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Carrier Global Corporation (NYSE:CARR) Q4 2023 Earnings Call Transcript

Carrier Global Corporation (NYSE:CARR) Q4 2023 Earnings Call Transcript February 6, 2024

Carrier Global Corporation beats earnings expectations. Reported EPS is $0.514, expectations were $0.51. Carrier Global 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 morning, and welcome to Carrier Fourth Quarter 2023 Earnings Conference Call. I would like to introduce your host for today's conference, Sam Pearlstein, Vice President of Investor Relations. Please go ahead, sir.

Sam Pearlstein: Thank you, and good morning, and welcome to Carrier's fourth quarter 2023 earnings conference call. With me here today are David Gitlin, Chairman and Chief Executive Officer; and Patrick Goris, Chief Financial Officer We will be discussing certain non-GAAP measures on this call, which management believes are relevant in assessing the financial performance of the business. These non-GAAP measures are reconciled to GAAP figures in our earnings presentation, which is available to download from Carrier's website at ir.carrier.com. The company reminds listeners that the sales, earnings and cash flow expectations and any other forward-looking statements provided during the call are subject to risks and uncertainties.

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Carrier's SEC filings including Forms 10-K, 10-Q and 8-K, provide details on important factors that could cause actual results to differ materially from those anticipated in the forward-looking statements. Once the call is open for questions, we ask that you limit yourself to one question and one follow-up to give everyone the opportunity to participate. With that, I'd like to turn the call over to our Chairman and CEO, Dave Gitlin.

David Gitlin: Well, thank you, Sam, and good morning, everyone. Let me start by saying a heartfelt thank you to our team for delivering excellent results in 2023, while navigating such a significant and compelling portfolio transformation. I'd also like to thank and welcome our new 12,000 team members from Viessmann Climate Solutions. Our formal kick-off last month had more energy, warmth, and excitement than I have ever seen from day one celebrations. I profoundly believe that this will go down as the most impactful business combination that our industry has ever seen, and we are so excited to be on this journey together. As you can see on Slide 2, the fourth quarter capped a strong finish to a great year for Carrier. In the quarter we achieved 33% of adjusted EPS growth, driving another quarter of double-digit aftermarket growth and 80 basis points of margin expansion on flattish sales.

Importantly, free cash flow of over $800 million significantly beat our expectations, driven by continued strong performance and working capital. Overall for 2023, I am so proud of what the team accomplished, as you can see on Slide 3. Our team has consistently shown an ability to outperform without excuses, overcoming COVID headwinds to deliver strong results following our spin in 2020, persevering through supply chain challenges, and delivering for our customers and shareholders despite significant portfolio moves. For the year, we delivered 17% EPS growth and 3% organic sales growth, drove about 40% core earnings conversion, improved our free cash flow performance by more than 50% year-over-year, from $1.4 billion to over $2.1 billion. Not only did we deliver strong results in the year, we also took key actions on growth initiatives and detailed productivity planning to position 2024 for solid growth and margin expansion.

This consistent performance has led to differentiated shareholder returns since we became a public company, as you can see on Slide 4. As we prepare for our spin, our goal was to leverage our many strengths that Carrier established over the past century, but also take advantage of the unique opportunity to create a new Carrier. We established a performance culture with innovation and customer intimacy at our core and simplified our business and portfolio. We have been disciplined on continuous improvement in productivity, invested in growth, and have driven recurring revenues with a proven playbook. We sharpened our focus as an organization to lean into the long-term trends around sustainability and have accelerated our leadership in this space.

Though we're proud of our track record, we're even more excited about our next chapter as we take our performance to the next level. Our mission is clear, to be the global leader in intelligent climate and energy solutions, as you can see on Slide 5. It starts with differentiated product introductions, some of which you see listed here. We are now focusing our 6,000 engineers on developing differentiated sustainable solutions for our customers. Specific technologies that cut across our portfolio, across the globe, such as AI and sensing algorithms, low GWP refrigerants, energy efficiency, low temperature heat pumps, electrification, and integrated energy management solutions. We are poised to out innovate and win and we will continue to invest to ensure that we do so.

These efforts are reflected in our results as we gain share across our portfolio. European commercial heat pump sales were up 25% in 2023. Nearly 40% of our North America residential split systems were heat pumps, and our market-leading electric transport refrigeration sales in Europe grew over 70%. For sustainability leadership, we walk the talk. We have reduced our customers' emissions by more than 270 million metric tons on our way to our 1 gigaton Scope 3 commitment for 2030. We remain on track for carbon neutrality in our operations by 2030 and are using a bound across our footprint to help ensure that we achieve it. We also laid out a clear roadmap to achieve net-zero greenhouse gas emissions across our value chain by 2050 under the SBTI framework.

In addition to sustainability, one of our other key themes is achieving consistent double digit aftermarket growth which we achieved again last year as you can see on Slide 6. Growing 12% last year represents our third consecutive year of double digit growth. We now have approximately 30,000 connected chillers in the field versus 5,000 just three years ago. This has helped our attachment and our coverage rates with a commercial HVAC now at 45% attachment for long term service agreement up from roughly 20% just three years ago. We know the playbook, it's working, and we are targeting another year of double-digit aftermarket growth this year and beyond. In summary, we continue to perform while we are transforming, as you see on Slide 7. I already mentioned the energy and warm reception that we receive from our new team members and many customers across Europe just a few weeks ago.

Here is what is clear. Viessmann is an organization with a deep culture of excellence. Excellence in its product design, customer intimacy, channel superiority, culture, team, all reflected in its deeply admired brand. The tangible and intangible benefits from this combination will benefit our people, customers, investors, and the planet for decades to come. We are also fortunate to now have Max Viessmann on our board, who is already providing us with unique insights and perspectives. When we look closer at 2024 we are planning for Viessmann Climate Solution sales to be up mid-single digits off a 2023 year end of about $4.2 billion, with high teens adjusted EBITDA margins. This includes the benefit of our targeted first-year cost synergies.

Internally, we are targeting significant revenue synergies, which would all be upside to our business case. Even though last year's regulatory and subsidy uncertainty in some European countries delayed order intake, which we expect to impact growth in the first half of 2024, we do expect Viessmann Climate Solutions to return to solid growth in the second half of this year. And we target achieving or exceeding our year one business case adjusted EBITDA by accelerating supply chain and other cost savings. So we are off and running. We are applying the playbook from our successful integration with Toshiba to ensure that we preserve Viessmann’s super team and culture while integrating to create tremendous value together. Turning to our business exits on Slide 8.

You all saw our announcements on Access Solutions and Commercial Refrigeration which together will yield close to $6 billion or about $4.5 billion in net proceeds. We are making good progress on our Industrial Fire sale and still expect to announce a definitive agreement around the end of the first quarter. We are also preparing to exit our combined residential and commercial fire businesses via a sale or public market exit. Given our cash performance and the progress of these business exits we now have a path to achieve about 2 times net leverage ratio by the end of this year, which was about a year earlier than we previously indicated. Before I turn it over to Patrick, a quick word on our 2024 guidance on Slide 9. Even though GDP in many of our key markets looks to be less than 2%, we are planning for mid-single digit growth.

Sustainability mega trends and continued double digit aftermarket growth enable us to significantly outgrow global economies. We will continue to be tenacious and disciplined on every aspect of productivity, and we are therefore targeting over 50 basis points of adjusted operating margin expansion. With that, let me turn this over to Patrick. Patrick?

Patrick Goris: Thank you, Dave, and good morning everyone. Please turn to Slide 10. Q4 earnings were ahead of our expectations and the guide we provided in October, even though reported sales of $5.1 billion were about a $150 million lower. Organic sales were flat and a favourable 1% tailwind from currency translation was offset by the impact of the divestitures. Organic sales were lower than we expected, mostly in the North America residential HVAC business as lower volumes reflected demand and distributors drove down field inventories. Q4 adjusted operating profit was up 8% compared to last year, despite flat sales, driven by favorable price cost and productivity, partially offset by investments. As a result, adjusted operating margin expanded by 80 basis points compared to last year.

An engineer wearing a hardhat inspecting a newly-installed air conditioner system.
An engineer wearing a hardhat inspecting a newly-installed air conditioner system.

Adjusted EPS of $0.53 was up 33% year-over-year and was ahead of our implied Q4 guide of $0.50. Compared to our expectations HVAC margins were little better, fire and security and refrigeration margins were little light and we benefited from discreet tax items and somewhat lower net interest expense. Free cash flow of $829 million was about $150 million better than our October guide and we generated $2.1 billion of free cash flow for the full year, which is 92% of adjusted net income. Excluding some of the M&A related fees and cash restructuring spend which are adjusted out of our results we converted over 100% of adjusted net into free cash flow in 2023. Moving on to the segments starting on Slide 11. The HVAC segment had another good quarter with significant operating margin expansion despite flat sales.

Organic sales were down 1%, mostly due to North American residential HVAC sales being down high teens. This headwind was almost completely offset by continued exceptional growth in light commercial HVAC, high single digit growth in commercial HVAC, including over 20% growth in the Americas and another quarter of double-digit growth in aftermarket. North America residential HVAC volume was down in the high 20s, which was partially offset by continued price realization and a positive mix-up related to the 2023 SEER transition. Our light commercial HVAC business finished a very strong year with another quarter of about 20% year-over-year growth. This business was up 35% for the full year, an industry best. Adjusted operating margin was up 250 basis points year-over-year on flattish sales growth, driven by price cost and productivity.

This led to a full year operating margin for this segment of 16.6%. Overall, another great year for our HVAC business. Transitioning to Refrigeration on Slide 12. As expected, organic sales for this segment returned to growth in the quarter and were up 6%. Within transport refrigeration, container was up significantly, around 60%. Our global truck and trailer business was up low single digits with North America and Europe flat and strong growth in Asia. Our Sensitech business, which provides comprehensive visibility solutions for tracking and monitoring temperature sensitive products was up high single digits. Commercial refrigeration was down high single digits year-over-year. Operating margin contracted 160 basis points year-over-year due to investments and a few one-time items such as warranty and insurance.

Moving on to fire and security on Slide 13. Organic sales were down given a very tough compare in Access Solutions, partially offset by strength in industrial fire, which was up almost 20%. Adjusted operating profit was down 7% versus the prior year, driven by volume mix and currency, partially offset by favorable price cost. The revaluation of the Argentinian peso impacted margins by over 100 basis points. Full year operating margin for this segment was about 15%. Turning to Slide 14. As you can see on the left side of the chart, backlog for our longer cycle commercial HVAC business continues to increase, while backlogs in our shorter cycle businesses continue to normalize. Total company orders were down low single digits in the quarter mostly as a result of our North America truck and trailer orders being down significantly compared to last year.

In Q4 of 2022 North America truck and trailer orders were up an exceptional 120% year-over-year as we opened the 2023 order book. Excluding North America truck and trailer, Carrier’s organic orders were up mid-single digits in Q4. HVAC orders returned to low single digit growth as residential HVAC orders were up mid-teens, which more than offset the decline in light commercial orders, which were down roughly 40% as lead times continued to improve in that business. Commercial HVAC orders were up low single digits and the longer cycle backlog remained strong, up around 30% on a two year stack and extending well into the second half of 2024. Refrigeration orders were down about 20% in the quarter with global truck and trailer orders down roughly 50% reflecting the very tough comp in North America I mentioned earlier.

This was only partially offset by a return to growth in orders in a container business where orders were up nearly 60% and low single-digit growth in commercial refrigeration. Overall, we enter 2024 with robust, longer cycle backlogs in commercial HVAC and a return to orders growth in key businesses such as residential HVAC and container. Moving on to Slide 15, guidance. Let me start with some key assumptions embedded in guidance related to our portfolio transformation. We have included a full year of Viessmann Climate Solutions as we closed the acquisition on January 2nd. You may recall that we previously communicated that our business exits will remain in continuing operations until they close. Therefore, with definitive agreements in place for the sale of both global access solutions and commercial refrigeration, our guidance assumes a midyear exit date and so both businesses are included in 2024 guidance through the end of June.

Accordingly, our guidance assumes the net proceeds from these two exits will be used to pay down debt. We include industrial fire and residential and commercial fire for the full year 2024 into our guidance and we will do so until there are definitive agreements in place and we have a good estimate as to the likely exit date. Now to details of the 2024 guidance. We expect reported sales of about $26.5 billion, including mid-single-digit organic sales growth, with about equal contribution from price and volume mix. We expect mid-single-digit organic growth for Viessmann Climate Solutions to contribute about 20% to reported sales growth and a deconsolidation of KFI along with the divestitures of Global Access Solutions and Commercial Refrigeration to represent about a 5% headwind to reported sales.

Adjusted operating margin is expected to be between 15% and 15.5%, up over 50 basis points compared to 2023, driven by price, volume, and productivity. Productivity includes an $80 million benefit from restructuring actions we executed earlier this quarter as we simplify our structure, given our transformation. The impact of Viessmann Climate Solutions and overall company operating margin is about neutral. Core earnings conversion, that is excluding the impact of acquisitions, divestitures and FX is over 30%. Incorporating an estimated 23% adjusted effective tax rate, this gets us to an adjusted EPS guidance range of $2.80 to $2.90, which includes about a seven-set headwind from the Viessmann acquisition as we expected. Underlying free cash flow is expected to be up about 10% compared to 2023.

Reported free cash flow will be lower given some of the portfolio transformation activities. Similar to 2022, when we exited Chubb, cash flow from operations will be impacted by tax payments related to the gains on the sales of these business exits. Given the large expected gains on the two transactions already announced, we expect free cash flow to net about $700 million. This includes about $1.7 billion of cash outflows related to the expected tax payments on the gains of Access Solutions and Commercial Refrigeration, transaction fees related to all four exits and the Viessmann transaction and additional restructuring. Similar to 2023, we expect higher than typical restructuring charges in 2024, about $100 million pre-tax. Seasonally, we expect our free cash flow to be back half-weighted.

Unlike the tax payments on the gain of the business exits, proceeds from the divestitures will show in the cash flow statement as investing activities and therefore do not impact free cash flow. As shown on the right side of the slide, we expect mid-single digit organic growth in all three segments. Fire and security operating margin of about 14% reflects the absence of the higher margin global access solutions business in the second half of the year. Now moving to Slide 16, 2024 adjusted EPS bridge. This chart shows how adjusted EPS increases from $2.73 to $2.85 at the midpoint. Our guidance includes the benefit of volume leverage and strong productivity, leading to over 30% core earnings conversion and over 50 bips of margin expansion. Think of the dark blue as our core business, representing all the businesses we will retain, and the lighter blue representing the four businesses we are exiting.

We expect the earnings of our core business to be up close to 15% in 2024, despite the dilutive impact of Viessmann. You can see the net contribution from Viessmann Climate Solutions and the net impact of losing six months of earnings from Access Solutions and Commercial Refrigeration offset by interest savings from the proceeds. We expect a headwind from tax as we return to a 23% adjusted effective tax rate. On the far right, you see that our full year 2024 guide includes about $0.30 of adjusted EPS related to businesses being exited. The $0.30, of course, does not reflect the benefit of the redeployment of expected net proceeds from the exits of industrial fire and residential and commercial fire. As usual, we provide estimates of other items in the appendix on Slide 20.

With respect to capital deployment in 2024, we recently announced a dividend increase payable starting with the February dividend, and our focus this year will be on deleveraging through free cash flow generation and net proceeds from the exits. As we return to about 2 times net leverage, we do intend to resume share repurchases. Finally, before I turn it over to Dave, let me provide some additional color on the first quarter. We expect low single-digit organic revenue growth with about 50 bips of margin expansion. We have a $0.10 year-over-year adjusted EPS headwind, including $0.06 from Viessmann, $0.02 from last year's gain on the sale and refrigeration, and $0.01 penny each from the KFI deconsolidation and a higher tax rate. We therefore expect Q1 revenues of a little less than $6.5 billion and adjusted EPS to be right at about, but not above $0.50.

We do expect organic revenue growth sequentially improve throughout the year with easier comparisons in the second half of 2024. We expect a little less than 50% of full year adjusted EPS to be realized in the first half of the year and the balance in the second half. With that, I'll turn it back over to Dave.

David Gitlin: Thanks, Patrick. In closing, we delivered strong results in 2023 and are geared up to do so again in 2024. This is a big year for us as a company, and we will remain heads down, focused on execution, and we will start realizing the tremendous benefits that we'll see from the combination of Viessmann and as a sustainability focused, higher growth, pure play company. In 2024, we will continue to perform while we transform. With that, we'll open this up for questions.

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