Caroline Chambers – Vice President, Corporate Controller and Information Systems Patrick McHale – President and Chief Executive Officer Christian Rothe – Chief Financial Officer and Treasurer.

Mike Halloran – Robert Baird Jim Giannakouros – Oppenheimer Deane Dray – RBC Capital Markets Matt Summerville – Alembic Global Advisors Saree Boroditsky – Deutsche Bank Securities Charley Brady – Suntrust Robinson Humphrey Walter Liptak – Seaport Global Securities Jim Foung – Gabelli & Company.

Good morning and welcome to the First Quarter 2017 Conference Call for Graco, Inc. If you wish to access the replay for this call, you may do so by dialing 1-888-203-112 within the United States or Canada. The dial-in number for international callers is 719-457-0820. The conference ID number is 9371987. The replay will be available through May 1, 2017.

Graco has additional information available in a PowerPoint slide presentation, which is available as part of the webcast player. At the request of the company, we will open the conference up for question-and-answers after the opening remarks from management.

During this call, various remarks may be made by management about their expectations, plans and prospects for the future. These remarks constitute forward-looking statements for the purposes of the Safe Harbor provisions of the Private Securities Litigation Reform Act.

Actual results may differ material from those indicated as a result of various risk factors, including those identified in Item 1A of the company’s 2016 Annual Report on Form 10-K and in Item 1A of the company’s most recent quarterly report on Form 10-Q.

These reports are available on the company’s website, www.graco.com, the SEC’s website, at www.sec.gov. Forward-looking statements reflect management’s current views and speak only as of the time they are made. The company undertakes no obligation to update these statements in light of the new information or future events. Today's call is recorded.

I will now turn the conference over to Caroline Chambers, Vice President, Corporate Controller and Information Systems. You may now go ahead..

Good morning, everyone. I'm here this morning with Pat McHale and Christian Rothe. Our conference call slides are on our website and provide additional information on our quarter.

Graco sales for the first quarter of 2017 totalled $341 million, an increase of 12% from the first quarter of last year and net earnings totalled $61 million, an increase of 64%.

Diluted earnings per share were $1.05, which included $0.05 from a required change accounting for stock compensation and $0.01 from reduced intangible amortization expense relating from the impairment charge recorded in the fourth quarter of 2016.

Foreign exchange was a slight headwind in the quarter and the affect of foreign translation rates reduced sales by approximately $4 million and net earnings by approximately $1 million. As a result of strong factory performance and realized pricing, our gross profit margin rate increased by more than 1 percentage point from this quarter last year.

We are not yet seeing the effective rise in commodity prices, though if commodities remain elevated as compared to last year, we will begin to see some effects in the second half of the year.

We have a variety of cost reduction activities underway, as we always do and we believe that these cost reductions will largely offset the effective rise in commodity prices this year.

Operating expenses were slightly lower than last year due to the effect of currency translations, lower amortization expense and lower stock compensation and warehouse expense. A reconciliation of our operating earnings is included on page 7 of our slide deck. The effective tax rate for the quarter was 26%.

I mentioned earlier the $0.05 effect on EPS related to the adoption of the new accounting standard related to stock compensation.

With the adoption of the new accounting standards, $3.7 million of excess tax benefits related to stock option exercises that would have been credited to equity under the old standard have now been credited to the tax provision, reducing the effective tax rate by 4 percentage points. Without that accounting change, the effective tax rate was 30%.

Since this benefit is recorded with stock option are exercised, the effect will vary from quarter-to-quarter. Excluding any effects from the change in accounting for stock compensation, the effective tax rate for the second quarter and the full year is expected to be approximately 30%.

Cash from operations totalled $50 million, up from $29 million last year. 850,000 shares of stock were repurchased at February to an accelerated share repurchase plan and 550,000 shares were issued resulting in a net cash outlay of $60 million.

We may or may not decide to make further share repurchases and will evaluate a variety of factors before making that decision. I'll turn the call over to Pat now for further discussion..

Thank you, Carolyn. Good morning, everyone. All of my comments this morning are on organic constant currency basis. It was a solid first quarter with growth in every segment and every region of the world and good performance in both developed and emerging economies.

We're pleased with the strong start to the year and thank our suppliers, distributor partners, employees and loyal customers for their help in getting out of the gate well.

Because demand was broad-based geographically and across product categories and we're going to a fair bit of detail on our slide deck, I'll focus my comments on a few of the areas where we're seeing headwinds moderate. Our oil and natural gas operations were slightly better than flat year-over-year, so we're hoping that we're seeing the bottom.

Most of our exposure in the space is on the production side, so there may be some lag from what others are seeing on the exploration side. Mining provided some growth for our process segment in the first quarter, which is a positive sign. Demand in this space can be lumpy quarter-to-quarter.

Though with higher commodity prices, conditions for us should be generally improving. Through discussions with distributors and end-users, it's clear the confidence levels domestically are better today than a year ago. Our view is that it's still a bit early to declare that the U.S.

industrial economy has fully turned the corner, but we are encouraged by the direction of the business. A few points regarding Graco overall order rates. Incoming order rates were strong every month of the quarter in every region and all segments were in positive territory every month of the quarter.

Over the past three years, we've called our week-to-week volatility in order rates. In the first quarter, we saw that volatility soften, which is indicative to us that the worldwide economy may have found some footing. But it's only one quarter and we'd like to see more of that week-to-week predictability as we go through Q2 and into the summer.

Orders to the first three weeks of April continue to be solid. Mindful of a tough Q4 comp, we'd like to see good top line performance continue through Q2. One comment specific to our Contractor segment. Contractor is off to a strong start this year. You recall that we were down slightly in Q1 of last year as new product launches pushed out into Q2.

So we have an easier comp in Q1, while we have much more difficult comp in Q2. Notably, the 2017 product launches have been well received and we expect these products to contribute nicely to 2017 full year results. Moving on to profitability.

Incremental margins were outstanding in the first quarter with the Industrial and Process segments well over 50% and Contractor solid into the 40s. As we've discussed before, the Graco business model leverage nicely at higher growth rates. Over the cycle, we expect incremental margins in the high 30s to the low 40s. Moving on to our outlook.

Based on a solid performance in the first quarter, we're raising our full year 2017 outlook from low-single-digits to mid-single-digits. As always, we continue to press forward with our long-term growth initiatives and hope that our outlook for 2017 may indeed be too conservative. Chris, you there? Operator, with that, we're ready for questions..

Operator:.

[Operator Instructions] And we will take Mike Halloran of Robert Baird..

Hey, good morning, everyone. So just a couple of questions here on sustainability, Pat’s, some color there about trends to the quarter, lessening volatility.

In your view, do you think there's anything in the revenue line in the first quarter that assuming things stay about on the footing they are today, that wouldn't imply normal sequential as you work forward on any of the segments?.

No, business conditions seem to be pretty good and pretty healthy across most of our end markets and across most of our geographies, didn't see anything really strange in the first quarter. It's nice to see some strength across the board.

We haven't really seen that consistently for the last, I don't know, a couple of years anyway And so I've got some optimism going to Q2, but it's early and we'd like to see that continue before I bring new bells..

No, absolutely that makes a lot of sense. And then the second question on the profitability side, 35 to low 40s kind of incrementals maybe some thoughts on in particular the Process segment where the incrementals are obviously a lot higher in the first quarter relative to that number coming off a more depressed base.

Is the first quarter the right base to think about on the process side on a forward basis relative to revenue levers we're at right now?.

So while you're talking about the Process segment or Graco overall, we've talked many times before is that we lever good on volume. And when our volume is low, it's hard to drive profitability. We don't do big restructuring activities every time we have a bad quarter. We kind of stick to our knitting and invest in our growth initiatives.

And when we get good revenue performance, we flow a lot through the bottom line. So we believe that over long-term, that high 30s to low 40s is the right kind of flow-through to think about.

In quarters where we exceed on the top line, you're more likely to see higher flow-through and in quarters where we are weak, you will see less, I think that model hasn't change..

Last quarter, you talked about some – last couple of quarters you talked about factory-oriented constraints on the contractor side that might compress that incremental margin a little just because you're running so high relative to what's been really good volumes there.

Is that still the Case? Or are you able to free up a little room?.

No, we've done some things that give us a little bit of breathing room up there. We have announced the capacity to produce the demand this year. So it's challenge to manufacture to make sure you have parts and all the other things that can go wrong. But on a space standpoint, we've added a little bit of storage space and move some things out.

So I'm not concerned about it..

Great, make sense. Thanks for the time..

Yep..

Up next from Oppenheimer, we'll go to Jim Giannakouros..

Good morning, everyone..

Good morning..

Very nice quarter specifically on the cost side, cost management.

So I guess, my question there is, is there anything or how should be thinking about SG&A progression the rest of this year relative to 1Q?.

Hey, Jim, it's Christian. Good morning. So with regard to the progression on expenses, we've got a pretty decent baseline target set forward. We don't have – necessarily want to achieve, but we are going to have the amortization that's obviously going to be lower in Q2 – Q3.

And in addition to that, of course, whatever assumptions you [indiscernible] course, make changes around SG&A..

Got it. Okay. And at the plant level, in the past, you've spoken about your internal goal to achieve zero cost manufacturing increase each year. Is that in your current plan? And if you can talk about the puts and takes there that’d be helpful? Thank you..

Yeah, this is Pat. Generally, as far as I can remember, that's in our plan every year. And – so we always have the usual pressures with the wage increases, and medical cost increases. Some years, commodity helps us. Some years, they hurt us. This year, we're expecting that they'll be a headwind for us.

But the volume should help factories certainly on overhead absorption and volume also helps us drive additional cost reduction activities. I would anticipate that as we go through this year, we're going to see more factory request for machines that will improve quality and drive out costs, particularly in the second half of the year.

I would anticipate some increase CapEx and some cost associated with that, but those are the kind of things that help us achieve zero cost change, and with volume, I think we've good a real good chance at hitting that..

Got it. Thank you. And one more if I may, when thinking about, I guess, the margin potential in each segments, starting with industrial factory. I think it's 300 to 400 basis points kind of weight on industrial margins. Seems that you're at/or above prior peak now, if you can comment – if there's a potential expansion potential there.

And I guess, same question for Contractor, appreciating that mix has kept the segment potential below prior peak if I recall?.

This is Christian again. So, with regard to industrial, margin on the operating margin line, you can still do it, but we do definitely need to have higher [indiscernible] percentage points. On the Contractor business, we still feel like that business as we get higher volumes, we get to the mid 20s on operating margins, not sure how much beyond that.

On the Process segment, again that's volume dependent but we believe that we can back to the 20s..

Thank you..

Those are all over the medium to long-term..

Got it. Thanks, guys..

And our next question comes from Deane Dray of RBC Capital Markets..

Hi, this is Jeff [ph] on Deane Dray. My question is about your revised 2017 outlook and unless your incrementally more positive on process in all regions in industrial America.

Wonder if you can just talk about what you're seeing there and kind of the tone and if Americas is pretty broad-based is what you're seeing?.

Yeah, hi, good morning. This is Christian. So the incrementally positive, obviously, is based on what we're seeing on the incoming orders, the shipment levels go up, it’s pretty decent broad-based, especially in process segment. So that's really – I think you're talking about our current environment and outlook slide in our slide deck that’s slide 11.

So we did feel like going from spreads across the board on process, something have [indiscernible] growth rates to us. As Pat said, oil and natural gas just above flat for the first quarter. We'd like to see some more improvement in that area before we feel like where really some things get incrementally better.

The remainder of the business there is a process, though it did have a solid performance in the first quarter. Around the Americas industrial business, again, I think, I made a comment about the fact that it does seems like there's better confidence, although, out there, which is great.

But again, we're looking to see more as we go through Q2 and into summer..

Okay, great.

And the follow-up Industrial, you also noted some of the improvement, it was due to some promotion timing? Can you just talk about what those were and if there's any pull-in from 2Q?.

Promotional activity happens for us all the time. So it's not an unusual thing. It's not really a pull-in either. We're talking about changes that are not that dramatic..

Okay. Thank you..

And we'll take our next question from Matt Summerville with Alembic Global – I’m sorry, Alembic Global Advisors..

Thanks. A couple of questions.

First, can you quantify, I believe, it was an $8 million impact you had I think in the second quarter of 2016 associated with your new product loading in contractor, can you provide a similar quantification for what you thought that was in Q1 of 2017? And then maybe just some color around of the types of new products you've been launching in that space?.

Yeah, we didn't have a launch in Q1 of 2017 that was anywhere similar to what you saw in Q2. So I'd say basically not an impact for us in Q1. New products that are being well-received that are launching, in particular, in the contractor division include a new generation of handheld paint sprayers. We're pretty excited about that.

We launched the original version a number of years ago and we've upgraded the performance and capabilities on that a couple three times here. So we've got an all-new one that we've launched this year.

Due to good reaction we also have a low-pressure tip, which really provides some nice benefits to contractors to be able to atomize paint at low pressures, gives them less over spray and the ability to run their pumps at a lower pressure also should give them more life. So we've got some other products as well.

I don't want to dig here and spend all my time talking about new products. But generally, the slate of new products on CED [ph] have been well-received and should help us throughout the year..

Did you get the sense that the level of spend you're seeing in Industrial. And I think you mentioned in your press release you maybe had some promotional activities in the Americas.

But just are you starting to see the customers adding incremental productive capacity or are you seeing more recapitalization of existing production line?.

So what I'm hearing is more optimism. I'm not sure that we're seeing a big turn in investment yet, but really looking at the results of the other industrial companies that have been reporting, I’ve got to say, I’m feeling pretty optimistic. It looks like most people are seeing an inflection point here and better domestic industrial activity.

We're seeing that as well. Again, I hate to get too excited about one quarter. But I think that direction looks good and let's see what happens going forward..

And then just lastly, maybe just to clarify, if you look at kind of the normal, if you will, earning seasonality for Graco.

Typically, Q1 is a low point, in there any reason to believe, based on what you've seen, year to date, through the first three weeks in April is not the low point of the year, or do we need to bear in mind that comp in Q2 you faced in contractor in the fact that you had one extra week last year versus this fiscal year. Thank you..

I remain relatively optimistic at this point, that the normal cycle should prevail..

Thanks, guys..

Our next question comes from Saree Boroditsky. [Deutsche Bank Securities].

Thank you. Good morning.

You've had some really strong growth in APAC Industrial in the quarter, could you just talk about what you're seeing in that market and how you're thinking about growth going forward?.

Good morning, Saree, this is Christian. So with regard to Industrial Asia Pac, this really is the continuation of what we've seen over last two years, which is pretty good project activity coming through. And I think our team is that, that market is finding footing and that we're going to be able build a base off of this. So that was positive.

Now we've always cautioned folks that if we have a lot of growth driven by project activity, it's going to be spike quarter-to-quarter. We've had good string here, but just caution it could have variability..

Okay, I appreciate that.

And then just going back to the oil and gas markets, you had slight growth in the quarter, so maybe if you could provide any additional color on what you're seeing in that market and how to think about that for the rest of the year?.

Generally, our exposure on direct oil and gas isn't very big. So I would say if you're looking for color on oil and gas market, there's lot better people to talk to than us. We see a very, very small slice of it.

And looking at our shipments and incoming order rates I guess, we more or less called bottom here in first quarter at least for us and we hope that, that turns out to be the case..

Okay. Congratulations on the quarter. I will get back in queue..

Thanks..

[Operator Instructions] [indiscernible].

Hi, guys. Just a quick question on price cost, I mean you guys mentioned material inflation likely emerging in the second half a bit, but should be offset by cost sort actions.

Can you just talk about or maybe quantify what -- how you're thinking about that material inflation in the back half?.

Yeah. Again, the Graco model we have some advantages right out of the gate in terms of the percentage of a revenue dollar that's really related to our raw materials with the gross margin that we have and the high value-add that we have in our factories. We're not as whipsawed by commodity price changes as some other folks might be.

We generally have good cost reduction programs going on by our factory folks and what we're seeing in commodity prices to us looks like something that we're going to be able to handle for the year. Certainly, if you -- and that's really talking about factory performance with the volume and the cost reduction projects.

If you take a look at price costs, we do an annual price increase. We run that at the beginning of the year. We did it again this year. So I feel like we're going to be in just fine shape..

Understood. And then just on capital allocation. Your deal obviously remain elusive. Just wondering what you see in the pipeline there if anything. And then on buybacks, you committed to net $60 million in the first quarter. How you're thinking about that going forward? Thanks..

I'll talk a bit about deals and Chris can talk about the buybacks. But on the deal side, there is activity out there. We do have an active process inside the company. Multiples remain high. So whether we're going to bring any home or whether we're not, I guess, time will tell.

But there are things that are out there for us to look at and we do have some niche markets that we're interested in. So we're going to run our normal drill on that. Chris, you want to talk about....

Sure. Out of the buybacks, it was mentioned already, we did do a small ASR in the first quarter. That still in process, hasn't concluded yet, but it's probably -- it's not going to offset the grid [ph] for this year. We will continue to evaluate whether or not we want to jump back in and buy more in the remainder of this year.

It's depending on a number of factors, including internal modeling and what's going on in the broader marketplace. So haven't rolled it out but we're continuing to look all the factors..

Thanks..

We'll go next to Charley Brady. [Suntrust Robinson Humphrey].

Hey, thanks. Good morning guys..

Good morning..

Gosh, I guess the only one I really have is touchback on the part question on the mix within Contractor I guess you talked about high low -- low, medium, high kind of margin/mix and previously, that -- given the recovery, that really hadn't -- the mix of the high end higher-margin that still kind of a little bit below where maybe past cycle or past cycle peak.

Any granularity kind of has that moved around a little bit at all?.

No, Q1, we had good performance by both paint channel and the home center channel, pretty even performance between the two. We do continue to see volumes going up on higher dollar equipment. But frankly, we continue to do very well on the low end of the Pro side as well.

So I'd say, if you look at the mix compared to back in 2006, we're still skewed toward the bottom on the Pro end. But those parts of the product line are growing..

Yeah. That's helpful. Thanks. And just one more I guess, just in Contractor, you got obviously one pretty big competitor out there.

See any irrational behavior from them? Or is it pretty rational market?.

I think the environment across our competitive lines is stable and we've got good competitors across all of our product categories and we're out there beating each over -- beating each other over the head every day with a log and I don't really see anything different..

Thanks..

And we'll go next to Walter Liptak. [Seaport Global Securities].

Hi, thanks. Good morning, guys. I want to ask about the mid-single-digit revenue guidance and with the way that first quarter came through, I wonder why you high single digits number.

In -- my understand is the comp there you are going to be going up against the new contractor but everything seems positive you might get some more cyclical recovery this year.

What was the thought behind the mid-single digit?.

I hope you're right. I just spent a slog in last couple of years, as you know. We've done okay, but everyday it's been carrying a big bucket of rocks up the hill. So one quarter that we have is really good and then incoming order rates still holding up.

But maybe it's just our natural conservatism, but we're just -- we're going to take a step at the time year..

Okay, that's great. Is there any visibility you can share with us and orders or quotes in some of the cyclical businesses.

You kind of mention the oil and gas but natural gas, mining is better activity there?.

Yeah, mining we're seeing a little bit better activity. Incoming order rate in April has been solid and so in general, I'm feeling pretty positive about things..

Okay. Great. Thank you..

[Operator Instructions] And we'll go next to Jim Foung. [Gabelli & Company].

Hi. Great, quarter. Looks like you answered my questions.

I guess you can answer this, did you suspect any inventory building in the first quarter? Or could we just take that as pretty much end market demand and just great organic growth there?.

Yes, I think that's mostly end market demand. Obviously, when things are on the upswing, put up a little more product on the shelf, but I don't think it was anything that was significant in Q1..

Okay.

And then besides oil and gas and mining, were there any other large markets that didn't come back to you in Q1 that could help you in Q2 and the rest of the year?.

One market remained soft is not a large market for us, but it is important is the ag market, and I'm not anticipating that that's going to come back in Q2. I think it's probably going to continue to perform like it has here in recent quarters..

Okay, but there's potential for upside.

And then any more color on M&A, I think you talked about question cap allocation but close to anything or would you disappointed you didn't do something this year?.

I mean, I try not to be too excited or too disappointed what we get done. But I want to do is I want is a good activity by our team here in terms of identifying market niches that are interesting and doing their work. You can't predict these things and if it becomes disappointment, that's process risk overpaying just to get something done.

So we're just running our standard program. And if something happens, it happens. And if it doesn't, we will run rest of our organic program, which is a good program as well..

Okay. Perfect. Great job. Congratulations on the quarter..

There are no further questions in the phone queue at this time, so I'll turn the conference back over to Pat McHale..

All right, very good. Well, one behind us, three more to go for the year and we're going to continue to work hard. So we'll talk to you again late July. Thanks..

And this does conclude our conference for today. Thank you for all for participating, and have a nice day. All parties may now disconnect..