Pentair PLC

Ladies and gentlemen, thank you for standing by and welcome to the Q4 2020 Pentair Earnings Conference call. All lines have been placed on mute to prevent any background noise. And after the speaker's remarks, there will be a question and answer session. To ask a question during the session, you'll need to press star one on your telephone keypad. If you require operator assistance, please press star zero. I'd now like to turn the call over to your speaker today, Jim Lucas. Thank you. Please go ahead.

Thanks, James, and welcome to Pentair's fourth quarter 2020 earnings conference call. We're glad you could join us. I'm Jim Lucas, Senior Vice President, Treasurer in Investor Relations. With me today is John Stauk, our President and Chief Executive Officer, and Bob Fishman, our Chief Financial Officer. On today's call, we will provide details on our fourth quarter and full year 2020 performance, as well as our first quarter and full year 2021 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 10-Q, Form 10-K, 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 Pinter's website. We will reference these slides throughout our prepared remarks. Any references to non-GAAP financial 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 please request that you 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. I would first like to say how proud I am of the entire Pentair organization and the contributions everyone made to help deliver on our commitments to all of our stakeholders in a uniquely challenging year. Our teams navigated this unprecedented environment, and I believe that our company will emerge stronger as a result. I would also like to take this opportunity to thank all of our global channel partners and suppliers for their patience and efforts in working with us and our consumers to meet our commitments despite the effects of the ongoing pandemic. We are pleased to deliver 2% sales growth and 5% adjusted EPS growth for the year. We generated over $500 million in free cash flow and returned over $275 million to our shareholders through dividends and buybacks. While navigating this uncertain environment and making sure our employees and customers were as safe as possible, we continue to invest in our top growth priorities through digital transformation, innovation, and technology. During the year, we successfully launched both the Pentair Home and Pentair Dealer apps. We also launched a brand redesign of the Pentair.com website, allowing for better cross-functional use and microsite enablement based on feedback on how people want to interface with us. We also were able to fill out our management team by hiring Bob as our new CFO, Mario as the new leader for consumer solutions, Steve as our chief supply chain officer, and appointing Jerome Pedretti as our IoT segment leader. We have been busy building out capabilities throughout the organization, including adding over 100 IoT engineers in 2020 to drive connected solutions for consumers and for our OEM customers. We introduced new products like Fresh Point and Easy Flow in our residential POU category, our connected solution salt sensor for installed water softeners, advanced our leading sustainable gas solutions offering to recover and reuse methane and CO2, as well as introduced our brew assist digital services to remotely optimize our beer membrane solutions. By the end of 2021, we expect to have over 20 new IoT products in the pipeline as we continue to move our consumer solutions platform to smart solutions. We also made great strides in advancing our ESG stewardship, most recently appointing our general counsel, Carla Robertson, to the additional role of chief social responsibility officer. We recently completed a comprehensive ESG assessment to identify key topics of importance to our shareholders, customers, suppliers, employees, and communities. We are planning to announce specific targets, including science-based environmental targets, in 2021 to further advance our social responsibility goals and progress. We have spent the past few years repositioning our portfolio and making investments to build out the Pentair brand and create a better experience for consumers to help solve their water treatment needs. While we benefited from a residential-focused portfolio in 2020, we believe that the momentum will carry into 2021 and beyond. 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.

Thank you, John. Please turn to slide five, labeled Q4 2020 Pentair Performance. During the fourth quarter, we delivered sales growth of 5% and core sales growth of 3%. On a core basis, consumer solutions was up 8%, while industrial and flow technologies declined 3%. I'll discuss the details for each segment on the subsequent slides. Segment income was flat, while adjusted EPS increased 3%. Our tax rate was 14%, while net interest came in at $5 million. Price improved from the third quarter. Productivity did not read out in the quarter due to the fact that we paid bonuses this year, and we continued to see some of our facilities disrupted with higher absenteeism due to COVID. Please turn to slide six, labeled full year 2020 Pentair performance. Given the unusual timing of 2020 by quarter, we thought it would be helpful to look at the full year results to better appreciate the progress we were able to make in these challenging times. For the full year, core sales increased 1%, with consumer solutions growing 7%, and industrial and flow technologies declining 6%. Segment income was flat for the year, while adjusted EPS grew 5%. Price and productivity mostly offset inflation, but as we highlighted in the third quarter, the robust growth and pool led to higher than usual rebate activity that lowered price. We expect price and productivity to offset inflation going forward. Given the challenges that we faced in 2020, we were very pleased to deliver overall growth while still investing for the future. Please turn to slide 7, labeled Q4 2020 Consumer Solutions Performance. Momentum for consumer solutions in the third quarter carried over into the fourth quarter. For the quarter, sales grew 10 percent, segment income increased 9 percent, and return on sales was essentially flat. Considering the challenges the team faced in the first half of the year, the fourth quarter performance was a strong close to a remarkable year, and we believe validation for the growth prospects of the segment's portfolio of businesses. Poole experienced tremendous growth of 15% in the fourth quarter and slightly above that for the full year. The total pool industry received significant tailwinds from the COVID-19 pandemic, which forced consumers to stay at home and increase their desire to invest in their backyards. This trend has continued into 2021 as demand for new pools and pool maintenance remains strong. We believe the business enters 2021 with strong momentum. While the market dynamics assisted in the growth of the pool business, This could not have been achieved had there not been previous focus on increasing dealers and driving new products into the industry. That strategy allowed Pool to reap the benefit of the remarkable growth in 2020. This past year, we spent time building the foundation of data analytics, specifically around the performance of dealers and channels. This advancement allows the leaders in the business to better dissect the areas where the business is winning and where there are opportunities to improve. Specific plans are being developed down to the individual dealer to accelerate growth in core product areas. The data shows there is still growth potential in the core, even though the business has seen significant historical growth. Water treatment grew 4% in the quarter, with strong residential growth being offset by continued weakness in commercial. In particular, we saw the second consecutive quarter of growth in China, which we believe is a positive sign that the markets hit earliest by the pandemic have stabilized and are showing potential signs of a sustained recovery. Residential components posted high single-digit growth with strength in all geographies and product lines. We saw very strong growth in our key valves product line, which is a positive indicator for overall industry growth. We launched the FLEC connected valve during the quarter and are seeing early signs of market acceptance. We believe the overall North American industry, as well as Europe, continues to benefit from consumer focus on in-home water quality. Our residential systems and services businesses both delivered strong double-digit growth, as our investments to build out these businesses are beginning to read through. We had two new product launches during the quarter, our salt-level sensor and the FreshPoint EasyFlow point-of-use filtration system for existing faucets. In addition, we recently announced the acquisition of Rotion, which builds out our point of use product offering and complements our already strong point of entry portfolio. Equally important, we believe Roshan's product offerings allow Pentair to participate in an even more meaningful way to help tackle the growing challenge of single use plastic bottled water and its impact on the environment. Our commercial systems business was down low double digits in the quarter, but this was an improvement from the third quarter performance and the sharp drop off we experienced in the second quarter when many of our customers were forced to close due to shelter in place requirements. While our sales in this profitable product line have been down for three consecutive quarters, we are mildly encouraged that we have been outperforming the market. We attribute this in part to our strong cartridge replacements, mix of business, and also finding new business opportunities, such as our total water management program we discussed last quarter. While we have one more tough comparison in the first quarter, we expect commercial systems to continue its recovery in 2021. Please turn to slide 8, labeled Q4 2020 Industrial and Flow Technologies Performance. Industrial and Flow Technologies, or IFT, saw sales decline 1% as residential and irrigation flow delivered double-digit growth in the quarter, while the other two businesses continued to be negatively impacted by a global freeze in capital spending. Segment income decreased 22%, and return on sales declined 280 basis points to 10.6%. 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. IFT has also begun some notable activities aimed at reducing complexity and reducing costs, which include the discontinuation of several product lines. Residential and irrigation flow grew 12% in the quarter following 6% growth last quarter. this business normally does not experience strong demand in the fourth quarter but similar to our other residential facing businesses and consumer solutions there was broad-based demand for residential and irrigation following the slowdown in demand experience during the second quarter we saw all product lines contribute to the strong fourth quarter performance and we remain cautiously optimistic entering 2021 given channel inventory levels are still slightly below historical levels. Commercial and infrastructure flow declined 9% in the quarter as the business continues to experience soft demand. The business has begun to focus more intently on complexity reduction, resulting in the decision to exit several product lines. The focus within CNI remains on improving operational efficiencies in addition to building up the backlog with higher margin business. Industrial filtration continued to be negatively impacted by a global capital spending freeze as seen in the 8% sales decline in the quarter. In addition to the broader capital spending freeze, many of our industrial customers have been negatively impacted due to worldwide COVID-related lockdowns. We are seeing sequential improvements, and we are starting to see some modest increases in orders exiting the quarter, resulting in an increased backlog. Encouragingly, we have begun to see an increase in orders for our sustainable gas solutions business. Please turn to slide nine, labeled balance sheet and cash flow. One of the biggest positive developments in 2020 was the prodigious cash flow generation we experienced. For the full year, we generated $512 million of free cash flow, which was well north of 100% conversion for the year. One of the biggest contributors to our strong free cash flow was the linearity of pool sales in the second half and a minimal amount of early buy in the fourth quarter. This resulted in a dramatic year-over-year improvement in receivables collection. We also showed further strengthening of the balance sheet, ending the year at 1.3 times levered and the majority of our revolver available. During the year, we returned over $275 million to shareholders through dividends and share repurchases. Last December, we announced that our Board authorized the new $750 million share repurchase authorization, as there was only $100 million remaining under our prior authorization. In addition, the Board approved a 5% increase in our quarterly dividend to be paid in the first quarter. 2021 marks the 45th consecutive year that Pentair has increased its annual dividend. Our balance sheet remains in excellent shape to fund both organic and inorganic opportunities. And as always, we plan to remain disciplined with our capital. Please start the slide 10 labeled Q1 and full year 2021 Pentair outlook. We are initiating first quarter and full year 2020 guidance. For the first quarter, we expect sales to grow 7 to 12%, and adjusted EPS to increase 6 to 21%, to a range of 55 cents to 63 cents. March is historically an important month for the quarter, and we are still managing through sporadic and isolated COVID-related disruptions due to the recent global spike in infection rates, and are doing our best to ensure the safety of all of our employees. Below the operating line, we expect corporate expense to be approximately $16 million, net interest of $6 million to $7 million, a 15% tax rate, and a share count of around $168 million. For the full year, we expect sales to grow 3% to 5% and adjusted EPS to increase 5% to 10% to a range of $2.60 to $2.75. We recognize that our first half has easier comparisons that become more challenged in the second half. However, we expect continued demand in our larger residential-focused businesses and remain cautiously optimistic for our commercial water treatment business to show improvements throughout the year. We remain focused on investing in our most attractive businesses. Below the operating line, we expect corporate expense to be around $65 million, Net interest to be in a range of $20 million to $23 million. Our tax rate to be around 15%, and the share count is expected to average near 166 million shares for the full year. Capital expenditures are expected to be around $65 million, while depreciation and amortization is expected to be around $80 million. We continue to target free cash flow to be greater than or equal to 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 11, labeled 2021 Execution Expectations. Our focus for 2021 does not change from last year, as we are focused on delivering on our core while continuing to build out our future. As we enter 2021, our residential businesses remain strong, and we are encouraged to see ongoing signs of stabilization in our commercial businesses. Although we have not yet seen indicators of year-over-year growth, we are expecting recovery likely in the tail end of 2021. We believe that our smaller exposure to industrial capital spending will remain hindered for now. We have a long, successful history of price realization across the majority of our portfolio. We will monitor closely the rapidly evolving inflation environment and respond accordingly. We are also pacing our growth investments and have the ability to modulate as needed, but we prefer to remain on offense and build on the momentum of the past two years. We recognize that we have opportunities to address our cost structure, particularly within IFT, and we plan to act as appropriate. We discussed last year the G&A benchmarking efforts we undertook and identified that we have room for improvement. We are well underway in terms of our G&A efforts that are looking closely at our overall global enablement structure. Our goal is to deliver transformation plans that we expect will drive significant ROS expansion by 2024 while funding our strategic growth initiatives. As we look to the future, our priorities are unchanged around growing both our pool and water treatment businesses. We have identified growing interest in our sustainable gas solutions business and look forward to updating all of you in the future as we believe this business has exciting growth opportunities ahead. We believe that Poole is a long runway of continued growth. The Department of Energy regulation going into effect in mid-2021 is shifting the industry even further toward variable speed pumps, which is a category we helped to create over a decade ago. Today, nearly 60% of the pumps we sell are variable speed, while the industry adoption rate is closer to 50%. Over the next two years, we expect the industry, including us, to move closer to 85%, as it is expected that there will still be certain parts of the industry that will be able to use single-speed pumps. We also continue to invest in our automation platform for Poole and see strong adoption of our new offerings. In addition, despite being a leading brand in the U.S. on the pool pad, when a consumer contacts us directly on Pentair.com, it has not been the best experience for the consumer. We believe that there's a tremendous opportunity of engaging the consumer and curating their experience through our existing channel while also ensuring that the consumer received the experience that they desired. Within water treatment, we believe there are opportunities to rapidly expand our $50 million end-to-end residential services business and to be the leader in advanced technology and connected solutions and residential point of use solutions for our existing technology and the acquisition of Rocheon. We also have a leading commercial food service offering that we look to expand into other segments, as well as add important services for our customers. In sustainable gas, it is merely focusing on our high growth segment within industrial and adding global capability to accelerate our offerings. Finally, I wanted to touch on our approach to capital allocation, which remains unchanged. Our top priority is our commitment to our investment-grade rating. Our strong cash flows allow us to invest in our top organic growth opportunities. From an M&A perspective, we remain focused on strategic bolt-on and tuck-in deals and focus strategic priorities like I just shared with you. While M&A valuations remain elevated, we continue to actively build our deal pipeline and plan to remain disciplined. Finally, we are committed to returning cash flow to our shareholders through dividends and opportunistic buybacks. We believe that Pentair has a bright outlook, and we will continue to invest for the future while delivering on our core business. Our goal remains to deliver more consistent, predictable results for our customers, the environment, our employees, and our shareholders. I would now like to turn the call over to James for Q&A, after which I will have a few closing remarks. James, please open the line for questions. Thank you.

At this time, I'd like to remind everyone in order to ask a question, please press star followed by the number one on your telephone keypad. And we'll pause for just a moment while we compile the Q&A roster. And our first question comes from the line of Mike Halloran with Baird. Go ahead, please. Your line is open.

Good morning, everyone. Hope all's well. So a couple things here. First, can you just help bounce out a couple comments that Bob made on a whole and how that tracks for this year around inflation, price costs? The commentary was price cost positive expectations this year. But not a lot of channel fill, even though there were some rebates last year. Inflation kind of hits you in the fourth quarter a little bit. Maybe just give some context on how you think that balances out through the year and then what the pricing environment looks like for you as we sit here today.

I'll take the first part. I'll have Bob come on the second. It's feeling like 18. I think inflation-wise, we're seeing a lot of the commodities that we buy hitting record levels, right? And if you think about it, it's simple context. You can just take a pump. You know, the copper goes into a motor, gets wound, copper's up. It goes into a metal housing. Metal is at all-time highs. And then that goes into a corrugated – box that gets shipped to a customer, right? All three of those are seeing record inflation levels, primarily being driven by what we think is a spike in China recovering demand. Mike, so I think inflation's high. I think as we enter this guidance and look at next year, we think we're balanced between the price we think we can realize from the channel and where we are on the inflation pressures as we head into next year. If we need to do more, I think there's an opportunity to do so because I think the inflation that's hitting us will also impact the whole entire industry. Bob, I don't know if you want to add anything.

I'd just add that price was challenged in Q3 and Q4. We did see higher rebates that mask some of that price gains. And the planning assumptions for the year are that price and productivity offset inflation. And then to John's point, as circumstances change, we'll need to work on the different levers that are at our disposal.

That makes a lot of sense. And then maybe just talk a little bit about the supply chain on the pool side. How are you thinking about visibility as we go into the front part of the year, backlog levels, channel fill, things like that, and any reason to think that weather aside, that a normal sequential pattern isn't a reasonable thought process moving through the year?

No, I mean, I think you're thinking about it the right way. I think we've got our supply chain and our plant capacity to a level now where, you know, we're shipping at rates that are helping us, you know, catch up at a more rapid pace. And, you know, clearly the demand remains strong, but we're able to meet that demand. And I think right now, you know, pending any other COVID disruptions, which we're hopeful we're getting through most of those, we feel good that your assumptions are accurate.

Good. Thanks, guys. Appreciate it. Thank you.

Thank you.

Our next question comes from the line of Andy Kaplowitz with Citi Group. Go ahead, please. Your line is open.

Hey, good morning, guys.

Morning.

Morning. John, Bob, you obviously talked about the significant leadership change at the company. We know you've got a plan to get G&A out. As you think about 21, maybe sort of talk about what's in the guidance. And it's interesting you talked about maybe getting out of several product lines and C&I and industrial filtration. So how much could sort of the proactivity and the self-help help you in terms of your margin in 21?

Yeah, so, Andy, I don't think we've – made any decisions to exit any parts of our portfolio. I think we've got certainly areas of the portfolio that could do better. But when I step back and we looked at the G&A transformation, I believe it's more than a G&A transformation. I think what we learned from 2020, the way we sell globally, the way we interact with our customers, a lot of the virtual capability that was brought in and how we work with our channel partners, the demand to have a more consumer-enabled and have that be an effortless process through ordering on the Internet, that's a shift. And we think we have an opportunity to take a look at our global cost structure and to think about where we should put the work and where's the right person doing the right work at. And there's an opportunity across the portfolio to drive significant margin expansion for that. Same in operations and sourcing. I mean, we have factories that are at record capacity levels, and we have other factories that are undercapacitized right now. So all of that is in what we're labeling a transformation plan. In 2021, I think it's more planning, you know, the efforts to get after it. And then I think we're confident in 22 and beyond, we start to realize the benefits of all those efforts.

And then I think you mentioned some improvement in orders within industrial filtration and turn and backlog. So, have you seen in general your customers start to revisit their budgets? You talked about still tough environment and capital spending, but maybe is that starting to turn? You mentioned China, a couple quarters in a row is a little bit better there. So, in general, what are you seeing in some of those CapEx businesses?

Yeah, so what we saw in 2020 for many of those businesses was down double digits. And so the good news as we look into the 2021 plan is, you know, those businesses were planning to be, you know, roughly flat. So stabilization... for those businesses, you know, some growing backlog in certain cases and some signs of increased demand. So I would consider 2021 as being a stabilization year and potentially some upside if things improve. Thanks, guys. Thank you.

Our next question comes from the line of Steve Tusa with J.P. Morgan. Go ahead, please. Your line is open. Hey, guys. Good morning. Hey, Steve.

How are you doing? Hi, Steve. Good. Throughout 2018, I'm not sure that was that memorable of a year for your stock. I think that there was some difference in the timing of seeing that inflation, if I recall. You guys got, I think, a point of price back then, but then in 2019, you obviously got a lot more price. I think the realization of the inflation hit you mid-season. in 2018. Maybe just talk about the differences in timing between now and 2018, because this seems to be a slow-moving train that you can see from a mile away and perhaps react to it. And then, what are you assuming for price? Are you assuming a point? Are you assuming a point and a half? What exactly is the price assumption in the numbers?

Yeah, so first of all, Steve, thank you for letting me clarify that I'm not looking for 2018 stock performance efforts. But if you recall, 2018 started to experience the significant tariffs that were put into place. And, you know, we made some decisions there to wait it out and to go on cycle with a lot of our price increases. In retrospect, I think we learned that that might have not been the right playbook to use. What I was referring to is that the 18 levels of inflation feel like that. And I do think we're out in front of the price increases because it was a slow moving train. But I'm also saying that if we need to do more, we would do more, Steve, because I don't think we want to take that position again that we did throughout the 2018, which made us play catch up all year long, if you recall. Right.

And so what is the price assumption?

And so for the question, again, the price and productivity offsetting inflation, the assumption for prices back to historical levels of around two points?

Two points. Okay, got it. I mean, in 2019, you guys got, I think, like – you know, two and a half percent of price. So, I mean, this is not that level is not certainly not unprecedented in an inflationary time. Am I correct?

It's more normalized. And I think, you know, when you look at 1890 together, it felt more normalized, but it was very disruptive from timing perspective, as you mentioned.

Yeah, okay, that makes a lot of sense. And then just lastly on this variable speed transition, how are you embedding that in guidance and what are you assuming for, just remind us of kind of like what the profile is on that as, you know, every point of that conversion goes to variable speed, kind of what that does from a revenue per unit and margin perspective?

Yeah, so I mean, you know, think about it as maybe 1.5 times, you know, the product price or sales price, Steve, when we sell a variable speed versus when we sell a single speed. And not that the margin's any better, but the margin dollars are much better. I think it's a slower conversion. I think we've made progress. You know, we picked up about five points in the last couple quarters. And as we mentioned, you know, moving from 60 to 85, I think more of that is towards the tail end of 2021 and into 2022. as the channel reacts and begins to buy that for us. But I do think that's out there as a nice transition that will benefit us. And it's energy efficiency, too. And so these are better pumps. They last longer. And I think it's better value for all the customers that buy them.

One last question for you, just on balance sheet. You guys are now at 1.3 times. Clearly, you're generating very strong free cash flow and a downturn, kind of eye-poppingly strong there. So clearly, you can kind of defend yourselves when volumes go down and when you have a volatile environment. Another residential name like Lenox, is trading at a substantial premium to you guys. They have bought back basically 30% of their earnings growth in the last five years, has been driven by buyback, and they do it in a programmatic way. Why would this kind of free cash flow yield, and with your balance sheet, you could buy back 20% of the float programmatically over the next two to three years. Why not be more aggressive on the buyback side? What are you waiting for to come along on acquisitions to not at least be more aggressive and programmatic about the buyback given how cheap your stock is?

Well, I think we certainly have options, Steve, and I think we're going to look at all those options to create the best return. Right now, I think we're actively looking in the three areas I said within the M&A side, but those M&A deals are going to have to have the right returns to be able to lean into them. And if we feel the stock is a better purchase, we'll make the deal on the stock. So I think we've got flexibility, and we're going to continue to maintain that flexibility, and I feel confident we're going to choose the right one that adds the most value over time.

At this point, we have $150 million of share buyback built into the forecast, and so our typical starting point for the year and then to continue to be opportunistic based on the circumstances. Great. All right. Thanks a lot, guys. Appreciate it. Thank you, Steve.

Our next question comes from the line of Joe Giordano with Cohen. Go ahead, please. Your line is open.

Hey, guys. Morning.

Morning.

Morning. You know, we kind of touched around this a lot with the transition of variable speed, but how do you think about like the cadence of the year? Is there maybe more of like a pre-buy than seasonal? Is there more like activity in the 2Q than seasonal because of like a pre-buy ahead of a regulatory change? And does 3Q kind of see the offset to that? Is there maybe a little bit of like a shift in the order patterns this year?

Yeah, Q2 and Q3 would be the heat of the pool season for our customers. And, yes, we would expect to make significant progress during that time frame. I'm just cautioning, even though there's regulations that go in mid-season, I just don't think we're going to go all the way to the end point this year. And I think it's going to be opportunities for people to work through existing inventory supplies and work through the channel. We're spending all of our marketing efforts helping people convince that, you know, trying to convince the end consumer that now is the time to buy the better product. And so I think we're going to make progress, as you said, in the pool season. And I think the tale of that will fall into next year's pool season.

I'd say the good news from my perspective is, you know, built into our guidance of up 3% to 5% is a pool business that's growing roughly, you know, mid-single digit plus. After a year where pools saw 17% growth. So, you know, the natural demand continues. You know, could it be better? Potentially, but not a bad place to be after seeing such significant growth in 2020.

Yeah, certainly not. Bob, just on the tax rate, if we move into an environment where the U.S. tax law changes, how protected, given your domicile, how protected do you think the overall rate is?

We would see a little bit of headwind in that situation, but

significantly less than our competitors would see so overall we we like our tax profile perfect and then last for me just john you've talked about sustainable gas a lot over the last you know a couple couple quarters of something you're focused on can you can you scope that out a little bit like what exactly are you selling into that market how large is the business for you now and uh where do you think that can go

Yeah, so real quickly, we benefit from significant demand in Europe because Europe has really leaned into the environmental impact a lot stronger than we have in the United States. And most of our customers are in the beverage industries or the processing industries, and there's an opportunity to capture demand. the off gases and turn them back into either energy, which produces value for them, or to throw them back into the process in the form of food grade CO2. So it's a business that has substantial legs to it. What we're starting to see is an environmental movement globally. And certainly our current administration is leaning in to try to do things that are going to help our greenhouse gases over time. So we see an opportunity outside of Europe now, and we want to make sure we've got the sales force, the engineering capability, and move more to a standard product offering that's more of a plug-and-play with global partners that can help promote what we do. So we're very encouraged by the order trends and the projects that we've received outside of the traditional spaces, and that gives us excitement that with just a little bit more investment, we can certainly accelerate the outcomes.

How big is that business now for you?

Roughly $90 million in total.

Thanks, guys.

Thank you. Thank you. Our next question comes from the line of Dean Dre with RBC Capital Markets. Go ahead, please. Your line is open.

Thank you. Good morning, everyone. Morning, Dean.

Hi, Dean.

Hey, can we get an update on the launch of the home and dealer apps for pool? Any color in terms of how many users, the level of engagement that you're seeing online ordering? Any updates would be appreciated.

yeah i appreciate that dean there's there's soft launches on both um and you know we move to more uh hard launches here as we as we head into q2 so the experience rate has been good without giving you actual quantification of numbers and and really what you need is the app and then you need some smart products to connect to it which is why we're spending time promoting the salt sensor and also the easy flow under sync application as well as other pou units that we expect come from the roshion acquisition combined with our technology dean so The app is designed to do two things. It's to provide a better consumer experience, to be able to understand salt sensor levels retroactively on install base. The new valve connects to it on pre-installs. And then it also gives you an understanding of what's coming through your water and your flow rates and your need to change your filters. But the more exciting aspect is connecting with dealers. So when a and consumer needs a service on any product they have or they're interested in learning more, we would have our dealers in that app as well and be able to connect the consumer with the dealer to help curate the experience for that individual. So very excited about the early stages of that. And, you know, it's a connection to Alexa, a connection to Google Home, a connection to Apple Home, all those other features. And so we're very excited, Dean.

Great to hear. So we'll be watching that for the full launch. And then... Second question is, could you provide some more color on that growth you're seeing in China? You said the second quarter of growth. How does that look for the commercial side versus the residential side?

Yeah, so candidly, residential is up more significantly. I mean, commercial is back in China, but, you know, they're still experiencing a little lesser demand on the openings of restaurants and stores as people are still cautious about the pandemic. So, you know, they're back and they're open and it's growing, you know, but it's not growing at the same rate that the residential water filtration is growing at this stage, Dean.

Got it. And then just last one for me. Can you comment on the product lines that you exited in commercial? Just any color there, you know, especially if you could size it.

Yeah, these are really small.

Yeah, those were small product lines. And just an example of us – reducing complexity and driving cost out, but, again, small product lines in terms of the CNI portfolio. That's KU reductions more than anything, Dean.

That's good to hear. I appreciate that. I mean, walking away from unprofitable businesses, it's always the right decision. So I like seeing that. Thanks.

Thank you. Our next question comes from the line of Sri Boroditsky with Jefferies. Go ahead, please. Your line is open. Hello?

Thanks for taking my question. Could you update us on what you're seeing on the food service side? And should you start to see that improve as more restaurants open and need to change their cartridges?

Yeah, so I'll take the first part, and Bob will give me the second. Yeah, we saw a steep decline, you know, significant double-digit decline in Q2 when the pandemic hit. And, you know, we've seen a modest recovery off of that period. you know, deep decline into Q3 and Q4. You know, we're sort of in that flattish range now. And, you know, that basically has restaurants open at roughly, you know, half capacity or quarter capacity, depending on, you know, where they're living. The piece that we have not yet seen the recovery on is really the hospitality side of the hotel industry. And we're expecting that, as we said in our prepared comments, probably to the tail end of 2021. That would be a really big help to that business. The obviously replacement of the cartridges are continuing, probably at a slower rate because the usage is slightly slower. And our portfolio is skewed more to some of the faster service and to the drive-through coffee shops. So we do get a little bit better than the overall restaurant average.

Then you talked about opportunities to lower G&A spending by, I think, 150 to 200 basis points over time. Could you talk through any improvements you're looking for in 2021, and then what's driving that improvement?

Yeah, we're going to get a little bit of leverage in 2021. That's about it, keeping the existing cost base and growing on top of it. You know, what we're really looking to do is, you know, how do we think of our centers of excellence and where do they best serve the business unit, the segment, and the enterprise? Within that construct, how do we get the best resources, the point of impact? And that's globally, right? I mean, we've all learned that some of our people are now able to work virtually or work from home, and we don't need all of the necessary facilities we have. But at the same time, we want to create workspaces and collaboration centers for our businesses to collaborate work with customers and work with dealers on. So this is going to be a fairly sizable transformation. I think in 2021, as I said, not expecting a lot other than the planning elements of this. And then we expect significant contributions in 2022 and beyond, beyond G&A even. You know, as the sales and marketing resources also get more effective and efficient.

Yeah, and I would just add, you know, we're really rallying around that theme of, you know, right work in the right place. And to John's point, you know where should that work be done you know closest to the customer at the product line is it at the business unit level the segment or the enterprise and then you know what is that work so if i pick my own area you know of fpna as an example I have big businesses like Pool that probably, you know, drive their own kind of FP&A piece, but then I have other businesses that would benefit from an efficiency and effectiveness perspective of having a shared approach or a center of excellence approach. That goes to data analytics as well. So those are the type of things that we're thinking through.

Great. Congratulations on the quarter, and thanks for taking my question.

Thank you. Our next question comes from the line of Julian Mitchell with Barclays. Go ahead, please. Your line is open.

Hi. Good morning. Maybe just the first question on the assumptions in the guidance for the pool business. You know, some of the consumer-facing businesses we cover are guiding for double-digit declines in the second half. heard your guidance about mid single for the year for pool, but maybe help us understand first half versus second half dynamics.

Yeah, I'll take that one. And then, John, if you want to add, it was important for us to specify mid-single digit plus is our guidance for the pool business embedded in our overall guidance. You know, we continue to see strong momentum as we enter the first quarter. But good natural demand. So as the year plays out, we expect, you know, obviously stronger growth as we have weaker compares in the first half, but still, you know, strong business in the back half as we bump up against those bigger compares. So overall, I think we're optimistic about the growth in the pool business. And, you know, that will certainly help free cash flow as well.

But are you assuming the pool business is up or flat or down in the second half, year on year?

Right now, we would say that we're at high historic levels, but generally flattish to modestly down in Q3 and Q4. That's at the mid-single-digit level. If we get that mid-single-digit plus, we would expect that we could be producing modest growth in the back half of the year. I think the more important piece that we want to make sure we convey is, you know, our quarters last year represented a softer Q2 as the orders came through the distribution channel. We were not yet producing those. So we had pretty sizable Q3 and Q4s were catching up. And this year, if you think about the demand and the way we're meeting it in Q1 and Q2, we'll have stronger year-over-year comparisons there. As we assess where the market is going, as we start to think beyond this pool year and the next pool year, we'll have a better understanding as we exit Q2 what the back half of the year looks like.

Thank you. And then my follow-up would just be around the segment margin assumptions. So it looks like segment margins maybe are up a few tens of basis points this year. Maybe just help clarify that. And then also, Again, how do we think about the first half versus second half in terms of the margin expansion potential? Understand the volume leverage is a bigger tailwind in the first half than in the second half because of the comp. But maybe give us any color around that inflation headwind and how that's falling first half versus second half.

Yeah, Julian, I promised the first part of my answer here is not a filibuster, but I want to make sure we describe that one of the reasons we're setting up these three strategic growth investments, two are in consumer solutions and one is in IFT, is we're going to disproportionately fund those with investments to drive the future. What we're going to do a better job on is sharing with you as we go forward is the value of the core, meaning if you take a look at the core performance absent those incremental investments, we're getting the drop-throughs you would expect. We're getting the price and productivity offset inflation, the volumes coming through at a nice flow-through rate, and then we're taking the opportunity to build out a services organization and residential in consumer solutions, build out the front-end capability and pool and then also make sure we put the investment ahead of the likely growth opportunities in SGS. And there's pretty substantial investment there in those three things, which draw down those margins for both of those two segments. Absent that, I think we're pretty balanced in a more normal year, and so we'll do a better job highlighting throughout 2021 how we're doing on the core and then how these investments are starting to roll through. Got it.

There's no –

Was there a second part to the question?

I guess it was really around that is the margin expansion sort of steady through the year or do we see a bigger first half increase because of volume leverage and then the second half sort of rolls over because of the top line comp and more inflation coming in?

Yes, you're right. It's more in the first half and it's lesser contribution in the second half because of not so much the inflation but the investments.

Great. Thank you. Thank you. Our next question comes from the line of Jeff Hammond with KeyBank Capital Markets. Go ahead, please. Your line is open. Hey, good morning, guys. Hey, good morning.

I think you mentioned the supply chain, you know, stabilizing from your standpoint in pools. Can you just talk about where you see inventory levels in the channel? Is there still need for destock or restock, sorry?

Yes, we're catching up, and yes.

Okay. And then just on the first quarter guidance, can you maybe give us a little more color about how you're thinking either of the segments or some of the businesses that are driving that higher growth rate?

The guidance we gave was that 7% to 12%, and so, you know, again, Think of, you know, consumer solutions with Poole driving significant growth in Q1, and think of the IFT business as being, you know, roughly flat in those numbers.

Okay. Thanks, guys.

Thank you. Our next question comes from the line of Nathan Jones with Stifel. Go ahead, please. Your line is open.

Good morning, everyone. Good morning, Nathan. I'm going to follow up here on some of the strategic investments that you're talking about there starting to make, I guess, ramping up in the second half. Can you give us any colour on kind of, you know, what the incremental level of increased investment is in 2021 and how you're planning for that to, I don't know, whether it increases in 2022, 2023? Are we continuing to ramp up the level of investment? When do you think we kind of will hit a plateau and maybe that, you know, becomes less of a drag on the margin increases?

Yeah, I'll start with the investments that we see 2021 to 2020 that we want to make is more than a point of overall Pentair revenue. Kind of frame that out a little bit, Nathan. This is uniquely different capability than we have today. This is about building out a water treatment brand that people recognize so that they can come in and work with Pentair to help curate their water experience This is about customer experience capability, more consumer-related, so that we can quickly get consumers the dealer help and or the technical support that they need to fix their particular challenges. So it's capability we don't have today. It's capability we think will add a lot of value. And also it's about putting more trucks on the road as far as the services and residential issues. The paybacks are enormous from an IRR perspective over two-year intervals, but the break-even point is roughly a year when you put the sales team in place and you put the dealers in a geography and you wait for the return on the accrual of the annuity base there. So that's the type of investment we're making, and we pasted a little bit more in 2020 than we would have liked, and we really want to accelerate it if we can here in 2021. So it can be modulated, but that's an example of what it is and the likely levels of it.

And for all of these investments where we're building, you know, strong business cases and return on investments, holding the teams accountable because it's a significant investment for us and we want to make sure we get the type of numbers John just talked about in terms of return.

And if you don't need to modulate those investments, we get back to kind of a more normal business environment through 2021. Would you anticipate ramping those investments up again in 2022, or are you kind of going to be at a level that you need to be at for strategic investments?

I think we would think that that would be a new normal level with maybe slightly more, Nathan, but what we would then start to see is the benefit of what we think the Pentair transformation efforts would be as far as ROS expansion that would fund that and maybe give us a little more ROS drop-through.

Got it. That's great, Kyle.

Thank you very much. Yeah, big picture from my perspective is that even with those strategic investments, our view is that with the Pentair transformation, return on sales expansion will be significant by 2024.

Yeah, that all makes sense. Thanks very much.

Thank you.

Our next question comes from the line of Rob Wertheiner with Mellius Research. Go ahead, please. Your line is open.

Hey, good morning, and thanks for all the clarity. This is a minor one. Hey, Rob, thanks for the book, by the way.

I'm mostly through it, so thank you.

Excellent, excellent. Hope you like it. So just to help me, I guess maybe perhaps a little bit newer, but with the pricing dynamic and pool and the rebates, you obviously had very strong sales, and I understand that sort of generates higher rebates. How does that sort of reset next year if we continue to have strong sales and you know, do you retain more of the pricing? You know, does the rebate level stay similar? Let me just explain that dynamic and I'm all set. Thank you.

Yeah, I think most simply, you know, the rebate structure resets off that higher base. So it's goodness for the P&L in 2021.

Okay, perfect, perfect. The environment's obviously pretty strong. I mean, yes, Stanley Black & Decker reported and they sort of mentioned, which I think is true, you can't get a contractor To do any kind of homework. I mean, how far out is your visibility, do you think, on consumer demand heading into the summer? I know a lot of folks couldn't get stuff done they wanted to last summer. And I'll stop there. Thanks.

Yeah, we have strong confidence through what I would call this pool season, Rob. And, you know, the real... you know, question mark, which we'll get through as we get more into the summer, is how does that lead into the next pool season? We start to see that at the end of Q2 into Q3 for the next buying season. And that's, as Bob was talking, mid-single digits plus. The plus is that we actually see upside, you know, in the 22 pool season versus the 2021, which all indications are that that demand is likely to continue, which is not ready to say that yet.

Okay, thank you.

Also, I want to be in a chapter in your book on a positive side in the next version and edition. So I'm going to work hard at that.

You guys got a lot underway, which is awesome.

Our next question comes from the line of Brian Blair with Oppenheimer. Go ahead, please. Your line is open.

Thanks. Good morning, everyone. Morning. Morning. I know we're late in Q&A. I'll just ask one. I was hoping you could – update us a little more on total water management and how that's influencing your commercial trend you know stabilization um it's good to see there you're clearly outperforming the market i know that's early stage but you know is that initiative you know significantly accelerating into 2021 and could that be more needle moving as we look to the back half and into 22.

yeah so let me let me explain quickly what it is i mean in the commercial office water space many of the units that people buy and purchase are actually leased or rented to the maintenance groups and install them so that their monthly um contract services since we deal on the on the food service side with larger restaurateurs or franchises or chains the more profitable ones just purchase the product from us and then do the replacement cartridges as they go along But there's a huge opportunity to attack the smaller restaurants or the smaller franchises with more of the leasing model. And that's what that is about. And, yes, the uptick in the early going is a really nice proof of concept that shows that that is a business model that people are interested in. And it has good returns for us, and it's a good foray into having the right equipment for the restaurant. So we're encouraged. Obviously, we had to do that during a COVID year, but made good progress last year, and we expect to continue to expand that as we go forward.

Good to hear. Thanks again.

Thank you. Our next question comes from the line of Scott Graham with Rosenblatt Securities. Go ahead, please. Your line is open.

Hey, good morning. Nice quarter.

Thanks, Scott. Appreciate it.

I do have a question. I'd like to go back and revisit the prepared comments on the G&A, where I wasn't quite sure your meaning, John, in the G&A, because I thought last quarter we were talking about with the new management team in place, there's been identification of G&A reduction opportunities of 150, 250, 200 basis points per year the next three years. Are we on track for that this year?

Yes. I mean, to get the, not all of that savings, but we're on track for the longer-term savings for G&A, absolutely. So I want to compliment my leaders who lead G&A. But as we started to work through this and COVID started to emerge, we're realizing some efficiencies we thought we could bring to the sales and marketing and the operations side as well. I maybe slowed the process down maybe 30 to 60 days, Scott, to make it a more enterprise-wide look at what we need to do to support the segments more thoughtfully and drive a higher level of return. Because there's a demand for the newer types of technologies and more digital transformation needs we do, we have to do to serve our customer. And I wanted to make sure we weren't putting more of the old legacy cost in. At the same time, we're going to add the new cost. And I think that shift is going to drive significant growth.

um transformation opportunity for pentair bob you want to add yeah i would just add that as a significant owner of a big piece of the g a we are definitely on track um in terms of the numbers that you mentioned and we will see improvement here in 2021.

Thank you. That's very clear. The other question I had is about pools, the new pool build market in particular. John, just hoping you could, based on what you're hearing from your distributors, anything that you're hearing from the contractors about what new pool builds look like this year.

They're up. You know, the pool improvement data we have is partial, you know, for the states that we work in. But, you know, they're up anywhere from 20 to 25 percent in a lot of those markets and regions. So that's strong. I mean, that's encouraging. And as you know, that's not the biggest part of our business. The biggest one is the aftermarket. But when you're putting your new pools in, you're getting new pool pad, and you're filling out that pool pad, it leads to further equipment in the aftermarket space down the road. So all encouraging data right now, Scott.

John, to that end, if I may just tack this on to that, because I know that you're trying to look beyond your distribution channel and write to who is doing the installing. Some of the work that you're doing in data analytics, are you finding ways strategically to get more content on the pad with the new pools? What are you doing there?

yeah so i mean you know just we we believe our pool channel is the right channel and these are professionals that we've worked with for many many years and we want to continue to work through them and with them but you know when we sell into the channel we don't know where the end product went unless it's an automated product that someone downloads an app which we've said is only about 15 of consumers today so what we also know is that consumers out there are just trying to get something repaired or replaced And right now what's happening is, you know, these contractors or these dealers are really busy, so they're not always able to get to them. And so when I talk about getting more through the consumer, A, it's helping them understand what they should be speccing in their pool pad, as you mentioned. But, B, if they just need some service, how about you can call Pentair and we can get you a service technician out. And it will be through our channel because we want to continue to honor it, but we want to make sure that you're getting served within the timeframe that you need it to be. That's what we're really talking about, and I'm really excited about that, Scott.

John, thanks a lot.

Thank you.

And ladies and gentlemen, this concludes the Q&A portion of today's call. I'd like to turn the call back over to John.

Thank you, James, and thank you for joining us today. We continue to believe that Pentair is a strong foundation and portfolio of businesses to build upon. We have a strong purpose, mission, and vision focused on delivering smart, sustainable solutions that empower our customers to make the most of life's essential resources. We believe that we are in attractive spaces that are expanding. We are a leader in the pool industry, and our global water treatment business is helping us become an even more integral player to the global residential and commercial segments. We believe we have the right enterprise strategy, businesses, talent, and culture. From our win-right values to our Pentair integrated management system and through our win strategies, we are enabling all of our employees to continuously improve. Finally, we continue to prioritize providing superior customer experiences and delivering more predictable and consistent results. Thank you for your continued interest. James, you can conclude the call.

Ladies and gentlemen, this concludes today's conference call. We thank you for your participation. You may now disconnect.