Praxair's CEO Hosts 2013 Investor Day Conference (Transcript)

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Praxair, Inc. (PX) 2013 Investor Day Conference September 16, 2013 10:00 AM ET

Executives

Kelcey E. Hoyt - Director of Investor Relations

Stephen F. Angel - Chairman, Chief Executive Officer and President

Eduardo F. Menezes - Executive Vice President and President of North American Industrial Gases

Scott W. Kaltrider - Former Vice President of Healthcare and President of Praxair Healthcare Services

Sean Durbin

John M. Panikar - President of Praxair Distribution Inc.

Daniel Yankowski

Matthew J. White - President of Praxair Canada

Antonio Cesar Miranda - President of Praxair Mexico and Central America

Scott E. Telesz - Executive Vice President

Todd A. Skare - President of Praxair Europe

Domingos Henrique Guimarães Bulus - Senior Vice President, President of Praxair South America and President of White Martins Gases Industriais Ltd.

Anne K. Roby - President of Praxair Asia and President of Global Electronics

Ray Roberge - Chief Technology Officer and Coprorate Vice President

Ben Glazer

Murray G. Covello - Vice President of Global Supply Systems

James Sawyer

James S. Sawyer - Chief Financial Officer and Executive Vice President

Analysts

Kevin W. McCarthy - BofA Merrill Lynch, Research Division

P. J. Juvekar - Citigroup Inc, Research Division

John Roberts - UBS Investment Bank, Research Division

Edward H. Yang - Oppenheimer & Co. Inc., Research Division

Robert A. Koort - Goldman Sachs Group Inc., Research Division

Donald Carson - Susquehanna Financial Group, LLLP, Research Division

John E. Roberts - The Buckingham Research Group Incorporated

Mark R. Gulley - BGC Partners, Inc., Research Division

Michael J. Harrison - First Analysis Securities Corporation, Research Division

Vincent Andrews - Morgan Stanley, Research Division

Kelcey E. Hoyt

Okay. Welcome. I'm Kelcey Hoyt, Director of Investor Relations for Praxair. We really appreciate everyone's attendance today at Praxair's 2013 Investor Day, everyone who's here live, as well

[Audio Gap]

There are 3 exits. If you look toward the exit signs, they're kind of low. Those are the exits that we'll go through in the event of a fire drill. Okay?

As far as Q&A, if you'll take a look at your book, we have 2 groups of presentations today, a morning session and an afternoon, with Q&A time allocated at the end of those -- each one of those sessions. To the extent you are here and in person, you want to participate in the Q&A, I would just ask that you limit your questions to those presenters who are presenting either in the morning or save your questions for topics for the afternoon presenters in the afternoon. Okay?

For the lunch, we have a rotational-type lunch plan for today in an effort to give you the most exposure to the most number of Praxair businesses, functional folks, get as many of your questions answered as possible. So what we'll do is once we go through the presentations, we'll have the Q&A, take a quick break. And then here to my left, to you're right, is where we'll do the lunch. You'll notice that there are a series of tables that are numbered, and you can sit anywhere; it's not assigned seating. There are reserved seats, so those are for, typically, 1 or 2 Praxair folks. And what we'll do is rotate roughly about every 20 minutes during lunch. So it's a lot like speed dating. And to the extent that you're not enamored of 1 group of Praxair management, just wait, you've got 2 more coming through. Okay?

And then finally, cellphones. I would ask that you just take a look, make sure that they are either off or the ringer is turned off. I will warn you, I do have at least 1 member of management who, if the phone goes off, creates a disturbance, he might look at you, might invite you up on stage, ask you to perform, Scott Telesz.

And with that, I'm going to turn it over to our forward-looking statement. Please do read the slide. It applies to all presentations made today, as well as the Q&A session.

And with that, it's my pleasure to introduce our Chairman and CEO, Steve Angel.

Stephen F. Angel

Thank you, Kelcey. I want to welcome everyone here today. We're going to give you an in-depth review of the key aspects of our business. And I think we'll answer a lot of your questions along the way, but if not, we've allowed plenty of time to do so.

It's been 7 years since we've had a review of this depth, and I think you'll find it quite interesting. There are several things I want you to take from today. I want you to leave here with a deeper appreciation of the quality of our base business, the quality of our base business franchise. I want you to understand how we will grow our business in the future, what are the assumptions behind that and how we will lever that into earnings growth. I want you to meet the next level of Praxair management that has delivered our results to date and will deliver our results in the future. And lastly, I hope you'll learn something today about the industrial gas industry or Praxair that you didn't already know.

Now you're going to hear a lot today about discipline, execution, productivity, integrated supply. You will hear the words density mentioned a few times.

We're going to talk about the 3 Es or various aspects of the 3 Es, starting with emerging economies, and we think of that as Brazil, Russia, India, China, Mexico. Energy. We're going to talk about oil well services in Mexico, petrochemical and refining projects in the United States and Canada. I know there's a lot of interest in that. We're going to talk about gasification in China and how we think about gasification in China. And you will hear about the environment and how we will address environmental issues around the world, as well as meet the desire for higher standards of living in the emerging world.

We're going to talk about pricing and product management, something that you don't usually get a chance to see. And we're going to talk about how we manage our global energy spend. Now after people and benefits, our second-largest cost input is energy, predominantly electricity. And it's a $2 billion pie, and I think you'll find it interesting how we address that. And again, you're going to hear it all from the people who actually make it happen.

Now day 1 as CEO, which goes back some years ago, the board congratulates you, and then the first question they ask you is, "Where's your succession plan?" And obviously, I've had some time to think about that and work on that, and I continue to do so. But what I quickly realized is that the most important question, what has the most meaningful impact are who sits in those top 20 to 25 positions in the company. And to the extent that we can get that right, we'll be in great shape. So much of my time and that of the senior management team is dedicated to getting our top talent developed and prepared for those 25 or so roles and even greater roles down the road. Now at the end of the day, all I'm trying to do is get the right people in the right place at the right time for what's in their best interest from a development standpoint and for what's in the best interest of the company. And I believe that this group of people, many of whom are here today, is so strong and our operating system is so embedded in this company that you can eliminate the senior executive team, for a while, and the company would not miss a beat. And I don't want to see any nodding of heads from the front row.

Now there's several people I would like to introduce to you that are not on the formal agenda, but they do represent areas that might be of interest to you. And just kind of raise your hand whenever I call your name. Mark Murphy runs our Praxair Surface Technologies business. Mark's in the back of the room. And his biography, like everyone else from Praxair, is in your book for you to refer to. Amer Akhras is responsible for our Global Helium business. Amer? Dr. Riva Krut leads our sustainability efforts. And she just notified me, and I guess this is a public knowledge, if not, it is now. Okay, she says no, but it is now, that we've been recognized for the 11th consecutive year as part of the World Dow Jones Sustainability Index. And Keith Gordon is our Chief Operating Officer of NuCO2. He's in the back of the room there, and he's manning a NuCO2 display over in the other room that I hope you get a chance to stop by and take a look at. Sally Savoia heads up our Human Resources Department. Sally? All right. Sue Neumann heads up Communications and Media Relations. Sue? Jim Breedlove is our Chief General Counsel. Jim's in the front row. Liz Hirsch, who many of you know, is our Corporate Controller. Liz? Tim Heenan heads up Tax and Treasury. Tim? And Reynaldo Aloy works with Kelcey in Investor Relations. Reynaldo? All right, good.

Now I'm not someone that's big on history, at least not as it pertains to financial performance. But we are proud of our performance since our spin out in 1992. And what you see on this chart is our operating margins as a percent of sales compared to our 3 global competitors. And we have about a 600 basis point advantage over our nearest competitor in terms of operating profit as percent of sales. And if you refer to the graph in the upper right, you'll see that if anything, we've widened that advantage over time. And since the mid-to-late '90s, we've been able to expand our margin from 14% to 22%. Likewise, in return on capital, we have about a 200 basis points advantage today. And when you combine that level of profitability with the type of growth we've experienced over the years, it's not surprising that we've been able to grow our operating cash flow 12% per year since our spin out in 1992 to a record level of $2.8 billion in 2012.

And you'll note the takeaway at the bottom of the chart that our vision is to be the best-performing industrial gases company. Now that's nothing new. That's been our vision for a long time. And you will -- and when we think about best-performing, it's not just operating profit and return on capital. It's earnings per share growth, it's safety, it's productivity, it's working capital management, project execution, it's everything.

Now there's a document that we have in the other room that hopefully you'll get a chance to take a look at, but it talks about vision, mission, strategy, growth drivers, values. Vision, mission, strategy, growth drivers, which are the 3 Es, and values. And so why do we do this? Well, first of all, we like to get things on one page, which we've accomplished. But why do we do this? It's not necessarily for the Praxair people in this room. They understand all this. But it's important to get 27,000 people around the world aligned on what we're trying to do, how we will do it and what we stand for along the way.

So how do we create this competitive advantage? Now this is similar to a chart that we've shown before, except we've added some elements under execution and we've added a whole new column under people. And I think people make all the difference in the world. Now it really starts with select geographies. Before we go into a new geography, we spend a lot of time debating and deliberating that move before we pull the trigger. There's a lot of places around the world we're not in, as you know. We think we have the best footprint, and you'll see that profiled on the next page.

We very much like the core industrial gases business. We like the atmospherics business, we're not in chemicals or hygiene or sterilization or engineering and construction businesses. We love the atmospheric gases businesses. And we don't sell plants. We stick to the sale of gas model. That means we design, engineer, build, own, operate air separation plants under long-term contracts with high take-or-pay provisions for quality customers. That's what we do.

And we want to build out integrated supply systems, from on-site to merchant liquid, to packaged gas supply systems, to serve the full array of customers in that select geography, in that targeted geography. And we want to take advantage of the coproduct synergies that exist between those modes of supply. And Eduardo is going to come up right after me, and he's going to talk a little bit about integrated supply systems and the benefits.

And we want to build density to create economies of scale, optimize all the coproduct economics and leverage that installed base, leverage that infrastructure for future business at higher returns.

Now we have several technology advantages, the most significant of which in my mind is our portfolio of standardized product line plants. And this goes back to over a decade ago, where we had a lot of different plant offerings, we tended to customize for each project. And so we put a lot of work on consolidating around standardized product line offerings. And that has served us quite well over the years. Our hit rate for the projects that we go after and we don't go after everything, but the ones that we go after is about 60%, and our product line offerings is a -- an important reason why we've achieved that level of success. Now Ray Roberge, our Chief Technology Officer, will discuss our plans to expand our product line offering, as well as some of the excellent work his team is doing around application development to meet the needs of both the mature world and emerging world.

Now execution begins with operational discipline. We spend a lot of time on capital investment decisions in our company, a lot of time. And Ben Glazer will talk about that process, that capital investment decision process later on today. But just to give you an example, no one in our company can approve a project over $3 million without first reviewing it with me and receiving my approval.

Now safety, for those of you who grew up in operational background, you know that you simply cannot have good safety results and good safety practices unless your people are disciplined, unless you have operational discipline throughout your company. They go hand-in-hand.

Productivity. We simply cannot achieve the type of productivity that we achieve year in and year out without a strong commitment to continuous improvement, a strong ongoing commitment to continuous improvement. All the business leaders here in the room, and we're starting now to work in earnest on our 2014 plans, they know what the goal is. They know what the expectation is on productivity. It's the same as it was last year, the year before. It's the same, it's going to be in 2015 and 2016. It's 5% of their total cost stack. The goal does not change. And Sean Durbin will review how we make productivity sustainable in our company.

And I would say without a disciplined, rigorous process and senior management engagement, you'll never excel at pricing and contract management. There needs to be tension in the process, there needs to be a lot of discipline around the process, tension from a customer to the sales, sales to product management, product management to senior management. I think that's very important to achieving the kind of results we need to achieve. And Scott Kaltrider is going to talk about how we think about pricing and contract management, as well as energy management later this morning.

And of course, this probably goes without saying, but you cannot achieve top quintile performance in cost predictability and schedule attainment in your projects unless you have well-defined processes and the discipline to adhere to those processes. And you're going to hear from Murray Covello, who heads up our global supply systems organization, on that subject later today.

And the next one you might find odd that I put this under execution, and I don't mean for this to be a competitive advantage. I just -- I'm just trying to highlight the importance of it. But integrity and compliance. If you're a U.S.-based global multinational corporation with operations all over the world, which we are, you have to insist on the highest standards of business integrity from all 27,000 people that you have worldwide. And you have to make sure that you've got the compliant systems in place, robust compliant systems in place to ensure that compliance.

People. Everyone here today is here because they're a strong performer. They have a demonstrated track record of success. And not surprisingly, they're all strong operators. They excel at all those things that I listed under the execution column and many, many more. They're excellent people leaders, something that we insist on in Praxair. They're outstanding communicators. And they excel something very important to the senior executive team, they excel at driving alignment and accountability for results deep into their organizations. And I would say they're nonpolitical, certainly nonhierarchical. And if they had their druthers, I think the last thing they want to be doing is preparing PowerPoint presentations for some meeting. They would much rather be out working with the plants, working on safety, working on productivity, solving customer problems, et cetera, than preparing PowerPoint presentations. But they've done a very good job, and I think you'll see that later on today, and they're very proud of their businesses.

Now Scott Telesz, who's our newest member of the senior executive team, came with us in April of 2010. Right after lunch, he's going to talk a bit about his observations from working here for a few years, how we work the kind of people we have, et cetera. And I think you'll find his presentation very interesting.

So the takeaway from this chart is we're a high-performance culture. We certainly have room for improvement. We have operating systems, I'll say it again, deeply embedded in this company, and it takes years to build and it's not easy to copy.

So which should you expect from Praxair over the next 5 years, we'll call it? High single-digit sales growth is our expectation, about 8%. And you can see the breakdown of that in the upper right-hand part of the page.

We're expecting modest base volumes. As we look around the world, it's hard to expect that the next 10 years we're going to grow at the pace that, say, we grew up to the 10 years, up to -- prior to the recession of 2009. But we're assuming base volume growth, call it 3%. In that, I'm embedding contributions from our application development work. If the global economy does better, we'll certainly take full advantage of that. But this is our assumption.

Price in the 1% to 2% range. Historically, we've got about 2% price. And I think it's very fair to say that if volumes do a little better, the pricing environment is more favorable, and we'll certainly capitalize on that as well.

3% to 4% from projects, that's our call over this -- each year over the next 5 years. We think the backlog will trend down to around $2 billion, still healthy by historical standards and sufficient to support a 3% to 4% top line and bottom line growth from project contributions.

CapEx spend. We think going forward we'll be around $1.8 billion, plus or minus. That's about 13% of sales versus the, say, 20% of sales that we had in 2012, where we were at the top of the CapEx cycle.

I've included 1% for acquisitions. We have a strategy to consolidate the packaged gas industry in the United States. So we're going to be spending some money towards that, call it $100 million to $200 million per year. Nothing on the order of NuCO2. I think it could be a decade before we do anything of that size. But this is our plan.

Operating profit will grow faster than sales, and this is from pricing and productivity. The way we think about it is if you have $100 of inflation, you need at least $200 between pricing and productivity to maintain operating leverage.

A few years ago, when we were at -- I don't remember exactly the operating margin percentage, I'll call it 20% to 21%, somebody asked, "You're industry-leading today, can you really continue to grow that?" And my answer was yes. And this is how we grow it. I said I think we'll grow at 30 to 50 basis points per year going forward, and I still believe that. And this is how we'll do it.

Our plans going forward are to reduce the share count about 2% per year. Now this year is a bit of an anomaly. We said it'd be closer to 1% because of the NuCO2 acquisition. But going forward, we believe 2% per year share count reduction is the right place to be. And the combination of all that will get us into double-digit earnings per share territory.

Return on capital is about 13% today. We think we can move that to 14% and make it back to the 15% that we were in the mid-to-late first part of the decade. How will we do that? Well, we're going to start to get the payback, and we are starting to get the payback as I speak, from the big CapEx spend from 2012 in the first half of this year, and those projects will ramp up and contribute more as we go forward. Obviously, the NuCO2 acquisition at the beginning of the year was dilutive to our return on capital. But as that business continues to do well, and it is doing well, very well, we expect that dilutive effect to lessen over time. Obviously, CapEx spend moderating has some contribution, not a lot, but some contribution to a higher return on capital. But we need base economic growth to get to 15% for sure. We have -- if you look around the world, we have underutilized capacity. Europe is a prime example of that. But we have it really all over the world. And with some modest growth on a continual basis, without any additional capital to meet that volume growth, this will enable return on capital to continue to march forward. And again, 15% is our goal, and that's what we're going to get back to.

So what could go wrong with this forecast? I think I just alluded to it. No base volume growth, no global industrial production expansion. But it is built into our assumption. Now we'll still get some growth from applications, from hydrogen, from gasification, from decaps, projects that are not tied to industrial capacity expansion. But without some volume growth, it's extremely difficult to deliver double-digit earnings per share growth. And there's one other thing that could go wrong, my assumption is -- assumes stable currency. Clearly, we've had some problems with currency last year. This year, we still got some headwind. But if I face too much currency headwind, if we face too much currency headwind, it'd be very difficult to get to double-digit earnings per share growth. But the things that we can control, productivity, cost, pricing to a large extent, project execution, working capital, all those things that we can control, we will.

Now what will our sales profile look like at the end of 5 years? And this is our best estimate. We think North America and South America will still be about the same level of representation in the sales mix as they are today. North America, about 50%; South America in the high teens. I think the U.S. and Mexico will grow at pretty attractive levels, something on the order of what I'm expecting globally, around 8%. Projects will certainly play a role in that. I think Canada will lag that somewhat, and I'll let Matt talk a little bit about that later. I think Brazil, short-term, will probably in the mid-single digits; longer-term, still has a lot of potential. Europe will drop from about 13% of our sales today to around 11%. We're just not anticipating much growth out of Europe over the next 5 years. And Asia will make the biggest move from about 12% of sales today to around 16%, 17% over this 5-year time frame, really driven by the growth of China, which is -- a lot to talk about China. It's 4% to 5% of our portfolio today, and we think that will grow probably to something on the order of 7% to 8% over this time frame. And you'll hear more from Anne on that subject.

End markets, food and beverage is up -- is a little stronger, was 6%, now it's about 8% with the NuCO2 acquisition. Energy makes the biggest move, from about 11% to 14%, and that is really on the strength of hydrogen coming out of the backlog. And our hydrogen sales will double over this time frame from our 2012 levels, and Dan Yankowski will talk a little bit about that.

Supply mode, roughly 25% or so on-site business today, we'll push closer to 30%, again, largely on the strength of the backlog.

And how is this different from our competitors? I'm sure some of you are sitting there thinking that. Well, we have the largest presence in North America and South America today. That's a differentiator. We have strong franchises, top to bottom every country. And we're very focused on traditional markets, manufacturing, metals, energy, chemicals, traditional markets. We have a very small presence in health care, and that presence is smaller today than it used to be. If you remember, we divested the U.S. Homecare business. This differs from our competitors, from our European competitors who are investing heavily in the health care business globally.

And lastly, we have the smallest presence of all the global competitors in electronics. So if you like the Americas, if you like the traditional markets segment, the manufacturing, metals, chemicals, energy, we're your company.

So to kind of just tie it all together, we expect solid growth, solid profit generation over the next 5 years.

And with that, I'd like to turn it over to Eduardo Menezes, who will -- who's our Executive Vice President of North America. And Eduardo is going to talk about how we think about organization, how we do organize and again, a little tutorial on integrated supply. So Eduardo?

Eduardo F. Menezes

My presentation today has 2 main objectives: one, to explain how we organize Praxair operations in a global level; and second, to take a deeper dive into our U.S. organization and explain the advantages that we see in our integrated business model for the U.S. vis-à-vis our competitors.

So starting with organization. There is basically 4 major dimensions you can use to organize an industrial gas business. The first one is product. We have a lot of products in our portfolio, if you think about specialty gases and mixtures. But the reality is, 6 major projects -- products make more than 80% of the sales of this industry. So the 3 main, atmospheric Gases: Oxygen, nitrogen and argon, plus hydrogen, CO2 and helium. It's a viable way to organize your business for a product that has a Global Supply Chain such as helium. But really for the other products, the differences that you have from region to region and especially, the differences that you have in supply mode that I'm going to explain next, are so big that it's not a good alternative in a global level and a regional level. The second option you have to organize your business is by supply mode. And the one interesting characteristic of our industry is that we supply our end customers, regardless of their size. So and in a scale that I challenge you to think about the different -- not a product in the same scale. So just to use oxygen, as an example, we may have customers that take -- anywhere for like 5 pounds a day of product, like a patient that needs oxygen for respiratory care or a welding shop, all the way to 5 million pounds a day of product for a steel mill or a petrochemical company and sometimes even more than that. So the scale is like 1 through 1 million. And it really causes you to have different ways to supply these products.

So if we have, staying with oxygen, staying with the #5, if we have a customer that requires more than 50 tons a day of product, for example, we're probably going to install a plant close to the customer with prolonged side supply mode, and we're going to connect the customer with the pipeline and supply gaseous product to this customer. And the name of the game here is really how well you design, build and operate the plants. So it's an engineering and operations business, as Steve was describing. If the customer needs less than 50 tons a day, all the way down to probably 50 pounds a day, we'll probably supply the customer using liquid product. So liquid product comes from the same plant that we used to supply the pipeline customers, and we -- where we liquefy the product, we store at very large tanks, and we bring the product to the customer using the trailers that you can see on the pictures on the back of this room. And at the customer, we have liquid tanks where we store the product and again, we vaporize it back to the gaseous form because that's normally how the product -- the customer use the product. It's a business that -- it's all about logistics, and all about how well you can manage at a very tight supply chain because at the end of the day you have very few days of field employed in the entire supply chain for liquid products. If the customer needs less than 50 pounds a day, then the only solution you have is a high pressure cylinder. Now high pressure cylinder is not a very convenient way to transport a gas, a cylinder can weigh more than 250 pounds of steel, and you cannot carry more than 30 pounds of product inside this cylinder. And on top of that, the cylinder's worth more than the product that you have inside of the cylinder, most of the time.

So the name of the game here is how well you manage these assets, a company like Praxair has more than 10 million cylinders. So how well you can move these cylinders to the customer, bring them back, dance with you and so forth. And it's a very labor-intensive business. So very different business models, so you can think about organizing our business around supply mode. But the reality is, especially for packaged gases and for merchant, that of very regional business, you may start to get in trouble if you try to manage for the business. We, like that, we do not believe that we should have someone in our headquarters in Connecticut, trying to manage Packaged Gases businesses in Buenos Aires, Beijing or Berlin. And the person would not really be effective, trying to do that from our headquarters. But it's a valid way, and I'm going to talk about how we do that in a different level. The third dimension that we have is by end user. We have some industries that really have very specific periods, requirements or quality control requirements or they need special equipment in order to dispense the gas. And you can think about organizing a business around that, and you see a lot of that in the industry with electronics, with health care. At the end of the day, it's a viable alternative. But really, suboptimize the assets, as you need to dedicate assets and people for a certain industry, and you cannot share with other markets, it really gives a lot of purchase power to your customer. So -- but it's a valid option. And the fourth option is the geographical option, is selling the simplest one. It is required at a certain level, you always need to have a national organization, you need to file taxes, you need to follow regulations. So if you organize yourself around that, you save some money. And it really helps you, take in consideration all the competitive intensity that you have in each market, and helps you enforce P&L accountability. But on the other hand, requires very strong general management skills to run a business with all the products that I described, all the supply modes I talked about, and all the end-users and have one person managing everything, it's not an easy task.

At the end of the day, you need to pick a model. You need to maintain discipline and you need to manage the exceptions. So how we organize our business at Praxair?

We have no shame about that. We prioritize P&L accountability. We try to keep it simple and we try to run as a regional business model. So if you look at the way we report our results to you every quarter, it's exactly the way we organize our business. We have 4 main regions: North America, South America, Asia and Europe. And underneath these regions, we have countries. And the country managers in Praxair, they are the final accountables for P&L in our company. So they run sales, they run operations, they run distribution, they are in charge of optimizing asset utilization, and they're in charge of maximizing the ROC, which will, at the end, compound to the ROC that Steve's talked about before.

Now underneath that level, in the country level, we try to organize that it makes sense as the conditions for the local market dictates. And the next slide I'm going to talk to you about, the U.S. organization, which is by far our largest and most complex organization. And with that, I hope you can have an understanding, good understanding of how we organize the other countries around the world.

What are the advantage that we see in our model? We believe that allow us to focus on the results, really be fast responding to market changes, to our customer needs and we -- especially, we avoid the conflicts and the distractions that you have in a matrix organization, really try to avoid any kind of matrix feeling in our organization. And also give us a little more flexibility. One presentation you're not going to be see in your books today is about some big ERP implementation at Praxair, most likely a lot of people here do not know what the ERP system or systems we use at Praxair. And the reason is simple. We -- although we have a global platform, and most countries follow that, we are comfortable running separate P&Ls in separate countries in different systems, and also to bring acquisitions using different systems, which allow us to basically be much more focused on the business and not focus on IT transformation. So we like this business. We like this format, and next, I'm going to explain what we do in U.S. and how we run the business in our country here.

So this is a little complex slide when I put that together, people ask me how we're going to try to explain that. But I'll go little by little here, so hopefully we'll get there. First thing you'll notice on the top, on the blue bars, you'll see that by supply mode, our division in the United States is very similar to what Steve showed in a global level, and very similar to a 1/3, 1/3, 1/3 between on-site, merchant and packaged. Underneath that, you'll see several P&Ls that, individual P&L's that create the national P&L for the U.S. And the green ones are regional P&Ls and the gray ones are national P&Ls. So how we manage our business in U.S.? The first thing we do, we break apart the Packaged Gas business. And we do that for the simple reason that the Packaged Gas business in the U.S. is unique. We have more than 700 distributors, independent distributors that we need to compete with. We have a market that is used to buy what call hardgoods or welding supplies from the gas suppliers. So you need to have a network of warehouses and stores, so it's a very different business that we need to run across a structure that is competitive with these 700 distributors that we need to face in the marketplace. So in order to do that, we create a separate subsidiary that we call Praxair Distribution Inc. or PDI, and that John Panikar, that runs this business will come later this morning to talk about how we run our Packaged Gas business. But without stealing his thunder, 80% of the business we run in a geographical mode. So we believe that this is a local business, so we break this apart in 4 regions and 12 divisions. And every division has its own General Manager that is in charge of the P&L and run the business from sales to the bottom line.

In addition to the regional divisions, we have 2 segments that we think are significantly different from the day-to-day business on industrial packaged gas and hard goods, and they are spec gases in the institutional healthcare that we run with the national P&L always -- all reporting to John and closing the P&L for Praxair Distribution of PDI.

On the other side of this slide, you'll see our On-site and Merchant business. We run that -- internally we call that United States industrial gases or USIG. And that you see what we do in this business, we basically, we take 60%, 70% of the business that is the basic Atmospheric business, both in On-site and in Merchant, plus the liquid CO2 business and the liquid hydrogen business, through which, very similar to the distribution systems that we have for oxygen, nitrogen and argon, and then we combine them in 3 regions. So we have 3 region P&Ls that have run for 3 VPs in U.S. And really, we try to avoid any discussion on allocation of costs as we've been an air separation plant, so the cost belongs to the on-site side or the merchant side. It's all run within the same region, within the same PDI -- or the same P&L. We also have 4 national P&Ls that you can see here. We have the on-site Hydrogen business that, it's very different in terms of operations and business development. So we have a dedicated group running that business. So we have 1 for oil and gas services, we have 1 for NuCO2 that now became part of this organization. And we have the Helium business that, it's run out of the U.S. but it's really a global business from the U.S. We control all the -- all the logistics, all the purchase of product that we buy from third parties. And the -- and really, the supply to main customers in a global level, although our subsidiaries around the world, the countries, they still receive liquid from the U.S. and they pumped and they supply local packaged gas customers and local small liquid customers regionally.

So at the end of the day, we've run all these P&Ls, but we are also very careful on trying to maintain consistency on how we run the business, try to avoid duplication of costs and try to replicate good practices. And because of that, we have this centralized functions that you see here in the bottom. As Steve said, we're going to have 2 presentations following this one. Talking about the centralized functions. The first one will be about Product Management and Energy Management, which basically is a group that we have trying to make sure that we are consistent across the country on how we price products, how we expand capacity and so forth. And the other one within our operations group. We'll talk about productivity and how we move productivity across the regions without duplicating costs in the organizations.

So this structure that I just described to you is what allow us to run a competitive packaged gas business. We've been a major industrial gas company, and this is a unique situation. We are the only fully integrated player in the United States, as you can see here in these pictures. And that when we go to the market, when we face our competitors, we believe we have some advantages. So versus the automated industrial gas companies that do not have packaged gases in U.S., we believe we have the advantage of maximizing the core product economics. So when we view the plant, we consider not only the liquid that can come out of this plant, but also the Packaged Gas business. We have access to a much larger sales force that comes with the business, so we have more than 700 people in our packaged gas business in the sales side, and we have the ability to grow with the customer. A lot of times, the customers, they start with packaged gases and they move to do doers, they move to micro bulk, and finally move to bulk. And if you are in the packaged gas business, you have the ability to grow with the customer, and that's an advantage that we have vis-à-vis our competitors in the U.S.

On the other side, versus the packaged gas is oriented competitors, we believe we also have advantages we can -- we have the -- we source our own products, which is very important, especially for products like helium and argon. So the customer, they are always sure that we'll have the product because we control the entire supply chain. And we also have a greater percentage of their wallet share and we are able to supply these customers on a national and international basis, which give us an advantage when we talk to customers about packaged gases. So we believe that this model is what allow us to be, not only the largest, but also the best-performing industrial gas company in the U.S. So this is all I have. I'll be happy to answer any questions you have during the Q&A or during lunchtime. And after that, we'll have Scott Kaltrider, which is the VP for business management in USIG, in addition to product management, and Energy Management, Scott is in charge of national P&Ls for both helium and oil well sources. Scott?

Scott W. Kaltrider

Thanks, Eduardo. Good morning. It's great to be here. It's good to have all of you here to talk about Praxair a little bit this morning. I'm going to speak specifically this morning about our product management and energy management functions, and specifically around product management, I'm going to talk about what our approach is to contracting strategy in contract management, and how that plays into our overall pricing approach and our pricing program. And I'm going to have some comments around our Energy Management, because we feel like we have to be world-class at that. We think we are world-class at that. As Steve mentioned, it is our second largest spend as a percentage of our overall cost stack.

So if you look at this chart, this chart represents the key product lines that U.S. Industrial Gases manufactures and distributes. And as I put this chart together, as we develop this presentation, it struck me as a slate of products that are pretty diverse and complex. And that may seem strange, because when you think about cryogenics, you say, well, there's a lot of similarities, and while maybe the end products are similar in cryogenic nature, how you get there is not. And so there are some very substantial differences across these product lines. And specifically, I talk about manufacturing and production and distribution characteristics, vary widely across these product lines.

The degree to which you can control your sources and your feedstocks, there's a large variation across these product lines, has a big impact on your sourcing strategy. And thirdly, and maybe most importantly, the markets associated with these products and the scope of these markets span local to regional markets, in the case of your typical oxygen, nitrogen atmospherics, down through national markets and how we look and view these products from a national basis, and that includes argon, hydrogen, CO2, and then all the way into global markets, which Eduardo talked about, with helium and rare gas. And its because of these differences and these vast differences in the makeup, in these characteristics of these product lines, that Praxair has really taken the approach to dedicate product managers to each of these product lines. And so in Praxair, we have a national product manager that looks after the profitability of oxygen and nitrogen. We have a product manager specific to argon, specific to hydrogen, specific to carbon dioxide, and then we have a product manager that looks after our helium and rare gas business. And these product managers are centrally located in our headquarters in Danbury, and we found that, that's the most effective way to really, truly manage the profitability of these product lines. Because you're able to get discipline and consistent processes applied throughout the product line, so your approach -- in other words, your approach and your processes of managing each product line are consistent, but you're also able to realize synergies, to the extent they do exist across the product lines.

So that's how we're organized, and we feel that, that's worked well for us. Let's talk a little bit now about how the product management function shapes our contracting strategy. As Steve mentioned in his opening remarks, you really can't overstate the importance of a solid, outstanding contract management strategy. It really is the underpinning of your whole price program. If you're not outstanding and excellent at negotiating agreements that provide the terms and conditions, that allow you to take advantage of market-based changes as well as recover your cost, you're not going to be successful in the pricing arena.

So for many of you that follow the industry, these are very traditional supply modes: On-site, merchant, packaged gases. And you can see the continuum that starts at the top, migrates down, high capital intensity, high-volume, medium capital intensity, kind of medium contract term, and then down into the package supply mode, relatively short contract term and a lot of transactions and a lot of flexibility required. And so one, of the things I'd like for you to take away today is, no matter what product mode, supply mode or customer we're supplying, one of our main goals in our contract managing strategy, is to obtain either cost pass-through or very, very high degree of cost recovery. And to the extent you move down this continuum, and you look at the merchant and packaged business, we like to include specific terms and conditions that allow us to take advantage of changing market conditions, so that we can get market base price adjustment. Now I'll talk a little bit more in specifics about each mode of supply, and what we're trying to achieve, because there are some obvious differences in an on-site project, and specific terms and conditions you want to achieve in an on-site contract, as opposed to the other supply modes. So as many of you are aware, an on-site contract is typically associated with a very high capital investment, usually a large plant, either on a customer's property or adjacent to the customer's property. Manufacture the product, delivered through a pipeline. So these are long-term agreements. You don't have a lot of opportunity during that contract term to fix it, so you've got to get it right upfront.

And so Praxair, as many of you know, are very selective on the projects we take. And that happens to -- is borne out in our return on capital, and the returns that we get. And so when we do take a project on, we want to make darn sure that, that return, the expected return, is delivered throughout the project life. And so there's 2 key provisions that we look for in every on-site agreement. And Steve mentioned this as well. We're insistent on a take-or-pay provision. And you know it's funny because, when things are going really well in the economy in gangbusters, and -- I've seen firsthand where we've had competitors take on, and we've walked away from projects where we couldn't get a take-or-pay provision. And when you look at the conditions to what happened out there after the crash of '08 and into '09, some of those projects don't look so good today. So we are very sticklers, very much sticklers for the take-or-pay provision. And it ensures a base return for us, a base return on our project. And then the second thing is, like I said, we want to have formulas and escalation built in that pass cost through to our customer, through construction, through start up and through the total economic life of that project, so that our return is not degraded over the term of that project.

When you move to the merchant contract, it's a medium term contract, 3 to 7 years, typically. They are requirements contracts, which means the customers are required to buy product from us for the duration of that term. And this is probably -- or this is a very wide range of customers. You can have customers in this category that take 50,000 cubic feet a month of product, and you can have customers in this category that take 50 million, or 100 million feet of product. So you can imagine the range of sophistication of the customer that you're dealing with, varies widely. And what you're able to negotiate varies widely. But again, what are we looking for? High degree of cost recovery, and terms and conditions that allow us to take advantage of market-based price adjustment, when possible.

So what we really try to do in the Merchant business is we employ a portfolio approach to our contract management, and we have contracts that are open, we have contracts that are formula. But in all cases, in almost all cases, it's never an absolute, in almost all cases, we incorporate terms and conditions which anticipate changing market conditions. And finally, you get to the packaged gas business, and the packaged gas customer, they're short term, relatively short term contracts and there's one thing again, we're very insistent on, in the Package business. We get paid for rent on our cylinders that are out at the site, and to the extent we have equipment like mixing panels, gas mixers, manifolds, whatever that is, we're going to get a facility fee for that equipment. And then we want to maximize the flexibility of these agreements, because when you're dealing with very short-term agreements, highly volatile market conditions, lots of transactions, you need maximum flexibility. So in summary, on this slide, #1, what we're shooting for, regardless of the supply mode, is cost pass-through, or extremely high degree of cost recovery and then tailoring our Ts and Cs to the specific supply mode.

Talk about pricing. This is very hard work. Pricing does not come easy and does not happen by itself. And you need total commitment in your organization, from the very top, out into the field organization. And Steve used the word tension. And that's not a bad word, because you have to be committed as an organization. You have to be disciplined, and you have to be prepared. I can tell you, I've been out there, I'd been across the desk from the customer many times. And when I say prepared, I mean, you really ought to know as much about that customer's business as he knows, if you want to be successful. And so as we look at the merchant pricing arena, there are some very favorable fundamentals that lend themselves to being able to do some pretty good things in the Merchant business. And the first of these is, and it's fortunate is, in general, our products represent a low percentage of our customer's cost stack. On the other hand, the vast majority of our customers can operate without our product, which means you rely -- your reliability better be superior. And in the end, our products really don't travel very well. They don't have a good shelf life. So if you're going to be in this business, you're going to have to invest a lot of capital to compete, and that's an inherent barrier to entry. So how does Praxair view pricing and what's our approach?

With us, it really begins with reliability. Reliability is king. And I'm talking about system reliability. Your entire system has to be reliable. And so Praxair is very, very intent on reinvesting in its infrastructure, and reinvesting in technology to ensure our reliability is second to none in the industry. And I know Sean is going to come up next and he's going to talk about reliability. What else? You have to bring value to your customer over and above the intrinsic value of the product you're supplying. Fortunately for us, at least at Praxair, we have lots of ways to do that. We have applications technologies that can improve yield at a customer site, that can improve productivity, production, can improve his quality, you can take on other -- if you improve quality, it opens up new markets. We have productivity programs that we apply internally in our company to drive productivity. We can take those to the customer who doesn't have a productivity program and eliminate waste. There's lots of ways that we can bring value to our customers. And if you're successful being the most reliable in bringing additional value to your customer, you create a very positive environment for your contract discussion. If you have a positive environment for your contract discussion, you're going to get the majority of terms and conditions that you need to get in order to be successful. In a high degree of cost recovery, and if you get a high degree of cost recovery, when you are able to implement a market-based price action, you're going to realize the majority of that price. And that's the result that you see on this graph to the right. What this graph to the right really shows is, over the last 5 years, and we all know we've been through a lot of economic cycle in the last 5 years, Praxair's been able to grind out, in the U.S. and Canada, pretty much a 2% on a CAGR basis of price. And that's not easy. And we feel pretty good about that. Now we're not perfect. We'd like to be able to do better. But that's something that we feel like we can count on. And that's embedded in our people and in our culture.

Okay. Last thing I want to talk about, energy and energy management, and again, as Steve mentioned, $2 billion of energy spend globally, between power and natural gas. I'll call your attention to this graph up in the upper left quadrant, the northwest quadrant, if you will. Inherently, the ASU is a very attractive load for a utility. High megawatts, high load factor, equals high cost recovery for the utilities. So they really like that. At Praxair, we look at some specialized design features of our plants. We modularize our liquefaction. We specify equipment that has wide-range ability performance without efficiency degradation. We look at the storage capacity, make sure we have the right storage capacity, which allows you to take advantage of peak and off-peak lower power rates and to make liquid during those times. And if you're able to do that, you can shape your load, and if you can shape your load, you can take power at those periods of time during the day that are cheapest. You take that to a further extent and you go down here to the southwest quadrant, and you can actually drop load. Okay? So on a very short notification from the utility, if you've designed your facility right and you're working right, you can actually drop load. And that allows you to procure interruptible supply power, which saves you, frankly, millions. And you layer that interruptible in, in place of your firm power. Okay? And the result of all this is a portfolio approach that looks like this pie chart you see. And the conclusion really is that you can enhance your profitability of your merchant business dramatically without sacrificing the reliability of your operations.

So that's what I have this morning. I look forward to talking to you at the break. I think Sean Durbin is up next. Sean is our Vice President in USIG, in operations. And he's going to talk about reliability and productivity. Thanks a lot.

Sean Durbin

Good morning. I'm going to talk about productivity and really how it's connected to Praxair being a reliable supplier to our customers. Now we started down the productivity path and it's current generation over 10 years ago. And through the years it's evolved and developed into really being a key part of our business model today. But more importantly, it's a key part of the culture of the company. Over 27,000 employees understand its importance, understand that they're going to be involved, and they do that day in, day out. Now we have an internal mantra in the company around productivity and that we're not perfect so there's opportunity.

And people keep that in the back of their mind, and it just helps them understand that we need to continue to improve every day and make sure we're delivering results.

I'm going to start by just giving an overview of how productivity is weaved into our business. Essentially, our productivity model is based around 3 functions. You have the front lines, the sales professionals, the plant technicians, the accounting department, they really make the business run on a day-to-day business. Now, Steve talked about density being a strategic focus for the company. In terms of the U.S. what that means is really the several hundreds of plants we operate and the several hundreds of thousands of deliveries we make every year. And when you think that level of transaction, that level of interface, you can think about the amount of data that you generated. And so we have support groups that their job is really to analyze that data, understand what's happening, identify anomalies where we may have an underperforming piece of equipment, maybe an underperforming region, understand what's happening, address it and move it up to the average. As important is understanding what the best performers are doing, where we have a plant that may have a higher efficiency than its peer group. How are they doing it? Identify it and replicate that among its peers as quickly as we can. And what does that does is basically allow you to move up the average.

Now the key is you identify the opportunity just as important is to actually get it done. And so what we have as really the third function, is the dedicated productivity teams. So these teams really take the ideas, and those ideas can come from anywhere, they may come from the frontline, they may come from the support groups, they may come from a different country. They take that idea, develop it into a project, get that project executed in a timely manner, and then most important, make sure that we get the benefits realized and those benefits are sustainable. In a lot of ways they're like a sales group because they have a backlog of opportunities, they have specific targets that they need to achieve and we measure them on the amount of value that they create. So again, it's the robust analysis and execution that really drives our continuous productivity.

In terms of -- I'm going to give a couple examples. I'm going to talk a little bit about distribution, a little bit about production, because when we look at those areas, they're part of what we call our value streams. And really, our value streams are: distribution, production, reliability and business processes. Within distribution, it's a very labor-intensive process. You need to plan the tour and you need to get the product to the customers. And getting that done day in, day out, when on average, in the U.S., we're making the delivery every 90 seconds. Again, you can think about the number of interactions that come into play. Demand, equipment reliability, even the weather come into play. And so the key to the distribution costs is really driving down your cost per mile and driving up your volume per trip. And so in terms of our distribution costs, fuel and labor are the largest components. And we spent a lot of time making sure we're improving those areas. And a lot of the new technology that's coming out is really helping us do that. For example, we've just finished installing our next-generation onboard computers. These computers are mounted in every truck. They give us detailed information about driver behavior, things like breaking, acceleration, idle time. Those factors have direct impact on fuel economy. And you can imagine, when you can improve driving behavior, again, move the underperformers up but move the entire group up, you're making improvements in fuel economy and you can see what sort of impact that would have on our distribution costs.

Similar, it's about maximizing the resources. So for us, we want the drivers getting our product from our plant to the customer. And so any time they spend at the fill plant, waiting for the truck to be filled, or at the customer, waiting for that product to be unloaded, is time they're not behind the wheel, and so advances in control automations, pump technology, really are minimizing the amount of site time the drivers have to spend, which again puts them behind the wheel and allows us to be more flexible and nimble for our customers.

On the volume side, it's important because we're dealing with products, in many cases, that are extremely cold, right? And so it's important you get as much product on that truck as you can, and you get all that product off the truck before it rides back at the plant. Otherwise, you're going to do more trips than you need to do. And so each of our tours we actually grade against a rating scale. And it follows the same approach. Where are we doing it well? Where are we doing it not so well. We identify what the trends are behind that and address them quickly. Now on top of that, there is an optimal delivery window that we're trying to target. And we have an internally developed logistics system that we're actually in the process of upgrading right now. And what that lets us do is really position the trucks and our resources so we're delivering the product right when we need to. You obviously don't want it deliver early, or that's an inefficient delivery and that's driving up your cost. And you absolutely don't want them to deliver late because that affects the reliability to the customer. We're now taking these concepts and we're actually migrating them outside of our bulk business, into areas like microbulk, even NuCO2. For example, NuCO2 has a scheduled delivery system, where if you're a particular cluster, you may get your delivery every Tuesday or every Wednesday. We're migrating that to a inventory-managed system. And again, what that allows us to do is really match the supply to the demand, which reduces our costs. But, as important, it makes sure that product is always there when they need it. So it improves customer reliability.

On the production side, we have several hundreds plants we operate in the U.S. And there's a multiple of that around the world. And when you look at the cost of production, energy really is the single largest component. And most of that energy is consumed by compression and rotating equipment. So over the years, while there are commercially available equipment suppliers, and we use them quite regularly in our plants, we've developed the internal capability to basically retrofit those -- that equipment and, in some cases, build entire pieces of equipment ourselves, which really maximizes the efficiency. And that tradeoff is really dependent by application, by vendor. We don't need to build things just to build them. So if we can work with an OEM, that'll be our first approach. They'll take our technology, apply it to their equipment for our use. In other cases, the efficiency improvement and really the drive in lowering the total cost of ownership makes it better if we build the entire piece of equipment.

So these are some examples. And if you look at it, the key point here is these projects have been done in the last -- this year and last year, is the ability to replicate these projects. And that's really a benefit of having a single focus on our business, we're able to take these ideas, replicate it not only in the U.S. but actually around the world. And the takeaway on this slide, I think, is important because, to use the baseball analogy, it really is a game of singles. I'm standing up here as a representative of operations for the U.S., but my counterparts around the world could be on this stage delivering you the same presentation because they're doing the same thing every day. We have thousands of people doing thousands of projects, delivering the productivity. And it's really that granular approach that we believe is the differentiator. We don't have a special name for our productivity program. We don't even call it a program, it's just what we do. It's part of the DNA of the company.

Finally, some of you have seen this slide previously. And I talked about some of these areas. And you'll hear about the other areas throughout the day in other presentations. As Steve mentioned, there's 5% cost stack reduction target. It's there every year. Every business has it. Every region has it. We know where we stand against that target. We know where we stand against each other. And really, that just makes productivity not be an annual thing you do. Say, okay, I need to get this done at the beginning of the year. You're just working on it all the time. And again, when you go back to the granular approach we take, it's not something where you have a big project and it's a one and done, it's all 27,000 employees doing it every day all the time. We get asked all the time can -- how can Praxair sustain this level of productivity benefits? And really, the answer is we can for really 3 reasons: first, we have a proven methodology. We know how to get it done. We don't talk about what we like to do. When we have an idea, we define it and we get it done. If there's not capital expenditures involved, our target to get that done in 90 days and move on to the next thing. We have a results-driven culture. When we put our minds to it and we want to get it done, we get it done, and that's all of our employees. That's what we preach within the company, that's how we develop our people and that's really what our results have shown. But most importantly, there's just a lot of opportunities. Again, when you're looking at every aspect of the business and you have all the employees looking at that and may feel rewarded for coming up with those ideas, we'll have a technician come with an idea to do something different. We'll save money at that plant, we'll then replicate that within the U.S. We'll then replicate that outside the U.S. and other countries. Their performance is recognized. We'll have members of the senior executive team meet, get to know them. What that does is suddenly you go from knowing people's name to being on a first name basis all the way up and down the organization. And that helps keep the motivation going. So again, our view is productivity is sustainable.

And with that, I'd like to turn it over to John Panikar, President of Praxair Distribution, who is going to talk about our packaged gas business. Thanks.

John M. Panikar

Thank you, Sean. Good morning. I'm going to give you some insights on Praxair Distribution, Inc., which is the third leg of our vertically integrated supply system, that's integral part of our very impressive North American industrial gas business.

So we have an impressive national footprint to service our over 0.5 million customers. 15,000 of these customers represent about 75% of sales. And we have 400-plus dedicated sales folks that provide attention to these critical customers, to make sure we grow with these folks. We have over 1,000 packaged -- we have over 100 packaged fill plants, 5 tier 1 specialty gas plants, over 1,000 trucks making 3,000 deliveries a day. Most importantly, our 4,000 associates in PDI are committed to providing value to our customers day in, day out.

So who are these customers? First of all, they vary and they're very diverse. Manufacturing and met fab is our largest segment. An example is Boeing, who order us all their business on a national business, including their new site in Charleston, where they're going to make the Dreamliner. Our growth is driven by return to competitiveness in U.S. manufacturing. As you know, automotive annualized production is now over $16 million, we're seeing torquespace [ph] and aerospace and in transportation equipment. The energy infrastructure buildout due to shale gas, tight oil formation, especially in Dakota, Texas, are driving demand for tanks, trailers and associated equipment. Future construction of petchem projects in Texas and Louisiana will be strong drivers for us and we look forward to seeing those come to fruition. Labs and universities drive research where the U.S. has no peer, and this segment provides very nice growth for our specialty gas business. So overall, we have a nice $1.5 billion business with very strong cash flow, 17% net operating cash flow.

Let's talk a little bit about our growth drivers. Metal fabrication, anybody who cuts, joins or processes metals, represents 35% of our sales. We have a differentiated StarSolver Program, which has been the linchpin of our success with our customers. We typically attack about 85% of the cost stack of a welding shop, and can almost guarantee a 20% cost reduction to this cost stack. How do we do this? We have over 30 dedicated engineering specialists that drive around the country, and they're supported by our very qualified labs and other capabilities. I'll give you an example. Cameron in Williston, North Dakota, which is at the heart of the Bakken Shale, they make 500-barrel crude oil storage tanks and needed to dramatically expand capacity. This is in a market where welders are scarce and they have quality issues. We automated the equipment, we have customized the equipment to perform rolling, cutting, welding at different and difficult angles, increased capacity by 4x, but most importantly, without any headcount addition to the customer. They rewarded us with a long-term agreement and we've got numerous examples like this.

Specialty gases are growing at double digits, and there are some really nice, secular long-term prospects in this space. First of all, tighter EPA specs on emissions at driving, monitoring at lower levels and volumes. Engine turbines at power plants, down to chainsaws, lawnmowers and blowers require very frequent testing. There's increasing demand for natural gas standards at each junction, and we've got large processing facilities. We're also excited, we reported an acquisition named PortaGas, and we're excited about this offering as we grow this business. Daily calibration of confined space and personal safety monitors, typical end-vendors such as Draeger MFC and Industrial Scientific, and we have leading positions with these folks.

We measure gases like methane, carbon monoxide, chlorine and hydrogen sulfide. Toxic gases, at low levels, that ensure the safety and personal hygiene of our folks. PortaGas offering is unique, it has an ISO cylinder for global use, currently only packaged to do so. It's an industry-changing package, it's the first one that has a refillable cylinder, as opposed to a disposable cylinder, and that drives sustainability with our customers. We're growing this business really, really fast. I'm excited about it.

Finally, let's talk about improving our business. We've got really strong growth prospects. The industry consolidation and dynamics and our focus on pricing and productivity have helped us improve the performance of the business. First, let's talk about the industry. This business has been steadily consolidating, as you can see on the chart on the left, as more and more independents exit the business. There are still 700 independents out there and we work hard. We have been very proactive, have a dedicated and M&A team that's focused on this space. This team also has its own dedicated DD and integration teams that stays with the project, post-close, to ensure that we have the synergies in the first 12 months. This is critical for a good return to the project. We've closed 80 deals since 2001 and are starting to see the very strong benefits in our financial performance of the business. The results are increased density, and we of standardized standardize processes with this business we've brought on board. I'll take you to the middle side, which is Texas, as a great example of this. We have really strong air separation and bulk assets in Texas a few years ago, access to large customers and their vendors. We decided our packaged gas business was nonexistent. We scratch started and it supplemented with some key large acquisitions. Results have been really positive, and we've seen strong sales growth and very, very strong operating profit leverage, as you can see on the chart.

Now let me talk about continuous improvement at Praxair, and our packaged gas business has a lot of room to improve there. As you look at the bar graphs on the left, operating margin versus degree of fragmentation in the industry, you see improving performance with higher consolidation, sounds very logical. The bar to the left is also, very coincidentally, where most independents are and where we were in 2001. Through productivity, pricing and building density, we improved our operating performance by 600 basis points during this time period. We also expect, as we continue to build out our consolidation strategy and more pricing and more productivity, we could get to the levels of productivity and profitability that we see in our most -- best performing businesses in Mexico and Canada. And now the little guy with the 5-pound-a-day business is now going to hand it over to the 5-million-pound-a-day business, and Dan Yankowski and our global HYCO business.

Daniel Yankowski

Good morning. I'd like to talk with you about the global demand for hydrogen, how we see it around the world, talk about our hydrogen projects and then the U.S. petrochemical industry and the opportunity that we see for industrial gases.

The demand for hydrogen, globally, is still robust. We estimate that over the next 5 to 10 years, we'll need an additional 8 billion cubic feet of hydrogen globally. That's being driven by new refineries, expansions, upgrades and the use of heavy crudes. There's 2 other trends we see occurring. The first is the amount of diesel. Diesel consumption is growing 3% to 4% per year. And when you look at how diesel is produced, it's a cut out of the crude distillation unit. And if a refinery wants more diesel, they need to heavy up the crude coming in to the distillation column, and they also need to install hydrocracking technologies, which require large volumes of hydrogen. The second trend that we see is the adoption of low sulfur fuel regulations. The U.S. EPA is pushing for tier 3 mandates by 2017, that means that gasoline in the U.S. at 30 parts per million needs to go to 10 parts per million. What does that mean for hydrogen? It means that we'll need an additional 100 million to 200 million cubic feet per day of hydrogen in the refining industry in the U.S. alone. Look at China. China is about 350 ppm going to 10 [ph], by 2017. This, alone, will require about 1 billion to 1.5 billion cubic feet per day of hydrogen. So the demand for hydrogen is still very strong around the world.

There are some headwinds that we see, not in the demand side but on the sales side. The first is in Latin America. A lot of the projects, refining projects, upgrades, new refineries, have really been slow to develop. In some cases, we've been working on projects for 6 to 7 years, and those projects have -- just moving forward now or have been canceled. At the same time, a lot of the state-owned oil companies want to own their own hydrogen assets.

Looking at China. China, their refining capacity today is about 12 million barrels per day, growing to 16 million barrels by 2017. They'll need significant quantities of hydrogen in the refining processes. Due to the lack of natural gas, natural gas infrastructure and the high cost of LNG, most of that hydrogen will be produced through coal gasification. So we won't see a lot of SMR-based hydrogen projects, but we will be seeing a lot of gasifiers. And that is an opportunity for us to sell large volumes of oxygen to these gasification projects. You'll hear more about that from Anne Roby, later this afternoon.

Now, in the U.S. we see the demand continuing to grow. A lot of that is driven by the development of shale oil and shale gas, which has significantly improved the overall competitiveness of both the refining and petrochemical industries. The light crude have a moderating effect on the amount of hydrogen that's consumed in the refineries, but at the same time, couple that with low-cost natural gas and a lot of the refineries are very competitive. If you look at the chart in the upper right, you'll see that today and over the last 3 years, the U.S. refining industry has gone from a net importer to a net exporter of refined products. Today, we import less than 1 million barrels per day of gasoline and we export significant quantities of diesel. At the same time, because of the U.S. crack spreads and the profitability of the U.S. refining industry, they're operating at record utilization rates. These facts have offset the impact that low -- the light crude has had on the hydrogen demand, and we continue to see an increase in the demand for hydrogen around the U.S. refining industry.

The U.S. petrochemical industry, with the availability of low-cost natural gas and the natural gas liquids, has really gone through a revitalization. I'll talk about it in subsequent slides. But at the same time, if we take a look at the opportunities to supply industrial gases, hydrogen and syngas to the petrochemical industry, couple that with hydrogen and the hydrogen plants that we have in construction today, as Steve mentioned, we see a doubling of our business between now and 2017.

Let's talk about our hydrogen projects that we have in construction. I'm very happy to tell you that we've completed 3 world-scale hydrogen plants. The first one is in Port Arthur, Texas. It's up and running and producing hydrogen to supply the Valero refining company, new hydrocracker there. That plant is also coupled with our hydrogen pipeline system that travels from Louisiana into Texas, along with our storage cavern there. And we're able to supply not only Valero but all of the customers who are connected to that pipeline system with their increased volume of hydrogen.

The second plant that we recently completed is in Norco, Louisiana, again, for Valero, to supply their new hydrocracker with hydrogen. That plant is also up and running. It's connected to a new 50-mile pipeline that runs from Norco back to our Geismar, Louisiana facility, and along that way, we're making connections to most of the refiners so we can supply their increasing needs for hydrogen.

Lastly, in Paradip, India for IOCL, who's recently completed one of their world-scale refinery, we've completed a plant. It's ready to go. And once IOCL is complete, we'll be able to start that plant up and supply them with their hydrogen. This is really the first major hydrogen plant that's third-party supply to refinery in India, and it reinforces our ability to supply future companies in the future.

Let's talk about the U.S. petrochemical industry. As I mentioned, the refining industries have significantly improved our competitiveness. The U.S. is doing the same -- petrochemical industry is doing the same. We see that with low-cost natural gas and natural gas liquids and the discount or the spread between that and crude oil, that the industry itself is undergoing a renaissance. Three things that we see. The first is the return of C1 chemistry. That is picking natural gas and converting it to methanol and ammonia. Those chemicals require large volumes of hydrogen. And since this is gas, which is hydrogen and carbon monoxide, depending on the technology, you could require large volumes of oxygen to produce that syngas.

The second is the availability of low-cost ethane and, again, the disconnect of ethane from the crude oil price. What that's doing is fueling an investment in new ethylene plants in the U.S. Today, I think there's an estimated 10 new ethylene plants being announced in the U.S. Several of them are already in construction. There's not a lot of industrial gases in the production of ethylene. And ethylene is tough to transport because of the type of molecule it is. So they build downstream chemicals, ethylene oxide, ethylene glycol, polypropylene and polyethylene, all require large volumes of oxygen, nitrogen and hydrogen.

The third thing happening is because of the availability of natural gas and the disconnect from crude oil, there are several GTL plants in development today, and they're taking advantage of this disconnect. One GTL plant requires a large amount of oxygen equivalent to the total amount of oxygen that all major industrial gas companies produce today on the Gulf Coast. So with that, there's tremendous opportunities for industrial gases in petrochemicals. In a way, Praxair, with its ability to develop product line plants that we talked about earlier to engineer, design and construct plants, to leverage our infrastructure, will be well-positioned to grow both with the petrochemical and refining industries in the U.S., as well as internationally.

I'd like to turn over the mic to Matt White, our President of Praxair Canada.

Matthew J. White

Thank you, Dan, and good morning. What I'd like to talk about in Canada today is that -- and we have a high-value business in a developed market, but where we see some growth going forward is the tremendous amount of investment and development and the wealth of natural resources in that country. And those are really secular drivers for the long range.

So when you look at the first slide I have here, the upper left quadrant, you can see that we have the leading position in Canada, with 2012 sales of $1 billion. How do we get there? We've been in the country for over 100 years. We have a veteran team. We're one of only 2 industrial gas companies that has a fully integrated coast-to-coast supply network. We have very diverse end markets. And we have, in my opinion, the right density in the right geographic areas. And when you look at these geographics, I think it kind of gives that picture some clarity.

First, on the integrated supply. We have the traditional supply modes, on-site, merchant and packaged, but we also have a strong gas service network. You can see the healthcare services, oil well service business, we have [indiscernible] business, similar to NuCO2, nitrogen pumping and several other type gas-related services.

We have very diverse end markets. You can see the spread. Now manufacturing probably about 40%, similar to a John Panikar show, a lot of that met fab. A lot of that is automotive or aerospace-type firms.

But when you look at the rest of the pie pieces, you've got a combination of both cyclical and noncyclical industries. And if I were to show this graph 5 years from now, I think it'd look quite different. You'd see the energy, metals and, to some extent, chemicals pies growing at a larger pace, and they would become larger relative to the manufacturing and healthcare.

And that takes you down to the map at the bottom of this slide. And I think the first thing you can see with it is just the density and the spread of the dots. And these dots represent our production assets in atmosphere gases or CO2 plants, and the smaller dots represent some of our packaged and healthcare locations, fill plants and branches. And you can see we've got every province covered. And we have density not just in the highly populated areas, along the border in the major cities, but also in the Northern and the Western regions where a lot of the resource development is happening today.

And when you look at the Canadian economy, I think simplicity, you can break it down into really 2 almost subeconomies. The first is in the East, and that's represented in the lighter green, primarily the provinces of Ontario, Québec and the Atlantic provinces on the East Coast. And really, that's a manufacturing and a mining-type economy. Now as Steve mentioned, we're seeing a little bit of headwinds in Canada today, and part of that is the manufacturing. The southern part of Ontario and Québec, as you know, decades ago, they achieved currency that was an opportunity for some labor arbitrage to set up manufacturing, primarily for U.S. companies. And now with the currency of parity, it's creating some headwinds for our customer base, but that does still create opportunities for us as well.

First, with our supply network in the U.S. and Mexico, where some of these operations are moving to, we're well-positioned to retain that business. But second and more importantly, as Scott Kaltrider mentioned and Sean Durbin, we sell productivity solutions to our customer. We've had a lot of wins, similar to John mentioned, in Québec and especially the Greater Toronto Area with our productivity solutions to save our customers' money. In the northern parts, in the eastern provinces, it's mostly mining and metals, and I'll talk to that in the next slide in more detail.

And moving out West in the dark green is more of a natural resource play, and that's really mostly British Columbia and even more so, Alberta. And I'll talk about that in the next slide as well, but that's a big hydrocarbon opportunity that I'm sure a lot of you read about in the newspapers over the last several years.

So I think to sum up on this, we have a viable franchise, and while it's a developed market, there's still some great opportunities in the natural resource side.

So now I've broken this slide really into the 2 main secular drivers that we see in natural resources, metals and mining on the left and oil and gas on the right. Now the Industrial Info Resources recently came out with a figure that said if you add up in Canada, all of the projects that have been announced, that are in process equates to $0.5 trillion. Now I don't think all these projects are going to happen. Some may be deferred, some may be canceled. But when you look at $0.5 trillion in an economy that has a population and GDP roughly equal to the State of California, that's a significant amount of investment. And about 1/3 of that or $170 billion is really around the metals and mining and, more specifically, development of iron, copper, nickel, gold and, to some extent, lithium, rare earths, uranium.

So there are tremendous opportunities for industrial gas company like Praxair with that development. The first is our basic atmospheric gases that we supply the steel production, oxygen, nitrogen, argon. A recent example, T900 [ph], a 900-ton-a-day plant that we had recently stalled in Essar Algoma in Sault Ste. Marie.

In addition, we supply oxygen into smelting and leaching operations, and we've seen a lot of opportunities there. Some recent ones that will be starting up here soon is Vale Newfoundland for their nickel upgrader, as well as a couple of gold mines that we recently won in northern Québec and northern Ontario.

And also, we see a lot of water treatment. With these remote mines, they need to use processing water, and they've got to clean that water for environmental purposes. So we get oxygen and CO2 pH, and we're well-positioned to capture that because it requires liquid product to be transported. You need to have production plants in those remote areas.

Now looking at the oil and gas opportunities, that first one, the oil sands, and this is the one I think that gets a lot of air time and a lot of newsprint. And probably the most significant piece of that is the Keystone XL Pipeline. Now from my perspective, the Keystone is just one of many projects that are underway to monetize the assets and the hydrocarbons in Alberta and B.C. And, frankly, I'm sort of agnostic whether it happens or not because when you look across, what are the projects that are currently underway to get those assets and get money out of them? Enbridge has a Northern Gateway Project they're looking to get those hydrocarbons to the British Columbia coasts for export to Asia. TransCanada has an East Canada Pipeline to send it to the refining assets in Eastern Canada to displace imported crude. Enbridge also has another South Pipeline expansion they're looking to get product in the U.S.

The significant rail activity has been growing to move the diluted bitumen out to Northern -- North American refineries. And even the province of Alberta is investing, and I'll talk about this in the next slide, to just further refine the hydrocarbons and distribute the higher value product within the local markets.

Exploration and frac-ing continues to be a big opportunity. 6, 7 years ago, it was all about dry gas. Now, today, it's all about the barrel, it's all about liquids. So the majority of the frac-ing we do today is for either oil or for natural gas liquids. But as the LNG and, to some extent, GTL infrastructure build out, dry gas will be further growth even on top of this. When you look at the LNG investments that are happening today, the big part is Kitimat, you probably hear about, in British Columbia and Prince Rupert. And it's an attractive opportunity because you have significant dry gas reserves. You have a very friendly investment economy in Canada, very stable and a wealth of resources, which is not -- you can't say that around some of the other countries in the world that have this wealth of resources. And it's not just in Canada. The private companies have opportunities to invest the big integrated majors like Chevron, but also, some of the state-owned oil companies also have investment opportunities.

So I think from that perspective, LNG is a good growth opportunity and, to some extent, gas to liquids because you look at northern Alberta, their long dry gas and their short liquids and the liquids primarily used as a diluent to transport bitumen. So the opportunities for us there, clearly, liquid nitrogen, liquid CO2 to support the enhanced oil recovery in the fracturing market.

In packaged gases and hardgoods really can apply to all of these infrastructure development. Now if you're going to build 1,000 kilometers of pipe, you need a lot of welding. If you're going to build a very large mod in northern Edmonton that needs to go up to Fort McMurray onto the oil fields, you need a lot of wells. So as this infrastructure is built out, that's going to be positioned to benefit for our packaged gas business.

And the last point here is oxygen, hydrogen for bitumen upgrading, and I'll talk more in detail on a specific project on the next slide related to this. So when you add up these sort of secular drivers that are really long-range, mining had a dip here recently, but the customers we talk to are looking out 10-, 20-year-type horizons. Plus, the organic growth that we expect in Canada, we can see ourselves at $300 million growth over the next 5 years.

So in this final slide, I just want to highlight a project that we had announced earlier this year toward the end of the first quarter, and it's the North West Redwater partnership. So what is NWR? It's a 50-50 joint venture between North West Upgrading and Canadian Natural Resources Ltd. And how did we win this project? To some extent, it was a bit of a labor love. It was a multi-year process, but we have veterans in Alberta with detailed industry knowledge and gas knowledge. And this has started several years ago when NW is more of a small startup, but it's making these connections at this level that can get you to grow with your customer base and win some of these. So we have a lot of these in the hop or all around the country every day, and some can become a project of this nature.

They're looking to invest $6 billion for startup in 2016, and they'll be located in the Greater Edmonton Area, as you can see in the map. And north of that will be Fort McMurray, where they would either mine out there or SAGD the -- get the bitumen out of the ground and pipe it down to this refinery. The interesting thing about this North West Redwater partnership is it's really a tolling operation. They don't take risk on the barrel, they don't take risk on the spreads and the risk to build the plant and to operate the plant. They just need to process the barrels, with some upside that they will achieve a goal over certain production targets. So really, it's the Albertan government at 75% that they're providing the bitumen that they receive as a royalty, and then they're taking ownership throughout the barrel to the finished product. So for Alberta, it's an opportunity to diversify their revenue source. They have a significant exposure to Western Canadian select crude, as well as bitumen pricing. So by doing this, they can be more diversified and enjoy the value down the hydrocarbon chain.

On the lower right here, you can see a very, very basic schematic of what this project is. But this first phase, and it's one phase of a potential 3 down the road, will be 75,000 barrels a day diluted bitumen. They would basically vacuum out the diluent that they would refine but then take that heavy bitumen residue that they would put through a hydrocracker, similar to what Dan was talking about, to basically break that longer chain down. And that will require the gasifier that needs our oxygen. Now an interesting thing about the gasifier is they're actually going to take the CO2 offtake and be a clean CO2 stream, they'll compress and they're piping a couple hundred kilometers through one of their sister companies for an EOR application in Alberta. So really, this is almost like a closed-loop carbon system, and it will be developing local bitumen into high-value finished products like ultra-low sulfur diesel, the vacuum gas oil, naphtha and other lighters that can be sold in that area. So it's something we're excited about. And I think it creates an opportunity not just with this or potential expansions, but if this organization builds out and you get petchem or other type upgrading opportunities, they'll continue to grow.

So that concludes Canada. Next up, I'd like to introduce Antonio Cesar, who's President of Praxair Mexico.

Antonio Cesar Miranda

Thank you, Matt. Good morning. [indiscernible] share with you a little bit about the moment of Mexico, why we like it and how Praxair will play in this scenario going forward. Experts have said that Mexico is one of the most promising place to be over the next few years from a business perspective, and here, I list 4 reasons for that. First of all, as you all know, Mexico is one of the most open economies with 44 freight trade agreements with all countries all over the world, and this has been the bright of Mexico since it opens a great market to keep the focus on exports, which have been one of the Mexican growth platforms.

The second reason is competitiveness. In late '90s, beginning of 2000s, Mexico could not match China's extremely low wage rates, as illustrated by the bar chart down on the left. Manufacturers located the factories in China rather than Mexico. It was a crisis that Mexico did not like to go to waste. They did the homework. And along with the strengthening democratic institutions, the government began to focus on improving infrastructure and alleviating unnecessary regulatory burdens.

Meanwhile, Chinese wages have skyrocketed, and transportation cost is affected by higher fuel prices, began to rise extremely fast. So in this direction, total land and manufacturing costs for goods made in Mexico are currently lower than in China. In this sense, manufacturers are very optimistic about the future of Mexico. And these positive trends and developments have been attracting many foreign direct investments, as represented by the pie chart, that have surpassed the $100 billion of investments, being 46% captured by the manufacturing sector. Within the manufacturing sector, automotive companies have been leading the way with $10 billion of investments. So simply put, Mexico has what manufacturers are looking for, low labor costs, educated and skilled workforce, reduced shipping time and cost and access to markets.

Another very important sector for Mexico is the energy. Despite the oil production decline, Mexico is still among the 10 major global oil producers, with the sixth largest estimated shale gas reserves and a large amount of proven oil and gas in conventional reserves. So expectations today are on the energy reform approval. It seems to be a consensus that we take Mexico to [indiscernible] in terms of attractiveness going forward. So Mexico is extremely well-positioned to compete globally and be a very attractive market going forward.

And how Praxair will play in this promising and exciting scenario and will succeed in the Mexico industrial gas market? Firstly, we have a leading position in this very attractive market with mainly 2 competitors, which means we hold a big share of market, enjoy an OP margin above the average of the North American segment, being the preferred partner among key customers that is confirmed by our win rates. Only to give an idea, over the last 5 years, we've been able to win about 80% of the on-site projects. And in merchant, new business acquisition rates are in the range of 70%. So we are a $700 million company, being the most integrated player in the region, with a very dense packaged business that accounts for 40% of total sales, with more than 90 sales branches spread out all over the country, which give us a tremendous advantage in terms of capturing new businesses. We hold a complete portfolio of atmospheric, process and specialty gases and a balanced mix of hardgoods and safety equipment. This portfolio also includes maintenance services through injecting nitrogen and CO2 for the oil market, and we also lead the merchant market with the very solid medium- and long-term contracts, offering our customers a wide variety of technologies and technical support. So we are very well-positioned to succeed in this market that is a valuable franchise for Praxair in Latin America.

And to better illustrate what I'm talking here, let me share with you 2 key businesses that we've been successfully growing over the last few years, and we'll surely keep the pace going forward. Firstly, the packaged business that has grown at 10% rate since 2009. And on packaged, our major focus has been on 3 segments. Firstly, the metal fabrication. Metal fabrication, we truly excelled at developing technology applications like argon and argon blends for welding, heat treating and gases for laser cutting. In this particular application, we've been closely working with the OEMs. Specialty gases. Specialty gases has been a very important growth platform for Praxair in Mexico, and it is important to mention that we are there in Mexico Center of Excellence of Praxair worldwide in terms of specialty gases manufacturing and techno knowledge. And this is a market where we clearly differentiate ourselves and have grown above our fair share of market. Our -- the main markets of specialty gases include energy, environmental and food and beverage.

And finally, the Retail segment. We have made progress in terms of improving our market coverage through low-cost retail stores, and our plan includes opening 16 new retail stores over the next 2 years.

Even with respect to package, let me tell you a good story about the microbulk conversion program. It basically consists of a business that converts larger volume of gases and cylinders into small tanks, and the science here is the business model. We appropriate tanks, these small bulk delivery vehicles, the [indiscernible] installations and the logistics systems. It is very attractive to customers since it is safer. Once customers know longer have on sealers and cheaper because it reduces the probability of losing synergies, it allows the better control of inventories and dramatically reduce the number of invoices that a customer handles on a day-to-day routine. And of course, for Praxair, it lowers -- it means lower cost to serve, with businesses 5 to multi-year contracts with price escalation from and the rental fee for equipment. So this is a key business that we've been growing 10% of growth rate over the last 3 years and very important for our growth platform looking forward.

Another very important sector for us in Mexico in energy. And I guess you all know that PEMEX has been struggling a little bit with the oil production decline over the last 10 years going down from 3.5 million barrels per day to 2.5 million, with the existing wells requiring more stimulation, more maintenance services, more recovery techniques, while new drillings requiring knowhow, new technologies and huge investments. So this is the reason, this is the main reason why the energy reform is eagerly awaited. But luckily, the struggles of PEMEX have represented great opportunities for Praxair to benefit even further in this market with our existing products and services in 2 different fronts.

Firstly, the EOR, the enhanced oil recovery, where we inject about 6,000 tons a day of nitrogen into Samaria oil reserve. And the second is the Nitropet, which is our bulk type of business, where we inject nitrogen or CO2 basically for maintenance, clean and fracking. Far from being a traditional sale of gases, Nitropet is an oil service company that, along with the technology applications and technical support, reliability and safety have been the name of the game and our competitive advantage. And this is the reason Praxair has invested in air separation units, pump units, trailers and storage receivers. But the key aspect on this market has been the more than 200 people who have gone this business at 20% growth rate.

So I move to the Q&A session and invite Steve to lead the session. Thank you.

Stephen F. Angel

So Antonio, you didn't want to stay up here and handle the questions? Okay. Well, if we get one on Mexico, I'll let you handle it, or Brazil. Questions? Just pick one.

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