Pentair PLC

Welcome to the Pentair fourth quarter 2022 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 withdraw from the question queue, please press star then two. Please note this event is being recorded. I would now like to turn the conference over to Shelly Hubbard, Vice President, Investor Relations. Please go ahead.

Thank you, Kate, and welcome to Pentair's fourth quarter 2022 earnings conference call. On the call with me are John Stouck, 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 performance as outlined in this morning's press release. On the Pantera Investor Relations website, you can find our earnings release and slide deck, which is intended to supplement our prepared remarks during today's call and provide a reconciliation of differences between GAAP and non-GAAP financial measures that we will reference. The non-GAAP financial measures provided should not be considered as a substitute for or superior to the measures of financial performance prepared in accordance with GAAP. They are included as additional clarifying items to aid investors in further understanding the company's performance, in addition to the impact these items and events have on the financial results. Before we begin, let me remind you that during our presentation today, we will make forward-looking statements, which are predictions, projections, or other statements about future events. Listeners are cautioned that these statements are subject to certain risks and uncertainties. many of which are difficult to predict and generally beyond the control of Pinter. These risks and uncertainties can cause actual results to differ materially from our current expectations. We advise listeners to carefully review the risk factors in our most recent Form 10-Q and Form 10-K and today's release. We will also reference certain non-GAAP measures. Following our prepared remarks, we will open the call up for questions. Please limit your questions to one plus a follow-up. then reenter the queue in order to allow everyone an opportunity to ask questions. I will now turn the call over to John.

Thank you, Shelly, and good morning, everyone. Let's begin with slide four, titled Executive Summary. We closed out 2022 with strong sales, segment income, and adjusted EPS, which is a direct result of the hard work and dedication of our focused employees across the world. Sales increased 9% to $4.1 billion, Segment income rose 12% to $768 million. ROS expanded by 40 basis points to 18.6%. And adjusted EPS increased 8% to $3.68. A few of our key wins during the year include strategic progress on our transformation initiatives, which we expect to drive significant margin expansion over the next several years. The acquisition of Manitowoc ice, a complimentary and accretive acquisition which further enhances our commercial water solutions business, and recognition for our leadership and social responsibility and sustainability. All in, we are focused on building the Pentair of the future by investing in sustainable growth and expanding profitability through strengthening our operational and financial foundation, which we expect to create long-term value for our stakeholders. Bob will discuss our first quarter and full year 2023 guidance in more detail. But I wanted to share some thoughts. We are confident in our business model, diversified portfolio, and our transformation initiatives, which we expect to drive long-term shareholder value and contribute significantly to 2023. As we look specifically at 2023, we are working through near-term macroeconomic driven challenges, which is driving lower than expected volumes in our residential businesses. However, We expect to see more normalized demand in 2024 and view 2023 as a catch-up year for excess demand that was realized in 2020 through the first half of 2022. Please turn to slide five, titled Five-Year Pentair Performance. Reflecting on the last five years as a focused, smart, sustainable water solutions company, we drove strong financial performance by increasing revenue, at an 8% compounded annual growth rate, increasing EPS at a 14% compounded annual growth rate, and we have also generated over $2 billion of free cash flow and ended 2022 with nearly a 16% ROIC. These are metrics that we are very proud of and share with our incredible team here at Pentair. This is a testament to our relentless efforts to deliver premium quality, innovative products and services to our consumers. We believe the largest opportunity is improving ROS, which did not improve materially over the last five years. The strong demand we realized later in 2020 through the first half of 2022 came with disrupted supply chains and unprecedented inflation that was hard to outpace. We believe our second half of 2022 demonstrates that we have finally made progress on price versus cost. However, we still have significant opportunities to improve our operating and cost efficiencies across all of Pentair through transformation and recovery of the inefficiencies that we realized. Please turn to slide six labeled Pentair at a glance. For those of you listening today who may be new to our story, I wanted to reiterate a few important key metrics that I discussed last quarter. In 2022, we generated $4.1 billion in sales, with approximately a 50% mix from residential channels and 50% from commercial, industrial, and infrastructure channels. We have decent profitability at 18.6%, but as I mentioned previously, we have a lot of opportunity to improve this. We believe our large installed base is an advantage and an opportunity for us. For example, 75% of our products are replacement inside a large installed base that benefits from over 75,000 focused trade partners. We believe these relationships with our trade channel partners drive resiliency of revenue and create a great opportunity for continued growth as we introduce new products and technologies. We have a long successful track record of generating cash flow and being disciplined with our capital allocation. In fact, we have increased our dividend for the 47th consecutive year, putting us in a very small group inside of the S&P 500. And we are especially proud of our high-teens ROIC, demonstrating that we continue to be good stewards with your invested money. We believe we have a very solid foundation and we know there's still more we can do. Please turn to slide seven labeled Our Impact, Making Better Essential for People and the Planet. Our work on ESG and social responsibility continues to be at the forefront of how we operate and how we work to make the planet better. At Pentair, we take great pride in the products we develop that are providing solutions to some of the world's largest challenges, including safe and healthy drinking water, climate change, and water shortages, to name just a few. We also seek to make better essential for people and the planet. For example, our products and solutions improve water efficiency, reduce and capture carbon emissions, and avoid the need for single-use water bottles. Here are a few highlights. 71% of Pentair solutions support water efficiency. 15.9 million tons of CO2 emissions have been avoided by U.S. consumers using Pentair's energy efficient pool pumps since 2005, and nearly 8 billion single-use plastic water bottles have been avoided in 2022 due to Pentair's water filtration products. Furthermore, our leadership and social responsibility is being recognized by third-party organizations, including Forbes and others. We look forward to continued progress plan to share additional details in our 2022 corporate responsibility report which we expect to publish this spring please turn to slide 8 label strategic framework our purpose mission vision values and impact are critical components of our strategic framework our purpose matters it is to create a better world for people on the planet through smart sustainable water solutions our mission as a company is to help the world sustainably move, improve, and enjoy water, life's most essential resource. And we do this in residential, commercial, agriculture, and industrial applications. As of January 1st of this year, we have split our consumer solutions segment into pool and water solutions. This creates three focus segments as IFT remains unchanged. We expect this to not only improve transparency, but further improve customer service, differentiate our products, measure our success externally, and drive greater profitability for our shareholders. Our three segments are now industrial and flow technologies, water solutions, and pool. We continue to see great opportunity in all three of these segments and the businesses that each of them lead. Our industrial flow technology segment helps move water where you need it, when you need it, more efficiently in our pump businesses. The segment also focuses on transforming waste into value through our sustainable gas and membrane businesses. Our water solutions segment, which includes our most recent acquisition, Mantua Ice, is a leading platform to provide water and ice to our food service and residential customers. These businesses improve water by providing great tasting, higher quality water and ice, while helping our customers use more water more productively. Our pool business helps enjoy water by using less energy and chemicals. In North America, it also has a large installed base of approximately 5.4 million pools with an average age of 20 to 25 years. The industry is approximately 60% break and fix, 20% major remodeling, and 20% new pools. Only about 50% of all in-ground pools have some form of automation, which we believe is a long-term opportunity for Pentair. I will now pass the call over to Bob. We'll discuss our performance and financial results in more detail.

Bob? Thank you, John, and good morning, everyone. Please turn to slide nine, labeled Q4 2022 Pentair performance. I will also be discussing our full year performance on slide ten. We delivered fourth quarter sales growth of 1%, with core sales declining 3% as strong price contribution was not enough to offset volume decline. Consumer solutions core sales were down 11% as expected and previously communicated due to residential channel inventory levels rebalancing and as a result of our lead times beginning to return to more normal levels. Industrial and flow technologies reported strong 11% core sales growth, which strengthened commercial flow and industrial solutions. For the full year, sales grew 9%, with core sales up 6%. Consumer solutions delivered 4% core sales growth, and industrial and flow technologies saw core sales growth of 10%. Fourth quarter segment income increased 10%, and return on sales expanded 130 basis points year over year to 18.2%, driven primarily by price, significantly offsetting Inflation. Productivity was negatively impacted by lower volume in the quarter. Adjusted EPS of 82 cents was down 6% versus the prior year, but exceeded our guidance for the quarter. Net interest and other expense was $28.2 million, which represented our first full quarter of new financing post the Manitowoc acquisition. And our adjusted tax rate was 12.7% during the quarter, with a share count of $165.2 million. For the full year, segment income grew 12%, and return on sales expanded 40 basis points to 18.6%. Adjusted EPS increased 8% for the year to $3.68. Our tax rate ended the year at 14.5%, and our share count was 165.6 million. Please turn to slide 11, labeled Q4 2022 Consumer Solutions Performance. In addition to the fourth quarter performance for Consumer Solutions, I will also be referencing the full year performance on slide 12. In the fourth quarter, Consumer Solutions sales declined 1%, with core sales declining 11%, comprised of 15 points of price offset by 26 points of volume decline. This was in line with our expectations. The volume decline was due to difficult year-over-year comparisons and the anticipated inventory correction across many product lines in our residential channels. Segment income grew 7% and return on sales expanded 150 basis points to 23.1% as strong pricing measures continued to play out along with the contribution from Manitowoc ice. For the year, consumer solution sales grew 12% with core sales up 4%. Segment income grew 10% and return on sales declined 40 basis points to 23.3%. Our pool business had sales growth of 4% for the year Water treatment saw sales growth of 28%, led by contribution from the Manitowoc ice acquisition, which was completed at the end of July. Please turn to slide 13, labeled Q4 2022 Industrial and Flow Technologies Performance. In addition to the fourth quarter performance for industrial and flow technologies, I will also be referencing the full year performance on slide 14. Industrial and flow technologies grew sales 5% in the quarter, partially offset by a 4% FX headwind, with core sales increasing 11%. Segment income grew 21%, and return on sales expanded and impressed 240 basis points to 17.4%, marking the second consecutive quarter of greater than 200 basis points of improvement. The strong margin expansion was a result of significant price contribution and moderating inflation. For the year, sales increased 6%, with core sales increasing 10%. Segment income grew 14%, and return on sales increased 110 basis points to 16.1%, a strong price more than offset inflation and FX headwinds. IFT saw sales growth across the segment with residential flow up 3%, commercial flow up 6%, and industrial solutions up 10%. Please turn to slide 15, labeled balance sheet and cash flow. As a reminder, this slide reflects the closing of the Manitowoc acquisition at the end of July. We ended the quarter with pro forma leverage at 2.5 times, and our return on invested capital was at 15.7%, declining slightly due to the acquisition of Manitowoc Ice. I would like to remind you that given the rising interest rate environment, we are comfortable being two-thirds variable as we were less inclined to lock into higher rates for longer. We have no significant long-term debt maturing for the next few years and the majority of our debt is in term loans going out three to five years. We generated $283 million of free cash flow from continuing operations in the year, which was in line with our messaging on the Q3 earnings call. Working capital was a significant headwind this year, primarily inventories, which has led to a timing issue on cash flow. Our inventories were higher largely due to inflation, buy-aheads, and inefficiencies in the supply chain We expect to benefit from working capital improvement in 2023 and generate free cash flow in line with our historical performance of 100% of net income. In 2022, we returned roughly two-thirds of our free cash flow to shareholders through dividends and share repurchases. We plan to remain disciplined with our capital and will continue to focus on debt reduction amid the higher interest rate environment. Please turn to slide 16, labeled segment structure beginning in 2023. As John discussed, we moved to three reporting segments effective January 1st, 2023. We have included realigned historical information for these segments from 2019 to 2022. in the supplemental data section of our earnings presentation. Our industrial and flow technology segment had roughly $1.5 billion of revenue in 2022 with a ROS of approximately 16%. This business grows sales at roughly single digits over the long term in a very large industry. Water Solutions consists of residential and commercial, and was roughly $1.2 billion of revenue on a pro forma basis when including a full year of Manitowoc ice. This is a mid single digit sales growth contributor over the long term operating in a very large industry. Finally, pool was roughly $1.6 billion of revenue in 2022 and is our highest profitability segment that we expect will grow sales mid single digit plus over the long term. Please turn to slide 17 labeled transformation expectations. We have moved transformation from final to execution, and we expect more material benefits to contribute to our longer term margin expansion targets. In 2022, we made strategic progress on our transformation initiatives with a primary focus on two of our four key themes, pricing excellence and strategic sourcing. Overall, we believe transformation will be a key driver in value creation over the next three years. For example, through our transformation initiative, we have identified over 400 basis points of targeted margin expansion by 2025. up from the 300 basis points that we discussed at our previous investor day. A significant portion of that is due to a focus on material costs, which represent roughly 40% of our sales. By driving transformation excellence through pricing and sourcing, we believe this will have the most significant impact on overall cost efficiencies. With the work we have completed in 2022, We believe that we can expand return on sales to approximately 23% in 2025. In pricing, we have completed Wave 1, which has established a new strategic pricing playbook. This creates a foundation for pricing across our different go-to-market strategies and includes looking at our dealer and distributor programs to better optimize them. We are gaining insight into profitability by customer and product category and using this data to better drive our forecast. We believe pricing remains a big opportunity. We are building capabilities and starting to see benefits materialize. We expect future waves to include the implementation of a pricing playbook across all categories. We are furthest along in our strategic sourcing initiatives. we have completed wave one that focused on key categories like electronics, motors and drives, castings, packaging, logistics, and MRO. Wave one included roughly 35% of material spend and has generated over 12% in savings opportunities. We expect to unlock value through supplier dedicated resources, supply base reduction, inventory solutions, enhanced supplier executive level relationships, and rebate programs. We expect to reduce complexity across our entire organization and to see close to 80% supplier reduction in some of our commodity groups. Over 75 Pentair team members attended 3,000-plus hours of formal classroom instruction and workshops in supply chain topics. As we institutionalize our Wave 1 learnings, we expect this will drive future waves as we look at additional categories. Wave 2 is scheduled to start in 2023 and is planned to cover another 35% of material spend for commodity groups such as metals, plastics and molding, purchase finished goods, transportation, and indirect spend such as IT, fleet management, and office supplies. We expect this will create a funnel of savings for 2023 and 2024. In operations excellence, we are focused on reducing complexity and driving lean processes across all our operations. In 2022, we made a few small strides on footprint optimization. We believe this presents longer-term opportunities, but not until 2024 and beyond as we build out the funnel. Lastly, in organizational effectiveness, we are focusing on sales and functional excellence to simplify our organization. From an organizational standpoint, we believe ample opportunities remain for complexity reduction across the entire portfolio a realignment of needed skills within our top priorities we continue to believe that our transformation initiatives will be a large value creation opportunity for pentair please turn to slide 18 labeled q1 and full year 2023 pentair outlook For the full year, we are introducing adjusted EPS guidance of approximately $3.50 to $3.70, which represents a year over year range of down 5% to up 1%. We expect sales to be roughly down 3% to up 1%. We expect segment income to increase 5% to 10% with corporate expense of approximately $80 million net interest expense of roughly $125 million, an adjusted tax rate of approximately 15%, and a share count of 165 to 166 million. We are targeting free cash flow of approximately 100% of net income, as we expect working capital to improve and inventory levels to come down. For the first quarter, we are introducing adjusted EPS guidance of approximately $0.76 to $0.78, which represents a year-over-year decrease of approximately 8% to 11%. We expect sales to be roughly flat to up 1% as the contribution of Manitowoc ice helps offset expected volume declines from the rebalancing of residential channel inventory. We expect segment income to increase 5% to 8%, with corporate expense coming in around $21 million, net interest expense of roughly $33 million, an adjusted tax rate of approximately 15%, and a share count of 165 to 166 million. Please turn to slide 19, labeled full year 2023, guidance at midpoint. The chart on slide 19 shows a walk of sales and segment income at the midpoint of our full year 2023 guidance. From the sales walk on the left hand side, you will see that we expect sales to be down roughly 1% at the midpoint. We expect volume to be down approximately 10%, primarily due to our residential businesses. We expect price benefit, of approximately 5% and a benefit from acquisitions divestitures of roughly 5%, primarily due to a full year of Manitowoc ice, partially offset by exits in the residential businesses and water solutions. We expect pool sales to be down low double digits at the midpoint in 2023 after growing 14% in 2020 40% in 2021, and 4% in 2022. We believe 2023 will be an inventory rebalancing year across the pool industry. We do think that there was a higher than normal level of demand in 2020 and 2021 that led to timing and supply chain disruptions in the industry and therefore created a larger than normal impact between sell through and sell in reflected in our results. We estimate that from a sell through perspective, the overall industry grew about 4% on a volume basis from 2019 to 2022, roughly in line with historical levels. As we have discussed, our pool sales consists of 20% from new pools, 20% from remodels, and 60% from the aftermarket. At the midpoint, we expect that new pools and remodels will be down approximately 20% in 2023, and the aftermarket business, including inventory corrections in Q1 through Q3, will be down approximately 15%. We expect price carryover for pool will be up roughly mid-single digits. We do expect the industry and our pool revenue to return to more normalized growth later in 2023 and in 2024, reflecting a more even balance of sell-through and distribution buying patterns. As a reminder, even with an expected pool year of down double digits in 2023, we expect to grow at a double-digit CAGR in pool from 2019 through 2023. We expect our water solution segment sales to be up mid-teens at the midpoint, including up approximately 40% in our commercial business with a full year of Manitowoc ice and down approximately 10% in our residential business. We expect IFT sales to be up slightly at the midpoint, with the commercial, industrial, and infrastructure businesses up approximately mid single digits and residential down approximately double digits. On the segment income side, we expect segment income to grow approximately 8% at the midpoint and to expand Ross roughly 150 basis points. We expect price to slightly exceed inflation We expect approximately 35% ROS from our acquisitions and divestitures. Our transformation initiatives and productivity should deliver over 200 basis points of margin expansion. And we expect drop through of roughly 30% on the decrease in volume. We expect our greater than 200 basis points of transformation and productivity benefit will be the result of volume rightsizing actions that we undertook in the fourth quarter of 2022, inefficiencies in our 2022 results that will not repeat in 2023, and our transformation initiatives. Our comments are based on the midpoint of the range. The lower end of our range would be reflective of higher interest rates, impacting housing demand, and our residential sales and increasing our interest expense. As we think about the higher end of our range, our main drivers would be a better outcome in the residential businesses, primarily pool and over driving some of the transformation benefits. In closing, we expect the lower pool year in 2023 to be offset by the strength of our diversified portfolio and our transformation initiatives. We are confident in the expected benefits from our transformation initiatives, and we believe we are gaining continued momentum to not only drive savings in 2023, but to build a strong funnel for 2024 and 2025 with significant Ross expansion. We also expect Ross expansion as our residential businesses return to more normalized growth in 2024 and beyond. I'd now like to turn the call over to the operator for Q&A, after which John will have a few closing remarks. Kate, please open the line 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 touchtone phone. If you are using a speakerphone, please pick up your handset before pressing the keys. To withdraw your question, please press star then two. As a reminder, please limit yourself to one question and a follow-up. If you have additional questions, you may re-enter the question queue. The first question is from Joe Giordano of Cowan. Please go ahead.

Hey, guys. Good morning. Morning. Hi, Joe. I'm going to start not on pool. Can you talk about the residential portfolio that you have within the old consumer solutions group? You made a couple of acquisitions over the years, Pelican, Aquian, and Roshan, and small deals. But now we're talking about some exits that you're making. So maybe just give us an update on where that portfolio is. Where is it maybe versus what you thought it might look like when you started making those deals? And kind of like an update on the strategy going forward from there.

Yeah, I mean, first of all, think about it as roughly still 40% of the overall water solution segment. And think of all the core that we were focused on, you know, for the last five to 10 years, which is really about the trade and the professional channel all being a big part of our strategy and still performing. What we did exit was our attempts at the direct-to-consumer side of the business, which we felt were not going to gain the traction that we originally hoped they would, but also they were confusing the trade channel as far as our partnership to support them. And so now we're focused on being back to where we were, which is pulling demand through our professional trade channel and ensuring that we're winning with the best products and solutions. Joe?

That makes sense. And then just follow up on the 2025 margin target. Can you maybe walk us through the relative contributions from the three segments? Like, I guess pool doesn't have as much upside given how strong it's been, but if you could kind of help us frame that up.

Yeah, Joe, we we were pleased to be able to increase the Ross expansion due to the what we're seeing in the transformation initiatives. We still have work to do to break it out by segment, but overall we we would expect each of the segments to be contributors. To that Ross expansion.

And so when you think of the increase in the target, as Bob mentioned, 100 of that comes from, candidly, the fact that we're mixing up with the Manitowoc acquisition. And then we felt like stepping up the expectations on the transformation was helpful for two reasons. One is we believe that we're making progress with the actual work we're doing. But the second one is we have inefficiencies that we've uncovered over the last couple of years of being challenged by the supply chain, which we want to make sure are included in the transformation journey that we're on.

And just to bridge the gap, when we had our investor day, we talked about going from 18% to 21% in 2025. We then acquired Manitowoc, so that gave us another approximately 100 basis points to bring us to 22, and then we found another 100 basis points in the transformation initiatives to get us to the 23th.

The next question is from Brian Blair of Oppenheimer. Please go ahead.

Thank you. Good morning, guys. Morning. Just to confirm, your 2023 guidance implies mid-single-digit core growth in commercial water solutions. Is that correct?

Yes. Yes, it does.

Okay. Having owned Manitowoc Ice a bit longer, any update you can offer on the commercial synergies that you've seen to date or what's expected between EverPure, Manitowoc, and KDI?

Yeah, we're really pleased with the start. I think these all come together nicely, and I think we continue to see significant opportunities for our customers to benefit from the end-to-end solutions that we now provide in commercial water solutions.

And just to provide a little more detail, the water solutions does have commercial up approximately 40%, residential down approximately 10%. Right.

He was asking for core, though.

I was giving him the core of mid-single digits. Got it.

The next question is from Mike Halloran of Baird. Please go ahead.

Hey, good morning, everyone. First, follow up to Joe's second question. Just what kind of volume assumptions are embedded in those margin targets, if any? Or are those exclusive of volume expectations over the next few years? In other words, is there a level of revenue or volumes you need to get to be able to achieve these targets?

Well, I mean, we're making significant impact in 2023, even with the down volume. So I think the jumpstart in 2023 reflects the aggressive efforts to get the labor in line with the volume and also to recover those inefficiencies. As we go forward, we'd be looking at the normalized growth rates of each of the segments being included in our efforts to get to the ROF targets that we implied.

OK, that makes sense. And then just from a guidance perspective, could you help with the cadencing a little bit through the year? When you think about normal seasonality, and there's a lot of moving pieces, particularly in pools and with destocking, how are you guys thinking about what the normal seasonal cadence looks like by segment within the guidance?

We are starting to move back to a more typical seasonality where Q2 is typically our largest quarter, followed by Q3. I would say that we expect to see slightly less than 50% of our EPS in the first half, primarily because interest expense is a little bit higher in the first half and transformation initiatives play out a little bit more strongly in the back half. But we are returning to more traditional seasonality than what we saw during the COVID years.

And I would just add that you should assume that most of the residential Channel challenges will come through Q1, Q2, and Q3. And we have easier comparisons in the back half of the year as we look at what those year-over-year impacts would be.

The next question is from Julian Mitchell of Barclays. Please go ahead.

Thanks. Good morning. I just wanted to understand your sort of conviction level around the price tailwind. You know, you had five points of price today. um you know dialed in for this year after sort of low teens ending last year so maybe sort of give some more color on the price confidence and how you see the sort of needed inventory liquidation in a lot of pool products uh perhaps weighing on that yeah so i'll start and bob can bring some more in i i think first of all the price that we're anticipating um is

TAB, Mark McIntyre, actions that have already been taken and we feel good about the decisions we've made and we feel like we we have, as we said stickiness in the channel. TAB, Mark McIntyre, I do think it's fair to assume that you know as we get through the year we have to anticipate that there might be ideas from the channel to participate in rebates or discounts we've assumed a little of that in our in our guide. TAB, Mark McIntyre, But we're hopeful that our our balanced view of the revenue projections that we have.

don't encourage us to think that we need to do significant discounting to achieve our expectations and you're seeing sort of competitors acting in a disciplined fashion too for the for the time being i don't know about that i mean we don't have any information to the contrary the next question is from nathan jones of stifle please go ahead

Good morning, everyone. I appreciate all the detail in the presentation this morning. I'm going to ask about pool. You talked about in the prepared comments, Bob, 2019 through 2023, double digit growth in pool with what's in the guidance for 23. I think historically that had been more like 7% or 8%. Can you talk about what was price versus volume in that? How much higher was price than you would normally have? I'm just trying to get an idea and a sense of are we kind of back to a normalized volume growth if you take that period from 19 to 23 where we pulled forward demand early, we're giving some back in now. Are we kind of back to that normal trend line?

We think if you looked at it, Nathan, on a sell-through basis, we'd be normalized from a volume from a sell-through basis. Obviously, we got a little disconnected on the sell-in versus the sell-out. But overall, we believe we're tracking to historical volume levels with where we end up. So you should assume that we've had a significant price benefit over the last four years that we've realized.

Okay, that makes sense. So on a volume level, we're back to normalized. That's good to know. With the change in the reporting structure, is there a change in the way you're managing any of those businesses? And if so, how do you think that benefits the customer experience of buying to Pentair? Just any color you can give us on the change in reporting strategy if there's a change in the actual business management structure.

Yeah, we've committed a lot of effort and resources to run at what we call the category level, which is the product's that go to the market and serve the customer streams so that's our focus and the new segment lineup allows us to be aligned pool for pool and then we've been able to split the water solutions businesses to the residential commercial where we have the varying go-to-market channels and ift remain the same so we feel really good about our customer-centric efforts both on sales marketing and npi and we're very encouraged on how the new segments will help enable the focus on the growth journeys of these three different areas.

The next question is from Brian Lee of Goldman Sachs. Please go ahead.

Hey, guys. Good morning. Thanks for taking the questions. Maybe just shifting back to the margin outlook here. Appreciate the update of you out through 25. I guess just sort of drilling into 23 a bit here. You mentioned the 100 basis points from the Manitowoc. When I look at your slide 19, can you kind of give us a sense of if that's your sort of entire transformation contribution in 23, or maybe just walk us through some of the pieces, including, you know, how much of that 100 basis points from Manitowoc is embedded in the 23?

Yeah, let me do that. I would say roughly 50 to 60 basis points comes from Manitowoc of that 160 basis point increase. So the way that you should think about Manitowoc is we had roughly $150 million of revenue in our P&L in 2022. 60 and Q3, 90 and Q4. And as we mentioned before, we drive about 30% of Roth on that Manitowoc business. We'll increase to about 370 of revenue in 2023. So think of revenue going up about 220 in Manitowoc at that 30% income level. We also get by exiting the residential businesses will lose about $25 million of revenue in 2023, but gain about $10 million of income. Those were loss-making businesses in 2022. So, you know, when I talked about acquisitions and divestitures benefiting about 5% top line and roughly 35% from a ROS perspective, that was the breakout.

Okay, that's great. I appreciate that, Kala. And then just a quick question on the pool side. I don't know if you quantified this, but you're talking about the channel inventory sort of coming down, maybe normalizing in the 2Q, 3Q timeframe. Can you quantify sort of where you see inventory levels, sort of, you know, weeks and then, I guess, months and where we need to get to to sort of get to a normalized level?

Yeah, I'm looking at it slightly different than that. I think, you know, we've shared with you that we think we're down about, you know, 20% each on new pool builds and also the aftermarket remodeled side. So think of that as, you know, each of those two 20% is down 20%. And then we group the aftermarket and the inventory piece. And we assume that what we're going to see is lower pull through from the cell phone demand. Because as Bob mentioned, we think some of the aftermarket demand was serviced earlier. And because of that, we feel like we got to balance the shipments into the channel and the industry to serve that lower demand. And most of that we think happens over Q1, Q2, and Q3.

The next question is from Steve Tusa of JP Morgan. Please go ahead.

Hey, guys. Good morning.

Hey, Steve.

Hi, Steve. Just the inflation number, I'm not sure if you said that so far. What's the actual number? I mean, I could kind of eyeball the chart there, but just curious what the actual inflation headwind is for 23.

It'd be about 4.5% is how we view it at this point. Okay, so on an absolute basis, what does that kind of convert to? Well, if you think about prices being about 5%, so call that 200 million benefit, I think about inflation at 4.5% as being around 180.

Okay, so moderately positive. When you think about the pricing in the other businesses, anything going on there, any kind of surcharge or anything moving around in the non, I guess the more industrial businesses?

No, no real surcharges, Steve. We're back to more normalized price actions and having to go out and compete competitively from the standpoint of making sure that we're quoting those jobs by anticipating the impact of inflation and then winning between sourcing inflation as we satisfy the industrial projects.

The next question is from Andy Kaplowitz of Citigroup. Please go ahead.

Hey, good morning, guys. Good morning. Hi, Andy. So supply chain inflation obviously looked better in consumer solutions in Q4, but I think you mentioned productivity was negative because of a decline in revenue. I know you said you expect inefficiencies to lessen as you go into 2023. So just sort of what happened in Q4 was just lower revenue, and do you still see that sort of $50 million of incremental improvement for manufacturing inefficiency getting better in 2023 versus 2022? We do.

Go ahead, Beth. Absolutely. So, you know, the significantly lower volume in Q4 while we put actions in place, that's what primarily drove the negative productivity. As we, you know, look at 2023, those inefficiencies, whether it was air freighting, spot buys, whether it was supply chain challenges, Those will reduce significantly and obviously help our productivity. Those would be one area. Then just the actions we took in Q4 around adjusting for the lower volume will benefit us. And then in addition to that, the transformation initiatives that are starting to benefit us in 2023.

Very helpful. And then, Bob, maybe the conviction level to get back to free cash flow conversion of 100%. And if you do get there, obviously, you've got some leverage here. But we've seen more recent announcements, a little bit of consolidation, and call it the water equipment space. So where does Pentair go from here on the M&A front?

I'll definitely take the first one. We have high confidence in our free cash flow. We will benefit from working capital coming down in 2023, primarily inventories. We've established targets and are starting to chart progress, so I'm confident around the inventory space. We'll also see benefits versus 2022 in terms of accruals and cash being paid out. So overall, there's three or four different areas that give us confidence in the free cash flow. Historically, we do drive 100% of net income. And when we've had a challenging year, we turn around the next year and get back to our typical path. So high confidence there.

T. John McCune, M.D.: : And, as far as the m&a I mean short term we're going to service the debt, just because the high interest rates, we love our strategy. T. John McCune, M.D.: : We believe that move and proven enjoy gives us a lot of flexibility to to add to our existing portfolio but we're going to be smart, I mean call me old fashioned, but I think our ic matters in the long run. T. John McCune, M.D.: : used to be how we measured performance, I still think it matters, and I think we have to be disciplined with your capital and we need to make sure if we put that capital work that we can make these acquisitions. deliver to the expectations.

The next question is from Dean Dre of RBC Capital Markets. Please go ahead.

Thank you. Good morning, everyone, and welcome to Shelley.

Thank you.

And we also, John, agree ROIC matters.

Thank you.

Hey, and on Manitowoc, just can we circle back on this? And one of the obvious upsides was the whole cross-cell opportunity, making sure every one of those ice machines has a Pentair filter. Just can you share with us on the take rate there any initiatives that you have to make sure that that process happens smoothly?

Yeah, Dean, first of all, I still think we think across all the synergies we said that we're going to experience those. And We do believe, as we said, there's certainly account management in making sure that we can service the key accounts across all three platforms, KBI being one of those platforms as well on the service side. We do believe that every ice machine should have a filter, and we would hope that it's our filter since we think we are the best filtration company. But that has to be independent choice, of course, made by the distributor and the end market. And I think we can help them be aware of why our filters are better. And we do believe that take rate is going to be serviced over time.

Got it. And then for Bob, the idea here is you've got this whole working capital normalization happening. Wouldn't it be fair to expect that the cash conversion would be well above 100% at some point in 2023, just given the kind of cash conversion that you'd expect from working capital alone?

We've looked at the free cash flow and certainly don't want to get ahead of ourselves. One of the pacing items is the transformation piece. So we expect to spend less on transformation and restructuring in 2023 than we did in 22, but we still have to invest to drive the benefits. So those will be good payback items that we spend the money on, but that is one of the items that that contains the free cash flow slightly. The only other thing I wanted to mention on your first question relating to score keeping for Manitowoc is that as we drive synergies, it's all within commercial water solutions, but some of the benefits goes to commercial filtration as they sell filters. Some of it goes to our Ken's beverage as they drive more services relating to the ice machine. So all of the synergies are not necessarily captured in just Manitowoc ice.

The next question is from Jeff Hammond of KeyBank Capital Markets. Please go ahead.

Hey, good morning, guys. Hey, Jeff. Good morning. Hey, just back on pool and the D-stock, and I'm just wondering – you know, one kind of, you know, how do you think of inventories on your balance sheet versus those at the distributor channel? And then, you know, just if any early buy kind of played in any part in kind of the pacing of destocking.

No, to the second one. And really when we think of inventories, you know, you get reminder that, you know, some of our inventories are across the entire portfolio. Our project businesses are, are, know electronics the tougher to get componentry is where a lot of our inventory resides jeff it's not like we're sitting on finished goods inventory ready to go out so it's not that simple okay just on um res pool you know i think you put you know mark or on pool you've got 28 margins and 22

How should we think about, you know, decrementals as you go through this transition and kind of where you think those margins bottom out?

We expect a drive margin improvement in 2023, Jeff. I mean, as a reminder, you know, our volume and pool was down roughly 30% in Q4. And that's one of the reasons we didn't get to get that leverage up. And, you know, as we take a look at 2023, when we get the costs in line, and balance out against these new production levels, we do believe we're going to drive margin improvement at Poole in 2023.

The next question is from Scott Graham of Loop Capital Markets. Please go ahead.

Hey, good morning and welcome, Shelley. So just a couple of questions, one on Poole, one on the commercial water treatment. I know you said for commercial water, to expect sort of a mid-single-digit growth this year. I'm curious, does that include Manitowoc ice on sort of pro forma?

No, and I'm sorry that we weren't clear. I thought the question was what was core growth of commercial water solutions, and I said mid-single digits. Inclusive of the acquisitions, it's much higher than that, which is on the chart as mid-teens.

Right. No, that I certainly understand. Yeah, that I certainly understand. What would you think that the growth would be in Manitowoc Ice then pro forma? Mid-singles. Okay, thank you. The other question is around pool. So there's a pretty big change in your assumption. I think you were looking at thinking last quarter that aftermarket would be about flat, and now you're kind of looping that together with the continued destock. And I'm just curious because, you know, there are more pools in the ground. So I would have almost thought that naturally that aftermarket might have even been up this year. So is that essentially saying that the D stock is kind of more than 100% of the decline? Or am I thinking about that right?

Yeah, I think it's really the result of the significant growth in 20 and 21 and first half of 22 that the industry saw. And if you think about a more normalized growth, it would suggest that key items like heaters and lighting were probably pulled into those earlier years. And that is probably challenging the aftermarket assumptions. Now, all of that's great because we're adding to content in existing pools and there will be some replacement of those products down the road. So I think long term trajectories are fine. We just think that some of the demand was pulled into the earlier years.

This concludes our question and answer session. I would like to turn the conference back over to John South, President and Chief Executive Officer, for closing remarks.

Thank you, and thank you for joining us today. We're excited about the future of Pentair and focused on creating a better world for people on the planet through smart, sustainable water solutions. Our focus on driving superior shareholder value is fueled by our mission to help the world sustainably move, improve, and enjoy water, life's most essential resource. Kate, you may conclude the call.

The conference has now concluded. Thank you for attending today's presentation. You may now disconnect.