Q2 2022 Gates Industrial Corporation PLC Earnings Call
Yeah.
Thank you for standing by my name is Cheryl and I will be your conference operator today at this time I would like to welcome everyone to the Gates Industrial Corporation Q2, 2022 earnings after the Speakers' remarks, there will be a question and answer session. If you would like to ask a question. During this time simply press star.
Followed by the number one on your <unk>.
<unk> Investor Relations you May begin your conference.
Thank you for joining us this morning on our second quarter 2022 earnings call I'll briefly cover our non-GAAP and forward looking language before passing the call over to our CEO <unk>, who will be followed by Brooks Mallard our CFO .
For the market open today, we published our second quarter results.
By the site at investors Dot gate.
Dot com.
Our call. This morning is being webcast is accompanied by a slide presentation.
On this call we will.
Refer to certain non-GAAP financial measures that we believe are useful in evaluating our performance.
Reconciliations of historical non-GAAP financial measures are included in our earnings release, and the slide presentation, each of which available in the Investor Relations section of our website.
Please refer now to slide two of the presentation, which provides a reminder that our remarks will include.
And the meaning of the private Securities Litigation Reform Act.
These forward looking statements are subject to risks.
So that could cause actual results to be materially different from those expressed in.
Or implied by such forward looking statements.
Okay.
These risks include among others matters that we have described in our most recent annual report on Form 10-K and in other filings, we make with the SEC.
We disclaim any obligation to update these forward looking statements with that I'll turn things over to Eva.
Thank you Bill.
Good morning.
I am pleased with our team's performance, which represents solid improvement from the first quarter in a very inconsistent operating environment.
Underlying demand trends for our products are constructive across most of our markets and our backlog continues to grow with our book to Bill remaining.
We generated near record quarter.
EMEA revenue, despite the Covid lockdowns in China.
The suspension of our.
Our business in Russia, and incremental FX headwinds.
These results.
Paired against the best quarter in our core profitability continued its trajectory of improvement as anticipated.
While we have not seen inflation meaningfully debate the significant pricing actions, we have taken are gaining momentum.
And allowing us to be in a.
Positive price cost position.
We continue to successfully navigate.
Yes.
Raw material availability has improved.
However, we continue.
The supply of certain petrochemicals.
Across key product lines.
Although we have seen some easing in content.
Enterprises and port congestion.
Reliability of <unk>.
Spotty.
We are comfortable.
While challenges and have a number.
To date the impact of these issues as the year progresses.
With respect to our business in China.
Excellent.
In June we began to see a recovery from the significant impact of the Covid lockdowns.
However, we expect it will take additional time to our customers and the local supply base to ramp up their operations.
We anticipate.
Recovery will steadily.
We continue.
But at somewhat lower pace than we would be.
Experience coming out of the initial Covid lockdowns in 2020.
Outside of the specific headwinds in China, and Russia, we have not seen a degradation of business activity.
We are experiencing more significant FX headwind and anticipate the operating challenges outside of our direct control.
Firstly should a balance of the year.
Beyond our prior expectations.
This updated view is our business is sound and our team's solid execution is focused on many.
Operating environment to meet.
The end market demand and support our customers' critical needs.
While delivering the continued sequential revenue growth and margin expansion.
Expect in the second half of the year.
Core growth of three point.
By a $4.
5% FX headwind.
Growth was led by.
The industrial end markets.
Our initiatives are focused on capitalizing on secular tailwind.
Our mobility business delivered another quarter.
The industrial end market.
Where are our products that drive efficiency improvement in fixed income.
Industrial applications are captured.
Rounding out our top performing end markets.
<unk> highway.
<unk> benefited from strong growth in agricultural applications.
And energy driven by increased activity in North America and Middle East.
Quarter, adjusted EBITDA was $180 million.
Or a margin of 19, 9%.
Representing sequential improvement of 230 basis points.
This improvement was driven primarily by more favorable pricing offsetting the negative impact from China, and Russia as well as operational inefficiencies from challenges associated with raw material availability.
Adjusted earnings per share were <unk> 32 cents in the quarter.
Representing sequential growth of 23%, primarily driven by higher operating income.
Moving to slide five and our segment level results.
Our power transmission segment had revenue of $543 million in the quarter, including a core revenue decline of 2% and negative FX impact of 5%.
The segment, most impacted disproportionately by too much higher exposure to China, and Russia as well.
Looking.
At the segment in total.
Mobility business saw the strongest growth in.
<unk> end market.
As a result of the strong.
Progress, we have made with our growth initiatives over the past several years, we are bumping up against some capacity limitations in certain product lines.
The targeted investments we are making to address these limitations are ramping up and we expect them to come online in the second half of this year.
The $4 million.
Quarter.
Including.
Core growth of 14%.
And negative FX.
We saw a solid performance across the board.
The double digit core growth.
In all end markets.
Our strongest performance.
Came in in our automotive replacement business, which both state core growth in the low twenties.
All of our industrial mid teens.
Benefiting from supportive demand.
Our new products also.
Continued to perform well.
Core growth.
We're 40% not.
All of which is incremental and includes the replacement of legacy.
Yes the products.
But at a more favorable margin.
With respect to profitability our power transmission segment was impacted primarily by its exposure to China, both operating environment and inefficiencies associated.
With the ramp up of targeted capacity in support of our growth the.
The segment saw sequential margin expansion of 130 basis points.
Our fluid power segment generated strong margins in the quarter.
With much less exposure to China, and Russia, as well as fewer material availability challenges.
It converted its higher revenue growth into sequential and year over year margin expansion of 390, and 110 basis points respectively.
In both segments, we manage pricing actions across all regions and channels in response to the significant inflation we experienced.
In the second half.
I'll now turn the call over to Brooks for additional color on our results.
Slide six and the regional breakdown.
None of our core revenue performance.
Okay.
6%.
Despite.
Sounds, Russia and continued material supplier.
Improved pricing performance.
Every region and execution.
And EMEA was a primary.
Okay.
The new growth represented substantial.
Deceleration from Q1.
The growth was broad based growth in all end markets compared to <unk>.
The prior year.
Our mobility energy and off highway end markets had the highest growth.
Birth rates all in the mid teens to 20% range.
From a channel perspective, we saw the largest growth in sales to OEM customers.
The order rates remained strong supply chain headwinds that prevent backlog reduction at additional sales volume in Q2.
Our core growth in EMEA was 0.4% with a strong pricing performance offset by significant revenue headwinds from Russia.
Petroleum based materials shortages.
We had double digit core growth in nearly all industrial end markets led by diversified industrial mobility and off highway, which more than offset a modest decline in automotive first fit.
Excluding Russia growth was also balanced across the first fit and replacement channels.
As we communicated on our last earnings call. It was a difficult operating environment in the second quarter for our business in China as a result of the strict Covid lockdowns.
The Lockdowns, which overall created dislocation in both demand or revenue decline of 31%.
One of our production facilities in Shanghai I was completely shut down for approximately six weeks.
While others in the surrounding areas were impacted by the severely reduced movement of materials and finished goods.
As the Covid Lockdowns began to ease in June our business slowly started to recover.
It will likely happen.
But at a rate below what we produce.
Previously anticipated.
Finally, our bis had varied performance in the quarter.
South America had another strong quarter with core growth of 18%.
Across all end markets led.
Sorry on highway off highway and diversified industrial.
I'll, let growth in our auto replacement business and in the on highway end market.
Regional challenges, we're pleased with our performance overall.
While we were focused on Max.
Summarizing our operational flexibility.
To meet the end market demand.
Moving now to slide seven some details on key balance sheet and cash flow.
Hello items.
Our LTM free cash flow of 108 million was impacted by higher investment in working capital.
Okay.
Mary inventory to mitigate the impact of supply chain and logistics of reliability challenges.
We're also being negatively impacted by higher cash taxes and temporary delays in collecting certain VAT receipt.
Our net leverage at the end of the quarter was three three times compared to three two times at the end of Q1.
The slight increase was driven primarily by lower LTM free cash flow and adjusted.
We had a solid 18, 1% return on invested capital was the year over year decrease driven primarily by lower LTM operating income.
Moving now to slide eight.
We are increasing the bottom end of the range of our core revenue outlook.
The demand environment continues to be constructive and we have additional capacity coming online to support growth in key end markets.
Reflect the impact of FX and a slower rate of improvement in China as.
As well as material availability.
We continue for the remainder of the year.
A lower overall tax rate and minority interests are expected to partially offset these impacts.
We are reducing our 2022 full year adjusted EBITDA guidance range to $705 million to $755 million and our full year adjusted earnings per share range to $1 15 to $1 25 per share.
For the second half, we expect more muted seasonality between Q3 and Q4 with the quarter's looking similar in terms of overall sales and margins.
We expect margins to continue to improve sequentially in the back half of the year as additional pricing and sales volumes materialize, resulting in our second half adjusted EBITDA margin in the range of 100 to 175 basis points higher than Q2.
With respect to free cash flow, we expect improved profitability and reduced investment in inventory to drive good cash flow generation in the second half.
However, we anticipate exiting the year with elevated levels of inventory to minimize further disruptions from material availability and supply chain challenges.
As a result, we have updated our guidance accordingly.
We are pleased with the progress we've made with pricing to address the impact of inflation.
And although mindful of the potential for higher energy costs.
Believe we are still on track to achieve price cost margin neutrality by the end of the year.
With that I will turn it back over to Evo for some final thoughts.
Thanks Brooks.
Moving now to the summary on slide nine and few key takeaways.
I would like to wrap up by recognizing the determination and perseverance of our gates associates around the world, which efforts drove our solid performance on the highly challenging macro conditions.
While we expect the operating environment to remain volatile in the near term due to geopolitical events inflation and poor reliability of supply chain globally, we have a strong management team in place to navigate in an uncertain market.
Our business model is resilient and focused on delivering mission critical highly engineered solutions to our customers.
Throughout the past several years, we stayed committed to investing in innovation and our growth initiatives, which are contributing to the strong order flow we are seeing.
We expect our pricing momentum to continue and anticipate benefiting from the targeted capacity we are in process of ramping up.
Whatever market volatility we experienced in the coming quarters. We are confident we are well positioned to take advantage of fast growing market opportunities for advanced products and solutions.
And deliver on our midterm growth strategy.
With that.
I will now turn the call back over to the operator to begin the Q&A.
To ask a question. Please press star one please limit yourself to one question and one follow up.
First question is from Jerry Revich of Goldman Sachs. Please go ahead. Your line is open.
Yes, hi, good morning, everyone.
Good morning Walter.
I'm wondering if you could just put a finer point.
The year over year cadence is tracking for your business.
In China.
You mentioned below your prior expectations and it's rising sequentially.
What about year over year, and what does your guidance assume is the fourth quarter exit rate.
For the lines of business in China.
Yes, so Jerry yes.
As we have indicated China was pretty tough ride down mid 30 is a little worse than what we anticipated when we entered the quarter. We anticipated it will see maybe a month of shutdown in Shanghai and then thanks, guys reopening clearly.
That did not occur Shanghai will shut down nearly add through the month of June significantly impacting the business activities.
There and across across China, as well, however, we did and.
We did exit Q2.
<unk>.
In a much better.
Cadence than what we have experienced in April may and June so it was progressively better.
Clearly July half came in significantly better as well than June . So so we are seeing.
The progressive recovery of really nice progressive recovery.
But we.
Jeff.
Just being realistic that we done field.
That it will be a sharp snapback as what we have seen in 2020, when China, just snap back very very sharply.
So from our perspective.
We anticipate that.
We anticipate that we will be probably somewhere in the high single digits down in Q3.
Kind of low single digit to flattish exiting.
Q4 in China.
Got it I appreciate the color and then.
Given that.
Dynamic.
All of the moving pieces this year.
I'm wondering if you expect your fourth quarter EBITDA margins to be the highest of the year, which I think would be different than normal seasonality, but given that production cadence as well as price cost sounds like that might be the case this year.
Could you just comment on that please.
Yes, Hey, Jerry this is brook.
I think thats I think thats pretty close.
The way we're looking at it we think we're going to have more muted seasonality.
Typically you do see a little bit of a tip tick down in Q4, but given the capacity, we've got coming online and the additional pricing thats going to ramp through the year, we think it's going to be more sequentially. Even so I would say that's probably correct.
Pretty close to Q3, if not maybe a little bit slightly up as we exit the year and when you compare to how we exited the year and 'twenty one right in significantly better shape.
Price cost repair basically done and then now just getting after repairing the margin impact of some of these supply chain challenges and things like that so we feel pretty good.
About where we're going to be when we exit the year.
I appreciate it thanks.
Your next question is from Mike Halloran of Baird. Please go ahead. Your line is open.
Hey, good morning, everyone.
So okay.
Kind of working off that last question. There then.
Demand seems fine across most of the verticals, obviously got some China pressures.
You've got some capacity coming on so at what point do you think youre going to start working your backlog down and start moving towards whatever the new normal looks like.
Yes, Mike.
Hello.
We've anticipated in our previous guidance that that's going to start happening kind of in in Q3.
We now believe that we should start seeing that.
Backlog coming down.
Kind of towards the end of Q3 into Q4, the incremental capacity that's coming on stream as basically installed and we are now just <unk>.
Our ramping that.
Capacity App. We are also working on a number of different alternatives to our particularly predominantly by our transmission supply.
Supply chain issues and raw material availability issues and as you can probably appreciate.
The conflict in Ukraine, and Russia has significantly impacted further.
Availability of petrochemicals.
So that that's something that we are dealing with and although we are not buying anything from there.
The world capacity, whatever miniscule capacity was available in a trend in our front half of the year is completely evaporated and things became even more more complex.
But we have a line of sight on.
Alternative solutions and we believe that we should start seeing backlog coming down as we exit 2022.
Thanks, and then on the demand side.
<unk> listened to the commentary.
Again, excluding the challenges regionally in China.
On the Russian side of thing it sounds like Youre pretty.
Confident in what the current demand trajectory looks like.
Just some thoughts by end market as you're thinking about back half of the year in the 'twenty three.
If there is any sign of cracks emerging somewhere.
Or is there a acceleration potential in other parts of the portfolio just some puts and takes as you think about your demand.
Yes, so look.
Obviously, the known challenges right, China, I'm not going to spend lots of time on ABS kind of delineated excuse me we have delineated it.
That issue.
Despite despite effect that is very challenging again, it is getting progressively better.
Europe is impacted predominantly for us presently.
It's for the loss of revenue that we have had in Russia.
But all of the industrial market seem to be in a reasonably good shape that being said we are being cognizant of the fact that everybody is being nervous.
The situation, where the supply of gas.
Industrial activities.
It's something that we're thinking through and any potential impact either on supply or on demand.
But so far.
Europe has is in a good shape.
North America is very robust for us as the number of syndicated coming out of Q2.
A significant amount of opportunities to be able to to.
To maintain a reasonably go good trajectory of growth in North America.
Still again I can tell you im still receiving more calls about.
Supply availability then.
Than anything else.
Even as we speak.
And I would say that an incredible strength, we see in mobility.
Still diversified industrial those two end markets, our real standouts for us and.
Both on the mobility side, not only as a backlog growing frankly quite exponentially.
But we see an incredible amount of design win activities.
Yes, we are very.
Cautious about what's ahead and I think that we try to balance the caution.
In our prepared remarks.
But we also are balancing that.
We're in a reasonably good situation that we see still.
The present level of demand for our products.
They said he will appreciate it.
Your next question is from Josh <unk> from Morgan Stanley . Please go ahead. Your line is open.
Hi, good morning, guys.
Good morning, guys.
Evo on some of these temporary costs that are kind of getting in the way things like expedited freight.
Yes, if you were to add up all of those what do you think the impact is now and then how do you see those progressing over the next.
Several months quarters, whatever timeframe you visibility Albert.
So here's the way I would frame it.
The cost I would say our.
Multiple right, there's the freight cost.
There is the.
The cost of having you are factoring in place and ready to go but the material doesn't get there. So you'll have these operating variances and things like that and so the way that I'll frame. It up is as we progress through the year and we get to the end of the year and you can go.
Got to see where our margins are going you can do the math yourself and you look at how we exit the year.
When we think about getting back to.
Where we want to be from a margin perspective in the short term right. We've got a medium term goal of 24%, but first you got to get to 'twenty. Two and then 23. When you think about the difference kind of how we exit the year and where we want to get too is primarily those operating variances and then on top of that kind of the additional <unk> volume.
By not being able to get that product out the door. So as we exited the year price cost in very good shape and then we just got to get back to those those other couple of pieces and we'll be we'll be back where we want to be from a margin perspective.
Got it.
Then in terms of kind of the the broader ecosystem that you guys are operating in with some of your OEM customers and doesn't just have to be auto OEM.
But I'm guessing that you guys are not the ones kind of holding up the process any sense for what their inventory of your staff look like or if they're giving you any information about kind of where.
Some of the bottlenecks are I guess the point here being if those guys do you start to see a slowdown are they are they sitting on more of your inventory and maybe there is a bit more risk there I don't know if thats eminent but.
Just trying to gauge where you guys are putting in that production schedule.
Josh I can tell you with certainty maybe that's the only certainty that I have today that.
We actually.
Our OEM customers across the spectrum from automotive.
So every industrial customer that we service.
No inventory of our products. If you wanted to buy several of our commodities today frankly, it will take a very long time to get them.
And there are cases, where we are actually holding our customers up.
The ability to finish their products I mean demand across a good amount of our portfolio is very solid.
But we're also balancing the issues that I have described in my opening remarks associated with the availability of a couple of these vessels the highly engineered compounds that we use in numerous applications, particularly in power transmission, but they also some fluid power product lines, particularly in engine cooling and battery.
Equaling debt.
We are we are not as current as we would like to be sub we're doing everything we can to support our customers most critical needs but.
I'd say that presently.
Inventory across the Oems is not an issue that I am worried about at all.
Got it very helpful. I appreciate it.
Your next question is from Jeff Hammond of Keybanc. Please go ahead. Your line is open.
Hey, good morning, guys.
Morning, Greg.
Just wanted to try to spike out a little bit. This this $50 million EBITDA reduction.
Core gross unchanged, but just how much is FX impact how much is either price costs, taking longer or expedited freight supply chain and I don't know if theres a mix dynamic around China.
The offsets to the slower China.
Yes.
So look it's about 40% FX and the rest of it is the combination of supply chain challenges.
Slower.
Improvement in China, and the other things that Evo was talked about so about 60% of it is operational all the different things we've talked about about 40% of it is FX.
Okay helpful and then.
Just back to Josh <unk> question around.
Just are you seeing any share shifts.
Around having availability are all your competitors are kind of in the same boat.
Right now, Jeff I would say that the industry is in a reasonably same shape.
Our fluid power, obviously segment is performing extremely well and.
And we do have some availability across fluid power.
Just not in some of the.
Some of the secondary secular Lee attractive alliance that we have.
We are facing some constrained.
So I think it's predominantly five transmission I think everybody is struggling there, but that we feel very confident about our ability to not only maintain but to expand our market share, particularly as capacity will come online I would note Jeff debt.
The amount of design in activity that we see across both of the segment is very very strong.
May be stronger than we have seen in a couple of years.
We feel pretty good about.
What the future holds not ignoring the facts about the.
The uncertainty from the macro economics.
Okay perfect. Thanks Eva.
Thank you.
Your next question is from Julian Mitchell of Barclays. Please go ahead. Your line is open.
I just wanted to.
Focus on the organic.
Sales guide so I think you did about 4% growth.
In the first half and in the second quarter.
Just wondering Q2, how much of that 4% was price and then the second half you are saying, we will grow sort of low double digit organically.
Maybe help us understand sort of the price versus volume.
Within that please.
Yes, so look.
Our price was a little north of 10% in Q2.
And then we had all the headwinds.
That we're really driving the offset of that which was the volume piece.
The China Lockdown you have the full on Russia impact and then you have the supply chain.
Issues that we've talked about which which really impacted us and then that was offset by some more some some actual secular organic growth that we had so I mean thats really to note. The total core growth and took the turn a little bit over 10% off of it that would give you the volume piece and all of those headwinds that we've talked about more.
Outstripped by volume.
That volume piece that we talked about.
And then sorry, the second half you've got low double digit.
Core growth guide so is that kind of 10 points of price and then two points of volume something like that.
No we don't have as much price in the second half as.
As we did in the first half so.
So I would say, it's certainly less than that.
Okay, but there is some volume growth dialed in for the second half organic growth guide.
Yes, so I mean, theres some theres some small theres some small agencies remember right, we've got backlog reduction.
You've kind of got normal seasonality.
And then you've got the year over year impact that youre going to get from from Russia and things like that.
And we have a little bit.
Okay.
A little bit of volume growth.
And then and then most of it being being price.
Maybe it's kind of actually probably maybe more flattish on volume.
Flattish to a little bit up.
Okay and thank you and then just my second question around the.
The free cash flow.
It sounds like the inventories are going to stay high through year end.
But I think you need advanced $350 million of free cash flow in the.
After minus the 120 in the first.
So I don't think the earnings is having a huge.
Step up half on half so just trying to understand that.
That swing in free cash flow of.
500 million or something where is it coming from if it is an inventory liquidation and were looking to liquidate inventory does that carry a big sort of normally when companies bring down inventory dramatically you get a gross margin headwind do you think youll see the same.
Well first of all I'm not sure that improve the profitability comment is 100% correct. We are going to see improved profitability in the second half versus the first half. So there's really there's really.
For things that are going to drive the improvement in cash flow.
And you have to remember that we have we are pretty seasonal operating working capital normally through the business right. So we have a buildup of working capital and then bleed off of working capital, but there is there is four things that are going to drive the right. One is improved profitability. One is the collection of some of these VAT receivables that we had talked about.
But I talked about in my prepared remarks.
Normal seasonality on working capital and then the inventory inventory reduction to more normalized levels and so if you add all those up Thats really how you get there.
Got it and as inventory comes down the fourth lever you mentioned does that have any gross margin impact.
No.
Thank our inventory has been more the inventory reductions, we're going to see you're going to be more around raw material.
And how much will we hold in the business and not quite as much on the on the finished goods side. So we're not overly concerned about.
Overly concerned about that as we work through the back half of the year remember, we still got a lot of our past due backlog and so we're trying to be as efficient as we can in terms of.
What we build and how we build it.
And get it out the door.
Perfect. Thank you Brooks.
Your next question is from David Raso of Evercore ISI. Please go ahead. Your line is open hi, good morning, Thanks for taking my question.
I apologize if I missed this what is the total revenue growth guide for the year.
So seven five organic what's the currency now and what wasn't.
The drag in the guide.
Yes.
Hold on a second let me grab it here.
So for the for the full year.
We're looking at FX.
3% to 4% range.
Okay.
Yes, the headwind.
Okay.
I'm just trying to figure then closer to closer to a four actually.
Yeah, I mean basically it's three five for four it's still sort of Hey, we took out $50 million of RASM took out 50 of EBITDA.
And I guess I'm trying to figure that.
Second quarter, Youre actually operated pretty well with a lot of the same negative dynamics Youre speaking up for a second half being in place.
So is it more a function of it doesn't get worse in the second half, it's just not allowing you to improve.
In the second half the way you previously expected.
To be clear.
In the second quarter, you have operated relatively well.
Not all of this stuff theres nothing getting worse, it's just not allowing you the sequential improvement that you expected.
Yes, I think I think that's right we're not getting I mean, if you look at our guide we're getting better in the second half.
We're just not getting as.
I'm talking to change in the guide, though like basically the top 50 of revs and 50 on EBITDA is a pretty dramatic decremental.
But the issues that are causing it were in place in <unk> and you're actually operated okay no.
Yes, but we're getting better remember, we're going to see a 100 to 175 basis points of incremental margin improvement in the back half versus Q2.
Okay. So we are getting better from Q2.
Now what changed from the guide was.
China, Covid lockdowns are going to be more exacerbated.
But probably the bigger issue definitely the bigger issue is the impact of the raw material shortages in the supply chain issues.
On on our own.
On our operating reliability and operating efficiency and so that's really what changed from the guide, but let's not lose sight of the fact that.
That we are calling for 100 to 175 bps of profitability improvement over Q2.
Yeah, no I appreciate that but given you raised the core revenue guide it still seems like youre getting the material at least.
Enough to raise the guide on organic it just costing you more to get it is that the idea right.
That's why the decremental so bad on the revenue change it so high.
Yes, well I would say that theres, a theres a pricing element in there too right and so it's not just the volume piece. So there is a pricing element in there too but yes.
<unk>.
Costing us more to I think make it I think the operational.
Pat So some of these supply chain efficiencies issued supply chain efficiency issues are greater than anticipated.
And then when it comes to the additional capacity.
I'm, sorry can you give us a little more color on how much is being added and where and I know.
Somebody asked the question I guess does it help at all with the part with key polymer availability and the cost.
<unk>.
With the new capacity coming on or is this more of now we still need the rest of the supply chain to do their part, but when they can we'll have incremental capacity there.
It's a ramp up.
So there are a couple of things Dave about the incremental capacity first and foremost is there incremental capacity to sort of give us an opportunity to.
To fulfill.
The order flows that we are seeing for particularly.
Mobility.
<unk> change a balanced and several of our industrial and automotive.
Specialty.
Pellet lines.
So that's where the capacity is coming in those specialty lines. The last piece is also going to give us an opportunity to ultimately Samsung center future be in a position to potentially do some restructuring activities.
Less efficient operations, so we kind of adding two pieces of capacity. One is incremental capacity that is going to give you a simply growth in the other one that's going to give you over a longer term an opportunity too.
Juice product more efficiently.
Okay.
Larry high margin capacity coming on given the type of products.
Users discuss whats coming on stream, it's an accretive margin capacity that is coming online, yes, and it sounds like that being said they got older inefficient cost.
Can you quantify a little bit what the impact might be just a sense of is this adding an extra 5% 10% of capacity across the whole company be it in high margin products, but revenue thought process.
Yeah.
I would probably tell you that somewhere.
<unk>.
Maybe.
In the.
5%, plus or minus Thats, probably the right number to think about that okay. Thank you.
The.
Coming back to your.
Original question about the polymer.
The issue with the polymer is not something that we.
Debt that we manufactured this is raw material input.
That is highly engineered that is an extreme consider.
Constrained supply.
Two things are happening number one.
This continues to escalate.
Polymer.
Traditional supply and demand depot situation and two there's just simply not enough of it.
Round the world.
Taking into account how much capacity came offline.
Two the conflict in Russia and Ukraine.
So that is a.
There is an issue that we're trying to address we have a line of sight of being able to address it.
Doing a couple of things one.
We are qualifying other sources of course.
We have long term partnerships with and two.
We all saw engineering alternatives around the raw material supply, we believe that we should be in a position to start seeing some level of relief in.
Q4.
Particularly showed that engineered solution, but we're just not counting taking into account everything that's happening in the world.
We have not really been able to depend on lots of certainty.
Over the last 12 to 18 months. So we just would it be.
Realistic about our ability to ramp everything up and be in a situation to take I'll be in a position.
To take advantage of incremental capacity on one side and to the solution to that raw material input.
Your next question is from Deane Dray of RBC capital markets. Please go ahead. Your line is open.
Thank you and good morning, everyone.
Good morning.
Hey, just want to.
Follow up on that where we left off there.
And it relates to Josh as question too, where Evo you said that you've had some challenges.
With being able to supply some of the Oes is that related to this.
Raw material availability of these resins.
And.
Have you.
Just last the OAS and alert or are they getting sourcing elsewhere is there any market share loss or everyone's on the same boat can't produce that particular product.
So everybody is in the same boat because this is a.
Reasonably common.
Polymer that is used in the products that.
In past it so I think that the Oems.
They're getting what they need but they are getting it similarly to kind of what we are getting a raw material is just stuff to be timely and stuff too.
Fulfill perhaps.
All of the demand that they would like to if they were interested in building a little bit of a buffer. This just no ability to build any buffer because the raw material is just simply not available solid I would tell you that we have not.
Certainly we have not been notified of nor we have seen any loss of market share through.
The order flow.
And I apologize.
Kind of the front end of the question escapes me.
You address that at all.
And then second question for Europe are you factoring in any risk of energy rationing in any of your manufacturing plants.
Then we are pretty forward looking about our ability to to look at alternatives to the energy that we use particularly international gas.
So we are putting our contingency plans.
In place.
To be able to continue to operate our facilities.
In a reasonably constrained environment from.
From that energy input.
So.
We feel.
K about having debt alternatives.
Obviously.
Time will time will tell how severe.
It may be and we have I think taken a pragmatic view of what it will do to Europe in the second half.
Got it and just last one for Brooks on.
Got into the low end of the previous Capex range is there anything thats been pushed out.
Particular projects.
And you can share there thanks.
No nothing nothing has been pushed out or anything like that.
Just a matter of getting projects done and completed.
<unk> I would probably add that similar to <unk>.
Our ability to secure raw materials. It is as difficult to secure some components of key capital equipment.
To be able to complete these projects relatively projects are stretching out then I would say that thats one of the headaches that you have if you have been adding capacity presently in this environment, there's just a level of uncertainty.
Being able to get some of these critical components, whether or not you can get.
Variable speed drive saw controllers central and so forth. So all of that has an impact not just on your ability to produce products, but also when your ability to produce some of these larger capital projects.
Yes.
Heard a number of companies say exactly that evo so.
That's completely understandable that also.
<unk>, then lower Capex. So I appreciate that color. Thank you.
Your next question is from Andy Kaplowitz of Citigroup. Please go ahead. Your line is open.
Good morning, everyone.
Good morning, Andy.
Could you talk about the resiliency that you expect for personal mobility and diversified industrials as we know you've been focused on investing in those businesses. Obviously, you told us that they've been strong but do you have any concerns about personal mobility exposure to consumers and then as you go out into 'twenty. Three are these end market share gains is going to be big enough.
We're assuming they hold up taking materially improve.
So organic growth.
Yes look I mean, I think the personal mobility.
Can take to kind of to take solid consumer gets impacted.
Then could that impact that business and our view is that.
Probably not.
Because they have such a.
Early stage of penetrating those markets with balanced replace chains and as dead as the electrification of personal mobility scales up.
Just see very robust demand.
For a decade, plus that could represent an opportunity for us to offset maybe some other headwinds that you may have in more challenged.
Economic environments and business is starting to get.
Pretty meaningful obviously three years of solid was less than $20 million.
It's going to approach a couple $100 million in in 2000.
And 'twenty, two and it could be bigger.
We had a supply we just.
As we discussed trying to ramp up that supply as soon as we can in the backlog is very robust, particularly on our mobility and it's quite quite substantial. So we're very excited about what can happen there.
We believe that a similar opportunity exists in industrial chain to belt, particularly as folks are much more focused on efficiency in operating industrial asset, we all have to do better reducing footprint.
Foot print.
That plays that bodes well for for this initiative for Bill Gates Corporation for a very very long time, so although I can I can clearly be able to tell you what will happen in 2023. These are the macroeconomics.
All of the end market demand.
We continue to be focused on executing what is within our control I'll keep making investments in both new product development, new product launches and capacity expansion in support of these more secular it impacted opportunities for us and we believe that that's it.
Great.
<unk> future debt.
Live for us well.
Into the end of this decade.
Very helpful. And then I think you had mentioned auto replacement in the low 20% growth range is obviously feel quite strong. So you could talk about what youre seeing in that business is going to be understanding that auto first fit continues to be smaller part of your sales maybe you could talk about your expectations now given our scale pretty difficult auto production demand.
Yes look the other replacement in a 'twenty instead I mentioned was in our fluid power segment of our business Andy So it's in.
On the engine cooling side kind of the battery cooling side.
Electrification is that.
We have spoken spoken about in the past so.
That's an area that has grown very very fast for us.
On the automotive first fit the automotive first fit in.
I think that as you recall I've been very very negative on auto first fit because we just didn't believe that there.
There is an opportunity to recover that that quickly from the supply chain shortages.
We remain.
Very.
Cautiously.
Maybe a cautiously negative.
We believe that it will take much more time for the supply chain to heal 40 automotive automotive Oems. They are making calls every day about what what vehicles, they're going to build and we don't anticipate a very significant increase in volume growth in the second half of this year, but then.
Being said.
No building lots of costs, so what will happen in the economy flips upside down is there kind of the traditional significant downside to it.
I would say, that's probably not something that you will see may be more muted impact on the auto OEM side, maybe historically, so it's kind of a.
It's a tail off.
Two stories.
We believe that there is not an upside in the second half for auto auto OEM and we also believe that there's probably not as dramatic downside.
Even as you extrapolate with potentially the economy may look like in 2023.
Austin thing very good.
Unfortunately, most of our business in right I mean, most of our business in Russia, We will say so from a comp perspective.
So very difficult venue.
When you take into account the Russia situation, but outside of Russia that business continues to do quite well.
I appreciate it.
Your next question is from Nigel Coe of Wolfe Research. Please go ahead. Your line is open.
Thanks, Good morning, everyone.
Good morning.
Yes, good morning.
We've sort of really attacked the second half guide I guess, we've gone through it.
Obviously I think we're forecasting.
Question Brooks.
Roughly level sales in dollar terms versus the second quarter.
Typically we see a dropdown Sydney quite significant drop down in the second half of the year. So.
<unk>, China is part of that but it also.
You talked about shipment backlog so.
I don't know if you've given the dollar backlog number Brooks, but if you could just maybe just give us a little bit of color in terms of where that sits.
Today. This is normal levels that would be helpful.
Nigel.
Our backlog is.
All time high.
Unfortunately, because as you know we are.
Book and ship business, not a backlog business, but the backlog here so over $100 million.
And just for reference it's kind of <unk> what it was during the peak of 2018. So we've built quite a bit of backlog lots of that backlog is coming from personal mobility and lots of that backlog.
Coming in from.
Some of the more constrained lines some of them in in hydraulics.
And some of them in engine cooling saw.
It's very robust.
I cannot tell you that I am looking extremely towards the data that backlog drops and I will not look at that as a negative.
Really look at this as a.
Incredibly positive situation, because we will be more in balance.
With the underlying market demand.
And the one thing I'll remind you up too is we are going to get significant pricing tailwind.
In the second half versus the first half as well as all the pricing that we've put in place comes online. So that's that's going to be a benefit as well.
So higher dollar priced but lower year over year prices because of the comps again on that and then just a quick one for you <unk> Evo on Europe with the potential for gas rationing and I'm just wondering how are your customers.
Thinking about that so potempa thats I don't know if this eventuality of potential.
Are there any pre production going on ahead of that so was it just a case of you know.
Let's see what happens what are you seeing out there.
I wouldn't.
I wouldn't say, it's just let's see what happens and I think that there is a tremendous amount of anxiety Nigel I think that everybody is.
Thinking about how they will operate should that eventuality come to fruition. Yeah, just like what we are doing right. I mean, we are looking at what Optionality, we have why industrial asset and we do have some optionality in some of the larger plants and we are enacting on dose on those contingency plans.
Thing that the problem that you are facing right now is this just simply no capacity.
And so even if you were willing to carry more inventory. It is very difficult to be able to build that inventory up ahead of any potential disruptions.
And I.
I wish that.
I could give you a better answer than that but I just don't see any buildup certainly I see no buildup in the Oems and I do not see buildup in the replacement channels permanently.
No that's very helpful. Thanks Eva.
Your next question is from Jamie Cook of Credit Suisse. Please go ahead. Your line is open.
Hi, good morning.
Quick follow up.
Can you comment on whether the cadence of sales changed.
Throughout the quarter and sort of trends that youre seeing in July I know, you said, China comment on China.
Some of your peers noted that Europe got better snapback in July so what youre seeing in basically in July and then just a clarification just on Julians question on the cash flow can you just sorry.
Where exactly do you expect inventory levels to be as we exit the year. Thanks.
Yes sure China.
Much better.
Europe , we actually had a pretty pretty solid performance in Europe apps in Russia, and in second quarter, and we kind of.
Maintained the purview of that it's more of a status quo and nothing is going off the rails and I can also tell you that anything is.
Snapping back because we just didnt CFS.
A significant decline.
Absent of.
Absent of Russia business in Europe was kind of high single digits in Q2, which is great.
Looking into that continue into July because other people were saying that July .
You mentioned strength in July so I'm, just trying to figure out how the trend is clear.
Jamie as I said, I mean, I think that it's kind of a status quo for assets.
It remains.
In a very positive still I mean, I think positive, let's say so no change to the trajectory in Europe .
China is changing trajectory so China is.
Healing.
Again, we havent put a.
Lots of.
Backend recovery in China, but.
Essentially a situation out there.
China.
I'm, a little bit better than certainly what we would we anticipate absent of any additional incremental shutdowns that they made.
Could potentially instill.
The answer to inventory.
We believe we will start eating into our inventory as we exit.
2022, again, we are not baking in any.
The dramatic change in our finished goods inventory, but we start seeing that we will exit at a lower point than we have been.
Operating over the last 18 months or so.
<unk>.
Again, not taking any production offline, we can do that at this point in time demand continues to exceed our ability to supply, but we are balancing what we make.
We are balancing the use of more of.
With that we have on hand in the raw material that we have been able to secure.
Now the fact that it's a lower inventory level.
And just a little bit more color on that will be will be down year over year.
Fairly fairly significantly, but we won't be back to our normal inventory levels will still be carrying elevated levels of inventory over what we normally would.
Okay. Thank you that's helpful.
Yes.
There are no further questions at this time I will now turn the call over to Bill Wilson for closing remarks.
Thank you everyone for your time and interest as always the team here is available for any follow up questions or discussion otherwise we look forward to updating you again after the third quarter have a good day.
This concludes today's conference call. Thank you for your participation you may now disconnect.
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