nVent Electric plc (NVT) Earnings Call Transcript & Summary

[Audio Gap] Very much, everyone, for being here. Next up, it's my pleasure to have nVent, Beth Wozniak, CEO; and also Tony in Investor Relations that many of you know. So we'll start with Beth giving a few minutes of prepared remarks. So thank you very much.

All right. Thank you. So just a few things that I wanted to share. As we think about nVent, we're excited. We're coming up to our 5-year anniversary as a public company. And if I look at the last year and the last 2 years, I think they've just really shown how we've changed the growth trajectory. So we're now a $2.9 billion company. We grew 20% organic last year. That's on top of 18% organic growth the year before. Good margin, margin expansion in an inflationary year, earnings per share up 22%. That was on top of 31% a year before. I don't know if I can always say that, so I wanted to take that opportunity. And I'm really happy with where we got to our cash flow conversion in a challenging year. It was up 5%, but 87% cash flow conversion. Maybe the only other thing that I'll talk about here as you look at our portfolio mix, if I draw your attention into that center box, infrastructure, where we see a lot of electrical investments, that used to be low teens in our portfolio. It's now 25%. And we've really repositioned our portfolio through acquisitions to grow there. Our strategy, since we've had from our spin was to -- how do we focus on these high-growth verticals where there's great secular trends. That's really been working for us. We talk about data solutions, which was less than $100 million when we spun at [ $375 million ] now grew 30% organically last year. We've got some great liquid cooling differentiation. New products, another great story in our strategy, 3 points of growth from new products last year, 20% vitality 30% reduction in cycle time. So I'm just giving examples that we've really worked hard on the elements of this strategy, and it's what's driving the success that we're seeing. And then lastly, we've done 4 acquisitions since we became a new public company. We start with how do we get a great product that is aimed at one of these high-growth verticals that we can scale. So the 4 acquisitions that we've done last year organically, collectively, grew 30% versus our core 20%. So outgrew -- and that's working really well for us achieving faster our deal metrics than our plan. So just good progress by the nVent team, and we're excited for our future because the world is electrified. So on March 7, an advertisement, we have our Investor Day in New York. So please contact Tony, or you can join us virtually if you want. We're going to talk about the next phase of our growth, building a more sustainable and electrified world. We've talked a lot about the electrification of everything. We think sustainability, digitalization are also important. We're an electrical company. And I always say this, our products are essential as we electrify things. You need enclosures. You need grounding. You need bonding. They're core in almost all those verticals. Lots of money being spent into electrification, so we will benefit from that. And we have really great value proposition. So whether it's our liquid cooling that will save 30% -- up to 30% in terms of energy efficiency in a data center or whether it's some of our power connections that reduce the installation time and provide higher reliability, and we ourselves are ensuring that we're making our products and are operating in a sustainable way. So in closing, I think we had another great year in 2022 on top of '21. We think 2023 is going to be a strong year for us in terms of growth, and we're really well positioned with some of these mega trends going forward. So our future is bright.

Thank you very much, Beth, for that. Maybe just starting off in the very sort of short term. It's been an uneven start to the year, I guess, for several companies, maybe just sort of seasonality playing a role in there. How have you found the start to the year? Any change in the business environment, maybe just to open up?

Yes. I think as we said on our earnings call, we normally is a business that has a lot that goes through distribution. We expected in our Q3 earnings call, but Q4, we'd start to see some of that regular destocking through distribution partners, and we did. But what we saw was that the sell-through was still very strong. So as we got into January, orders picked back up, and we saw some nice growth.

That's helpful. And as you think about those inventory levels at distributor partners, for example, what's the comfort level with those? They're probably higher than normal perhaps, but demand has been higher than normal. So how do you think about the right balance there?

I think we're at an okay level. And I would say, over the last couple of years with all the supply chain challenges, what we were seeing is distributors placing longer orders on us, right, where normally, most of our business is short cycle. So our backlogs are higher than they've ever been, and we're not really a backlog business. But I think the inventory is okay given the demand that we see in the sell-through.

And when you look at your guidance for the year that you just gave, you have a slightly stronger first half, more moderate second half. Any kind of major assumptions within that? Is it purely a function of comps or some conservatism? How do you characterize very high level the way you thought about that guidance?

Yes. So when I mentioned we're not really a backlog business. We've got some strong backlog, especially our Enclosures business that we look to our orders and backlog, and that gives us confidence in the first half. And at the time we set guidance, which was just a couple of weeks ago, but still a lot of uncertainty as to what's going to happen in the macro in the back half of the year. So that's part of it. And the other thing we look at is just the comps and how some of even our pricing layered in when we look at the year-over-year. So it's all those factors.

And on pricing, you had, I think, 14 points of price last year. You had an amazing number. How do you think about the ability to kind of keep that positive? Clearly, first half, it should be good as you just highlighted. Second half, comps are a lot tougher on pricing. Do you feel that your competitors are behaving in a disciplined way? Are you starting to get any kind of second-guessing from OEM or distributor customers around price pushback?

Well, I think a couple of important points to make is when you look at -- let's just take raw materials. They represent of our total cost only 20%. So when you look at what's inflated, labor, right? So when you look at all of our labor across our companies, services, energy, so from that standpoint, we've said it's going to be an inflationary year because even though you start to see commodity, metals start to come down, everything else is inflated and that, that actually represents more of our cost structure. So that's one point. Second, we know our distribution partners. They certainly like us to retain pricing because of the value of their inventory. And -- but I think we're -- our customers certainly understand the complete inflationary environment. So I think we feel good about the price that we're going to be able to manage this year. We've certainly shown that if there's any additional inflationary pressures that we're able to raise prices as appropriate, we've done that in the last 2 years.

And on that point on inflation and cost, as you said, raw materials, people can look at the spot rates and extrapolate out. Overall, the way you characterize kind of cost in your earnings material, are you assuming it's a headwind year-on-year even in sort of the year-end, the fourth quarter? Or do you think it flips to a tailwind at some point as you look today?

Well, I think with raw materials, we probably see -- and remember, we talked about this. We always have a locking strategy. So on the upside, we lock in a couple of quarters in advance, take certain positions. So we always defer inflation on the way up, and then we're always a little bit slower to see that spread on the way down. So I mean, I certainly think we're going to have some benefit there but -- on the material side. But labor inflation and just labor shortages, I think that's here to stay.

And if we think about sort of volume growth for the 2 electrical-focused divisions, Enclosures, on the one hand; Electrical & Fastening on the other. I think Enclosures growth has been substantially higher than EFS. Help us understand sort of why that's the case? And is that something that you'd expect to hold kind of in the future as well? Maybe help us understand kind of some of the different drivers across those 2 segments.

Yes. I think 1 of the key things I would say about our Enclosures business is of the 4 acquisitions we did, 3 were in Enclosures. And I talked about acquisitions growth rate outperforming, right? So that certainly has helped Enclosures. The other thing I would say is that we have really positioned ourselves strongly in data centers, and that's more towards our Enclosures business than it is to EFS. And with 30% growth rate last year in Enclosures, again, that's really -- we're just -- we've got a strong positioning there. Now I think with EFS, as we go forward, when you think about some of the products that we have in grounding, bonding, surge protection, they're all essential and they play across multiple infrastructure verticals. So we think all of the investment that is going into electrification is going to benefit that business as we go forward.

And so as we think about sort of Inflation Reduction Act and those types of measures, what -- it sounds like EFS may get maybe a higher benefit perhaps of Enclosures or certainly at least equivalent. When do you think you might start to see some of that come through into orders?

So with 2 things. I think with the -- First, with the Infrastructure Bill, and as nVent, part of the NEMA companies, where all the other electricals are, we track that at an industry level. And I think -- while we can see where the funding is allocated towards what buckets it has to flow to the states, and then they have to then determine the projects, that's just going to take time. So maybe something in the back half of the year, but I think we're going to see this as a multiyear effort. And even just the labor that contractors have to apply to these types of projects, it's going to take time. But that's great because we're going to see that multiyear benefit. With the Inflation Reduction Act, some of that -- where it's more targeted to consumer spend in areas like solar or electric vehicles. We will benefit there because we have enclosures that are in residential solar. Some of our products in both Enclosures and EFS are in EV chargers. We have components that go in there. So I think we'll see some of that over the course of the year. It's a little bit harder for us because we're not directly -- it's through our distribution channels. We're going to benefit from both. That's the good news. And I think the good news is that these are also multiyear -- multiple years that we're going to see the -- these incentives to really drive electrification and infrastructure investment.

And in the data center and networking market, you've made sort of big inroads on share. Maybe help explain sort of like how much of -- I think liquid cooling is something very specific that's driving above average growth. And if we see the data center CapEx slowing, you may be somewhat protected from that. What's the sort of -- how to think about the penetration opportunity for liquid cooling, the TAM, just to help us sort of think about outgrowth, if you like, relative to overall broad data center spend?

I think there's a couple of ways to think about liquid cooling. First is that liquid cooling, we think, is less than -- represents less than 5% of the cooling out there for data centers. And it can provide up to 30% energy efficiency savings because if you think about data centers have traditionally been cooled, it's just air being -- just air conditioning through a data center. Liquid cooling can be very targeted. So if you have a hot spot in a server, if you have a hot spot in a rack, you're able to cool in a more efficient manner right at the source. That's how you get those energy savings. So there's a benefit there. But the second thing is that you look at -- and there are some big announcements over the last couple of weeks about artificial intelligence, the chips that are driving those capabilities are very powerful and very hot. And the future is the next-generation set of chips, and we know this because we work with these -- some of these -- with big hyperscalers and what they're thinking on in their technology road map, you cannot operate some of these chips in the future at ambient temperatures. You have to have liquid cooling. So our view is this is going to grow at 3x the rate that we would see data center growth, cooling, huge penetration opportunity, and it's not going to stop at data centers because we're going to have this opportunity. As these types of smart, powerful chips are being used in edge devices and elsewhere, they're going to need to have some liquid cooling capability.

And how do you think about your kind of competitive position there? Like are there traditional AC providers who may try to do it. You used to have the sort of precision cooling first-generation people, old Emerson Network Power, for example, or Schneider did some of that? Like how do we think about nVent versus those?

I think we feel we've got a good leadership position. We started, by the way -- when you think about what we do with Enclosures, it gets hot in there. And so we started in some liquid cooling capabilities even before data centers. And that really is what led us into data centers because you -- think about, I always say water and electricity together, that's very risky, right? That you have to have proven capable products that are fully tested, there's a lot to the certification, and we've been working on this for while. And we've also partnered because there's a lot of different start-up companies involved in different aspects of the cooling continuum. So we think we've got a good position. We're working with very large technology leaders in the data center space when it comes to this partnering with us. And I think it's an area we're going to continue to invest in we're seeing tremendous growth, and we're going to both organically and inorganically grow our capability.

And then on Enclosures, I think sometimes investors struggle to understand the sort of the value proposition if you know -- think about a steel box and this kind of thing. So maybe flesh out a little bit the competitive differentiation of nVent and, obviously, what the enclosure in general, like why does find that valuable, and we see that in the growth rates. We see it in the good margins for suppliers like yourself.

So thank you. I love that question because I love to answer it. So think about this, everything that is electrifying any electronics has to have an enclosure, shock, safety, protection of the asset, protection for people. It could be operating outside. It can be operating in food and beverage, where you have to be hygienic and can't have any ingress of any moisture. We can meet all of those specifications. Enclosures are highly specified. And if you think about an enclosure, maybe it's $500, maybe it's $1,000, maybe it's more, we have some that are tens of thousands. They're protecting tens of thousands of dollars of electronics, automation controls that are running millions of dollars of output. So that value equation of we're a low cost under the bill of material providing protection is so critical, that and that we are so versatile and our ability to -- you can go online and you can configure an enclosure, we kind of help you design it. We can meet any specification. We have over 5,000 distribution points in North America. It's just that ability for us to serve the customer and solve any problem and provide that level of protection and some level of customization, if you want it. We're just going to see more and more enclosures everywhere. And that, combined with our ability to provide that cooling as electronics get hotter and hotter, I think, is important for electrical resiliency as we go forward.

And I know that, geographically, there's been a push the last 5 years to get more out of North America. Enclosures are very much been a part of that organic and inorganic investments. Where are we on that kind of market share effort at Enclosures beyond North America and maybe nVent overall?

Yes. Well, our first acquisition we did was Eldon, which was a IEC portfolio of enclosures in Europe and really the #2 player. Great portfolio. They didn't have all the access to distribution that we always say that's one of our strengths, is to get great products and scale them through distribution. We were able to take that portfolio and launch it into North America as well as Asia. So I would say, with Enclosures, we've made significant progress in terms of growing in Europe. I'd say we've made some progress in Asia, although it's been tough, when it was COVID, it's been very tough in Asia. When I look across the entire nVent portfolio, our growth in Europe last year was double digits. And we put effort on localizing products, stronger sales and marketing organizations and growing through distribution. And the other thing I would air with you in our efforts is over the last couple of years, particularly Enclosures, we've made more investments in manufacturing capability. So we just, a couple of weeks ago, opened a new plant in Thailand, for example and, over the last couple of years, expanded in China as well as we're going to do some further expansion in Mexico because we just need that capacity. And we've got -- with Eldon, we acquired a great plant in Romania. We have some operations in Poland. So part of this for us is also do we have the manufacturing footprint that we can really -- what we like to do is have strong regional supply chains because that served us well to be able to have great availability and drive our growth.

And when you think about the electrical equipment market, you had a round of consolidation to over a decade ago with a couple of largest U.S. assets being bought. A lot of the large incumbents tend to offer a suite of electrical product of varying voltages. You're more of a focused player. I suppose, how have you seen that play out competitively? Do you see any difference in that sort of best of breed versus one-stop shop approach? Does one resonate more or less with the average customer today than 10 or 15 years ago? Or it's pretty steady?

No. I think, as a company, you have to choose to know where you want to compete and where you can have strong value propositions. And so in the categories where we play, we think we have very strong leadership positions, typically #1 in those areas. And the fact of the matter is that when someone is building electrical solutions, they're often putting together lots of different components, whether it's low, medium voltage, whether it's power, whether it's the enclosure, whether it's the -- so distributors serve a very big role or integrators do in bringing a collection of products together. And sometimes, you see other companies just focusing on maybe the software or the system solution. So I believe there's a role to play. I believe what this has allowed us to do is innovate in our space and scale it. And I think our acquisitions are a point of we found great products that really fit what we do and then just the strength that we have to drive innovation and to scale that and be great at delivery and customer service -- I look at our growth rates, and I think our strategy has been working well for us.

Yes, that's a very fair point. I mean when you look at -- you don't have to do M&A because the core growth, I think, speaks for itself. But are there -- you've been public just under 5 years. It seems to have been a lot of improvements made to the business growth and margin wise. Does that give you the appetite to say, okay, we can move into some adjacent areas now that the base seems settled and smoothly running? Or you think that there's big enough TAM in these 3 segments we don't need to start opening up?

Here's how we think about it. It always starts with our strategy. Can we grow with the secular trends around protection and connection? And then we look for great product portfolios. And I really think the 4 acquisitions we did were great examples of great product portfolios we just didn't have the ability to scale. In one case, we acquired power distribution units. That really was a product that was new to us, but it was an extension of what we were doing in the data center space. And so -- and it has been extremely successful for us. So we're very intentional. We're looking at high-growth verticals. We're looking at great portfolios that really expand what we do and where we think we can have a good competitive position.

How about -- so from a horizontal standpoint, there are areas you're starting to move into. How about thinking sort of vertically? You mentioned some people maybe focused more on the software side of things versus their hardware heritage in electrical equipment. What's your perspective on that? Most share gain there would involve inorganic means, presumably, which carries a different sort of valuation and so forth. How appealing is that as an area to sort of acquire into?

Well, I think -- we think about it this way, that anything that we acquire, we want it to be an extension of what we do. And one thing I would say is that when you look at some of our products, you might think there's no software in those products. True. But many of them, some have embedded software. Some are enabled by software. We look at -- everything has to be digital, whether it's configurators, right? In terms of just the capabilities associated with your product. And I think we just naturally think as we look at where do we extend services or capabilities to customers, I think there's opportunities there. We're going to tend to be more of a product-oriented company. But if things are enabled by software, certainly now have some services components to them with software, I think that would fit with who we are.

And then maybe almost lastly on margins before we go to the audience response survey. I think all 3 segments are kind of around the medium-term margin aspiration already. Yes, we'll hear more at the Investor Day surely. But when we think across the 3, where do you see the most sort of upside on margin? And my fault for not bringing up thermal management yet. Any update on the -- how satisfied you are with the sort of the shift away from projects? Do you feel that, that approach and portfolio within thermal is sort of what you want now?

Okay. I'll take thermal and I'll take the Enclosure comment -- margin comment second. I think with thermal management, over the last couple of years, we've worked to diversify that. It's a portfolio that had double-digit growth last year. So we were very pleased with that. Margins are kind of in that mid-20s. We've been working a lot on just mining our installed base and life cycle services. And I think as we see energy independent and we even see areas like clean fuels, LNG, decarbonization, there's a good role for our business to play there. So I think we had some very good strong performance there last year. And I think the areas that we want to focus on, we believe that there's good growth in front of us. When it comes to margin performance, we've said this before, our Enclosures portfolio is the one where we have the most opportunity. Over the last year, it certainly was the one segment that has the most impact and disruption from just supply chain challenges and inflation. Because if you think about -- we had labor challenges with our capacity, we -- if you just think about shipping enclosures, they're -- some of our fastening solutions are smaller. But enclosures, a lot of their, we had capacity constraints that we had to ship product from China to the rest of the world. We don't really like to do that. We like to be in region, for region, so lots of inefficiencies. And we've also invested. So I mentioned we expanded in Thailand and other factories. We're putting a lot of investment for liquid cooling and all of that into our Enclosures business. So you'll hear about this next week. But as we think -- or 2 weeks from now. As we think about our Enclosures business, we have runway there for margin improvement. The other segments, we think thermal can be in the mid-20s, so there's opportunity there. Even EFS has some opportunity. But I mean, they've just continually been increasing at that 29% margin level, so not as much expansion opportunity. But everything can always get better.

Yes. Great. Well, let's please switch to the audience response survey. You have the gray boxes. So the first question, do you currently own nVent? So 3/4, no. Normally, that ratio is sort of 60-odd-percent. Next is about general bias to the stock right now. So a lot of positive sort of sentiment but not much action to date. Thirdly, through cycle earnings growth for nVent, and again, the peer set here is broad U.S. industrials or multi-industry, if you like. So above average growth expected. The next one is around capital deployment. We touched on that a little bit on M&A ambitions. Almost all bolt-on M&A and internals. Next, it's around valuation. What target PE should nVent trade at? Sort of through cycle, I guess the best way to think about this one. So generally mid- to high teens. Next is around sort of why is it mid to high teens, why not 25x where some of the peers are or what have you. What's the one drawback or concern for people? Yes. The core growth, 20% is not bad. But next is -- or last is ESG and a new question this year. I got told off by someone earlier for sort of discussing other answers. So I'll say quiet for now. But in general, it's been about 25% to 30% have answered for number 1. So 60% is clearly very different from the average. So with that, thank you so much, Beth, an also Tony.

Thank you.

Thank you.