Q2 2019 Earnings Call
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After the speakers remarks will be a question and answer session. If you would like to ask a question during that time simply press Star then the number one on your telephone keypad. If you would like to withdraw your question you May press the pound key.
Thank you I will now turn the conference over to Mr., Michael Levy with Investor Relations. Please go ahead Sir.
Thank you Sarah.
Good afternoon, everyone. Thanks for joining us on the call I'm here today, with Steve Berglund, our CEO and Rob painter our CFO .
I would like to point out that our earnings release and the slide presentation supplementing today's call are available on our website at www Dot Trimble Dot com.
As well as within the webcast and we will be referring to the presentation today.
In addition, we will also be posting our prepared remarks on our Investor Relations website at Investor Dot Trimble Dot com.
Shortly after the completion of this call.
Turning to slide two of the presentation I would like to remind you that the forward looking statements made in today's call and the subsequent question and answer period.
[noise] are subject to risks and uncertainties trimbles actual results may differ materially from those currently anticipated.
Due to a number of factors detailed in the company's Form 10-K , and 10-Q other documents filed.
With the Securities and Exchange Commission.
The non-GAAP measures that we discussed in today's call are fully reconciled to GAAP measures in the tables from our press release.
Okay.
With that please turn to slide three for an agenda of the call today.
First Steve will start with an overview of the quarter after that Rob will take us through the remainder of the slides.
Including an in depth review of the quarter, our guidance and then we will go to Q and a.
I would also like to briefly mention that during the month of September we will be attending the JP Morgan Allstars conference on September 18th in London.
Please turn to slide four and I will turn the call over to Steve.
Good afternoon.
Last November we reported strong third quarter 2018 results and noted a number of issues worth monitoring.
Which were broadly characterized as discrete geopolitical and trade.
In the last nine months these effects have intensified and more material in our most recent quarter.
They are mostly unique effects that are neither classically cyclical nor secular.
Although leading to some disappointment in the short term they do not impact our long term strategic or business models.
Offsetting the negativism is our continuing strong progress on the fundamentals.
Including the conversion of the business model into higher recurring revenue levels strong cash flows ongoing innovation and our success with three recent acquisitions.
In addition, our core revenue performance in the buildings and infrastructure and transportation segments remain good remains good.
Let me restate the three factors, which are creating this drag on results.
The first is broadly geopolitical us trade policy continues to create significant uncertainty for us farmers.
And the resulting at reluctance to invest this hesitancy as impacting our resources it resources and utility segment.
Revenue performance.
Although we are maintaining margins.
China US trade agreement, which look probable a few months ago and more uncertain now would create clarity for us farmers and provide us with immediate upside potential.
This uncertainty in agriculture is being compounded by distortions in worldwide commodity inventories.
And regional droughts.
Other politically driven decisions have resulted and resulted in a number of puts and takes.
Outside the us we have encountered abrupt political decisions or declared political intent.
One example, being the cancellation of the Mexico City Airport and another being the declared skepticism around the Hs to rail project in the UK by the new government.
Obviously Brexit is the most dramatic event in the political realm, Brexit uncertainty combined with slowing international trade.
Is causing hesitation hesitation to make new investments in European plants in infrastructure.
Which impacts us.
Against this backdrop of uncertainty there have been some countervailing positive political developments as well for example, us multi year budget deal will significantly improve our ability to pursue projects that require federal funding.
In addition, although the U.S. infrastructure, Bill, which was a stretch possibility at a trillion dollar level last quarter is no longer a real possibility.
That America's Transportation Infrastructure Act of 2019, which was introduced in the Senate earlier this week increase of spending by 27% over fast Act levels.
Although the legislation may not be a net enacted this year. It is a sign of an improving bi partisan consensus around infrastructure.
The additional positive effect for us beyond the possibility of increased spending levels.
Is that the proposed legislation contains specific funding to promote digital construction.
Beyond the federal efforts. We also see we are also seeing increased dynamism from the states and funding infrastructural renewal with growing enthusiasm for digital construction.
So far in 2019, five states have raised gas taxes to help fund in increased infrastructure spending.
The second factor is China. This takes the form of declining growth and an intensification of Chinese government policies that create explicit preferences for Chinese companies over non Chinese companies.
As a result, our first half Chinese revenue was down approximately 40% year to year.
Given that our Chinese revenue is now only 2% of total company revenue. This short term downside is limited.
Current conditions are non nonetheless, unfortunate because they make it unclear when China may return to its role as a source of long term growth.
The third factor impacting us is OEM demand, which was an aggregate Craig on the second quarter.
Our more traditional OEM markets and timing sub systems and embedded embedded components are being impacted by lower Chinese demand.
And then inventory overhang at a major customer.
In addition demand from our agricultural OEM partners is being impacted by lower demand in the US which is in the short term also being impacted by high inventory in the channel.
On the positive side, we continue to establish or extend significant new OEM partnerships and construction and agriculture.
Driven by the need to integrate the machine input into the workflow of the connected construction site and the connected farm.
The present more negative environment will require us to sharpen our execution, which will emphasize.
The commitment to the financial model, a commitment to our long term strategy and a commitment to exiting the period with an improved competitive position.
Over the last 20 years Trimble management is faced similar periods of ambiguity and consistently emphasized these same principles.
With a resulting acceleration of performance coming out of slow periods.
The balance required to do this is consistent with our core 343, philosophy, which places equal weight on short term and long term thoughts.
Our commitment to maintain and extend our financial model includes a combination of prioritized efforts to capture incremental revenue optimize the business portfolio and to control costs.
For example by redirecting efforts to up sell our substantial installed user base, we can potentially generate additional revenue and loosen our linkage to new equipment sales.
Portfolio evaluation is a constant activity within the company, but the current uncertainty will place special emphasis on underperforming product lines.
That are not core to our strategy.
Cost control is implicit in our culture, and we will methodically look to take structural cost out for example, we have recently consolidated our autonomy and cloud activities, both the speed outcomes and to ensure cost effectiveness.
In pursuing cost effects improved cost effectiveness, we will not compromise our three year core innovation roadmap, which remains compelling.
Beyond our overall focus on transforming workflows and construction agriculture and transportation through technology, we are intensifying our efforts and focus areas such as autonomy mixed reality and the cloud.
Although we have a role to play in on road autonomy by providing precise position our bigger play is in off road autonomy.
Although selected sensor development with the part of contribution our primary focus will be on the higher value objective of integrating autonomous machines and tools into the management of the construction or farm site.
I'll, let rob speak to the details the second quarter and most probably the third quarter represent a pause in our secular progression.
With a modest rebound expected.
Expected in the fourth quarter.
Nothing has changed structurally or strategically and we remain on course and achieving our objectives Bob Thanks, Steve.
Let's start on slide five with a review of the second quarter results.
Starting with the topline second quarter total revenue was $856 million up 8% year over year.
Breaking that down currency translation subtracted, 2% acquisitions added 7% and organic growth was 3%.
Aerostar or annualized recurring revenue grew to 1.1 billion in the quarter up 28% year over year and up organically in the low teens.
Gross margin in the second quarter was 56.9% down 40 basis points, which was driven by revenue mix in the quarter.
Adjusted EBITDA margin was 23.1% in the second quarter up 10 basis points year over year.
Operating income dollars increased 7% to $175 million with operating margins of 20.4%.
Net income was up 3% on a year over year basis and earnings per share of 53 cents was up 4% year over year, driven by revenue growth, while being offset by higher interest expense and the increase in our non-GAAP tax rate from 19% to 20%.
For context on a trailing 12 month or TTM basis revenue was up almost 12% EBITDA margins have expanded by 170 basis points and EPS has increased over 13%.
Cash flow from operations was $178 million in the quarter up 22% year to date free cash flow, which represents cash flow from operations minus capital expenditures was $154 million in the quarter up 24% year to date.
Cash flow growth has been driven by EBITDA growth and favorable working capital dynamics as our business continues to move towards higher levels of software and recurring revenue content as well as lower M&A expenses and lower tax payments.
Moving to the balance sheet deferred revenue was $452 million up 27% year over year. This correlates to the increased recurring revenue mix in the business networking capital inclusive of deferred revenue stands at less than 2% of revenue on a trailing 12 month basis.
Next a few comments on debt and liquidity.
We closed the quarter at a gross debt level of just over 1.74 billion and net debt of $1.54 billion, representing 2.08 times net debt to adjusted EBITDA TTM basis.
We paid down over $150 million of debt in the quarter and have reduced our gross debt by approximately $450 million since we closed the viewpoint acquisition in the third quarter of 2018.
Our S&P credit rating was recently updated to reflect the stable outlook, which we were pleased to see.
With a strong cash flow and full availability of EUR $1.25 billion revolving credit facility, we remain well positioned to weather any debt economic disruptions and continue our disciplined capital allocation strategy.
Looking at slide six from an overall financial performance perspective, the two standout metrics from the quarter include the $1.1 billion in EMR, which continues to demonstrate strong and consistent growth and the 24% growth in our free cash flow year to date.
Moving to slide seven we have revenue details at the reporting segment level.
Overall revenue was in line with expectations, albeit towards the lower end of the guidance range like many other companies, we experienced a significant late quarter slowing trend across some of our businesses and markets.
Of note, we continue to see softness in the OEM portion of our geospatial business, particularly in China.
We also experienced continued softness in the North American agriculture market, which continues to be adversely impacted by the trade situation with China as well as impacts from droughts in Brazil and Australia.
In terms of where we perform better than or according to expectations I would like to highlight buildings and infrastructure as well as transportation.
In buildings and infrastructure, we performed well in the aftermarket in both our civil and building construction businesses.
Sketchup transition continues to proceed as planned and our viewpoint and rebuild our acquisitions continue to be in line with expectations and transportation, we had broad based growth across the portfolio.
Turning to slide eight.
We experienced growth of 17% in North America, driven by construction and transportation growth in the U.S.
In Europe , we experienced growth of 6% driven by construction transportation and agriculture.
In the Asia Pacific region, we saw a headwind of negative 16% driven primarily by difficult conditions in China.
While other major regional markets were mixed on a year to date basis.
For context on a TTM basis revenues in the Asia Pacific region, Excluding China are up 7% year over year.
Lastly, and other regions, we were flat year over year.
Please now turn to slide nine for a review of our revenue mix by type, which is presented on a TTM basis.
Software services and recurring revenues continue to grow up 27% with organic rates in the low teens and now represents 55% of total Trimble revenue.
Within that recurring revenue, which includes both subscription as well as maintenance and support revenues grew 31% year over year and now represents 32% of total Trimble revenue.
Software and services grew 22% year over year and hardware contracted by 3%, reflecting in large part the recent headwinds and our OEM related businesses, particularly in China.
Finally, I'd like to reiterate that we now disclose additional revenue details on the summary tables provided on our Investor Relations website.
These revenue details correspond to the numbers on this slide.
Of note Geospatial margins were particularly were primarily impacted by the weakness in our OEM components business in China.
Because effects were partially offset by operating expense reductions within geo spatial during the quarter.
In transportation margins were negatively impacted by spend associated with increased customer support to engage our customers through the software conversion CEO the compliance.
The stand up positive performer in the quarter was buildings and infrastructure.
The close with guidance and move to slide 11.
First to comment on our management of the business translates into our financial model.
Strategically we develop end game visions and strategies tactically, Steve reviewed our 343 operating philosophy, where we simultaneously assess and balance the model across a timeframe of three months four quarters and three years.
At our 2018 Investor day, we put forward a model that will produce 23% to 24% EBITDA margins by 2021.
We reiterate our commitment to being well within this range in 2021.
Working backwards from 2021 current EBITDA margins on a TTM basis or 22.8%.
Three comments first we will continue to migrate business models towards subscription.
Second we will continue to invest in R&D initiatives, such as autonomy and cloud.
Third we will manage our cost structure as well as underperforming parts of the portfolio to position ourselves to meet our long term commitments.
With that in mind third quarter in 2019 annual guidance has been reduced to reflect the trends. We saw at the end of the second quarter, which we expect to impact demand through the second half of the year.
With the prevailing uncertainty we believe the prudent path forward is to de risk the revenue model and to plan accordingly around that.
For the third quarter, we expect revenue of 789 to 819 million and EPS of 45 to 49 cents per share.
The third quarter revenue range implies total company growth of minus 2% to plus 2% with flat organic growth at the midpoint plus about a point of growth from acquisitions and a negative point of growth from FX due to the continued strengthening of the us dollar.
For the full year, we expect revenue of 3.255 to 3.315 billion, which represents total growth for the year of 4% to 6% and organic growth of 2% to 4% and EPS.
Of 191 to 199 per share.
This implies a fourth quarter, where we expect organic growth to modestly rebound. Our assertion is that the second half of the year is more indicative of the environment than a discrete quarter as we see a pause in the third quarter that will naturally draw down inventory.
Further our fiscal year. This year's 53 weeks, which includes an extra week in the fourth quarter.
For the same reason, we would expect operating margins to be strongest in the fourth quarter given that the fourth quarter normally has the highest proportion of software related revenues and the extra week, we'll bring in an extra week of recurring revenue with healthy margins.
Projecting a cautious tone for the third quarter in the second half of the year, we anticipate the following three discrete aspects one.
The combination of drought in Brazil, and Australia, coupled with trade impacts in the us make for a challenging environment in the agriculture business. Two we expect our OEM centric businesses, which represent a minority of our revenue to continue to face headwinds and uncertain macros.
Third our transportation customers, who are migrating to full ERP software functionality have an aggregate backloaded their ERP conversions.
Meaning our support costs will run higher the next two to three quarters, we will not let our customers down arc and are committed to their successful migrations.
On the other hand, we are optimistic in a few specific areas as well.
One we will continue we expect continued growth and are providing us further visibility and predictability into our business.
Two from a cash flow perspective, the strong first half of the year has reinforced our expectation the cash flow from operations and free cash flow will comfortably exceed net income during 2019 and that cash flow from operations will exceed net income.
Three we expect that cost containment measures that we have begun in the third quarter, we will begin to materialize in the fourth quarter and into 2020.
Let's now take your questions.
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Your first question comes from the line of Andrew.
From Jpmorgan. Please go ahead.
Hi, good afternoon.
Hi, Dan Hi.
Maybe you could comment on that as far as the building business in the back half.
Hey, organic growth seem to slow significantly there and we consider that viewpoint as going into that now considered organically would have expected to boost inorganic revenue per building an infrastructure in the back half.
Maybe you could just talk about the fundamental value in building an infrastructure sector Kate.
Sure.
So actually the.
The first quarter double digit organic growth in buildings and infrastructure had a couple of points.
Of growth in that.
We had he builder command as organic and.
And that and that core in the first quarter, but it had it was to have been in two months in 2018 and three months in 2019, so the 11% organic we had and B and I and the first quarter adjusted for that EBITDA impact was between eight and eight and 9%. So if we look at that as a baseline im coming into Q2, it's not the drop that it optically would look like and then as we play that forward into the back half of the year and it's largely in line with expectations a bit.
A modest tick modest tick down there are really no fundamental change or conviction of where we are and in buildings and infrastructure I would expect the fourth quarter.
To be a higher number in b and I with without viewpoint, partially because of that.
14th week impact and that we also tend to see.
A good amount of business that in viewpoint and the fourth in the fourth quarter. So those factors together actually I think.
Largely smooth what may be look optically off when you look Q1 to Q2.
Okay and could you remind us.
What organic growth looks like today.
Good point.
So the viewpoint organic growth business is in the single digits in the low single digits. As a reminder, with the viewpoint business going through the model conversion from perpetual to subscription.
That that's the impact we continue to see the bookings.
Growth strong gross.
Well in it and excess of the recognized revenue growth.
And they are.
Which I think is really the the metric to look at in the.
In the viewpoint business is up double is up double digit.
As is the builder business so in aggregate they are.
Growth year over year is.
Above above 15% in those businesses.
Okay I appreciate it a nine kristin queue, so I'll get back in line. Thanks.
Thanks, Dan Thanks.
Your next question comes from the line of Jeremy.
Goldman Sachs. Your line is open.
Yes, hi, good afternoon, good evening.
Im wondering if we could can could that be sketch it add transmission can you talk a diet.
They get a new user growth look like after that business and we connected it was really strong in the first quarter. We did that momentum continue in Twoq and how does the success you had scattered transition.
Ill move up occurring ones or additional.
Yes.
Thank you changed for all the parts of the portfolio.
So Phil.
Thanks, Jerry So the second quarter was a positive repeat of the first quarter in the first quarter was the official launch and we saw unit growth in excess of 50% year over year, that's not my intention to let's say can.
On the long baseline.
Go through unit growth.
Year over year unit growth, but I can tell you in Q and the second quarter. It also as another repeat of a 50% unit growth year over year. So what that tells US that is two things one the team did an excellent job in in the launch and the second is that its expanding the addressable market, which of course is one of many reasons why it's an attractive conversion to make in terms of how that impacts our view on other aspects of the portfolio. It's certainly a positive indicator.
To us from a strategic standpoint that it's a that's a good thing relative to that addressable market expansion.
We had a launch in the second quarter, and our transportation business and the enterprise or we call transportation management system part of the business.
Began a a subscription offering and the data and offering that would be about giving us.
Into I would say.
Into the medium size.
Truck market, whereas today, our sweet spot would be more in the let's call. It the large fleet and then in our mechanical electrical plumbing business with also within buildings and infrastructure of the beginnings of subscription offerings.
Happened as well in the second quarter those two aren't needle moving at this point and and so I Wouldnt comment on how they are moving trimble numbers, yet like the way we have been around Sketchup. So again, the short answer on Sketchup has a very successful second quarter.
Okay. Thank you and then as we look at.
Performance of your subscription business, specifically could you talk about what organic growth.
Would've looked like in the quarter since we still have a couple of both.
Acquisition moving pieces and then within that organic subscription growth can you just slip assumes some of the better performing.
Standouts on the lower side as well please.
So the EMR was up 28% year over year.
Break that down organically organically was in the low teens was the growth year over year. So very solid performance from this aspect of the portfolio. If you source trace the EMR into the reporting segments more than 70% of that EMR is coming from buildings and infrastructure and transportation. So those would be the two specific places to look and buildings and infrastructure that we already talked about sketchup on that would be one to highlight and then.
And to the Dans first question there are growth in east Boulder and viewpoint combined so you take the the growth we had there plus catch up that's going to be what moved.
Buildings and infrastructure positively quite positively on the air are and then the transportation business.
The routing mapping navigation optimization business, we have as well as the.
The the telematics fleet mobility business is also a recurring revenue business the sum of which grew organically year over year. So this really is a good thing for us to be highlighting in this call as this aspect of the portfolio.
And any pause in good pipeline activity levels heading into Threeq.
So market soft spots that you mentioned that impacted quoting figure to your backlog.
Your subscription businesses at all.
And this subscription businesses I wouldn't say in any discernible and any discernible fashion the big movers of of that are going to be in.
No I was just really be actually the same parts of the business I referenced and what that unit growth for example in sketch out.
That's obviously, a very positive sign for us if we look at the E. builder and viewpoint and we see these is fundamentally.
Untapped untapped markets some of it in the let's say in the quoting activity around that.
Continues to continues to grow.
So no overall, Jerry on that on that side of the business as it is let's say different than what we've seen on some of the more OEM or hardware aspects of the business.
Thank you.
Your next question comes from the line of Gal Munda from Berenberg capital markets. Please go ahead.
Hi, everyone. Thanks for taking my questions.
The first one is just.
If I think about the guidance change and maybe that's one for you Rob.
You guys called on accelerated while the transition how successful it has been.
At the same time, that's kind of providing headwind right.
The better did while the transition then worst short term numbers, how do we think about and while the transition impact.
That is has had on page two guidance. The Thanksgiving you Didnt mention it as one of the factors that could that be one of the factors for the downgrade the guidance or is it not having an impact.
So.
Having a small hi, Joe it's having a small impact I think it's not material enough to.
We have.
Sorry, fundamentally altered the guidance as a reference point, we believe that.
The transitions that we've been talking about this year the incremental transitions would have about a point negative impact to operating margins overall for the for the business and would impact operating leverage five to eight points and thats about and the range. So mathematically that the hardware business contracting a little bit and let's say full steam ahead on the subscriptions, okay that would.
Incrementally have a bit more a bit more impact.
Okay. That's helpful and then just as a follow up.
My math is correct.
You're implying kind of similar type of growth Q4 sequentially as I'm, sorry year on year.
In terms of the.
None but you.
I think Tim Tim on the type of growth as in Q3, even though to come to us.
Easier in Q4.
Is there a level of conservatism baked into a bit more for Q4.
Especially because you don't have visibility to that or what's the kind of thought process.
Behind actually Q4 potentially being.
Weaker than Q3.
Well, if we if we break down the Q3 to the Q4 I'm in Q4.
We would look at.
For about two and about 2.5%.
Would come from that 50, excuse me from the 14th week, So call it 20 million.
Of revenue, so if I pull that out and I'm looking at mid points it would have a.
It would actually be a step up in organic growth in the fourth quarter, So call it 1.5%.
Organic get admitted and of course, plus or minus that on the on the book ends. So it is a step up from the third quarter, even when we back out the the impact of that extra weekend in the fourth quarter, albeit modest.
And I think at that level I would reference the.
The view on guidance, where we had of taking a bit of a de risking.
The model and making sure we.
Have the cost structure around that because holding the model is really central to our operating principles.
Okay.
Thank you.
Thanks onto my question.
Thanks Scott.
Your next question comes from the line of James.
With Morgan Stanley Your line is open.
Hi, This is Jeff.
James.
Hi, a question.
Hi.
Would you say.
How much would you say its macro that's really driving.
Uh huh.
Guidance versus.
Something like the transition from subscription to perpetual or any kind of delaying projects.
I think we were trying to characterize this fairly carefully.
And that.
There's a macro environment, but what we see it as kind of a series of episodes more than let's call. It general macro.
Conclusion, I think Europe , Okay is probably.
Well in terms of rank ordering China is our biggest concern because the common slowing but then I think this this.
Increased economic nationalism, we are being certainly being targeted.
There are so I would call that it kind of looks like a macro effect, but in reality its a combination of macro on specific circumstances.
I think Europe , which is the second point of concern really.
It's something the same which is.
You know the particularly the German economy is very tied to international International trade flows.
Yes, China being at the top of that list, that's being affected and I think there is an element of conservatism.
Relative to investment in Germany.
And then you couple in Brexit, So I think.
We're not necessarily looking at kind of broad macro economics here I think the macro economists still tend to be relatively positive, but it's a combination like kind of.
Yes situations there is the China situation, there's a set of couple of specifics relative to Europe . There are the U.S. farmers. So I think we're pointing out that and that's not necessarily saying, okay. It's a macro economic.
Event, but a series of specific instances around around the world and I think as.
I will turn it over to Rob relative to the.
The kind of the model effects, but I think we're pointing to the external environment I think.
Our market share a strong fundamentally our view on the markets, particularly construction and transportation remains pretty buoyant.
It's just a series of them.
If you will events that are I think are causing.
A certain amount of short term pain, I'd throw kind of specifics relative to Oems, which is not necessarily strategic to us I'd throw that into the mix at some point, we're going to lap those and we're going to kind of return to lets call the new normal and I suspect.
I would anticipate kind of a rebound at that point.
In terms of our results.
We are avoiding these are the word mackerel.
Here and just kind of pointing at these these events are these special issues around the world.
Go ahead, Rob So if I was to call it a pie of 100.
I'd put.
I'd allocated 50 20 525.
And then I would say 50% of that would be Oems as Steve mentioned, particularly that intersection of China, and our geospatial business and is more embedded component so its not talking about.
New machinery sales per se, it's really specific to OEM embedded components in the in the China market I'd put 25 on AG.
The agriculture market and that's a function really of.
Tariffs when you look at North America, and weather or drought, specifically when you are looking at Brazil and Australia.
I'd put 20.
Call it a little bit of.
A little bit of other from across the businesses and then maybe five I would put towards the subscription transition those per gallons question I would put just a small amount towards that so that kind of is going to get broad strokes of how we how we see that delta you have the pieces there and as Steve said it is important to note the lapping.
Effect that you could you could map out going forward. So for instance, if you were looking at 2018, and we had double digit organic growth Q1, two three when we got into Q4. It went down to three and a half. So you can start to get in and you can start to get a view forward as we come into Q4 and into next year.
That were lapping lower single digit.
Organic numbers as opposed to double digits, and SP and as Steve said that some of these things.
Will clear themselves out when we lap them.
That's helpful. Thank you and just a quick follow up on.
Would you are you modeling in these.
Unique macroeconomic circumstances.
Through the next few quarters or how are you thinking about that.
The way I'd answer that as we've modeled them through the through the rest of the year and the unique aspects.
And then if we look.
It's hard to look to 2020 at this point with say the the number of ambiguities.
In the market and so we step back and look at is the underlying fundamentals of the business. The ROI that we deliver that go to market. We have around that the new products that are being introduced as we come into the fourth quarter of this year and then as we come into 2020.
Con, it's at Conexpo year and in construction World. It's a trimble dimensions year from a user conference perspective, and there tends to be quite a lot about around.
These events and so we would.
You know.
You come into a view of next year of assays.
A modest expectations, but also with the level of conviction and confidence.
Thank you.
Your next question comes from the line of Colin Rusch from Oppenheimer. Please go ahead.
Thanks, So much can you talk a little bit about where the R&D money is going to the transportation sector, how we should think about.
The ramp up in software revenue and margin expansion in that part of the business over the next several quarters.
Hi, Colin so.
If you look at the let's say the top level.
Transportation.
It's clearly the segment, who knows if I'm looking at operating income.
That you know needs to get closer to the company average or lets say get to the company.
Get to the company average margins, Okay, now you double click there and look at.
Where we put the opex I'm to work and you're correct that a good amount of that is put to work.
In the in the R&D and the R&D room.
So a couple of things to comment on there from a I'll say from us to tick aspect.
In transportation.
We have we believe we have a unique ability to connect.
Capacity.
With demand so in other words, a call it supply and demand capacity, we would have a good insight on in North America based on the on road on Highway technology, we have the back office technology, we have and so it's a natural extension.
If we had to to optimize the supply chain are we talking about connected supply chain to also have a view into the shippers and to be able to help match the shippers and the carriers have not say call. It a digital digital freight cloud and so R&D work is being is being put towards that also on the R&D side would be getting the enterprise of the back office part of transportation ready for subscription a subscription offering so thats an important.
Part of the business for us to put to put money into and.
As I mentioned on one of the Q anyways.
We started selling that in the second quarter, albeit at a modest fashion, but we believe that that will start to ramp its opportunity to expand the.
Addressable.
The addressable market and the last comment I'd have an R&D and transportation is there's certainly been a lot of work in and the world of.
Well its E.L.D. meets our international markets and we have businesses now in Brazil, India.
Europe , and we think we have an opportunity to drive velocity and efficiency by consolidating some of the platforms.
That we that we have across the businesses and.
And so we've been making some of the spend to help drive those efficiencies that we would expect to see and so from an incremental perspective, you know as we come into.
Next year.
It certainly is a segment overall that we would say needs to.
To have that demonstrated in the bottom line margins.
Okay. That's that's helpful and then.
Regarding your comments around off road autonomy applications and interest there clearly you guys have a long history and machine control and off road applications.
Wherein how do you want to play in a space and how do you see that that opportunity evolving for trimble.
Well first of all relative to off road autonomy I think.
Our view is maybe a little non linear from.
What would be in intuition.
Otherwise which is.
Yes, we can make.
Machines operate.
Autonomously, we demonstrated that capability at dimensions last November .
In Las Vegas, we had a number of autonomous.
Pieces of machinery working.
That is not what are what we consider our principal value to be is the machine manufacturers are certainly all in one fashion or another.
Working to make the the machine machines autonomous.
I believe a goodly number of them are will end up working with trimble to achieve that.
But I think the wider play the real value added is in terms of fitting autonomous vehicles into the workflow.
Which is it's a great thing to have an autonomous excavator or compact or whatever doing a.
Doing a single act, okay, but what comes next after it's done there where does it go and what does it do and how does it fit into the schedule.
So we're seeing the larger opportunity, which is consistent with what we've done with viewpoint in particular and our other software elements is to look at the site management to look actually look at how the site functions and too.
Yes have.
We have our presence on the machines, but then have that machine communicating with the scheduling communicating with you.
The cost cost collection functions.
All of that but to integrate that autonomy machine.
Into the.
Into the overall solution for the site.
I think that is.
I think that is where the real value add and I think we're getting increasing.
Hello collaboration from the marketplace and that which is simply a simple machine operation is not sufficient really really comes down to how that machine is fitting into the into the site operation and so we think think are.
Ultimate value added role is more more at fitting autonomy into a site site scheme. If you will.
That's very helpful. Thanks, so much guys.
Your next question comes from the line of Rob Mason from Baird. Your line is open.
Yes, thanks for taking the question.
I wanted to understand the OEM decline a bit better and how that plays into the second half.
Right its outlook.
I know it sounds like at least with respect to China, that's a geo spatial concentrated.
Impact.
But we were talking about that coming out of the first quarter. So.
I'm curious how it degraded.
From there.
Or if its spread to other parts of the business or.
If it's impacting the survey business as well, which was flat after growing in the in the first quarter.
And if it has any ramifications for any of the other segments.
More so because it didnt sound like in buildings and infrastructure.
You're planning for the second half that.
Was taking you markedly off track there. So just if you could clarify that.
Where the incremental impact is coming relative to what we were thinking.
Coming out of the first quarter.
Sure Rob So I can give you the I'll say the quantitative.
View of it and Steve can give you kind of a historical qualitative overlay the aspects of the business and Oh, yes, So we talked about Oems Geo spatial.
China and really its referencing some of the.
I'll say that older Trimble businesses traditional businesses selling more components as opposed to end solutions.
And if I look at the Delta Q1 to Q2, and what we're talking about the rest of the year its.
I don't know that I'd say integrated so much as it didn't come back that would.
Maybe it's semantics, but that's really what played out to.
Some degree is what we what we thought would be a rebound in the business didn't didn't happen and that aspect of the business, So and I want to be real careful to.
Distillate would what I mean by or what we're referencing when we say Oems and Geo spatial.
Historic Stuart.
Businesses, we've had and and Trimble, because there's really not a.
A larger story and trembled or a thread to pull there in terms of in terms of bigger trimble, they're really quite different.
I'd want to anchor you, there and I mean, Steve maybe overlay context.
If.
Sure.
So I I would generally in terms of OEM, we're using the term fairly extensively here, but I would break the Oems.
OEM category into two and I think Rob was saying this break it into two categories. If you will.
I think there's a round here, that's opportunistic which doesn't which isn't core strategic to the larger trimble things like the embedded embedded which are printed circuit board level, maybe just IP.
Sales too.
Two Oems there is the timing business, which would be fall into the category of.
Opportunistic there is our.
Well, we call INTECH.
Which sells board level product.
Around the World I would say those are opportunistic from the standpoint that okay. There is not a larger strategy.
Source of revenue and they are source of profitability in fact, a good source of revenue and a good source of profitability.
Then there's the realm of Oems that I would call OEM activity that I would call strategic.
Which are the construction and agriculture agricultural Oems there.
Yes, yes, the source of revenues source of profitability, but the larger.
The larger play for US is to okay get basic capability and let's call. It a basic level software installed in the factory.
So that we can go to the aftermarket.
And sell the ecosystem that goes around it again integrating the machines into the into the Worksite.
So I'd say.
Where we're seeing we've called out the agricultural Oems, Okay. That's the U.S. and argue trade trade policy issue.
Okay that that is impacting the core Oems, but overall the trajectory trajectory on that category of Oems is quite strong.
Yes, the let's call it the opportunistic Oems timing embedded kind of the board level Oems.
Where we're having significant issues in China.
It does yes, we're calling out geo spatial but it's how we define the segment. It does not relate directly to survey instruments and Thats where were we we havent recovered from the levels that we established in the first quarter. So I think there's a there's a dynamic here, but I think again.
It's not the yeah, it's unfortunate.
That there has been a revenue decline in the short term, but it is doesn't really flow over into what I would call anything strategic at this point.
Okay understood.
Just as a follow up you had also spoken earlier about redirecting some of your focus.
Sales focus I guess back into the installed base.
Maybe areas more healthy and just curious what you're doing there and where you think that might be most impactful near term.
Well I think the.
I think the two obvious areas our agriculture.
Because.
And construction.
It was maybe put the emphasis in agriculture as the farmers do not buy new tractors, Okay, and I think it by a matter of arithmetic. The average age of the equipment out in the field in agriculture is getting longer is getting older.
Therefore, the technology on those tractors is getting older and so I think there is a significant opportunity to.
Go go back and say as opposed to making a and expenditure.
So significant expenditure on the tractor make in expenditure at 10, or 15, or <unk> percent or whatever of the tractor, which gets to be a little bit more discretionary even during times of uncertainty and significantly improve your performance I think that is available to us again.
The numbers of tractors out there with trembley technology on it are numbered in the hundreds of thousands so I think that it's a matter of kind of redirecting, it's always easier to sell onto shiny new piece of equipment. So I think we have to.
Double redouble our efforts as a company, but then also get our our third party channel engaged on this but I think theres, an opportunity set and depending how right now construction is going well, but I think the same opportunity opportunity is implicit.
In in construction with maybe a slightly different.
A slightly different argument, but I think the installed base is the potential along.
Potential source of.
Additional revenue for us, we just have to redirect ourselves a bit to get it.
Very good thanks, Thanks for taking the question.
Thanks.
Your next question comes from the line of Jonathan Ho from William Blair. Your line is open.
Hi, Good afternoon could you maybe discuss a little bit I guess, you guys referenced increased funding support for.
Digital construction on I guess, a little bit more color in terms of the trends that you're seeing from constituents that are demanding technology assisted programs and whether you're seeing construction companies actually start to think more about investing around these trends.
Well I think okay kind of breaking your question down into two parts I think our specific reference was to.
Public funding from either the feds or.
Or or the state to state level.
We have okay. We've acted as missionaries to a certain extent for now two to three years fairly actively making the case in Washington, and the state Deo teas, and I think it's beginning to catch catch hold I think is.
The appeal is pretty intuitive I think both of the congressional anthem administration levels.
It's appealing so I think okay, we're starting to see some tangible outcomes from that the new legislation as a clear the environment and public works committee in the Senate.
Okay did have specific language about digital construction in it and so I think that.
The idea here is to provide encouragement for the state the Ts, who would actually be acting out that and I think the the same is true at the state the parties.
Some are more advanced than others, but I think there is a.
A growing enthusiasm now Kate how quickly does that lead to tangible outcomes.
Okay, that's a little.
Less certain but I would say it will be progressive than I think really starting about now so I think theres public funding aspect of it.
But then the other part of your question in General I think again, it's a continuum as progressive but I think.
I think there is we're we're seeing in a fairly tangible way, we're seeing kind of the dialogue with contractors.
Really taking.
Continually progressing in terms of the desire.
For.
For technology and things slow down at all is going to become a competitive necessity. So again no not a consumer product there isn't a magic moment when it takes off but I think it is steady.
Its progressive then, but I think we are getting real traction now and in a way that we havent, we havent ever seen before.
Got it.
Excuse me and then also with regard to.
Potential cost containment initiatives.
Could you maybe give us a little bit of sense, where those might fall within the business units.
Yes, I would break it.
And too.
I think a few categories. So one.
Called discretionary.
The second point I would look at.
Structural on the third it look in the area of in the Cogs. So from a cost of goods sold perspective, okay. It's the usual.
Well I would say on the purchases purchasing side for example, okay. So we recently consolidated some of our cloud spending as a as an example.
If I look at discretionary of course as of the first things you look at in your control and that's all on the let's say travel.
And then from a structural aspect.
You're predominantly looking at things. So you look at headcount that you also look at things like let's say real estate. So if we look at the.
The real estate footprint. We have you know, we're we're consolidating that and you can look at the list of offices and make make moves it.
Now that we should be that we should be working on and then from a head count perspective, we look at it both from an aspect of.
And it's ultimately not the numbers of headed so thats, what we spend on opex and the velocity and productivity you get out of that headcount, but so it's a mix of attrition.
Hiring and location.
As what we try to the equation, we try to optimize among the structural cost side and then when we map those levers to the businesses.
What I would want to communicate is that.
For the.
The software aspects I mean, if you look at the businesses. We don't have a model that says we're going to do a peanut butter smoothing treat everything the same.
That would not be a wise way to manage the business. So let's take the recurring revenue business. For example, there are that's up 20% every year up organically in the low teens, we look at our software engineers and Trimble two thirds of our engineers are software engineers, we will continue to make sure. We're doing the right things to spend and invest in that business. Both on the people in development side as well as.
In the back office systems, and plumbing that will allow us to continue to maintain and scale that growth I think we wouldn't want to let up on that we look at things like subscription conversions that have short term negative impacts. The last thing we would want to do is pull pull that back to manage to a short term optic which would look better in the short term to do nothing so we'll manage in that three or four three contracts to do the right thing.
For the overall businesses and then as you work down the portfolio now you're looking at some areas like Steve talked about whether it's.
Geographically as or product lines or divisions.
That.
Aren't performing to their potential.
Where are let's say the level of patient becomes let's say smaller on a tighter and if the environment is going to prove to be tighter.
Then we know the places to look so it kind of gives you an intersection of where we would look at the portfolio and the levers we would map against map against that and we go through them business by business.
Thank you.
You bet.
Your next question comes from the line of Rob Wertheimer from.
Please go ahead.
Thanks.
Rob you mentioned the R&D work on the transport side of kind of matching up shippers and carriers and we've talked about that in the past.
Obviously, the big revenue industry with some inefficiency that can be wrung out do you have any desire to share a timeframe on when that might.
Become a more interesting opportunity for you guys.
I think you'd be looking into the second half of <unk>.
2020.
Would it would be sort of a place holder to start to see more I'll say tangible revenue per our progress.
We have our users conference that in transportation in September .
In Houston, It's in North America, the largest transportation technology user conference and that's an opportunity.
At that conference, where we will talk about the integrated offerings, we have across the portfolio, we have and how that's beginning to extend into a broader ecosystem that extension into a broader ecosystem isn't really to date is into a needle mover on on the revenue, but we remain.
We have conviction that this is the right place to go strategically with the with the business and I do appreciate that we've been talking about it and so it's a fair question to ask okay. When do we start to see more of the benefits of that work.
No. That's helpful. And then I mean, just for pure clarity, obviously across the economy. The industrial economy Theres been excess inventory, that's getting wrung out maybe you guys have a little bit of extra issue going on in China.
But just in terms of the sentiment in building construction and you know and what people are buying on the software side, whether it's through conversion or license or whatever are you sensing any shift there or is that still steady as she goes.
I heard I heard the comments, obviously on one Q having.
The step down to 8% am I understand that I'm, just looking for the sentiment among your customers on the software side.
Let's say that.
In aggregate the sentiment on the software side is positive of course software sides, where we have the.
That that $1.1 billion of.
There are and Weve look in some of the businesses like we've talked about a viewpoint or rebuild or before that have never in retention ratios above 105.
Percenton those are obviously very good.
Indicators when we look at that we look at the bookings pipeline that we've had in in the in the software businesses, we look at the.
The contracted backlog, which is a reported metric and in the Q that is over I think 1.1 billion.
And there's a good amount of visibility that we would have into that business that's to come and so the delta between what would be on the books and what we aim to what we aim to get her what we commit to get the go becomes that go get revenue and against that go get revenue now you're managing a pipeline.
And as through that conversion into.
Recognized recognized revenue.
So.
In aggregate yeah, we feel good about that you're right, there's a delta versus some of the hardware side and I think you pegged it on the way you characterize inventory.
So.
Those two pieces come come together and then get to the guide we had for the remainder of the year.
Perfect. Okay. Thank you.
This concludes all the time, we have today. Thank you very much for joining you may now disconnect.