Timken Company (The)

Good morning. My name is Glen, and I'll be your conference operator today. At this time, I would like to welcome everyone to TeamCAN's fourth quarter earnings release conference call. All lines have been placed on mute to prevent any background noise. After the speaker's remark, there will be a question and answer session. If you would like to ask a question during this time, simply press star, then the number one on your telephone keypad. If you would like to withdraw your question, please press star, then the number two on your telephone keypad. Thank you. Mr. Frone-Apple, you may begin your conference.

Thanks, Glenn, and welcome everyone to our fourth quarter 2022 earnings conference call. This is Neil Frone-Apple, Director of Investor Relations for the Timken Company. We appreciate you joining us today. Before we begin our remarks this morning, I want to point out that we have posted presentation materials on the company's website that we will reference as part of today's review of the quarterly results. You can also access this material through the download feature on the earnings call webcast link. With me today are the Timken Company's President and CEO, Rich Kyle, and Phil Fricasa, our Chief Financial Officer. We will have opening comments this morning from both Rich and Phil before we open up the call for your questions. During the Q&A, I would ask that you please limit your questions to one question and one follow-up at a time to allow everyone a chance to participate. During today's call, you may hear forward-looking statements related to our future financial results, plans, and business operations. Our actual results may differ materially from those projected or implied due to a variety of factors, which we describe in greater detail in today's press release and in our reports filed with the SEC, which are available on the Timken.com website. We have included reconciliations between non-GAAP financial information and its GAAP equivalent in the press release and presentation materials. Today's call is copyrighted by the Timken Company, and without express written consent, we prohibit any use, recording, or transmission of any portion of the call. With that, I would like to thank you for your interest in the Timken Company, and I will now turn the call over to Rich. Thanks, Neil.

Good morning, and thank you for joining our call. Timken delivered another excellent quarter, which concluded an outstanding year. Organic revenue in the fourth quarter was up 10%. Demand continued to be strong, with North America and Asia both up double digits. Price contributed meaningfully to the fourth quarter revenue gain, and our outgrowth initiatives also added to the results. Fourth quarter EBITDA margins improved 380 basis points from prior year, with improved price costs being the largest driver. Earnings per share of $1.22 was a record for the fourth quarter and was up 56% from prior year. We also closed on the GGB bearings acquisition and the Arrow Drive Systems divestiture and purchased 250,000 shares. And free cash flow in the quarter was very strong at $186 million. For the full year, we delivered 9% total growth and around 12% organic growth, which was the second consecutive year of double-digit organic growth. Organic growth was at least 10% all four quarters of the year, and we start 23 with very good momentum. EBITDA margins of 19% were up 160 basis points from 21 and were more consistent through the course of the year. Our price realization exceeded the 4% that we guided to at the beginning of the year, and price improves sequentially each quarter for the second straight year. The rate of cost increases leveled off around mid-year, but costs were up over prior year each quarter, and we remain in an inflationary environment. There have been a lot of moving pieces on costs. Steel and logistics were the early inflationary pressures. They have both eased off peak, but labor, energy, other material, and SG&A costs all increased. Internal inefficiencies from supply chain and labor challenges were better than 21 and improved through the course of the year, but remained elevated. Earnings per share of $6.02 was 28% over last year's record level. Free cash flow of $285 million was up from prior year. In addition to the M&A, we continued to invest about 4% of sales in CapEx for growth and cost initiatives. We advanced our products, advanced our footprint, improved our productivity, invested in our digital platform, and expanded our capacity through these investments. We also purchased about 4% of our outstanding shares during the year, and we ended the year with a strong balance sheet. We were also named one of America's most responsible companies by Newsweek for the third year in a row. This recognition underscores our commitment to being an excellent corporate citizen. We are driving sustainability through the products we make, the industries we serve, and across our global operations. We also invest in the development of our people, the diversity of our workforce, and safety across the enterprise. In summary, 2022 was a very good year for industrial demand, but also had a lot of unexpected challenges. And we once again capitalized on the opportunities while navigating through and responding to the challenges to deliver outstanding results for both our customers and our shareholders. Before I turn to 23, I want to highlight slide 12 in our quarterly deck. This slide is from our recent investor day and is updated for our 22 results and our new adjusted EPS definition. Through the five-year period, we delivered an 8% revenue CAGR, an 18% earnings per share CAGR, and an average EBITDA margin of 18.5%, with only 180 basis points of margin variation through the five years. When you reflect back on the macroeconomic volatility through that five-year period, from tariffs, pandemics, inflation, supply chain challenges and more, these results demonstrate the resiliency of the demand for our products and technology, the diversity of our business, and our commitment and capability to drive value through economic cycles. So while uncertainty remains elevated today, Timken is well positioned to continue to create value in the years to come through industrial cycles and through evolving technologies. Timken enters 23, a larger and better version of the company that we were in 2018. And we are confident that we will be able to continue the trajectory of this performance in the years to come. And we expect that 23 will be a good start to the next five years. Turning to 2023, I will start with our recently announced acquisitions. First, American Roller Bearing, or ARB. ARB has been family owned and operated in the United States for three generations. They have a longstanding position in the U.S. process industries markets. They have a large installed base of products throughout the U.S. and sell primarily through bearing distributors to a fragmented base of OEMs and end users. These are markets and channels that Timken knows very well, and we are confident that we can create value for customers and shareholders through integrating ARB into Timken's engineered bearings portfolio. ARB enters the portfolio at modest EBITDA margins, but we expect over time to get it to process industries level margins. Nadella will add a combination of new products to our portfolio and also expand existing product lines and market positions. The largest product line is linear motion actuators. The product complements and scales our linear motion platform, and we will deliver strong synergies with our role on business. Nadella also brings industrial needle roller bearings, ball screws, and rod ends to the portfolio. Timken entered the rod end market with the 2020 acquisition of Aurora, and adding Nadella will globalize our rod end market position. Nadella will further scale our position in several of our targeted markets as they serve a fragmented customer base across markets like automation, packaging, food and beverage, logistics, and medical. Nadella will join Timken with a margin profile slightly above the company average, and with synergies, we will both expand margins and accelerate the global growth rate. We're excited to be adding both ARB and Nadella to our portfolio. Upon completion, we will remain comfortably within our targeted leverage ratios. And with our 23 cash flow, we can continue to be opportunistic with capital allocation opportunities through the year. Turning to our markets and slide seven in the deck, we are guiding to a 3% organic revenue increase in total. We expect price to be over 2% for the year, so price comprises over half of the organic revenue outlook. We are confident in achieving at least the 2% price. Starting on the right, we're expecting a strong full year in renewables driven by Asia Wind, both from the market as well as from our outgrowth tactics. This is a market where we have good visibility into demand for several quarters out. The order book and backlog are strong and customers are committed to a step up in revenue for the full year. We're planning for the rest of our markets to range from flattish to up mid-single digits. I'll talk more about the first quarter in a moment, but this guide assumes we will start the year well above the 3% level and then moderate the second half of the year, partly from tougher comps, but primarily from taking a cautious view of the markets where we do not have extended visibility. We're also anticipating some channel inventory pullback in this outlook as supply chains improve and customers return to managing inventory with higher precision. If our outlook for the second half proves to be low, we'll be in excellent position to capitalize on the situation. From a margin standpoint, we are guiding to roughly flat margins for the year. As I said in my 22 comments, there have been a lot of moving pieces on the cost and margin front, and that continues into 23. We are expecting price costs to be modestly positive for the full year. We also expect margin help from better operational execution, supply chain improvements, our 22 capex and footprint investments, and lower steel and logistics costs. However, we remain in an inflationary environment, and we do anticipate further cost increases in SG&A, labor, and other purchase materials. Currency and mix are also expected to be margin headwinds for the year. We have been dealing with a rising and volatile cost situation for a couple of years, and I'm confident that we will successfully navigate through the price-cost dynamics again in 23. Earnings per share would be up about 5% at the midpoint. We expect much stronger cash flow in 23, primarily from higher earnings and lower working capital requirements due to both moderating growth rates as well as improved supply chain execution. While we are taking a cautious view on the second half, we are starting the year strong. We have good visibility for the first quarter and well into the second quarter, and we expect organic revenue to be up high single digits in the first quarter. We have a healthy backlog, good order input, and the benefit of another sequential price improvement. We would also expect our normal sequential step-up in margins from the fourth quarter to the first. In summary, we delivered an excellent year in 2022, both strategically and financially, and we are off to an excellent start to 23. We're in a great position to extend our strong performance. We're excited about the opportunities in front of us. and we feel confident in our ability to continue to create shareholder value for our long term as we continue to advance Timken as a diversified industrial leader.

Okay, thanks, Rich, and good morning, everyone. For the financial review, I'm going to start on slide 14 of the presentation materials with a summary of our strong fourth quarter results, which capped off a record year for Timken. We posted revenue of close to $1.1 billion in the quarter, up over 7% from last year. We delivered an adjusted EBITDA margin of 17.2% with strong year-over-year margin expansion. And we achieved record fourth quarter adjusted earnings per share of $1.22, up 56% from last year and over 20% higher than our next best fourth quarter. Turning to slide 15, let's take a closer look at our sales performance. Organically, Fourth quarter sales were up 10.2% from last year, driven by strong growth across most end markets and sectors, and with healthy contributions from both volume and pricing. Looking at the rest of the revenue walk, foreign currency translation was a sizable headwind in the quarter, driven by a stronger US dollar against the euro and other key currencies. And the impact of acquisitions netted divestitures contributed modestly to the top line. On the right-hand side of the slide, you can see organic growth by region, which excludes both currency and acquisitions. Let me touch briefly on each region. In Asia Pacific, we were up 19%, driven by strong growth across the region with renewable energy and distribution posting the strongest sector gains. In North America, our largest region, we were up 13%, with most sectors up, led by off-highway, distribution, and general and heavy industrial. In Latin America, we were up 5%, driven mainly by year-over-year growth in distribution. And finally, in EMEA, we were down slightly as lower renewable energy revenue and lost Russia sales were mostly offset by growth in other sectors. And notably, if you exclude Russia, we would have been up modestly in the region for the quarter. Turning to slide 16, adjusted EBITDA in the fourth quarter was $186 million, or 17.2% of sales, compared to $135 million, or 13.4% of sales, last year. Looking at the increase in adjusted EBITDA dollars, we benefited from strong price mix and higher volume in the quarter, which more than offset the impact of unfavorable net manufacturing performance and higher SG&A other expense. As you can see on the walk, material and logistics costs were relatively flat year on year, a significant improvement from the sizable headwinds we've experienced over the past several quarters. Overall, we delivered an incremental EBITDA margin of 68% on the higher sales, driven by our positive price-cost performance, which enabled us to expand margins by 380 basis points versus the fourth quarter of last year. Let me comment a little further on a few of the key drivers in the quarter. With respect to price mix, pricing was meaningfully higher in both mobile and process industries, reflecting our significant pricing actions over the past year. Mix was also positive, driven by our strong growth in attractive sectors like industrial distribution. Moving to material and logistics, as I mentioned, the year-over-year impact in the quarter was largely neutral. as higher material costs from continued supplier price increases were mostly offset by lower logistics and transportation costs. I would also point out that material and logistics costs were down sequentially from the third quarter. On the manufacturing line, we were negatively impacted by continued cost inflation, including energy and labor, as well as lower production volume. and we were also impacted by higher costs that had been capitalized to inventory in prior periods. This will continue to be a headwind in 2023. On the positive side, we're seeing improved execution from our teams around the world as supply chain and other constraints continue to ease. We should also benefit more in 2023 from our manufacturing footprint actions and other self-help initiatives. And finally, on the SG&A other line, Costs were up in the fourth quarter, driven by higher compensation expense and other spending to support the increased sales levels. But I would point out that SG&A expense was in line with our expectations and up only slightly organically from the third quarter run rate. On slide 17, you can see that we posted net income of $97 million, or $1.32 per diluted share for the quarter on a GAAP basis, which includes $0.10 of net income from special items. On an adjusted basis, we earned $1.22 per share, up 56% from last year, and a record for the fourth quarter. You'll note that we benefited from a lower share count in the quarter, reflecting the significant buyback activity we've completed over the past year. And lastly, the higher interest expense and 25.5% adjusted tax rate were in line with our expectations. Now let's move to our business segment results. starting with process industries on slide 18. for the fourth quarter process industry sales were 586 million up 11.1 percent from last year organically sales were up 13 and a half percent driven by growth across all sectors with distribution heavy industries and general industrial posting the strongest gains in the quarter pricing was positive once again and net acquisitions contributed nearly three percentage points of growth to the top line. But currency translation was a sizable headwind in the quarter, reducing growth by over 5%. Process industries adjusted EBITDA in the fourth quarter was 143 million, or 24.4% of sales, compared to 105 million, or 20% of sales, last year. The increase in process segment margins reflects the benefit of positive price cost and higher volume, which more than offset the impact of higher manufacturing and SG&A costs in the quarter. Now let's turn to mobile industries on slide 19. In the fourth quarter, mobile industry sales were $496 million, up 3.3% from last year. Organically, sales increased 6.4%, with the off-highway and rail sectors posting the largest revenue gains. We were also up in heavy truck, while aerospace and automotive were relatively flat. Pricing was positive once again, while net acquisitions contributed modestly. Currency translation was a headwind in the quarter, reducing growth by nearly 4%. Mobile industry adjusted EBITDA in the fourth quarter was 56 million, or 11.3% of sales, compared to 41 million, or 8.6% of sales last year. The increase in mobile segment margins was driven by the benefit of positive price cost, which more than offset the impact of higher manufacturing and SG&A costs. And notably, mobile margins were up sequentially from the third quarter, which is unusual given our seasonality and reflects a moderation of costs over the past few months. Turning to slide 20, you can see that we generated operating cash flow of $242 million in the quarter. And after CapEx, free cash flow was $186 million or more than triple what we delivered last year. Looking at the full year, Free cash flow was $285 million, up from $239 million in 2021. The higher free cash flow was driven mainly by earnings growth, which more than offset the impact of higher working capital to support the record sales levels, as well as higher CapEx to fund our growth and operational excellence initiatives. During the year, Timken paid $92 million in dividends, or $1.31 per share. making 2022 the ninth consecutive year of higher annual dividends per share. In addition, we repurchased over 3 million shares of stock during the year, or about 4% of total shares outstanding. And we have nearly 6 million shares remaining on our current authorization. We also completed the acquisitions of GGD and Spinaea. And with those acquisitions, 2022 marks the 13th straight year where Timken has made at least one acquisition. When you take into account our CapEx, dividends, net acquisitions, and share buybacks, Timken deployed just over $900 million of capital in 2022, and we did it while maintaining a strong balance sheet. Turning to the balance sheet, we ended the year with net debt to adjusted EBITDA at 1.9 times, well within our targeted range. In addition, we completed several debt financings during the year to provide us with additional financial flexibility, including a $350 million issuance of 10-year bonds back in March at an attractive fixed rate. We also refinanced and upsized both our revolver and U.S. term loan in December, extending their maturities to 2027. With our strong capital structure and cash flow, we remain in a great position to continue to drive shareholder value creation in 2023, and we're off to a great start with ARB and Nadella. Now let's turn to the outlook with a summary on slide 21. As Rich highlighted, We expect strong top and bottom line performance again in 2023 with a large step up in free cash flow generation. Starting on the sales outlook, we're planning for another year of record revenue with sales up 4% to 8% in total or 6% at the midpoint versus 2022. Organically, we're planning for revenue to be up about 3% at the midpoint, driven by positive pricing and modest volume growth, with our volume assumptions reflecting some prudent cautiousness around the second half, given our limited visibility. We expect acquisitions netted divestitures to contribute around 3.5% to our revenue for the full year. This includes the recent ARB acquisition, but does not include Nadella. We will include Nadella in our outlook after the deal closes, which will be around the end of the first quarter. And finally, we expect currency translation to be a 50 basis point headwind at the top line for the full year, based on December 31st spot rates. On the bottom line, we expect record adjusted earnings per share in the range of $6.50 to $7.10 per share, which represents around 5% growth at the midpoint versus last year on a comparable basis. Note that the guidance range reflects our new definition for adjusted EPS, which excludes acquisition and tangible amortization expense of roughly 50 cents per share. I'll come back to this later in my remarks. The midpoint of our earnings outlook implies that our 2023 consolidated adjusted EBITDA margin will be roughly in line with 2022. Note that our margin assumption reflects a sizable headwind from currency off the positive impact we saw last year. Organically, we should see strong incrementals as favorable price-cost momentum and improved operational execution should more than offset headwinds from higher manufacturing and SG&A costs, lower production volume, and unfavorable mix. Moving to free cash flow, we expect to generate approximately $400 million for the full year 2023, or approximately 90% conversion on net income at the midpoint. This is over $100 million higher than 2022 and reflects the impact of improved earnings and working capital performance. We're estimating capex at around 4% of sales for the year, with the spend continuing to fuel our long-term growth and operational excellence initiatives. And finally, we anticipate higher interest expense, and we expect our adjusted tax rate to remain around 25.5%. Turning to slide 22, let me comment further on the revision to our adjusted EPS calculation. As I mentioned, our new definition for adjusted earnings excludes acquisition and tangible amortization expense, which has grown in recent years with the cumulative amount of acquisitions we've made. Overall, we believe this change will provide a better representation of our core operating earnings and improved comparability of our performance versus peers. So to summarize, the company delivered strong results again in the fourth quarter to finish another record year. Our team continues to win in the marketplace and drive our profitable growth strategy. We're off to a strong start in 2023, and we're well positioned to continue to scale as a diversified industrial leader through any environment. This concludes our formal remarks and will now open the line for questions. Operator?

Thank you. Ladies and gentlemen, if you'd like to ask a question, simply press star, then the number one on the headphone keypad. With our first question comes from Steve Barger from KeyBank CM. Steve, your line is now open.

Thanks. Good morning. Good morning. Rich, you said price is 2% of the 3% organic growth. If I go back to slide seven, you have the worst case for the four sectors is flat, and most of the sectors are mid-single digit or better. Can you talk about which of the end markets, if any, you think are going to have negative volume growth this year?

Yeah, I mean, we don't specifically split out the volume versus the price, but certainly if those middle markets all have price realized over the last year on them. So if they end up at zero, their volume would be down a little bit.

But it sounds to me like you're taking a pretty conservative approach just based on what this slide looks like. Since you do expect positive price cost, I guess I'm trying to get to the idea of whether you really think volume is negative or positive in 2023 for most of your end markets.

Well, it's certainly not negative to start the year. And if you look at this slide seven, we have four markets on this slide that we have visibility well into the second half on, renewable energy, aerospace, heavy industries, and marine. So the four markets where we have good visibility into the second half, volume, as well as price, we're all looking, we're all four of them projecting to be up mid-single digits or more for the full year. And as I said, we're looking to be up high singles organically in the first quarter. So certainly to get to these numbers for the full year, you'd have a moderating from high single digits down to low single digits as the year advanced in total.

So as you look at your internal model, do you show positive growth in the back half or in 4Q specifically, or do you expect that that goes negative in the back half?

With price, we'd be still modestly positive.

Great. Thanks for the time.

But I'd also want to emphasize again as you depart there, Steve, again, we don't have visibility into that. We're taking a cautious outlook here. But again, we're starting the year up. We just finished the fourth quarter up 10 and starting the year up high single.

Understood. Thanks.

Thank you, Steve. With our next question comes from David Russell from Epicor. David, your line is now open.

Hi, thank you. I've been jumping between calls. So sorry if I missed this, but earlier you said mix. would be part of why margins only flattish year over year. Did I miss some growth guide particular to process versus mobile? Were mobiles up more? I'm just trying to figure out why would the mix be down? Was there something unique toward the end of 22 that really skewed the mix? I mean, obviously, process in general, right, gives you the better margins. But did I miss something about the bigger mix comment or even something within process?

I don't think we made a comment, but within process, As you look at slide seven with renewable up high singles and distribution flattish, that's negative mix within process.

So, you know, we would actually expect... A little D-stock at distribution. That's sort of the play there a little bit.

Yeah, I'd say a little bit of D-stock and just moderating, you know, more of a sell-through And a couple of our U.S. distributors have made statements that they're looking to manage inventory a little tighter this year. But again, within that, we would expect within this guide for mobile margins to be up a little bit, process margins to be down a little bit. And then as Phil also said, you have the currency impact.

Yeah, I was just going to comment, David. As Rich said, I mean, our mix is really driven by the, you know, obviously the mix of OEM, not just in process, but across the company, the OEM growth versus the distribution or aftermarket growth. And, you know, we have both the distribution and services sectors, if you will, sort of neutral for the year, but we got renewables up, you know, high single digits plus, as well as a lot of the other OEM markets up. And that dynamic compared to 2022, where distribution was up significantly in is producing a little bit of a mixed headwind, which would affect process a little bit more than mobile. And then mobile, a lot of the self-help we've been talking about over the course of the year around footprint and consolidations and the like should help mobile, as Rich said, improve margins year over year with process feeling a little bit of a headwind, but net-net, roughly neutral year over year, at least as we've assumed it in the guide.

Okay, no, that adds a little more, you know, legitimacy to the guy. Just distribution is such a, you know, powerful force in that business. But the D-Stock, if you can give us a little bit of insight on those conversations you've had. I think distribution is what, I'm not including services, just truly distribution. What is it, 40%, 45% of the division, something like that, if I remember correctly. How long is the D-Stock when you speak to them? Is it sort of just a slow grind down over the course of the year? Or is it more of a, you know, taking the first course and then they're ready to go?

You know, I wouldn't overplay it. It's not an increase in inventory, which is what we've had the last two years, right? So, again, as you look at the comps, they've been building inventory. So even a leveling off and going to the self-due rate is a reduction or a tougher comp. And I wouldn't say there's a big – De-stocking, but lead times have improved. Transit times have come down. Over-ordering is over. And we're just anticipating a little bit of a headwind from that. I think we already had a little bit of a headwind with that in the fourth quarter. Still improved 10% organically. We expect a little bit more in the next couple quarters.

That's helpful. So not as much an absolute de-stock, just was a little more of a benefit in 22 that we can't quite... Exactly. Okay.

Yeah, and the extended supply chains. I mean, the extended supply chains have had a lot of stranded inventory in the supply chain that I think is coming out.

All right, terrific. Thank you. Thank you, David.

Thank you, David. With our next question, it comes from Rob Wertheimer from Milius Research. Rob, your line is now open.

Thank you. And just to clarify, so I guess I went into the call assuming there'd be a channel inventory drawdown there, and the effect that you're calling out is more that prior years had an inflow from distributors and others taking more inventory. You're not anticipating a large drawdown in this guide?

A large drawdown, no. I would not say there's a large drawdown. There's a drawdown, but not a large one.

Okay. Just a quick question on pricing then. So you've obviously captured a lot. Your margins have reflected that in the last couple of quarters, especially. Are you back to kind of neutral-ish with the 2% outlook for next year? Is there still more catch-up to go and that's embedded in the two? Are you still working on getting catch-up pricing as contracts or other things roll through? And just in general, it's been a tumultuous couple of years for pricing. I wonder if you could step back and just comment on your overall structural initiatives, you know, COVID and inflation out of the picture for how you're capturing price. Thank you.

Yeah, I think if you look over, if you added our two years of walks, maybe two years and a quarter, because we really started in nine, ten quarters ago with the inflation, we would be close to neutral, maybe slightly behind with a little bit of offset into our volume. So we're close to neutral. The 2%, more than 2% is expected to be slightly better than neutral. But we're looking at roughly neutral. And then to your latter question, we feel good about our ability to capture price. We feel good about our ability to respond to volatility in commodity prices and supply chain issues, et cetera. I think we've demonstrated that. We've got, as we've talked before, we've got thousands of customers and a lot of complexity in our price, which tends to make it sticky and also tends to make it a little more complicated when these things happen than just pushing a button and raising prices in a matter of a week or a month or a quarter. But we're there now. We've got good systems and processes and feel good about being able to adjust to whatever comes our way in the course of 23. Thank you.

Thank you, Rob.

Thanks, Ram.

We have another question. It comes from Steven Walkman from Jefferies. Steven, your line is now open.

Great. Good morning, guys. Thank you. And my question was around pricing as well. I guess I'm just surprised at your two points kind of a forecast for 23, because obviously you're coming off a fourth quarter that's way bigger than that. And I think your chief competitor sort of said mid-single digits. So why wouldn't we think about sort of follow-on pricing for actions done during the year in 22? Why wouldn't that kind of have a a stronger effect in 23. And I think, Rich, you even said something about another recent price increase. Are you seeing declines, I guess, is the other way to ask this, in certain parts of your customer base already? And is that sort of the offset? Just help us think through why that wouldn't be higher.

Yeah, on the chief competitor comment, I'm not sure where they would stand on going back to pandemic to current if they would be behind that and they're looking to play catch up on that or not. But as I said, we, as you go back and add ours up, we're pretty close to neutral and more than 2% would build on that modestly. And again, we'll see how the cost dynamic goes through the year as to how much build that is. We would expect... greater than two percent under um any any normal moderating uh improving cost scenario and then you know if costs go up we'll probably expect that to uh to go up a little bit more so i think we've got um uh good coverage there and um you know we feel good about the two percent there's no where we have indexed uh pricing to steel or currency there could be some uh uh give back there happening but in total as we show on our walks our costs have not gone down in total uh we need the two percent and we'll get the two percent net of um the any index clauses is the expectation yeah just maybe a clarification steve the fourth quarter walk would also include uh mix was favorable in the fourth quarter so there would be favorable mix in there as well but uh as rich said we're we're targeting the two looking to beat the two percent for the year and uh

And feel really good about the outlook for both for price cost heading into 23.

Okay. And it feels like you're going to start the year like first quarter is going to be significantly higher, I would think, just based on sort of what we've seen recently. And I guess that implies that we exit the year kind of flat or negative on price. Is that the way to think about it?

Well, no. I think price will still be up in the fourth quarter, but we have been improving price sequentially for nine or ten quarters. So every quarter, the year-over-year comp gets harder. And as you highlight, our fourth quarter number was pretty sizable, so that becomes a challenging comp for us in the fourth quarter, but we'd still expect it to be positive. But to your point, the first quarter would be pretty good because it's on a lower comp than what the fourth quarter just was, and we just rolled some more sequential pricing in.

Yeah, and as we've said, you know, we've taken a conservative view on the second half for purposes set in the guide. So, I mean, if we are in a more robust environment, which translates to a more robust cost environment, we have the ability to continue to move price as needed, as we've shown over the last couple of years. I think we do have those levers if we need to pull them. It will all depend on kind of where we're at in time and space as we enter the back half of the year.

All right. I appreciate it. Thanks. Thank you.

Thank you, Stephen. With our next question comes from Brian Blair from Oppenheimer. Brian, your line is now open.

Thank you. Good morning, guys. Good morning. Good morning, Brian. It's encouraging to see renewable energy transitioning back to growth mode. It certainly aligns with the market projections we've seen on the wind energy side and particularly for offshore. I'm just curious in terms of the high single-digit plus growth outlook for the sector, how is your team thinking about relative growth rates on the wind and solar side? And I'm assuming that your projections are going to be different back half-weighted for the year? Again, specific to that space. How should we think about that cadence?

On the split between wind and solar, for us, wind stronger. We've had more, we have more outgrowth tactics there. We have more capital going into that space. Both markets good. And then there's also, within solar, there's probably a little more Well, there is a little more split between fixed technology wins out over rotating technology and then which technology wins as well in the solar channel. So we have a different mix there depending on which growth rate is, whereas with wind we participate across that a little higher in – in gear drive and direct drive, but we have good content across all of it, so we're more neutral on the technology side and we have more self-help. So we'd expect the growth rate to be higher on wind for the full year. You want to talk about the cadence for the year?

Yeah, I was going to say, Brian, I think we've seen momentum build in renewable and wind in particular the last couple quarters, so we would expect to be at or could even be slightly above that rate in the first quarter, just given the comp we'd be working off of, as well as the momentum we've seen the last couple quarters kind of building into the first.

Appreciate the color there. Can you provide an update on Spinea and GGB integration and offer a little more detail on sources and potentially the magnitude of ARB synergies? Sounds like there could be a little bit of heavy lifting to do there. And if we combine Spinaea and GGB carryover with ARB contribution? How much deal accretion do you have baked into the guidance, understanding that Nadella for the time being is not factored in?

Maybe I'll take them in reverse order. ARB, certainly some heavy lifting, but also, again, family-owned business for several generations. When you look at our scale our U.S. manufacturing presence, our purchasing power, et cetera, et cetera, I think we're going to be able to bring pretty quick synergies to that. That being said, going from the modest EBITDA margins that joins us to process industries type margins will certainly probably be more a 25 before we get up to that level. But I would expect improvement, significant improvement in the run rate by the second half of this year and then another step up in next year before we would get to that. You know, a lot of synergies within that business for us. DGB, similar, has been integrated into our bearing business. The early priority was standing up some of the carve out from in pro and that's largely done and so we're operating largely without them and Weaning ourselves off the transition service agreements there so really focused now on on integrating that and and a lot probably more emphasis so far on sales synergies than than the operational side, but I think everything looks good there and And we have a good plan in place for that this year. And then Spinea, you know, pretty light synergy case for Spinea. That was really about entering a new product technology in a growing market. So certainly there are some synergies in selling our existing harmonic product along with their cycloidal product, but they are largely different technical solutions for different applications. and not an enormous amount of operational synergies there. So all three exciting, and particularly since we didn't have Nadella in the guide at all, I'll let Phil clarify the appreciation comment.

Yeah, so specifically with ARB would have been in the guide, the guide that we provided, so that would be very, very modestly accretive just given the size. Nadella will add both to the revenue as well as all the way down after it closes and From an accretion standpoint, under the new definition, it would be likely, depending on timing, likely north of a nickel, somewhere between sort of 5 to 10 cents, somewhere around there.

Okay, appreciate it. Thanks again, guys. Thanks.

Thank you, Brian. With our next question comes from Michael Fanninger from Bank of America. Michael, your line is now open.

Hey guys, I recognize you're taking a conservative approach to the outlook with a lack of visibility. Just on the pricing front, how much pricing just rolls into 2023 alone when we think of that 2% increase? And can you just remind us, in a typical year, when do we normally see price increases? I know it's different between the OE and the distribution. Last year was an abnormal year. So what do we kind of look like in a normal year? when we think of when we see these price increases.

On a normal year, we would see our biggest sequential step up from Q4 to Q1. And we've seen that in the abnormal years, the last couple of years as well, the biggest sequential improvement from Q4 to Q1. But then we've had this steady sequential growth from there. And I would expect a modest step up from Q4 to Q1. and then further sequential pricing and gains through the year like we've done the last couple years. I think the difference this year could be if steel prices moderate, then there would be a little more netting, which again we factored into that more than 2% outlook for the year. So I think to the earlier question, comp lower because of the sequential in the first quarter, so we'd expect pretty good price realization in the first quarter.

Thank you. And there's a fairly big acquisition in the industrial motion space for 13, 14 times, even a multiple, way above where you're trading today. How big is industrial motion of your portfolio right now? And I know you just announced a few acquisitions. Is there any view to slow that down, integrate, and maybe shift more to repurchasing, given that valuation discount of what we're seeing out there in the market to where your shares are trading fast?

Well, a comment. I mean, we did purchase 4% of the outstanding shares last year, and we've been pretty active in the buyback market for the last seven or eight years. And I don't think the acquisitions that we've done would preclude us from doing that. But I would also say we don't think it's a either-or answer, and the answer is probably both, and we've been doing both.

Yeah, I would just to answer the question, Mike, industrial motion would be roughly 1.4 billion in revenue. So, you know, well over a billion now, and we've targeted getting that to 2 billion. As Rich said, I think with our, you know, we like what those businesses are doing for our portfolio. You know, Rich showed the slide of our five-year performance. You know, that part of our portfolio has contributed significantly to that performance. And, you know, while there's a big acquisition that's pending, there are still, We believe ample acquisition opportunities out there for us to continue to move the needle. So, you know, I think you'll see us continue to advance on the M&A front, you know, with a disproportionate view toward, you know, industrial motion to continue to build that out, but still have the ability to buy back stock. And, you know, we've systematically done that. And as I mentioned, you know, we allocated $900 million of capital across the board in 2022. and across all fronts, buyback, M&A, dividends, and CapEx. And we're in a great position to continue doing that as we move forward with our balance sheet in such strong condition.

Great. And I'll just sneak in one last question. You might have addressed this already. I know there's a lack of visibility right now. Have you observed anything in January or early February that would provide cause of concern or, conversely, signs of encouragement given some of the macro high-level data points we've seen out there? Thank you.

Yeah, I think I commented on this in my statement. I mean, we're starting the year very strong. So I think, in general, the environment that we're operating in here in the first week of February is a very positive one.

Thank you. Thanks, Mike.

Thank you. Our next question comes from Dylan Cummings from Goldman Sachs. From Owen Stanley. Dylan, your line is now open. Great. Good morning. Thanks for the question.

I just wanted to ask quickly on the APAC revenue growth in the quarter and another sequential acceleration in the rate of growth. Probably skews a bit, I think, but more positive versus some of the other industrial reads we've gotten from the channel around China over the last quarter or so. So Can you talk about how much of the growth there right now is being driven by renewables versus any other kind of growth you might be seeing across the rest of your end market mix?

Yes, certainly our Asia business has become a pretty significant mix to renewable energy. So our outlook there, you know, I think would continue to give us higher growth. a more positive outlook as well as more positive results than peers with a more diversified market mix or a more industrial market mix?

Yeah, I would say, Dylan, when you look at the quarter, I mean, we were up 19%. It was broad. I mean, China was up high teens, India up high teens, the rest of Asia up in that range. As Rich said, renewable was by far the largest growth sector, but distribution was right behind it as we continue to see positive, performance across distribution as well as other sectors. So it's been broad growth, but there's no question, particularly China has been very renewable. You know, at least that's been the biggest driver the last few quarters. Okay.

Thank you. I'd add the India results and outlook. The outlook for India is pretty strong in 23. Okay.

That's helpful. Thank you. And maybe just one last one on the housekeeping side with regards to the currency impacts. You call that out as a headwind, I think, to your margin bridge for next year. I know it was still negative in the fourth quarter, but you did talk about some more challenging comps from that perspective as well. She was talking about how impactful a currency might have been either as a tailwind or a headwind to margins in 2022 and then what you're kind of basing it as a headwind for 2023.

Yeah, I would just say Dylan, you know in 2022 with the movements in the currencies we and you know on the transaction side we had some transaction favorability in 2022 which was actually it was a margin tailwind actually helped our margins in 2022 and really the non recurrence of that of those positive gains in 2022 kind of not repeating in 23 coupled with the the continued headwind on the top line is going to produce you know a year over year pretty significant headwind to margins just by the flip of that, if you will, from one year to the next. And so that sort of baked into the guide. And really just taking maybe a bigger step back, the guide sort of implies 20-ish percent all-in incrementals and that currency being a big headwind. And then, as you know, M&A comes in at really an EBITDA margin. When you back it out, our organic incrementals with the pricing and the operational execution, cost moderating, I mean, The organic incremental implied in the guide would be much closer to 30% versus 20, and I think that speaks to a lot of the work we've been doing the last year plus in getting the price-cost moving in our favor.

Very helpful. Thank you, Phil.

Thanks, Dylan. Thanks.

Thank you, Dylan. Our next question comes from Joe Ritchie from Goldman Sachs. Joe, your line is now open.

Thank you. Good morning, guys. Good morning. So I guess my first question, just a clarification question. So you're starting off the year with high single-digit growth, but then kind of the midpoint of your guidance is at 3%. So it sounds like you're expecting the second half to turn negative. I just want to be clear that that is kind of like the expectation into your guide for the second half of the year.

Well, I'd say we're probably starting off the year closer to the, you know, the high single digits. We're probably starting off the year at the higher end of our guide. So I'd start there. So, you know, the year's off to a strong start. But, yeah, if you go up high single digits and, you know, we're not expecting anything that's coming off of 10. So if you go from 10 to 7.5 would be the low end of high single digits or 8 or 9, you know, Uh, to get down to the fourth quarter, you probably gotta be, you know, down to a zero to one sort of number to, uh, to come to the midpoint of the guidance. Uh, but I would say we're also, as I said, uh, we're starting the year pretty strong and probably starting more towards the higher end of the guidance.

Yeah. Yeah. I would say, Joe, we like to think of it as, uh, as saying the back half, we're sort of the outlook sort of implies a flattening out in the back half of the year, as opposed to a decline. And as we said, we don't have great visibility. beyond the second quarter. So we have to see how things develop over the next couple of months, how the order book fills in. And then we'll be able to kind of assess how accurate that is as we move through the year.

Yeah, that's helpful. And I know you guys are a fairly short cycle business. But because of supply chain issues, some companies have had a little bit more visibility, I guess, at the start of the year than than they normally would so i'd love to hear maybe some comments around whether your visibility is a little bit higher than normal today and then also you know rich if i just kind of asked you a more broad broader question like what what concerns you what's your biggest concern around the year um i'd love to love to hear your thoughts on that as well

I would say we have significantly greater visibility than what we normally would. I think the supply chain issues have reduced significantly. They're still there. Everybody had problems operating in China in the fourth quarter as an example, and there's other issues out there. So our backlog organically, if you adjust for the acquisitions and divestitures, is up modestly from where it was a year ago. And our run rate of shipping is up, again, high single digits from where it was a year ago. But our backlog also peaked in around the middle of last year. So we have been liquidating backlog modestly. So I would say, you know, we have very good visibility out for the next three or four months. And the demand picture looks quite good. In our geographic walk, we show that Europe was down modestly, as Phil mentioned. If you adjust for Russia, it was up a little bit, but that would include price. So if Europe from a volume basis in the fourth quarter was down, so that would be really the only geographic area that's soft. And To come back and answer your last question, one, I feel really good about the position we're in. I think we're going to, again, get off to a really good start. The midpoint of the guide is based, again, on, I think, a pretty cautious softening in the second half, and even that's a good result. We're in an excellent position that if we're being too cautious on it, we'll capitalize on that. And predicting these industrial developments, markets and inflections is not an easy task. So, you know, focus on where we have the visibility and then really focus on, you know, growing the earnings power and the revenue of the company through the cycle. And I feel great about that. So I think we're in a really good position.

Yeah. Maybe one other point, Joe, when you look at the backlog all in, I mean, we're actually higher. We ended the year higher than the end of 2021. So we're sitting here with a stronger backlog than we had a year ago. And I think that that bodes well, at least for the near term visibility.

Great. Thanks guys.

Thanks Joe.

Thank you, Joe. With our next question comes from Chris Bankers from Loop Capital. Chris, your line is now open.

Hey, morning guys. Thanks for taking the question. Um, I guess first off, you know, um, Phil, you'd mentioned we were talking about the margins in 23 calling for flattish now. I think on the last call, we were kind of hoping to be able to nudge that a bit higher in 23. The moving parts there, I mean, you called out higher labor, other materials, et cetera. But really, are there any investment costs to keep in mind in that margin guide that are stepping up in the new year? Because again, I assume for the most part, these labor rates and FX was anything of kind of improved versus fourth quarter, no?

Yeah, I mean, it's a great question, Chris. I mean, as I think about, you know, we're always investing, but I would say, you know, year on year, there's probably not a sizable headwind there. But as you think about some of the, you know, put the currency aside, because that will be a year on year negative. I mean, you'll see that in the walks as we move through the year. You know, when we talk about SG&A, we're going to have normal, you know, labor increases and, you know, spending to support the higher levels. We actually, you know, for example, we're going to have higher, you know, pension expense just with the, um, with the change in the discount rate and the like. So, you know, things like that. Talk a little bit about the mix with the OEM versus distribution, not in the manufacturing line, still seeing, you know, still seeing some inflation there, you know, whether it's labor, um, should see better operational execution, but the other dynamic that's happened in there is around, you know, we, a lot of the inflation we got hit within 22 is working its way through the inventory. I think that'll be a cost that's going to come through in 23. Frankly, earlier in the year, we thought we might see some of it come through in 22, but we're planning on it now to come through in 23. So that'll be not a permanent headwind, but that'll certainly be at least a temporary headwind while it comes through. So those are the main drivers kind of offsetting the positive price we expect to get, the material and logistics being down, and then the other self-help and other initiatives in addition to the modest volume kind of propping us up. But as I said, organically would expect strong incrementals closer to 30 than 20. It's just a combination of the currency and the M&A that are just depressing it a little bit.

Gotcha. That's super helpful. And then just kind of moving to process, again, everything kind of outside of alt energy, flattish. But I guess within that kind of other bucket, automation has been kind of a standout. Or maybe any comments on automation, kind of how that fits into process growth in the new year?

Yeah, automation, I mean, I think that's a market we still see good growth. Rich talked about Spinea and talked about some of the other initiatives, you know, going on there. But, I mean, that is a market that, you know, we would expect to grow. It's kind of inside the general industrial category that we have on the charts. Well, there's a lot in general industrial, but the, you know, the automation piece, particularly, you know, factory automation, you know, we expect to continue to see strong growth, strong trends, and that'll be both a and organic and inorganic opportunity for us as we move forward.

Got you. Well, thanks so much, and best of luck in the new year, guys.

Thanks, Chris.

Thank you, Chris. There are no remaining questions at this time, so do you have any final comments or remarks?

Yeah, thanks, Glenn, and thank you, everyone, for joining us today. If you have any further questions after today's call, please contact me. Thank you, and this concludes our call.

Thank you for participating in today's Tim Cairns Fourth Quarter Earnings Release Conference Call. You may now disconnect.