nVent Electric plc (NVT) Earnings Call Transcript & Summary

Okay. So we're going to continue on with nVent. We have Sara Zawoyski, here, CFO of the company. Reminder, I'm Nicole DeBlase. I cover electrical equipment multi-industry and machinery for Deutsche Bank. For those of you that have questions on the fireside chat, feel free to send me an e-mail or those in the room, just raise your hand and we'll call on you. But I think before we get started with the questions, Sara has a few opening remarks. So over to you, Sara.

Thank you, Nicole, and thanks for having nVent. I just got a couple of quick slides here just to give an overview of nVent. So I would start by saying nVent were a $2.5 billion electrical company quickly approaching our way to $3 billion in sales. We recently had our Q3 earnings where we posted our sixth consecutive quarter of 20% or more organic growth. We expanded margins. Our free cash flow is improving, and we guided to double-digit EPS growth on top of the 31% growth that we had last year. We're comprised of 3 segments, really across a variety of verticals: industrial, commercial and a growing infrastructure part of our business and believe that we're well positioned with the electrification of everything. Our strategy at nVent has really been consistently executed upon since our spin back in April of 2018. Importantly, our growth focus around high-growth verticals, new products, global growth and acquisitions, we believe, has been a key part of our ability to outperform from a growth standpoint. A highlight in this last earnings call is that new products are now contributing 3 points to our top line growth overall. And then if you think about what we do at nVent, we are building a more sustainable and electrified world. Clearly, macro trends are strong. The infrastructure bill here in the U.S., the Inflation Reduction Act. Those are all tailwinds yet still in front of us. We have brands and products that provide strong value propositions to our customers, to our contractors, whether that be energy efficiency, time savings, labor savings and overall resiliency and protection. And importantly, we continue to invest. We are investing in sustainability and electrification, whether that's in our new products, and we've added 4 acquisitions and spin enabling -- driving roughly $200 million of annualized revenue and all within these high-growth verticals. The combination of these 4 companies actually are growing at a faster rate than the overall nVent portfolio, roughly 30% here in this last quarter. So just to sum it up, we are executing well and delivering strong financial performance. We are laser-focused on deploying capital to drive those attractive returns and believe that we are well positioned within the electrification of everything.

Perfect. Thanks, Sara. So I'm going to start with some questions on current trends, what you guys are seeing out there. The order growth was really impressive still in the third quarter. I think it was up high single digits, although you did acknowledge that you expect some moderation because of tougher comps which makes sense. Are you seeing any sort of moderation in, let's say, like negotiation, bidding activity with -- or customer conversations?

Well, we talked about a couple of things. One, our order growth in Q3 was strong. It was up high single digits on top of 43% order growth in the prior year quarter. We have another tough comp here in Q4. It was up nearly 40%. Remember, back in the back half of last year, material availability was tough. And so we did see those order rates increase as ordering, buying behaviors extend out. So the comps remain tough. We talked about the project activity. That's more in that longer cycle thermal management business where that was positive. So those -- the quoting activity, the order activity that was overall positive in thermal management. That just takes a bit of time in terms of when we see that quoting activity and particularly in North America, convert them to the order book.

Okay. Okay. Makes sense. And Europe represents, I think, 23% of sales. So significant, but kind of in the normal range for the companies that we cover. Investors have been looking for negative data points, right? And I think the first focus is Europe because that's viewed to be the first area that will go into a recession. Have you seen any signs of slowdown, particularly in your shorter cycle product?

Yes. I mean I would say there's clearly plenty of negative macro headlines that we continue to see. In Q3, we talked about Europe continuing to be strong. Europe sales were up and pretty broad-based across nVent. When we think about the opportunity we have in nVent is really about growing our share position, with new products with vertical market team focus as well as taking advantage of our One nVent approach to our channel. So there's a lot of things that we continue to work in Europe to grow our position in Europe. So it's something that we continue to watch closely, but we really haven't seen any of those macro headwinds, if you will, flow into what we're seeing broadly in that industrial space.

Okay. Okay. Interesting. And I think your exposure to resi construction is pretty small. If you could size that? And if there are signs of slowdown there?

Residential is very small for nVent. We're talking low single digit overall and it's going to be mostly in our thermal management business around underfloor heating. And we are seeing some softness in that business. But again, very insignificant for nVent overall.

Okay. Okay. Fair. Historically, we've seen that nonresi tends to follow resi with maybe a 12-month or so lag. But there are factors this time that could kind of change right? We have infrastructure stimulus. We have growing focus on energy efficiency and decarbonization. Where are you on the debate of the sustainability of nonresi strength?

Well, I think when you see what we do in commercial and what we do in infrastructure, you have to first look at how we serve that market. Most of our commercial business is going to be our Electrical & Fastening Solutions business. And when you think of what that business does, it's all about providing content, providing products to support power and data infrastructure. And so when you think about everything from the electrification of everything, building automation, more and more computing and data being computed, if you will, closer to where that customer is in that commercial net warehouse setting, you still need that powering data infrastructure. So we think there's some resiliency, if you will, that sits within that underlying commercial business in Electrical & Fastening. I also think that in the infrastructure side of the equation, there are new and different tailwinds that we have here today that maybe we didn't have 5 years ago with the infrastructure bill with the Inflation Reduction Act in terms of some of that public stimulus, if you will, helping to grow that part of the business. So I think there are some things that are different. We do believe that commercial overall will moderate from where things sit today, but I also believe there's some secular trends there that didn't exist in prior maybe setbacks that we believe will help kind of buoy that overall commercial business.

Okay. Okay. And on the topic of U.S. infrastructure investment in particular, have you started to see any signs that funds are beginning to flow? Or is that more of a 2023 dynamic?

Well, I would start by saying infrastructure as a percentage of sales for nVent was in the teens when we spun. We exited 2022 with it being 21% of sales. In this last quarter, it was 23% slot of sales. So it's roughly getting close to our approaching that 25% of overall sales. And this has been a real focus for us in terms of where we're putting our capital dollars, both organically and inorganically. You think about the last couple of acquisitions we did with CIS Global doing power distribution within that infrastructure space, you think of WBT, providing cable management within that space. So we believe, overall, that infrastructure has been consistently growing strong double digits for nVent, both organically and then we're also putting inorganic dollars to that. And that's been predominantly on what I would say, private investment. So the public investment, but I think your question is probably pointing to is still really in front of us. And we think that that's going to be consistent, but takes some time. It's not going to all drop in, on January 1, if you will, because that takes time to kind of work through the funding mechanisms overall. So we think that with the private investment that we're seeing, the strong growth that we've seen historically, coupled with the help from the infrastructure bill and infrastructure spending overall really at a global level should provide some nice secular trends and tailwinds for that infrastructure business.

Yes, sure. Absolutely. And just to remind the audience, I guess, if you look across your portfolio, which of the businesses have the greatest exposure to that infrastructure spending?

I would say that all of the businesses are going to benefit from an infrastructure spend, but the -- in particular, I would say, Enclosures and Electrical & Fastening Solutions would benefit, just given their exposure to that electrification of everything in the infrastructure side of the house, but also in the commercial and a bit in the industrial side, too.

Okay. Okay. Got it. Maybe shifting to data centers. So there's been maybe a growing concern about slowdown in data center CapEx. I think just tech firms, maybe a little bit less cash flush than they've been for the past several years. Are you guys seeing any signs of slowdown in order activity or bidding and quoting activity in the data center space?

So we continue to see strong growth in data solutions. This has been an area of focus for us. Since then, it's been an area that has grown strong double digits. It's part of getting that infrastructure to now closer to 25% of overall nVent sales. And a couple of things I would say there. We sell into that data solution space is really the critical protection to those systems via our Enclosures. But what we've added to it over time is cooling and more recently, power distribution. And when you think of cooling specifically, roughly 90% of that data solution market is cooled via air cooling. But that can be very inefficient as the level of data processing and the heat that, that generates over time gets more and more. And so what we've been doing is really investing and partnering around products that are more closer to the chip, if you will. That could be directly on the chip, that could be liquid cooling. And what that does is that can provide up to 30% more efficiency in cooling in these data centers. So what you see is the liquid cooling really growing at an elevated pace versus the overall data center space. And then with CIS Global, I mean, this is all about providing power distribution at the point that it needs to occur in an optimized fashion. And so again, when we look at data solutions, we believe that we're well positioned across the spectrum of the various customers within data solutions both from channel to hyperscale and provide what we believe is a differentiated solution, particularly in that cooling space, it's growing at an elevated level. And so we, overall, are very optimistic about continued growth in the data solutions business for nVent.

Okay. And the liquid cooling piece is definitely interesting. And it seems like that is gaining share as a percentage of total cooling spend. What is the competitive environment like in liquid cooling?

I would say that there's various options out there, but we are all -- nVent is very focused on innovating our own products as well as partnering with other companies to provide that broader span of liquid cooling options for our customers. So we believe we have a leading position there as it relates to liquid cooling.

Okay. And just on the general order activity in the data solutions space, how far out are customers now booking? We were with Eaton recently in Cleveland and they said that they've now started booking into 2024. Just curious if you're in a similar situation.

I would say it can be a longer cycle aspect of the overall Enclosures business where most of our data solutions business sits. And I would say that, that is extending out in 2023. There could be a little bit of an overhang into 2024, but it can extend. We have some good visibility in our backlog in regards to some of that business. I think the other thing I would point out is we also sell through a channel. And so we've got that quicker turn channel opportunity along with the direct to that end customer that provides us good visibility out into 2023.

Okay. Great. I have to ask on supply chain. So have you started to see any signs of sequential improvement or just more of the same?

We talked about this a little bit on our Q3 call, and I would characterize it as we're seeing gradual supply chain improvements. Our biggest constraint continues to be on the labor side. So we're really focused around getting team members into our factories, into our DCs and then importantly, training those individuals to help drive productivity and help our -- serve our customers. So I would say that it continues to gradually improve from a supply chain perspective. I think from an overall disruption standpoint, they tend to be of lesser shocks, if you will. But even in this last quarter, our largest plant in China was impacted with the Qingdao lockdowns. And so we're getting good at managing, I would say, these disruptions from a supply chain team perspective.

And when you look at the components that are the biggest bottlenecks for you, I assume it's still electronic components, semiconductors, that sort of space?

Yes. I would say electronics are less of a part of our overall nVent portfolio, but clearly, it does play role in thermal management, more on the control side as well as in some of our cooling offerings and Enclosures. And so it continues to be a challenge in pockets, but overall, I would say, again, our biggest constraint continues to be on the labor front.

Okay. Okay. Got it. And have you -- as you've dealt with these issues with labor availability, supply chains, all of the above, has this caused you to kind of rethink the way you want your manufacturing footprint and your supplier footprint to look globally?

Well, I would say a couple of years back in earnest, we really started to execute our in-region-for-region strategy. And I do think that, that's been a big enabler for us to be able to deliver the type of volume that we have been able to deliver. It was up 10 points year-on-year here in the first half and up another 5 points here in Q3. So I think that from an in-region-for-region manufacturing standpoint, while we've got work yet to do on the margins, it's been a big part of us being able to deliver, and we believe to deliver differentially for our customers. But clearly, it increases our focus on just building and strengthening our overall resiliency from a supply chain perspective. So some of the things that we're doing more from a capacity perspective is looking at expanding our Mexico production. We're looking at things like dual sourcing or addressing some of our sourcing, bringing that more in regions. So we continue to do things to, I would say, strengthen the resiliency of that supply chain but largely feel good about that overall supply chain footprint.

Okay. Okay. Got it. And you mentioned labor has been the bigger challenge for you guys. What are you doing to try to alleviate that issue?

Yes, many things that we're actioning. I would say, first and foremost, we're really focusing on our onboarding process and our retention and engagement processes with our team members. That's been a real focus of ours. So we're having to just think very differently in terms of onboarding. I think the second piece we're doing is focusing a lot more on industrial automation. A lot of people will ask, is that something that is new, different? We've been talking about that for a while now. I would say we look at first within what's happening within our own 4 walls and saying, while we've always been focused on automation, we are focusing on it even more and accelerating that and making sure that, that is part of driving that resiliency for us, driving that productivity, importantly, helping us increase our capacity to serve the increased demand as well. So I think those are 2 things, really focusing on the people, looking at onboarding retention differently. And then secondarily, really focusing on the industrial automation side of things. So bringing more and more automation in our factories, in our DCs so that it's less labor dependent, if you will, but also providing capacity for us to continue to grow.

Makes sense. Okay. Very clear. You mentioned the China COVID shutdown impact that you had in the third quarter. Is that now in the rearview mirror? Is that facility up and running? And any sense of the revenue impact in the third quarter from that?

Yes, I would start by just characterizing China for nVent is roughly mid-single digits as a percentage of sales. So it's not a significant part of nVent but an area that we believe still has growth opportunities for us. Our largest plant in China sits in Qingdao, and that was one of the areas in Q3 that was impacted by the COVID lockdown. It was shut down for a couple of weeks. It is back up and running. I would say that overall, just looking at China in its totality, it has taken a bit of a longer time to recover, if you will, just from the Zero Tolerance COVID lockdowns. And so that means some of the projects are kind of scooting to the right, if you will. But overall, again, China is a smaller piece of the overall nVent revenue. Plant is back up and running, and we just think it's going to be a longer time to recover there in China.

Okay. Okay. Got it. Last question on current trends, just channel inventories right now. How would you characterize them? And is restocking an opportunity?

Well, I would say that across the broader spectrum of inventory. I would say it's largely balanced, but it's elevated just given some of the supply chain challenges as well as the inflation that sits within that inventory. What we're really focused on is the sell-in and sellout. We continue to see that as overall, I would say, balanced. One of the things that we did talk about on our Q3 call was that as customarily would happen, it didn't happen last year because the material availability concerns but every year prior to that, is that we would see some, I would say, inventory reductions or inventory tightening at our distribution channel. That's normal, that's traditional, what we would expect to see. And that is something that we baked in, if you will, or reflected in our Q4 guidance in that 9% to 11% that we guided to organically for Q4 for nVent.

Okay. Okay. Got it. Just moving on to, I guess, recession playbook sort of topic. You managed really well through COVID downturn. But that wasn't your typical recession. I guess every recession is different. We don't have a long history of nVent as its own publicly traded entity. So what would the playbook be if we did enter a broader global recession?

Well, I would say, first and foremost, and this is a bit of our mantra is we scenario plan. And we run these scenario plans and it's not just a top-of-the-house scenario plan. It is something that we run at each one of the plants, the DC so that depending on where the market goes in terms of ramping up or ramping down, we know what those levers are. So I would say that our playbook, if you will, is all about running the scenarios at the right levels of the organization. And importantly, managing those incrementals and managing the decrementals to the extent where the market goes.

Okay. And I assume that there's cost levers to pull and that would be the sort of way to manage the decrementals?

No, absolutely. I mean I think if you just go back and point to how nVent performed during COVID, we exited that year at decrementals in that 20% range. So as we think about it, incrementals in any more normalized environment for nVent, would be in that 30% range, that's really indicative of the strong margin profile against each one of our segments as part of nVent. When we think about the decrementals, we aim to really drive those decrementals less than that on the way up in terms of the incrementals. So again, I think just -- it's a good proof point as we exited 2020, which was a fast and deep challenge from a top line perspective, exiting that year in that 20% roughly decremental, just shows that we're laser-focused on cost control. We're always disciplined as it relates to the capital allocation process, both organically and inorganically. And I think we've got a really good operating system as a company where we're able to be very agile on things and levers that we've got to pull along the way.

Okay. Okay. Got it. Maybe let's look at medium-term revenue growth now. I think we've talked enough about potential recession. So you guys have demonstrated six consecutive quarters of 20% plus organic growth, super impressive. If you had to boil that outperformance down to a few factors, what would they be?

Well, I would start by saying price is helping that. So I think that's indicative of just our solid execution of managing inflation with price. And we've done that consistently over the last 2 years. But more importantly, from a growth perspective, it really reflects our consistent execution on our growth strategy. So what's really enabling us to outperform from a top line perspective and volume is really our focus on high-growth verticals, new products, global growth as well as M&A. And just a couple of data points here for you, and I think I talked about this just in a quick overview. We've acquired 4 companies, they've added $200 million of annualized revenue, and we go back and look at how are those businesses performing, they are well outpacing the broader nVent portfolio. And that really is because we're focused on adding to the nVent revenue profile those companies that are in these high-growth verticals. So the Vynckier acquisition, for example, getting us into the solar space, non-metallic enclosures. CIS Global, really rounding out our data solutions product offering. So acquisitions have played a big part of just sort of changing that revenue profile. New products, we're beginning to see what we were focused day 1 of spend, and that is new products are really the key to unlocking that differentiated growth and that added 3 points to our top line overall here in Q3. And global growth, I think that's something that we've made some really good strides on, particularly in Europe, but I think a lot of that is still yet in front of us here at nVent.

Okay. Okay. Helpful. And I guess thinking about the medium-term picture for organic growth, where do you think it kind of settles out over time. Is this a mid-single-digit growth business? Is it a high single-digit growth business?

We've talked about our long-term growth profile being in that GDP plus 1% or 2%. And I do think that the focus on these high-growth verticals, new products, global growth really enables us to continue to overall outperform. I think the other thing, too, is that as that infrastructure becomes to be a bigger piece of our overall revenue mix, approaching that 25% range. With the infrastructure build, the Inflation Reduction Act, a lot of that, what I would call is public investment public stimulus yet in front of us, that provides some additional strong secular trends and tailwinds for us into the future.

Definitely. And when you think about your path of growing the revenue from new products. Are you happy with where that vitality index is today? Or is there further room to improve that in the future?

Clearly further room to improve that in the future. I mean, that was in sort of that low to mid-teens when we spun. So it was a really big focus for nVent and that sits now in the high teens. So we've really moved that needle. But we say that we want to get to that 20%-plus vitality. And we're doing that by way of a couple of things. I think, one, really looking for new products that we can scale so that we can sell to a group of customers looking at scaled new product opportunities. The other thing that our Chief Technology Officer, Aravind Padmanabhan, is really [ proud ] is an agile approach to new product development. And so with sometimes the same R&D dollars, we're creating more and more velocity in that discovery and in that launch process so that's enabling us to really realize that revenue on those new commercial launches sooner and faster.

Okay. Okay. Got it. Next topic. We're running a little short on time here, but I want to talk about margins a little bit. So can we just talk about the puts and takes on 2023 incremental margins? I know you haven't given guidance, I'm not asking for that, but just things to think about price cost, investment spending, et cetera?

Yes. So we're not giving 2023 guidance yet, but we did talk a little bit around just some of the things that we're thinking about as we roll into 2023. I would start by saying price cost. I mean, we felt great about getting to margin expansion here in Q3. That was in large part with Enclosures getting that price cost equation in a good spot, and they had some touching up to do, if you will, from the first half of the year. And I think that puts us on a nice trajectory from a price/cost perspective as we exit the year and leading into 2023. Productivity has been a challenge for us this year. I think that with the magnitude of volume that we've delivered and been laser-focused on delivering for our customers, up 10 points in the first half, up 5 points in Q3, amidst what continues to be a very challenging supply chain. We talked about labor being one of those challenges. It's costing us more to manufacturing -- manufacture those products and deliver those products for our customers. So what I would say is that, that productivity has been more of a headwind for us this year than a help in terms of getting leverage, if you will, of that volume. But we have seen that marginally improve as the backdrop of the supply chain marginally improves. And so as that improvement continues, we would expect that productivity year-over-year to be an easier comparison as well as begin to show up in more improved productivity numbers. So those are some of the puts and takes. I would say from an investment perspective, we have invested this year. We have invested in R&D. We've invested in digital. We've invested in selling and marketing. You can see that in nVent P&L. Importantly, we believe these investments are already providing great returns. You see that from a top line outperformance perspective. And I think you can expect us to continue those investments going into 2023.

Okay. Okay, clear. And I guess one more question on margins before we get to capital allocation. How should we think about the medium-term drivers of margin expansion? What are you guys spending the most time working on? And maybe if you look across your businesses, where you see the most potential?

Well, maybe I'll start in terms of just a look across the business. So back in our Investor Day, early part of 2021, we kind of characterized the margin opportunity for each one of our segments. So Enclosures being our largest segment, we said over the medium to longer term, we could see those margins reaching into those high teens. That's some place where that business has been before. And I think the margin improvement here in Q3 again, begins to put them on a good track, managing that price/cost equation and getting to that improved productivity over time. From an Electrical & Fastening Solutions business, we said high 20s. They've made great progress over the last couple of years in terms of driving and delivering on that margin expansion. And then from a Thermal Management perspective, we said mid-20s. And again, they, with the execution from the industrial MRO and the margin benefit that, that brings within that overall product portfolio, we believe there -- with that continued recovery, there can still be margin expansion. So I would just say, overall, we still believe that there's margin expansion potential here at nVent. And we're really focused on driving lean within the factories. And even outside of the 4 walls, we talk a lot about it, even within finance around seeing waste and driving that productivity. Digital and automation, you talked about that a little bit, but we think bringing more and more digital capabilities and less manual touches across the broader value chained at nVent, that's going to drive more productivity and more margins. Yes. And those are probably the big key areas, the digital and automation as well as bringing more and more lean. I think the last thing I would say is just the new products. One of the things that we've talked about is as we look at our scorecard on new products, it's all about vitality, the new revenue contribution, the velocity. So we look at tach time to bring new products to market, but we also look at new product margins. And that's important for us from the standpoint of we want to bring new products to market that are being strongly valued by our customers. So we do see over time those new products being part of the margin accretion and margin expansion opportunities for nVent.

Okay. Okay. Got it. Last topic, M&A. So how would you characterize the M&A pipeline currently and your appetite for making acquisitions?

Yes. So we've always said that we at nVent, we're a $2.5 billion company in a $60 billion space, and it's very fragmented. And I think the last 4 acquisitions that we did gives you a good feel for the type of acquisitions in terms of within this electrification of everything space and tightly aligned to our strategy as well as the financial targets and threshold. We've been very disciplined within that capital allocation strategy. So we continue to see a robust opportunity of M&A targets. I think timing is always the element that you can't control. And so we continue to execute on that robust list and making sure that we're actively looking across the overall portfolio and working that M&A pipeline, if you will.

Okay. Any major areas of focus that you would highlight?

Yes, we've always said in this electrification of everything. And so the segments that are going to most benefit from that really is in Enclosures and Electrical & Fastening Solutions. So we continue to look in areas of these high-growth verticals, whether that be in data solutions, renewables, power utilities as well as those areas where we can add to our new product portfolio or extend our portfolio into new products that are sort of adjacency to the spaces that we serve today and importantly, take that through channel. That's really been a benefit for us really executing on the commercial synergies of these businesses where we're adding great new innovative products to our existing portfolio and then able to take that through channel and offer that as an expanded offering to our customers.

Okay. Makes a lot of sense. I think we'll go ahead and wrap up there. We're almost out of time. Sara and Tony, thank you so much for being here.

Thank you, Nicole. I appreciate it.