Q2 2019 Earnings Call
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Zac Nagle Vice President of Investor Relations you May begin your conference.
Thanks, operator.
Good morning, and thank you for joining us for Ingersoll Rand's second quarter 2019 earnings conference call.
This call is being webcast on our website at Ingersoll Rand Dot com, where you find the accompanying presentation.
We are also recording in archiving this call on the website.
Please go to slide two.
Statements made in today's call that are not historical facts are considered forward looking statements and are made pursuant to the safe Harbor provisions of Federal Securities Law.
Please see our SEC filings for a description of some of the factors that may cause our actual results to differ materially from our anticipated results.
This presentation also includes non-GAAP measures, which are explained in the financial tables attached to our news release.
Joining me on today's call are Mike Lamach, Chairman and CEO .
And Sue Carter Senior Vice President and CFO .
With that please go to slide three and I'll turn the call over to Mike.
Thanks, Zack good thanks, everyone for joining us on today's call.
I'm proud of our team's performance in the second quarter. Once again, we delivered strong revenue growth margin expansion and EPS growth.
We welcomed our new precision flow systems team into Ingersoll Rand and we're well underway towards a separation into two standalone businesses and our proposed street, a combination with our industrial segment and Gardner Denver.
With that backdrop, let's get started.
Please go to slide three.
I'd like to start with a brief overview of the global business strategy that we're executing to deliver consistently strong financial results for our shareholders.
Fundamentally our strategy is at the Nexus of environmental sustainability and impact.
Which are strong secular tailwinds for our business. The world is continuing to urbanize, while becoming warmer and more resource constrained as time passes.
We excel at reducing the energy intensity of buildings, reducing greenhouse gas emissions, reducing waste of food and other perishable goods and we excel in our ability to generate productivity for our customers all enabled by technology.
Unless you think the world's getting cooler less populated less resource constrained as time passes these strong secular tailwinds will continue to provide opportunity for shareholders and purpose for our vision.
As we continue separation integration planning and business transformation activities related to our strategy and combination of our industrial segment with Gardner Denver and move towards creating the premier pure play climate business in 2020.
Our aggressive pursuit of excellence and delivering solutions to mitigate the impact of these secular trends only intensifies.
Our climate business squarely focus is 100% of our portfolio at the Nexus of sustainability and global environmental impact, where our products and services can reduce the impact of these mega trends and create a platform for the company to grow above average global economic conditions.
Moving to slide four.
I'll spend a few minutes discussing how 2019 has progressed through the first half of the fiscal year.
And what were expecting to see through the balance of 2019.
The key take away is that we remain bullish on our strategy, our end markets broadly and our ability to execute using our business operating system to deliver against our organic revenue growth and adjusted EPS guidance ranges for fiscal 2019.
In fact today, we're raising EPS guidance by five cents to approximately $6.40.
We expect to deliver top tier financial performance again in 2019.
Commercial HPC globally, and particularly in North America and Europe .
This continued to be very strong for us and our backlog incoming order rates and sales pipeline give us confidence. This business will continue to deliver strong results in the second half of 2019.
Our residential H.B.A.C. business had strong mid single digit growth in the second quarter.
We expect this business to continue to deliver strong performance for the full year supported by a solid residential replacement market.
In our industrial segment, we saw healthy order growth and long cycle projects in our compression technologies business in the second quarter.
And we have a favorable outlook for continued long cycle growth in the second half of the year.
Conversely, the short cycle markets softened in the second quarter, primarily impacting revenue growth in our core compression technologies and tools businesses, which are both down low single digits.
We expect short cycle markets to continue to be challenging throughout 2019.
The positive impact of healthy long cycle markets presents a positive set up as we move into 2021. These orders convert into revenue and operating income given the long lead times associated with these projects.
[noise] price realization has been outstanding across our businesses and we're effectively managing all inflation and tariff related costs with an 80 basis point spread in the second quarter.
As we've highlighted before.
We have been effective in managing inflation, and we expect to continue to maintain a positive spread and our target range of 20 to 30 basis points in the second half of the year. When we begin to lap the strong price realization in the third and fourth quarters of 2018, and when we begin to see the full impact of the increase in list three tariffs on Chinese imports moving from 10% to 25%.
Lastly.
We continue to expect strong free cash flows in 2019 of equal to or greater than 100% of net income.
Which will further strengthen our balance sheet and enable us to maintain good optionality.
We have deployed significant capital on dividends acquisitions and share repurchases over the years and again in the first half of the year.
We'll continue to follow our dynamic and balanced capital allocation priorities and expect to deploy 100% of excess cash over time.
Please go to slide five we delivered solid bookings and revenue growth in virtually all businesses and regions in the second quarter.
On the booking side, our largest HPC business has continued to lead the way and delivered strong growth with North America, and Europe HPC up high single digits in the second quarter.
China was also healthy with low single digit growth against a very tough comp of low twentys growth in the second quarter of 2018.
We also drove strong bookings growth of 8% and our industrial segment.
This is a tough comp of 8% in the prior year.
Led by compression technologies and small electric vehicles.
Compression technologies growth was driven by strong growth and long cycle, partially offset by softness in the short cycle markets.
Small electric vehicles growth was driven by successful execution of our consumer vehicle strategy.
Transport refrigeration had a significant decline in bookings against very tough comps in 2018 for reasons Weve discussed in detail on prior calls.
However, as we said before these declines don't impact we're in a good strong growth in our other transport businesses or impact their ability to grow revenues in 2019 and 20.
The transport refrigeration business have extremely strong bookings in 2018 as returning to historically normal levels of bookings in 2019, but with backlog that has more than two times historical levels.
With the strong backlog and solid bookings were seeing in 2019, we expect this business to deliver solid revenue growth in 2019, and the prospects heading into 2020 continue to look promising.
On the revenue side, our largest HPC business has continued to deliver very strong growth with North America, Europe and residential all up mid to high single digits in quarter two.
Transport refrigeration also delivered strong revenue growth.
Bringing all the pieces together, we're pleased with our organic bookings and revenue growth performance through the first half.
We expect organic revenue growth rates to increase heading into the second half based on healthy backlog deliveries an incoming order rates remain confident in our 5% to 6% organic enterprise revenue growth target for the full year.
Please turn to slide six.
We've outlined a number of takeaways for each major business on the next two slides.
Commercial HPC continues to be very strong, particularly in North America in Europe .
Our backlog incoming order rates and pipeline of projects are driving confidence that we'll continue to see solid growth in the second half of the year.
Residential hvdc had solid mid single digit growth in quarter two.
And we head into the second half of the year expecting 2019 will shape up to be another good year led by a healthy replacement market.
I've talked at length about transport refrigeration, which continues to be led by North America trailer truck Apds and aftermarket.
Based on a record backlog and healthy incoming order rates, we remain confident that our transport business will deliver another solid year in 2019.
Please turn to slide seven.
In our compression technologies business, we're seeing healthy growth and long cycle markets and softness in short cycle markets. The long cycle business strength positions us well for good growth in late 2019 and in 2020 as these orders convert into revenue.
Small electric vehicles is having a great year driven by successful execution of our consumer vehicle strategy.
And now I'd like to turn it over to sue to provide more details on the quarter Sue.
Thank you Mike. Please go to slide number eight I'll begin with a summary of the few main points to take away from today's call as Mike discussed we drove strong financial results in the second quarter with adjusted earnings per share of $2.09, an increase of 13% versus the year ago period. Our Q2 performance gives us confidence in our ability to execute against the full year growth in margin targets. We provided in our guidance in the beginning of the year. As a result, we are raising our full year adjusted continuing EPS guidance to approximately $6.40 up from approximately $6.35 that we communicated last quarter.
Second quarter organic revenue growth was strong, particularly in our climate segment. We also saw strong organic bookings across most of our major businesses when excluding our transport business that saw outsized order growth in 2018 organic bookings were up approximately mid single digits for both the enterprise and our climate segment.
In our industrial segment organic revenues were up 2% compounding on a tough comp of 9% organic growth in the prior year strong revenue growth in Cts services and small electric vehicles offset the weakness in the industrial short cycle markets. Mike mentioned previously industrial organic bookings were strong up 8% and compounding on an 8% growth rate in Q2, 2018 fueled by long cycle compression technologies growth and small electric vehicle demand.
Despite ongoing trade and tariff negotiations Cts, China bookings growth continued to strengthen in Q2, providing cautious optimism going forward.
During Q2, we expanded adjusted operating margins 80 basis points and delivered 37% operating leverage which is ahead of our full year expectations. We continue to leverage our business operating system across the enterprise to manage direct material tariff related and other inflationary headwinds as we look to the back half of the year. We anticipate we will continue to realize price to effectively manage material inflation and tear ups, including the recent increase in lease three tariffs on Chinese imports from 10% to 25%, but this spread should narrow as we lap the 2018 mid year price increases.
As Mike mentioned, we continue to expect strong free cash flows in 2019 of equal to or greater than 100% of net income.
We exit the second quarter with working capital sufficient to support our ongoing cooling season demand and we expect working capital requirements to approach the long term target of approximately 4% of revenues by the end of the year.
Importantly, we continued to deliver on our dynamic capital allocation strategy. So far this year, we have completed the strategic acquisition of precision flow systems for approximately $1.45 billion deployed approximately $259 million in dividends and approximately $250 million on share buybacks.
Looking forward, we expect to consistently deploy 100% of excess cash over time.
Please go to slide nine we delivered organic revenue growth of 4% adjusted operating margin improvement of 80 basis points and adjusted earnings per share growth of 13% organic revenue growth was led by strong broad based growth across our climate segment.
Continued disciplined focus on pricing and productivity actions enabled us to effectively manage inflation and tariff related headwinds and drive margin expansion across the enterprise.
Please go to slide 10.
Our climate segment delivered another strong quarter of operating income growth, enabling us to drive solid year over year EPS growth in the quarter. Our industrial segment delivered solid results, our full year industrial margin outlook remains intact.
In addition to good segment performance second quarter corporate costs were lower than prior year impacting results by approximately five cents. The cadence of corporate expenses is lumpy in 2019, driven primarily by the timing of stock based compensation that is not linear as well as the timing of a number of other functional spending items. The full year corporate cost guidance of approximately $250 million remains unchanged.
Please go to slide 11.
In Q2 strong execution drove 80 basis points of adjusted operating margin improvement price versus material inflation was positive for the fifth consecutive quarter pricing net of material inflation expanded margins by 80 basis points, reflecting strong carryover price from 2018 and incremental pricing actions in 29 team. We delivered solid margin expansion from volume growth in the quarter margin expansion was tempered by softness in short cycle industrial revenues, which tend to have higher margins.
Consistent with our full year expectations, we continue to deliver productivity in excess of other inflation. We continue to heavily invest in our business incremental Q2 investments of approximately 40 basis points were fairly evenly weighted between growth and operating expense reduction projects.
Please go to slide 12, our climate segment delivered another strong quarter with 5% organic revenue growth and adjusted operating margin expansion of 50 basis points consistent with our expectations, we delivered strong volume growth price realization and productivity.
Please go to slide 13, our industrial business delivered solid organic revenue growth of 2% against a tough comparison of 9% growth in Q2 of 2018.
Industrial leverage was impacted primarily by the inclusion of the PFS acquisition midway through the quarter PFS acquisition revenues lever at operating income margin rates instead of gross margin range for the first year under our ownership. Additionally, as I mentioned previously margin expansion was tempered by softness in short cycle industrial revenues, which tend to have higher margins. Excluding these factors leveraging industrial was north of 30% in the quarter.
Looking at EBITDA margins. The PFS acquisition was an immediate contributor to our EBITDA margin expansion of 60 basis points in the quarter.
Please go to slide 14.
We remain committed to a dynamic capital allocation strategy that consistently employees excess cash to the opportunities with the highest returns for shareholders.
We maintain a healthy level of business investments in high ROI technology innovation and operational excellence projects, which are vital to our continued growth product leadership and margin expansion, we have a long standing commitment to a reliable strong and growing dividends that increases at or above the rate of earnings growth overtime.
We continue to make strategic investments and acquisitions that further improve long term shareholder returns like the PFS acquisition completed during the quarter.
Earlier this year, we secured an additional $1.5 billion in senior notes, taking advantage of the current favorable interest rate environment, we remain committed to maintaining a strong balance sheet that provides us with continued optionality as our markets evolve we continue to see value in share repurchases when shares trade below their intrinsic value and we expect to consistently deploy 100% of excess cash over time.
Please go to slide number 16 integration of precision flow systems with our existing Aero business is underway and is progressing according to plan.
We expect a PFS to contribute approximately $400 million in revenue on an annualized run rate that equates to approximately $250 million of incremental revenue in 2019 with approximately $50 million already delivered in Q2.
EBITDA margin expectations for PFS remain unchanged with percentages in the high Twentys and adjusted operating margins are expected to be in the mid teens for 2019.
PFS is expected to be cash flow accretive consistent with the EBITDA contribution in 2019 for your reference. We have also included estimated non-GAAP adjustments related to PFS for the year.
Additionally, we completed a senior notes offering in March, which we anticipate will add approximately $60 million in interest on an annual run rate basis $47 million incremental to 2019.
For 2019, we expect the adjusted operating income of PFS to essentially offset incremental interest from the senior notes offering.
Please go to slide number 17, I want to take a moment to further clarify the impact of PFS on our full year 2019 revenue guidance as you can see on the chart, adding approximately $250 million of PFS revenues to our prior revenue guidance range increases our industrial reported revenue growth rates by approximately 7.5 points and our enterprise revenue growth rates by approximately 1.5 points. There is no weather change to our revenue guidance ranges for 2019.
Please go to slide number 18.
When we were on the road, we often get questions about the status of the strategic announcement, we made at the end of April to combine our industrial segment with Gardner Denver, We continue to be excited about the prospects of creating a premier industrial company as well as a leading pure play climate solutions company focused on HPC and transport refrigeration I'll give you a brief update today.
One of the transaction closing conditions was recently satisfied the HSR Act waiting period expired.
We will continue working through the remaining regulatory and other closing conditions.
We anticipate approximately 150 million to $200 million in separation and transaction related costs, including the estimated cost of separating legal entities. We also expect to mitigate the approximately $100 million in stranded costs by the end of 2021. This is unchanged from what we communicated last quarter.
In preparation for closing we have began three separate work streams. The first work stream is focused solely on the separation of our industrial segment after years of leveraging our cost our industrial and climate segments. We have tested separation team with separating industrial segment business processes systems and functions. This includes technical and financial operating processes, including tax and systems manufacturing operations and supply chain services real estate, along with all business regulatory filings. There is a lot of work to be done and the team has a methodical roadmap to work this out.
The second work stream centers on integration planning with Gardner Denver, given that we continue to operate as two separate companies and compete in the marketplace until the close of the transaction. The integration planning work must be managed under clear rules and antitrust protocols.
While integration preparation is underway and will continue over the coming months in compliance with these rules much of the work to integrate the two companies will take place after the expected close.
The final work stream is focused on the transformation efforts for our climate segment as we plan and execute within the transformation work stream. We have the advantage of building. It on an incredibly strong foundation with great businesses engaged and talented people and a distinctive winning culture and core values our strategy focused on reducing the worlds energy intensity and greenhouse gas emissions remains unchanged. We are focused on developing a new climate structure that allows us to better serve our customers and unlock value for shareholders. At this point. This work is early on and we will give more updates at a later date.
All in we are well underway on the strategic transaction and we believe we are on track for closing in early 2020, and with that I'll turn the call back over to Mike.
Thanks Sue.
Please go to slide 19.
In summary, we're pleased with our first half performance, we expect to deliver strong revenue and EPS growth and free cash flow in 2019.
Looking forward, we continue to believe the company is extremely well positioned to deliver strong shareholder returns over the next several years.
Fundamentally our strategy remains at the Nexus of environmental sustainability and impact.
Today, 15% of the world's carbon emissions come from heating and cooling buildings and transport refrigeration creates another 80 million metric tons of C. O two emissions annually.
Which can be eliminated throughout electrification overtime.
We are bending the global warming curve, but changing the way the world heats and cools buildings and moves refrigerated cargo.
New technology, we have developed can reduce up to 99% of the admissions that come from heating and cooling a commercial building.
And this doesn't include the substantial environmental benefit of increasing system energy efficiency to reduce both power generation at the source and storage requirements.
We're continually working to innovate in this way to electrify heating electrified diesel engines used to cool trucks and trailers that transport perishable goods at a reduced the energy intensity and greenhouse gas emissions and residential and commercial buildings.
We recently announced our 2030 SG commitments to meet the challenge of climate change, while increasing access to air conditioning, perishable foods, and medicines and improving the quality of life for people and communities, where we operate and serve.
We are committing to reduce our customer carbon footprint by one gig ton of Seo to through our HPC and transport refrigerant products and services.
We believe this is the largest customer climate commitment made by any b to B company and our math shows that this reduction could equate to 2% of the world's emissions.
The size and scale, that's equivalent to the annual emissions of Italy, France, and the UK combined.
We continue to transform our supply chain and operations to have restored of impact on the environment.
Including achieving carbon neutral operations, and giving back more water than we use in water stressed areas.
We are committed to increasing opportunity for all strengthening economic mobility and bolstering the quality of life of our people. This includes gender parity and leadership roles a workforce reflective of our community populations.
Maintaining a livable market competitive wages and broadening community access to cooling comfort and healthful foods.
We've been investing heavily for years to build franchise brands and to advance our leadership market position to enable consistent profitable growth.
We have an experienced management team and a high performing culture that instills operational excellence into everything we do.
We remain committed to dynamic and balanced deployment of capital and we have a strong track record of deploying excess cash to deliver top tier shareholder returns over the years.
Lastly, we're extremely excited about the proposed transaction and the strategic combination of our industrial segment with Gardner Denver.
Combining two of the Premier complimentary industrial companies offers the opportunity to drive significant innovation and growth with meaningful revenue and cost synergies supported by secular growth trends and diverse end market exposure.
We're also very excited about creating the premier pure play HPC and transport refrigeration company with our existing climate segment businesses.
We have a tremendous opportunity to leverage a simplified business model and structure and sharpen our sustainability focus with our investments.
Our climate businesses have clearly differentiated performance and we see significant opportunity as a pure play to build on this performance for our employees customers and shareholders.
And with that through and I'll be happy to take your questions operator.
Thank you.
At this time I would like to remind everyone in order to ask a question Press Star then the number one on your telephone keypad again as a courtesy to others. Please limit yourself to one principal question and one follow up question before returning to the queue.
Your first question comes from Steve Tusa of JP Morgan.
Your line is open.
Hello.
Morning, Steve.
So I just wanted to ask on H. back what are you seeing in resi. So far in July and also on the commercial unitary front how were trends.
In that part of the business this quarter and what do you expect for the rest of the year there.
The revenue was strong in the quarter of bookings and revenue. We think it continues for the balance of the year, we think the market might be low single digit mid single digit Steve We think will be mid single digit for the year. There. So that that's progressing again, it's as you know, while it's 80% replacement.
We are heavily index, there and anything we do incrementally with new construction is actually an AD this growth for us. So we feel like we're in a great position.
With regard to commercial North America.
We're seeing strength in unitary we're seeing strength in applied and services we.
Our same particular verticals like K through 12.
Labs and data centers that are that are growing nicely. So no let up there.
And then just to anticipate some questions I think that people may ask you. If you think about our backlog today across the globe from HPC perspective were up 21% year over year, and even up sequentially from quarter one to quarter. Two so that is I think indicative of just continued strong markets and a solid pipeline going forward.
Okay, Great and then so you think you guys are taking share and sounds like some of the other guys that put up numbers that are obviously not as not as good as that.
Well in the in the markets that we get really good data third party, which is the easiest to look at absolutely Thats a fact, yes.
And then lastly, just third quarter can you just talk about seasonality.
Do you expect normal seasonality here in the third quarter, I know things moving around the global economy.
You know and also orders do you think orders are going to take out of another step down or how did that compares look so that maybe were more stable here in low single digit type of type of number for climate I know you don't like to guide that but there's obviously a lot moving around in the economy. I was just curious as to how you guys see that lineup.
Well I don't see any changes really in sort of agent in HCC globally. I think we've got a pretty good read on the global landscape. Most markets are strong and there's pockets, where this weakness, but surprises where markets are strong example of that would be Mexico's gone through a couple of quarters of negative GDP, its a pretty big market for us So thats.
The newer information, but were relatively strong in an equivalent market and the southern cone of Latin America. So it's that sort of thing on the edges that we're looking at but the markets remains strong. It's a lot of focus on thermo King I think we've we've done a decent job explaining the constraints that existed in 2018 at class eight tractors and how customers lined up in advance it really to pull on that the supply capability. It translated down through trailers and of course that all translated to.
Those customers ordering either abuse or refrigerated trailers. The actual attack time of how the heartbeat of a plant runs and we match trailers in units to actual tractors or trailers.
It's very smooth and that backlog generates.
Joe just mid single digit revenue growth, it's been pretty consistent so the noises around the teekay bookings, but again I think you have to separate that from the 28 constraints with our customers and think more about the HPC market being strong and transport just generating solid revenue growth on good backlog and generally healthy markets and we're still seeing good order intake rate at transport. So it's not as if things are drying up even on the order input side, there just tough comps.
Okay, great. Thanks, a lot.
Thanks, Steve.
Your next question comes from Julian Mitchell of Barclays.
Your line is open.
Thanks, Good morning.
So maybe just sticking to the two question rule. My first question would just be around the industrial division.
It looks like on slide 17, Usten assuming.
Maybe 5% organic growth this year.
That seems to imply a step up from the first half. So maybe just help explain why you think industrial organic growth should reaccelerate in the second half please.
Yes, I think we've we've got our eyes wide open on the short cycle and we've accommodated that in our forecast we had strength on longer cycle, some of which we expect to ship in the fourth quarter a lot will ship in 2020, we have an excellent growth.
In our consumer strategy related to.
Small electric vehicles. So Julian we just finished a five plus seven forecast not even a month ago. We've had the opportunity to update that last month with risks and opportunities I think that we feel pretty good about that forecast.
When I look back at the beginning of the year relative to guidance.
I would say that climate markets are trending toward maybe the upper end of that and industrial markets, maybe would be trending to the lower side of that but nothing that we feel like we're right, where we need to be in terms of the guidance that we gave.
Thanks, very much and my quick follow up would be around the climate Division.
You had about 7% profit growth in the second quarter.
A bit of a step down from Q1, and then you're sort of guiding for a pickup in the second half similar question I guess.
What drives you think thats slightly better EBIT growth in the second half.
Maybe switching to the with the resi versus commercial versus transport tools something on the margins around price material any color at all on that aspect.
Yes, Julian I mean, when you look at leverage first of all in the quarter, we actually had really good leverage we had leverage above gross margins they are north of 30%.
And we were able to be right about 30% for the first half of the year. So the question probably relates to what you're thinking to be a step down in the revenue, but again here.
When you look at 21% year over year backlog and sequentially improving backlog from quarter, one to quarter too.
No and deliveries on service business being about half the business the amount of book in turn we need to do is actually.
It's a small as I can remember it so again feel pretty good about the revenue number and I think that that segment.
In general leverage is pretty close on the full year as a 25% rate we guided to originally some I'm not seeing a lot of weakness there.
Perfect. Thank you.
Yes.
Your next question comes from Scott Davis of Melius Research Your line is open.
Hi, good morning.
Mike suicide.
Sometimes when you are executing and.
Kind of a deal like this at the size there tends to be a little bit of a let down ahead of.
The closing.
And some companies we see they have to adjust compensation plans as such to prevent that but have you guys.
Do you feel the need to do anything have you done anything is there a risk that.
Theres a little bit of a.
Distraction.
Amongst the.
Operating had to walking into.
The back half of the year here.
We've we've got over the years.
A wonderful operating system that in terms of the metrics and any early warning indicators that we got Scott feel good about seeing that course missing none of it today, but the more important thing were doing though is organizing ourselves in a way.
That we can compartmentalize what needs to happen and then think about the interdependencies between things. So as an example, our number one priority is to run the business and run it well everyday and execute on the commitments. We made the second priority is the separation itself of course, there's no integration without the separation. So theres a separate team focused on separation that does not involve.
The integration team, which is the third priority third priority around integration.
Is to the extent, we can under the rules of engagement.
To support guys, a lead and that effort and so.
That continues and the fourth thing that we're doing is using the opportunity.
The value stream app much of the company and core process the customers and use the opportunity to think about those core processes in a way that we can make sure that the maximum value added a customers is being delivered on how we might structure.
From that output and what that what what might mean of course of the cost structure.
And maybe speed to market in some cases, it's pretty exciting, but we've tried to make sure that the teams.
Different people to the extent, we can of course, a group like tax.
It's going to be.
Related to all four of those activities, but we're doing a pretty good job compartmentalizing that running at using the metrics that we've always used always used to run the business.
Okay. That's helpful. And then just as a as a quick follow up in and.
I know this is always hard to answer a question around market share on the HPC side, but.
Sometimes I mean, it's clear that you're gaining share, but sometimes that's due to geographic mix or the types of projects that.
Our our growing I mean is there is there kind of a no b S answer to that question of.
Why you think you're you're winning or not not the usual were.
We are better than the rest.
Kind of stuff, but is there any other explanation that you could give to be helpful.
In that regard we really designed.
Really our technology and go to market strategy around sustainability and around.
Eliminating both admissions and reducing efficiencies. So this passion around having the most energy efficient commercial systems out there in the world today using the most responsible for refrigerants that we can.
Put into these systems.
Leveraging the analytics the data the controls around that to put more sophisticated service offerings together the belief that on the commercial side, we need to be doing that ourselves not through independent distribution because of the complexity of what it takes to.
Model cell service deliver against those plans that that's that's been our strategy and we've been consistent about that and.
And just executing hard against that I think from a goal deployment perspective again, another core part of the operating system Theres no.
Mystery in the company as to what our goals are what's expected what we're measuring you know so that it just it just.
Coming together in a way that.
His work Scott over long period of time.
Yeah, clearly well good luck to you guys. Thank you.
Thank you.
Your next question comes from John Walsh of Credit Suisse.
Your line is open.
Hi, good morning.
Good morning, John warning.
Okay. So I guess, just going back to the price cost.
Spread you you talked about the 20 to 30 basis points here in the back half.
I guess I understand the tariffs, but just kind of looking also at recent price increases and I realize they're not all created equal. It does look like you push through some kind of another round of healthy price here across the commercial parts of.
Your portfolio I mean.
Is that should we view that as kind of a conservative place holder for the back half or is.
There is something else that would kind of make that decelerate further.
Well wait to that.
And what rate.
Right, John what I would say is when you think about how we called on price cost for the year were basically in line with how we call dates. So we knew that we were going to have some great price comparisons on a year over year basis in the front half of the year and we knew that in the back half of the year, we were going to lap some comparisons to last year. So prices is going to actually be on it's not a deceleration at all but on the comparisons to the price in the back half of last year.
Our going to result in a little bit less of a spread than non than in the first half of the year, but in terms of expectations. That's exactly what we would have expected. The prices are going to they are sticking they are actually being realized in the business and material inflation is actually doing approximately what we thought it would do for the year, which is.
We have gone to tariffs covered we've got John you know all of the elements of cost covered and were seeing a little bit of.
Material stabilization, but again stabilization to our expectations in the back half of the year and a little bit of deflation, but given the way that we buy materials, probably more of a 2020 impact. So so when I think about the whole price cost is sort of put it in a basket I think the.
Price comparisons are more difficult in the back half of the year than the front half of the year material inflation is doing about what we expected and that gives us.
Roughly the 20 to 30 basis points of spread for the entire year on price cost I mean, maybe it's a escos purse now on conservative, but done but it it looks about like we thought it would look which is really good part of that.
Okay. Thank you and then I guess just as a follow up if we could maybe look at the Americas or maybe actually drill down into the U.S. versus China. Just what you saw in terms of service versus equipment growth in the quarter.
Yes, both are progressing well there John .
Always surprised with the degree of service penetration in China, how quickly thats maturing so theres really no no surprises there and promote from a service perspective, we continued to do well there so.
Not much more to say.
Obviously the U.S.
And Europe are the gold standard around penetration and linkage and then China as quickly.
Over the years coming to that point in over the next five years I think it will it will be at the same level as our.
North American European penetration.
Alright, thank you.
Yes.
Your next question comes from Nigel Coe of Wolfe Research. Your line is open.
Thank you good morning.
Good morning, Nigel I want to turn it back to two industrial and the the long cycle bookings growth that you call outs and.
I mean I think.
We're also thinking capex getting kicked down the road, perhaps some of these projects push out but.
Where are you seeing the bookings strength that we didn't have any end markets in particular, and then switching to the shorter cycle pressure, you're seeing would you say, that's mainly inventory reductions to genuine end market weakness.
Yes, Nigel I would call out Asia on your first question probably to be overseeing the long cycle.
Bookings and who are you seeing chemicals manufacturing energy.
In a separate air separation would be another for sure so that that.
It would be the what I'd point out there with.
With North America with Us on particular.
There was a slowdown it seemed after there was a flurry in the U.S. LMCA discussions between Mexico, and the U.S. and the possibility of.
The U.S. opposing additional tariffs.
Mexico wouldn't secure the border from the Mexican side it.
Roughly after that we saw a slowdown.
I think it was certainly an end user demand and that obviously affected sell through of distribution searched short cycle fraud products there.
And.
You know, it's bounced around a little bit but off kind of that lower.
Level so hopefully.
Yes.
I guess cleaned up permanently and I think that'll have a restorative impact on short cycle. When it does I think it will be a nice bounce up when the certainty around that.
Okay. That's great color. Thanks, Mike and then just digging back into the North American commercial as a quick follow on.
Yes, I think I think some of the PS the weakness within the commercial unitary markets.
In particular on the replacement side and weather impact of color. There did you see that as well would you call out the light commercial as weaker in North America.
No I was actually was exceptionally strong for us so no.
I would say would be a highlight.
Of the quarter.
As opposed to a weakness.
Okay. That's good I can't tell you why it would be different but I can tell you. It was a it was a standout in the quarter.
Hey, just take it thanks, Mike.
Thank you.
Your next question comes from Jeff Sprague of vertical research your line is open.
Thank you good morning, everyone.
Hi, Jeff.
Hey.
Mike you never like to mention whether Nigel just threw it out I mean any anything in the resi business that you thought was discernible and.
You run your inventories are pretty lean, but is there anything kind of in the early set up in the third quarter that overhang from that that that would be of note.
No there's a little bit last year have some pre buy.
I think they got pulled into the second quarter Thats really the only kind of it wasn't a big number but it was a little bit of a compare difference there I think a number of companies had that happen. So no not really Jeff to answer your question I think its just.
Fundamentals remain strong I think that.
Consumer generally still feels pretty good pretty healthy and.
We're not seeing any any changes to that.
And then bigger picture, Mike I was wondering if you could elaborate a little bit more on what you mean by transformation right I think.
The idea may still be kind of coming into view, but it seems like you've got a relatively crystallized view of where you want to take things.
Just be interesting to get a little bit more perspective, now kind of three months since making the.
The announcement kind of what you're thinking about kind of pure play transformation.
Yes, so the starting point just to be clear is.
Something that we're all very proud of over 10, plus years and so transformation is not meaningful something bad is something good.
It means there's an opportunity here to really go think everything I mean, obviously.
From a name and brand all the way through to the simplification of legal entities.
The way that we might look at the way support services are performed across the company.
We will apply the same value stream mapping that we would do in a manufacturing process to the way.
Record to report or procure to pay or any kind of order to cash process would work.
Well look through our field organization and understand.
So how that would.
Pan out in terms of incentives and some of the metrics that are out in the field and just make sure that those are.
We want them to be theirs.
Likely different structures that will evolve when you answer those questions and I think with a goal toward customer focus Gore a goal towards simplification.
Being tighter on some of the investment focus on our core sustainability themes.
All those things I think are exciting people inside the company because we're building off a piece of a strong foundation.
Great. Thanks.
Yes.
Your next question comes from Gotham Connor.
Of Cowen and company your line is open.
Thanks, Good morning, guys.
I got them.
Just a follow up maybe on Jeff Sprague's question.
You mentioned the year over year on orders with the pull forward last year, but just speaking about Q2 19.
Did you see any difference on the resi HVAC side between your indirect and direct channels and.
Maybe if you can speak to.
Yes, Lenox on their call talked about being over index to some of the swing regions in the us where it can be hot or cold and so whether it was particularly uncooperative given their exposure I mean, how does your.
Footprint kind of contrast with that if at all.
I can't really contrast that to anybody else, but I can say were about 50 50 direct indirect we didnt really see any difference on.
Order rates there at all.
I guess and 45 or so earnings calls I can't remember if I've ever you I don't think I've ever use weather as a strategy, whereas an excuse so I can say weather normalizes very quickly often within a year with a bias toward of.
A warming planet.
This theres more degree days in the future not not fewer so it's a great place to be and we like the footprint that we've got.
Our focus is on market share and margin expansion as it is for every product growth team. We have inside the company as of the two clear goals that we have and and that doesn't change.
That's helpful. And then just as a second question maybe can you give us some color on your expectations for Thermo King growth next year, given what we're seeing in the.
Truck market and what you have is offset with the penetration and like you said the backlog running into next year any preliminary view on that.
Yeah, it's too early on that I mean, we like to see the react data coming out around class a we'd like to see the active coming on refrigerated trailers to know that.
My sense is there's really no way to burn off all the backlog Weve got in 19, I know we're into 20.
Stance.
Order rates are still healthy so.
Just a really early view, which was the same view, we gave last time as.
When you normalize the 18 bookings.
Over at 19, and 20 revenue cycle, I think you get kind of the steady tact coming out of the business of mid single digit.
Growth rates, so I would have no reason to deviate from that at this point.
Thank you guys. Good luck in fact, Gotham I hope depending on how you sort of Brexit really unfolds unwinds that next year, we're sort of getting through this low point in Europe .
And potentially we're seeing strength in Europe , which.
Has been markedly slower than North America as a result of just what's happening with the broader European economy.
Appreciate it thank you.
Yes.
Your next question comes from Andrew Obin of Bank of America.
Your line is open.
Hey, guys good morning.
Good morning, Andrew.
Hi, just a question you know there's been a lot of articles I think the Wall Street Journal had an article how the Europeans are still reluctant.
To embrace HPC.
Even despite sort of climate change and the heat wave that you're seeing in Europe , what kind of conversations are you having with customers in Europe regarding.
Hey, Tracy and are you seeing any structural changes an adoption rate.
Yes, I think you're largely talking about what consumers might think but if you think about any institutional building any data center any industrial building in Europe .
They've got the same requirements that Youve got all over the world and.
Obviously, the booking rates there for us for multiple years of done.
Extraordinary I, we said I think in 16 that we would double the business by 2020, and we're going to definitely do that.
So I look at.
You know what economy, there that even though its modeling around kind of.
Flattish.
We've had.
Bookings growth and revenue growth thats been in that high teens low twentys range now for multiple years, but we're not focused on the consumer there per se.
Although there is an extraordinary opportunity I think going forward.
Around the electrification of heat in Europe , as you will see more of that application as opposed to.
The prevalence of boilers in Europe over time.
When that happens I do think we've got a business and a product portfolio that will benefit from that regulatory conversion in Europe to electrification of heat.
No I think I was referring more again or if you visit office buildings in Europe in August we certainly have a different idea of what HPC is versus North America. So I was wondering if requirement requirements are changing but we can take it offline.
Another question is on supply chain.
Are you guys, rethinking, where and how you're spending capex.
Given all the uncertainty that's taking place.
Are you, meaning uncertainty in the economy uncertainty, we're now thinking about antibodies I'm thinking trade uncertainty and how you're thinking are you changing where are you spending capex globally.
And are you sort of having conversations with your supply chain about moving some sources.
Yes, when we think about our Capex, there's been little difference to how we think about it because we want to.
Make things, where we sell things and Thats generally what we've always done and I would say it is even up.
Stronger concentration of that than there was.
Five years ago, Thats been our strategy as it relates to the supply chain. It depends where there is an easy answer yes, we'll look for an opportunity there.
If we can and we've made some some movement there.
So.
The answer to question is from our own footprint perspective, we're continuing to do what we do from a supply chain perspective.
Around the edges, there's things that we do to it too.
Move supply, where we can't.
Great always it's always nice to have an age where company that doesn't play whether thanks a lot.
Yeah.
Andrew just based on your question I'm, just going to follow up I know you're off the line here, but it's interesting a lot of the Chinese customers that we had that were looking to move production away from China.
To maybe avoid some of the US China tariffs, we are thinking about Mexico as well.
I think that some of what they've done and decide it has changed over time and I think we're seeing more in areas like Vietnam. As an example, as opposed to Mexico. So there are there are changes with our customers in terms of how they're working their footprint for sure.
We'll take the next question Chris.
Your next question comes from Nathan margin from Seaport Global.
Nathan Martin from Seaport Global your line is open.
There is no Nathan on the in the call Q I think you got the wrong person.
Your next question under the next from Joe Ritchie of Goldman Sachs.
Your line is open.
Thank you.
Good morning, guys.
Good morning, Joe.
Hi, guys. So.
Maybe my first question, Mike just just focusing on climate.
Operating leverage for the quarter.
And so obviously like price cost came through well.
It seems like the leverage is maybe a little bit lighter than we expected was there anything that like just impacted Q2, just from a from a mix perspective on the climate side.
Anything out of the ordinary.
So Joe I've got 32%, we are expecting more than that on the quarter.
[laughter] than my assumptions on price cost must be must be slightly slightly different.
Okay.
I'm, just taking 40 million of operating income on 124 million dollar revenue rise and that's that's that's what I'm looking at.
Okay, all right I can I can take it offline most trying to strip out the price cost component and trying to really determine what the volume leverage was.
And it seemed it seemed like it was a little bit lower than anticipated, but that's okay.
And then I guess.
Maybe just kind of sticking on the on the commodity price cost question and.
So your comment earlier on it being.
Escos conservative on the in the second half of the year.
I guess as you're thinking about commodity inflation into h.
You look at copper copper still going to be pretty depressed you guys. Typically will buy ahead of it and so I guess where are you locked in on copper for the second half of the year and.
And I guess, what are the kind of what are the offsets potentially to two to a copper tailwind in the second half of the year.
Well, Joe if you remember we actually when we gave our original guidance for the year, we had actually planned on both copper and steel perhaps on having.
Less inflation.
In Q3 in Q4, and that's basically coming true. So if you think about copper specifically that John that you ask about on we're about 75% locked for the back half of the year on which is typical for us on where you will see the benefit of those spot rates on copper that really have come down is really in 2020 as I said. So we're we're doing you know buys every month on for whether it's for 2019 or for 2020. So you will see the advantage of that appearing in.
In the 2020 numbers in pretty much the same thing on steel we know what we're paying for steel about six months in advance and.
With either one of those commodities the highest spot prices were in Q1.
They started to come down in Q2, and they will you know the spot rates that we see right now are down in Q3, and Q4, but again, that's more to where our expectations I don't expect that to be.
Huge tailwind in in the back half of the year on the other hand, the good news is not actually a headwind like we've seen for the last couple of years. So like I say, we're taking advantage of it with our buying processes and.
With our supply chain, you know each and every time, we buy the commodities, but it actually is performing about like we expected and called for during the year.
Got it thank you both.
Thanks, Joe.
Your next question comes from Andy Kaplowitz from Citi.
Hey, good morning, guys.
Hi.
Mike just following up on China, It's that last quarter, you basically were flattish in terms of order growth and this quarter up modestly against the tough comps you mentioned.
And then last quarter, you were seen China related demand and through throughout Q1 third did you see that include them then level off at all we can do.
The other industrial companies and seen are generally stay steady or even improve in the quarter.
I would say in both climate and industrial from March forward bookings have steadily improved and in China, specifically and.
But the markets have shifted as an example, electronics would be down say, 15% as a market, but you're going to find other markets that have been.
Compensating for that and some of the heavier heavier industries.
That would have compensated steel would be example, there something thats or power generation.
Where there's a market both for industrial and for a process cooling in those markets. So.
That's been good.
Yeah, we're stacking quarter, one and quarter two of 19 against plus 20 is kinds of comps in quarter. One two of of 18. So the stack and that is sort of still mid kind of low to mid teens growth over the two year period. So were happy with kind of what's going on in terms of the strategy there that we had.
Around the direct.
Salesforce that we've put in place and then were happy with the.
The linkage to service there.
China is slower than it was historically, but still a pretty good market and.
There is a focus.
Not quite as strong as you're up around the sustainability, but certainly as ive talked in the past.
Much more of a focus in China around cleaner and clean water.
Thats, having a positive impact on what we do.
That's helpful. Mike and then Mike or so you gave us good clarity on PFS, but can you give us more color on how its kneeling as amended the Ingersoll portfolio, obviously, a fair amount of industrial in upstream oil and gas exposure. There. So have you seen any slowdown in that business.
With your initial expectations.
Yeah. It would be helpful to just talk about how it's coming in so far.
Yeah, Let me just let me start by saying.
First of all from a cultural fit and from a performance mentality from a goal deployment process from.
It feels like these guys are better for years, which is fantastic. It's a great fit inside the company.
In terms of.
Treatment other management plan.
They are on track.
With that so.
The mix has changed a little bit and you've seen it was on the short cycle, but.
Like the rest of Ingersoll Rand they've got countermeasures for.
How they're dealing with changes so frankly, it's been it's been positive sort of any color on that yes. It is actually you know a refreshing type of business because they do have several different brands that they operate under in several different end markets that they go to and the the management team is excellent at finding real balance between the opportunities in the portfolio and and the risks in the portfolio and on they are they are.
Operating to the management plan that that we use when when we bought the business, which is on great news both.
Revenue operating income as well as cash flow and there maybe some just give you one point to specificity here positive bookings growth in the quarter.
Against if you think about sort of all the fluid management peers are out there that I think are booking negative.
Very proud of that.
Thanks, guys appreciate it.
Thank you.
I will now turn the call over to SEC Nagel for closing comments.
I'd like to thank everyone for joining us on today's call and we Shane and I will be available for questions over the next day or two and then in the coming weeks. So if you're interested in having to call. Please give us a call and we will schedule. Some time, we look forward to see you soon on the road. Thanks.
This concludes today's conference call you may now disconnect.