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#Thanks, operator.
Good morning, and thank you for joining us for Ingersoll-Rand's Fourth Quarter and Full Year 2017 Earnings Conference Call.
This call is also being website on our website at ingersollrand.com, where you'll find the accompanying presentation.
We are also recording and archiving this call on our website.
Please go to Slide 2.
Statements made in today's call that are not historical facts are considered forward-looking statements and 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 our anticipated results.
This presentation also includes non-GAAP measures, which are explained in the financial tables attached to our news release.
The participants on today's call are Mike <UNK>, Chairman and CEO; and Sue <UNK>, Senior Vice President and CFO.
With that, please go to Slide 4, and I'll turn it over to Mike.
(Operator Instructions) Your first question comes from Steve <UNK> from UBS.
Just a ---+ first on guidance.
Just want to understand, again, the relationship between the bookings that are trending 8% organic and 3% to 3.5% organic guidance on growth.
Obviously, there's a lag time and kind of order-to-delivery in the industrial side, but maybe help us understand that.
And also on the free cash flow conversion, I guess the CapEx increase, is there inventory build.
Are there other things that kind of forcing that step down versus prior year.
Steve, I'll do the first one, which the bookings came late in the fourth quarter and so the exact timing of some of the larger compressor and Applied shipments would still be a question mark so whether that's a fourth quarter '18 or first quarter of '19 delivery, it's TBD and we'll update that throughout the year, but bookings were definitely much stronger and that was a plus ---+ a surprise really from where we thought we would be at the end of the year.
Backlogs were up about 12% going into the year so we'll update shipments as we go further end of the year.
And Sue, on CapEx.
Yes.
So on CapEx, Steve, as we look at it, so we guided $300 million for 2018.
When we started out the 2017 guidance, we gave you about $250 million.
We came in at about $220 million so in other words, $30 million was really CapEx that we didn't spend in 2017 that we're going to move over into 2018 so you have just a slight amount of increase.
The other thing that I would say is when you think about the $300 million, the $300 million is primarily going to be new product introduction.
It's going to ---+ the capital associated with that is going to be on factories for increasing productivity and increasing cost-reduction ideas in our factories.
So those primary objectives when you think about them, are very clear with our growing operating margin and operating leverage.
So we think that, that $300 million is a good use of capital for 2018.
Okay, and Mike, just at a higher level.
If we go back to the time that you took over, and all of the changes that you've made, particularly on the product development and introduction front, you've clearly run ahead on share of a number of HVAC competitors over this time frame, but now, we're seeing some of these other guys actually stepping up their own product introductions very aggressively, stepping up their own channel investment apparently more aggressively.
Do you see the competitive environment getting more intense at all.
Any forward thoughts on how that might impact the broader pricing, et cetera, your ability to stay ahead.
Yes.
Steve, thanks.
It's hard to look back now over 9 years.
It's seems like ---+ it's a long time to look back, but one thing that we've been consistent about is just the level of investment that we've been pounding through every year on good ROIC out of projects, as Sue mentioned, stepping up capital in those areas.
The innovation pipeline looks solid.
We had a lot of introductions in '17, more planned for '18 so I think we do have a positive gap in the technologies and systems that we're putting out in the marketplace and we've always known that.
We've got large competitors out there that are capable as well.
So we intend to just continue to keep the drumbeat moving and keep innovation out in front.
So we know where the competition is at relative to current launches and we know what our pipeline looks like and I would imagine that we're going to be able to maintain technology, positive GAAP for some time.
And your next question comes from Jeff <UNK> from Vertical Research.
Just a couple of things, if I could also ---+ Mike, just on the sales outlook you addressed Industrial, it also seems like you'd ask the same question about Climate given the way you're exiting here.
Is there anything in particular in the tone of orders or the forward look that gives you some pause in the top line in Climate for 2018.
Jeff, when you say some pause, just tell me what you're referring to there.
Well, I'm just looking at order rates that would seem to support maybe more than 3% organic growth in the business for 2018.
Yes, I mean, the thing we don't know, Jeff, is really the timing of fourth quarter and first quarter whether it's '18 or '19.
And these large bookings come in very late in the year, and we're really trying to assess at this point in time exactly when customers are going to need them so it's difficult to predict and then clearly, carrying 12% increased backlog year-over-year is a great thing relative to the revenue guidance that we've given.
These are longer lead, large projects that we just need to work through a little more time to understand the exact timing.
And could you elaborate a little bit, Mike, just on your confidence on better China price in 2018.
Is that ---+ does that reflect just outright price increase initiatives.
Or is it something that's happening in the mix of the business.
A little color there to understand how that plays out.
So Jeff, we've been increasing price throughout our Climate globally, including Climate ---+ throughout 2017, and the back half of the year in particular.
So I'm confident that pricing increases because we've ---+ in some ways, priced those projects coming through to shipment in 2018.
I think competitive dynamics there would point to rising prices in China as well.
So I think that markets there are recovering and commodities been something that's been felt by all competition so you're seeing pricing coming through in the marketplace.
And I think we've got a pretty good handle on what's happening, at least early in the year from a commodity perspective so I feel like that gap is certainly going to close across the company and China.
Beginning in the first quarter, frankly, the gap closes and then throughout the year.
It's not really a hockey stick at all, I mean, it's not a first half, second half equation.
I think that the leverage, frankly, is fairly linear throughout the year for us.
And just a quick one for Sue, if I could.
Repatriating 10% or 20% of your cash so are you suggesting that although you're on an Irish territorial system before some of your cash was stranded, are you now pulling that back or was there some other nuance in that comment.
No.
There was no nuance in the comment, Jeff.
What that really is, is some of our international entities that roll up under the U.S. structure so the entities report into the U.S. and whereas previously, we had access to our cash through intercompany loans and through other mechanisms.
We're going to use the tax reform and the repatriation tax that we're going to pay over the next 8 years to bring back a small portion of that cash to the U.S. And so you can obviously calculate this as roughly about $300 million and the only reason, really, to signal that is we did not have a lot of cash that we did not have access to or that was a big part of the repatriation so I was just trying to give you context on what the amount would be.
And the reason it's an approximation is we have to go through all of the detailed works now that we've figured out the amount of tax.
With ---+ what the in-country rules are, how you would go about doing that timing of doing that, et cetera.
So it was nothing more than a nuance to give you an idea of how much cash would come back to the U.S.
Your next question comes from Steve <UNK> from JPMorgan.
Can you just give us a little bit of color on what kind of price you're assuming in the guide here year-over-year, just roughly, for the company.
Yes, Steve.
I'd really tell you that ---+ I'd start by saying that nothing changes around how we target and think about the operating system of the company, trying to get a 20, 30 basis point positive spread off material inflation.
So all the internal plans and all the incentive plans, if you will, are set to be able to achieve that.
We've essentially thought about the year as being relatively flat in terms of price, material inflation and we set in place or in motion productivity ideas on a contingency basis that you could even handle, say, a negative 30 and still be able to achieve the midpoint of guidance.
So we're really set for kind of a minus 30, plus 30 with a spread roughly at 0, that's how I would think about that.
Okay.
And again, you're not assuming flat price.
You're assuming some price to offset the commodity, just to be clear on that, right.
No, it's absolutely price.
And on top of that, there's absolutely material productivity on top of that.
So absolutely price.
Is most of that material productivity, is some of that coming from copper to aluminum.
Or has that kind of already run its course.
I know you guys were kind of ahead of the game on that front in resi at least.
Or is it just blocking and tackling around product design.
No, it's a number of things, but supplier consolidation to the preferred supplier program helps, that would be a driver.
Material usage, so the quantity and gauge of material used.
Material change, as you mentioned, would be another one and then there'd actually be product design as well.
So all of that will contribute to a material productivity number.
Okay.
And then just one last one.
You mentioned that, in the press release, it sounded as if the China headwinds would be with you here in the first half, although remedy pretty well for the full year.
You just mentioned the base, you're going to be linear on price cost over the course of the year.
Should we think about the year as being any different from a seasonality perspective.
And I think in the past, you've said 45%-ish of earnings in the first half, I think 10% to 12% in the first quarter.
How should we kind of think about, at a high level, the seasonality of the year with these dynamics.
Sequentially on your first question, really around pricing material cost inflation.
We improved Q4 to Q1.
It improves dramatically.
You could think about maybe 50 basis points would be something that we would be thinking about in terms of that.
So it's an immediate improvement, I think, Q1 and Q4 from that point of view.
As it relates to the seasonality, I think you're right.
If you go back over a 4-, 5-year average, it runs, say, 10.5% to 12.5%.
I would tell you that at least initially, I would be guiding you toward the lower end of that as it relates to just making sure that we've got this all contained around price (inaudible) inflation.
And it flows through the way that it should.
So again, we feel good about what we're doing, but clearly, we fully understand the burden of proof is on the first quarter and so we're prepared for that.
Yes.
Well, in the past, you guys have smartly set a low bar and beat it so kudos to you guys for keeping things reasonable here and not seem to stretch.
Your next question comes from <UNK> <UNK> from Citigroup.
Mike, in the past, you talked about having good visibility into North American commercial HVAC markets and it looks like bookings accelerated again in the quarter.
Was that just easier comparisons.
Did you see any pickup from hurricane-related work.
And can you talk about any differences you're seeing in Applied versus unitary markets.
Remember quarter 4 last year for us was ---+ in '16 was really strong so I think that the strong quarter 4 that we booked is coming back to back really off combined healthy stack of bookings.
So that ---+ there's no easy comp there at all for us.
There's larger projects that we have not planned into '18 that would dramatically change '18 and that would create a comp, obviously, issue for '19, but there really no comp issues other than tough comps, '17 to '18 from that point of view.
Visibility really hasn't changed much.
Institutional projects take longer.
They're something that we work on with customers to help design and specify and then walk ---+ move through the process of tendering and awarding and executing.
So we tend to have more visibility on that and that continues.
Okay, that's helpful.
And then you mentioned the Industrial team is doing a good job on margin, but if I look at the incremental margin, it was mid-30s in 4Q, it looks like you're only guiding to sort of mid-20s in '18.
I know you talked about the large engineered-to-order compressor starting to ramp, which you know have been a bit of a drag on margin so and we know you've taken a lot of costs out of business.
So again, is it just kind of conservatism.
You've got to wait to see how this ramps up, but you could have pretty strong incremental margin growth in '18, if all things sort of set up the way they could.
Well, we feel good about the variable cost leverage and it really depends on how much of the shipments come through in the year and how much fixed cost leverage do we get on that volume.
So it really is something that will play out through the year for us, but clearly, a great 2017 and more confidence kind of going into '18 and '19, and really confidence around the 2020 outlook that we gave some time ago that this business is really ahead of schedule on that front and performing well.
And your next question comes from Joe <UNK> from Goldman Sachs.
Mike, maybe going back to that commentary you made on price cost with plus or minus 30 basis points this year.
If you think about the major inputs, typically you guys hedge copper ahead of the year so I'd be curious to get any details on that.
And then last year, clearly, Chinese steel was a huge negative impact being up, call it 40% last year.
It seems like where we are today, it seems like that's a lot more manageable.
And so I guess my question is, first, maybe some more details around your assumptions.
And then secondly, what could kind of ---+ what are the biggest swing factors in your mind to maybe even getting positive price/cost this year.
Joe, let me start out on the material inflation side and what we're seeing in 2018.
So one, there's obviously the Tier 1 commodities that are inflationary, Tier 2 and then there's also other components so what I want to point out is that refrigerants are going to be inflationary in 2018 and let's call that about 10% of our overall inflation.
We've also got some lead that goes into the Club Car product that will be inflationary.
After that as I break it down, what we expect to see is inflation in Tier 1 commodities.
It's going to be about half of the inflation that we see spread between copper, steel and aluminum.
And so when I think about copper, we do lock copper as we go forward.
So we're going to enter any given quarter with about 70% of that locked, and we're entering 2018 just under 70% locked on, on copper for the year, but we do expect that to be an inflationary component.
You're also correct, Joe, that when you think about the globe in terms of commodities and what happens in '17 and what we also expect to see in 2018, is that Asia is performing differently than prior expectations so before 2017, i.
e.
They've done other things that have kept some of their material inflation, actually pretty high compared to what you would normally see and then in the U.S., not having options for steel purchases offshore and using what's happening is another large part of that.
So we do expect to see inflation in copper, aluminum as well as some steel perhaps in the later part of the year.
But I also point out the refrigerant and some of the other components.
Got it, that's helpful.
And maybe just kind of switching gears, going back to Industrial for a second.
I mean, you're starting the year in such a better spot than you were last year just with your longer-cycle backlog and clearly, short-cycle trends remain good.
When you look at the performance that you got this year from a margin perspective, it seems like ---+ I mean, it seems like you're being very conservative with your margin assumptions for 2018.
And so to the extent you can comment on that and then specifically around what are you getting from a pricing perspective as well on these orders because it seems like your competitors are also putting through decent pricing increases.
Yes, industrial pricing has been really good.
It's been great and direct to our productivity, there's been less of a factor too.
So you're dealing with good price and material inflation that's a bit more predictable than it's been on the Climate side, that's all the way positive.
Restructuring that we're doing in '18, roughly, let's call it $60 million in restructuring there, about 2/3 of that really is completed really now in January and it's about 2/3 of the total and it's really geared in the Industrial area.
So really, thinking about how that will flow through during the course of the year and what the paybacks might look like when complete.
There's an opportunity there.
I like to say there's an opportunity more than there's a risk there, but there's an opportunity there perhaps for us to maybe to do better.
So I'm really optimistic about what's happened with bookings there, what's happened with the margins being ahead of schedule and the fact that we've got an early start toward the productivity requirements that we need to have in '18 and '19 there.
Got it.
If I can sneak one more in.
Sue, pending share count for the year.
For 2018.
2017.
2017, the average diluted shares was about 253.
Okay, average, but what was ---+ so what was ending.
For 12/31.
Joe, we'll come back and grab another call.
We'll find the number.
Yes, I don't know.
.
We'll follow up and grab another question.
No, they're not.
They're not in the '18 forecast.
That would be outside of the forecast, but they're too big to throw in the number and forecast them.
If they hit, then they're going to be delivered really some in '18, but '19 and '20, they're going to be multiyear projects.
Yes, Rich, here's how we looked at the M&A.
So we talked about it, it would be about 1 point of revenue.
We also are factoring in about mid-teens EBITDA on those, which would equate to about $0.06 in 2018 and increasing in 2019 to a $0.15 to $0.16 EPS increase.
And EBITDA sort of in the higher teens closer to 20%, really, the difference in '18 is just a step-up, but really good businesses.
That's exactly right.
So our intention is to refinance the 2018 notes that come due in August of 2018.
You're also correct, it's at 6.75% and obviously, rates are much lower than that at this point.
So we do intend to refinance.
We're watching the markets and also being very conscious on any early break premiums and making sure that we've got the right mix there, but we do intend to refinance those.
Yes, I mentioned, <UNK>.
Yes, quarter 4, quarter 1, sequentially, it's probably 50 basis points better and for the full year, it gets flat.
Quarter 1 would still be a negative relationship so it does imply sort of a second, third, fourth quarter improving.
And you'll see it improve throughout the balance of the year as shipments are made in Q2, Q3, Q4, pricing already established and material cost that hopefully we've got a handle on the inflationary numbers.
So they sequentially get better throughout the year.
Well it's all of the above, but if say, 50% of the whole price material cost relationship was China and if you throw the Middle East in there, you can say it's closer to 70% is China and the Middle East, but I would tell you that the China element really proportionately improved throughout the year as with the rest of the world.
Pricing environment, China, we assume is getting better that's been our experience so far as we've highlighted here earlier.
We feel like the material inflation, part of that now is somewhat under control with capacity really being not rationalized in the marketplace and we feel better about that.
Yes.
In a commercial space, quarter 1, we're shipping what we've already booked so we feel like the pricing there is pretty well established at this point.
There is book and turn, but where there's book and turn, it's typically dealt with by list prices so you think about unitary product is going to have more of a list price than Applied, which is going to be very project-specific.
Well, the Applied project-specific has been quoted third quarter, fourth quarter and shipping in the first and second quarter.
The unitary had price increases go through as did our competitors.
<UNK>, something would really have to change in the first quarter here and the last couple of months for that to really change my guidance (inaudible) here.
And I don't know what that would be at this point.
Yes, as we become less dependent around growth and margin for North American trailer, we're really just utilizing the ACT data here.
So we're not going to try to guess any more than ACT on that.
And it always comes down to which customers are ordering from who, and so it's too hard to predict at this point in the year, but ACT is calling the market down, and we're just reflecting what they're saying.
<UNK>, there's no way that we're losing steam.
The productivity ideas that we've got across the company.
In fact, we're attacking parts that we haven't attacked in the past, warehousing logistics, G&A cost, where the profile of the company has changed over the years and now we're catching up in some of those areas.
So I don't ---+ in a short ---+ the time we've got here, it would be difficult to tell you about all the areas we've got, but I've got confidence that we're not running out of any steam here at all in productivity.
Yes, just one last comment.
This is Joe <UNK>'s last quarterly call with us.
And from all of us at Ingersoll Rand and many of the people that you've known over the years Joe on the call, thank you for 41 years, 120 earnings calls, beginning in April of 1988, we wish you and your wife a great, long, healthy retirement, Joe.
Thank you.
