting, our intention is to lay out our views of our -- both gross margins and operating margins on a go forward basis.

[R. Scott Graham:]

Very good, okay. The next question really comes on the HVAC business. I know you've had a couple of up quarters there now. But obviously, so has the market. And I think you guys are familiar with some of the work that we've done to try to determine what your sales were, excluding the losses -- the known losses of customers, I think you announced about a year ago. And it just looked to me, again, like you, excluding those losses, may have underperformed the market again this quarter. Yet, the OEMs are saying that mix is improving, people are trading up within SEER 13 and moving to higher SEER ratings. What exactly is keeping your HVAC sales from growing maybe more in line with the market? Is it how your lined up to certain OEMs? Or is it something else?

[Mark J. Gliebe:]

Yes. So if you look at this quarter or the last quarter, I'd just note that the public information that came from our customers is pretty big changes from quarter-to-quarter and from customer-to-customer. And so to take any one quarter and try to parallel it with us, I would say, it's going to be a tough thing to nail it down. I'll simply say that everything we thought was going to happen from the very beginning is -- of the customer issues we talked about over a year ago now has kind of played itself out. And we believe that, that issue is substantially behind us, and we believe we're going to grow in line with the market. Sure, you're going to have issues relative to does one of our customers grow faster or slower than another. You're going to have issues relative to their pricing versus our pricing, their mix versus our mix. But generally speaking, that issue is behind us, and we think we're going to grow in line with the market on a go-forward basis.

[R. Scott Graham:]

Okay, that's helpful. Can you tell us then, in my last question here, was pricing up in resi HVAC? Was mix up?

[Mark J. Gliebe:]

So relative to pricing, I think every -- it's known that our customers' pricing was certainly up, which would impact their growth rate. And then we have material price formulas with our customers. And they're 2-way. And so when prices go up, we get the benefit out of -- I'm sorry, when materials go up, we get the benefit. When materials go down, our prices go down as well. And copper in the first and second -- there's often a 3 to 6 months delay in terms of timing. And so you can have copper going down in a quarter and us therefore, pricing going down. We are seeing inflation in steel as we sit here today, that is impacting us. And so that will, as we -- on a go forward basis, affect our pricing with them on a go forward basis.

[Jonathan J. Schlemmer:]

On -- Scott, this is Jon. On mix, I'd look at mix in terms of 2 aspects of mix. When we think about high-efficiency product sales, we had a slight benefit from mix in the quarter. So we did see some of that as well in terms of our product mix, standard versus high-efficiency products. When you look at the mix in our business OEM versus aftermarket, I talked about the slowing on the aftermarket side in June. So it wasn't particularly a strong quarter from an aftermarket standpoint. When we -- and we would chalk up most of that related to the weather.

[R. Scott Graham:]

That's fair enough, I appreciate that. If you don't mind, I just have one other question I have to sneak in based on a comment that you guys made. This $30 million in savings that you guys have built up to, obviously, some of it being having been realized. But I think, Mark, it was you that made a comment that while you are kind of only halfway through the execution, you're much earlier in the stages of realization. Are you essentially saying that most of that $30 million, I think that's what you're saying, is still on the comp?

[Mark J. Gliebe:]

Yes, that's what I'm saying. The -- yes, okay. Thank you.

[Operator:]

Our next question is from Mike Halloran of Robert Baird.

[Michael Halloran:]

So as I think about the guidance and I think about kind of the pressure points either sequentially relative to where the Street had estimates, I mean, they seem to be focused on the Venezuela issue, obviously, the delay in the timing of some of these -- the restructuring benefits, as well as maybe a little bit softer C&I trends. I kind of want to dig into kind of those kind of 3 points. First, just tagging onto the Springfield move. I mean, Springfield is where you got some of the higher-efficiency stuff, so I suspect that the fact that you have more positive demand there and that's the delay is a good thing. So maybe you could just talk a little bit about what you're seeing sequentially on the HVAC side from a high-efficiency standpoint and some of the customer commentaries worked through the year there?

[Mark J. Gliebe:]

Okay. I'll take a pass at it and Jon should jump in. So Jon just made the comment that there is slight improvement of mix, which could be a shift towards high efficiency. And then the -- as we look forward, we've been very focused on this consensus ruling. And the consensus ruling, I would say, is quite fluid and a little bit murky right now. But I think there's been changes amongst the -- shift between the government and our customer base in exactly how that law is going to get enforced. But at least our best view of today is the way that's going to work out is that there will be an -- you may not see the pull forward that we had initially thought back in the early part of 2014 that we thought perhaps there be a pull-in. We may not see that, but over the long haul, it looks like the way that ruling is going to get played out is there could be a mix benefit towards us as the installers are required to install indoor equipment that is driving the SEER requirement. So we think there could be some benefit there. Jon, anything else?

[Jonathan J. Schlemmer:]

No, I think that sums it up pretty well. I think, as I mentioned, Mike, the -- we saw a little bit of mix improvement in the second quarter. I think we have a similar outlook for the third quarter based on what we're seeing today in terms of the demand of standard versus high-efficiency products. And what Mark talked about, it is pretty dynamic with the consensus agreement, the regional standards and how our customers are viewing that and how they will react from a product standpoint. The good news is we can support that, whether it be requirement on the indoor equipment or the outdoor equipment with higher efficiency products to help meet those new standards.

[Michael Halloran:]

And then just on the Springfield saving specifically, I know you guys had highlighted about a $15 million run rate of annualized savings. All said and done, a couple million, $2 million to $4 million kind of thing coming in the back half of the year. Sounds like that's getting pushed back. Is it fair to assume that the full '15 benefit will emerge in 2015? Or does some of that drag into 2016?

[Jonathan J. Schlemmer:]

We will realize some of it yet in 2014. What we talked about, the delay is certainly impacting us. We'd hope to see more in the third quarter than what we're realizing for the reasons we talked about. We expect to see some of the benefit come in then in Q4. But yes, I'd say in terms of the run rate, in 2015, we'd expect to see the full savings in 2015. That's our plan.

[Mark J. Gliebe:]

Yes, it's true. I think that's the right way to think about it. I just -- we have been communicating that some portion of that $15 million, we'd have to give back to our customers. Not -- but the largest piece of it, we would save. So I just don't want to get caught up on exactly the $15 million number. $15 million is the savings. Some portion of it, we'll have to give back.

[Michael Halloran:]

No, I understand. I'm just trying to triangulate into what lingers and what normalizes out here. And then towards that plan on the Venezuela side, another area that sounds like you think some of that normalizes out as you work towards the fourth quarter here. What exactly gives you confidence that, that can normalize out here? What is the issue? Is it purely demand side? And how integral is that business to the core portfolio? Is that something you can exit if you continue to see declines? Or are we not at that stage yet?

[Mark J. Gliebe:]

So relative to the fourth quarter, what makes us say that we feel like it'll be less of an issue in the fourth quarter is the experience we had in the early third quarter, which is we've been able to transact -- there was a fair amount of confusion early in the third quarter relative to the required tariffs and the way that -- our ability to qualify for the VEF 6.3 currency exchange rate, and that caused a delay in our shipments. There's also a delay because our customers are having issues getting parts from other suppliers as well. So those 2 things combined caused the issue we're having in the third quarter. As we sit here today, we're past -- at least for the time being, we're past the tariff issue. And our currency qualification rate, we think we know, at least for the third quarter, where we're at on that. And if that continues, then we feel like it'll be less of an impact in the fourth quarter. But it's a pretty volatile environment, and it's still uncertain out there.

[Operator:]

Our next question is from Christopher Glynn of Oppenheimer.

[Christopher Glynn:]

Mark, it seems like Cemp and Hy-Bon are going exceptionally strong on a combined basis, maybe about 1/3 stronger than the revenues indicated in the press releases. Can you dive into that strength a little bit?

[Mark J. Gliebe:]

Well, I -- they certainly are both going quite well. We feel good about both businesses. So in terms of the Cemp business, as a reminder to everyone, they sell explosion-proof motors, primarily into the oil and gas space, and they have a solid footprint in Europe. And so the European recovery has helped and the strength in oil and gas has helped that business. On the Cemp side -- I'm sorry, on the Hy-Bon side, as I mentioned earlier, the EPA last year put in regulations called Quad O, and those regulations require oil producers to do 1 of 2 things, either flare the gases that escape the storage tanks or to recover the gases. Obviously, from an economic standpoint, it's always better to recover them because you can then capture the value of the gases that are -- that have formerly been escaping into the air. So we feel good about both of those businesses and they are performing to the levels that we thought they could, so we feel good about them.

[Christopher Glynn:]

And then just wondering a little bit about the CapEx outlook over the next couple of years. It's been a little higher. Would we expect it to stay around these levels?

[Mark J. Gliebe:]

So we've had -- over the last 2 or 3 years, we've had a couple of things that we've been -- in China primarily where we built 3 manufacturing facilities in China, transitioned all 3. We did one in our generator business, one in our hermetic -- Commercial Hermetic Motor business, and then the last one is industrial motor business in Wuxi. And so that's -- there's been some money being spent -- CapEx being spent on that. And we would expect, on a go forward basis, to either be at or below the level of spending that we've been at this year.

[Christopher Glynn:]

Okay, and then just a last one. Would working capital be a positive contributor to cash flow this year?

[Charles A. Hinrichs:]

Chris, this is Chuck. It'll certainly depend upon the growth we have in the second year. So as that growth comes through and acquisitions come in, there'll be an increased commitment in working capital. But you know our record to managing our working capital and have that be a contributor to our free cash flow for the year. So our teams are always working on improving our terms of working capital.

[Operator:]

Our next question is from Jeffrey Hammond of KeyBanc.

[Jeffrey D. Hammond:]

So you mentioned you're kind of right in the middle of simplification savings. Can you just talk about what are the bigger buckets on a go forward basis in terms of incremental savings that maybe you haven't announced?

[Mark J. Gliebe:]

So on simplification, just -- I just want to be clear, I think we're in the middle of the execution. I think we're on the early side of the benefits. And I'll walk through very quickly the restructuring. We've talked about Acuña, talked about Australia combined being a $3 million benefit. We've talked about the Springfield being a $15 million benefit. And then Jon laid out today the 2 Kentucky closures being a $5 million benefit. We've also discussed that we're -- we have 5 product redesign platforms that are meaningful in terms of their margin contribution. We got 2 of them done. But candidly, those are the not the 2 toughest ones. Those were the easier ones. We did them first to gain experience. We got 3 more to go. Those are the tougher ones. And from a margin perspective, those are the more meaningful ones. So -- and then, finally, there's always a benefit hard to pin down on ERP consolidations as well as supplier consolidations, where you get leverage. But both of those are moving forward and in place. So I'll just continue to say we're in the midst of -- kind of in the middle stages of execution and a lot of heavy lifting going on, but early stages of getting the benefits.

[Jeffrey D. Hammond:]

Okay. And then just back to Julian's question, is the plan in December to lay out definitively what the savings are in '15 and '16 and beyond? Because it just seems like there's a lot of balls up in the air and a lot of moving pieces. And I just think it'd be a lot clearer to incorporate into kind of some operating framework where you see the savings falling.

[Mark J. Gliebe:]

Yes, that's exactly our thinking. We've put together a bridge 2 years ago. We're going to update that bridge and try to lay out for you our view over the next 3 years.

[Operator:]

Our next question is from Walter Liptak of Global Hunter.

[Walter S. Liptak:]

I want to ask about the oil and gas mix now with the acquisitions. What percentage of sales is that? And I wonder if we can get an update on all the businesses, I guess, either individually or in general.

[Mark J. Gliebe:]

So that's a very good question. So relative to the recent acquisitions, I would -- which we would say, Unico, Hy-Bon, Cemp to some degree, even combining them all in looking at their relative exposure, it's still going to be relatively small. What we don't know, Walter, is it's very hard for us to know where all of our motor sales go because a big chunk of them are going to OEMs, who sell into a variety of end markets are going through distribution that sell to a variety of end markets. So if you just take the businesses that we've acquired with a focus on oil and gas, it's still going to be relatively small. But I don't have the exact number off the top of my head. So -- but I'll just leave it at that.

[Walter S. Liptak:]

Okay. How was Unico? You mentioned Milwaukee Gear is picking up, which is good. How about Unico? Can we get some color on that?

[Mark J. Gliebe:]

Sure. So the Unico business in -- from a sales perspective, grew in North America in the second quarter. One of their customers had their own issues in Q2 that brought our orders down in the second quarter, and that'll impact us in Q3 and Q4. But it will all come back. They just have some issues implementing one of the major enterprise software packages that they lost sight on the business. So we think that will come back in the late second half. But the big issue for Unico, really, they have exposure into Venezuela, and that's what's causing some of the confusion there.

[Walter S. Liptak:]

Okay, got it. And then in your comments at the end, I think you mentioned something about returning capital to shareholders or something along that line. Was that translated into share repurchase?

[Charles A. Hinrichs:]

Well, Walt, we talked about this before on these calls, and we increased our dividend 10% with our first quarter results. So we are committed to returning cash to shareholders, a combination of dividends and share repurchases. And we're able to do that while continuing to pursue our acquisition strategy. So yes, we are still committed to that.

[Walter S. Liptak:]

Okay. Our -- do you think you'll be in the market in the second half?

[Charles A. Hinrichs:]

We can't comment on that, Walt.

[Operator:]

Our next question is from Mark Douglass of Longbow Research.

[Mark Douglass:]

Mark, can you discuss the North America commercial and industrial? We've been waiting for it to pick up here for a few quarters. I know you said refrigeration and irrigation aren't doing so hot. But going into the quarters, you seemed to be a little more positive and it seems to disappoint. What's going on that you're missing...

[Mark J. Gliebe:]

Yes. So I'll take a pass at it and then Jon will jump in, I'm sure. So we started the quarter off with orders being up in that space and felt we were seeing a number of green shoots in the commercial space and felt good, which is why we had predicted slight growth in the quarter. And as it turned out, we didn't see that. If you were to adjust for the 2 areas that we had discussed, commercial and industrial, refrigeration and irrigation, which is well known, both of those end markets are down, we would've grown in the quarter. But we don't get to do that. So I think those are the 2 key issues. We did have growth in our pump business and in our compressor business, which made us feel good. I think, as I listened to a lot of other businesses, I know we're not the only ones not seeing this improvement in the commercial and industrial market. So we still see positive signs. There's a lot of positive data points that we think are out there that still points to an improvement, but we just haven't seen it yet.

[Jonathan J. Schlemmer:]

Yes. Mark, I'll add on the order rates that Mark mentioned. I think we mentioned this on the last call as we exited the first quarter. We saw that tick-up that Mark mentioned on order rates and our C&I businesses, and that's why we felt like we'd see some strength in the second quarter. Those order rates dropped off as we exited April and got into more the mid part of the quarter. Others were talking about that, too, in terms of wondering if that was a bit of a bubble from the weather disruptions that were in Q1, catching up for some of that and then returning back to the previous order rates. I'm not sure if that's what we saw or not, but we did see the same trend in terms of our order rates through the quarter. The good news is, as we've entered the third quarter, the orders are stable. So I know we're not talking about really a lot of growth in C&I in the third quarter, but at least the order rates are stable at this point. We haven't seen any other dropoff that we experienced in the mid part of the second quarter.

[Mark Douglass:]

Okay, that's helpful. And then going to Venezuela. The numbers, Chuck, that you laid out if you ended up going to SICAD I or II, are those noncash impairments? Or are those -- would those be reflected in your income from continuing operations?

[Charles A. Hinrichs:]

Mark, they do get reflected in income from continuing operations, but they're a foreign currency translation as a result of a devaluation. I wouldn't call them noncash, but they're certainly one that we have to react to in the business -- doing business down there with our future pricing actions and decisions.

[Mark Douglass:]

Right. I know that there's the trend in hitting the margin but then sometimes, because you have cash assets, those have to get written down on the devaluation, too.

[Charles A. Hinrichs:]

Right.

[Mark Douglass:]

Right. So -- but that's -- you're talking about your sales and EBIT, the devaluation affecting your sales and then EBIT?

[Charles A. Hinrichs:]

No, it's really a markdown of your net current assets.

[Mark Douglass:]

Okay. So you're talking about the markdown of the assets?

[Charles A. Hinrichs:]

Right, that's the devaluation that we had -- I had given you 2 data points on.

[Mark Douglass:]

Okay. Why -- I guess, you said you're allowed to still use the official exchange rate, but why not just go to at least SICAD I? I mean, it seems very, very unlikely that you could ever pull out your cash at the current official rate.

[Charles A. Hinrichs:]

Well, Mark, we continue to qualify to post our results using the official rate. We're doing business with a majority of our transactions at that official rate. We're invoicing and we're accepting orders and we're getting paid at that rate. So that's the appropriate rate from an accounting recognition perspective.

[Mark Douglass:]

Oh, so you're getting cash payments at that rate from the country -- out of the country?

[Charles A. Hinrichs:]

That's correct. Well, not out of the country, the business we're doing within the country.

[Operator:]

Our next question is from Liam Burke of Janney Capital Markets.

[Liam D. Burke:]

Chuck -- Mark, you talked about being happy with the acquisition pipeline. How have valuations been? Or -- do you see valuations moving up significantly?

[Mark J. Gliebe:]

Well, certainly relative to a few years ago, valuations are higher than they were back then. We've been fortunate with the acquisitions we've made so far. For the most part, we haven't been up in that range. And in the most recent acquisitions, we've been fortunate. But certainly, when you're looking at properties, no question, valuations are a full turn or turn and a half higher than they were, say, a few years ago.

[Liam D. Burke:]

Okay. And getting back to Hy-Bon and Cemp, you've mentioned you're happy with the growth, you're on track. Are they just growing as the businesses you mentioned, Quad 0? Or are you getting some revenue synergies through the existing -- through your existing organization?

[Mark J. Gliebe:]

Well, in the case of Hy-Bon, I would say, at this point, most of the benefit is being driven by -- with -- driven by the team that was in place prior to the acquisition, meaning, not a real synergistic benefit at this point. We still expect that and we're still executing programs to move into that direction. But most of what we've seen so far is coming from the business itself.

[Operator:]

Our next question is from Samuel Eisner of Goldman Sachs.

[Samuel H. Eisner:]

So just going back to the C&I comments here, I think you're calling for flat revenue. It seems as though that's actually an acceleration sequentially, and you even have toughening comps. So I just want to understand -- I mean, do you have those orders in hand as it stands today? What gives you confidence that you won't necessarily have the same kind of, I guess, head fake that happened in the second quarter when it comes to orders?

[Mark J. Gliebe:]

Well, we would not typically have those orders in our hands. It's a shorter-cycle business. We will typically get 2 to 3 weeks view in that business. So no, those orders are not in our hands right now. But our -- from talking to our customers and our business leaders and from being out in front of everybody, it -- like I mentioned earlier, it feels better like we'll get some lift in the commercial space. Now if we don't get any lift in the commercial space, it'll be tough. But going into the second quarter, we thought we'd see growth, we didn't. And at this point, going into the third quarter, we see it as flattish.

[Samuel H. Eisner:]

Great. And then I just wanted to retest the North America HVAC question again. Are you seeing -- through the first half of the year, are you seeing any material changes in market share from some of the OEMs that you sell into?

[Mark J. Gliebe:]

Everything relative to market share that we've already disclosed and already talked about, those are the big movers. We've discussed those. At any point in time, there's always puts and takes, but we're in there fighting the battle every day and doing okay.

[Samuel H. Eisner:]

Okay. And then just lastly, on simplification. I mean, we're now -- more facilities there that you're looking at, I guess, restructuring here, more savings potentially. To ask a really high-level question, I mean, is this mostly offensive in nature, the simplification plans? Or is it mostly defensive? I think some of Jon's comments seem to point to competition staying competitive in the market. So I'm just trying to understand if this is really offensive or defensive.

[Mark J. Gliebe:]

Well, I -- we look at every individual opportunity that the team brings to us. And team -- the teams identify those areas whereby, if we simplify our footprint, we can get a return on the investment. So to be honest with you, we don't look at whether it's offense or defense. We say, "If we spend the money, are we going to get a return?" And those are the programs we go after.

[Operator:]

Our next question is from Nigel Coe of Morgan Stanley.

[Nigel Coe:]

Yes. So look, we cut a lot of ground, so I would just wanted to get maybe a couple of threads from previous questions. Mechanical has been tough, but it seems to be turning. And you run into some easier comps in the second half of the year. And I'm really wondering, what is the appetite to grow those businesses by acquisition from here?

[Mark J. Gliebe:]

Well, as I've said in the past, we've -- certainly, most of our acquisitions in the past have been focused on the electric motor space, but that isn't because we haven't tried. I mean, we've -- over the past 6 or 7 years, we've made efforts in every space. And for whatever reason, it just hasn't worked out. And then the other comment I've made in the past is we, and -- I think I made it in the last quarter, we view ourselves as having 4 product platforms

[Nigel Coe:]

Okay, then that's helpful. And then, obviously, you've been much more biased towards acquisitions versus buybacks. But your stock's down -- back down about $70. And I'm just wondering how you're thinking about returning cash to shareholders versus acquisition spend at this point.

[Charles A. Hinrichs:]

Well, Nigel, we're committed to it as we have consistently said, but we can't really comment on the execution of that in the open market.

[Operator:]

And this concludes our question-and-answer session. I'd like to turn the conference back over to Mark Gliebe for any closing remarks.

[Mark J. Gliebe:]

Yes. Thank you, all, for your good questions today. We appreciate your interest in the company. I just want to give a couple of closing thoughts. So we do expect modest organic revenue growth in the third quarter. And excluding the key topics we've discussed, Venezuela being the larger issue, we would be delivering margin rate improvement in the third quarter. We are on the right path, and I could not be more pleased with all the progress our employees are making throughout the company. We're executing on multiple simplification programs with benefits to come. We continue to launch a stream of energy-efficient products that will deliver incremental sales and margin. We have acquired companies in the last 3 quarters, and we're integrating them and delivering on the synergies. All that while we're controlling costs in the company. On top of that, we have a strong acquisition pipeline, as we discussed. So there's a lot of moving parts, but we feel like they're -- most of them are turning in the right direction. Thank you for joining the call and for your interest in Regal.

[Operator:]

The conference has now concluded. Thank you for attending today's presentation. You may now disconnect.