Q2 2021 Illinois Tool Works Inc Earnings Call
Yeah.
Good morning, My name is Adam and I'll be your conference operator today.
At this time I would like to welcome everyone to the conference call.
All lines have been placed on mute to prevent any background noise.
After the Speakers' remarks, there will be a.
A question and answer session.
If you would like to ask a question. During this time simply press star followed by the number 1 on your telephone keypad.
If you would like to withdraw your question press the pound key.
Those participating in the Q&A you will have the opportunity to ask 1 question and if needed 1 follow up question.
Thank you Karen Fletcher Vice President of Investor Relations you May begin your conference.
Thank you Adam good morning, and welcome to Itw's second quarter, 2020, 1 conference call I'm joined by our Chairman and CEO, Scott Santi and our Vice Chairman, Chris So early.
Senior.
And your Vice President and CFO, Michael Larsen is recovering from a sports related injury and is not available to participate and today's call.
And we certainly wish Michael all the best and look forward to seeing him next week.
During today's call, we will discuss Itw's second quarter financial results and update our guidance for the full.
Full year 2021.
Slide 2 is a reminder, that this presentation contains forward looking statements. We refer you to the company's 2020 form 10-K, and subsequent reports filed with the SEC for a more detail about important risks that could cause actual results to differ materially from our equity.
Expectations.
This presentation uses certain non-GAAP measures and a reconciliation of those measures to the most directly comparable GAAP measures is contained in the press release.
So please turn to slide 3 and it's now my pleasure to turn the call over to our chairman and CEO Scott Santi.
Thank.
Thank you Karen and good morning, everyone.
And the second quarter, we saw continued recovery momentum across our portfolio.
And we delivered strong operational execution and financial results.
Revenue was up 43% with organic growth up 37%.
And we saw double digit growth and.
And every segment and geography.
Earnings per share of $2.45 was up 143%.
108%, if you exclude the onetime tax benefit of 35 that we recorded in the quarter.
And the strong demand environment, and then the face a very.
Challenging supply conditions, our teams around the world leveraged our long held close to the customer manufacturing and supply chain approach and the benefits of staying fully staffed and invested through our win the recovery positioning.
To continue providing world class service levels to our customers.
And while also continuing to execute on.
And our long term strategy to achieve and sustain itw's full potential performance.
We're certainly encouraged by our organic growth momentum as order and tech and take rates remained pretty much.
Strong across the board and during the second quarter, we saw multiple examples of how our ability to sustain.
Our differentiated delivery capabilities by remaining fully invested through the pandemic resulted in incremental share gain opportunities for our businesses.
While there is no doubt that the raw material supply environment.
Is as challenging as we have experienced and a long time.
Maybe ever in my 38 years at <unk>.
<unk>.
We are well positioned we are as well positioned as we can be to continue to set ourselves apart through our ability to respond for our customers.
We've worked hard over the last 9 years to position ITW to deliver differentiated performance and any environment.
And I have no doubt that the ITW team will continue to.
To execute at a high level as we move through the balance of the year and beyond.
Now for some more detail on our performance and the second quarter as I mentioned organic growth was 37% with strong performance across our 7 segments.
The 2 segments that were hardest hit by the pandemic a year ago led the way this.
<unk> with automotive OEM up, 84% and food equipment up 46%.
By geography, North America was up 36% and international was up 38%.
With Europe up, 50% and Asia Pacific up 20%.
GAAP EPS of $2.
45 was up 143% and included a onetime tax benefit of 35.
And related to the re measurement of net deferred tax assets and the U K.
Due to a change and the statutory corporate tax rate there.
Excluding this item EPS of $2 <unk> grew 108%.
This quarter was Q2 record and was 10% higher than in Q2 of 2019.
Operating income increased 99% and incremental margin was 40% at the enterprise level.
Operating margin of 24, 3% improved 680 basis points on strong.
And I am leverage along with 150 basis points of benefits from our enterprise initiatives.
Year to date, our teams have delivered robust margin expansion with incremental margins for our 7 segments, ranging from 37% to 48% inclusive of price cost impact.
Speaking.
Speaking of price cost price cost headwind to margin percentage and the quarter was 120 basis points.
While the pace of raw material cost increases accelerated and the second quarter.
Our businesses have been active and implementing pricing actions in response to rising raw material costs since early in the year consistent with our strategy.
<unk> to cover raw material cost inflation with price adjustments on a dollar for dollar basis.
And Q2, we ended up just short of that goal due to some timing lags and there was a bit and as a result net.
And net price cost impact reduced EPS by a penny in the quarter.
We continue to expect price cost impact of EPS.
<unk> neutral or better for the year.
And I'll come back and provide more color on the price cost environment, a little later in my remarks.
And the quarter after tax return on invested capital was a record at 38, 38%.
Free cash flow was $477 million with a conversion of 72%.
EPS and income when adjusted for the onetime tax benefit I mentioned earlier.
And that was due to the additional working capital invest and investments necessary to support our strong organic growth.
We continue to expect the from approximately hundred percent conversion for the full year.
We repurchased $250 million of our shares.
Net of net this quarter as planned and.
And finally, our tax rate and the quarter was 10, 1% due to the onetime tax benefit.
Excluding this item our Q2 tax rate was 23%.
Moving to slide 4 for an update on price cost.
We continue to experience raw material <unk>.
Shares leases, particularly in categories, such as steel resins and chemicals.
And now project raw material cost inflation at around 7% for the full year.
Which is almost 5 percentage points higher than what we anticipated as the year began.
And just for some perspective this is roughly <unk>, what we experienced and the 2018 inflation.
And critical.
We learned a lot from that experience and is.
As a result, the timeliness and pace of our price recovery actions are well ahead of where we were in 2018.
As I mentioned, we expect price cost impact to be EPS neutral or better for the full year with pricing actions more.
And then offsetting cost increases on a dollar for dollar basis.
Price cost will continue to have a negative impact on our operating margin percentage, however, and the near term as we saw in Q2 and net impact will likely be modestly higher in Q3 versus Q2 before it starts to go the other way.
For the full year.
And tariffs expect price cost impact to be dilutive to margin by about 100 basis points.
Which is 50 basis points higher than where we were as of the end of Q1.
That being said margin benefits from enterprise initiatives and volume leverage will provide us with ample ability to offset the negative effect of price cost on margin percentage.
Year and delivered strong overall margin performance for the year.
And beyond the near term price cost impact we remain confident that we have meaningful additional structural margin improvement potential from the ongoing execution of our enterprise initiatives.
And with that I'll turn it over to Chris for some comments and our segment performance in Q2, Chris.
Thank you Scott good morning, everyone.
On slide 5 the table on the left provides some perspectives on the growth momentum and our businesses. When you look at sequential revenue from Q1 to Q2.
As you would expect the pace of recovery and our auto OEM segment has been dampened by the well publicized shortage of semiconductor chips. Despite.
Pretty strong underlying demand and.
And for that reason, we added a rule to the table to show portfolio demand trends ex auto.
Our Q2 revenue ex auto increased 8% versus Q1.
And this year Q2 had 1 more shipping day in Q1.
And so on and equal days basis, our Q2 versus Q1.
<unk> revenue growth ex auto is 6%, which is 2 weeks of our normal Q2 versus Q1 seasonality of plus 3%.
In addition, we added more than $200 million of backlog and Q2.
Both of these factors sure that demand accelerated meaningfully in Q2 across our portfolio.
And <unk>.
John it's going through a little more detail for each segment, starting with automotive OEM.
Demand recovery versus prior year was most evident in this segment with 84% organic growth.
This of course was against easy comps versus a year ago, when most of our customers and North America and Western Europe were shut down from mid.
March to mid May.
North America was up 102% Europe was up 106% and China up 20%.
We estimate that the shortage of semiconductor chips negatively impacted our sales by about $60 million and the quarter.
Operating margin of 18, 8% was up.
26, 6 percentage points on volume leverage and enterprise initiatives.
Price cost was a significant headwind of more than 200 basis points due to the longer cycle time required to implement price recovery actions in this segment.
Given the ongoing semiconductor chip supply uncertainty, we now expect.
Full year organic growth and automotive to be approximately 10% versus our original range of 14% to 18% at the beginning of the year.
To be clear this is not lost revenue, but simply delayed into next year.
Furthermore, the slower than expected growth and auto is offset by strength elsewhere and the enterprise.
Please turn to slide 6 for food equipment and.
And food equipment organic revenue rebounded, 46% with recovery, taking hold across the board and the backlog that is up significantly versus prior year.
North America was up 39% with equipment up 42% and service up 33%.
Institutional revenue was up more than 30% with healthcare and education growth and the low to mid thirties, and lodging up and the mid twenties.
Restaurants were up about 60% with the largest year over year increases in foodservice and <unk>.
Retail grew and the mid teens and continued solid demand.
And our new product Rollouts.
International recovery was also robust robust at 58% with Europe up, 66% and Asia Pacific up 29%.
Equipment sales were strong up 66% with service growth of 39%, which continued to be impacted by extended lockdowns in Europe.
Operating margin was 22% with and incremental a 46%.
Test and measurement electronics revenue of $606 million was a Q2 record with organic growth of 29%.
Test and measurement was up 20% driven by solid recovery and customer Capex spend.
And your strength and semicon.
Electronics grew 38% continued strength and consumer electronics and automotive applications and.
And the added benefit of and timing of some large equipment orders and electronic assembly.
Operating margin of 28, 1% was 240 basis points was up 240.
And he basis points and a Q2 record.
Moving to slide 7.
While the growth was also strong in Q2 a 33%.
Equipment revenue was up 38% and consumables growth of 25% was the first time and positive territory since 2019.
Our industrial business grew 52%.
And continued capex spending by our customers and the commercial business remained solid up 26% following 17% growth and the first quarter nor.
And North America was up 38% and international growth was 13%, primarily driven by recovery in oil and gas.
Polymers and fluids organic growth was 28%.
And on <unk> by our automotive aftermarket business up 33% on robust retail sales.
Polymers was up 34% with continued momentum and MRO applications and heavy industries.
Fluids was up 8% with North America growth and the mid teens and European sales up low single digits.
Operating margin was an all time record of 27, 3% with strong volume leverage and enterprise initiatives, partially offset by price cost.
Moving to slide 8.
Construction organic growth of 28% reflected double digit growth and recovery and all 3 regions.
North America was up 20%.
With 16% growth and residential renovation and with 26% growth and commercial construction.
Europe grew 61% with strong recovery versus easy comps and the UK and Continental Europe.
Australia, and New Zealand organic growth was 13% with continued strength and residential and commercial.
Operating margin on a segment of 27, 6% was up 390 basis points and was a Q2 record.
Yes.
Specialty organic revenue was up 17% with North America up, 15%, Europe up, 24% and Asia Pacific up 14%.
Our flexible packaging business was up mid.
Central digits against tougher and tougher comp than the rest of this segment.
The majority of our businesses were up double digits led by appliance up more than 50%.
Consumable sales were up 19% and equipment sales up 12% and.
And with that I'll turn it back to Scott.
Thanks, Chris let's move on to slide <unk>.
<unk> for an update on our full year 2021 guidance.
We now expect full year revenue to be in the range of 14, 3% to $14.6 billion of.
A 15% at the midpoint versus last year.
With organic growth and the range of 11% to 13% and foreign currency translation impact of plus.
3%.
This is an increase and organic growth of 1 percentage point at the midpoint versus the updated guidance that we provided at the end of Q1.
Driven largely by the incremental revenue impact of pricing actions implemented in Q2 and response to accelerating raw material cost increases.
While demand momentum accelerated.
And Q2 versus Q1, as we noted earlier and our presentation.
We are admittedly being conservative and not projecting that forward and our guidance at this point and time given the significant supply chain disruptions that continue to challenge many of our customers and auto and otherwise.
We are raising our GAAP EPS.
And so by 35 cents to a range of $8.55 to $8.95 to incorporate the onetime tax benefit realized in the second quarter.
The midpoint of 875 represents earnings growth of 32% versus last year.
And 13% over 2019.
Factoring out the onetime Q2 tax items.
And the midpoint of our 2021 guidance is 10% higher than 2019.
With regard to margin percentage as discussed earlier, the incremental cost increases that we saw in Q2 will result in full year margin dilution.
And of 100 basis points versus the 50 basis points that we projected as of the end of Q1 and.
And we are.
<unk>, our margin percentage guidance accordingly to a range of $24.5 to 25, 5%.
Which would still be and improvement of more than 200 basis points year over year, and and all time record for the company.
And again, we expect zero EPS impact from price cost for the full year.
Adjusted.
We expect free cash flow conversion to be approximately 100% of net income factoring out the impact of the onetime noncash tax benefit we recorded in Q2.
Through the first half, we have repurchased $500 million of our shares and expect to repurchase an additional $500 million and the second half.
Finally, we expect our tax.
And the second half to be and our usual range of 23% to 24%.
And for a full year tax rate of around 20%.
And lastly, today's guidance excludes any impact from the previously announced acquisition of the MTS test and simulation business.
Which we expect to close later this year and once that acquisition close.
<unk> will provide you with an update and with that I'll turn it back over to you Karen Okay. Thank you Scott and Adam.
And let's open up the line for questions. Please.
Yes ma'am.
And once again, ladies and gentlemen, if you would like to ask a question.
And the number 1 on your telephone keypad.
And once again for my question that is star.
Star then the number 1 and we will.
I'll switch gears for a moment the qunar.
Hey roster.
Yes.
And your first question comes from the line of Andrew Kaplowitz with Citi.
And best wishes to Michael.
Thank you and short term IR, but he'll be back next week.
Excellent.
Scott and Chris you mentioned, the raw material cost inflation.
No you said inflation will be EPS neutral or better for the year D. C D and inflationary pressure has stabilized enough now where you can have a handle on these increases.
And you sort of put it into the guidance. So when you look at Q3 and Q4, you have confidence and your forecast and then 'twenty 2 and you talked about it last quarter, but what's the probability that these price increases are pretty sticky. So you could exceed that 35% to 40% longer term incremental you have.
Well.
And the first.
So I think I think we're very confident that we will cover whatever.
All the all the increases that have already been incurred and anything subsequent to that I would.
Not be comfortable describing the environment is stabilizing at this point.
But ultimately.
Think we are have demonstrated that we look back over the.
First question.
And.
Going back to 2017, and even in 18 and totally this year.
Sort of on a quarterly basis force the impact from price cost and inflationary environments has been a panic.
And maybe to 1 quarter. So so I think we're fully comfortable that it will.
Last fall the read and react to whatever.
It might happen from here that the EPS impact of the company will be negligible for the full year.
But I think.
As I said I don't.
It's not based on an assumption that things are going to stabilize from here for sure. Yeah, I don't think we're seeing.
We've.
We've seen enough evidence of that and nor my predicting things are going to continue to reach 40, either I think it's wait and see.
And we saw a significant pickup and the pace of inflation and Q2.
And you guys, maybe I could just ask the question specific to auto and the sense that you know you gave us the numbers and not 10% for the year I think this quarter, you said 200 basis.
We'll be a price versus cost.
You know theres always a lag before you can catch up there. So should we assume incremental margins still getting a little worse before it gets better and that business and how long would you surmise it takes to get on top of price versus cost from that business.
And well price versus cost and auto is always going to be challenging given the.
And points of each of the industry, but I would say on the in terms of incremental and that in the second quarter and automate a 47% incremental and in fact, the 47% incremental.
For the first half of the year. So incrementals are strong and no doubt, but theres no doubt that the structure of the industry. The structure of the pricing agreements. It does take a little longer hard to say how long.
The need for us to catch up there I would say.
Thanks, guys.
Okay.
And your next question comes from the line of Ann Duignan with JP Morgan.
Hi, good morning, and.
Morning.
And a little bit more.
It will take construction products and test and measurement for and you said you delivered.
Our record Q2 operating profit percentage.
And you talked about how sustainable those margins are going forward was there anything in Q2.
Or.
And anything that we should be aware of.
Results in.
Margins and diminishing from here or are those sustainable.
Sustainable at these levels.
Yes, and so we just had a construction margins are very sustainable we have been.
Improving margins and construction for a long time now and certainly for the last few quarters here, we've been and in the mid to high Twenty's and terms of margins and.
And those are despite the price cost environment, we're seeing nice organic growth and construction were getting nice price realization and.
And so we didn't start and expect the margins there are to be sustainable Similarly, and test and measurement and.
Test and measurement margins again trending and the high Twenty's here have been like that for a long time.
And that we like.
Construction of level of differentiation.
I believe and solve customer problems. So we don't see any issue with sustaining margins and either test and measurement or construction.
Yeah.
Okay.
And then.
Okay I'm sorry.
And just going to add some color commentary.
And I think I was adding up the time when Christmas and reading the comments, but I think we set all time record margins from Q2 and 3 of our 7 segments. Despite the price cost environment and that.
And the circle back to a comment I made which is there is still.
Room to run in terms of structural margin improvement across the company.
That 150 basis points of enterprise initiative benefits and this quarter. So there's.
These are certainly.
Sustainable improvements and performance and we expect to continue to do better as we go forward.
Yeah.
Okay.
Okay I'll leave it there and the interest.
And I appreciate it thank you.
Yes.
And your next question comes from the line and Stephen Volkmann with Jefferies.
Hi, good morning, guys.
Maybe just following up on.
And the comment about enterprise initiatives, you are talking about I think 100 basis points for the year, but you did.
100 <unk>.
And then we got this quarter I think 120, if I remember last quarter.
You've been over achieving those slow down for some reason or is there a chance that you do better than 100 this year.
Yes, I mean, I think we're saying 100, plus so we will do better than 100 this year.
And.
Still a lot of.
And put us on enterprise initiatives, born and sourcing and 82000 and these are all initiatives and activities that are very granular within our segments within each division. There is a host of activities. They are working on and actually have been working on not just this year, but even starting last year. So we entered the year with a fair bit of tailwind in terms of enterprise initiatives.
David and expect to do 100 plus for sure.
We're not slept and okay alright.
And then maybe just following up on the price cost kind of question. Just curious about how you think about the policy here I mean, it doesn't feel like there's a lot of pushback on pricing and any of the kind of verticals that we touch and why.
So not price $4 plus margin why kind of create that headwind.
Well.
The headwind from my perspective, as a percentage headwind, it's not an earnings headwind.
The overall.
Our position that we want is look we've created.
David and incredibly profitable economic engine and the most important job we have is to grow it organically and so from the standpoint of.
To the extent and we don't have the bulk as high as other people do we're leveraging that strong position and we can translate that into incremental share that's the preferred option and we.
We don't want I don't want our people fighting over the next incremental.
And we ought to get the cost back for sure.
And then let's get on to talk to our customers about how we can help them improve their businesses.
Operationally technically from a sales standpoint, and so that's basically it is we can certainly do BARDA.
To get all distracted and try to price optimized and the short term.
And think that serves our long term interest very well, we make plenty of money.
<unk>.
Sure.
Thank you Karen.
Okay.
And your next question comes from the line of Jeff Sprague with vertical research.
Hey, Thanks, good morning, everyone.
Good morning, John.
Morning.
Could we just drill a little bit into kind of the whole availability issue, we talked about price cost and obviously it's.
Tied to the availability of supply but.
Outside of auto, which is very visible and.
Obvious are there.
There are clear places and your portfolio where.
Either you're struggling to meet demand because of availability and your supply chain or.
Youre feeling and on the customer side, perhaps you can deliver but they don't want it because they've got problems elsewhere down the line and I'm. Just wondering if you could give us some perspective on that and.
Any color on that.
And what degree if any it may have been limiting the top line here in the quarter or into the balance of the year.
Yes, I'll give you some overall color on that and then certainly let Chris give you some segment level business level specifics.
And some things come to mind for him on this I would say.
In terms of overall color as we talk to our businesses around the world. There is no question that it is a daily battle.
<unk>.
And to maintain supply position necessary to service our customers I would absolutely content that we are doing better than most.
For a couple.
Couple of reasons..1 is the fact that we have long had localized supply relationships with local manufacturing facilities, serving our customers locally.
We have.
And then the other factor is what I talked about and our remarks. The fact that we kept all our people through the pandemic, we have not had to scramble to bring.
People back.
And so.
Normally our supply chain and our manufacturing.
No.
Operations function.
And a very simple automated way, it's definitely taking a lot more brute, let's call a brute force for now, but I think that.
We're not hearing any big issues.
From the standpoint of our own ability to supply our customers. It doesn't mean that there's not an occasional.
$2 bracket.
It shows up late and we.
A couple of welding machines that can't go I'm, just making that up but that's.
And I am sure Thats the case, but ultimately.
Given the service levels that we're monitoring.
It's a standard part of our operating practices I would say that.
And I'm very comfortable saying that we're working a lot harder than we normally have to but ultimately performing pretty well.
I would say that the supply chain area beyond auto is much more of an issue for us on the demand side and the supply side and I would point to a couple of things.
The.
We.
And a lot of.
Sort of timing changes in terms of orders and requirements not because.
We can't deliver something but because another supplier can't deliver something to a customer.
And I'd also point to the $200 million of backlog and we've talked about this before.
Chip.
Basically the day when our customers order.
Yesterday, and so we operate with very little backlog and the fact that we built a.
A couple of hundred million dollars of backlog and I can't.
Analyzed every dollar of it but my contention would be that thats a lot more due to.
Sort of customer delays and it is our own ability to supply.
And look that was you had the $60 million and auto plus the 200.
And a backlog that's that's another 10 percentage points of organic growth and the second quarter.
Again, I'm not necessarily containing all of it could have gone, but my bet would be most of it.
And if you have anything.
I would say.
Scott's comments I think our overall kind of 80.20 focus here really creates a lot of advantages.
For us in terms of most of our simplified and streamlined product offerings, obviously results and simplification of our raw materials and components and and Thats simplification and focus also extends to our suppliers.
A key part of our strategy and it's worked very well for us from many years is to have these very strong and long lasting supplier partnerships and we're a key customer from most of our raw materials.
Cereals, and suppliers just becomes really really important when supply chains become constrained and we've really seen that worked to our benefit here and the last 12 months.
Great and just a second question.
Just on the M&A pipeline.
Obviously, you don't have a deal until you've got something to announce.
Can you.
Give us a sense of how active your pipeline and have you been able to cultivate things maybe.
And maybe handicap, the odds and <unk>.
And some other things kind of coming into your strike zone.
Well.
I would tell you that we are excited about MTS and we are working hard to get that 1 finished off.
That is.
And what $650 million of annualized revenue. So that's certainly enough work to do for a little while anyway.
I don't want to necessarily comment on the pipeline and as much as to say we remain.
And we will remain.
Very interested and adding high quality businesses to the company.
But sort of the timing of all that is always a subject of the quality of what.
Opportunities present themselves.
And so.
And I stopped going on but it's not it's not a matter of how big or small the pipeline is it's more we're looking for a much narrower set of criteria.
And then.
I think.
So it's more a function of the quality of what's there than the quantity.
Okay understood. Thanks, I'll pass the baton.
And your next question comes from the line of Joe Ritchie from Goldman Sachs.
Thanks, and good morning.
Morning, everyone. Good.
Good morning, Joe.
And.
And so I knew that I know you guys guide Q2 organic growth trends.
Really not improving or declining and that's just kind of housing starts and your policy going forward I guess, when I think about each of the different segments and how youre thinking about the sequential from.
Yeah, I don't really think about a lot of seasonality and your business, which maybe perhaps the construction business rates being a little bit seasonally weaker and the fourth quarter. How are you thinking about sequential revenue for this segment.
Throughout the rest of the year with obviously, you've given us the auto guide, but really the other segments.
Yes.
From here I come.
With that I think overall and my comments, but we have sort of tamped down the run rate in terms of the guidance relative to run rate.
Chris talk to you about the fact that and second quarter, we saw organic growth rates accelerate by a net 3 percentage points of beyond seasonality.
And we basically did and.
Projected that same momentum and forward through the balance of the year because of the supply risk involved the supply chain risk to our customers. So we're playing that pretty conservative.
And I and I think that ultimately is going to.
I have more to do with the pace of the organic from here then then.
Trends in demand and there's plenty of demand out there.
As a matter of can our customers get enough raw material tool.
To support it.
Got it and then maybe Scott just following on that like.
You mentioned and the backlog and the food equipment business.
Or like where you are building backlog right. Now is is that are you seeing that as more kind of like a <unk>.
22 opportunity just given what youre seeing from a supply chain standpoint, or does it do you expect that some of that is the convert and the second half.
And I'd say some of it converted I think the only 1.
Probably.
And definitely into 2022 is the 1 that Chris mentioned and auto where this this chip shortages and a guy that's going to get resolved anytime.
Soon.
But I'd say most of the.
The rest of that backlog that $200 million I would expect that.
Given our customers can take it because they can get the other components are things they need that so could certainly convert and the back half I think are just it just doesn't make sense to up the revenue guide when and when.
Everyone is still supply constrained right now I can't say it any more.
Simply than that and until we see how things play out it just didn't make sense to.
Take things too far from where they are now in terms of run rate until we see.
How that all of the supply issues play out and and affecting our customers' willingness.
2.
Ability to take what the what they've ordered from us and order more but.
But I would say there is definitely from a standpoint of order rates and the overall demand there's definitely enough there to do well better than what's in our guide if the supply chain situation.
<unk>.
Significantly better from here forward.
Okay, Yes, that's no that's helpful. I guess, maybe 1 follow up on price cost and I know we.
Talked about it a little bit.
You did mentioned net <unk> is expected to get a little bit worse from Q2, but that you put through some pricing actions and <unk>. So I'm just I guess I'm just wondering if does it take a little bit of time from some of those pricing actions to take hold or why would.
The headwind and get worse and <unk>.
Yes, John I mean, the real reason is getting worse and in Q3 is because of the pace of inflation and Q2, and we saw a significant pickup and pace in Q2, and obviously, there's a little bit of a lag. So we see a little bit of a.
A worsening and Q3 based on what we know today based on the cost increases we see and the no.
No and price increases, we see little worsening in Q3 from Q2 really on the base of the pace of inflation and Q2.
Got it okay, great. Thank you both.
And your next question comes from the line of Jamie Cook with Credit Suisse.
Okay.
Just 2.
Why wouldn't 1 following up on that on the revenue.
Look I understanding why you would guide sort of conservatively, but is there any way you can help us understand and just what youre seeing in terms of percentage increases and Nate.
And take rate.
By segment, just to help us sort of understand what's out there and to what degree are you concerned is there any.
Question and sort of double ordering that's happening is customers are worried they can't get stuff and then I guess my follow up question.
Obviously, the organic growth has performed very strong are there particular segments or customers, where you are more sort of confident that some of these.
And this organic growth is associated with you know market share wins that.
Actually you know sort of sustainable from here on thank you.
Sure so in terms of.
Acceleration of organic growth, we're seeing and obviously, we talked about auto.
And a different way, but certainly and food equipment test and measurement electronics and welding are certainly growing faster than we expected.
Spect that earlier and the euro so we've seen a nice acceleration there.
And we've no reason to believe that it is not sustainable based on our conversations with our customers the order patterns and so on and.
And obviously as we've often talked.
About the fact that and we've been very busy here in terms of this wind recovery initiative over the last 12 months and.
Or is it still kind of.
Early to quantify this we're feeling pretty good about.
And how we're positioned and we as you know.
Very intentionally remained fully staffed and serve our customers protect and investments in people and initiatives and the customer back innovation and strategic sales excellence and was certainly a lot of anecdotal evidence out there that would say that that is turning into into real share.
Share gains and if I, if I just maybe highlight some illustrative.
Examples and like food equipment, where.
High levels of product availability, maintaining service level excellent as Scott talked about and being able to respond and supply where a competitor could not.
As enabling several share gain and incremental wins from competition.
In large chains both in foodservice.
And food retail and another example might be and.
Polymers and fluids automotive aftermarket.
Staying invested here, we're able to stay and sales and our sales and innovation focus coupled with high service levels means we grew as I mentioned and the commentary automotive aftermarket grew by 33% and the quarter and this is well above customer points of sales growth.
Indicating that we are gaining.
Sure and a meaningful way and even non residential construction and our and our roofing businesses.
And switching up 45% and the quarter again, we.
You see very clearly, we're gaining share there and competition, who have certainly been supply chain and operationally constrained and extending deliberation.
Liberty team and so on and we've continued to maintain differentiated service levels. So again somewhat anecdotal somewhat early in the window recovery strategy with.
But certainly ample evidence that we seem to be gaining share and and these are just a small and selection.
Of illustrative examples and type products that we're making across our 7 segments.
Growth. Thank you and then anything.
On the order rate and take if you can share with US just what you are seeing that you saw that by segment.
Yeah like I said, we saw an acceleration of the free segments that I mentioned and.
And the order has heard me talk numbers.
And anything we can't that's right.
Yes orders pretty much equalized shipments for.
For us because of what I said you know what.
Okay.
What what our customers order we ship. The next day I would say that also your question about I think you used the term double dip ordering.
In terms of customers trying to hedge order more because they can't get supply.
Can't say that we're not seeing any of that but.
I would say that it would be much lower for us because of the fact that our service levels are so good our customers understand.
In terms of order to ship.
So.
Some may be certainly or and more than they would normally because they're concerned about things, but I would think that.
In terms of our service levels, we wouldn't it wouldn't be anything.
And that wouldn't be a significant part of the overall demand picture for us.
Okay. Thank you.
Yeah.
Okay.
And your next question comes from the line of Nigel Coe with Wolfe Research.
Thanks, Good morning, and best wishes to Michael makes.
Makes a speedy recovery.
And I wanted to.
Okay.
And I won't go back to the supply.
Yes constraints.
And where are you kind of move and outside of automotive, which was predictable, but where are you most concerned and I'm thinking about maybe electronics.
Prep tool.
Batteries, but what are you monitoring those closely.
And that.
Not just Illinois tool works for fuel suppliers, which business physical geography are you most concerned.
Yes, I would say.
Electronics and general.
Been fairly constrained and so that impacts segments like welding food equipment test and measurement electronics will be 1 that I would call out.
The inflation from.
And Tim it's been across the board and symptoms of steel resins, and chemicals and electronics, but in terms of supply chain constraints and electronics since we're starting to sense steel related businesses.
But beyond that I don't think there's anything really concentrates up I think again the color from our businesses.
And it's something different every day right.
But.
It's not a.
And it takes a lot more work and thats not even the big dollar stuff and stuff too.
And $2 bracket, but it is.
It is a real thing.
Our real effort right now.
Significantly more backend weighted.
And to maintain sharp sales, yes, yes, yes, and then.
And it took us all purchases because of the higher volume service plan.
I wouldn't say expedited freight and the big issue for you, but maybe address those 2 points and because.
Theoretically could change very quickly so I'm, just wondering what impact from spot purchases and.
Great exciting.
Spot purchases.
And can you explain that a little more.
Yes.
I think you and other companies.
Purchase.
And from hedges.
Yes, yes, yes.
Yes, we don't hedge and we don't forward buy so every day.
And everything.
Current costs are flushing through right now.
Now yes.
And the second part of your question Nigel I think related to freight and logistics is that correct and and so with freight and logistics I mean, obviously, there is an impact for us, but I would say less of an impact and some of our peers may be on the basis that the produce where we sell produce and source, where we sell philosophy that we've long had a certainly mitigated the impact of freight and logistics on our on our cost structure.
Structure.
And availability.
Thanks, John.
And your next question comes from the line of Scott Davis with Melius research.
And good morning, guys.
Good morning, Good morning, Scott.
Pulp Mike feels better.
Must be a good story.
And back story to the sports injury.
And systems.
It tends to tell.
Yes.
No.
Hopefully you didn't join some sort of football team.
At all from the over 50 football team.
Yeah.
Hey, guys.
And I only have 1 question is just on.
MTS when you bring and MTS, how do you how do you cadence 80.20.
How do you bring in a day or the size kind of bring 80, 20 and without really disrupting it is or.
And so kind of a playbook there you guys can walk through and help us understand.
Yeah, absolutely Scott so it's obviously.
And we've.
Completely reinvigorated and 'twenty over the last few years and with this front to back process and and effectively the process that we will employ and MTS is exactly the same process that we have employed on our 84 divisions across the company. So we have clear line of sight on what to do with clear line of sight and hope to do it and we have clear line of sight and and what the.
Should be when we get it done properly.
With the fact that we built a tremendous amount of capability and the company a full tool Gwen and help.
MTS on the on the 80.20, John So we feel very confident and the playbook, we feel very confident and our capability.
And the raw materials and MTS are fantastic with respect.
Respect to 80.20 opportunity that's 1 of the key attractions for us and when we bought it the other thing I'd say is that.
We've got a very similar business.
And our portfolio.
And test and measurement and Instron, where we've done this successfully before.
And so very confident that we can we can do this and do that successfully.
The small point I'd.
And they advocate.
It's a it's probably a 3 to 5 year process and Thats part and part of that is not disrupting the business.
It's not at the pace that makes sense, where and we're in no rush here.
Okay Super helpful. Good luck. Thank you. Thank you.
And.
Question comes from the line of Mick Dupre with Baird.
Thank you and good morning, everyone.
Good morning going back.
To your comments on pricing.
Obviously, a lot changed over the past 3 months and can you maybe clarify for us.
And what impact pricing at your adjustment to the overall.
Organic growth guidance.
For the year.
Yes, please yes.
Yes.
Yes, it's 1%.
Okay.
Presuming that was that that was the 1% we added.
Yeah right.
Okay. That's that's kind of what I figured but I just wanted to confirm so you know if if he gets it is impacting the back half of the year, primarily then lease presumably you'd have a couple of points of growth just from from pricing and a back half.
If I look at the implied guide and.
Right.
At the high and we're talking about growing something like 7% organically a couple of points.
Points of that is.
And just your incremental price and I mean look Scott you were talking earlier, saying, Hey, I'm trying to take a conservative approach here.
But at least to me when I'm adjusting out for this for this pricing element and.
And I think all of the comparisons that are still you know fairly easy relative to the prior year.
It just strikes me that that you really are being conservative here and in terms of how you were thinking about your business progression on a on a fixed price call it core basis. So.
Just to kind of clarify this is it.
There is some lack of clarity as to where maybe demand is going to be because of what's happening with the supply chain or is it that you're having some.
Second thoughts with regards to how youre going to be able to convert revenue given some of the disruptions that you were having to deal with.
It's it's.
The former and not the latter.
[laughter] I understood you correctly.
Biggest bigger risk for us by far as customer supply chain and what.
And what that does to their demand patterns from here on out.
As I said before it's about as volatile of a situation.
That I've seen in my and my career at ITW.
And so.
And I don't I'm, not trying to be mysterious about it and I think until we see that start to stabilize.
And it's just really hard to be comfortable sort of raising.
And I know works.
And we're serving the demand we had today really well.
And the sort of run rate from the standpoint of our that our customers are able to sustain.
I think we're comfortable continuing to.
Our ability to do that we'll continue on from the back half there was a lot more orders and a lot more demand and then.
Again, why we built backlog that's.
There is not a demand question, if we had if we.
Had we and our customers had sort of.
Unimpaired supply chains right now.
We had 10 more points and the second quarter.
This is <unk>.
It's not a fact, that's just my opinion, but.
Just looking at the backlog and so I think demand is certainly much stronger right now.
Given the pace of the recovery, it's just a matter of from the standpoint of all the supply chain issues and risks.
For our customers their pace of being able to.
And what they're ultimately going to need from us.
As I said, it's just it's just hard to justify going up with a.
And from here, but it's more their supply side than the demand side, if that makes sense.
Yes, I think it does.
The follow up to all of this is is we're starting to think about 2022 and if we're using your.
Framework for the back half.
'twenty 1 is the starting point and thinking about 2022. It begs the question as to how what growth is likely to look like next year.
Alright, because at least in theory pricing normalizes next year. So you won't have the kind of tailwind do you have this year on that.
Okay.
Hi.
We're not thinking about 22.
But I would just.
Say as a general rule a lot of the supply chain disruption I think just pushes add to the duration of the recovery.
There's plenty of business now.
And because all of it can't be satisfied a plenty of demand now and Chris told you. The example of and auto.
And this.
This $60 million, we couldnt ship and auto and the second quarter and Thats not going away and that's just getting pushed out we've got we've got dealer inventories at all time lows.
I forget what it was less than a month's maybe less than a month I think I saw.
And.
And so to the extent.
And I don't think it's necessarily.
The worst thing and the world.
All of the demand and that's there right now can't be fully serve because it's going to allow us.
Again, this recovery duration gets extended by another 2% to 4 quarters maybe.
And we'll think harder about that as we get to the.
That part of the year.
Okay. That's helpful. Lastly from me.
And the topical.
Topic of M&A, you talked about portions of your base and you said, you're considering for divestiture before.
And you've taken a step back on that this year.
Curious as activity has picked up multiples are pretty good will you reconsider a day sort of point and time down the line maybe 2022.
Yes.
Okay. Thank you.
And your next question comes from the line of Julian Mitchell from Barclays.
Okay.
Hi, good morning.
Maybe just a first question. Good morning, maybe just a first question around the free cash flow and that's been touched on yet.
Your inventories and receivables are out each sort of a 100 million plus sequentially.
Just wondered how you see working capital playing out and the second half.
And what we should think about that as a sort of cash flow item for the year as a whole and also sort of more broadly.
Capex side of things.
You know how much is your capex coming up this year and.
Have you revised that all your sort of medium term capex planning assumptions because of these constraints.
I think I.
I think the best way to model.
Our working capital requirements as our months on hand and day sales outstanding.
Sort of we manage the metrics on those generally speaking months on hand runs roughly 2 and a half months.
DSO I can't remember off the top of my head, but.
And whatever the average is 60 ish maybe.
Or so so that's that's where.
Working capital is going to go sales go up much on the <unk>.
And hand, it back and go up but the dollars invested due to stay at that months and it's going to go up same with receivables and.
In terms of DSO.
It's not a.
And that.
It happens automatically we're not we don't have to.
Sort of force that to happen, but as sales go up the inventory is going to go up but the months and months on hand as a.
Function and that's how 80.20 works, there's some elements of it.
And that give us we want X amount.
Of inventory to be able to provide the ability to react and respond to our customers.
Order today ship Tomorrow.
Zero kind of sit.
System.
So I think that's the best.
Guidance I can give you on working capital and just model that through and.
And whether that is cash flow.
Is that going to be.
And you're jumping up as much as we did in Q2 versus Q1, it's going to obviously requires some incremental working capital.
And then the other question.
I'm, sorry, I'm trying to do my best Michael Impersonation here, sometimes and I think Todd and then and it was just around the capital capital, Karen and being and sort of capital spend rate of Inc.
So capital Capex I think the plan for the year was up like $300 million or so.
And on that target for.
For the year.
And that up.
And so.
There is no incremental capex.
We did that.
For some incremental capacity investments last year because of the pandemic, we didnt need them. Those are certainly all coming back on but those are.
We operate with.
Another element of 80.20 is we want to be front end loaded on capacity and that's how we serve our customers. So.
This business continues to go forward, we'll continue to invest and stay and that sort of and increments meaningful improvement ahead of current demand, but that wouldn't be again something.
Out of the norm of what we always do and it wouldn't be something.
Some big sort of lumps coming through.
Okay.
That's clear. Thank you and then just a quick follow up on the auto OEM margins.
The point that you know after that step down sequentially in Q2.
And sort of 19 percentage level as a good baseline.
And all in the current sort of demand and cost environment and so from here they move up sort of.
Slowly given what's going on but 19 is where they should have bottomed out from now yes.
Yes, I'd say, it's a fair assumption.
We're seeing a bottom out here and I think it'll be slow recovery based on what we see today.
Slow recovery from here on out you might remember prior peak margins and auto Christmas probably 23 units and so that's.
Still a lot of volume recovery to go and Otto from from where we were then and so.
And I'd say low to mid Twenty's is certainly achievable over time.
Thank you very much.
And your final question comes from the line of Joel Test with BMO.
And Scott you Shouldnt be so hard on yourself I think you guys sound a little less annoyed by have them all of our questions are than usual.
Yeah.
And I.
And with the gloomy Gaza.
Okay.
So I have I have like 1 topic and just to 2 different angles on it 1 Kindle can you give us any sense. If you think the food industry is kind of distracted with all the consolidation that's going on and then can we have a little more color on kind of what customers are back.
Large pieces of your end markets still not really there I'm thinking like airports and cafeterias and things like that can you just give us a little more a little more detail around sort of the share gains and and where the customers are thank you.
So I don't know about this and the structure from consolidations I can tell you we're not distracted.
We're basically focused on trying.
The group to win the recovery here served the needs of our customers.
And a bit of new products and so on and so so generally I think we're seeing some real nice recovery and food faster than actually than we thought at the beginning of the year.
We're certainly seeing the benefit of staying invested in food.
And.
Yes.
And the price cost impact of food, certainly, but and obviously thats some of that relates to the fact that.
The price cost environment.
And some additional pricing.
Actions here in the second half, but free in terms of the end markets I mean, basically with food and we're back to about <unk> by the end of this year, we expected backward and 90%.
Moving to 2019 number so faster than we thought in terms of end markets, we're seeing nice pick up and.
Institutional restaurants, coming back, we mentioned restaurants being up 60% and.
In terms of stuff, that's going back a little slower I would say a service if we point to service and Europe. As an example, obviously with the significant lockdowns were still dealing with.
Over there.
Probably come back a little slower there but at.
At least through the first half we expect to see that pick up here and the second half, but generally most end markets are coming back lodging is a slower I would say and.
And transportation and transportation and Airlines Airlines Air and catering right.
For sure.
Okay, great. Thank you very much.
Percentage.
And there are no further questions at this time I'll now turn it back over to Karen.
Okay. Thanks, Adam and we appreciate you joining us this morning, and if you have any follow up questions. Please.
Please let me know.
Good day.
Thank you for participating in today.
Let's call all lines may disconnect at this time.
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