Jeff Frappier - Treasurer Gregg Sengstack - Chief Executive Officer John Haines - Chief Financial Officer Robert Stone - Senior Vice President and President-International Water Systems.

Edward Marshall - Sidoti & Co. Ryan Cassil - Seaport Global Matt Summerville - Alembic Global Ryan O'Donnell - Robert W. Baird & Co.

Good morning, ladies and gentlemen and welcome to the Franklin Electric Company Third Quarter 2016 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. Jeff Frappier, Treasurer of Franklin Electric Company. Sir, you may begin..

Thank you, Bridget and welcome everyone to Franklin Electric’s third quarter 2016 earnings conference call. With me today are Gregg Sengstack, our CEO; Robert Stone, Senior Vice President and President of our International Water Systems Unit; and John Haines, our CFO.

On today’s call, Gregg will review our third quarter business results and then John will review our third quarter financial results. When John is through, we will have some time for questions and answers.

Before we begin, let me remind you that as we conduct this call we will be making forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. These statements are subject to various risks and uncertainties, many of which could cause actual results to differ materially from such forward-looking statements.

A discussion of these factors may be found in the Company’s Annual Report on Form 10-K, and in today’s earnings release. All forward-looking statements made during this call are based on information currently available, and except as required by law, the Company assumes no obligation to update any forward-looking statements.

During this call, we will also discuss certain non-GAAP financial measures, which the Company believes help investors understand underlying trends and the Company’s business more easily. A full reconciliation of non-GAAP to GAAP financial measures is included in today’s earnings release, which you can find on Franklin Electric’s website.

With that, I will now turn the call over to our CEO, Gregg Sengstack..

Thank you, Jeff. Our company delivered solid results in the third quarter with 3% overall sales growth. Our Fueling Systems organic sales decline of 1% was more than offset by the 5% organic increase in Water Systems sales. Our Water Systems sales continued to be led by higher groundwater sales in the U.S.

and volume of strong Water Systems sales in Latin America and Asia Pacific. Our organic sales growth along with stable input costs, increased prices, and a favorable sales mix drove our adjusted earnings per share up 7% for the quarter. John will cover more of the financial highlights for the quarter in a moment. Turning to end markets, the U.S.

and Canada groundwater business began to show a nice improvement over last year with 13% growth. Sales of residential groundwater systems increased 17%. With all the focus on weak crop prices and wetter weather in key growing regions we are pleased that our agricultural pumps sales increased 2% in the quarter. Our surface pumping business in the U.S.

and Canada declined in the quarter due to weak sales of large de-watering pumps. Overall revenue in our Water business in the U.S. and Canada was up 2% compared to the third quarter of 2015. Outside of the U.S. and Canada Water Systems results were similar to what we saw last quarter.

Excluding the impact of foreign translation, we achieved organic growth of 8% in the third quarter. Revenue growth in Latin America was strong and broad based. Business in Brazil continued at a record clip delivering 9% organic growth. Mexico, Guatemala, Chile and Ecuador, all saw over 20% growth rates in the quarter.

Growth in Asia Pacific revenue continued unabated with generally favorable weather conditions in Southeast Asia and solid performance in Australia propelling the business forward. Europe, Middle East and Africa Water Systems revenue was flat to last year.

In local currency our business in Turkey had record results, but political and economic turmoil in the region remained and the lower price of oil has reduced investment by the public sector, particularly in Saudi Arabia. After 17 quarters of organic growth our Fueling Systems revenue excluding foreign currency translations declined 1% organically.

However, the U.S. and Canada team delivered another solid quarter of 5%. Our fueling team spreads Fueling Systems solutions gained traction and share. Outside the U.S. and Canada, Fueling Systems organic sales were down about 10%, a significant portion of which were underground storage tank sales in Europe.

In addition, most of the gas stations outside North America are controlled by major oil companies and we saw some markets with revenue growth this quarter like China and Africa. We estimate that the weak price in oil has curtailed downstream spending by the major oil companies and some planned investments have been delayed.

Looking forward, for our Water Systems business we expect the fourth quarter to have a similar pattern as the third quarter. Even with the soft Ag market we expect the U.S. and Canada Water Systems business to continue to growth with our new drives and controls and pressure boosting systems gaining broader acceptance. Outside the U.S.

and Canada we anticipate continued strong performance in Latin America and to a lesser degree Asia Pacific who had the top comp from last year. And much like Q3 we expect Europe to be steady. While we are mindful of the political and economic uncertainties in the region we expect to see some improvement in end markets in the Gulf region.

For our Fueling Systems business we expect continued mid-to-high single digit revenue growth in the U.S. and Canada. Outside the U.S. and Canada we expect our fueling business to deliver revenue growth as well.

Against the backdrop of a weak global economy, Franklin employees around the globe are executing on our strategy, our global footprint which is the focus of developing regions increase our exposure to foreign translation headwinds, but it has also positioned us well to support and capitalize on the inherent growth of use of water and fuel that is now showing increased penetrability in those regions.

Further, with our proven profitability over the last year, we are spending more on new product development. Listening to our customers we are focused on systems solutions that are safer, more efficient, connected and provides value through lowest total cost per share.

From a financial perspective we believe that our 2016 results will be in line with our guidance of $1.60 to $1.70 adjusted earnings per share which we are now narrowing to $1.62 to $1.67 per share. I will now turn the call over to John Haines, our CFO..

Thank you, Gregg. Our fully diluted earnings per share as reported were $0.50 for the third quarter of 2016 versus $0.43for the third quarter of 2015. As we note in the tables in the earnings release, the company adjusts the as-reported GAAP operating income and earnings per share for items we consider not operational in nature.

Non-GAAP items for the third quarter of 2016 net of gains of $1.4 million. We sold the land and building at our old manufacturing facility in Brazil during the quarter and recorded a gain of US$2 million. This was offset by about $600,000 of restructuring and non-GAAP related impacts during realignment costs and other retired executive pension cost.

The third quarter 2016 non-GAAP adjustments had a net EPS impact that improved earnings by $0.02.

Non-GAAP expenses for the third quarter of 2015 were $1.7 million and included $1.3 million in restructuring cost primarily for the continuing European and Brazilian manufacturing realignment and $0.4 million for other non-GAAP expenses related to business realignment cost primarily with severance and targeted fixed cost reduction actions and retired executive pension cost.

The third quarter 2015 non-GAAP adjusted [indiscernible] a net EPS impact that will boost earnings by $0.02. So after consideration of the non-GAAP items third quarter 2016 adjusted earnings per share is $0.48 versus the third quarter 2015 adjusted earnings per share of $0.45 an increase of 7%.

Water Systems sales were $182 million in the third quarter of 2016, an increase of $8.5 million or about 5% versus the third quarter of 2015 sales of $173.5 million. Water Systems organic sales growth was also about 5% compared to the third quarter of 2015 as the impact of foreign currency translation was not significant.

Water Systems operating income was $30 million in the third quarter of 2016, up $6.9 million or 40% versus the third quarter of 2015 as reported and up $3.7 million or 15% versus the third quarter of 2015 after non-GAAP adjustments. The third quarter operating income margin was 16.5%, up 320 basis points from 13.3% in the third quarter of 2015.

The third quarter operating income margin after non-GAAP adjustments was 15.5% an increase of 130 basis points from the 14.1% of net sales in the third quarter of 2015 after non-GAAP adjustments.

Fueling Systems sales were $57.8 million in the third quarter of 2016, a decrease of $1.2 million or about 2% versus the third quarter of 2015 sales of $59 million. Fueling Systems sales decreased by $0.3 million or about 1% in the quarter due to foreign currency translation.

Fueling Systems sales declined about 1% after excluding foreign currency translation.

Fueling Systems operating income was $15.2 million in the third quarter of 2016, down $0.2 million or about 1%, compared to $15.4 million in the third quarter of 2015 as reported and down $0.1 million or 1%, compared to $15.4 million after non-GAAP adjustments in the third quarter of 2015.

The third quarter operating income margin was 26.3%, an increase of 20 basis points from the as reported 26.1% of net sales in the third quarter of 2015. The third quarter operating income margin after non-GAAP adjustments was 26.5%, an increase of 40 basis points from the 26.1% of net sales in the third quarter of 2015 after non-GAAP adjustments.

The company's consolidated gross profit was 85.5 million for the third quarter of 2016, an increase of $8.7 million or about 11% from the third quarter of 2015 gross profit of $76.8 million.

The gross profit as a percentage of net sales was 35.6% in the third quarter of 2016 and increased about 260 basis points versus 33% during the third quarter of 2015. The gross profit margin increase was primarily due to favorable pricing, lower direct material cost, and sales mix.

Selling, general and administrative expenses were $55.4 million in the third quarter of 2016, compared to $47.7 million in the third quarter of the prior year, an increase of $7.7 million or about 16%. Roughly half of the company's SG&A expense increased in the quarter to about $4 million was due to higher variable compensation expenses.

Marketing and selling related expenses increased to about $1 million due to poor sales growth and research, development and engineering expenses increased by $0.8 million in the quarter. The tax rate and four discreet events in the third quarter of 2016 was about 27% flat for the third quarter 2015 tax rate for the discreet adjustments.

The effective tax rate as a percentage of pretax earnings for the third quarter of 2016 was about 25% primarily due to the favorable impact from equity compensation share based payment. The tax rate before discreet adjustments of percentage of pretax earnings for the full year of 2016 is projected to be about 26%.

The company ended the third quarter of 2016 with a cash balance of $79 million which was about 3% lower than at the end of 2015. The cash balance decreased primarily due to higher capital expenditures and seasonal working capital requirements in the Northern hemisphere.

Our company generated about $71 million in cash flows from operations in the first nine months of 2016. The company had no borrowings on its revolving debt facilities at the end of the third quarter 2016 or at the end of 2015.

The company did not purchase any shares of its common stock in the open market during the third quarter of 2016 and as of the end of the third quarter of 2016 the total remaining authorized shares that may be repurchased is about 2.2 million.

Yesterday the Franklin Electric Board Directors declared a quarterly cash dividend of $0.10 per share payable November 17, 2016 to the shareholders of record on November 3, 2016. This concludes our prepared remarks and we would now like to turn the call over for questions..

Thank you. [Operator Instructions] And our first question is from Edward Marshall with Sidoti & Co. Your line is open..

Hi Gregg and John, how are you guys?.

Good morning, Ed..

Good morning, Ed..

So I wanted to talk about may be the geographic mix and I'm wondering if there are more profitable regions around the world than others and especially as it relates to the Water Division?.

Yes, Ed, I would say that any region where we have a concentration of groundwater pump and equipment so that may be is more product mix than it is geography mix. But our Asia Pacific business is a highly profitable business as it has that concentration.

Generally in our European business is highly profitable business because it has that concentration as well.

So any of our geographic regions that have a greater concentration of groundwater versus surplus equipment, where the companies which that starts in the past is more broadly integration from a supply chain perspective are generally going to be more profitable and have higher margins than those that are more concentrated in surplus pumping equipment..

John, when I look to say Continental Europe and then if you include the Middle East in that number, can you, is there a way to breakout kind of what you're seeing in Continental Europe versus the Middle East in general as it relates to water from a growth perspective?.

Ed as we have discussed in the past there has been kind of modeling for several quarters. Europe is flatish, we say that in the Middle East you know put together record quarter water that has been impacted by strengthening dollar and weakening Turkish Lira. Where we've seen weakness has been in the Gulf region and particularly in Saudi.

We thought we'd first seen sales actually kind of in the back half or the first half of this year interested in really materialized and it is clear that Saudi is reducing infrastructure spend spilling over to a couple of the other smaller countries in the Gulf region as well. We've just not seen the infrastructure spend.

We are encouraged that we are getting to see some inquiries as we're coming into the back half of the year particularly as I mentioned in the report..

Right and how much would you attribute that to the political versus say the infrastructure spend on oil and I guess they're somewhat related, but…?.

Oh, that's tough to called, I don’t know it's, if you have a point of view on that?.

Yes that's still, they are very much intertwined and certainly war has impacted us and [indiscernible] and we have a situation in Saudi has been in our opinion relatively stable, since the lower prices are just killing their economy and they don’t have the cash quite honestly to spend on infrastructure and other development..

Right, and as we look forward and I know that, with respect to the more positive comments the 4Q in those regions, as we look out to 2017, I mean, do you think that, is it contingent on what happens in energy or is this a replacement demand that you see that can kind of offset some of that or kind of how do you see that playing out and how are you planning for that to play out say in 2017 and beyond?.

Sure Ed, broadly as we've discussed on our call there would be a great volume replacement in volume and that's exists throughout the globe and in our water businesses.

It's a very large replacement market generally, that's why availability is so important why we have the products out in the regions [indiscernible] to have product closer to the customer. And so as we look at that from a broad point of view we'd say that it's more related to economic factors, weather conditions and overall GDP growth.

We would expect in that region if you see some stability in the environment then we expect to see improving sales.

I think oil price has kind of worked its way through in those regions I'd say the Gulf I'd say is at 0.17 our comp obviously the Saudi will be easier and around the globe those [indiscernible] has the service trickle down effectively for oil price we should see easier comps going to 2017 as this pretty much works its way through our sectors..

Got it.

And finally, I'm just looking at the fourth quarter SG&A expense John, if I could, I know seasonally it tends to be a little bit weaker heading into 4Q, but you've ramped up kind of that compensation expense into the back half of the year as things kind improved a little you know worst than last some of what happened last year? So looking at fourth quarter could you kind of give any specific items as it relates to SG&A may be as a percent of sales or something that you kind of consider that the fourth quarter, just because of the seasonality in that number throws it off a little bit?.

We have the fourth, you know, I think that as we look at the fourth quarter you know we're on a total fixed cost basis which were both the SG&A and that the cost has been our cost of goods sold, I think we're making something pretty much in line with the third quarter.

In total, that number was $79 million in the third quarter and we think it will be $79 million to $80 million in the fourth quarter.

The big swinger that happened in the fourth quarter as you know is we're going to really lock down some of compensation of reserve balance within the fourth quarter as we get I think much clearer picture of where we're going to be to some of the targets.

Last year, in the back half of the year, that was actually, we were actually lowering those target reserves. This year in the back half of the year we're actually increasing those targeted reserves. So that's – that becomes a meaningful mover for our back half and more specifically prepared for it..

Great, thanks for the detail. Sorry about the putting you on the spot there, I appreciate it, thanks guys..

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

Hey, good morning guys..

Good morning, Ryan..

Hi Ryan..

Just a clarification on the Fueling, did you say you are expecting growth in the international market in the fourth quarter?.

That is right. Yes, we're expecting growth in the fourth quarter in Fueling in international markets..

Okay and could you just kind of help bridge the gap on sort of what you see changing from third quarter to fourth quarter and then any color on sort of the competitive dynamics you're seeing in the Fueling side? I know there's some potential consolidation in the space and whether or not you're seeing any impact on the competitive market as things were challenging in the quarter?.

Yes, to respond to the first part of your question, we saw some push out orders in India which we expect to see going into Q4. We saw some push out orders in Australia and the Asian market more broadly which we would expect to improve in Q4.

We will have a, we will need a comp on the [indiscernible] is not a major part of business, but at the margin was part of the sale fall off with no fuel oil production coming down before last year.

So the, Northern Asia comp, it will be interesting to see that people will believe there are Q3 internationally we'd start to see that start picking up in Q4. With respect to your question about competitive dynamics, again the consolidation effectively is in the dispensing pace which we don’t play in and it has yet to actually occur.

I think the so brainier version of [indiscernible] this bunch of company believe the pending acquisition of Wayne [indiscernible] are subject to review by and across authorities. So certainly there's no consolidation yet occurred and it's been stenciled space which we don’t operate..

Sure, thanks a lot. And then on the U.S. side, there's been a thought that, there's been some increased refresh in the developed markets has changed out some of the financial payment systems.

Do you guys think you are seeing any benefit of that and can you gauge what the impact is and if there is any follow on effect as we move forward here?.

Sure, we've continued to get study organic roles in the U.S. market as we completely gain traction with our product s and I do think you can look at the change or the Fueling Systems is being somewhat of a double edged sword.

On the one hand it diverts capital to do that change route, on the other hand if you look at there was a major upgrade of underground things in the U.S.

market back in the late 90s and that's why the many stations were refreshed at the same time when they put in double wall things and so thanks for all those stores, they are all now 15, 18, years old. And so, I think that you're just seeing as you pointed out is a general reflex.

People are looking at payment symptoms putting in extensors, doing kind of ground up first all stations, moving stations, if stations are that were built 20 years ago. We may not be in the right periods, where we're the population is black. And so, we will certainly see it's been a good stable for us.

We believe we are continuing to gain share with our approach to the whole system package, we can deliver the package through our customer that's complete and from the time to the dispenser. So it's been generally favorable conditions for us and we have seen potential and there was [indiscernible]..

Great, thanks guys, I'll jump back in queue..

Our next question is from Matt Summerville with Alembic Global Advisors. Your line is open..

Thanks, good morning.

A couple of questions, first what drove the magnitude and strength in some residential side of business as it pertained to groundwater? I believe you said it was up 17 in the quarter, that may have been against an easy comp, but if you could just clarify that? And then similarly comment on your experience in Ag in Q3 versus kind of how the comp looked here as well?.

Sure Matt. On the residential our business was very strong, it's the Mississippi which is where you have majority of residential pumping systems. We have a strong distribution base. We cover share, some share we lost and we're building share based on new pricing reductions, we're you know we've had to refresh our drives, with our new drive connect.

These are generally Franklin is just more visible marketplace and it is paying off. When you look at Ag, as you pointed out, Ag kind of West, broadly West of the Mississippi.

We go greens which precluded products kind of second growing season over the second irrigation season that often we see and the central region we [indiscernible] certainly the wet weather has improved the climate in California, it reduced drilling activity in California.

So we see kind of majority of Western Mississippi a little bit softer environment. But as we've talked before, we have large replacement components of our business so even again with crop prices where they are and the weather conditions so we had a positive year-over-year comparison..

We have seen in 2016 overall in both water and fueling in terms of price realization versus 2015 and I assume, I recognize it's early, but these are discussions you are probably starting to have now, what are your plans in terms of pricing for 2017?.

Matt, we saw in the quarter about 80 basis points of improved price over last year's third quarter on a consolidated basis, all that was in water and almost all that was in our international unit including in Brazil.

The price environment in North America on the water side remained very difficult and competitive and our price in fueling in the quarter was down from last year as well.

So as we look to 2017 to answer your question I don’t think our expectation is going to be too different than what we have historically put into our annual operating plan and I think it will be something in the 200 to 225 basis points assumptions.

We're optimistic that we will recover more in North America as we're trying to get through this Ag situation which is weighed heavily on price and we're confident many of our international markets have already to get price.

So I'd say if anything this is what we normally would be looking at this time of the year and maybe it is fast up 25, 50 basis points something like that as we look at 2017. I mean North America water is still very competitive. We're happy to [indiscernible] it is very competitive then end market..

And then may be if some more if you can comment on what you are seeing, there was some commentary in the release just a little more specifically perhaps on input cost and what the outlook is there moving into 2017? And I guess it could be end of the day what I'm trying to kind of get to is what's the leverage, the incremental margins should look like in these businesses as we move into next year?.

Yeah a lot of that will depend on mix and realized price. Matt, what I can say to you is, as we look at the fourth quarter on a input raw material cost we are still expecting to be at a deflationary position versus last year's average price. But it is going to be a tighter one than what we've experienced so far your data strings in the third quarter.

In terms of 2017 we haven’t fully vetted 2017 from a full margin, first talked to you and I think it is slightly better to kind of leave that to another day when we can talk more clearly about our guidance there.

But I think the key moving parts are we still expect that we'll get some more raw material benefit for example when we look out at our full purchases of copper and other steel we feel pretty good about where we're at on some of that, but mix as I said will play an important role in that as we achieve price..

Great, thanks guys..

And our next question is from Ryan O'Donnell with Baird. Your line is open..

Good morning guys, thanks for taking my questions..

Hey, Ryan..

So just starting on the water side, can you guys just give an update? I know you mentioned pricing is still pretty tough in North America, just how inventory levels look at the distributors, how the reset is going for you guys?.

Really, we have the distribution in place across the country that we need so really that's kind of 2015 type news in our mind.

So and clearly with the achievement on the particularly the residential side and again kind of broadly Mississippi, I think actually we're getting good traction, I think the full reflection of the product development we've had as well..

Yes, okay and then just on the inventory levels how those look in the year and then any chance you guys given the better year you might see more customers reaching for some of those yearend discounts and quantity discounts and things like that?.

Yes, I think that, we don’t hear a lot about real accepted inventory levels Ryan. I think the channel inventory levels in the core groundwater distributor market in North America are not bad. They are about right. So, yes I think there's the possibility. We're certainly expecting growth in the fourth quarter in our core water business in the U.S.

How much growth is the key question. And I think there is the possibility that those distributors could be reaching for some of their yearend incentives. So that's the – that gets all in play as we go through this quarter..

Okay, that makes sense. And then just given some flooding in certain areas of the U.S.

and Hurricane Matthew obviously in the past couple of weeks, is there any change you guys see a benefit long term of the big de-watering pumps and things like that or is that not really baked into your guidance at this point?.

It's not baked into the guidance. Our distribution in the Southeast could be better than it is and so again for the pump companies that do, many of those pumps that we forward for fracking we just deliver those pumps to other locations. So I wouldn’t think we'd see much of the margin. We have incurred a lot from our guidance on that.

There was little bit of disruption for groundwater business in the Southeast obviously we just powered and we should get it – due to normal work that now appears to be behind us so people have moved back to kind of a normal business here and certainly in Florida, and next South Carolina could follow..

All right, and then last one from me, just on the Pioneer side, any change to kind of rental channel CapEx and things like that in the outlook into next year?.

What I would say Ryan is, not a ton of change. It's still, it's not very good outlook, let's put it that way. I think if anything it's marginally worse perhaps now than it did last time. But what we're seeing is our large rental customers build kind of dealing with a fleet that is in excess of what they need and trying to manage through that.

So we're busy, our intention is to find new outlets and find new distribution capabilities that we can tap into. So that's – our business in that area if nothing looks much better..

So what we've been doing, we've being refocusing activity to other channels, municipal, industrial and so we're starting Pioneer have a higher top line next year than this year..

Okay, I appreciate the time guys, thanks. And our next question is from Edward Marshall with Sidoti & Co. Your line is open..

I just want to followup on Matt's question on pricing.

We talked about the international being the driver of the price right now and if North America is difficult, if I think about what's been going on in the industry and you talk about one of your competitors that had divested a business valve business and talk about the cash and the influx of cash to grow you know among other things the water business.

I'm curious about how you are preparing for say pricing pressure in North America intensify? And then also maybe what that might do from an international perspective as well where you're not seeing that price?.

You are speaking of with the frontier as the best, their business what we directly align with them as well for the small part of the business, the competitive nature and I expected the competitive nature of the North American markets are really the similar to where we are right now. I don’t expect it change much with their decision in best valves.

And outside the United States we really don’t run up against in very many markets because of our more groundwater focus and they are focused on other areas..

Got it, thanks guys..

Must be a little clear though too, that the pricing environment internationally was also highly competitive. We have been able to see the price and areas that are seeing a fair amount of deflation..

Like Brazil?.

Yes, exactly..

Okay, thanks guys..

Thank you. I'm not showing any further questions. I'll now turn the call back over to Mr. Gregg Sengstack for closing remarks..

Well, thank you for joining us today and look forward to speaking to you after our fourth quarter in the New Year. Have a good week..

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