Q3 2022 Trimble Inc Earnings Call
Good morning, My name is Chris and I'll be your conference operator today.
At this time I would like to welcome everyone to the Trimble third quarter 2022 results conference call.
All lines have been placed on mute to prevent any background noise.
After the Speakers' remarks, there'll be a question answer session.
If you'd like to ask a question. During this time simply press Star then the number one on your telephone keypad.
Or withdraw your question. Please press star one again.
Thank you Rob painter, Chief Executive Officer, you may begin.
Welcome everyone before I get started her presentation is available on our website and we ask that you refer to the safe Harbor at the back.
Our financial commentary today will reflect non-GAAP performance metrics, including organic growth comparisons, which will relate to the corresponding period of last year unless otherwise noted.
Let's begin on page two with our key messages total revenue in the quarter was $885 million up 6% short of our own higher expectations annualized recurring revenue met our expectations and grew 16% to a record level of 1.5 dollars 5 billion.
Gross margin finished at a record level of 69% exceeding our expectations.
<unk> and gross margin are the two highlight metrics of the quarter.
Software services and recurring revenue comprised 60% of revenue in the quarter and 57% on a trailing 12 month basis.
EBITDA margins of 25, 8% and earnings per share of <unk> 66 cents also exceeded our expectations in the quarter.
<unk> performed extraordinarily well in the quarter demand for hardware and associated software fell short, especially late in the quarter. We expect this will continue through the fourth quarter.
While detecting the signal through the noise, it's difficult at the moment, we attribute the weaker hardware demand to two factors first we see a relative weakening of overall sentiment, especially in Europe and in other regions are negatively impacted by the strength of the U S. Dollar.
We see our dealers and aggregate moderating their inventory levels in the back half of the year. This reflects their current sentiment and also factors in some good news from our supply chains, which began to ease up and offer shorter lead times on our products.
We see many parts of the global economy through the industries. We serve if we look at the overall economic indicators I'd say that in aggregate the indicators went from great to good and.
In Agriculture farm income remains high but does so does inflation.
In construction. The overall indices are still not positive but interest rates are beginning to have a negative impact on our residential work and inflation is eating into the increased funding from the U S bipartisan infrastructure build.
And transportation, although spot rates in the truckload market have softened due to normalizing demand freight volume remains steady along with contract rates.
Higher fuel prices continued to inflate overall transportation costs, yet trucking margins have remained relatively healthy due to the strength of freight demand.
Managing through these challenging economic and geopolitical landscape presents a higher level of operational complexity.
That is not complex as leading with guiding principles, which for US are threefold first we will take actions to exit an expected period of macroeconomic weakness on a stronger competitive footing.
We will continue to allocate capital to key areas of the business such as our digital transformation.
Third we will increase our operational and cost efficiencies and work to reduce our own complexities and redundancies.
That in mind I will comment on the business through the lens of our operating system encompassing strategy people and execution.
Let's start with strategy on September 7th we held an Investor day, where we walked through our connect and scale strategy and how it manifests as an industry cloud strategy, we talked about the unifying element of Trimble and the market opportunity in front of us to digitize and connect some of the most important industries on the planet.
We also discussed how our digital transformation will enable connected sales of solutions across a growing portion of our business and shared examples where we are already winning with connected solutions in the market.
Finally, we talked about capital allocation and our commitment to transform more of our solution offerings to ratable revenue models, which we firmly believe offer customers more value, while expanding the size of our addressable markets.
Our our EBITDA and cash flow are key metrics for us in the coming years.
And the last couple of weeks, we exhibited at the Entergy of Geospatial Conference and Belmond construction trade shows both in Germany, both well attended and both with high levels of customer engagement on November 7th through ninth we will hold Trimble dimensions, our engineering and construction user conference, where we expect over 5000 customers.
<unk> and partners to come together to connect and inspire our transformation in our industry.
Moving to people on October 6th we announced that we changed our corporate headquarters to Westminster, Colorado with.
We've also made some leadership changes in August Ron Vizio took over responsibility for our transportation business last week, we announced that Peter large will take responsibility for all of our construction assets software and hardware across civil and building construction.
Our Chief Digital Officer, Mark Schwartz will take over responsibility for most of our construction software assets and Patty Booth will take over responsibility for our civil construction business. We now have single points of accountability to deliver outcomes in construction agriculture and transportation.
Finally on the topic of execution, Let's review this in the context of our reporting segments and buildings and infrastructure. We acquired bid to win on September 9th which is a great fit for our strategy bid to win extends our software capabilities to estimating and operations in the heavy civil construction industry.
At the segment level ACB bookings growth in the quarter exceeded the level of <unk> growth, giving us visibility to continued growth.
We also continued to see success in cross selling and Upselling, new and existing logos with their early version of Trimble construction. One we will continue to expand and automate this offering in the months to come.
And geospatial I spent three weeks in the Asia Pacific region in September and met face to face with many customers. There I saw firsthand how they are using our survey and mapping instruments and software driven workflows to build the largest infrastructure projects under development in New Zealand and Australia.
Transportation the business achieved double digit operating income margin this quarter for the first time since the fourth quarter of 2019, while we still have a lot of work to do it is worth noting that we are headed in the right direction.
In agriculture, we announced that we signed an agreement to acquire build barrier, which we expect to close in the fourth quarter.
<unk> specializes in selective spring systems, utilizing artificial intelligence and machine learning for sustainable farming.
We also signed an agreement with Clos it to develop a next generation precision farming system for their tractors combines and four inch harvesters.
We launched our next generation GFX high resolution touch screen displays targeted towards farmers that operate mixed fleets. These GFX displays are compatible with over 10000 vehicle models across more than 40 equipment brands and they are ISO bus compatible which allows one display for Isa bus implements regardless of manufacturer.
Sure.
Overall trimble customers see technology as an increasingly important tool to manage the inflationary and labor shortages, they face and to achieve their sustainability commitments are.
Our bundled solutions represent a unique competitive strength as we compete for our share of the growing industrial technology market.
I'll now turn the call over to David to review, our financial results and outlook in greater detail.
Thank you Rob let's start on slide five with a review of third quarter results.
Third quarter revenue of $885 million was up 6% organically changes in foreign exchange rates reduced revenue by 4% while divestitures net of acquisitions also reduced revenue by 4%.
Pricing drove slightly over half of our year on year organic revenue growth.
Software and recurring revenue continued to grow at a strong rate as reflected by the sequential acceleration of our organic <unk> growth.
Ongoing transitions of software models from perpetual to recurring principally in our transportation and buildings and infrastructure segments contributed to our IRR momentum, but reduced revenue growth in the quarter by approximately 100 basis points.
Hardware revenues grew modestly on an organic basis enabled by reduced lead times and improving throughput from our supply chain <unk>.
Supply chain constraints continue to be dynamic in nature, but our team made good progress in the quarter working around these constraints and executed well in a challenging and unpredictable environment book.
Bookings for our hardware products from our dealers declined sequentially from prior quarters and came in below our expectations, reflecting a softening demand environment and some of our end markets and lower dealer inventories.
Gross margin in the third quarter was a record 69% up 220 basis points year over year, driven by an increasingly favorable business mix and the improving net impact of pricing and slowing input cost inflation.
Adjusted EBITDA and operating margins were essentially flat year over year, and well above pre COVID-19 levels.
<unk> gross margins and lower accruals against our annual incentive plans fully offset the year on year impact of spending against our strategic initiatives.
Net income dollars decreased by 3% and earnings per share were flat year over year at <unk> 66 per share.
Our trailing 12 month cash flow from operations was $440 million and free cash flow was $389 million, both of which are down versus prior year.
As we outlined in our last earnings call inventory dynamics and a change in the U S tax law are adversely impacting our cash flow in 2022.
Our inventories are well above the levels, we held before the supply chain shortages emerged in 2021 as we have been buying to support improved hardware lead times.
And the provision in the U S tax law has resulted in the amortization of R&D costs for tax purposes, beginning in 2022, which is meaningfully impacted the timing of tax payments.
We expect both of these unusual factors will reverse in 2023, which will yield significant increases in cash flow in a more normalized relationship between earnings and cash flow going forward.
Note that the underlying working capital dynamics of our business remains strong with essentially zero net working capital even at our temporarily higher levels of inventory.
Notwithstanding a reduction in backlog from improved hardware lead times, we entered the fourth quarter with $1 5 billion in backlog $1 3 billion of which supports future software services and recurring revenue.
We ended the quarter with leverage measured as net debt to EBITDA of one four times, giving us a resilient capital structure and the flexibility to invest where we see opportunity.
This quarter, we funded our acquisition of bid to win and completed $90 million and share repurchase.
Turning now to slide six I'll review in more detail, our third quarter revenue trends on this in the next few pages I will focus on organic growth rates, excluding the impact of acquisitions divestitures and currency fluctuations.
<unk> was up 16% with strong bookings in construction and healthy net retention across our portfolio. Our nonrecurring revenue streams grew modestly with hardware up 3% year over year as Rob mentioned earlier, our nonrecurring revenues were below our expectations driven by weaker end market demands in some markets, especially in Europe .
And drawing caution among our dealers on how much inventory they want to hold.
On a geographic perspective, North American revenues were up 10%.
In Europe , where the macro economic outlook contracted the most revenues were down 3%.
Asia Pacific was up 4% in the rest of the world was up 21%.
Next on slide seven we highlight some of the key metrics that we follow.
There are in buildings and infrastructure geospatial in resources and utilities all grew at a mid teens or above rate, while transportation AOR growth was high single digits and improved sequentially.
Let's turn now to slide eight for additional detail on each of our reporting segments.
<unk> is an infrastructure revenue was up 12% revenue growth was strong across our software businesses in this segment, while our civil construction hardware revenue benefited from improving supply chain throughput.
Segment IRR was up in the Twenty's in the quarter.
Geospatial segment revenue was up 1% over a very strong performance in the third quarter of 2021.
Resources and utilities revenue was up 9% driven by improved throughput from our supply chain strong demand from OEM customers and continued growth in our positioning services for.
Actual results in transportation showed progression and a number of areas.
<unk> growth and margins both improved for the fourth quarter in a row, we continue to progress in the conversion of our transportation enterprise software business to recurring revenue models.
Turning now to slide nine I'd like to provide our updated financial outlook for 2022, I'll start with <unk> driven by our momentum in bookings and sustained high levels of net retention our outlook for <unk> growth is unchanged from what we shared with you last quarter, we continue to expect organic growth of approximately.
<unk>, 16%.
Turning to revenue, we now project organic revenue growth of 6% to 8% for the full year, which is 300 basis points below the outlook, we shared with you in August .
For the full year, we expect the changes in foreign exchange rates will reduce year on year revenue growth by 3%, while divestitures net of acquisitions will also reduce revenue by 3%.
We expect operating margins for the full year of approximately 23%, which is consistent with the range. We shared with you in August .
Outlook for gross margins has improved driven both by an improving business mix and a more positive outlook for pricing and costs we.
We projected our improving gross margins and strong operating cost control will offset the adverse impact of lower leverage on our fixed costs are.
Our forecast for income from equity investments is approximately $28 million and net interest costs are estimated to be approximately $66 million.
Our tax rate guidance is a range from 18% to 18, 5%.
Taken in aggregate, we now expect full year 2022, non-GAAP earnings per share to be between $2 61.
And $2 67 per share.
From a cash flow perspective, we now expect the ratio of free cash flow to non-GAAP net income to be 0.5 to 0.6 times for the year with the primary impact continuing to be section 174 tax payments and inventory dynamics.
We continue to expect to deliver 2023 free cash flow well above non-GAAP net income as these factors reverse.
From a segment perspective in the fourth quarter, we expect organic growth rates to moderate in the buildings and infrastructure geospatial in resources and utilities segments, driven entirely by lower year on year revenues from hardware.
In the transportation segment, we expect the growth rate to improve sequentially.
<unk> growth should remain relatively consistent with recent trends in each of our segments.
We expect to issue 2023 guidance in February but at this point, we anticipate a 2023 outlook for double digit <unk> growth and strong cash flow generation, Rob I'll turn it back over to you.
Thanks, David Let me acknowledge the global market conditions have become more difficult I also think that perspective is important.
<unk> at 155 billion and up 16% is a remarkable achievement and puts us in the upper echelon of technology companies.
Our survey agriculture, and civil construction hardware revenues when factoring in our current 2022 forecast have grown at a compound annual growth rate of over 13% since 2019.
The data we have suggests that we have gained share in each of these end markets over the last three years and we remain pleased with our performance in the strategic health of these businesses.
Looking forward, we will stay true to our 343 model simultaneously balancing a view on three months four quarters and three years.
In the short term, we will more tightly manage head count and discretionary costs, while continuing to transform our business models in the midterm. We are planning for persistent economic uncertainty and we will be sharper on our capital allocation to invest in key areas of the business without cutting into any muscle.
In the long term the durability of our business is stronger than ever and our markets are inflicting with the adoption of digital technologies. This remains our moment to connect and scale and we are as committed as ever to this strategic journey.
Operator, let's open the line to questions.
Thank you.
As a reminder, if you would like to ask a question. Please press Star then one on your telephone keypad. Please limit yourself to one question with one follow up.
First question is from Jerry Revich with Goldman Sachs. Your line is open.
Yes, hi, good morning, everyone.
Good morning, Gerry Rob.
I'm wondering if you could just.
Sorry, a bit more about the air our performance in the quarter what was it in.
Buildings and infrastructure.
In particular it.
Nice to hear about the double digit.
Outlook into 'twenty three I'm wondering if you could just give us an update on what's the cadence of bookings growth.
Are you seeing maybe into the first half of 'twenty three you've probably got some pretty good visibility on putting a more precise number based on bookings.
Could track over the next six to nine months. Thanks.
Thanks, Jerry so.
Alright.
For the total company organic with 16.
Percent in the quarter and buildings and infrastructure was 21% and it was actually also above 20% in the geospatial reporting segment.
<unk> performance overall.
Our arguably is a lagging indicator of the leading indicator is bookings so with respect to your question of looking into Q4 and into 2023, when we look at the ACB bookings.
Contract value bookings that we had in Q3.
<unk> grew faster organically than the IRR in the quarter.
It's a really solid leading indicator for continued <unk> growth to come.
Super and Dave.
Can I ask you about the fourth quarter.
Obviously, you took down expectations.
Normally when you have.
Destocking adjustment like we're seeing you have.
Generally a disproportionate impact on margins in the short term is that playing out in the fourth quarter or anything we should keep in mind about the earnings cadence off of this fourth quarter levels.
As we think about.
The cadence into 'twenty, three any costs or inefficiencies from making the adjustment that you folks spoke about it in the prepared remarks.
Yes, Jerry.
Understand your question.
There is no real negative margin impact to the <unk>.
The outlook, we have in fact, the embedded in our guidance.
As you do the math Youll see we expect to have very high gross margins in Q4.
Even higher than Q3, and Thats a function of business mix, which will be more software centric and we will have more of the net benefit of the.
The prices, we've taken and moderating cost inflation. So Q4 will be really good from a gross margin perspective.
And so the negative revision to our full year operating margins was the third quarter versus your model David.
There's a little bit of I'll call. It noise between Q3 and Q4 with the reduction in our outlook for our forecast for the year, we brought down our accrual against our incentive comp. So that just the incentive comp helped Q3 margins by a little under 200 basis points and that gets normalized in Q4.
So that's that's really the.
The driver of the expectation of lower margins in Q4 than Q3, but the underlying gross margins will be better than the.
The opex as a percent of revenue will look higher but thats the.
The impact of the accounting for the bonus plans.
Okay I appreciate the discussion thank you.
Both.
The next question is from Rob Wertheimer with Melius Research your line is open.
Hi, Thanks, and good morning, everybody.
Rob I Wonder if you could just drill down a little bit more on where youre seeing it going from great to good and the hardware weakness I mean, I guess it wouldn't be surprising to see Europe , our European AG, but I don't know it sounded like maybe you are seeing more than just that.
So that's just the starting point I think the quarter has generally been pretty okay across industrials and it seems like youre seeing a few more spots of weakness.
Hey, good morning, Rob Hey, the first comment on the great to go to is that the overall company level.
If I think about the.
The dynamics in our hardware revenue, let's say compared to other companies that you're following let's talk about retail.
This is wholesale and then I think you also have to take into account units and pricing. So at a retail sell through like the visibility. We have is that the retail sell through is quite solid so actually dealers or bringing down inventory levels.
But the retail demand is still there is still there. So I would characterize in my sentiment is that the goodness is still there.
So our.
I've seen some others the revenue.
Our third quarters was more too.
Wholesale demand meeting wholesale demand in other words building of dealer inventory I would say ours, we saw its dealer inventory reduction, but the retail demand was a sell through and then with respect to pricing in units I think one thing that to me I would characterize on the good side for hardware businesses.
We're getting still a fair amount of our growth is happening through.
Its happening through unit growth. So this is not all pricing.
And then another thing in terms of setting perspective.
Are all from the fact that we're going back to 2019 is we've got a CAGR.
13% of some of our survey agriculture and civil construction hardware revenue, so if I expand the.
The horizon, a bet I can still see through what has been a very positive track record and in the business. So that's Rob that's the how it come to the great to go in and map. It to your question. Let me know if you have a follow up.
Yes, Rob that's helpful.
As the dealer conservatism.
Geographically and product.
Equal or is it concentrated are heavily concentrated in a couple of products or regions.
Well for sure concentrated in Europe , as a geography, and then if I took it at a product level.
I would say a mix of civil construction and agriculture.
Okay.
Thank you I'll get back in line.
Okay.
The next question is from Kristen Owen with Oppenheimer. Your line is open.
Great. Thank you for taking the question good morning.
Transportation margin you called that out as having been one of the highest since 2019 and clearly there is some seasonality that we would expect to see into Q, but I'm wondering if you can talk about some of the successes that you are seeing in that business.
We are in terms of net new business and how we should think about the exit rate for that segment just given some of the changes you've made over the last years. Thank you.
Good morning, Kristen, Yes, so I guess, a couple more data points in their sequential growth.
Our gross margins are the highest since in that business. Since Q4 of 2018, our opex is at its lowest level since the third quarter of.
2020.
We're seeing net retention.
And a pretty good place.
The enterprise business I think of the.
Essentially more of the ERP side of the transportation business, we continue conversions from our customers from on Prem to.
To cloud so I like what we're doing there are more moving more of our bookings continue to be more of the bookings to subscription.
Bookings so that's a positive for us and actually that's of course, that's a headwind to the margin. So they would have been Ah.
Probably 150 to 200 bps higher were it not for for that so if I look at the quantitative side of the house there.
I'd like a little of the momentum or at least the direction, maybe I should call direction that the business.
As moving the mapping business that we have it continues to perform extraordinarily well.
Both in North America.
And in Europe at our user conference in August , we announced a number of new products and integrations that we have including the engage.
<unk>.
<unk> technology, which is coming out of some work that we have done with Procter and gamble.
So a number of good things happening Kristen.
That's helpful and encouraging to hear.
The follow up question that I have is just around capital allocation.
You are now at nearly 400 million shares repurchased for the year just to remind us how you think about repurchases relative to intrinsic value expectation. Thank you.
Yeah, Hey, Chris It's David.
We have a model where we're looking at our cash flow.
With some moderation this year, where our cash flow generating business, we did some divestitures earlier in the year.
And we look to.
We look to make sure we have the right capital structure for our business and fund our growth.
Growth plans and Lisa user matrix win.
Share price comes down that gives us an opportunity to be a bit more aggressive.
Over time.
The focus of our capital allocation is on growth and we will.
We won't have share repurchase get in the way of giving us the firepower to.
Two invest in growth.
Our leverage at one four times as is actually below where we think we could be on a long term basis.
And so we were comfortable bumping it up a little bit based on all of those variables.
Okay helpful. Thank you.
Okay.
The next question is from Tami Zakaria with Jpmorgan. Your line is open.
Hi, good morning. Thank you so much for taking my question.
So my first question is this may be a little early to ask this but how are you thinking about gross margin next year as cost inflation is receding.
Can you remind us how much margin headwind you saw let's say in the past couple of years some cost inflation alone.
Do you expect to recapture most of it.
Maybe over the next 12 to 18 months.
Yeah, Hey, Jeremy it's David I'll start by saying I'm going to be careful not to give 2023 guidance.
<unk>.
We'll do that in February , but I'll talk about some broad trends that I think are.
To influence our margins going forward.
On the on the gross margin side.
There is a macro trend here of.
Higher growth that are in our software businesses and recurring which has higher gross margins.
So that will help us.
We think with humility that the world is uncertain, but we're past the peak of input cost inflation on the hardware side.
We've taken price I'll say some of you are comparing us with other industrial.
Companies, we've taken actually less price. If you just look as a percentage price increase than some of the big industrial players and we think that makes sense, given our economics and our.
Our focus on staying competitive, but we think within hardware. We will see continued moderation of costs and we will have pricing that can keep up with that maybe do a little bit better.
With that said, we're investing against our strategic priorities that we mentioned in the Investor day, and so I think we have some levers.
To pull on with regard to margin as Rob mentioned in his commentary we are looking at the softening demand environment and we're being.
Increasingly careful and prudent in our cost we are.
Every every day every month looking at our internal resource capital allocation.
We've slowed down the rate of.
Of our of our hiring and our cost additions and we will continue to be really prudent understanding that the demand environment next year is going to be hard to predict so hopefully that gives you the picture you need.
We'll have more to say about this in February .
Okay.
Helpful. Thank you and then.
Quick one euro I think organic growth was negative in the quarter.
You called out civil construction in AD demand I think you called out is moderating.
Did you see order trend sequentially get worse quarter to date.
Q I guess, what I'm trying to understand it.
When do you think Europe can how long do you think Europe will sustain in the negative territory is what it sort of influx and bounces back.
Hey, good morning, Tammi. This is Rob so that's a great question and I wish I had a crystal ball for everything you're asking inside that hit a level set on the queue.
The organic growth was about minus 3%.
But I first want to make a.
A note on that as that includes our Russia, and Ukraine business, which went away. So we adjust for that and we were a positive 2% organic in the quarter.
So that's where we put our our Russia and Ukraine numbers and so we haven't.
Try to make adjustments for that in any of the organic.
We called it out.
So that loss of that business has been a negative for us both in Europe , and obviously at the company level as well now the Europe growth is slower than what we saw organically.
And rest of World, which was up 20, which is mostly Brazil APAC was higher higher than that and then North America at around 10% organic level.
There is an aspect first as the dealer inventory reset so I think to really get ground truth that go back to separating the retail and the wholesale.
Band it.
Certain out there.
We walked away from the trade shows where we spent a lot of time with engineering construction customers predominantly European based at the two at the two shows at the entered Geo in bound and actually sentiment and engagement in attendance was very high when we look at infrastructure projects, the Hs to Grand Prairie.
There is infrastructure work happening in Europe , so in that sense.
Positive on continued business in Europe residential I think is turning.
Markets like EPC work are I think will be solid for obvious reasons and Europe , but those do take time farm income and farmer sentiment.
That has a red light will sort of correlate to harvest and weather.
That comes together it ended up being a harder year for European Farmers, then I think they thought earlier in the year.
No there was it was pretty dry in Europe .
<unk>.
That impacted sentiment so we'll see how they feel let's say coming into into the spring planting season. So there is little.
When's going but when's it going both ways in Europe at the at the moment, but hey.
Despite all of that I go back to what do we do at Trimble, we sell productivity and sustainability and I think the value proposition of technology is just as important as ever.
Got it that's super helpful color. Thank you.
Welcome.
The next question is from Eric Lapinski with Morgan Stanley . Your line is open.
Hi, gentlemen, thanks for taking my question, maybe just a quick one on kind of operating margins more at the segment level and focusing on geospatial because that was particularly strong in the quarter I guess, just trying to understand maybe better the driver there.
Given revenue didn't increase as much I know, it's more kind of hardware oriented so volume I typically think of as the driver. There. So maybe if you could help us kind of understand just that side of it.
Yeah, Hey, Eric David.
Margins were particularly good in geospatial and Thats, mostly a mix issue within the.
Within the offerings and.
We think thats a little bit better then we're going to have in Q4. So it's just a mix of the products that we sell and what we shipped in Q3 was particularly high margin.
Okay. That's helpful. Thanks, and then also you did mention some success on the recurring offerings within the Geospatial segment.
Can you maybe give us some color onto exactly kind of where youre seeing that success I know that's been our initiative for you guys.
Sure.
Of the four segments of Geospatial does start with the lowest base. So in terms of percentage increase to be intellectually honest, it's coming off its coming off that lower base and the team deserves credit for the pivoting of.
Of the business model. So when you when you buy.
Instruments and sensors that are like the hardware centric part of geospatial. So I think the surveyors and mappers out there in the world. They are buying workflow have actually they're not just buying an instrument in that workflow includes software. So we have terminal business Center Trimble access so these field to finish.
It flows.
Field needs or if youre doing scanning data or mobile mapping data collection, we need to build a process that data and so the software that we have in that business is being converted more into ratable models, which we think is <unk>.
Expand the size of the addressable market turns to Capex and Opex is helping us as a catalyst to move more of the work into the to the cloud and.
In that sense, Erik Yes, I think it's a very good example of connect and scale at play.
Awesome. Thank you.
The next question is from Jason <unk> with Keybanc capital markets. Your line is open.
Great. Thanks, just two quick ones for me, there's been lots of questions on hardware already but maybe I'll ask it a different way the hardware was down 11% in Q3.
And then Q4 I think you said there'll be down high single digits. Maybe this is just a function that compare but I guess why.
Why Wouldnt, Alright, I guess high single digit decline is that concerned with it.
Yeah, Hey, Jason.
I'll point out that really important when you look at hardware to get the organic math in your mind and Thats, both FX and we divested.
Businesses, which were heavily hardware centric.
So actually if you look at the organic.
Numbers hardware revenues were up 3% year on year in Q3.
And.
That does reflect that we were our product supply improves a lot and we were able to draw down the backlog of meat meat.
Dealer needs, where we'd had extraordinarily long lead times.
That having said.
Embedded within the hour.
Within our guidance is that hardware organic revenues are likely to be down in the fourth quarter.
It's driven by all of the dynamics Rob mentioned.
Okay. Thanks.
Thanks very helpful.
And then Rob two quarters in a row, 20%, Eric DNI and the leading indicators with HCV also look.
How much of the strength do you think is from some of the new bundling efforts.
<unk> environment for construction Walmart.
Hi, Good morning, Jason I think Theres some both.
And that.
Our cross sell bookings in the part of the business with <unk> selling terminal construction, one we saw over 20% of our AC ACB bookings coming from.
Coming from cross selling.
As we've talked about at Investor Day, we are still very early.
And the work with TC, one expanding that offering them into different.
Current geographies and broadening the scope and the automation of the offerings. So I think that theres only tailwind behind the business model aspect of that.
Then if I flip it around I'd say for the for.
For the rest of the business.
The software side of DNI does have incrementally more American centricity to it which is the healthiest.
For geographies that we that we report so that I think would also help as well.
Alright. Thanks.
Thanks, Susan.
The next question is from Gal Munda with Wolfe Research Your line is open.
Hey, good morning, and thank you for taking my questions.
The first one maybe Rob if you think you mentioned in Europe . The infrastructure is actually looking quite good but I won't try to think about the infrastructure opportunity right now in the way you've seen potentially especially in the U S.
Have you seen any of the tailwind.
Starting to comment what do you think that's something that could actually start being.
Material to the business.
Into two.
<unk> 2020.
Hi, good.
Gal, So we do continue to feel that.
JA.
It is now.
I guess be IL bipartisan infrastructure law, guys Thats gone into law.
We continue to believe that as a positive catalyst for for business and that 10% organic growth in overall North America at the total company level clearly has a BMI and geospatial aspect to that so call that engineering and construction that we up level money is starting to.
Flow from the federal government to states.
When you look at that at the state level.
Some states actually have multiple I'll say multiple funding sources for their infrastructure like theyre not entirely depending on dependent on the incremental money from the fed and that's interesting to us because there are a subset of states in the U S that are I'd say, they're at work already and we're seeing good activity from from.
Those states if I take the majority of the states states, though.
One of the things Thats on the headwind side.
The infrastructure build is that material cost and labor cost are eating into some of the increased amount of the funding and theyre still does seem to be a lag between the funding mechanism and the work actually starting to happen and so we feel like there's been a lag and we're not really seeing the.
Fruits of it Ed.
I'd say a level, we might have expected at this point.
Now you Werent asking so much about 2022 is looking forward. So if we go into next year I think that that does provide us, let's say a certain level of ballast to two.
To the business and our sentiment certainly for the North American side of Trimble engineering and construction.
That makes sense. Thank you and then.
If I think about the <unk>.
<unk> that you've mentioned as being kind of one off.
One of the drivers.
Especially on the gross margin side.
But if I take a step back and just think about the pricing in general can you talk a little bit more about what you've done on the pricing may be when you look at hardware versus software split have you done any significant price increases on the software side or are you planning to do that.
Yeah.
Anything.
As we enter next year. Thank you.
Hey, Gal, it's David.
So we've taken more pricing than hardware than software software pricing as a whole.
On Morpheus, because youre always adding more features.
How much do you attribute to more functionality versus versus the price.
It's been our practice to increase pricing over time, and our software businesses and we've upped that a little bit with the inflationary environment.
More of our price increases have been against our our hardware just to put some numbers around that.
If you look year on year, and we've taken several waves of price increases across our hardware portfolio are prices year on year are up about 6%. So.
The rate of headline inflation. Good news for US is that the rate of inflation of our costs is actually less than that so we're getting some hardware margin benefit from the net impact of pricing and cost.
But the pricing on the software is less than six.
You could think of that.
Low to mid <unk>.
Low single digits.
The 5% pricing at our software.
Yeah.
That's very helpful. Thank you David.
Okay.
The next question is from Jonathan Ho with William Blair. Your line is open.
Hi, good morning.
Just wondering if you could maybe give us a little bit more color on your <unk> growth and whether that's coming from net expansion versus new customers as well as whether theres been any sort of change in that dynamic.
Good morning, Jonathan Hey, it's Rob.
There are certainly in a number of.
I'd say levers.
The directions, where we've seen the <unk> grow so first I'll take expanding the size of the addressable market and our best example of that is from our sketchup product within buildings and infrastructure.
I think we're going on 13 or 14 quarters in a row of more than 40%.
Growth in that and that business is truly remarkable so kudos to the team.
On that and Youre not doing that through pricing youre doing that through a unit dose.
Those kind of unit growth.
Clear sign to us are expanding the size of the addressable market, we weren't expanding units at that level prior to the model conversion, we see it in our.
And our tech our structures business as well is that we're seeing unit growth, which we think is showing a sign of expanding the size of the addressable market.
I could put in a category of general market uplift or adoption of technology. You can argue that's riding a wave so to speak of Digitization.
And the market that provides a certain level of growth in the <unk> and the business and.
The third category I would call the cross sell.
And when we really get to the economics of the connect and scale strategy and think about the $1 5 billion of IRR. We're sitting on top of we think that there is.
There's a couple of hundred million plus of <unk> to be mined just from within the portfolio, we have and so as I think about.
Economic scenario is if the economy were to take a turn for the worse and worse.
Classic play is to work with the customers you have and rethink the amount of capital you're putting to note new logo generation. So I'm optimistic that whatever the scenarios is that there is a lot to be done from within our own portfolio and I'll say that fourth and last category is straight up new new logo.
So the sum of those.
To me is the sum of parts that gets to the total company level.
Yes.
That's helpful and then.
You mentioned, a number of management and leadership transitions at the beginning can you talk a little bit more about the dynamics there and maybe what you were sort of looking for as your I guess.
Making some some changes.
A second tier of management level. Thank you.
Well I'd say.
Graduations to the to the folks who are stepping into new roles.
100% believers in them and the work that they've got ahead of them. So I think thats been a change can be changed can be a good thing change provides the opportunity to change provides a chance for a fresh look at some things.
Sometimes the leadership transitions I would say are the right thing for the business.
Are you proactively make them other times, you're reacting because somebody.
Decides to leave the organization, so there's a little bit of both of those that.
To provide a backdrop and context for the transitions that we have in mind the tone I would want to set on the transitions that we have is that.
It's about executing connect and scale.
At the strategy level, we are operating system talks about strategy people.
And execution. So the strategy is connect and scale manifesting through these industry clouds that we're building, bringing the best of the capabilities. We have together so our leaders all of US myself included every single one of our operators and folks who work to support the operators.
Our working to build the product offering to meet this platform an industry cloud direction that we're going at a people level.
Our business when we talk about our three key metrics, we're talking about <unk> EBITDA.
And cash flow.
So we have to not just talk.
And package, we have to deliver and we have to deliver in an environment. That's got an increasing level of uncertainty around it. So that's the expectation I have for the the leaders who are in their roles and I got a great deal belief in them to be able to do so.
Thank you so much.
Youre welcome.
The next question is from Chad Dillard with Bernstein. Your line is open.
Okay.
Hi, good morning, guys.
Hi, Chad.
So just wanted to circle back on your implied guidance for gross margins in the fourth quarter and just how to think about that exit rate just given that it sounds like mix will be a tailwind again, a little bit better price cost and just how to think about that as a starting point as we look towards 'twenty three.
Yeah, Hey, Chad David.
As you do do through the math go through the math and look at our guidance.
Youll see that we expect meaningful improvement in gross margins from Q3 to Q4 and.
And thats driven by.
Our mix our hardware revenues, even organically will be down in the fourth quarter for all the reasons that Rob mentioned, so the software the hardware mix is going to improve and.
And we have the benefit within hardware, particularly of of a favorable mix between pricing and cost. So that gets you to two gross margins opex as a percent of revenue will be higher because we had.
We have the bonus impact that I described to an earlier question, where we had call. It no bonus expense in Q3, that's the way the accrual works. We also have some step up in Opex Q3 to Q4 sequentially.
The way holidays work in Europe , and we have a big user conference coming up so.
Those dynamics will drive our opex as a percent of revenue.
In.
In Q3, and Q4 with with lower revenue unit that all out we expect operating margins to be.
Lower.
In Q4 versus Q3.
Okay.
Okay.
Thanks, that's helpful.
And then.
Maybe you could just spend some time just talking about BD impacted.
The digital transformation that you've been embarking on for the last 12 months.
Just trying to think about the incremental spend from 'twenty one to 'twenty two and then any early thoughts on how to think about that as we go into this coming year end.
The cadence of the expected benefit.
Yeah.
We are I'll say the guidance the framework, we provided earlier in the year and last quarter still holds we're investing against our digital transformation and a handful of other strategic initiatives at a rate that's.
About 100 basis points of margin. So that's what it was in Q3.
And that's what it will be in Q4.
We're looking harder at Opex everywhere, but as Rob said, what we're not doing is changing our fundamental priorities.
Progressing against the digital transformation is absolutely at the top of our strategic list.
So that you can call that pressure is there and we're managing to.
To hold our model within the context of sustaining that investment going forward.
Great. Thank you.
The next question is from Rob Mason with Baird. Your line is open.
Yes, good morning, everyone.
Apologies. If this has been asked toggling back and forth between calls, but there was the.
The commentary around your backlog.
I think David I inferred about $200 million of hardware backlog.
Just curious if.
That's the right number and then two is.
How are you thinking about.
Dealers are.
In terms of right sizing their inventory just the dynamic there is this.
Yes.
Situation that can be resolved do you think.
You're between third quarter and fourth quarter or.
Does this stretch beyond that.
Yes, so I'll start with the numbers.
Right our hardware backlog went from about $240 million at the end of last quarter to 180, So down 60, which is a good thing that reflects the fact that our supply chain is improving.
Pre COVID-19 pre supply chain that number was closer to 100. So we will we will move in that direction, although I am not sure it will ever get back to where it was because supply chains are likely to be different for for everybody going forward as far as dealer dynamics you know, it's a very dynamic situation it varies.
Dealer to dealer market to market I would say overall most dealers are.
About where they have been in probably about where they want to be as Rob mentioned the dealers are looking at their markets that are seeing.
Some uncertainty and so they're.
They're sort of set point for inventory is.
Is going down and Thats somewhat accelerated by the fact that our supply chain has now gotten so good.
Not universally but for most of our products we have.
Order lead times measured in days not months.
So the need to hold a bunch of inventory for the dealer is less than it was.
It is a mix there are some dealers that are looking at uncertainty in their markets and we'll be inclined, particularly with a good supply chain to bring inventories down and some are in very good shape.
I see.
And just with respect to the <unk>.
Agree culture businesses, there was commentary in the slides around softening demand in Europe , but did you comment on North American.
How that market is fairing for Ya.
Well.
Rob This is the other Rob.
In the AG business overall actually the majority of our business I want to frame. It is outside of North America today, So strong double digit growth in.
In Brazil relative to South America.
Continued growth in Asia Pacific.
Overall organically the business was up in the high single digits for agriculture, So say North America is holding its own as the punch line on that but I want to put North America in the context of the bigger picture.
Okay.
Very good okay. Thank you.
We have no further questions at this time I will turn it over to Michael Leyba for any closing remarks.
Thank you everyone for joining us this quarter, we look forward to speaking to you again soon.
Ladies and gentlemen, this concludes today's conference call. Thank you for participating you may now disconnect.
[music].