Honeywell International Inc. (HON) Earnings Call Transcript & Summary

Great. Well, I think we'll get underway now with Honeywell. It's my pleasure to have here Greg Lewis, Senior Vice President and Chief Financial Officer. Greg will have a couple of slides to start off with. Please bear in mind as well, once the slides are finished, use that QR code, the audience response. We'll share those results later with you and with Honeywell. So Greg, thank you for being here.

Great. Very good to be here today. So just really briefly and we can get into Q&A. The big message that I have here is I think Honeywell is in a terrific position for long-term value creation. And while the current environment, it's volatile to say the least, we are working our way through things like supply chain, the hyperinflation that we've been experiencing and so on. But we still have a lot of confidence that the end market tailwinds that we saw a year ago are still very much relevant and our history of innovating, driving organic growth and margin expansion, which would do both, we do both consistently, is a large value contributor. And I think when you take that and the strength of our balance sheet and our capital deployment, I think the future is very bright. And I know today that the times are a little tough as it sits here today, but I think the future is definitely bright. And we continue to see that in the market. And again, this is just a quick selection of a few of the most recent wins that we've announced, whether it's the renewable fuels wins. We've had about 8 of those in the last 6-plus months. We just announced the FLRAA partnership with Lockheed and Boeing, which we're very excited about, can be over $25 billion of revenue in the future. And again, we continue to win with our Solstice applications in Advanced Materials that just went to the end. So I'm going to hand that back to you. Our guidance is our next slide, thank you. This is the last slide. And this is our 1Q and full year guidance. And I'm just here to say we're reaffirming our guidance. We're about a little bit more than halfway through the first quarter, things are shaping up to be as we expected. We're still very much back-end weighted and even into the third month of the quarter given the supply challenges that we've been facing. But right now, things look like they're tracking to the guidance that we provided. So happy to guide into any Q&A that you might have.

Thanks very much, Greg, for that introduction. I mean I suppose the first question would be around -- on that point of the first quarter and Honeywell obviously had a tough sort of [ revved ] end to last year because of supply chain issues. So maybe a couple of things. I suppose one would be just remind us sort of why there are those pressures right now on Honeywell's revenue in the context of a global economy, the GDP growth is pretty good? Are there any specific factors weighing Honeywell down, and how you see those factors, those headwinds playing out over the balance of the year?

Yes. Great. So I mean demand is not our problem. We have plenty of them. We have a $27 billion backlog going into the first quarter of this year. And when you think about the first quarter and the full year, I mean, there's really 3 things that are providing a little bit of pressure to us. One is simply the mass demand. We've talked about it at length. It's about a 2-point headwind in the first quarter and 1 point for the full year. That is now at a run rate basis. And so it's just going to be a comp that's going to fall off at a point in time. The other is supply chain. And I would say it's the aerospace supply chain at large. There's just the machine gearing backup overall. And again, I don't think that's really unique to Honeywell. I think you're hearing that a lot more now from many of the other aero and defense companies. So I don't feel quite as alone as maybe we did a little while earlier. And then the other one is semiconductors. And I don't think that's really a surprise to anyone. So there is capacity coming online. We're also doing some self-help with some reengineering of our own materials to try to put new parts in place where we have more availability. And as we described during the guidance call that we're -- the fourth quarter and the first quarter feels like we're about at the worst peak of that constraint. And we see that slowly getting better throughout the course of the year, but more so in the second half than the first. So we're monitoring it closely. We continue to do as I said, everything that we can on our own side from a reengineering perspective. We're working with our supply chain partners in aerospace on their own rate readiness and helping wherever we can. So that's just going to be an ongoing operational cadence that we have as we work our way through this. And this is what Honeywell does well. I mean when a problem comes, we exercise our muscles and attack it. Same thing is true on the hyperinflation side. We've done very strong pricing actions. We've done them on a quarterly basis now, these last few quarters. So the same kind of note there, the environment is changing and we're adapting to it. And I'm very confident in our team's ability to work through those things.

Perfect. And when you think about the -- it's very common among companies here to have that first half more sluggish, second half a lot more momentum. For Honeywell specifically, I suppose how conservative or realistic would you characterize where you've set up financial guidance for the year? Honeywell certainly have been booking down the first half since October, people still seem surprised by that somehow in late January, but it is what it is. So from here, maybe give us some background on to sort of this...

Yes. I guess what I would say about that is we do our best to call what we feel confident that we can deliver. And so I don't know that I want to call that conservative or realistic. It's the best that we know at the time. And again, if you go back and look at our 2021 guidance from a sales perspective, I mean, we wound up at 4% for the year and within the range that we had provided, trying to -- remember, it's a range. It is a range on purpose. It's not a high and a low and pick the high because we're being conservative, it is a range on purpose. And that range is relevant. More so now when you have such volatility in markets that you do, including geopolitics, which we all are very aware of at the moment as well. So I wouldn't -- I would say it's the best we can see at this moment, and we will update it as we see more progress being made or not. And that's really what we want to do. I don't want to be getting out too far in front of something that we really can't count on. That's just not the way that we operate.

And how would you assess -- you mentioned the 3 different items just now. If we hone in on the sort of the aerospace supply chain issues and then the broader chip availability. Those 2 items, sort of where are we now? And remind us for Aerospace kind of what pace of improvement on that issue we should be looking at?

Yes. Well, as I said, the way I would differentiate the aerospace situation from the semi situation is semis are a bit more concentrated, smaller number of suppliers. There's only so many foundries in the world. So that's got a bit more concentration to it. Whereas when we're talking about supply chain challenges in Aerospace, it's a bit more of a network comment. So there's really more variables involved in that ramping up. We're seeing some progress in Aerospace, but that's probably one of the reasons why we're guiding as we are, is because until we actually see that improving steadily, I think we're going to remain cautious in that environment. But that one, as I said, it's not going to be very binary. With semis, I think we're going to see -- there's going to be points in time where semiconductor availability will change and it will be in a more finite or concentrated way. And so that I think will be more clear to us as that happens. But we do -- as we talked about, we do have commitments from our semi suppliers up to roughly 90% or so of what our demand is for the year. Again, the important nuance of that comment is they've committed to us in the year, not necessarily when we need it or want it, right? And so that comment has a little bit of a 2-edge to it.

Yes. And then within Aerospace, I suppose, Defense and Space has -- and again, it's something that Honeywell talked about early, but many others have talked about it subsequently. Honeywell itself sort of where are we in that defense kind of normalization?

Yes. One of the interesting things when you look at growth rates versus, say, nominal values, you get some very unique and different stories. We have recorded something like double-digit declines in the fourth quarter, third quarter as well. Second quarter, I think, was down mid- to high single digits. The thing is that's on almost very flat nominal revenue, right? So we're getting to a place now where we've hit a bit of a run rate, if you will. And so while the percentage changes look like they're swinging rather volatile, we're heading into the year now in a place because we exited 2020 with a very high growth rate. So the back half comps were much, much more challenging, I'll say, in 2021 and now we've hit a bit of a run rate. So our guidance, as you know, is sort of flattish, maybe a little bit of growth in Defense and Space this year. and we've kind of hit that pace at this moment. So we'll probably be down a little bit in the first part of the year as well, but we're at or near the rate that we need to be for the guidance that we provided. Now it would be great if the continuing resolution would resolve itself and the budget could get approved. I mean, that's always going to be helpful for dollars to be appropriated and spending to change. So obviously, that's something that we're looking forward to as well, but that's how we see it as we sit here.

And if we look at maybe the commercial aero side of that division, any updated thoughts around that? I think people often were worried about retirement rates, platforms in the downturn and what that would mean for aftermarket coming out of it, but actually retirements was quite [ well ] I think, relative to expectations. So just sort of any color around that commercial aftermarket.

Yes. I would say that the activity rate in our aftermarket chain is very robust. There's always some nuances in any given quarter. When you think about even our ability to serve the aftermarket, the supply chain does impact that to some degree as well in terms of our ability to get some of the equipment out there. So our rates of growth aren't necessarily aligned perfectly to the flight hour growth at this stage, but that's something that -- there's not a structural issue in that per se. So I think you'll -- we still have a lot of confidence in the growth rate in aftermarket during the course of 2022. It's one of the highlights of Aero for the year. So you do see -- and we talked about this when you look at flight hours, fourth quarter to first quarter, you lose a little bit because of just the normal holiday season because now Christmas and New Year's and all the fun stuff is behind you. And then Omicron obviously kicked up pretty heavily in the later part of the year. So you see what I do, I mean the flight hours have dipped down a little bit in the early part of the quarter, but I do expect that to begin rising back. But that's also a very unique story depending on the region you look at as well. We all know China is still with their 0 COVID policy, there's almost 0 international travel. That won't change until their COVID policies change. So these things are going to continue to be somewhat unique to the various regions and how they're dealing with the pandemic, but we still have a lot of confidence in our overall aftermarket position.

Perfect. And then if we look at sort of margin expansion perhaps firm-wide and maybe within Aerospace itself, just -- Honeywell for 15 years has had a great margin expansion history. There's been the concern for about 10 of those 15 years that -- is the runway short now? I realize you have an Investor Day and you'll probably flesh out that a little bit more next month. But any brief thoughts around the margin runway that's left, I suppose? Also in particular around, say, Aerospace. You've had an exceptionally good margins post COVID.

I mean the beauty of the portfolio is everything doesn't move in the same direction at the same pace at the same time, right? But the -- but what we get out of the overall Honeywell enterprise is quite impressive. As you said, our margins have gone from 13% to 21% over these years. We have improved margins 60, 70, 90 basis points each year for the last 5 years, if you remove COVID, while growing organically for 4% to 6% in that time frame, including 2021. So we continue -- and then I know you may and people do ask us, well, what about these investments that you're making? Well, these investments that we're making are the things that are seeding the possibilities of the margin expansion that we do get, whether it's through new NPI, our investment in repositioning for productivity purposes. These are the things that are driving these opportunities, which we feel great about. And so I can't wait, we have Investor Day next week. Looking forward to it on March 3. It's just a little commercial for any of you who will either join us or listen in. And I can't wait to talk to you about all the possibilities that still lie in front of us. I mean, all the investments we've made in the supply chain transformation, in our Honeywell Digital. I mean one of the things that's been tremendous and it's hard to see from the outside in, and it's hard to measure very discretely in that regard, but some of the capabilities that we've built over these last 4 years are the things that have helped us really react to and work through the supply chain challenges, the price/cost activities, being able to match our inflation to our SKUs and be segmented in the way we go to the market from a price standpoint. So I feel like we've got plenty of gas in the tank. There's a lot of -- there's always more opportunity for us. We are not done with our transformation. We may be beyond the really sizable footprint changes that Torsten has put in place. We're probably on the tail end of that part of the journey, given the footprint we have today. But we're not done by any stretch, and I'm really looking forward to share more next week about some of the things that we're working on.

Perfect. And I suppose one -- we talked a lot about Aerospace, but switching perhaps to SPS. There's a change in the segment had recently, sort of a message on the earnings call that I thought was fairly clear around maybe the whole approach of that division changing less OE revenue focus, more margin enhancement focus. Maybe just help flesh out, is there any change in that algorithm of revenue versus margin at SPS?

Sure. Yes. When you think about that business, it's been our highest grower, as you know, grew over 20% last year alone with Intelligrated growing around 50% organically or -- Intelligrated now $3 billion of the roughly $8 billion. So it's become outsized portion of that portfolio. And in terms of change in leadership from John to George, I mean, John has been running that business effectively since we split SPS up in the middle of 2016. So he's been at the helm for 5, 6 years now, and he'll be moving on. Darius will announce in the coming month or 2 where his next assignment is, but it's going to be a very senior position with Honeywell to utilize his skills in a different way that's going to be really accretive for the company. And George is getting the opportunity to expand his capabilities and run a big business. And this is part of -- one of the things that we talk about often is the sustainability of our leadership and part of that is succession plan, giving people opportunities to continue to grow the future leaders of the company, and that's what we're doing here. Now specifically around SPS and the strategy or the algorithm, what we talked about in terms of the trade between hyper growth and margin is really very specifically around Intelligrated. As we talked about, we grew that thing over 50%. And now we are -- we still have very high hopes for that growth rate. The e-commerce macro is still super strong, but you're not going to see 50% growth. Now you're going to see something much more down in the high single digits, maybe low doubles type of growth, and we've captured a lot of share. Now it's really time for us to make sure that we're, a, operating super efficiently after this supply chain pandemic crush that we just went through the last 18 months and again, bringing that service and software aftermarket behind it. The other businesses, the AST business, the PSS business, the gas and sensing business inside of that portfolio actually grew quite strongly double digits, very strong margins, way above line average. So those things are doing just fine, thank you, and we want to continue the work that they have there and again, shift that mix in Intelligrated specifically to more of a margin enhancement one than a hypergrowth one, and that will help us move the needle from where we are now in the low teens to our 18% to 20% margin target that we have out there for the business. So that's really how I would think about SPS.

And there hasn't been any -- to your point, you mentioned that high teens 20% margin goal. When you look at the competitive landscape, the mix, that still seems possible for the medium?

Yes, 100%.

I think one other feature that's evident in Intelligrated that Honeywell more broadly is that appetite to invest to grow share, seed faster growth. The question that's come up a lot, obviously, as Honeywell laid out some clear areas of high investments on the earnings call. Maybe sort of -- [ reveal ] sort of the conviction in those rates of returns you'd laid out. And when you compare what you're investing now and the expected returns versus what you'd invested 3 to 5 years ago and the returns today, how much confidence that gives you when you look at what's already happened on reinvestment?

Yes. Again, we have a ton of confidence in the investments that we're making or else we wouldn't be talking about those rates of return in our conviction in putting the capital to work in our CapEx budget or putting the R&D dollars to work in our R&D plan. So if you're asking me about conviction, there's a lot of it. And that's why I would just go back to look at our track record. I mean, I think our track record says that we continuously deliver sales and margin growth. And so it comes in many forms. We are a large company with a big portfolio. So those come in, sometimes sizable investments, sometimes not, but they're happening all across the portfolio. But just again, to give you just 2 examples with -- when you look at what we've done with our Honeywell digital investment and with our integrated supply chain transformation investments. I mean, again, we've invested $400 million to $500 million in repositioning per year the last number of years. We've probably invested somewhere in the neighborhood of $1 billion in our IT infrastructure over the last 4 to 5 years. And these are the things that I'm sharing with you that are helping us with our commercial excellence, with our pricing, with our ability to match inflation and with our ability, even with what we're doing with managing supply constraints, knowing where our suppliers are, risk management around that during the pandemic. All of these things were enablers to the kinds of results that we've been able to deliver through this period. And I'm really excited about actually what's to come. And we're not done. We've made a lot of these investments on the transformation side. And I think there is a huge digital value capture coming in front of us. So really excited about that. Torsten has done a lot of work, again, around the network simplification. Now he's moving more into the automation space within our supply chain, making -- we made a big push around manufacturing. Now he's going deeper into the supply base. So there's plenty more fertile grounds to go plow. So I'm very confident in the investments we're making. And that's why we tried to share it. I mean, we're doing that and we're still going to deliver margins. Some people may come with a big investment story and say, and that's why I'm not growing margins. I mean look at our guidance when you -- if you just pull out Quantinuum for a second, for the full year, 40 to 80 basis points of margin expansion while we're doing the investments we talked about in R&D. So this is not a downshift in 2022 of our ability to drive margin. So there's a lot of conviction here.

And when we look at the macro environment that maybe remains reasonably good and supply chain constraints ease end of this year, call it, you maybe start to get some of the benefits of the returns from the recurrent and recent investments. What's the sort of organic growth entitlement you think it [ demonstrates ]?

Yes. Well, we'll talk to you about that next week in more detail, but -- so I'm not going to steal thunder from our upcoming Investor Day. But I think I spoke a little bit about this in the earnings call, our macros are strong. I think our positions are strong. I showed you a few of the recent wins so we're continuing to win in the marketplace. So I feel very good about that. The -- as we said in the beginning, though, the whole volatility equation is one that we've all got to be mindful of. That's why I opened my remarks by saying the things that we control, we feel very good about. There are things that are absolutely outside of our control. Geopolitics, what inflation is going to do, how interest rate management is going to happen and the downstream impacts of all of those things. I'm not here to predict how that's all going to come down. But I will tell you that the things that we can control, I have a high degree of confidence in our ability to deliver and exceed our place in the market.

Perfect. And maybe one quick thing, if we can have the slide up with the QR code just to allow that audience response survey. One thing, Greg, I guess, there's sometimes a question of people see [ MAS ] and defense doing that thing maybe that's offsetting some other growth areas. And you have this broader -- I don't like to use the word trend that some other companies [ in effect ] simplifying their portfolios. Do you ever worry about is Honeywell too large and complex to manage effectively, efficiently?

Well, actually, I'm glad you asked me that question because that's why we've been doing the transformation. I might have had a different answer if we hadn't done the supply chain transformation, if we hadn't done Honeywell [ business ] because all of those things are about building scale for us. They're about putting process and digitization in place so that we can run, which is what is a very large enterprise. And it is. We have 38 GBEs in the 4 business units and then HCE as well. So I'm not worried about it. It's what we're actively doing to try to run this company as efficiently as we possibly can. And as you know, we've also simplified it ourselves in places where we thought that made sense, started with the AdvanSix and then Garrett and Resideo of course. So you know that we've done that before. And we constantly are looking at our portfolio. And so as and when we see other opportunities to do something like that as well, we'll continue to prune that also. But I don't think we're too big. I mean we are -- there's a reason we're together. And again, this is -- I'm excited for next week because that's what we're going to talk to you about next week. The reason why Honeywell deserves to be together is because we are creating value, whether it's our Honeywell Technology Solutions capability, whether it's HCE cutting across the business, whether it's what we've done with our supply chain transformation or our Honeywell digital transformation, these are things that are actually creating value across the entire enterprise. And when you think about our automation and software history, that's a bit of what binds us together as well.

One -- aside from sort of supply chain noise, I suppose one other feature from the recent earnings that surprised a few people was around the cash flow this year. I realize that there's a debate around is conversion or cash margin the right way to look at it. Maybe it's a bit of both. But beyond this year, again, how do you see that cash flow dynamic playing out?

Yes. So we've showed charts like this before and spoiler alert, we're going to show it again next week. But we were once doing 7% to 10% cash margins. And now we've been firmly in the 15%, 16%, 17% range. And I think being in the mid-teens for cash margins for Honeywell is a very good place to be. The majority of that benefit has come through profitable growth and working capital management. Some of it's come through the structures that we put in place with the indemnities and so forth. But I think that at this stage, there are certain areas that, again, I can't control if we get tax extenders or we don't get tax extenders. I mean that's a big binary event that's got a pretty meaningful amount attached to it. And we'll see how that happens here over the next 45 days or so. But I think for us being in the mid-teens is actually a really healthy place for us to be, and that's something we feel very good about.

And then on the use of that high cash flow, there is that pushback on, well, if the returns are so good in the future, so bright, why are you doing a bigger buyback? And similarly, there's a lot of your -- a lot of other industrial companies doing M&A recently, mostly in areas like health care and software, making that push to being more recurring, less cyclical. How are you assessing that sort of M&A landscape right now?

Well, this is always the hardest question to answer because, obviously, we can't talk about things that we're working on, whereas in other organic things that we can. I mean I just would tell you that our conviction on deploying capital is strong. This year, we deployed $8.5 billion of capital. That was greater than either of the last 2 years where we were already in the high 7s. And we want to continue to do that. We also realized that that's a big adder to our value creation framework and we want to do that as well. We're evaluating what the right thing to do is from a buyback standpoint, and that's something we continue to look at. Obviously, the whole market has come down quite a bit with some of the changes that have been going on over the recent weeks, and we're continuing to be thoughtful about how we address that. So -- and we do have conviction in M&A. We just have to find the right deals. I mean, we're not going to push ourselves into doing a deal just to spend the money. And that's something that has always been important to Honeywell and will continue to be so, being able to find the right properties that have something that's technology that's protectable, where management can make an impact on the trajectory of the company as part of our portfolio, that reduces cyclicality and has the right ESG components to. All those things are some of the elements that we look for in the targets that we have in our pipeline. And we want to go spend on M&A, but we're only going to do it if we find a good deal that we're confident we can give a return to shareholders.

And if we -- I realize we only a couple of minutes left. There's 1 division that on paper around things like healthy buildings, upgrades that installed base to increase building efficiency. How do we think about HBT? it's much smaller than the other 3. Certainly less investor focus on it.

Yes. And Doug will talk about that next week. I'm excited about HBT. Its macro trends are very strong as well. It is a sustainability play no matter how you think about it. I mean buildings produce something like 40% of the energy emissions in the world. So for us to address that market, there's going to be a ton of macro tailwinds around it. And we think we've got great technologies. We're very different from some of the other players who are more hardware focused. That's not an issue in our view. I don't want to be big just to be bigger. We really like the margin profile and the value proposition that our solutions bring to this space, and we're going to emphasize that as we go forward.

And last one, I suppose, Quantinuum, you can answer it in as long or as little as you like, but the -- people sometimes ask about what's the competitive advantage on large IT companies going to just move in and merge...

Well, it's as simple as just investing a bunch of money and the answer pops out at the end, then, okay, maybe that's -- but this is a fairly complex problem to solve. And I think we have technically done so with our ion-trap quantum computer and then the marriage with Cambridge Quantum brings sort of the operating system and the software partnership to it. And so I think we have a very unique position at this point because we have both a software offering that actually is hardware agnostic and we have a hardware offering that we think is best-in-class. And again, we will talk about that at length next week. So look forward to sharing more from the technical experts as opposed to the CFO, and they can tell you a lot more about the technology. But this is one of those things that we've incubated for some years, and it's one of those -- Honeywell is a technology company. And we have a lot of things in the hopper that we're incubating. This is one that really has turned out to be something very special. And I think our investors are going to be very excited about the value-creation opportunity that it brings, and I think it's going to bring some great solutions to the market at large.

Fantastic. Well, we'll look forward to next week. Please if you have a minute, complete that audience response survey. And Greg, thanks so much for being here.

Thanks for having.

Thank you.