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Edited Transcript of B earnings conference call or presentation 25-Oct-19 12:30pm GMT

Q3 2019 Barnes Group Inc Earnings Call

BRISTOL Oct 26, 2019 (Thomson StreetEvents) -- Edited Transcript of Barnes Group Inc earnings conference call or presentation Friday, October 25, 2019 at 12:30:00pm GMT

TEXT version of Transcript

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Corporate Participants

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* Christopher J. Stephens

Barnes Group Inc. - Senior VP of Finance & CFO

* Patrick J. Dempsey

Barnes Group Inc. - President, CEO & Director

* William Pitts

Barnes Group Inc. - Director of IR

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Conference Call Participants

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* Christopher D. Glynn

Oppenheimer & Co. Inc., Research Division - MD and Senior Analyst

* Edward James Marshall

Sidoti & Company, LLC - Senior Equity Research Analyst

* Matt J. Summerville

D.A. Davidson & Co., Research Division - MD & Senior Analyst

* Michael Frank Ciarmoli

SunTrust Robinson Humphrey, Inc., Research Division - Research Analyst

* Myles Alexander Walton

UBS Investment Bank, Research Division - MD & Senior Analyst

* Peter John Skibitski

Alembic Global Advisors - Research Analyst

* Timothy Ronald Wojs

Robert W. Baird & Co. Incorporated, Research Division - Senior Research Analyst

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Presentation

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Operator [1]

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Ladies and gentlemen, thank you for standing by, and welcome to the Barnes Group Inc. Third Quarter 2019 Earnings Conference Call and Webcast. (Operator Instructions) Please be advised that today's conference is being recorded. (Operator Instructions)

I will now like to hand the conference over to your speaker today, Mr. Bill Pitts, Director of Investor Relations. Please go ahead.

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William Pitts, Barnes Group Inc. - Director of IR [2]

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Thank you, Sharon. Good morning, everyone, and thank you for joining us for our third quarter 2019 earnings call. With me are Barnes Group's President and Chief Executive Officer, Patrick Dempsey; and Senior Vice President of Finance and Chief Financial Officer, Chris Stephens.

If you have not received a copy of our earnings press release, you can find it on the Investor Relations section of our corporate website at bginc.com. During our call, we will be referring to the earnings release supplement slides, which are also posted on our website.

Our discussion today includes certain non-GAAP financial measures which provide additional information we believe is helpful to investors. These measures have been reconciled to the related GAAP measures in accordance with SEC regulations. You will find a reconciliation table on our website as part of our press release and in the Form 8-K submitted to the Securities and Exchange Commission.

Be advised that certain statements we make on today's call, both during the opening remarks and during the question-and-answer session, may be forward-looking statements as defined in the Private Securities Litigation Reform Act of 1995. These forward-looking statements are subject to risks and uncertainties that may cause actual results to differ materially from those projected. Please consider the risks and uncertainties that are mentioned in today's call and are described in our periodic filings with the SEC. These filings are available through the Investor Relations section of our corporate website at bginc.com.

Let me now turn the call over to Patrick for opening remarks. Then Chris will provide a review of our third quarter results and our updated 2019 outlook. After that, we will open up the call for questions. Patrick?

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Patrick J. Dempsey, Barnes Group Inc. - President, CEO & Director [3]

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Thank you, Bill, and good morning, everyone. For Barnes Group, the third quarter demonstrated a continuation of several market trends that have been present throughout 2019. Our Aerospace markets remain robust while several of our Industrial markets continue to be challenged. While this has pressured our top line, I'm very pleased with what the team has delivered on the bottom line. We generated record quarterly operating profit, achieved sequential improvement in operating margin and delivered one of our best quarterly EPS results.

In what was a clean quarter, it's clearly evident that the power of proactive management actions coupled with a strong operating system combined to deliver solid results. Our commitment to effective management throughout business cycles requires that we build upon and leverage commercial, operational and financial excellence across the organization. Employing the Barnes Enterprise System, we have created a performance culture that seeks to deliver good results regardless of the economic environment. And as I have mentioned before, while we're not immune to the impacts of the economic environment or challenges within our end markets, we do expect to adapt accordingly.

For the third quarter, total sales increased 1% while organic sales decreased 1%. Record quarterly operating income of $67.6 million increased 12% over last year's adjusted result while operating margin was 18.1%. Earnings per share were $0.89, up 14% from an adjusted $0.78 last year, very strong performance given the current environment.

Moving now to a discussion on segment performance, beginning with Industrial. Total sales were down 5% while organic sales declined 8%. Book-to-bill in the quarter was a little better than 0.9x as economic trade -- economic and trade uncertainty leading to deferred new program launches continues to pressure certain of our Industrial end markets. Accordingly, we have tempered our 2019 sales outlook for each of our Industrial business units.

At Molding Solutions, sales declined 11% over last year's second quarter, with organic sales declining 8%. Automotive hot runners, personal care and packaging end markets remain strained while the medical end market remains a bright spot. Our molds business did achieve a nice sequential increase as anticipated, and we expect further improvement in the fourth quarter with the backlog in place to support it. For the year, we now expect Molding Solutions organic growth to be down high single digits relative to a record 2018.

At Force & Motion Control, organic sales declined 8%. While initially, we had believed the tool and die market would improve in the second half, this did not occur. Our expectation for an improvement in this market has now been pushed out to 2020.

In contrast, general industrial markets, particularly in North America, continued to demonstrate resilience with slight organic order improvement year-over-year. For 2019, we now forecast organic growth to be down mid-single digits.

At Engineered Components, organic sales likewise declined 8% driven by lingering weakness in auto production end markets. Global auto production forecasts are signaling an approximate 6% decline in 2019 with China, Europe and North America all seeing a reduction.

While manufacturing PMIs for the U.S. and China ticked up slightly exiting the third quarter, Europe showed further deterioration. Our 2019 organic growth outlook for Engineered Components is now down mid-single digits.

At Automation, demand for robotics has slowed year-to-date especially in Germany and China. Lower automation investments given global trade uncertainties and softer end markets has caused us to revise our 2019 sales forecast to $55 million. That said, our long-term assessment of this business hasn't changed. We see automation as a good growth, high-margin opportunity for Barnes Group.

Overall, our full year sales outlook for the Industrial segment has been trimmed. We now anticipate a high single-digit organic revenue decline. Forecasted operating margin for the full year has improved slightly as we now expect an adjusted 12.5% to 13%.

On the Aerospace side of our business, demand for both original equipment, manufacturing and aftermarket remains favorable. Excellent performance by the Aerospace teams has provided another quarter of record revenues and operating profit. Total sales were up 12% with OEM growth of 10% and aftermarket growth of 17%. Operating margin in the segment was an impressive 23.2%, up 270 basis points from a year ago. Aerospace OEM book-to-bill in the quarter was also a healthy 1.2x.

Within OEM, we continue to monitor the Boeing 737 MAX grounding but don't see a delayed return to flight as having any meaningful impact on our OEM business in the near term. However, we have been asked to move to a 42-per-month build rate on this program, down from 52-per-month rate earlier in the year.

For the aftermarket, both MRO and spare parts remain strong with MRO sales up 20% year-over-year and spare parts up 14%.

We have again increased our full year sales and margin outlook. Aerospace sales are now expected to grow low double digits with operating margin of approximately 22%. OEM sales growth is forecasted to be in the high single digits to low double digits. In the aftermarket, MRO is now anticipated to be up low double digits while spare parts are now forecasted to be up low teens.

So in summary, 2019 has been fairly consistent in that several industrial end markets remain challenged while Aerospace markets demonstrate sustained strength. We have undertaken steps to ensure that in spite of the top line challenge, we continue to deliver solid financial performance. More promising is that we see additional opportunities to improve our operations in both segments through the application of the Barnes Enterprise System. At the same time, we will continue to make strategic investments in our businesses to enhance our competitiveness and to best position them as market conditions improve.

Now let me turn the call over to Chris for a discussion on the financial details.

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Christopher J. Stephens, Barnes Group Inc. - Senior VP of Finance & CFO [4]

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All right. Thank you, Patrick, and good morning, everyone. Let me begin with highlights of our third quarter results on Slide 4 of our supplement and then move to a discussion on our updated outlook for 2019.

For the third quarter, sales were $373 million, up 1% over the prior year period. Organic sales declined 1%, and FX had a negative impact of 2%. Acquisition sales in the quarter were 4% or $14 million and included a full quarter of Gimatic sales and a partial quarter of Industrial Gas Springs or IGS sales.

As Patrick highlighted, operating margin was 18.1%, up 170 basis points versus an adjusted operating margin of 16.4% in the prior year period. Interest expense was $5.3 million, up $1.3 million from a year ago due to an increase in average outstanding debt as a result of the Gimatic acquisition partially offset by a lower average interest rate.

For the third quarter, the company's effective tax rate was 23.4% compared with 25.6% for the prior year period. And net income was $45.8 million or $0.89 per diluted share compared to $39.1 million or $0.75 per diluted share a year ago. On an adjusted basis, net income per share was up 14% from $0.78 a year ago.

With respect to share count, our third quarter average diluted shares outstanding was 51.2 million shares. We did not repurchase any shares in the quarter, and there remains 4.1 million shares available for repurchase under the board's 2019 stock repurchase authorization.

Year-to-date cash provided by operating activities was $161 million, up $3 million from last year. And keep in mind that this year's operating cash includes a $15 million discretionary pension plan contribution where last year did not have such a contribution. So we continue to generate solid cash performance in our business. Free cash flow, which we define as operating cash flow less CapEx of $124 million compared to $118 million last year. And our year-to-date CapEx was $38 million, which is down slightly from last year.

With respect to the balance sheet, our debt-to-EBITDA ratio was 2.5x, down from 2.7x at the end of the second quarter, and we expect to further delever into the fourth quarter. Under our existing debt covenants, additional borrowings of approximately $340 million of senior debt would have been allowed at quarter end.

Moving on to the segment performance. Let's begin with Industrial. For the third quarter, sales were $232 million, down 5% from last year. Organic sales decreased 8%. Unfavorable FX decreased sales by 3% while IGS and Gimatic contributed 6% of acquisition revenues.

Operating profit was $34.8 million, up 5% from $33.3 million a year ago. Excluding IGS short-term purchase accounting adjustments and acquisition transaction costs in the prior year quarter, adjusted operating profit was approximately unchanged from a year ago although operating margin was 15%, up 70 basis points from an adjusted 14.3% last year primarily driven by favorable productivity.

At Aerospace, outstanding performance continues with record quarterly sales of $141 million, up 12%. Operating profit was a record $32.7 million, up 27% primarily due to the profit contribution of higher sales volumes. Operating margin of 23.2% was up 270 basis points from 20.5% a year ago. Solid performance all around from the Aerospace team.

Aerospace total backlog ended the quarter at $824 million, up 1% compared to a year ago and up 3% sequentially from last year (sic) [quarter]. For OEM specifically, backlog increased to $810 million from $791 million last quarter. And we expect to ship approximately 50% of our Aerospace backlog over the next 12 months.

Turning to our updated 2019 outlook on Slide 5 of our supplement. We now expect total revenue growth to be approximately flat with organic sales down low single digits, which is a reduction from our previous view. We forecast FX to negatively impact revenues by approximately 2% and acquisition revenues to contribute approximately 4%. Adjusted operating margin is forecasted to be approximately 16%, up from our prior expectation.

Adjusted EPS is now expected to be in the range of $3.18 to $3.23, down $0.05 on the top end of our previous estimate primarily due to softer Q3 orders in our Industrial short-cycle businesses.

A few other outlook items. Interest expense is anticipated to be approximately $20 million. The effective tax rate is forecasted to be approximately 23.5%. Our CapEx expectation is approximately $55 million. Average diluted shares are forecasted to be 51.7 million shares, and cash conversion is forecasted to be approximately 100% unchanged from our prior view.

So to conclude and as I mentioned in my closing remarks last quarter, we are focused on protecting operating margins. The sequential improvement achieved now for 2 consecutive quarters demonstrates our success in doing so. At the same time, with a difficult top line environment in our Industrial segment, actions we have taken to drive productivity, coupled with the investments we are making in innovation and growth, will allow us to be well positioned as our end markets improved.

Sharon, we're going to now open the call to questions.

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Questions and Answers

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Operator [1]

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(Operator Instructions) First question comes from the line of Edward Marshall with Sidoti.

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Edward James Marshall, Sidoti & Company, LLC - Senior Equity Research Analyst [2]

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So the first question I have is on the Industrial margin. I mean obviously, that was the first thing that caught my attention. I'm curious how much of that was mix related, maybe some of the stuff like spring, some of the lower margins like springs falling faster versus productivity. Any kind of insight you could provide there would be helpful.

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Patrick J. Dempsey, Barnes Group Inc. - President, CEO & Director [3]

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So margins in the second quarter, Edward, are primarily a result of actions that have been taken in the early part of the year. So relative to -- the biggest impact came from productivity. And so all SBUs, I think, across the board contributed to that because every one of the businesses has been anticipating potential headwinds over the course of the year and had taken the actions in Q1 and Q2. So those benefits now have come through in 2 sequential quarters, Q2 -- from Q1 to Q2 and Q2 to Q3. So I'm very pleased with the performance of the team in that regard.

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Edward James Marshall, Sidoti & Company, LLC - Senior Equity Research Analyst [4]

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Great. Can you kind of -- if we think about the top line, can you talk about maybe what you're seeing from customers, say, on the shorter-cycle Industrial versus kind of maybe where you're working from backlog on some of the longer-cycle product lines? I'm trying to get a sense to kind of what the barometer might be in your Industrial business if I could.

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Patrick J. Dempsey, Barnes Group Inc. - President, CEO & Director [5]

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Fair enough. Well, if I speak to the long-cycle aspect of our Industrial, which is obviously everything is relative, long-cycle Industrial is obviously much shorter than long cycle in our Aerospace business. But that said, where we have backlog of significance is in the mold system side of the business. And so there, as we highlighted, I think, in Q2, we had a relatively strong backlog within our mold systems business for the rest of the year with an expectation of sequential improvement in Q3 and further sequential improvement in Q4. The team delivered very nicely on what we anticipated in Q3 in that respect, and so that was a very positive result.

In terms of our short-cycle businesses, which is primarily the automotive hot runners business and our FMC business with respect to the tool and die industry, there, what we're seeing is continued headwinds against the backdrop of trade and economic uncertainties. So as you saw with our guidance for the full year, we are a little bit cautious in light of the short-cycle businesses and subsequently didn't let the full benefit of Q3 flow through to the full year.

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Edward James Marshall, Sidoti & Company, LLC - Senior Equity Research Analyst [6]

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Got it. And just to be clear, there's been no change in -- to your spending within the Industrial business? You'll continue to invest in those businesses in 2020?

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Patrick J. Dempsey, Barnes Group Inc. - President, CEO & Director [7]

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Absolutely. Continue to -- business as usual in terms of all of the innovation efforts that we have in place, which are driven by our Global Innovation Forum and more recently the addition of our Chief Technology Officer.

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Edward James Marshall, Sidoti & Company, LLC - Senior Equity Research Analyst [8]

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And just finally, last one for me. 42 from 52, first, when did that go into effect for you? And secondly, my sense is we probably won't even notice that either in the revenue or the margin profile of your business. Just clarify both of those for me please.

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Patrick J. Dempsey, Barnes Group Inc. - President, CEO & Director [9]

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Yes. No, it just happened recently in that as you remember at the beginning of the year, we had indicated that we were pretty much at the 52 rate and hadn't seen a drop. And that was because the engine OEs were effectively taking the opportunity to catch up relative to the airframe builder.

And so to your point, I agree that we don't think we'll see any meaningful impact in that translating into our top line core margins in the short term. And overall, we think the MAX will enter back into service in the new year, and with that, expect the ramp throughout 2020.

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Edward James Marshall, Sidoti & Company, LLC - Senior Equity Research Analyst [10]

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Considering the backdrop, this -- you guys did a pretty good job this quarter.

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Operator [11]

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Next question comes from Christopher Glynn with Oppenheimer.

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Christopher D. Glynn, Oppenheimer & Co. Inc., Research Division - MD and Senior Analyst [12]

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So it's nice to see continuing to benefit at Aerospace from your long-term investments there. Had a question about the margin. How much might be just everything, supply chain, whatever, just all clicking perfectly versus this being kind of a reflection of your entitlement at this stage of the cycle relative to your long-term investment and positioning to participate in this market?

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Patrick J. Dempsey, Barnes Group Inc. - President, CEO & Director [13]

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Great question, Chris. And what I would say is that the margin that we're demonstrating at the current time is a reflection of the long term sequence of investments -- over the last decade, I might add, and more recently over the last 5 years on the OEM side of the business. So what we have in place, as you know, is a very strong combination of both new-make OEM production and aftermarket with life-of-program deals in place that have been put in place over many years on the CFM56, CF6 programs in particular driving the aftermarket side of the business.

So we are in a sweet spot, I would argue, in terms of where the maintenance cycle is in the industry, which is, as you know, drives a higher operating margin to the spare parts and the maintenance repair and operation side of the business compared to the new-make side.

That said, the team has done a really nice job in terms of ramping up to the new requirements, positioning ourselves on new strategic platforms for the long term and then driving the Barnes Enterprise System to introduce those new products through our NPI process and then starting to streamline them in terms of production.

So I think that in terms of looking outwards in the sustainability of our operating margins within Aerospace in the 20s will be very much dependent on the combination of strength between the aftermarket and OE on an ongoing basis.

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Christopher D. Glynn, Oppenheimer & Co. Inc., Research Division - MD and Senior Analyst [14]

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Okay. And looking in the press release, you talked about adapting your business approach to the current environment. Just curious what that means because you did call out managing the cost structure separately from that. So I just wanted to hone in on what you meant by adapting the business approach.

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Patrick J. Dempsey, Barnes Group Inc. - President, CEO & Director [15]

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I think, Chris, what we're referencing is the whole essence of the Barnes Enterprise System and our emphasis across the leadership of the company on commercial, operational and financial excellence. And what the mantra has been within the management team of the businesses has been that irrespective of what the markets are doing, we need to have a winning attitude and a growth-orientated mindset.

And so that's what I mean by adapting the business in that what the leaders are doing is looking for opportunities to seek out opportunities when -- even with the headwinds that some of the businesses are experiencing because we believe that our customers see the value that we bring and are even more open to certain deals that we might present now in a pressured environment where previously they might have -- might not have been so engaged to do so. And I do think that the portfolio transformation is a big factor in our current performance and demonstrates our resilience as we continue to move through the cycle.

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Christopher D. Glynn, Oppenheimer & Co. Inc., Research Division - MD and Senior Analyst [16]

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Okay. Last one for me and kind of looking at the meaningful ramp in the run rates for your Industrial margin that you executed in the third quarter. I wonder if you could sort of parse that accomplishment in terms of structural improvements that will retain versus short-term cost disciplines.

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Patrick J. Dempsey, Barnes Group Inc. - President, CEO & Director [17]

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Yes. I think we have -- it's been -- in the short term, we very much tightened on the cost management side of things with respect to adjusting our businesses to what we were anticipating in terms of demand with that. We took proactive actions against what are the normal aspects of things from overtime to cost management to executing even more aggressively on our global sourcing to our material side of the equation.

And then structurally we continue to evaluate the businesses. What we're continuing to look at is what is the time frame that we might anticipate in terms of these headwinds versus maximizing our overall manufacturing strategy and footprints across the globe. And I think our scale in some of our businesses now allows us to -- some flexibility to be creative around a range of different potential opportunities versus even our competition.

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Operator [18]

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Next question we have is Matt Summerville with D.A. Davidson.

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Matt J. Summerville, D.A. Davidson & Co., Research Division - MD & Senior Analyst [19]

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A couple of questions. First on the Molding Solutions business. I was wondering, I think you said organic overall was down 8%. Would you mind giving a little bit more granularity in terms of how some of those key end markets performed relative to that, those being auto, medical, packaging and personal care?

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Patrick J. Dempsey, Barnes Group Inc. - President, CEO & Director [20]

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Yes. So what we saw, Matt, in the quarter was continued pressure on the personal care and packaging side of the business was the medical side continued to just demonstrate strength. So relative to Molding Solutions in total, as you said, we saw organic growth down approximately 8%. We saw a little bit more pressure on the short-cycle automotive hot runners. And the real offset was medical in terms of the positive.

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Matt J. Summerville, D.A. Davidson & Co., Research Division - MD & Senior Analyst [21]

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Got it. And then just speaking with Industrial, if I have my numbers correctly or correct, it looks like the backlog there was down maybe 7% on a sequential basis. It looked like it was down like 25% year-over-year. So correct me if I'm wrong, number one. Number two, can you talk about really what's sort of driving that? Those are pretty pronounced declines.

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Christopher J. Stephens, Barnes Group Inc. - Senior VP of Finance & CFO [22]

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Matt, it's Chris. So what -- you're right, the 7% from a sequential point of view backlog Industrial, that makes sense. And overall, recognize there's -- it's not as dramatic as you mentioned before we see kind of that mid-teens reduction, I'll call it year-over-year, quarter-over-quarter. Recognize there may be some FX in there. But what we're seeing is -- and this is a little bit of why we trim $0.05 from the top end of our EPS range even though we had a terrific quarter for Barnes Group all around in both segments. The shorter-cycle businesses primarily is where we're seeing that reduction. That book-to-bill in the quarter was 0.9 for Industrial. We have not seen much in the way of that rebounding anytime in the near term. And as a result, we're reflecting that accordingly in our full year guidance.

What we -- go back a quarter. What we really looked at in terms of what we can control is that what is in our backlog for molds. And given the molds that we delivered, we delivered on our expectations in Q3. And that continued -- that sequential improvement in terms of the sales profile will continue in Q4.

But the watchful eye is just on our shorter-cycle businesses. We just -- it's reflective of the uncertainty that we've seen globally around trade, and that's impacting our Industrial short-cycle business.

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Matt J. Summerville, D.A. Davidson & Co., Research Division - MD & Senior Analyst [23]

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Just one final one maybe. What's -- with respect to pension, can you remind us what your funded status looks like post this contribution you made? And then what pension expense will likely be in '19 and if you have an early read on that for 2020?

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Christopher J. Stephens, Barnes Group Inc. - Senior VP of Finance & CFO [24]

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Yes. So good question. So we did make the discretionary $15 million contribution in the third quarter. And from a funding status point of view, it's taken us into the low-90s now into the upper 90s for purpose of funding. So well-funded in terms of our pension plan. Again, that was discretionary, not a mandatory contribution.

But to your point, in 2020, given the interest rate environment and our expectations of going into 2020 as we haven't finalized that and we'll know as of 12/31, as you know, as we calculate for purpose of a defined benefit plan and thinking about expense, we do expect a few million dollars of headwind heading into 2020 just as a result of the interest rate environment.

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Operator [25]

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Next question comes from Myles Walton with UBS.

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Myles Alexander Walton, UBS Investment Bank, Research Division - MD & Senior Analyst [26]

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So Patrick, I hear what you're saying on the Industrial side in terms of productivity contributing to the margins in the quarter. But obviously, fourth quarter margins are expected to, I guess, ramp down in the guidance on slightly higher sales. So just explain kind of where we are in the margins you've seen this quarter and the sustainability of those both in the fourth quarter as well as into 2020? And maybe I didn't get it but what is your full year expectation for the margins at Industrial?

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Patrick J. Dempsey, Barnes Group Inc. - President, CEO & Director [27]

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Well, the full year expectations for Industrial are 12.5% to 13% for the full year. And relative to the anticipated decline relative to Q4 over Q3, what it really is, is it's our cautiousness around the low-cycle -- or short-cycle businesses. So as you know, some of our short-cycle businesses are the higher margin. So what we're looking at is the mix into Q4. The -- a little bit cautious in terms of the current outlook and if the quarter was to soften more than what we might anticipate. And so as a result, that's what's truly flowing through to the lower-margin profile for Q4.

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Myles Alexander Walton, UBS Investment Bank, Research Division - MD & Senior Analyst [28]

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Okay. Should we think about this kind of blended second half as being the right run rate for 2020?

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Patrick J. Dempsey, Barnes Group Inc. - President, CEO & Director [29]

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I think that's probably a fair assessment. What we're continuing to target for the Industrial business is mid-teens, and that would be our goal going into 2020. Clearly, again, it will be determined by some of the recovery of some of our end markets, particularly the higher-margin business lines. But mid-teens is what we have internally set as an acceptable margin in the short term and of course over the long term with a view to continuing to improve upon that.

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Myles Alexander Walton, UBS Investment Bank, Research Division - MD & Senior Analyst [30]

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Got it. And then I think I heard what you talked about in terms of 5 segment spares and MRO. And if I'm backing into it right, you're implying that spares implied would be sort of flat year-on-year and down 15%. But it looks like the aftermarket backlog actually rose sequentially, implying book-to-bill is probably greater than 1 in aftermarket. So just, again, is it just the lack of visibility? But it does look -- are those the right numbers that you're looking for, sort of a meaningful decline in the spares sequentially?

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Patrick J. Dempsey, Barnes Group Inc. - President, CEO & Director [31]

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I would say that we're looking at spares and MRO continuing to remain at the current levels into the fourth quarter, Matt. We're not seeing any indicators that suggest that spares at this juncture or the maintenance services side of things are -- Myles, sorry. And so I look at the end of the year as being a solid continuation of the performance that we're seeing right now pertaining to spares and aftermarket.

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Myles Alexander Walton, UBS Investment Bank, Research Division - MD & Senior Analyst [32]

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Okay. And then just last one on the build time or the 42 a month that you've been signaled to date. What's the usual lead time before they tell you to go back up? Is there a signaling lead time that they provide?

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Patrick J. Dempsey, Barnes Group Inc. - President, CEO & Director [33]

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I think it varies and I think this particular instance, Myles, is unique. And so I think that we're keeping close communications at this point. Normally, any rate that we have from the engine OEs is usually a 6- to 9-month lead to the delivery of the aircraft. And so -- but I don't think that's going to hold true in this particular instance because I think the uniqueness of this situation is going to be a combination of deliveries, the depleting of the current inventories that have built up and then a close coordination with our customers to how they want to ramp back up.

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Operator [34]

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Next question comes from Pete Skibitski with Alembic Global.

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Peter John Skibitski, Alembic Global Advisors - Research Analyst [35]

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Patrick, I'll echo your opening comments. Great execution in a tough environment for sure. One thing I'd like to get your thoughts on in Molding is just the area of personal care markets being soft. I would have thought that, that niche in particular was a little more kind of consumer staple-like. I thought that was kind of the asthma inhalers and stuff. And so is that just being less -- more discretionary than thought maybe? Or is that normal kind of -- I know molding takes a little bit longer in terms of product introductions there. So can you add some color to what's going on there and sort of what you guys are seeing?

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Patrick J. Dempsey, Barnes Group Inc. - President, CEO & Director [36]

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Absolutely. What you highlighted is relative to the performance in the quarter. I think one thing that we don't maybe give enough credit to is the extent of the intimacy of our relationships with the customers. And so one thing Barnes has done over the last couple of years has continued to build strong customer partnerships. And in that, what we're working with closely is how our customers are prepping and preparing for any future changes in regulations or changes in terms of how an industry is reacting to particular challenges that it's experiencing.

In the case of personal care, what is currently happening, Pete, is that there is a set of regulations that are being contemplated at the moment pertaining to the use of what's known as post-consumer resin, which is basically recycled material being fed back into the production systems. And as that is happening at this juncture with uncertainty as to how those regulations are actually going to play out, what we're seeing in the personal care market is that a lot of the customers are holding off on launching new products pending the outcome of where these regulations are going to fall. And so that, I think, is unique in that to your point, personal care would normally be more of a consumer-driven product and more resilient in any market. But the current environment around this switchover is what's driving it.

I might also add that we just returned this week from the K Show, which was a fabulous success for our Molding Solutions business. And one of the key aspects of our stand was the whole aspect of sustainability and a focus on the environment. And so what we were demonstrating at the show was some of the steps we've taken, working very closely with our customers to ensure that we are a part of the solution going forward to these new regulations and the challenges that the industry is facing.

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Peter John Skibitski, Alembic Global Advisors - Research Analyst [37]

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Perfect. That's great color. I appreciate it. Any sense of when you might have a resolution one way or another on this regulatory issue? And I guess it's mainly a European issue right now?

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Patrick J. Dempsey, Barnes Group Inc. - President, CEO & Director [38]

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It's predominantly European, but I think it has cascading effects worldwide because ultimately the whole aspect of the challenge to the plastics industry is to become a better recycler of its product lines than it has in the past. However, what that's going to require is a different approach. And in turn, Barnes, through our complete offering in Molding Solutions with our closed-loop systems provided by our control side of the business to our high-cavitation molds and our cube technology provided by the mold side of the business and that, coupled with the hot runners, we believe that we're at the epicenter of being a part of the solution, working very closely with our customers.

So it's going to take time, Pete. It's not going to be weeks or months. I think it's going to play out over the next year and maybe even a little longer. But that said, the offset in the current environment is that we have seen a big uptick in quoting activity around MRO, the maintenance side of our molds and our systems. And so we're looking to capitalize on that as well.

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Peter John Skibitski, Alembic Global Advisors - Research Analyst [39]

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Okay. Great. And just can you get to Molding Solutions? I know the U.S. kind of tariff discussion are ongoing. I would think at some point, right, the auto OEMs still have to come out with new models. And I know there's various kind of flavors of model changes. But I mean do you expect the kind of the auto market for hot runners to reverse in 2020 just given the need for the auto OEMs to kind of differentiate themselves?

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Patrick J. Dempsey, Barnes Group Inc. - President, CEO & Director [40]

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I think your observations are correct in that they can only hold off on launching new products for so long. And what we've seen in the third quarter is, particularly in North America, some green shoots in terms of programs or product changes being released. So we've seen that beginning to happen in North America. We've not seen it happen yet in Europe and in China. It's really -- it's occurring but it's at a slower rate. So what we're seeing in China is more of a slowdown in terms of the volume of releases that were taking place.

So as we move into 2020, we would expect that those new launches or model changes would continue to take place. But I think it's going to be on a -- unless these trade uncertainties get resolved, I think it will be on a slower rate than any of us would like.

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Operator [41]

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Next question comes from Tim Wojs with Baird.

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Timothy Ronald Wojs, Robert W. Baird & Co. Incorporated, Research Division - Senior Research Analyst [42]

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Nice job on the margins. So I guess I have 2 questions. So I guess the first is just I noticed some of your short-cycle businesses are weak. And as you kind of go into 2020, how are you guys kind of balancing productivity and kind of cost management with trying to make sure that you're prepared if there is kind of a short-cycle acceleration that you're able to kind of meet that demand without any issues?

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Patrick J. Dempsey, Barnes Group Inc. - President, CEO & Director [43]

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So to that end, again, everything we are looking at going into 2020 is being driven by our operating system and how we think about prepping. So to that end, what we're looking at is scenarios of upside, flat and downside. And what the teams have done a really nice job of looking at and preparing is what actions might be taken in any eventuality.

One of the things that I think we'd become much more disciplined on is understanding our manufacturing capacities worldwide and understanding how we might take advantage in some instances of a more challenging environment to maximize and streamline how we're running our overall manufacturing production systems.

So in general, we have been, I think, very proactive in terms of what we've done to date. We continue to assess the situation very closely. And one of the key aspects of that is something I mentioned earlier, is the intimacy of the relationships and partnerships we have with our customers because what we're doing is keeping very close tabs with what their plans are and what they're thinking to be sure that we're ready in any situation.

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Timothy Ronald Wojs, Robert W. Baird & Co. Incorporated, Research Division - Senior Research Analyst [44]

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Okay. That's helpful. And then on automation, I mean I can understand it's been weaker this year. How short or long of a cycle is that business for you guys? It's more of the attachment side, right? So I'm trying to understand if it's a little more shorter cycle or if that's still kind of tied to kind of long-cycle automation implementation?

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Patrick J. Dempsey, Barnes Group Inc. - President, CEO & Director [45]

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No. I'd put it in the shorter-cycle category because what -- as you said, our offering is through Gimatic is what's known as end-of-arm tooling and gripper technology. So we're on the end of the robot, so to speak, which is the interface between what the robot is doing and the material that's being handled.

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Timothy Ronald Wojs, Robert W. Baird & Co. Incorporated, Research Division - Senior Research Analyst [46]

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Okay. So it's -- there's a little more of a usage impact to that. Okay. Good.

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Operator [47]

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Next question we have is Michael Ciarmoli with SunTrust.

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Michael Frank Ciarmoli, SunTrust Robinson Humphrey, Inc., Research Division - Research Analyst [48]

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Nice job on your performance and on the margins. First thing on automation. Gimatic sales down 25% sequentially, I think, from $18.3 million last quarter to $13.6 million. Is that normal seasonality? Or anything else going on there? I mean it seems like quite a big drop on a sequential basis for the Gimatic sales.

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Christopher J. Stephens, Barnes Group Inc. - Senior VP of Finance & CFO [49]

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Yes. Recognize -- when we referred to our M&A growth, we had 2 acquisitions that we made that would pop up in M&A-driven growth. So one is the -- which is smaller is the Industrial Gas Springs business. So in the quarter, we had a month left of M&A, treating it as M&A versus overall organic growth. And then second to the point is Gimatic, which we have a full quarter of Gimatic sales in Q3 as M&A growth. So when you split the 2, what we've seen is roughly sequentially about a 15% drop Q2 to Q3 on Gimatic and pretty much what we've seen in Industrial Gas Springs contributing pretty consistently throughout the year.

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Michael Frank Ciarmoli, SunTrust Robinson Humphrey, Inc., Research Division - Research Analyst [50]

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Okay. Got it. And then just dig a little bit deeper on the margins. I mean were there -- it sounded like it was a pretty clean quarter. I mean there were no onetime contractings. I know last quarter, you guys indicated that there might have been $8 million or so of mold-related revenues that pushed out. Did they ship? Did they carry a higher margin? And even looking at the SG&A, I mean down pretty substantially, $5.8 million sequentially. Just trying to get a better understanding. I mean it sounds like you've got the operating system and productivity, but was there anything that drove sort of any outsized positives in the quarter?

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Patrick J. Dempsey, Barnes Group Inc. - President, CEO & Director [51]

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No is the short answer because I think it was a pretty clean quarter. And so what we saw was the negative impact of the top line. And basically what you saw was the operations driving the benefit of the productivity initiatives that have been taken over the course of the year.

I would highlight that Q3 was the benefactor of actions that were taken in Q1 and Q2. It all didn't just happen in the third quarter. So it's been a full year's set of activities that resulted from Q3, but there were no significant one-offs that stand out even internally that contributed to the result.

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Michael Frank Ciarmoli, SunTrust Robinson Humphrey, Inc., Research Division - Research Analyst [52]

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Got it. And did that $8 million of mold-related revenue ship this quarter? Is that...

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Patrick J. Dempsey, Barnes Group Inc. - President, CEO & Director [53]

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It did ship. No, it did ship. So basically, what that $8 million was that it was scheduled to ship at the end of June, and it subsequently shipped in -- early into the third quarter.

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Christopher J. Stephens, Barnes Group Inc. - Senior VP of Finance & CFO [54]

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Yes. Mike, so let me add. Maybe as we kind of concluded on the second quarter and talked about that ship into Q3, our expectations for the third quarter related to mold shipments and what we said in July came through. The team was able to deliver 100%, actually a little bit more than we expected, consistent with what they rolled up in the post June, early July time frame. So great success for the team.

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Michael Frank Ciarmoli, SunTrust Robinson Humphrey, Inc., Research Division - Research Analyst [55]

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Got it. Got it. And then just on Aerospace. 787 rate reduction, I mean you kind of just alluded to, Patrick, you've got 6 to 9 months' lead time. If we look at that rate reduction you talked about, you're now at 42 a month on the 737. Does that -- I know you kind of characterized that the rates on 42 for the 737 not impacting margins and you've got small content. But just thinking about your volume throughput and overhead absorption, does that take a little bit out of margins? How should we think about, I guess, even the 787 rate reduction as we start to think about Aerospace into next year?

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Patrick J. Dempsey, Barnes Group Inc. - President, CEO & Director [56]

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So we think about it 2 ways, Mike. And that is the 787, again, was the reduction may come down by a couple of aircraft a month. There is the negative aspect of that. But going into 2020, what we also see is 777X will enter into service in 2020 or 2021. And then we'll see some of that benefit starting to translate, I believe, into 2020. By contrast, we have a number of moving parts within our Aerospace business from the base 777. And if sunsetting, what we've been pleasantly surprised by there is the extent of which spares continues to be very robust for that particular aircraft. And so that has dampened the effect of the rate reduction.

And at the same time, our success on the LEAP A has been such that the -- our performance over the course of 2019 has really put us in a great place to where there are dual sources on many of the products that are associated with the LEAP program. And if one supplier is faltering and the other is outperforming, which is the category that we're in, then we're taking a little bit more of the share than maybe even was initially agreed to contractually. So with that, I think we've seen a positive upside even with respect to the ramp and the volumes against the LEAP A.

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Michael Frank Ciarmoli, SunTrust Robinson Humphrey, Inc., Research Division - Research Analyst [57]

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Got it. And then just last one for me. Assuming the 737 MAX does return to service here in the near term, has that been a tailwind to your aftermarket? And do you think that return to service kind of creates a little bit of pressure on some of the aftermarket sales given maybe we'll see an acceleration of some of those legacy 37s that have remained in service get retired?

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Patrick J. Dempsey, Barnes Group Inc. - President, CEO & Director [58]

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It's a great point, Mike, and it's something that is hard to quantify. But right now, where the CFM56 stands relative to being the workers of this industry on the narrow-body, the demographics of the fleet was there may be some accelerated retirements. The number of engines that are still flying that haven't seen their first maintenance visit or shop visit still is a relatively high number, too. So overall, we think that the CFM56 is going to continue to be a great program for the next number of years with current projections suggesting that early to mid-'20s before it peaks in terms of its shop visit rates.

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Operator [59]

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And we have a question from Pete Skibitski with Alembic Global.

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Peter John Skibitski, Alembic Global Advisors - Research Analyst [60]

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Patrick, I want to talk about the Aerospace MRO business. You guys are still small in the scope of MRO overall in terms of the market. But I think you're looking at 3 straight years now of double-digit growth there, nicely outgrowing traffic growth globally. I mentioned the CRPs are somewhat a driver of that, but -- and I understand we're more on a public call. But I'd love to get your thoughts in terms of how you kind of continue to grow this business above trend, whether it's organic investments or M&A or something else, because it's -- obviously, it's nice margins. You've got nice growth. You're still small in the scope of the overall industry. So I just wanted to kind of get your thoughts on that topic.

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Patrick J. Dempsey, Barnes Group Inc. - President, CEO & Director [61]

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Fair comment, Pete. And what I would note is that all of the growth that we have achieved over the last few years within our MRO business has been primarily organic. We have, of course, made investments into our aftermarket business through the Component Repair Programs, the CRPs, as you mentioned.

But here's another example of where I think our success has been very much attributed to 2 things: one is the relationships that we've built with the OEs over many, many years; and secondly, our strong performance in terms of delivery and quality. And in the aftermarket business, in the MRO business, performance trumps all. And our businesses have done an outstanding job in terms of driving the enterprise system to translate into delivery and quality performance. And I give tremendous accolades to the Aerospace team in that regard.

We do continue to look at acquisitive opportunities from time to time for that business. We have not found the right combination as of yet, but we never rule it out either. So the aspect that we look at continuously is how to ensure that we're positioned well in advance of demand. And so we take a long-term view to the aftermarket. Today we're enjoying the benefits of the CFM56, which we positioned ourselves on back in the early 2000s, so almost 15 years ago. And today we're looking at what is the maintenance cycle is going to be 10 to 15 years out and how do we position ourselves for them as well.

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Operator [62]

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At this time, I will turn the call over to Mr. Pitts.

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William Pitts, Barnes Group Inc. - Director of IR [63]

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Thank you, Sharon. We would like to thank you all for joining us this morning. And we look forward to speaking with you next in February with our fourth quarter and full year 2019 earnings call. With that, we will now conclude today's call.

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Operator [64]

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Ladies and gentlemen, this concludes today's conference call. Thank you for participating. You may now disconnect.