Verint Systems Q1 2022 Earnings Call Transcript

Quartr
Provided by Quartr
November 3, 2021

There are 13 speakers on the call.

Operator

Good day and thank you for standing by. Welcome to the Parker Hannifin Corporation's Fiscal 2022 First Quarter Earnings Release Conference Call and Webcast. At this time, all participants are in a listen only mode. After the speakers' presentation, there will be a question and answer session. Thank you.

Operator

I would now like to hand the conference over to your first speaker today, our Chief Financial Officer, Todd Lianbruno. Sir, please go ahead.

Speaker 1

Thank you, Rachel, and good morning, everyone, and thanks for joining our FY Q1 earnings release webcast. As Rachel said, this is Todd Liam Bruno, our Chief Financial Officer. And joining me today is Tom Williams, our Chairman and Chief Executive Officer and Lee Banks, our Vice Chairman and President. If I could direct you to Slide 2, you'll see our disclosure statement addressing our forward looking statements and non GAAP financial measures. As usual, we've included all reconciliations for any non GAAP measures in today's materials.

Speaker 1

Those reconciliations and our presentation are accessible under the Investors section on parker.com and will remain available for 1 year. The agenda is as usual. Tom is going to begin with some highlights on the quarter. He's got a few strategic comments that he'd like to add. And then I'll follow-up with a very brief financial summary of our quarter and provide some color to the details on the increase in our guidance that we released this morning.

Speaker 1

Tom will close with a few closing summary comments and then we'll open up the lines and take your questions. Just one reminder regarding the pending Meggitt acquisition, we are still bound by the requirements of the U. K. Takeover code in respect to discussing certain transaction details. So that's just a reminder for everyone.

Speaker 1

With now, I'll ask you to move to Slide 3 and I'll hand it off to Tom.

Speaker 2

Thank you, Todd, and good morning, everybody, and welcome to the call. We turned in an outstanding quarter, and it's a great start to FY 'twenty two. My thanks to the global team for delivering such a record quarter against the backdrop of strong demand, inflation and supply chain disruptions. So a couple of highlights. Sage and performance continued to improve 17% reduction in the Corporal Insights on a rolling 12 month basis.

Speaker 2

Very strong growth, in particular organic growth of 16% year over year. It was an extensive list of records. We had 7 1st quarter records, sales, total company operating margin, net income and EPS. And then each reporting segment, all 3 of them had all time operating margin records. EBITDA margin, you can see the reported number was 22.1% adjusted or 2 10 basis points higher than the prior year.

Speaker 2

And then down at the bottom, last row, segment operating margin adjusted was 22.0%, again, a 2 10 basis points improvement versus the prior year. Just a great quarter, very proud of the team and thank you for your hard work. Going to Slide 4, there's really three things that drive the company, living up to our purpose, being great generators and deploys at cash and being a top quartile performer.

Speaker 1

If you

Speaker 2

go to Slide 5, I wanted to spend a minute if you're familiar with our purpose statement, enabling engineering breakthroughs that lead to a better tomorrow. And we've been trying to show you examples of our purpose in action as the company comes to life. And one of the secular trends that the pandemic is accelerating is digitization. And on Investor Day, we're going to highlight more for you, our content as you look at the whole digital supply chain. As example, things like 5 gs, infrastructure electronics manufacturing, clean rooms, data centers, electronic devices, the shielding and thermal management that we do there and of course transportation to get these products around the world.

Speaker 2

But the application that I wanted to cover today is semiconductors, given especially the importance of chip demand around the world. So if you go to Slide 6, there's going to be a significant amount of investment as we all are aware of in the semiconductor space And that's going to drive for us double digit growth over the next several years. Now we are we have strong expertise in semiconductor manufacturing. About quarter of our division ship some kind of content into the semiconductor space. So to orientate you on this slide, On the left hand side are the applications that we go into and the right hand side are our technologies.

Speaker 2

So just a second on the applications. Those 6 bullets that you see there really are made up of a combination of what we call fabs and tools. The fabs would be On the left hand side is a picture of a wafer and on the center there that's a picture of an etch tool, a 6 chamber etch tool. So on the right are our technologies that we bring to create value for our customers. First segment is process control, so think of that as precise control of gases and liquids in the process.

Speaker 2

Fluid and gas handling provides cooling system for the tools. Petro mechanicals helping with the wafer movement. Engine and Materials is doing shielding and sealing. The shielding is helping to protect the wafer from electromagnetic static issues which would destroy the chips. So we are essential to digital supply chain and this supply chain and related technologies and markets around digital.

Speaker 2

If you combine that, we'll be part of 4 major secular trends for the company driving long term growth. That'll be aerospace, ESG Electrification and Digitization.

Speaker 1

So if

Speaker 2

you go to Slide 7, speaking of the breadth of technologies, These eight motion control technologies, 2 thirds, as you heard me talk about in the past, of our revenue come from customers who buy for 4 or more of these technologies. So again, speaks The interconnectedness of the technologies, the value proposition, the system and subsystem work that we do. But then coincidentally, 2 thirds of our portfolio is also helping to enable our customers with their clean technology journey. And that 2 thirds is going to continue to evolve to virtually 100% over time. I'll give you a classic example.

Speaker 2

The seal work that we do today on a combustion engine for transmissions or for piston seals eventually gets replaced for seals promoters and batteries in electric vehicles. So the takeaway on the bottom here is really our brand promise, Helping our customers increase their productivity and their profitability. And we do that really in 2 ways. It's that interconnected tissue, value proposition that we offer and we're going to be a big part of helping our customers on their sustainability journey as we help with our clean technologies. Go to the next slide, Slide 8.

Speaker 2

One of our favorite slides, it's going to you wanted to know whether Parker is really different or not, A picture is worth a 1,000 words. On the left hand side is the EPS trend and we've updated that now for our current guidance for FY 'twenty two. And you can see that's virtually a 45 degree angle there, tremendous amount of year over year improvement And at 2.5 times EPS growth from the $7 that we were doing in FY 'sixteen. Then the right hand side is EBITDA margin. Again, you can see an almost 45 degree angle to that trajectory.

Speaker 2

And while we don't guide on EBITDA margin, our performance in the actual quarter we just completed for EBITDA margin was 22.1%. So you can see that that will continue to show the expansion we're doing on margins. So the question might be how? And the how is really ahead of there? It's been our people, their engagement, the ownership that they're taking, portfolio changes that we made and then the strategy changes, 1 Strategy 2.0 and now most recently 3.0.

Speaker 2

You go to Slide 9, just a quick update on the Meggitt transaction. We had a very strongly favorable shareholder vote. We're working with the U. K. Government on both economic and national security reviews.

Speaker 2

They're underway. The antitrust and FDI filings are proceeding as planned, And we still anticipate a Q3 calendar 2022 close. And this is, as we described before, is a really compelling combination. It's going to double the size of our Aerospace business. And when you couple this with the other acquisitions we've done, CLARCOR, LORD, EXOTIC and OUTmega, Our portfolio is now much more long cycle, less cyclical and faster growing.

Speaker 2

And with that, I'll hand it over to Todd for more details on the quarter.

Speaker 1

Okay. Thank you, Tom. I'll ask you to go to slide 11. I know Tom mentioned a number of these numbers, so I'll try to move quick. The quarter was fantastic, right?

Speaker 1

Seven records. Sales are up almost 17% versus prior year. We finished at 3,800,000,000 sales. Organic sales are roughly 16%. It's almost all of the total and currency had a small favorable impact of less than 1%.

Speaker 1

The growth this quarter was really driven across the board, strong broad based demand across all of our industrial businesses And really a rebound

Speaker 2

in the commercial aerospace market.

Speaker 1

So we were happy to see that. And as Tom mentioned, we continue to benefit from strong growth from those recent portfolio additions we did in the

Speaker 2

Clark Ward and Lourdes

Speaker 1

and Exotic. Both segment operating margins and adjusted EBITDA margins expanded by 2 10 basis points from prior year. We're really proud of that number. That adjusted segment operating margin came in at 22% And really just another strong quarter of margin performance. Really proud of our teams, not only responding to the increased demand, but also Executing through a number of various well documented supply chain challenges.

Speaker 1

And I want to give them credit, there was a great effort to maintain cost in the quarter and you can see that in our results. Incrementals are 35% year over year, which It's really impressive, but even more impressive considering last year we had $125,000,000 of discretionary savings really based on the actions we took during the pandemic. So if you account for that, the difference in incrementals would be 58%. So we're very proud of those results. If you look at net income, adjusted net income and adjusted EPS, both of those numbers increased by 40% versus prior year.

Speaker 1

Adjusted net income is $557,000,000 That's a 14.8% return on sales and adjusted EPS were $4.26 That's a $1.21 increase from prior year where we finished at $3.05 If you jump to Slide 12, this is really just that breakdown of the $1.21 increase in adjusted EPS. And really the story here is just very strong solid operating performance across every segment. Adjusted second operating income increased by $184,000,000 or almost 30% from prior year. That really is the first leg in this bridge. That's $1.10 or 91% of the increase in earnings per share.

Speaker 1

All the other items netted to another 0.11 of favorable items and interest expense, other expense and tax were all favorable and that helped us to offset just a slightly higher corporate G and A That was really based off of

Speaker 3

some of

Speaker 1

those temporary savings we took action with last year. If you go to Slide 13, just looking at the segments, really the takeaway on this page is every segment generated record margins in the quarter. The other big thing I want to note is we were able we've always talked about trying to maintain our neutral price cost position. We were able to do that in the quarter across all of the segments. And I already mentioned incrementals already, but I think it really highlights our efforts on covering inflation costs And really managing through the supply chain inefficiencies.

Speaker 1

So 35% is the MROS, but 58% if you exclude those discretionary savings. And demand continues to be very robust. Orders for the total company are up 26% from prior year. Just diving into the segments really quickly. Diversified Industrial North America sales were $1,800,000,000 that's up 17% from prior year.

Speaker 1

Adjusted operating margins did improve by 30 basis points from prior year and finished at 21.3%. Really sound performance in that segment considering it's pretty clear that the supply chain challenges are more difficult in the North American region. Order rates also very healthy at 32% positive And it's really just continuing to show a strong rebound off of those prior year comps. If I look at our international businesses and diversified industrial international, Great quarter here for that team. Even higher organic growth, 21% organic growth.

Speaker 1

Their sales came in just under $1,400,000,000 And adjusted operating margin, significant expansion, 360 basis points improvement from prior year and they did reach 22.8%. I'm very proud of that team. Volume obviously was a big driver here, but also we've talked about this before, our focus on international distribution that helped our mix that continues to expand and really some disciplined price cost management across that segment, very important drivers for the quarter. And order rates also very strong at 25% plus prior year. If we move to Aerospace Systems, fantastic quarter from that team.

Speaker 1

Sales were almost $600,000,000 Organic sales did turn positive For the segment, 3.4%, but it did turn positive. And we were very pleased to see that commercial markets are trending up. And notably commercial aftermarket came in very strong at 33% over prior year. So it's glad to see some rebound in those markets. Operating margin is a great story here, 400 basis points improvement.

Speaker 1

That segment came in at 22.1%. And I just want to note, it's really nice See that level of performance, we are still well below pre COVID volume levels. So there is room to grow here, as that volume returns. So we're looking forward See that as well. And order rates turned positive, plus 16%.

Speaker 1

That is on a 12 month rolling basis. But if you remember last quarter, it was 7. So we did see an inflection to positive orders in the Aerospace segment and that's really just further proof of a slow but steady recovery in that segment. So really thanks to all of our global team, very great execution and really just continuing to live up to our purpose and perform extremely well. If I ask you to go to Slide 14, this is just I'll touch on cash flow.

Speaker 1

Cash flow from operations was $424,000,000 or 11.3 percent of sales. Free cash flow was $376,000,000 or 10% of sales and our conversion for the quarter was 83%. So I just want everyone to know working capital management continues to be a very strong story here. We can Continue to tightly manage this, and really we're just responding to the inflection and growth here. That increased level of demand, Coupled with really our efforts to provide continuity of supply for our customers, drove working capital via use of cash in the quarter.

Speaker 1

It That accounted to be a 3.6% use of cash in the quarter. And if you just look at that compared to prior year, prior year we were in the 2nd quarter of a significant downturn. Today, we're in the 2nd quarter of a significant upturn. Last year, working capital was 6.1% source of cash last year. But just importantly, I want to be clear on this.

Speaker 1

For the full year, we are forecasting mid teens cash flow from operations and our free cash flow will be well over 100%. So you'll see that strong cash flow performance for us as we go throughout the year. On Slide 15, just really a quick update on capital deployment. I think everyone saw this, but last week our Board approved a dividend payout of $1.03 per share. That is our 286th consecutive quarterly dividend.

Speaker 1

And that payout is in line with our announced target of 30% to 35% of 5 year net income. And on share repurchases, we did purchase $50,000,000 in the quarter through our 10b5-1 program, But we also deployed an additional $180,000,000 to purchase shares on a discretionary basis. And essentially what that does is that discretionary purchase Makes up for the 3 quarters that we paused the 10b5-1 program from FY 2020 Q4 through FY 2021 Q2. And our goal there is to eliminate dilution in FY 2022. And then I just want to give a final update on the Meggitt financing.

Speaker 1

In the quarter, we did secure a $2,000,000,000 deferred draw term loan. That together with a $215,000,000 cash deposit into escrow positioned us to take down our initial bridge facility. So that was successful. And then I want to be clear here in October after the quarter end, we also deposited another $2,300,000,000 into escrow from a combination of proceeds from commercial paper issuance and also some cash on hand and that really allowed us to further reduce that bridge to £3,200,000,000 Lastly, on mega financing, we did complete a deal contingent forward hedge contract in the amount of $6,400,000,000 and that really was Just to lock in our pound to dollar rate, as we continue to work through financing on the Mega acquisition. So great work by the team there.

Speaker 1

If I go to Slide 16, just looking at guidance, obviously, you saw we increased our guidance this morning. As usual, we're going to give this to you on an as reported and an adjusted basis. The sales range now for the year is approximately 6% to 9% are just under 8% at the midpoint. The breakdown of that is really all organic. It's 8.4% organic growth.

Speaker 1

We do expect currency to turn on us in Q3 through Q4 and that will create just a minimal drag about 0.5 point to top line sales and obviously that's going to impact the international segment. There is no impact from acquisitions. We still do not expect Mega to close in our fiscal year. We're targeting Q3 of calendar year 2022, but we have no impact from mega acquisition sales or segment operating income. And the split on sales is 48% first half, 52% second half.

Speaker 1

If you move down to segment operating margins, we did increase our adjusted segment operating margin forecast for the full year by 30 basis points from our prior guide and that full year now gets us to 21.9% at the midpoint. There is a range of 20 basis points on either side of that. And segment operating margin is split 47% first half, 53% in the second half. No change to adjustments at a pretax level. So you see all those numbers, those are exactly the same that we guided last quarter.

Speaker 1

And in corporate G and A and other expense, we expect that to now be $513,000,000 on an as reported basis And $461,000,000 on an adjusted basis. Really the only difference there is some transaction related costs with the Meggitt acquisition. And just a reminder, we will continue to adjust transactional related expenses, as they are incurred until we get through all of those transaction. No change to the tax rate. We expect that to be 23%.

Speaker 1

And our EPS guidance on an adjusted basis is now $17.30 at the midpoint. We did narrow the range a little bit, dollars 0.35 on either side of that. And the first half, second half is 46% first half, 52 excuse me, 54% second half. And then finally, I'll just say for Q2, we are expecting adjusted EPS to be $3.74

Speaker 2

at the midpoint.

Speaker 1

So that's just a real brief summary of the quarter. With that, I will I'll turn it

Speaker 2

back over to you, Tom, for the second half. Thank you, Todd. And I think the first bullet kind of sums up our thoughts. A big thank you to the global team, a highly engaged team delivering outstanding performance and couple that with his very bright future propelled by the Win Strategy 3.0 and our strategic long cycle acquisitions as part of our capital deployment strategy. And with that, Todd has a quick comment that he wants to make logistics before we start Q and A.

Speaker 1

Yes, just one comment before we start the Q and A portion of the call. We'd like to respond to as many analysts as we can today on the call. So So with that Rachel, I'll turn it back over to you and we

Operator

Your first question comes from the line of Mig Dobre from Baird. Please proceed with your question.

Speaker 1

Good morning,

Speaker 4

Mig. Good morning, everyone, and congrats on a very strong quarter. Tom, I guess where I was thinking we'd start, you highlighted 4 big trends that benefit your business, right? Aerospace, ESG, Yes, the first one, aerospace is perhaps the clearest to observe. But I'm curious, the other 3, can you give us some context in terms of how all of this plays into your business?

Speaker 4

How is it driving incremental growth? And more importantly, are all these items driven by sort of new product introduction from Parker or is this sort of using the existing solutions that you have in new ways that are helping your customer achieve these goals?

Speaker 2

Thank you, Mig. I appreciate you picked up on that comment I'll turn my opening comments, but yes, so what I would characterize, these are secular trends that feel longer than a normal business ESG is going to take decades to unfold. Electrification really being kind of a subset of that. And digitization Continues to just transform how we interface with each other and how we interface with the supply chain. So these are things that I view as being bigger, longer than a typical business cycle.

Speaker 2

For us, it's going to be a combination of infrastructure. So the infrastructure goes around the world to put these in things that are also on board equipment and both of these are bill of material plus type of additions And then also the fact that they should be faster growing environments as a result of it. We are doing innovation in this space, But a lot of our portfolio today, which is what I mentioned on that one slide, 2 thirds of it today is already clean technology related. Yes, we're adding some motors and motor controllers and software in addition to our current portfolio. But our current portfolio was already designed to be very energy source agnostic and be able to respond to these changing dynamics.

Speaker 2

We'll try to give a little more context of this in the Investor Day. We just started before the call to try to in the last couple of days quantified digital and the threat that it cuts through the company. And it's surprisingly large. And we'll give you more context on that with some actual numbers When we get to Investor Day, but it has an opportunity, you think of the company as being very diverse and probably no end markets outside of Aerospace being bigger than 5% or 6%, digital is a threat that cuts through so many, it's going to be probably second to aerospace, The biggest threat that cuts through the company. And ESG is unfolding for the next 20, 30 years as the world tries to get to carbon neutrality.

Speaker 2

That's what I like. You've got a prior environment, thinking on lease of my watch, 7 years, 2 industrial recessions and a pandemic. I think we're facing a much more constructive environment going forward.

Speaker 4

Understood. Then my follow-up is on international, which Frankly performed quite a bit better than I guess. Two questions here. One is on the margin side, in terms of incrementals and maybe some things that might have been unique that helped the quarter. I don't know if there's anything to call out.

Speaker 4

And on the order front, I'm curious as to how you're seeing the various regions develop, China in particular. I know That geography punches maybe above its weight from a profitability and margin standpoint. So what are you seeing there? And what's the impact on a go forward basis in terms of mix? Thank you.

Speaker 2

So maybe I may start with that mix versus Tom again on the orders. They were strong throughout the quarter. And to help people, it's easier to look at it from a dollar value basis. The dollar value was fairly consistent with what we saw in the prior Quarter, so we had nice consistency. The numbers in the 26% improvement went down from where we were in the mid-50s Because the prior period was improving.

Speaker 2

But we saw all regions strong internationally, all 3 of the international reasons were pretty much the same. We reported internationals 25, but all three reasons underneath there were pretty much plus or minus 25, Give or take some change. On the margin side, I would say there was nothing in particular that is different other than what we've been doing all along, which 1strategy2.03.0 and a rapid resizing of the company post pandemic And then being very careful as we moved into a higher demand of feathering cost in a very judicious type of fashion in a much more lean and agile fashion we've had ever before because our cost structure is so much better. I do think international has less supply chain disruptions in North America for sure and you see that reflected in MROS.

Speaker 4

Thank you.

Speaker 1

Appreciate it, Mig.

Operator

Thank you. Your next question comes from the line of Jeff Sprigg from Vertical Research. Your line is open.

Speaker 5

Hey, thank you. Good morning, everyone.

Speaker 1

Good morning, Jeff.

Speaker 5

Good morning. Tom, I was wondering if you could address a little bit what's going on with your OE customers. The nature of my question is, I thought it would be apparent maybe in the quarter that there would be some more pressures there. I'm sure there were some sales slippage and the like, but it doesn't jump off the page in the numbers, so to speak. So maybe just a little color on what's going on with the OEs, The shape of their inventory, and just your visibility into

Speaker 2

the remainder of the year. Yes, Jeff. So it's Tom. So I want to touch on customers and then a little bit about us because what you're referring to is really supply chain issues and those will be the two fronts that it touches obviously. With our customers, I would say the supply chain has been much more acute and a bigger of an issue versus our own supply chain.

Speaker 2

What we've seen with orders from customers is a much more longer period duration staggered release dates, Trying to make sure they have a spot in line, so to speak. We've had push outs on delivery acceptance. So you may have a date as it's due. And due to other challenges they have as far as supply chain with other suppliers, they may not necessarily want that delivery, which we fully There's been temporary idling of plants and this isn't really tied to the OEs, but you've got the rolling Energy shutdowns that we've had and been experiencing in China, which will continue, I think, pretty much all the way to the Olympics. We've done pretty well through all that.

Speaker 2

If I had to use round numbers, it's probably a $50,000,000 to $75,000,000 impact as far as The OE customers feeling supply chain things have feathered into us. I think overall demand with them Continues to be strong. It's more just sliding to the right and then trying to manage a more complex supply chain. Their inventory, They've always been just in time, and they're being very careful to not accept other inventory that they don't need that they can't put together Withholds that they might have in their bill of

Speaker 5

material. Great. No, thanks for that. That's very interesting. And then on price cost, it is quite an achievement to not only get to dollar neutrality, but margin rate neutrality.

Speaker 5

But I wonder if you could just give us a ballpark number of the actual realized price on a year over year basis that you're running at your nominal price?

Speaker 6

Jeff, it's Lee. I can't give you an actual number, but I'll tell you The margin neutrality is a lot of hard work by everybody in the company. And I think it shouldn't be a surprise. We've had 2 processes embedded in our win strategy for going on 20 years and that's around pricing and it's around supply chain. And those processes give us very accurate indices around our selling price index and our purchase price index.

Speaker 6

So what it does, it aligns the whole company and it gives us a way to roll things up about what we need to do going forward. And What you're seeing are the benefits of those processes really embedded in the company and institutionalized.

Speaker 2

Great. Thanks. I'll leave it there. Take care.

Speaker 7

Okay. Thanks.

Operator

Thank you. The next question comes from the line of Scott Davis from Melius Research. Please proceed with your question.

Speaker 8

Hi, good morning guys.

Speaker 1

Good morning, Scott. Hope you're well.

Speaker 8

Well, great results from you guys make our lives

Speaker 2

a little easier. So thanks for that. But

Speaker 8

Now that we've had a little bit of time, it's not post COVID yet, but a little bit of time. Can we Pick stock of Lord and Exotic kind of where they are versus the deal models on, I imagine perhaps maybe not quite on the top line at your deal model, but perhaps better on the margin line, but I'm just guessing some color there would be helpful.

Speaker 2

Yes, Scott. It's Tom. We cannot be happier with both of these transactions. LORD has proven to be more resilient And faster growing than legacy Parker and that's what we had hoped for. Its margins are beating what we had expected and that this kind of cash flow that we reviewed with the Board.

Speaker 2

It's performing in that upper 20s EBITDA. So it's accretive on growth, it's accretive on margins, accretive on cash flow and is exposed to more longer cycle businesses. And then Exotic has performed remarkably well. Remember, when we bought Exotic, nobody would have anticipated the 737 MAX being grounded for as long as it was. And even with that Strength of their portfolio and that team, we put a mid-20s EBITDA.

Speaker 2

So it's a little light on the top line mainly because of 2 things that match grounding and pandemic, but its margins have held up very consistent with what we had approved for the Board. And we know we're at the beginning of a long cycle improvement there with Exotic. The Aerospace traffic is going to come back and the MAX ramp up is coming back. We've gotten through the worst of it and it's going to be quite an exciting transaction for us.

Speaker 8

Sounds good. Tom, just to clarify.

Speaker 1

I would just ask, CLARCOR has been obviously a few years, but that business is also exceeding our expectations from the model standpoint. So a lot of hard work across the team and that is flowing through in all those numbers that we just talked about. They're a big piece of that as well. So didn't want to lose sight of that.

Speaker 8

Yes. That was a great deal. But moving on to I love your Slide 6, the semiconductor But how do you can you go to market as one Parker when you're looking at content into a semi fab?

Speaker 2

We do, Scott. We have account managers that cover certain accounts and they're representing and looking at the entire business and that's how we so we're organized operationally around technologies, but our commercial teams are organized around channels to market, Either global OEMs, national OEMs or distribution. And so it's that account management team that brings power, PowerParker to the customers Or if we go through our channel partners, it's our distributors that are bringing the power of Parker and bringing that comprehensive offering together.

Speaker 8

Okay. Encouraging. Good luck the rest of the year guys. Thank you.

Speaker 1

Thanks, Scott.

Operator

Thank you. The next question comes from the line of Ann Duignan from JPMorgan. Please proceed with your question.

Speaker 9

Hi, good morning. And Deignan here after 20 years.

Speaker 1

Yes, good morning.

Speaker 9

Maybe first on your guidance for fiscal Q2, you're guiding to 3.74 at the midpoint and consensus That's $386,000,000 Can you talk about where you think the biggest disconnect is between Our sell side bottles and what you're guiding to, where should we be most focused and where do we need to review?

Speaker 2

Yes, it's Tom. I would say it's probably at the top line. So what we tried to do with Q2, you saw that we raised The organic guide for the full year from 7% to 8.5%. And that was primarily by raising the second half. Our second half and the prior guide was 4.5 And the new guide is 6%.

Speaker 2

We left Q2 basically the same. And that's really based on what we saw In Q1 and in particular in October around just supply chain challenges more around what I was talking about with Jeff Around our customer demand and kind of the uncertainties or difficulty in predicting delivery dates and timeliness on that. You also have you just look at the raw dollars, the dollars flow very much proportionally from Q1 to Q2. So normally in Q2, We would have less workdays, which is what we have. In North America, typically, if you look at us over the last 20 years, Our Q2 is typically 4% lighter, Q1 and international is typically 1% lighter.

Speaker 2

We lowered North America a hair more, minus 5 from a dollar standpoint versus Q1 mainly because of that extra 100 bps of some supply chain uncertainties. And part of what we're looking at is those temporary idling that customers have been doing. And in particular, we haven't had any customers announce it yet. You've got the holidays and It would be very easy for them just to extend a day or a half day or those type of things. And so we're just trying to be pragmatic as to What Q2 would look like given the natural progression from Q1 to Q2 putting on a little bit of supply chain.

Speaker 2

And so I think the difference would be on the top line because The incrementals for Q2, if you look at it on an apples to apples, again, taking out the discretionary basis that we had in prior Q2, it's another upper 50s just like Q1. So if you look at the operational excellence, Upper 50s incrementals is pretty hard to beat. And so really the only difference you could have is top line assumptions. I'm giving you the context of how we

Speaker 9

Very helpful. And I guess if I had time to back into all your first half back half, I would have figured that out, so I appreciate you taking the time to give us that color. Just as a follow-up then, if I look at your sales in Diversified Industrial North America up 19% versus orders up 32%, which suggests that your lead times are extending. A, can you just confirm that? And B, is that what gives you confidence in the back half revenues?

Speaker 9

Or is there still some uncertainty, I mean, you're not known for having long lead times, so to have confidence in the back half and make no change to revenue outlook for half 2, is some of that back half contingent on all of these supply chains getting better through the course of Q2 and after the races thereafter? Or is there still some lack of visibility for back half for you guys? And I'll leave it there. Thanks.

Speaker 2

Yes. Ann, this is Tom again. So yes, we don't always have complete visibility, but our backlog is increasing sequentially. North America went up 14%, international went up 6%. So that's part of it.

Speaker 2

We're also just recognizing that the second half, we don't see necessarily Significant improvement from supply chain. We think you'll get a little bit, but most of the supply chain improvements will be More so into our FY 'twenty three. We have not been impacted a lot of that, but I think the difference you're seeing between orders and organic growth Is what I was referring to earlier is customers putting in orders and having it be over multi quarters release dates. Orders in the past, they would give us orders that were much shorter cycle. These are longer cycle by industrial standards with release dates over multiple quarters.

Speaker 9

Okay. That's helpful color. I appreciate that. Thank you. I'll get back in queue.

Speaker 7

Thanks, Ann.

Operator

Thank you. Your next question comes from the line of David Raso from Evercore. Please proceed with your question.

Speaker 10

Hi, thank you. Obviously, we've been covering the company for some years and the international margins have really been impressive now running ahead of North America. And part of it, Lilly, maybe has been the supply chain issues are a little more acute in North America. But can you help us better understand how we Think about that notable improvement in international margins, be it geographic, be it obviously building out more Parker stores, whatever may be Just trying to understand, so when we think about, you say, the upcoming March meeting and we think about margin improvement from here, It just was a major issue years ago about can international get close or equal North America and Now it's been many quarters in a row, it's running ahead. And I'm just curious about the drivers and how to think about that going forward.

Speaker 10

Thank you.

Speaker 2

David, it's Tom. We could not be happier obviously because this has been something the company has been working on for a long time, long time on international margins. So I would say it started a while even before the changes to the Win Strategy. Lisa, my watch, it started with our team working very hard Change the cost structure in all international, but in particular in EMEA. And just Recognizing that all those different countries and different infrastructures, there was an opportunity to try to simplify that.

Speaker 2

So that's been going on for multiple years, having a more agile, lower cost structure. In a concerted effort to grow international distribution from where we started at 35%, 30 I split now to 40 and we'll give you the latest when we get to Investor Day, but it's north of 40 now. So you're getting some mix up there. We've had Asia has always historically been a very strong performer. We've really kind of set that region up.

Speaker 2

If you think about over the last 30 years, we set that region up the latest and so we took all the best practices we had from everywhere around the world when we set that region up from a cost structure standpoint. But what's helped us a lot in the last couple of years is the Europe team and Latin America, Latin America being small for us, but Both of those teams have made a marked improvement. And when we think going forward to your other part of your question, David, We see no reason why they can't continue. We'll give you new targets when we get to March. But you see right now our full year guide, basically North America, international margins converging.

Speaker 2

We had always hoped that they'd be basically the same. And so going forward, we don't see any reason why they can't be. And they both have equal opportunity to grow to higher levels and we'll give you that vision in March. And a quick follow-up.

Speaker 10

The back half of the year, fiscally speaking, you have revenues only up 4 percent. And I have to believe pricing is running probably at least that. So the idea of volume being essentially flat or down in the back half of the year, Is that simply a conservatism around the supply chain? Or just trying to understand why volumes wouldn't be able to grow in the back half.

Speaker 2

So just for clarification Dave, the back half organic is 6%. You have about a 1% currency headwind. So it probably nets to around 5. And there is some we're being what I mentioned earlier, pragmatic about the uncertainties on supply chain more so on our customers, but then we're not immune. We have some of our own challenges, but I think our team has done a pretty good job weathering it.

Speaker 2

And probably the best evidence of our ability to weather supply chain is just our ability of the MROS because if you're struggling with your supply chain issues, It ultimately shows up in your marginal return on sales. But that's how I'd characterize the second half.

Speaker 10

All right. Thank you very much.

Speaker 7

Thanks for the questions, David.

Operator

Thank you. The next question comes from the line of Nathan Jones from Stifel. Please proceed with your question.

Speaker 1

Good morning, everyone. Good morning, Nathan.

Speaker 11

Parker has, over the years, continued to move towards it as always maintained a kind of local for local sourcing and manufacturing structure. Has that given you guys better supply chain here that's allowed you to pick up any market share versus competitors who might have longer supply chains. And do you think that that market share gain will be sticky or transient once supply chains normalize?

Speaker 6

Yes. Nathan, it's Lee. Just maybe I'll touch the first part. You're right. Our strategy always has been to build and source local, which has been incredibly helpful.

Speaker 6

And I think the other thing that's kind of benefited us through these disruptions, We worked hard on dual sourcing strategy where appropriate, which has given us some flexibility. And one of the things that kind of We've been soft into this our simple by design efforts and some key areas where it's been easier for us to do material substitutions than we've done in the past. So all that together is really I'm not saying we're immune, but it's made us to be able to work through these supply chain disruptions. I would say, the market share that we pick up is very sticky. 1, you're talking about a lot of engineered products.

Speaker 6

So I mean, when People take the effort to engineer the product in. It's not something that you quickly change. And 2, the reality is if we're taking on new business, we're looking for commitments on both from both of us to be committed to the volume going forward. And that to that standpoint, I think it's sticking.

Speaker 11

Thanks. And my follow-up, Tom, was to one of your comments where you talked about customers giving you, I guess, orders over multiple quarters rather than maybe orders over just 1 quarter, does that have a meaningful impact on the order rates In the quarter you've just reported, Q1 of 'twenty two. And should we expect that to have maybe a little bit of a negative impact on the order rates as we go forward with that increased visibility that customers are giving you at the moment or is it not a significant amount?

Speaker 2

Nathan, it's Tom. It's hard to quantify if you take the quarters and try to somehow dissect and separate all the ones that are multi quarters, it would be I would be hazard and just a guess. I don't think it's material. It's just that what it's different as far as in the past, at least on industrial, the normal business conditions, Say normal supply chains, normal order entry patterns. You had a fairly consistent inputoutput Quarter to quarter, maybe a little bit going into the next quarter.

Speaker 2

This is clearly more over multi quarters And actually, it's good. It's customers trying to plan for longer, trying to make sure they got ticket in line and in a way that helps us from a planning standpoint. So when things do stabilize, if they continue that way, I think that's a good thing for scheduling them. Our factors in scheduling our supply chain.

Speaker 11

Great. Thanks for taking my questions.

Speaker 1

Thanks, Nathan. Take care.

Operator

Thank you. The next question comes from the line of Nigel Coe from Wolfe Research. Please proceed with your question.

Speaker 3

Thanks. Good morning. Thanks for the question. So, Aerospace, I wonder if we could maybe unpack the air performance A little bit and maybe focus a little bit more on military because that's been an area where we've seen, especially in the ops market, some noise From some of your competitors in defense. And I'm just curious how you see military over the next fiscal year compared to your expectations?

Speaker 2

Yes, Nigel, it's Tom. So, on military OEMs And that's one we mentioned in the last call. We do see that being slightly soft, kind of mid single digits decline. And that's primarily Because of the repositioning that our customers thankfully did to try to strengthen the supply chain and protect the supply chain during the pandemic, they didn't want people to go under. And so they kind of pull forward demand into last fiscal year, leaving this fiscal year lighter as you're adjusting inventory.

Speaker 2

So that should come back Into FY 'twenty three and beyond. And I would see that being a low to mid single digit, probably more towards the low single digit Growth on the military OE side. And then on military MRO, we had some softness in the quarter. We're still forecasting mid single digits positive for the full year. So The only weakness that we're really experiencing for the full year would be the military OEM based on the supply chain things I mentioned.

Speaker 3

Okay. That's great. Thanks, Tom. And then you raised your margin by a point at the midpoint for Aerospace. I think the revenue number stayed unchanged.

Speaker 3

So just curious what's changed since you gave guidance back in August?

Speaker 2

Well, The Aerospace team is doing a fantastic job. There's a couple of factors, Nigel. It's Tom again. First of all, a nice commercial MRO uptick. So Todd mentioned that commercial MRO up 33% for the quarter And order entry on a threetwelve was over 70%.

Speaker 2

So you're starting to see that replenishment of commercial aftermarket, which is Of the 4 elements, the highest margin that we would have. And then within that kind of favorable mix within that favorable mix, The spare to repair mix was favorable. So at the beginning, which is typical when customers are trying to maintain assets and minimize cost, they'll do more repair work. And then once that's kind of exhausted and they have to put back in spares, we've uptick in spare activity. And then the Aerospace team has done a great job.

Speaker 2

But if you go back to the beginning of the pandemic, We moved very aggressively at the beginning to resize the business for a long cycle. And what's really remarkable here is we're going to put up These margins we're putting up to guide at 20.9% will be higher than our previous all time high Pre COVID. And so this business is not even it's at 80% volume of COVID and it's putting up margins that are higher than The best we've ever done pre COVID. This is fantastic job and to your point Nigel, if you were to go compare that aerospace performance against other aerospace peers, I think we would Do quite well with that.

Speaker 3

Well, that raises the question of whether you can get to mid-20s longer term. But I think we'll leave that one for March. But thanks, Tom. Great color.

Speaker 1

Thanks Nigel. Take care.

Operator

Thank you. The next question comes from the line of Stephen Volkmann from Jefferies. Please proceed with your question.

Speaker 1

Good morning, Steve.

Speaker 12

Hi, good morning, guys. Thanks for fitting me in here. You mentioned, Tom, I think that some of your OE customers were sort of delaying some of their deliveries, certainly understandable. But what are you seeing in the distribution side? Are inventories also really low there?

Speaker 12

And would they Rather be building them a little if they could?

Speaker 2

Absolutely, Steve, it's Tom. Dave, I can let Lee chime in if he has anything extra. Our distributors are finding the same challenges. When you talk to them, they would love to be building inventory. This would be strategic use of cash for them if they could, but they're having a hard time really All our suppliers getting up to where they'd like them to be.

Speaker 2

So they're pretty much running hand to mouth. And so that when I think about the longer term opportunities for us on growth here. You've got the pent up demand and kind of the reflex of the COVID bottom. But there'll be an inventory replenishment back to normal levels for distribution, which will be will help us. And if you go out longer than that, You've got CapEx reinvestment, 2 things there underinvestment and I think this whole localization has a giant burner underneath it now Because of this lack of product availability, it's going to drive customers and suppliers to add capacity And to create dual capacities, which is infrastructure opportunities for us, ESG and then just the capital deployment.

Speaker 2

So I think there's a long term secular growth trajectory. But to get to your more near term question, yes, the distributors are In desperate need of more material and we're doing everything we can to get it to them.

Speaker 12

Okay, great. And maybe just my quick follow-up. You guys obviously did much better this quarter than I think most of us expected and I think maybe than you even expected. And Yes, for most of our companies, things actually deteriorated through the quarter. So I guess I'm just curious, really what changed for you from 3 months ago that allowed you to kind of come in with such a strong result?

Speaker 2

Well, I think 3 months ago, we're doing an annual guide, so we're Careful with the annual guide, again it's Tom, as to getting too far over our skis. We try to factor in An element of uncertainties with supply chain because we were experiencing them already when we did the August guide. I think we weathered the supply chain issues better than we had anticipated, allow us to generate higher organic growth. And then the operating margins are, I think, indicative of really multiple years of effort. It's a combination of 1.0, 1.3.0, the capital deployment, buying companies that are accretive on margins and cash and growth.

Speaker 2

So It's not an overnight sensation. It's really you go to that one slide that shows the EBITDA trend. It's been building on it and the pace of that improvement On top of some very quick cost actions that we did in the pandemic and thankfully not a lot of those costs have come back. We've been able to run Business differently in a more digital fashion, which has clearly helped us on some of those variable costs.

Speaker 12

Great. Thank you, guys.

Speaker 1

Thanks, Steve. Rachel, I think we have time for at least one more question. So could you

Speaker 2

take who's next in line?

Operator

Sure. The next question comes from the line of Jeff Hammond from KeyBanc Capital Markets. Your line is open.

Speaker 7

Hey, good morning guys.

Speaker 1

Good morning, Jeff.

Speaker 7

Appreciate you fitting me in. I know you can't say much on the Mega deal, but I guess I just want And if like from your perspective, if the review process or the gating factors around getting the deal closed or the timing has changed in any way?

Speaker 2

Jeff, it's Tom. No, not at all. We're on schedule. We had always kind of anticipated Q3 of next calendar year. The reviews we're doing with the government on economic and national Security will conclude well before that.

Speaker 2

And then really the pacing item will be just the antitrust and FDI filings, which Are proceeding as planned, but you just can't predict every country as a different process and timing, and it's difficult to predict that outcome. So That's our best guess, but everything is on schedule.

Speaker 7

Okay, great. And then, Tom, I like the slide on the CleanTech as well, It's 2 thirds of the product enabling CleanTech. But I'm just wondering if you have a sense of what you think your revenue mix is today to cleantech or ESG markets and what you think that might look like 3 to 5 years out?

Speaker 2

Jeff, it's Tom again. So it's basically that's a 2 thirds numbers. That's how we came up with it. It's 2 thirds of our revenue today would be supporting I would argue everything we do supports sustainability even if you take the engine and mobile filtration that we'll be doing for heavy duty trucks It's helping that fuel run more efficiently and better emissions. So even today, we just try to be very conservative in that number recognizing that That was still a fossil fuel related technology, but it's going to morph into 100% of the portfolio because everything If you take construction equipment of force, equipment as it moves to more electric, all you're really doing is changing the power source going from, say, a diesel engine to hydrogen, engine or fuel cell or battery or some combination thereof.

Speaker 2

And all of our technologies are still needed to facilitate the work functions and the repel functions. And if anything, like I had mentioned before, our bill of material gets bigger because there's much more heat and you've got a management of all of our engineered materials technologies. We do have, I think, a bigger bill of material that we'll have with our motion technologies. We add more motor content and more software, etcetera. So We're very excited.

Speaker 2

I came back to those secular trends for us, aerospace, ESG, electrification and digitization. I think you're going to see a different Parker if you look at it for the next slide.

Speaker 7

Okay. Thanks so much. Thanks for the question, Jeff.

Speaker 1

All right. I think that concludes our FY 2022 Q1 earnings webcast. Thank you to everyone for joining us today. As usual, Robin and Jeff are going to be here for follow ups if anyone needs any. And I wish everyone has a great remainder of the day.

Speaker 1

Thanks again.

Operator

Thank you. This concludes today's conference call. Thank you for participating. You may now disconnect.

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Verint Systems Q1 2022
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