Q3 2024 Veralto Corp Earnings Call
To all sides on hold we appreciate your patience and as you continue to stand by your conference will begin in two minutes.
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Speaker Change: The call over to Ryan Taylor, Vice President of Investor Relations. Mr. Taylor you May begin your conference.
Ryan Taylor: Good morning, everyone. Thanks for joining us on the call.
Ryan Taylor: With me today are Jennifer Honey cut our president and Chief Executive Officer, and Samir <unk>, Our senior Vice President and Chief Financial Officer.
Ryan Taylor: Today's call is simultaneously being webcast a replay of the webcast will be available on the investors section of our website later today under the heading events and presentations.
Ryan Taylor: A replay of this call will be available until November 9th.
Ryan Taylor: Yesterday, we issued our third quarter news release earnings presentation, and supplemental materials, including information required by the SEC related to adjusted or non-GAAP financial measures.
Ryan Taylor: Our Form 10-Q was also filed yesterday.
Ryan Taylor: These materials are available in the investors section of our website www dot for Rialto Dot com under the heading quarterly earnings.
Ryan Taylor: Reconciliations of all non-GAAP measures are also provided in the appendix of the webcast slides.
Ryan Taylor: Unless otherwise noted all references to variances are on a year over year basis.
Ryan Taylor: During the call we will make forward looking statements within the meaning of the federal securities laws, including statements regarding events or developments that we believe or anticipate.
Ryan Taylor: Will or may occur in the future.
Ryan Taylor: These forward looking statements are subject to various risks and uncertainties, including those set forth in our SEC filings.
Ryan Taylor: Actual results may differ materially from our forward looking statements.
Ryan Taylor: 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 except ounce required by law.
Speaker Change: That I will turn the call over to Jennifer.
Jennifer Honey: Thank you Ryan and thank you all for joining our call today.
Jennifer Honey: As Ben just over one year since we became an independent public company.
Jennifer Honey: And the durability of our businesses.
Jennifer Honey: Our teams across the world executed well and delivered another quarter of strong performance with mid single digit core sales growth robust margin expansion and strong cash generation.
Jennifer Honey: And we continue to increase our investments in sales marketing and innovation to support future value creation.
Jennifer Honey: In addition to these organic investments we have cultivated a pipeline of inorganic opportunities for both segments aligned to our strategy purpose and disciplined M&A criteria.
Early in the fourth quarter, we completed the acquisition of trace gains a leading provider of software solutions that enable consumer brands to meet increasingly stringent compliance regulations for food and beverage safety and traceability.
Jennifer Honey: It's cloud based solutions in large network connect consumer brands with ingredient manufacturers.
Jennifer Honey: This enables consumer brands to develop new products more efficiently, while also monitoring quality and compliance.
Jennifer Honey: Trace gained serves a fast growing market segment and has grown its top line by 20% compound annual growth rate over the past three years.
Jennifer Honey: This year trace gains expects sales to exceed $30 million with more than 95% on a recurring basis and a gross margin of approximately 80%.
Jennifer Honey: The financial profile and recurring revenue business model of trace gains meets our disciplined acquisition criteria and strengthens our PQ <unk> segment.
Jennifer Honey: Trace gains is highly complementary to our PQ I brands and connects digital workflows for our CPG customers across new product development compliance and packaging.
Jennifer Honey: Five 5% with growth across both segments led by 7% growth in water quality.
And water quality, we continue to capitalize on strong demand for chemical water treatment solutions, which grew high single digits in North America.
Jennifer Honey: From an industrial market perspective, this growth was broad based with the strongest growth in food and beverage and chemical processing.
Jennifer Honey: We also continued to see strong growth for UV systems at municipalities in North America.
Jennifer Honey: And water treatment, we're partnering with customers to help them achieve their sustainability goals related to water conservation reclamation and reuse.
Jennifer Honey: And our water treatment businesses, we are well positioned to benefit from onshoring or re shoring activity in North America.
Jennifer Honey: This includes technology investments, such as data centers, which consume large quantities of water for cooling.
Speaker Change: At our PQ I segment core sales in North America grew two 5% in Q3 with packaging color sales up mid single digits, and marking and coding sales up low single digits.
Speaker Change: In Western Europe core sales grew just over 4% year over year with both water quality and PQ I growing near the company average.
Speaker Change: The sales growth in Western Europe was concentrated in water analytics, and marking and coding.
Speaker Change: Note that our total company growth in Western Europe included an approximately 50 basis points headwind related to the strategic portfolio actions in our water quality segment that we mentioned on prior earnings calls.
Speaker Change: And high growth markets core sales grew four 5% in the third quarter.
Speaker Change: R&D as a percent of sales increasing 40 basis points over the prior year period.
Speaker Change: These investments are aligned with our strategic growth plans and we expect to continue to fund ongoing growth investments.
Speaker Change: Looking at earnings per share for Q3 adjusted earnings per share grew 19% year over year to 89.
Speaker Change: And free cash flow was $215 million or approximately 98% conversion of GAAP net income.
Speaker Change: Moving on I'll cover the segment highlights starting with water quality.
Speaker Change: Our water quality segment delivered $801 million of sales.
Speaker Change: Up three 6% on a year over year basis.
Speaker Change: Currency was a 20 basis points headwind Andover.
Speaker Change: And divestitures had 20 basis points impact versus the prior year period.
Speaker Change: In addition, small product lines that we strategically exited in the fourth quarter of 2023, resulting in approximately 70 basis points headwind to core growth for the water quality segment in the third quarter.
Speaker Change: The headwind from these product line exits has annualized and will not impact our fourth quarter results.
Speaker Change: Core sales grew 4% year over year.
Speaker Change: Pricing contributed two 1% and volume growth contributed one 9% to year over year core sales growth.
Speaker Change: Our volume growth was driven by strong demand for water treatment solutions in our industrial end markets and UV treatment systems in municipal end markets.
Speaker Change: We also saw strong growth in sales of reagents and Chemistries diminish capacities.
Speaker Change: Recurring sales across water quality segment grew high single digits.
Speaker Change: Adjusted operating profit increased 4% year over year to $199 million.
Speaker Change: We acquired trace gains at a gross purchase price of $350 million.
Speaker Change: The deal was funded with cash on hand.
Speaker Change: Pro forma for this acquisition, our financial position still remains strong and we continue to have flexibility in how we deploy capital to create long term shareholder value with a bias towards M&A.
Speaker Change: We have an attractive pipeline of opportunities in both water quality and <unk>.
Speaker Change: We will remain disciplined in our approach as we continue to deploy capital to create long term shareholder value.
Speaker Change: Turning now to our guidance for the fourth quarter.
Speaker Change: We are targeting core sales growth in the low to mid single digit range on a year over year basis.
Speaker Change: Consistent with the level of core growth, we reported in the second and third quarter of 2024.
Speaker Change: We expect acquisitions to contribute about 60 basis points to year over year sales growth.
Speaker Change: Including the impact of the <unk> acquisition, we expect adjusted operating profit margin of approximately 24% in the fourth quarter.
Speaker Change: This represents 30 basis points of improvement in adjusted operating profit margin on a year over year basis and is flat sequentially.
Speaker Change: And our Q4 2024 guidance for adjusted EPS is <unk> 86 to 90 per share.
Speaker Change: For the full year, we raised our adjusted EPS guidance to a range of $3 44 per share to $3 48 per share.
Speaker Change: Midpoint of our updated full year adjusted EPS guidance of $3 46 per share is up <unk> <unk> from the prior guidance.
Also at the midpoint this represents year over year adjusted EPS growth of 8%.
Speaker Change: That concludes my prepared remarks at this point I will turn the call back over to Jennifer for closing remarks.
Jennifer Honey: Thanks Samir.
Jennifer Honey: In summary.
Speaker Change: Tegra <unk> and reduce time to market, which are two critical pain points for customers.
Speaker Change: In terms of the the outlook there they've been a strong grower in terms of delivering double digit sales growth. Since 2022, we would expect this momentum to continue as we think about you know food and beverage customers being early in their digitization journey, so with the macro of regulatory driver.
Speaker Change: <unk> consumer safety mandates.
We feel really good about bringing this business in and are getting synergy with our ESCO to drive forward momentum and improve our growth profile there.
Speaker Change: I appreciate all the color.
Thanks, Andy.
Speaker Change: Thank you well take our next question from Mike Halloran with Baird. Your line is open.
Mike Halloran: Hey, good morning, everyone.
Speaker Change: Good morning, Mike.
Mike Halloran: First one just on the CPG side, and the underlying trends youre seeing sequentially through the quarter and into <unk> here.
Mike Halloran: Any change in the thought process on how the improvement is coming around on that side of things.
Speaker Change: The content. So far has talked about a gradual improvement any tone change and then and then maybe talk about the moving pieces behind it that gives you confidence in the 25.
Speaker Change: Yeah, I mean, I think we continue to be encouraged by the ongoing recovery and CPG, but we also see it as slow and steady some of our early indicators here are the <unk> that we've just completed the fifth consecutive quarter of mid to high single digit growth in recurring revenue at PQ I and as we've.
Speaker Change: And in prior calls you know this is an indication that lines are coming back online that there being refurbished and now that we've seen two consecutive quarters of year over year growth in equipment sales. It also suggests that brand owners are upgrading.
Speaker Change: To bring to bear in this space, but certainly when it comes to sort of an acute outbreak of a food borne issue.
Speaker Change: We don't play as heavily there then we might play if it was a waterborne outbreak.
Speaker Change: So we're well positioned certainly in the water space and anything that relates to water.
Speaker Change:
Speaker Change: And you know we think we've got a good play here with the addition of trace gains and we're excited about how we think about that market going forward.
Mike Halloran: Yes, Jennifer I'm not asking so much about the analytics around salmonella.
Mike Halloran: On what the actual contaminate was but just the traceability across the food chain of what producer Theres Barcodes theirs.
Mike Halloran: Shipment data and so forth and you're part of that chain and Thats part of the traceability appeal of raw tow is just hypothetically how would that work.
Jennifer Honey: Yeah, absolutely I mean, if youre thinking about traceability and following.
Jennifer Honey: A contaminant or or a series of contaminants through the food chain and food cycle, we were well prepared to do that.
Jennifer Honey: Trace gains gets us.
Jennifer Honey: Two the traceability of the ingredient information.
Jennifer Honey: And for brand manufacturers, that's incredibly important in terms of where they're sourcing.
Jennifer Honey: Raw materials, but frankly, our coding and marketing business will give you date codes lot codes and traceability for how to identify where those products have gone and how to actually ring fence quarantine them and pull them off the market. So we're well positioned here alright.
Mike Halloran: Alright, that's exactly what I was looking for so I appreciate that and then just as a follow up for Samir and or Jennifer you all referenced a disciplined acquisition criteria.
Speaker Change: And as far as I know you all haven't really laid this out.
Speaker Change: At your Investor Day, what are the hurdles that you set because.
Speaker Change: The expected double digit ROIC for trace gains is rather extended versus and we got it's a SaaS business, it's a different set of.
Speaker Change: Expectations versus industrial acquisitions, but just give us a sense of what the acquisition hurdles are as we think about prospective M&A.
Speaker Change: Okay.
Speaker Change: Thanks, Dana I'll take that Glen from an M&A perspective, as you know I don't really know as we look at the opportunity you said, it's always deeply rooted in our framework, which is market company valuation and from the financial metrics point of view.
Speaker Change: Things like ROIC growth margin cash flow accretion are all very important as frequently evaluate all the opportunities. It's all about striking the right balance.
Speaker Change: Depending on the acquisitions.
Speaker Change: Economic cycles, and what I would say in comparing this recovery to prior recoveries as well.
Speaker Change: Higher recoveries was more of a V shaped recovery kind of fast down and fast up I think what we've seen sort of post pandemic is a.
Speaker Change: Gradual and steady.
Speaker Change: Progressive sequential improvement so it's more U shaped than V shaped.
Speaker Change: But are you know we continue to be encouraged by the leading indicators that we see in terms of.
Speaker Change: No volume of that's published from our top CPG customers.
Speaker Change: And you know demand continues to consistently grow and that is also supported by the the sales out that we've seen from a recurring revenue and then the two sequential quarters of of equipment.
Speaker Change: Growth. So again I think it's a slow and steady wins the race here, we're not going to see any huge inflection points, but we're encouraged by certainly what we see in the market today.
Speaker Change: Okay. Thank you.
Speaker Change: Hey, shabby, where.
Speaker Change: Ready for the next question.
Speaker Change: Thank you we'll take our next question from Andrew Krill.
Speaker Change: Your line is open with Deutsche Bank.
Andrew Krill: Hi, Thanks. Good morning, everyone won a circle back to the strong Latin America growth sorry, if you could expand a little on like.
Andrew Krill: Why you think this all this Friday and accelerated so much or has this been years of investment bets kind of finally coming through and then do you think is sustainable going forward and maybe any color on like the margins here. If there are any different than the company average checks.
Speaker Change: Yeah. Thank you for the question Andrew we've been really pleased with our performance in Latin America, and you know we've watched this region closely.
Yeah over the course of last couple of years here, we've made some commercial investments here to sort of focus the team.
Speaker Change: At capturing the highest growth opportunities and so I think what we're seeing there is the benefit of some re shoring or or onshoring activity is as some of the customers look to.
Speaker Change: Diversify their their riskin insulate themselves from any sort of geographical constraints that they might see in China.
Speaker Change: But we're also starting to see some benefit from a privatization of water utilities in Brazil.
Speaker Change: That's giving us some good opportunity around how we serve those customers and some changes in in business model that that help us serve them effectively. So I I think this is a region for us to to continue to stay focused on as you know we said in our prepared remarks, Latin America represents 10% of our total sales and it's.
Speaker Change: Growing well for us.
Speaker Change: Okay.
Speaker Change: Anything on the margins or should we assume they're kind of similar to the company average.
Okay. So very similar Andrew I think nothing dramatically different.
Speaker Change: Got it and then going back to the broader M&A pipeline discussion just wondering if you know as I retrace gains came through.
Speaker Change: Is there like a theoretical limit to the number of deals and how you think the company can handle per year and I guess in terms of maybe bolt ons is there a number and if you did a larger would you expect the kind of take your foot off the gas with bolt ons.
Thanks for the question.
Speaker Change: Now M&A is is fairly episodic.
Speaker Change: We don't necessarily control the timing here, but what we can say is we're excited about the level of activity and engagement. We have for both sides of the house funnels for water quality and PQ I or both.
Speaker Change: Very full and we continue to be heavily engaged in this area. You know, we don't set thresholds or or or limits to what we can digest here by way of number of deals or size. It stands to reason that we feel well prepared to be able to execute on our M&A.
Speaker Change: <unk> playbook and bring in deals of various sizes and scale are as and when we find the right intersection of market company and valuation so.
Speaker Change: Again. This is a is an area that we're excited about we don't have any preset thresholds.
Speaker Change: But you know we will we will capitalize on the opportunity as and when we're able to you know.
Speaker Change: Go after the deals that meet our stringent criteria.
Speaker Change: Okay. Thank you.
Speaker Change: Thank you we'll take our next question from Joe Giordano with TD Cowen Your line is open.
Joe Giordano: Hey, good morning, everyone.
Speaker Change: Morning, Joe.
Joe Giordano: And then I just wanted to touch back on the margins on on a water quality.
Speaker Change: Yeah sure mentioned.
The puts and takes there, but yeah I look at year on year.
Speaker Change: Growth was pretty strong price was pretty good.
Speaker Change: And he has some divestments, which I assume are lower margin than the fleet average there so.
Speaker Change: The leverage there obviously it was up 10 bps year on year, you just talk through like the lack of leverage in the quarter and Mike.
Speaker Change: What if anything are kind of more onetime in the quarter that might.
Speaker Change: I'll go away if you were to keep growing at this pace.
Mike Halloran: Yes, Joe I'll take that one it's you got to look at from a margin perspective, right. You know on the water quality side, we talked a little bit of the puts and takes but still.
Mike Halloran: Walter is close to 30% so as you're going to think about from a long term growth algorithm perspective in the 30 to 35. So they are pretty close and that's also as we said we know we are making investments in the sales and marketing side in that business as you're going to think about how we orient ourselves to capture the future growth.
Mike Halloran: And then when we move to PQ I E.
Mike Halloran: Walter has been really good.
Mike Halloran: A little over 100% and even if you pro forma for the one time doesn't think Theres only one thing that you can think of a one time item and that was in 2023 Q3 that the Argentine peso impact even if you pro forma for that either falter in Pico has been close to 80%. So net net that accompany that will be a 60% chemical falter. So overall Walter has been.
Mike Halloran: It's been good.
Mike Halloran: And as we kind of move into the 'twenty four I kind of laid out some of the puts and takes on the margin side. So there is nothing.
Mike Halloran: One off items kind of thing here, Joe that are impacting the margins.
Joe Giordano: Okay, and then on Capex like can you start with the long term needs of the organization is still extremely light on kind of percentage of sales and even if I was to apply all the capex to just lower quality is still pretty low.
Joe Giordano: So what should that kind of balance out as a percentage and then I'll just add one quick one on trees gains afterwards.
Speaker Change: Yeah, I mean, if you look at the Capex side. It is really we are not of any capital intensive business as you know right because it's a pretty asset light model the strength of the business isn't driving the value is really through odd on the R&D side and then the and the commercial sites. That's what you see here the investments and the impact on the P&L side, but from a capex wanted to do.
Speaker Change: Four centers, how you should think about that it really comes down to the projects and dependent depending on how they're going to pan out from a timing perspective, but wanted to 2% is the right way to thinking about the capex for US we are running a little late this year.
Speaker Change: Okay, and then just last one curious Gainesville, you mentioned the combination with ESCO I'm just curious like from a.
Speaker Change: From a customer standpoint, how does this work like are you are these independent offerings that are being pitched separately are you going to be able to get trace games through the actual platform like I'm, just curious as to what the customer experiences to have that whole like locality of the you know from from source to shelf.
Speaker Change: Yeah. Thanks for the question you know I think the way to think about this is we will serve customers in a way that they want to be served are one thing that we do see is our ESCO has got great strength at the enterprise level.
Speaker Change: And trace gains has got great strength kind of at the mid market level. The cross pollination of the two.
Speaker Change: Will catalyze sort of expanded share of wallet I think at customers.
Speaker Change: And give them more solutions to our two they're sort of digital integration challenges that there. They are working with today. So it will vary by region it'll vary by customer, but we feel good about the combination of the two going forward.
Speaker Change: Thanks, guys.
Speaker Change: Thank you.
Speaker Change: We'll take our next question from Damian Cross with UBS. Your line is open.
Damian Cross: Hey, good morning, everyone.
Speaker Change: Good morning Damian.
Damian Cross: Good morning, Sameer, sorry, if I missed this did you quantify how much of a headwind the water quality product exits word to the third quarter sales.
Speaker Change: I'm sorry, David can you repeat that.
Speaker Change: Oh, the remodeled reality of product exits.
Speaker Change: It's roughly 70 or 70 basis points.
Speaker Change: On the on the growth side, Damian 70 to the segmented guidance retail segment 50 to the total company.
Speaker Change: Bibs.
Speaker Change: That's helpful. Thank you.
Speaker Change: I wanted to ask you guys. So theres some updated regulations, requiring a lower threshold for for lead and copper and drinking water systems.
Speaker Change: That were finalized earlier in the month just curious if you think that that's something that they could have a meaningful impact on your business.
Speaker Change: Is there is there a good way to kind of think about that.
Speaker Change: I think Theres 10 years and meet the requirement would you expect the implementation that to happen sooner rather than later or is that the type of change that.
Speaker Change: Everyone kind of just wait until the last minute to address.
So damian the the way to think about this is you know our analytics business is four to five times the menu of anyone else in the market. We've got the broadest portfolio with decades of innovation in this space, we are already well positioned with our technologies associated with detecting lead and copper.
Speaker Change: Or.
Speaker Change: So unless there is an increase in frequency of testing, which there may be on the margin just to validate.
Speaker Change: You know we would expect this to just be business that we get in the normal course of.
Speaker Change: Of a run on the business.
Speaker Change: So I wouldn't think about this is you know a huge opportunity for increased sales there may be a period of time of sort of <unk>.
Speaker Change: Our marginal increase in in testing just to verify what you've got in place, but we're already well positioned here.
Speaker Change: With our existing technologies.
Speaker Change: Understood. Thank you very much I'll pass it along.
Speaker Change: Thank you we'll take our last question from Brad Hewitt with Wolfe Research. Your line is open.
Speaker Change: Hi, good morning, Thanks for taking my questions.
Speaker Change: Good morning, Brad.
Brad Hewitt: So as we think about the M&A pipeline more broadly how should we think about the distribution of the funnel as it relates to the time required to get to 10% 10% ROIC.
Brad Hewitt: When you expect the majority of targets or kind of more in the four to five year timeframe to get to that 10% of our IC rather than the six years for <unk>.
Speaker Change: Yeah, it's a pretty broad abroad.
Speaker Change: Range right and so you're going to talk to any of the pipelines are pretty full on both sides of water quality and PQ I, but it's really a mosaic of opportunities as you're going to think about you know Brian some of our technology investments, which are going to be on the longer side and at the same time, there are a bunch of bolt ons and the larger transactions as well so bolt on should be on the quicker.
Speaker Change: On the closure side, it's a pretty broad range I wouldn't say, it's skewed one way or the other.
Speaker Change: Okay. That's helpful. And then curious how important entry multiples are in your decision, making process for M&A and how do you think about the triangulation between entry multiples and what that implies for business quality versus the path to 10% ROIC.
Speaker Change: Yeah.
Speaker Change: Look it's really about value creation Brian.
Speaker Change: C is the input as you said the entry multiple and what we can what we can do with the business Kabi can fuel the growth of drive the margin expansion through the application of Es suites.
So it's a combination of all those things are I would say our focus is ultimately doing transactions, adding things to our portfolio. It's really the long term value creation, so everything kind of start from that.
Speaker Change: Great. Thanks Amir.
Brian: Thanks, Brian.
Brian: Thanks, Brad and thanks, everybody for joining the call. This is Ryan Taylor.
Ryan Taylor: We are at the at the hour time.
Ryan Taylor: So we're going to conclude the call for this time I'll be available for any follow ups. Please reach out to me. If you. If you have any further questions and we really appreciate the engagement sport and joining our call today and we'll talk to you next time.
Speaker Change: That concludes today's teleconference. Thank you for your participation you may now disconnect.
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