Q2 2020 Trane Technologies PLC Earnings Call
Thank you for standing by and welcome to the train technologies Q2, Twentytwenty earnings Conference call.
At this time all participants are in a listen only mode.
After the speakers presentation, there will be a question and answer session.
If you should require any further assistance. Please press star then zero and an operator, we'll come back on to assist you.
I would now like to Hana conference over to your speaker today, Mr. Zac Nagle Vice President of Investor Relations. Please go ahead Sir.
Thanks, operator.
Good morning, and thank you for joining us for treating technologies second quarter 2020 earnings conference call.
This call is being webcast on our website at train technologies Dot com, where you'll find the accompanying presentation.
We're also recording and archive you this call on our website.
[noise]. Please go to slide two.
Statements made on todays call that are not historical facts are considered forward looking statements and are made pursuant to the safe Harbor provisions of Federal Securities Law.
Please see or FCC filings for a description of some of the factors that may cause our actual results to differ materially from anticipated results.
This presentation also includes non-GAAP measures, which are explained in the financial tables attached to our news release.
Joining me on today's call, our Mike Lamach, Chairman and CEO.
Chris Keune, senior Vice President and CFO, and Dave or Canary, President and COO.
With that please go to slide three and I'll turn the call over to Mike Mike.
Thanks, Zack and thanks, everyone for joining us on todays call.
I'd like to start today's call with some perspective on the unprecedented level of change was seen around the world both in business and that our personal lives over time period of just a matter of months and why and how this is particularly relevant for train technologies.
The covered 19 pandemic has disrupted long lived paradigms and what was considered normal.
Both obvious truths about the many ways the old normal wasn't good enough.
Normal hazmat rapidly rising emissions and temperatures, creating a global climate crisis, and pollution and poor health and many of our worlds biggest cities recovered 19 has had a disproportionately damaging impacting communities where the demographics are most socio economically challenged.
Normal as Matt hunger, even though one third of the global food supplies lost or wasted each year.
A normal as Matt inherent systemic racism injustice and any quality.
That train technologies, we want to be part of creating a better new normal.
We will challenge the status quo to create a new normal or communities thrive, where quality is foundational and where the environment is protected for future generations.
We're putting a stake in the ground that train technologies will lead by example by setting a storage and ambitious commitments and taking action to change our company our industry and the world.
Our get ton challenge committed to reducing our customers carbon emissions buy one get good ton or a billion metric tons by the year 2030.
To give you an idea of the size and scale, that's equivalent to about 2% of the world's annual emissions.
And that's just our company alone.
As other companies join then we can bend the curve on global warming.
We're also committed to creating opportunity for all.
With a goal to achieve gender parity and leadership by 2030.
And racial and ethnic diversity that is reflective of our communities.
As chair of the National Association of manufacturers.
I introduced a pledge for action, which the executive committee unanimously adopted on behalf of its 12000 members focused on advancing opportunity for black people and other people of color through advocacy education training and workforce development initiatives.
We are having important dialogue within our own organization and in our communities and how we can accelerate our efforts to combat racism and better support communities in need.
This includes programs to eliminate hunger.
Sport education, and economic mobility and to increase affordable housing.
Our transformation plan for train technologies is another example of how we're creating a new better normal for our team customers and shareholders.
Executing against the new blueprint that culminated in May after 10 months of analysis and planning.
Setting these and other bold plans and motion our talented team around the world has exhibited all the commitment and passion for change that is marked our last decade.
Our goal is simple.
Create a new normal where opportunities accessible for all were healthy food water and medicines or move to people who need them.
Where emissions trend down and blue skies trend up.
Our business sits right at the intersection of making those things happen.
And with our unique positioning is a focus climate innovator transformed and fit for purpose. We can tackle these pressing and complex challenges and drive differentiated returns for shareholders.
Moving to slide four.
The global covered 19 pandemic continues to present ongoing challenges to virtually every aspect of daily life.
As much progress as we've made this crisis is still very much with us and the questions. We were all contemplating months ago regarding the depth and duration of the downturn in the speed in shape of the recovery I still very much a question.
As we navigate through the pandemic of Paramount importance is staying true to our culture purpose and values were maintaining world class employee safety is part of our DNA.
The decisive and aggressive investments we made in the first quarter, we are important and necessary steps in order to bring all of our facilities online operating efficiently and safely.
As a result today are up and running under new readiness protocols and well positioned to meet customer demand.
Despite very challenging global markets. Our teams remain focused an agile with strong execution and solid financial performance.
We outperformed our end markets broadly and effectively manage de leverage within our gross margin target levels in all regions and an all business units.
We continue to play aggressive offense in order to emerge stronger and its stride as business conditions improve and new opportunities emerge.
We maintained high levels of business reinvestment and innovation and growth programs through the second quarter.
We expect to aggressively invest in the second half.
We're also accelerating our stranded cost and other fixed cost reduction initiatives to deliver more bottom line savings in both 2020 and beyond.
We remain in an exceptional financial position with strong liquidity and balance sheet, Optionality, which are competitive differentiators for us.
We have ample capacity to run the business effectively deploy capital and remain nimble as market conditions evolve.
I will discuss this in more detail later in the presentation, but our best line of sight at this stage with revenue is somewhere between down 10% and down 15% for 2020.
Better than illustrative scenarios, we laid out in quarter one.
Our strategy remains unchanged.
Secular mega trends of energy efficiency and sustainability are becoming more pressing every day.
We excel at addressing these mega trends in challenging what is possible for sustainable world Redefining higher standard for what the world's considers normal.
This passion towers this forward to deliver top tier financial performance and differentiated returns for our shareholders.
Let's go to slide five.
Bookings and revenues were heavily impacted by the pandemic in all regions in the second quarter.
In the Americas, the impacts of the pandemic continue to be far reaching and severe broadly speaking the economy, a slowly progressing forward, but the situation remains tenuous and provides limited visibility.
In North America, our commercial Hvdc business has been relatively resilient through the second quarter with bookings and revenues each down mid single digits.
Backlog continues to be strong and services are outperforming equipment.
Our transport refrigeration business outperformed the overall market as it continues to move through a deep down cycle.
Which has been exacerbated by the pandemic.
Bookings are showing signs of stabilization, although it's too early to say the market has stabilized.
Revenues were down more than 40% outperforming the market, which was down more than 50%.
Our residential HPC business had low single digit bookings decline with distributor sell through down mid single digits.
June saw record bookings and backlog and July is off to a very strong start.
Turning to EMEA commercial HFC bookings were down mid teens, while revenues were down high single digits.
Services outperformed equipment with building access continuing to improve.
EMEA transport was down approximately 20% outperforming the broader transport markets, which were down approximately 40%.
Asia Pacific continues to be mixed China's showing signs of improvement having made the most progress against the pandemic.
Growth in China was more than offset by declines and the rest of Asia with developed countries generally recovering slowly well money developing countries are lagging.
Now I'd like turn the call over to Chris discussed the results for the quarter in more detail Chris.
Thanks, Mike Please turn to slide number six.
The pandemic has continued to significantly impact both top and bottom line results.
Mike provided a good overview of our topline results on the prior slide so I'd like to focus my comments on the bottom line.
Adjusted EBITDA margins were down 80 basis points, primarily impacted by significant volume declines in the quarter.
We continue to execute our recession playbook in the second quarter evolving with market conditions.
We delivered strong productivity and manage de leverage within gross margin target levels, despite lower volumes fixed cost under absorption and other pandemic in volume related inefficiencies.
We also maintained high levels of business reinvestment and continue to ramp up our facilities and further invest in employee safety measures.
Price costs remained positive in the quarter, while mix was a significant headwind.
With steep declines in transport revenues in both the Americas and EMEA.
There were a few other relatively modest puts and takes on margins and EPS that are outlined on the slide for your reference.
Please turn to slide seven.
Turning to the regional segments I once again focus my comments on margins given Mike covered revenues earlier.
In each region strong productivity, partially offset volume declines fixed cost under absorption investments in employee safety and other business Reinvestments in innovation and growth programs to deliver better than gross margin de leverage.
Price cost was largely favorable while transport makes us a headwind on lower transport revenues.
Now I'd like to turn the call over to Dave to provide details in color on what we saw on our end markets in the second quarter Dave.
Thanks, Chris Please turn to slide number eight.
As we've discussed throughout the presentation. The covert 19 pandemic continues to have far reaching impacts across the global economy as it continues to evolve which limits our forward visibility into our key end markets with that caveat. This slide endeavors to provide our best view of our end markets at this point in time.
As we've highlighted in North America commercial Hvdc has been relatively resilient through the second quarter order rates continue to be soft and we expect the continuation of this trend heading into the back half of 2020, given the high level of economic uncertainty that persists.
Services typically hold up better than equipment in a downturn as owners look to extend the life of existing equipment and we're seeing signs of that during this pandemic on the other hand, the number of pandemic related businesses and school closings or partial reopenings and generally low level of building occupancy.
We are having a negative impact on services.
We're also seeing high levels of interest in comprehensive indoor air quality assessments and momentum in this space continues to build.
The universe of opportunity is huge based on billions of installed square footage that could ultimately be evaluated what the opportunity is still early stages.
Our tremendous installed customer base and best in class sales and service capabilities put us in a strong competitive advantage as this market evolves.
Longer term fundamental energy efficiency and sustainability Mega trends underpins sustained secular growth for these markets.
We expect to outperform the markets in 2020, given competitive advantages throughout the value chain from channel to sales to controls and digital services to the largest most capable service organization in North America.
Residential H.B.A.C. had mid single digit sell through declines in Q2 record bookings and backlog in June and July is off to a very strong start which are positive indicators for this business near term.
Consumer economic indicators are mixed and volatile and unemployment remains at historic levels, which limits longer term visibility.
Transport markets continued to move through a cyclical downturn in 2020 amplified by the Cobot 19 pandemic acts most recent forecast for transport still has the second half of 2020 down more than 40%.
We continue to expect to outperform the markets, but looking at a down 40% second half forecasts suggest tough sledding ahead.
Looking out into 2021 at continues to project to snap back in the North America trailer market of over 20%.
In EMEA, given the depth and impact of the pandemic on many European countries. Most major cities are taking a cautious day by day approach for commercial HP I see we see opportunities for overall market outperformance through our clear focus on our sustainability advantages.
But overall visibility remains limited.
And transport, we've recently introduced new products, such as the advance or product I'll discuss on the next slide.
These products have player competitive advantages that will be tailwinds as market conditions improved.
Most recent forecast for the transport markets in EMEA have deteriorated dramatically from april's forecast down almost 50% for trailers and down over 100% for trucks for 2020.
Further pressuring our second half transport outlook.
We have a slide in the appendix on the transport markets you may find useful.
We've talked at length about Asia Pacific, While China continues to recover at a steady pace with strength in Datacenters electronics pharma and health care. The rest of Asia remains mixed and difficult to call when they will improve.
Please turn to slide number nine.
We've been clear at train technologies, we are playing aggressive off fence. During this downturn in part through heavy investment in a robust pipeline of product innovation and growth programs. Today I'll highlight just for tangible examples that our emblematic of innovation market, leading products and services.
As we're bringing to market.
Indoor air quality is generating tremendous interest in the market our customers are turning to us for our expertise to improve the safety of their buildings and to build the confidence of Theyre building occupants.
In commercial Hvdc, we're providing indoor air quality assessments, which are fact base data driven analysis on four key contributors to indoor air quality contaminants source management humidity control.
Filtration and fresh air intake.
These assessments are not checked the box exercises, we check everything thoroughly some large campuses and manufacturing locations can take hundreds of hours to complete.
Once the assessment is completed we work with our customers to implement a layered approach that balances the key contributors to indoor air quality, while finding opportunities to reduce energy intensity.
The layered approach is fully customizable and might include modifications to control sequences improved filtration or additional sensors that closely measure adjust for changes in committee and Seo too.
Our unmatched application expertise direct service channel and remote services uniquely position us to balance energy intensity and indoor air quality in a customized solution for each customer.
Last week, our European commercial Hvdc team announced our synthesis balanced for pipe chiller.
The synthesis balance utilizes low global warming potential refrigerants to simultaneously heat and cool a building with zero direct greenhouse gas emissions.
The synthesis balance can deliver hot water with temperatures over 150 degrees Fahrenheit to replace the need for a separate boiler and is more than 350% more efficient than the boiler it replaces.
Our European Transport team recently introduced our next generation trailer technology they advancer.
The advance or has the lowest total cost of ownership and has the most sustainable trailer refrigeration units on the market.
The advance or delivers 30% better fuel consumption than any other trailer unit and reaches its target temperature, 40% faster and take 60% less energy to produce.
We also recently launched our large truck hybrid series, our hybrid truck refrigeration unit can operate in three different modes to meet our customers' needs.
The system automatically select the best operating mode, depending on the circumstance to deliver up to 50% fuel savings when operating in a hybrid mode.
With unmatched operating flexibility. These hybrid units provide our customers full access to cities restricting or banning vehicles due to noise or diesel emissions.
These are just a handful of the innovations, we're bringing to market during the downturn, making these types of investments through down cycles enables us to continuously expand our competitive position year after year.
Now I'd like to turn the call back over to Chris to discuss our efforts to reduce our fixed cost base Chris.
Thanks, Dave.
Please go to slide number 10.
At the time, we announced the industrial RMT transaction, we recognize that there would be approximately $100 million of stranded costs from the transaction.
We quickly mobilize the transformation office last year to remove 100 million of structural costs from the business by 2021.
Our goal in January this year was to eliminate $40 million of the $100 million in stranded cost in 2020.
With the onset of Kobin 19, we've significantly accelerated this timetable and total savings target.
We now expect to eliminate the full $100 million of stranded cost target in 2020, a year ahead of schedule.
In addition, the programs were executing to achieved $100 million in stranded cost reductions in 2020 are expected to yield run rate fixed cost savings of $140 million in 2021.
As we previously disclosed we expected onetime expenses of approximately $100 million to $150 million to eliminate the $100 million and stranded costs and the table on the bottom right of the slide shows our status today.
We have spent approximately 75 million year to date with $44 million in the second quarter.
Please go to slide number 11.
We are operating from a position of financial strength as we move through 2020, we have a strong balance sheet excellent liquidity and have maintained solid investment grade ratings over many years.
Additionally, our consistent track record of delivering free cash flow of equal to or better than 100% of adjusted net income over time with a five year average of 107%.
Further bolsters, our strong financial position.
In addition to cash on hand, we have access to $2 billion and revolving credit facilities.
During the second quarter, we refinanced a $1 billion credit facility extending its maturity to 2022.
Second $1 billion facility matures in April of 2023.
Even if we were to fully utilize both facilities, we would remain well below our primary debt covenant of 65% debt to capital.
Both facilities were Undrawn at June Thirtyth and remain Undrawn today.
Please go to slide number 12.
We remain committed to balance capital deployment as we have consistently done for many years.
We see this as a time to aggressively reinvest in our business and solidify and extend our market leading positions through value accretive investments that will make us an even stronger company coming out of this crisis than when we went in.
We expect to continue to pay a competitive and growing dividend and have already paid approximately $253 million in dividends year to date.
To preserve liquidity, we pause share repurchases during the first half of 2020.
Entering the back half of the year, we will retain optionality for share repurchases as visibility improves.
Regarding debt obligations, we paid $300 million in April to retire debt maturity and expect to pay another $300 million to retire debt maturity in February of 2021.
We continue to evaluate strategic value accretive M&A.
We expect to maintain a strong investment grade credit rating offering us continued optionality as markets evolve.
Lastly, we remain committed to deploying 100% of excess cash to shareholders over time.
And now, though our formal guidance remain suspended until market visibility improves I will turn it back to Mike to provide an update on the scenarios, we presented last quarter Mike.
Thanks, Chris.
Please go to slide number 13.
On our Q1 earnings call, we shared to revenue scenarios, one down 15% million down 25%.
The demonstrate that under both scenarios. We remained in a strong financial position continued to make investments in the business fund the dividend and play aggressive offense during the downturn.
Looking out towards the back half of the year at the current pace and progression of the reopening of global economies, we expect to outperform both of these scenarios unless the pandemic or some other unknown negative catalyst catapults the market's lower.
Given current course and speed our best view at this stage is to expect revenues to be down somewhere between 10 and 15%.
We will continue to confidently and strategically execute our downturn scenario playbook operating from a position of financial strengths as we've done through the first half of the year.
Please go to slide 14.
Energy efficiency and sustainability Mega trends are only growing stronger as time passes.
Fundamentally we excel, where these global mega trends and sustainability intersect with innovation and capabilities, which drives high demand for our products and services.
We've been investing heavily for years to build franchise brands into advance our leadership market positions to enable consistent profitable growth.
As Dave outlined with a few tangible examples we intend to press our advantage during this downturn to leverage our strong financial and competitive positioning and to invest heavily in the future of train technologies.
Not only focused on relentless investments in innovation and growth.
But investments in blueprinting and transforming into a leaner fit for purpose pure play climate innovator the elimination stranded costs and the execution of transformation initiatives that will fundamentally improve the margin profile the company over the long term.
Lastly.
We remain committed to dynamic and balanced deployment of capital.
We have a long track record of both delivering strong free cash flow and deploying excess cash.
Liver top tier shareholder returns over many years.
And with that Chris, Dave and I will be happy to take your questions operator.
At this time, ladies and gentlemen to ask a question you will need to press Star then one on your telephone.
Please limit yourselves to one question and one follow up question to allow other participants time for question.
Your first question today comes from the line of John Lungs with Credit Suisse.
Please proceed with your question.
Hi, good morning, everyone.
Warrant John morning.
Hi.
I guess can we first start talking a little bit more about.
Service.
I guess, maybe what would be contemplated in that scenario framework of down 10% to 15% for the back half as it relates to your service business and.
Did you see kind of improving trends throughout the quarter as you were able to get access to buildings.
Yes. Thanks for the question John This is Dave I'll take the first shot of then Mike had comments and Chris There during Q2, we saw.
Equipment and services down really in every region and services was much more resilient than equipment.
As the quarter progress if you remember at the end of first quarter, we were talking about our service b or service business being impacted by not being I'll have access to buildings as the quarter progressed, we had those safety protocols worked out with our customers. So that became much less of a problem.
We still have a few areas in the world maybe some countries in Asia, where that's still a problem for most part we've overcome that.
As far as your question on the outlook. We expect service you know three 400 basis points hot better than equipment.
In the back half.
We are seeing a lot of interest in our service business and our indoor air quality assessments and we're also seeing a lot opportunities in service in our digital connections.
Great and then maybe just a question around the conversations you're having with customers and.
Theres, probably a wave one of decisions as it relates to a building maybe its air changeovers cleaning wave two I would think would be some more of the higher retrofits you talked about.
Where do you think customers are on that decision process as it relates to maybe doing.
A larger heavier renovation or retrofits of their systems for indoor air quality.
Yes, I would tell you were going at this at a very holistic level. Okay. So when we do an assessment and we've asked to do thousands of these assessments, it's really at a system level. So the first thing that we would do is we would come in and make sure that the system was in fact operating as it was designed one.
Once that has been achieved we start layering in different options for our customers to evaluate not only the indoor air quality, but also the energy intensity and that could be things such as fresh air exchanges. If your exchanging three times in our perhaps you want to move to five times in our filter.
Ration, if you're going to change your filters, what would that sequence look like and what would the ramifications beat to the rest of the system. We see a lot of people out there just changing filters that could solve a problem or could actually cause additional problem, meaning you could have too much friction in your and your area.
Auction, you'll be able to move air through it thus, causing less less clean air into the indoor air quality assessment. So we take a very holistic view. We then go and we look at the energy intensity, because everything I, just mentioned filtration and fresher exchanges tends to use more energy and we're working with our customer supply.
In other ways to offset that energy John in some cases, where the capacity of the systems as Dave said, when you've you might increase filtration through a very.
Hi, Merv filter, but the pressure drop across the filter may not support the ability for the fan.
The fan maybe undersized or the casing, so the dock where could be undersized, you could actually implode systems or or Bluff fan motors and so it's the level of modeling sophistication and retrofitting required for each unique situation.
And that's I think a tremendous advantage of us our capability to be able to provide that sums Dave side.
We've been thousands of assessments, Don I assume we're going to be doing thousands more assessments for a long time.
Such a big opportunity, it's hard to put a number on it because you're talking about billion square feet around the world and everybody doing the same kinds of issues and problems.
Great. Thank you I'll pass it along.
Your next question comes from the line of Joe Ritchie with Goldman Sachs. Please proceed with your question.
Thanks, Good morning, guys.
Hey, Joe Hello.
Mike maybe you can kind of touched on.
The commercial market for for a second Theres a lot of consternation out there regarding what what non resin sets is going to look like.
Through the end of the here and then into next year and I'm wondering you. One if you get to kind of get some commentary on how you think things are going to play out in agribusiness a physician and then you just as it relates to 2020.
Their profitability, but some type of like budget flies from that facility.
Because maybe they have not that much money in the first half a year and there maybe some opportunity for additional funding into age.
Hey, Joe I'll start to give Dave the chance, but more more more color on that but.
Yes look I think that's.
In terms of buildings reopening there could be a need for buildings reopening do service that's been further delayed, but but frankly I think we'll take precedence over that is these indoor air quality assessments to make sure buildings actually can open and opened safely. So if you think about a strategy for returning.
School K through 12, and you asked would be a great example of that.
Got a function just going in and doing deferred maintenance is a function of going in as Dave said and and looking at if whether or not the systems are working to design or code or the standards or what might be done to provide more reassurances and so my sense would be that in some cases, you can see what would have been preventative maintenance being spent on.
On.
More retrofits into the system itself and how that looks into 2021, it's hard to tell I mean, if you think about our business today in North America, It's 50% services, 50% equipment of the 50% equipment really only 20 or 30% of that is equipment.
Reported as Dodge put in place the balance of that is retrofit. So so my sense is the 70% of our business can be a tremendous amount of.
Interest I would say in indoor air quality first and then I think as everybody knows it's just not a matter of putting in a new system or retrofitting of system to have better indoor air quality characteristics, you've done have to maintain that system again.
With that new better higher standards. So.
I think in the long run.
It really helps our model it helps our business and clearly a critical safer environment for occupancy.
Yes, I mean, the only color I would add to that Mike is theres a lot of science behind indoor air quality and we've been at this for a long time. So we know how to do this we've been selling this for years. It's just now we're getting a lot of attention obviously because of co but the other area that we're seeing and I mentioned earlier is in our digital connections were seeing a lot.
A lot of customers now asking to be remotely connected.
I understand the advantage of that now so that's another area that theyre, they're making investments and we think that will continue into the second half.
That's that's helpful guys by one quick follow up here you guys mentioned that.
On the ready side of your business in America that distributor sell through was only down mid single digit I'm, just curious like where do you think inventory levels are on their profitability for restock. It's also kind of help topic.
Well, we're actually joining in a great position to answer that because half of our business would be independent wholesalers and half of our businesses.
The company owned wholesale distribution points. So we sell both we see both the sell in and the sell through but but it's such an our kick time, one like I've never remember before where you saw in April and may than normal sort of selling that you would do to independent distribution.
Really didnt happen as independent distributors made.
Decisions about what they thought the economy was going to hold for them and probably some preservation of working capital some hesitation there.
What they found out was the consumer was relatively resilient during that period of time and probably on average found out there, we're holding say, 25% less inventory as they enter June.
Then they needed to now of course, the sell through blow Didnt change and we saw that on the on the company owned side of the equation. So that led to a record June.
In bookings for us.
And it's led to a record July.
I'll just give you.
One intra quarter data point, there, which is July because it is such as quick.
Book in turn business that it is relevant so you know the numbers there were quite extraordinary June bookings up say, 40% July booking say up 50% all that pushed out from what would've been the normal seasonality of April and May.
So the important thing I think for investors and look at right here is how how healthy as the consumer.
What's the what's the sell through the actual take rate from the consumer and are they mixing up or mixing down interestingly, we're seeing a mix up.
And that's different.
We're fortunate to that because part we're seeing in terms of our growth in our performance is done we're now in the value segment of the market in this downturn.
But erotically, we're seeing growth in both we're seeing growth in for us at the entry level at the value price points and we're seeing the premium systems also continue to have some some solid strength.
Thanks, Great color guys.
Your next question comes from the line of Scott Davis with millions three cents.
Please proceed with your question.
Good morning, guys.
Good morning.
On the M&A side.
Mike, what's your appetite potentially going outside of the cold chain.
Hi, I mean, you could define your.
Exposure to buildings pretty broadly and building controls and all kinds of things maybe unrelated to the cold chain is that is that in your is that a possibility or are you more likely to stay within your core.
Well, it's interesting Scott because as you really look at the value chain inside the cold chain any adjacent sees that we would have still inside a cold chain.
Easily get to a 250 billion EUR 260 billion dollar market and even the example that Dave gave which is the electrification of heat in Europe right. We've never done in the boiler business. We've never done in the heating business per se in Europe, but now you create a solution where between coal.
There and hot water, you, maybe three or four times better than independent solutions, and we find ourselves now really an adjacency, which is growing the business in Europe with.
Ductless for pipe systems that allow us to participate in a billion dollar market in Europe that we didnt participate in before so one of the beautiful things about the work we've done in the transformation has all the strategy worked understand these adjacent season and see where the leverages. So.
Right now everything we're looking at as fundamentally is how we see the adjacent sees.
In the HP has seen refrigeration space.
Doesn't mean that over the long runway, we wouldn't look but I think we're seeing great opportunity.
Yeah, right right in our sweet spot in our core competencies use a lot utilizing our our channels our engineering talent our R&D all the things that were really good at.
Okay, that's helpful and.
Just as a follow up.
The indoor air quality stuff is.
As dynamic.
For sure is there any sense that perhaps government level standards could be.
Established and maybe that's helped for you guys genetic CDC or governments around the world that.
And maybe perhaps catalyzed some of these changes because.
Because we all know without sometimes a little bit of a push some times.
Building owners can can be a little slow to move.
Yeah, Scott I'd say there is some there are some talk about that obviously, we'd be a big part of of any kind of standards that were.
Derived we work with ASHRAE, which is really the organization that kind of monitors. This and has a lot of the testing associated with it we've been asked by our customers.
And if you if you've seen the presentation kind of that emblem there.
They want their employees to know that in fact, an expert has come in has taken a look and have made changes to make the environment a safer place. So.
There's a chance that could become like the next lead.
But right now there's no quote standards around that as we speak.
Scott.
Building codes generally adopt you look at the cases, you asked example, ASHRAE standards in fact, ashley's dancer adopted throughout the world. The often in terms of codes and standards. So the federal government is not mandating particular standard. It's all built into the building codes that you would see various states municipalities around the country here.
Okay, all right guys. Good luck congrats on that.
Thank you for the wheels on.
Doing well.
Thanks, Scott Thanks Kim.
[music].
Your next question comes from the line of Steve Tusa with JP Morgan. Please proceed with your question.
Hey, guys good morning.
Hi, good morning.
Can you just talk about what you think the market did occur.
For Reg E H D C I mean I.
I think you guys said you were down mid singles for the quarter.
Did you or do you think you you gain market share.
There's no doubt about the second part of your question I think David the market might have been down 11, 12% because the week April Matt Yeah.
And it really has to do with the week April may as Mike said.
Right June is down was June was extremely strong how do you need to find the market is just the HR I kind of factors shipments.
Yeah, you can do that in Hardy I mean, you triangulate between the two for sure yes.
Okay.
When it comes to kind of day date that pipeline for commercial and need.
These orders I mean, it you would think that you know this is a late cycle market and things things will fade here over a over over time.
Are you expecting you know orders to kind of decelerate here or.
Has that kind of bottomed as well.
Well, if it for new put in place.
You know Dodge data the 20, 30% of the North American commercial business, you've really got to pull that apart ticket apart by vertical market in some vertical markets are obviously going to be growing and and be more resilient warehousing and data centers have been more resilient as an example versus retail office buildings or re.
Well restaurants that sort of thing. So you have to really picked that apart, but for the balance of the business.
I think there's going to be a very active.
Multiple year opportunity around going into the to the 70, 80% of the business right. Both the service business.
In the retrofit business the demand that we drive really looking at what the outcome needs to be around some of these Q assessments and whether or not.
Customer can do everything at one time thinking about a large school districts are campus or they want to prioritize certain things over time, you could you can really run out multi year asset plans for customers around the facilities and what would work. So it's hard to know sort of if you think about 30%.
To jump, a 20% what would decline and compare that against what the opportunity as from a key basis, resulting retrofits and service opportunity within that it's too early to tell Steve.
But.
There's reason to help for us that there's going to be.
You know a busy time for us relative to being able to drive demand through what we know how to do from an eye Q assessment, and then as Dave said and I followed on the Dave.
All this is a tremendous tax on the energy efficiency of building. So other building is occupied at 50% or a 100% in terms of running the systems you still running those systems at very high.
Usage rate in the intensity of course is very high with HPC in lighting systems. So so if you're going to take these Q ideas, which all or a tax on energy used in the facility. We're going to have a second round or really have a parallel round of when customers taking action to improve.
Today looking for offsetting energy conservation measures to neutralize that that I think as an opportunity as well, but it's too soon for us to tell kind of what what really plays out.
Okay, great. Thanks I'll detail.
Thank you.
Your next question comes from the line of Andy Capital with Citigroup. Please proceed with your question.
Hey, good morning, guys this quarter.
Thanks, Andy Heyman into.
Mike can you give us a little more color regarding the contributors to the database and gross margin detrimental margin you delivered in the quarter because it looks like you had several productivity projects that were effective price for us as cost was obviously very strong in the quarter and then we know that you would you said you would continue to deliver a detrimental in line with gross margin.
And then in Q4, but given some improvement in your markets like Cringing delivered detrimental decrementals closer to Q2's performance.
Yes, let me let me kick it off just the general comment I know Youve, Chris for more specifics, but we wanted to establish a sort of a set of guard rails the guard rail being.
We were going to run the leverage no worse than the gross margins will accompany.
We're making a commitment for shareholders to know what to understand will be one side of the guard rail.
Well, we also set as we're going to play aggressive offense around running the business for the long run on trying to emerge much stronger company through the us not to the extent, we can do both and invest in everything we want to do including the product and services that Dave mentioned.
Launched in the quarter.
You know, there's a possibility of you know of doing better than the worst guardrail. So thats what happened then.
Quarter too, but you have to realize these differences between 20%.
No.
Leverage raising a 30% leverage rate in the quarter like just passed or last quarter might have been $20 million or $30 million right, which in the Grand scheme of things if we choose to make an investment which runs at a 30% as an example war we take another action.
It's not as meaningful to us inside the quarter, but but the one thing that investors should look at as the commitment. The says there's a guard rail. It says we're going to run the business with Docker models for the full year.
Adam inside our gross margins gross yeah, Mike I'll, just add all in it is a mix it's not clear today, how much is temporary versus permanent but we are really proud with the productivity the tight spend control we had in the second quarter.
With that what is permanent or the structural cost takeouts that have happened.
We have announced here and getting a full year ahead of taking out $100 million a stranded costs from the transaction.
And maybe last us to add there as we think around the fourth quarter of this year, we may actually see de leverage be a little bit better than gross margins. We you may recall, we had a couple of onetimers in the fourth quarter of last year that we should comp a better against here in the fourth quarter, Andy but otherwise Mike's laid out for your kind of the guard rails and.
Happy where we landed in the second quarter.
Thanks for that and then Mike I just wanted to follow up on some of the residential comments you made in the sense that you didnt mention 50% growth in residential public if I'm not missing in July, which obviously a sea change in demand just for a month, obviously, but we don't got hot or home sales in improved a bit but did you see.
Do you see this this is more of a fundamental change in the market given the evolution of work from home sale. So maybe this change is more sustainable we know when you're not going have that kind of good every month, but just as there is something different about the market from what you can tell.
Thats why it was important less time to give you the best information, we can and to make it as simple as we could for for.
Any investor to understand let's look at the sell through because it just seems aberrations, we're seeing where distributors might have had 25% less than they would have normally needed coming into June let me see this 40, and 50% kind of growth an order rates.
It's a little bit of a catch up but I think thats solved through.
Is what the look at here, you know and look I mean bus gas and it's hard to know because we've only seen seven months of the year you could see sell through kind of down five downtime, Dave I think thats probably.
Five of the best case, I may not be the worst case, we all know we haven't seen the rest of the year, yet, but the sell through is important thing the aberration was really on.
Think about any independent wholesale or thinking about their own working capital playing out their own recession playbook.
Worried about really lost about a pandemic, maybe and certainly not a pandemic more also about the long from the fact of a recession.
There was a retrenchment and depending on how you placed thoughts as a distributor you either did or didnt have enough stock to serve customers. So then frankly, you get more into a panic six duration in June and July.
And it's a whipsaw I wouldnt pay attention to the 40 to 50 I pay attention to the sell through and I think thats that sell through is probably going to be.
In that 510, they I think it's around yes, probably closer to five the other thing thats a little bit different too is that and Mike mentioned. It earlier is we're we're actually mixing up on seer.
So in past downturns, we tended to sold more lower so your products were actually selling we're actually mixing up and the high seer products are.
You know very attractive to homeowners and some of that obviously could be because a lot of people are working from home and they they understand the advantage of those products.
Thanks, guys.
Yes. Thank you.
Your next question comes from the line of Cotton Candy with Cowen. Please proceed with your question.
Yes.
Yes, thanks, good morning, guys.
Hi, guys Thats good morning go to follow.
Good morning to follow up on Steve's question about commercial HVAC bookings as we move into the second apps.
And into the first staff and next year I'm, just wondering it sounds like there's a lot of potential to work the installed base.
As they kind of re scope.
What they want but does that also lead to a potential air pocket as these projects are we scope to.
You do the assessments is there just a natural lead time, that's pretty extended to actually convert.
Some of these folks into us.
Just to take on these new solutions that your benching.
Yeah, I'd tell you got than Weve really seen the whole spectrum there right in some cases, we have customers that need to do major work like they want to increase the amount of outside there, they're bringing in which actually means that need more cooling capacity, so that could be the longer lead side and I would tell you that on the shorter lead side, we're seeing customer.
Or is that really just need to.
You know fix some of their handling equipment to make sure. The dampers are working properly and maybe increase a fan speed. So that we can increase the filtration rate. So it's really all over the board and it's pretty early days here right. I mean, so we can you know we're obviously tracking this very closely and.
We'll continue to do that but we're probably a quarter or two away from being able to.
Actually give you more color around the size and what the with the whole opportunity will be.
And I know this is a stretch but would you be willing to pontificate on whether you think commercial latex sales could actually in aggregate the up next year versus this year based on that opportunity sets.
It's too early.
Just to.
Be able to say what I would tell you does.
Our sales for us.
Commercially we think about it.
Really as a it's 100% Commission salesforce, which is very unique out in the marketplace theyre not going anywhere inoffice less things for them to do around newbuildings in new construction, they're going to get after the billions of square feet that are out there where people need help.
So.
I can tell you that we're going to have all the urgency to outperform the market going forward that you'd expect and for US you know most important thing is whatever the market as we want to outperform the market, we want to grow EBITDA margins.
And that's always span.
The case the product growth team has been the case around our product development cycles. When the case around why it's important for us too.
Own and operate in service our commercial channel.
Thanks, guys.
Thank you.
Your next question comes from the line of Josh Pokrzywinski with Morgan Stanley. Please proceed with your question.
Hi, good morning, guys.
Hey, John Good morning.
Just to ask kind of the second half outlook question, maybe a little differently.
Mike how should we think about backlog consumption or backlog levels within the down 10 to 15 is that kind of the backlog neutral tight establishment or do you think that that really just predicated on hey, we have a lot to convert here, particularly in ready.
And beyond that we just don't.
Well first from Brazee don't even think about backlog right I mean, a typical quarter.
We might pull two or three days worth of backlog across the quarter.
Yeah, what was different here as we pulled 10 times out across the quarter or more than that across the quarter I'm sorry month to month. So that's an anomaly on the commercial sacristy of a point of view on that I think it could be trending flat to slightly down on backlog by the end of year, depending on the order rates to come in.
What we're seeing but I think it's a little bit too early to tell where we're going to land I think the service offerings, Dave and Mike talked about with indoor air quality, otherwise could also be a catalyst here for backlog and for projects that I'd say at this point I'm truly to tell we have a business we here called turnkey.
Turnkey for US generally speaking projects under $100000, we're going into doing retrofits and energy conservation projects and going forward you pulled in to find a lot of indoor air quality projects going on that so part of it is trying to understand how much increase in turnkey that we demand generator.
Versus what are we seeing in terms of traditional projects going through design plan spec sourcing.
Instruction, and then ultimate delivery product and services hard to know so this is the earlier point that I think Steve asked just any more time here to see how this really plays out in terms of the kinds of opportunities retrofits, we see.
With Ikea.
Got it and then just follow up on where we stand with I guess some of the initiatives proposed by matching talked about retrofitting 4 million buildings.
Yeah, I think you along that memory as dry on the American reinvestment recovery Act, which didnt seem like a needle mover at the time, but any perspective, you would have on either lobbying to make sure each back with the big piece of that or sales teams that are particularly geared to focus on that any.
Lessons learned from history or perspective on what's been out there so far.
Oh are you supporter of that because the payback on that.
It's not a hand out as a payback.
And so to the extent federal and state buildings can be retrofit. It always has been this enormous opportunity that I think that that sort of thing could really on unlock for us and.
Certainly we're talking to the administration frequently around the opportunity there would be a strong supporter of that type of activity and were uniquely suited to be able to go address those challenges because.
Frankly, it's really doing two things it's not just.
Infrastructure renewal indoor air quality and energy savings.
We're doing this stuff typically with reducing greenhouse gas emissions dramatically if not completely if they use our realized portfolio. So.
It does it just check so many boxes that are good for the country and for the world and the paybacks on these things are very short.
Great. Thanks, Mike.
Yes, Josh.
Your next question comes from the line and Julian Mitchell with Barclays. Please proceed with your question.
Hi, good morning.
Hi has been a lot of discussion on the.
Buildings facing markets to maybe a ton the spotlight to transport refrigeration first seconds.
Your comments on the second half outlook, I guess with fairly downbeat understandably.
I just wondered if you could frame sort of likely.
Timing as you see it today for recovery.
And any kind of historical context.
Market tends to see quite rapid rebounds, when they do you look.
Is there any reason why you would think.
This time might be different.
Yes, I'll start and Mike Mike could add some color, but in North America Act right now is saying that 2021, we'll have a rebound of the on the 20% range.
Hs and in Europe has got a little bit more conservative bounced back. So their models are saying that we obviously have our own internal models that we track there's been a lot of deferred buying I would say.
Especially in the long haul space in North America. So we're we're hoping that act is correct, but I tell you there's still a lot of uncertainty out there right now and.
No I would tell you that a lot of these trucking companies there are very good business people and they.
They're not going to make investments that they don't need or they can't really see the return on so we're cautiously optimistic on 2021.
Thanks, and I am just my second question around capital deployment IOL sales outlook is a bit better than what it was for the year back in April.
Maybe there's a little bit more visibility in general today than three months ago. So just wanted to check in on that appetite to put the balance sheet to work in the next call. It six to 12 months.
And how you're thinking about the priority is of acquisitions relative to buybacks at this point.
Julien This is Chris I'll I'll start out with an answer I mean, I think our our strategy here around deployment has not changed.
Right now, we're making sure we're funding the business with the investments that it needs as Dave highlighted with the four product introductions, we've had the quarter.
That's really important for us to make sure that's priority number one I think we're keeping our optionality open for the second half you know as it relates to share repurchases.
As it relates to dividends were locked into dividends here for through the third quarter, we'll have 375 million paid out approximately in dividends by the into September.
And after that it's really look into visibility into the future. The better visibility, we have would give us a lot more confidence in and deploying more at that point, so but right now the focuses on investment.
Mike anything, yes, Julian I think that.
Our.
Most tossed around share buyback versus M&A is just sort of the intrinsic value, but we think the news your price so im sure values and what we think the.
Long range or return as for the acquisition the M&A and so we've always been on sort of agnostic and fair about looking at that I mean, clearly all things being equal, we'd rather build and grow the company and have the opportunities of that presents itself and so.
We are seeing a pipeline.
It is active we will do some things.
The back half of the year.
Frankly coded and travel is actually hurt things like due diligence you know the.
The amount of time, we'd spend in the speed.
Which we could perhaps react and go see things and and so that spend a little bit more challenging for us, but I think we'll still be active this year with some of that.
Great. Thank you.
Your next question today comes from the line of and open with Bank of America. Please make sure appreciate is there any man.
Just a question.
Hey, I think recently just published the summary, 2021 forecast for Nonres construction.
And.
Hi, there most of the forecast that they have sort of indicate that I think buildings are going to be down next year and I have folks and other way of asking question about market outlook for next year, but I think.
Last year I think Mike was highlighting the fact that you guys have multiyear visibility on the Psycho and just wondering what's your sort of think about visibility on the cycle in light of this and because it's played on the call on my second part is a lot more specific what kind of visibility do you have.
On institutional market into the second half specifically hospitals and education. Thank you.
Yeah, Andrew remember that the Hay day, that's going to really look at 20 or 30% of our North American commercial HPC business and correlate to that's not going to correlate to the other 60, 70%, which is going to be service and retrofit of the equipment base or even 70, 80%, which really is relative to the service plus the retrofit base.
Yes, so we we would intend to do better I think as result of the service business and driving retrofits Andy's I Q opportunities on that front.
As it relates to sort of institutional activity in construction.
It's a very late cycle activities projects take a long time to get started this typically funding bond issuance tax taxes that funded these projects, they're often multiyear projects or.
Multi phased projects and so.
They tend to the last a long time and there's plenty of infrastructure.
Required now.
Dave anymore comments, you might have on individual verticals or anything that might be out I would just say that you know this isn't normal times, maybe last year, we had a lot more visibility, but obviously things are changed right now.
I felt like I told you earlier, it's pretty busy right now as to what the verticals are the good news is is that we're very diverse in the verticals. So we're not overweighted in any one vertical and I think I said earlier, we are seeing strength and warehousing and.
Strength isn't the right were stronger than other verticals and things like retail and office have slowed down considerably I think market was I'd worry more about.
The parts of the market that are much more consumers sensitive like light commercial retail you know big box those sorts of things, we're seeing more bankruptcies where mall closures.
Things like that.
So the light unitary the rooftop market.
Those respond much quicker to economic shock.
I think when I was sort of referring to is I think lack of elective procedures really disrupt that sort of finance is at the hospitals and the I think sort of how the dealers. So we talk to highlight at this time start date. So just wondering if any sign of hospital behave or returning to normal by year end.
Yes look it's put pressure on hospitals finance is clearly without without being able to do elective surgeries and and whatnot. So so that's something to keep to keep an eye on but.
One thing for certain as the healthcare infrastructure in the United States is not going to sale right. If you think about any stimulus or any risk of that happening I think that would be a place where you would see.
Support coming in to help.
Hospitals in that situation, so I'm not worried about the long term.
Even the mid term effective healthcare and I think we've gotten through hopefully we're getting through the worst of this non elective surgery component, which drives revenues through the health care system.
Really appreciate it thank you.
Okay. Thanks.
At this time I will turn the call back to the presenters for any closing remarks.
Hi, This is zac Nagle I just wanted to thank everybody for joining the call today really appreciate it and as always shoes and I'll be available over the next coming days in today to take any questions or cost as you may have so please reach out.
Thanks, and we'll speak too soon.
Ah.
Today's conference call. Thank you for your participation you may now disconnect.
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Okay.
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