Q2 2022 Eaton Corporation PLC Earnings Call
Okay.
Ladies and gentlemen, thank you for standing by and welcome to the Eaton second quarter earnings Conference call. At this time all participants are in a listen only mode. Later, we will conduct a question and answer session. If you wish to ask a question. Please.
Plus at one zero should you require assistance during the call. Please press Star then zero and an operator will assist you offline and as a reminder, today's conference is being recorded I would now like to turn the conference over to your host engine Senior Vice President of Investor Relations. Please go ahead.
Hi, good morning.
Thank you for joining us for <unk> second quarter 2022 earnings call with me today, Craig Arnold, our chairman and CEO , and Tom Okray, Executive Vice President and Chief Financial Officer, our agenda today, including opening remarks by Craig highlighting the company's full forming the second quarter as we have done our past calls we'll be taking questions.
Eight end of Craig's comments, the press release and the presentation. We'll go through today have been posted on our website. This presentation, including adjusted earnings per share adjusted free cash flow and other non-GAAP measures. There are reconciled in the appendix a webcast of this poised accessible on our website and it will be available for replay.
I would like to remind you that our comments today will include statements related to expected future results of the company and are therefore forward looking statements. Our actual results may differ materially from our forecast.
Projections due to a wide range of risks and uncertainties that are described in our current earning release and the presentation with that I'll turn it over to Craig Okay. Thanks, Dan I appreciate it.
The summary of the quarter on page three and I'll begin by noting that we had a strong quarter.
We posted a number of all time records led by 11% organic growth.
Our performance was particularly strong in our electrical businesses, both in the Americas and global and as you can see orders remained strong and we continue to build record backlogs.
Supporting the outlook for the year and really in many cases I'd say into next year.
And I'd emphasize that nearly all of our end markets remained strong, but we're seeing significant strength in commercial and industrial and data centers and residential markets in our electrical businesses and in our aerospace business. We saw strong growth in the commercial business, both in aftermarket and OEM.
This strength I would say is reflected.
And order growth in electrical which was up 25% and the aerospace business, which was up 19% on a rolling 12 month basis.
And our backlog was up from 74% in electrical and 12% in aerospace.
As reported we also delivered adjusted EPS of $1 87.
A 9% increase over prior year, and an all time record more than offsetting a <unk> <unk> headwind from the impact of acquisitions and divestitures you'll.
You'll recall that we owned the hydraulics business in all of Q2 last year.
The $1 87, a share was close to the high end of our guidance range as well.
We also posted an all time record segment margins of 21% up 150 basis points over prior year and above the high end of our guidance. So.
So in addition to strong growth our teams have done really an effective job of managing price to offset inflation.
And lastly, we're raising our full year guidance as well, we're increasing our organic growth forecast from a range of up 9% to 11% to up 11% to 13%.
And we're increasing our full year adjusted EPS grew $7 50.
<unk> at the midpoint.
14% year on year growth.
And despite additional headwinds from FX from higher interest expense and lower pension income.
Moving to page four we show the financial results for the quarter and I'll. Just note a few items here first our revenues were flat year over year with 11% organic growth offset by the net impact of acquisitions and divestitures of some 9% and 2% from negative FX.
And we're certainly very pleased with this level of organic growth, but I would also note that growth could have been much better but for persistent shortages of electronic components and COVID-19 related lockdowns in China.
Second currency headwinds were worse than we expected in our guidance and an almost $150 million impact versus prior year.
As Youll see in our forward guidance, we expect this number to get worse in the second half.
The FX headwinds were also reduced our adjusted EPS by approximately <unk> five in the quarter.
Lastly, I'd like to emphasize that we really did achieve a number of all time records in the quarter, including segment operating profit segment operating margins and adjusted EPS.
Next on page five we have the results of our electrical Americas business and really just a strong quarter across the board here.
As you can see organic growth up 16% and record segment margins of 23, 2%.
We delivered strong growth across all end markets with particular strength in commercial residential and industrial markets.
And organic growth actually accelerated from from Q1 up some 10% with sequential acceleration in nearly all of our markets with the biggest increases coming from utility data centers and commercial markets.
We did manage to through a number of fairly significant supply chain constraints, but did see improvements in metals and resins and logistics, but continue to see challenges in electronic components.
Orders on a rolling 12 month basis were up 29% with strength across all end markets with a range of anywhere from up 18% to up 39%.
So we continue to be pleased with strong demand that we're seeing in our end markets and with our backlog, which increased from 89% to a new record level.
On a sequential basis, our backlog growth was up almost 20% from Q1, we.
We also delivered record operating margins of 23, 2% up 190 points driven largely by better than expected volumes and of note. We were successful in offsetting inflation with price and expect this to continue to be on the plus side in the second half.
Turning to page six we show the results of our electrical global segment produced another very strong quarter, including all time record sales. In fact, this is our fifth quarter in a row with double digit organic revenue growth.
Organic growth was 12% with 7% headwind from currency.
Saw growth in all regions with particular strength in data centers commercial and industrial markets.
And orders on a rolling 12 month basis, we're up some 19%, while our backlog grew 38% to a new record level.
Also delivered record Q2 operating profits and operating margins at 18, 9% operating margins were up some 60 basis points from prior year.
And lastly, we recently closed a new joint venture in China by acquiring 50% of Jiangsu, Guangdong electric which manufacturers.
And markets low voltage circuit breakers in China for the renewable energy market.
I'd say here.
This is our third.
Electrical JV in China in the last eight months, which allows us to expand our market participation by offering what we'd say is a multi tiered portfolio of products, serving this very high growth market, both inside and outside of China.
And on a combined basis. These three jv's increase our addressable market to about by about $17 billion and so really important part of our future growth strategy coming out of these jv's.
Before we move to our industrial businesses, Here's where I'd summarize the performance of our combined electrical business overall, our electrical sector posted a strong Q2 with 14% organic growth and 150 basis points improvement in margins.
And of note, we really have not seen a slowdown in any of our markets. We continue to see strong growth in orders and backlogs are at record levels.
Say that the secular growth trends that we've discussed in the past, including entity transition are clearly showing up in our order book.
Moving to page seven we have a recap of our aerospace segment revenues increased 19%, including 10% organic growth.
12% growth coming from mission systems acquisition and 3%.
Currency headwind.
Organic growth in the quarter was particularly strong in our commercial aftermarket and commercial OEM businesses on a rolling 12 month basis.
Orders increased 19%, while backlog was up 12%.
In the commercial market as many of you travel continues to continue to show positive improvements in both domestic and international markets.
Certainly a positive indicator for future growth and is consistent with what we saw in the quarter.
I would add that while strong our commercial aftermarket bookings are only at 85% to 90% of their pre pandemic levels. So we still have ample room for additional growth in this particular segment.
In commercial OEM activities as you read also continued to recover.
For our military markets, we expect to see increased tailwind in defense spending, including an uptick in U S defense budgets.
Already seen renewed commitments from the European NATO members and expect this to lead to increased defense spending over the next several years.
We're also pleased with the profitability of this segment as operating margin stepped up 90 basis points to 21, 9%.
Youll recall that the peak margins for aerospace business was 25%. So we expect this number to continue to move up over the next few years.
Next on page eight we summarize the performance of our vehicle segment revenues were up 5%, which includes 7% organic growth and 2% negative currency.
We had particular strength in the North America light vehicle markets and in our South America business, which was partially offset by flat performance in Europe and weakness in China, largely due to the Covid lockdowns.
Operating margins were down some 260 basis points, driven primarily by margin compression from inflationary costs and the normal lag in our ability to recover price in the marketplace. We.
We do expect that the price inflation equation will improve in the second half and it's reflected in our outlook for the year.
Turning to page nine we show the result of our E mobility business revenues increased 55%, which includes 11% organic growth, 46% from the acquisition of Royal power and a negative 2% currency impact.
During the quarter, we also delivered more than $70 million of material wins, including a number of wins that leverage our core competency as a company and power distribution and power protection and.
And while still slightly negative we narrowed the operating losses by some 530 basis points.
This improvement was delivered generated by higher volumes and certainly by the acquisition of Royal power.
I would also note that at the six month point, our integration of Royal power remains on track and the expected synergies.
Allowing <unk> to sell a broader solution to the marketplace is playing out just as we'd hoped.
Overall, while we continue to make steady progress towards our 2030 goal, which is to create a $2 billion to $4 billion business with attractive 15% segment margins.
And as we noted at our Investor meeting earlier. This year, we expect the segment to deliver $1 $2 billion of revenues and 11% margins by 2025.
Next on slide 10, we have the updated guidance for 2022.
You can see for the second time this year, we're increasing our organic growth guidance for all but one of our segments really based upon continued strength in all of our end markets.
We're raising our overall organic growth from 9% to 11% to 11% to 13%.
On the back really have strengthened our electrical segment, where we've increased growth by 300 basis points in the Americas, and 150 basis points and global.
For margins.
Using our full year guidance for Eaton to be in the range of 20% to 24%, which represents at the midpoint 130 basis point improvement over 2021.
The two changes in the segment include increasing margin guidance for electrical Americas by 70 basis points to 22, 2% at the midpoint and lowering our margin targets for vehicle by 120 basis points to 15 16, 5% at the midpoint.
As we talked about the vehicle reduction really reflects the timing.
And margin compression associated with inflation versus price realization that we discussed earlier.
So overall, I'd say strong first half, including robust demand and orders record levels of backlog and we are very well positioned for the year.
Moving to page 11, we show the balance of our guidance for the year for the second time. This year, we're raising our 'twenty two guidance for adjusted EPS, which is now forecasted to be between $7 36, and $7 76 a share.
And as I covered on prior pages, we're increasing our organic growth outlook to 11% to 13%.
I would note. This is partially offset by $450 million of negative currency, which compares to our previous guidance of negative $250 million.
The stronger dollar requires us to in this case offset some additional <unk> of.
<unk> earnings versus our prior guidance, which we are clearly doing and is reflected in our outlook.
We also expect that our corporate expenses will now be $20 million to $40 million above 2021 levels or between $580 million and $600 million.
So another four to eight headwinds that we are offsetting and our adjusted EPS guidance for the year.
This is primarily due to higher interest expense and lower pension income.
So to recap, we're raising our adjusted EPS guidance by 4% by.
<unk> despite between 12 to 16.
Of incremental headwinds from FX interest and pension.
The remainder of our full year guidance remains unchanged.
Now just a few highlights on our Q3 guidance, we expect adjusted EPS to be between $1 95, and 205 a share.
Organic growth to be between 13, and 15% and segment margins to be between 26 and 21%.
And at the midpoint of our guidance margins are expected to be up some 70 basis points from Q2.
And that.
EPS midpoint of $2 a share our Q3 guidance represents 14% growth versus prior year.
So this is wrapping up on page 12, just a recap a few points first I'd say, we continue to realize the benefits of our active portfolio management, which is certainly showing up in our record levels of financial performance.
We're seeing secular trends that are enhancing our end market growth right now and we fully expect this to continue into the future.
We've discussed growth in electrification and energy transition and digitalization for some time now and these trends really I'd say have only accelerated.
So despite all the talk about a potential slowdown in downturn in the market.
And we will be ready if we have one we're focused on investing to capitalize on what we see as a super growth cycle, driven by favorable trends and the recovery in some of our other end markets.
So every time you hear sustainability climate change and resiliency, you're really hearing about growth opportunities for our company that we're capitalizing on today and will be for the foreseeable future.
And this is certainly showing up in our sales results our orders in our backlog, which are all at record levels.
Now these factors, obviously contributes to our confidence in our ability to raise guidance for the year.
But more importantly, I would say they really give us confidence in the long term outlook for the company.
In the short term, we're working through supply chain disruptions focusing on controlling the things that we can control building more resiliency in our operations and delivering our commitments.
With that I'll turn it back to yen and we'll open it up for Q&A. Okay. Good. Thanks, Craig for the Q&A session. Today. Please limit your questions to one question and one follow up <unk> the ones for your cooperation with that I will turn it into to the operator will give you guys the instruction.
Thank you and ladies and gentlemen, if you wish to ask a question. Please press London Chemo and you touched on <unk>, you will hear an acknowledgment town that you've been placed in the queue and you may remove yourself from queue at any time by repeating the ones Neil Mcmahon.
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Our first question will come from the line of.
Andrew <unk> from Bank of America. Please go ahead.
Yes. Good morning can you hear me.
Andrew We can hear you fine good morning excellent good morning. So.
A question for Craig the view among investors right or wrong is that we will see an economic downturn soon.
So how would <unk> electric incremental margins perform.
A environment, where the majority of revenue growth is from pricing versus sort of more normal periods was balance of volume and price contribution.
I appreciate the question, Andrew and I would say that first of all in general terms our company, we've always performed well.
In an economic downturn.
We know how to do a few things well and certainly one of those is we know how to flex the company in the event of an economic downturn and we typically perform much better from a decremental basis.
And we do certainly on an incremental basis than in a typical recession, we would see some 20% to 25% decremental performance in our business and I don't think that our electrical business will be largely different in that I think that.
At this point as I mentioned, we're not anticipating.
A reduction in growth in our business even in the event of a of a typical mild recession, we think our company and certainly our electrical business. We will continue to grow you saw some of those order numbers the backlog numbers that we talked about our negotiation pipeline has never been stronger and so we think that the company overall as a result of a lot of them.
Our portfolio related changes that we've made as a result of the secular growth trends performed as well in the even in the event of an economic downturn, but if there is one.
We have a playbook.
We understand what we need to do in the event of a economic slowdown that impacts our revenue we have projects identified ready to go if we end up in that scenario, but that is certainly not our base case, but I would say you could think about 20% to 25% decrementals in the event of a slowdown.
A material slowdown.
Great I appreciate it and then just a follow up maybe just speak to why you're confident but can we just get your initial view on Senator Manchin news and potential additional 370 billion on spend on energy security like how meaningful could this be for eaton's end market and more broadly have you started to see orders tied to U S and EU stimulus bills.
Which both have sizable energy infrastructure spending levels. Thanks.
Yes, I would say.
The compromise.
The mansion and the other members of the.
Certainly.
House of come up with at this point would be certainly positive for our company. If you think about where those dollars are going to go in whether its energy transition, whether it's related to evs, whether it's related to building out some of our critical infrastructure water wastewater.
Airports.
It is a certainly a net positive for our company overall and I would say that addition juncture.
Not factored obviously any of that in that becomes naturally an additional tailwind for the company.
All of these spending bills, obviously need to go through the final approvals and ultimately be signed off on by the president, but I would say.
The timing standpoint that really becomes largely a 'twenty three 'twenty four kind of tailwind for the company overall as are most of these stimulus related projects.
Very seldom do you have a stimulus bill approved that it results in any near term impact on revenue, but its certainly all very positive for the long term growth outlook, especially in our electrical business, where we'll see most of these benefits.
And any impact from what's been passed so right now youre starting to see it in the number I was really just robust numbers reflects a lot of it already.
Yes, I would say.
At this juncture on the margin there have been some minor projects I'd say, Andrew that we've seen some benefit from them, but most of this stuff I'd say, maybe you get something in.
In the fourth quarter minor, but you don't really get to any material impact from most of the stimulus measures until you really get into 'twenty, three and some of them actually will extend out into 'twenty four depending upon the type of project and the lead time.
But all positive.
Positive net positive for the company.
Thanks Sidetrack congrats.
Thank you.
Thank you. The next question is from Nigel Coe from Wolfe Research. Please go ahead.
Good morning. This is Ryan <unk> on for Nigel can you hear me Alright, yes, Brian we can hear you fine.
Great. So just expanding more in the Electricals Americas segment could you just talk a little bit about what might've changed during the quarter have you seen improvement in key supply chain bottlenecks or factor factory labor productivity.
Yes, I'd say that it really strong quarter as we talked about in electrical Americas segment.
And I would say that with respect to supply chain.
We had been very constrained really across the board in during the course of the quarter certainly some of the important commodities for us whether it's copper steel aluminum some of the logistics and supply chain related issues that we've been dealing with during the course of the year have gotten materially better we still have pretty significant issues when it comes to electronic components.
Anything that semiconductor based and so we're certainly not out of the woods there.
We do expect to see some modest improvement in the second half of the year, but really likely going to be sometime into the latter part of 'twenty three before most of those issues resolve themselves and so I'd say that.
In the Americas business.
The big message here is that our end markets are very strong across the board.
And it's the growth in our end markets had its allowing our business to perform as well as it is.
Okay. That's great and then just shifting gears for my follow up on the Aerospace segment could you just dig into a little more looking at the growth in commercial versus military and OEM versus aftermarket.
I know that you mentioned an uptick in defense spending over the next few years. So I guess, just touching on that and any other supply constraints that we should be thinking of in the back end of the year.
First of all I would say that just as you think about our aerospace business with the acquisition of <unk>. We're now bandwidth about 50 50 between.
Commercial and defense.
We talked about in some of my outbound commentary, we're seeing a very strong recovery and on the commercial side of the business both in the aftermarket as well as in the OEM side, and so but still as I mentioned well below pre COVID-19 levels that we experienced back in 2019, and so we still have.
A long way to go on.
On the commercial side, but those businesses in those markets are performing well and we expect to see them continue to recover over the next few years or so and on the defense side, we really come into the year with an expectation of those markets being flat to up slightly and quite frankly with some of the conflicts that are happening around the world.
We've already seen.
Certainly the Europeans.
Commit to increasing their defense spending we saw a defense budget in the U S come in higher than what was originally anticipated. So we do believe that even though on the defense side of the equation.
We think that the defense markets will grow more favorably over the next few years and we were thinking certainly coming into the year and so I think aerospace is another one of these businesses, that's really poised for let's say cyclical.
Growth on the commercial side and given some of the geopolitical challenges.
In the World Defense spending is likely to go up around the world and so we're feeling very good about the way we're positioned in aerospace and I think that's going to be an attractive market for us for some years to come.
That's very helpful. Thank you.
Thank you and our next question is the line of Scott Davis from Melius Research. Please go ahead.
Good morning, Greg.
Good morning.
It all sounds.
Super positive in fact, almost two positive I have to ask the question is there.
Do you have a sense of where inventories are at and each of your key end markets and if there is a little bit of a.
Now buildup going on there.
Yes.
Yes, I can certainly appreciate kind of the thought.
Thought Scott that it all fields.
Positive in some cases, two positive we want a pinch ourselves, sometimes as well because I mean with the.
And the data would suggest that things are good right now.
As you heard as I talked about the strength in our orders across the board in our electrical business and then you.
Factor on top of that a cyclical recovery in aerospace higher defense spending given the geopolitical events and quite frankly, even in the vehicle market given the level of inventory you mentioned a question around inventory inventory levels.
In the passenger car market around the world are at historically low levels and so even in the event of an economic slowdown.
You have to rebuild inventories in the channel and certainly there's a lot of rebuilding that needs to take place in global vehicle markets around the world.
Then you have E mobility, which is a real growth vector for the company. That's just starting to become a more material part of the organization and so we have a little we have a lot of really positive things going for the organization to the specific question.
Inventory in the channel, that's probably likely in electrical question I would say there.
We test for that as well because we're obviously concerned about.
Your inventory.
Inventory being built up in the channel is there double ordering taking place and every time, we test for it the answer comes back the same not all the case and in fact, the channel today doesn't have as much inventory as they would like especially in products like circuit circuit breakers.
We will oftentimes the answer this question around double ordering.
Keep in mind that in our electrical business that 75% of what we do in electrical is project based I mean, it's nobody goes out and replaces the electrical circuit breakers or their panel boards, because theres, a new color coming out right. So it's all tied to a.
A project debt.
Our distributors and customers are ordering products for and so we have a lot of confidence that the backlog up some 89% in the Americas is solid.
We would expect a slowdown I mean, you can't continue to grow at these levels for.
Indefinite period and the base effect, obviously, you can be comping, some much bigger numbers as we move forward and into next year, but the markets are actually quite good right now yeah, and Scott just to add a little bit more color to that pinch my story. If you look in the electrical business and both sale.
As well as orders every single one of our end markets was up significantly and within those end markets.
Some of them growing significantly more so it's really it's really strength across the board.
Okay, I'm going to stick to one question as directed and I wish you all the best of luck. Thank you. Thanks, Scott I appreciate it.
Thank you. The next question is from the line of Josh consequence, he from Morgan Stanley . Please go ahead.
Hi, good morning, guys.
Good morning.
Greg just wanted to ask about electrical Americas margins, they're pretty impressive here at avid pursuit presume still kind of primed for helps for metals inflation. Maybe later this year or into next year.
Where should we think about as sort of a ceiling on those maybe over the next kind of 12 to 18 months or maybe said differently how.
Are you willing to let those go before you start kind of really put.
The pedal to the foreign reinvestment.
Yes, no I'd say that.
We are reinvesting today, maybe it takes a second half of that question first and we are absolutely reinvesting in the business and reinvesting at a rate that's higher than we've ever invested our R&D spending was up in the quarter.
Quite materially and we will continue to invest and so we are not in any way.
Holding back on investments as you think about we talked about these really important secular growth trends that we're looking in the face of <unk>.
Energy transition digitalization electrification every one of these initiatives requires R&D, we're investing and capitalizing and building new factories to support this growth outlook that we have and so we're clearly investing in the business to the point on margins and how high can they go and when do we become concerned.
I would say that.
We've set long term margin targets for the business and what we've done historically our practices, we deliver those targets and then you think about the next raise and so I'd say at this point once we get to that plateau and consistently deliver these longer term targets, which I believe we said were 22%.
For the electrical Americas business I mean.
We will then is we took we do every year as we think about it in our Investor meeting, we will take a look at whether after appropriate to raise those numbers, but I would say that is if you think about even.
Our execution performance today, we have a lot of inefficiencies that were absorbing today in the business as you can manage some of the supply chain issues have created fairly significant disruptions in our plants and in our facilities and so we're not operating today.
Anywhere close to our peak efficiency and so there is room to raise margins by just improving our execution working through some of these supply chain issues and getting some of the inefficiencies out so I'd say that we're not.
Not near the top.
In terms of controlling our own destiny independent.
Independent of what happens in the marketplace. Yeah, just one nuance on investment. We're also in addition to R&D, we are investing in selling resources as well and to the doing better I mean, if you look at our distribution our freight we're doing a lot less than truckload because of the because of our supply disruption. So.
Definitely can get a lot better.
Got it that's helpful and then hard not to notice that on the orders front you guys have sort of comp the comp at this point.
In terms of that big step up in the order comps.
Post the post pandemic.
What attributed to any specific end markets, you kind of mentioned pretty broad based growth, but trying to tease out if theres any specific market that kind of drove that that performance versus the comp or if price played kind of an unusual world.
I would say that.
Okay.
On the order side. These big numbers that we're talking about and we'd love to think that we're getting 25% to 30% price, but trust me, it's nowhere close to nowhere close to those numbers and so this is just real economic activity, it's real volume in the order growth and as we talked about really strong order growth in data centers really strong order growth.
The utility markets.
Really strong order growth and in many cases, even in commercial.
Which is a segment that people were concerned about residential as well and even resi in resi at some point will turn but.
Despite all of the gloom and Doom that's been forecasted in Brazil, we had very strong orders.
And very strong sales growth in the quarter and the resi as well.
I appreciate the color best of luck guys.
Thank you. The next question is from John Walsh from Credit Suisse. Please go ahead.
Hi, good morning.
Good morning, Tony.
Wanted to build on that electrical Americas line of questioning just trying to conceptualize what backlog up 89% year over year really means kind of how much of that.
Gives you visibility already into next year I've always thought of that as kind of shorter cycle and then maybe just anything around what the price looks like in that backlog.
I would assume that's going to be a margin tailwind as you deliver it.
Thank you.
No I appreciate the question I mean, it's 89% increase in the backlog. We think is a reflection as we talked about clearly a strong market. So the other thing that we believe and we've seen evidence has taken places that we're probably we're not getting orders that we would not have gotten otherwise, but we'll probably.
<unk> orders today, a little earlier in the project than we would historically received them. So so I do believe some of this backlog is a function of the fact that youre going to get that order.
In October that order, maybe youre getting now in September so the orders are coming in a little earlier than they would have but it is good news in terms of visibility I mean, it certainly gives us certainly visibility into <unk>.
Projects and gives us a lot more confidence as we think about 2023 and to your point a lot of these projects will be delivered in 2023, even even if we wanted to deliver them. This year, we don't have the capacity.
And our operations to do it.
And so we do have perhaps better visibility than we've ever had going into 2023 at this point in the year.
And to the question on price I don't expect.
The price in the backlog to have a material impact on margins I think reflected in our margin guidance is.
It's very much consistent with the underlying margin performance that we're seeing in the business. Today you just saw we posted a very strong number in the second quarter of 'twenty three plus percent in the America segment. So I would not expect this backlog to be.
Delivering accretive margins to kind of the underlying assumptions that we have even in the implied number.
$22 722, 8% in the second half of the year, but in many cases, we have had to go out and reprice for backlog.
And Thats part of.
One of the things that we're certainly seeing the benefit of today or certainly not seeing a drag on our margins as a result of commodities versus price.
Great.
Pass it along appreciate it thanks Joan.
Thank you and the next question is Joe Ritchie from Goldman Sachs. Please go ahead.
Thank you and good morning, everyone. Good morning, Joe.
Yes, so maybe just parsing out the price volume comments, a little bit how much of that.
The organic growth this quarter was price and then Craig as you kind of think about the second half of the year and the impact that price cost has to the business like what.
What kind of like positive impact are you expecting to see either on a dollar basis or from a margin perspective versus the first half.
I appreciate the question.
Been asked this one before in terms of really separating price versus volume and Joe one of the things. We said is that in.
Because we're in so many different businesses.
So many of our different businesses have really different.
Make ups that we've not given out a number.
And we're not going to do that today, either in terms of price versus volume I will tell you that we are getting significant contributions from both.
Certainly in our results as well as in our order outlook.
And I'd say in terms of price versus cost I would say today, if you think about it on a rolling basis.
We are now as a company on the plus side, which I mentioned in my commentary and some of our businesses. We still have some work to do to catch up as we mentioned in the vehicle business where today.
We are recovering inflation.
For the most part.
We're not getting margin on.
On inflation and as a result, it's compressing our return on sales.
And I'd say as we as we look forward, we would not expect.
Price versus commodities to basically be have a positive impact on our overall <unk>.
Segment margins.
Okay helpful. Greg and just my quick follow on question no one's asked it like the demand trends evolve founded really good clearly theres a lot of concern around Europe and <unk>.
Just wondering just on the margin can you maybe provide some additional color on what youre seeing specifically across your end markets in Europe .
Yes.
Great question and I can say, we're certainly watching all of the same macro issues. We're watching obviously the impact that the war in the Ukraine is having an and.
And concerned about what that could potentially do to demand having said that we had a good quarter in Europe , both in our sales as well as in our orders, which continued to be quite strong through Q2.
Every place I'd say markets other than perhaps in our vehicle business, which is where I mentioned that our sales were essentially flat, but outside of the vehicle business.
Europe for us continues to perform well and hold up better than what you would expect given all of the issues that they're dealing with.
And so we remain quite frankly.
Optimistic about Europe as we look forward, we're going to be prepared like we always are in the event that things turned down.
So far our orders continue to hang in there and as I mentioned the strength in the electrical markets and we're seeing strength every place in these end markets. Its not just in the Americas, We're seeing the same types of strength in Europe as well in data centers.
In commercial markets. These markets are strong there as well.
Good to hear thank you.
Thank you.
Thank you and our next question is Stephen Volkmann from Jefferies. Please go ahead.
Oh, Hey, good morning, guys. Thanks for taking the question just a couple of end market questions for me as well.
Can you just give us a little color on what youre seeing in sort of the real heavy industrial Crouse hinds harsh and hazardous type end markets.
Yes, I mean, those markets are doing well and we talk about what's happening in our global business and that's where we report crouse Hinds in oil and gas industrial.
And Crouse Hinds business is performing very well I mean, I would tell you that.
We're still well below the peak in that business. If you think back to where it took place back in the <unk>.
<unk> hundred nine timeframe and so those markets I'd say are still below those levels, but we're certainly seeing strong double digit growth in that side of the business as well and we would expect to see that continue for some time to come given the broader issues that we're dealing with the macro issues and the availability of.
Reliable sources of energy whether that comes from some of the renewables or whether that comes from more traditional sources I think the reality is as we think about the implications of what's happening to me in Europe , we're going to see more investment on both sides, you're going to see more investment in renewables, we're going to see more investment in <unk>.
Traditional.
Sources of energy and in both of those who are a good thing for the growth outlook for our industrial businesses and specifically for our crop science business.
Yes, Kraus is another one of our businesses that it's just broad across the board as well if you look at all of our end markets up significantly in sales this quarter.
Super Thanks, and then on data centers I assume that's one where you have a little bit more lead time visibility as well.
Anything to call out there relative to sort of.
Size of the data centers or locations or just anything to call out.
No other than to say that datacenter markets continue to be very strong I'd say, if we take a look at our order growth specifically our order growth on a rolling 12 month basis in data centers was up some 25% in the quarter.
And we're really seeing strength everywhere around the world in Datacenters and so.
It's one of these markets that we think is.
Going to be really positive for the company.
Think loan on a current basis, it's maybe some 18, 19% of the business in our electric business comes from data centers and so it's a it's an important segment for us overall and it's one that discontinued to grow and I personally believe as the world just continues to consume increasing amounts of data there's more edge computing.
Autonomous vehicles I think the data centers is one of these markets that's going to be a very attractive market for for some time to come.
Super I'll pass it on I appreciate it.
Thank you. Our next question is fine Julian Mitchell from Barclays. Please go ahead.
Hi, good morning.
Maybe just a first question, perhaps for Tom just to try and understand the free cash flow here.
Well I think the guidance at the midpoint implies a sort of 78% increase year on year.
In the second half to hit the free cash flow guide.
Just help us sort of bridge that.
You're attributing to sort of earnings underlying earnings versus working capital.
As any sort of one time repeats or non repeats just to try and bridge that big increase.
Sure. Thanks.
Thanks for the question Julien first of all let me take a step back and look at our cash conversion cycle.
DSO was slightly favorable GPO was favorable where we've really made an investment is in our inventory days on hand, and this is an intentional choice to to make sure that we are protecting the significant growth that we've been talking about.
On the call as well as being prepared for our customers with the Choppiness as it relates to the supply disruption as it relates to the second half versus the first half historically, we generate significantly more free cash flow in the second half of the year than we do in the first half.
So we think the second half is going to get better and.
We feel comfortable with our guide right now.
And so is the view that yes, there'll be a very substantial inventory kind of liquidation in the back half is that the.
Sort of the biggest lever behind.
Name is driving the cash flow up.
Well I don't want to talk about that hypothetically right now we're going to balance that obviously with the order flow and what's happening with supply chain, but.
Potentially we will be liquidating some working capital in the back half of the year. If you think about it Julian I would say that today as I mentioned in my commentary. We just had an enormous number of inefficiencies that we're dealing with right now.
Our operations because of supply chain disruptions and as you can imagine it only takes one component.
Could be a very inexpensive component that prevents you from shipping.
A very large piece of electrical and expense piece of electrical switch gear and so we're clearly in some cases as Tom talked about consciously putting some inventory into protect customers to deal with the forward demand. When you look at these orders increase when you look at our backlog.
But some of this was also.
Inefficiencies as a result of all of the supply chain disruptions that we've been living with.
So we clearly I would be disappointed.
I know my team is listening on the call. If we don't do a much better job in DLH in the second half of the year absolutely.
Absolutely and I mean, just just an anecdote or related to the supply disruption. We've got a lot of work in process inventory in our factories and we're waiting for those one or two components to come in so we can ship. The product. That's also creates disruption in terms of the labor and the manufacturing.
So yes, there is a lot of improvement that we can do in the second half of the year end and work and we're on it.
That's helpful. Thank you and then just a quick follow up the vehicle segments.
The sales are guided that to be up high teens or something in the back half year on year organically.
Maybe just help us understand sort of how much is that sustained growth in truck if you like versus a big turnaround in light vehicle any kind of color on the different growth outlook between those two.
I appreciate the question Julian I'd say, what we've actually done in terms of the commercial truck market, we've actually taken our outlook down we had anticipated that North America.
Truck market.
Would be roughly 305000 units.
In our prior guidance, we now think it's going to be closer to $2 94, So we've actually taken the truck piece down.
But we but certainly a lot of the growth is really a return first of all in China.
Anna as you know was essentially shut down for much of Q2, and we have a very.
Sizeable business in our vehicle business in China.
And then you have a lot of the supply chain disruptions that have been especially difficult.
In the light vehicle market and many of those are starting to abate and so we're anticipating with the light vehicle market will see much better performance in the second half and in the first half.
That's great. Thank you.
Alright, thank you.
Thank you. The next question is finding Nikola device from Deutsche Bank. Please go ahead.
Yeah. Thanks, Good morning, guys good morning, Nicole.
Just maybe circling back to the electrical order activity can you just comment Craig on what you guys have been seeing with respect to like large projects versus the shorter cycle component of orders.
Yes, I'd say that quite Frank I don't have that piece of data at my fingertips the coal in general around.
Kind of stratify, the various project sizes, and we'll get back to you on IBM and the team get back to you more specifically on the project side, but I would say just to kind of.
Restate a point that we're making we're seeing broad based strength every place.
Across the board.
In our electrical business.
And as I mentioned, even on our negotiations, which is obviously comes before an order our negotiations are up some 50%.
<unk>.
Last year in some 20% versus Q1, and so we're really just seeing broad based strength in the electrical business and.
We'll have to wait and see with exact data says, but tough to imagine that.
We're not seeing it in large medium and small projects, but we will get you we'll get to the data yet.
Yet on those negotiations were seeing growth in both commercial and industrial both both very strong versus last year and the previous quarter.
That's great to hear and then just as a quick follow up I guess.
Market volatility has picked up.
How are you guys feeling about the M&A pipeline and maybe the potential for continued bolt on.
Turning to medical devices.
Yes no.
As we said and that's certainly reflected in our guidance this year with respect to relatively modest share buyback that.
It was our intention to really to prioritize M&A.
This year and as we look forward as we looked at the pipeline of opportunities that the teams are looking at and we still believe that thats the right call.
Valuations in some cases.
Phil.
<unk> up.
Despite the fact that the market has retreated as you know it always takes a little time between.
Market retrenchment in rising interest rates and what that does to future earned before sellers internalize that.
We're still working.
Some opportunities that we think could be interesting.
But obviously no announcements to make today, but it's certainly still a key priority for the company.
Thanks, Craig I'll pass it on.
Alright, Thanks Nicole.
Thank you. The next question is from Brett Linzey Pharmacy Ho. Please go ahead.
Hi, Good morning, all good morning, good morning.
Hey, just wanted to come back to pricing and specifically stickiness just in terms of the compounding price we've seen in the industry for the last several quarters are you getting any pushback at all from distribution and then I guess would it be a fair assessment that some of the larger investments around solutions that have a payback.
To hold price historically better I'm, just curious how you see that playing out in a deflationary environment.
Yes first thing I would acknowledge is that.
This inflationary environment is not like any that we've ever seen.
In our lifetimes and so we'll have to wait and see how it all plays through but having said that and to the point that you raise historically speaking price has been very sticky in our business and as you know because we go to market through distribution distributors like price.
It gives them an opportunity to revalue inventories and as long as the world continues to hang in there.
It tends to be a good thing for our distributors as well.
And today I don't know what is it 70% of our business goes through distribution and so so I would say that what we would generally expect that our business is that price to be very sticky.
And we're obviously seeing a little bit of retrenchment in commodity costs.
On the material side, but having said that.
Labor costs are up logistics costs are up.
Energy costs are up and so we're just seeing a lot of inflation in almost every aspect of the economy that I would say that even if commodity costs come off a little bit but these other factors are going to keep prices.
And inflation at probably.
Higher levels than you would probably imagine at first blush, So I think.
Long story short, we think it's going to be fairly sticky, which is consistent with the way it's behaved historically.
No I appreciate that and just a follow up you talked about some of the R&D and selling force additions you've made but could you just talk about capital investment and.
Enhancing capacity capture some of these secular trends.
Are you selectively investing in kind of brick and mortar and <unk>.
New capacity and then where is the current plant utilization for your electrical business.
Yes, I'd say the short answer the question is absolutely. Yes, we are in fact, making investments in brick and mortar to deal with this.
The secular growth trends that we see coming to deal with the strong order growth that we have already.
Well as you know our outlook for future years, and so we are having to make capital investments principally to your point in our electrical business.
And so we're making those investments.
Today, we will continue to make them in the future.
<unk>.
So I think it's a reflection of.
The confidence that we have that these markets are going to play out as we expected both on R&D, which I talked about originally to come up with products and solutions to come up with digital offerings and solutions that we're selling into these markets to deal with some of the new technology that we're investing in.
To be ready for energy transition and building up the electrical charging infrastructure.
Across the U S and the rest of the world and so we're definitely in an investment cycle and putting more capital in the business today than we probably have.
In many many years.
I'd say, it's very encouraging aerospace and vehicles largely different we have we really have the investments we need there.
We are still well below peak volume levels, but but in the electrical business.
Out of that we're making big investments in capacity expansion.
Thanks for the color.
Thank you.
Thank you. The next question is from Deane Dray from RBC capital markets. Please go ahead.
Good morning, everyone.
Good morning Deane.
Hey, just covered a lot of ground here, but I was interested in having you expand on the point about.
Circuit breaker.
Scarcity, because that's one of your core businesses.
And my guess is its directly related to semiconductor shortages, but we have heard from a number of companies this quarter talking about kind of gradual improvement in semi conductor availability.
How is that ugly.
Did you all on the electrical side and then specifically in circuit breakers.
No Youre, absolutely right Deane the places where we're having the biggest challenges right now is on anything that takes a microprocessor and increasing what we're finding in the world.
Circuit protection, whether thats residential home or whether that's in our commercial and industrial building.
The intelligent.
Circuit Breakers are in demand they are growing at a faster rate and Thats, where we have been challenged certainly up to this point this year and I would say as we look forward, we have things have gotten better.
We are basically.
Crawled and circle.
The Earth trying to find every available.
Circuit breaker that week of electrical component that we can find.
In many cases buying stuff from the from distributor markets at very high prices by the way.
So things have definitely improved but I would say by no means are we out of the out of the woods. When it comes to shortness of supply when it comes to anything that.
Hasnt electronic component.
Lead times have gone out pretty dramatically and we continue to have shortages as one of the reasons why our backlog is growing at the rate that it's growing is that we just don't have the ability to serve all the demand that we're seeing so.
On the one hand, you have demand thats as good as it's ever been on the other hand, you have an industry that.
Underinvested.
And as a result, and then you have all these other.
Supply chain disruptions that we've been dealing with around China.
<unk>.
And now in parts of Europe due to the war as well that are exacerbating things. So I'd say in short, it's getting better but by no means that we have the woods.
Understood and I see we are at the top of the hour I'll keep it to one question. Thank you. Thank.
Thanks I appreciate it.
Okay. Thanks, guys. We have reached the end of the call and we do appreciate it over to <unk> to ask questions as always chip and I will be available to address through guys. A follow up question. Thank you have a good day.
Thank you and that does conclude our conference for today. Thank you for your participation and for using AT&T event Conference you may now disconnect.