Q3 2021 Emerson Electric Co Earnings and Outlook Call
To introduce herself and cover some exciting developments within Emerson.
Thanks Pete.
Certainly have big shoes to fill as Pete mentioned I'm coming into this role from our automation solutions Finance organization and I've been with Emerson for over 13 years, I'm, certainly excited and humbled to be joining the Investor relations team. During this dynamic time for our organization I look forward to speaking with all our investors and partners very soon.
Now I would like to take a moment to highlight 2 areas of real ESG impact within Emerson first on slide 3 and keeping with environmental sustainability framework of greening of bite and with Emerson that we introduced in February our first topic is about greening by Emerson.
It is a great example of how Emerson solutions are relevant and enabling our customers' sustainability initiatives.
<unk> recently signed a multiyear agreement with pure cycle technologies, which has a novel technology and processes for fully recycling plastic number 5 polypropylene back to a clear pellet.
As some of you may know polypropylene is a common form of plastic but has not had great recycling options Emerson is serving as they're born digital automation partner going forward with initial plant project in Ohio, Georgia, and our remote operations Center in Florida now. Please join me on slide number 4.
Second topic is the greening with Emerson example, leveraging our helix innovation center in Dayton, Ohio, Emerson has collaborated with it.
Hartman of energy and their Oak Ridge National Laboratory to advance next generation H D. ACR technology, expanding the applicability of heat pump technology, redesigning refrigeration architectures to maximize efficiency and food retail and working to minimize energy use and leaks and commercial HVAC applications.
<unk> are just a few of the exciting areas of cooperation we have a number of collaborations with the department of energy and their labs.
We look forward to continuing to build these relationships and support the development of novel solutions and real sustainability roadmap going forward.
Now please turn to slide 5 and I will turn the call over to our CEO La Carson day.
Thanks, Colleen just a few words before I turn it over to Frank to go through the financial data first be thank you very much.
Golf speed and have had good luck in your new your new opportunity. We're all very excited for you.
On the hard work welcome Colleen it's great to have you here, calling in I had the opportunity to spend.
On a couple of years together and automation solutions.
Very blessed to have her join our Investor relations on getting the welcome. Thank you Mike.
To express my thanks to the leadership teams in the management and our employees globally, Florida has been a very very well executed quarter and we have a lot of energy and momentum behind us.
<unk>, which was a very exciting to see as we executed through through the last 3 months I would also like to express Mike. Thank you to our shareholders.
I had the opportunity over the last 6 months to meet many of you and I look forward to meeting more of you as I go through the <unk>.
The next part of the year, but I. Appreciate your continued confidence your challenges and of course your investments.
A few things just that are non financially related that I won't mention to the team here.
First of all our cultural work is well underway.
We will be announcing a new chief people officer. Later this month, we're all very excited about the selection process. It will be on outside higher than somebody who fundamentally we'll have the opportunity to come in here and really help us as we navigate some of the challenges and create on many of the pathways that we have as we evolve the culture.
Of of Emerson into the future secondly, our portfolio work is complete we have we are now we're getting ready to review it with the board, which will occur until October Board meeting.
Discuss briefly with the board yesterday, and we essentially what we have defined as multiple paths for our business to drive higher underlying sales growth and diversification of the portfolio. We're all very excited about the process. We underwent was very exhaustive.
And we have turned over a lot of different stones defining broad markets with high growth and lots of Optionality in terms of M&A and organic activity very exciting there I'll mentioned on the M&A from Dr. <unk>.
Our software continues to be critical as we think about share of wallet that we think about the potential for underlying growth acceleration and there are many pathways. There <unk> acquisition is performing incredibly well.
Head of our internal synergy board plants, so thats been very very well done, but what stands out to me most above all is the execution by the team. Yes, there were market tailwind and we'll talk about those particularly of the accelerated in automation solutions.
And continued across our commercial residential businesses and there are relevant but the execution was absolutely phenomenal there were a lot of hurdles to overcome through the quarter material inflation material availability. We did a lot of expediting, we have to get very creative and qualifying suppliers.
Logistics and management of of cargo around the world and of course labor availability in the United States, but the team just did.
Great job and lastly, before I turn it over to Frank the cost reset work is well underway and we're now on the tail end of the spend and were seeing despite these operational headwinds the value of that work being reflected in the incrementals on the company the operating deleverage profit leverage at <unk>.
34% with very strong there now most importantly has given us the room to accelerate investment in differentiating technologies and further that will further I think drive relevance and income.
<unk> relevance at our customer base, so very exciting headroom that is created and we started those investments and I'll share a number of those with you and we'll talk about that more as we go through the year, so with that I'll turn it over to Frank and I will speak up towards the end of the call alright. Thank you well good morning, everybody and thank you for joining us.
We're especially pleased with the results from the quarter, especially in light of the operations challenges as well.
Just described and Robert will talk about a little later in the call. If you. Please go to slide 6 so a continued recovery on our end markets combined with the benefits of the cost reset actions drove strong operating performance and financial results in the third quarter adjusted.
Adjusted EPS was $1.9.
36% from the prior year.
Demand continues to strengthen with sales coming in ahead of our expectations with underlying growth of 15% and June trailing 3 month orders were up 26%.
Automation solutions, notably turned positive this quarter in both sales and orders up 9% on sales and 17% on an underlying basis.
Commercial and residential solutions continues to experience robust demand across the business and geographies with 29% sales growth and 43% orders growth on on underlying basis.
The cost reset benefits continue to be realized as planned reading through to the margins and along with the additional volume and leverage drove adjusted segment EBIT growth 40%.
280 basis points of increased margin to 19, 6%.
Cash flow continues to be very strong with operating and free cash flow of approximately 30% year over year on free cash flow conversion exceeding 150% of net earnings.
We're continuing to implement the remaining elements of the cost reset appropriate.
In this quarter, we initiated $32 million of restructuring actions. The program is on schedule and delivering the savings as we planned.
Please turn to slide 7.
<unk> of the earnings per share increase from prior year. The operational performance was very strong. So the noteworthy thing on this chart is the Green bar operations added 33% to adjusted EPS. It was balanced between the platforms from both delivered strong profit leverage on the strength of volume increases and cost reduction benefits as well.
Mentioned on leverage was 34% across the enterprise.
<unk> currency pension stock comp netted to a <unk> <unk> headwind and there was a minor favorable impacts from share repurchase again in total adjusted EPS was $1.9 of 36%.
Please go to the next chart truck right.
So as I mentioned underlying sales was up 15% gross profit increased 90 basis points to 42, 4%.
Mainly by the benefits on the cost reduction actions and then the leverage on the volume across the enterprise, we did offset the impact of price cost headwinds, which we are beginning to see intensifying in which we will see in the next couple of quarters and we will talk about a little later in the call.
Adjusted EBIT margin was 18, 4% up 310 basis points.
Effective tax rate was 19, 2% versus 11% in the prior year.
Last year, we had several favorable discrete items, mostly around R&D credits.
We described at the time this was a 10 cent headwind year over year that we overcame that.
Adjusted EPS as mentioned on a $1.9 versus <unk> 80 last year.
Go to slide 9 please talk about earnings and cash flow.
Adjusted segment, EBIT again increased 40% margin up 280 basis points.
Leverage on volume and cost reset benefits offset material cost headwinds on the climate technologies business.
The pre tax earnings increased 350 basis points to 17, 6%.
Operating cash flow was very strong up 31% at $1.1 billion free.
Free cash flow was 977 million also up a little over 30% driven by strong earnings growth and effective working capital management.
Lastly, the trade working capital ratio improved to 15.4 percentage of sales.
Turning to slide 10.
We will look at automation solutions.
Yeah.
Underlying sales turned positive this quarter at 8% trailing 3 month orders accelerated to 17% the improvement in the Americas was particularly encouraging a notable with continued momentum in life Sciences, food and beverage and medical markets and a return to growth more broadly across the traditional process automation markets.
Sustainability related business, where.
We're seeing increasing <unk> 3 activity across on process automation customer base, mainly driven by shutdown turnaround and outage activity and opex spend.
Zero spend is returning to pre pandemic levels from pent up demand and delayed Sts.
Capex spending is recovering at a slower rate with tailwind from site based emissions on optimization optimization projects.
Platform continues to implement the comprehensive restructuring actions that have been ongoing and the benefits are flowing through to the financial results. Adjusted EBIT margin increased 320 basis points and 310 basis points of adjusted EBITDA, driven mainly by the flow through of the cost reset savings and by the volume leverage.
The integration of OSI continues to go very well, we're very pleased with the acquisition and the results to date and we have increasing confidence in the synergy plan that we have.
Backlog increased to $5.5 billion, which is up 17% year to date will talk a bit about the project funnel and other opportunities later in the call.
Turning to slide 11 will review commercial and residential solutions.
Sales were up on an underlying basis, 29% versus the prior year orders continued to be strong and very broad based on their strength of June trailing 3 month underlying orders were up 43% and it was very balanced across both climate technologies and tools and home price.
All businesses and geographies showed strong double digit growth.
Residential markets continue to be strong and growth has accelerated in cold chain and professional tools.
The Americas were up 29% with continued strength across all end markets Europe was up 37% driven by continued heat pump demand and increasing sales of professional tool <unk>.
Asia Middle Eastern Africa was up 25% driven by cold chain at various heating technologies.
Margins improved by 170 basis points of adjusted EBIT, and a 120 basis points of adjusted EBITDA driven by the strong volume leverage on the cost reset savings, which more than offset the price cost headwinds that we are seeing in the business.
Please turn to slide 12, Im going to pass this over to Rob and he is going to talk a bit about operations, what we've done in the quarter to deliver the results from some of the challenges that we face.
Thanks Frank.
Clearly as you can see our operating environment remains very challenging as commodity inflation electronic supply and labor availability continues to impact our global operations steel prices are at record highs with 11 months of consecutive increases and in our estimation have not peaked yet.
Plastic resin prices remain elevated as our global teams have maneuvered expeditiously defined alternatives to maintain supply and while copper pricing has receded off record highs. It is still up over $1.40, a pound year over year, our hedge positions lessened the impact to 2021, but the.
On an impact in terms of copper will carryover into most of 2022.
Electronics shortages are proliferating in most of our businesses impacting both platforms and supply is expected to remain constrained well into 2022 very little component inventory on microprocessor controllers linear integrated circuits are available in the open market and the number of shortages faced by our EMS.
<unk> is growing severely impacting lead times and finally labor availability continues to be an issue across many industries in the U S. On our businesses are impacted as well.
Our V shape demand recovery in many of our commercial and residential solutions businesses local competition driven by tight labor markets in many cities enrolling labor constraints as waves of Covid disruptions impact our sites has added a new level of complexity to our operational plans.
It is important to note that price cost remains at an unfavorable $75 million as we estimated last quarter no change, but we expect the maximum impact of the commodity inflation to be felt in the next 2 quarters now. Despite these challenges turning to slide 13, I'd like to highlight some of the.
Outstanding work by our global supply chain and operations teams to combat these challenges and helped deliver phenomenal operational results to date as they remain flexible creative and nimble in a dynamic environment to serve the needs of our customers. Our supply chain teams have worked tirelessly in this environment to ensure continuity of.
Material supply to our global plants as you can see on the chart. Many creative solutions are being implemented on a real time basis quickly and effectively our regional footprint both on the manufacturing side as well as supply chain that we spent many years developing has certainly been on advantage for us in these challenging times.
Many of our global plants are producing at record levels, while ramping up capacity to meet surging demand and in many cases in sourcing critical elements of the supply chain to address sudden disruptions I do want to take this opportunity to sincerely. Thank our global teams for delivering an outstanding operational quarter.
With that I'll turn it over to Laura to walk through our full year guidance and outlook.
Thank you Rob.
Let's turn now to slide 15.
We are improving our sales outlook for the year based on the continued shrinking our orders the pace of business M D.
Year to date profit performance.
We now expect underlying sales growth to be near the top of our may guidance, approximately 5% to 6% commercial residential above their range in may at 15% to 16% and automation solutions closer to the top of their range at zero to 1%.
The strong volume and improved cost base will flow through to margins. Our estimates are now 50 basis points above the previous guidance, increasing adjusted EBIT margin and adjusted EBITDA by a half of a percent from approximately 18% and 23% respectively.
No change to the restructuring tax rate capital spend our dividend.
Strong profitability and working and working capital performance enable an increase in our operating cash flow and free cash flow estimates, both of which increased by $300 million.
We are also raising our adjusted EPS guidance to $4, 7 plus or -1 penny.
Our price cost headwind for 2021 currently remains as estimated in Q2 and Ron covered at $75 million. Despite the current challenges that were highlighted.
We continue to manage this through containment selective price actions, but the recent market developments that Rob described will be a challenge through the next 2 quarters as we or as we navigate them.
Stock compensation impact increases to $125 million.
So that will go over to chart 16, and I'll just frame the <unk>.
Order environment that we've experienced through the last 3 months.
Emerson trailing 3 month orders continued to be very strong and half from momentum from the last update we gave you in the second quarter with commercial and residential solutions continuing to climb higher and their order run rates and automation solutions turned sharply positive to the high teens in June.
Commercial residential solutions continues to see strength in residential cold chain and professional tools business and all 3 very near to that to that average band of 43%.
Discrete and hybrid markets in automation solutions continue to be very strong while we see recovery in later cycle process automation markets, especially in North America.
<unk> 3 and <unk> 2 are driving most of the recovery, but we are beginning to see some <unk> activity materialized, particularly in chemicals power and bio fuels via.
The Americas really strengthened up 29% as deferred maintenance demand and site access drove momentum.
Finally, as we have commented in the past quarters Lifesciences momentum continues to be extremely strong.
Let's now turn to chart 17, and I'll review, the underlying sales growth outlook.
Q3 underlying sales were up 15% versus prior year exceeding our management expectations driven by the strength in commercial residential solutions as well as the North America recovery just discussed.
Full year expectations on underlying sales are between 5 and 6% at the top end of our prior guidance of 3 to 6 and sales of approximately $18.4 billion.
The fourth quarter is expected to land in the high single digits to low double digit range.
For the remainder of the year, we expect to see the North American business continued to recover in automation solutions as well as continued broad strength in commercial residential solutions. However, the impact of supply chain and labor issues.
Will be a challenge.
Now turning to slide 18, and I'll review our outlook by geography.
As Frank mentioned for the full year.
We're expecting automation solutions sales to be flat to 1% and commercial and residential solutions to be between 15, and 16% driving us to our overall, 5% to 6% underlying sales expectations. So starting off in the Americas.
<unk> is expected to be strong in automation solutions at approximately 20% growth.
Broad based recovery across all industries led by continued strength in discrete and increasing strength in hybrid.
Process is showing some recovery, although uneven with some strength from returning domestic oil demand offset by reduced midstream investment and continued fiscal restraint in upstream.
For <unk> 3 we expect to see continued spend for deferred maintenance and increasing spend for site access there has been pent up from the pandemic with an expectation that we will see a strong fall shutdown turnaround season.
In Latin America strength and mining industries, particularly are expected to continue.
On the commercial and residential side of the business ongoing momentum in the residential markets driven by do it yourself trends home starts and HVAC seasonality as well as strength in professional tools and cold chain I expect it to continue.
Europe will continue to see demand in life Sciences, and Biofuels on the automation side.
<unk> wins in power midstream downstream and sustainability will drive low to mid single digit growth in Q4, commercial and residential will see robust demand for heat pumps and professional tools as well as the continuation of the refrigeration market recovery in Q4.
Turning to Asia, Middle East and Africa, or Asia automation business is seeing healthy project activity in Marine nuclear life Sciences, and semiconductors, and a positive trend for site level spending in the middle East on.
On the commercial and residential side, we are seeing the commercial recovery across the region, specifically with commercial AC and cold chain solutions.
Ongoing COVID-19 restrictions continue to be a challenge across the organization, particularly in this part of the world.
Now, let's turn to COVID-19, and will review the business funnel for automation solutions.
So back in February we commented that our traditional large project funnel was $6.4 billion and this should be.
Something that is very familiar to those who those of you who watch this carefully.
Since February we have booked approximately $80 million of projects, some LNG and 1 most notably in Mexico.
New projects added include clean fuels hydrogen renewable diesels lithium mining and LNG projects, while projects were removed from the funnel since February were mostly oil and gas and downstream refining projects.
The August 2021 funnel is now valued at $6.3 billion.
And approximately 180 projects and below in the doughnut.
<unk> you can see the industry mix of our traditional funnel.
We have identified new de carbonization opportunities.
And don't generally smaller than our traditional definition of projects for our funnel classifications. These projects are increasingly relevant to our business.
Theyre being adding to this view so that because they have the potential to grow in nature over time today as depicted on the chart these opportunities that worth $400 million and approximately 120 projects.
The combination of our traditional project funnel and the new sustainability funnel is now valued at $6.7 billion and below is the combined industry mix, but we are working to diversify our funnel.
On the right side of the chart, we are introducing the business opportunities with our recent OSI acquisition, which gave us an important foothold into the transmission and distribution automation space.
These opportunities have slightly different characteristics from our traditional project funnel definition and therefore, we are keeping it separate from our discussion purposes today <unk>.
Generally these opportunities are smaller and more numerous compared to a large traditional project funnel, but theyre clearly strategically important.
The value of these of these opportunities is $1.5 billion and are made up of 530 projects to give you some perspective on the scale and how differentiated it is approximately 15% of that $1.5 billion.
The value of greater than 5 million and 50% of it is between 1 and $5 million.
<unk> is global although approximately $1 billion of it is in North America and Europe.
Overall, we have strong opportunities ahead, and I am bullish on overall project outlook, as we diversify and expand into new spaces.
Now, let's turn to chart 20. This is a very important chart and as Frank mentioned and our financial results showcase our robust cost reset plan is being incredibly well executed across the enterprise.
As a reminder, this comprehensive plan began in late 2019 and will be fully realized by 2023.
It involves over $600 million in spend and approximately $650 million in savings.
In February we also introduced on mid range targets of 24% adjusted EBITDA margins and $4.75 to $5 and adjusted EPS.
We are very much on track to reach those targets by 2023.
Importantly, however, the recent outperformance in momentum through the end of 2021 is creating some headroom for critical investments and I'm, particularly excited about this.
Particularly as I think about key technologies that will enable our business to outperform over the long term.
As you can see revenues margins and cash flow are all better than February expectations and are enabling this acceleration and technology investments.
<unk> 4 examples below it.
It will come out over the next months and in depth in February as to how we're managing and thinking about these very significant investments.
Examples outlined are the Copeland page 7 school, which is the largest new product investment in the history of our air conditioning business has seen drives obviously increased performance and meets the 2023 efficiency regulations and is optimized for 2025 refrigerants.
Greenlee remote cutters and award winning tool on the right hand side of the chart.
Which enhances safety for cutting underground cables.
The Gemini, which houses our next generation pressure and temperature device being developed.
And our measurement solutions business, which will have next generation electronics unmatched safety and process insight.
And lastly, I'll plant web optics are integrated operational performance platform, which unifies data people and systems to drive operational performance.
And with that I will turn the call over to the operator, and we'll begin the Q&A. Thank you.
We will now begin the question and answer session to ask a question you May Press Star then 1 on your telephone keypad. If you are using a speakerphone. Please pick up your handset before pressing the keys to withdraw your question. Please press Star then 2 at this time, we will pause momentarily.
<unk> to assemble our roster.
Okay.
The first question comes from Julian Mitchell with Barclays. He's got please go ahead.
Hi, good morning, and look forward to working with you clean them.
In terms of.
I suppose loudly automation solutions sort of revenue outlook.
So a lot of very good color in the slides.
It looks like the guidance is embedding sort of mid single digit type growth in the fourth quarter.
In auto so organically.
When we take your comments together in terms of a sort of stable funnel since February.
Maybe an ongoing sort of subdued oil and gas capex backdrop should we take that as a good sort of medium term or into next 12 months sort of placeholder that mid single digit type also sold growth rate.
Good morning, Julien. Thank you thanks for the question.
I think that's fair look.
The recovery has been largely fueled by by Modernizations and MRO spend across facilities. There has been as I indicated some <unk>, 1, but that's not what's going to drive us going forward.
So what I would expect as I think that conversion in.
Those 2 segments of the business into from orders into sales will continue and I think the guidance is.
I think that's a fair assumption.
Thanks, very much and then maybe switching to the margin aspect.
Maybe clarify how much of that 75 million price cost headwind sort of falls into the fourth quarter.
When we look at come raise margins in that context.
Can that business sustain sort of 20 plus percent incremental margin. The next 6 months or does it get sort of pushed below that by the price cost headwinds.
Great Great question as well Julien clearly, that's where the that's where the challenge is going to be a zone on the incrementals and commercial residential over the next 6 months.
The team is working both sides of the equation Julien.
Rice and costs, we're getting very creative in terms of the contract structures and the negotiations with our major customers.
But we also have opportunities to continue to work availability of materials sourcing from from different world areas.
Moving a few things around but that's where the biggest challenge is and I would suggest that your your assertion is correct that.
The incrementals in that business are going to be the most challenge as we go over the next 6 months.
Great. Thank you.
Okay.
The next question is from Josh Poker's Zielinski with Morgan Stanley. Please go ahead.
That got nailed there Josh.
Yeah Michael.
Pat.
Had some cliff notes on that.
I wanted to hear your voice.
Yeah.
Couple of questions I guess first on on some of the kind of extra funnel edition.
Particularly on de Carbonization nice to see that pick up I guess.
I have some more context, there if you wouldn't mind I mean on 1 hand your customers have you know some of your legacy customers are pretty big emitters.
Is there more push on those folks disorder diagnosed measured on an improving.
Or is more of the funnel that you're tracking sort of on more green technologies like you mentioned hydrogen.
Which 1 of those is showing up more on which 1 do you think can be kind of a bigger needle mover here on the medium term.
Yeah, Great question, David I think Theres, a little bit of both in the funnel I think if you look at the traditional $6.3 billion tunnel there was already embedded in that a lot of the biofuel conversions emissions monitoring.
Work, that's being done downstream, particularly in refining and other parts what's in the Green bar, what's in the new opportunities I think are <unk>.
<unk> incremental investments and those are those are.
Partially driven by things like Green Green diesel, which is basically the the.
Factoring of diesel, but using a feedstock that is a sustainable feedstock for the investments in hydrogen if you recall back in February we talked about a 1 billion dollar opportunity for hydrogen that was framed around 2030. However, as we now bring these projects into our and this is a very this is a very.
Find pursuit.
Profit that we run within the business, we now bring dosing to that pursuit and we're pursuing those to 2023 and.
And Thats the view of 4 of the $400 million I expect that to increase over time and the the number not just a number but the scale of those projects to become more and more meaningful which is why we're talking about it today, but you're absolutely right I think our core our core integrated all customers.
Upstream through the midstream and downstream they are all spending dollars incremental dollars on emission sustainability reliability productivity all around those automation to drive there too.
To their ESG commitments and that can come in and its in the frame of Av.
Convergence or of optimizing current current processes.
Got it Thats helpful. On this just on the price cost side I know.
Some of what you guys have out there, particularly income rise has some kind of pricing contracts that reset.
Reata clean maybe annually I would imagine that that puts you a bit more behind the curve. This year can you maybe talk about what just flipping the calendar flipping the fiscal year sort of sets up in terms of price cost I know Ron talked about.
Some of the hedges postponing things like copper inflation, but I think there's probably a little pent up pricing opportunity as well could you maybe kind of match up.
Those things work together.
So I'll take that.
You know from a pricing perspective, as Laura mentioned, our commercial and residential teams are working that diligently many of the pricing, particularly with the large Oems some will happen in October but many of it will happen in the June timeframe. So you will expect the pricing to kick in in a big way into our second quarter.
And that's all well underway in terms of B C.
Steel and copper pricing certainly the copper hedges will flow through through the year, we model that out on the steel side. We do expect the next 3 to 6 months to be pretty tough, but outside of that going into the second quarter. We will start seeing the better pricing on steel come through as well, so I would say from a pricing perspective.
A lot of the pricing from our perspective is modeled in the <unk> timeframe.
Okay. So after that 6 month timeframe. It is a bigger step up understood.
Great. Thanks for the color both you all guys.
Thank you.
The next question is from Andrew Open with Bank of America. Please go ahead.
Hey, guys good morning.
Good morning, Andrew Theater.
Just was wondering if you can talk about sort of internal bottlenecks.
And specifically what I'm thinking <unk>.
It seems.
Royalty HVAC is doing very well youre talking about V shaped recovery in tools do you need to add capacity at a coal plant and tools to deal with demand and how are you thinking on it.
Yes, we are clearly in a position, where we are adding capacity and we will add more capacity as we as we go through this plan.
Certainly at this point, we're fighting labor challenges in terms of short term capacity in many of our current U S locations, but we are adding capacity both in the U S as well as Mexico for both the climate technologies business as well as the tools business. So the answer is yes.
Excellent, but its not a constraint how much of a constraint as it to growth I guess.
It is not a constrained at current levels I mean outside of the labor challenges, we see but as.
We model out the long term growth dynamics of the business and certainly the regulation changes that are coming down the pike, it's important for our longer term plans.
Got you and just a follow up question.
You disclosed systems on software now can.
Can you just breakdown how much what is organic growth and.
I mean, clearly the balance would be M&A and also specifically honing in on the growth trends that you're seeing it on site power.
On the funnel is very impressive there.
So.
Frank and I mentioned in the comments, Andrew we're very pleased with the performance of OSI power.
We were actually up there for.
Growth planning session.
The earlier late late July.
So the teams are performing incredibly well.
Management, we've retained management and they're executing the plans.
And what we're seeing is actually higher than expected ability to leverage existing relationships that PWM and ovation have across a large power companies in North America, but more importantly.
The opportunity to 2 ex greatly.
Greatly geographically expanding this business on a far rate far higher rate than we expected at the time of the acquisition. So validating the technology validating the the applicability and the customer relevance has been very important for us. So we're excited there is an opportunity to to build around this business and there is the vision.
To continue to transform this into.
More of a pure software play in terms of the evolution from perpetual to subscription in terms of outsourcing services and focusing on software and looking around measures that are relevant for software businesses such as annual.
Recurring revenues and things of that sort of so we're working that very aggressively within the business.
In terms of growth rates I would suggest high single digits on the systems and solutions.
Business and I would suggest that the data management layer grew slightly above that but on average I don't have that number in front of me, but that would be based on what I have seen and heard my understanding Andrew.
Yes, sorry for a lot of follow ups on thank you for answering them.
Yeah.
Thanks, Andrew.
The next question is from Jeff Sprague with vertical research. Please go ahead.
Hey, Thank you good day everyone.
Yeah.
Hey, Hayden.
Well thanks for all the transparency on your thought process here about.
Strategic review on everything, but it is interesting I guess.
You say that you've concluded it in you will review it with the board in October.
So I suppose that suggests any idea of any large scale strategic change or something like that is not on the board or you wouldn't be sitting on that till October.
Third we should know about.
Debating a investment pipeline in a kind of an M&A pipeline and as you said kind of looking at ways to create new growth vectors and potentially diversify a bit does that is that the right read on on what you said in your opening remarks.
It's an interesting read Jeff.
I'll tell you that the M&A pipeline is evergreen, we're working a number of opportunities as we speak which are related to.
And aligned with the strategic portfolio study that we've done.
So we're very excited about those and we've been speaking to the board about those opportunities through the summer and we'll continue to do so through this month because some may they come on may come sooner rather than later that day.
Okay now in terms of the overall study look this management team believes that the path to the higher multiple.
And to the total shareholder return.
Performance is driving an increase in the underlying sales growth.
Of the company and we need to fall into this bucket of 46%. So as we look at our Optionality around but makeup. The current makeup of the portfolio and the potential to it.
Invest in new areas, that's really what this study in the portfolio a study focused on and those are really where the engagements and debates with the board will take place.
But we're walking and chewing gum at the same time, we havent stopped at.
Pursuing opportunities as a management team and as a board.
Simply because we haven't covered the details of this study with the board, but they are very much aware.
Robert.
Understood. Thank you and then just thinking about the investments it would seem like Youre certainly on.
On a pretty good glide path to kind of hit or beat those 2023 targets, but.
It sounds like you are cautioning us a little bit.
The investment spending and the bias to make sure these growth kind of beyond 2023.
Potentially tempers the upside to those targets is that is that kind of a correct perspective.
No honestly.
Patrick as generous Theres a lot of hard work to hit those targets, Jeff Bye bye everyone engaged.
And there are always obstacles in the way as we're experienced we have experienced this quarter with labor and materials as Robin Frank described that's a lot of hard work to get there and we're not taking our eye off the ball, having said that not only do we need to work the portfolio opportunities that I, just mentioned with pluses and minuses.
But we need to elevate the organic.
Investments in the organic sales growth of the company and with that we have to take.
We have to make those investments for the future. So it's it's both we have the capacity to do both we have the opportunity to do both like many businesses and we're taking full advantage of that.
Great. Thank you for that awesome color I appreciate it.
Thanks, Jeff.
The next question is from Nigel Coe with Wolfe Research. Please go ahead.
Thanks, Good morning, everyone. Thanks for the question.
So now we're getting close to that.
On train 2.
So I know you're going through the process, but you.
Given that the funnel is building here and on the activity levels and automation I'm. Just curious you know normally early phases of recovery, we see solid double digit growth in automation is there anything that's changing in terms of the profile of the front local backlog or anything that suggests that that's not going to be the case. This time.
Can we expect.
Double digit type growth in 'twenty 2 formation.
Yeah, So hi, Nigel great to hear your voice.
Very thoughtful question actually and if you go back through the last couple of growth cycles in automation.
There was an important component, which we have to watch very carefully in this in this up cycle, which is the case will be 1 element we benefited from that in the 10% to 14 run we surely benefited from that in the prior run in 18, but in this 1 it's been subdued to date and that's going to be the differentiator.
Now keep in mind.
We just underwent a significant investment in LNG.
That is being absorbed by the market that we have yet 1 big large project to go but it's that that would be the I would suggest the differentiator between the high single digits into double digit type of organic opportunity in automation solutions.
If that makes sense to you.
Alright, thanks for the color there.
And then just come in on top of Jeff's question on the portfolio and the October pool.
Ooh pitch I guess, Mike.
But given the emphasis on diversification is it fair to say that you're focusing here on more on acquisitions as opposed to disposals I know you've done a couple of smaller disposals, both in terms of net material acquisitions or disposals.
Yes, we announced the divestiture of the Daniel oil and gas business.
What I'm going to tell you it's both.
Looking at the portfolio both in terms of opportunities to acquire.
Opportunities to divest and it's a very fluid conversation, we went through it with an element of that with our board yesterday, we got their support.
It's both because to solve whether it's the equation around diversification from oil and gas and or elevate the underlying sales growth of this company, we're going to have depressed both of those buttons.
Okay. Thanks, a lot from pre event.
Great.
Yeah.
The next question is from Andy Kaplowitz with Citigroup. Please go ahead, hey, good.
Hey, guys.
Good morning, Anthony.
Well can you talk about how you're thinking about the longevity of the commercial and residential solutions cycle at this point obviously.
There has to seen relatively enduring I think you were worried a bit about residential comparisons toward the end of this year. So how are you thinking about doing residential strength as you go into 'twenty, 2 as well as the improvements you've continued to see in commercial construction cold chain and tools.
Great.
Our bar for bifurcate that into the 3 the 3 the 2 pieces declined the P 70 tools professional tools piece, obviously, the professional tools has a different cycle.
Some of it driven by the that is similar.
Net of investments that we're experiencing in <unk> would be the residential growth the do it yourself investments, which impacts on home products decided it tools, but the professional tools area. The widgets and the Green line. They are really driven by infrastructure spend capital cycles, not dissimilar to what we see.
Mid cycle automation businesses, and so those I think have sustained opportunity as we go well into 2022 on day, 1 we're watching very carefully as I look at climate is the is the air conditioning residential cycle and we're watching those orders were staying very close to our.
Our OEM customers that trains and carriers of the world in terms of communicating understanding.
They are their demands.
But for now I would expect a more subdued quarter as we go from an order perspective as we go into as we go into the fall season, but we're watching it very carefully but that would make sense in the cycle that is subdued and it comes on it we've seen you've seen in our in our trailing already that commercial residential has turned.
<unk>.
And thats, partly driven entirely driven by that residential AC business.
Rob do you have any more color to get no.
Okay, I think thats spot on.
Thanks for that guidance, and then flow you've talked about being well into your cost out program, which has been focused on automation solutions as you know and incremental margins continue to be strong. There I know you already talked about margin pressure and Cnrs, but as we look at automation solutions margin going forward given your cost out program should continue to drive margin.
When could you continue to generate average or better than average incremental margin for that business you know in 'twenty 2 and beyond.
I think so Andy we printed 41% incrementals in that in that platform this quarter.
And the team has begun their significant investments around their technology and people there.
Their business is structurally different than the business that I.
That I could call on in 2018 today in the way it goes about and the way it manages and the way it approaches customers. So there's a lot of room there on the target I have given the businesses. Obviously is 30, 30% incrementals, but as we ramp up investments and such we May I think we're likely to see higher than than those types of numbers as we go forward.
I appreciate it well.
Thanks, Andrew.
And I think on our next question is from Scott Davis, Scott are you there.
I'm here, yes, good good morning, guys.
Hey, Scott.
Yeah.
No I don't know, if if we messed up or whatever but.
A couple of clear clarification issues, just just low when you think about kind of price cost in your backlog do you get to.
Parity number.
The calendar for Q.
I'm just trying to think about how cadences in.
Or if you're still kind of fighting that headwind well into the next fiscal year.
Yeah. It does bleed it does bleed into the next fiscal Ron described the next 2 quarters as being the most challenging on which is right. So that parity. It really arrives in our first fiscal excuse me our first calendar 'twenty 2 so on second fiscal 'twenty channel.
Okay, sorry, if you said it before I just didn't hear it.
And then.
And then again to clarify on the cost reduction actions and you just had a big Board review is that largely complete or are there.
And can you.
Do you need to start going the other direction I suppose which.
Think Andrew asked that question about adding capex as such but do you need to actually start spending more money just given the size of the backlog.
Overall.
No.
I think Rob answered that.
Well I think we're looking at our.
Optionality around capacity increases in the in the existing footprint and in the footprint that.
That we have initiated as part of the cost reset plan, we have operations in construction.
Of significant size in India in Mexico, and in Eastern Europe, and all of those are underway. Some will begin production later this year others. In early 2022. So we feel really good the challenge for US Scott, which is not is thematic or honestly and not dissimilar from anyone out there is the labor availability in the United States.
And to me that's the biggest single constraint.
And what we're fighting on a daily basis across most of our facilities.
Yeah that makes sense. Thank you for the clarification good luck.
Thanks, Scott and Chris Theater voice.
The next question is from Steve touched on with Deep P. Morgan JP Morgan sorry.
Thanks, Steve.
Steve you got a new name and a new company.
Yeah.
Steve.
Right.
Steve.
Yes.
It looks like we may have lost Steve.
We can move on to the next the next call.
Next question.
It looks like our next question is from Deane Dray Deane are you with US, yes, I am I am I Miss that whole introduction too. So that's the reason for the delay sorry about that.
Oh, Hey, Hey.
Hey, good morning, so paint on the 16th the whole 3 month underlying orders on can.
Can you give us some color on July because it looks like automation solutions is pivoting to growth and just any kind of color on July would be helpful. There.
I don't have a number to share with you Deane, but I would tell you I think that's I think excuse me somebody came on the line here.
That is a fair a fair assumption, we continue to see increased momentum in automation solutions, obviously, we're watching.
Watching parts of the world carefully, particularly southeast Asia, and India, but in on.
In our large significant markets Europe, North America, and China, We continue to see good order momentum.
Driven by <unk>, an kao victory.
Got it and then a second question its been really good color on the call here, especially in the portion from ROM on the the focus on.
The cost inputs labor commodities et cetera, but not as much focus on price realization can you give us for the 2 segments more color on pricing and I know 1 of the headwinds on commercial and residential solutions on a like Copeland as long.
Into longer term contracts, so just price realization color would be helpful. Here.
Yes, so first off I'll answer that question with as it relates to automation automation has been green on price cost and it has been very very disciplined and getting price. This year and that dynamic will continue into next year. So we see no issues as it relates to price or price cost on the automation side of the business.
And on.
On the commercial and residential side, particularly in the climate business the price realization, which is a function of our long term OEM contracts will start unlocking in the January timeframe of significance that we do have pricing that will go into effect in October, but the big impact we will start to see.
<unk> in the second quarter of fiscal 'twenty, 2 which in turn on.
Assuming that commodities start softening, we'll turn them into the green category into the second quarter of next year. So that's how we see it a lot.
Rides on our contracts, which open up in the <unk> timeframe.
Got it so you said second quarter fiscal next year, but in answering the earlier question. It sounded like you would be at parity in the first fiscal quarter or did I Miss the eye on.
<unk> corrected Microsoft Theyre, Deanna and I did say to check in the second quarter versus Calvin.
Good day, thank you.
Yes, Sir.
The next question is from Steve Tusa with J P. Morgan. Please go ahead.
Yeah.
Good morning can hear me now yeah.
Yeah.
Sorry, you guys usually have the call on the afternoon. So I sleep in these days so on balance.
I fell asleep there for a second during the Q&A.
Just to clarify some of this price cost of what what was price cost in the quarter and then what.
What has it been just remind us on what that's been year to date.
So thank you got therefore.
I mean price cost in the quarter total enterprise paid business, Frank Hi is.
Roughly about negative 50.
So we were positive in the first half.
We'll see that intensify in the force in the first quarter's growth Londonwide upset and we're going to have to work through that.
Right through the second quarter of next fiscal year, but it was on order of magnitude around $70 million in the third.
About negative of negative net negative.
Yes.
Yeah, so yeah, so you're right on.
From a few residential.
Right, so youre like absorbing a pretty decent amount this quarter already and you're on.
Yeah.
Okay.
Net platform.
Just kind of maybe just trying to make that clear.
Allow the just on the on the.
Go forward incremental margins I mean.
You kind of throw out we need to invest I mean every company needs to invest nobody underinvestment in some companies do but it doesn't seem like that way for a for you guys over time, what what is kind of the normal incremental margin on that mid single digit growth rate that you can expect out of this business model over the next day now that you would expect then you would be comfortable.
With over the intermediate term yeah.
Yeah, you know, Steve I continue to assert that 30% number as we go through the long term.
Youll see thats flux up and down but that's that's the target and as we executed the cost reset plan that's how.
How we frame that with the businesses there'll be there'll be quarters as we saw with automation, we will print higher than 40, and there'll be quarters as we sell a commercial residential that would print forward then.
On <unk>, so it will flux, but 30 is the way I'm thinking about it.
Got it and then just 1 last day nitpicky, 1 on stock comp is obviously up massively this year I know that there is historically like every few years theres like a I don't know if that's where the reset is or if it's somewhere else maybe incorporate.
It is $2.35 kind of a run rate number for stock comp going forward or does that.
The prior 2 years, where we're in the low hundreds or is that does that reset lower Steve definitely not as you know.
Mark to market, driven it's driven almost entirely a function of the change in the stock price.
The dip in the stock price last year related to Covid. We've got good stock price performance. This year at a big Delta year over year, but no that is not that is not a run rate that should be expected to $2.50 range. It's a it's more like a $1.50 to $1.70 number give or take.
From a road okay.
John.
Got it so tailwind and then sorry, 1 last 1.
The orders conversion I know there was a there was an earlier question about mid single digit growth in the fourth quarter.
On Youre coming off of a 17% orders comp and I know that orders don't completely.
Completely equal revenue.
The immediate term, but I mean with that kind of orders a projection.
And what do you guys talking about turnarounds being good in the fall I mean, what why would organic growth slow in automation solutions. It's a it's a tougher comp, but it's only a couple of hundred basis points, whereas the orders or just you know obviously inflected so I mean.
Why would that go from 8% to like 5% at the midpoint of that guidance.
Is there something about timing or.
Is that just conservatism around.
Covid or whatever well less so COVID-19 more so the the availability of materials, particularly electronics, Steve that are.
A challenge in that business and I think as we guided at automation solutions within that band I think it's.
There's momentum on the order side. The question is can we convert.
In the plants and it is a it is a a hand to hand combat I can't emphasize that enough in terms of material arriving in our ability to have the labor to convert it.
It's and that is what keeps me a little bit more guarded in terms of the net order to sale conversion in the fourth quarter.
Right and that's kind of like a couple of hundred million dollars difference you think in kind of your ability to fulfill.
Yeah.
Yeah.
I really don't know what it is it's probably around the 75 to 100 million dollar range.
Yeah, Okay, I'm still doesn't quite bridged the gap, but that's that's helpful. Alright, Thanks, guys I appreciate it.
Thank you.
The next question is from bottom corner with Cowen. Please go ahead.
I got them.
Okay. Thank you I appreciate it.
Question I.
I had a couple.
First just.
Fiscal 'twenty 2 based on your comments on the project funnel in auto So are you thinking that the <unk> 3 mix.
<unk> pretty similar to what it was and.
In fiscal 'twenty, 1 as a percentage of sales and what is that.
Yeah. So the funnel I think I think the funnel.
As shown resiliency as we've gone through the last 6 months or so at staying at that fixed level that makeup of it obviously is different smaller projects different types of projects that we've seen in our from our customer base, having said that it's all about.
On the movement from right to left the ability to convert.
The projects to be funded and then to be action and that's what we've got to watch it could be a differentiating element as we head into 2022 for automation solutions I have a high degree of confidence got them that the transmission distribution funnel moves forward aggressively, but the renewables are sustainable de carbonization and part of the funnel.
<unk> successfully.
On the conversions the biofuels the Greenfield investments.
Propylene plastic renewables that Colleen described move forward aggressively what I've got to watch very carefully is the large are.
<unk> LNG jobs that 1 big remaining on the Qatar non fuel expense here, how does that move and how did those folks think about the funding of that and as it moves forward, but that would be differentiating into 2022.
And got them if you're if you were asking about the Kobe 3 mix. In addition to the final items high Fifty's.
And we expect to operate at that range for the next several quarters probably into the low sixties into 2022.
Okay, that's very helpful.
And as a follow up to 1 of the earlier questions on CNR Ras in aggregate next year do you think the business grows organically just given.
Kind of the outsized strength that we've seen this fiscal.
Yeah.
I believe so got Tim and what we're going to and you've seen in the in the numbers today is that the backlog situation across the businesses at $1.1 billion and that's what that's the impetus to drive the organic growth. Despite what happens in the residential AC cycle.
And that will support the organic growth in the business for 22 on the longevity of our commercial businesses as well.
Okay.
Okay last question on just your comments on M&A and portfolio.
Any any change to how much we should earmark for M&A in our models over the next couple of interest and it will come out on that.
Yeah, we'll come out with guidance as we think about things obviously as I mentioned early got them, where we are.
Our funnel is very fluid right now and there's a number of activities underway.
And so but we'll give you some kind of guidance as we go into anyways would come out in November.
Said differently are there any large properties bigger than the OSI.
Net that you guys are looking at.
Thank you.
Yeah.
Yeah. There is a range I would suggest that we're looking more on the larger than we are in the ballpark right now on Gautam.
Yeah.
Okay. Thank you very much I appreciate it.
Yeah.
Our final questioner today is John Walsh with credit Suisse.
Please go ahead.
Oh, hi, good morning, and thanks for taking the questions.
Hi, John Hey, John Hey, John.
A lot of ground covered but maybe thinking about OSI power and your customers. There I mean, we picked up that there is some activity you know in Spain and in a couple of states in the U S.
Are you seeing the customers waiting for more clarity around stimulus before they're going ahead with projects or is there just enough demand there given where renewable sit on the grid that theyre moving forward. These projects and there's there's no kind of delay caused by who's gonna who's going to pay.
For it no I think it's I think it's the latter absolutely.
Aging infrastructure advent of renewables on to the grid that are causing all kinds of of challenges. There just strong underlying drivers that I think overwhelm the need for a for stimulus spend there so infrastructure bill and particularly in the United States will help.
No doubt about it and we will benefit but there is incredibly strong underlying demand as is.
In the traditional utilities, particularly in Western Europe, and North America.
Great and then maybe just circling back to an earlier question around kind of supply chain in backlog.
Did you grow backlog your sequential backlog growth was that kind of day.
Demand driven or do you think there was some plot some supply chain stuff that you know you wouldn't have been able to ship and that's why you were able to grow backlog just trying to understand if there's some delayed sales are deferred sales.
From there because of supply chain.
I think the answer is both certainly on many parts of the automation solutions business on some income raised the demand side was very strong and.
On both platforms, we were not able to fully execute elements of the backlog given the constraints on labor primarily on the commercial side on electronic supply on the automation side. So the backlog growth was driven by both fronts supply and demand.
Great. Thanks for taking the questions.
Excellent John Thank you.
Thank you.
This concludes our question and answer session I would now.
Mike to turn the conference back over to Lal Carson bi for any closing remarks well. Thank.
Thank you very much. Thank you everyone for your time and confidence in us. So we're excited about the quarter ahead and.
And I look forward to seeing many of you as we go through the next 3 months.
And until our next call stay healthy and safe and and stay well. Thank you.
Yeah.
The conference has now concluded you mean, thank you for attending today's presentation you may now disconnect.