Q4 2022 Fortive Corp Earnings Call
My name is Julie and I'll be your conference facilitator of the fact again.
At this time I would like to welcome everyone to Ford of corporations fourth quarter 2022 earnings results conference call.
All lines have been placed on mute to prevent any background noise. After.
After the Speakers' remarks, there will be a question answer session.
If you would like to ask a question during that time simply press Star then the number one on your telephone keypad.
If you would like to withdraw your question. Please press star one again.
I would now like to turn the call over to MS. Elena Rosman, Vice President of Investor Relations. MS. Roffman, you may begin your conference.
Thank you Juliet and thank you everyone for joining us on today's call.
With us today are Jim Lico, our President and Chief Executive Officer, and Chuck Mclaughlin, Our senior Vice President and Chief Financial Officer.
At present, certain non-GAAP financial measures on today's call information required by regulation G are available on the investors section of our website at <unk> Dot com.
Our statements on period to period increases or decreases refer to year over year comparisons on a continuing operations basis.
During our call we will make forward looking statements, including statements regarding events or developments that we expect or anticipate will or may occur in the future. These forward looking statements are subject to a number of risks and actual results might differ materially from any forward looking statements that we make today.
Information regarding these risk factors is available in our SEC filings, including our annual report on Form 10-K for the year ended December 31 2021.
These forward looking statements speak only as of the date that they are made and we do not assume any obligation to update any forward looking statements with that I'd like to turn the call over to Jim.
Thanks, Elena Hello, everyone and thank you for joining us I'll begin on slide three.
Well, we've had another quarter of outstanding operating performance in Q4, delivering 14% core revenue growth 50, and 110 basis points of adjusted gross and operating margin expansion, respectively, 11% adjusted earnings per share growth, 62% free cash flow growth. All ahead of the guidance we.
<unk> in October .
Our strong purpose driven culture supported by a relentless focus on executing for customers and shareholders in 2022.
The continued evolution of our portfolio within the markets. We play it's characterized by strong secular drivers, which powered 9% are our growth in our software businesses and backlog expansion in our hardware products businesses contributing to record core revenue growth for the year, our performance would not have been possible.
Dedication of our 18000 team members around the world team.
Team overcame continued supply chain and inflationary challenges, which will likely linger into 2023.
We believe the power of the Florida business as soon as the key differentiator contributing to more profitable growth record gross margins and free cash flow generation as we look forward. We're excited to update you on the progress we've made on our multiyear targets and strategies that are driving outperformance at our upcoming Investor day in May.
Turning to slide four even against the backdrop of a difficult macro in 2022, Florida continued to validate the investment thesis that we have pursued since 2016, delivering core growth of 10% and 20% on a two year stack basis accelerating over the last few years.
Our portfolio transformation is also driven approximately 1000 basis points of gross margin expansion since 2016, which has translated into higher operating margins and provides further opportunity to improve margins in the years to come.
We also delivered free cash flow growth of $1 2 billion with margins approaching 21% underscoring our ability to compound cash flow off a higher base, a key differentiator and value creation driver.
In summary, we had said that 2022 would be a show me year and we delivered strong results across all of our segments, which I will highlight more detail on the next few slides starting with intelligent operating solutions on slide five.
IOS grew core revenue by 13%, representing its third consecutive quarter of double digit core revenue growth.
We had good growth in all regions with low double digit growth in North America mid teens growth in Western Europe , and high Twenty's growth in China.
Double digit core growth in every workflow combined with our rigorous application of FBS drove 330 basis points of core operating margin expansion more than offsetting inflation and FX headwinds.
Looking at our performance drivers by workflow and connected reliability look at low teens growth supported by a strong backlog position and continued success with their new solar and calibration products, serving the energy renewables and electric vehicle markets.
POS remains strong in every region. However, we expect to see some slowing and supply chains continue to normalize strong end market demand drove double digit E mail SaaS revenue growth in the quarter with record net dollar retention of approximately 106%.
And EHS revenue grew by high teens with strong contributions from both industrial scientific and <unk>.
Industrial scientific revenue grew approximately 20% as strong demand was supplemented by record net expansion.
Higher instrument shipments following the resolution of key supply chain issues at the end of the third quarter.
Meanwhile, intellects posted another quarter of low double digit SaaS growth. They have successfully deployed FBS initiatives to accelerate software implementations and create upsell opportunities to customers.
The facilities and asset lifecycle, we had low double digit growth in Q4.
Gordian revenues once again increased double digits as customer labor shortages and deferred facility maintenance continued to drive higher volume through the company's job order contracting platform.
Our current SaaS revenue grew by mid single digit despite a sizable headwind from end of life products.
<unk> continues to see good success from its recent go to market focus and asset management and workplace solutions to enable mid single digit revenue growth in 2023 and service channel saw another quarter of double digit revenue growth, taking their full year growth rate to just under 50%.
As a reminder, we are transitioning from a largely pass through revenue base to a better long term business model that includes more recurring SaaS revenue. This change will create a short term revenue headwind in the first quarter. However, we expect service channel to remain a strong double digit growth business in 2023 with above 20%.
<unk> adjusted operating margins.
Turning now to slide six.
<unk> technologies delivered another strong quarter of double digit revenue growth in every business.
Core revenues increased 20% driven by high teens growth in North America, and greater than 20% growth in both Western Europe and China.
<unk> also delivered 240 basis points of adjusted operating margin expansion with higher volume price realization and productivity more than offsetting inflation and FX.
Some highlights for the quarter include.
Quarterly revenues and operating profit of Tektronix, which continued to benefit robust backlog driven by new product launches and share gains and new entry in mainstream <unk>.
We saw orders slow in Q4 as expected as demand normalizes following the 40% growth we've seen over the last two years.
Sensing technologies had another quarter of mid teens growth driven by strong price realization across all businesses and continued demand in quality utility and power business offsetting industrial and semiconductor demand softening.
Combination of jams et cetera. In 2022 also drove approximately 200 basis points of margin expansion and for working capital turns are proven.
Specific scientific EMC saw high <unk> growth in the quarter facilitated by capacity expansion and improved material availability.
Moving now to slide seven and advanced health care solution.
As expected core revenues increased 5% in the quarter driven by broad improvement across all healthcare operating companies.
By major region mid single digit growth in North America reflected the benefit of our higher installed base and some improvement in hospitals, partially offset by low single digit decline in western Europe , and a high single digit decline in China.
The exit rate on China electric procedures was the lowest we have seen post COVID-19 and roughly 30% of normalized levels January 2023 volumes were roughly half of prior year levels, which is reflected in our Q1 outlook for the segment.
In the fourth quarter segment margins were down 260 basis points, driven primarily by higher inflation, partially offset by favorable M&A, notably margins were up approximately 400 basis points versus Q3.
Versus our fourth quarter guidance margins were unfavorably impacted by additional transactional FX and lower margins at Fluke health solutions.
As we look ahead the team is starting to see traction on their pricing and productivity initiatives, which we expect will deliver margin recovery in 2023.
Some other highlights for the quarter include ASC.
<unk> finished the year with core revenue growth of 5% as capital share gains in consumable volumes more than offset COVID-19 headwinds in China.
Even with inflationary pressures ASP ended Q4 with the strongest margins of the year and continued to deliver strong working capital improvements.
While hospital profitability remains pressured due to labor inflationary challenges.
<unk> continues to drive robust growth and incense attract SaaS offering in Q4 and for the year with mid teens net new HCV and a record cross sell opportunities.
Lastly, probation is ahead on its return expectations, having contributed 10 cents to earnings in 2022 as.
As customers continue to standardize on probation across their health systems, we are seeing accelerated SaaS growth setting them up for a strong 2023.
Turning to slide eight the Florida business system is a powerful mindset that makes continuous improvement a way of life afforded we drive deep engagement across our teams and hold them accountable for delivering on high expectations. As a reminder, in October we brought together over 400 team members at our CEO Kaizen events are more.
Senior afford of leaders, including our segment leaders in a number of our operating company presidents collaborated to drive significant improvements in gross margin free cash flow and breakthrough innovations across four operating companies fluke ISC tektronix incentives.
We're proud of the success our teams are having sustaining results directly attributed to this event, including at Fluke, we reduce volt changeover times by over 50% eliminating back outside critical plastic components and reducing past due backlog.
See we apply lean conversion and the Florida material system to improve quality output and turnaround time for <unk> and rental customers dramatically, reducing the cost of repairs and product redesign and <unk>.
<unk>, we apply lean conversion to circuit board repair increasing on time delivery to 98% by altering material flow installing five part management and building standard work and documentation on procedures.
And incentives, we applied value stream mapping and transactional process a permit to identify the inefficiencies and waste, resulting in a 50% reduction in time to onboard new customers.
With kaizen activity accelerating in 2023, we expect significant results cross border in the year ahead.
I'm incredibly proud of the work we have done in 2022 to deliver powerful resolve and continue our progress towards building a more sustainable future as you can see on slide nine.
We believe in taking a holistic approach to creating value that includes setting aspirational.
And actionable targets across each of our sustainability pillars as shown on the page.
Leading Florida today has a diverse board leadership team with recent hires and promotions advancing our commitment to top talent and diversity.
Strong and inclusive culture is core to Florida's mission with inclusion and diversity are critical component of FBS.
Last year, we published clear goals to increase our diverse supplier spend gender representation bypass representation in senior leader diversity by 2025.
We believe this has resulted in part to an increase in our employee engagement scores up five points from pre pandemic levels.
Our progress also extends to how we protect the planet and includes the early achievement of our 2025 greenhouse gas goal and the adoption of our new ambitious goal of 50% emissions reduction by 2029.
It's our shared purpose that also pushes us to create innovative and sustainable products and services today.
Today, approximately 60% of our revenue is derived from products and services that enable more sustainable outcomes aligned to the United Nations Sustainable development goals, and we have award winning products that promote sustainability for our customers.
Lastly, the commitment to drive meaningful and sustainable outcomes that matter most to our stakeholders is reflected in our recognition by Newsweek for the fourth consecutive year as one of America's most responsible companies.
With that I'll pass it over to Chuck who will provide more color on our fourth quarter financials, and our 2023 outlook.
Thanks, Jim and Hello, everyone.
I will begin on slide 10, with a quick recap of our fourth quarter performance, we generated year over year core revenue growth of 14% acquisitions net of divestitures contributed one five points of growth FX headwinds were approximately four points.
Turning to the geographies, we saw another quarter of double digit core revenue growth in each of our each of our major regions North America revenue was up low double digit with broad based strength across our businesses Western Europe revenue grew mid teens with volume contributions in hardware.
<unk> and favorable pricing, partially offset by a decline in healthcare.
In the fourth quarter bookings growth slowed in North America, and Western Europe is expected.
Asia revenue increased high teens, low 20% in China, driven by robust growth in intelligent operating solutions and precision technologies more than offsetting a dramatic drop in elective procedures in China impacting advance health care solutions.
Lastly, we saw a broad based performance in our high growth markets with mid teens core growth.
Turning to slide 11.
So operating performance highlights for the fourth quarter.
Adjusted gross margins increased by 50 basis points to 58, 3% as volume and strong price realization continued to demonstrate the value proposition of our products and solutions more than offsetting higher inflation.
Adjusted operating profit margins expanded 110 basis points to 25, 5% up 230 basis points on a two year stack basis adjusted earnings per share increased 11% to 88, reflecting a strong fall through on higher volumes and productivity, partially offset by higher interest and.
Tax expense.
Normalized pretax earnings in the quarter were up 16%.
Free cash flow was another standout.
Strong year end cash collections and the benefits of our fts, driven working capital initiatives yielded $428 million of free cash flow in the quarter, taking the full year to $1 2 billion.
Before turning to the guide I wanted to provide some context on our 2023 outlook on slide 12.
We expect that 2023 will be another year of growth and margin expansion in each of our strategic segments supported by secular table wins driving market expansion and new customer innovations.
Our recurring revenue businesses at roughly 40% of sales are expected to benefit from the work. We did in 2022 to increase demand generation and strengthen our go to market.
<unk> double digit SaaS and license revenue growth.
Elevated backlog and our hardware products businesses, particularly at Tektronix is expected to de risk moderating demand as order rates normalize in 2023.
Further the benefit of 2022 pricing actions is expected to carryover into 2020, driving another year of above trend pricing realization, along with increased sourcing and value engineering savings contributing to gross margin expansion.
We also expect our productivity initiatives to yield strong incremental operating margins, including absence in the first half of the year to countermeasure the slowing macro environment.
Budget paybacks related to these initiatives are expected to average one year. We have included these benefits in our margins and earnings outlooks for the second half with carryover benefits into 2024.
In summary, we believe our 2023 outlook reflects a more resilient revenue and earnings profile as we expect to weather the evolving macro environment.
Turning now to the guide on Slide 13, we are introducing 2023 guidance.
Starting with the full year, we expect core revenue growth in the range of 3% to five 5%.
Outlook reflects a year over year foreign exchange headwind of just under 1% on revenue.
Adjusted operating profit is expected to increase by 10% with margins in the range of 25 to 25, 5%.
Adjusted diluted net EPS guidance of $3 25 to $3 40.
Up 3% to 8%, which includes higher interest and tax expense.
And free cash flow is expected to be approximately $1 25 billion representing conversion in the range of 100% to 105% of adjusted net income and a 21% free cash flow margin.
For the first quarter, we anticipate core revenue growth of five to six 5% with an FX headwind of two 5%.
Adjusted operating profit is expected to increase 4% to 9% with margins in the range of 23, 5% to 24%.
Adjusted diluted net EPS guidance of 71 to <unk> 74 up.
1% to 5%, which includes higher year over year interest and tax and free cash flow of approximately $170 million, reflecting the stronger cash collections that pull forward into Q4 as well as our normal seasonal variations.
Turning now to slide 14, we are expecting a $48 52 split of revenue first half to second half, which reflects a step up approximately $120 million core revenue growth, which when you compare to last year is less than half of the increase we saw in the second half of 2022.
The step up in 2023 is largely driven by acceleration in new products a ramp in the growth rate of advanced healthcare as we lap China, Covid Lockdowns and an increase in software and other recurring revenue streams.
FX and interest account for abnormal earnings seasonality as FX becomes a tailwind in the second half of the year and interest expense is expected to decline as we pay down debt with available free cash flow as the year progresses, giving us a bigger than usual step up in EPS first half second half.
In summary, our revenue outlook reflects a similar linearity profile through 2022, and while core growth Decelerates first half to second half it accelerates on a two year stack basis with that ill pass it back to Jim to provide some closing remarks.
Thanks, Chuck I'll now wrap up on slide 16 and.
In summary, I'm incredibly proud of the contributions of our 18000 team members to make 2022, a record year for Fortis and further differentiate our more resilient financial profile.
As we turn the page on 2022 that resiliency will be on display again in 2023 as our outlook reflects an expectation for slowing growth as customer demand normalizes. After two years of robust double digit hardware product orders, but it also reflects the benefits of the investments we have made to accelerate strategy.
<unk> strengthened our market positions scale, our software revenues and develop new innovations that are solving our customers' toughest safety quality and productivity challenges.
As you've also heard today, we are seeing the benefits of our continuous improvement culture unleashing the power of the port business system to deliver more profitable growth and strong free cash flow again in 2023, allowing us to compound returns through disciplined capital deployment.
When taken together this creates a powerful formula for value creation with a high quality portfolio of desirable brands favorably leverage to sustainable secular trends industry, leading margins and free cash flow generation and best in class execution, enabling forwarded to outperform in almost any environment with that I'll turn it back to you later.
Thanks, Jim that concludes our formal comments.
We will now take questions.
As a reminder to ask a question. Please press star followed by the number one on your telephone keypad to withdraw your question. Please press star one again.
Our first question comes from Steve Tusa from Jpmorgan Chase. Please go ahead. Your line is open.
Okay.
Hey, good afternoon.
Hi, Steve.
Yeah.
Can you just talk about for for iOS.
<unk>.
The margin expansion kind of sequentially from.
The first quarter for the full year.
The the kind of key building blocks for that.
Okay.
Yeah, Hey, Steve It's Jeff a couple of things one obviously.
On that and.
So as we continue to progress we will see that as we as we noted.
Yes.
So the asset life cycle, a little bit lower growth in the first quarter, we can talk about that but that those margins will expand so thats the revenue coming back certainly in the software businesses there as well as just continued progression of.
A lot of the actions that we've got price, we will continue to be.
Household piece of Thats growths, driving gross margin expansion, along with our productivity initiatives. So I don't think we have got anything dramatic from the first half to the second half in terms of anything that you wouldn't normally see seasonally.
In terms of growth price realization and productivity initiatives get more traction as you go through the year those are probably the big drivers outside of just normal revenue.
And then should we assume that this excess $350 million backlog that that all obviously gets kind of washed out this year and then what's kind of the pace of that being washed through.
Steve This is Chuck actually in our modeling no we wouldn't expect that.
That all gets washed out based on but of course it depends on the order rate was one of the reasons why we think that we've got a pretty resilient forecast here.
Order rates moderate beyond.
We think theyre going to be we could still do it it's really still we've got supply chain is getting better. It's just it's not resolved. So it sounds like we can just flip a switch and.
And get it all out, but we would we would probably cut it in half.
Okay, great. Thanks, a lot.
Thanks, Steve.
Our next question comes from Julian Mitchell from Barclays. Please go ahead. Your line is open.
Hi, good afternoon.
I just wanted.
I wanted to start with.
Some more detail on the product hardware or it is.
So I think those were up mid single digit Q3, it sounds like they are up maybe low single.
Q4, and then you've got this slowdown commentary.
And then also on slide 14, you talked about orders in <unk>.
Moving through the year. So is the way to think about that youre trying to say that.
Orders ended last year up low single, maybe theyre down in the first half grow in the second half and then that's what informs the PT.
<unk> sales guy because if I look at that on slide 17, you're starting the year up double digit the year as a whole is up low to mid so you're sort of implying the organic sales and the year.
Flat or down is that just kind of the orders flowing through with a six months lag is that how we're thinking about it.
Well I think first.
We would think in the second half of 'twenty two is basically flattish for orders for those businesses.
So a little bit down in the fourth relative to.
Right right, along where we thought if you remember from the third quarter call. We said, yes. We also saw some orders that came in in the first half or the second half. So that's kind of the backdrop of what we just described backlog in and around where we thought it would be from an ending year. So the backlog obviously as Chuck just described.
That obviously helps in the with some of the some of the water down slowing that we saw we expect orders to kind of be around the same in the first half.
Relative to those product businesses Julien. So you think about probably the second quarter first quarter and second quarter being met probably negative in those businesses.
Backlog, obviously mitigate some number of those things and then it starts to pick up a little bit some of that pickup as an easier comp obviously, because because of what I've. Just described in the second half of 'twenty two.
A little bit since it probably stays flattish through the year is probably not a big improvement through the year and sensing, but a little bit of improvement in <unk>, and we think fluke it will come back as well typically comes back a little faster.
And Julien the only thing I'd, just remind you as we have an easier comp in PT in Q1.
So when you start when you're looking at a dollar standpoint, it's not as dramatic as you move through the year effect I think from a dollar standpoint, we would expect that it would there would be an upward trajectory in PT each quarter sequentially.
Thanks, and when we look at maybe within PT at Tektronix, maybe flesh out a little bit more what youre expecting you've got that high teens growth.
First quarter of the year is up mid single.
But I guess, if I if I look at a lot of what's happened in same electronics.
It feels like people are in kind of the piece of the Destocking right now and have been for three or even six months.
So I understand may be a protected a bit by the back Logan Tektronix that means you have a sort of gradual.
Through the year maybe.
Maybe just help us understand kind of where you see channel inventories in that business and again on tektronix. It looks like the guide implies a down revenue in the back half just wanted to kind of confirm a couple of things there.
Well number one I think on the.
Baxter as we said in the prepared remarks, 40% order growth over the last couple of years, it's obviously, a little bit higher growth rate than what we'd normally expect for <unk>.
So once you start to see the full year is a moderation or a normalization back to that mid single digit growth I would say when you think about customers very much playing out the way we anticipated in terms of moving the business.
It just doesn't have as much.
Updated fluids from consumer electronics anymore, we're seeing a lot of that distortion with.
The things we've talked about in terms of power data centers industrial Iot all of those drivers are really driving the business much more today than ever before making a more resilient. So I think those are all the things. We've described that I think really continue to have the business. It does T cell a little bit of a bond rates off of really.
<unk> really large numbers. So I think mid single digit growth for the year is what we're calling out here could be a little bit better. We'll still ended the year with a decent backlog as Chuck was just describing a couple of questions go. So I think what we look at the business for the year very healthy channels have almost no inventory. So we continue to see good.
Point of sale strength.
And some of that is just fulfilling past due to some extent, but but there really isn't a channel inventory situation whatsoever.
And so I think we're in a good place orders will slow a little bit with some of that is just the big heavy comps that we've sort of had over the last couple of years. So we think we're in a good place and we think we will exit 'twenty three in a good place as well.
That's great. Thank you.
Thank you.
Our next question comes from Scott Davis from Melius Research. Please go ahead. Your line is open.
Hey, Jim and Chuck and Elena I Hope you guys are well.
If I look back if I look back at my notes I think you said the service channel and probation would be like 12 cents accretive in 'twenty two it sounds like maybe that came in a couple of pennies better.
Is that accretion step up.
Meaningfully in 'twenty, three and we think just given the growth rates of those businesses that would be a nice tailwind for you, but I know you did make some comments on the SaaS adjustment on surface channel, though as an offset.
Yes, Scott you got it right we came in at I think 14.
In 2022, and I would expect that.
That would grow.
As you expected.
Build on that 14, and 2023 faster growth rates. There also are more profitability in the first half and service channel and things.
That are going to.
Give us a nice tailwind and Scott just to maybe add on to the first quarter service channel thing as we've talked about in the prepared remarks. This is really the SaaS revenue has continued to be incredibly strong in the business, but we did have a little bit more pass through revenue in the year than we anticipated and that's why we grew the business almost 50% on a full year basis.
So really strong growth this past year.
We'll move to a better business model, which is a little bit less pass through pass through revenue and a much but the strength of the SaaS business has been there all along we've now got a data analytics platform that we're offering as well so so.
You got to kind of get through that in the first quarter, a little bit the first half, but with the profit with the profitability really does raise considerably as well we got what we needed in 'twenty two in that regard will be an even better place in 'twenty three simply because the business model transformation that we intended to do is really starting to hit the P&L fully out of the P&L through the year.
Year.
Alright Thats helpful.
I think it was Jim you mentioned in your remarks that the discretionary procedures in China finish.
<unk> finished the year like a 30% number which.
30% of normal I think im reading, it as that which just sounds crazy but.
Is that are you still seeing that in January I would imagine the reopening just the timing of reopening that stuff would pick back up here in <unk> pretty aggressively is but I don't know.
But are you still getting that Ken Thank you Jamie.
I mean, you got it exactly right December in particular was really low I think that speaks to the strength of age outs quite frankly on the revenue line as we were able to weather that storm because of the strength of other regions of the world We talked about the <unk>.
5% growth will be added in the segments. We think we're about probably 50% January so about half of where we were a year ago, but youre right. There is going to ramp we're seeing some of that improvement couple of weeks ago. We think was the low point, but its not picking us.
But we should see continued improvement as we get on the other side of this the Chinese new year holiday and we'll get a better view of things as we always do but we had anticipated.
That this will continue to improve throughout the year.
Trying to just kind of gets back to normal and we certainly started to see that.
Okay, well best of luck. Thank you I'll pass it on.
Alright, Thanks Scott.
Our next question comes from Jeff Sprague from vertical research. Please go ahead. Your line is open.
Hey, Jeff Hey, Good day, everybody Hello.
Hey, Jim.
You are well aware right.
There is a process going on out there for national instruments.
A lot of speculation out there about your interest I am sure.
You are fairly limited on what you might want to say, but.
Any any color you could give us on your appetite for.
The deal that large or you've expressed interest in the past and hardware related deals.
Anything there or make any sense for you.
Yes, so I think number one we obviously know the company and have read the news so you're exactly right.
We wouldn't comment on any any process that we would be involved in are not involved in particularly a public one.
I'd say this I mean, we've known ni for long time, I can remember meeting Dr. <unk> 15 years ago or so so we know we know that while we partner with them at Tektronix and have for a long time. So I think what we've said strategically about all of our <unk>.
<unk> was there was a balance of large small deals hardware and software.
So.
The balance sheet is an incredible place right now.
As you know so we're in a great place to do.
Do things, but we're going to be disciplined we're going to work.
To make sure that every situation we approach we approach it strategically.
Strategically how will it accelerates what we wanted to do and I'll leave it at that but I think more broadly around M&A. We're in we're in a very good place relative to our opportunities ahead of us and.
We certainly are playing offense in that regard.
Great. Thanks for that and then just totally shifting gears just back to kind of the inflationary pressures.
Yes.
Yes at this point do you have the cost and other actions in place.
To be neutral or better as we move through 2023, maybe just put a little finer point on how you see kind of price cost and kind of the margin impact playing out over the balance of the year.
Yes, so I think more specifically around IHS.
We called out a couple of kind of onetime headwinds in the quarter.
I think theres a number of things that are that are working.
Working in our favor relative to the 23 year number one is North America, where we had good growth in North America and anticipate that will continue we're not necessarily calling everything getting perfect in North America, but we do believe it will get better and we saw that in the fourth quarter and that's a that's a good thing for our margin structure.
And then number two to your point, we're seeing a little bit more price realization in the fourth and into the end of this year things are starting to get a little traction we've talked about that on the call that just takes longer and we're starting to see that and then finally productivity. The team. This team is that leadership team is really adopted FBS and they've they've really embraced a number of things to really drive productivity.
So we don't we don't see the additional inflation either as well so the combination of we don't see incremental inflation at this point.
And we have those actions getting deeper and deeper into the margin structure. If you will.
Through the year. So we feel like we're in a much better place starting here in 23, both from a market and obviously the kind of kind of actions that we need to continue to make the business better and I would just kind of you didn't ask it but we have grown gross margins in Hs 100 operating margins about 130 basis points over the last two years.
So despite those challenges.
We're in a good place I called out the launch cost from where we are today.
Great I'll leave it there thank you.
Thank you thanks, Jeff.
Our next question comes from Nigel Coe from Wolfe Research. Please go ahead. Your line is open.
Thanks, Good morning, everyone.
Guys. How are you by the way <unk> is going be very happy that you put them in that comparison.
So uh huh.
So just want to put up on Jeff's question, let's see the national instruments needs is out there.
Where do you stand philosophically on issuing equity for a deal because based on the math that we're doing you know your leverage will get to very high levels. So I'm just wondering.
What is the leverage ceiling EBIT had a go to for the right opportunity.
And philosophically would you issue equity for the biopsy handy.
Nigel this is <unk>.
<unk> always felt.
We want to maintain an investment grade rating and so we wouldn't do anything that on any type of deal that would jeopardize that I pointed out in the past we've done equity instruments at the mandatory convert.
We've always said that.
In situations, where we wanted to do something equities never been off the table is just hasnt been needed at this point.
Okay. That's helpful. And then just going back to the FY2023 plan how much of that 350 <unk> backlog are you are you sort of planning to eat into.
Underpinning your plan.
Maybe just touch on the service channel SaaS transition it seems like it's a very sort of discrete sort of inter quarter, maybe <unk> first half event.
SaaS transitions tend to be kind of drawn out when we look at other companies. So just curious why that would be social so Tim.
Nigel will take the first part.
We would expect to take the excess backlog that we're talking about probably up to half of it is included in the assumptions for this year in this guidance, but we clear. This is what we consider excess and thats still we'd get more out if the supply chain to get better.
So there's a little more they are there, but it's still constrained by supply chain throughout this year, but getting better.
The service channel question I wouldn't think of it as a SaaS transition. The SaaS revenue has continued to be good.
We grew the business well over 70% in Q1 of 'twenty, two and so with a large amount of this just pass through revenue and so if you think about it we have a customer some of our contracts have we're passing through a number amount of the facility maintenance costs that they have planed plumbers electricians, where.
Just doing less of that and so it's really not a SaaS transition in the traditional SaaS.
We're replacing that solution, though.
With some other added benefits and so that's.
That's why it's a short term transition, it's really kind of going from <unk>.
Losing some of this onetime pass through revenue that quite frankly, we didn't make any money on so I would say it is that and thats why its short term as opposed to sort of a conversion of what you'd see traditional license revenue to SaaS revenue, we're not going to see that this is.
Service channels are 100% SaaS revenue company.
Right Okay. Thanks, Jim.
Thank you.
Our next question comes from Andy Kaplowitz from Citigroup. Please go ahead. Your line is open.
Good afternoon guys.
Panic.
Jim you and Chuck mentioned increased productivity initiatives planned in all segments that primarily benefits. The second half of 'twenty to me I think you already mentioned in Fps.
NHS, but could you give us a little more color around what some of the bigger initiatives are and maybe size. These initiatives for us and then if theres any sort of cost to undertake these initiatives.
Okay.
Yes, indeed, the first half.
We expect to put up 20 $25 million to $30 million.
Cost C cost to get after some of these structural things some of them are rooftops a few of those but they will likely be some.
Outside of the U S. Maybe there are some regions that we want to convert to a dealer.
Yes.
Approach rather than a direct quotes and I'm thinking here in our health margins. We've always thought that there was there is cost that we needed to improve and improve our go to market there and we're just.
Getting after that.
Got it and then Jim can you give us more color into what youre seeing by region. It looks like Western Europe has continued to be strong for you we've talked about China in Hs, but outside of Hs is strong.
What are you thinking for 'twenty three you talked about orders slowing in Western Europe , and North America, but is that more a function of supply chain is normalizing or are more of your customers a little cautious to start 2003.
Yeah, It's interesting I think we've always thought for the last several months.
Customers would inevitably start 'twenty three out a little a little more conservative just given we've seen some of the tech layoffs and some of those things the PMI where it is.
So thats number one thats kind of our planning assumption.
From an order perspective, knowing also knowing that we had were ended we're starting to narrow and good backlog situation I would say if you think about our regionally Andy obviously, North America is going to be pretty good and pretty resilient given the fact that we have most of our software businesses have the predominance of their revenue streams in North America and I.
The health care.
Particularly ESP North American story, So North America.
Any resilience.
I would say that western Europe , and Europe , more broadly probably probably are weaker area for the year.
Just given the number of things some of that is.
Supply chain is normalizing a little bit back to normal some of it is just a little bit of weakness as well.
China is going to be good all year health care will be weak in China in the first quarter because of elective, but shouldnt continue to get better through the year. So that's kind of the regional play and Thats sort of our planning assumptions going forward.
I think it's still early days obviously.
Lots of the year to play out here, but that would sort of fundamental to our planning assumptions.
I appreciate it Jim.
Thank you.
Our next question comes from Josh <unk> from Morgan Stanley . Please go ahead. Your line is open.
Hi, good we do this every quarter morning afternoon sort of depends.
I hope everybody is well.
Not to beat a dead horse on this hardware backlog conversion and sort of what's in the guide, but not but I just wanted to be clear here.
Chuck on that comment that you really only have about half of the excess backlog getting worked down.
I don't know how fungible that backlog is.
Even within something like <unk>, where it's a little bit more weighted but am I to understand then that like orders.
On a volume basis could be down close to double digits and you guys are basically still hitting the guide if you can work down that backlog fully this year, providing there's no like other governor in the way is that that's sort of a fair way to think about how that is calibrated.
Yes.
Yes.
What we're seeing here and there, but what we are seeing is reason, we can't get the backlog down more it's more supply chain.
Constrained.
So much material, it's the way I would think of it. So if orders go down $10 million more it doesn't necessarily change our revenue guide if that's what you're saying I would agree with that.
Got it yes, yes, and Thats, where I was going.
Yes, I was just going to add that.
It's also as you said it depends on the business as you pointed out a little bit more backlog attack. So so it does matter, where where the orders go down relative to how we can make it up so.
It certainly is part of it but we ought to think of it that extra hassle.
And then planned to go out as an insurance policy against some additional decline.
Got it that's helpful. And then I guess sort of related to I think it was Jeff Sprague's question on price cost, maybe taking a step back and just thinking about kind of total bullwhip effect on supply chain I would imagine there were some frictional costs last year that probably get better, but maybe you also kind of working down some inventory.
Is there some sort of like offsetting absorption hit to the two.
The absence of those frictional costs or how would you sort of balance those two as you know and that headwind versus tailwind for this year.
Well I would think of it this way there are some spot by costs that probably go away from 'twenty two for sure but there are some embedded costs into what into standards that are going to be with us here for a little while I think the real thought is where EMEA had a price cost like we have been well grow gross margins more in 'twenty three than we did in <unk>.
So in that sense, I think we're going to be.
As we've shown over the last several quarters <unk> had.
We're not too worried from a factory absorption perspective, if thats, what youre going in that direction. We all worry about that will really be focused on is making sure a number of commodities are down or will be lower things like metals plastics, but the majority of our buyers electronic components and that will take a little bit longer.
Two.
Great wean ourselves from some of that inflation that we saw this year. So we planned it.
We are super aggressive in that regard, we'll get after everything are we a great supply chain teams, but it'll take a little while but I think youre seeing youre going to see that throughout the year as the gross margins continue to look good.
Got it Super helpful Best of luck guys.
Thanks. Our next question comes from Deane Dray from RBC capital markets. Please go ahead. Your line is open.
Good day everybody.
Can we put the spotlight on free cash flow here.
It looks like for us the only company we've seen that has over delivered in the fourth quarter significantly above your <unk> average and Chuck you mentioned some working capital initiatives you could take us through that but also there was a reference about collections pulled in to the fourth quarter from the first quarter. So what was the dynamic there.
<unk>.
Yes, a couple of things we always have.
A lot of work as you know working looking at our working capital across all of our operating companies is the focus that we've had all year long and it's been it's been a challenge.
As it always is but we've really done a great job ASP actually is a standout there.
So I think thats.
Thats really what were talking about there, but they weren't the only ones. We added a couple of really good placement.
Say whole in so much.
Okay is really thinking about it as just some time.
We thought we had really we did have really strong guide and we came in a little stronger that there could be sometimes you just get year end receipts, sometimes they come in a little light and then show up in Q1 at this time I would probably think maybe $20 million came in.
<unk>.
Little early.
It really can't do much about that as just whether they sometimes when they cut the check before new year's or afternoon.
Yes.
But we were very pleased with our free cash flow performance all year.
Yep.
<unk> came in at 107, so that's right in the.
The sweet spot for you all and then a follow up question on cross selling Jimmy mentioned sensing are having some success in cross selling just kind of take us through what's going on there how much is that encourage how do you track cross selling and what are the opportunities.
Yeah.
I think number one is.
I know you know when we.
We've seen a little in a couple of places we've seen new new logo when things get a little slow, particularly starting the year out new logos, maybe a little bit harder to grab onto as people may be take a month or so to maybe an extra 30 days to close business, but cross selling and Upselling is something you can do every day and so our presidents are very much Tim.
<unk>.
In.
Times like this where maybe things are a little bit there's a little bit more ambiguity out there as to how the year is going to play out. The teams are really conditioned to really move the sales motion to more more cross selling and that really drives our net dollar retention, we talked about it in a couple of individual places we've got over we've got a number of businesses that are well over.
105, now we're at about 102, so the metric metric, we're really used to drive that is cross is net dollar retention and so what we're really pushed on early in the year is get those renewals drive gross retention.
And then drive the cross selling and up selling as well. So I think we're well from a process perspective.
The number of tools that support those efforts with customer success organizations, that's a big focus for us here at the start of the year.
That's real helpful. Thank you.
Thank you.
Our next question comes from Joe O'dea from Wells Fargo. Please go ahead. Your line is open.
Hey, Joe Thanks for taking my questions Hi.
I wanted to start just more macro and I think you know what you're talking about on the orders front is more just kind of backlog normalization is supply chain corrects.
But but as you go through that I mean, how do you think about coming out on the other side and how do you think that its sort of soft landing type of environment. When we see sort of industrial production and we see PMI. So just in general what youre seeing on kind of structural growth or outgrowth and kind of confidence that backlogs normalize and then the growth is there on the other side.
Yeah, Joe I think it really goes back well have an opportunity to really give a lot of this detail in our investor day in may, but I think what we really think about this is really how we move the growth rate of our long term through the cycle growth rates to mid single digit.
Two really strong years of growth, 10% to average the last two years.
That's on the back of a number of things we've done from a portfolio perspective, and just demand has been better than that.
Storage, but as we get into 'twenty, four and we normalize around the kinds of things that we would see we certainly would would continue to see that mid single digit as a number on the back of continued stabilization of the macro for some of our product businesses.
Obviously continued improvement in our health care businesses and just the strength of success we've had in software.
Well sort of combination pillars are really are going to be what really drives that mid single digit growth rate.
As we said as things normalize here.
Hopefully hopefully sooner rather than later.
Got it.
And then I think in the prepared comments you mentioned some actions to counter some of the slowing not sure what might be happening on the cost front, but anything that you could expand on there.
Well I think as Chuck described it's really kind of across the segments.
And it really deals with a number of things.
Certainly looking at certain product lines that maybe are a little slower than over the next few years, we closed a couple of rooftops.
<unk> continued to do some things on the on the lease front as we continue to consolidate our real estate footprint.
So a number of those things are really what we're talking about is an accelerated rate given given kind of after a couple of years, a 10% growth.
No.
We may be more focused on the growth, maybe a little bit more focused on supply chain, but now as things start to normalize here, we're back to getting after some things and.
In the traditional sense, we want to be ahead of those things.
And that's really what we're talking about.
Great. Thank you.
Thank you. Thank you.
Our last question will come from Joe Giordano from Cowen. Please go ahead. Your line is open.
Hi, Joe.
Hey, How're you doing I just want to follow up a couple of things on the on the orders here.
Particularly in lets drip out like the IHS and with more on the hardware stuff in PD in fluke and Tek.
What gives you confidence that orders in the second half of the year start to get better I guess like just the revenue guide suggested you exited at kind of the lower the lowest point of the year.
And you said fluke Tech orders were up by 40% over a period of time here. So it is just going from plus 40% of normal levels is that like <unk>.
Reasonable or could you see declines in orders because of the magnitude of which they expanded over a relatively short time.
Well as we said I think in the first half we're going to see some of those declines as we described.
And I might point of sale is still really strong so at fluke and tek.
Not only get back scenario and a coal mining question around fluid and quite frankly <unk> point of sale has stayed strong. So so we think that will moderate as some of the macro impact certainly move that number down but youre working off such high cost relative to the last few years is that.
Moderation whatsoever could make it look negative, but really quite frankly is not a significant issue relative to both the backlog and kind of where we're at relative to historical perspective, So yes, well some of that improvement in the second half comps.
For sure, but some of it we think sensing probably as an example, probably stays a little rock through the year and we get we know what the Oems are doing right now so we mentioned in the prepared remarks.
Some places in industrial like industrial automation in some parts of the world like China, but on balance.
<unk> when we look at the sum total of sensing fluid contact.
We still think there'll be a little bit a little bit of improvement in the second half, but we don't need a big improvement necessarily.
To really deliver what we described is as we've talked on a couple of the questions. We've got some backlog too as an insurance policy against those things may be declining a little bit more than we anticipated.
Okay. So youre, saying its more of a dollar thing I mean more of a comp mapping the dams that's right that's right.
We're really looking at some pretty significant growth rates.
Over the last couple of years in orders.
We're much bigger than our revenue numbers, because because of the supply chain issues and the creation of a bigger backlog and quite frankly.
Past due backlog, which we've started to.
Burned down as we've as we've talked about throughout the day.
Okay, and then just last from me.
You talked about.
Theoretical M&A on the call so far but if you were in a theoretical situation where equity was a component of.
Of a purchase like how do you think about what your your our return hurdles would be in scenarios like that where equity is part of it.
Well first of all I think I think it's clear.
Trying to convey here is discipline will continue to be the the word of the day relative to M&A and I think we are returned hurdles are going to be what our return hurdles are we've talked about 10% of our ROIC for the various kinds of deals and we will we'll continue to think about that I think what we've been trying to describe is situations in which will be.
Disciplined I think what youre seeing in 'twenty two.
<unk> turns of that certainly the most recent.
M&A that we've done probation and service channel, beating their first year numbers as an example of that but also the deals that we did five six years ago.
Performing outstanding like already at an E mail and landauer. So I think we're in a great place from a balance sheet perspective to deploy capital.
I would be much more focused on our discipline around returns and our discipline around accelerating strategy in places, where we can really do that.
Thanks, guys.
Thank you.
We're all out of time for questions today, I would like to turn the call back over to Jim Lico for closing remarks.
Thanks, Julie and thanks, everyone for spending the time with US today, we really appreciate we know you're busy this week with with a number of things I think what you heard from us today.
A real sense of pride.
What we did in 2022, we said 22 was going to be a show me year and I think what you saw through the quarters and certainly the full year numbers are real the real power of the Florida business system and the ability for us use the FBS tools to accelerate we tried to convey the fact that getting back into it.
In person case hands is something thats really important to us from a cultural perspective and from an ability to deliver in any any sort of economic times.
That acceleration of in person events, we tried to demonstrate and show you. Some examples of that work we're back to work in that regard as we get into 'twenty. Three we'll look forward to continuing to share our strategies in may with you.
I think what Youll see this year and what Youre seeing in our guidance is the continued improvement in our portfolio and the strength of our culture and our business system special Thanks to our 18000 teammates around the world to make that happen and make it happen everyday. Thanks, everybody have a great day, we look forward to follow up calls and we'll see you soon take care.
This concludes today's conference call. Thank you for your participation you may now disconnect.
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