My name is Erica, and I will be your conference facilitator this afternoon. At this time, I would like to welcome everyone to Fortive's Corporate First Quarter 2019 Earnings Results Conference Call. All lines have been placed on mute to prevent any background noise. After the speaker's remarks, there will be a question- and- answer session. If you would like to ask a question at this time, simply press star, then the number one on your telephone keypad. If you would like to withdraw your question, press the pound key. I would now like to turn the call over to Mr. Griffin Whitney, Vice President of Investor Relations. Mr. Whitney, you may begin your conference.
Thank you, Erica. Good afternoon, everyone, and thank you for joining us on the call. With us today are Jim Lico, our President and Chief Executive Officer, and Chuck McLaughlin, our Senior Vice President and Chief Financial Officer. We present certain non-GAAP financial measures on today's call. Information required by SEC Regulation G relating to these non-GAAP financial measures are available on the Investors section of our website, www.fortive.com, under the heading Financial Information. A replay of the webcast will be archived on the Investors section of our website later today under the heading Events and Presentations and will remain archived until our next quarterly call. A replay of the conference call will be available shortly after the conclusion of this call until Friday, May 10th, 2019. Instructions for accessing this replay are included in our first quarter 2019 earnings press release.
We completed the divestiture of the Automation & Specialty business on October 1st, 2018, and accordingly have included the results of the A&S business as discontinued operations for current and historical periods. The results presented on this call are based on continuing operations. During the presentation, we will describe certain of the more significant factors that impacted year-over-year performance. All references to period-to-period increases or decreases and financial metrics are year-over-year on a continuing operations basis. During the call, we will make forward-looking statements within the meaning of the federal securities laws, including statements regarding events or developments that we expect or anticipate will or may occur in the future. These forward-looking statements are subject to a number of risks and uncertainties, and actual results might differ materially from any forward-looking statements that we make today.
Information regarding these factors that may cause actual results to differ materially from these forward-looking statements is available in our SEC filings, including our annual report on Form 10-K for the year ended December 31st, 2018. These forward-looking statements speak only as of the date that they are made, and we do not assume any obligation to update any forward-looking statements. With that, I'd like to turn the call over to Jim.
Thanks, Griffin, and good afternoon, everyone. Today, we reported first-quarter results that reflected a solid start to 2019, setting us up to deliver another year of strong double-digit earnings growth. Our first quarter adjusted earnings per share was in line with our expectations as the performance of Industrial Technologies, led by strong growth from Gilbarco Veeder-Root, was partially offset by near-term headwinds within Professional Instrumentation. We also generated strong free cash flow growth of greater than 30% in the quarter, reflecting the vitality of our businesses as we continue to invest in organic innovation and pursue acquisitions that will accelerate our strategy. On April 1st, we closed the acquisition of the Advanced Sterilization Products business from Johnson & Johnson, welcoming the business and its employees to the Fortive family. We are very pleased that we closed this complex carve-out on schedule in just under 10 months.
The $2.7 billion transaction represents our largest acquisition to date and provides Fortive with a strong position in the attractive $4 billion, mid-single digit growth medical sterilization and disinfection market. With a strong global installed base and leading brands, ASP brings growth, high recurring revenue, and significant earnings potential to the Fortive portfolio. While ASP is our most recent acquisition, we are excited about the progress being made by the other acquisitions closed over the past couple of years. Gordian and Accruent have continued their early momentum, generating strong growth through the first quarter of 2019. Likewise, ISC, Landauer, and Orpak are performing well as they embrace the Fortive Business System in order to deliver enhanced go-to-market execution, innovation, and improvements in free cash flow. The growth of these businesses continues to drive the evolution of the Fortive portfolio toward a higher growth, less cyclical profile.
We look forward to sharing more detail about our progress when we are together at our investor conference in May. I'd like to turn to the details of the quarter. Adjusted net earnings were $245.6 million, up 6.7% over the prior year, and adjusted diluted net earnings per share were $0.69. Sales grew 6.7% to $1.6 billion, reflecting a core revenue increase of 3.7%. Core revenue growth was highlighted by the strong performance of GVR, as well as Industrial Scientific and EMC. Acquisitions, including Gordian and Accruent, contributed 580 basis points of top-line growth, while unfavorable foreign exchange rates reduced growth by 280 basis points. Geographically, high-growth markets core revenue grew mid-single digits, led by Asia and the Middle East. China posted another strong quarter, with high single-digit growth led by GVR, Fluke, and Tektronix.
Developed markets core revenue grew low single digits, reflecting continued strength in North America and strong performance in Japan. Core revenue growth in North America was mid-single digits, led by GVR, Tektronix, EMC, and Industrial Scientific. Western Europe was relatively flat as strong growth at GVR and Qualitrol was offset by slower growth at Fluke and weakness at Tektronix. In the first quarter, we posted a gross margin of 51%, including 160 basis points of pricing. Reported operating margin, profit margin, was 13.6%, reflecting 240 basis points of dilution from acquisitions and 190 basis points of dilution from deal-related costs. Core operating margins were down 70 basis points as stronger volume at GVR was offset by lower than expected growth at Tektronix and Fluke, and unfavorable foreign exchange rates across the company.
During the first quarter, we generated $137 million of free cash flow and a seasonally strong conversion ratio of 84%. Free cash flow generated in the quarter represented a 31% increase year-over-year. For the full- year, we continue to expect free cash flow conversion of greater than 120%. Turning to our segments. Professional Instrumentation posted sales growth of 8.7%, including core revenue growth of 1.8%. Acquisitions contributed 950 basis points, while unfavorable foreign exchange rates reduced growth by 260 basis points. Reported operating margin of 14.4% reflected 740 basis points of dilutive operating margin associated with acquisitions and deal-related costs. Core operating margins decreased 190 basis points, reflecting the weaker than expected revenue growth at Tektronix and Sensing, the impact of tariffs, and unfavorable foreign exchange.
Advanced Instrumentation and Solutions core revenue increased low single digits as strong performance in Industrial Scientific and EMC was offset by lower growth for Fluke and Tektronix during the quarter. Field Solutions core revenue grew low single digits, with low single-digit growth in developed markets, paced by the continued strong performance of ISC. High-growth markets grew slightly as solid growth from Fluke and ISC was largely offset by continued weakness at Qualitrol. China posted another strong quarter with mid-single-digit core growth. Fluke generated low single-digit core growth led by double-digit growth at Fluke Calibration. Fluke's industrial growth in the first quarter was impacted by slower point-of-sale trends in Western Europe and the U.S., and the stronger finish in 2018. We did, however, see improvement in point-of-sale growth in North America over the back half of the quarter.
Fluke Digital Systems grew greater than 30%, led by eMaint, which added more than 50 new customers and generated a greater than 20% increase in annual recurring revenue. Fluke continued its strong broad-based growth in China, with point-of-sale increases reflecting the enhanced strength of Fluke's competitive position and healthy momentum as it ended the quarter. On the new product front, Fluke Networks launched two new fiber testing and inspection products during the quarter, which have gotten off to a strong start. ISC delivered high teens core growth led by North America. iNet saw another quarter of greater than 20% growth, while Rental had a particularly strong quarter driven by several large project wins. The ISC team is very excited about continuing to pursue the emerging revenue opportunity for bundled solutions that combine iNet with the company's rental offering in the coming quarters.
ISC delivered over 500 basis points of operating margin expansion in the first quarter as the application of FBS continues to drive consistent operational improvements. Qualitrol's core revenue declined low double digits during the quarter, in line with our expectations. While the company has started to see some early signs of more stable conditions in certain markets, we continue to expect the headwinds from soft market conditions to remain a challenge throughout 2019. Product Realization core revenue increased low single digits as high teens growth in EMC was moderated by a flat quarter from Tektronix. EMC saw strong base business growth along with the continued progress of its product offering for commercial satellites, with the first launches of satellites employing its fully networked pyrotechnic release solution during the quarter. Flat growth at Tektronix was a result of contrasting performance across developed and high-growth markets during the quarter.
Developed markets grew low single digits led by strong growth in North America and Japan, which was partially offset by a decrease in Western Europe. High-growth markets were down mid-single digits as a strong quarter in China was more than offset by declines in South Korea and the rest of Asia. Tektronix's oscilloscope offering continues to drive growth benefiting from the momentum behind the 6 Series MSO, which was introduced in the third quarter of 2018. As part of the ongoing effort to reshape and focus the Tektronix portfolio, the company also recently signed an agreement to contribute its video test and monitoring business to a new entity formed with Telestream and Genstar Capital, Telestream's private equity owner. We expect the transaction to close at the beginning of the third quarter. Core revenue for the Sensing Technologies platform decreased low single digits in the quarter.
Sensing had a slow start to the year, experiencing headwinds across certain parts of its core industrial end markets, including slower demand trends from electronics and semiconductor OEM customers. Growth remained solid across the platform's medical and defense end markets, while recent new product launches continued to drive strong growth in critical environment applications. The platform performed well in China, registering high single-digit growth, was offset by low single-digit declines in North America and Western Europe. Moving to our Industrial Technologies segment, revenue grew 4%, including core revenue growth of 6.4%. Acquisitions contributed 80 basis points, while unfavorable foreign exchange rates reduced growth by 320 basis points. Reporting operating margin of 16.3% reflected 20 basis points of dilutive operating margin associated with acquisitions. Core operating margin increased 130 basis points driven by the strong volume of GVR in the quarter.
Our Transportation Technologies platform core revenue grew low double digits led by greater than 20% in high-growth markets and high single-digit growth in developed markets. GVR delivered mid-teens core revenue growth highlighted by a low double-digit increase in developed markets and a greater than 20% increase in high-growth markets. Developed markets were led by North America, reflecting a combination of accelerating EMV sales and the lapping of ERP implementation issues that affected performance in the first quarter of 2018. Gilbarco continued to generate strong growth from EMV sales driven by programs with major oil company partners. Phillips 66 recently announced the release of outdoor EMV capability for its sites running the Gilbarco Passport point-of-sale system. Gilbarco also reached an agreement with Shell to offer its EMV-ready Passport Edge point-of-sale solution to Shell's dealer network on a monthly subscription basis.
China saw greater than 30% growth driven by the continued regulatory tailwind at Veeder-Root from ongoing double wall tank upgrades. GVR's strong results in high-growth markets included significant growth in India as GVR's comprehensive product and service capability, including recent innovation within Orpak automation offering, led to a number of large tender wins during the quarter. As expected, Teletrac Navman declined high single digits in the first quarter as strong growth across Asia Pacific was more than offset by a decline in North America. The Teletrac Navman team remains focused on stabilizing the North American business, where the high level of customer churn that emerged in 2018 remains a headwind despite some improvement during the quarter. Teletrac Navman was recently awarded a FedRAMP provisional authority to operate, making its Director product eligible for procurement by all federal agencies based on its security and reliability as a third-party cloud solution.
Moving to Franchise Distribution. The platform declined low single digits during the first quarter. Hennessy's performance was impacted by significant customer inventory reductions, while Matco was up slightly. At the company's annual tool expo, Matco launched an exclusive mobile AC recycler line optimized for uptime and service reliability that has been well received by the market and drove shop equipment growth during the quarter. Turning to the guide. We are updating our full year 2019 adjusted diluted net EPS guidance to $3.55-$3.65, representing year-over-year growth of 16%-19% on a continuing operations basis. The revised annual guide includes $0.20 for the addition of ASP and a reduction of $0.05 due to the Tektronix video transaction.
The guide also assumes 3%-5% core revenue growth, 25-50 basis points of core OMX, an effective tax rate of 17%, and free cash flow conversion of greater than 120% for the year. We are also initiating our second quarter adjusted diluted net EPS guidance of $0.86-$0.90, representing year-over-year growth of 18% at the high end. This includes assumptions of 3%-4% core revenue growth and an effective tax rate of 17%. To wrap up, our first quarter results came in as we expected despite some near-term challenges that impacted our shorter cycle businesses as well as headwinds from tariffs and foreign exchange. For the quarter, we delivered high single-digit total revenue growth, mid-single digit core revenue growth, and greater than 30% growth in free cash flow.
With the closing of ASP at the beginning of the second quarter, we also took another significant step forward in the ongoing transformation of the Fortive portfolio, greatly increasing our exposure to an attractive healthcare market tied to long-term secular growth drivers, and adding another source of high recurring revenue and consistently robust free cash flow. Looking ahead with the combination of a resilient core portfolio, the foundation of the Fortive Business System, the growing contribution of Gordian and Accruent, and the addition of ASP, we remain well-positioned to deliver another year of top-quartile earnings growth. We look forward to seeing many of you at our upcoming Investor Day in New York on May 16th, where we will give you deeper insights into the digital strategy at Fortive, as well as an update on our portfolio transformation efforts. With that, I'll turn it back to Griffin.
Thanks, Jim. That concludes our formal comments. Erica, we're now ready for questions.
If you would like to ask a question at this time, simply press star then the number one on your telephone keypad. If you would like to withdraw your question, press the pound key. We would ask that you be respectful of others and limit your question to one and a follow-up so that we can get to everyone in the queue. We'll pause for just a moment to compile the Q&A roster. Your first question comes from Steve Tusa.
Hey. Good afternoon, I think, for you guys, right? Sorry. How you doing?
It is. Good evening, Steve.
Thanks. On the revenue contribution from acquisitions for Gordian and Accruent, I think when I add them up, I get to something like, on a prorated basis, like $100 million a quarter, yet the acquisition contribution in that segment was like $80 million, I think, or something like that. Is there seasonality to that business, or am I doing the math wrong?
Yeah. No, you're not doing the math wrong. There is a seasonality to Gordian and Accruent. It's a little bit different than what our traditional or core business is. We think maybe we get 20% and 45% in the first two quarters of the year, I think that it's going to have maybe a 40-60 weighting first half to second half.
Okay. Any on Gordian, is there any market dynamics there that are moving around relative to expectations?
No. In fact, we had a good quarter at both, Steve. It's Jim. We saw good strength in the construction spend through the platform. That's the job order contracting part of the business or what we call procurement solutions. That business was up double digits. That's roughly 60% of the business. No, at Gordian, we saw good performance, and we saw good performance at Accruent as well. As we said in the prepared remarks, we're off to a very good start. I think one of the things we like the best about the business, in addition to its great secular drivers, is we really are getting an outstanding team in both businesses.
Okay, one last one for you, just from a macro perspective. Now that you've kind of had an opportunity to absorb the first quarter here, looking back, was there any sort of pull-in or pre-buy in the fourth quarter on any of your products? Maybe just touch high level on what you're seeing in the macro out there. It seems like there are a lot of different businesses moving around on you, some negative, some positive. Relatively inconsistent performance, shall I say. Is there anything going on in the macro that kind of worries you for the second half?
Yeah. Maybe put a little bit of the geographies in context, Steve. I think what we saw in our overall North American growth was pretty good, but obviously Gilbarco drives a lot of that because of the quarter they had. I think the good news in the quarter at Gilbarco was really the high growth markets. Those are specific to Gilbarco, so I don't know if you get a macro read there as much, but good high growth market performance pretty much in every part of the world. A lot of that we said in the prepared remarks. What we did see relative to your polling question or what we saw, I think we highlighted this in February, that we thought there was somewhere around 70 to 100 basis points of revenue in the fourth quarter that was probably came out of the first.
We now think that number's closer to 125, and that's a chunk of tariff avoidance. I think the other thing is we definitely saw North America in a number of places sort of start out slow and then get better through the quarter. Point of sale at Fluke, as an example, clearly got better through the quarter. Matco got better in March. We did see some trends that were improving through the quarter. I would say just in our distribution businesses, mostly weaker in Professional Instrumentation. Clearly Europe was a weak point for our distribution in Europe.
Got it. Okay. Thanks a lot.
Yeah. Thank you, Steve.
Thanks, Steve.
Your next question comes from Scott Davis.
Hi, guys.
Hey, Scott.
I don't think I've ever asked a question on Sensing Technologies business at all. Does that business turn around 2019? Are we now kind of hoping for 2020?
No. We always thought it was a low single-digit in the year. That point of view doesn't really change. A little bit different number, probably the lower part of low single-digit. They were negative in the quarter, will continue to get a little bit better. Their comps get a little easier in the second half as well. One of the good things about the business is they're obviously a very profitable part of the business. They did a good job in protecting free cash flow in the quarter. They'll move to growth here through the rest of the year. They'll continue to contribute better from an earnings perspective as they go through the year.
Okay. If you just look at slide four, you just take a look at the R&D numbers as % of revenues. A lot of businesses have spent a lot of money on R&D. Jim, what's your early take on if you're getting your bang for your buck on that spend? Is there any way to get any efficiency on it or productivity? I know it's tough to scale it because they're very different companies that you own.
Yeah
Just a little comment maybe on R&D.
I think a couple things. One, clearly the software businesses like Gordian and Accruent are going to require a little bit more R&D, and quite frankly, they were pretty tight on R&D, both being owned by private equity. We will probably add to their R&D spend as we look forward to opportunities to accelerate growth and to build out their platform of solutions. As you know, the great addition of these businesses is the continued additive features to current customers, which really delivers strong earnings potential over time. We'll do that. In many standpoint, the overall Fortive number may not move all that much because as we'll look for productivity, as we're always looking for productivity in other places, or through some of the big spend at Tektronix on their new platform, as an example.
There's clearly what we often call dynamic resource allocation, where we're really moving money into places where we have the highest growth opportunities.
That's helpful. Thank you, guys. Good luck. I'm going to pour a cocktail now. It's been a long day.
It has been a long day.
Your next question comes from Julian Mitchell.
Hi. Good afternoon.
Hey, Julian.
Hey, just looking at slides eight and nine. If we just look at the core revenue growth contribution to EPS, you did about $0.05 or you're expecting to do about $0.05 in the first half. The year is guided at about $0.25. A big sort of step-up in that contribution from first half to second half. Maybe just walk through some of the biggest moving parts in terms of that step-up, please.
I think the bigger thing is just as we move through the quarter, our volume steps up sequentially. We normally, I think from Q1 to Q2, our revenue is going to go up by 20%. Obviously, our fixed expenses don't see that. That creates a normal step-up through the year. We generally think of our earnings growth, EPS being contributed 20 in the first quarter, 25 in the second and third, and 30 in the fourth quarter. When you do that, it gives you this profile. I think that's most of it. The other thing, last thing I'd point out is there's FX in the first half, particularly I think there's $0.03 in Q2 or Q1, and then $0.01 or $0.02 in Q2, and then it really flattens out in the back half.
Those are some of the dynamics that's giving a little bit of a back end of a ramp through the year, but it's mostly the revenue ramp.
Understood. Thanks. My second question may be around Professional Instrumentation, specifically. You talked about the sensing assumptions there. Any color maybe on what you're seeing on the order intake in Fluke and Tektronix, how quickly you think those accelerate maybe in the rest of the year, and whether you thought you suffered from much destocking in the distribution-facing businesses in PI in Q1?
I'll take the last part first, Julian. We definitely think we saw destocking in some places at Fluke and Tech. I would say definitely in Europe for both businesses and certainly some in the U.S. Tech had an interesting dynamic where their direct business was up significantly more. They had like mid-single growth in their direct business, but their distribution business was down in the first quarter. We attribute a chunk of that to destocking and a little bit of what we said before, which was kind of tariff avoidance, pricing avoidance that occurred in the fourth quarter, as I mentioned in an answer a few minutes ago. I think that provides a dynamic where we'll see that play out and improve the second quarter and through the rest of the year.
I would also point out that Tech had a book-to-bill over one in the first quarter. I think Fluke did as well. We certainly feel like we're seeing some solid performance, and I think in both cases, we're starting to see the point of sale numbers start to improve as we move through the quarter. I think we started off a little slower than we thought. Obviously, the Professional Instrumentation at just under 2% core growth certainly reflects that. Tech being flat certainly reflects that. We're not really expecting a big macro improvement here to deliver what we need to deliver. It's really more just kind of working through that inventory destocking and really just kind of seeing the current rates sort of play out.
Great. Thank you.
Thanks, Julian.
Your next question comes from Deane Dray.
Thank you. Good afternoon, everyone.
Good afternoon, Deane.
Could you take us through the Tektronix video transaction? What are the economics? What's the opportunity here?
Strategically, Deane, you know us well. We've always been looking from a portfolio perspective to always put our businesses in the best position for success. We also ask our operating companies to do that as well, and I think the Tektronix team really came back with this understanding that, hey, by combining with the Telestream business, the video business, not as core to what we do at Tech, obviously. Increasingly, I think the combination of those businesses was looking better and better. We'll combine the businesses, we'll have a minority interest in the combined entity, and we'll really benefit from the success of the synergies in the business and what Genstar is looking to do with the business over time. We think the economics over time are going to be good because we think the synergies are strong.
Got it. On the 160 basis points of price, how does that spread across the businesses? Where did you get the most price, and was there any give up?
Hey, Deane, this is Chuck. For the most part, we got price across all of our operating companies. We were a little more successful in IT, where it starts with a two rather than a one. We were a little bit lighter on the Professional Instrumentation side at 80 basis points. I think we were successful across most places. For one couple of places where we struggled on price for some very specific reasons. At Tech, they were down 50 basis points, which is not what we were expecting, and we're going to work to regain that. That was a little bit different. Also at EMC, but unrelated to, they have some contractual things that was mostly known about coming in. Where else? We're really happy with 160 basis points in total, where we normally would get 40 or 50.
That's great. Just on Tech, on the pricing, was that give up on the direct side or through distribution?
Probably more on the direct side. As you can imagine, those are more case-by-case decisions on the business. I would say it leaned more to the direct side. A little bit in distribution. Some of it was price not realized on the distribution side. Think about it this way, we expected more price with the January 1 price increases, because we had more pull into the fourth quarter from distribution, we sort of avoided the price metric, if you will, in the first quarter, if that makes sense, Deane.
It does. Thank you.
Thank you.
Thanks.
Our next question comes from Andrew Obin.
Hey, guys. Good afternoon.
Hey, Andrew.
Just a question on Professional Instrumentation margins. They've sort of been negative for a couple of quarters now. What would it take operationally for the margins to inflect back up?
It's a great question. There's a couple of things. One is, they've been struggling for a couple of quarters. Remember, tariffs are really a big impact at both Fluke and Tech. For Professional Instrumentation, that's really gets hammered there pretty well. We'll lap those tariffs, or the majority of them, in Q3. We'll start to feel lift there. Also, Professional Instrumentation has high fall through on shipments. We need that pull-in or that avoidance that maybe some of the distributors went for. We just need to get more volume out the door, and get back to growth. That hurt us in Q1. That'll start to moderate. One other factor is, FX has really hurt us a little bit more than we expected, the fall through on those things.
Again, when we get into the second half, we should lap those as well. If FX just stays here, there's less impact in Q2 than Q1, but when we get to Q3, most of those should go away. I would expect that we'll be back to normal margin expansion in the second half of this year.
Andrew, the other thing that is just maybe important to keep an eye on is we had our best quarter in the history of the company first quarter of 2018 on margin expansion and PI. We had 300 basis points of margin expansion in the first quarter last year. When we look on a two-year stack there, we still feel pretty good about the margin expansion in the core business. Obviously, the tariffs, as Chuck mentioned, have some impact there. I think when we look at sort of the core work that we typically do, we feel pretty good about that, and that'll get better as we work through the year.
Just a follow-up question on growth. Q1 core growth was 3.7%. I think in the second quarter, we're guiding 3%-4%. For the year, the range is still 3%-5%. What would it take for you guys to hit the 5% organic core growth for the year, with acceleration in the second half, particularly as the comps get tougher in the second half? Thanks.
Yeah, no problem. I think first of all, we probably want to see Western Europe get better. China to continue. We were high single digit in the month or in the quarter. We've said for a while now that China was likely to be more mid-single digit for the year. If China held in there, maybe got a little better, and Western Europe got better, I think we'd more be at the high end of the range. We also have some easier comps in some places, like at Sensing and at Fluke. If we get to the higher end of their businesses as well, there's some opportunities. We'll build the business model around that range, and what we feel really good about is we're going to deliver double-digit earnings growth in the first half of the year on that 3% growth.
We're going to deliver high teens earnings growth through the year. Even in that range of growth rates, I think the earnings growth is going to be substantial. That's pretty much why you saw the strong free cash flow in the quarter, despite the fact that we missed the PI revenue number by a little bit. The free cash flow up 31%, I think was a good testament of our operational ability to continue to deliver.
Free cash flow certainly stood out. Thanks a lot.
Thanks.
Our next question is from Richard Eastman.
Good afternoon. Jim or Chuck, could you just speak to the tech video business you're contributing to this venture. What kind of revenue did that have? What kind of op profits? When do you expect that to be completed?
I'll take the second part first. We expect it to be completed early in the third quarter, is what we're looking at. The business, in terms of size, was around $55 million or $60 million in revenue. For us, it was probably around, I think it was a 20% operating profit.
Okay. Pretty decent. I just have a question on the EPS guide for the second quarter. I'm a little bit curious. $0.86-$0.90, and I'm kind of referencing your 25%, so I guess, Chuck, your 25%, so I guess $0.90 kind of fits. I would think with the ASP acquisition, shouldn't that add approximately $0.05 to the quarter? It sounds like this video business doesn't come out till Q3. What's the drag there on the EPS for the second quarter?
I think there's only two things that you might be missing. I agree with the $0.05 on ASP. If you look at our core business, without the benefit of Gordian, Accruent, ASP, and FX, you get a number that's around for the quarter at 25% is $0.80. You build it up with $0.05 of ASP, as you noted. There's, I think, we've got $0.06 in for Gordian and Accruent.
Okay.
That could have been. Probably the one thing is there's still $0.01-$0.02 of tailwind on FX.
Okay. Very good. Thank you.
I just want to make sure I called.
Headwind. The headwind. Yeah. No, I understood
all coming up to 18% earnings per share growth.
Mm-hmm. Okay. All right. Fair enough. Thank you.
Thanks, Rick.
Your next question is from Andrew Kaplowitz.
Hey, good afternoon, guys. How you doing?
Hey, good afternoon, Andy.
Jim or Chuck, your SG&A was up 450 basis points, over 30% of sales. It's not really surprising. It's a lighter quarter in sales and given the acquisition-related activity you've had. Is it up simply because of that, and would you expect it to come down now versus a relatively seasonally high Q1?
If you're just talking about the total SG&A, actually it's up quite a bit because of the amortization, and also the purchase accounting related to the deals and the deal cost. That's actually the main step up there.
Nothing unusual in there other than just the increased M&A activity, correct?
It's just there's a little bit with Gordian and Accruent, where they've got really high gross margins, and so they're above the fleet average. The first two things I talked about is 90% of it.
Got it. Jim, just focusing on China for a second, you mentioned last quarter that you're seeing some slowing in the tech order book in China, but it doesn't look like you saw any real slowdown in that business. When you focus on China, you mentioned maybe it can be resilient here. Has a lot of that resilience been GVR? Did tech actually outperform in China? What's going on in the rest of Asia? Because you mentioned places like South Korea being a little weak.
On tech specifically, as you said, we saw a little bit better China than we thought. I think some of that, we still expected that to moderate a little bit. As I said, it's high single digits in the quarter, but probably mid-single in the full- year. I think that's still going to be a good year after, I think, four years in a row of either double digit or high single digit growth for tech in China. It's been relatively resilient, as you said. I think we saw most customers, in most segments of the market pretty good. The other thing I would call on, just relative to China macro is that Fluke's point of sale in its shops, which is a pretty good bellwether for the market, was good. Fluke's growth was pretty broad-based in China as well.
I think China's holding in there. I'm not going to be a pundit that says everything's great and it's going to turn wonderful, but I think it was certainly solid and it was a little better than we thought it would be overall. As you mentioned, GVR's continued regulatory performance. That'll wane a little bit in the second half. Relative to tech in the rest of Asia, a lot of our business in South Korea is 3D sensing related, and it's key filling related. We probably have more semiconductor process, if you will, or manufacturing exposure in Korea. While that's not a big issue for Fortive, it does impact the Asia business as we cite it, and we saw that in Korea and in other parts of Asia.
That was probably one of the headwinds that we saw at Tektronix in the quarter for sure. That moderates a little bit through the year just because we have some easier comps.
Thanks, Jim.
Thank you, Andy.
Your next question comes from Jeffrey Sprague.
Thank you. Good day, everyone. Hey, how you doing?
Good.
Just from me on ASP. Just curious how the business performed during this carve-out period. I think the 2017 revenues were $775 million or so. What's the revenue base here as it enters the Fortive empire?
About $825 million, $820 million, somewhere around there.
That sounds like it's, off the top of my head, 5% growth or so, maybe a little bit more than that. Is that?
They're mid-single digit in 2018.
They did. Okay. Is that basically what's implicit in the guide then for the year here for It's not going to be organic, obviously, for you this year, but do you see that type of growth continuing over the balance of 2018?
Yeah. We'll probably be in the low to mid-range right now. I think we're still getting a sense of what the business is going to be like. They had a couple of one-time things that were last year that I would say maybe their natural growth rate over the last few years has been low single digit, in that range, kind of three to four. We know the market is growing mid-single digits. I think as we said a year ago when we announced the signing of the deal that we felt good about, over a time period, we could turn the business into a mid-single digit grower.
I think implicit in the guide, with about 12 months of TSAs, Jeff, and working through Johnson & Johnson on some of the revenue profile for a time period, it's probably going to be more like low single digit until we've got every aspect of the business under our ownership.
I think also there was, obviously, you had to do a lot of prep work to kind of accept the carve-out into your enterprise. I think after ownership, you were looking at some pretty heavy work on their matrix management structure and the like. Is that still in front of you? Is that embedded in the guide, or is that something that, I don't know, maybe gets capitalized in acquisition accounting or something?
No. I think if you're talking about the standing up the team that's going to run this, I think that we've done quite a bit of that. I think the thing that's in front of us really is basically, outside of the U.S., we've got these TSAs that we're going to have to bring them under into our IT platform. That's going to go on for probably four quarters. As we do, your profitability will accelerate every time we move off of one of those.
I think everything that we've seen thus far, and we've done a lot of work in this regard, Jeff, is that the cost structure that led to the returns for the business is every bit in place. We feel very good about that. We think we still believe in the opportunity to improve the gross margins as well. Finally, a lot of the core tenants of the value creation are there, and we did this at a much lower interest rate cost and at a much different tax rate. The return profile has improved a great deal since we announced the deal 10 months ago.
Great. Thank you for that.
Thanks, Jeff.
Thanks, Jeff.
Our next question is from John Inch.
Hi, everybody.
Hey, John.
Hi, guys.
Hey, Chuck, the convertible senior notes you just issued seem to have been done at very favorable terms. I'm not sure if that's incrementally additive, even by a penny or two to sort of the thought process here. I was wondering about just the balance sheet in general, given if you can do that with that crunch, are there other things you could perhaps be doing or a thought process around the balance sheet, or is it pretty well locked in?
Well, I think in terms of the guide, first, thank you. We liked the deal with the convertible notes. As we came out this year, while we didn't know the exact terms that we would get, we had most of that factored in when we set the original guide. It's not accretive to the guide, but we liked the deal that we did. Are there other things around the balance sheet? Just because on this one, as a convertible note, it's treated as debt, not equity. I don't think it gives us any more debt financing for M&A around that. Are there other things around the balance sheet? We're continuing to look and see what our optionality is, and as we've said for a while, we'll consider what the best fit at the time is for financing and raising capital.
It sounds like it's going to be tied to probably future M&A. It sort of brings up the question, Jim, how are you thinking at this stage in late April about additional portfolio moves in 2019? You guys have done a ton the last couple of years, probably a lot of digestion work, I'm assuming, but you obviously want to be opportunistic. Is there an early read in terms of how you're thinking about these opportunities today, or are you content to sort of sit back and wait?
I would rarely be described as someone who sits back and waits on anything. I feel obligated to answer that as we're certainly leaning into opportunities. John, we've been pretty busy. I think we've been as busy as we've been over a time period. We'll continue to look for opportunities. As you said, we just closed 24 days ago, the largest acquisition in the history of the company. We certainly are digesting that and spending a considerable amount of time to make sure we do that right, and that's important. I don't want in any way, shape, or form suggest that that's not a first priority, because it is. We also want to make sure, between Gordian and Accruent and also with ASP, we've now bought call it almost $10 billion of served market opportunity with it, and with that comes more opportunity.
We feel good about the opportunities in front of us. Again, I think we certainly have the ability to be disciplined like we always have been, and we're return focused as well. Almost sunsetting our three-year anniversary here pretty soon. As you know well, the deals have ebbed and flowed, and I suspect that'll continue to be true.
Got it. Thanks much, guys.
Thank you.
Thanks, John.
Our next question is from Josh Pokrzywinski.
Hi, Josh.
Hi, good afternoon, guys.
We're doing great.
Excellent. Just want to follow up on Gordian and Accruent. You've had them under your belt for a while now, and I think, obviously some differentiated assets in the software space, but it seems like every company out there is coming out with a software add-on for everything they're doing. Obviously the big software guys are still everywhere. When you think about your total software exposure, including those two and iNet, eMaint, putting it all in one big basket, how would you characterize the competitive landscape? Are you seeing more folks show up? Do you feel like the niches are well-protected, and how does that make you feel about more activity in those spaces?
Well, I would say that the environment hasn't changed a lot in the last several months. Certainly for the last few years, it's been competitive in the sense of the two major deals that we've done were in private equity hands. Private equity is showing up increasingly in a lot of these transactions. I wouldn't necessarily say we want to play where we're advantaged, where we have a proprietary view of the business, and certainly now with some of the additions where we have synergy. I think we're going to play in places where I think we are more likely to win.
I think the most important part is first having a strategic view of how to build a workflow and to really understand what you can do with the business, not only with the business you have, but also with additional things and building more scale. As you point out now with Gordian, Accruent, eMaint alone in sort of that facilities maintenance, facilities management software space, we're almost at a half a billion dollars. That gives us a tremendous amount of scale in which to do things. Then in some of our other businesses where we have strategic positions, we're adding on to things to just make the workflow more competitive. That builds on the strength of the brands, whether it be Gilbarco or Tektronix or whatever. We're continuing to do those things as well.
The other thing I would say is that while maybe the follow-up question might be pricing, for great assets, I don't think we're really seeing differences in pricing over the last year or two. I think the crummy assets maybe have prices have increased, everything in the bottom end has moved up. I think when you look at what great growth, great margin profiles with good high recurring revenue, those really strong assets with differentiated market positions, fundamentally that pricing really hasn't changed in the last year or two.
Got it. That's helpful, Jim. Then just one, shifting gears a little bit. Thinking about the second half or even maybe beyond the second half, at some point before too long, you're going to run into some pretty tough comps on GVR. I think, orchestrating that handoff between that business and some of the PI stuff where it's kind of the higher quality businesses over time or the ones that are getting more of the focus. Do you anticipate that being a smooth handoff, i.e., some of the headwinds today or end market shuffling today times itself to where it goes away by the time GVR has tougher comps?
Yeah. I think Chuck and I can tag team this a little bit. I think strategically, we're certainly looking within Gilbarco, within Transportation Tech, and within Fortive to countermeasure these things. Within Gilbarco, we're building out our high growth market positions. We've done two acquisitions, really almost three acquisitions over the last several years in India, as an example, to build our positions in high growth markets. We just launched a new dispenser for high growth markets that is, I think, a really great product. Build out our positions in markets that are non-EMV, that's number one. I think number two is to continue to take advantage of opportunities like in electric vehicles where our Tritium investment is doing some things, and we'll certainly continue to do that. That's what we're doing within Gilbarco. Then certainly in the platform, we're looking for new opportunities.
Certainly, as you mentioned, the breadth of opportunities that we have throughout Fortive to also do these things are going to be all opportunities for us to countermeasure, if you will, the EMV shortfall, which inevitably will happen. I think we've been consistent well over for at least a couple of years to say that inevitably there will be a step down at some point in time that I would say, somewhat predictable, probably not within a specific quarter, but certainly within a couple of quarters. We have a pretty good sense for that.
Yeah. Josh, if I could add on. If you want to size that, when you start looking beyond 2021, 2022, and 2023, it's probably $100 million-$200 million step down over an eight-quarter period, which is probably about $0.10-$0.20. If you think about $0.10 a year, I think we can handle that in terms of an earnings power. Also worth noting, $1.7 billion of acquired assets growing at a high single digit is also part of. Jim mentioned some of those in the GVR platform.
Awesome. Thanks, guys.
Thanks, guys.
Your next question is from Scott Graham.
Hey, Scott.
Hey. Good afternoon. I was hoping you could give us a little bit more color on what the PI impact from acquisitions looks like on a full- year basis. It was -410 this quarter. What does that look like on a full year basis?
Are you talking about on the SG&A there? Or on the-
I'm talking about on your exhibit on page six. The operating margin on bundle.
I see. I have to think about that. I prefer not to just spitball it here because we've got the ASP coming in here with its amortization, but it's likely to be in the same size as what we just saw with Gordian and Accruent for the full- year because they're rough. If you think about $2.8 billion spent on Gordian and Accruent, $2.7 on ASP, it's going to look about a similar impact on our total operating margins. I think that's what I would expect to see.
That's fair. When you were talking earlier about the upward inflection in the PI margin, you were just talking about the core?
Yeah. That's right.
Okay.
For sure.
I also noticed that when you talked about OMX, not only did that number come down from +50 to +25 to 50 on a full- year basis, you talked a lot about mix. I was hoping you could tell us a little bit more, maybe size that for us. Is that 30, 40? Is that that 25 basis points of takedown? What happened with OMX, both the guidance and what's going on with mix within that?
Well, most of what happened with the guide for the year is the first quarter. Our first quarter coming in at -70 didn't make the second half go up any more. It's really not much more complicated than that. I do think that we will see sequential improvement from Q1 to probably flat to a little positive to back to normal because the big headwinds that we've called out in order of mix and tariffs and FX are really a first half problem, they normalize when we get to the second half.
Scott, we're very focused on continuing to countermeasure all those things. I think Chuck and I have spent a considerable amount of time making sure that we've got the actions and the businesses to go after this. That's why I think even though you see a little bit of a lower OMX, you see the continued strength in EPS and you see the continued strength in free cash flow. The metric itself gets a little bit influenced by the way you measure tariffs and things like that. At the end of the day, what we don't change is you see the incredibly strong high teens EPS growth and a continued focus on 120% free cash flow conversion.
Good to hear. Okay. Thank you.
Thank you.
Thank you, Scott.
Your next question comes from Nigel Coe.
Thanks, guys. Good afternoon.
Hey, Nigel.
Hey. Just to cover a lot of ground, but I do want to go back to Gordian and Accruent and they'll be rolling into core come September into 4Q. Maybe just speak to how those performed in 1Q core on a like-to-like basis. How did they hold up in this slower environment? The second part on that is just stripping out, do the math on EBITDA margins. By the way, the additional disclosure is great. It looks like the margins came in at 23, 24% for Gordian and Accruent. Is that math correct? Because we're working with low 30s for those two companies.
Yeah. You're talking about the EBITDA for Gordian and Accruent? What'd you say?
Yeah, that's right.
25%?
That's right.
I think for this year, yeah, it starts probably a little under that, but not much, and ramps through the year. Yeah, that's correct.
Okay.
Nigel, your first question was a little bit, I think, around durability of Gordian and Accruent.
No, it's really more about how they performed during the quarter, Jim.
Okay. Got it.
Yeah.
I would also say just to that point is, and maybe just it's a small but important caveat, is that we spent a bunch of time with the businesses, and we may choose to invest in the business through the year. In fact, for sure, we've already approved some additional investments to accelerate the growth in the business too, which may not necessarily pay out in any particular quarter, but it gives us a much more durable revenue stream in the years to come. You know us well, so you know from time to time, we'll make those decisions. That could impact that percentage by a few hundred basis points depending on when and how we do it.
Okay. The growth, Chuck McLaughlin? What was the growth for Gordian and Accruent?
High single digit in Q1. That's what we expected. That's what we're seeing. We'd expect that as that comes into Q4 this year, that's probably a 30-point lift to our core growth.
Okay. Great. Then just quickly on the ASP accretion. The phasing of the accretion looks like $0.05 in 2Q. Obviously, it looks like $0.07-$0.09 3Q, 4Q. Is that the TSA roll-off you allude to? Is that contributing to the better accretion in the back half of the year? Are we still looking at $0.35 for the first couple of months?
Right. 30, 35 for the first 12, that's still the range. Yes, for the most part on why it's stepping up as it goes through time. There's also a little bit of seasonality. It's like many businesses, the fourth quarter's going to be stronger than the first and whatnot. Yeah, those are the major levers.
Okay, thanks, guys.
Thanks, Nigel.
Your next question comes from John Walsh.
Hi, good afternoon and good evening. A lot of ground covered. Just quick one here. Just looking at the language in your press release around the headwinds on Professional Instrumentation. Just wanted to make sure I understood clearly. That's really a way to call out what you were talking about with the distribution channel, or is there anything else that that language alludes to, I guess?
No, it's really kind of in our short cycle businesses, primarily at Fluke and Tek. The probably greater fourth quarter than we originally expected, which led to some. We'll call most of that probably tariff avoidance. It's that. There is a little bit of point-of-sale starting slower, too, in the first part of the quarter as well, John. I think it's those two things. The destocking, some of it is because of the point-of-sale. It's also some of it because of the increase in inventory that they had at the end of the year.
Okay, great. I guess looking at the Q, you guys call out Germany as a country. Obviously, there has been a lot of concerns around Germany, given what we've seen from some of the macro data there. Your sales were actually only down very modestly. Maybe just help us understand really what drives your business there and maybe even broaden it out to Europe, because I actually thought the European performance was a little bit better given some of the macro scares.
Yeah, I think, as we said, I still think Europe is a challenge for us. In the quarter, Qualitrol and GVR, which Qualitrol was a project. GVR was more secular typically, and not a good read on the macro. That's a broader Europe comment, John. When you look at Tek was down in Europe and a chunk of that was in Germany. Fluke had a weaker, well, they weren't down in Europe. They were weaker than normal. I think those are maybe a little bit more of a telltale sign of the macro. We don't have a big belief that that's going to significantly improve for the rest of the year. We'll sunset some easier comps, but I think we're watching. We're reading a lot of the same macro stuff everyone's reading.
We're certainly looking through a lot of the other peer company filings to get a read on that. I think it seems like it kind of depends. The good news is some of our software businesses have been pretty resilient. I think Accruent was up high single-digits in Europe as an example. The places where we have good resiliency within the business model are still doing pretty well.
Great. Thank you.
Thank you.
Your last question comes from Joe Giordano.
Hey, guys. Good afternoon.
Hey, Joe.
Hey, Joe.
Hey. Chuck, did you give the specific number for Fluke? I think you said Fluke digital, what the growth was in the quarter. Did you give the legacy Fluke growth in the quarter?
I don't believe I did.
Total Fluke was low single digit though.
Basically, yeah.
Low single digit? Okay. Was there management changes going on there in the quarter?
Yeah, I think we're finishing, but we announced a couple of changes. Many of our senior leaders have been sort of owner-operators in businesses since our inception. We've hired somebody from the outside that was in immersion for a while and put him, Marc Tremblay, into the Fluke job, and we promoted Tami Newcombe into the Tektronix job. Those two organizational announcements have been out there, and we're really excited about having two really strong leaders into new positions. Also frees Pat and Wes up. Wes obviously has picked up a lot with all the new acquisitions. Pat certainly has been the lead role on ASP, so gives us the opportunity for the two of them to spend more time on building out the platforms and that kind of thing.
Just want to make sure on the build-up here for Gordian and Accruent, I'm getting the math right. I think you had $0.06 in 2Q is the expectation. Was it something like $0.04 in the first quarter here?
I think we're saying five.
Okay. We're having that into core in 4Q, right? The incremental on top of that in your full year, that's just from the third quarter, right?
Yes. It turns core in the fourth quarter.
Okay. Just wanted to confirm that we're looking at apples to apples. Okay, thanks, guys.
Thank you.
Thanks, Joe.
I think that's it. Thanks everybody for a great interaction and the time today. Obviously a busy day for everyone, and so we appreciate the time you've taken to be with us. We're really proud of the work we did in the quarter. Certainly some things to fix. As I think we mentioned, we're very focused on that, but at the same time, the ability to sort of do what we believe is going to be a strong year. We're off to a good start. We look forward to seeing all of you in New York in May, and we'll give you more detail on ASP, on Gordian and Accruent. We'll certainly outline our digital strategy and certainly give you a better perspective on a number of the strategies that we're utilizing to drive growth this year, but more importantly, to build a better Fortive over time.
Thanks, and our Griffin team and Chuck are around for questions tonight, tomorrow, and next week. Take care, everybody. Have a great week.
Thank you. This does conclude today's conference call. You may now disconnect.
Thanks.