Pentair PLC

Ladies and gentlemen, thank you for standing by and welcome to the Q3 2020 PennCare earnings conference call. At this time, all participants are in a listen only mode. After the speaker's presentation, there will be a question and answer session. To ask a question during the session, you will need to press star one on your telephone. Please be advised that today's conference is being recorded. If you require any further assistance, please press star zero. I would now like to hand the conference over to your speaker today, Mr. Jim Lucas, Senior Vice President, Treasurer in Investor Relations. Thank you. Please go ahead.

Thanks, Mariama. And welcome to Pentair's third quarter 2020 earnings conference call. We're glad you could join us today.

With me today is John Stein, our president and chief executive officer, and Bob Fishman, our chief financial officer. On today's call, we will provide details on our third quarter 2020 performance, as well as our full year 2020 outlook as outlined in this morning's press release. Before we begin, let me remind you that any statements made about the company's anticipated financial results are forward-looking statements subject to future risks and uncertainties. such as the risks outlined in Pentair's most recent Form 10Q, Form 10K, and today's press release. Forward-looking statements included herein are made as of today, and the company undertakes no obligation to update publicly such statements to reflect subsequent events or circumstances. Actual results could differ materially from anticipated results. Today's webcast is accompanied by a presentation which can be found in the investor relations section of Pentair's website. We will reference these slides throughout our prepared remarks. Any references to non-GAF financials are reconciled in the appendix of the presentation. We will be sure to reserve time for questions and answers after our prepared remarks. I would like to request that you please limit your questions to one and a follow-up in order to ensure that everyone has an opportunity to ask their questions. I will now turn the call over to John. Thank you, Jim, and good morning, everyone. Please turn to slide number four, titled Executive Summary. First and foremost, we hope that everyone is and remains healthy and safe. I'd like to start by expressing my sincere gratitude to all of our frontline employees for their continued commitment to our customers and shareholders. Our performance could not have happened without these teams and their dedication to the Pentair Winwright values and our customers. While the world we live in continues to face much uncertainty, we were pleased to deliver strong third quarter results with double-digit gains in sales and EPS, while also delivering robust free cash flow. We'll discuss the details of the quarter shortly, but we believe our mix of residential-focused businesses has helped differentiate our results in these uncertain times. Despite the ongoing challenges and uncertainties that persist, we have continued to invest in our top growth priorities and digital transformation. We have successfully soft-launched both the Pentair Home and Pentair Dealer apps, and we expect 2021 to be a great year for a number of new connected products across many of our businesses. While our businesses are seasonally stronger during the second and third quarters, we're expecting a strong finish to 2020. I'm proud of all of our businesses' commitment to strong execution in a continued challenging environment. I would now like to turn the call over to Bob to discuss our performance and our financial results in more detail, after which I'll provide an update on our overall strategic position. Bob? Thank you, John. Please turn to slide five, labeled Q3 2020 Pentair Performance. During the third quarter, we delivered sales growth of 12% and core sales growth of 10%. On a core basis, consumer solutions was up 23%, while industrial and flow technologies declined 4%. I will discuss the details for each segment on the subsequent slides. Segment income grew 14%, while adjusted EPS increased 21%. Our tax rate of 13% was a true up, as we now expect our annual tax rate to be 15 percent price was minimal in the quarter as the elevated volumes we experienced in the quarter primarily in pool resulted in a higher than usual level of rebates with our channel partners likewise our productivity was offset by additional expenses incurred such as increased hiring to help keep up with demand and higher overall incentive compensation on a year-over-year basis. Please turn to slide 6, labeled Q3 2020, Consumer Solutions Performance. As a reminder, nearly 80% of consumer solutions serves residential markets. Many of our products have been in higher demand this year, given consumers staying at home. For the quarter, sales grew 25%. Segment income increased 39%, and return on sales expanded 250 basis points to 24.2%. Pool was clearly a strong performer this quarter, with a 46% increase in sales. This follows a flat performance in the second quarter, which is worth discussing for a moment. In a normal year, the pool season starts in March or April. In 2019, we saw a late start to the season due to cool, wet weather in several key markets. This year, we saw a pause in business the first part of April as the industry tried to understand the impact of lockdowns in the US. By May, orders started to return. As June drew near, the industry was experiencing unprecedented demand as consumers sheltering at home were investing in their existing pools, upgrading their pools, or seeking a new pool to be built. In fact, dealers across the country began to experience a backlog of activity that resulted in many quotes for new pools being delayed as dealers were struggling to keep up with demand. As those events transpired, we experienced some delays in our supply chain and our own manufacturing plant in April as we adapted to a new normal that included social distancing within the plant. This had a negative impact on productivity and affected our usual ability to deliver quickly, which resulted in a higher than usual disparity between our sell-in rates and the industry's sell-through rates. As the third quarter began, we had our manufacturing ramped up and our supply chains in line, and we worked diligently to meet strong industry-wide demand. While the pool season officially ends in September, orders have remained healthy, albeit not at third quarter levels. Not only did pools see consistent linearity throughout the third quarter from a sales standpoint, but we saw strong demand across all product categories. Some products, such as heaters, have experienced above average demand as consumers are looking to open their pools earlier and close them later, given we are all still at home for the foreseeable future. Despite the higher than usual demand and a delayed start to the season, we've continued to invest appropriately in the business and have made good progress in furthering our automation offerings as well as expanding our overall product portfolio. There has been focus around an upcoming DOE regulation that will see further adoption of variable speed pumps. We've been working closely with our channel partners on educating them on the upcoming regulation. We continue to optimize our variable speed pumps to exceed DOE requirements, in addition to introducing new select models of single speed pumps for categories that will still be able to use single speed pumps in limited applications. While the pool season has been far from normal for the second year in a row, we still believe in the long-term growth prospects for this attractive space. Further, we believe that the first half of next year should benefit from still solid demand in addition to an easier comparison. We will continue to build on our position as a leader in the pool industry, and we expect 2021 to be a strong year for new product introductions for Pentair. Water treatment, which was formerly called Water Solutions, is more appropriately named given the breadth of our offering and the markets we serve within Consumer Solutions. Water treatment, as a reminder, is comprised of components and systems for the residential and commercial markets. While water treatment overall was up 2%, it has two very different stories to tell. To level set, water treatment revenue is derived from roughly 60% residential and 40% commercial markets. Within the residential facing businesses, we experienced near double digit growth as consumers became more comfortable allowing dealers back into their homes to test their water and install new systems. We have seen an increase in demand for our brand as consumers continue to focus on the water quality in their homes. On the commercial side, sales were down in the mid teens, which is a dramatic improvement from the declines experienced in the second quarter. While restaurants are experiencing a slow recovery and traffic levels remain depressed, our portfolio and focus on the quick service restaurant market provided some relief to the depressed overall market. We have had some success with new offerings like total water management, which is a new seamless end-to-end service where we specify and install high quality solutions and provide ongoing service to ensure consistent great quality water while in the early days of offering this new service we are seeing strong interest from new and existing customers we expect the food service sector to remain challenged for the near term but we are encouraged that we are not declining at the same rate as the industry and are identifying the new areas of growth despite the challenging environment currently. Please turn to slide 7, labeled Q3 2020, Industrial and Flow Technologies Performance. Industrial and flow technologies, or ISP, saw sales decline 3% as residential and irrigation flow grew in the quarter, while the other two businesses continued to be negatively impacted by a global freeze in capital spending. Segment income decreased 24%, and return on sales declined 360 basis points to 13%. Productivity was challenged in the quarter, principally as a function of a mix with lower margin backlog in addition to lower revenue spread across a higher fixed cost base. Residential and irrigation flow grew 6% in the quarter following a 12% decline last quarter. While distributors are still not stocking across the board, demand for some of the higher moving items continued throughout the quarter. The business experienced gains across all channels, particularly in the pro channel and at retail. Within agriculture, our OEM sales were flat, while aftermarket returned to growth. Commercial and infrastructure flow improved on a sequential basis as we continued to shift our lower margin infrastructure backlog. This mix negatively impacted the overall segment margin performance, particularly the drag on productivity. Borders in both commercial and infrastructure were down in the quarter, but the quote funnel in infrastructure remains active. Industrial filtration continued to be negatively impacted by a global capital spending freeze, but the business saw the rate of decline improve sequentially. In the larger food and beverage and sustainable gas businesses, we have experienced softness in both components and longer cycle projects. The other niches within industrial filtration have also experienced softness. Given this business overall is more exposed to capital spending, we would expect the order activity to resume in early 2021 as customers revisit their capital budgets. Please turn to slide eight labeled balance sheet and cash flow. While our sales and income performance were encouraging in this quarter, We were exceptionally pleased with our cash flow performance. For the first nine months of the year, we have generated over $450 million of free cash flow. The third quarter benefited from strong pool sales spread evenly throughout the quarter and our ability to collect on those receivables. We talked last quarter about the seasonality of our cash flow, with the second quarter historically being the strongest period. With the later start to the pool season and the shift of business to the third quarter, this contributed to higher than usual cash flow in the quarter. We entered the quarter with a net debt adjusted EBITDA ratio of 1.3 times, which is at the lower range of where we have talked about our target levels longer term. Between our $900 million revolver and no meaningful cash outlays outside of the dividend, we have more than adequate capacity to fund our growth initiatives, both organic and inorganic. We plan to remain disciplined with our capital and we feel good about the strength of our balance sheet and expect to deliver free cash flow for the year greater than our net income. Please turn to slide nine, labeled full year 2020 Pentair outlook. Following our strong third quarter performance, we have updated our full-year sales outlook of approximately $2.95 billion, and our adjusted EPS range is now approximately $2.35 to $2.40. Below the line, we expect corporate expense to be $60 to $65 million, net interest other of approximately $28 million, a full-year tax rate of 15%, and average shares to be around $167 million. We expect free cash flow to be greater than 100% of net income. I'd now like to turn the call back to John to provide an update on some of our key strategies. Thank you, Bob. Please turn to slide 10 labeled our longer-term aspirations. Our first two years are focused on developing our new standalone strategy, aligning our organization to our strategy, improving our new product pipeline and growth capabilities, and developing the right operating rhythm. Growing the top line organically, consistently, and predictably is our main area of focus. This starts with growing the entire portfolio at least greater than GDP and delivering income from our core businesses. We realize that not all businesses will contribute evenly, but we believe that our consumer solutions businesses are well positioned to drive above average growth and are important to building out additional legs of the business and creating our future. In addition, we continue to focus on improving our commercialization process, investing in our digital transformation to deliver more effortless customer experiences, and building our brand. We are focused on accelerating fewer, larger growth actions, including expanding our content and pool, and building up our residential water treatment offerings. Within IFT, we are exploring a few promising growth areas around sustainable gas and smart solutions with our food and beverage business unit. In addition to growing organically, we believe that there are attractive areas to add tuck-in and bolt-on acquisitions. We expect this will primarily be within our residential commercial water treatment business and includes both products and services. The addition of Pelican and Rainsoft to our portfolio have allowed us to both accelerate our learning and improve our growth performance. We are currently focused on building a robust opportunity funnel, given many of the businesses we are looking at are smaller and privately owned. We also focused on driving productivity and cash flow while optimizing our ROIC. PIMS, the Pensioner Integrated Management System, is an extensive toolkit that we must continue to deploy effectively. This includes not just our existing businesses and employees, but also future acquisitions and hires. We must ensure that PIMS is truly ingrained in our DNA. We do not have a capital-intensive business, and we believe this asset-light business model will help us further optimize our longer-term investments. We also believe there are further opportunities in our G&A spend that can become sources of self-funding for our growth investments. Our aspiration to become a top quartile performer in our space is well within our control, and we believe we are well positioned across our portfolio. Please turn to slide 11, labeled Living Our Win-Right Values Through ESG. One of the foundations of our culture is our longstanding commitment to our win-right values. These values help guide our organization as we work to achieve our highest potential. We are dedicated to holding ourselves accountable to the highest ethical standards as we drive to deliver on our commitments. Our purpose and our mission help to empower employees to make a difference within and beyond the workplace. As you can experience in our recent 2019 corporate responsibility report, sustainability is not an initiative, but it's core to how we operate, the products we create, and the customers we serve. Our goal is to demonstrate leadership as a responsible corporate citizen in every country and community where we conduct business and wherever our products are put into use. As we highlighted last quarter, over 60% of our solutions support water efficiency, and roughly 75% of our solutions support energy efficiency. Our sustainable gas offerings are supporting CO2 reductions and reuse across the industry. At Pentair, we're committed to building and advancing unity, equity, and inclusion in our company and in our communities. We have amplified our focus on diversity in leadership roles and bench strength, We are committed to safety and a healthy workplace. We are focused on philanthropy, and we walk the talk as our efforts span six continents and reach more than 9.5 million people in 2019. We have strong governance practices. We have a diverse board of directors, which includes three female directors. The majority of our board is independent, and our board is led by an independent, non-executive chairman. We also have an anonymous employee helpline to report compliance or other concerns with dedicated compliance and audit functions. We also have a code of conduct in place for our employees and our suppliers to help align around responsible, sustainable business practices. I would now like to turn the call over to Mariama for Q&A, after which I will have a few closing remarks. Mariama, please open the line for questions. Thank you.