Regal Rexnord Corporation (NYSE:RRX) Q1 2024 Earnings Call Transcript

Regal Rexnord Corporation (NYSE:RRX) Q1 2024 Earnings Call Transcript May 7, 2024

Regal Rexnord Corporation isn’t one of the 30 most popular stocks among hedge funds at the end of the third quarter (see the details here).

Operator: Good day and welcome to the Regal Rexnord First Quarter 2024 Earnings Conference Call. All participants will be in listen-only mode. [Operator Instructions] After today’s presentation, there will be an opportunity to ask questions. [Operator Instructions] Please note this event is being recorded. I would now like to turn the conference over to Rob Barry, Vice President, Investor Relations. Please go ahead.

Rob Barry: Great. Thank you, operator. Good morning, and welcome to Regal Rexnord’s First Quarter 2024 Earnings Conference Call. Joining me today are Louis Pinkham, our Chief Executive Officer and Rob Rehard, our Chief Financial Officer. I’d like to remind you that during today’s call, you may hear forward-looking statements related to our future financial results, plans and business operations. Our actual results may differ materially from those projected or implied due to a variety of factors, which we describe in greater detail in today’s press release and in our reports filed with the SEC, which are available on the regalrexnord.com website. On slide 3, we state that we are presenting certain non-GAAP financial measures that we believe are useful to our investors, and we have included reconciliations between the non-GAAP financial information and the GAAP equivalent in the press release and in these presentation materials.

Turning to slide 4. Let me briefly review the agenda for today’s call. Louis will lead off with his opening comments and an overview of our 1Q performance. Rob Rehard will then provide our first quarter financial results in more detail and review our latest 2024 guidance. We’ll then move to Q&A, after which Louis will have some closing remarks. And with that, I’d now like to turn the call over to Louis.

Louis Pinkham: Great. Thanks, Rob. And good morning, everyone. Thanks for joining us to discuss our first quarter results to get an update on our business and for your continued interest in Regal Rexnord. Before discussing our first quarter performance, I’d like to acknowledge an important milestone on our Regal Rexnord transformation journey, which is the April 30th close on selling our Industrial systems business. Completing that transaction is notable for a number of reasons. It allows us to focus on more durable, higher growth and higher margin opportunities in our remaining segments. And it is generating attractive sale proceeds that allow us to accelerate paying down our debt. But it also marks the conclusion of our inorganic portfolio transformation.

The evolution of the company’s portfolio through merger, acquisition and divestment transactions has been highly intentional and a critical driver of our strategy to become a faster growing, higher margin and more cash generative enterprise. It began with the 2021 merger with Rexnord’s approximately $1.2 billion process in motion control business and was followed by the 2023 acquisition of Altra with its approximately $1.9 billion in sales split between industrial power transmission and automation and motion control. Having closed on the Industrial Systems Business, we now have our go-forward portfolio. It is a portfolio characterized by 50% of sales into markets with secular demand tailwinds, a product offering with mid-teens vitality higher than at any other point in our history and targeted to reach 25% in the next two years.

Our offering today has more differentiated product with wider competitive moats and is nearly 75% weighted to automation and motion control and industrial power transmission, while our legacy Regal Motors business, which five years ago was roughly three quarters of our portfolio is now both more focused, more profitable and steadily evolving into a motorized air moving subsystems business. All these characteristics are evident in our gross margins, which reached 37.4% in the first quarter on an adjusted basis, excluding Industrial Systems. This is more than 1,000 basis points of improvement versus 2019 levels. And while a few hundred basis points can be attributed to M&A mix, about 7 points of expansion is organic, a testament to the power of 80/20, to our sizable M&A synergies, to the Regal Rexnord business system and to our heightened pricing discipline among other factors.

More important, however, is what we can achieve with this new portfolio going forward, a clear path to 4% — 40% adjusted gross margins and to $1 billion of adjusted free cash flow on an annual run rate basis exiting 2025 or at least $1 billion in 2026. Plus, steadily improving revenue outgrowth versus what is now a richer mix of secular markets. In short, tremendous value creation opportunities for our shareholders, our customers and our associates. Executing all of this portfolio change, while continuing to improve our core operations, has not been easy. So I want to pause and thank our 30,000 Regal Rexnord associates for their hard work and disciplined execution, delivering step change improvements in our operations over a multi-year period.

We really do have an excellent team. Now consistent with our evolved portfolio, we recently decided to update our business purpose. Our purpose is our North Star, the why, our 30,000 associates around the world find meaning coming to work every day. It now reads, we create a better tomorrow with sustainable solutions that power, transmit and control motion. Helping our customers, our communities and our planet with the most sustainable solution remains core to how and why we operate. It is integrated into our strategy and embedded in our purpose. In some recent news on this front, we were very pleased to see our progress and contributions around sustainability recognized by Barron’s, achieving a rank of 14 on its list of the 100 most sustainable U.S. companies.

But the unifying characteristics of our go-forward portfolio is now all about motion. Our high efficiency electric motors provide the power to create motion. A portfolio of highly engineered power transmission components and subsystems efficiently transmits motion to power industrial applications, while our automation offering controls motion in a wide variety of applications that range from factory automation to precision control in surgical tools. We expect to share a lot more about how we plan to harness the power of our evolved Regal Rexnord portfolio to accelerate profitable growth, at an Investor Day, we are hosting on September 17th, in New York City. Now turning to our first quarter results. Our team delivered a strong first quarter despite some persistent end market headwinds.

I would summarize first quarter as demonstrating strength and outperformance in IPS on the top line and with margins, net of continued end market headwinds in PES with AMC tracking largely in line, allowing us to hold our full-year adjusted EPS guidance aside from impacts related to selling Industrial Systems. Sales in the quarter were up 26.4% overall, but down 7.5% on a pro forma organic basis or down 7.1% excluding industrial as we continued to see weak end market demand in residential HVAC and factory automation. Pro forma orders in the quarter were down 4.3% on a daily basis, excluding industrial and up 6% sequentially. While first quarter began with roughly flat orders in January, trends weakened during the quarter entirely attributable to PES.

Notably, book-to-bill was approximately 1.1 in the quarter, the first time in four quarters that we had a book-to-bill rate above 1. In April, our pro forma orders were down approximately 2%, trending better than the first quarter exit rate. Order growth rates in IPS and PES actually improved sequentially in April, but AMC saw some incremental pressure that we would attribute to order timing. Rob will share more detail in his session. Despite first quarter top-line pressures, margins in the quarter were strong. Our adjusted gross margin came in at 37.4% excluding Industrial, mainly reflecting our synergies, 80/20 and lean actions. Adjusted EBITDA margin of 20.5% was up 100 basis points versus the prior year on a pro forma basis, aided by delivering $26 million in synergies, which keeps us on track to achieve $90 million this year.

Excluding Industrial Systems, our first quarter adjusted EBITDA margin was 21.5%, up 80 basis points versus the prior year pro forma level. Lastly, we delivered $65 million of adjusted free cash flow, a strong result in the seasonally softer first quarter and are on track to deliver $700 million of adjusted free cash flow this year. We paid down $135 million of debt in the quarter. Our anticipated annual adjusted cash flow this year, plus net proceeds from the Industrial Systems sale should enable over $900 million of debt paydown in 2024. All things considered, a solid start to 2024. Shifting focus. You may recall that each quarter I’ve been spending a few minutes introducing one of our principal AMC businesses to help investors better appreciate how we are well positioned to accelerate profitable growth.

This quarter, I’d like to spend a couple of minutes discussing our conveying business. As you can see on the left-hand side of this slide, this is about a $400 million business for us and we expect it to grow at a high single digit rate this year. Key brands are also listed, which are a valuable core asset because they signify quality and reliability plus differentiated competencies in areas such as line speed and sustainability, focused on reducing water consumption and energy efficiency. Conveyance-focused markets, warehouse, beverage and food, all benefit from secular tailwinds. We serve these markets by designing and manufacturing conveying modules and subsystems, including palletizers and depalletizers along with a range of highly engineered components and subsystems as well as project management and engineering services.

While growth in conveying has been constrained in recent years on weakness in the beverage and warehouse end markets, our teams have been focused on outgrowth initiatives and they are making great progress. How we are winning share is summarized on the lower left-hand side of the slide. Increasingly, growth in conveying will be driven by selling powertrains. As a reminder, a powertrain is a solution that comprises the critical power transmission components that link a motor to the application it is powering, sold as one integrated subsystem. In the case of conveying, what is being powered are belts conveyors, palletizers and depalletizers. These are designed through cross-functional collaboration between our conveying business and the applicable teams across the business.

The customer value prop is ease of doing business and ability to outsource certain engineering functions plus the greater reliability and performance that comes when we engineer the various pieces together into a unified system. On the bottom of this slide are some great examples of differentiated product solutions. First is our ModSort branded Mobile Flat Sorter, which sorts products or packages in a warehouse or distribution center. This particular example leverages our core competency and high-speed conveying. It can sort 3,000 parcels per hour versus a more typical offering that has 30% to 40% lower sortation rates, thereby reducing the needs for manual labor and improving package-handling efficiency. In addition to the ModSort module, this subsystem uses additional conveying components plus a Regal Rexnord motor, gear and bearings.

Next is run dry belting designed for beverage applications. The average beverage company uses 47 gallons of water to produce a single gallon of its product, often in combination with soap to create a lubricant that reduces friction, flushes away spills, dissipates heat and reduces chain wear. The proprietary design of our run dry belting requires almost no lubrication. We eliminate the water needed for conveyor lubrication by up to 80% to 90% and enable 10% better energy efficiency by reducing the load on the drive system. The third product pictured is our KleanTop metal conveyor belt for the food industry. Here, our differentiated value prop is reliability and durability, which is enabled by our design and engineering approach. This product used in a food production facility has been proving to last six times longer than most competitors.

I hope this gives you a better sense for why we see a robust growth outlook for our conveying business. While we think end markets increasingly will be a tailwind for us in the back half of 2024 and into 2025, the business is also doing so much more to accelerate its revenue outgrowth. And with that, I’ll turn the call over to Rob.

Rob Rehard: Thanks, Louis. And good morning, everyone. I’d also like to thank our global team for their hard work in the quarter and over the last few years as we have been working diligently to transform our business organically and inorganically into a more durable and higher-performing enterprise. Now, let’s review our operating performance by segment. Starting with automation and motion control or AMC, net sales in the first quarter were up 96.9% to the prior year, reflecting the Altra acquisition. Pro forma for the Altra acquisition, organic sales were down 4.5% and aligned with expectations, reflecting strength in the data center, medical and aerospace end markets, which was more than offset by weakness in global discrete automation markets.

Adjusted EBITDA margin in the quarter was 22.5%, in line with our expectation. This margin is down 50 basis points versus prior year on a reported basis, which as a reminder is comparing to a period when we did not have Altra in our results. On a comparable pro forma basis, AMC’s first quarter adjusted EBITDA margin was up 10 basis points versus the prior year period. The pro forma margin performance reflects pockets of strength in mixed positive markets, including medical, aerospace and data center, synergy realization and good discretionary cost management, partially offset by lower volume. Orders in AMC on a pro forma daily organic basis were down 2.7% in the first quarter. Orders continued to reflect weakness in our short-cycle discrete factory automation business.

However, sequential orders were up approximately 6% with orders for longer cycle automation and for our Aerospace business remaining particularly healthy and contributing to some backlog growth. Notably, book-to-bill in the quarter was 1.08 marking the first time in the last four quarters that we saw a book to bill above 1. However, April orders for AMC were down nearly 5% on a daily organic basis due mostly to lumpy large project orders. Before moving on, I want to spend a few extra minutes providing a bit more color on what we are seeing in order rates in discrete automation, which was primarily in the motion control solutions or MCS business where we have seen the most pressure within AMC over the last couple of quarters and why we remain confident in a stronger second-half.

Year-over-year, first quarter orders were up approximately 3%. However, sequentially saw a 7% decline due to two large orders in our government end market that landed in the fourth quarter. As we stated previously, order patterns in this business do tend to be lumpy. Outside of this sequential impact, we experienced a healthy 38% sequential orders improvement in all of our other key end markets combined, including medical, robotics, factory automation and autonomous solutions. This is the second consecutive quarter of bookings improvement. I’ll provide a bit more color on this as it relates to our guidance assumptions later in this presentation. Turning to industrial powertrain solutions or IPS. Net sales in the first quarter were up 55.3% to the prior year, reflecting the Altra acquisition.

Pro forma for the acquisition, organic sales were down 1%, which was several points above our expectations. Growth in the quarter mainly reflects strength in the general industrial and energy markets, offset by weakness in the alternative energy, agriculture and construction markets. Adjusted EBITDA margin in the quarter was 25.8%, firmly above our expectations. While that margin is down 350 basis points versus the prior year on a reported basis, similar to what I said when discussing AMC, that variance is comparing to a period when we did not have Altra in our results, but margins are up 120 basis points versus the prior year on a comparable pro forma basis. It is worth noting that the margin decline you see on a reported basis to a large extent reflects adding Altra’s business which ran at lower margins to our legacy Regal Rexnord business.

A significant part of our synergy plan is leveraging our 80/20 and restructuring playbook in a legacy Altra operations and strengthening those margins to the level of our legacy Regal business. On a pro forma basis, the margin improvement at IPS reflects tailwinds from synergies and slightly favorable mix, along with strong discretionary cost management, partially offset by headwinds from lower volumes/Orders in IPS on a pro forma daily organic basis were down 3.1% in the first quarter. Book-to-bill in the quarter was 1.06 and similar to what I saw — what we saw at AMC, this was the first time in the last four quarters that we saw a book to bill above 1, giving us continued confidence in our guidance assumptions embedded for IPS. In April, orders on a daily organic basis were down just below 1%, an improvement versus the first quarter.

Although orders were down 1% in Q1, they were up more than 8% on a sequential basis, which is stronger than the typical seasonal improvement we saw from fourth quarter to first quarter. We continue to expect stronger orders performance in IPS in the second-half as compares become much easier. Turning to power efficiency solutions or PES. Organic sales in the first quarter were down 17.8% from the prior year, below our expectations. The shortfall in performance was driven by continued channel destocking activity in the North America furnace market, weaker demand in the North America residential HVAC market and headwinds in the Europe and Asia-Pacific commercial HVAC markets. While headwinds in these markets were quite severe, we did see pockets of strength, including our North America commercial HVAC business and in pool markets.

We believe a warmer winter was a factor weighing on furnace sales, which left the channel with still elevated inventories. We also believe air conditioning inventory levels remain elevated in parts of the HVAC distribution channel. The adjusted EBITDA margin in the quarter for PES was 13.2%, down 50 basis points versus the prior year period and below our expectation. Key contributors to the PES margin performance were lower volumes and weaker mix. We expect PES margins to improve to a mid-teens rate in second quarter and track back to a high-teens rate in second-half as volumes improve, mix normalizes, and we realize benefits from restructuring actions that we are taking in this business. Shifting to orders. Orders in PES for the first quarter were down 7.6% on a daily basis.

The weakness reflects continued pressure in residential HVAC and incremental weakness in commercial HVAC, specifically in Europe and Asia. We are also experiencing pockets of pressure in our general purpose motors business, both in distribution likely tied to lingering destocking and with certain OEMs. We see some of our HVAC customers being more cautious about placing orders as they evaluate the underlying strength of global HVAC markets. Daily orders in April improved somewhat to down approximately 2% versus prior year, which is directionally encouraging, but we believe will be premature to conclude this trend will be sustainable at this point. While recent commentary from some of our OEM customers sounds a bit more encouraging, we have also experienced repeated false positives from some of them in recent quarters regarding an inflection in residential HVAC.

As a result, we are remaining cautious about the near-term outlook for PES and due to the results, we are reporting for Q1, along with the expectations for Q2 are lowering our growth expectation for this business in 2024, a dynamic that I will discuss in more detail in the outlook portion of this call. With that said, we remain cautiously optimistic about a stronger second half for PES, as compares become easier in the absence of prior year destock headwinds. We also built some backlog in the quarter with a book-to-bill of 1.1 in the quarter, which should help us in the near future. On the following slide, we highlight some additional financial updates for your reference. Notably, on the right side of this page, you’ll see we ended the quarter with total debt of $6.25 billion and net debt of $5.7 billion.

We repaid $135 million of gross debt in the quarter. We plan to deploy the net proceeds from the Industrial System sale to debt reduction, which should further reduce our debt by approximately $355 million. Adjusted free cash flow in the quarter was $64.6 million, strong performance considering normal seasonality, and we are on track to deliver $700 million of adjusted free cash flow this year. Consistent with our prior plans, we expect to deploy this free cash flow after dividend payments to debt reduction. As a result, the combination of the industrial sale net proceeds plus post-dividend free cash flow should enable us to pay down approximately $900 million of our debt in 2024. And benefit from the associated lower interest costs. Moving on to the outlook.

We are making several adjustments to our guidance for 2024, which are detailed in the table on the right-hand side of this slide. Also included in the table is our standard disclosure on below-the-line items with specific indications for what has changed. First, having closed on the sale of Industrial Systems on April 30th, we are removing it from the outlook from May onwards, as outlined in the second column from the left. Removing Industrial is a headwind to sales of approximately $345 million, but a benefit to our adjusted EBITDA margin worth roughly 70 basis points for the year. The sale also had some below-the-line impacts, most notably lower interest expense since we are deploying sale proceeds to pay down our debt. There’s also a small impact to the minority interest line in the P&L as detailed in the table.

The net impact to adjusted earnings per share from these factors is negative $0.15. Note that Industrial Systems will remain in our second quarter results for the month of April and its performance will remain in our annual disclosures for the January through April 30th period of ownership. Second, we are updating the outlook for our remaining business outlined in the third column from the left. These updates include reducing our sales outlook by $60 million, mainly in PES, but raising our expectation for adjusted EBITDA margins by 10 basis points, factory mix impacts, as well as making several below-the-line adjustments as outlined in the table. The net impact of these adjustments is neutral to adjusted earnings per share. The combined impacts of the Industrial System sale and the adjustments to our remaining business are presented in the last column on the right and reduces the midpoint of our adjusted EPS guidance range to $10 for a new EPS guidance range for full-year 2024 of $9.60 to $10.40.

Finally, as mentioned previously, adjusted free cash flow is expected to be $700 million this year. On this slide, we provide more specific expectations for our second quarter and full-year performance by segment, on revenue and adjusted EBITDA margin. Note that the full-year 2024 guided growth rates for AMC and IPS are off of 2023 pro forma results. Starting with AMC. For the second quarter, we anticipate sales of approximately $410 million with EBITDA margins of approximately 23%, a modest improvement versus first quarter performance on both metrics. For the year, we now expect AMC sales to be flat, a slight reduction versus our prior expectation based on updated order rates discussed earlier specific to discrete factory automation. We expect 2024 adjusted EBITDA margins to be in a range of 24% to 25%, consistent with our previous expectation.

Overall, we continue to see strength in the data center, aerospace and medical markets within AMC, net of headwinds in discrete factory automation. Circling back to the MCS business I discussed earlier. Our AMC outlook implies only a slight Q2 revenue improvement due to the lingering discrete factory automation market dynamics, but we are more bullish about the future growth potential due to a couple of key factors. First, we saw a 49% larger project funnel in first quarter versus the same period last year. This includes roughly 37% growth in new product design and prototype wins. And second, we are gaining traction in our strategic secular end market outside of factory automation, such as aerospace, medical automation and robotics, where new programs and new products are ramping up.

The orders in these strategic end markets typically come with a longer time to fulfill than factory automation orders, but our orders growth over the last two quarters is building a healthier scheduled backlog mix in Q3 and Q4 of this year. This growing strategic end market success provides us with a cautiously optimistic outlook for the second-half of this year. Now shifting to IPS. We anticipate sales of approximately $670 million in the second quarter with margins of approximately 25%, an improvement versus first quarter performance on sales, but a modest sequential decline on margin, factoring the stronger top-line momentum we saw in first quarter, but some normalizing of mix as we do not expect the same level of benefit in second quarter that we saw in the first quarter.

For the year, we now expect IPS sales to be flat, a slight improvement versus our prior expectation. We are feeling a little bit better about the outlook for IPS after a stronger start to the year, but are mindful of pockets of weakness, particularly in the ag and construction markets and in parts of general industrial. We expect IPS adjusted EBITDA margins to be in a range of 25.5% to 26.5%, which at the midpoint would be 50 basis points above our previous expectation. Our margin outlook for IPS continues to reflect nice tailwinds from synergies, net of full-year mix pressure and select growth investments. For PES, we anticipate sales of approximately $395 million in the second quarter with margins of approximately 16%, a modest improvement on sales versus first quarter and a somewhat stronger improvement versus first quarter on margin.

For the year, we now expect sales to decline at a mid-single-digit rate, weaker than our prior expectation for sales to be flat versus the prior year. We expect adjusted EBITDA margins to be in a range of 16% to18%, which is also down versus our prior expectation. As I mentioned earlier, PES got off to a slower start than expected in our residential HVAC business and we remain cautious about the near-term outlook. We continue to be more optimistic about the second-half as compares ease significantly and our new products gain momentum, and on margin as we see benefits from restructuring actions we are taking. We also acknowledge more optimistic commentary from certain HVAC OEM customers on resi HVAC, though we have not factored into our outlook to the contrary, we’re building in some incremental conservatism.

The improvement in orders in April versus first quarter is also encouraging, but we think premature to assume it continues. All that said, if we take a step back for a moment, we believe the resi HVAC markets will inflect at some point in the near future, and we believe we’re closer to that happening than we’ve ever been in over a year. Before turning the call over to the operator for questions, I wanted to underline a couple of points Louis shared in his remarks. Over 1,000 basis points of adjusted gross margin improvement in the last four years and a path of 40% exiting next year. A similar path to over $1 billion in annual adjusted free cash flow and a transformed portfolio that has dramatically shifted to more durable products and markets served.

In 2019, power transmission was about 25% of our business with the remainder of motors. Today, automation and power transmission is 75% of our portfolio and we have a motors and air moving business that is much more focused and profitable. We are excited about our future, and we believe we have a tremendous amount of additional value to create for our stakeholders as we continue to expand margin, raise annual free cash flow, pay down our debt and accelerate organic growth. And with that, operator, we are ready to take questions.

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Q&A Session

Operator: [Operator Instructions] The first question comes from Mike Halloran with Baird. Please go ahead.

Mike Halloran: Hey, good morning, everyone.

Louis Pinkham: Hey, good morning, Mike.

Mike Halloran: Hey, so certainly heard all Rob’s remarks about seasonality, 1H, 2H. But maybe, Louis, you could just talk to your confidence level in seeing that ramp into the back half of the year and maybe frame it as what needs to happen to hit the high end of the guidance and what does the market look like? And then similarly, at the low end of guidance, what kind of market are we seeing here, what kind of sequentials, however you want to frame it? Are we seeing if we’re at the low end of the revenue guidance?

Louis Pinkham: Yes. So I appreciate the question, Mike. You know a couple of things here. First of all, if you look at first-half, second-half, it’s about 48-52 split now. There’s really two things that have to be true for us. And we based our forecasting on the best information we had at the time. For that 52% to be true, we need our PES sales to rebound and it’s really the resi HVAC piece that must improve. Now, you know, our book-to-bill coming out of Q1 was 1.1, which gives us a little bit of confidence on that. Our orders progressing through April down 2 in the PES segment and then just what we’re hearing from the market from our channels and OEMs give us some confidence. But we’re going to be cautious right now because although we feel more confident today than we’ve ever felt, January was pretty strong as well and then it weakened through the quarter.

So we feel that we rightly positioned Q2, still getting through the destock market headwinds and then with easier comps recovery in the second-half. The same holds true for factory automation, but lesser so, it has a lesser impact on our overall business. We feel really good about the order rates that we’re seeing for the longer cycle piece of that business. Rob talked about our funnel being up 50%, our win rates being up significantly, which gives us confidence of the second half and into ’25, in particular. But we do need to see book-to-bill continue to progress at about the same pace we saw in April. So as long as that holds true, we feel good. Now the upside piece to your question is that the rebound in the resi HVAC business is stronger than what we’re anticipating.

And honestly, I’ll tell you we’re being cautious. And so we think that’s the best way to position ourselves for right now.

Mike Halloran: Thanks for that. And then as part of the mission statement update, you reiterated the exit rate margin commentary. So if you could just talk about how that should play out over the next couple of years here from linearity perspective and then how tied to revenue that is versus how in control that is with just your internal actions?

Louis Pinkham: Yes. So a lot of it is just our internal actions. And so I think it’s probably better to base it to build it off of ’23, to give you an understanding of how we get there. So if you take ’23 at 35% gross margins and 21% EBITDA, industrial lifts us by about 100 basis points on both GM and EBITDA. Synergies are about 250 basis points. And as you know, we’ve got $90 million of synergies this year and $65 million next year. And then about a point, a point and a half from NPD 80/20 and mix. And I’d tell you that that’s pretty straight lined. Now all of that gets us to the 40% gross margins, but we are reinvesting about 100 basis points back in R&D through that same period. And so that’s how you get to the 25% EBITDA margins. Hopefully, that’s helpful.

Mike Halloran: No, that’s very helpful. Really appreciate it. Thanks, Louis.

Louis Pinkham: Yes. Thanks, Mike.

Operator: The next question is from Julian Mitchell with Barclays. Please go ahead.

Julian Mitchell: Hi, good morning. Maybe…

Louis Pinkham: Good morning.

Julian Mitchell: Good morning, Maybe just wanted to sort of try and dial into the sort of second half revenue guides for the Industrial Businesses, AMC and IPS. So it looks like you’ve got a sort of a bigger back-half increase half-on-half of sales in AMC, perhaps versus what you have in IPS. So maybe just trying to understand you know, what’s sort of driving that big AMC step-up? I think another factor automation peer this morning is talking a lot about end of destocking, for example, as driving a big improvement in their half-on-half numbers. So just wondered kind of how you see that dynamic playing out in discrete automation and maybe why IPS has less of that second-half ramp than AMC, that would be helpful.

Louis Pinkham: Yes. So Julian, I think you’re spot on. And so I’m going to answer IPS. We feel really good about the successes we’ve been seeing in our cross sale and our synergy growth. You know, the reality of IPS is we feel like we got through the destocking in the second half of last year, maybe a little bit in the first quarter. And so we’re not seeing nearly what we’ve seen, certainly not in residential HVAC or discrete automation. And so that’s why IPS feel really good about the position. We think our hypothesis of bringing these strong businesses together is playing out. Now automation and motion control, I — again, I think you’re spot on. Now I’d tell you, factory automation, it only makes up about 15%-ish of that segment.

What’s also lifting here is the strength in the other markets, aerospace, we expect to be up in the second half year sequentially as well as year-over-year; medical, definitely sequentially and year-over-year, as well as data center, sequentially and year-over-year, which gives us a little bit more confidence in that second-half for AMC. But those are really the main drivers. But I’d agree with you that destock and discrete automation will help us a bit. And IPS is really just good execution, good performance of our commercial teams.

Julian Mitchell: That’s helpful. Thank you. And then just I don’t know how much color you could provide, but we’ve obviously got your second half implied guidance now and what you have for Q2. Just wondered if there was any color you could provide as to how we should think about earnings sequentially sort of through that second-half? Are we thinking sort of sales and EBITDA margins up sequentially in both Q3 and Q4? Any thoughts to try and understand kind of that weighting in the second half for Regal as a whole.

Rob Rehard: Yes, Julian, this is Robert. I’ll take that. We do expect that you know sequentially third quarter, obviously a sequentially stronger than second quarter, but fourth quarter then builds again off of third. So we do see that sequential improvement as we move forward. And the same for margins as we move through third quarter and fourth quarter and associated then, of course, EPS building as we move into the fourth quarter. So you might expect seasonality wise, we might see a little bit of a drop off in the fourth quarter. We’re actually not forecasting that at this time. We’re seeing it actually continue to build through the fourth quarter based on what we’ve talked about today.

Julian Mitchell: Thanks, Rob. And does that mean it’s sort of an even waiting in that step-up, or Q3 will always have a bigger one in terms of that step-up sequentially than Q4 is having?

Rob Rehard: Yes. Q3 would be a bigger step-up off of Q2 than Q4 over Q3.

Julian Mitchell: That’s great. Thank you.

Rob Rehard: Yes.

Operator: The next question is from Jeff Hammond with KeyBanc Capital Markets. Please go ahead.

Jeff Hammond: Hey, good morning, guys.

Louis Pinkham: Good morning, Jeff.

Jeff Hammond: So just on PES, I’m just trying to — I mean, your commentary and I guess how starkly weak it’s been, is maybe disconnected a little bit from the OEMs. So I’m just trying to understand, how have you seen share shift? I know you picked up some share during COVID maybe because you had a closer supply chain. There’s been some SEER changes and refrigerant changes. Are you seeing share shifts as these new models are coming out? Or are we underappreciating 80/20? Just level set us on share and just some of these kind of regulatory changes?

Louis Pinkham: Yes. So, Jeff, I appreciate the question. We feel good about our share position. We do not feel like — and to your point, we definitely gained some share during COVID. We think we’ve held on to much of it. Now with 80/20, this is the piece of the business where we have managed 80/20. We’re no longer going to sell product at low margins. That’s just not who we are. We sell value in our product and technology. And so we have seen some 80/20 pruning in this space, but that’s really not a driver here. From a regulatory perspective, you know, for sure, with the 2025 GWP regulations, we are working with all of our OEM customers. In some aspects — in some perspective, they have to redesign their products to meet the requirements.

And this tends to help us because they typically choose a more energy-efficient motor and that should be a positive for us in the end. But I want to circle back a little bit to your initial part of your question, which was a disconnect with the views that are being stated right now. A couple of things I’d clarify. There are definitely some lack of clarity in the market. And I think we’ve had a few false starts. And I remind you that our HVAC OEMs, when they’re talking about current situations, they’re talking about consumer demand and that’s a bit of a lag from what we would see with demand. And in addition, some of that demand is going to be satisfied through stock levels. And in addition, I’d say to that, there’s embedded price in their demand and unit volumes are still under pressure.

And as you know, we don’t link to their price levels. And so all in, we’re perhaps a bit more cautious just because again January, we thought we’re going to see a bit of a recovery. Honestly, fourth quarter, we were hearing from OEMs that we’re going to see recovery. And so we’re being cautious. April gives us a little bit of confidence, but again, one month does not make a trend. So a lot there, Jeff, but hopefully, that was helpful of how we’re thinking about it.

Jeff Hammond: Okay, great. And then just IPS, I think you said, mix was a positive and you thought that would step-back. What in particular was driving the positive mix and why don’t you think it would continue? And then just within the kind of guide change on IPS margins, is that better synergies or is there some mix in there as well?

Rob Rehard: Yes. So the mix was largely around, hey, we had fairly strong distribution versus OEM as we move through the first quarter. We don’t see that same strength as we move into the second quarter. Our synergies absolutely continue to build as we move through the year. We saw synergies of roughly $26 million in the first quarter and are on track to that $90 million. So continue to build as we move through the year. So that — but the mix impact is really just not the continuation that we saw in the first quarter on that strong distribution versus OEM.

Jeff Hammond: Okay. Thanks.

Louis Pinkham: Thanks, Jeff.

Operator: The next question is from Nigel Coe with Wolfe Research. Please go ahead.

Nigel Coe: Oh, thanks, good morning. Thanks for the question.

Louis Pinkham: Good morning. Nigel.

Nigel Coe: Good morning. Just another question on PES. I’m sorry about that. But your 2Q guide would embed very little pickup Q-o-Q from 1Q to 2Q. And I think 2Q is normally your seasonally strongest quarter. So I understand, you know, Louis, you want to be very cautious, big signals from customers. But is there anything you’re seeing to maybe kind of inform that sort of view on 2Q other than want to be very cautious. And then my follow-on question with that would be maybe some more details around the restructuring you called out for that segment.

Louis Pinkham: Yes, you know, really, no. I feel like when we were here in October and then we were here in January, we were in similar situations. And so we’re going to be cautious about our guide for this quarter. Now again, 1.1 book-to-bill rate coming out of Q1, orders down 2% in April gives us some confidence. I wish we could have this conversation after May [ph] because then I’ll have more confidence — because again, I felt like I was in a similar situation in January. So we’re going to be cautious here, make sure that we execute beyond that, that’s really the view.

Rob Rehard: And then on the second part of your question there. We do have some restructuring savings that are embedded in the guide and we don’t typically comment on segment level restructuring actions, but there’s certainly a component, but a lesser component to the second quarter step-up in margins versus what we expect in terms of like I said, a little bit of volume, a little bit of volume goes a long way in terms of absorption, but also a line of sight to some better mix coming through in the second quarter versus the first. So yes, restructuring actions will help, but it’s not a big driver of the improvement going forward.

Nigel Coe: Okay. That’s helpful. Thanks. And then we’ve seen copper prices running pretty hard here. So I’m wondering if the NPFs, which I think are mainly within PES, whether that’s having some impact to your second quarter margin. I think there’s a bit of a lag on recovery there. So anything to say on the NPFs? And then as we unplug industrial from the guide, are there some standard costs coming from industrial into the other segments?

Rob Rehard: Yes. So let me, let me take those two pieces here. So first of all, from a — the copper coming through on a two-way material price formula. Hey, these are two way. We aren’t seeing a lot of that yet that there is still a lag there. On the non-contracted business, which I know is not part of your question, but we do hedge both copper and aluminum. So that’s on the non-contracted side. So no, we aren’t seeing a big impact from that as we move through the year but are continuing to evaluate. On the — your second question on stranded cost potentially, so the $0.15 that you see in the model that we provided in the presentation, it is simply dilution. There is a — certainly a bit of stranded cost that we would estimate to be a little less than $5 million, which are partly covered by TSAs and which we believe we can take out in the next 12 months through our normal productivity actions.

Nigel Coe: Great. Thank you.

Louis Pinkham: Thanks, Nigel.

Operator: The next question is from Walter Liptak with Seaport. Please go ahead.

Walter Liptak: Hi, thanks. I wanted to ask about the free cash flow for the year. And how — we’re going into a seasonally stronger period, how the cash flow might look for the second quarter? And then what are the puts and takes to getting to that the free cash flow number?

Rob Rehard: Sure. Yes, so $700 million for the year and you’re specifically asking about maybe puts and takes on, on maybe working capital, how that progresses, the seasonality associated with inventory builds. I would expect that the cadence of our cash flow is customarily going to be, hey, you’re going to start a little bit slower in the first quarter and build as you move through the year with most of your cash coming in the late third to fourth quarters. We do see that there is a headwind in working capital this year relative to last year. We saw almost $250 million of working capital benefit last year, and we might see about $50 million of that this year. That being said, the way that we bridge from last year to this year, if you will, if you think that we got almost about $660 million last year going to $700 million this year is — we’ll get a little bit out of EBITDA year-over-year.

Our cash interest expense will come down. Our cash taxes will also be lower than last year and then restructuring should come in a little bit lower. So when you kind of bridge last year to this year and there’s about $40 million or so between the two years, those are the kind of puts and takes on the bridge to get you to this year’s cash flow. (multiple speakers)

Walter Liptak: Oh, sorry about that. So Louis, I wanted to ask about the conveying products and thanks for pointing out the $400 million in sales. I wonder if you could talk about the margins for that business? And if there is a difference between margins for component parts and systems versus design engineering? And are you doing any installation or integrated systems within that $400 million.

Louis Pinkham: Yes. So I’ll go a little backwards. So are we doing installation and project management? We are. It’s not a big percentage of that business, but about 5% and we’re actually seeing that piece growing nicely. You know the margins of the overall business are actually above our average in that segment and it’s part of AMC, it’s a solid business. Now it really depends on project by project, but our equipment side and our system side are not that far off our component side for margin. So overall, a really solid business for us.

Walter Liptak: Okay, great. And why is it that you — do you think that this part of say, the conveyors are growing faster than say the automation part of your business?

Louis Pinkham: Well, you know, this — the conveying business is really linked to food and beverage and warehouse. And for sure, food and beverage and warehouse has been under pressure for the last couple of years, in particular, I should say beverage and warehouse. And so we’re seeing that rebounding as the year progresses and into next year. And then I’ll emphasize one other point, which is with the acquisition of Arrowhead as well as our industrial powertrain solutions synergy, strategy of selling the entire industrial powertrain, it really fits into these markets well. And so we’re winning more because of the total solution that Regal Rexnord is able to bring to bear.

Walter Liptak: Okay. Thank you.

Louis Pinkham: Thanks Wal.

Operator: The next question is from Joe Ritchie with Goldman Sachs. Please go ahead.

Joe Ritchie: Hey guys, good morning.

Louis Pinkham: Good morning, Joe.

Joe Ritchie: Hey, so just want to really focus my questions on AMC. So clearly, like there’s a big part of the business that is going from inorganic to organic this upcoming quarter. And so I just want to make sure I’m dialing this in right, like you guys are now looking at potentially like mid-teens down organic for the second quarter. And is that — so please correct me if I’m wrong there. And then also, is that kind of like where trend is on the business right now? And any color you can give us on the discrete automation side of the business would be helpful relative to that number.

Louis Pinkham: Yes. So Joe, I appreciate the question. I would say you’ve also got to remember there’s a little bit of a stub period compare that puts a bit of a pressure on AMC. It really though, the main pressure in AMC for us is discrete automation. And although we’re seeing the order book feel better, it’s really more second half and ’25 weighted. And so that’s putting pressure. But again, the segments or the markets that are accelerating are medical data center and aero, which gives us confidence in the second-half of next year — sorry, second-half of this year.

Joe Ritchie: Okay, got it. That’s helpful, Louis. And then I guess — and just maybe just sticking with that last comment. So to get at those end markets are doing better, like in the end markets that aren’t doing well, like is there anything from like a — whether it’s like you know, negotiations or marketing qualified leads or any type of like kind of leading indicators that are helping you feel better about like the parts that aren’t doing well bottoming?

Louis Pinkham: Yes. So you know, I would refer you back to some of the statements that Rob made earlier on. And so factory automation makes up about 35% of that segment and our funnel is up 50%, our win rate is up about 300 basis points and our — we’re seeing a book-to-bill in that segment coming out of the first quarter of 1.08. So all of this is giving us more confidence in the second half. And so yeah, that’s really why we’re guiding — what we’re guiding for second-half sales.

Joe Ritchie: Okay. Yeah, no, that’s helpful. Thanks for that clarification. I’ll get back in queue.

Louis Pinkham: Okay, great. Thank you.

Operator: This concludes the question-and-answer session. I’d like to turn the conference back over to Louis Pinkham for any closing remarks.

Louis Pinkham: Thank you, operator, and thanks to our investors and analysts for joining us today. I would like to conclude where I began with our evolved purpose. Through highly intentional actions, we have made tremendous progress transforming what had been Regal Beloit into the Regal Rexnord we are today. A powerful portfolio comprised of wider moat products, serving a stronger mix of more durable secular markets. Our One Global Regal Rexnord team is excited about the many opportunities this portfolio presents. And I am confident that we are better positioned than ever before to create a better tomorrow for all of our key stakeholders with sustainable solutions that power, transmit and control motion. And by doing so, we can achieve the win-win objectives of giving back to our communities and our planet and driving profitable growth.

In short, tremendous opportunities for our associates, for our customers and for our shareholders and an exciting time for Regal Rexnord. Thank you again for joining us today and thank you for your interest in Regal. Have a good day.

Operator: Thank you for attending today. You may now disconnect.