Xylem Q2 2024 Earnings Call Transcript

Quartr
Provided by Quartr
July 30, 2024

There are 11 speakers on the call.

Operator

Good day, everyone, and welcome to the Xylem's Second Quarter 20 24 Results Conference Call. All participants will be in a listen only mode. After today's presentation, there will be an opportunity to ask questions. Please note that this event is being recorded. I would now like to turn the conference over to Andrea Vanderberg, Vice President of Investor Relations.

Operator

Please go ahead.

Speaker 1

Thank you, operator. Good morning, everyone, and welcome to Xylem's Q2 2024 Earnings Call. With me today are Chief Executive Officer, Matthew Pine and Chief Financial Officer, Bill Grogan. They will provide their perspectives on Xylem's Q2 2024 results and discuss the Q3 and full year outlook. Following our prepared remarks, we will address questions related to the information covered on the call.

Speaker 1

I'll ask that you please keep to one question and a follow-up and then return to the queue. As a reminder, this call and our webcast are accompanied by a slide presentation available on the Investors section of our website. A replay of today's call will be available until midnight August 6. Additionally, the call will be available for playback via the Investors section of our website under the heading Investor Events. Please turn to slide 2.

Speaker 1

We will make some forward looking statements on today's call, including references to future events or developments that we anticipate will or may occur in the future. These statements are subject to future risks and uncertainties, such as those factors described in Xylem's most recent Annual Report on Form 10 ks and in subsequent reports filed with the SEC. Please note that the company undertakes no obligation to update any forward looking statements publicly to reflect subsequent events or circumstances, and actual events or results could differ materially from those anticipated. Please turn to Slide 3. We've provided you with a summary of our key performance metrics, including both GAAP and non GAAP metrics, with references to prior year segment metrics being made on a comparative basis, reflecting the change in segments as of the beginning of the year.

Speaker 1

For purposes of today's call, all references will be on an organic and or adjusted basis unless otherwise indicated. And non GAAP financials have been reconciled for you and are included in the appendix section of the presentation. Now please turn to Slide 4, and we'll turn the call over to our CEO, Matthew Pine.

Speaker 2

Thanks, Andrew. Good morning, everyone, and thank you for joining us today. It's a pleasure to report the achievements of the Xylem team in the quarter. As you've seen in this morning's release, the team delivered another very strong quarter, outperforming expectations on all metrics. With high single digit organic revenue growth reflecting gains in both volume and price.

Speaker 2

The team also expanded adjusted EBITDA margin 170 basis points. And with that outperformance, we delivered adjusted EPS growth of 11%. The story of the 2nd quarter is similar to Q1. On the demand side, our largest markets continue to be resilient. Internally, our outperformance is driven by increasingly disciplined operational execution by the team.

Speaker 2

This kind of performance momentum is only possible when the whole team is engaged and aligned to make a difference. And I want to say a big thank you to the Whole Xylem team for the dedication and drive they've demonstrated through the first half of the year. While there were a lot of highlights across the team, I particularly want to mention the standout performance in measurement and control solutions. MCS segment revenue was up 26% and EBITDA margins are up 700 basis points versus this time last year. The team is doing an outstanding job.

Speaker 2

Our first half performance is a reflection of the value creation direction we set early in the year and discussed at Xylem's Investor Day in May. That direction includes both resilient above market growth and accelerated margin expansion. It's gratifying to see the kind of momentum reflected in our quarterly performance. In addition, our simplification initiatives and our work on eightytwenty are progressing well and are set to pay off beginning in 2025. Turning to the integration of Evoqua in late May, we passed the 1 year anniversary of our combination with Evoqua.

Speaker 2

The combination continues to reveal its value. Cost synergies are well on track and the team is looking to accelerate our pace wherever possible. And our commercial teams are successfully taking Xylem's combined capabilities to the many customers who'll benefit from our integrated solutions both in utility and industrial end markets. With Evoca integration on track, strong momentum from the first half, resilient demand and the team's increasing operational commercial discipline, we're raising our full year guide for both revenue and margin, increasing our EPS guidance 0 point 0 $6 from the prior midpoint. In a moment, I'll provide an update on our high impact culture and our leadership alignment and also on our industry leading 2,030 sustainability goals.

Speaker 2

But first, I'm going to turn it over to Bill to double click on the quarter's results, our financial position and our outlook. Bill?

Speaker 3

Thanks, Matthew. Please turn to Slide 5. Q2 was another great quarter, and I want to thank our entire organization for their amazing work. We outperformed against our guide across revenue, margin and earnings per share. We continue to see resilient demand and our backlog is at $5,200,000,000 a modest decline from prior year as we execute on MCS pass through backlog.

Speaker 3

Book to bill was approximately 1, supported by strength in water infrastructure, while organic orders were down 1% in the quarter, driven by project timing within MCS and WSS. Total revenues grew 26% and organic revenue rose 9%, exceeding our guidance on a healthy combination of volume and price. Our performance was led by MCS and WSS as we saw growth in all regions led by double digit growth in the U. S. EBITDA margin was 20.8%, up 170 basis points from the prior year, with productivity savings, strong volume and price more than offsetting inflation, investments and mix.

Speaker 3

This reflects incrementals of 28% on a consolidated basis and 50% on a pro form a basis. Our EPS in the quarter was $1.09 above the high end of our guidance by $0.04 and up 11% over the prior year. Our balance sheet is strong with net debt to adjusted EBITDA at 0.7x. Year to date free cash flow was up 200% versus the prior year and conversion of 62% is strong given seasonality. This year over year improvement was driven by higher net income offset slightly by increased CapEx, and we continue to benefit from improved working capital efficiency.

Speaker 3

Please turn to Slide 6. Measurement and Control Solutions had another great quarter and again exceeded our expectations. MCS revenue was up 26%, driven by smart metering demand and backlog execution. However, due to project timing, orders were down 18% and book to bill came in under 1. We worked down past due backlog and total backlog for MCS now sits at roughly $2,000,000,000 a 12% organic decrease from prior year.

Speaker 3

We finished the quarter with impressive EBITDA margins of 23.4%, up 700 basis points versus the prior year and up 70 bps sequentially. Margin expansion was driven by volume, price, productivity and favorable mix more than offsetting inflation. As a reminder, we continue to expect a margin headwind from mix in the second half as energy meters account for a larger portion of our sales. In Water Infrastructure, orders were up strong, 8% in the quarter led by robust treatment demand. Revenue exceeded our expectations with total growth of 22% and organic growth of 7%, driven by healthy demand across all regions and applications.

Speaker 3

Adjusted EBITDA margin for the segment was down 60 basis points with roughly 40% pro form a incrementals. This decline was driven by inflation and acquisition, but was offset partially by productivity, volume and price. Without the impact of acquisitions, adjusted EBITDA margin improved 40 basis points for the quarter. In Applied Water, orders were up 5% and book to bill was greater than 1, reflective of a few large project wins, which will ship next year. Revenues were down 4% in line with our expectations, lapping strong comps on 12% growth in the Q2 of last year.

Speaker 3

Decline was primarily driven by softness in developed markets. Segment EBITDA margins declined 200 basis points year over year, but increased 100 basis points sequentially. Higher inflation and unfavorable mix was partially offset by productivity savings. Closing the segments with Water Solutions and Services. Orders declined 1% organically driven by timing of large capital projects offset by strength in dewatering.

Speaker 3

Organic revenue was up 12% with healthy growth across most of the business. Adjusted EBITDA margin was strong at 23.8%, up 60 basis points and driven by volume, productivity and price, offset in part by unfavorable mix and inflation. 2 quarters in the resegmentation, we continue to see synergy momentum and benefits for our customers in combining our service based offerings. Now let's turn to Slide 7 for updated full year and Q3 guidance. Given our first half outperformance and both commercial and operational momentum, we are raising our full year guide.

Speaker 3

We are increasing our revenue guide approximately $50,000,000 up from $8,500,000,000 This reflects an additional 0.5 point of growth at the midpoint versus our prior guidance. That will put total revenue growth at approximately 16% and organic revenue growth at 5% to 6%. The integration is going smoothly and we continue to expect $100,000,000 of exit run rate cost synergies in 2024 with the potential to accelerate by year end. We are confident about driving further margin expansion with operational productivity and are raising our EBITDA margin guidance to about 20.5%. That represents 160 basis points of expansion versus the prior year, driven by hard volume, productivity, including cost synergies and price offsetting inflation.

Speaker 3

Our updated EPS guidance of $4.18 to $4.28 reflects an increase of $0.06 at the midpoint. Free cash flow conversion for the year is now expected to be over 120% of net income. The full year outlook at the segment level remains largely unchanged with the exception of MCS, which we now expect to grow at high teens points, driven by higher volumes, continued price realization and productivity gains. This yields 3rd quarter EPS of 1.07 dollars to $1.12 Our diversified portfolio of mission critical products and services positions us well to address our customers' evolving needs, and we anticipate healthy demand across most end markets and applications. And we talked about our driving profitability through simplification efforts and our eightytwenty implementations at the Investor Day in May.

Speaker 3

We are progressing well on those initiatives and I want to reiterate our commitment to systematic margin improvement through operational excellence, supporting our long term profitability framework. While we are closely monitoring the macro environment, including geopolitical, election uncertainty and tariffs, our overall outlook for the year remains positive. With that, please turn to slide 8 and I'll turn the call back over to Matthew for closing comments.

Speaker 2

Thanks, Bill. I'd like to mention 2 events in the quarter that don't show up in the financial results, but are fundamental to Xylem's success and impact. First in June, just a few weeks after our Investor Day, we gathered Xylem's global leadership team in Washington, D. C. This was the first time we had our top 150 executives in 1 room, spanning legacy Xylem and legacy Evoqua.

Speaker 2

It was an energizing 2 days of collaboration focused on the work of leadership alignment and culture. I've spoken before about culture as the fundamental how of Xylem, how we'll deliver stronger execution of our strategy, how we'll realize our aspirations, how we'll create our next chapter of Xylem's impact. You can see in our Q2 results that the team is already working well and winning. What our Leadership Summit reinforced was how much more value creation potential we have ahead of us with an aligned team and a high impact culture. It was fantastic to see the team so engaged by the opportunities ahead of us.

Speaker 2

Last quarter also saw the publication of our annual sustainability report. We're very pleased to be tracking well towards our 2025 goals. But we took the opportunity presented by this year's report to set out our aspirations beyond 2025. We're raising the bar again by setting 2,030 sustainability goals in 3 strategic areas. The first is decarbonization, reducing our own greenhouse emissions and enabling our customers to decarbonize.

Speaker 2

Secondly is water stewardship aimed at reducing water demand. And finally, we'll provide access to water, sanitation and hygiene for 80,000,000 people. All three strengthen our customer relationships and increase our impact. Before turning to your questions, I have one more special note. This is Andrew Vanderberg's last quarterly earnings call at the helm of Investor Relations.

Speaker 2

We're happy to announce that Andrea is taking on a new role within Xylem, and it's an exciting new opportunity for her. Over the years, so many of you have told me you deeply value Andrea's energy, accessibility and professionalism, and I've benefited from her insightful taking the reins as our Investor Relations leader. Keith has had great impact as the Head of Finance in Water Solutions and Services segment, having joined us with the Evoqua combination more than a year ago. He brings deep knowledge of the business to his leadership of IR, And I'm confident you'll enjoy getting to know Keith and will find great value in his insights and perspectives. And with that, let's go to your questions.

Operator

Our first question today will come from Deane Dray with RBC Capital Markets. Please go ahead.

Speaker 4

Thank you. Good morning, everyone.

Speaker 2

Hey, good morning, Deane.

Speaker 5

Hey, I'll add my welcome to Keith and wish Andrea best of luck and thanks for all your help.

Speaker 1

Thank you, Deane.

Speaker 5

Hey, maybe we can start with eightytwenty and I'll also make the observation you can see eightytwenty at work in your conference call prepared remarks and slides and how much they've been slimmed down and you get right to the point. So really appreciate that. So eightytwenty, I know you say the payoff is likely a 2025 event, but we heard lots of specifics at the Analyst Day on the rollout. So any updates you can share? I know we're still in the early innings, but you had Applied Water North America initially, MCS initially.

Speaker 5

Any kind of early actions and what can you share? Thanks.

Speaker 3

No, no, happy to give an update. So again, the teams are progressing well. Like you said, we have 3 businesses in the thick of implementing the toolset, North American AWS and North American MNCS Smart Metering Businesses, there are a few months ahead of Global Transport that kicked off in the second quarter. And we actually just had a kickoff for Applied Water in Europe that started on their journey last week. AWS and Smart Meeting have gone through their initial quads and quartile analysis and now they're working through the meat of segmenting their businesses, how they want to support their ongoing customer base and then building their 0 up P and Ls, really highlighting the appropriate level of resources they need to run those businesses.

Speaker 3

They've come out with some initial price increases. Again, those benefits take a little while to work their way through the backlog. So again, no material short term benefit, but we see a significant pickup at the end of this year leading into 2025, where we'll see a more material P and L hit or pickup, excuse me. The teams are focusing on communicating with our customers and how the toolset is going to impact them, really talking to their largest customers and how these changes will benefit them in the long term, really improving the overall experience with Xylem as we bring new product innovation to them faster, improve our delivery and quality to them. So a lot of excitement around the toolset externally for their customer bases.

Speaker 3

So progress continues. I think we're right on schedule. Again, confident in the value eightytwenty is going to bring and provide for us over the next several years, really in line with what we highlighted in the additional impact the toolset is going to have in the framework we laid out back in Investor Day.

Speaker 5

That's a really helpful update, Bill. Thanks. And given that most of the operating results today are either as expected or a little bit better, I can ask a broader industry question if I could. Just implications on the Supreme Court overruling the Chevron doctrine. I know we're still in the early innings, but any kind of high level thoughts what the ripple effects might be in PFAS remediation at the federal level, the super fund timing.

Speaker 5

And look, I know it's not in your numbers, it's not in your 3 year guide, but just the idea here is what might the implications be. And I can see that at the state level, that's where all the remediation efforts have been going in anyway and the states like California are not waiting for the federal government to lead the way. So just from your perspective and insight, how do you think this plays out?

Speaker 2

Thanks for the question, Dean. We didn't see this one coming. If you asked us 3 months ago, this was not on our radar. So we're reacting to lots of different volatility out in the marketplace. But with the Supreme Court striking this down, the Chevron doctrine, it does introduce some uncertainty.

Speaker 2

And some regulations and federal laws are at the risk of being challenged much like the EPA's final rule on PFAS to your point. Additionally, beyond that, Dean, there's litigation ongoing already that's challenging EPA's cost estimates to use to set the MCL level, the maximum contaminant level at 4 parts per trillion as you're aware. And it's only going to potentially push out what's already a long phase in timeline of 3 years to test and 5 years to mitigate PFAS. So to your point, we think ultimately the states are going to fill in the gaps if a national PFAS regulation is reversed. We don't really anticipate that, but if it does, you've got about 11 states today with that have MCL, the maximum contaminant level for PFAS in drinking water already.

Speaker 2

You've got another 12 states, that have some kind of PFAS regulation or any health or notification levels, things of that nature. And that's over half the U. S. Population. So while it may stumble a little bit out of the gates and there's going to be some challenges that we're already seeing challenges in litigation, that's why we didn't bake it into our long term framework.

Speaker 2

We just think it's too far out. But we stand ready to and well positioned to partner with utilities, and we have partnered with utilities, as you know, and helping them manage this and other emerging contaminants. So more to come, but that's kind of what we think.

Speaker 5

That's real helpful. Thank you.

Speaker 2

Thank you.

Operator

And our next question will come from Mike Halloran with Baird. Please go ahead. Hey, morning, everyone. Thanks, Andrew.

Speaker 6

Good morning.

Operator

Welcome, Keith.

Speaker 7

Hi, Mike. So just bubble setting some stuff here. If I look at obviously very healthy margins on the quarter, and Bill's earlier comment on the momentum there holds. But if you think about your demand commentary as well as how you're characterizing the second half of the year, it doesn't feel like much has changed from a trend thought process, how you're guiding the second half of the year. Just want to clarify that and any thoughts around that?

Speaker 3

Yes, Mike. No change to our expectations for the second half. I think it's playing out exactly how we thought when we gave our update last quarter. With the exception that we had some accelerated performance in MNCS, which drove us to take up our full year guide, we increased our full year revenue guidance up to 5% to 6% and some timing of capital projects in WSS that drove better results in the second quarter. Sequentially, Q3 looks a lot like Q2 from a dollars perspective, which is more challenging year over year comps really driving the lower implied organic growth rate.

Speaker 3

So we're still confident and bullish in most of our end markets. The macro noise that we highlighted is there's things out there, but from our perspective, we don't see a material impact or any signaling of expected slowdown for us. MNCS, there's still high demand for our smart metering products and our differentiated AMI network. Orders were down, but again, that's primarily just project timing. There's still a strong funnel of large deals in the U.

Speaker 3

S. And Europe and we had several wins recently, a really good one that leverages synergy sale with the Eureka. So the team continues to do an excellent job of finding new projects and winning new business. WSS, again, really strong growth, just really the timing of capital projects there. But they still have strong demand across the legacy ISAS into watering business.

Speaker 3

They had some orders lumpiness. Again, we had a huge build on operate project last quarter. We have a couple more of those in the funnel that could be realized in the orders here over the back half of the year. So really nothing there that is any concern so bullish around kind of their high growth verticals. Water Infrastructure, again, really strong performance on healthy demand, high single digit orders with growth across all their regions.

Speaker 3

Treatment was up over 20% with some large project wins. The transport business is one of our most differentiated business and continues to perform well. So our developed markets and pretty much all our applications within WI are doing extremely well. AWS obviously is the one market that remains a little bit Again, it's our shortest cycle, most cyclical group of businesses. But what we've seen there has been pretty consistent with our expectations, kind of low single digit.

Speaker 3

The second half comps get a little bit easier. So they'll gradually get to a lower organic decline. And then some of the project wins that we highlighted in the prepared remarks, will start to get them back on the road to growth in 2025.

Speaker 2

Okay. Super helpful. And then maybe some thoughts on

Speaker 7

how you think backlog tracks from here and what normal looks like once you work through the path through backlog across a couple of segments and how we think book to bill should track?

Speaker 3

Yes. I would say back log is still really strong. It declined slightly organically. That's primarily just us continuing to work down the MCS past due backlog. That's a tough one to forecast just because of the lumpiness of some of the large projects within MCS.

Speaker 3

And again just the new business opportunities within WSS on the build on operate. So I think we'll bleed a little bit here as we progress the year, but still confident in kind of our long term growth framework for the individual segments getting into 2025. So I would say, lumpiness probably gives us a little bit caution to give you a specific number. But again, robust demand and outlook for most of our end markets.

Speaker 7

And Bill, you mean bleed to a more normalized level because of the past due backlog normalization? Or are you suggesting something different?

Speaker 3

No, exactly. That's spot on.

Speaker 7

Out. Awesome. Great. Thanks everyone. Appreciate it.

Speaker 6

Thank you.

Operator

And our next question will come from Scott Davis with Melius Research. Please go ahead.

Speaker 8

Hey, good morning everybody and congrats, Andrea, on your move. Guys, you didn't talk at all about capital deployment, which is fine because you still have the VOCO coming in. But is there a certain tipping point where you get more confident being able to do deals? Are we close to that? Are we there?

Speaker 8

Just some commentary would be helpful.

Speaker 2

Good question. Again, like you mentioned, Scott, our first priority is to focus on the integration of Evoqua. And I think you can see from the results that we're doing a great job on both the cost synergies. They're tracking well as well as the revenue synergies. We have, Scott, built a lot of muscle on M and A over the past 18 months with the planning of Evoqua, now the passing of 1 year of execution.

Speaker 2

So we've started to build that muscle in the organization, which is going to help us going forward. Maybe the other thing I'd just reiterate that I said at Investor Day is that we've also put in place what I would call a strong bottoms up process in our M and A kind of acquisition process to drive more consistent organic growth and deployment. And I think that's going to help us over the cycle. So obviously, we just laid out the 3 year framework. It's not going to happen overnight, but I can tell you that we're very active and we have a very strong pipeline that we're managing.

Speaker 2

And it aligns well to the value mapping that we just finished up. So again, we're going to continue to run those targets through our decision criteria, that strategic fit. Financials has got to make sense. We're not going to do anything silly. And really, to your point, kind of organizational readiness, I think we're trending well.

Speaker 2

We've got good momentum and ready to execute our M and A pipeline. Some of it's just timing, but it is an important piece as we outlined at Investor Day to our EPS growth at mid teens over the cycle. So we're very active, but some of it's just timing, and we're still in early innings.

Speaker 8

Okay. Good question or a good answer. Thank you. Thank you. And guys, I don't I'm sure you don't want to give a lot of detail here, but you referenced the large project wins.

Speaker 8

I assume those are domestic. Are they related to mega projects? Can you give us a little bit of color on kind of the scope and size historically versus how you kind of think about what large looks like? I mean, there's so many big semi plants, just stuff out there of scope that we've never seen before that, love to get a little color from you on those projects, if you can.

Speaker 2

Yes. I think back in Investor Day, we talked about data centers. That's starting to ramp up for us, and especially in our applied water business. But I think we're positioned uniquely to, Scott, in the fact that we also move water through pumping, we treat it and then we also sense for it. So as we're winning these kind of data centers, we offer a more turnkey solution and we're kind of working at bottoms up as well as some of the actual providers that are building the data centers themselves.

Speaker 2

So that's started to pick up some momentum. We had a nice win in applied water. We've had a couple actually kind of at the $7,000,000 to $10,000,000 range. And so that's going well. Also, I'd say on the power transition, we highlighted a big win last quarter with green hydrogen.

Speaker 2

And so the water needed for that over a 20 year contract is big. We've got some other ones that have not kind of fit within the quarter that are in the pipeline that we've got a lot of momentum around as well around power. And we see more and more consistency in the semiconductor space with microelectronics and the need for clean water. And a lot of these places have water scarcity issues and so the water reuse is super important there. So I would say that some of these kind of high growth verticals, we're seeing momentum in big projects.

Speaker 2

And we don't see that slowing. We see it only continuing. And it will be a little lumpy within WSS specifically, but we see good momentum and a good pipeline.

Speaker 8

Okay. Thank you and congrats on the 1st couple of quarters of the year here. Well done. I'll pass it on.

Speaker 2

Thank you.

Operator

And our next question will come from Nathan Jones with Stifel. Please go ahead.

Speaker 9

Good morning, everyone.

Speaker 6

Good morning.

Speaker 9

I want to start off with some follow-up questions on MCS. Orders down in the quarter, I understand there's some lumpiness around that, but orders have been down have declined a little bit last couple of years, burning off some backlog in 2023 2024. Maybe you could just talk about the visibility into the order pipeline that you have to see that turnaround and start heading in the right direction to support growth. And with that, I know high single digits to long term kind of guidance here, but you are burning a fairly significant amount of backlog down in 2024. Should we expect the 2025 growth to be a little bit lower than the long term average because you're comping against that backlog burn?

Speaker 2

Yes. I'd start us out here and then maybe turn it over to Bill. Again, just a reminder, we're still in fairly early innings to mid innings in AMI adoption. So there's a lot of runway out there. And although it doesn't always show up in orders, we do obviously put some of the orders in backlog or some of the contracts in backlog and how they convert to orders can be a little lumpy.

Speaker 2

And this is also a reminder that only 20% of that business is kind of big deals. 80% of it is book and ship or what we call flow. But Nate, just looking at the pipeline that I see, we've got a lot of room for continued growth in that business. And we don't see it slowing down. It's just a matter of timing more than anything.

Speaker 3

Yes. No, our expectation next year is that it will be in line with our long term framework. It's just the backlog we need to get us there. So maybe a little bit stronger before we get to kind of that high single digits at some point in time next year.

Speaker 2

Yes. And I think you had asked a few calls ago about where we are in past due. We expect to be almost complete with the past due backlog by the end of the year and probably wrap that up in Q1 of next year. So that burn is happening and obviously leading to the increased guide in M and CS revenue at the high teens.

Speaker 9

2nd one I wanted to ask was on cash conversion. Obviously, the guidance taken up to 120 percent. And I would think that eightytwenty and the simplification initiatives should have an impact on working capital probably over the next at least couple of years that maybe drives cash conversion higher than the long term average as you simplify the business, take inventory out, work on receivables and payables and stuff like that. So any commentary you can give us on opportunities you're seeing in working capital as a result of these eightytwenty and simplification initiatives? Thanks.

Speaker 3

Yes. No, Nate, I think you're exactly right. That's a big part of toolset. As you start to reduce a lot of the complexity of the product portfolio, we get a lot more efficiency through just faster moving inventory. Obviously, you reduce the complexity of a tremendous amount of long tail customers and your DSO improves from that perspective.

Speaker 3

So I totally agree we'll see some benefits. The team does a phenomenal job right now with our overall cash conversion. But I think eightytwenty will be able to take it to the next level. But I think that will be on the back end of the P and L benefits that we get. So probably looking at you get through the implementation, we said, hey, 12 to 18 months to realize the P and L benefits, it's probably in that 18 to 24 months.

Speaker 3

That's the second phase of simplification on the back end.

Speaker 9

Makes sense. Thanks very much for taking my questions.

Speaker 2

Thanks, Nate.

Operator

And our next question will come from Joe Giordano with TD Cowen. Please go ahead.

Speaker 4

Hey, good morning guys.

Speaker 2

Hey, good morning Joe.

Speaker 4

Yes, Andrea, thanks for everything. You've been a huge help. If anything happens that Water Infrastructure will now know who to blame on it. So

Speaker 1

thank you. Thank you, Joe. It's been a pleasure.

Speaker 4

A lot of my questions have been asked already, but maybe if you could touch moving the service business and combining it with WSS, like any like concrete kind of examples of how this is changing like conditions on the ground for you guys and leading to better results?

Speaker 2

Yes. I can start us out. I mean, I think that obviously, we did it for few reasons. One is to increase our synergies because there is a lot of synergies when you now can move water and treat water. And so now we're able go in with a turnkey solution.

Speaker 2

We're already seeing probably that segment be the quickest to drive synergies of some of those we highlighted at the Investor Day. So also, I'd say just a common tool set. When you think about back office, we had 2 service companies when we put the 2 companies together. The legacy Vocal Business was much more mature, had good processes and tools. And now leveraging that across the entire services business has been a big help.

Speaker 2

And I think probably the biggest thing is over time will be our technician utilization, being able to utilize technicians across the entire portfolio now. Now everybody is not completely spongable, but say onethree to half of your technicians now can flex and do other types of work that they were doing before. And it also gives our Aqua Pros, is what we call them, a broader career path. So I'd say there's different aspects of how we're seeing it play out, but it's the fastest part of our revenue synergy right now, and it's working well.

Speaker 4

And then if I can ask maybe you talked about data center and stuff like that. I think about like the large projects pipeline of WSS and maybe also like general industrial type exposure at their infrastructure, Are you seeing any like bifurcation there? Because data center is definitely strong, but the commentary around large project activity in other sectors is kind of weakening. So curious if you're seeing like puts and takes in any of those businesses there?

Speaker 2

Not really. I mean data centers, I think as I've mentioned, is not a huge part of our portfolio. It mainly shows up in applied water, although we've seen some synergies that we went to one of those in China at our Investor Day, but we've seen some other synergies where we're managing water at a data center as well as doing treatment. But it's not something that's going to be a big swing for us because it's not a large part of our business. But in general, we're seeing high growth verticals like pharma, life sciences, microelectronics, power continue to be really robust.

Speaker 2

And look, no matter what regulations are, whatever's happening from that perspective, what's happening around climate and water scarcity is driving a lot of interest. I mean we get I get phone calls all the time from leaders and CEOs in different parts of the world that are dealing with some real challenging stuff in terms of being able to keep their operations open or the quality of their water because of maybe saltwater intrusion, dealing with a different type of water they're trying to treat. So we don't see any real slowdown. We're in really strong high growth verticals, and data centers is one that's not big for us, but we're going to take advantage of it while it's hot.

Operator

And our next question will come from Andrew Kaplowitz with Citigroup. Please go ahead.

Speaker 10

Good morning, everyone. Andrea, thanks so much for your help.

Speaker 1

Thank you, Andy. So

Speaker 10

Matt or Bill, you mentioned inflation in Water Infrastructure and margin in that segment after being up nicely in Q1, year over year was down a bit in Q2. I know you said that acquisition that was acquisition related, but could you give more color into what you're seeing on the price versus cost side, particularly in that segment? Did anything materially change or is it just lumpiness? And we know you have some China exposure in there, so maybe you could talk about the competitive environment in China?

Speaker 3

Price cost was positive there. I think the biggest impact and that's why we highlighted just the acquisition element. Q2 last year, during the short time that APT was part of that segment, it had unusually high margin. It was in the low 20s versus this normalized rate of kind of the teens. So that was the biggest difference.

Speaker 3

That's why we added in the pro form a margin expansion, 40 bps and just it was at 40% pro form a incremental. So fundamentally, the profit there is still strong. It sequentially improved. We expect it to continue to sequentially improve as we progress through the back half and have year over year margin expansion. I would say from a water infrastructure perspective, they do have probably the largest piece of our China exposure.

Speaker 3

China has been a little bit lumpy for us. It's actually the first half, it's been positive from a revenue perspective. The orders were down, but we see kind of some of the larger projects, especially within treatment, continue to get delayed just as I think China is trying to figure out the overall economic situation and how they're going to fund several things across their investment framework. So that's probably the one area we kind of are continuing to keep our eye on as things seem to be perpetually shifting to the right.

Speaker 10

Very helpful. And then just maybe focusing a little more on applied water. Orders, as you said, look good. They were from long cycle projects. Maybe talk about the short cycle market as you see it.

Speaker 10

Is the business sort of kind of bouncing along the bottom? What's the channel telling you? And you obviously mentioned the easier comparison in the second half of the year. So I know you talked about applied water returning growth in 2025, but couldn't it do that before the end of the year?

Speaker 3

Yes. I think, Q3 is still down low single digits. Q4, it's probably closer to 0 excuse me, 0. Again, it's relatively in line, I mean, sequentially, the dollar amounts. It's the decline is largely seen in developed markets and primarily in our commercial and industrial space.

Speaker 3

Again, from a macro perspective, the institutional ABI has been negative for 16 consecutive months. We continue to see manufacturing PMI, which are good indicators for us for that business. But I give the teams a lot of credit. Matthew highlighted, they're making their own luck. They're leveraging their differentiated technology to win some of these larger projects to get back on a growth track into next year.

Speaker 10

Appreciate all the color.

Speaker 2

Thanks, Andy.

Operator

And our next question will come from Bryan Blair with Oppenheimer. Please go ahead.

Speaker 6

Thank you. Good morning, everyone. Andrea, thank you very much for your

Speaker 1

help. Thank you, Bryan.

Speaker 6

Very solid quarter and MCS again MCS margin again stood out. I'm sorry if I missed this detail, but Bill, you have called out and been very upfront about there being some mix headwinds going into the back half with energy deployments. Are you willing to size that sequential headwind relative to the strength of 1H?

Speaker 3

Yes. I mean, we're think it could be around 100 basis points in the back half sequential decrease from where we finished the first half.

Speaker 6

Okay. Understand. Appreciate that. I was hoping you offer a little more color on how treatment orders phased through the quarter. I think you cited around 20% growth there, so very robust for a business that tends to be leading into Gainer.

Speaker 6

Any meaningful differences by region that you would call out and how does treatment momentum influence your team's confidence in the back half outlook?

Speaker 2

Yes. We've seen this is Matthew, Brian. We've seen really good momentum in treatment across all regions. Like you said, we're up roughly 22% for the entire business and probably led by the U. S.

Speaker 2

And emerging markets. In China, as Bill pointed out, it's been a little bit weak. And actually that was a little bit of a bright spot on orders themselves. We were up slightly low single digits in China on treatment. So all in all, it's a really good indicator that capital continues to flow.

Speaker 2

The funding, we see capital investment continuing and good momentum for treatment, which is a big part of not only water quality, but also scarcity of water. So we see those trends continuing.

Speaker 6

Very encouraging. Thank you, Ken. Thank you.

Operator

And this concludes the Q2 earnings call. I would like to turn it back to Matthew Pine for any closing remarks.

Speaker 2

Thank you. We'll wrap it there. Thanks for your questions and thanks for everyone who joined today. As always, we appreciate your interest in Xylem and all the very best.

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Key Takeaways

  • Xylem delivered a very strong Q2, with high-single-digit organic revenue growth, 170 bps adjusted EBITDA margin expansion and 11% adjusted EPS growth driven by volume, price and productivity.
  • The Measurement & Control Solutions segment was a standout, posting 26% revenue growth and 700 bps margin expansion, while backlog normalization continues as large projects phase through.
  • The 1-year integration of Evoqua is on track, with $100 million of exit run-rate cost synergies expected in 2024 and commercial teams leveraging combined capabilities to win new utility and industrial business.
  • Based on first-half momentum, Xylem raised its full-year guidance to 5–6% organic revenue growth, ~20.5% EBITDA margin (up 160 bps) and EPS of $4.18–4.28, with free cash flow conversion above 120%.
  • Simplification and “eightytwenty” transformation efforts remain on schedule for P&L benefits in 2025, and the company unveiled new 2030 sustainability goals around decarbonization, water stewardship and access to water for 80 million people.
A.I. generated. May contain errors.
Earnings Conference Call
Xylem Q2 2024
00:00 / 00:00