Michael Larsen
Senior Vice President, Chief Financial Officer at Illinois Tool Works
Thanks, Scott, and good morning, everyone.
Q2 revenue grew by 2% with organic growth of 3%, and divestitures reduced revenue by 1%. Foreign currency translation impact was neutral and not a headwind for the first time since the third quarter of 2021. Underlying demand remained stable across the majority of our end-markets with some softness in about 25% of our portfolio. As Scott mentioned, our businesses estimate that inventory reduction efforts by our end-customers and channel partners reduced organic growth by 1% to 1.5% at the enterprise level.
By geography, North America was flat. Europe grew 5%. Asia Pacific grew 11%, with China up 22%. On the bottom line, operating income grew 9%, exceeding $1 billion for the first time ever. Operating margins were a real highlight this quarter as they improved to a new Q2 record of 24.8%, with enterprise Initiatives contributing 130 basis points. Price-cost margin impact contributed 260 basis points in Q2, while higher wages and benefit costs lowered margins by around 100 basis points.
In addition, we continue to fund our growth investments, including headcount additions to support our organic growth strategies and initiatives. All in, we delivered 170 basis points of margin improvement in the quarter, with margin expansion in six of our seven segments. Three of them: welding food equipment and construction products, recorded all-time highs.
GAAP EPS was $2.48 [Phonetic], an increase of 5%, and excluding one-time tax items in both years, EPS grew 9%. Our cash performance was strong as free cash flow grew 68% to $705 million, a new Q2 record. Free cash flow was 94% of net income, about 10 percentage points above our historical Q2 average, helped by an inventory reduction of 6% since year-end. Like our end customers and channel partners, our divisions are also beginning to reduce inventory levels as supply chains normalize.
That being said, we added almost $1 billion of inventory over the last two years to mitigate supply-chain challenges, and it would likely take us until the first half of next year to get our inventory levels from currently 3.2 months on-hand back to our normal months on-hand levels of about 2. We expect that it will be much the same for many of our channel partners and customers.
Overall for Q2, excellent operational execution and financial performance across the board including record operating income, operating margin and GAAP EPS. Turning to Slide 4, we wanted to spend a minute on ITW's operating margin performance in Q2, like I said, one of the highlights of the quarter. Not only did margins significantly expand year-over-year and quarter-over-quarter, but at 24.8% margins, and also [Phonetic] solidly above pre-pandemic levels, and we are back on track in terms of making progress towards our goal of 30% in 2030.
Let's move to the segment results, starting with Automotive OEM, which led the segments with strong organic growth of 16% and positive growth in all regions. North America was up 3% and Europe grew 18%. China grew 51%. Operating margin expanded 250 basis points to 16.8%, and price-cost margin impact turned positive for the first time in more than three years as this segment continues on the margin recovery and improvement path that we laid out at our 2023 Investor Day.
As a reminder, we're executing a plan to get Auto OEM margins solidly back into the 20s [Phonetic] over the next three years. Organic growth in this segment in the second-half, perfect [Phonetic] some tougher comparisons and we expect continued meaningful sequential improvement in operating margins in Q3 and Q4.
Turning to Slide 5, Food Equipment also delivered strong organic growth of 7%, with North America up 8%. Institutional end-markets were up 13% with continued strength across the board. International revenue grew 5%, with Europe up 5%, and Asia Pacific up 2%. A real highlight was Service revenue, which grew 16%, the ninth quarter in a row with double-digit growth as we continue to support existing customers, new product installations and gain market share.
Operating margin expanded 310 basis points to 27.8%, an all-time record for the Food Equipment segment. Test & Measurement and Electronics delivered positive organic growth of 1%. The slowdown in semiconductor-related revenues, which represent about 20% of the segment, reduced the segment growth rate by six percentage points. Test and measurement grew 10%, with continued strong demand for capital equipment as evidenced, for example, by Instron, which grew 30%. Electronics declined 13% on semiconductor softness, which is however beginning to show some signs of bottoming out.
Moving on to Slide 6, Welding delivered 1% organic growth against the tough comparison of plus 22% in the prior year. Equipment revenue was essentially flat and consumables were up 2%. Industrial sales were really solid with organic growth of plus 5% on top of 27% in the prior year, while the Commercial side was down 9%, about as expected against the comparison of 19% last year. North America revenue was flat and International grew 5%.
This quarter's highlight was definitely operating margin expansion of 460 basis points to 33.9%, a new record for the segment and for the company. And the fact that our highest-margin segment continues to improve margins, and not just by a little bit, is a good example of the never-satisfied continuous improvement mindset that is so core to the ITW culture and mindset across the company.
Polymers and Fluids organic revenue was down 1% against a difficult comparison of plus 10% last year. Divestitures impacted revenue by 6%. Automotive aftermarket was up 1%, Polymers down 2%, and Fluids down 1%. On a geographic basis, North America grew 1% and International declined 3%.
Turning to Slide 7. Organic revenue in Construction was down 6% against the comparison of plus 15% last year. North America was down 3% with US residential construction down 2%, and commercial construction, which represents about 15% of the region, down 5%. Europe was down 14% and Australia/New Zealand was down 4%. Despite some challenging end-market conditions, operating margin expanded 170 basis points to 29.3%, an all-time record for the Construction Products segment.
Finally, Specialty organic revenue was down 4%, which included 1 point of headwind from product-line simplification, and an estimated 3 percentage points from end-customer and channel inventory reduction efforts. North America was down 7% and International grew 4%. The Equipment revenue, which represents about 20% of the segment, was up 23%. And Consumables were down 9%.
With that, let's move to Slide 8 for an update on our full-year 2023 guidance. As you saw this morning, we raised our GAAP EPS guidance by $0.10, with a new midpoint of $9.75 [Phonetic], based on our strong first-half performance with record first-half GAAP EPS of $4.81, and the expectation for stable underlying demand and continued strong margin and profitability performance through the balance of the year. Our organic growth guidance of 3% to 5% includes our expectation that end-customer and channel inventory normalization activities will continue to modestly impact overall demand through at least the balance of the year.
Operating margin is projected to expand by more than 100 basis points at the midpoint of our range of 24.5% to 25.5%, which includes a contribution of more than 100 basis points from enterprise initiatives. We're also projecting a strong free cash flow performance with a conversion of over 100% of net income.
Finally, on the tax rate, our first-half rate was 22% and we expect our typical 24% in the second half for an expected full-year rate of around 23%. In summary, a strong first half, both operationally and financially, and as we head into the second half, we're in a strong position to continue to deliver differentiated performance through the balance of the year.
With that, Karen, I'll turn it back to you.
