This conference call transcript was computer generated and almost certianly contains errors. This transcript is provided for information purposes only.EarningsCall, LLC makes no representation about the accuracy of the aforementioned transcript, and you are cautioned not to place undue reliance on the information provided by the transcript.
spk11: Good morning and welcome to the Wabtec second quarter 2021 earnings 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 touchtone phone. To withdraw your question, please press star then two. Please note, this event is being recorded. I would now like to turn the conference over to Christine Kubacki, Vice President of Investor Relations. Please go ahead.
spk12: Thank you, Operator. Good morning, everyone, and welcome to WABSEC's second quarter 2021 earnings call. With us today are President and CEO Rafael Santana, CFO Pat Dugan, Chief Technology Officer Eric Gebhardt, and Senior VP of Finance, John Mastelers. Today's slide presentation, along with our earnings release, financial disclosures, were posted on our website earlier today, and they can be accessed on our Investor Relations tab on wabtechcorp.com. Some statements we're making today are forward-looking and based on our best view of the world and our business today. For more detailed risks, uncertainties, and assumptions relating to our forward-looking statements, please see the disclosures in our earnings release and presentations. We will also discuss non-GAAP financial metrics and encourage you to read our disclosures and reconciliation tables carefully as you consider these metrics. I will now turn the call over to Rafael.
spk03: Thanks, Christine, and good morning, everyone. Let's begin on slide four. We delivered a strong second quarter, as noted by our sales good old adjusted margin and adjusted earnings per share. each of which were up sequentially and year-over-year. Total sales for the quarter were $2 billion, driven by growing demand in freight services, components, and transit, but offset by weakness in the North America OEN market. Adjusted operating margin was 15.2 percent, driven by ongoing lean initiatives, cost actions, and the realization of synergies. Total cash flow from operations was $223 million. This takes the year-to-date cash from operations to $515 million versus $229 million a year ago. It's a solid illustration of how the team is driving good operational performance and focused working capital management. Cash conversion for the year is over 100%. Our year today, to book the bill, continues to be a positive story. We ended the first half of the year greater than one, and we have a strong order pipeline for international locomotives. Total backlog at the end of the quarter was $21.5 billion, providing strong visibility into 2021 and beyond. Finally, We ended second quarter with adjusted EPS of $1.06, up 22% year-over-year. In the area of synergies, we're on track to achieve our full run rate of $250 million this year, and we are feeling the benefits of our footprint consolidation and aggressive actions on structural costs. So overall, really strong execution by the team as we continue to deliver on our long-term strategy. I'm confident that with strong execution, focused cost measures, our team's drive on productivity, and continued improvements in our end markets, we will continue to deliver long-term profitable growth. Now let's turn into slide five to discuss a few of our recent business highlights starting with a strategic partnership we recently announced with CSX. CSX will be the first railroad to implement Wabtec's TRIP Optimizer zero to zero solution, which will allow them to start a train from zero miles per hour and stop it automatically using various controls. Zero to zero builds on TRIP Optimizer's proven performance and is an important building block to autonomous rail and a critical component of energy management, which Eric will cover shortly. We're also partnering with them to revitalize their yard fleets through an innovative Tier 4 switcher modernization program, where we overhaul switchers to the latest Wabtec Tier 4 platform. Additionally, We're working with them to modernize their locomotive fleet with our FDL advantage engine upgrade, which delivers another 5% reduction in fuel consumption. Some great examples of partnership and innovation at work. On the international front, commercial activity is increasing with multi-year orders in equipments, digital electronics, and transits, In the second quarter, we closed a significant order for positive train control with Rumo, and we're now implementing BTC in three countries outside the U.S. In addition, we won a key international locomotive deal in South America and a significant transit contract with Matra in North America. Finally, when it comes to innovation and going after opportunities that can enhance transportation our current portfolio, we announced a strategic partnership with General Motors, where we're exploring the use of battery and hydrogen fuel cell technologies to accelerate the rail industry's path to zero emission locomotives. This is an exciting space, one where strategic collaboration and investment will accelerate the path to more sustainable rail. Eric will share more on this in a moment. It's because of these breakthrough advancements and a commitment to innovation that Wabtec was named to Fast Company's Most Innovative Companies in 2021 in recognition of our commitment to solve some of the world's toughest challenges in the transportation sector. It's also because of our proven commitment to innovation that we were able to further strengthen our financial position the second quarter with a successful 500 million Euro green bond offering to fund investments that will continue to advance sustainable rail. Looking forward, we are confident Wabtec will drive long-term profitable growth and lead the industry in advancing its position in sustainable rail even further. With that, I'll turn the call over to Pat, who will review the quarter and segment performance and our overall financial position.
spk06: Thanks, Raphael, and good morning, everyone. We had solid operational and financial performance during the quarter. As markets continue to gradually recover, we demonstrated our ability to deliver on synergies, to generate strong cash flow, and to invest in the future and position Wabtec for profitable growth. Turning to slide six, I'll review the second quarter in more detail. Sales for the second quarter were $2 billion, which reflects a 16% increase versus the prior year. driven by a broad-based recovery across our portfolio, offset somewhat by lower North America OE freight markets. For the quarter, operating income was $203 million, and adjusted operating income was $306 million, which was up 17 percent year over year. Adjusted operating income excluded pre-tax expenses of $103 million, of which $73 million was for non-cash amortization and $30 million for restructuring, of which the majority was for our U.K. operations and transaction costs related to the acquisition of Nordco. The adjusted operating margin was 10 basis points higher than the second quarter last year and up from the first quarter. Versus last year, adjusted operating margin benefited from higher sales and the realization of synergies. Looking at some of the detailed line items for the second quarter, adjusted SG&A was $254 million, which was 12.6% of sales. This was up from last year due to the normalization of certain expenses compared to the temporary cost actions taken during the death of the pandemic a year ago. Adjusted SG&A excludes $9 million of restructuring and transaction expenses. For the full year, we expect adjusted SG&A to be about 12% of sales. We will continue to aggressively manage headcount and structural costs. Engineering expense increased from last year. This was largely due to higher volume outlook for the year. Overall, our investment in technology is still expected to be about 6% to 7% of sales. Amortization expense was $73 million. For 2021, we expect non-cash amortization expense to be about $290 million and depreciation expense of about $205 million. Our adjusted effective tax rate during the quarter was 25.3%, bringing our year-to-date adjusted effective tax rate to be about 26.3%. For the full year, we still expect an effective tax rate of about 26%. In the second quarter, GAAP earnings per diluted share were 66 cents and adjusted earnings per diluted share were $1.06. Now, let's take a look at the segment results on slide seven. Across the freight segment, total sales increased 11% from last year to $1.3 billion, primarily driven by strong growth in services and aftermarket and higher demand for components. In terms of product lines, equipment sales were down 2% year-over-year due to fewer locomotive deliveries in North America. In line with improving freight traffic, our services sales improved a solid 22% versus last year and were up 11% sequentially. The year-over-year increase was largely driven by strong modernization deliveries, higher aftermarket sales from the un-parking of locomotives, and the acquisition of Nordco. I'd note the timing of mod deliveries vary from quarter to quarter, but we expect our services sales to improve with the gradual recovery in freight volumes. Digital electronic sales were down 2% year over year as orders shifted to the right in North America due to COVID disruption. Yet we had strong momentum with book to bill over one for the third quarter in a row. We continue to see a significant pipeline of opportunities in our digital electronics product line as customers globally focus on safety and improved productivity. Component sales were up 15% year over year, driven by demand for rail car components and recovery in industrial and markets. This is compared to a 19% lower rail car build year over year, demonstrating the diversification within our components business. We are encouraged by rail cars continuing to come out of storage, higher order rates for new rail cars, and the broad recovery in industrial and markets. Rate segment adjusted operating income was $247 million for an adjusted margin of 18.5%. Versus last year, the benefit of synergies and cost actions were offset by sales mix as well as under-absorption due to lower locomotive deliveries. We will continue to execute on our synergy plans and further improve costs to drive margin improvement. Turning to slide eight, across our transit segment, sales increased 27% year-over-year to $680 million, driven largely by recovery in OE projects and steady aftermarket sales. OE sales were up 41% year-over-year as the second quarter 2020 was severely impacted by disruption stemming from the pandemic. OE sales were also up 12% sequentially, reflecting the continued momentum for investments in green infrastructure. Aftermarket sales were up about 17% from last year. We expect aftermarket sales to improve for the full year as economies continue to open and demand for transit services increase globally. Adjusted segment operating income was $73 million, which was up 43% year-over-year for an adjusted operating margin of 10.8%, which is slightly down from the first quarter due to a charge for a discrete warranty adjustment of over $5 million. Across the segment, we continue to drive down cost and improve our project execution. We are committed to drive 100 basis points of margin improvement for the segment in 2021. Turning to slide nine, we wanted to provide a more detailed look at our 12-month and multi-year backlog. We had another solid performance with total orders for the year exceeding $4 billion, resulting in a book-to-bill for the year above one. Orders can be a lumpy quarter-to-quarter, but we are encouraged to see a broad-based momentum across the portfolio. Our freight segment backlog remains strong at $17.8 billion, with year-to-date book-to-bill above one, driven by broad-based order activity across the portfolio. Our 12-month backlog of 4.1 billion is the highest since the third quarter of 2019, a result of improving end markets. We continue to see a robust pipeline of order opportunities, especially in international end markets. Our transit segment backlog ended the quarter at 3.7 billion, with a 12-month backlog of 1.7 billion. We did see some projects pushed to the right as a result of ongoing disruption due to the pandemic. Yet, our outlook remains strong as sustainable infrastructure spending increases globally. And finally, at June 30th, our multi-year backlog remains strong at $21.5 billion and continues to provide increasing forward visibility. Let's turn to our financial position on slide 10. We had another solid quarter of cash generation. We generated $223 million of operating cash flow during the quarter, bringing year-to-date cash flow generated over a half a billion dollars. Our performance clearly demonstrates the quality of our business portfolio. Cash flow was driven largely by good conversion of net income and focused working capital management. During the quarter, total capex was $29 million. In 2021, we expect CapEx to be about $140 million. During the quarter, we successfully completed a 500 million Euro green bond offering and paid down nearly 200 million in debt during the quarter. As a result, our adjusted net leverage ratio at the end of the second quarter was 2.6 times, and our liquidity is robust at about $1.7 billion. As you can see in these results, our balance sheet remains strong, and we are confident we can continue to drive solid cash generation, giving us the liquidity and flexibility to allocate capital towards the highest return opportunities and grow shareholder value. With that, I will turn the call back over to Rafael.
spk03: Thanks, Pat. In shifting our focus to markets on slide 11, we are continuing to see good signs of recovery. While the trough in the OE North America market remains, we are seeing sequential improvement in freight rail volumes. Total car loads were up 3% from first quarter and up 20% year over year. We're also seeing strong trends in intermodal along with a pickup in the industrial sector in areas like chemicals and metals. Locomotive parkings continue to improve due to increased freight rail traffic and we expect demand for reliability and productivity to increase, putting our services business in a position of strength. When it comes to North America rail car builds, rail cars are coming back into use, and about 22% of the North American rail car fleet remains in storage, but this is encouragingly below pre-COVID levels. As a result, industry orders for new rail cars are starting to improve, and we forecast the rail car bill for this year to be about 30,000 cars. Internationally, our order pipeline remains strong, and we expect long-term revenue growth in several markets. In mining, market conditions also continue to improve. Transitioning to the transit sector, ridership remains a bit uneven in some markets, but overall, the long-term market drivers for passenger transport remain strong. Infrastructure spending for green initiatives continues to be a focus, especially as governments globally turn to rail for clean, safe, and efficient transport. Given this market backdrop, our strong performance in the first half, and our confidence in our ability to deliver, we are raising our full-year revenue and earnings per share guidance. We now expect sales of $7.9 billion to $8.2 billion, and adjusted EPS to be between $4.15 to $4.35. We expect cash flow conversion to remain greater than 90%, resulting in a strong cash generation of about $1 billion for the full year. So overall, positive signs of recovery. great execution by the team in the first half, and a meaningful update to our full year view as we manage through the continued recovery. With that, I'd like to turn the call over to Eric Gebhardt.
spk14: Thanks, Rafael, and good morning, everyone. I'm Eric Gebhardt, Chief Technology Officer for Wabtec, and I'm thrilled to be here with you to share some of the transformative advancements we're driving in the clean energy transportation sector. Turning to slide 12, as you may be aware, today, rail represents the cleanest, most energy efficient, and safest mode of moving freight and people on land, moving 40% of freight per ton mile in the U.S. alone. Current trends indicate that freight and passenger activity will more than double by 2050 as the sector pushes for more sustainable transportation. At Labtech, we're innovating to help our customers increase efficiency, reduce costs, and cut their overall carbon footprint through the development of low-emitting locomotive technologies, including Tier 4 locomotives running on renewable fuels and battery electric locomotives. We're also pushing the boundaries into alternative fuels such as biodiesel, renewable diesel, and hydrogen, which I'll share more on in a moment. Over the last year, We built and tested in revenue operation with BNSF Railway and the California Air Resources Board the world's first heavy haul 100% battery electric locomotive called FlexDrive. This locomotive, which operated in a consist between two other locomotives, had a battery capacity of 2.4 megawatt hours and generated most of its energy from regenerative braking. At the conclusion of this rigorous three-month test that spanned 13,000 miles, the FlexDrive exceeded expectations, delivering more than an 11% average reduction in fuel consumption and greenhouse gas emissions. That's the equivalent of eliminating 6,200 gallons of diesel fuel and flashing 69 tons of CO2 emissions. And it's just the beginning. At more than seven megawatt hours, which is the next version of the FlexDrive we currently have in development and expect to bring to market in 2023, we anticipate further reducing fuel consumption and emissions by up to 30%. This reduction is tied to a tightly coupled system that Wabtec is driving in the marketplace that includes batteries, trip optimizer, power electronics, and even our braking systems that capture all the available regenerative braking energy. And by owning the complete system, we can control the consist to optimize fuel burn or emissions, battery life, or speed depending on the operator's need on a specific route. Our second-generation battery electric locomotive will operate independently and leverage General Motors' Ultium battery technology that Rafael mentioned earlier. It's a winning combination. When we bring our expertise in energy management and systems optimization for heavy haul locomotives, while taking full advantage of GM's advanced technologies and speed to market. In addition to these efforts, we're also reimagining the future of rail utilization, safety, and logistics optimization. Our vision is to expand the use of freight rail, enable the elimination of over 300 million tons of carbon dioxide annually across the global transportation network, reduce road congestion in our cities, and make transportation significantly safer for everyone. To put us on this path, we've installed positive train control systems and software on more than 24,000 locomotives. This technology has revolutionized rail safety in the U.S. over the last decade and helped make the rail sector more efficient and effective. Our next generation systems will take efficiency even further. by enabling moving block and virtual coupling instead of the traditional fixed block signaling used today, while still maintaining the most stringent safety standards. Similarly, our trip optimizer solution, or smart cruise control system, which is installed on over 11,000 locomotives, has helped save customers more than 400 million gallons of fuel and 4.5 million tons of CO2. Together with Movement Planner, these digital solutions are revolutionizing locomotive fuel efficiency and real-time network planning. They're also helping move goods more efficiently using the existing rail network, all while reducing energy use, emissions, and waste. Looking to the future on slide 13, we will accelerate the shift to green energy solutions and bring to market a heavy-haul, zero-emission hydrogen hybrid locomotive. And we have a clear roadmap to get there, one that de-risks across the path with batteries as a focal point across the entire spectrum, and one that is already underway with FlexDrive. Our vision is to leverage battery technology while burning hydrogen in the internal combustion engine, similar to what we're doing today with natural gas in Florida. This step is a retrofitable approach. We can take 80% to 90% of the energy content and make it hydrogen, driving a dramatic drop in emissions. In parallel, we will develop a hydrogen fuel cell locomotive and ruggedize the fuel cells so they can operate in a harsh rail environment. GM's hydrogen capabilities give us an advantage here as well. Their HydroTech hydrogen fuel cell power cubes are compact, and easy to package, and can be used in a wide range of applications, including locomotives. Our vision is clear. To have an operation fully decarbonized trains utilizing battery electric and hydrogen technology. The recent partnerships we announced with Carnegie Mellon University, the nation's leading university in artificial intelligence and robotics, and Genesee and Wyoming, the nation's largest short line and regional freight railroad, put us on a path to do just that. By working together, we believe the transition to a more utilized, efficient, and zero-emission rail network is absolutely within reach. And we're committed to helping the industry get there. With that, Rafael, I turn it back over to you.
spk03: Thanks, Eric. And a great example of how we're driving breakthrough technology investments in scalable and sustainable products that will position Wattac and the industry for long-term profitable growth. Let's turn to our final slide. Everything we've outlined today reinforces our strategy to accelerate long-term profitable growth. That strategy is based on our expansive install base, deep expertise, innovation and breakthrough initiatives and scalable technologies, rigorous operations, continuous improvement culture, and disciplined capital allocation. I'm proud of the strong execution by the team the second quarter, despite a still challenging environment. As we go forward, we will continue to lean into the strong fundamentals of the company to execute on synergies, drive margin expansion, generate strong cash flow, and deliver long-term profitable growth. As we've said before, WAPTEC's mission holds a larger purpose, to move and improve the world. After demonstrating strong performance in the first half of 21, I'm confident that the company will continue to deliver and lead the transition to a more sustainable future. We look forward to sharing more on the company, technologies, and our long-term vision in the fourth quarter when we plan to host an investor day. More information on this will be shared shortly. With that, I'll turn the call back over to Christine to begin the Q&A portion of our discussion.
spk12: Thank you, Rafael. We will now move on to questions. But before we do, and out of consideration for others on the call, I ask that you limit yourself to one question and one follow-up question. If you have additional questions, please rejoin the queue. Operator, we are now ready for our first question.
spk11: 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 take up your handset before pressing the keys. To withdraw your question, please press star, then 2. Our first question today comes from Justin Long with Stevens.
spk08: Thanks, and good morning. Good morning, Justin. I'll start with one on the guidance. Could you share how much of the guidance raised was a function of the second quarter beating your expectations versus a change in second half expectations? And maybe as you answer that, I got the impression last quarter that In 2Q, we'd have a little bit of a dip in terms of locomotive deliveries and mods, and then we'd see a reacceleration in the back half. So just curious if that's still the right cadence to be thinking about.
spk03: Yeah. So, Justin, I'll start with the second quarter. I think the team has been able to really overcome, I think, some of the headwinds that we had referred to in terms of supply chain, and there are some significant challenges in India. So I think we've executed better than what we had expected, which is good, helps us de-risk any elements of the second half of the year, and really we feel like we're very much on track to continue margin expansion into the second half of the year. So I think some of the guidance change really reflects, I think, an improved environment ahead. I think we've certainly seen that. with I'll call a number of our end markets, certainly internationally. We're continuing to see on parking locomotives and freight cars. So you look at freight cars, the numbers we're looking at it for now in the year are better than what we have guided earlier on.
spk08: Okay. And thinking about the international locomotive market, so you've noted orders have picked up here recently. It sounds like the pipeline is strengthening as well. Any way you could give us an update on your expectations for international locomotive deliveries this year, the level of visibility you have into next year, just to help us think through that pickup? Sure.
spk03: So, like you said, our pipeline of deals continues to strengthen. You will continue to see the backlog expansion. This is the highest backlog we've had since second quarter, and we have a stronger pipeline that we're working on. We've had a number of significant international equipment deals that are under negotiation, and they're starting to see some of those converts. First one you saw was here in South America, but we've got some of those really cutting across. We see it in Asia, and specifically in Australia, Russia, CIS, to a large extent, I'd say, tied to commodity exports that have really strengthened for some of our key customers with growing demand in mining. I think so internationally, that's really, I think, something that's playing out across.
spk08: Okay. I'll leave it there. I appreciate the time. Thank you. Thank you.
spk11: Our next question comes from Sari Boroditsky with Jeffrey.
spk09: Hi. Thanks for taking my questions. Could you just talk a little bit about the freight margin performance? because you saw a pickup in some of the higher, what I would think is higher margin categories, such as services versus locomotives, but then margins decline year over year. So what was the key driver there, and what do you need to show margin improvement? How are you thinking about getting back to 2019 levels? Thank you.
spk03: Well, first, let me just start with you're going to see margin expansion into the year across both segments. I think we've been very specific with regards to transit. That doesn't change. As you go into the second half of the year, We expect over 50 base points of margin improvement versus the first half of the year. And with that, I want to highlight you will continue to see variation on specific quarters. I mean, those are tied to timing of projects. They could be timed. They could be associated with mix. If you look at it year over year, certainly transit's growing faster than the rest of the portfolio. And within transit, certainly OE is growing at a much faster rate. There's also elements of how under-absorption plays along the year. So as we look at it, there's an element of sometimes locomotive deliveries versus what the build plan is for the year. So overall, committed to really deliver on margin improvements for the year and better than what we got early in the year.
spk09: Great. Thanks for that color. And then maybe you could talk a little bit about what you're seeing on the digital side. You talked about some projects on PTC outside the U.S. Maybe just help us think about what's the global opportunity for PTC generally. And then when would you expect digital to get back to 2019 levels?
spk03: Yeah. Well, two things. I'll start with our customers continue to be focused on efficiency, productivity, and safety, which is what digital is all about. We continue to see a strong commitment there. Our book to build was strong in the past three quarters, well above one. As you mentioned, I think we've seen significant progress internationally on expanding our penetration. A good example is PTC, as you mentioned. We're now executing it in three different countries outside the U.S. We've got a number of other countries where we're discussing the opportunity. I think one of the things I would highlight about the business, this has been largely, as you look in the past, transactional business. So if the locomotive order dropped, you would see really pressure to revenues on our digital electronic segment. Our teams continue to take steps to further drive what are called recurring revenues in the business. We expect some of these multi-year orders to continue. And I think a big chunk of the focus for this year is to drive convertibility for the business and improve the forecast for the year. But largely committed. This is a significant element of how we're also going to do this energy transition with battery electric. It really comes down to having a strong portfolio that allows you for really strong energy management on the consist. So very overall positive. I think we're still working on convertibility for the year at this point.
spk09: Great. Thanks for taking my questions.
spk03: Thank you. Thanks.
spk11: Our next question comes from Rob Wertheimer with Melius Research.
spk05: Thanks. Good morning, everybody. Good morning, Rob. So I had a small one. What was the issue with the restructuring in transit? This is 23 million. I apologize if I missed this in the prepared remarks. I thought you were more or less past some of that. And then my bigger question is, there's a bit of a perception out there that all the efficiencies in rail means locomotives are less needed in the future. And we don't share that, but it's out there. But I love the overview of the efficiencies you're bringing with a variety of technologies to the market. And I'm just curious what the reaction or the conversations are like with your rail customers on efficiency driving upgrades to new as opposed to just mods. Thank you.
spk03: Let me start, and I'll pass it on to Pat on the specifics of restructuring. But when we look at where we are in rail, the demand for more reliable power continues to be there. We've continued to see improvement in terms of the on-parkings. I think those were largely tied to the dynamics you saw over the last couple of years, not just in terms of car loads, but also in terms of PSR. I think that's largely in. So when we look at moving forward, I think the focus on both reliability of the fleet, that's a significant positive for us when you look at our services business. The other element is a continued focus from customers now and on really making sure that you're getting more productivity. And I think that will tie very well with some of the solutions that we have out there that drive fuel savings. We've talked about the FDL advantage. There's also, I think, significant elements in terms of upgrades that we can continue to drive. You've heard about us implementing the Tier 4 engine with CSX. Now this is something that we can apply not only to our platform, but to other platforms out there as well. And we're really excited about the opportunity here on this energy transition with Battery Electric. We are currently responding to a number of really questions coming from requests for quotes and requests for information from customers, not just in North America, around the world. So we see Battery here as a significant element of how you really, I'll call, renew some of the fleets, driving value for customers and driving value for ourselves. So I think we're really building off on a positive momentum here ahead of us.
spk06: So to talk about the restructuring, we've talked about this in the past. It's specific to our U.K. operations where we're seeing some of larger projects – wind down and conclude. And so we're looking at all of our footprint in the UK and consolidating operations. There is an element of impairment and other severance that comes through in that number. The majority of that restructuring is non-cash. So there's just a lumpiness here in the second quarter. I would tell you that when you look at the full year, We still expect our restructuring to be less than it was a year ago. We also expect that restructuring is going to continue as we drive that margin improvement for our transit segment. We are consolidating footprints, taking steps to improve our productivity and improve margin overall. So there will still be more in the future, but down year over year.
spk11: Our next question comes from Scott Group with Wolf Research.
spk01: Hey, thanks. Good morning, guys. Good morning, Scott. I want to just come back to the margin outlook for a second because when we look at the new revenue guidance and earnings guidance, it looks like it implies the implied margins have come down a little bit from the prior guidance. And I just want to get your sense on why that is and maybe why we're not seeing just – better leverage on the sales upside? Is it just mixed, or is there anything else going on? Thank you.
spk03: Scott, I'll really go back to what I said. You're going to see margin expansion going through the second half of the year by more than 50 base points versus the first half. If you look at the original guidance we had given for the year, we're going to be seeing margins expanding better than that original guidance was. I think there's always going to be, again, elements of variation in the quarter, as I had highlighted. in terms of timing of projects. Mix can also be an element here, especially as you think about, well, the speed of growth here on the transit segment versus the freight segment. But as you look into some of the other elements, even SG&A were consistent with the 12 percent we had guided earlier in the year. So, very much committed and executing to the $250 million of synergies that we have talked about. We expect to deliver those earlier in the second half of the year than later. And I think the other positives, we're moving forward into what I call a second phase of integration 2.0, which a lot of it is really tied to a continuous improvement of culture, and that will continue to drive productivity. So we are committed to continue to drive profitable growth with improved margins going to next year as well.
spk01: Okay. And then you've talked about locos getting unparked. Maybe can you just talk how many locos were unparked in the second quarter, what your outlook is for the back half of the year, and then what's the revenue opportunity for you from each loco getting unparked?
spk03: I think the best way to answer you there is as we look into the second half, I think we expect here certainly a continued rebound at a gradual pace. Of course, when you compare the Vs year over year, they become a little more challenging. I think the good news is When you look at the fleet that's running out there, I mean, you're really looking for reliability and availability. And those locomotives are running harder than they were before, even though if you look at the overall fleet, you're not necessarily back to pre-COVID levels. I think... We are positioned well here with the newer fleet that really provides all the best reliability for customers, which is certainly needed right now when you look at improving service levels ahead. So I wouldn't speculate in terms of the levels of un-parking. This is an active dialogue we have with customers. And it involves not just the elements of unparking. It involves a strategy around modernizations, new locomotives. So it's a broader equation than just tied to unparking of existing fleets, which will potentially come with some sometimes penalties tied to reliability of the overall system. Okay.
spk01: Thank you, guys. Appreciate it. Thank you. Thank you.
spk11: Our next question comes from Jerry Riewicz with Goldman Sachs.
spk02: Yes, hi. Good morning, everyone. Good morning, Jerry. Rafael, can you talk about the Amad pipeline and where it stands today? Nice to see the really strong deliveries in the quarter where you had the tough comp from a year ago, and I'm wondering what's the backlog look like? What's the pipeline and level of activity overall?
spk03: Jerry, mods was a significant step up this year versus last year. That helped us, I'd say, partially offset even some of the elements of new locomotive deliveries. As we look at moving forward, I think good momentum there. So if you think about the things that we're bringing to market, that allows us to even upgrade some of the existing fleets with battery fuel efficiency, some of the elements of automation. So we see that as a trend continuing, certainly going to next year. I think there's an element here of just, I mean, the step up in growth we saw year over year. I do not expect that necessarily to be the same going to next year, but mods does have a significant opportunity for us. And as you look at internationally as well, it's been a significant element of discussions with international customers too.
spk02: Very interesting. And, you know, on the international locomotive pipeline, can you help us put a finer point on the timing and magnitude of project opportunities? And if you can, comment on whether they're from countries where you have existing operations versus areas where you might need to build assembly capacity. Thanks.
spk03: I think that's really a part of the good dynamics we're seeing. Those are countries that we largely operate in. We have strong relationships with customers, and we see that momentum there picking up. I'm not going to speculate here with the specific elements of when some of those orders convert, but what I'll tell you as I look into the framework for what I call 22, 23 timeframe. That's certainly a positive and there's good momentum. I'm just not going to speculate in the elements of exactly when orders get finalized, but the momentum's there, pipeline's stronger, and we feel positive about growth in the international market moving forward.
spk02: And Rafael, just to clarify, 22-23 timeframe, is that when you expect to deliver the locomotives or when you expect the firm orders?
spk03: No, we expect the firm orders this year. So that's more of an element of delivery as you look into the future. So that's why I don't want to speculate how much it goes into the specifics of next year or 23, but it's a positive as I look at it. And those are units that will largely be building in that timeframe.
spk02: Terrific. Thank you.
spk03: Thank you.
spk11: Our next question comes from Allison Poliniak with Wells Fargo.
spk10: Hi, good morning. I just want to go back to the digital businesses for you. Obviously, it sounds like a lot of momentum is building back sort of post this COVID lull. I guess one question you had mentioned, the thought behind building that recurring revenue, how big is that as a percentage of digital today? And I think As you entered this year, you were expecting digital to be flat. Is that still the case with the momentum really impacting next year, more importantly? Any thoughts there?
spk03: So, Allison, when you look at the recurring revenue, I go back a couple years ago. This was in the teens. I look at it today. It's above 20%, and I think the team is continuing to work on that regard. So I think just more recurring revenues as a function of that. I think some of the challenges tied to the year is really getting orders that you can convert in the year. So I think we still have some challenges in the year in terms of increasing the revenue in any significant manner. But it feels very positive in terms of the multi-year orders we've been able to get for the past three quarters. I mean, our book to bill has been well above one. And I think that translates into growth for the business overall. going to next year and beyond. I think we've often talked about growing two to three times faster on that segment, and that's a story that doesn't change. As you look into also the other comment I made with regards to battery electric, that's such a critical portfolio in terms of how you manage a consist. I think you'll have the opportunity to hear more on it, but I think you will need that portfolio of TRIP optimizer with zero to zero to ultimately make sure that you're really taking advantage of improved fuel savings moving forward.
spk10: Great. That's helpful. And then just you made a comment about projects being pushed to the right a little bit more too in general. You know, we've heard that I would say across manufacturing complex. Do you feel like people are getting a better handle on where, You're seeing more conversion on time as we enter the back half, or does this feel like it's going to be an ongoing situation where it could continue to get pushed into maybe next year even?
spk03: Again, as we look into the year, we feel confident otherwise we wouldn't have raised the guidance overall. And as we look into the dynamics going to next year, it really points out to a profitable growth year for us. I think the elements here of... I think whether if you talk about transit, whether if you talk about freight in transit, we see largely authorities and governments committed to invest in the transit system. So that continues. We haven't really seen, again, any cancellations or anything like that. If anything, I think there is opportunity for growing momentum there, especially as you look at a number of stimulus packages going across And on freight, my comment here, sometimes more on the elements of the timing of orders. I mean, it certainly, I'd say, requires more, I think, negotiations than some of the elements of North America, but positive momentum forward.
spk10: Perfect. Thanks. I'll pass it along.
spk03: Thank you.
spk11: Our next question comes from Matt Elcott with Cowan.
spk13: Good morning. Thank you. So on the synergies front, I think most of your synergies have been on the cost side from the deal so far. And that's understandable given that you guys inherited a backlog from GE. But as you take in more new orders, are you finding opportunities on the revenue synergy front?
spk03: Yes, we are. And it's really one that goes into various areas. I'll start with transits. I think some of the relationships that we've had with the broader company, it is allowing us to grow our share into some markets that traditionally we would not be as present. And I think that's a positive. And we are seeing the opportunity here to be early on on projects, to be spec'd in, and to really work on what I'll call a category of products that we're able to supply into transits. It's certainly true also for a number of regions. So what if I think about Eastern Europe? What if I think about Russia and CIS? Those are areas that traditionally we've had a very strong footprint, strong relationships with customers, and you see that as a function of opportunities for us to grow transit faster and more profitably as well. I think on the freight side, I think some of those, we've talked about it in the past. There's certainly an opportunity for us to continue to do that, and a piece of that is us also looking at taking advantage of competitors' platforms and being able to implement some of the elements of mods and things like that, which were capabilities that we brought with a merger of the companies. So you'll see more of that in the opportunities for us to be expanding our solutions into other competitive platforms.
spk13: Got it. So Raphael, you do think that, you know, WAPTEC legacy content in new locomotive orders would be, should be higher than pre-deal? And for new orders?
spk03: The answer is yes, it should. Especially as you look at new platforms that we're launching, we're certainly taking advantage of a lot of this, I'll call core technologies that really ultimately guarantee the value for the customer. So if you think about the... core, we call them vital organs, I think that has expanded and those platforms largely will reflect that. So it's a growing penetration of our products into these future platforms.
spk13: Got it. And just one, my second question on the infrastructure bill, sorry if I missed any comments there you made, but as you know, the $560 billion infrastructure bill took a step forward yesterday. I think there's about $100 billion for rail and public transit. Can you talk about any potential benefits for you guys from this?
spk03: Well, the sector will benefit from the bill. This is a positive for Wabtec. I think there's a couple opportunities here on both fronts. I think certainly in transit, I think we'll see some of that reflected in terms of some of the opportunities we have. But also on the freight side, as we talk about some of the technology development, those are some of the discussions that continue in terms of really government support to accelerate some of the elements of decarbonization and efficiency for our customers. So we see it largely as positive news and something that will benefit rail and will benefit us. Great. Thank you. Thank you.
spk11: Our next question comes from Steve Barger with KeyBank Capital Markets.
spk07: Hey, thanks. Rafael, you brought up how things can be lumpy quarter to quarter. Should we be thinking 4Q sees the typical step up in revenue in EPS from 3Q, or can you just talk about back half cadence?
spk03: So I'd be thinking about sequential improvements as you go into the second half of the year. There is, of course, an element, sometimes a seasonality between third and fourth quarter. Traditionally, you would have seen third quarter, I'm going to call especially stronger with some of the elements of the mix. But I'll call it a question of improvement.
spk06: Yeah, I think if you go back, we're still seeing some disruption a little bit in the normal seasonality because of everybody coming off of COVID-19. But if you go back to 19 and even before, you would see third quarter was really usually strong in the freight services side. It kind of ties to our customers' maintenance cycle and when they do things. Meanwhile, in the fourth quarter, there's usually some strength in the transit aftermarket business. So all those things kind of play out here in the second half of the year. I think we have a lot of confidence in what the second half will look like. There's still looking at sequential improvement, but considering those things might be coming back to more normal situations.
spk07: So just so I understand, sequential improvement meaning 3Q better than 2Q and 4Q better than 3Q this year?
spk06: That's our expectation, yeah.
spk07: Okay, got it.
spk06: From an EPS perspective, yeah. Yeah, from an EPS perspective, correct.
spk07: Sure. And if I model out to the midpoint of your guide, I get mid-15% range operating margin, which gives about a low 20% incremental for the year. Can you tell us what the impact of mix or unusual items were this year in terms of margin impact relative to your original thinking? And just remind us how we should think about incremental margin going forward in an environment where you can drive high single-digit growth.
spk03: So, I'll emphasize the element that we will expand margins this year and we'll continue to expand as we go into next year. I think it would be worth taking some time offline with you just walking through some of these elements as mix certainly plays out through especially the element here of the year per se, but that's variation of quarter over quarter. I think, again, 50 base points, margin improvement going, Into the second half of the year, we're going to be better than the 50 base points, and possible growth ahead.
spk06: Yeah, I understand your math. I think you just want to factor in the full-year impact and that you're going to have some variation quarter to quarter. We don't give quarterly guidance on margin percentages, but really – focus on the full year and the impact of all the cost and productivity savings and synergy savings as well as sales mix and how that would impact us.
spk07: Yeah, that's really the motivation of the question is thinking about annuals on a go-forward basis, which is to say if we're in an environment where you can drive high single-digit growth in the future and as you think about your backlog mix, can you do better than a low 20% incremental for a full year?
spk03: So the short answer is in terms of incremental, yes, we expect that.
spk06: Yeah. Got it. And the volumes, I mean, and I think we demonstrated on the, you know, on the variations in the past and with the increasing revenue and absorption, you get those kind of contribution margins you're talking about.
spk07: And I know we're late in the call. Can I ask a quick one for Eric? Or if there's someone behind me, I'll just jump out of queue.
spk14: Yeah.
spk03: Okay, yeah.
spk07: Slide 13 is great for showing us the technology progression to carbon zero locomotives. I know you're inventing a lot of this, so it's hard to predict timing, but any best guess on timing for battery electric lead and then hydrogen? Are we talking five years, ten years?
spk14: So when we look at the battery electric, coming off the successful testing that we did out in California last We're already in the process of quoting the battery electric and should be shipping in 23 is kind of the timeframe we're looking at there. So that should be getting out there in 23. And that will come with the lead capability. And what I mean by the lead capability is that it won't have to run in a consist between two diesel electric. You can have multiple battery electric working together at that point. So we're very proud of moving forward on that. And then the hydrogen will lag by a couple of years behind that. There's more invention happening in the hydrogen. But when you look at what we're doing with GM right now, That's accelerating us both on the batteries as well as the hydrogen side there. And then I think one of the key points also is that we're also developing all the elements around it. It's the system that really works together. So, you know, the battery system working with the power conversion system. working with trip optimizer to optimize all of that, even the braking, working the braking in there so that you can capture as much energy as possible. And that's how we get to 30% emissions and 30% fuel improvement.
spk07: So if I'm hearing you right, it sounds like you expect a hydrogen freight locomotive in this decade.
spk14: Yes, yes, in the next few years. Great. All right, thanks. Thank you.
spk11: Our next question comes from Chris Weatherby with Citigroup.
spk04: Hi, guys. James Monaghan on for Chris. I think you had talked about 50 basis points of margin expansion in the back half. I was wondering if you could talk about your expectation for margin expansion in the back half for freight and then understanding how much of that might be due to mix or the flow through synergies or anything else.
spk03: So when you think about margin expansion, we have not broken that out on freight. We haven't guided that specifically. But for transit, we have guided to 100 base points, and we continue to be on that track. So that's part of that guidance. That includes continue to expand transit margins year over year by more than 100 base points for this year. And on freight, we've also, I think, been very clear about margin expansion there, too. So I think the 50 base points were more to really make sure we give a framework of how we expect margins to grow into the second half of the year with greater than 50 base points overall expansion when you look at the segments combined.
spk04: Got it. And then there was a question. stark improvement in services revenue, and I think you've called out the unparking of equipment. I don't know what to do with that. Just kind of wondering, could you give us an understanding of sort of like what the business is running at in July so far, or maybe in June, with the amount of unparking and equipment that's come out of storage so far, and then just maybe sort of understand how, what essentially as activity picks up, do you expect sort of the services revenue to accelerate through the back half?
spk06: So, you know, the end parkings really haven't commented on anything specifically. You know, we see these locomotives coming back into service. I mean, it very much correlates exactly with the overall freight traffic for North America, you know, really to not something to comment on, you know, like in July or anything like that, as you asked. But we just see this trend to continue, and it gives us a lot of confidence and a lot of visibility as to the strength of what's going to happen with our freight services business.
spk03: So maybe just to add on, in terms of rebounds, I mean, we expect more of a gradual pace here into the second half of the year, so the comps are, again, different. I think one of the things that we're seeing is a stronger demand for reliable power, and The newer locomotives are running and running, I'm going to call harder, so more megawatt hours. So that's what I think largely drives, I think, a continuation of some of the dynamics you see in services. So we see stronger services ahead, not necessarily as low down going to the second half.
spk04: Got it. Thank you.
spk11: This will conclude our question and answer session. I'd like to turn the call back over to Christine Kubacki for any closing remarks.
spk12: Thank you, Hailey. Thank you to everyone's participation today. We look forward to talking with you and speaking with you through the quarter. Thank you. Have a great day.
spk11: The conference has now concluded. Thank you for attending today's presentation. You may now disconnect.
Disclaimer