Brad Pogalz - IR Tod E. Carpenter - President and CEO Scott J. Robinson - VP and CFO.

George Godfrey - C.L. King & Associates Charles Brady - SunTrust Robinson Humphrey James Giannakouros - Oppenheimer & Co. Brian Drab - William Blair & Co. Daniel Rizzo - Jefferies.

Good morning. My name is Tashan and I will be your conference operator today. At this time, I would like to welcome everyone to Donaldson's Third Quarter Fiscal Year 2017 Conference Call. All lines have been placed on mute to prevent any background noise. After the speakers' remarks, there will be a question-and-answer session.

[Operator Instructions] Thank you. I would now like to turn the call over to Brad Pogalz, Director of Investor Relations. The floor is yours..

Thanks Tashan. Good morning, everyone, and thank you for joining Donaldson's fiscal 2017 third quarter earnings conference call. With me today are Tod Carpenter, President and Chief Executive Officer, and Scott Robinson, Chief Financial Officer.

This morning, Tod and Scott will recap our third quarter performance, the drivers of our increased guidance for fiscal 2017, and provide an update on some of our strategic initiatives. During today's call, we may reference non-GAAP metrics, such as adjusted earnings per share.

You can find a reconciliation of GAAP to non-GAAP metrics within the schedules attached to this morning's press release. Also, for reference, this morning we posted a schedule on our Investor Relations Web-site showing the year-over-year sales change with and without the impact from currency translation.

I want to remind everyone that any forward-looking statements made during this call are subject to risks and uncertainties, the most important of which are described in our press release and SEC filings. Now, I'll turn the call over to Tod Carpenter.

Tod?.

Thanks Brad. Good morning, everyone. I want to begin by welcoming the Hy-Pro employees and their valued customers to Donaldson Company. With their focus on stationary applications, Hy-Pro is a strong complement to Donaldson's mobile hydraulic business.

Our two companies leverage product innovation and world-class customer support to solve complex filtration problems. We're looking forward to combining our global footprint and technology with their application expertise to accelerate growth in the strategically important liquid business.

I also want to thank our Donaldson employees worldwide for their contribution to our strong results. They are doing an excellent job addressing demand and meeting our customers' needs. At the same time, they are pressing forward on our strategic initiatives, further strengthening our foundation for continued success.

I sincerely appreciate their hard work and commitment. Turning now to a recap of our performance, we had another strong quarter on the top and bottom lines, driven primarily by the Engine segment. We anticipate recent trends to continue, so we increased our full-year forecast for sales, operating margins, and earnings.

In total, we see fiscal 2017 sales up approximately 6% and adjusted EPS up more than 10%. Scott will cover our guidance in a few minutes, but first I'll share some third quarter sales highlights. Total sales increased 6.5%, with Engine up 13.5% and Industrial down 5%.

Compared with recent trends, our Engine first-fit businesses performed very well last quarter. In Off-Road, sales grew 27.5% to $69 million, representing the highest volume in 10 quarters. A portion of this increase is due to an easy comparison from last year, but there are a couple of other noteworthy drivers.

One factor is a mix benefit from the type of equipment being produced. The largest mine haul truck for example have somewhere around 20x the dollar content of an over-the-road truck. Given that dynamic, even a modest increase in production can accelerate our sales. In addition to this mix impact, we are also seeing benefits from our past program wins.

We have a strong win rate in both air and liquid, and the first-fit fuel wins are almost all incremental to our business. While the volume in first-fit fuel is still relatively small, our SELECT fuel offering, which leverages our innovative Synteq XP media, grew more than 20% last quarter.

We saw a slight increase in On-Road last quarter driven entirely by growth in the U.S. While it appears this market is stabilizing, it's worth pointing out that third quarter last year was the lowest volume quarter that we had in almost six years.

The stability we're seeing in our Engine first-fit business is complemented by continued strength in sales of replacement parts. Total Aftermarket sales were up 11% in the quarter, and that's on top of 5% growth in the same quarter last year. Once again, the strength in Aftermarket was broad-based.

We had year-over-year growth in all major regions and both channels. Additionally, Partmo added about $4 million to the top line and contributed to the 50% increase we saw in our Latin America Aftermarket sales. Sales in our Aftermarket OE channel were up in the high-single digits last quarter.

We had growth in both On and Off-Road products and sales of PowerCore were up in the low teens. Based on what we are hearing from our customers and seeing in our data, the demand appears to be more about pull-through than restocking. However, it's tough to tell and we're closely monitoring week to week ordering patterns.

In our independent Aftermarket channel, sales were up in the low teens. Our lube and fuel business was up in the low 20% range, driven largely by the short-cycle program wins we have had in recent years. We are also benefiting from increased activity in the mining and oil and gas industries.

Sales to customers with exposure to the energy sector are up meaningfully, driven by the higher amount of content required for setting up and operating these sites. Rounding out the Engine segment, Aerospace and Defense sales were up 22% last quarter, reflecting growth in both commercial aerospace and defense.

While our Engine businesses seem to be on firmer footing, we still have some variability within our Industrial segment. Total sales in this segment were down 5%, driven entirely by GTS. The gas turbine market continues to be challenged by customer delays, low demand for new projects, and aggressive competition.

Consequently, sales into large turbine systems are below our forecast and last year. We are confident that this market has value over the long term, so we will continue to be selective in how we bid large turbine projects while pursuing growth in sales of replacement parts.

Our Industrial Filtration Solutions business is also facing soft first-fit demand. The modest increase last quarter in IFS reflected a high-single-digit increase in sales of replacement parts that was offset by a commensurate decline in project sales.

On a positive side, quoting activity in IFS continues to pick up in most geographies, while orders are still slow to develop. Some of this pressure is being mitigated with our innovative product offerings such as LifeTec filters for the food and beverage industry, pleated bags that replace traditional baghouse filters, and Downflo Evolution.

Downflo Evolution brings the razor to sell razor blade model into dust collection and it is being very well received by customers. Sales of this equipment were up more than 20% last quarter, and we continue to gain traction outside the U.S. In Asia-Pacific, where we launched about a year and a half ago, sales were up 40%.

In Special Applications, all the businesses contributed to the 12% increase, but sales of disk drive filters were the biggest driver. The growth in disk drives appears to be more of a temporary shift as hard disk drive storage is getting a short-term benefit from challenges related to the availability of solid state storage.

That said, for years we have been working on increasing share with major customers and getting extra content per drive. The benefits from these efforts were magnified last quarter when the market headwinds moderated, but we expect that pressure will resume in the near future.

I'll now turn the call over to Scott for a discussion of our third quarter results and outlook..

Thanks Tod. Good morning, everyone. As Tod said, we had another strong quarter. I'll briefly touch on the highlights and then I'll cover the details of our increased sales and profit outlook. Third quarter total sales were up 6.5%, or 7.7% in local currency. Total operating margin increased to 14.5% from 13.1% last year.

Net earnings were up 10%, and GAAP EPS grew to $0.45 from $0.41 in 2016. As a reminder, our prior year results included pre-tax restructuring charges of $4.1 million.

Excluding the impact from restructuring in the prior year results, third quarter 2017 EPS was up $0.02 and operating margin was up 70 basis points, reflecting higher gross margin and expense leverage. There were several moving pieces in our gross margin, which was up 20 basis points on an adjusted basis.

We captured some benefits from cost reduction initiatives, but higher than expected demand is creating a variety of incremental costs like premium freight and overtime in our plants. The expense leverage last quarter was primarily driven by sales volume, but the benefit was partially offset by higher incentive compensation.

Our other income went down by $2 million, with the difference attributable to a swing from a gain on foreign exchange last year to a loss this year. Our third quarter tax rate increased to 28.7% from 24% last year. Discrete benefits in the prior year accounted for nearly all the increase.

In terms of cash management, we feel good about our working capital in light of the higher demand. The increase in receivables and inventory levels contributed to the cash conversion rate that was below 100% but not out of line with where we expected it to be.

Meeting our customers' needs is always a priority and the increases were in line with the momentum in the business. Finally, we returned $81.7 million to our shareholders last quarter through dividends and share repurchase, which included buying back another 1% of our outstanding shares.

Once again, we are pleased with the solid third quarter results and we anticipate a strong finish to the fiscal year. We raised our fiscal 2017 sales forecast to plus 6%, reflecting year-over-year growth of 10% to 11% in Engine, combined with a decline of 2% to 3% in Industrial.

Compared with the midpoint of prior guidance, our total sales forecast went up about 3% or $65 million. All that increase is attributable to Engine, which includes an incremental benefit of $6 million from the acquisition of Hy-Pro.

The negative impact from currency translation also moderated over the third quarter, resulting in a full-year impact that's less than 0.5 point on total sales. In Engine, the forecast came up for all businesses. The strongest year-over-year growth is coming from Off-Road and Aftermarket, which are both expected to be up in the low teens.

While the growth in Off-Road is encouraging, our full-year forecast puts us at about two-thirds of the peak volume and it is still below where we were just two years ago. The Aftermarket forecast is a different story and very positive story.

Based on growth of innovative products, our geographic diversification and roughly $19 million of inorganic contribution from recent acquisitions, we are forecasting Aftermarket sales to be at a record-setting level this year.

Sales of On-Road products are expected to be down in the low double-digit range, which is better than our prior forecast, because of increased stability in North America. Lastly, in Engine, we expect full-year A&D sales to be up in the mid-single digits, a modest increase from prior guidance as we fine-tune the forecast.

Our Industrial sales guidance came down slightly, driven by GTS. Based on a strategic shift we made last year, market conditions and competitive dynamics, we now see GTS sales decline in a 20% range. We expect sales of Special Applications will be down low single-digits, or as we are forecasting IFS sales up in the low single-digits.

We also raised the midpoint of our operating margin forecast by 20 basis points. We now expect to deliver a margin of 14% to 14.4%.

The sales leverage on our fixed expenses is giving us some tailwind, but pressures from a handful of items, including the cost associated with meeting higher than expected demand and incentive compensation, moderate the incremental gains.

Based on the midpoint of our guidance, the implied incremental margin for FY 2017 is in the low 30% range, reflecting an incremental rate of 50% in the first half and about 20% in the back half. As a reminder, the first half rate was driven up by a couple of factors, with the most notable being a very easy comparison from the prior year.

Additionally, the faster than expected sales pickup in the second quarter gave us extra leverage as our associated expenses lag demand. We feel that the back half rate is more typical of what we'd expect over the long-term.

Of course, the incremental rate will vary from quarter to quarter and by fiscal year and it's largely dependent on what's happening with the sales and our level of investment back into the Company. Tod will provide an update on some of our strategic investments in a few minutes, so let me hit on a few of the other metrics in our fiscal 2017 guidance.

We expect a tax rate of 27.7% to 28.7% and our other income is now forecast between $10 million and $15 million. We still see CapEx between $60 million and $70 million, but we revised our cash conversion guidance down to 100% to 110% to account for the increased working capital needs.

We are still planning to repurchase between 2% and 3% of our outstanding shares this year. Altogether, we now expect adjusted EPS between $1.67 and $1.71. The midpoint of this range is 11% above last year's adjusted EPS and 3% of the midpoint of our prior guidance range.

As a reminder, GAAP EPS includes a benefit of $0.05 from an escrow settlement in the first quarter, so full-year GAAP results will be above adjusted EPS by that amount. In addition to tightening up our FY 2017 forecast, we are in early stages of planning fiscal 2018.

Given the recent momentum, we thought it would be helpful to share some of the items we are contemplating in the process. I forewarn you that I'm going to keep my discussion and any answers to your questions at a high level. We'll provide a detailed outlook when we release our fourth quarter earnings in a few months.

Starting with sales, our analysis of the Engine end markets, which is influenced by trends in our business, third-party data and external customer forecasts, suggest the recent stabilization should continue through at least this calendar year. Should that hold true, it's likely that both production and equipment utilization will be up in our FY 2018.

The degree of the increase will vary based on several factors, including the type of equipment, the geography where it's being used or produced, and the impact from used equipment already in the field. Above all, economic conditions will drive the performance.

The outlook in our Industrial markets is cloudier, but forecast for durable goods manufacturing is positive and PMI has been trending over 50 for nearly a year. What we have yet to see is a meaningful shift in global CapEx spending that stimulates project growth. So we will be closely watching trends over the coming months.

We still have a lot of work to do on profit projections, but I wanted to share a few of the items we are contemplating in our plan. There are a handful of tailwinds for FY 2018 operating margin, including a lower incentive comp as we reset the annual bonus plans and some relief from the incremental cost associated with higher-than-expected demand.

We expect a portion of these benefits will be offset by sales-driving and technology-related investment. It's too soon to comment on the net effect these puts and takes will have on next year's operating margin, but we will be disciplined in our investments and our long-term commitment is to generate incremental profit on increasing sales.

We will also maintain a keen focus on our balance sheet next year. I am pleased with the progress we made and I am confident in our employees' ability to keep driving improvement as we continue to leverage our global ERP and centralized key functions.

Our cautious approach to planning this year left us in an excellent position to capture margin while minimizing the risk of reactionary cost-cutting. We will take a similar approach next year to ensure we are investing for growth and generating the best returns on our invested capital. With that, I'll turn the call back to Tod.

Tod?.

Thanks Scott. We are encouraged by the stability in the Engine end markets, but the variability between our segments remind us that we are still in a mixed operating environment. As we look forward, we expect the recovery to be choppy, especially in our Industrial segment, so we will plan cautiously.

At the same time, we are making strategic investments in sales-driving initiatives, expanding our technology portfolio, and strengthening our infrastructure. The most obvious investment to drive near-term growth is adding sales staff to the businesses where we can grow first-fit and/or replacement part sales.

Additionally, we are seeking to accelerate growth in some of our newer product offering, such as venting solutions and the LifeTec filters for the food and beverage industry. We also began building an e-commerce platform this year. We are complete with the design phase and our 'into the application build' phase.

We expect to launch next fiscal year in select businesses. This platform will make it even easier to engage with Donaldson for new and existing customers. In terms of our technology, we will scale up our R&D investment.

We have historically spent between 2% and 3% of sales and we expect to increase that to somewhere between 3% and 4% over the coming years. We want to further widen our technology gap by developing best-in-class media, innovative form factors, and new filtration processes. Another technology focus is connectivity.

End users are looking for more ways to efficiently manage their equipment and we believe Donaldson can play an important role in their quest. We are very early in this process but one tactic to drive this strategy is leveraging our acquisition last year of EPC and their Filter Minder brand.

This company brought a well-known brand and it had a strong focus on sensors and indicators, so we made it a center of excellence for our Engine business. We will look for ways to integrate this technology into the filtration solution as we believe our customers would value that option.

Finally, we are planning to strengthen our infrastructure for future growth by making people-related and capacity investments. In terms of our people, we will begin work on a global HR system.

Much like the business case for our global ERP project, we are confident that a single tool and consistent approach will advance us towards our goal of being a world-class employer.

Additionally, we are looking to expand our production infrastructure by adding capacity to certain product lines, with a particular focus on our innovative offerings like PowerCore and liquid. Every one of these broad priorities and the tactics associated with them supports our strategic objectives.

We will leverage our technology to drive first-fit revenue that drives sales of aftermarket products. We will continue to focus on diversification, both in terms of end markets and geographies, and we will actively manage our M&A pipeline to identify, engage and acquire companies that help us accelerate the progress on our strategic objectives.

We've been executing on all of these tactics during the downturn and the recent stabilization gives us an opportunity to accelerate plans in certain areas. We will maintain the disciplined approach we have applied for years, so I want to clearly state that we are not expecting to take a step backwards in terms of operating margin.

As Scott said, we expect to deliver incremental profit on growing sales. Our goal is to self-fund these investments by prioritizing our expenses and redirecting a portion of that incremental profit we expect to generate.

I'm confident that these actions are necessary and appropriate as we further strengthen our foundation for the long-term success of our Company. Now I'll turn the call back to Tashan to open the line for questions.

Tashan?.

[Operator Instructions] Your first question comes from the line of George Godfrey with C.L. King. Your line is open..

Really nice revenue growth and total revenue coming in over $600 million, I would have thought the gross margin would have been just a tad higher on such a strong performance on the top line.

Could you talk about the first-fit products or specific platforms perhaps that are pressuring the gross margin on such a strong revenue number?.

Sure. This is Scott, I can take that. So, in terms of gross margin, I wouldn't say it was related to any one particular product category.

As we said, there was some gross margin pressures with the accelerated demand, we had a little bump in overtime costs as well as freight, and we also had a tough comp from last year, so those couple of factors I would say is what drove probably the point that you are thinking about..

Got it. And then just a follow-up, this morning Deere announced they are buying Wirtgen Group for about $5 billion and focusing more on construction.

Do you have relationship with that company, and if so, is it meaningful or does the Deere open up that door?.

This is Tod. We do have a relationship with them. They are a customer of ours and we enjoy a nice position. The Deere relationship really just further strengthens between the two companies what we already enjoy with both of them..

Got it. Thank you for taking my questions..

Your next question comes from the line of Charlie Brady with SunTrust Robinson Humphrey. Your line is open..

Just on the ERP system that's essentially done from what I understand, can you just talk a little bit about kind of leveraging that as you go through? You've spent the past few years, three or four years, engaged in that in a pretty heavy way and now it's kind of essentially behind you with some small blocking and tackling, but how do you leverage that going forward? I think in the past you've talked about some opportunities, but maybe just a little more granular on where you can take that and what that can mean to margins over say a two or three year period?.

Sure. This is Scott. So yes, we've talked about our ERP implementation quite a bit. We spent four years and approximately $90 million on that implementation to convert the Company to Oracle R12. Our last conversion was completed on the first day of this fiscal year.

So that brings the Company onto a single platform and we feel that we have a long runway of opportunity to have better information, to manage global processes, to standardize processes, and to be able to leverage that into a stronger performance of the Company.

So, we are on a long journey of creating centers of excellence and standardizing our processes to both be faster and have better information. We've used the leverage of that system already in our cost-cutting initiatives, and we think we have a long runway to continue that.

We're not going to make changes overnight, it's going to be slow and steady, we'll win that race, and I think we have a long runway to leverage that and make the Company operate more efficiently. Tod mentioned, we want to increase our R&D spend, but we don't want to take profitability backwards to do that.

We would envision reducing our transaction processing costs and leveraging some of those dollars into investments to further the Company. Also, that system allowed us to begin the e-commerce project this year, which comes right on the heels of finishing the ERP, because we needed a global ERP to link the new e-commerce system into.

It also facilitates the HR project that Tod mentioned because we want to link either an Oracle or another HR system, all to R12..

Thanks.

And just as a quick follow-up, in the commentary about adding additional capacity to product lines like PowerCore and liquids, are you talking about building out capacity in an existing footprint that you have or is this additional brick-and-mortar footprint that gets put down?.

This is Tod. Typically there is both options available to us. Right now, we're looking at adding capacity in our current footprint for both of those as we continue to support growth.

Longer-term, we have a region for region-based operation strategy, and so we look for, for example, EMEA to support all the EMEA-based customers, APAC to support all the APAC customers.

And so, longer-term, over a five-year period, we're likely to add bricks and mortar over time, but in the near-term, it's more expanding to meet the current demand within the current footprints that we have..

Your next question comes from the line of Jim Giannakouros with Oppenheimer. Your line is open..

Tacking on to that I think Charlie just I think was asking just about EMEA, but I wanted to focus specifically on China, curious as to what you're seeing specifically there and if there are any changes to your approach there, recalling you were pulling back investments there, maybe a year or two ago was when I think you announced that?.

Jim, this is Tod. We have seen a bit of a pickup in China, mid-single-digit increases for example in the Q, but nothing that would suggest that we're going to pickup CapEx spending within that particular region or that the customer demand is driving the need to do so.

So, still remaining on the current strategy, which is a bit more cautious, but longer-term China remains strategically very important for the Company..

Okay, thank you. And independent aftermarket I think you said up low-teens, and I believe that's more reflective of end market demand versus restocking, if I piece your comments of this quarter and last quarter appropriately.

Are you seeing that more in Off-Road or in On-Road and can you talk about sequential trends versus say year-over-year comps influencing that double-digit increase that you've now posted?.

This is Tod again. It's really broad-based. It's across all regions, it's both double-digits at a minimum across all regions, it's across – Off-Road certainly driving the higher of the two, but in On-Road for example in the Americas we saw a nice uptick as well.

So, it's pretty broad-based regionally and now we're starting to see On-Road even enter the picture, but I would say it's more heavily weighted Off-Road right now..

Jim, this is Brad. I'll add to that that your question about sequential, both On and Off-Road in that channel were up sequentially as well, high-single/low-double range..

Anything above and beyond what you would expect from a seasonal perspective there, Brad?.

I think it was the normal seasonality. What was unique was the baseline, in that Q2 was very inflated from the restocking. I think that's the thing we are all watching, and you guys included, is what's going to happen after that big bulge of restocking in second quarter, and to see the momentum continue is good for us..

Yes, okay, thanks.

Last one if I may, hard disk drives, appreciating that you probably expect continued pressures there as we do, they are beyond the near-term benefits you are citing and the industry is citing, how would you frame your desire or willingness to stay in what is apparently a secularly declining market? Is it a margin or a cash flow contributor such that staying there makes sense, or given where you are in your cycle let's say in Engine, does it make more sense to make some portfolio moves into higher growth and/or margin areas where you can leverage your current channel, et cetera?.

So we enjoy a strong position in the market within our disk drive business. We understand that that is an industry under secular pressure. It will continue to decline for years to come, but it will not go away. That business will not eviscerate.

So, we look at it as a cash cow, we run it to make sure that it's very efficient, but also to stay in the number one position and it has continued to spin up new technologies and new technology concepts for us as the demands from the customer base continued to remain high.

So, we like that business for a lot of reasons, but we do run that as a cash cow type of the business..

Your next question comes from the line of Brian Drab with William Blair. Your line is open..

Congrats on the results. I just wanted to start with just pointing out that obviously the tone on this call is much different from the 2Q call, where I think on the 2Q call the message was, one data point is in the trend and we're cautious on the outlook, cautiously optimistic.

Today, clearly I think it's we've got two really good quarters logged in, but it sounds like you are able to look out farther. Scott made the comments on fiscal 2018.

Is that just the results we're seeing from Cat and Deere and can you add a little more color as to what is giving you what I'm interpreting as optimism on the medium-term outlook now?.

This is Tod. So, if you look at our customer base, and the Deere or the Cat, even Cummins, when they talk about engines produced, all three of those raised their recent guidance for the balance of this calendar year.

And so we point to them as really good data points that suggest people are feeling a bit more positivity for the balance of this calendar year.

For us, short-term, we've got three more months to go, we got another quarter here, we'll end our fiscal year, but we'll take all those data points at that time and we'll come out in about three months or so and bake that in and give you full year guidance, past obviously the calendar year.

But right now, there is certainly a bit more optimism across our customer base and you are seeing that through some of the end market increase, and therefore our numbers..

Okay, thanks. And then, we don't get a great look into what's happening at CLARCOR anymore, but they had recently introduced Channel Flow product that they claimed was going to be a perfect replacement for PowerCore in some SKUs.

I'm wondering if you could tell us anything about whether you're seeing them in the market, and secondarily, is that product being on the shelves at distributors giving you the opportunity to put PowerCore product into the broader independent distribution channel and maybe resulting in any measurable uptick in your aftermarket business as you stock that product?.

So, as we look at PowerCore for year-to-date in the replacement parts area where CLARCOR's entry would compete, we're up in the high teens year-over-year. So we're really proud and comfortable with our position there.

They have really released that to a small subset of parts, and so therefore, in really keeping with our strategy and teaming with our OEs, we will continue to honor our strategy of razors to sell razor blades and support them to help them acquire their aftermarket wherever possible.

The fact that they have, that CLARCOR have put just a couple of part numbers out there does not throw the channel wide open [at this time] [ph]..

Okay, that's helpful.

And then, this is going to be a reach but I'm just going to ask it, is there a chance in fiscal 2018 or a level of revenue growth where if achieved that you could generate above 15% operating margin?.

Yes, I would say that's a bit of a reach. We're still working through our plan. We're committed to delivering incremental profit on revenue growth. We have some unique factors that I talked about earlier in my script. And I promise we'll roll out together and we'll give you the best information we can come the fourth quarter earnings release..

Okay. And just to be – I want to make sure it is clear, I was saying it's a reach in asking that question trying to get you to say something, and then you acknowledged it's a reach.

You're not saying that the margin level is a reach, you're saying my question is a reach?.

No, I would say your question is a reach..

Yes, we would agree with you, your question is a reach, yes..

Right, I just wanted to make that clear in the transcript. Okay, thanks..

We appreciate that..

Fair clarification and a good one..

Your next question comes from the line of Laurence Alexander with Jefferies. Your line is open..

This is Dan Rizzo on for Laurence. If we back out Gas Turbine and Special Applications, it seems like your sales were 10% in Q3, 11% in Q2, compared to 2% in Q1.

Is there any reason why you can't sustain mid single-digit growth once you lap the step-up in Q2?.

You lost me in the math, Dan. Sorry about that. This is Brad..

I'm sorry. So if we back out Gas Turbine and Special Applications, I think sales were up 10% in Q3, 11% in Q2, up from 2% in Q1.

Is there any reason why we can't sustain mid single-digit growth once we lap the step-up in Q2?.

In aggregate?.

Yes..

Our full year guide, I mean I'm looking at a total number, but the implied Q4 guide is up in the high singles, if you just pick a part of the math. I haven't done with the subtractions that you're talking about, but I mean clearly Gas Turbine is a lot of noise in the system. The implied guide on that is in the down 20% range..

So maybe – this is Tod. I would add also that if we're going to take a look at the full year and go from Q2 to Q3, we do have some acute events on the Engine side on the restocking that we would have to normalize looking forward. So that would tamp that down just a little bit. We can't just roll it all in.

I mean Brad could do some activities and start to try to figure that out going forward. We've not done that suggestive math that you're pointing to..

No, that's actually very helpful. Thank you.

And then, a longer term question, can you please update us on how that you think the electric vehicles could affect your business, both near-term and over the next decade or so?.

This is Tod. So, we look at the electrification question obviously very closely in light of Europe and some of the legislation that's going on there for the inner-city electric buses as well as small vehicles. For example, small construction equipment in some cities in Europe would likely have to move away from diesel.

It's an important question for us. However, when we look toward electrification, while electric will win and displace some diesel engines, it will likely enter into the smaller diesel engine sector and at best go into more of the return-to-home type of a vehicle.

So for example, it may win some share in a garbage truck for example or something like that that returns in municipality to a home-base. But overall there has to be a much greater technology advance for electrification to win in the heavy-duty diesel engines.

So, electrification has a place in the future, but it is going to take decades to really displace much of the overall diesel engine shares that we see out there today, but it will have a small entry point.

All forecasting that you see today, even taking into account worst-case situations, worst-case being electrification has a breakthrough et cetera, would suggest diesel engines are still going to grow across the world for decades to come..

This concludes today's Q&A session. I'll now turn the call back over to Tod Carpenter for closing remarks..

That concludes today's call. I want to thank everybody for their time and interest in our Company. I also want to thank our employees again. I am very appreciative of their efforts and I look forward to a strong finish to our fiscal 2017. Goodbye..

And this concludes today's conference call. You may now disconnect..