Pentair plc (PNR) Earnings Call Transcript & Summary

Great. Well, thanks very much, everyone, for being here. It's my pleasure to have up next Pentair, Bob Fishman, CFO; and also Jerome Pedretti, CEO of the Pool division, which is around half the company. So thanks very much for being here, both of you.

Maybe just kind of start off with a broad characterization of the demand environment, both Jerome, on the pool side and what you're seeing in flow and water as well, please?

Yes. We are -- first of all, thank you, everybody, for attending today. We're pleased to be able to return to growth after a couple of years of staying relatively flattish on the top line, even though we've had significant ROS expansion over the last couple of years. From a growth perspective, you can think of Pentair as being 3 segments within the business. So we like to think we move, improve and enjoy water for our customers. So think of Pentair as being one of the largest pure-play water companies. From a growth perspective, roughly 50% of the company is residential, and that is facing some continued headwinds. Commercial continues to do well overall. So from a growth perspective, and I'll let Jerome speak to that, the pool business, the enjoy part of our portfolio continues to do well [indiscernible]. Flow business, we guided that business to be up slightly. That's three components within the Flow business. So we've got a residential piece. We've got a commercial piece in industrial overall. So we think the residential piece within Flow will be roughly flat. We see the commercial piece as being up low single digits and industrial will be down this year as customers push out some of their CapEx spending. Within Water Solutions, you think about roughly 1/3 of that business is residential. We expect that business to be roughly low single digits down this year. But the commercial business continues to do well. So that's a business we're projecting will be up low single digits overall for the year. Jerome from a Pool perspective?

[indiscernible] on the Pool side, we guided to be up 4% to 5%. A couple of points of that one is the small acquisition we've done back in December. The rest is split between price and volume growth. And so on the volume growth, what you see in Pool, we characterize that as 20% being new Pool, 20% remodel, the rest being aftermarket. And we see the new Pool really being at a low point, right? I mean, around 60,000 Pool for the year. Pre-pandemic, we were kind of 80,000 and [indiscernible] -- my mic is not working. So what did I lose you? Do I start again? Maybe.

No, no, new Pool is sort of bottoming out.

Yes. New pool is bottoming out around 60,000. Pre-pandemic, it was about 80,000. So we see that from that very low base, we could grow maybe low single digits in 2025 and accelerate after that. Remodel being kind of the same dynamic. And then the aftermarket is always the most resilient part. So it's always growing very slightly just because of the installed base that there was during the COVID time and the pandemic times.

Yes. And pool for us, it's our most profitable business with a return on sales of 33% [Technical Difficulty] it's a nice mix play for us.

When thinking about the sort of guidance framework for 2025, how much of an improvement in that consumer discretionary environment are you sort of building in later in the year or assumed tailwind from interest rate reductions, anything around that?

Well, certainly, on the residential water and the residential flow, we're being very cautious in terms of our guidance. So the growth in the back half of the year really comes from the compares. Compares are much easier. If you think of our resi flow business, 2 years ago, that business was down 4%, down 11% last year. So again, we're not expecting that the 10-year rates significantly improve from 4.5%. We are expecting, though, that people start to learn to live in this higher rate environment. So what's good for our resi water and our resi flow is when people move homes, they buy new homes, that's good for that business. So some of that will come back, but it's primarily the easy comparisons in the back half of the year.

I think on the Pool side, you have to think that, for example, I was talking about the 60,000 new pools. On the remodel side, the average age of the pool in the U.S. is about 20 years. The peak pool building was 2005. So I think that some of that, you can -- on the discretionary side, you can push out a little bit 1 year, 2 years, but I think that people are going to be really needing to remodel their pool, which is something you have to do if you need. So the interest higher for longer can play until a certain point.

Got it. And within pool, the last couple of years, there's been some discrepancies of sell-in versus sell-out, channel inventories moving around. Sort of where do we stand on that front today?

I think on the pool side, we see inventories being really back to historical levels. So that was that dynamic of selling not being sellout was more 2023. I think 2024 kind of was really the year where things went back to normal. We've seen a normal kind of early buy from our customers, we ship those between Q4 and Q1. And we do monitor inventory with our customers quite closely. So I feel good about the level of inventory they have right now.

And when you think about the sort of price or mix side of the top line, whether for pool or total Pentair, how is that playing out? I think people have worried about for 2 years now sort of mixing down, let's say, in residential where consumers because of high inflation, they maybe choose a lower-end product depending on the industry. Kind of what's been your experience of that? How do you see consumer preferences changing?

Yes. So we -- there is some of that sometimes, but I think that if you look at the experience that our pad offers, especially if you have some automation, I think that people stay usually with the Pentair products because with automation, the Pentair experience is going to be so much better. So I don't think we've seen, to be honest, a lot of that maybe on the fringes. But with our main product, I think it's -- we're keeping a pretty good share. With also you have opportunity with innovation to mix up. And that's what we are doing in 2025, launching a new light, which are infinite colors, dimming possibilities, multiple zones, so not just the Pool, but outside of the Pool, a new chlorinator because water quality is always important for the customer. So we continue to innovate also to be able to mix up, and we're going to continue to do that going forward.

Yes. We're fortunate at Pentair to have a large installed base, whether it's on the pool side or our other businesses that drives a lot of the recurring revenue that provides a lot of stability for us. I would say, in terms of overall price versus inflation, we've done a pretty good job. Our price is sticky because roughly 75% of our revenue goes through distribution. And so we expect price to play out maybe about 1.5% to 2% this year and to roughly offset inflation.

And the inflation environment, I mean, we'll see, of course, there's a ton of caveats attached. But for now, whatever you want to call it, steady state, inflation sort of fairly similar this year to last year. Is that the broader?

That's how we view it. It's interesting in this world [Technical Difficulty] we guided right after there was a lot of discussion around Canada and Mexico at 25%. Fortunate to us, that's been pushed out 30 days. But the guidance that we gave for the earnings per share included the impact of the tariffs. So through the inventory position that we have, through the pre-buys or the early buys that we're doing around our material as well as the pricing power, our view is that we can offset the tariffs that are coming our way, whether it's the tariff on China, the tariff on Mexico and Canada and even the tariff that was recently announced and put in place for steel and aluminum and its adjacent commodities. So we feel good from an earnings per share perspective that we can use our 3 levers to offset those tariffs.

And just a finer point on that, Bob, as I know it got a lot of attention sort of on the earnings day and subsequently. So yes, when we look at, say, the price assumption in your guide, that includes an offset for China tariffs at 10%. But I think it does not yet include Mexico and Canada price offsets. Is that fair? And then the point would be, even if you do have those tariffs at 25% come in, you have the offsets, so the EPS range is still intact.

That's exactly right. It includes the China, but does not include in the walk that we gave for price and inflation [Technical Difficulty] or the impact of the steel and the aluminum. So you can think about price going up to give us a couple of points of growth offset by inflation.

Perfect. And when we look maybe away from the Pool segment for a second on short-term demand, I think Water Solutions, people are sort of wary. We had very strong growth for 2 years in Manitowoc Ice, some natural decline of very tough comps in the last 12 months. Kind of what's the confidence that's enough. You don't have another decent down year for that business because of the previously high growth?

Yes. So within the Commercial Water business, which is us selling Ice as well as filtration to quick service restaurants, coffee houses, that's 2/3 of the Water Solutions business. The Ice piece of that had 2 years of 20% growth and then was down last year. They have a tough compare in the first quarter this year as China rolled out and they rolled out a bigger backlog, but that business will then grow mid-single digits this year for the balance of the year. So we feel good that the Ice business gets back on track. The filtration business with our Everpure cartridges has been growing nicely. They also capture the synergies associated with the Ice business. So it's us going to the distributors and then carrying the Everpure filtration in addition to the Manitowoc Ice. So we feel really good about the Commercial Water business going forward.

And that growth improvement in that sort of commercial side to mid-single digits, that's a function of sort of easier comps. Is there anything else you're seeing in, I don't know, backlog or customer conversations that gives confidence in that?

Yes. We just feel like the overall -- the food services will be up slightly versus 2024. So when we look at the industry reports as well as the reporting coming out of some of the quick service restaurants, we feel like it will be a better market. But to your point, Julian, it will be easier compares that we bump up against. The nice thing is we'll benefit from the mix there because those two businesses are right behind Jeromes in terms of the most profitable for the company, the filtration business within Water Solutions as well as the Ice business.

Industrial was tough last year, assumed to be difficult again the year ahead. Should we think about that as just a function of kind of broader industrial production and PMIs in terms of thinking about when should that business start to recover, the industrial side of flow?

Yes. For the overall flow business, which is roughly $1.5 billion, we've guided that to be up slightly. The resi flow business, again, has faced 2 years of challenges associated with interest rates. That business will be roughly flat. The commercial water, which is the other 1/3 of that business, commercial flow has been doing extremely well. So we lead with the fire suppression pumps, but then we also have the ability to sell the blue pumps as well, the water supply and water disposal for commercial buildings. And as we drive that, we get the replacement sales as well. So that business is doing really well. The other 1/3 of the business that you're referring to, the Industrial Solutions, we've seen some CapEx pushouts as some of the larger beer companies, for example, and dairy companies have moved some of that backlog to the right. We think that will recover. We're being cautiously optimistic, guiding that to be down slightly for the year, but we could be surprised on the upside as they need our equipment to drive the production.

Great. And when we think about the target for 2026 that you laid out at an Investor Day recently, you raised the margin target recently. The sales target came down a little bit. And I think sort of within Pool, but also broader Pentair, I think investors often wonder the link there. Are you -- because of 80/20, are you giving up a lot of revenue to push the margin up? Or is the top line guide solely softer because of the macro environment and interest rates? Maybe help us understand the linkage there of the margin to the...?

Yes. So I'll start with transformation. It's a really important part of our story. So overall, Pentair has seen 500 basis points of ROS improvement over the last 2 years. We've guided to a midpoint of another 125 basis points of ROS expansion. And then we've said we can go from that 24.75% up to 26% in '26. So really pleased that the transformation program across sourcing, the operational footprint and the org excellence is reading out really nicely, and we think that's a sustainable runway for us over the next 3 to 5 years. We brought in 80/20 last year. That's an enabler to the transformation, but we really view 80/20 as being a net growth play. Yes, there's 4% sitting in our lowest value products and customers. We expect that will be about a 2-point haircut, one point that we took in 2024 and one point in 2025, but we will more than make up for that by overserving our customers in Quad 1. So differentiating the investment, continuing to drive improved metrics for those customers. So we'll be talking more about a net [Technical Difficulty] 80-20, which is really important to us. Jerome, you might want to share a little bit what's happening within Pool?

Yes. So what we're doing in pool, yes, we talk a lot about Quad 4, but we take those smaller customers and redirect them to distribution, we direct them to our top customers. So the discussion with the top customers is that, hey, we're focusing on you, we're focusing on your growth. We're working really hard to over serve you. We have the metrics which are customer-specific about how we serve them on-time delivery, past dues and others. We do that for our distributors. We do that also for our dealers, but we also overserve the biggest one. When you ring us, we will answer the phone even faster, where we'll be there for you, we'll train you better, et cetera, et cetera. So a lot of focus on growing our top customers. And that's why I think it's really a growth opportunity for us doing that with our best products as well, where we're going to continue to innovate on where we are strong. So it's really focusing on our strength rather than having your weaknesses being detrimental to you.

So that Julian, should all read out in higher volume, higher price, some transformation savings, but the focus really is on that volume.

And say, in the pool business, the effort to focus more on that Quad 1 if someone were to ask your main distributors, okay, have you noticed a difference in Pentair today versus 18 months ago, would they be able to say, yes, or it's more a work in progress, give it a year or 2?

I think it's continuous work in progress. We're going to try to improve. But I'd love to have Pool Corp or heritage or our top customers say, yes. We're seeing that Pentair is serving us better. And because Pentair is serving us better, we have more confidence and a better partnership. And we're seeing the discussion we're having with them is much better at the top level and also at the regional level. So I think we're making some inroads.

Yes. It's an opportunity for us to sit down with our largest distributors and say, here are your metrics. This is how we're improving. And it's a great conversation to have to show why we are a valued partner.

And within Pool, Jerome, how are you thinking about kind of market share right now? Are you seeing a lift from these efforts? How are you thinking about tariffs affecting the competitive landscape, if at all?

Yes. So let me take the share question first. I think on that one, we continue to work and to deploy our playbook, which is to be closer to the dealer, not just distributor, but to the dealer because the dealer is very important for us. The dealers are the ones who decide how much equipment goes on a pad and what kind of brand. So they spend a lot of time with them. Our sales force spends a lot of time with them with the dealer. So we do that because we want those dealers to be buying Pentair and to pull from distribution. That playbook, I think, has served us well in the past years where we see some growth and some differentiated growth versus our competitors. So we're going to continue to do this. On the tariff side, I think that I don't think it's going to be a big differentiator between us and our main competitors. I think we'll have a playbook, which is not that different from each other.

And on the sort of margin expansion, you mentioned there's a lot coming in the next 2 years across the company. How should we think about that stacking up across the 3 segments? I mean, Jerome's business is already at a very high level, but I assume that doesn't mean he can sort of sit back by the Pool and let margins stagnate. So how do we think about that?

Yes. We think -- what we haven't had in the last 3 years is any type of volume leverage. And I think we're at an inflection point with Pentair now where we're starting to see that volume pick up. So -- that should be helpful in terms of the ROS expansion. But we continue to be in the early innings from a sourcing perspective, from an operational footprint and from an org excellence perspective. We're looking at our $1.5 billion of material spend. We're on Wave 2. We're moving to Wave 3, and then we'll start the process all over again. On the operations piece, we've set targets for labor and overhead for each of our factories. We know we have too many factories today. We have an opportunity to continue to rightsize that, bring automation to our factories [indiscernible] a lean to look at our distribution as an example. So huge opportunity there. We've also set targets for our G&A, and we have an opportunity within G&A. We've broken the G&A spend between what is the business unit spend, how does the shared services get allocated? And then what's the corporate spend, and we're after approximately 50 basis points of improvement there. In addition, we're looking at our R&D and sales and marketing, not necessarily to spend less, but to make sure that we target that spend in the right customers using the 80/20 approach. So it is early to mid-innings from a transformation perspective, even though we've seen significant improvement over the last couple of years.

Got it. And the way to think about that early to mid means you get to the '26 goals should be good runway beyond that when you think about, say, reducing the plant count that can take many years, for example. And when you're sort of benchmarking and so on, your point would be the rest of the decade should see good margin expansion?

Yes. I look at the next 3 to 5 years and say we have sustainable runway for margin expansion because of the complexity that exists, the SKUs, the number of plants and utilizing 80/20 to focus on our top customers and our top products.

And on the broad portfolio, there's been a ton of review, I guess, of the various quads doing 80/20. Also leads to a discussion, I suppose, around the portfolio of the whole business. And when you think about some of the parts analysis and that type of thing, do you see much upside when thinking about kind of the valuation of each of the pieces stacked up today inside Pentair?

Yes. Again, we're a pure-play water company that helps our customers move, improve and enjoy water. We love the portfolio. When you think about across the segments, we're really strong in pumps. We're really strong in filtration and separation, and we're really strong in heating and cooling. And all 3 of those technologies cut across the 3 segments. We also have scale that if we were -- if we separated any one of the parts, we would not have that purchasing power. So we've worked hard to drive the segments the way we have it below that are the business units, below that are our general managers. We're able to provide P&Ls and accountability to all of those general managers. So we like the setup right now. It's all about execution and recovering that residential business and getting the top line growth. We shared at Investor Day that the Flow business should be growing low single digits, Water Solutions mid-single digits and Jerome's business in Pool, mid-single-digit plus. Once we can get back to that mid-single digit plus for Pentair, we'll really start to benefit from that.

And within Flow, you mentioned the low single-digit outlook, if you like. I guess, should investors expect at some point that could be raised whenever a lot of the 80/20 work has been done? Or would that require some portfolio action within Flow to pull the growth rate up towards the other 2 segments?

We think low single digits would be the right way to forecast that business. Commercial water, commercial flow continues to do better than that. Resi flow should do better than that when it bumps up against the easier compares. But we think low single digits in line with GDP is the right way to model that business. That story is all about ROS expansion. They have a good number of our manufacturing facilities. They have a lot of the SKUs. So if we can get low single digits plus that ROS improvement, that will really help us from a profitability and a free cash flow perspective.

And when we look at inorganic investment, the balance sheet is not particularly levered, but you've stayed away from, I suppose, larger M&A since the Man Ice transaction. Should investors expect more M&A this year? And is it sort of mostly that Water Solutions segment as the focus of that?

Yes, I would say bolt-on M&A fits nicely in our portfolio. We had levered up to 2.7x post the Manitowoc Ice. We've quickly delevered down to 1.5x. We're an investment-grade company, a dividend aristocrat. We've raised our dividend 49 years in a row. We just raised our dividend 9%. So we have a lot of optionality right now between doing more share repurchase, which we've done many years or doing bolt-on M&A. We just did a nice M&A transaction within Jerome's business, 30% ROS, 10x EBITDA that rounds out his portfolio. So if we can find more of those and either pool commercial water or commercial flow, that would be very good overall from a portfolio perspective.

Fantastic. And I think with that, we have to switch to audience response questions. So the first question for Pentair is around sort of current ownership of the stock.

So sort of 60-odd percent not owners yet.

The second question is around sort of general bias or attitude right now.

So sort of half neutral, the rest pretty balanced.

Third question is around kind of earnings growth for Pentair versus the multi-industry average.

So generally sort of in line to above.

Fourth question is around kind of uses of excess cash.

So almost all share buybacks.

Then the next question, I think, is around valuation, sort of where should Pentair trade on a PE near term?

So sort of around the market multiple slight discount.

And then the last question is around kind of why shouldn't it trade at a premium, let's say, to the market? What's the biggest hold up there?

Okay. So it's all around sort of core growth.

Interesting. So with that, thanks very much Bob and Jerome.

Thanks, Julian.

Thank you everyone.