Trane Technologies plc

Good morning. Welcome to the Train Technologies Q1 2021 Earnings Conference Call. My name is Mariama, and I will be your operator for the call. The call will begin in a few moments with the speaker remarks and the Q&A session. To ask a question during this session, you will need to press star 1 on your telephone. At this time, all participants are in a listen-only mode. I will now turn the call over to Zach Nagel, Vice President of Investor Relations.

Thanks, operator. Good morning, and thank you for joining us for Trane Technologies' first quarter 2021 earnings conference call. This call is being webcast on our website at tranetechnologies.com, where you'll find the accompanying presentation. We are also recording and archiving this call on our website. Please go to slide two. Statements made in today's call that are not historical facts are considered forward-looking statements that are made pursuant to the safe harbor provisions of federal securities law. Please see our SEC filings for a description of some of the factors that may cause our actual results to differ materially from anticipated results. This presentation also includes non-GAAP measures, which are explained in the financial tables attached to our news release. Joining me on today's call are Mike Lamac, Chairman and CEO, Dave Rigneri, President and COO, and Chris Kuhn, Senior Vice President and CFO. With that, please go to slide three, and I'll turn the call over to Mike. Mike? Thanks, Zach, and everyone for joining us on today's call.

Please turn to slide three. While the pandemic continues to present significant challenges around the world, our strategy as a global climate innovator remains steadfast. We are innovating rapidly to address complex and pressing sustainability challenges for our customers and for our planet. This is even more critical as the clock is ticking on climate change and the battle intensifies. Our aggressive goals and bold actions can dramatically reduce carbon emissions and accelerate the world's progress. We are committed to making a difference consistently, relentlessly, and over the long term. Our unwavering focus on innovation has been fundamental to our ability to drive market outgrowth and share gains in recent years, and it continues to be a path forward for long-term value creation. At Trane Technologies, we've never built strategies around episodic investments, which may increase for a year or two to drive growth and then slow in favor of margin or cash or any changing new priority. Our approach is markedly different. We remain confident in our ability to lead precisely because our investments are continuous and ongoing. They are focused on a clear purpose-driven strategy, a consistent operating system, and goals and expectations focused always on top quartile results for our stakeholders. This relentless approach drives market outgrowth, which in turn helps us deliver strong margins and powerful free cash flow to deploy through our balanced capital allocation strategy. The end result is more value across the board for our team, for our customers, for our shareholders, and for the planet. Moving to slide four, our global teams drove exceptional performance in the first quarter, which positions us well as we look towards the balance of the year. We delivered broad-based market outgrowth and share gains in each of our segments and business units, with total enterprise organic revenues up 11%. while at the same time delivering more than 400 basis points of margin expansion in every segment and for the enterprise as a whole. We delivered double-digit bookings growth in all segments, growing our backlog over 30% sequentially versus December 2020, and up more than 30% versus our already strong backlog at the end of 2019, heading into 2020. Adjusted earnings growth was also exceptional, up 135%. Although it's still early in the year and overall visibility remains limited, our strong quarter one performance, growing backlog, improving markets, and optimism for improved vaccination rates gives us confidence to raise our full year 2021 guidance for both revenue and adjusted EPS above the high end of our prior ranges. We also continue to make excellent progress towards our transformation savings goal of $300 million by 2023 and expect to realize approximately $190 million in total savings in 2021. That's up from $100 million in 2020. These transformation savings help fund superior innovation, market outgrowth, and share gains with sustainable, strong leverage. We expect our strong growth and leverage in 2021 to once again deliver powerful free cash flow, which further strengthens our balance sheet and fuels our balanced capital allocation strategy. We've raised our capital deployment expectations for 2021 by $500 million, from approximately $2 billion to $2.5 billion, as we continue our commitment to deploying 100% of excess cash over time. Lastly, our core strategy remains focused on secular sustainability megatrends of energy efficiency and sustainability, which are becoming more pressing every day. A few weeks ago, we were one of just a handful of companies to achieve validation for our second set of science-based targets on our path to net zero carbon emissions. For those of you who know us well, you know that sustainability has been at our core for a very long time. Our first set of science-based targets were approved in 2014, and we achieved those in 2018. We also have revised our annual incentive compensation plan for approximately 2,300 leaders beginning this year to link directly to ESG metrics, including both carbon emission reduction and advancing diversity and inclusion. In addition, all salaried employees must now include at least one sustainability-related goal in their annual performance plans. Our commitment couldn't be stronger. With our purpose to challenge what's possible for a sustainable world, we are uniquely positioned to solve pressing challenges for our customers. This passion powers us forward to deliver top-tier financial performance and differentiated returns for our shareholders. Now, I'd like to turn the call over to Dave to discuss our bookings and revenue performance in the quarter. Dave? Thanks, Mike. Please turn to slide number five. We delivered robust organic bookings growth of 31% in the first quarter, with growth across all segments and business units. We also delivered strong revenue growth in each segment. Our America segment delivered growth in both bookings and revenue, up 36% and 9%, respectively. Our America's commercial HVAC business has remained resilient since the start of the pandemic, delivering strong Q1 bookings growth of low single digits in the quarter. We're especially pleased with this performance relative to the mid-teens growth comp in the first quarter of 2020, making the two-year growth stack for America's commercial HVAC high teens. Revenues were flat in the quarter, which also represents strong performance relative to the growth in the first quarter of 2020, making the two-year stack up mid-single digits. Services were up low single digits. The residential HVAC markets remain robust, and our residential HVAC team delivered strong revenue growth, well in excess of 30% in the quarter, as they once again grew market share. We entered the quarter with a strong backlog and exited the quarter with an even stronger backlog, putting us in a strong position entering Q2. Our Americas transport refrigeration business outperformed the North America truck and trailer markets in the quarter, delivering strong revenue growth up mid-teens and exceptional bookings growth in the quarter. Turning to EMEA, our teams delivered 18% bookings growth in the quarter, with strong growth in both commercial HVAC and transport refrigeration. Revenues were also strong, up 12%. EMEA commercial HVAC bookings were up high single digits, and revenues were up mid-teens, once again outperforming the market. We continue to see strong demand for our products and services that help reduce the energy intensity and greenhouse gas emissions of buildings. EMEA transport bookings were up over 20% in the quarter, and revenues were up high single digits, outperforming the broader transport markets. Our Asia Pacific team delivered bookings growth of 14% and revenue growth of 34% in the quarter. lapping a soft Q1 2020 that was heavily impacted by the COVID-19 pandemic. China continues to outperform the rest of Asia, where a number of economies are still struggling with the impacts of the pandemic and low vaccination rates. Now I'd like to turn the call over to Chris to discuss our operating performance and margins. Chris? Thanks, Dave. Please turn to slide number six. Dave provided a good overview of our revenues on the prior slide, so I'll focus my comments on margins. Adjusted EBITDA margins were strong, up 460 basis points, driving adjusted EPS growth of 135%. We delivered strong operating leverage in all regions, supported by superior innovation for our customers, strong productivity, and cost containment actions. Price-cost tailwinds were particularly strong in the first quarter, driven by realization of premium pricing on leading innovation and pricing actions taken to remediate increasing material cost inflation in 2021. In addition, we maintained high levels of business reinvestment in innovation, technology, and productivity. Please turn to slide number seven. In the Americas region, market outgrowth, cost containment, productivity, and price drove solid EBITDA margin expansion of 400 basis points. Likewise, the EMEA and Asia Pacific regions delivered strong market outgrowth, productivity, and cost containment to improve EBITDA margins by 540 basis points and 1,160 basis points, respectively, versus 2020. Our market outgrowth in each region is supported by relentless investments and superior innovation to help our customers solve their most challenging and complex problems, fueling new product and service offerings. We delivered strong productivity from both our robust pipeline of projects and the structural transformation initiatives that we outlined at our December 2020 investor event. Now, I'd like to turn the call back over to Dave to provide our market outlook. Dave? Thanks, Chris. Please turn to slide number eight. Commercial HVAC Americas has significantly outperformed the broader market since the beginning of the pandemic through strong focus, agility, and execution, combined with relentless innovation across products and services to our customers. Demand remains high for comprehensive indoor air quality solutions, and we continue to see indoor air quality as a long-term tailwind for our business. End markets are mixed with continued strong data center and warehouse demand. The pipeline for our education end market is also strong. To date, we've engaged with many of our K-12 customers to perform indoor air quality assessments in anticipation of the time when federal stimulus funds will be made available. At this point, the full impact and timing of the stimulus remains to be determined. but it's clearly a multi-year tailwind for our business, given our strong presence in the education markets and our direct sales force with deep relationships in this vertical. End market indicators are improving with ABI over 50 in both February and March, both positives for the road ahead. In summary, though our visibility into some end market verticals remains somewhat limited due to continued uncertainty related to the pandemic, we continue to see solid prospects for continued underlying market improvements in the second half of 2021, given positive progress and trends related to increased vaccination rates. Turning to residential, we saw record first quarter bookings and revenue, which puts us in a strong backlog position entering the second quarter. Overall, we expect a strong first half and a challenging second half with tough comps in the back half of the year, given record bookings and revenue in the second half of 2020. Turning to America's transport, we're expecting continued strong growth for the balance of 2021 as markets continue to improve. Orders were very strong in the quarter, with many customers placing orders for the year. All in, we expect 26% weighted average market growth for the year, reiterating our prior outlook. Turning to EMEA, the recovery continues to be country dependent, with some countries in additional rounds of lockdowns. It's early to call the recovery broadly in Europe, but we expect continued improvement in 2021 with increased vaccination rates in the region. Transport markets, in particular, are expecting approximately 8% market growth given the current rate of economic improvement, reiterating our prior outlook. Turning to Asia, we expect continued growth in China in 2021, However, the rest of Asia has been slow to curb the virus and vaccination rates remain low. Overall, we see a mixed picture for Asia in 2021. Now I'd like to turn the call back over to Chris to update you on our guidance for 2021. Chris? Thanks, Dave. Please turn to slide number nine. Based on our strong first quarter performance, our growing backlog, and the expectation for an improving pace of global vaccinations, we have raised our full year guidance for both revenues and adjusted EPS for 2021. As Mike indicated earlier, we expect to deliver strong organic financial performance with organic revenue growth of approximately 9% up from our previous guidance of between 5% and 7%. We expect to deliver strong organic leverage over 35% for the full year with organic leverage of approximately 30% for the balance of the year We continue to see about 1.5 points of revenue growth from the channel acquisitions we announced last quarter, which will carry about 5 points of operating margin and deliver EPS accretion of about $0.05. All in, total revenue growth is expected to be approximately 10.5%, and adjusted EPS is expected to be approximately $6, which translates to approximately 35% earnings growth versus 2020. Our updated guidance reflects both our strong performance in Q1 and an improved outlook for the remainder of the year. We also raised our free cash flow guidance with our increased EPS growth. We expect free cash flow to remain strong at equal to or greater than 100% of adjusted net income. If we project current FX rates out to the end of the year, FX would likely be a tailwind, albeit too early to call given market volatility. Our FX exposure is largely translational, and each point of revenue were translated approximately translational OI rates. Net, each point from FX would translate into about $0.05 of EPS. Please go to slide number 10. As we outlined during our investor event in December, by transforming trained technologies, we initially identified $100 million of fixed cost reductions by 2021. We've exceeded our initial cost reduction expectations, delivering $100 million of savings in 2020, a full year early, and we expect to deliver $90 million of incremental savings for a total of $190 million in savings in 2021. We are now targeting and are on track to deliver $300 million of run rate savings by 2023. As we outlined in December, we will continue to invest these cost savings to further strengthen our high-performance flywheel, which has a reinforcing and compounding effect over time. First, we invest a significant portion of the savings into unrelenting business reinvestments in innovation and leading technology. This fuels the second element, sustained growth above our end markets. Third, we invest another significant portion of the savings into an improved cost structure, which drives the fourth element, improved and sustainable incremental margins at or above 25% over the mid to long term. When combined, this creates a compounding effect of high-quality earnings growth and free cash flow year after year. Please go to slide number 11. We remain committed to our balanced capital allocation strategy that is focused on consistently deploying excess cash to opportunities with the highest returns for shareholders. We continue to strengthen our core business with high levels of business reinvestment and high ROI technology, innovation, and operational excellence projects, which are vital to our continued growth, product leadership, and margin expansion. We remain committed to maintaining a strong balance sheet that provides us with continued optionality as our markets evolve. We have a long-standing commitment to a reliable, strong, and growing dividend that increases at or above the rate of earnings growth over time. We continue to pursue strategic M&A that further improves long-term shareholder returns, and we continue to see value in share repurchases as the stock trades below our calculated intrinsic value. All in, we expect to consistently deploy 100% of excess cash over time. Please turn to slide 12, and I'll discuss how we plan to deploy excess cash in 2021. Looking at full year 2021, after fully reinvesting in the business, we plan to continue executing our balanced capital allocation strategy and have increased our capital deployment target to approximately $2.5 billion, a $500 million increase to our prior guidance. We anticipate deploying the additional $500 million between Value Accretive M&A and Share Repurchases, taking the total target for M&A and Share Repurchases to approximately $1.5 billion for the year. In the first quarter, we raised our dividend by 11%, deployed $174 million to M&A and Share Repurchases, and paid down $300 million of debt. We plan to retire an additional $125 million in debt as it reaches maturity in the third quarter of 2021, taking the total debt retirement to $425 million for the year. This guidance increase reflects our strong balance sheet and liquidity position, our commitment to deploying 100% of excess cash over time, and our continued confidence in our ability to deliver powerful free cash flow to execute our balanced capital allocation strategy. Now, I'd like to turn the call back over to Dave and Mike to cover key investor topics of interest and to close with a summary of key points. Dave? Thanks, Chris. Please go to slide number 14. We've covered the main points of our guidance earlier in the presentation, so I won't spend a lot of additional time on it now. The objective of this slide is to lay out how to think about organic growth and leverage and the impact of the acquisitions. It also provides some helpful modeling guidance elements outlined on the bottom of the slide. The key takeaways are that we're expecting strong organic growth, leverage, and EPS, and that M&A adds additional revenues and modest EPS accretion in 2021. Please go to slide number 15. We wanted to provide an update on transport markets. As we know, this is a topic of interest for investors and analysts. The net takeaway is that our outlook for 2021 is largely unchanged from our prior outlook, where we highlighted that we expect to see approximately 26% weighted average market growth for Transport Americas and approximately 8% weighted average market growth for Transport EMEA. While ACT has raised their outlook slightly on North America trailers, about 1%, from 39% growth to 40% growth, they've modestly lowered their outlook for truck, which nets out to be a wash on total growth. EMEA is in a similar boat with IHS lowering their 2021 forecast slightly, but not enough to shift our view. In total, we've seen very strong demand through the first quarter in both transport markets, and we think that ACT and IHS have called the markets about right for 2021, which means transport globally should have a very strong year for us. This is consistent with our prior 2021 view, but I'd say we have greater confidence after our first quarter performance and our growing backlog. The other element I wanted to highlight for Transport North America is that ACT has increased their trailer forecast for fiscal year 2022 to 51.1 thousand units, which represents an increase of about 13 percent over their 2021 forecast. While on the subject, we are occasionally asked about the historical cyclicality in the North America trailer market. Data would suggest the patterns have changed. The North America trailer market took a step up in 2015 and has been above 40,000 units ever since, with only one exception, 2020. 2020 saw market declines intensified by the pandemic, so I'm not sure how informative it is about the future. The driver logs, driver shortage, and added economic activity appears to have fundamentally shifted the market to new levels above 40,000 units, excluding economic disruption. AX forecast for 2023 is also at the mid 40,000 unit level. If they are correct in their forecast for 2021 through 2023, it will be eight of nine years where the North America trailer market has been in the mid 40,000 unit range, plus or minus 10%. Net 2022 and 2023 are shaping up to be strong years as well. I'd like to now turn the call back to Mike for closing remarks. Mike? Thanks, Dave. Please go to slide 16. Energy efficiency and sustainability megatrends are only growing stronger, and we are uniquely positioned to deliver leading innovation that intersects with these trends and accelerates the world's progress. And we're not only focused on investments in innovation and growth, but also on investments in our business transformation. We are on track to deliver $300 million in savings that will continue to improve the cost structure of the company and enable additional reinvestment to expand margins and further strengthen our ability to outgrow our end markets. When combined with the long-term sustainability megatrends underpinning our end markets, our exceptional ability to generate free cash flow and balanced capital deployment of 100% of excess cash over time we are well positioned to continue to drive differentiated shareholder returns. I've said that trained technologies have the essence of a startup with the credibility of a market leader. That unique profile fosters a culture of inclusion, ingenuity, and performance that delivers results as we demonstrated in the first quarter. It's this type of passion and purpose that sets trained technologies apart. and it's how it will change the industry and ultimately change the world. And now, Chris, Dave, and I would be happy to take your questions. Operator?