Illinois Tool Works Inc.

Good morning. My name is Julianne and I will be your conference operator today. At this time, I would like to welcome everyone to the conference call. All lines have been placed on mute to prevent any background noise. After the speaker's remarks, there will be a question and answer session. If you would like to ask a question during this time, simply press star followed by the number one on your telephone keypad. If you would like to withdraw your question, please press the pound key. For those participating in the Q&A, you will have the opportunity to ask one question and if needed, one follow-up question. Thank you. Karen Fletcher, Vice President of Investor Relations, you may begin your conference.

Okay, thank you, Julianne. Good morning, and welcome to ITW's second quarter 2020 conference call. I'm joined by our Chairman and CEO, Scott Santee, and Senior Vice President and CFO, Michael Larson. During today's call, we will discuss ITW's second quarter 2020 financial results and provide an update on our strategy for managing through the global pandemic. Slide two is a reminder that this presentation contains forward-looking statements. We refer you to the company's 2019 Form 10-K and subsequent reports filed with the SEC for more detail about important risks that could cause actual results to differ materially from our expectations, including the potential effects of the COVID-19 pandemic on our business. This presentation uses certain non-GAAP measures, and a reconciliation of those measures to the most comparable GAAP measures is contained in the press release. Please turn to slide three, and it's now my pleasure to turn the call over to our chairman and CEO, Scott Santee.

Thank you, Karen. Good morning, everyone. While things are far from normal for any of us or our businesses at present, I'm extremely proud of how the ITW team is managing through the unprecedented and challenging circumstances brought about by the pandemic. I want to begin by sincerely thanking my ITW colleagues around the world for the effort, dedication, and selflessness that they continue to demonstrate daily in protecting the health and safety of their colleagues while continuing to serve our customers with excellence. As I have said many times, the power of the ITW business model and of our decentralized entrepreneurial culture are never more valuable than during times of significant and rapid change. And we are leveraging both to position the company to participate across a wide range of recovery scenarios while continuing to execute on our long-term strategy to achieve and sustain ITW's full potential performance. Over the last seven years, we have made significant progress in executing our strategy to take full advantage of our unique strengths to clearly establish ITW as one of the world's best performing, highest quality, and most respected industrial companies. And in doing so, building a company that has both the enduring competitive advantages and the resiliency necessary to deliver consistent upper tier performance in any economic environment. Well, needless to say, the resilience component of that equation is now being tested in ways that were hard for many of us to even imagine six to seven months ago. And as evidenced by our second quarter results, this company and our team of over 45,000 dedicated professionals are rising to the challenge. In the second quarter, in the face of an unprecedented 29% decline in revenues, ITW delivered $449 million in operating income, $681 million in free cash flow, and operating margins of 17.5%. We leveraged our flexible cost structure to reduce operating expenses by more than $140 million without any centralized cost takeout mandate from corporate, while providing full compensation and benefit support to every ITW team member, sustaining investments in key long-term growth strategies, and positioning for full participation in the recovery. As we outlined during our first quarter earnings call, We have an integrated four-pronged strategy for managing the company through the pandemic. Protect and support our people, continue to serve our customers with excellence, maintain our financial strength and strategic optionality, and win the recovery. These four priorities comprise the central near-term planning and execution focus for the whole of ITW and for every one of our operating divisions. We'll come back to them at the end of our presentation, but first let me turn the call over to Michael, who will provide you with additional detail on our Q2 performance. Michael, over to you.

Okay, thank you, Scott, and good morning, everyone. Let's turn to slide five. As Scott mentioned, priority number three for managing through the pandemic is to maintain ITW's considerable financial strength, liquidity, and strategic optionality. In the second quarter, we did just that. And going forward, we will continue to deliver on that priority as we leverage our strong financial foundation and resilient profitability profile to position ITW for maximum participation in the recovery. On our last earnings call, we shared our expectation for an unprecedented level of demand contraction due to the complete shutdown of wide swaths of the global economy. And indeed, organic revenues declined an unprecedented 27 percent. As expected, automotive OEM and food equipment were the hardest-hit segments. Other segments fared much better, providing another proof point for the benefit of ITW's diversified, high-quality business portfolio. At the enterprise level, total revenues declined 29%, as organic revenues declined 27%, and foreign currency and last year's divestitures further reduced revenues by about a point each. Nevertheless, our business's still generated $449 million of operating income and delivered resilient operating margin performance of 17.5%, with operating expenses down more than $140 million and enterprise initiatives contributing 100 basis points. As expected, free cash flow was strong at $681 million, an increase of 12% year-over-year, and 213% of net income. Q2 cash flow performance did benefit from the delayed timing of U.S. income tax payments of $158 million, which were paid in the third quarter. Our divisions stepped up their credit monitoring and collection efforts early in the quarter, and as a result, our receivable performance has continued to remain in line with historical norms. The balance sheet and our liquidity remained strong throughout the containment phase as we ended the quarter with $1.8 billion of cash on hand essentially no short-term debt, no commercial paper, a $2.5 billion undrawn revolving credit facility, Tier 1 credit ratings, and total liquidity of more than $4.3 billion. As expected, ITW had more than enough financial strength and resilience to withstand the shock to the system that the global economy experienced in Q2. We were prepared for it, we managed our way through it effectively, and today we're strongly positioned for the recovery. With that, please turn to slide six for a retrospective look at second quarter revenue, starting with organic revenue by geography. As you can see, the demand contraction was global as North America declined 26%, Europe was down 37%, and Asia Pacific was down 7%.

Ladies and gentlemen, thank you for sitting.

On a positive note, China was up 1% after being down 24% in Q1 as the early phase of their recovery began to take hold. On the right side of the slide, we're sharing average revenue per working day by month as we move through the quarter and we compared it to last year. You can see that April was the bottom and then we experienced a sequential acceleration in May and in June as the global economy began to reopen. This trend has continued in July. Now let's go to slide seven for segment performance. And on the left side, you can see the most and least affected segments in terms of organic revenue and operating margin. For comparative purposes, I should point out that these margin numbers are fully loaded operating margins, not segment margins. It is also notable that five of seven segments delivered operating margins above 20 percent, despite organic revenue declines ranging from 9 to 25 percent, and that two segments overcame the significant negative volume leverage to actually expand operating margin year-over-year. Turning to the right side of slide seven, as expected, given that most of our automotive OEM customers in North America and Western Europe essentially shut down in mid-March and only began to restart production in May, June, our automotive OEM business was the hardest hit. Overall, organic revenues were down 53% year-over-year, although we did see a significant uptick in June that is continuing in July. North America was down 62%, Europe down 59%, and China was the bright spot with organic revenue up 6%. Importantly, as auto production continues to ramp up in Q3, our local, close to the customer manufacturing positions remain fully resourced and in position to continue to serve our customers every step of the way and with the same world-class quality and delivery that they have come to expect from us. Turning to slide eight. Also, as expected, the second hardest segment was food equipment, as organic revenue declined 38%. North America organic revenue was down 33%, and international declined 44%. Equipment sales were down 38%, and service was down 37%. Institutional sales, including healthcare facilities and hospitals, were slightly more resilient, down about 30%. And not surprisingly, restaurants, QSR, were down about 45%. Relatively speaking, sales to grocery retail customers held up better, down only 14%, with some equipment orders being pushed out due to COVID concerns, and retail service sales were flat with prior year. Test and measurement and electronics, organic revenue declined 11%, with test and measurement down 12%. and electronics down 9 percent. While demand for CapEx equipment dropped, sales were up double digits in end markets tied to semiconductor, healthcare, and clean room technology. And despite negative volume leverage, operating margin improved 120 basis points to 25.7 percent with excellent cost management and enterprise initiatives as the main contributors. Turn to slide nine. In welding, demand slowed significantly as organic revenue declined by 25 percent, with equipment sales down 28 percent and consumables down 21 percent. Industrial end markets declined 40 percent, while commercial end markets were fairly resilient, down only 11 percent. That said, despite a 29 percent decline in revenues, Q2 operating margin was 21.6 percent. Polymers and fluids, Organic revenue was down 14%. Polymers was down 20% in line with industrial and MRO trends. Auto aftermarket was down 14% with retail sales improving in a meaningful way as stores opened back up as the quarter progressed. Fluids had the best performance with organic revenue down only 5% helped by product sales into health and hygiene end markets. Operating margin was up 30 basis points to 23.1%, driven by enterprise initiatives and strong tactical cost management. Moving to slide 10, construction organic revenue was down 9% with North America, which is almost half the segment, up 1%, with double-digit growth in the residential renovation B market served through the home center channel. This strength was partially offset by a 21% decline in the North America commercial business and internationally, as Europe was down 28 percent, reflecting a more restrictive quarantine protocol. Australia and New Zealand sales were down only 3 percent. Specialty organic revenue was down 16 percent, with North America down 15 percent, and the international side down 19 percent. Demand for consumables in our consumer packaging businesses, such as zip-back, were up double digits, offset by orders for packaging equipment being pushed out and some lower sales into the appliance and aviation industry. So, let's move to slide 11 for an update on some full-year 2020 performance scenarios. On our last call, we provided three financial scenarios to illustrate the fact that we have the financial strength and margin profile to withstand whatever comes our way over the near term. And therefore, our number one priority is positioning the play offense in the recovery. With Q2 in the books, we're updating these scenarios for our key operating metrics, organic revenue, operating margin, and operating income. The caveats that we discussed during our Q1 call still apply, i.e., this is a time of extraordinary and unprecedented uncertainty and accepting any significant recurrence of major economic shutdowns. As you can see, we are narrowing the range of likely full-year outcomes based on our second quarter performance and current demand trends across the company. And what stands out is that in all three scenarios, ITW's operating performance is strong in terms of operating income and operating margin. And while we're not providing formal guidance as we sit here today, we are tracking closest to the mid scenario, with second half organic revenues down about 12 percent, which would translate into a four-year organic decline of approximately 14.5 percent and operating margins of 20 to 22 percent. And in an unprecedented year like this, should this scenario hold, we would still make somewhere in the neighborhood of $2.5 billion of operating income and generate more than $1.8 billion in free cash flow. As demand recovers, we want to be in a strong position to fully support our customers as their businesses begin to reaccelerate. As a result, we expect an increase in working capital and therefore lower free cash flow of about $600 million in the second half of the year. Importantly, though, we're going to make sure that we're in a strong position to both respond to our customers' needs and take share from competitors who can't throughout the recovery. As we discussed on the last call, we're going to make some fairly modest capacity and cost structure adjustments based on projects submitted by our division leaders who have now had a chance to better assess the pace and slope of recovery in each of their respective businesses. We currently project that we will spend about $60 million on restructuring projects in the second half of the year, including $45 million of AD20 front-to-back projects that were already planned for 2020 that we placed on a temporary hold as the early stages of the pandemic unfolded. As a reference, we spent about $80 million on restructuring in 2019, and about $30 million of that was in the second half of the year. It is worth noting that the average payback for these projects is projected to be less than 12 months. Finally, just some brief comments on capital allocation to let you know that our position has not changed from our last call. First, with regard to the dividend, we recognize the importance of our dividend to our long-term shareholders. We continue to view it as a critical component of ITW's total shareholder return model, and we remain strongly committed to the dividend. In terms of strategic optionality, we are clearly in a position of strength with ample liquidity and balance sheet capacity and strong credit ratings. We remain open to the possibility that opportunities might emerge as a result of the pandemic, and we're in a strong position to react to high-quality strategic opportunities that are aligned with our enterprise strategy. Lastly, we've suspended share repurchases until end markets stabilize and the recovery path becomes clearer. So let's move on to slide 12, and I'll turn it back over to Scott to share some more thoughts on our recovery phase strategy.

Scott, back to you. All right, thank you, Michael. So moving forward, while significant end market disruption and uncertainties remain, we will continue to leverage our financial strength and the performance power of our business model to prioritize playing offense in the recovery over playing defense in the contraction, and to ensure that every one of our businesses is strongly positioned to fully participate in the recovery. Job one is to protect our people while continuing to serve our customers with the world-class quality and delivery performance that they expect from us. Thus far, our people have done a superb job on both fronts, and across the company, we will remain intensely focused on these two mission critical imperatives. Second, we are going to lean in hard to the upside by remaining invested in staff to support anticipated demand two to three quarters out. so that we have ample cushion to both fully support our customers as their businesses re-accelerate and to capture incremental share gain opportunities that we expect might emerge along the way. In that regard, core to the recovery planning process in every one of our 84 divisions is the identification and actioning of specific pandemic-related share gain programs and opportunities that are aligned with our long-term enterprise strategy. Finally, we will leverage our advantage financial position to sustain the investments we've made to support the execution of our enterprise strategy. We are taking the long view, and from that perspective, win the recovery is an execution component of our long-term enterprise strategy. It is not a separate strategy. It is about every one of our divisions identifying specific opportunities to aggressively accelerate progress in executing key aspects of their enterprise strategy agenda due to the effects of the pandemic. Things such as new or changing customer needs, competitor distress, ability to stay invested, et cetera. In fact, we're already seeing areas of opportunity emerging in our businesses, and these are some of the early themes. First, ITW's undisrupted ability to supply and deliver during these times of tremendous volatility and disruption is a significant asset. In the last quarter, we landed new programs worth a combined $105 million annually with a handful of key customers based largely on our ability to provide immediate supply. Second, many companies, including many of our existing customers, are moving away from low-cost country sourcing strategies and looking to localize their supply chains in response to risks and challenges exposed first by trade and tariff-related disruptions and now by the effects of the pandemic. Our longstanding commitment to local produce where we sell manufacturing has uniquely positioned ITW to support existing and new customers in making this transition. Just recently, one of our businesses was awarded nearly $10 million in new business as a result of one of their key customers moving to build more local supply capability. In addition, a number of our automotive OEM customers are implementing strategies to localize their supply chains. and we are in a very strong position to support them in this regard. And third, we are already benefiting from remaining committed to our strategic sales excellence and customer-backed innovation investments. Our ability to stay the course means that the people that we have invested in in these critical areas remain in place and that they are not distracted by downsizing, reorganizations, top-down mandates, or shifting priorities. They remain focused on serving customers seizing new opportunities, and continuing to innovate. As just one illustration, in the second quarter, our new patent filings were up 24% over last year. So in closing, on behalf of Michael and I and our entire executive leadership team, we offer our deepest thanks to our ITW colleagues around the world for their exceptional efforts and dedication always, but especially during this period of unprecedented unprecedented circumstances and challenges. While there is obviously a lot that we will have to work our way through in the months ahead, I have no doubt that the strength and resilience of ITW's business model, our diversified high-quality business portfolio, and our people position us extremely well to seize the opportunities and respond to the challenges that lie ahead. With that, I'll turn it back to you, Karen.

Okay, thank you, Scott. Julianne, let's open up the lines for questions.

Thank you. At this time, I would like to remind everyone, in order to ask a question, press star, then the number one on your telephone keypad. We'll pause for just a moment to compile the Q&A roster. Your first question comes from Andrew Kapowitz from Citi. Your line is open.

Good morning, everyone. Hope everyone is well.

Good morning. Same to you, Indy. Thanks.

Scott or Mike, maybe you can help us with color on business conditions by region a little more. China turning positive is encouraging, as you said. But for many companies in Q2, we saw some improvement, maybe a little faster in Europe than the U.S. You guys were down a little bit more in Europe. So maybe you can talk about what held you down in Europe. And then you mentioned you were down about 20% in terms of average daily sales in June and that you continue to see improvement in July and In terms of the rate of decline, did it continue at the same rate of recovery as you saw by month due to in July?

All right. So let's start with your question on Europe specifically, which represented 25% of our sales in the quarter and saw, as you pointed out, the most significant decline year-over-year at 37%. By far, the most significant decline was in the automotive business, as you might expect, down 30%. 59%, followed by food equipment down 48%, and then construction down 28%. In terms of the framework that we're providing for the second half here, and your question around how the dynamics might play out by region, I think we're anticipating, again, in a very dynamic environment here, North America and Europe down both in that 10% to 15% range year over year. And then Asia Pacific and China, as you pointed out, better than that, flat, maybe slightly positive as we look at the second half here. A lot of how the thinking around how the second half plays out ties back to your second question, which was around July and the trends. So the trends that we saw sequentially in the second quarter were certainly encouraging. April, the bottom, acceleration in May, June. And those trends have continued into July. I wouldn't read too much into one month here. I think this remains a really, like I said, uncertain environment. And the best way to think about this is really this second half framework that we've provided as you as you look at how this might play out. But certainly encouraging kind of near-term demand trends that continued into Q2.

Michael, just one follow-up on how you're thinking about forecasting auto. Obviously, one of your tougher businesses, but relatively quicker recovery that we're seeing there. You mentioned the shutdowns impacting your business, but is it harder to adjust ITW's cost base in that business? And in the past, it's been hard to change, you know, move pricing around. So is that what hurts you in the quarter? And do you expect that business to turn profitable again in Q3?

Well, I think the short answer is no. I mean, I think, as you know, we're not an auto company. We're really benefiting in Q2 and the second half from this high-quality, highly diversified portfolio. So, you know, we don't have to get the forecast 100% right in automotive because we know we're going to have offsets positive or negative in other parts of the company. As you know, we're very much a read and react company. We don't have a lot of backlog. We don't have great visibility beyond two to three weeks in auto, for example. But we do have the ability to respond very quickly to changes in demand. We expect a challenging second half in automotive, certainly better than Q3, and to just to be transparent with you in terms of what auto might look like in the second quarter, in the second half, based on feedback from customers, current demand trends, we're looking at being down about 15% in the second half of the year for automotive. Of course, a lot of that depends on how quickly production ramps up, what auto sales do in the second half of the year, but maybe that gives you a sense for how that might play out.

The other thing I would add on the cost side is we were very intentional in not decimating the business. I mean, this was the hardest shutdown across our portfolio, and we clearly knew that was going to take place. Production stopped from mid-March through mid-May, and ultimately we made a choice not to do anything that would impair our – we also expected that once those hard shutdowns were over that things would recover, maybe not – certainly not back to their – their prior demand levels, but a long way from zero, which is where they were, you know, for those 60 days or so. So, you know, I think there was a lot of intention in, you know, if your reference point is to the fact we lost money in that business, you know, that was, we certainly could have mitigated some of that if we wanted to worry about that, but ultimately our decision and our biggest concern was making sure that we were there to support our customers on the other side of that.

And maybe just to, you asked around what the second half might look like in terms of profitability. We fully expect, based on what we're seeing now, that the business will be profitable in the second half, and we will be returning to double-digit margins as we go through this beginning recovery here in automotive.

Thanks, guys. Stay well.

You too.

Your next question comes from Jamie Cook from Credit Suisse. Your line is open.

Hi. Hi, can you hear me okay?

Yeah, good morning, Jamie.

Okay, I guess just my first question, can you just talk about, Andy asked the question on auto food was also the business that was hit harder. So can you just talk about the margin trajectory as we think about the second half of the year in that business? And then I guess my follow-up question just is, sort of on the market share opportunity. Can you talk about sort of early conversations with customers if you think you'll be able to gain market share, and is that embedded as you think about sort of the sales outlook for the back half of the year? Thanks.

Yeah, so specific on food, you know, will probably be the hardest-hit segment here in the second half of the year. We're looking at, you know, potentially being down somewhere around 25%. But even with that sort of unprecedented decline, we expect that business to continue to be profitable, and we expect margins to continue to improve from where they were in Q2 and be back into double-digit territory here in Q3 and Q4. I think in terms of market share, rather than talking about specific I think I'd go back to the themes that Scott talked about and the fact that we have a high degree of confidence that there are real market share opportunities. There are discussions with customers that are taking place every day in every single one of our divisions. And we pointed to over $100 million of new business generated here in the second quarter just as a result of the first element which is our ability to continue to supply and deliver for existing and for new customers. So I think that's maybe how we think about the market share opportunities.

Yeah, and I think the only thing I would add, Jamie, is in terms of impact on the balance of the year, we're not really that focused on that. We're looking for long-term opportunities that are sustainable, ultimately. You know, the programs that I referenced, will that have some incremental benefit in the back half? Sure. But ultimately, we're not looking for, I guess the point I'm trying to make is we're not looking for quick hits that are opportunistic. We're looking for opportunities to move faster on opportunities that we would want even in normal times and expect that certainly based on the second quarter, you know, certainly optimistic that those will continue to pop up as we move forward.

Thank you. I appreciate the call.

Your next question comes from Scott Davis from Mellius Research. Your line is open.

Hi. Good morning, guys.

Good morning.

Good morning. A couple questions here, but test and measurement margins were strong. Was there any support on mix there? Was it restructuring that the guys were doing on a localized basis? It's just really quite remarkable to have mid-20s margins in a revenue environment like this.

Yeah, I think I may have mentioned this. It's the continued execution on the enterprise initiatives contributing in a meaningful way, including all the front-to-back projects, really carry over from last year since we put a halt on restructuring essentially in the first half of the year. And then just really good tactical management of our operating expenses, $140 million at the total company level in every segment, including in test and measurement. And then, you know, I think the other thing I pointed to, their top line was maybe a little more resilient than some of the other segments. You know, we talked about the strength in semi-healthcare, clean room technology, and they certainly benefited in test and measurement.

Okay, that's helpful. And then as a follow-up, I mean, in such a big demand hit in a couple of your businesses, obviously, but how many of your own facilities remain idled? Are they all back up and running in some level of capacity, or do you still have a number of facilities that are 100% shut down?

We are essentially 100% open, and all of our divisions are serving customer needs at this point.

Around the world?

Around the world, yes.

Super helpful. Thank you guys. All right.

Thank you.

Your next question comes from John Inch from Gordon Haskett. Your line is open.

Thanks. Good morning, everyone. Hey, Michael, did July, I know it's not going to be definitive, but did it still exhibit an uptrend in terms of average daily sales? And are we both thinking about sort of the potential for channel restocking in kind of given the way markets have transcended and your own commentary for expectations around the back half?

So the first part, July, is up sequentially from June, to answer your question. I think in terms of the channel, we've talked about this before, John. We really are, you know, given how short cycle we are and how our businesses are set up, really, we talk about an Very little backlog. We get the order today. We ship tomorrow. We replenish the inventory the day after. We don't have great visibility to what the channel has in terms of inventory. They don't need to carry a lot of inventory because they know that if they place the order with us, we're shipping it tomorrow. So it's not really a big driver in terms of how our sales might be reacting here.

Even in, say, construction products? I agree with you, obviously, but I was just curious if there might have been a bit of preemptive build or anticipated build in the back half or something like that.

No, they really don't need to. And it's construction. Every segment, every division is run the same way here. So the answer is no.

Okay. Okay. And then how are you guys thinking about the $140 million of cost saves, which is actually pretty impressive considering that you didn't touch employee comp. How are you thinking about that? Michael and Scott may be bleeding back into the organization. It will be matched against kind of revenues, so you kind of keep the costs in check, or how are you thinking about sort of the cadence of those costs coming back over the course of the second half of next year?

Yeah, John, I mean, everything other than the structural costs that we had already planned to take out this year, which are the kind of the front-to-back savings. Those are structural savings, but everything else is essentially temporary. And so this was, you know, our response to, you know, current levels of demand. As the recovery continues, you know, to take hold here in the second half of the year, the majority of these costs will come back in again. Certainly, we'll continue to remain our divisions disciplined and focused in terms of cost management, but these are essentially temporary costs that, with the exception of 80-20 projects, will come back in as demand recovers.

That makes sense. I mean, would you see the 140 in terms of saves as kind of the high watermark and then maybe next quarter it's a little bit lower. I'm not trying to be that precise. I'm just trying to understand. Hey, we're going to keep these costs in for the rest of the year, and others have said, no, they might start coming back sooner. So I'm just wondering where you guys fall out.

Well, I think given our margin profile, they'll start to, let's call it, sort of sprinkle back in based on how the revenue recovers. So I think as we've said throughout, we are leaning into the investment side of the opportunity profile and the recovery doesn't mean that we're going crazy, but ultimately, as Michael said, the tactical cost savings in Q2 was in response to revenue levels that were down 29%. They won't come all the way back in the third quarter, but I would assume a fairly linear sort of redeployment of some of those resources as things go forward based on linear in line with revenue.

Yeah. Makes sense. Thanks, Paul, very much. Thank you.

Your next question comes from Andy Casey from Wells Fargo Security. Your line is open.

Thanks a lot. Good morning, everybody. Good morning. Within construction, you talked about U.S. non-residential down in Q2. would assume that probably impacted some other segments like welding as well. What are you hearing from your customers about the second half? Is it getting worse, or is there really no change visible?

Are you talking specifically on the commercial construction side, which is a fairly small portion of our business in North America, or construction overall?

Construction overall, ex-resi.

Yeah, I mean, I think we don't expect a significant level of improvement on the commercial construction side here in the second half, based on what we're seeing so far. The strong demand is really, like we said, on the residential side through the home center channel. That's where we saw significant growth in Q2. And that seems to be holding up fairly well here in the near term, but not on the commercial side.

Okay, thank you, Michael. And then on business wins from your ability to deliver, the $100 million is pretty impressive. Did that come from things like auto, or was it more prevalent in what might be shorter cycle business wins?

Some of each, but I'm trying to, you know, auto was maybe 20% of it. Wow, that's pretty good. Yep.

Okay, thank you very much. Thank you.

Your next question comes from Ann Dignan from JP Morgan. Your line is open.

Hi, good morning, everyone. I appreciate the color on the half to outlook for automotive and food service, at least directionally. Could you give us some color on the other segments, what you're contemplating in the back half for those businesses?

Yeah, so these are, with all the caveats, again, in terms of being bottom-up projections and back to, you know, we don't have a lot of backlog. These are, you know, our business model is much more kind of a read and react. But, you know, with all that said, you know, I think on the welding side, we still expect a fairly challenging second half, particularly on the industrial side. and probably down in the second half somewhere around 15% year over year. The test and measurement specialty businesses should perform a little bit better than that based on kind of current demand trends with some strength in consumer packaging. We talked about semi-healthcare, clean room. Those two segments could be down somewhere in the neighborhood of about 10%. And then construction, as well as polymers and fluids, maybe down in the mid-single digits, somewhere around that. But I just want to make the point again around the real advantage that ITW has in terms of this highly diversified, high-quality set of businesses and the fact that there's room in these numbers because we know that Some will perform, have worse revenues than what I just told you, and some will have better. And if you put all that together, that's what gives us the confidence in the second half scenarios that we laid out in the presentation. But hopefully this is helpful in terms of additional transparency.

Absolutely, and I appreciate everything you said, but we're not locking you down to decimal points here. Just directionally, it's helpful to understand what you're thinking or seeing. And then just a quick follow-up. You mentioned that automotive OEMs are pursuing more strategies of – supply within country of demand, but I thought automotive OEMs had already gone that route, and so maybe you could give us some examples of where are there opportunities for OEMs to source locally again that they're not already doing? I think last quarter you might have mentioned OEMs considering moving back from Mexico potentially. Is that an opportunity, or I'm just curious as to... Yeah, no, I think...

You know, without, I'm trying to think about how much I want to offer here out of, you know, from the standpoint of our need to obviously keep things, our interactions with our customers confidential. But let me say that Europe represents probably an area from the standpoint of localization of some significant potential shifts.

Okay.

I'll leave it there. Not just U.S. Yeah.

Just U.S. And have you heard any comments from OEMs about relocating from Mexico to US, or is that just chatter in the supply chain?

I have not personally, no.

OK. We get that question quite frequently, so I appreciate your color. Thank you. I'll leave it there.

Your next question comes from Jeff Sprague from Vertical Research. Your line is open.

Good morning. Thank you, everyone. Hey, Jeff. Hey, two from me. First on the restructuring side, certainly interesting, right? $50 million, $45 million of it, you probably would have just eaten on a pay-as-you-go basis without even kind of pointing it out if we were in normal times. So the business is given kind of hopefully like a once-in-a-lifetime opportunity pandemic shot on goal for restructuring came up with 15 million bucks. That's a shockingly low number, but I guess it's kind of a testament to what you told us before about how these businesses are operating. There's just not a lot of stuff laying around to do. And any other perspective on that and how quickly these actions might pay back?

Well, I think the perspective on your comment is just that, A, we've been working on sort of margin and operating efficiency for seven years. And we can always get better. That's the $45 million. Every year, we're trying to be a little bit better. The other half of it, though, in terms of the $15 million The limited amount of incremental that's pandemic-related goes back to what we said in the commentary, which is we're staying structured to support demand two to three quarters out, and that's an advantage that we have. Given the margin cushion, given the cash flow profile, we expect the economy to revert to growth at some point. I can't tell you exactly when, but... I think nobody's betting against the global economy long term, and we're going to stay. We're certainly not. And so the $50 million is a response to the strategy that we've agreed on with all of our divisions. It says we're going to stay invested, and we're going to stay focused on making sure we can serve our customers and lean into growth as these businesses recover. And I'm not predicting necessarily a fast recovery. I'm just saying it's going to recover eventually.

The only thing I'd add to that, Jeff, maybe more from a modeling perspective, is that of the $60 million, we expect that to be more weighted towards Q3, maybe somewhere around two-thirds of it in the third quarter. And then I think the overall payback on these projects, what's really encouraging is it's projected to be less than 12 months, which supports again continued improvement as Scott referenced on the margin front in 2021. And I'll just point, you saw the enterprise initiatives again here this quarter, 100 basis points and a significant chunk of that are these 80-20 projects, which is the bulk of what we're talking about that are driving continued margin improvement.

And then secondly, maybe kind of a little bit more strategic, Scott, but you know, very clear what you're saying about, um, you know, positioning to gain share, uh, to outperform in the recovery. Um, but also just looking at your portfolio, right. And sitting here kind of in the light of this pandemic and thinking about, um, opportunities, uh, to kind of pivot in a different direction or a weakness, uh, exposed in a business that you hadn't previously thought about. Um, Is there anything that really kind of, you know, comes to mind where, you know, you're really thinking about kind of portfolio positioning that, you know, you might want to alter as we look forward? Even if you don't want to call the business by name, it would be interesting to, you know, as you're looking at the test board.

Yeah, this would be the perfect place to disclose that. You don't have to name names.

You don't have to name names.

Yeah, I appreciate the question. I actually, you know, I sort of, I think if anything, it's reinforcing of our, you know, the value of this diversified portfolio. And let's just sort of focus on what happened in auto this quarter. You know, auto has been our fastest growing, one of our fastest growing segments for the last five to seven years. I think before we did the acquisition, we peaked out at, you know, sort of solid mid-20s margins. And I would honestly tell you, given the dynamics in the industry and the way we support that industry on a long-term basis, it's probably one of the segments that we think has the best long-term growth prospects. And the fact that we can absorb the kind of hit that we took in that business in the quarter and had that be offset by at least five of seven food equipments, the other similar example, I think that's the kind of capability that allows us to stay invested where we want to stay invested, to ride the sort of short-term ups and downs, and not have to manage the portfolio based on some sort of view of the future that we were guessing at. We start and end with, is there a lot of value add that we can create in an industry? The margins ultimately are the proof point on that. Ultimately, we don't want to be in shrinking industries, but GDP, GDP plus a little bit industries are great businesses for us. When we've got those characteristics and we can sink our teeth into those industries for 10 or 15 or 20 years, that's a great position. Nothing has been exposed in my mind from this in terms of any one of our seven business that has created any problems for us or things that we would... I don't want to make any changes in any way. I think we, you know, clearly he says that we can run seven businesses pretty well. They don't work all in the same cycles. They aren't all affected by the pandemic in exactly the same way. And all of that together says to me, you know, it's more about, you know, let's go find the eighth one at some point, not about, you know, we've got to get out of one of these.

Yeah. Yeah. Great, thank you.

So that's the big announcement of today.

All right, we'll wait till we're PAs then.

Okay.

Your next question comes from Joel Tis from BMO. Your line is open.

Hey. Just to follow up on that last idea you threw out there, are acquisitions, are they popping up? Are they getting a little more attractively priced or anything? You're starting to come a little closer. on feeling like it's time to do something?

I would just comment and say that I think if you are a business that is not in distress during these times, this is not a good time to sell your business. So I think that the kinds of opportunities that may emerge are, you know, some quarters out and have less to do with sort of near-term financial distress and perhaps, you know, relative to more strategic merits over the long haul. So we're not spending a lot of time on, you know, trying to build a pipeline right now at all because it's, you know, again, if you're a good quality business, this is probably not a, you're not going to sell it with your numbers where they are today. Something came our way tomorrow that we thought was a real fit. We would certainly be willing to take a real serious look at it. So it's not an issue of our, it's not an issue of demand. It's more an issue probably of supply in the near term. of the kinds of things that we would be interested in.

Okay. And you've given us a couple of pieces of some of the highlights on, you know, acting to stay ahead of the curve and to benefit, to win in the recovery. Can you kind of pull it all together? You know, staying there for your customers is one thing you've highlighted a couple times. Are there any other pieces that we should be thinking about?

Well, we talked about certainly supply chain localization. We talked about, you know, staying invested in our innovation programs, our strategic sales excellence. You know, I don't think there's a whole lot beyond those broad categories that, you know, and yet I think there's probably some pretty good potential for some significant substance in those broad categories. You know, this is not an easy period to manage your supply, your cash flow during, you know, this kind of stress on the down and then on the recovery side. And there's a lot of disruption right now. And so our ability to stay the course, we happen to believe, is A, the right thing to do for our customers long-term, makes us even stickier with them, the fact that they can count on us through thick and thin. You know, and certainly there ought to be some Opportunities where perhaps people we compete with in various businesses aren't able to be that consistent that may spin off some opportunities for us. That's about as complicated as it is.

Okay, thanks. And definitely your strategy is showing its excellence during these times. So thank you very much.

Thank you. Thank you.

Your next question comes from Nigel Coe from Wolf Research. Your line is open.

Thanks. Good morning. Yeah, so the comment about taking advantage of distress I think is really interesting. It's not something that we hear from some other companies that we cover. So I'm just curious if you are seeing some real signs of distress amongst your competitors and perhaps food equipment and pockets in the auto channel might be the more obvious places. But I'm just wondering if you're seeing that now or is this something that you're expecting to see you know, maybe from imagery shortfalls or an inability to ramp up. I mean, any more color there would be really helpful.

Yeah, I would say in the near term, you know, it's probably too early. You know, right now volumes are still, you know, just starting to recover. We're not seeing a lot of distress. A lot of the programs that I referenced in my commentary that are new or are related to new opportunities are And that, there's no, I can't, I'm trying to think through the list, there's no competitor distress component to any of those. But there were people we competed with for those programs that weren't able to commit to the same delivery, you know, the delivery timetable that we could, that ultimately won us the business of that. So that, I'm trying to make that distinction in the short run. But look, I would certainly say that there is, from the standpoint of product availability, you know, the impact of cash flow, working capital, you know, as this cycle starts to go to the, you know, everybody gets in the growth mode, you know, there's going to be some cash flow constraints on people, you know, their ability to fund working capital at the rate we can, certainly, and keep up as things accelerate. I think that's more where those opportunities start to emerge.

Right. No, there's no question about that. And then my follow-up is, it seems when I look at your kind of your framework and for revenues and OI for this year. It looks like you're still planning for, you know, decrementals, you know, around about gross margin rates in the back half of the year. Correct me if I'm wrong, Michael, but does that imply that when you get on the other side of this and you don't have a lot of these discretionary costs coming back in, and others do have, that your incrementals can be higher on recovery? You know, normally you have 35 percent plus in price savings. Does that look more like a 40 percent plus plus ES going forward, and any color there would be good as well.

Yeah, I think that's a fair comment, Nigel. I think that when the recovery, when demand really starts to pick up on a year-over-year basis, you're going to see some higher-than-usual incremental margins from ITW. I think in terms of the second half question, if you just look at the framework we provided, And again, we're not really focused on managing to a decremental margin number here in the near term. I think this, as we said, is much more around positioning for the long term. But decrementals kind of in the low 40s for the second half, a little bit higher than that in Q3 as a result of the restructuring. And then in Q4, like we said on the last call, we expect to be back in kind of a more normal decremental margin in the 35% to 40% area. But Really, the most important part of your question is when we do expect higher incrementals when things begin to accelerate here in a meaningful way.

Great. Thank you very much.

Sure.

Your next question comes from Nathan Jones from Steeple. Your line is open.

Good morning, everyone. Morning. I just wanted to ask a question on the food equipment side of this. You're seeing a lot of restaurants closing down permanently, operating at you know lower um capacity um what's your view on the likelihood that there's you know there's going to be a fair amount of used equipment in the market some customers here are going to be stressed uh maybe not looking to buy you know the high quality itw equipment in the short term here and whether or not that could even have any impact the used equipment in the market on the institutional side of the business over the next you know few quarters here yeah i think

If you look at the product lines that we compete with at the top tier, the used equipment market is not really an issue for us. It's much more an impact to the mid-tier competitors and not to people like ITW. In terms of where restaurants might end up, I think that's an open question. I think clearly we've seen... a meaningful decline in the near term here on the restaurants and the QSR side, and we'll continue to stay close to it and we'll be there to support our customers every step of the way, including with the service side of things, which is a really important part of opening these restaurants back up again that really starts with a service call to make sure that all the equipment is operational and does what it's supposed to do for our customers. So that's really how I would think about that, Nathan.

That's helpful, Carla. You just commented that you're not spending a lot of time building the M&A pipeline at the moment. You have suspended their share repurchase program, given very strong cash flow, good outlook for free cash flow for the rest of the year. What are your thoughts about the timing of reinstating the share repurchase program?

Yeah, I think that's a fair question, just given how strong the free cash flow performance is and how strong the liquidity and the financial position of the company is. At this point, it's still early stages in terms of the recovery, and our position is we're going to wait until this recovery path is a little bit clearer until we reinstate share repurchases. So for now, we remain... you know, kind of on hold until we see how things might play out a little more clearly going forward.

Okay, thanks for taking my questions.

Sure.

Your last question comes from Ross Gilardi from Bank of America. Your line is open.

Thanks, guys, for squeezing me in. I mean, most of mine have been answered, and I don't know that you will answer this one. But just to follow up on that, on M&A and just your preferences with the current portfolio on what you might want to add to. And I'm just wondering, has the relative attractiveness of the various end markets shifted at all in this new environment? And I'm thinking specifically about food. I think this is an area that most of us from the outside might have assumed that ranked higher in the pecking order in terms of areas that you might like to add to in the future. I don't think I'm going out on a big limb there. In reality, in this type of downturn, it turned out to be your most cyclical business, whereas a market like construction, which is supposed to be most cyclical, was down the least in the second quarter, I think, because of what's happening at the home centers and consumers investing in the home and so forth. So really just asking, has the relative pecking order changed at all, or do you just still look at this kind of the exact same way that you would have before?

Well, I think your commentary is sort of it. almost answers the question from my perspective, which is everything you said that nobody saw coming. And the next time we go through some contraction, I'm sure it will absolutely not work exactly this way. So I think in terms of relative attraction, in every one of our businesses, every one of the seven, given the margin and return on capital profile there, if we had the right opportunities, we would certainly think about adding to all of them. And that's, you know, again, we're taking a long-term view, so that's independent of where they are in terms of their near-term relative distress. So, you know, we wouldn't be afraid to add scale anywhere, but it's going to have to be, you know, we don't need, and I'm talking about scale in terms of the size of our position, we don't, you know, we get no benefit from scale in terms of cost. given the way we run 80-20. So, you know, we would only act if we had an opportunity to add to one of our positions, you know, really differentiated products, access to a new market, a new end market, a new geography, et cetera. So there has to be some long-term benefit. But I don't think we'd shy away from any, you know, I wouldn't necessarily rate, you know, any sort of higher priority, lower priority across the seven.

Okay, got it. And just one quick housekeeping one just for, I think, for Michael. Just, Michael, on your scenario analysis presentation, slide, the $60 million of restructuring spend and the $45 million from 80-20, is that baked into your various margin scenarios or are your margin scenarios excluding those costs?

It's included. As you've become accustomed to, we don't adjust numbers here. These are the gap numbers that we're showing on the page and everything is included here including the restructuring.

Okay. That's what I thought. I just wanted to confirm. Thank you. All right, thank you.

We have no further questions. I'd like to turn the call over to Ms. Karen Fletcher for closing remarks.

Thanks. I just want to thank everybody for joining us this morning and stay well.

Thank you for participating in today's conference call. All lines may disconnect at this time.