Q3 2022 Vertiv Holdings Co Earnings Call
$365 million.
We saw price cost split $35 million year over year.
Tailwind for this quarter.
This tailwind will further strengthen into the fourth quarter and into 2023.
Supply chain has improved over the last 90 days.
Even in some areas that had been hampering us areas like circuit breakers bands and other certain electronic categories.
Our work qualifying alternative suppliers is paying off and.
And these additional sources of supply support our fourth quarter volume projections.
That being said there are certain categories of power electronics that are still in short supply and we expect them to remain so throughout at least mid 2023.
Free cash flow is trending in the right direction, although we continue to carry high levels of inventory to support our increasing volume.
Fourth quarter is expected to be a record sales quarter for virtu.
Orders have remained high which is a great thing.
But it has a carrying more inventory than expected.
Fourth quarter free cash flow is expected to be an all time record between 250 and $300 million positive and this should set us up we think for a great 2003.
We know our working capital is not optimized and we are taking the full year protect projection down from our prior guidance, but we believe theres a significant additional cash benefits in 2023, and we have been working on plans and programs to make sure. This happens.
We are affirming the fourth quarter adjusted operating profit guidance of $230 million at the midpoint, which continues to support our view of a very strong fourth quarter and we believe a very good position and very well for 2023.
Turning to slide four.
This slide summarizes what we see in our markets by region.
Few changes in Americas market for your enterprise was moved to yellow, indicating a bit of caution but is consistent with what we've been seen in other global regions.
The enterprise market is exhibiting more caution given to the macro uncertainty, including the possibility of a recession, but still remains positive.
The communication market in Americas has been very strong for a number of quarters and theres been a lot of investment associated with <unk> technology cycle.
While it's coming off those high marks telecom carriers still invest both in new technology and their existing network infrastructure.
EMEA and Asia markets views remained relatively healthy as well all in all strong market backdrop continued for what we do.
To note, we have been aggressive with our pricing actions for several quarters now and we continue to see strong demand.
We can get price and the ability has been demonstrate each quarter as we make our way through the year.
Moving to slide five.
We still feel good about customer demand with orders up 15% in the quarter, excluding FX and that is compared to last year's third quarter, where orders were up 17% from the prior year.
We have highlighted that we anticipate year over year orders declining in Q4 that is more of a product of a challenging comparison to the prior year. If you recall orders were up 51% same period last year.
Fourth quarter orders adjusted FX are expected to be relatively flat.
In line with third quarter.
Orders.
We posted another record breaking backlog at the end of September of $4 7 billion, which provides great support as we think about our 2023 top line.
We continue to execute on our pricing plan and have delivered pricing consistent with our framework each quarter in 2022.
Our pricing plan of $135 million for fourth quarter includes 80% already in the backlog and 20% to be realized on book and ship, but those actions have already taken place.
We are clearly demonstrating we can get price in our markets.
Supply chain has been improving clearly not without disruption.
But seen things improve.
Improving external market conditions, coupled with the extensive work the team has been doing to qualify new suppliers is helping our situation the.
The one area that is still tight and some of the semiconductor categories. We specifically use we use specialized high end semiconductors different than some of the categories, where you've seen in the market a nice improvement on those.
While available they are slightly improving for us in the specialized categories. We expect this tightness in the market to continue through at least mid 'twenty three.
Some good news as it relates to our fan supplier. They are fully qualified and shipping production parts to us.
Theres favorability in the commodity and freight markets, we typically have one quarter lag before that leads through our P&L.
But we anticipate seeing more favorability in fourth quarter and going on into 2023.
Even with some good news on our back we did raise the inflation estimate for the year by $15 million with 5 million being realized in Q3 and $10 million anticipated. In Q4. This is related to two primary factors one a regional sales mix is more heavily weighted to higher inflation.
And we're also seeing some additional inflation in EMEA, mainly related to energy costs.
In summary, our markets remain healthy.
While recession proof as a strong term there is an argument to be made as Dave said data will continue to grow through these economic cycles that data has to be network has to be stored and has to be processed in data centers, where our equipment is.
We are the market and technology leaders and we are getting paid for what we do.
Supply chain pressures that I mentioned earlier easing and we're seeing that benefit and expect that to continue to improve.
Coupled with the work we've done to onboard new suppliers, we're improving operationally each quarter and youre seeing it in our financial performance.
Now I will turn the call over to David to walk us through the financials David.
Perfect. Thanks, Ralph turning to page six this slide summarizes our third quarter financial results.
Our net sales increased 21% from last year's third quarter and were up 20% organically, including 11% from volume and 9% from pricing.
Ni acquisition contributed $115 million, partially offset.
By $25 million from the sale of the industrial EPS business at the end of last year.
Foreign currency translation negatively impacted net sales by approximately $85 million.
With about two thirds of that in EMEA.
Due to the weakening of both the euro and the British pound.
Adjusted operating profit of $134 million was within our guidance range, but at the lower end, primarily due to an incremental $10 million foreign exchange headwind compared to what we assume this past August .
This foreign exchange headwind, including both translation and transactional impacts.
In the regions, where we buy and sell in currencies other than functional.
Compared to prior year, we generated an additional $3 million of adjusted operating profit with the primary drivers summarized at the bottom of this page.
Of note as promised we flipped the price cost equation from negative to positive generating a $35 million tailwind in the third quarter.
We expect this tailwind to strengthen to about $80 million in the fourth quarter as we continued to deliver on our pricing commitments.
Adjusted operating margins sequentially improved to nine 1% in the third quarter from five 9% in the second quarter as we continue our margin expansion actions expecting approximately 14% in the fourth quarter.
Which would be a record quarterly high.
Adjusted diluted EPS was <unk> 23 for the quarter, which was in line with August guidance and <unk> <unk> higher than last year, primarily due to the timing of income tax expense, partially offset by higher year over year interest expense.
Primarily.
Due to debt pursuant to Eni acquisition.
Third quarter free cash flow was a use of $20 million.
This used moderated sequentially in the third quarter from the second.
We anticipate free cash flow to be significantly positive in fact, a record high in the fourth quarter.
We spoke about an inventory reduction opportunity in 2023 on our last call and we still believe this will happen <unk>.
Supply chains are improving as our internal SIOP processes, both of which should contribute to lower inventory balances going forward.
Next turning to page seven.
This slide summarizes our third quarter segment results.
All regions saw strong double digit organic sales growth the Americas region grew organically approximately 25% equally balanced between volume and price.
Americas adjusted operating profit of $115 million and margin of 16, 2% were positively impacted from improved price cost, but offset by higher investment in fixed cost including to support the launch of our new Monterrey facility.
We are encouraged with the margin improvement in the Americas from 11% in the first quarter to an expected 20% in the fourth quarter and in year increase of 900 basis points still.
Still significant work to do still significant opportunity.
But the operational improvements Giordano and his team have introduced are certainly gaining traction.
Organic sales in APAC increased 17% from last year's third quarter, 70% from volume, 30% from price operating margins increased 150 basis points, primarily due to favorable price cost and volume leverage.
Finally on this slide.
<unk> sales were up 14% organically two thirds of that from price and a third from volume.
As a reminder, EMEA had the most challenging year over year comparison as organic sales were up almost 18% in last year's third quarter.
Inflation has been more pervasive in EMEA have recently at least compared to the.
The other regions, especially related to energy in our price realization in that region did not fully offset these inflationary headwinds in the third quarter as a result of EMEA experienced a small price cost headwind in Q3, we continue to evaluate this inflation and our pricing response.
But we do anticipate price cost to be positive in EMEA for the fourth quarter and we do anticipate a fairly significant step up in operating margin in the fourth quarter as well.
Turning to slide eight.
We summarize our updated fourth quarter financial guidance, reaffirming adjusted operating profit of $220 million to $240 million.
Provided earlier this month.
All metrics on this slide would be record quarterly highs and by significant margins.
Including free cash flow, which is projected to be between $250 million and $300 million.
Of course, we still have to execute and there is much work to be done.
To capture significant opportunity going forward.
But as we have consistently communicated since the beginning of the year. This strong fourth quarter should provide a solid foundation for a very good 2023.
This slide provides a lot of detail compared to last year's fourth quarter and it captures the progress we have made in 12 months, notably the $135 million of incremental pricing.
Despite this year over year improvement probably more important for investors.
To understand that the ability of the strong fourth quarter is the incremental bridge from this year's third quarter, which we will cover in a couple of slides.
Turning to page nine.
This slide summarizes our revised full year financial guidance <unk>.
Reconfirming adjusted operating profit of $450 million to $470 million provided earlier this month as Rob mentioned in his key messages earlier, we are reducing full year free cash flow guidance by $125 million at the midpoint with approximately six.
$60 million of that changed.
Change expectations for year end inventory $30 million from lower expected EBITDA.
And $30 million from lower expected cash collections.
We had previously projected a more significant inventory reduction by year end, but as we enter our fourth quarter with record projected sales volumes and we anticipate continued strong volumes at the beginning of next year, we have reassessed those targets and we will not press actions simply.
To hit a target.
As mentioned, we have made good progress with SIOP, notably in the Americas, we have seen benefits from improved processes and we still anticipate an inventory reduction at some point in 2023.
Another driver of reduced full year free cash flow estimates related to the delay of cash collection enhancements, including driving more significant advance payments for large orders.
This delay is temporal as we expect to see benefits from these actions in 2023.
Nevertheless, fourth quarter free cash flow is expected to be a record quarterly high of $175 million was that previous high and free cash flow will be an absolute focus for us in 2023.
Certainly understanding that margin improvement will not translate into value creation, unless we convert that into cash.
Next moving to page 10.
This is a format of a slide we shared back in August to provide transparency with our plan to achieve four quarter projections.
The main drivers are similar to last time with.
With the most significant difference being.
The addition of some very volatile foreign exchange.
The macro story is relatively straightforward outside of FX.
Our fourth quarter lift from third quarter should be driven by volume and price.
We discussed the drivers of the volume increase last quarter, including.
The launch of our Monterey facility.
Improving supply chain dynamics and normal favorable fourth quarter seasonality.
The volume with Lyft is more pronounced in the Americas and EMEA in the fourth quarter, but APAC is expecting a nice increase as well.
Pricing is expected to provide an additional.
$40 million of operating profit in the fourth quarter.
80% of fourth quarter pricing already in backlog.
Now of course, we still have to execute to achieve these strong results.
But we certainly have clear line of sight to this fourth quarter performance.
Which we hope this slide demonstrates.
Next turning to slide 11.
We have very often discussed internally and externally holding ourselves accountable to the quarterly sales and earnings profile, we presented back in February .
This slide visually captures what we said in February and how our results lineup with that profile.
Guidance is depicted with the bars.
The blue being adjusted for foreign exchange.
Our results.
Both actual and what we expect for the fourth quarter.
Our depicted with the Black line.
As you can see both sales and profitability trajectory profiles are very much consistent with our February guidance with our expected fourth quarter adjusted operating profit when adjusted for foreign exchange.
Very consistent with what we said at the beginning of the year.
So with that said I'd now turn it back over to Cody <unk>.
Hey.
Hang on.
Two and a half years of working remotely and I still can't remember to hit the mute button.
Yeah.
Yes.
Yeah.
I said, a few things about geo in my opening remarks, but I'd like to expand on that a bit.
She is an industry veteran who is an operator at heart.
He's been with water for over 24 years, serving in a variety of operational capacities.
We give them a terrific background to run the company.
We drove significant operational and financial improvements, while leading Amir.
Tripling the adjusted operating profit in that region to over 18% for the three year period ending in 'twenty one.
But we're seeing the early stages of a turnaround story shaping the Americas, where margin has sequentially been increasing the.
Our SIOP processes that greatly improves.
And our focus on creating a high performing culture is apparent within the organization.
He knows a lot about the industry and has a track record of performance.
Both Europe , and the Americas, which.
Together represent about 70% of British sales is broad operational background and that success uniquely position us to turn <unk> into a high performing business.
He is the right person to lead this company and at the right time.
So I asked you to talk a bit about his work on the <unk>.
<unk> the key initiatives underway.
And to provide some early thoughts on 2023 bps provide an introduction better introduction to all of you of our incoming CEO So Joe.
Thank you Dave Thanks, a lot I appreciate the kind introduction I want to assure everyone that transition is well underway and we expect it to be quite seamless accurate Davies correct I'm, an operator diet part. It is my passion of their states might not true in many respects and I think I can add.
Considerable value I'd like to share some things we've been working on in the Americas. Since March we have done quite a lot. The full assessment that transformation plan focused on getting price, ensuring leadership accountability strengthening communication processes operational excellence.
<unk> systems, and certainly fostering a strong sense of urgency we have improved the SIOP process have simplified the organization to focus on accountability and speed, we're driving the Americas regions towards a high performance culture.
Still in the early stages, but I'm encouraged by the sequential improvements we are experiencing.
Let's turn to slide 13.
As I think about 2023.
Focus areas are clear and consistent with what we have been working on margin improvement price and cost free cash flow generation working capital improvement and profitable growth.
We know the levers to achieve these objectives, we will have operational teams focused and accountable to meeting that we.
We will do so with a keen sense of urgency and rigor.
Slide 14, please and this slide shows some of our early thoughts on 2023 as you can see visually we should have more tailwind than headwind, our backlog and order pace of pud at healthy top line for 2023.
End market demand is strong we know how to get price. Additionally, we have some moderation of commodity and freight costs and this.
Fixed cost will be held constant.
Cash will be helped by overall improved profitability, but also from unlocking significant working capital.
<unk>.
These objectives are well within reach and we will also be some headwinds.
Certain categories of electronics, and Robert St remains tight and there will be inflationary pressure as it relates to energy costs.
<unk>.
That will not only per dose, but also in potash supplies FX will remain volatile.
There has been much discussion on potential recession, we don't expect it.
It should have a big impact on our sales, but we are taking steps right now.
Ample to restrict external hiring in anticipation we believe.
Leave that better safe than sorry.
But.
The view from here, we can navigate these uncertainties because we participate in a very in very good end markets. We are marketing technology leaders, we have global scale, we have tremendous install base and we are very relevant with our key customers.
Market.
We have a sharp focus on operational execution and excellence. We believe 2023 can be a very good year for buses and <unk> shareholders.
And candidly.
Candidly as you may have picked up all of those are already in the last few minutes I truly love. This business and then data loved the company profoundly.
Very excited about but his future.
You can tell.
Have a lot of push it sometimes with Bhushan pig silver may tend to overlap or don't things Peyton.
Italian heritage moves mean, something in data. So please bear with me.
Work item.
The upcoming Q&A is certainly an opportunity to prove myself.
Before that I want to wholeheartedly. Thank Rob for all he has done for <unk> in the last six years was a lot of heavy lifting to do as we became a.
Our Standalone company six years ago, Rob what was almost <unk>.
<unk> billion startup and transform this into a growth company.
The partner of choice of our customers and we are very relevant across the entire market space.
This happened.
To Rob's leadership, we are grateful so big Thank you big Thank you Ralph.
With that we'll now turn the call over to the operator, who will own.
And the line for questions. Thank you very much.
Thank you.
Now begin the question and answer session in order to ask a question. Please press Star then the number one on your telephone keypad, we will pause for just a moment to compile the Q&A.
The first question today comes from the line of Andy Kaplowitz from Citigroup.
Please go ahead. Your line is now open.
Good morning, everyone. Congratulations Jill good luck to you Rob.
Thanks, Andy Thanks Ann.
Jim.
Maybe this one is for Ugo I know it's early in your tenure in the Americas, but maybe you could give us a little more color into what has been the low hanging fruit that you have been able to consume in the Americas to help boost margin over the last couple of quarters and what do you think is going to be more difficult to change and it could take longer to change within the Americas organization.
<unk> versus your original expectations.
I would point to three things here and certainly a lot of focus on on the pricing muscle.
We reinforced dramatically and.
And I think Keith.
We start to see we start to see the results.
A lot of focus as I said on.
We're making sure that there is accountability and accountability.
It happens also through very strong governance and it.
It's very very consistent way.
Overrunning the region the region operationally.
One thing that we have done and we've been vocal about is the return to office, but I wish we make sure that we make sure that everyone.
Cooperates and stay focused on delivering on our objectives.
And it's a part of our cultural transformation towards making this truly a high performance culture <unk> includes with Vantiv.
<unk> that has a start have started to deliver dividends.
Please.
And we can elaborate on other elements.
The improvement of AV capacity opening the Monterrey factory being probably the most of feasible example, both think about the broader.
Capacity enhancement efforts.
Through across the entire business.
The job, we have done on reinforcing our processes and I always like to mention.
Dave did talk about the.
The size of the sales inventory operations planning that is really the end to end the glue that connects our ability to deliver to the ability of.
Of telling the customers I'm sorry, the supply is what we will need in the future or the more regions crucial in times in which our supply chain is is.
Complicated I would add to the equation.
The strong effort that we've been doing is we are going to have interest still doing two more.
Ty.
Tools are critical components, all elements that have contributed as an orchestration because no one kind of a one.
Super bullet here.
Very helpful. Joe and then maybe just stepping back can you give us some more color into the market environment. You guys are seeing there are obviously, a couple of more yellows and the Americas now in terms of your markets. You highlighted have you seen any deferrals in orders within your core enterprise and enterprise end markets and could you elaborate on the stability of Capex from enterprise.
And communications customers, particularly in the Americas, and what gives you confidence that cloud and Colocation customers will stay green moving forward.
Yes.
I would say that order cancellation is absolutely within within the normal what we but within the normal what's normal normal normal business cycle. So there I would say de minimis.
What we have what we continue to see and then.
We have evidence not just from our order intake, but also from the multiple conversations that's that.
We are having with.
With with all the.
Relevant and large hyperscale in Cola players.
That Rob and I are doing so as part of the handover process is that demand is there and demand continues to be continues to be robust.
Hum.
On the enterprise side, we just want to be a little bit more signaled some caution, but it's not for four kind of a evidence of weakening of the signal was your stuff just that probably the macroeconomic environment might signal a little bit more prudent, but I remain quite.
Quite positive about the strength of the market in the Americas going forward.
So Jill for enterprise it is not so much what youre seeing but just prudent caution moving forward is that fair.
That's fine that's absolutely fine.
That's fair and thank you good luck.
Thank you.
Thank you.
Next question today comes from the line of Steve Tusa from Jpmorgan. Please go ahead. Your line is now open.
Hi, guys and congratulations.
Thank you.
Can you just give us a little bit of color as kind of snapping a line today and looking at.
What price you have in backlog and where commodity stand.
What how much of that bridge to next year is reflects kind of what's prevailing today from that perspective price cost wise.
Just Matt yes.
Yes, yes.
Good question, Steve This is David.
I used to say this is David because they would confuse Gary in my voice I don't think they will do that with Dr. Donna.
Yeah.
Okay.
So when you look at.
The progression of price.
Through 2022.
We consistently said we had burned through the backlog that was included in pricing or the pricing that was in backlog at the end of 'twenty. One so I think 80% of.
Of our sales in the first quarter of this year.
Was in backlog at the end of 'twenty, one in the fourth quarter only 20% of our sales.
We'll be in backlog from 2021 and as a result, you can see the significant.
Increase and ramp up of pricing during the year. So I think we had $40 million in Q1 and $135 million of year over year pricing.
In Q4.
I don't want to say, we've reached a level of stability with pricing, but certainly as it translates into <unk>.
Profitability in the P&L.
The fourth quarter will really be that first quarter, where we can demonstrate.
What we can do as it relates to.
Pricing at the level that arguably we probably should've been pricing yet.
If you look at the wraparound impact for 2023 from pricing and this just assumes that we keep the same pricing levels exiting Q4.
Into 2023, it's about $150 million to $200 million.
We would expect to do better than that because we continue with our pricing efforts.
As it relates to inflation for next year, it's probably too soon.
We certainly think.
There will be a year over year growth headwind.
From from inflation.
But from just about any perspective, we certainly would expect to be.
Price cost positive next year, but probably too early to quantify what we think the impact will be for inflation.
So then I guess, that's kind of like if.
If we assume no inflation.
That's part of the way the way there.
I think there is a bit more of a GAAP you have to bridge I mean, what are you assuming volume growth are you like.
Are there one time or is it reverse out of this year like maybe just a bit more color on the bridge a day are there any other items.
Yes, probably too early to add a whole lot of detail through 2023.
Put that $730 to 750 number out there.
In August .
Guest and we reconfirm that but as it relates to kind of filling in the details, it's probably too soon and.
<unk> will provide.
More robust bridge from 'twenty to 'twenty three.
In February .
Got it okay. Thanks a lot.
Yes.
Yeah.
Thank you.
The next question today comes from the line of Jeff Sprague.
From vertical research partners. Please go ahead. Your line is now open.
Yeah.
Okay. Thank you.
Morning, everyone.
Maybe back to Gino.
With a long history of Emerson, and then through platinum ownership and the like.
Obviously, you've seen a lot of ups and downs.
Kind of some turmoil in this business.
Thank you partially answered my question to your response to Andy but.
Just kind of stepping back big picture.
What.
What Holistically do you want to drive going forward and.
Do you have a comfort level with.
These kind of longer range forecast of this being upwards of a 20% margin business on an annualized basis going forward.
Well.
It could even have I have confidence in what we and what we have shared and thank you for the for the question.
<unk>.
<unk>.
As.
As.
And then one time, a long long time, but let me say it because I've seen the company evolve.
<unk> evolve over time.
And I would say <unk> is a company that has still a big potential too.
Potential to operate in a more.
Effective way again, the the focus areas is as I was mentioning are really around operational execution.
Continued margin expansion, we have work to do as we were saying on that.
<unk>.
Working capital.
And we're very very central is is.
Cultural evolution towards a high performance culture again.
I've worked in many in many parts of the organization so not only on the different brands if you will.
But also in.
In multiple roles.
I I believe I have an ability to redo organization that is that is <unk>.
Advantages.
And.
Again no magic.
<unk> no silver bullet, but it's a lot of focus on <unk>.
Operational execution on focus focusing on the things that matter to drive cash and to drive profitability, but again, it's it's enabling that with with the with the cultural enhancement that we have started to dry.
Thanks for that and then then on.
Execution is there.
<unk> fell on the sell appropriately said you still actually have to deliver the guide, but can you give us.
A little bit more perspective on how much of the guide is in your hands as opposed just kind of executing on backlog versus.
Real question marks about supply availability, maybe maybe question Mark still about Monterrey being able to fully wrap up ramp up I don't know if you feel that's a 100% where you need it to be but.
If you were to come up short here in Q4.
Where would it likely be in your opinion.
Yes, Jeff this is David.
Yes, there's still a ton of variables in it.
Not only variables from a macro perspective, but within region.
I think what we have said.
Yes.
Consistently over the last two or three quarters is that our issue is not a demand issue. The backlog is there we have the orders probably the biggest risk is related to supply and even though a lot of that supply has cleared up notably with electronic components based on things we have done proactively.
<unk>, including qualifying new suppliers, and we've talked a lot about the fan suppliers, but there still is a lot of volatility out there.
And.
For a lot of these components, it's day to day week to week. So we have better visibility than we had 60 90 days ago.
But I would still say there is a risk as it relates to production and shipment.
Not necessarily a demand issue is I think we talked about fairly consistently.
Correct.
Your question, specifically specifically on the Monterey we are are we.
We are happy.
About the way the plan is unfolding and have a great team and the team are delivering on.
On our on our plan, but again it's.
They will obtain.
The challenges around components, just exactly offset by.
Got it.
Yes.
Great. Good luck. Thank you.
Thanks, Jeff.
Thank you.
The next question today comes from the line of Scott Davis from Melius Research. Please go ahead. Your line is now open.
Great. Thank you and good.
Good morning, I guess, it's still morning, so good morning, everybody.
When you guys talk about adding new suppliers and were expecting out new suppliers. It sounds inherently inflationary I mean, you lose some scale I suppose with but that supplier how material is that when you think about your kind of bill of goods.
I would I would say that there is a counterargument to that one when you add supply or you add are.
Gaining power at the same time so at this moment, we'd see the two things are pretty much offset.
Okay.
That's surprising.
And good positive thank you.
The following question is just on the stickiness of price increases.
Are there situations, where if raw material costs go down et cetera, you're mandated to give back some of that price when we get into 'twenty three.
Yes, Scott this is David in some cases, yes.
We have included.
Material cost escalation clauses in some of our master.
Sales agreements and.
But there are bands included in belts. So its not dollar for dollar Penny for Penny.
They have to expand either upward or downward outside of that band and.
To some extent there will be some pricing gets back but.
We don't consider that a significant risk heading into 2023.
Okay helpful. Thank you good luck everybody.
Thanks.
Thank you.
The next question today comes from the line of.
<unk> <unk> from Evercore. Please go ahead. Your line is now open.
Yes.
Thanks for taking my question I have two as well maybe to start with on free cash flow.
It's not going to think about how much excess working capital or inventory, you're carrying right now and you expect all of that that's not a good reward industry gasoline 23 or would be a much more elongated timeframe for.
Higher free cash flow conversion and working capital optimization look just understand how much excess inventory you have and how does that normalization looked like through 'twenty three.
Yes, I will.
Startup.
So maybe start with some facts.
Our inventory level at the end of 2020 was about 400 and.
$50 million.
We expect at least on a GAAP basis, our inventory level at the end of this year will be around $765 million. So that's a $300 million increase in inventory.
And that includes some foreign exchange benefit so very clearly.
Inventory has increased each of the past two years.
And very clearly at a level that is as you say in excess of what we need to run the business. We believe on a go forward basis now there are some contributory factors certainly volume is significantly higher than it was.
When we exited 2020 and the supply chain has.
Great.
Many issues not only for us, but many many industrial companies out there. So it's hard at this point and probably premature to quantify what we think that benefit is.
But.
It's something certainly we've been working on during the year.
We could have probably taken that inventory level down a little bit lower.
At an exit point in 2022, but based on the significant volumes that we have to deliver this year and we anticipate heading into next year.
We thought it prudent to not be overly aggressive, but with that said because of the <unk> improvements.
Because some of the things we're doing with supply chain.
We do believe there would be an inventory reduction at some point in 2023.
Got it.
If I could just follow up if I look at the midpoint of your guide for December or some of the calendar 'twenty two numbers.
I think it's about $300 million.
<unk> freight inflation that aqua headwind right.
When you think about how much of the material.
Great explicitly and yes it was.
The freight cost is given what's happening in the world should start to trend lower than that at least would be a nice tailwind in 2003.
Yes, so I think for the full year.
Our material and freight inflation numbers 305, I think that's what you're referring to.
About 80% of that is material and 20% is freight and we include both.
<unk> and the material inflation and premium freight in the freight number.
And we too are seeing some of the.
Favorable benefits of freight rates.
I would say 90% of what we do is on contract as opposed to spot. So we won't see the benefit immediately but.
But we also have adjustment clauses in those contracts.
Which should favorably.
Benefit benefit us over time, and we would say certainly at the beginning of 2023.
Perfect. Thank you and best of luck Rob.
Thank you.
Thank you.
The next question today comes from the line of Nicole <unk> from Deutsche Bank. Please go ahead. Your line is now open.
Yeah. Thanks, Thanks for taking my question guys and nice to meet you T O and thanks for everything Rob.
I could just I'd like to just ask a modeling question since he's been through a lot of the higher level staff. So.
It was in.
Rob went through with that or sorry, Dave that went through the Americas margin outlook for <unk>, but what about Asia Pac and EMEA like how much improvement are you guys expecting to see in the fourth quarter and also any color on how organic growth stocks out by region would be helpful as well. Thanks.
Yes, so I think in the last presentation, we spelled out full year expectations by quarter for adjusted operating margin by region.
We did not include that in this quarter and we knew somebody would ask about it so.
We have the numbers ready, yes, so Americas.
Targeting about 20% that's about.
400 basis point lift from Q3.
EMEA.
And this is based on.
The expectation of being price cost positive in Q4 and also the benefit of.
Volume leverage we anticipate.
Adjusted operating profit in EMEA to be in the mid Twenty's. So call. It 24, 25% so down from what we had previously disclosed because of the additional inflation that we talked about but still.
A significant increase from what we saw in Q3 and a very significant increase from what we saw in Q4 of last year and APAC, we would anticipate.
Being relatively flat in Q4 versus Q3.
Okay, Thanks, and just anything on organic growth by the three regions as well like if there's a big divergence.
Yeah, So I think organic growth for total heard of.
In Q4 would be 25% and you got to take a step back and realize you're saying, 25% that's a big number.
There is some divergence across the regions I would say certainly highest in.
In the Americas and that could be 30%, 40% increase.
Driven by both volume and price.
EMEA year over year is probably in the mid <unk> and I would say APAC is probably up about 10%.
Okay. Thanks, that's helpful and just on.
On the order backlog how far are you guys booking are you like.
A long way in just selling up 2023 are you accepting orders for 2024, just curious on lead times at this point.
Yes.
The majority of this is this is Jim.
The majority of our orders now are 2023.
Particularly on the first on the first half of 2023, we have some second half 2023 and <unk>.
The.
Beyond 2023 is just it's just a minor is just a minor minor cost.
That's up to them.
Thank you I'll pass it on.
Yeah.
Thank you.
The next question today comes from the line of Mark Delaney from Goldman Sachs. Please go ahead. Your line is now open.
Yes, good morning, and thanks for taking the questions Rob I appreciate all your help best wishes and Joe Congrats on the new responsibilities.
First question is on the 2023 outlook. If there is a mild to moderate recession and at least parts of the world do you think that kind of EBIT level, you're guiding for is achievable.
Our goal would be the main maintained profitability, regardless of what happens to the top line our industry certainly different than others.
No one is recession proof, but based on the size of our backlog.
Heading into next year.
<unk>.
We certainly don't think the.
Recession impact on use of data and building data centers is certainly going to be.
Perfectly correlated for next year, so we <unk>.
Even in a recession, we feel pretty good about our topline but.
If there are headwinds with the topline that rolled through variable contribution margin.
We will take the necessary steps from a fixed cost basis to offset it and our goal would be to.
Maintain that $730 to $750 million adjusted operating profit outlook, regardless of any impact from the recession.
I think David My final question is on Eni. If memory serves me correctly originally that was tracking to something like 10 cents at the time of acquisition.
I believe this slide sort of ended up <unk>.
Tributary to EPS for this year, that's the latest assumption for for your EPS contribution from Eni.
A question something fundamentally changed around Eni compared to when you did the transaction or is this the same type of supply chain and.
So if somebody is price cost issues that the broader of or divestment Julien with and over time, we should be thinking at the same sorts of longer term benefits from the <unk> acquisition. Thank you.
Yeah. Thanks, Thanks Mark.
Yes, I would say from a strategic perspective, we're more excited about eni and the positive contributions to <unk> today than we were at the time of the acquisition.
And.
Part of the value equation, there was based on revenue synergies and I would say our expectation for revenue synergies are probably three X if not more what we had initially initially anticipated now unfortunately, that's not showing up in the numbers this year.
No.
Depiction of Eni.
Probably rather crudely.
Bad year, Great acquisition.
A lot of the issues that Eni is seeing from a profitability perspective. This year are identical to with what we have seen with <unk>.
So if you look at the.
<unk> profit margin.
Profile quarter over quarter of this year I think it started at.
Low teens in Q1, maybe 14% and it should exit the year closer to 20% and the story is similar.
No inflation hit with a.
Pretty good sized backlog at the end of last year.
And.
We were just a little bit slow in getting price and if you look at the price we get in.
The fourth quarter, that's what really increases the margin from that low teens to 20%.
So.
I would say.
We are more excited today than we were at the time of the acquisition and sometimes we get asked would.
If you had to do it all over again would you still do the deal and the answer is a very profound robust absolutely.
100, <unk>, 100% I think that strategically it made sense and all the more reason to make a ton of sense tolerances now so.
Very very happy about the decision back then.
Thank you.
Thank you.
The next question today comes from the line of Lance Vitanza from Cowen. Please go ahead. Your line is now open.
Thanks, guys for taking the questions.
The first is just to confirm regarding the new fans supplier. It sounds like that's really no longer perspective, you were receiving fans in volume you're assembling them into products is that right and have you shipped product with the new fans inside yet or does that begin later in the quarter or perhaps early in 2020.
Great.
We have we have that but this is Jim we have.
Absolutely started.
That and other actions that we've taken on the on the other.
Fun supply side of the equation greatly greatly improving our ability to deliver on the numbers, but the answer is yes. It has happened not only that it is happening it has happened.
Okay and then.
Definitely you called out that some supply chain easing, which is of course good news on the other hand, the semiconductors still remain tight through the first half of 2023. So my question is do you see that that tightness in semiconductors, you see that putting pressure on 2023 revenue or is that just put in.
Pressure on the margins and so.
And so forth and then if theres any sort of sense for what you think that <unk>.
Number could have been if it werent for the tightness in the semiconductors I would appreciate hearing your thoughts there too. Thank you.
Well, let me answer operationally operationally here.
Have been dealing with with with a tight supply market when it comes to two everything.
IGT mass sets that type that type of semiconductor.
And as as I've said.
We expect that to continue so we will and we have been.
Taken precautionary measures as well in terms of quantifying.
New suppliers so.
Yeah.
We factor the challenges in.
And in our plans and I don't know if you want to two two to add anything.
No.
It would be really tough to quantify what the impact is certainly greater than zero and we're not talking tens of millions right. So you see the size of our backlog it it continues to grow.
And we think we see the benefit of.
Some of the very proactive actions, we've taken during the year to address the issue we see that in the fourth quarter, but you can't go back in time and fix the situation in Q2 and Q3 so.
It's in the hundreds of millions if you look at loss revenue earlier in the year.
That's kind of a ballpark or there's a lot of that a multi variable equation, but.
Suffice it to say it has been very significant.
Okay. Thanks, guys.
Thank you.
Our final question today comes from the line of Andrew <unk> from Bank of America. Please go ahead.
Hi, yes good.
Good afternoon. Thank you for fitting me in.
Hey, Andrew Good afternoon, Hey, how are you and congratulations Andrea with great meeting.
Thanks, Jeff.
Yes, Justin just a question there were headlines about an activist.
You could.
Just sort of talk to us about you know.
And what kind of conversations.
You have had.
With the activist.
Any update or color you can provide to us. Thank you.
Yeah. It took the last question Andrew.
So.
Good question, and we don't want to necessary elaborate too much of the focus of this call is certainly on the on third quarter earnings, but I would say, we're actually very excited to welcome our new shareholder very large shareholder.
Shareholder, who certainly as they communicated their investment thesis is very consistent with our management thesis and that is as a company operating in a great industry like we do with the continued operational improvements and.
Some of the things that Geo.
You mentioned with a focus on developing a high performance culture.
Considerable considerable value here to unlock and it's all the things we've been saying over the last year or so.
Yeah.
Their investment it doesn't change our strategy or our priorities.
Our interest are aligned just like with any other shareholder.
And as we execute and perform going forward our interest certainly we will continue to be aligned.
Terrific. Thank you and just a follow up question.
Going forward.
How do you think about the trade offs between increasing R&D investment and keeping your commitment to keeping fixed cost come from thank you.
Well that's clearly.
At constant the tradeoffs that we are addressing day in day out.
Running every business is an exercise of allocation of scarce resource and we are no exception and we see a lot of we see a lot of value and innovation.
We have been kept saying during the course of at least the last the last two years. So it is it is really a matter of allocation priorities towards innovation, but I also go back to what I was seen at the beginning.
Around operational execution operational execution for us means a lot of.
Opportunity for efficiency.
Efficiency is assume you can look at it.
This is a sort of a source of Uh huh.
Funding for innovation loosely mostly pet.
Great. Thanks, so much really appreciate you fitting me in guys. Thanks a lot.
Okay.
Thank you. This concludes our question and answer session I would like to turn the conference back over to Rob Johnson for any closing remarks.
Thank you very much and thank you everyone for your time today.
As this is my last earnings call as CEO of Virtu, I won't take the opportunity to acknowledge and thank a few people and I'd like to start with platinum equity for creating this opportunity and believing in me and in supporting us through the turnaround.
This great company.
I certainly want to thank our customers I know, we've cost pain over the last year, but we're working through that and thank you for sticking with us and stick and loyal to our brand the employees for all the work you've done and all the work youre going to have to do going forward.
Got it.
Great twenty-three to look forward too so I want to thank those employees the board of directors with a special thanks to Dave coding for the support and the mentoring and coaching and of course I want to thank all the shareowners for their support converted now.
Now and going forward, it's been an honor serving as CEO and are more confident now than ever the future burtis and its ability to create long term value for the stakeholders is the brightest days are ahead and youre in great hands with Giordano as we go forward. So again, thank you for the opportunity to serve you.
Right.
The conference call has now concluded. Thank you for attending today's presentation you may now disconnect.
Okay.