Vontier Corporation (VNT) Earnings Call Transcript & Summary

Perfect. So I think we're live. So why don't we kick it off here and say good morning, and thanks for joining us. Very pleased to welcome the Vontier team to our industrial tech conference. With us -- with me on the stage, I've got CEO, Mark Morelli; and CFO, Dave Naemura. So, gents, thanks for joining us. Mark is going to kick off and set the table with some prepared remarks, roughly 5 minutes-or-so. But before we do that, just want to remind everyone logged in here to -- if you want to ask a question, feel free to punch it into the box in your browser or app, however you've logged in. If you dialed in by telephone, feel free to drop us an e-mail at coeteam@wolferesearch.com, and we'll try and get through those questions. So with that said, Mark, over to you for prepared remarks.

Yes. Thank you, Nigel. We really appreciate the opportunity to be here and talk about Vontier. If you go flip through our safe harbor statement, just as a reminder, it's there. And please take a look at it at your leisure. And by the way, our slides are also on vontier.com, through our Investor Relations website as well. So feel free to download them there. Let's go to Page 3. So if you can see that, we'll continue on here. Vontier is an industrial technology company with scale, with a portfolio of market-leading brands and technology solutions. And we have a large global installed base with low cyclicality. If you look at the split with our revenue, about 30% comes from retail fueling hardware. About 20% of our revenue comes from auto repair. We have -- about 1/4 of our revenue comes from both, a combination of SaaS as well as service revenue, and then the balance of the split of our revenue comes from about a split between Environmental Solutions as well as Retail Solutions as well. We have more minor contribution coming from e-mobility as well as smart cities. Our financials are really very strong. We have very strong margins and free cash flow, and all of our financials are, in fact, in line with top quartile or in line with premium industrial technology peers. We have an excellent balance sheet at the separation, it's investment-grade style, and we have strong cash flow generation. And this gives us an ability both to invest in the business as well as to accelerate our M&A. VBS, or Vontier Business System, is the foundation of how we get work done. It's really the basis for organic initiatives to enhance our growth profile as well as an ability to continue to expand already very strong margins. And we have a proven track record of portfolio transformation. Let's turn to the next slide, if you have access to it, Page 4. We have 2 major platforms: mobility technologies, and diagnostic and repair technologies for both of our platforms. And they represent a pretty strong $27 billion market TAM. And what's so relevant about this is that we have excellent positions in these markets, both for long-term growth as well as the opportunity to move up the technology stack. Keep it in mind that not only our market presence, but these businesses are driven in the market by strong regulation, such as safety security regulation, which you see going through our P&L -- driven our P&L, as well as clean, efficient and mobility solutions and infrastructure buildup. These are all things that will drive our business. And the [ edge ] of mobility will change more in the next 10 years than it will in the past 100. So we think that we're positioned very well in these markets. Let's talk just a minute about mobility technologies, this is what we call MT. This is our represented by our GVR business, or Gilbarco Veeder-Root; our GTT business, which is Global Traffic Technologies; and our Teletrac Navman business, which is in telematics. This is an attractive $20 billion market, growing at mid-single digits over the long term. And our installed base positions us well into these attractive market adjacencies. So you think of these near and adjacencies like e-mobility, smart cities as well as logistics and supply chain. Our diagnostics and repair platform, or DT, consists of our Matco and Hennessy businesses. And the things that drive this business is increasing miles driven, an aging car part and increasing complexity of repair. This also gives us the opportunity to leverage workflow solutions as well as diagnostics. Let's go to our next page, Page 5. This is something we call the value creation flywheel, and we are well positioned with a business model to create value through reinvesting strong cash flows to compound earnings through M&A. Our longer-term model is for GDP plus revenue growth. We're also combining this with a runway of improvement on margins. So we look at margin expansion of 25 to 50 basis points, and the separation from Fortive enables us to focus more on these 5 operating companies, and we think there's significant runway for profitable growth. We have a strong balance sheet at separation and its investment-grade style. This still gives us the opportunity to accelerate growth through M&A as well as compounding earnings. And you know it's represented here on this slide, if you have access to it, right at the center is VBS, the Vontier business system. And its roots are deeply embedded into DBS as well as FBS. And this is a heritage that few can claim, and it powers our business model. So we have a lot of pride in the culture that we've developed and how we carry this forward, it's a source of real value that the entire team believes in. If you go to my last chart, which is Page 6. In summary, Vontier's high-quality, low cyclicality industrial technology company serving a large and attractive market. VBS is the foundation of how we get work done and it enhances organic growth profile, gives us the ability to further expand already market-leading margins. And there's an excellent runway of improvement by refocusing and retrenching on these businesses, and we think this opportunity sets us well in the years to come. We have a capital deployment methodology that is really focused on strategic and financially disciplined M&A. And we have the experience and leadership to execute a transformational compounding strategy to unlock shareholder value. So, thanks for your interest. We're excited to mobilize the future to create a better world. So with that, Nigel, we'd love to answer questions. Both, Dave and I are here to answer questions.

Great. Well, thanks, Mark. That was a great introduction there. So we've got a couple of questions in the queue here, so keep those coming. I'll get the ball rolling, and then we'll work through it. But I'd be curious to start off, and you hinted on this in your prepared remarks, but you hinted out opportunities to further enhance the quality and the performance culture at Vontier. So I'd be pretty curious, as you came into Fortive and the Vontier, sort of what were your first impressions? Where were you impressed? But more importantly, where do you see opportunities to further improve?

Yes. So thank you for that question. One of the things that really kind of surprised me was sort of the depth that both have on a performance culture. Of course, I had a bit of a sense of that coming in. But the hard-working men and women really dedicated to this performance culture runs deep, where there's decades of experience around -- some of these companies originally came were part of the first acquisitions that Danaher did. And so many of them are steep in DBS. And so it was something that I found really energizing. Because I -- I grew up in a performance culture earlier in my career at United Technologies, but I've worked mostly trying to put these performance cultures in play. And to see -- to [ draft ] costs around that the drive of the employees was really outstanding. The second part of your question really is where were the opportunities. At the same time, I think the separation provides this focus on these 5 operating companies, and it really sets us up well, because there is a pretty significant runway of opportunities for these businesses. And when you really look at both the opportunity to go after some more simplification, the opportunity to drive better organic growth in some of the initiatives; to reframe policy deployment, particularly because of what's going on with COVID; and also to do better on innovation and product development; were certainly things that, while we're spend a good 5%, we could get better on the drop-through. So I think there are very legitimate runway for improvement here that hopefully, investors appreciate as well.

Absolutely. I think it would be good terms well to maybe talk about your prior experience at Columbus McKinnon and Brooks Automation, and sort of experience that you've had with those 2 organizations, which part of your prior experience do you think it's going to be most relevant going forward? It seems like you've had some M&A, some turnaround work, some margin improvements, certainly at Columbus McKinnon, but which one of those aspects do you think is going to be most relevant at Vontier?

Yes. So Let me just give you a little bit of color, at Columbus McKinnon, the real thing that drove value there was instituting a business system. Of course, folks look at Danaher business system copy that, so things like policy deployment. Also the opportunity to simplify that business and integrate that into more of a performance culture. As well as we -- the first month that I showed up there, we had done a major acquisition. So the integration of that acquisition, we had to pay down debt accordingly and generate strong free cash flows, and we were very successful at doing that. In fact, we doubled adjusted EBITDA in 3 years as well as ROIC. And the biggest issue with getting the alignment of a team all driving at same direction and very engaged, so I think those aspects of leadership and taking what we've got sort of to the next level and this runway of improvement is really relevant for what we're doing here at Vontier. At Brooks Automation, some different elements were at play there. Clearly, we had to put in place a performance culture, and that was part of my job was to reinvigorate that and put in place a business system. And then more importantly, we had to get strong organic growth out of the businesses and we did that. We really focused on the product development and innovation element of that, and what are the segments of the business that we could get some outsized growth into. And so we repositioned the portfolio accordingly. And then probably also very relevant here for Vontier is that we had to do a strategic portfolio of transformation at Brooks Automation, because we were leaders in semiconductor robotics and automation. But we have decided that -- and the Board was kind of tired of us riding the cycles, and that we had decided to pivot strongly into the life sciences sector through automation. And of course, there's -- that's a pretty long pipe, but we laid that up through doing M&A. We also had divested some businesses there through the portfolio transformation, we did a series of acquisitions. It was kind of tough because the valuations were a little bit tough for us at that time. But we really got the ball rolling with that. And I think you can see that value creation has played out quite well for Brooks Automation. I couldn't be more proud of the team there, and I'm also an invested shareholder, so I'm pretty happy with that as well. So I think there's some pretty relevant elements from my path that I think are quite relevant for what we're facing here with Vontier.

Great. And then maybe just on the course, as Both of you mentioned, Dave, you came from Gates, but you -- obviously, your background before that was with Danaher. So you're sort of back home, so to speak, so just it's worth mentioning that. And then just finally on this topic here, obviously, moving from a segment of Fortive to a stand-alone company, where are we in terms of putting up all of the structures necessary to be a public listed company, getting away from some of these transitional service agreements? And where are we on in terms of getting that Board fully up to speed?

I can talk about some of the standup -- separation activities here, Nigel, and then I'll pass it back to Mark to talk about the Board. But obviously, the separation got delayed somewhat as a result of the COVID environment, and it gave Mark and I an opportunity to spend more time running the businesses. But during that period of time, we also were standing up the headquarters functionality on the Vontier side. And so we really come through separation with very few TSAs of any a very -- meaning more just kind of the things that you have to have because it takes time, to tax-related items or other items in foreign jurisdictions. And so we really have minimal TSAs, and we've stood up a lot of the core functionality. Now we are still adding some roles, and I think you'll see our costs continue to kind of grow until we get to the level we've targeted, which will be in quite second half of 2021. But for the most part, the majority of the costs are on board. And that's also why in our supplemental financials, we've provided normalization adjustment so that people can see what that cost rate is -- we're building to, and I think we've stubbed that out there as well. As far as the Board, I'll defer to Mark here.

Yes. Let me make a couple of comments about the Board. We've got 5 directors: 4, including myself. Obviously, we're in the process of adding to that. But I couldn't be more pleased with our Board of Directors. We've got Karen Francis as our Chair. She comes from automotive industry historically, but also moved more into the auto tech side, that wealth of experience in Silicon Valley technology and growth. Many of you may know Martin Gafinowitz, he's been 28 years with Danaher. He's moving on to our Board of Directors, and he knows his businesses exceedingly well, because he's managed this portfolio of businesses for a long period of time. His depth on DBS, FBS and now VBS is pretty relevant for us as well as he has the history of portfolio transformation. Gloria Boyland joined our Board, and she was senior executive with FedEx. Started her career at General Electric, obviously knows logistics, supply chain-related issues as well as things related to freight. Which -- and she also led some of the Fleet of the Future or work at FedEx. And our Chair of our Audit Committee is Andy Miller. And he comes from not only an excellent CFO background, but also comes with technology space. He's audit chair at iRobot, who worked as a CFO at Cepheid and also as CFO of PTC. So he knows software businesses. So as we continue to build out the Board, we're looking at people that are really good with capital allocation, because we think one of the biggest issues that we're faced, and probably many significant company space is your effectiveness of being a really good capital allocator, I think is super important. Some portfolio transformation as well is pretty important for us as well. And obviously, we're moving more in the technology space as an industrial technology player. So folks that have those kind of backgrounds can be very helpful to the company as we move forward.

So you got 5 Board members today. What's the ideal number from your perspective?

Actually, if you look at what Fortive did when they separated from Danaher, they kind of moved to 7. And then they moved now from 7 to 9. I think kind of ideally, this is obviously a conversation that we're having with our Board. I wouldn't be surprised to see us add 2 more directors, more probably in the near to medium term. And then we'll obviously look for other directors as we see sort of the portfolio transform and the needs that the Board thinks that we want to bring on in terms of skill set. So we'll probably move from there.

Great. Thanks, Mark. Okay. I do want to touch on sort of what you're seeing out there from a trading perspective. We saw a pretty significant improvement from 2Q to 3Q, very consistent with what we saw with other companies, but your 4.5% organic growth was certainly at the upper end of the curve. You're looking for, I think, a mid-single-digit core growth in 4Q. I guess we're all trying to figure out how much of the good news in 3Q was probably a function of some push-out from 2Q to sort of catch up from there? Inventory restock and dynamics as well. So I'm just curious now as we go into 4Q, we're starting to see lockdowns hitting, especially in Europe but also across the U.S., kind of any perspective you can give us in terms of what you're seeing out there by geography or by business would be very helpful?

Yes. I'll take a couple of words on this, too, and I know Dave will -- can also weigh in. Look, we just came out of our earnings call recently, so we don't really have any new information to kind of update from the earnings call, but just kind of rerun some of the dynamics there. In Q2, we were obviously pretty impacted by COVID like many folks were. Going into Q3, we recovered probably more quickly than we thought in certain businesses, such as our diagnostic repair, DT businesses, like Matco, as an example, is a very strong V-shaped recovery, and return to mid-single-digit growth, as you said. So I think we worked super hard on trying to capitalize on the opportunities in front of us. We've dealt with a lot of supply chain-related issues. We dealt with customers access to do installations on the GVR side. Of course, U.S. EV has helped us also quite a bit, but we're impacted a lot by installations and some of the issues that people kind of around the world are dealing with related to COVID. And I would just say this, that the business that we have in the VBS sort of portfolio of how do we address that, I think, really kind of played through with some of our results, because we really [ port around ] daily KPI, how do we work from home, and I couldn't be more pleased and I'm thankful of the team's passion in a pretty difficult time with a lot of adversity, of course, standing the company up at the same time. A lot of work going on, as you can imagine. And so with that, Dave, do you have any comments?

No, I think that's great.

Good. So touched on EMV very quickly then. There's obviously a bit of a hot topic right now with investors trying to size that potential air pocket as we go into '21 and '22. I think you've previously said somewhere between $150 million to $200 million of potential headwinds in '21. Is that still the kind of range you're working with at this point?

Yes. Thanks, Nigel. We've brought that out as part of the spin and fundamentally reiterated, as part of our quarterly earnings. At the same time, we also talked about really the need to get through Q4, and actually kind of closer to the adoption deadline of April of '21. And the dynamic here is -- it's a lot easier to predict some of the larger customers, but when you get into the smaller customers, there's literally thousands and thousands of those that we have. And they are the ones that will adopt later and in some cases, after the EMV adoption deadline, so we think that there's a pretty long tail at the EMV that continues on past the deadline. But The fourth quarter will tell us some more behavior by some of the smaller customers as the average adopter size decreases. And it will also give us a feel for some of our customers' capital plans for next year. So I think, ultimately, the space everyone's going to be in and us, particularly, is going to be about starting to identify the shape of this tail. And how long it is, how much is next year or after. The $150 million to $200 million was our best shot at this point in time, and we don't have any update to that. We wouldn't anticipate that until we come back to you guys with the fourth quarter results at the earliest.

Okay. And of course, the EMV upgrade speaks to -- a fraction is probably not the right word, but it's certainly a subset of that business. Maybe talk about the fact that this business has traditionally been driven by regulatory upgrades. And of course, EMV is a huge regulatory upgrade cycle, but maybe talk about what else you're seeing out there in terms of upgrade cycles, especially perhaps in the emerging markets?

Yes. Let me take that one. This is the great thing about the business is that some of this regulation compliance, both on the environmental side as well as the payment security side are -- fair quite prominently. And so U.S. EV is exactly that. But we've also gone into other markets, if you take advantage of these pretty much everywhere. And one of the ones that is also playing through that doesn't get as much press, is in Mexico. And this compliance is also about security of payment, because you think you're pumping a liter of gas but you may not actually get a liter of gas in Mexico. In many high-growth markets, this is actually a pretty big issue. And so with the compliance to regulation, because governments, obviously don't want to see that going on. So the regulate that you have to have certain technology, which is around the software, you can categorize it quite broadly in automation. So to make sure that you comply with the fact that you're actually going to pump a liter of gas and the consumer gets a liter of gas. And that's playing through in the Mexican market right now. Last quarter, we had about $10 million incremental revenue, it's about a $30 million business for us. We've got about 50% share. And this quarter, it's going to be maybe $20 million to $30 million. And so it will kind of play through. And so you see these regulatory drivers impact the industry. They've been ongoing. And this is another one, and you position yourself for it. You don't sometimes know exactly the timing when they're going to come in, but when you position yourself for it and then that wave will come and then you ride that wave. And so this is exactly the business model I think it's driven value here, and I think we see this, not only in high-growth markets going forward, but on a lot of the infrastructure build-out that may be required.

And then how do you see this business over the next 5 years? Do you think investment requirements pick up because you're pivoting the business away from gasoline and diesel pumping to electrification, maybe alternative fuels, hydrogen, et cetera? Or do you pull back on investment as the core business starts to sunset over the very long term horizon? But does investment spending kind of pay back a little bit here?

Yes. Well, if you think of some of the major drivers here, one of the biggest one is the size of the car parts. And so if you look at the car part for ICE, or internal combustion engines over the next 10 years, it's going to continue to grow. And as we know, electrification is happening, too. So we don't really view this as an or, we view it as an and, because there's a lot of great opportunities in high-growth market infrastructure build-out for ICE, also on the complexity of auto repair. So we're going to absolutely take advantage of it. We're well positioned to take advantage of that and generate very strong free cash flows. At the same time, the infrastructure build-out required for electrification also is quite attractive. This is going to be regulation-driven, there's a lot of -- it's pretty early innings, about 1 -- less than 1% of the car part today is based on battery -- electric vehicles. But that will begin to build out over the next 5, 10 years. And as that builds out, it also is going to represent, not only infrastructure build, but also regulation and these kind of things also drive our business. And we think we're well positioned also to take advantage of that.

Okay. Great. We've got a few questions here in the queue, and I think it's a good opportunity to maybe transfer it again. And these [ aren't planned ] questions, by the way. So any tough ones, don't blame me for these. Okay. So first one is on Teletrac Navman. And question is, I understand much has been done to turn it around, reduce attrition. Maybe just talk about some of the major changes you've made to reposition that business? And what confidence do you have that this can be a high single-digit grower over time?

Yes. Well, we're encouraged by what we're seeing. We've put a lot of hard work in the Teletrac Navman. As many of you might know, and I'll just kind of remind you some of the issues and try to specifically answer that question, we have some hardware and software issues mostly related to the North American market on complying with what's called ELV. And that also caused a lot of customer support issues that kind of we took our eye off the ball with all of that complexity going on and all the difficulties going on, we kind of took our eye off the ball of how do you advance your competitiveness as platforms. And so the team really kind of retrenched on that. We found a platform that we actually had in one of our businesses that we acquired through Transtech. It was actually pretty contemporary, and really set ourselves up doing something more forward-looking. So we took that basis of the platform, and we created what's called TN360, which is an AI-based real-time updating, very intuitive easy-to-use system. And we've also incorporated a really nice high-end camera into that offering. And we launched that platform. And we're very encouraged by what we're seeing from customer feedback. Of course, it's very recently in the market. We brought it out in the market in Australia and New Zealand and U.K. We're also just now getting it out in the U.S. market. So we're pretty encouraged that not only that, with the launch of that new platform, certainly very important. But we've also been able to moderate churn, and some investors might know, we've had some very high churn levels as a result of what I just spoke about, mostly in the U.S. market. But moderating churn there is super important. So I think we've managed those -- the hardware problems and the software problems, and we've put in place excellent customer support. So seeing that moderation of churn is certainly important. And by the way, that's an excellent example of deploying VBS deeper into the business. I think that's an excellent example, in fact. And so we're encouraged on what we see, and we're happy to update folks as we move forward.