Q3 2021 Xylem Inc Earnings Call

Welcome to the Xylem third quarter 2021 earnings conference call. At this time, all participants have been placed in a listen only mode and the floor will be opened for your questions. Following the presentation. It feels like that question at that time. Please press star one on your telephone keypad.

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Leah if you should require operator assistance. Please press star Zero I would now like to turn the call over to Matt Latino Vice President of Investor Relations.

Thank you Ashley good morning, everyone and welcome to Xylem third quarter earnings Conference call.

With me today are Chief Executive Officer, Patrick Decker, and Chief Financial Officer Sandy Rowland.

Tony <unk>, our chief supply chain Officer is also joining today's call.

They will provide their perspective on xylem third quarter results and our outlook.

Following our prepared remarks, we will address questions related to the information covered on the call.

You. Please keep to one question and a follow up.

And then return to the queue.

As a reminder, this call and our webcast are accompanied by a slide presentation available in the investors section of our website.

At Www Dot xylem dot com.

A replay of today's call will be available until midnight on November nine.

A telephone replay will be available at one 880, 3987 O seven or one 400 222.

So <unk>.

Additionally, the call will be available for playback via the investors section of our website under the heading investor about.

Please turn to slide two.

We will make some forward looking statements on today's call, including references to future events or developments that we anticipate will or may occur in the future.

All references will be on an organic or adjusted basis, unless otherwise indicated.

These statements are subject to future risks and uncertainties such as those factors described in <unk>. Most recent annual report on Form 10-K and in subsequent reports filed with the SEC, including in our Form 10-Q to report results for the period ending September 32021.

Please note that the company undertakes no obligation to update forward looking statements publicly to reflect subsequent events or circumstances.

Actual events or results could differ materially from those anticipated.

In the appendix. We have also provided you with a summary of our key performance metrics, including both GAAP and non-GAAP metrics for purposes of today's call. All references will be on an organic and adjusted basis unless otherwise indicated.

Non-GAAP financials have been reconciled for you and are in the appendix of the presentation now please turn to slide three and I'll turn the call over to our CEO Patrick Decker.

Thanks, Matt Good morning, everyone and thank you for joining.

Joining us.

I know youll have seen that the team delivered a solid third quarter performance with earnings and margins above our expectations.

The fast pace of orders growth that we saw in the first half of the year has continued with orders up 20% in the quarter driving our backlog up 34%.

That commercial momentum reflects strong underlying demand for our solutions, which continues to be robust in all segments markets and geographies.

Nevertheless, supply driven constraints on volume slowed the conversion of orders to revenue.

A month ago, we indicated a probable $100 million impact on full year revenue driven by the global supply chain environment.

The continuing shortage of electronic components, especially microcontrollers and other chips.

Particularly affecting players with large digital solution businesses like xylem.

So we're reflecting those ongoing challenges in our full year view.

Having raised guidance at the end of the first and second quarters. We now anticipate that the constraints on volume will moderate our full year revenue growth to between 3% and 4% and.

And bring adjusted earnings per share into a range of $2 40.

So $2 50.

Which represents roughly 20% EPS growth over last year.

The growth in orders in EPS reflects the privileged position we're in.

Macro trends in our sector are driving durable and increasing demand for sustainable digital water solutions.

And the team is executing on a clear strategy to drive above market growth and expand margins as our portfolio continues to digitize.

This quarter has been a vivid demonstration of those trends.

The team has also shown its ability to capture that demand, while showing real discipline on costs.

Still given the impact that supply headwinds are having on volume will provide some additional color on what we're seeing and how the team is addressing those conditions.

I've invited Tony <unk>, our chief supply chain officer to join Us on the call today.

But first let me hand over to Sandy to look at the third quarter in more detail and then we will turn to a discussion of the market landscape that we see through the end of the year Sandy already.

Thank you Patrick please turn to slide four and I'll cover our Q3 results in more detail.

Revenue grew 2% organically compared to the prior year.

<unk>, our largest end market was down 5% despite continuing strong demand.

Decline was driven by supply chain impacts on our conversion, especially chip shortage shortages slowing MMC ask deliveries.

Industrial was up 11% led by continued growth in emerging markets and Western Europe.

10% led by the ongoing recovery in the United States.

Residential our smallest end market was up 4%.

Graphically emerging markets was up high single digits with particular strength in Eastern Europe, and Latin America, Western Europe was up mid single digits, while the U S declined modestly.

As Patrick mentioned the team delivered exceptional organic orders growth of 20%.

Broad based across all segments and regions.

Year to date order volume is higher at this point of the year below any previous year.

Great.

And then she has slumped well with nearly 40%, 42% orders growth driven by large smart metering contract wins.

Impact on longer lead times, and pent up demand from a COVID-19 impacted prior year.

We're exiting the quarter with an overall backlog up 34%.

And as expected we are seeing positive momentum on price realization, which will continue ramping through Q4 and into 2022.

Other key financial metrics margins were above our forecasted range with EBITDA margins coming all of 17, 9%, reflecting strong productivity and good cost control by the team.

Year over year, EBITDA margin contracted 30 basis points as inflation.

<unk> investments were largely offset by productivity price realization and cost containment.

Earnings per share in the quarter was <unk> 63.

Please turn to slide five and I'll review, our segment performance for the quarter.

And water infrastructure orders were up 9% on strength in the wastewater transport applications in the U S and Western Europe.

Revenues were up 2% organically.

Wastewater utilities with or modestly mostly due to delays in ocean shipping.

Industrial demand was broad based across all regions.

Regionally emerging markets delivered high single digit growth led by increasing industrial dewatering activity.

Western Europe was also up driven by resilient wastewater opex spending and recovery in industrial applications.

Can you walk us down modestly due to the shipping delays I just mentioned.

EBITA margin expanded over the prior year strong productivity savings price realization and volume leverage more than offset inflation and investments.

Please turn to slide six.

In applied water orders were up 17% organically in the quarter on broad industrial strength and commercial recovery.

Revenue grew 8% in the quarter from continued commercial momentum in industrial growth in most regions.

Residential growth moderated slightly due to volume constraints.

Geographically the U S and Western Europe, both contributed 6% growth due to the uplift from commercial and industrial.

Emerging markets were up 13% on continued strength in China and things in Eastern Europe.

Segment, EBITDA margin contracted 60 basis points compared to the prior year as inflation and investments more than offset productivity benefits and price realization.

And now please turn to slide seven and I'll cover our measurement and control solutions segment.

And Mcs orders were up 42% organically as I mentioned a moment ago.

Our Mcs backlog now stands at roughly $1 6 billion.

<unk> pipeline remains very active as customer demand for advanced digital technologies accelerates.

Organic revenue was down 5%, which is a tangible effect of chip shortages.

Water applications were down modestly as growth in our test and assessment services businesses, largely offset lower sales from smart metering.

Digital composition of metrology portfolio, it has a greater exposure to chip shortages.

By geography, Western Europe was up 1%, while emerging markets were flat.

The us was down mid single digits.

Segment EBITDA margin in the quarter was down 60 basis points compared to the prior year as volume declines from component shortages and higher inflation offset productivity and price realization.

And now, let's turn to slide eight for an overview of cash flows and the company's financial position.

Our financial position continues to be very strong we closed the quarter with $1 3 billion in cash after paying down $600 million of debt in the third quarter.

Free cash flow conversion was 57% in the quarter in line with our expectations and we continue to expect full year free cash flow conversion of 80% to 90%.

Net debt to EBITDA leverage was one three times at the end of the quarter.

And now please turn to slide nine and I'll turn the call back over to Patrick.

Thanks, Andy.

Team has clearly done a great job delivering a solid quarters earnings in difficult circumstances.

I wanted to give a special shout out to ourselves service and supply chain teams.

<unk> been calling out all the stops to care for our customers. Despite the unusual challenges.

Let's turn to the quarter now and look forward.

Since the supply chain environment has everybody's attention, we won't provide more detail on what we're seeing and the actions we've been taking so I've asked Tony <unk>, our chief supply chain officer to walk us through that Tony over to you.

Thank you Patrick.

I'm sure. Many of you are already familiar with the various dimensions of stress in the supply chain across all sectors.

Tyrol shortages are having at least some effect on each of our segments with particular challenges in Microcontrollers and other chips in.

In addition, logistics times have continued to lengthen and carry reliability is at an all time low.

We're also seeing labor tightness in markets, where we have significant manufacturing, particularly in the U S.

Of course, all of this has contributed to inflation across commodities logistics and labor.

We're managing the challenges with both short term mitigation and longer term actions.

In the short term, we're committing freight with carriers nearly two months further ahead than usual.

We're using SaaS, both options to gain access to smaller ports and thus improve lead times and we've accelerated value engineering and dual sourcing.

To create more resilience beyond that we're working directly with our technology manufacturers to firm up allocations well into 2022 and beyond.

We have dedicated teams to accelerate product redesign rounds.

Around components that are unavailable or nearing end of life.

And we're taking advantage of this opportunity to take strategic actions around SKU rationalization.

One more thing dimension, albeit with a slightly greater time horizon theres been a lot of discussion about cross border supply chain.

Our developed markets largely dependent on global supply chains.

We have seen is that in several cases, the current challenges aren't hitting our emerging markets nearly as hard simply because we have well established localization strategies there.

That point, we will continue to drive our strategy of making where we sell always evaluating the benefit shortening domestic supply chain.

Patrick that's the overview of course I'm happy to go into more detail, but perhaps in response to questions when we get to Q&A.

Thank you Tony.

Now turning from supply to demand.

Essentially the opposite story.

Bidding pipelines are very active.

Orders for pace continues to be brisk, and we are not seeing project cancellations.

We're staying as close to our customers as we are to our suppliers and doing everything we can to keep them serve and in turn to help them serve their communities.

Just last week, we had about 500 of our customers join us at our annual Xylem reached user conference.

These are utility operators, who are at the forefront of digitizing their networks with AMRI and advanced analytics.

What we continue to hear from them is that the value they're getting from these technology deployment continues to grow.

In the short term supply constraints are top of mind for nearly all of them.

And from their vantage point Theyre seeing the same challenges industry wide.

So they are being patient and staying as flexible as possible.

On longer term demand the trends driving the water sector are more durable than the causes of the day supply headwinds.

One example is the growing market for sustainable solutions.

A month ago, we announced the island's commitment to net zero greenhouse gas emissions and to science based targets.

Over the next two weeks the water sector will be turning out in force at the Cop 26 climate conference in Glasgow to encourage utilities around the world to do the same.

Xylem be sharing platform at the top of the utility leader as they call on their peers to also make net zero commitments with the aim of decarbonising the entire sector.

More than 65 water utilities around the world have already done so.

And it's a movement that is gaining momentum.

Which is just one reflection of the trend toward technologies that affordably decarbonize water systems.

Turning back to the near term drivers in our end markets I'm going to hand, it back over to sandy to share some detail on what we're seeing and lay out our guidance for the balance of the year.

Thanks, Patrick.

Full year outlook for our end markets remains largely consistent with our view from last quarter with the exception of utilities.

And utilities underlying demand for our technology is continues to be very strong in both wastewater and clean water, but in the immediate term, we expect growth will come down from a range of mid to high single digits to flat.

On the wastewater side, we have seen steady performance in western Europe, and resilient utility Opex and continued growth in emerging markets as a result of large capital projects and our localization efforts there.

What are the rates remained solid in the U S. But revenue growth is challenged by constraints on volume.

On the clean water side demand for smart water solutions and digital offerings continues to be robust however, consistent with our earlier commentary the impact of the chip shortage is particularly acute in the clean water end market.

And now please turn to slide 11.

Looking at the industrial end market, we continue to anticipate growing in the high single digits.

The growth is broad based with rebounding industrial activity across all segments and most regions.

We're seeing healthy demand in our industrial dewatering business in emerging markets as well as share gains with Oems.

And the impact of the new product introductions in Western Europe.

We're also seeing continuing strength in marine and food and beverage driven by ongoing recovery in outdoor recreation and hospitality sector.

We're also maintaining our high to mid single digit outlook and the commercial end market.

U S business continues to recover at a brisk pace as new commercial buildings begins to ramp and key leading indicators reflect optimism a continuing recovery in the institutional sector.

Sustained growth in Western Europe, and China is coming from new product introductions and energy efficiency mandates.

And residential we're maintaining our expectations of low teens growth for the full year on strength of backlog and continued market momentum.

Now, let's turn to slide 12, and I'll walk you through our updated guidance.

For xylem overall, we now see full year organic revenue growth in the range of 3% to 4%.

Down from the previous range of 6% to 8%.

This reflects the adverse effects of chip shortages and other supply chain disruptions.

This revenue guidance breaks down by segment as follows for water infrastructure, we maintain our expectations of mid single digit growth.

We expect high single digit growth in applied water down from low double digits.

And in measurement and control solutions, we now expect to be down mid single digits, rather than up mid single digits.

We are now expecting EBITDA margins in the range of 17, 1% to 17, 4% compared to our previous guidance range of 17, two to 17, 7%.

This guidance represents full year margin expansion of roughly 100 basis points.

Our adjusted EPS guidance is now $2 40 to $2 50.

Which at the midpoint reflects a 19% increase in EPS over last year.

Full year 2021 free cash flow conversion is in line with previous guidance at 80% to 90%.

Three year average right around 130%.

We've provided you with a number of other full year assumptions to supplement your model.

Those assumptions are largely unchanged from our original guidance.

We have updated our euro to dollar conversion rate assumptions for the fourth quarter from one <unk> to $1, one six and as you know foreign exchange can be volatile. So we've included our typical foreign exchange sensitivity table in the appendix.

Now before wrapping up let me share some thoughts on our fourth quarter outlook.

We anticipate total company organic revenue will be down roughly 4% to 6% in the quarter.

This includes flattish growth in water infrastructure, and applied water and Mcf down high teens.

We expect fourth quarter, adjusted EBITDA margin to be in the range of 16% to 17%.

And with that please turn to slide 13, and I'll turn the call back over to Patrick for closing comments.

Thanks Sandy.

Just in the last couple of days, we've been recognizing xylem 10 year anniversary.

The xylem ticker started trading a decade ago, when the company spun out of ITT.

Some of you have been with us since the very beginning.

And I want to say, thank you for your confidence in us.

10 years ago, it wasn't nearly as obvious to the market that water was an investable thesis.

Much less than it was about to become a growth sector.

Our anniversary has been a reminder to reflect on how much progress we've made.

I genuinely believe our team has created something special.

And along the way, we've been creating a lot of value.

Xylem is total shareholder returns have been nearly double the S&P 500 over the decade.

But what's most exciting to us are the opportunities that lie ahead.

The immediate challenges around supply chain or a good reminder, that growth rarely happens in a straight line.

But the trends driving demand in the water sector are only intensifying.

And we're strongly positioned on those trends.

We have an outstanding.

Purpose driven team that is passionate about solving the world's water challenges.

We build technology leadership on the foundation of a durable business model.

We're benefiting from the growing market for sustainable solutions.

And we are driving growth and margin expansion on the back of Digitization.

All of which underpins our commitment to the growth framework that we laid out last month at our Investor day.

So I am confident that our current market momentum will carry us strongly into 2022 and beyond and keep us on pace to deliver our 2025 strategic and financial milestones.

Now, let's turn the call over to you and we're happy to take any questions. You may have operator, please lead us into Q&A.

The floor is now open for your questions. At this time, if you have a question or comment. Please press star one on your telephone keypad. If at any point. Your question has been answered you may remove yourself from the queue by pressing the pound key again, we do ask that you. Please proceed with your question to pick up your handset to provide sound of.

Optimal sound quality.

Thank you. Please ask one question and the short follow up and then reenter the queue. We will take our first question from Scott Davis with Melius Research. Please go ahead.

Good morning, everybody.

Thanks, Scott Good morning, how are you doing good morning, Scott good morning.

Third it's a busy day here, but.

Chip shortage.

Are not unique to you guys, but can you help us understand particularly with Tony on the line here I mean, how does this work.

Do you know when Youre getting ships.

Visibility around deliveries.

Sure.

Do we get a bunch of them in in January and then you are able to make deliveries in <unk>.

Jeremy.

Help us understand a little bit about how.

How do you think about.

When you get chips, and when you can actually and visibility around that.

Sure I mean, we are we.

We deal with our contract manufacturers and our electronic suppliers, we give them forecast.

And it's very it's very similar to way we deal with all of our materials, we provide forecast in advance.

We're committing forecasts out.

12, 24 month horizon, depending on the component.

So it's not very different than anything else, we do in terms of how we get supply in <unk>.

No more complicated than that.

I think I think the Scott.

Scott to your question also.

How quickly will the snapback.

And Tony maybe you can comment on that because we don't see this being all of a sudden to your question Scott in the month of January a bunch of ships chip show up.

And the problem is resolved, it's going to be it's going to be a better duration here as we work through the constraints, but Tony you want to comment on that yeah, absolutely no. So theres a number of industries that are all clamoring as you guys know from for the constraints, whether it's industrial or automotive or the personal electronics industry. So we're all looking for the same things and so we.

We are working very closely with our contract manufacturers and directly with our technology manufacturers the idms to make sure that they understand our demand in Europe.

They are committed to and we're looking to get those in over the course of the next 12 to 24 months and so we anticipate it to get better we don't know when that's going to get better but it will certainly.

We certainly do expect to get better as we move into next year and I think I think Scott there are a number of people that are out there right now that are prognosticating on when this is going to get resolved and there are different views across the board. What we're trying to do is to give you a very balanced responsible view because there still is uncertainty.

And Tony and the team are working their backsides off to make sure that we get hopefully more than our fair share of allocation of the chips and again, we'll know more about that as we come back around.

In our Q4 earnings call.

And when you Miss a shipment to a customer.

I presume that moves into backlog at that point or are there or at that point does that.

As a customer of the right to cancel and perhaps it goes to somebody else or the lost revenue risk.

Mechanically help us understand that yes, Scott so yes, we have.

We've not seen any project to order cancellations.

Things are moving to the right.

<unk>.

The.

The reality is our.

Our competitors are dealing with the same issues.

And as I mentioned in my prepared remarks.

Customers are being patient.

Because youre seeing this as an industry wide issue.

And when you think about the criticality of.

Of what we do here for especially utilities.

It's a comment I made about our reach user conference. We had a lot of really good feedback from again more than 500 attendees there.

And they understand the situation so things move to the right.

And.

I mean do they have the right in some cases to cancel certainly but they don't have I don't have other alternatives right now to go for.

Good luck. Thank you.

Thank you Scott Thanks, Scott.

And we'll take our next question from Andy Kaplowitz with Citigroup. Please go ahead.

Good morning, guys.

Good morning, how are you doing.

Good maybe you can just give us more color on overall, how youre thinking about getting ahead of cost pricing productivity I know you've previously mentioned you'd raise price a number of times do you think you can get ahead of inflation logistics costs as you turn the calendar 'twenty, two with pricing and productivity.

Yes, good morning, Andy Let me give you a little a little bit of color first of all we are seeing the price realization come through as we expected. So we expect to start seeing that kicked up in Q3 as we worked through some of the backlog of earlier orders and we would expect to me.

You expect that momentum to continue to accelerate into Q4 and into 2022, new and a look at where we stood in the third quarter. If you look at price and material and freight costs as a basket when neutral and as we move into Q4, we expect that will be modestly.

Positive.

Got it thanks for that and then I wanted to follow up on Tony's prepared remarks, where he mentioned that xylem is better positioned in emerging markets. Because it is very local for local supply chain, whereas in developed markets, maybe a little more of a global supply chain. So could you give us a little more color on what can be done to improve localization in developed markets does that mean, a ramp up of <unk>.

Desman here in the U S. For example.

No Andy Good morning, Andy So first of all.

Our underlying strategy is to make where we sell so while in emerging markets, where we're highly localized there.

Pretty substantially localized.

Also in Europe, and in the U S from a manufacturing perspective.

But we will continue to move.

In that direction to bring local supply to those regions, where the business case makes sense. So we.

We are less localized in the U S and in Europe.

But were still substantially supporting those regions by in region supply chain basically and there is there's definitely not a you should not expect any to see any significant uptick in either opex or capex to address localization in the U S.

This is not a material thing.

More working with our suppliers and our and our third party manufacturers to have them work with us to to move that.

On accelerated basis.

I appreciate it guys.

Thank you.

Well take our next question from Deane Dray with RBC capital markets. Please go ahead.

Thank you and good morning, everyone.

Hey, good morning, Dan Good morning, it sounds like the supply chain conditions have worsened.

This is true sector wide so no surprises there.

But since your analyst day.

Month ago, you add size of 100 million that you thought would of revenues that would be pushed some into <unk>.

And some into 2022.

Where does that stand just your best.

Calculation, how much did it end up getting pushed it sounded like it was more than 100.

Yeah, Deane I think let me size it size it up I think 30 days ago, we thought that we would have somewhere between $35 million and $40 million impact in the third quarter, we saw about 50 $50 million impact in the third quarter.

About half of that was related to chip shortages and the other half related to sort of other supply chain delays.

Things tightened, we publicized Q4 right around $120 million.

And the greatest impact will be.

Again on the chip chip size and Thats why you see the guide in our Mcs business.

Down in Q4 quite a bit.

Alright that makes sense.

And if you just step back it really does sound like the meter side of your business is most impacted because that does have exposure to semiconductor. So if you think about the shortfall how much of that is centered in your meter business.

When I look at Q3, and Q4 combined I'd say about 65% of the impact is in our metrology business and the large majority of that impact gain in Q4 is the metrology business and.

And again, that's again, it's not a demand issue. So it's simply shifting to the right and something I don't think we shared in our prepared remarks, but it's important I think for everyone to see is when you look at the weather.

Whether it be the issues around.

Getting access to chips, whether it be the port delays the logistics challenges the margin on our backlog.

Which has shifted to the right.

Is equally attractive as we had laid out at Investor day.

And so we're not we're not giving up margins to chase volume here.

And that's where I think the partnership with our customers has been really really important.

That's helpful and then how about just to stay on that backlog margin thought for a moment are you doing any like partial assemblies.

We're hearing of companies that are just lining up parcel.

Nearly completed products in the hallways and so forth and the reason it.

This is important is when you do end up shipping those.

And our following quarter, you've already Expensed, a portion of that assembly and labor and so forth. So it actually goes out with decent margins.

But just are you doing partial assemblies, and where does that stand.

Yeah, Hi, Deane this is Tony.

We absolutely are you will you would see our inventory ticked up a bit.

And part of that as a result of parts coming in being rescheduled, but also pre builds with waiting for those extra parts to come in until we can ship them out. So we are absolutely doing that great.

Love the color about using smaller ships and different ports.

We're hearing about other companies doing that so we applaud those efforts.

The good work thank you.

Thank you Dan.

Okay.

And we'll take our next question from Saree <unk> with Jefferies. Please go ahead.

Great. Thanks for taking my question the dewatering business in water infrastructure seemed like it was really strong can you provide more color on how youre thinking about demand in that business going forward and should that be a tailwind for margins.

Yes, great.

Great Great question.

When we look across the portfolio and within our water infrastructure business in the third quarter. This was a bright spot for US we saw 8% growth in the quarter on revenue, we saw strong strong orders and the cost structure in this business. When we do get growth that helps us from a margin margin.

If so do you want to shut out emerging markets doing really well in this business, we're seeing good strength in mining and some of the some of the other industrial markets.

And that's been a part of a key part of our growth and it definitely is it's one of the highest.

Kind of margin accretive businesses in the portfolio when we get that volume growth. So that certainly will help us as we go into 'twenty two.

And then just sticking with Mcs, how does pricing work on some of these long term contracts, we were able to get price for some of the supply chain inflation that you are currently seen within the current backlog.

Yeah. So I think this is.

We're pretty well positioned care the way a lot of most of our MSP contracts work the longer term ones. There are escalator clauses embedded in those contracts were.

They look at a basket of price indexes and then we're able to adjust our prices based on where the indexes.

And this is a this is a historically consistent.

Situation that we've seen in the past when there have been periods of upticks in inflation or supply challenges and part of the reason why we have that flexibility again, we're not in this alone.

Our competitors are also dealing with supply challenges, but two it also is the fact that these deals when they've been approved by regulators and authorities are being approved because theyre going to be generating significant revenue for utility. So it's in their best interest to go ahead and move these things.

Forward, even if they have to wait or.

Or take on some adjustment and price escalation it really comes down to what our overall value proposition is.

With those utilities.

Great I appreciate the color.

Thank you.

Yeah.

We'll take our next question from Andrew Buscaglia with Danbury. Please go ahead.

Hey, guys.

So I think you are.

I guess I got the.

Margin dynamics impacting Mcf, but can you talk a little bit about <unk> and water infrastructure on margins.

Water was just a little bit below what I was thinking so I guess what are what are the differences there that would.

Oh, yes, yes impact margin between those two segments.

Yeah. So I think Theres a couple of dynamics one was one of the points that we talked about earlier.

Earlier question you saw the uptick in the dewatering business and that's that's good mix for us so that helps helps margin.

I think the other impact was there some differences in inflation impacts between what we saw for example in our water infrastructure business and our AWS business. So it was it was more modest in our water infrastructure business.

Okay, and you called out utility weakness.

I'm wondering.

Are you seeing any initial signs of hesitation around spending.

Yes, David.

The infrastructure stimulus seems to be dragging on we don't have quite the clarity. We thought we would have at that point in this year.

Yes, no we've not we've not seen any signs of that in our bidding pipeline continues to be very robust.

And again the conversations that we had with again 500 plus utilities.

At our reach conference, which is not just around metrology. That's actually beginning last year was the first time, we had turned that into a xylem reach conference. He used to be census, and so the conversations we're having with utilities there are across the entire.

<unk> solutions.

I've said before I think that there is historically.

Not really ever been of reliance at the utility level on federal government subsidization or funding so.

Nobody is kind of relying on that in a significant way.

Again, the orders activity in the U S was up very very strong.

And again, it's really just comes down to some of the court and shipping delays that were working through it but we've seen no we'd say no hesitation.

And demand order outlook.

Right, yes, so those orders so that in order to keep you.

Confident that.

The demand is still there I guess as long as we underwrite cancellation.

Yet you feel confident there okay, that's correct and again I would reinforce that its not just the orders in the backlog, but it's the margin on those orders and the backlog that remains robust.

Yeah, Okay, alright, thank you.

Thank you.

We will take our next question from Nathan Jones of Stifel. Please go ahead. Your line is open.

Good morning, everyone.

Hey, good morning Nathan.

Just wanted to go back to Mcs.

For a minute just under $320 million of revenue in the third quarter out of the guidance looks like it's maybe $300 million of revenue were slightly below that is that kind of the level of revenues that you are restricted to with days chip shortages logistics shortages and that's the way we should think about.

At least the next couple of quarters three quarters until some of this stuff starts to loosen up or are there product redesigns or other things that you can do to try and boost that in the short term.

Yeah, I think if you look at our guide for Q4 were right in that in that neighborhood.

We think that over time, the chip supply is going to improve and so that will that will gradually ramp.

I think we we've also seen some strength in some of our other businesses outside of metrology, which have.

Opportunity to grow sooner than that so assessment services.

Part of our portfolio.

Our test business is a key part of that portfolio with with really good margin structures. So.

We think we can grow there that chipset supply will constrain us over the next couple of quarters, but we do expect that to gradually recover.

And again and again I go back.

This is not a demand issue.

So it's simply a matter of when we're able to convert these orders into revenue and.

And again, we're not seeing any signs of cancellations. So an embargo remains strong. So I know you've heard me say that a number of times. This morning, but I think it's an important point to reiterate.

Yes, no I'm, just trying to get an idea of what.

The first half of 'twenty, two might look like and it was yes.

Yes.

And we're trying to give you were trying to give you were trying to give you a responsible prudent view.

There is a fair amount of uncertainty out there not around backlog our margins, but we're trying to again, we're trying to be balanced here.

Yes, it's about getting it out the door and not getting the orders in the door.

On the local localizing supply chains.

Question that people have been asking about.

I mean, the contract manufacturing that you're doing in the importing that youre doing I assume is mostly on the technology side, and it's coming from Asia to Europe and the U S.

Is it is it even possible to localize that manufacturing other suppliers that you could leverage in the U S and Europe to localize that.

Is it just cost prohibitive because there are much much higher cost than the Asian suppliers would be just easier even possible to do that.

Yeah, Yeah, Hi, Nathan as Tony.

Our large contract manufacturing, we use contract manufacturers everywhere, but the largest one that we have is in Mexico actually and so that's really supporting.

Our U S business. So it's largely the assembly and some of the componentry is localized here now granted the electronics are coming from from Asia. So we continue to look at possibilities to bring that closer that will be a bit.

It's not something that we're looking to do necessarily.

But that's largely localized right now.

Is it possible by localized that from Asia.

On the insurance side.

Yes on the chip side, it will be something that I think will be well wait for the supply base to supply base is a little thing.

For chip suppliers in North America. So most of that comes from Asia.

Got it okay. Thanks I'll pass over.

Thanks Nate.

And we will take our next question from Connor Lynagh with Morgan Stanley. Please go ahead.

Yes. Thanks.

I wanted to return to water infrastructure and I wanted to clarify a comment you made before.

Obviously your orders have been very strong within that business and I think you called out.

The dewatering business in particular is an area of strength, but is that is that the main driver of the.

The significant increase in orders this year or are there other areas that you would point to.

Oh in <unk>.

Orders growth the orders growth has been.

Really across the board in water infrastructure impacting we're seeing good growth on the treatment side.

The largest part of our business is transport and so orders there have also been very strong.

Okay, and then just thinking through that strength I mean, this might actually be a better question for just the whole company, but you called out some some change in the typical order intake to actual revenue conversion of shipment timing.

I'm curious how different that looks versus history, because basically the order intake would suggest that 2022 is going to be quite quite a good year for a lot of the segments, but just hoping you could sort of frame.

How we should risk that relative to history.

Yes, so the so this is Patrick.

Okay.

We won't comment yet on 22 will come back around to that in our next earnings call as we give guidance for 'twenty, two but yes, we do not have a demand issue here.

In water infrastructure and the challenges that we saw in Q3 and we're weathering in Q4, we do believe to be more transitory and it really was around.

Against some of the port delays and other.

Great challenges and shortages. So we think we'll get through those.

Over the coming months here.

And yes, we feel good about our water infrastructure going into 'twenty two.

And I think just the other question you had was about conversion time between when orders get placed and when it converts to revenue and certainly there is an increasing demand strong demand you don't put up quarters growth of the magnitude that we're posting.

But we do acknowledge everybody is recognizing that lead times are getting longer across the board and so there is a bias for customers to put their orders in a little bit earlier than they usually usually.

Okay. Appreciate the context. Thank you.

Okay.

And we will take our next question from Duval with motion with Raymond James. Please go ahead.

Thanks for taking the question.

You alluded to the fact that everybody is in the same boat.

In terms of supply chain complications.

With that in mind are you seeing any.

Distressed M&A opportunities in terms of acting as a consolidator with regard to.

Some smaller players for whom the supply chain issues.

Perhaps even more.

Hi.

Problematic than they are for blue chips.

Sure.

We definitely see ourselves as being in a a privileged and strong position from an M&A standpoint, whether it would be.

Again, our financial Wherewithal, our bandwidth to do M&A, both financial and human.

The balance sheet.

And so we still remain very confident on that front.

I don't know that I would say that the.

The chip shortage and supply chain challenges are necessarily.

Unlocking any opportunities that we would not have already had in our pipeline.

We remain continued focused on what our priorities are strategically in that area.

And that really is around we see some opportunity to do some bolt ins with utilities industrial commercial building continue to be areas that we are very positive and very focused on again it takes two to tango.

And so again, we will keep you updated on that we feel we're very confident we're very excited about the M&A pipeline.

But I wouldn't say, it's changed dramatically because of the supply chain situation.

Okay.

Quick follow up on the opportunity in Europe, obviously, a lot of emphasis on that.

The reconciliation and the infrastructure builds in Washington, but given that the.

European Union fit for 55 package is already finalized in and very good.

Very much being implemented I'm curious if you've seen a pickup in.

Customer activity orders.

From the EU within the context of their climate policy.

Yes, I would say that.

Not in the immediate term, although I would say we are hearing more and more discussion around that.

So we see that as being an opportunity a bit further out.

And I think even the conversations around cop 26.

Providing a backdrop and.

And as I mentioned in my opening comments.

We're going to be very prominent there as is the water sector.

And so we do think that that bodes well for demand, but it's down the road. It takes time for these to convert into orders.

Okay.

Thanks very much.

Thank you.

And we'll take our next question from Brian Lee with Goldman Sachs. Please go ahead. Your line is open.

Hey, everyone. Good morning, Thanks for taking the question.

Okay.

I know.

Alluded to this but I just wanted to understand a little bit more if I looked across the three segments. It seems like price hasn't read out as much in Mcs versus one in front in applied water.

You mentioned sort of the inflation escalators in some of the contracts and then some of the I guess regulators.

Stepping in and improving those but.

Can you sort of give us a sense of the timeline for that is that sort of an annual.

You and then if you do have unregulated utilities in your mix.

For the meter business is the construct the same or is that a case by case.

Yeah. So one thing I think to level set if you looked at first of all inflation, where it hit us the hardest it has been outside of our Mcs business, it's been higher because of the types of commodities that we purchase that we've seen greater inflation in these other two these other two segments those.

Contracts have those escalator clauses they come at different different times, and we are seeing favorable price coming through in Mcs.

Yes so.

Just to add to that.

The when you look at our metrology business, which is where the largest majority of our longer term deals reside.

We typically have price escalation clauses built into them and those are negotiated on a deal by deal basis.

And so that really we expect that to roll through.

As those orders get implemented.

So we're less concerned around the margin expansion or price realization in that part of our of our company.

Okay Fair enough I guess, that's sort of a segue into the second question I had just in general there's been a lot of discussion here.

On the call around the chip shortages youre seeing.

In terms of inflation it does sound like it's less of an impact in that segment versus the others can you kind of give us a sense of what youre seeing there and then.

At a company level I think you're talking about seeing price cost positive here in Q4.

Would you say that.

It's the same sort of timeframe for Mcs or is that more into 2022.

As you see price readout.

Yes, Brian I think I mentioned, a little bit earlier on the call that we were across the company. We were neutral from a price cost perspective in Q3 and that we expected that to turn positive in Q4, as we're seeing price realizations that a ramp sequentially through the year.

And so we feel like in the first part of 2022, we'll continue to see that trend as as as well. So our teams have worked really hard to.

These thoughtful and responsible as it comes down to price. This year, we've taken multiple price actions.

When we look at our expectations around where we thought inflation would be we thought it would be around across the company around 3% at the beginning of the year.

It's going to turn out to be closer to 5% on an annual annual basis and so that's been the the reason we've gone out with these these price price increases to keep that in balance.

Okay.

Okay, that's great and helpful color I appreciate it thank.

Thank you.

Yeah.

We will take our next question from Ryan Connors with spending and Scattergood. Please go ahead. Your line is open.

Okay. Thanks, Thanks for fitting me in.

Got it.

Questions sticking on the supply chain wanted to get your take on something that.

We've begun to hear just in the last week or so from some of the macro economists about sort of a surge of double ordering and even triple ordering at all sorts of products across the economy.

And so I'm curious about what your take is on that on both sides of your business. Do you think there is any of that going on in terms of the orders that you're seeing from customers and then on your side or are you doing any excess ordering of chips and other things to kind of stockpile.

Supply you know just sort of placed multiple orders hope some something gets through in time.

Yes, sure Ryan I'll go first and then I'll have Tony talk about the what we're doing on the on the ordering side ourselves.

I would say where we've seen.

Some of that uptick and people trying to get ahead of the supply chain constraints has actually been more around the port delays the logistic challenges.

And some of those orders that we see it's hard to put a specific number on it but the order growth I think certainly in water infrastructure and most notably applied water some of that certainly which is largely book and ship business.

It Hasnt been people trying to get ahead of the supply chain delay.

Delays.

Not that we arent seeing any of that within Mcs, but the large majority of that business again is driven really by some of these large deals and those orders converting so theres some ordering in advance, but it's less prominent there than it is within the other two segments.

Okay.

And Ryan I would just add that.

We're not doing double or triple ordering we are doing is working with multiple suppliers to try to get parts wherever we can whether it's brokers or distributors or the OE.

Idms.

But it doesn't I mean, thats a natural outcome of the bullwhip effect is to is to double and triple order and double down on these things, but we're not saying we're not doing that here, we're just working with multiple suppliers.

Got it Okay and then my other one just had to do with that.

The other thing that's been in the news a lot in the quarter as sort of labor issues at the strikes at some big industrial companies like like Deer for example.

Your own financials reports say, 17% of your U S.