What is that niche?
Engine components that drive better fuel economy and lower emissions and that have a lot of technology built into those components. There's a secondary focus on safety-oriented components, such as traction-modifying equipment. Those components are critical to the performance of vehicles. They're highly attractive to the end purchasers of vehicles, and because of that they are going to enjoy a higher growth rate than the overall growth rate of car units.
What was the strategy behind your push into the electrical area?
The electrical industry worldwide is a very large industry space. There are a wide variety of electrical components, ranging from the simplest low-voltage components all the way up to the high-voltage equipment used in generating stations. Depending upon how you measure it, the space is something around $50 billion in market size. Our focus has really been on low and medium voltage. We believe that there are a great many ways to differentiate products technologically and that if we built the business carefully, we could acquire other technologies and knit it all together so that we could begin to sell systems.
Typically, the electrical space is also around or slightly above GDP, and that's particularly true for electrical components highly oriented toward energy efficiency. Given rising energy costs — which we have believed for some time would be rising relatively rapidly — we tried to focus our portfolio on a set of products that were highly energy efficient. And that gave us a growth rate even greater than the average for the electrical space.
The last element is that the larger players in the electrical space have typically been very well thought of by the financial community.
What part have you played in this change of product mix?
I'm chief financial and planning officer, meaning that in addition to the traditional financial functions — accounting, tax, treasury, internal audit, investor relations, IT — I also have the corporate planning and corporate development teams. On the corporate planning side, we have spent a great deal of time thinking about the characteristics of our industry spaces, adjacent spaces, and the characteristics of spaces that we're not directly in but where some of the skills we now have would perhaps give us some competitive advantage.
It's through that kind of thought process that we've identified opportunities like the power-quality business. In 2002 we had a business that was focused on low and medium voltage power-distribution equipment. But we didn't really have any significant exposure to equipment that monitored and controlled power quality. And we identified over the course of a couple of years after I joined that that would be a high-growth space, particularly as energy costs continued to rise and as the world became more computerized. We said it would be desirable to find a way in.
One thing I've learned in my 20-plus years in acquisition strategy is that it's not enough simply to find an area of opportunity. You then need to find a practical and economic way to enter that area. One of the things that I did when I joined was to put in place a more systematized acquisition process. First of all, we lay out a very systematic way of prospecting, initial negotiations, more-detailed negotiations, contract negotiations, and closing integration. As part of that process, we even put in a set of metrics. For example, we measure what we call "quality at-bats" in a given year.
An "at-bat" is a true, substantive negotiation with the business owner about the terms of buying a company — as opposed to just sitting down and saying, "Gosh, tell me about your company." A quality at-bat is where you're actually in discussions about agreeing on price, deal structure, timing: it's a real negotiation to buy a business. And what we find is if you measure things on an ongoing basis and you hold your teams accountable to go out and find opportunities, you're much more successful. As a result of our process, in the past seven or eight years we completed close to 50 acquisitions. If you looked at our quality at-bats, it would be in the 200-plus category.
From your perspective as CFO, how has the recession affected Eaton?
Pretty severely. We do a lot of economic forecasting and planning, and we have never really put together a scenario that was as negative as this downturn turned out to be. Frankly, I don't think we're alone. As I talk to other CFOs around the country, I find that most had a very similar experience. Because of the sharpness with which things declined and because of how deep the declines were, all of us around Corporate America were forced to make relatively abrupt and drastic moves in order to deal with the loss of sales and loss of volume. At Eaton we've reduced our global workforce by about 15% — roughly 13,000 employees in the past year.
The good news, if there is good news in a situation like this, is that we have recast our cost structure so that at the present volume levels, we can operate with relatively attractive profitability. Should volume come into the system — and we think it is starting to come into the system — we think there will be relatively attractive incremental profits on that new volume.
What are your biggest challenges now as CFO?
I would have said nine months ago that the challenge was twofold: insuring that there was adequate liquidity to deal with an as-of-yet unknown decline, and getting the cost structure in position to deal with what appeared to be a potentially much lower-volume environment. At this juncture, at least for Eaton, I believe that we have those two challenges well in hand and so are feeling reasonably good about things.
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