Johnson Controls International plc

Good morning and welcome to the Johnson Controls Second Quarter 2024 Earnings Conference Call. All participants will be in listen-only mode. Should you need assistance, please signal a conference specialist by pressing the star key followed by zero. After today's presentation, there will be an opportunity to ask questions. To ask a question, you may press star then one on your telephone keypad. To enjoy your question, please press star then two. Also note that in respect of time, we ask you to limit yourself to one question and one follow-up question. Please also note, today's event is being recorded. I would now like to turn the conference over to Jim Lucas, Vice President Investor Relations. Please come ahead.

Good morning and thank you for joining our conference call to discuss Johnson Controls Second Quarter Fiscal 2024 results. The press release and related tables that were issued earlier this morning, as well the conference call slide presentation, can be found on the Investor Relations portion of our website at johnsoncontrols.com. Joining me on the call today are Johnson Controls Chairman and Chief Executive Officer George Oliver and Chief Financial Officer Mark Van Diepenbeek. Before we begin, let me remind you that during our presentation today, we will make forward-looking statements. Actual results may differ materially from those indicated by forward-looking statements due to a variety of risks and uncertainties. Please note that we assume no obligation to update these forward-looking statements even if actual results or future expectations change materially. Please refer to our SEC filings for detailed discussions of these risks and uncertainties in addition to the inherent limitations of such forward-looking statements. We will also reference certain non-GAAP measures. Reconciliations of these non-GAAP measures to the most directly comparable GAAP measures are contained in the schedules attached to our press release and in the appendix to this presentation, both of which can be found on the Investor Relations section of Johnson Controls website. I will now turn the call over to George.

Thanks, Chairman. Good morning, everyone. Thank you for joining us on the call today. Let's begin with slide three. We were very pleased with our second quarter performance as our adjusted EPS came in at the high end of our guidance. Sales growth returned this quarter following the cyber disruption at the start of the fiscal Our team delivered strong margin expansion. This was driven by productivity and conversion of our higher margin backlog. Orders noticeably rebounded in the quarter of 12 percent year over year. This was driven by continued strength in data centers, which I will talk about in an upcoming slide. Our backlog remained at record levels, growing 10 percent to $12.6 billion, and the quality of the backlog is strong, as I mentioned. Customers continue to come to Johnson Controls because of our ability to deliver attractive outcomes. The fact is, our focus on delivering engineered solutions for commercial buildings continues to serve as a differentiator for Johnson Controls, allowing us to deliver unparalleled value. With the business performing at a high level, free cash flow continues to improve, and we are taking action to further strengthen our balance sheet. Most recently, we reached a broad settlement with a nationwide class of public water systems related to our AFFF product. Additionally, we announced that we discontinued use of our receivable factoring programs. Our efforts are turning into results, and the value of our transformation is coming into focus. Going forward, we remain active in pursuing strategic alternatives of certain non-core product lines that do not align with our focus on being a comprehensive solutions provider for commercial buildings. While we do not have any updates to provide at this time, we continue to make good progress on the exploration of alternatives for some of these assets. The results from the quarter and the performance of our team give us confidence that we will continue to build momentum into the second half, and we will be able to meet our financial objectives for the year. Mark will discuss these in more detail later in the call. Please turn to the next slide. I want to take an opportunity to discuss how we see the composition of our company going forward. The core of Johnson Controls is our engineered solutions offering. These solutions include commercial HVAC controls, fire, security, and services. Our solutions center around our domain expertise, forming the smart building trifecta of energy efficient equipment, clean electrification, and digitalization. We have created one -to-end operating model that we now have deployed around the globe, which allows us to better serve our customers more efficiently with greater predictability. Our solutions include both systems and services that focus on maximizing the opportunities around the lifecycle of the equipment. These solutions are enhanced further by our digitally enabled offerings, which allow us to provide tailored outcomes for the customers which we serve. Our systems business begins at the engineering and design phase. It is managed through installation of the project. The systems business is an important vehicle to capture a service event, and we have created a scalable service model that is driving more consistent growth, and that carries higher margins. The service business will continue to be a positive contributor to our long-term margin expansion. Our solutions operating model is enabled by connected equipment throughout the building, allowing us to collect data that drives a consistent and enjoyable occupant experience with repeatable outcomes. We create incredible value for our customers, which is clearly demonstrated by our results in the most recent quarter. The transformation of our portfolio into a pure play provider of comprehensive solutions for commercial buildings is an opportunity. Once complete, we will be able to flow additional resources to the most attractive opportunities. Part of our commitment to discipline capital allocation remains ensuring that we are deploying resources to the right opportunities. Turning to the next slide, John's Controls plays an important role in serving the rapidly growing data center market. We provide cooling needs for the top hyperscale and co-location data center customers. The demand for data centers is accelerating globally, with the next generation of data centers projected to be designed for more than one gigawatt of power consumption. We have intentionally positioned the company to benefit from this emerging trend due to our relentless innovation efforts and inherent strategic advantages. These include, one, creating leading technologies around a broad range of air-cooled and water-cooled chillers to support the exponential growth in cooling demand. Two, investing in R&D teams and world-class test laboratories to design, build, test, and demonstrate performance of equipment over the entire data center operating envelope. Speed is the key, so we are investing to accelerate the pace of innovation. And three, creating leading domain expertise to provide complete package solutions that drive outcomes, such as high-efficiency chiller plant, space cooling, critical environmental monitoring, security systems, and fire safety and asset protection systems, while providing service for the entire life cycle of the asset. Underscoring these advantages is our core identity as a comprehensive solution provider for commercial buildings. This enables us to fulfill more than cooling needs for our customer, which makes us a preferred partner that can expand with our customers across all geographies. In fiscal 2023, our sales to data centers were approximately $2 billion. We continue to see solid demand for our solutions, which is evident in our orders. This is reinforced by the fact that our fiscal first half orders for data centers have already surpassed the orders we booked for all of fiscal 2023. With orders growing, we have been investing in capacity to be able to execute on our accelerated data center backlog. Our strong presence in data centers starts with our advanced chiller technology. Given the amount of heat generated at data centers, our customers are looking for solutions that maintain constant temperatures in even the most extreme environments. In addition to chillers, we have extended our offerings with both air handling units and computer room air handlers. Our cooling solutions continue to advance, and we are working on next generation technologies to keep up with the growing needs of data centers. The case study on this slide was for a half gigawatt facility that is being expanded now to a full gigawatt. The project included the deployment of our chillers, air handlers, and just as important, we have secured plan and service agreements for all of the chillers. Our pipeline for data centers remains very healthy, and we are continuing to expand our capacity to meet this strong demand. We remain excited about the opportunities in this fast-growing vertical and look forward to updating you on our progress in the future. Before I turn the call over to Mark to go through the financial details, I want to say how proud I am of the Johnson Controls team. While we face some challenges in the first fiscal quarter, it will continue to navigate a dynamic environment. We delivered on our commitments to our customers to drive value for our shareholders. Now with that, I'll turn it over to Mark.

Thanks, George, and good morning, everyone. Let me start with summary on slide six. Total revenue of $6.7 billion was flat year over year, while organic sales grew 1 percent, a strong high single-digit service growth more than offset continued weakness in China's system business and declines in the global residential A-Track. Segment margins expanded 70 basis points to 14.5 percent as we delivered strong productivity and converted a higher margin backlog. Adjusted EPS of $0.78 was up 4 percent year over year and at the high end of our guidance range of $0.74 to $0.78. Operations contributed six cents of the growth in the quarter, benefiting from recovered momentum following the cyber incident at the end of our last fiscal year, as well as improved productivity. Below the line, we saw headwinds from net financing charges due to higher interest rates. Overall, we are pleased with the strong adjusted EPS performance in the quarter. On the balance sheet, we ended the second quarter with approximately $800 million of available cash and net debt increased to 2.4 times, which is within our long-term target range of two to two and a half times. For the fiscal first half, excluding the impact of the receivable factoring and wine, adjusted free cash flow improved $166 million year over year. As we end the use of factoring, we will continue to focus on further improvement on our core buildings and collection capabilities, leading to continued improvement in our cash performance over time. We have also made tremendous progress in reducing our inventory levels and expect further improvement in the second half. Let's now discuss our segment result in more details on slides 7 through 9. Beginning on slide 7, organic sales in our global product business declined 1% year over year, with volume declines of setting price. We saw low single-digit growth in commercial HVAC, highlighted by mid-teen growth in light commercial. High-plied HVAC declined mid-single digits against a tough -on-year comp. Fire and security declined low single-digit against tougher comps, as decline in fire suppression more than offset growth in fire detection and security video surveillance. Industrial refrigeration grew over 25%, with another strong quarter in Emila. Global residential HVAC declined low single-digit, driven by low single-digit decline in global and low-class residential, primarily in Europe. Our global ducted residential business declined mid-single digits, with a mid-single digit decline in North America, offsetting strength in Latin America. Dealer growth is a high double digit, with channel inventory normalizing and distributive sell-through continuing to increase. We see momentum building in our North America market. Adjustment segment EVA margins expanded 30 basis points to 18.9%, as positive price cost and improved productivity more than offset mixed headwinds. Moving now to slide 8 to discuss our building solutions performance. Olders regained momentum with strong 12% growth in the quarter. Overall service order grew 13%, with broad base growth across the regions. Systems orders grew 12%, as North America offset declines in Emila and APAC. Organic sales increased 2% in the quarter, led by service growth of 8%. Systems revenue was down 2%, as declines in APAC and Emila more than offset high single-digit growth in North America. Building solution backlog remains at a record level, growing 10% to 12.6%. Service backlog grew 3%, and systems backlog grew 11% -on-year. Let's discuss the building solutions performance by region on slide 9. Orders in North America increased 19% in the quarter, driven by 26% growth in systems. We continue to experience strong demand in data centers, which led to nearly 50% growth across our HVAC controls platform. Fire and security orders grew low single-digit. Sales in North America were up 8% organically, with strong growth across our HVAC and controls platform, up 19% -over-year. Overall, our system business grew 9%, while service grew 6%. Segment margins expanded 110 basis points -over-year to 13.6%, driven by the continued execution of higher margin backlog and strength in our higher margin service business. Total backlog ended the quarter 8.9 billion, up 15% -over-year. In Emila, orders were up 8%, with strong double-digit growth in service offset by a decline in system to a strong -over-year compare. Consistent with our strategy, there is an increased focus to drive higher margin into our backlog. Controls had a strong order intake, with solid growth in Europe and Latin America. Sales in Emila grew 4% organically, with low teen service growth offsetting a decline in our system business, predominantly driven by Latin America and Middle East HVAC businesses. Our service business benefited from strong double-digit growth from both recurring and shorter-cycle transactional businesses. Industrial refrigeration had other solid quarters, with low teen growth -over-year. Segment EV down margin expanded 170 basis points to 8.4%, driven by improved productivity, positive mix from the growth in service, and by the conversion of higher margin systems backlog. Backlog was up 10% -over-year to 2.4 billion. In Asia Pacific, orders declined 9%, as we remained selective of the jobs we booked into the China system backlog. Overall, APAC service orders grew high single digits, driven by high single-digit growth in our recurring contracts. Sales in Asia Pacific declined 23% as the system business was impacted primarily by the continued weakness in China. Our service business grew 7% in the quarter, with strong growth in our shorter-cycle transactional business. Segment EV down margins declined 80 bits to 11% as weakness in China offset positive mix from our service business. Backlog of 1.3 billion declined 18% -over-year. Now let's discuss our third quarter and fiscal year 24 guidance on slide 10. We enter our seasonal strong third quarter with good momentum, evident by a robust order and resilient service. Our margin-rich backlog remains at historical levels, and our global product -to-build business has stabilized. We are introducing third quarter sales guidance of approximately low single-digit growth, which assumes one more quarter of top-line pressure in our system business in China. We expect strong contribution from North America and Emila, especially from the regained momentum in our service business. Global product is expected to return to growth, as our -to-build orders remain positive through the second quarter. For the third quarter, we expect segment EV down margin to be approximately 17%, and adjusted DPS to be in the range of $1.05 to $1.10. We are maintaining a full-year guide. We expect sales growth of approximately -single-digit, led by continued momentum in our service business, stabilization in our global products, and a cautious second-half outlook for China. Segment margins are expected to expand approximately 50 to 75 basis points, through productivity improvement, positive mix from the service business, and conversion of a higher margin backlog. Our adjusted EPS guidance range is unchanged and is expected to be approximately $3.60 to $3.75. The high end of the guide assumes accelerated recovery in China, normalized China inventory levels in North America resi, and service acceleration. Excluding the impact of unwinding the receivable factoring, we continue to expect adjusted free cash flow conversion of approximately 85% for the full year. Our working capital metrics continue to improve, supported by our first-half performance. In summary, we remain confident in our ability to deliver on our financial and operational commitments. With that, operator, please open the lines for questions.

Thank you. We will now begin the question and answer session. To ask a question, you may press star then 1 on your touch-down phone. If you are using a speakerphone, we ask that you please pick up your handset before pressing the keys. To withdraw your question, please press star then 2. In respect of time, we ask that you limit yourself to one question and one follow-up question. At this time, we'll pause for just a moment to assemble our roster. And today's first question comes from Steve Tusa with JPMorgan. Please go ahead.

Hi, good morning. Good morning,

Steve.

Can you just maybe talk about, was there anything that was pushed from 1Q into 2Q, and then I guess looking at the guidance, fourth quarter definitely looks like a step up here even more so than before. What gives you the confidence even at the lower midpoint to see that kind of ramp from 2 to 3 to 4 at this stage? Yeah.

So in terms of push from Q1 to Q2, we had some orders that did slip due to the cyber incident and the recovery in the momentum. I wouldn't say it's material in terms of what pushed from 1 to 2, but there was some smaller one. The strength of our orders in Q2 is really coming from the fundamental positive trend we're seeing in our data center business and some other core businesses. Now, in terms of the guide for the balance of the year and maybe first address third quarter, if you look at that third quarter guidance we provided of a buck and five cents to a dollar and 10 cents, we feel very strong about Q3. We regain momentum during the second quarter, and that gives us strong confidence, especially when we enter the third quarter. All of the short cycle businesses we've been talking about have seen very strong order during the second quarter and continue to see that momentum building as we enter the third quarter. And that gives us the confidence that our book to build global product businesses, our resi business, and of course, our business solution service business will achieve the target we've set for them. You know that China is still facing one more quarter of revenue pressure in Q3, but the other momentum there remains very, very strong. And we're really expecting a very strong sequential performance in both in Milla and North America. And so if you think about the guidance about the balance of the year, we're still showing the same range as we did to the prior quarter, even though we printed a pretty strong second quarter at the high end of the guide we have provided. And if we look at the second half and the balance of the year, what you would need to see and what we're expecting to see from a guidance standpoint is the China business will have to accelerate its momentum, both on order and on revenue. We would also need to see the resi business with a sequential quarter over quarter growth to increase. And you know that business is facing some additional variability associated with the fact that we are switching refrigerant as part of a market change. And finally, to achieve the very high end of that guidance, we would have to achieve improved service growth from where we close the second quarter and where we see the third quarter landing. So Steve, I would also remind you that looking comparatively into the second half, we have much easier comes than we did in the first half.

And then lastly, just any updates on deal timing?

Yeah, so as I said in my prepared remarks, Steve, we are making good progress. As we said, these businesses are outside the core and represent roughly about 25 percent of our sales. While they are non-core, they are good businesses that are adding value. So we're remaining focused on maximizing shareholder value. And like I said, pretty much across the board making good progress. And we'll keep you updated as we continue through with these businesses.

Thank you. And our next question today comes from Nigel Carroll with Wolf Research. Please go ahead.

Thanks. Good morning, everyone. Morning. Hey, guys. Just, Mark, I think you just alluded to the warranty add back in global products. Maybe just maybe just flesh that out a little bit, you know, why that wasn't considered operating, you know, why that's a discrete item. And then on the fourth quarter guide, I mean, I think the implication is like low double digit organic growth in the fourth quarter to get to that mid single digits, even the low end of the middle digits for the full year. So is that the intention? Do you actually see a pathway to low double digit organic growth, even though it's easy comps, it's still quite a tough bar.

So let me start first with the global product quality issue, which is really not a warranty issue. It really is a quality issue. The reserve really relates to an anticipated remediation action. We need to address in a very simply identifying firmware issue within some of our legacy products that are sitting in the field. We are currently testing that firmware update within those divide. And we are developing a remediation plan for this particular issue and will announce when when we are done with with the full remediation. And, you know, there's been no reports of any injuries or damage related issue with that issue. These kind of problems are very unusual, fairly rare, particularly for field devices like this. Now, when it comes to your second part of your question, I'm sorry, I forgot what you what you asked.

Yeah, the low double digit implied organic sales growth in the fourth quarter.

Oh, we see closer to higher single digit growth for the balance, to be honest with you. That's that's OK. Yeah.

OK. And then my follow up questions on the on the factoring change. Obviously, I think most of us agree that good news to to try and clean up the kind of cash generation. Just just wondering, you know, what other measures you're considering to to improve the quality of the of the cash flow. And in particular, is there any change in the way that you're sort of approaching the market by J.C. capital?

Yes. So I don't think we're going to change our approach on J.C. capital. This is really a tool we have to strengthen our ability to provide value and attach service and deepen our relationship with customers as we provide like the full suite with the system, the service and then the financing that that wraps around that. When it comes to our trade working capital, I mean, we had a very strong start of the year. We've improved pretty much every single fundamental there in terms of both receivable management, I would say, as well as our ability to to manage our inventory. If you look at our cash collection cycle overall, and if you exclude the impact of the unwinding of factoring, we improved that cash collection cycle by about five days, which we are very happy with with that outcome. If you look at the guidance we've given for for the year on free cash flow conversion, we are maintaining the 85 percent. You know, despite very strong performance in the first half, and we see the continuous improvement in our work in capital metrics. But you need to understand we continue to invest in almost attractive organic growth opportunities, particularly as we increase capacity to meet the very high demand we see in in data center. We're going to be able to make those investments and maintain that 85 percent conversion. But we want to we want to capitalize on on that growth we see in the market.

Thank you. And our next question today comes from Scott Davis at Melia's research. Please go ahead.

Good morning, guys. Let's go. I just I'm looking at the APAC numbers and, you know, applied obviously down a fair amount, but fire or flattish and fire and security more flattish. Just to me, it's I would have expected those to be a little bit more correlated. So was there more project selectivity on the applied side? Was that what you were saying, George? I kind of lost I lost the train of thought there for a sec when you were talking about it.

No, as we're looking at what we're deploying from a solution standpoint, we're looking at each of the domains and then how we differentiate and how we go to market, being able to capture what we see to be the secular trends around data centers and some of these key end markets. And so it's really just based on the backlog, the backlog that we've had, how it's converting. And then as we're getting more integrated solutions, you'll see where we get more of a broad base pickup in all of the domains. The applied is was specifically where in the construction market, as Mark said, we have a big base of business in China. We have the market leading position and we've probably seen more of a decline on the commercial side, commercial more of the commercial resi side. And so as we have adjusted inventories and as we've been working to now make sure that our resources are allocated more broadly across some of the other verticals, we're starting to see a real strong pipeline develop and we're converting that pipeline. So as Mark said, through the second half, we'll get back to positive, positive orders as well as positive revenue by the end of the year. So we're confident that we're going to recover that. And then then Scott in general, just making sure that we're with the differentiated solutions that we are deploying. Not only are we getting the share, but then from a service standpoint, getting the attached service also.

OK, that's actually really helpful. And then switching over to data center side, I mean, where you understand your traditional capabilities and then silent error gave you, I think it was error handling capabilities at a higher level. Where are you as far as capabilities at chip level cooling? And is there anything and anything, any partnerships that you are forming to address liquid cooling?

So let me let me frame up data centers because it has been obviously a key area for us as we've been deploying our resources, investing over the last few years because we saw this coming. I'd say that we are well positioned with the cooling technologies and solutions. And a lot of that is working directly with each of the key hyperscalers and colos. Now, we are partnering with them, understanding from a technology deployment, how does that cooling technology then get deployed at the chip? And depending on on how these are going to be configured. So we're making sure that only with our not only with our innovation and investment, it's it's it's complemented with what we're doing and how we go to market to serve their needs. So we've got the right capacity to meet the increased demand. And like like like we said earlier, we're providing more than just chillers. So as we go in with our customers, we've got strong capabilities across their handlers as well as cross. And and now we're including the full solution, including controls, building controls, fire and security. Now, as you look at the how these data centers are being designed for the future, they're going to be over a gigawatt of power consumption. They're going to need a wide range of of air cooled and water cooled to support the exponential growth to support as well as then how it's deployed from a liquid cooling standpoint. So not only are we innovating with a high hyperscalers and colos, but making sure that we are partnering with the right application of our cooling technology that ultimately delivers the most amount of efficiency. And I would say, Scott, that the investments we've made with R&D and with the world class laboratories that we designed, build, test and demonstrate performance of the equipment over the entire data center operating envelope, we've engaged almost 100 percent of the data center operators and working very closely with them, not only with how we differentiate the solution, but as important as Mark said, we've been investing and making sure we've got the right capacity with the right technology to ultimately be able to support the demand. We're projecting right now, when I said our orders in the first half exceeded all of fiscal year 2023 orders for data centers. And we have a pipeline that continues to support that type of growth. So we've been adding capacity to meet this demand. And I believe we are positioned to you see some of these forecasts that projects potentially 50 plus percent growth over the next few years. And we're positioning to be able to serve that. And so I think that is what gives us confidence as we get through the year. We see continued strength in orders. And then as we set up for 23, a good visibility into, I mean, 25, good visibility in our ability to be able to continue that trend.

Thank you. And our next question today comes from Joe Day with Wells Fargo. Please go ahead.

Hi. Good morning. Thanks for taking my questions. Mark, just a couple of clarifications to start. First, in terms of the quality issue and confidence that there are not kind of additional reserves going forward, anything from a from a timeline to remediate. And then secondly, just related to your answer to Nigel's question, when you're saying high single digit implied growth, was that a back half of 24 common or was that a fourth quarter common?

It was a fourth quarter common, just just to clarify on the quality we are early in the process. These, again, are very unusual. At this stage, we don't expect anything additional, but we are still reviewing how we are going to develop and deploy that that firmware fix. And generally, we're able to to resolve those issue fairly quickly within a couple quarters. So it's not something that's going to drag along for years on because it's it's critical for us to to to fix those pretty quickly.

Got it. And then I wanted to ask on global products and the applied organic down mid single digits, the like commercial up mid teens. And when we look kind of year ago, both had pretty challenging comps. And so just any additional color on on the difference in those organic trends in the quarter, regional or otherwise.

Oh, I would say across our applied. I mean, when you look at, I mean, both, whether it be direct or indirect, and we have a much higher mix as we're differentiating our solutions, our commercial solutions business. When you look at the overall applied volume on a two year stack, we're up over 20 percent in the pipeline right now that we're building is extremely strong because of the the secular trends that we're we're addressing, which is the data center expansion and a lot of the industrial expansion as well as the focus on sustainability. So we've been positioning our technologies globally, regionally to be able to get more than our fair share. And I think we're positioned to continue to see that trend.

Thank you. And our next question comes from Julian Mitchell with Barclays. Please go ahead.

Hi, good morning. Sorry to be a ball, but just to sort of try and circle back to the second half assumptions for a second. So I think the segment margin is guided around sort of 17 and a half percent in Q4. And you just did 14 and a half. So maybe help us understand, you know, that 300 bits uplift. Is there anything by segment that stands out or they're all up a healthy amount? And just, you know, there's a bunch of questions on China and a pack. So just to understand for the year as a whole, what's the a pack building solutions revenue expected to be down? I think it was down 22 percent in the first half. So what's the full year assumption for that a pack B.S. a revenue change, please?

Yes. So so first on on the second half and your direction, a correct on Q4 segment again, our expectation there and where that margin comes from is really driven by by three things. Improvement in in in of mix associated with the gross in our service business. As you know, the service business is much, much more profitable than our system business. It's the volume increase we are seeing both in our residential business as well as a book bill business where all those have been progressing well throughout the second quarter. As we enter the quarter, that volume provides benefit in terms of absorption and productivity within our manufacturing and provides good leverage and allows us to to to get there. And then we've addressed our base cost earlier in the year. And we set ourselves up for the ability to leverage the piano a little bit better than we've been able historically. And that's why we are comfortable as where we where we are. Now, for for the full year on on Asia pack, I would say if you if you look at where we've guided, we've assuming a meeting negative growth for the full year and the sequential growth, as you can see, will therefore be will therefore be positive in the fourth quarter in order to obtain that weighted average performance for the full fiscally of 24.

That's a very clear answer. Thank you for that. And then just my second question, just to understand that data center exposure a little bit better. I think George, you gave a very clear explanation of the products and the focus points for JCI. But in terms of sort of revenue, the two billion of sales you mentioned, George, I think that that's a twenty twenty three number, is it? And just to understand maybe any sense of how those sales split across kind of HVAC, you know, BMS and fire and security.

So, I mean, when we look at the two billion, that's you know, that was the twenty twenty three, as you said, and then we're obviously seeing a significant pick up on that this year. So, as we said for the first half, we were already at the level that we were all of last year. Now, a significant amount of that is being driven by by the cooling technologies across our, you know, not only our air, cool water, cool, but but also the application of silent air. So we've got a good pick up there. What we're doing is making sure that as we're working with the hyperscalers and colos that we're now going to market in more of an integrated solution that that ultimately creates a lot more value and how that that solution is put into into service. So you can imagine with all of the technology integration that we we've been having with these providers, it is really differentiating what we're actually doing. And so and we've we've already seen a big pick up in air handling and cross and now we're seeing the pick up and building controls and and then more recently now fire. So you're going to start to see, you know, a more broad portfolio that ultimately is going to be delivered through those solutions. And then what's important is that we're getting, you know, all of that connected and ultimately put into service. So the ability to be able to then provide service through the lifecycle. So we're making really good progress there, Julian.

Thank you. And our next question today comes from Noah K. with Oppenheimer. Please go ahead.

Thanks. You mentioned need to see services growth acceleration in the back half as part of the key to getting the high end of guidance. I mean, it was up 13 percent right in terms of orders and to Q. What kind of acceleration do we need to see and what's your visibility to that?

Well, what we need to see is where we were. I mean, we were we were, you know, pacing high single digits pretty consistently the last couple of years when the cyber incident hit in the first quarter. That that really set us back, set the momentum back because it hit a number of our systems that ultimately execute not only from orders, but ultimately how we fulfill service. So we are regaining the momentum, as we said across the globe. I would say we're we're executing well on that strategy, recovering from that, that lost momentum. Obviously, the focus that we have in becoming a commercial solution building solutions provider is now being able to leverage our entire installed base. Being able to differentiate the outcomes that we can deliver, maximizing the value over the life cycle for our customers. And then the where we were the most impacted was North America. And that's our largest geography. We did. We did make progress in Q2. That's continuing. And we're going to see that continue to accelerate Q3 and Q4. And then we get back to really strong, sustained, high single digit, double digit service growth on a go forward basis. You might, Mark talked about this on in a mail and APAC. We've already recovered. We're already back seeing double digit orders and growth in a maila. And we see accelerating orders in Asia pack. So it's a matter of just the timeline and our ability to be able to get that same momentum back in North America.

Thanks, George. I think you mentioned the remarks that applied and controls orders in North America were up 50 percent, nearly 50 percent. So please confirm that. How concentrated was that in data center, given the focus, or was it somewhat more broad based?

Yeah, so that 50 percent was around HVAC applied as well as control for North America, North America, in terms of orders this quarter. So a very, very strong momentum. A lot of it came from from that data center. Some of the key colors and key hyperscaler are accelerating their orders. But what's also incredible to see is the pipeline continue to grow even after a lot of all those are coming in. So we think that momentum is going to continue building and we are very comfortable about about achieving those targets.

Thank you. And our next question today comes from Andy couple. It's a city group. Good morning,

everyone. Good morning, Andy. George or Mark, can you update us on your progress in terms of improving your margin? And Emila, I know you've talked about all the changes you made in terms of project selection. Would you say your progress is in line with what you expected and what's your confidence level that margin should reach double digits by the end of the year?

No, we question Andy. So so first I want to start by saying we are pleased with the performance in Emila in the second quarter. While it's not yet at par with the the regional peers, the rapid progress we made both on backlog growth and margin in such a short period of time is a testament to the transformation and the application of that one end to end operating model George was talking about. I'm very proud of what the regional and functional teams have been able to achieve by leveraging further that integrated global business solutions operating model. And as you look at the balance of the year, we have two strong tailwinds in Emila. The first one is we see a continuous strong mix that is provided by the robust growth in service you saw in Q2. And the second one, we continue to improve the older margin rate that are coming in our backlog. And that's really coming from an improved go to market strategy we talked about as well as better commercial discipline. These two factor combined with the fact that we've right size of base cost structure provide us with great visibility to achieve double digit segment margin. And maintaining the towards the end of the year.

Thanks for that, Mark. And then George, I just want to follow up on your commentary regarding your pipeline of opportunities in China. It seems like maybe you're undergoing more of a transformation from call it traditional commercial markets there to non traditional markets. I don't know if that's a fair characterization, but maybe you could comment on that. But you also sound confident regarding an order of sales recovery by the end of the year. So maybe you could elaborate on the risk that the recovery could could slip.

Yeah, so a year ago as we're rebuilding up to the second wave of cyber, there was a hole. We're rebuilding our volume there and rebuilding inventory. And if you look at year on year in Q1 and Q2, there was a ramp last year. And obviously we have a tough compared to that. What I would tell you is we are broad based. So we're not just in the commercial resi, but it's it's we're in broad based all of the end markets. What I would tell you market back, we we know where the opportunities are, how we're positioning, how we're deploying each of our technologies and differentiating the solutions. We go to market. We're back, you know, really building. So building not only a very strong pipeline, but we're converting and historical rates as far as how we're converting to orders. And so that is what gives us confidence that with the backlog we're building, it's going to, you know, as it converts here during the fourth quarter and then the revenue that that really we get back to. To on a positive basis by the end of the year, we're we're very bullish on the business. It's we've got a great we've got a great product. We've got a great facility there. And it's just making sure that as we reset, you know, with the inventory build that we had last year that we're now reset to where the market's going to be and and ultimately how we capitalize on on more than our our share.

Thank you. And our next question today comes from Joe Richie with Goldman Sachs. Please go ahead.

Hey, good morning, guys. So I have a couple of quick clarifying questions. I just said the thirty three million dollar product liability charge that you took this quarter. I'm just I'm just a product quality charge to take this quarter. Like, what portion of your product portfolio is that actually touching? And it just I just again, just want to get some comfort around ring fencing that number. And then also on the factoring program, you know, what should how should we be thinking about the impact from factoring through the remainder of the year?

On the on the product, Joe, that's in our fire detection business. It's a sensor that ultimately, as Mark said, firmware in a sensor that the legacy product as far as when we look at all the product is being produced today, it's totally compliant. So it's making sure based on what we've seen with a couple of failures, making sure that we're addressing that in the legacy product. And as Mark talked about, that's how we kind of estimated what that potential could be. And we're going to be disciplined in how we actually go about remediating that

on the on the factoring and the finance charges. Yeah, the unwind of the factoring will provide some some benefit in the balance of the year. What's upsetting part of that is is the the PFA settlement. As you know, we are going to settle seven hundred fifty million dollars as well as slightly higher interest rate environment than we had originally anticipated. But I think the factoring and the cost benefit that that it provide gives us confidence that that our guidance is is at the right level.

Got it. OK, that's that's both helpful clarification. Thank you. And then my my other question was really just around the what's happening with global products mix going forward, because it seems like the guidance is baking in a pretty good improvement in global products margins. And I'm just curious, like, is global products products expected to turn mix positive in the second half? I know it was a headwind this quarter. Just any color on that would be helpful.

You know, when you look at global products, historically, when you're in a more stable environment year on year, I mean, last year we had a tough year because as we were we were really working down backlog that had built up with all of the supply chain disruption and then when lead times went back to normal, you know, obviously we were shortfall of orders and orders coming in through the year. As Mark said, we're back to normal flow of orders to fulfillment. We've got our lead times down back to where they were. And so we're seeing good flow right from market demand orders, building backlog and then converting on the margin side. You can imagine when we were disrupted, there was significant cost with that disruption. And so we have been significantly improving the productivity as we've recovered. Now with normal flow instability, we're getting significant conversion cost productivity. And then with the continued volume increase on the conversion in the second half, that'll lever really nicely in the second half from a margin standpoint. And then what we've done across the company, as we went through this cycle, we've taken out significant, significant GNA. And so as we've as we've addressed that across the board and gone to one operating system, we're going to start to see much better leverage on our GNA structure.

And then I would add on mix what you saw in the quarter that that negative mix of 80 million dollars global product really came from the volume challenge we saw in APAC that really led to an under absorption global product. Outside of that, the general mix of the product is is neutral to the margin global product. What you get is really the lift George just just talked about.

Thank you. And the next question today comes from Jeff Sprague of Vertical Research. Please go ahead.

Hey, thank you. Good morning, everyone. Hey, a couple of questions, obviously, on the Q4 guide. And I know there's kind of some squiggles around the growth rates and everything, but it does seem to me that if Q3 is a low single digit organic growth and Q4 is high single digit, eight or nine, and the year is closer to three. So maybe just to address that, is that kind of what you're thinking? You're kind of progressing towards the very low bound of what we might call mid single digit for the year.

I mean, I would think of Q4 in the in the teens, you know, 10 percent of the growth. And I think you're right. There's a step function change between Q3 and Q4 on the growth standpoint. But I don't think it's it's that challenge. If you see the momentum we see in orders.

Because I just to clarify that, though, somebody asked you if it was slow double digits and then you said high single digits. But now you're saying low double digits. I

think all digit to achieve to attain the midpoint of where we're guiding to get to the high end. You would need you would need that that that that 10 percent growth rate in Q4.

I see. OK. And what was the nature of the goodwill charge in the quarter?

That will really lead to an impairment charge we took on our subscriber business. That subscriber business it was, you know, a segment. And it came really from a combination of a small actual result delta. This is an internal forecast we had, but it was mostly associated over time. The effect that the Argentinian peso had in the mix of result of that particular of that particular business. Then I remind you that that impairment is non cash in terms of what the charge relate to. And it has absolutely no impact on our ability to deliver free cash flow for the balance of the year.

And then just a really quick follow up just on cash. So the PFS settlement you're expecting to go out the door here before the end of the year. And are you expecting any insurance recoveries against that in 2024? Or that's more of a kind of projected negotiation with your insurers?

Yeah, the PFS settlement will be in two tranches as a third tranche coming coming shortly and the second tranche later in the year. I do not want to speculate on the timing of the recovery of the cash from the from the insurance. I would tell you we have significant insurance with about one insurer. We are doing everything we can to recover as much as we can. We we we have a line of sight of recovering a very material portion of the of the settlements. But at this stage, I'm not being able to to pin down an exact timeline on that recovery.

Thank you. And our next question today comes from Guadalupe Conner with TV talent. Please go ahead.

Yeah, thanks. Good morning, guys. Good morning.

How are you?

Doing well, thanks. Hey, I had a couple of questions on the divestment. First, I was curious if you could characterize the level of interest from potential suitors, if you could talk about maybe the aggregate tax basis and if you could also speak to any potential disenergies and if you have any quantification of that, that would be helpful. Thank you.

I mean, I don't want to over speculate on on on exactly where we stand. What I'll tell you is that there's different combination of of divestiture structure that we are looking at. And we're simply trying to optimize shareholder value and our ability to return a very large portion of that. The proceed associated with the divestiture back to shareholders. The divestiture will require like any material divestiture for us to take action around our base cost and our central cost of operating with good line of sight to to to action that we we've already started planning around it.

Can you speak to the timing or the tax basis of the of the assets? So we can actually.

At this stage, it'd be very helpful for me to pin ourself down on the timing. We're doing everything to accelerate the process depending on how we structure the divestiture. The tax effect will be very different. So at this stage, that giving you a very wide range of the different options that are being considered from a from a divestiture structure, I don't think would be helpful. But again, we're doing everything to maximize shareholder value here.

Thank you. And our next question today comes from Dean Dre at RBC Capital. Please go ahead.

Thank you. Good morning, everyone.

Morning, Dean.

I just want to take another pass at this the page five data center exhibit, which is terrific. And especially the pie chart at the bottom that does show all the different products and services that JCI offers. And it goes back to Julian's question to be really helpful. We just really rough size some of these categories. So if I said cooling and I group chiller space, cooling and monitoring as one bucket and then fire and security is the other two. Would rough numbers be 60 percent cooling and then 20 each for fire and security? Would that be the right neighborhood?

Yeah, I would say it's it's about it's in the range where about two thirds would be chillers and then the others would be air handling, would be cross, would be fire security, all of the other systems that ultimately support the deployment of the cooling technologies. Great. That's really helpful.

Just you know, I think a lot of people think of the security side, just the three levels of access that most of these data centers have. But if you look at just about every row of these data center rooms, there's there are cameras and fire suppression on every row. So this is part of your offering. Correct.

It's absolutely part of the offering and those very complex solutions. We are really set up with our engineering, our product offering to really leverage that market. And that's where we see the pipeline continuously growing as the complexity and the structure of those data center continue to increase. And

Dean, I think it's important to note also from a service standpoint, when you go to one of these sites and you see the installations and all of the equipment, both across the domains, what is really strong is our footprint providing the service. And so how our teams then are positioned to support all of these large facilities that are being put up. And so that's where we see significant opportunity to be able to deploy our system so that then from a lifecycle standpoint, we have the domain and expertise deployed to be able to support these large operations.

Terrific. It's just one last quick one for Mark. I know it's still early, but when would be the earliest we might hear some reset working capital metric targets?

I think we're still early in stage, as you mentioned. We are looking at next year and where we're going to deploy our resources from a growth standpoint. I think as we as we close Q4, we'll probably be able to give you a strong view on where we're going to land for next year, as well as our long term algo. But I don't think we'll shy away from the comment I made last time that 85 to 90 percent free cash flow conversion plus over the long term is really where we should be thinking.

Thank you. And the next question today comes from Andrew Oben with Bank of America. Please go ahead.

Hey, guys. Good morning. Thanks for fitting me in. Morning, Andrew. Morning, Andrew. Just a question. We're looking at macro data and it seems that labor inflation is picking up back again. How are you guys thinking about your contract structure, you know, particularly on the installation side in the face of inflation? Are you sort of giving any thought, you know, you've clearly cleaned up the balance sheet was factoring. This is great. Are you guys giving any thought about sort of resetting the contract structure to maybe adjust for the fact that we in a higher inflation labor inflation environment for longer? I know it's a big long question, but would love to hear your thoughts. Thank you.

No, I what I would say is when we went through that high inflationary period, obviously that exposed a lot of our weakness because we were in a low inflationary period for so long. We built very robust pricing and, you know, costing pricing and then from a selling standpoint, focusing on value. And so as we plan long term now, we're factoring in, you know, we're from a from a costing standpoint, you know, anticipating higher than level higher than the, you know, the the kind of the market forecast on inflation. So we've been factoring that in and then making sure we have contracts that ultimately gives us the opportunity to be able to to be able to recover longer term on some of the longer term contract. So we've been and that's been deployed across the globe. What I would say we have very robust pricing, costing as we do deal reviews and making sure that we're we're going to be positioned to be able to achieve the margin rate that we're booking. So we're now in a situation where we're booking much higher margins and then we're executing at or above those margins on a go forward basis. And that's a big deal. And that's a big part of our in our solutions business, our ability to be able to deliver stronger margins on going forward.

Great. And then just a follow up question. If we look at the bookings on data center, clearly got a lot of attention growing 50 percent plus. What's happening? You guys have kindly provided a very nice pie chart of your end market breakouts. Can you just highlight what else is doing well? And if there are any headwinds within your key and market verticals on applied? Thank you.

Yeah, I mean, what I would say is broad based. When you look at our applied business right from and we have the full portfolio of technology, whether it be water cooled chillers, air cooled chillers, which obviously is is focused on data centers, you know, the silent air packaged cooling solutions that we deploy. So when you look at what we see, it's not only data centers, but it's the industrial expansion that we see, you know, pretty much globally. It's education. It's been some some government and more important as a broad based demand addressing some of the challenges that our customers are having achieving their their sustainability goals. And so we can go in and ultimately package a solution and then with that, be able to get significant savings that actually then get, you know, in some cases get a decent payback. And so it's broad based and our applied applied business across and market. Certainly data centers is is a key driver.

Commercially in Europe, I made a comment in the opening remarks around industrial refrigeration growing, growing really fast. There's multiple pockets of the market that are growing, probably not as fast as what we're seeing in data center, which is really unprecedented and continue to see that pipeline growing. But we see pipeline grows across the board

across the board. And then, you know, what we've learned is technology wins. And so we we've been investing multi year in our technology differentiation. And as we're applying that into the key verticals, that's what ultimately is delivering the value.

Thank you. And our next question today comes from Steve Walkman with Jeffries. Please go ahead.

Great. Thank you guys for fitting me in. Just a couple of the real big picture questions for me. First one, you talked about some investments in, I guess, product development, et cetera, but also some capacity. Is there any reason to think there'd be a step change in that as we go to next year? In other words, are there some projects that kind of get done or is that a good run rate?

Well, when you look at our reinvestment and we've been talking about this for multi years, you know, applied when we look at our applied cooling, we're a significant leader in that space across the globe. And we've been investing in multi multi generational technologies. And if you were to go to our technology center in New York, Pennsylvania, our JEDEC center, you would see that. So we've been significantly elevated reinvestment over the last number of years, which has ultimately positioned us with the competitive advantage we have today in data centers. So that's going to continue. And then on the capacity side, certainly we, you know, from an investment standpoint, we've been we've got great factories across the globe. And then now we've been scaling those factories to be able to now support this data, you know, what's being driven by data centers, but the data center demand. And so we saw it coming. We started coming two years ago. We started that expansion. But obviously that has accelerated over the last 12 months. And we're strategically engaged with each one of the hyperscalers and colos and understanding exactly what is going to be built here. You know, multi years and we're positioning to make sure we have the right, as I said earlier, the right technologies with the right capacity to then be able to support their buildup. And so all of that has been factored in, you know, our current run rate of reinvestment.

Thank you. And ladies and gentlemen, this concludes your question and answer session. I'd like to turn the conference back over to George Oliver for closing remarks.

Yeah, let me wrap up. I want to thank everyone for joining us today and like to end the call by highlighting the strong foundation of operational excellence at Johnson Controls and our value creation framework. I think we demonstrated with the disruption in Q1 and then as we've now come back and create a momentum in Q2 gives us a lot of confidence that we're beginning to see, you know, not only the results, but now more important. The opportunity to be able to accelerate here as we go forward. You know, our results demonstrate that we're both capturing the secular trends around sustainability and healthy buildings and that we do have the right strategy and operating system in place that ultimately not only meets our customer needs as a preferred partner, but certainly elevates the ability to be able to return, create returns for our shareholders. So we are very excited about what is to come and what we see now playing out. We believe that we are poised to continue creating value for our shareholders and we all look forward to continuing engaging with all of you here over the next days and weeks as we continue to execute. So with that, Operator, that concludes our call.

Thank you, sir. You may now disconnect your lines and have a wonderful evening. Thank you.