Michael J. Monahan - Ecolab, Inc. Douglas M. Baker - Ecolab, Inc..

Gary Bisbee - RBC Capital Markets LLC Nate J. Brochmann - William Blair & Co. LLC John Salvatore Quealy - Canaccord Genuity, Inc. Laurence Alexander - Jefferies LLC David E. Ridley-Lane - Bank of America Merrill Lynch Manav Patnaik - Barclays Capital, Inc. Dmitry Silversteyn - Longbow Research LLC John Roberts - UBS Securities LLC P.J.

Juvekar - Citigroup Global Markets, Inc. (Broker) Michael Joseph Harrison - Seaport Global Securities LLC Kayvan Rahbar - Macquarie Andrew John Wittmann - Robert W. Baird & Co., Inc. (Broker) Christopher S. Parkinson - Credit Suisse Securities (USA) LLC (Broker) Rosemarie Jeanne Morbelli - Gabelli & Company Scott Schneeberger - Oppenheimer & Co., Inc.

(Broker) Dan Dolev - Nomura Securities International, Inc..

Greetings and welcome to Ecolab's Third Quarter 2016 Earnings Release Conference Call. At this time, all participants are in a listen-only mode. A question-and-answer session will follow the formal presentation. As a reminder, this conference is being recorded. I would now like to turn the conference over to your host, Mr.

Mike Monahan, Senior Vice-President, External Relations for Ecolab. Thank you. You may begin..

Thank you. Hello, everyone, and welcome to Ecolab's third quarter conference call. With me today is Doug Baker, Ecolab's Chairman and CEO; and Dan Schmechel, our CFO. A discussion of our results along with our earnings release and the slides referencing our quarter's results and our outlook are available on Ecolab's website at ecolab.com/investor.

Please take a moment to read the cautionary statements on these materials stating that this teleconference, the discussion and the slides include estimates of future performance. These are forward-looking statements and actual results could differ materially from those projected.

Factors that could cause actual results to differ are described in the section of our most recent Form 10-K under the Item 1A, Risk Factors, and in our posted materials. We also refer you to the supplemental diluted earnings per share information in the release.

Starting with a brief overview of the quarter, continued attractive new business gains and new product introductions drove acquisition-adjusted fixed currency sales growth in our Institutional, Industrial and Other segments during the third quarter, offsetting a moderated decline in Energy sales.

Product innovation, lower delivered product costs and ongoing cost efficiency work led the strong adjusted fixed currency operating margin expansion, more than offsetting the impact of soft economies, challenging end markets and continued currency headwinds. These drove the 7% adjusted earnings per share increase before currency translation.

Looking to the fourth quarter, we expect our Institutional, Industrial and Other segments to show modestly better year-on-year acquisition adjusted fixed currency growth versus the third quarter, outpacing their markets and soft international economies as they leverage investments we have made to further improve sales and service force effectiveness and profitability.

We expect lower year-on-year results from our Energy business.

We look for our fourth quarter adjusted diluted earnings per share to be in the $1.23 to $1.33 range, with that range including approximately $0.02 per share of unfavorable impact from the Venezuela devaluation and deconsolidation and currency translation, as we continue to aggressively drive business growth.

We have narrowed our forecast for the full year 2016 to the $4.35 to $4.45 range from $4.35 to $4.50, which includes expected currency headwinds of approximately $0.30 per share, of which $0.17 per share is from the Venezuela devaluation and deconsolidation.

Moving to some highlights from the quarter, as discussed in our press release, third quarter diluted earnings per share were $1.27.

On an adjusted basis, excluding special gains and charges and discrete tax items from both years, third quarter 2016 adjusted diluted earnings per share were $1.28, and included a $0.09, or 7 percentage point currency headwind. This compared with adjusted diluted earnings per share of $1.28 a year ago.

Our consolidated acquisition adjusted fixed currency sales were modestly higher as our Institutional, Industrial and Other segments grew 3%, but were offset by lower Energy sales. Regional sales growth was led by Latin America. Reported operating margins increased 500 basis points.

Adjusted fixed currency operating margins expanded 60 basis points as continued sales growth from the Institutional, Industrial and Other segments, lower delivered product costs and cost efficiencies more than offset investments in the business and lower Energy results.

In 2016's difficult operating environment, we have focused on driving new business gains by helping customers to lower their costs.

We are using our industry-leading product innovation and service strengths to help customers achieve the best results and the lowest operating costs, and through these aggressively drive new account gains across all of our segments.

We expect fourth quarter earnings per share in the $1.23 to $1.33 range, reflecting currency translation drag of approximately $0.02.

We narrowed our full year earnings per share forecast to the $4.35 to $4.45 range and this forecast includes expected unfavorable currency exchange of approximately $0.30 per share, of which $0.17 per share is from the Venezuela devaluation and deconsolidation.

In summary, despite a very challenging global economic and market environment, we expect to deliver solid fundamental results in 2016. We remain confident in our business, our markets and our people, as well as our capacities to meet our aggressive growth objectives over the coming years. And now here's Doug Baker with some comments..

Thanks, Mike. Look, my headline would be solid quarter, headwinds are easing, and we believe we're in a good position as we close out the year. So let me go through each of these briefly. So, first, the quarter. I would describe it as better than it looks.

The Institutional business, if you look at the underlying sales, particularly in North America, which is a big piece of the business, they remain consistent with the first half in Q3. The noise in this quarter was really in the U.S. distribution channel, and we expect Q4 sales to bounce back to the level that we were seeing prior to Q3.

QSR and FRS, our food retail and quick service businesses remain quite strong. Our F and B business was solid. They've got good new business. We expect that business to accelerate in 2017. The Water business, mining decline eclipsed mid single digit light industry growth and low single digit heavy industry growth.

Mining is expected to rebound in Q4 as it hits easier comps and also benefits from new sales, so the Water business will look much better in Q4 and throughout 2017. The Healthcare business grew at a healthy 6%. We expect an even better Q4 as it laps last year's recall and continues to benefit from new business efforts and successes that we're having.

So this business is really gaining traction. Pets and equipment care were quite strong and expect to remain strong. Energy stabilized. So our sales of $760 million in Q3 are consistent with both Q2 and Q1. Our OI in Q3, however, is much better as reformulations, synergies, and other savings take hold.

As we look to Q4, we expect the results to be quite similar to Q3. I call it plus-minus. Sales likely to be a bit better, OA, OI maybe a touch weaker as we will take down two plants for refurbishment. And we're doing that just to be prepared if we're surprised on the upside next year.

We don't want to be in a position where we have to take them down at that time. So we expect to leave the year with very good momentum and fewer hills to climb. The external environment continues to be challenging, and it's mixed, but we believe manageable from an economic standpoint.

Raw materials are expected to increase, but we can manage via pricing and cost savings we have in the past. And we don't see this as spiky. We see it as fairly gradual. FX is easing. So in our first quarter, FX was a 14% headwind, and it's roughly a 1% headwind in Q4. We assume we're highly unlikely to see another 7% full-year challenge in 2017.

Energy is stabilized, and if market only stands still here, it will likely or should be an accretive year even in those conditions for us in 2017. Internally, we've also continued to have great success with new business and our innovation pipeline. We've also maintained investments throughout this year. We invested more in 2016 than 2015.

And 2015 was larger in the investment category than 2014, so we continue to build on what we think our core investments for the future, so we have not, if you will, emptied the cabinet there by any means. We've also rebuilt bonus, taken down inventory, swallowed the absorption hit that this typically drives.

So we leave the year whole is what I would say. So while it's too early for 2017 forecasts, we're just frankly in the middle of our planning season. We feel like we're sitting in a good position, leaving the year to deliver a significantly improved 2017. So those are my opening comments. With that, I'll turn it back to Mike..

That concludes our formal remarks.

Operator, would you please begin the Q&A period?.

Thank you. Our first question comes from the line of Gary Bisbee with RBC Capital Markets. Please proceed with your question..

Hey, guys. Good afternoon. Doug, I'll just ask about that final or one of the final comments you made. I think you said Energy stabilizing if – did you say if oil prices stay around here, would it be positive in 2017 or something to that effect? Can you just give more color on how you get comfortable with that? Thanks..

Yeah. I mean, a lot of it, Gary, is just the timing of our OI improvements. So, we made, what, mid $50s million on roughly the same sales, like $56 million I think in the first quarter on roughly the same sales that we had in the third quarter. We made nearly $100 million in the third quarter. And a lot of that is just timing.

There's been a lot of great work done in that Energy business to reformulate products, lower cost, position ourselves for what I would say improved margins going forward once the wind starts blowing in our direction again.

So as a consequence of that, even in a relatively flat environment, if you assume no material activity change, and we continue to generate around the same $750 million, $760 million in sales a quarter, which is what we've done in the last three and are forecasting in four, you're going to see OI lift just as a consequence of the timing of the OI improvement this year.

Now, what we think is going to happen next year is there will be very modest improvement throughout the year, particularly in the second half of 2017, but I caution we think it's modest. We don't think this is by any means set up for a V recovery. I'm talking about the overall energy market.

In that environment, we think we'll have low single digit, mid single digit type sales and decent OI..

Great. Thanks. And then just a follow-up on the non-Energy businesses. You've done an outstanding job the last 18 months driving consistent margin expansion in all of those businesses to offset the Energy weakness.

Has there – I know you said you've been investing a lot, but is there a risk that if Energy takes longer to come back that, it just becomes much more difficult, I guess, particularly with raws prices likely going up in the first half of next year to sustain the momentum on a constant currency basis? Obviously FX looks like it's going to be a lot less of a drag..

Yeah. I think, Gary, I guess the FX, it hits you in transaction and translation. In transaction is like inflation. And we mitigate that. But the translation, there's nothing to do. And FX has really been the problem that's been the most challenging for us to negate because it's not going to justify any pricing or drive any pricing in the market.

Raw materials, I think we've proven over the years that when the raws start moving, we typically can go command additional pricing as a consequence. We continue to drive mix through new technology upgrades in our customers, and of course we've got to benefit the customers financially as well.

And we've got, what I would say, very strong momentum in our supply chain around what we call structural savings. So I'm really not that nervous about what we believe is going to happen in the raw material markets which we believe raws are going to move up next year, but we do believe we're going to move up in a fairly orderly fashion as we go.

But we have that fully forecasted in our business. I don't think that's going to drive or negate our ability to continue to drive margin expansion in those businesses. And I would say we didn't drive margin just because oil was down. I mean, we were driving margin when oil was up in a number of those businesses. That's kind of our constant.

We want profitable growth, continue to drive mix in a favorable way, watch our spending, continue to get productivity, and those are going to be the same focus areas next year as well..

Thank you. Our next question comes from the line of Nate Brochmann with William Blair. Please proceed with your question..

One, just when you think about all those productivity improvements, and obviously we always talk about that in terms of the Ecolab play book and you always have another ten ready to go.

But everything that you've done here recently that's shown up in terms of driving that OI and your confidence heading into next year, are all those things that you put in place gradually or put in place a couple years ago to help drive this, or are these all recent initiatives that are just starting?.

Well, it's some of both, Nate. So certainly a number of these initiatives have what I'll call long tails. They take a number of years to fully realize the benefit. And so a number of steps.

Look, we're continuing to roll out new technology in the Institutional field force, and so we certainly are already absorbing the cost associated with that, but haven't fully realized the benefits and won't for a couple of years, meaning it will continue to increase in benefit. But I don't think you're going to be at full run rate for a few years.

It just takes a while, the change happens in practices, take out the cost that it obsoletes, et cetera.

In the manufacturing and product supply area which we always said was going to be the last frontier for synergies, so we can't call them synergies anymore, but we are getting after a number of opportunities in product supply because we now have a full handle on what the network looks like today and what we think it ought to look like going forward.

And there are significant opportunities there that our product supply team is after. So we don't feel we're impaired in terms of opportunities to continue to drive productivity and margin enhancements as we go forward. And I would expect as we continue to add businesses through M&A that we will continue to see additional opportunities arise..

Okay. And then second question. I realize this is likely probably not going to be a 2017 event, but then going forward, hopefully, the economy at best maybe – or hopefully at least stays sluggish if not gets a little bit better over that time.

But how do you think about at some point in terms of balancing as you kind of recapture the Energy business a little bit and hopefully we have those less FX headwinds.

How do you think about letting that margin flow through to the bottom line and back to shareholders versus then when do you kind of kick up the reinvestment rate a little bit?.

Well, I think there will be – as the Energy business recovers, yeah, there's a number of things. I mean, as we've watched the volume degrade there, it is a more harmful process than simply you lose the OI, particularly because you lose the overhead coverage in your plant. So, I think, you're right.

As Energy volume comes back, you're going to see sort of outsize contributions in the near term as you build volume back in your plants. We will use some of that what I will call extra contribution to reinvest back in the Energy business where it makes sense. But we aren't going to be, I think, overzealous of those investments.

We want to see full recovery and make sure that we're investing as the business comes back, and we'd rather be two weeks late than two weeks early on that recovery because it is so hard to predict. So, I don't know if that answers fully your question.

But I don't feel like we've got huge pent-up investment demands in the balance of the business, and what I tried to highlight in the opening comments were, we have been increasing our investments in these last two years in spite of FX and energy headwinds. It's important to continue to do that in the business.

We have a relatively long-term view of the business. And so, I don't feel like the cupboards are bare. They're going to need to be restocked per se from an investment standpoint as a consequence..

Thank you. Our next question comes from the line of John Quealy with Canaccord Genuity. Please proceed with your question..

Hi. Good afternoon. First, geography question. Looks like Latin America was supportive to Water, Food & Beverage, Institutional.

Is there anything going on there that would suggest sustained strength in the end of the year, or was that just a bit of a catch up?.

No. I mean, our Latin America business, I mean, there's certainly not being driven by a great underlying economy. Look, we're having several things go on there. One is, we continue to have new business success. We've got a solid base. You can count on it.

In the food safety business and the Water business in particular, those things are typically fairly immune to huge economic swings. With that said, we're also getting pricing, really significant pricing as a consequence of the devaluation that have occurred down there from a currency standpoint.

That begets inflation, it drives up our raw materials in that market and we've got to get pricing to offset that, which we're doing successfully. So that's certainly a key piece of the double-digit growth story. I would expect that that business is going to remain fairly resilient and have strong performance for the quarters to come..

Okay. Thank you. And my follow up on Healthcare. You talk about some good growth in a smaller base business. In particular, the acute care in the HAI. Can you walk us through how is that tracking to your expectations, Doug? Are you getting the sales touches and the conversions you want as that marketplace begins to evolve? Thanks..

Yeah. No, I think the team has done a very good job. One, the work we did the last few years I think has been quite fruitful. I think the team that's running this business right now is doing a great job executing. And so we're starting to get uptake in the market. We're having successful rollouts. We've got a much better pipeline than we've had.

So, yeah, I would say we were confident. We've talked about this, that this business is continuing to improve. I think you're just seeing the fruits of that. So our expectation is we're going to have a very strong fourth quarter, a little bit artificially strong because of last year's recall that's in the base.

But if you take that out, it's going to be consistent with this 6% plus the benefit of the recall comp. And then next year, we look at this moving from mid single digits to upper single digits. So I think we're on the right track..

Thank you. Our next question comes from the line of Laurence Alexander with Jefferies. Please proceed with your question..

Good morning. So two quick questions.

First, can you give a bit of a feel for, to the extent that your pricing is catching up to your raw materials when you think you will lag that effect or lap it so to speak? And second, how do you think about the underlying operating leverage in the Energy business given the investments that you're making? I mean, is it going to be a multi-year 300 basis points to 500 basis points margin opportunity, or how can we size that?.

Yeah. I didn't fully get the last. So raw materials, we're forecasting we'll start moving kind of enterprise-wide in 2017. They're going to remain favorable in Q4 year-on-year. They're just less favorable than Q3. And there's a minor step up if you will, sequential, from Q3 to Q4. So we're starting to see these.

At this point in time, I think we're going to be able to keep our nose above water certainly for the year in 2017. I can't tell you if there's not going to be an issue in one quarter, but I don't think this is going to be, by any means, a theme for next year.

We're going to have to continue to do what we do in pricing, continue to do what we do on mix, continue to do what we do on cost savings, and I think those three tools are more than sufficient to offset what we see in terms of raw material inflation next year..

And then the other question was just on the Energy business with the investments you've been making, how you think about the medium-term operating leverage.

I mean, should we think about the investments as supporting sales growth or should we think about them as supporting margin expansion as volume comes back?.

Yeah. I mean, there's no real significant investments going in the Energy business at the moment. What I was alluding to was we will, as this business starts accelerating again, we will be investing. I mean, these are variable investments in terms of re-expanding the sales team and some other functional support areas.

But I don't – again, I think that's going to be well managed as that business expands so well to gross profit and it will more than cover the investments we need to make as we do it..

Thank you. Our next question comes from the line of David Ridley-Lane with Bank of America Merrill Lynch. Please proceed with your question..

Sure. So there's been news this week around GE and the Baker Hughes acquisition, also news that they divest their Water business.

Any thoughts on the potential benefits from disruption in those areas of your business?.

Well, I think – I guess, it's all brand-new news. I mean, historically I guess I would agree with your premise that when our competitors undergo large transactions are either bought, sold or buy somebody, we tend to go through – it knocks them off their game a little bit and causes distraction. And it's not lost on us.

So, yeah, I would say typically these things short-term can offer favorable competitive environments..

Okay. And in the past, you've sometimes spoken about the trend in new business signings in aggregate. Any comment about third quarter and any area that you would say is doing particularly well? Thanks..

Yeah. Third quarter was above third quarter last year. I mean, we had a very good net new business. I would say one of the things – we've never had a lot of loses, but I would even say this year our losses are less than they were on the last few years on a run rate, which is great for us.

So, net total, we're starting to accelerate in the second half on the new business piece, which is important as we enter next year. So I think we feel like we're in good shape there..

Thank you. Our next question comes from the line of Manav Patnaik with Barclays. Please proceed with your question..

Yeah. Thank you. Good afternoon. I wanted to ask the first question by David from the M&A standpoint. We always ask you about your typical pipeline and they end up being small to mid. But just curious if your three main major competitors that you usually can call out are in the process of spinning off, being sold, or acquired.

Just curious like what your appetite for some of these larger deals stands as it is today?.

Yeah. I mean, the only answer on specific M&A questions is no comment, broadly. I think what we've always said is we have a appetite for smart deals. We never said we had some kind of artificial limit on size, so that's the approach we take. And so on specifics around M&A prospects, no comment..

Okay. Fair enough. And then just on Healthcare, if I can, I mean, it seems like you've had another good quarter of 6%.

I mean, are we sort of have a clear runway here? Do you need to bolt on more acquisitions like the one you're doing in France? Just how should we think about where we should hold you on Healthcare too in terms of performance?.

Well, I guess what we've been consistently saying is we think Healthcare is an upper single digit organic growth business, and we're clearly making progress to getting this business in that range. And I think, so one, that's the standard we hold ourselves to, so I'm clearly open to being held to that standard externally. I think that's fair.

In terms of additional acquisition, I would describe it this. I think if there are smart deals to be done in the Healthcare arena, we're all open. It's not a case that we are strategically impaired because we're missing something.

So they would be done, I would call it, opportunistically because we thought it enabled us to either grow faster, expand faster, or supplemented our technology in some way that was beneficial for customers. But it's not like there's this big giant strategic hole we've got to go fill externally..

Thank you. Our next question comes from the line of Dmitry Silversteyn with Longbow Research. Please proceed with your question..

Good afternoon. Thanks for taking my question. A couple of things. First of all, just want to understand the performance of the Water business in the quarter. It was sort of coming along in kind of mid single digit same currency growth, and then it was basically flat.

This quarter you talked about some declines in demand in Asia, particularly China, as well as the mining market impact and then – that you were, I guess, a little bit more bullish on the mining expectation for the fourth quarter.

So, can you talk a little bit about what the trends are in Water? Why China was down? Was it all because of the mining or was there some other slowdown going on and what gives you the confidence that that business is going to come back in the fourth quarter?.

Yeah. Well, mining is a case of – mining has been down double digits here for four quarters. And that's sort of the secret. We're lapping Q4 last year as the first real pain that we saw in mining is it reflected the pain broadly in the mining market.

So, mining based on new business and frankly lapping Q4 of last year, we are pretty confident it's going to be, let's just say, neutral at worst, maybe minorly positive at best year-on-year. So the negative influence from mining is going to abate, and mining will turn positive as we move into 2017.

The other market you mentioned is China, and that's really pain we feel on the heavy side of that business. And that's a reflection of steel, overcapacity, some being taken offline, mining, also in China. And also somewhat paper.

Our paper results globally were positive, but they were much more positive than that if you took out the mining or the China results. And ultimately we look at that, we're going to start lapping those comps starting a little bit in the first quarter next year and really fully after the second quarter next year.

And so we look at that as an improving situation as we move through 2017 as well. Otherwise, I mean the Water business is doing quite well. So the light business continues to perform. We continue to drive great innovation there. That's the largest segment that we're in. It's also the most profitable.

It had been de-emphasized, and we have reemphasized it to significant positive effect. And the heavy side is starting to do a good job generating new business. It's going to start lapping some of the industrial slowdown so the lab what I'll call more reasonable comps for this environment. And so, I think, you see some of that good work coming through..

Okay. Doug, thanks. And then just touching on Energy briefly as my follow up. It sounds from your guidance that you expect another, I don't know, 17%, 18%, 19%, something like that, decline in year-over-year sales in the fourth quarter, basically bringing your two-year decline to about 30%.

Clearly, this has gone beyond sort of the 10% of your business that was or 20% of the business at one time that was the upstream business.

So are you starting to see the weakness spread into the downstream in the refining business? Is it mostly pricing or volume or a combination thereof? And are we just basically looking for 2017 where we're stabilizing at these levels, but not seeing much of an improvement on the top line as we go through the year..

Yeah. Well, first, Dmitry, I mean, the substance of your question I'll answer. I'll just say, last year Energy was down just under 10%, more like 9%. And this year we're saying it's going to be down, what I think we said, 10% to 12% or 12%. So it's not down 30% over the last couple years, right? It's down considerably less than that.

And we also aren't predicting a fourth quarter in the range that you cited either. It's going to be down modestly worse year-on-year than the third quarter simply because the fourth quarter comps of last year included a number of one-time issues which we identified last year in the fourth quarter. It was a little bit inflated if you will.

But sequentially the Energy business in the fourth quarter this year versus third quarter this year is going to be quite consistent. So we've improved, the top line run rate has stabilized. OI run rate has improved throughout the year. So we're going to enter the year with, what I would call, top line stable, OI margin momentum as we go in.

So, yeah, it's going to take a little while to build this business back and regain the 20% we lost. What we've tried to signal is this isn't going to be a one-year phenomenon. And I don't know if it's going to take two years or two and a half years at this point in time, but it's certainly going to take longer than one year to build it back.

We've said next year we expect it to be positive on the top line, but modestly positive because we also think it's going to be a modest recovery in the oil markets..

Thank you. Our next question comes from the line of John Roberts with UBS. Please proceed with your question..

Thank you.

Could you give us an update on how the rollout of institutional water treatment is going?.

Yeah. I would say that's in the light industry portion of the Water business. Okay. Let me dig some fun facts. So, our expectation was that we were going to have a cumulative impact of $90 million there, and we're starting to see revenue build throughout the year.

So through the end of this year, I think we're going to be running around probably about the $25 million to $27 million rate leaving the year, and we expect that to accelerate throughout next year. So that's on track and doing what we expect it to do..

And then a number of companies have talked about some deceleration in Europe.

I'm not sure Europe was ever all that strong, but could you give us a sense of what you're seeing sequentially as the quarter went along in early October in Europe?.

Early October, but I will comment on....

Well, or early November. We're only one day in November, but what did you see as you went month by month, some of your – some....

Yeah. I guess what I would comment is on Q3. And what we're – I mean, Europe is clearly not robust. I would say, I would have described it in the first half as probably stronger than I expected. I think in Q3 it was as strong as I expected or as weak as I expected going in. So I'd say there's been some downtick in the economy there.

It hasn't fallen off a cliff. And I would still say the environment is, if we do our job and continue to drive new business and keep our existing customers, drive mix in the other things that we have in our toolbox, we should be able to continue to show growth in that market, which is what we anticipate being able to do..

Thank you. Our next question comes from the line of P.J. Juvekar with Citigroup. Please proceed with your question..

Yeah, good afternoon. Doug, your QSR growth of 6% was quite robust. Is QSR gaining share away from sit-down or fine dining? And are you – maybe it's a case and maybe you're aligning better with the right customer.

Can you talk about that?.

Yeah. I don't know. QSR, there's – if you look at those industry trends, it hasn't really accelerated. I mean it's continued to kind of hold its own. If there's been any trading from top down, it's probably more in the fast casual segment and those other segments of the market less so than from QSR, I think.

Our strength there is really built on we've got very deep relationships. We work very hard to help our customers there react to the environments they find themselves in.

Currently, it's not a perfect top-line environment for those businesses, and they're having real cost pressures underneath, particularly from both wage and also benefit pressure, i.e., ACA. And so we're doing a lot of work there trying to help them take labor out of those businesses because they have to given this environment.

And so that will offer us new technology for us, but it's a huge financial benefit for them. And that's how we're looking at that market and why I still am quite bullish on our ability to continue to grow in QSR going forward..

Thank you.

And, Doug, if you were to do any M&A, what sub-segment would you be looking at? Would it be Institutional, Water, and maybe Energy? Or no Energy?.

Well, I would say, we'll answer the Energy question first. I mean, we did an acquisition in Energy not that long ago, and I think as I've reflected in other answers on this question around Energy M&A, it's sort of a situation that if you don't have to sell right now, most people aren't in the mood to sell. If they can make it through.

Because I think everybody feels like this thing has bottomed and better times are ahead for them both on a multiple and an EBITDA absolute basis. So it's not – there's not a lot of for sale signs out there from a lot of people. There are going to be exceptions, and there's been a notable one this week.

So, I guess, I'd be a little surprised if we end up doing any real Energy M&A in the near term for that reason. In terms of where else, yeah, I would say, look, if we're in a business, we're in it to go grow. M&A is one of the growth tools that we use to supplement organic growth.

And if we found other smart deals in Institutional, F&B, Water, Healthcare, sort of a naming (38:27), we would be interested. What would our wish list be? I think we've strategically said we want to continue to build the Healthcare business, i.e., you've seen the Anios recent acquisition.

And, Water, just because of the market probably hasn't been penetrating with small M&A deals like some of our others, that would also be a place that we would think might be richer environment..

Thank you. Our next question comes from the line of Mike Harrison with Seaport Global Securities. Please proceed with your question..

Hi. Good afternoon. Doug, you mentioned some noise in the U.S. distribution channel.

Can you just give us a little more color on what happened there?.

Yeah. Mike, we get this periodically. I mean, it's just, typically we assume that outs from the distributor are going to generate an equal number of ins, i.e., orders to the distributor from us.

We have great transparency here as you know, meaning, we had printouts from each of our distributor partners about what exact case went to what exact customer at what price. So we have great clarity in terms of consumption particularly in our U.S. and Canadian businesses. And in U.S., you simply had distributors taking down inventory in the quarter.

I mean, it could be as simple as we're watching these things run through here. These things happen, I would say, episodically. I mean, it's happened a number of times. I ran that business. This is not big new news. If it's consumption dropping, we get nervous.

If it's just a order pattern deal with our distributor inventories, then we don't really get all that nervous. So, the U.S. consumption was at 6.3% in the third quarter compared to 6.4% through acquisition adjusted in the second quarter. That's not any meaningful difference. And so, we're quite confident that business continues to run well..

All right. And then in the comments that you guys provided on Energy, you referenced lower customer product usage within the production side of the Energy business.

I was wondering, how much flexibility did customers have on reducing chemical use and is this a situation where they can only do that for so long and then we would expect to see the usage rebound, or does it have more to do with the mix of production coming from more sources that are using less of your chemicals on a per barrel basis?.

Yeah. I'd say it's principally that there are some technologies they just turned off because of their cash position. And so, some anticorrosion products. You don't see corrosion in a month or even a year, it's over a period of time. And so these are technologies that they'll turn off in very dire times.

But they will end up turning it back on because it's not very smart economically to have these turned off for long periods of time because you're going to basically blow out your pipe and then you've got a big capital problem if you want to continue flow of material. So it's a number of those instances.

And that business we anticipate would come back as price and customer cash flow stabilizes..

Thank you. Our next question comes from the line of Hamzah Mazari with Macquarie. Please proceed with your question..

Hi. This Kayvan stepping in for Hamzah. You had a question about SG&A.

Could you sort of tell us sort of what the outlook for that might be especially as it relates to some of the investment spend that's coming in?.

Yeah. Look, I'd say our investments are in several areas. I mean, certainly we continue to add sales folks in the businesses that continue to show solid organic growth. We continue to invest in field technology and also what I'll call a customer connectivity technology.

We collect data in nearly a million customer sites around the world, and we want to make sure that we connect that data collection capability with the cloud so that we can better utilize it to inform our sales team in advance of what's going on, better direct them to sales opportunities, how to help the customer frankly drive efficiency in both new sales productivity and in just selling time productivity as we go forward.

So that's an area that's getting a lot of work. We continue to invest in just core ERP capabilities throughout the company knitting together the number of ERP systems we have around the world. We turned Canada on in the second quarter.

We typically don't talk about these things as we go through them because we typically don't have big issues as we turn them on.

And so we're continuing to invest there as we move forward, and so those areas are also getting, what I would call, historically outsize investments as we upgrade those capabilities, which we think are really important for us long-term and something that we think is manageable in our P&L as we move forward..

All right. I appreciate that color. Thanks a lot..

Thank you. Our next question comes from the line of Andy Wittmann with Robert W. Baird. Please proceed with your question..

Great. Thanks.

Doug, as we're heading here into 2017 and you're doing your planning process, I was just hoping you could outline for us what your key strategic priorities are going to be as you go into 2017 and really what some of those swing factors that could affect – the key swing factors that you're looking at today as you handicap what 2017 could look like? I just want to see what's on your list of pluses and minuses there..

Yeah. I would say in terms of driving the business, we mentioned this year one of them, we had a number of key strategic priorities. One was getting energy-ready for what we'll call stabilization and kind of upturn, and I think we can check the box and then we feel like we're in good shape there moving into next year.

So, strategic priorities around driving the business or just making sure we continue to stick to the fundamentals. Driving new business, leveraging innovation to do that, as well as to build mix, profitable mix within the existing customer base, all the fundamentals that we typically drive.

We've got some significant cost savings initiatives that we're undertaking, particularly in product supply, which I mentioned earlier, to make sure just from an operating standpoint we continue to build both top line and expand margins as we go forward. Longer term, there's probably two key areas that we're going to have outsize emphasis.

One I just talked about in terms of field technology and customer connection technologies. We're going to continue to invest there, make sure that we have a leadership position. We already have a huge installed base of information collection capability.

We want to make sure that we fully leverage that to our advantage and our customers' advantage moving forward, so that's going to get an area. The second would be talent. And so we have had a lot of success, I think, attracting great people, but we want to continue to improve our capabilities there.

We track by business, by market, we're in a 172 of them how we do in terms of keeping our people, developing our people, and promoting our people, and we want to continue to increase our capabilities in all those areas because we think that's going to increasingly become a very important source of long-term competitiveness..

On the earnings side, the key swing factors that you're looking at to drive results into 2017?.

I think the wild cards would be, number one, FX. And so, I'm sitting here quite confident it's not going to be anywhere near 7% in terms of EPS headwind next year, but if you want something that can turn on a dime, it would be FX. It's also impossible to predict. I guess I just did. So that would be the wild card.

Again, I don't think it's fundamental to what's going on in the business and long-term that turns the other way some day. I just don't know when it is. The other area I think would be just kind of world economic health. I don't think the world is going to turn to recession, but it's kind of a flaky world right now and it's almost binary.

Things turn on and off much more rapidly than they did before. I think that's something we're just going to have to manage and be nimble. And then finally, oil, which I would say is probably more likely an upside than downside to price, but it could go either way as we all know.

Oil would be the other one that you would say, I think we've got this thing cast fairly in kind of a comfortable zone. We are not expecting any really upside benefit from a big market upturn from oil. I don't think you're going to see it in any case in the first half.

Second half, you can start arguing a case, probably more likely upside versus our forecast than downside..

Thank you. Our next question comes from the line of Christopher Parkinson with Credit Suisse. Please proceed with your question..

Thank you. Just an extension on the Healthcare questions. Can you comment a little on the longer-term trends you're seeing in the business, especially under readmission reduction program penalties, HII penalties, et cetera. It seems like you've seen some material upticks here in the last year.

So just anything worth noting that could be a tailwind in 2017 or 2018?.

Yeah. I don't know that we can attribute our recent success to that factor. I would say that could only help us. I would say we're not counting on it; that fundamentally what we're working to do is be much clearer in articulating the benefit and effectiveness of our program approach in reducing HAIC or healthcare-acquired infection.

This has material financial benefits to hospitals who are looking for material financial benefit. And it also has great moral benefits as well because you're hurting fewer people as you go forward. So I think that's really what we're focused on and talking about.

I think if that gets traction, we'll start weaving that more tightly into our story, but that's not the benefit that we're leveraging right now..

Fair enough. And very quickly on pest elimination, can you just talk a little more about the regional trends you're seeing in LatAm and Asia Pac specifically, the long-term strategies and just a little more color on the innovative sales offerings, please? Thank you..

Pest business was fairly strong across the board, and I'm just trying to get my chart. I would say two things. The business is – the pest business really takes off when you have some density.

And so, what we've been able to do with a number of like what I would call as the Asia Pacific and the Latin America markets is continuing to drive density, which will continue to drive much better leverage.

Right now if you look at those markets, they are the lowest OI margins that we have, and it's really a consequence of the makeup of the business, i.e., smaller businesses that are growing but haven't quite achieved what I would call margin efficient density level. But they will. So that's one of the reasons I think to be bullish on that business.

All of them are growing quite well, and the growth in particularly Latin America and Asia Pacific is going to have outsized margin contribution as it starts overwhelming the overhead investments that we've already made..

Thank you. Our next question comes from the line of Rosemarie Morbelli with Gabelli & Company. Please proceed with your question..

Thank you. Good afternoon, everyone. Doug, I was wondering if you could touch on the growth from Institutional, which went from up 10% in the second quarter to up 7% in the third.

Is the 7% more normal level, or was there some negative impact in Europe from all of those attacks?.

Yeah. It wasn't Europe in particular. As I mentioned earlier, we had a somewhat unusually soft result in Institutional that was really driven by inventory distributor – distributor inventory channel, not by underlying consumption. And so, I would say, 1% to 10% you'll recall includes Swisher, so it's a bit artificially high.

We don't claim that that business is a 10% organic growth business. But the 7%, which also included Swisher, I would say, is artificially low versus what it would be. We think it's running at a fairly normal basis. In the fourth quarter, we're going to start annualizing against the Swisher acquisition as we move forward.

But the underlying Institutional U.S. business, which is the one that impacted – created that delta most notably is fine. The underlying business is solid. I mentioned earlier it was – its underlying consumption rate was 6.3%. This is acquisition adjusted right in the third quarter versus 6.4% in the second quarter. So very steady..

Do you think that the adjustment at the distributors level is done?.

Yeah. I mean, there's only so much it can do. I don't even know that it was planned. Sometimes these are just frankly a function of what happens in the last days of a quarter and when orders happen. So I don't think it's significant. Yeah, there's not a lot of room for them to take out inventory. Let's put it that way..

And, Doug, if we look at Europe and the weak economic environment, do you think that if deals, they stay flat going forward, you can still improve your margin by about 100 basis points a year?.

Yeah. What I've always said, Rosemarie, is we need our nose above water, we don't need huge growth. Obviously, the faster we grow, the easier it is to generate the 100 basis points plus. We're in a position this year we'll exceed the 100 basis points again.

I think that's – I don't know if this is our sixth year in a row now since we – I guess the fifth year in a row since we announced it. But we're in a very good position to go deliver this year and had terrific margin improvement in the third quarter.

So I feel – I think we are going to keep our nose above water in the economic environment that we foresee in Europe, which is a bit softer than we've seen recently, and we'll continue to be able to generate a 100 plus basis points in margin improvement..

Thank you. Our next question comes from the line of Scott Schneeberger with Oppenheimer & Company. Please proceed with your question..

Thanks. Good afternoon. Doug, if I could circle back to when you were discussing Water in prepared remarks, you mentioned mining expected to rebound in the fourth quarter on easier comps. But you also mentioned benefit from new sales and just curious what you're seeing in mining as far as trends geographically and the health of the business.

Obviously, you're talking up the trend, the momentum into 2017, but just curious on the clarity on mining specifically..

Yeah. Well, I mean, mining went through a free fall itself, and I think what we've probably seen is some kind of stabilization in the base. And, of mining operators who, I think, can better predict going forward. We haven't seen any recovery in that business in terms of just mining activity.

There's a lot of conversation in that industry about who is going to bet on the future and on increased demand because they're going to have to sink some capital to do it. So, really, the net new business we have and we have a number of technologies.

These technologies can lower existing costs, reduce the amount of water that it takes to execute ex-mining. I mean, people are still mining. But that's what's really – that's what really drove the new sales. It wasn't some kind of pickup in mining activity from quarter-to-quarter..

Okay. Thanks. And then with regard to Swisher, could you just give us a little bit of backdrop with regard to the divestiture and how things have gone with the retained portions? Thanks..

Yeah. We divested the restroom cleaning portion of Swisher which interestingly was Swisher's original business. And that was a business that we always intended to divest even when we bought it.

I mean, I guess, we had open minds that if it proved to us to be a lot more valuable to us than we suspected going in, but we never saw that business as a great fit for the way that we conduct business. It's a good business. It's just not necessarily a good business for us to own. And so as a consequence, we divested it.

We thought we would be able to divest that a lot quicker than we did. If anything, it slowed us down on a few areas of synergies that we are now getting after i.e., we had to keep their operating center in Charlotte open much longer than we anticipated and some other things because that's where that business is run out of. And so we'll get on with it.

The Swisher acquisition, I would say is largely on track. If you're going to pin me down and say where is it exactly, I mean, it's behind by weeks and it's in a position where that team will catch up quite quickly now that that divestiture is behind us. So that deal is going to ultimately turn out to be a absolute home run financially for us.

It's just been a heck of a lot of work in terms of transitioning all the products to our formulas, moving them, they're still doing production, one, their warehouse to our warehouse and their factory to our factory, changing the way that they distribute because a lot of it was distributed by individual salespeople within Swisher and obviously that's not how we distribute our product for safety reasons as well as just control reasons and utilization of sales time efficiency.

So for all kinds of reasons. So there's been a lot of transitioning going on. All of it is going quite well, but it's a lot of work. And so, I know that team is looking forward to start hitting to more normal operating situations, which they're entering now Q4 and Q1..

Thank you. Our next question comes from the line of Dan Dolev with Nomura. Please proceed with your question..

Hi. Thanks for taking my question. It sounds like the Energy estimate for the year is going to be a touch lower than what you initially guided to. I think you mentioned 12% decline versus 10% in July.

A, is that true? And, B, can you give us the breakdown of the three sub segment in terms of Wellchem, downstream and then within production? Or C, can you give us sort of the usage and the pricing changes and how that changes from 3Q to 4Q? Thanks..

Yeah. So, you're right. We had said it was going to be down around 10%, and now we've clarified it's going to be down around 12%. I would say from our view then to our view now, the macro theme is pretty consistent since second half is going to be better than the first half. It is. So the business is bottoming. It is.

And then the specifics around where the business is going to park for the year is a little worse than we had anticipated. I'd say what's going on, I would, mostly downstream is a little softer than we had forecast at that time. There has been some new business that we've had that's been delayed, not permanently, but out a quarter or so.

And then we had a couple of world events that I would say also nicked us, pipelines breaking, pulling out of Iraq, etcetera. But I don't know that that's really a material part of the story. I think the story on Energy is it's been a dramatic headwind for us over the last, if you will, six quarters, seven quarters.

We're now starting to enter a period where we're going to start lapping, and it's going to quickly move from a headwind to a tailwind, almost under any normal scenario. If you don't believe oil is going to decline further from here, all it does is stabilize. I think it's accretive.

If it happens to start picking up, it's going to be more accretive as we go forward. So, sub segments, sequentially we think OFC is the same or a little better. Downstream is going to be a little better, but going to be a little worse year-on-year. Also had one timers in that business last year. Wellchem is going to be a little better also Q4 to Q3.

So kind of across the board we see minor sequential strengthening, but I underline minor. I think the business is stabilized, and we're in a good position to move into 2017..

Great.

And can you give us the 3Q ranges for those three sub segments if possible?.

In terms of sales growth?.

Yeah.

I guess sales decline in WellChem, downstream growth, and then what happened in OFC?.

Yeah. I would say we typically don't go into each of the details. I'd say downstream was modestly positive. OFC was modestly negative. And still the business that's been most impacted is Wellchem, but its decline has slowed considerably as it starts lapping last year's numbers..

Thank you. Ladies and gentlemen, we have reached the end of our question-and-answer session. And I would like to turn the call back to Mr. Monahan for closing remarks..

That wraps up our third quarter conference call. This conference call and the associated discussion and slides will be available for replay on our website. Thanks for your time and participation, and our best wishes for the rest of the day..

Thank you. This concludes today's teleconference. You may disconnect your lines at this time. Thank you for your participation..