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spk01: Ladies and gentlemen, thank you for standing by. Welcome to the Eaton First Corner earnings call. At this time, all participants are in a listen-only mode. If you wish to ask a question during today's call, please press 1, then 0 on your touchtone phone. You may remove yourself from queue at any time by pressing 1, 0 again. If you're using a speakerphone, please pick up the handset before pressing the numbers. If you should require assistance during the call, please press star, then 0. As a reminder, this conference is being recorded. I would now like to turn the conference over to our host, Senior Vice President of Investor Relations, Yan Jin. Please go ahead.
spk12: Hey, good morning, guys. Thank you all for joining us for Eaton's Fourth Quarter 2022 Earnings Course. With me today are Craig Arnold, our Chairman and CEO, and Tom Okre, Executive Vice President and the Chief Financial Officer. Our agenda today, including opening remarks by Craig, highlighting the company's performance in the fourth quarter. As we have done in our past course, we'll be taking questions at the end of correct comments. The price release and the presentation we'll go through today have been posted on our website. This presentation including adjusted earning per share, adjusted free cash flow, and other non-GAAP measures. They're reconciled in the appendix. A webcast of this course is accessible on our website and will be available for replay. I would like to remind you that our comments today will include statements related to expected future results of the company and are, therefore, forward-looking statements. Our actual results may differ materially from our forecasted projections to the wide range of risks and uncertainties that are described in our earnings release and presentation. With that, I will turn it over to Craig. Thanks, Jen.
spk10: Hey, we'll start on page three with highlights for the quarter. You know, overall, I'd say we had a strong start to the year, Q1 coming in modestly better than guidance, despite additional headwinds and commodities in the quarter. We had a particularly strong quarter in our electrical, global, and aerospace businesses, and this enables us to deliver a first quarter record for adjusted EPS of $1.62, a 13% increase over prior year. Our sales were $4.8 billion, up 10% organically from last year, and this was above the high end of our guidance range of 7 to 9 percent. Most of our end markets remained strong with significant strength in industrial, commercial, residential markets for electrical, and commercial aftermarket and commercial OE for aerospace. And our orders continued to accelerate, allowing us to post another record for backlog. For our combined electrical business, orders on a rolling 12-month basis were up 30 percent, and acceleration from last quarter, which was up 21%. And our backlog for electrical was up 76%, compared to up 56% at the end of 2021. Our aerospace business also had a significant increase in demand, with orders on a rolling 12-month basis up 35% organically, compared to up 19% at year end. We also posted a first quarter record of operating margins of 18.8%, which were at the high end of our guidance range and 110 basis points over prior year. So overall, a good quarter with healthy end markets and solid execution in what remains a challenging environment overall. The United States, we're also executing well on our strategic growth initiatives as noted here on slide four. Highlighted here are several new wins tied to the circular growth trends that we're focused on. We talked about electrification, energy transition, and digitalization. Overall, we continue to see an acceleration in each of these important growth drivers and are convinced that we have the right growth strategy. In the interest of time, I'll highlight one of these recent wins, but we're happy to provide more detail on a follow-up call. While we're not at liberty to disclose the customer, we had another very significant win on an energy transition project. This was a very large follow-on order for EV charging stations in the US, where we're providing the full suite of Eaton solutions, including power distribution equipment, energy storages, inverters, control automation, and remote monitoring software. And we continue to work on a number of big opportunities focused on building out the needed electrical charging infrastructure given the explosive growth in electric vehicles. As the world continues to embrace sustainability, our technologies will continue to play a key part of this solution. Moving to page five, we summarize our key financial metrics for the quarter, and I'll just note a few highlights here. First, 3% revenue growth included 10% organic growth, offset by net headwind of 6% from acquisition and divestitures, and this was primarily the Cobham and the Triplight acquisitions offset by the divestiture of hydraulics. Our acquisitions added six points of growth, while the divestiture of hydraulics reduced growth by 12 points. We also had negative effects of 1% in the quarter. Second, with 3% revenue growth, we posted solid operating leverage with 9% growth in operating profits and even stronger adjusted growth, adjusted EPS growth of 13 percent. And third, like last quarter, both adjusted EPS of $1.62 and segment operating margins of 18.8 percent were Q1 records. Now, this strong financial performance we think underscores the power of our portfolio transformation and our ability to execute well under challenging operating conditions. Next, on page six, we have the results of our Electrical America segment. Here, revenues increased 17%, including organic growth of 10%. And just as a comparison, this compares with 5% in Q4 and 1% in Q3. The acquisition of Triplight added seven points of growth. Our organic sales growth was driven by strength in industrial and residential markets overall, And as you can imagine, we're still working through supply chain constraints, which saw modest improvements in the quarter, but remain challenging. Operating margins were 19.1% down 140 basis points from last year. And I'd say this decline was driven primarily by higher input costs and supply chain inefficiencies, and also some increased growth-related investments. We were successful in fully offsetting the expected inflationary costs with price increases on a dollar basis. However, we did not earn incremental margins on inflation, which did compress margins. As you'll see in our four-year guidance, we expect this to improve, and we continue to expect 90 basis points of margin improvement for the full year. Now, as I mentioned in my opening comments, market demand remains strong. We had very strong order growth. Our rolling 12-month orders were up 31%, and this compares to up 20% in Q4. So things continue to accelerate. We had strength across all end markets with a range of up 28% to up 36%. And this led to a record backlog, which increased 86% on an organic basis. And on a sequential basis, we posted a large $1.3 billion increase in our backlog. Moving to page 7, we have a summary of our electrical world of business, where we had another very strong quarter. Organic growth was 18%, with 3% headwind from currency. We saw strength in all regions, with particular strength in commercial and industrial markets. We also generated strong operating leverage, delivering record Q1 operating margins of 19.4% and incremental margins of 36%. Similar to Q4, this included some favorable mix from our exposure to growing industrial end markets, but we expect this to continue. And as we saw in the Americas, orders on a rolling 12-month basis continue to accelerate, up 27% in Q1 compared to up 22% in Q4. We had strength across all end markets with a range of up 22% to up 41%. And I say for the fourth quarter in a row, we continued to grow our backlog by 50% or more and achieved a new record in the quarter. So our electrical global business is very well positioned for continued strong growth overall. You know, just before we move to the industrial businesses, here's a way that, you know, I'd really summarize the performance of our combined electrical business. The business delivered strong organic growth of 14%, built a sizable backlog which strengthens, you know, certainly our outlook for future quarters, and we improved margins by 20 basis points. So on balance, I'd say once again, a strong quarter given the current operating environment. Let's move to page eight where we recap our aerospace segment. As you can see, we delivered very strong results here with revenues up 38 percent. This includes 15 percent organic growth and 25 percent from the acquisition of Cobble Emission Systems and 2 percent currency headwinds. Organic growth in the quarter was especially strong in commercial aftermarket and commercial OEM markets and certainly including business jets. Operating margins were 22.1 percent. up 360 basis points versus prior year, and incremental margins were solid at 32%. Another area of strength was accelerating orders, which we saw rolling 12-month orders up 35% in the quarter, and this compares to up 19% in Q4. We also entered the quarter here with a record backlog on an organic basis, up 14%. And consistent with the broader message of industry recovery, we're currently pursuing 1.3 billion of life of the program opportunities for strategic military and commercial programs, all incremental revenue. So another segment that I'd say that's very well positioned for growth today and for years to come. Next, on page nine, we have the financial summary of our vehicle business. Revenues were up 3%, all organic. We continue to see solid growth in North America aftermarket business and in our South America business, which was offset by weakness in global light vehicle markets. As you've read, this market continued to experience significant supply chain constraints, which certainly impacted revenues in a quarter. Just as markets here begin to see some improvements, supply chain issues tied to primarily the war in the Ukraine had a particularly large impact on this market. These constraints also contributed to operating inefficiencies in our business and a 50 basis point reduction in our operating margins. We're undertaking a number of price and cost-related measures to offset the additional inflation, but it will certainly take some time to get these in place, but certainly something we plan to do before the end of the year. Turning to growth, during our investor meeting earlier this year, we provided an overview of how we're transforming the business by focusing on new spaces and products not tied to the internal combustion engine. And the team is seeing good progress. We continue to see new wins, including a win with a Chinese OEM for our electronic traction control devices. We're also pursuing a pipeline worth $500 million in the annual revenue for our powertrain solutions for leading EV OEMs, once again, all incremental. So I say that we're well on our way to transforming our legacy vehicle business by selling into EV and other new markets. And so this business is performing very much like we expected. Moving to page 10, we summarize our e-mobility segment. Revenues increased 52%, including 7% organic and 46% from the acquisition of Royal Power with 1% negative currency. While still negative, we narrowed the operating loss in the quarter, and then we expect to generate positive margins for the year. And the outlook for this market continues to strengthen. Consistent with what you're hearing, we're actively pursuing some $2 billion of new program opportunities, and this number is really growing every quarter. I'd also note that our acquisition of Royal Power added almost $600 million of pipeline opportunities focused on their innovative solutions for terminal connectors, and high-voltage bus bars. As a reminder here, our area of focus in e-mobility is around power distribution, power conversion, and power protection. And in the area of power protection, we had previously announced that we're using our break door technology with a major European OEM manufacturer. That customer just awarded Eaton with significant additional volume as they're expanding the use of our innovative technology to more of their vehicle platforms. And so once again, another segment where things are progressing very much in the way that we anticipated. Now let's turn to page 11, where we summarize our updated organic revenue and margin guidance for the year. Overall, and I'd say despite uncertainties in the broader macro environment, we continue to experience strong demand in our end market. We're increasing our guidance on organic growth for all segments, which results in Eaton's total organic growth stepping up from a range of 7% to 9% to now our expectation of 9% to 11%. This growth outlook, I'd say, is easily supported by our ongoing growth in orders and growing backlog. For margins, we're reaffirming our four-year guidance for Eaton at 19.9% to 20.3%, which represents 120 basis point increase over 2021 at the midpoint. Note, you know, while we've increased organic revenues, we're maintaining our margin outlook. And I think this is largely due to additional inflation that we've experienced in the year and expect to see for the balance of the year. We continue to increase prices to offset inflation, but I'd say we're experiencing kind of a normal timing impact and not getting a normal margin on top of inflation. Within electrical, we're reaffirming our margins for electrical Americas and increasing the guidance range for electrical global by 10 basis points. We've also increased margins for our aerospace business by 20 basis points and the mobility by 50 basis points. You know, these three segments are offsetting the lower margins that we're now expecting in our vehicle business due to margin compression from the new wave of inflation that we experience in the quarter and expect for the year and some inefficiencies as well in our operations. But at the midpoint, we expect to deliver record margins and to be north of 20% for the first time in Eaton's history. So on balance, a very strong year. Turning to page 12, we provide the balance of our guidance for the year. We're raising our 22 guidance. on adjusted EPS to between 732 and 772, which is 14% growth at the midpoint and reflective of what we think is going to be a strong year. We're increasing our organic growth, as we talked about, from 9% to 11%, and this is partially offset by $250 million of negative currency compared to our original guidance where we thought currency would be flat for the year. So if you think about it, we're also offsetting approximately 10 cents of headwinds from negative currency in our earnings. But for the new FX headwinds, we'd certainly be taking our guidance up more than we did today. And we did complete $86 million of share repurchases in the quarter, and we're on track for a four-year guidance of $200 to $300 million for the year. Lastly, our Q2 guidance includes adjusted EPS forecasts between $1.78 and $1.88 for Q2, organic revenues growth between 9% and 11%, negative currency we think will be $75 million, and 8% net revenue impact from M&A. For segment margins, our Q2 guidance is 19.1% to 19.5%. which is a sequential improvement of 50 basis points at the midpoint from Q1. And if you adjust for the 10 cents headwinds from M&A, our year-on-year EPS growth in Q2 would be 12%, so roughly in line with our full-year guidance for the year of 14%. Lastly, on page 13, I'll summarize by making here just kind of a few closing comments. As many of you heard at our investor day, and as I highlighted at the start of the presentation, we continue to experience accelerating growth in our end markets. These secular growth trends are really playing out very much the way we anticipated, and it's really underpinning our strategy as a global intelligent power management company. We're delivering key project wins, for sure, that are also accelerating our growth rate. These two revenue drivers are certainly showing up in our order book and growing backlog. So very much just a case of markets inflecting positively. And despite high inflation and supply chain challenges, we're growing our margins. I would also point out that based upon our Q1 actuals and Q2 guidance, we expect to generate 46% of our full-year adjusted EPS in the first half, And this is in line with our historical averages for first half earnings. So as the global economy continues to face, you know, unprecedented number of challenges, I'd say you can count on our team to continue to execute well to deliver our commitments in both the short and the long term. So with that, I'll turn it back to Yen for Q&A.
spk12: Okay, great. Thanks, Craig. Now it's time for the Q&A. I'll turn it over to the operator to give you guys the instructions.
spk01: Certainly, ladies and gentlemen, if you wish to ask a question, please press one then zero on your touchstone phone. You may remove yourself from queue at any time by pressing one zero again. If you're using a speakerphone, please pick up the handset before pressing the numbers. Once again, if you have a question, please press one then zero at this time. We'll go to the line of Josh with Morgan Stanley. Please go ahead.
spk13: Hi, good morning, guys.
spk01: Morning, Josh.
spk13: Craig, you've been in this kind of accelerating order environment now for, you know, call it the last three quarters where maybe supply chain is kind of limiting what you can be able to deliver. And the world's changed quite a bit over that time, especially the last quarter or so. What's the composition of the order book look like? And I guess what I'm trying to get at is have you seen sort of a progression or handoff from some of the more early cycle stuff to maybe later cycle or, more resource industries, or is it just kind of a healthy mix of everything where it's harder to tease out what leadership is?
spk10: Yeah, I appreciate the question, Josh, and it certainly has been a period of time where I'd say we're really seeing broad-based order strength, and as you know, we would typically highlight strength in particular in markets, but quite frankly, we're seeing strength across the board, and it's why we talked about, for example, In our Electrical Americas business, we said we have a range of strength at the very low end, up 28%, at the high end, up 36%. The same thing is true in our global business, where we said at the low end of the increase, it was 22%. At the high end, it's 41%. So as you can imagine, I mean, this is very broad-based strength across just about every end market that we serve. So things... today, I think, are very strong across the board, and it's tough to really find much in the way of differentiation between some of these end markets because the numbers are just that good.
spk13: Got it. Maybe just a follow-up more specifically on the relationship there with price. So I know there's a lot of factors driving orders right now, and you mentioned some of them just through broad demand, but I would have to think that Some of that comes from customers wanting to get ahead of price increases. And it seems like, just listening to some of your peers out there, that the pace of those increases is starting to kind of subside. What would be your observation on kind of that relationship between orders and folks getting out ahead? And have you noticed anything in your own book here in 1Q as maybe there hasn't been quite the same rate of increases as you saw maybe second half of last year?
spk10: Yeah, I'd say, you know, and this is one that we, you know, we spent a lot of time, Josh, and, you know, really trying to get a sense for, you know, showing ourselves, you know, first and foremost, that all of these orders are real. And, you know, we're largely in the project business where we can say that the orders that we're taking are all tied to project. Now, are we getting some of these orders perhaps maybe a little earlier in the process, project process in terms of the cycle? There could be a little of that taking place for sure. So to the extent that we're getting some benefit from seeing orders earlier in the project, that's certainly maybe giving us a little bit of a lift. A lot of our business, as you know, also goes through distribution. And I can tell you in the distribution channel, with almost no exception, they don't have as much inventory as they'd like. And inventory levels today are below levels that they'd like to support their future outlook for the business overall. And so I do think this is just a broad base strengthening in many of our end markets. To your point on price and, you know, are things slowing down, I think it's really a function of what your call is on inflation. I'd say that certainly coming into the year, we anticipated that, you know, inflation would moderate. And as a result, there'd be fewer price increases that we were putting forth during the course of 2022. But yet what we saw in Q1 is we saw commodities, for the most part, increase. And so we, like others, certainly are back in the market again, taking prices up to deal with the latest round of inflation, some of which is obviously being driven by what's happening in the Ukraine, some of which being driven perhaps by another wave of shutdowns that are taking place in China. But I would say that for the most part, certainly we are seeing more inflation this year than we anticipated, and at this point, I'd say it's too early to call on whether or not it is fundamentally slowed down at this point.
spk12: Perfect. Thanks for the call. I'll leave it there. Sure. Thank you.
spk01: Next, we have a line of Joe Ritchie with Goldman Sachs. Please go ahead.
spk02: Thank you. Good morning, everyone. Good morning, Joe. Craig, could you maybe just touch on margins for a second? You have a really good start to the year when you take a look at the guidance, the updated guidance for the year. The one segment that probably has the most wood to chop, I guess, in terms of getting within the range is electrical Americas. So just help frame how much of this is either additional price coming through, supply chain easing, better volume leverage. How do we get from that low 19 percentage range to what the guidance is for the year?
spk10: You know, I appreciate the question, Joe, and I can tell you, you know, one, we have a high level of confidence that Electrical Americas will absolutely deliver the guidance for the year. And what we've been chasing, as you can imagine, you know, for some time now, is we have been chasing commodities with price. As I mentioned a moment ago, we did anticipate coming into the year that inflation would have abated somewhat, and we ended up taking more inflation in Q1 than we anticipated. And so we've obviously had to go to the market for additional price. And so if you think about the back half of the year and going into subsequent quarters, we're going to have a better relationship between price and inflation. And the other thing that we certainly have seen in our America's business, we've seen a lot of inefficiencies associated with kind of supply chain disruptions. As you can imagine, if you're missing one small component, you have a bunch of people standing around in factories not able to complete assemblies that drives, you know, fairly material inefficiencies in your operation. And so we do anticipate, as we look at the back half of the year, although we're not looking for a dramatic improvement, we are expecting some modest improvements in supply chain. And we are expecting, you know, quite frankly, deliver better price versus cost in terms of commodities in the back half of the year. And those would be the two principal factors. things that will allow us to increase margins. The other big piece is volume is increasing, right? So certainly look at Q1, it's always the lowest quarter for our electrical America's business. And so there'll be naturally some margin lift on simply, you know, the higher volumes that are going to come based upon the seasonality of the business.
spk02: Makes sense. That's helpful. And then just, um, Maybe just a broader question. So fully recognize your order rates have been really good and continue to accelerate. And to Josh's question earlier, the environment has changed. I'm just curious, from your perspective, how do you see this all playing out in Europe? There's a lot of concern around demand rationing, China with the lockdown. Just help us kind of I'd love to get your perspective on how you think things will play out over the coming quarters.
spk10: Yeah, and I'd say that I wish I had a crystal ball to really give you kind of a better than an educated guess on the way we see things playing out. But our business certainly in Europe, we don't have, number one, very large exposure. to Russia, Ukraine, that's an immaterial piece of our revenue overall. And so we don't think we're going to see any material impact at all from a direct standpoint in terms of what's happening. We do have some supply chain, largely as we talked about in our vehicle business where we're seeing the biggest impact, as you know as well. It certainly will have an impact on the semiconductor industry potentially. You know, so I'd say at the micro level, We think it's very manageable in terms of what the ultimate impact will be on our business. On the more macro level, in terms of the geopolitical and trade sanctions and the like, that one I think it's quite frankly just too early to make a call on what the downstream implications are gonna be in terms of sanctions. As you know, Russia today is a very small part of global GDP, so I don't think once again having a decoupling of Russia from the global economy will have a material impact on our end markets or our business. It just really becomes, you know, the sanctions and whether or not it does anything in terms of underlying business confidence and their willingness to make investments. But I can tell you so far, I mean, things have held up, as you saw in our order book, extremely well, and we've not really seen any slowdown at all related to the war in Russia and the war, excuse me, in the Ukraine. And at this point, as a company, like we always do, we think the key is you have to be agile and flexible and be willing to make adjustments as needed as the situation unfolds.
spk01: Okay, thank you. We'll next go to the line of Steve Volkman with Jefferies. Please go ahead.
spk07: Hi, good morning, guys. Thanks for taking the question. My question is also kind of related to the backlog in electrical, obviously very impressive. But at the same time, Craig, you've talked about raw materials sort of re-accelerating. So I'm curious sort of how we handle that, those two things together in terms of, you know, do you have some ability to reprice backlog if you need to? Is that something that you're pushing more as the cycle progresses or is You know, is there potentially a little risk if inflation continues to move up?
spk10: Yeah, no, I appreciate the question. And I'd say that, you know, while it's not something that we do often, and we obviously think long and hard before we would do it, but we have had to reprice the backlog in some cases. It's something that we went through in Q4. And I'd say that today what's baked into our guidance is very much manageable and in terms of our expectation around inflation and price. And obviously, we tried to anticipate some of this as we think about the next wave of price increases that are going in. And so as we sit here today, we don't have an expectation of needing to reprice the backlog. It's fully baked into our guidance and our plan. But I'd say that in the event that we ended up in a situation where things got materially worse in terms of commodity input costs, It's something that we've done in the past and we would be willing to do again, but at this junction, we don't think we need to. We think we have a plan that makes good sense and it's fully baked into our guidance that commodities essentially stay at these relatively high levels. We're not anticipating that commodity costs retreat in any material way in the back half of the year. If we do, that's upside, but that's not our base case.
spk07: Understood. Thank you. And somewhat unrelated, e-mobility seems to be progressing well. And I'm curious now that we're a ways into this, are you still convinced that having e-mobility and vehicles sort of under the same umbrella, as it were, is a competitive advantage? Are there some data points or anecdotes that might suggest that that's part of the success in e-mobility is having a vehicle business?
spk10: No, that's very much still the case, Steve, from our perspective. From the very fundamental idea that says they're all the same customers. And so we have a seat at the table. We have a reputation. They know us. We know them. We know the application. And that's always been our thesis around why we thought we had the right to win in e-mobility. One, because we know the customers, the markets, and the applications. And secondly... it's essentially electrical technology. And so we come at it from both a customer intimacy standpoint and an application intimacy standpoint by virtue of our legacy precision in vehicle, and we come at it from a technology standpoint given our heritage on the electrical side. And it really is this connection on both sides of the house that we think gives us the ability to win in that market. If you think about this brake tour win that we talked about in our e-mobility business, I mean, that's largely technology that was first created in our electrical business, then taken and lifted by the e-mobility team, modified for a vehicle application, but the origins of that technology actually came out of our electrical business. And so we do think the synergistic nature of what we do as a company is what gives us the right to win in the e-mobility space.
spk07: Super. Thanks a lot.
spk01: Thank you. Our next question will come from the line of Andrew Olben with Bank of America. Please go ahead.
spk15: Yes. Hi, Craig. How are you?
spk01: Hey, Andrew. Good.
spk15: How about yourself? So just a big picture question. So structurally, right, I mean, I think most multis this quarter actually had negative volumes, right, despite price being very positive. We had negative GDP. So structurally, what do you think needs to happen with the U.S. supply chain to de-bottleneck it? And what do you see actually happening among your supply chain? And how long do you think it will take to sort of normalize things? And what are the key bottlenecks as you see them? I know it's a big sort of picture question, but would love to pick your brain here. Thank you.
spk10: Yeah. Yeah, no, I say that, and as you rightly point out, Andrew, the U.S. has been an outlier. We have not experienced anywhere near the same level of supply chain disruptions in our European or Asia business. And I do think that so much of the challenge in the U.S. is that U.S. companies, ourselves included, have really relied very much heavily on global sourcing in our operations that has obviously created greater interdependencies in terms of supply. We in the U.S. had some of the unique issues around labor and some of the port congestions. We also dealt with, as the world did, these pretty significant downturns in the markets associated with COVID, and then a very strong V-shaped recovery that has continued. And so in many ways, it's been a perfect storm with respect to creating challenges for global supply chain businesses like our own. You know, so I'd say, you know, so what's happened since, I mean, clearly you've read about and there's lots of discussion and work going on around, you know, certainly nearshoring, reshoring of manufacturing in the U.S. I think you're going to continue to see more of that. And that'll certainly benefit Eaton given our relative outsized position in the U.S. market. I think you have a lot of companies, ourselves including, who are really looking at their supply chain resiliency in general. And there'll be, in many cases, some dual sourcing to create additional redundancy in supply chain. So if we end up having to go through another event like this, that we can absorb the shock a little better than we did this time around. And so I do think that this event, and I don't know if it's a black swan event or not, but it certainly has forced companies to really take a hard look at their supply chain resiliency and whether or not we have enough, you know, capability to deal with shocks in the system without fundamentally shutting down our businesses. And so there's going to be, as a result of that, we think also good for Eaton. I think there's going to be more investments in facilities and plants and factories as companies continue to build out some redundancy in their capability and build more local sourcing into their supply chain.
spk15: And just a follow-up question. You did sort of highlight that you see strength across the board, but can we talk about on the utility side, you know, clearly more talk about renewables. We have stimulus. Are you seeing any projects start to get into the pipeline tied to U.S. or European stimulus there?
spk10: Yeah, I'd say tied to stimulus dollars Certainly, we're seeing a lot of activity, a lot of, I could say, projects in this discussion phase. I don't know today, Andrew, if we've seen material dollars from stimulus that have started to flow yet. We really think that's more of an end of 2022, 2023 kind of impetus for the business more than we're seeing in our business today. I think what we're seeing today largely in and around utility investment is really much more tied to grid resiliency. It's much more tied to the fact that aging infrastructure. It's much more tied to the increase in electrification, much more today than it is tied to the direct stimulus dollars. But that's clearly coming.
spk15: Thank you very much.
spk01: We'll now go to the line of Nigel Coe with Wolf Research. Please go ahead. Thanks. Good morning.
spk06: Good morning. Morning, Craig. So I want to come back to America's margins. So the 1Q margin was actually pretty flat with 4Q. And I think I'm right in saying that normally 1Q would be weaker than 4Q. So I take that as a positive sign that things have improved there. What would you say is driving that improvement primarily? Is it price-cost? Is it productivity, be it labor or kind of the sequencing of materials in? Anything to help us on that sort of improvement sequentially? And then can we then think about America's margins doing the normal sequential uplift from 1Q to 2Q?
spk10: Yeah, I appreciate the recognition on that, Nigel. I mean, you're absolutely right, by the way. Q1 has historically always been a down quarter for electrical. A lot of that is volume-related. And what we've seen historically in the business, we typically see a seasonal volume reduction in Q1 versus Q4. And as a result, margins on a decrement basis go down. And we are pleased the fact that they actually held up nicely in this Q1. But the biggest difference between, I'd say, the overall profitability level largely is we're doing a better job of managing price costs overall. We did, in fact, in Q1, while still not out of the woods, we did see a little better performance supply chain performance in Q1 around certain commodities that actually got a bit better in the quarter. And so I think it's really those two things, better price cost achievement in the quarter and a little better supply chain performance from our suppliers.
spk11: Yeah, included in the price cost is how we're taking cost out of our direct material and our logistics as well. And to come back to the other part of your question, yes, you can expect to see margins improving in Q2 versus Q1.
spk06: Great. Thank you, guys. And then my follow-on is aerospace. You took up aerospace by two points for 2022. Maybe just talk about that, what drove that. And I'm particularly interested in the outlook for defense because that was obviously a problematic end market in your 2022 outlook. So wondering if, you know, given the, you know, kind of the good news, or that's not the right word, but given the improvement in defense budget outlooks globally, you know, are you starting to see some of that benefit coming through in the back half of the year?
spk10: Yeah, I appreciate, you know, once again, that call out as well. And aerospace really did have a very strong quarter and delivered, you know, very strong profitability overall. And I think in aerospace, really it functioned largely of, you know, Where are we getting the growth? I mean, aftermarket, as you know, and aerospace had been depressed over the last number of years. And so we saw very strong growth in the aftermarket side of the aerospace business. And aftermarket, as you know, carries a much higher profitability. And we certainly would expect that to continue as we look forward. We also, in aerospace, like in our other business, did a better job of managing price versus input costs and getting price to offset inflation, which was very helpful for the business. And then to your point on defense, I say defense spending largely, we're looking at a year today where it's on average flat to maybe up slightly. And we really think that the defense budgets, as you think about the fiscal 23 defense budget for the U.S. and around the world, certainly influenced, we think, also by what's happening today in the Ukraine. We think budgets are going up on the defense side of the business. And so we had a base case assumption of what we thought defense markets are going to look like over the next number of years. And we think that number is certainly going up, given already public proclamations from many governments around the world around them increasing their defense spending. And so we think the aerospace outlook, although you hate to benefit from these kinds of events in the world, but we certainly think defense spending is going to improve as we go forward. But it's largely going to be we think a 2023 story more than this 2022.
spk01: Great. Thanks, Greg. We'll now go to the line of Scott Davis with Mellius Research. Please go ahead.
spk03: Hi. Good morning, everybody. Just, Greg, on the topic of aerospace while we're there, are the airlines starting to rebuild inventory and spare parts? Have you seen that occurrence?
spk10: Yeah, I mean, the short answer is yes, and that's part of what's driving the strong growth that we're seeing in our aftermarket business, so absolutely.
spk03: Okay. That's helpful. And then going back to kind of the early prepared remarks, you talked about this EV charging contract that you got and the different SKUs that you supplied into it. What do you not getting, meaning, you know, are there – Are there key components that, you know, could you potentially handle the full project? Will it ever get bid out that way on a full project basis as opposed to buying componentry? Or how do you see that playing out, I guess, is an open question. Thanks.
spk10: Yeah, and thanks for the question, Scott. I mean, as you can imagine, I mean, there's just really large opportunities, you know, by various customers and different parts of the platform, and so, yeah, we're winning content, and we're also passing on content as well, because we don't think it's going to deliver the returns that we expect as an organization. We're focused, as I said, on how do you distribute power, how do you convert power, and how do you keep it safe inside of the car. And so we are certainly being selective, I'd say, in terms of where we think we can participate in this growth in EV. We talked about You know, this goal that we set, you know, for creating a new leg inside of the company and the revenue goals that we set, that number could actually be much higher if we were going to be kind of less discriminant in trying to participate in every opportunity that's out there. So I'd say that, you know, this kind of $2 billion to $4 billion number that we put out there is really taken into consideration that we think there's going to be places where we have technology that allows us to differentiate to offer real value to the customers. And there's going to be other elements of what's happening in electrification that's more commoditized. And we're going to stay away from the commoditized stuff and really focus on the places where we offer a differentiated technology-based solution. And those are the kinds of programs that we're winning. Those are the kinds of programs that we want to win.
spk03: I was asking specifically about the charging contract, not the EV platform. Oh, the charging contract.
spk10: Okay.
spk03: Yeah, is it the same answer?
spk10: Okay. Yeah, so that's also true, but I was thinking you were talking about the e-mobility win specifically. No, I'd say on the charging contract specifically, you know, as I talked about, it was, you know, unfortunately we're not at liberty to disclose the customer's name, but it's one of the big names out there who today is helping build out, you know, the nation's charging infrastructure as the world moves to EVs? And once again, I'd say that that answer largely applies. I mean, there are going to be clearly parts of what's going to happen in the context of charging infrastructure where there's going to be essentially a charger that doesn't have embedded intelligence, where it doesn't require a lot of sophistication around the way you manage the load, the energy required, the energy consumed, how you balance the load. You know, let's call that, you know, dump charging, if you will. You know, there's, you plug it in and there's electrons flow and it doesn't really require much intelligence in between. And so we're really not today participating in that end of the market. The places where we've decided to compete is where it really does require a fair amount of sophistication in terms of understanding, you know, what's happening behind the meter and how much electricity is available. where you typically have multiple vehicles plugged in at the same time, so you have to make sure there's enough electricity available, and you have to actually manage the charging in a very intelligent way. And that's where we, once again, think we bring the most value to the table, and that's where we think we can make decent returns in that business.
spk03: Okay. Thank you for clarifying, Greg. Good luck. Appreciate it.
spk01: Thank you. We'll now go to the line of Julian Mitchell with Barclays. Please go ahead.
spk14: Hi, good morning. One number that stood out to me from the release was the negative free cash flow in the quarter. I think that's pretty unusual for Eaton. So maybe just help us understand kind of the confidence in that full year free cash flow guide. I think the inventories are up sort of 40% year on year. So how do we think about those leveling out And just to make sure that you're still sort of very confident that the inventories that you are very, very high, but the inventories that everyone you sell into and through are very, very low.
spk11: Yeah, appreciate the question, Julian. Prudently, we invested in working capital in Q1 for a number of reasons. One is to really protect the strong growth that we're seeing. Another factor in that is the supply chain constraints, wanting to make sure that we can serve our customers properly. We've also got a dynamic where we have an elevated amount of work and process inventory where we're waiting for individual components. And then the final aspect is, you know, we just have inflation and that's driving up the cost of the inventory. As you saw in the prepared remarks, we remain committed to our guide on operating in free cash flow, and we expect cash flow to get better throughout the year.
spk14: Thanks. And then just on the point on sort of firm-wide operating margins, so I think a lot of industrial companies are guiding for a big year-on-year improvement in operating margins in the second half, largely due to price-cost dynamics. I think for Eaton, it's very, very level loaded. You're up, I think 110 bits in the first quarter. You're saying the year's up one 20. Um, so just trying to sort of gauge, you know, I think you're saying that price cost dynamics improve for you as well, but it doesn't seem to be embedded in that margin rate guide. Is there any sort of specific headwind kind of coming the other way? I know aerospace has a tough margin comp in the fourth quarter and that kind of thing. Maybe just any sort of help around that margin guide.
spk10: You know, the way I think about it, Julian, in general, you know, there's still, as you guys know, as well as us, there's still a lot of uncertainties out there in the marketplace. And, you know, whether it's supply chain, whether it's COVID related shutdowns that are going on in China, you know, whether it's, you know, the downstream implications of the war in the Ukraine, there's a lot of uncertainty that still exists in the marketplace. And so, given where we sit today, we just think it's prudent to say that, you know, let's be a little bit on the cautious side with respect to, you know, the outlook for the back half of the year. I mean, the reality is, if we end up with a better supply chain environment, if, you know, The lockdowns in China resolve themselves more quickly than we anticipate that they will. If the impacts of the war in the Ukraine are more contained than perhaps they are right now, there could be certainly upside in the back half of the year. We just think at this juncture, it's really not prudent to make those assumptions. And so we put in place a forecast that we think makes sense. in the context of the current economic environment and the global political environment that we're dealing in.
spk11: And just to reinforce something that's in the prepared remarks, which you noted, which is a very good thing, we don't have a hockey stick plan. We don't have a back half loaded plan. We're 46% in the first half. We're 54% in the second, which is consistent with what we've done in history.
spk14: That's helpful. Thank you.
spk01: We'll next go to the line of Dean Dre with RBC Capital Markets. Please go ahead.
spk04: Thank you. Good morning, everyone.
spk01: Good morning, Dean.
spk04: Can you comment on inventory in the channel, specifically distributor inventory? Where does that stand?
spk10: Yeah, I'd say I mentioned that briefly in my comments in response to another question. I think today, Dean, every conversation I'm having with our distributor partners is that They all want more. I mean, today inventory levels from where they sit are not where they'd like them to be. We continue to have, you know, challenges around, you know, today supporting, you know, all the demand. That's one of the reasons why, you know, certainly our backlog is growing the way it's grown, you know, principally in our electrical businesses. And so I'd say today inventories in the channel are in better shape than they want them to be in with respect to they don't have enough. And so, you know, at this juncture, I'd say we keep testing for that and make it to ensure that there isn't double ordering taking place and ensuring that people aren't putting provisional orders in the systems to, you know, get their place in line. But I can just tell you today, based upon where inventories sit, you know, in respect to the outlook for the year, inventory levels in the channel today are below and in some cases well below where they'd like them to be.
spk04: That's helpful. And then on infrastructure spending, are you starting to see any initiatives around like grid hardening, burying power lines? Has that started to show up in bid activity?
spk10: I'd say it's still early days, Dean, and we think it's another place where it's certainly needed. We think it's coming. But I'd say today, even around the margins, utility markets, I'd say, like our markets in general, are performing well. How much of that is tied specifically to grid hardening? How much of that's tied to energy transition? You know, tough to really say and bifurcate the two. But I'd say today we are certainly seeing strength in utility markets, very much like we are in our other end markets as well.
spk04: Great. Thank you.
spk01: Next, we'll go to the line of Jeff Hammond with KeyBank. Please go ahead.
spk08: Hey, good morning, guys. I just had one quick follow-up. You know, Craig, you gave some color on kind of what's different between global and America's around supply chain and labor, but anything else in there around, you know, if you look at just the global margins versus America's in terms of momentum around, you know, mix or where they are on price-cost or, you know, structural opportunities, you know, globally versus Americas.
spk10: Yeah, I'd say really not much to add, Jeff, to what we said. I mean, clearly, as we talked about the global segment, we're certainly getting a benefit from a better mix as industrial markets continue to rebound, as the Krause-Heinz business, global Krause-Heinz business continues to rebound, coming back to more historical levels of profitability. That's certainly helping profitability in global. As I mentioned, once again, they're seeing less inflation in commodities. They're seeing fewer supply chain disruptions, so fewer operational inefficiencies in their facilities as well than the Americas business. And so that's also part of the story of, I'd say, more of what's holding the Americas back, why it's not even better than it is right now. But no, I don't really think there's anything else going on. And certainly, if you take a look at our outlook for the year, we fully anticipate that the America's business margins will be up some 120 pips this year, and so it's going to be a good year. Okay. Thanks a lot, Craig. Sure. Thank you.
spk01: We've got a line of Brett Lindsey with Mizuno. Please go ahead.
spk09: Hi. Good morning, all. Thanks. First question is just on backlog and revenue coverage. Obviously, backlog continues to build here. Given the project nature of your businesses, I'd imagine you have some visibility on timing. I'm curious, of the current backlog, how much ships this year versus 23? And are you starting to book orders for 2023 at this point?
spk10: Yeah, I appreciate the question. And as I mentioned in some of my commentary, we are today, with respect to backlog, seeing some earlier orders perhaps on some projects than we would typically see them. But I'd say most of what we're experiencing in the backlog is fundamentally strengthening in the markets. The markets are strong, and that's largely what's driving the backlog. We are today in the backlog. There would be some orders that will certainly ship in 2023. Some of those are planned for 2023 for certain. But I'd say, by and large, the backlog coverage is as good as it's ever been in the history of the business. And so we have better visibility today into what's required when than we ever have and don't feel like there's much in the backlog today that would be in any way a double order or not tied to a very specific project that we've somehow won in the marketplace.
spk09: Yeah. Okay, great. And then just my follow-up on the EV charging stations, is there a way to frame Eaton's content per site and what that profitability looks like as those wins ramp? And then was that booked in the quarter or was it in April?
spk10: No, that win was, the one we talked about specifically, was in the first quarter. What we try to do is be pretty clean with respect to orders. And so anytime we talk about an order booked, And on these calls, it'll always be in the context of the order, the quarter that we're talking about. But I think in terms of the profit, you know, the profitability of those businesses, I think it's really, it's early, right? We're still in the early stages fundamentally of, you know, the build out the electrical charging infrastructure in general. But I say, you know, we have an expectation in the company and we have a standard in the company around what an attractive business looks like. And as we think about the way we bid projects and programs and the margin expectations, we have no reason to believe that the margin expectation in EV charging infrastructure will be any different than the underlying profitability for our electrical business.
spk09: Okay, great. Appreciate the answers.
spk01: Okay, thank you. And our final question will come from the line of Phil Buller with Berenberg. Please go ahead.
spk05: Oh, hi. Good morning. Thanks for fitting me in. Just on the topic of Q2, I think, Craig, you answered some of this in Julian's question. You were referencing that there's a lot of uncertainties out there which you appear to have baked into a relatively conservative margin guide for the course of the year. But I guess I'm just a little surprised that the Q2 top-line guide is as strong as it is, 10% organic at the midpoint, just on a gut feel type basis, feels pretty high given all of those uncertainties that are out there. So I was hoping you could just expand on what the Q2 planning assumptions are. You know, is it equally broad based or are you particularly bullish or potentially cautious on one specific end market or another, be that residential or industrial? Or perhaps there's some specific geographies that we need to be calling out. I'm thinking of places such as China. Thank you.
spk10: You know, I think it's, I mean, as we think about the Q2 revenue guide at 10%, we don't think that's in any way an aggressive number. If you take a look at the growth in the backlog, the growth in orders, that number could quite frankly be much higher if we had the ability to ship and satisfy all the demand that we're seeing in our businesses today. We are banking on the fact that we are going to see some modest improvements in supply chain and availability. But no, that growth number is in no way an aggressive number in the context of the real underlying demand that we're seeing in our businesses. So we're very comfortable with growth number in Q2.
spk05: That's great. And just to follow up, just not wanting to labor the point, but to be clear, the order strength that we're seeing, we shouldn't be attributing – much of that growth to the giant project type orders that you called out, the EV charger, EV OEM charger type project. That's a big deal, a big project, but it's not the predominant driver of the order momentum we're seeing. It really is quite broad-based.
spk10: No, I appreciate the question, but the way the electrical industry works and the business works, all of these projects tend to be, in the scheme of the total business, relatively small. And so, no, it's We're seeing it as that. So that's why one of the reasons we tried to give some color around the strength in end markets. If you think about today, we talk about we serve commercial, we serve utility, we serve resi, we serve data center, we serve MOEM, we serve industrial. So we serve all of these end markets. And I talked about in the Americas a range of growth in these end markets from 27% on the low end right, to 36% on the high end. So every one of these markets are doing, you know, very well right now, and none of our order growth would be tied to any particular one project. You know, the only piece that tends to be a little lumpy is sometimes data centers is lumpy. When the hyperscale guys come in, we've talked about that on some earlier calls. Sometimes they'll come in with some lumpy big orders, and sometimes they'll take a quarter off. But for the most part, we're seeing this broad-based strength.
spk12: That's great. Thanks, guys. Okay, great. Thanks, guys. We're reaching to the end of the call. As always, Chip and I will be available to do any follow-up call with you guys. Appreciate everybody joining us today. Thanks.
spk01: Ladies and gentlemen, that does conclude your conference for today. Thank you for your participation and for using AT&T Event Conferencing. You may now disconnect.
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