Q2 2023 Parker-Hannifin Corp Earnings Call
Okay.
Good day and thank you for standing by welcome to the Parker Hannifin Corporation fiscal 2023 second quarter conference call and webcast at.
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Now I'd like to hand, the conference over to your Speaker today, Mr. Todd Liam Bruno Chief Financial Officer, Sir. Please go ahead.
Thank you Chris Good morning, everyone and thank you for joining partners fiscal year 2023, Q2 earnings release webcast as Chris said this is Todd, we and Bruno Chief Financial Officer speaking and joining me today is Jenny <unk>, our Chief Executive Officer, and Lee banks, our Vice Chairman and President.
Our second quarter results were released this morning, and before we get started I just want to remind everyone. We will be addressing forward projections are non-GAAP financial measures slide two of this presentation details our disclosures.
Our disclosure statement to issues in these areas.
Forward looking statements detail issues that could make actual results vary from our projections. Our press release this presentation and all reconciliations for non-GAAP measures are now available under the investors section at <unk> Dot Com and will remain available for one year, we're going to start the call today with journey addressing some focus areas.
For the company as he takes on the role.
CEO . She will then address some highlights for the quarter.
Of which we just released this morning, and then I'll follow up with a brief financial summary, and then review the increase to our FY2023 guidance that we issued this morning, Jay is going to wrap up with a few summary comments and then Jenny Lee.
We will take as many of your questions as possible.
I'd now ask you to reference slide three and Jenny I will hand, it over to you.
Thank you Chad good morning to everyone and thank you for joining the call today.
As Todd said before we get into the quarter results I would like to remind everyone. What drives Parker and give you some insight on where we'll be focusing.
Moving to slide two.
New CEO .
Same three drivers.
Up to our purpose.
Are you going to be great generators, and declared a cash and achieving top quartile performance versus our proxy peers.
Slide three please.
Safety purpose and engagement are the foundation of top quartile performance.
As I mentioned to all of you in the December call. We are committed to delivering the cost synergies of $300 million and we're very pleased with the progress to date.
We said before it's still early innings for win strategy three point out and we will continue to utilize it to accelerate our performance.
Our culture is one of continuous improvement as evidenced by past performance and results, we will deliver well into the future.
And we are fully committed to achieving our FY 'twenty seven targets that we rolled out in Investor Day last March.
All of this will allow us to continue with the transformation and share a very promising future partner.
Moving to slide four please.
You've seen this before.
<unk> has a proven strategy the win strategy is and will remain our business system.
As a system focused on the fundamentals.
We trust the process and we'll continue to get results from it as we have in the past.
Slide five please.
So we're well win strategy three <unk> accelerate our performance.
Well it always starts with our people.
Safety is number one and it always will be.
Our goal of zero incidents and we believe it is possible.
We brought a lot of new people into the business over the last couple of years and we have the opportunity to double down on the training and chartering at high performance teams and leaders.
We will further strengthen our culture of continuous improvement and our brand of kaizen well into the future.
Moving over to customer experience.
We have an opportunity to do even better with the digital customer experience.
Anywhere from how we interact with our customers on quotes and orders to the availability of digital products and the use of artificial intelligence for demand for testing with both our customers and our suppliers.
It's early days for zero defect initiative as well.
This obviously drives better quality and overall customer satisfaction.
This is the exact same approach that we took with zero safety incidents zero defects as possible.
It starts with engaging our people around robust products is robust product and capable processes.
Doing this right exposes the hidden factory in.
Improved quality reduces costs and thus expand margin.
Best in class lead times have been part of our win strategy for many years.
And coming out of the pandemic and subsequent increase in volume, we see even more opportunities to improve lead times and become supply chain leaders.
Our customers deserve this level of service and all of these are strong enablers of growth.
Profitable growth is the key.
Combination of performance and portfolio changes, which we have demonstrated.
Strategic positioning as a tool used by our general managers to segment their business and positioned to invest in their markets and with their customers.
This process and cadence will continue to drive the critical thinking about growth in the division and closest to the customer.
We are obviously seeing the benefits of a transformed portfolio and we will continue to seek out those opportunities that will enhance the transformation.
The most significant capex spending in decades will bring growth to partner with all of the technologies, we have supporting the secular trends today and for many years to come.
We have an annual cash incentive plan, which incentivize the right behaviors and drive a real intensity around growth.
Moving over to financial performance.
We have a proven set of simplification tool, which will continue to help us reduce complexity and cost.
Allison This area is our simple by design process, which you've heard us talk about a lot. This has become a fundamental our business fundamentals across the corporation.
We have a robust process around value pricing and we will continue to strive for margin neutrality inflationary time.
We will also double down on training the principles of lean. This is the foundation of our continuous improvement culture, and it drive safety and productivity and all of our operations.
You've heard us say many times over the past few years that while not immune to the chaos of the supply chain, we fared better than others due to our dual sourcing initiatives and our local for local strategy.
Pandemic and subsequent increase in volume exposed some areas that we can further improve upon to ensure that we become supply chain leaders.
Our teams are looking to further enhance the visibility of the changing demand picture and utilize the new scheduling tool that will drive efficiency in the operation and those best in class lead times that I just mentioned.
Focusing on these areas in win strategy three <unk> will help us to achieve top quartile performance.
Slide 16.
Our capital deployment priorities remain unchanged, we will maintain a record on dividend payouts and target a five year average payout of 30% to 35% net income.
We'll target 2% of sales on Capex to fund organic growth and productivity.
<unk> one share repurchase program will remain in place.
And our near term and top priority is to Delever post the Mega acquisition.
We will keep our acquisition pipeline healthy and will continue to build relationships for future acquisitions.
Slide seven please.
Q2 was another quarter of excellent operating performance, we saw a 16% reduction in safety incidents versus prior year further supporting our ability to reach zero incidents sales.
Sales came in at $4 7 billion, a 22% increase to prior with organic growth coming in at 10%.
Strong segment operating margin across all segments has led us to our full year guidance increase and we are very happy with the progress of the Mega integration.
All activities and synergies are on schedule.
Moving to slide eight.
We'd like to share some recent highlights on the integration.
Key leaders from both Parker and Meg at our leading over 20 teams that are creating a lot of value in integrating the functions.
Engagement with the team members and the customers' attack widespread activity in all locations.
And win win strategy training and implementation is well underway.
Just to note here and we have a proven track record of delivering synergy targets and this acquisition will be the same.
Teams are following the integration playbook that has been developed over the last several acquisitions and I am sure. They will add some new best practices to it as well.
Slide number nine.
So we are on track to achieve the $60 million in synergies by the end of this fiscal year and the graph on the left illustrates our path to $300 million in synergies and adjusted EBITDA margins of 30% by FY 'twenty six.
Synergies are represented in blue and accumulative costs to achieve our goals.
On the right side of this page. This quadrant depicts the use of the overall wind strategy to achieve the synergies and ensure operational excellence into the future.
Starting with the top left safety lean tightened high performance teams. All makeup our brand of Kaizen and will drive engagement and continuous improvement well into the future.
Simplification is a major area of focus for the integration teams. This is why we look at structure and Org design we.
We use our 80 20 complexity reduction tool and we implement simple by design principles.
All of this drives real ownership and decision, making at the division level further empowering the team to drive results.
Moving over to SG&A.
The realization that there is a lot of opportunity moving mega from a centralized structure to parker's decentralized structure driving that overall decision, making to the local level and improving overall speed.
With this acquisition footprint optimization is very minor.
Remember, we have complementary technologies with this acquisition and not a lot of overlap at the plant level.
And with supply chain, we will optimize pricing terms and conditions direct and indirect material spend as well as logistics.
Again off to a great start very pleased with the performance one quarter end.
And now I'll turn it back to Todd for a summary of our Q2 results. Thanks, Jamie that was correct. Okay. So I'm going to begin on slide 12 with the financial results.
Can't tell you how excited the team as this is the first full quarter that includes mega it in our results. It also is the first full quarter that we do not have aircraft, we won't break in our results. So the year over year comparisons are a little bit more complicated than usual.
See the top line sales increased 22% versus prior year that clearly is a record for us at $4 7 billion organic growth continues to be extremely healthy and was just over 10% in the quarter that.
Does extend our string of double digit organic growth quarters.
Although better than forecasted currency headwinds do continue the currency impact to sales was unfavorable by 4% in the quarter.
Versus prior year and when you look at the net of the <unk> acquisition and the aircraft wheel and brake divestiture that was a positive 16% to our sales in the quarter.
Looking at adjusted segment operating margin, we exceeded our forecast and we finished at 21, 5% and if you look at adjusted EBITA margins that was even stronger at 22, 4% and just as a reminder, we mentioned this last quarter. We do expect it to be just slightly dilutive to overall margins in this first of years.
As we generate those synergies that Jimmy just spoke to looking at adjusted net income, we did $619 million or 13, 2% Ros that is an improvement of 6% versus prior year and adjusted earnings per share were $4 76.
That's a Q2 record and an increase of 30 or 7% compared to the prior year.
Overall for Q3, we are extremely happy to have that first quarter of Mega in the books to see that sales increased by 22% and obviously see the positive net income and the EPS growth. So just really happy with the results of the quarter.
We jump to slide 13. This is just going to be the visual.
Elements of that 30, <unk> EPS improvement and again I'm really happy to say the driver of this is the additional segment operating income we generated $180 million or 22% additional segment operating income versus the prior year. If you look at that that added $1 eight the EPS for the quarter.
Interest expense as expected as a headwind it's a 51 headwind that was a little bit higher than we were expecting just with the movement in rates, 100% of that entire 51 is.
As related to the Mega transaction.
What's going on in the rate environment.
Other expense was 12 unfavorable that was primarily or primarily driven by year over year changes in currency rates.
And income tax as a drag in 2014.
Really because last year benefited from a number of discrete items that were favorable and of course. This year. We have some of these transaction cost.
In the quarter that are non deductible everything else nets, just a penny and if you look at all of those items that makes up our <unk> increase to that record $4 76 earnings per share and we're really happy with that if you jump to slide 14, and just looking at the segments. Once again every segment was positive organic grow.
<unk> in the quarter.
We exceeded our margins across the board every segment exceeded our expectations on margins orders remain positive.
Some pretty tough comps to the prior year and for the total company finished at plus three and really demand does remain robust across all the markets. We serve our team members really are working hard to meet customer expectations and the result is that record sales that we just generated in the second quarter. If you look specifically at the north.
American businesses sales are extremely strong at $2 1 billion organic growth in that segment is 32, 5% adjusted operating margins did increase 50 basis points in North America. They finished at 21, 8% that is a record.
And just really healthy volumes.
Gradually improving supply chain really helped draw.
Drive performance in those North American businesses order rates are positive at plus two and that.
Really matches, our strong backlog and really that broad based demand that is.
Consistent across North America. So special thanks to our team members in North America for their record performance looking at the international businesses sales were $1 4 billion organic growth there almost 9% from prior prior year and across all of our regions in the International segment, we were positive from a organic growth stack.
Endpoint.
Margins remained high at 21, 9%. This is slightly down from prior year really due to currency a little bit of product mix and some China COVID-19 related headwinds.
Just specifically in China order rates are minus four they were positive last quarter, but that did have a bit of a rebound if you remember from the.
Covid related shutdowns in China, So we're watching that very close closely.
Space systems, obviously huge sales up 84%.
Did exceed $1 billion for the first time and that obviously is clearly driven by the addition of <unk> businesses in our aerospace systems segment.
Organic growth in aerospace was almost 5% really strong OEM and MRO commercial activity in that segment, both from sales and orders.
Being mid teen positive.
OEM side of it.
Military OEM remains negative as we as we expected operating margins of 26% in that segment that is up 70 basis points from last quarter and better than we forecasted.
And really the integration of the performance of the businesses the synergies like Jim had mentioned totally on track and we feel really happy with that.
When you look at aerospace orders. They are plus 22, we've talked for the last couple of quarters about that bad comp we had with the military orders we've now.
We've passed that comp. So you can see the orders are 22%, we're really happy with that great performance across all of our businesses this quarter great job everyone.
If you go to slide 15. This is just cash flow. This is our performance on a year to date basis.
The Mega transaction, we've talked about this.
Last quarter, there was a drag the cash flow just based on some of those transactions cost they did impact our CFO and free cash flow by roughly 2%, but even excluding that if you look at the numbers as reported.
Cash flow from operations was 12, 1% of sales, we did see surpassed $1 billion.
Cash flow from operations on a year to date basis, and our free cash flow is 10% of sales or capex as we have communicated to slightly over 2% for the year and free cash flow conversion is 114% I think everyone knows is pretty well our cash flow is.
Always second half weighted and we continue to forecast mid teens.
Cash flow from operations, and certainly free cash flow conversion over 100% for the full year.
Jump to slide 16, just a few comments on capital deployment I think everyone saw that last week, our board approved a quarterly dividend dividend payout of $1 33.
Sure that is our 290 <unk> consecutive quarterly dividend and it is certainly in line with those targets with Jenny mentioned earlier.
On leverage we did make progress on reducing our leverage if you look at gross debt to adjusted EBITDA that was three six net debt to adjusted EBITDA was $3 four both of those metrics improved.
<unk> two turns from Q1.
So that EBITDA is on a trailing 12 month basis and just a reminder, that only includes Meg at EBITDA from the data close so roughly three five months of <unk> EBITDA.
And I'm proud to say, we've now apply to over $2 2 billion.
Of cash towards debt Mega transaction, and we are really fully committed to our deleveraging deleveraging plan.
And that plan remains on track.
So good progress there, okay, so moving to guidance on slide 17.
We did increase our guidance. This morning, we are providing this as usual on an as reported and adjusted basis.
When you look at the sales range, we are increasing that.
Creasing the range from 14, 5% to 16 five are from excuse me 14, 5% to six five or 15, 5% at the midpoint.
More importantly, organic growth if you look at our organic growth for the full year, we are increasing that to 7% is up 1% from 6% last quarter.
The impact of acquisitions and divestitures, we're moving that up just slightly to 11, 5% that was 11% last quarter and while currency is still a headwind we expect that to be less bad.
We now forecast to be that to be a 3% impact to sales negative.
It's down from what we were forecasting last quarter at negative four and a half and that is using spot rates as of December 31, like we normally do.
When you look at our adjusted segment operating margins for the full year, we are increasing that full year guide by 20 basis points to 22, 1%.
That is at the midpoint there is a range of 20 basis points on either side of that in just a few additional items to note. If you look at the interest expense that is now up to $555 million that was.
510 last quarter that does include.
The changes in the interest rates that just were announced yesterday and really what we forecast them to do.
A couple of months corporate G&A is $204 million in other income is really an income of $18 million. Both of those numbers are virtually unchanged from our prior guide if you look at our tax rate just based on where we're at now halfway through the year. We believe that will be 23, 5% for the full year.
And adjusted EPS is now raised to $19 45.
A 50 cent increase from our prior guide and there is a range around that are plus or minus 25.
Specifically for Q3.
Organic growth is expected to be nearly 4% we've raised that from our prior guide and adjusted EPS is expected to be $4 six at the midpoint and.
And finally adjustments in the forecast at a pretax level are listed here on this table for the remainder of the year together with acquisition related expenses incurred.
So thats the details on guidance. If you go to slide 18. This is again just a little bridge on that you can see what we start our prior guide was $8 95 at strong performance in Q2.
We're.
Rolling in that 45 feet.
We are increasing segment operating income by 35 for the remainder of the second half and I. Just wanted to note that 25 of that is due to the.
Less bad currency rates, if you remember last quarter, we knock that down a little bit based on where rates were at the end of September we have now moved that back a little bit and there is a little bit more based on the organic growth increases and that is 35.
Interest and tax they'll continue to be a bit of a headwind you can see the interest expense is 20.
Headwind and income tax for the second half of the year is just 10 cents avid altogether, we get the $19 45 at the midpoint.
And that is the changes to our guidance. So that slide I will ask you to focus on slide 19, Jenny I'll hand, it back over to you for summary comments before we go to Q&A. Thank you Todd.
So we have a very promising future.
We have a highly engaged team that is living up to its purpose.
We will continue to accelerate our performance with win strategy three <unk>.
We are seeing the benefit of our strategic portfolio transformation, and we will continue to be great generators and to players of cash.
And with that Chris I think we're ready for questions.
Thank you.
As a reminder to ask a question. Please press star one one on your phone and wait for your name to be announced to withdraw. Your question. Please press star one again standby.
Standby as we compile the Q&A roster.
And one moment for our first question.
Yes.
First question will come from Jamie Cook of Credit Suisse. Your line is open.
Hi, good morning nice quarter.
I guess two questions one.
Can you give a little more color on the negative order growth and international and then the acceleration that you saw in orders in the aerospace segment.
That would be helpful. And then Jenny I guess, just a bigger question for for you today, Obviously Parker has been on a journey to.
I've moved there through acquisitions move their portfolio into higher value add services higher organic growth businesses, but it's been more really about acquisitions versus.
Divestitures I guess as you look at the portfolio today do you still see Parker go down the path of looking at acquisitions or as an opportunity to look at potential businesses that might not make sense for parker over the longer term. Thank you.
Thanks, Jamie and good morning.
I'll try to answer your second question and then I'll, let Lee give.
Some color on your first question so.
We always want to be the best owner of any business right. So we have a regular process, where we look at that at that every year. So.
That's something that is well in place and we will continue we'll continue to do that.
As we look to future acquisitions.
Again, we're going to be looking for the type of acquisition that is margin accretive.
Has that resilience of the longer cycle business and something that fits well with with partners. So obviously short term we need to pay down some debt for magnet, but that's why it's important for us to keep those relationships strong for the future.
Jamie it's really just commenting on international.
Orders.
The biggest story here is really Asia Pacific that are truly around China.
If you think about where we've been I mean, we've had consistent COVID-19 lockdown start stop.
And then really tight monetary and fiscal restraint by the government trying to get some of the real estate markets under control et cetera.
And we saw really that really play out specifically later in the quarter.
Things contracting and slowing down we are seeing quite frankly, the Chinese new year is the first time in almost three years. The Chinese new year has really been fully open. So the amount of people traveling and gone is a lot different than it has been in the past.
Having said that we're.
Conservatively optimistic going onto second second half of the year.
Seeing low.
Low single flat to low single digit positive growth in Asia Pacific really led by China.
<unk>.
I think it's still going to be a little troublesome in China as they get their supply chain up and running et cetera.
I'd like to believe that with the stimulus going yet and everything else that we're going to see some positive momentum there.
Okay. Thank you and then color on that.
On aerospace it just all commercial I presume.
Yes, the big thing on.
Aerospace was really the military OEM orders lapping so we hit some big.
Pull forwards orders and then we've lapped yet on that 12 12 basis. So you are seeing the positive order entry rate in commercial.
On the commercial MRO right now.
Thank you.
Thanks, Jamie.
Thank you.
One moment please for our next question.
Okay.
Our next question will come from Andrew Open of Bank of America. Your line is open.
Hi, guys, Hi, Hi, how are you.
Hey, Andrew.
Thanks for joining us.
No.
Pleasure to be restricted.
Yes, just more of a longer term question. So a couple of companies that are sort of talking about managing the operations managing the backlog differently in this environment.
Maybe sort of accepting that lead times are going to be extended for a while right given that there is still a lot of disruption in the supply chain.
Are you guys thinking about sort of structurally adjusting your view on lead times, how much backlog Parker carriers into the future just any insights would be super helpful.
Yes, thanks for the question Andrew.
The beauty of the win strategy and the lean tools that are inside of the win strategy. It's really all about constantly looking at optimizing our lead times. So.
As far as restructuring the way we look at it I wouldn't say, we're going to do that but I would say we're going to continue to look to have those best in class lead times.
The supply chain I would characterize it as its healing.
We are seeing some improvement.
The one thing that we will really continue to do is.
Increase our dual sourcing and our local for local model that is really.
Helped us out and also helps us that our teams are in a decentralized structure and they're able to work closely with the customers.
So I think that those are some of the keys that helped us work closer with our suppliers and really help us having said look into the future. So we can best utilize our resources and our capacity.
Got it okay and just a follow up question on Capex. When you talk about your capital deployment priority is how does that capex target of 2% I may be wrong, but I recall sort of having conversations where you sort of thought maybe you need that on the margin.
To add capacity in places like Mexico, et cetera, and maybe take it up a bit to deal with what's coming in terms of the cycle.
Have you changed your view is that a function of megawatts.
And just generally maybe how do you think about capacity additions given.
What youre seeing over the next couple of years in terms of broader Capex HEICO trends. Thank you.
Yes, no we have not changed our position we're doing exactly what we said we were going to do.
We have a need to increase capacity in a couple of our operating groups and obviously, we'll invest in nugget in the future as well so that position remains the same.
Andrew I would just add if you look historically over the last couple of years.
Our capex has been about one 4% of sales. So you look at it today, it's a $2 one.
It's a pretty significant increase for us of course is the sales of the company increase thats more capex dollars that we've got to spend there. So we.
We think that 2% number is right.
<unk> Mega, including all the supply chain initiatives that we're looking.
For as well and it might be a little bit bumpy, but youre not going to see it too far above that too.
No that makes a lot of sense. Thanks, so much.
Yes.
Thank you.
And one moment for our next question.
Our next question will come from Scott Davis of Melius Research. Your line is open.
Hey, good morning, everybody.
Good morning, Scott.
I was hoping to dig into supply chain, a little bit and not not necessarily what's going on this quarter, but the longer term fixes and priorities.
And such and so.
You think about supply chain, there is a notion of kind of localization in.
Dual sourcing some of that in some ways feels almost inflationary but then.
There is the other component of kind of streamlining supply chains, and driving more productivity and it becomes kind of a cost tailwind.
How do you guys think about the priorities that you're.
No.
You are trying to now that Covid is.
Less less of it.
A problem around the globe, how do you think about those priorities and the push the puts and takes behind kind of it.
Costing you more but maybe saving you more.
I'll just stop there and leave it open ended.
Yes, no. Thanks for the question Scott.
It really is.
All about driving efficiency in the operations.
We've had.
Our long term strategy of being local for local being close to our customers, having our suppliers close to being able to.
Get that good lead time, and really provide a good customer experience. So.
We'll continue with that and then with dual sourcing I mean, I think some of it.
No.
In the past has had to deal with different things going on in whatever environment, we're in but it really is.
A good practice through different cycles in the business. So it's really something that we want to increase.
All regions and make sure that.
We can be flexible and agile as demand goes up and down.
The big key is being able to.
<unk>, one source or the other.
And really respond to your customer's demand. So that is really the way we look at it.
I think going forward.
And a lot through the pandemic and that's the beauty of having a continuous improvement culture. Our teams are trained to recognize where there's opportunities and we think we have opportunities to make sure. We're more efficient and that comes through visibility and analysis of demand as well as really optimizing the sketch.
It goes to the production floor, so thats where were focused.
Okay makes sense and then.
Back up a little bit when you have a big CEO change oftentimes any any issues or problems or complaints or gripes kind of come up.
Yeah.
Okay.
Kind of rise to the two to the top of your desk pile, but what are the big internal complaints are fixes are gripes that debt.
That perhaps we don't see as investors, but things that you want to try to tackle them fix internally that maybe perhaps.
Wasn't really something that Parker was good at in the past.
Well first of all I just.
I'd like to say that I've had no big complaints or grapes or no surprise that somebody asked me last week, if I had any surprises and no none of those.
I've been on this team for several years now and very aware of.
How we run the business and what I talked about with my slides, that's where the focus is.
There is an opportunity to become.
Supply chain leaders here, there is an opportunity to really make sure that we capitalize on the portfolio transformation and we continue to expand margin. So what you saw on the slides is exactly what we're going to work on Scott. It's Lee I would say the only gripe is the one I have she is working harder than ever.
[laughter].
Well my garage, because I don't know enough of your stock, but otherwise.
Sure.
I'll pass it on.
Thank you take care and good luck this year.
I appreciate it Scott.
Thank you.
One moment. Please our next question.
And our next question will come from Julian Mitchell of Barclays. Your line is open.
Hi, good morning.
Maybe.
Just the first question on the industrial businesses.
I guess the several other.
Industrial companies, who are more sort of short cycle nature of talked about maybe some destocking early in the year in the U S and also Europe . It doesn't sound like you're seeing any of that you will sell but maybe just talk a little bit about how you see.
Customer behavior or distributor behavior, if it's different on that front.
And what do you assume.
Europe does in terms of organic sales in the international business the balance of the fiscal year.
Julian It's Lee I'm going to just.
Just take a step back a little bit.
Okay.
And talk to what Youre asking to be a little bit commercial for the company. So.
Sitting in front of me as a heat map from every country around the world in region of what the PMI as Youre doing and it's a sea of Red and that's truly turnover sphere red sits.
August or September .
And the success, we're having today I think really has to do with.
The portfolio changes that we've made inside the company have been really focusing on these key secular trends.
So thats made a big differences we navigate through.
What is forecast at around the world is.
As a slowdown in different areas.
On inventory I would say if I just break this down by region.
I was out with some of our large distributors here in North America.
There is definitely some inventory balancing taken place at a frantic pace there for probably 18 months.
<unk> came out of Covid. There is people taking her breast balancing things out, but I would tell you. Their order book is still very strong and they are still very positive about what's happening in the.
The other thing that test for me and some of the regions distribution.
What kind of Capex projects, they have going on with customers and the capex dollars with end customers are still flowing.
On the OEM side, I would say broadly speaking the order books are still good, especially on the mobile side.
That inventory level that they try to get as true to address some time as they can.
Little bit of disruption with microprocessors etcetera, but.
Really not a great deal so that's still positive.
I think I'll stop there.
I don't know if I hit your question or not.
That's good color. Thank you Lee and maybe just a follow up on <unk>.
Aerospace.
US some insights as to how the Mega.
Top line.
Is trending at.
Present.
I guess when you think of overall park aerospace a.
A couple of large sort of arrow.
Is.
<unk> and Honeywell for example have talked about the headwinds, whether it's cash or P&L margin from the OE ramp.
The air Framers, maybe hell.
US understand if thats, a big pressure point for Parker, everyone on margins or cash next year or two.
I'll start with your last comment first day, and we don't see that as a big pressure point for us.
We're pleased with the performance.
We expect there.
Full year sales to be $1 9 billion at about approximately 17% adjusted.
Segment operating margin as I mentioned earlier, we are on track to achieve the $60 million in synergies by the end of this fiscal year.
We expect this to grow at or a bit faster than legacy aerospace so.
We're real positive on that.
Great. Thank you.
Thanks Julien.
Thank you.
One moment. Please next question.
Our next question will come from Jefferies broad vertical research your line is open.
Hey, Thank you good day everyone.
One.
So let me just back to where you left off one nugget and synergies.
Probably very early to talk about changing those forecasts or anything I'm actually a little bit more curious about cost to achieve.
Opportunities to sort of outperform there given that it's not a real heavy lift on factories and the like.
Some people costs associated with getting this right.
Is that a potential lever here as you get into this and leave the company.
To do this may be even more cost effectively than we're originally thinking.
So Jeff you're right. It is too early to say that.
There is some upside to that number we feel good about this year's energies at $60 million, we feel good about the path to 300, but obviously as I spoke about with the synergies and the operational excellence driven by the win strategy implementation.
We expect to get.
To a higher level of performance in and we'll update you along the way.
Hey, Jeff This is Todd I would just add this is a big.
Complex acquisition is the biggest one we've done to date, we've talked about the integration team. It's the largest team that we've had to date Jenny had a comment.
Over 20 teams both.
Parker and <unk> team members working together across the board.
A big chunk of this is SG&A cost right there.
Associated with that so I would say in the near term here I am pretty confident on those cost to achieve.
Numbers, if there is maybe some upside I think.
Too early to tell but maybe in the out years 'twenty five 'twenty six maybe there might be some some upside there but.
I think we're going to talk about that.
We will get further into the process.
And then maybe a follow up for Lee Lee when you were addressing the international question you're mostly.
Thinking about what's going on in China, which is understandable, but can you give us a little bit of update on.
What youre seeing in Europe .
How are you expecting the balance of the year the play out there.
Yes, so I think the balance of the year and kind of what's implicit in our guide is kind of flat to very low single digits negative.
There is definitely.
<unk>.
<unk> slowdown in December I mean, you've got rate hikes everywhere, you've got the war going on you've got the industrial business being affected by that.
It's not.
So thats kind of how I would see distribution as is still hanging in there are some inventory rebalancing taking place so.
And there are some incredibly tough comps from previous year, I mean, Europe was one area, where we were the benefit of some some big.
Corporate production.
Products.
That would kind of lap them and they are not coming back so.
That's how I would characterize it.
Flat flat to slightly negative.
Great. Thanks for the color I'll leave it there.
Thank you.
One moment for our next question.
And our next question will come from Mig <unk> of Baird. Your line is open.
Good morning, everyone.
Lee maybe.
Sticking with you here you provided color on.
Foreign exchange by geography, but I'm kind of curious if you can comment by various end market within your industrial business.
There is any variance there that we should be aware of.
Yes, I'll give you a kind of what our outlook is that simplicity in our guide.
Yes.
I think that the key thing to think about is really 90% of our markets are positive.
Look forward, but.
I kind of look at the greater than 10% positive commercial aerospace is still really strong commercial milk.
Military MRO is really strong.
<unk> electric vehicle passenger cars, you know that's one of those secular trends, where we've applied product through our portfolio change that we're participating in and then oil and gas, especially here in the U S land base and even some offshore now has really come back with a vengeance.
I would call high single digit positives agriculture heavy duty trucks passenger cars.
Telecommunications.
Got it.
The mid single digits neutral.
Construction markets distribution forestry marine material handling.
Mining power Gen rail et cetera in semiconductor is still strong there's a lot of infrastructure build on a yes on the semiconductor side this will take place.
The big negative markets.
Kind of stand out a little bit at what we would categorize as life science and Thats really comps.
Around COVID-19 equipment and drug dispensing stuff that we were supplying and then really military OEM.
It's really a timing thing I think long term, but that would be negative for the outlook.
Kind of high level.
Breaking it down by region.
We see it.
I appreciate that.
Then.
Yes, my follow up would be.
You talked about the fact that there is a divergence.
Between the demand that youre seeing in <unk> in the industrial business, obviously obvious to everyone at this point, but I'm curious as you.
You're kind of analyzing.
Your order intake how much of that do you think can be attributed specifically to these higher growth verticals rather than customers that have significant backlogs that are just now trying to increase production after normalizing the supply chain.
I would be that's not something I can answer here on the call I would just tell you anecdotally.
Some of the customers who are participating with today are at a different level than we've participated with from the floor.
And that's due to the portfolio changes.
I can't answer that right off the cuff.
Well I appreciate that thank you.
Thank you.
Thank you.
And one moment for the next question.
The next question will come from the line of Stephen Volkmann of Jeffries.
Your line is open.
Hi.
Thanks for taking my question, maybe I'll stick with you we hear because as I hear you lay all that out it sounds like.
Maybe even said I mean it was.
Quite tilted to the positive and yet I look at kind of what's embedded in your organic guide for the second half and I.
I guess it looks like the exit rate is going to be sort of close to zero on organic growth.
Maybe you disagree with that but I'm, just curious would you sort of characterize this as a little bit conservative or careful given the economic outlook or is this really kind of.
Bottoms up kind of forecast that you have for the second half.
Hey, Steve This is Todd ill give a chance to catch his breath a bit.
You know there is a lot of positives, we see demand broad based across the business. Obviously, we talked about North America, we did increase.
North America organic guide basically we doubled it.
Two and a half this is for the third quarter I'm speaking it was two and a half we move that to almost 5%.
For the third quarter I think I was clear on the guidance, we think it's going to be about four organic growth.
Q4, a little bit of comps come into play there.
Your rough math is pretty close we think maybe 1%.
Percent organic growth in Q4 second half really is two and a half and you look at the total so there are some headwinds out there I think we're being a little cautious.
And what we're seeing here and.
At this point, that's the best look that we got.
So the.
The international piece I think we gave some color on that currency is still not as bad, but still pretty pretty hurtful youll look at the second half.
It's about one 5% drag for the total company, but.
Almost little over four for the International segment. So that's kind of how we rolled up the numbers and thats.
That's the way we feel right now.
Okay fair enough just to follow on to that though I mean, it would seem that you could get that level organic just from kind of pricing.
Rolling its way through.
Any comment on that.
Well, we don't give a lot of color on pricing there.
You could tell us in the organic number so.
That's totally in the guide that we just just laid out.
Alright fair enough. Thank you.
Thanks, Steve.
Thank you.
And one moment for our next question.
Yes.
And our next question will come from Josh.
Poor Winski of Morgan Stanley Your line is open.
Hi, good morning, guys.
Good morning, Josh Hi, Kash Hi, there.
We've covered supply chain and some of us like inventory phenomenon for for a while now in orders, but maybe just to put a bow on it a little bit.
As your own lead times have improved have you seen customers adjust the way they order to match that so im assuming there was a point in time, which everyone was sort of scrambling a little bit more to get everything that they can and maybe it was a little bit more enormous normalcy that's changed.
Anything that you guys have seen on on that end.
Yes, I think Thats a really good question, we really haven't seen that yet, but we know that thats what happens right. We know that when the lean time, either reduce or just get back to normal.
The order pattern, it's usually followed that.
We have.
Really close relationships from the divisions to the customers. So we've really worked closely with the customers and looking at the backlog in <unk>.
Making sure that it's that it's healthy.
But I would I would also say at the same time, we've seen a few push out nothing that I would characterize it as being significant.
But I do think it's a little bit of a leveling of demand and the supply chain healed, but really nothing that has drastically changed any order patterns yet.
Got it that's helpful. And then just as a follow up in terms of.
What lessons I guess, the last two or three years.
What you guys. How are you thinking about different ways, you would pull levers in the downturn.
Owing the types of scarcity and tightness that might have weighed on the other side.
As well as what you guys are doing today, even without a downturn.
Yes.
I think.
As we've talked about before where we're well positioned for for changes.
We have a recession playbook right, we start pulling those levers way in advance that the first signal. So I think we do a really good job of that thinking about levers into the future. It really goes back to that increasing the dual sourcing and the and the local for local.
What helps us reduce those lead times and ensure that we can.
Give our customers that deliver that theyre looking for it. So that's that's why that's an area of focus for us going into the future Joshua thing I would add to that too is we've got an incredibly strong operating cadence around here.
We are looking at orders, we're looking at businesses weekly.
Both at the division level and it rolled up.
So myself and Andy Ross.
As a team we get together once a month.
Look at the trend, making sure. We are ahead of the curve on whatever is happening in that.
It's not different so we've operated in the past.
That's the reason why we've been able to act so quickly.
Got it that's helpful.
Good luck.
Thanks, Jeff.
Thank you.
And one moment for our next question.
Our next question will come from Joe Ritchie of Goldman Sachs. Your line is open.
Thanks, Good morning.
Good morning.
Hey, Lee just one quick clarification on your <unk> comment from earlier.
You're basically implying that the.
The outlook is that your end markets are decelerating, but not not necessarily negative because it sounds like you still you guys down still pretty constructive on most of your end market is that is that correct.
I think that's exactly what I'm trying to tell you.
When I'm looking at this.
This heat map.
We've been in a contraction from a PMI standpoint.
It's almost around the world since August .
And I think what's really holding as well or the portfolio changes that we've done inside the business.
And the secular trends that are taking place that we're able to tap into and set our business. Today. So we're not immune from what's happening around the world none of us are but it's a different portfolio today.
When I started 32 years ago.
Yes, okay, great that makes a lot of sense and then.
Wanted to ask also on cash flow Todd obviously, if how are you guys.
You reduce your debt by about a couple hundred million dollars this quarter.
No that theres a lot more cash flow expected in the second half of the year, what can we anticipate from a either a net leverage your debt reduction perspective, as you progressed through the year.
Yes, we're really focused on that Joe it's a great question.
And I mentioned it earlier, our cash flow is certainly more weighted to the second half.
We just made the dividend increase Jenny talked about the Capex.
100% of the cash flow that we generate in that second half will be dedicated to.
That debt pay down and like I said, we've got a nice plan for it we are on track.
And the team is very focused on that.
So we're pretty positive on that.
Okay, great. Thank you Bob.
Thanks, Joe.
Thank you Chris Chris This is Todd I think we have time for one more question.
So I think whoever is next on the list. Thank you.
One moment for the next question.
Okay.
Our last question will come from Nathan Jones of Stifel. Your line is open.
Good morning, everyone.
Morning, Nathan.
I've got a bit of a follow up on the kind of orders backlog cadence as we see.
Do you supply chains normalize here can you give us maybe a little bit more color on how elevated your backlog is relative to where it normally was I guess, we havent had normal for three or four years now.
And as supply chain improve and lead times Sheila if you would expect to see backlog get worked down the order cadence dropped down a bit and we could get into a scenario, where we see lower orders with that actually signaling any lower demand as we normalize for the cadence in backlog.
Okay. Nathan this is Jenny.
Just Ted just to kind of talk a little bit about the backlog so right now our backlog without <unk> and 12% over prior year.
It's roughly coming in at the same dollars as last quarter. When we answered. His question is around $8 million. If you put on top of that.
There are 2 billion plus a little little bit over.
$10 billion total.
So when we look at the backlog and the orders I think the first thing to point out is that.
The portfolio changes, it's different than it used to be so we have longer cycle business, we're going to we're going to see what I'd like to call. It demand stands at longer demand and we're going to see more orders out there. It's been a lot of noise. The last couple of years because of the supply chain that we have seen with the transformation of the portfolio and this is <unk>.
Gradually increased.
Even with.
No.
Supply chain normalizing in the future order patterns changing I don't think we're going to get this down to where it used to be pre portfolio transformation I think we're going to we're going to see.
Higher backlog.
Forward.
Thanks for that and I have one on price cost posco.
<unk> has a tremendous long term record for being mutual on price cost at the margin level and did a tremendous job through.
The inflationary period, we've seen over the last couple of years.
Do you expect that.
If we get to a deflationary period to remain price cost neutral or do you think that you could actually hold on some of that pricing.
And have that be a tailwind to margin.
Nathan It's Lee I think.
The first thing is.
A lot of our pricing isn't always price across neutral, we're selling off introducing a lot of new products every year.
Based on our ability to deliver to the customers. These are margin accretive so there's a big mix about what's happening.
We've been through.
Moderate deflationary periods in the past whether to just fine and when I talk about one of those operating cadences when it comes to price cost.
Kind of ingrained.
And all of US here on how we do that.
And.
Okay.
I think we'll be okay on the margin front.
Okay, Thanks, very much risk weighted.
Thanks, Dave.
Alright, everyone. This concludes our FY2023 Q2 webcast. We do appreciate your time your questions and of course your interest in Parker, if anyone needs any clarification or follow ups on anything we cover today, Jeff Miller, our vice President of Investor Relations and <unk>, our director of Investor Relations will be available.
Well today. So that's all we have today. Thank you for joining and have a great day. Thank you.
This concludes today's conference call. Thank you all for participating you may now disconnect.
Have a pleasant day.
The conference will begin shortly two reasons lower Johan during Q&A, you can dial one one.
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