Thanks very much, everyone. We're gonna move on to Fortive now. It's my pleasure to have here James Lico, President and Chief Executive, Chuck McLaughlin, SVP and CFO. James' gonna have a couple of slides, and then we'll roll into a Q&A. Over to you, James. Thank you.
Thanks, Julian. Good morning. It's still working on time zones these days, but I guess it's earlier on the West Coast. Good to see everyone. It's great, it's great to be here. It's great to be back in person. I still say that even though we've been in person for a little bit now. Just a few slides just to maybe get everybody on the same page. Obviously on the forward-looking statements. You know, I think we've after finishing a really strong 2022, we're really excited to be here to talk about that as well as what we have ahead for us, not only in 2023, but in the years beyond.
I think what you continue to see with Fortive is a high-quality portfolio continuing to be designated around attractive growth markets. Differentiated performance, I'll talk about that in a minute. I think across the financial measures continue to make great progress. Certainly great progress against 2016, but also we think against peers. Power of the Fortive Business System. We, I'll talk about that in a minute, but I think what you saw in 2022 is really the power of the Fortive Business System, whether it be supply chain issues, whether it be some of the inflationary challenges or the integration of some great businesses across the board. We saw FBS play an incredible role in our success last year.
I think when you combine all that, it really continues to with the free cash flow component of our business being so strong, really the ability to continue to compound off a number of those great metrics. You know, many of you may know Fortive, but you may not necessarily be as familiar with our segments as we resegmented a couple of years ago. I think what you saw in 2022 was the power of those segments. In its simplest form, Fortive is about connected workflows that really give productivity safety solutions to factories, commercial buildings, engineering labs, and hospitals. It's many in many respects, it's that simple.
There's lots of products and some operating businesses, tons of technology and innovation in our portfolio, but each of those segments is providing those kinds of solutions, both hardware, software, and in many cases, services to their specific set of end users. In the case of IOS, it's really mostly around factories and commercial buildings. In the case of Precision Technology, typically in the engineering labs, obviously Advanced Healthcare Solutions focused on hospitals. A new slide. This was in our earnings deck, just to give you a familiarize a little bit. We just wanted to give a little bit of a sense of where we've come from. I think, when you see the comparisons to 2016, you can accelerate our core growth.
That's been intentional in terms of how we've continued to try to build a business that's really growthier and really much more focused on secular growth drivers. Our gross margin is now up significantly, 1,000 basis points since 2016. Continue to improve operating margins as well, that comes with that. I think most specifically is the strength of our free cash flow. Now at 20% free cash flow margins. I think we had a great year in free cash flow last year, up a little, slightly over 20%. It just continues to see the compounding of the business. We continue to get a lot more out of every dollar of growth.
I think what you saw this year, or excuse me, in 2022 and you'll see again in 2023, is that not only are we growing well and we've improved the growth rate, but the profitability of that growth, and maybe just more importantly, the free cash flow that comes with that growth has been exceptional, and we're gonna continue to focus on that. Fortive Business System, it obviously continues to be an incredible important part of what we do. We talk about it from perspective of leadership, growth, and lean manufacturing. All three components equal to our businesses, particularly in a portfolio like ours, where we have software businesses, hardware businesses, service businesses. FBS means a lot to everyone. We just left our leadership conference last week, our top leaders in the company, with our theme of unleashing FBS. It was really about...
You really see so many great examples of things like how we dealt with supply chain issues and the fact that our free cash flow is outstanding, and the ability to do that despite the supply chain issues that were out there. Our ability to continue to drive growth in a number of our newest businesses in particular, where FBS really means a lot for our new businesses. Finally, just continuing to be more innovative and accelerate innovation. We see a number of places where we celebrated innovation. Finally, you sort of bring all that together. We think it's a proven value formula. We're looking forward to giving you more detail here in our investor conference in May.
We think that it's an exciting time to really give you, give you an opportunity to really dive into, to what we do and how we do it. We think that's one of the most exciting things that we have going. What you can count on is that double-digit earnings growth and free cash flow growth, which we think is certainly the currency for fueling continued success. We'll go to questions.
Perfect. Thanks very much, James, for that introduction. Maybe just, you know, it's a dynamic external environment. Maybe just sort of, you know, level set kind of where you think we are now. You know, I suppose product hardware orders are the most economically sensitive part, if you like, of your portfolio today. You know, how are those starting out, the year? How comfortable do you feel with sort of customer inventory levels? You know, any concerns around destocking, that type of thing?
Yeah. you know, after two years of double-digit growth, right?
Yeah.
10% growth for two years in a row.
Really strong order growth in our product businesses. We would have always expected and anticipated some slowing of order growth given the fact that our orders even outpaced that level of growth. We've talked about backlog, and I'm sure we'll talk about it.
Yeah.
I think everything's coming in as anticipated.
Yeah.
As we look at it in real quick terms, we're gonna be down in orders in the first quarter.
Yeah.
Our product businesses may be down almost double digit. Maybe high single more likely.
Yeah.
It's coming in as expected. I think given that we'll have given the both the secular drivers that we've really worked towards, as well as a number of things that we've got from a backlog perspective, we feel pretty good about the position we're in. Relative to inventory, the inventories are in good. Not in a scary situation.
Yeah.
-In any way, shape, or form. The only place, and we look across all of our hardware businesses, is in some small distributors in the U.S., we have a little bit of inventory, it's Fluke.
Okay.
We think we're in a very good position. At Tektronix, you know, as our second-biggest hardware business-
Yes.
Our channel partners have almost no inventory, just given.
The demand cycles that have been going on for, you know, the better part of 24 months. Those channels are still trying to catch up with, their own demand. We don't feel like inventory is gonna be a big issue here.
Got it. Thank you. When you mentioned backlog, and there is this sort of, you know, it's confusing in this environment of sort of backlogs, orders, sales. Normally, it's a very obvious relationship, but it's a bit, you know, complex right now. How do you think about the pace of that excess backlog coming down? You know, where do you think sort of book-to-bill look as you go through the year? Any thoughts on those topics?
You know, Julian, we entered the year with over $300 million of what we consider excess backlog.
Yeah.
Not just total backlog, but the amount that we normally would carry. What we put in our guide this year is to probably reduce that by half, but still carry more into 2024. That has more to do with supply chains that are still tough. Bookings, we would expect to get into the second half of the year in our hardware products businesses, you start seeing those things move back into positive growth as you go forward. We think we're in a good position here. Inflation and supply chains are really a bigger issue, of course, at this point in time, continue to be, although better than last year.
Got it. Thank you, Chuck. I suppose the region that's been most, you know, back and forth, if you like, has been China for other companies. For Fortive itself, you've somehow had very good growth.
Yeah.
-Even last year. I'm not sure you ever got the credit for that from investors somehow. Maybe go into that a little bit, like, what did Fortive do right? You know, how did you manage to get good growth in China when almost everyone else was down? What's your sense around how the Chinese, you know, economy-
Yeah.
That you sell into, how do you think about that pace of improvement from here?
Yeah, you know, after several years of good growth, you know, we had double-digit growth last year, we had double-digit growth the year before.
Yeah.
As you said, China's been a really strong territory for us. I think it goes back to our long-term strategy there, which was.
It was to be local in the market, not only with manufacturing, but with engineering capability, designing products for that market, having a local team that's empowered to do things. You know, given COVID, that empowerment has been critically important. They've done an exceptional job of using FBS...
Yeah.
-To work around a number of the issues that we know.
You know, as an example, in December, I think 85% of our employees had COVID. Yet we still delivered the numbers pretty strongly in the region. We feel very good about our team's ability to continue to execute. First quarter is gonna be impacted by in our health business.
Yeah.
Obviously, you know, it goes without saying some of the challenges that have been there relative, but those are getting better by the week.
Yeah.
We're gonna have a good year in China. It's gonna be our highest growth region for the year.
That's good context. Thank you. If we think about the organic sales waiting for the total enterprise, you know, I think it's sort of stronger first half, more subdued second half. Whenever investors see that kind of guide, they're always, you know, antennae goes up. Is this something slowing down? Is it just conservatism? Is it neither and it's a function of comps?
Yeah.
What's your sort of explanation, you know, yeah, logic?
You know, Julian, I think that, you know, the way we've laid out the year has our normal seasonality, 48% in the first half, 52% in the second half. It really just gets to the comps. Is you probably remember last year.
Yeah.
Q1, there was the Shanghai shutdown. You're gonna see some things that move around. When you just step back and look at it, we don't have any hockey sticks. We're pretty normal, exactly normal to where we would expect. It's really about the comps.
Yeah.
I think if you look at the two-year stats, we're actually getting a little bit better in the second half.
Yeah.
So, um-
Yeah.
Just to kind of give a little bit of context.
That makes sense. There's some productivity actions. You know, companies like Fortive are always very on top of kind of keeping costs under control for how the top line's moving around. You know, how's the productivity action kind of playing out? What business units are most affected by those efforts?
Yeah. We talked about $25 million-$30 million in the first half. It's pretty evenly split to get about half of that done in Q1. The rest.
Yeah.
-Will be in Q2. When you think about it by our segments, I think of it at 40% going towards the health. There's a variety of reasons for that. You know, obviously, we've done some carve-outs. There's a little more to get after there. The rest of it's evenly split 30-30 percentage of the total-
Yeah.
Between the other two segments.
Perfect. thank you, Chuck. Maybe looking at some of the specific businesses, you know, the facilities piece, FAL, you know, you've brought together kind of three business-
Yeah.
Three large businesses within that and some smaller pieces as well. How do we think about that business kind of as we go through the year? And maybe just give a broader context as to, you know, how integrated are the businesses inside it.
Yeah.
How kind of satisfied are you with the size and shape of FAL today?
Well, it's a great set of three businesses, as you said, Gordian, Accruent, and ServiceChannel.
Yeah.
We're, you know, we had a tremendous year with that business in 2022 after a very strong year in 2021. You know, that's gonna be a double-digit grower for sure this year and certainly into the future. You know, what we really do in this, in pure essence is we're really.
Yeah.
Managing the assets and the facilities of most major companies in the world. We manage leases, we manage the assets themselves, we do commission some maintenance systems, those kinds of things. We're really focused on the facility manager and what they do every day. You know, in an age where the ambiguity and maybe the economy is a little noisier.
Yeah.
... People are looking to understand their assets better. They're looking to save money on their facilities. Quite frankly, our value proposition just gets accelerated. We're gonna have a good year. Now, it, as we said on the call, we'll first quarter is gonna be a little wonky because we had such tremendous growth at ServiceChannel last year in the first quarter, and we're converting them from a somewhat pass-through. Part of the revenue stream was a pass-through business. Think of it as playing a general contractor.
Okay.
With not a lot of high margins. Part of our strategy for higher growth and higher profitable growth was to convert that to a software solution, which has been really well received by customers. There's a little wonkiness in the first quarter. We'll accelerate through the year, and we feel really strongly about the strength of the growth in that business. Accruent, again, getting better. As you said-
Yeah.
... They're becoming more integrated, particularly ServiceChannel and Accruent, where they do serve, in many cases, similar customers. Gordian remains somewhat mostly focused on the end markets of, you know, public facilities, state, local governments, federal government buildings.
Maybe on that point, you mentioned ServiceChannel that was acquired, you know, 2021. Provation was the other large acquisition of that year for Fortive within the healthcare business. How are those two businesses performing inside the company? you know
Yeah.
... How do you feel about the returns profile, you know, three or five years post-deal for those two?
Well, I think in simple terms, we said we'd get about $0.12 of accretion.
Yeah.
... In 2022, we got 14.
Yeah.
I think, number one, we beat the, what we said we were gonna do.
That's the high, you know, maybe the headline.
Yeah.
I think underneath that, I think we're incredibly happy with where those businesses stand. Both of them won. You know, we had our leadership conference last week. We give a little bit of internal awards, but they were all cleaning up with awards given their growth and improvements and profitability. We feel very good about what the trajectory of those businesses, where they're at, where the leadership teams are at. You know, they're both gonna, I think, be, you know, tremendous deals for us.
Great. The, the healthcare segment overall, you know, I think it's had a sort of a tricky time 'cause of the external environment, since the ASP acquisition. You know, what are you thinking about longer term growth in that business? Do you think it's the market that's been soft or maybe some share loss on Fortive's end? How do you see the sort of the top line growth from here in AHS?
Yeah, I mean, You know, obviously, ASP.
Yeah.
... Business is a big business there.
Yep.
I would say we definitely think that the segment is a mid-single digit grower on a.
On a kind of regular basis.
Yeah.
I wouldn't necessarily call the last couple of years in hospitals regular, right? Between COVID and the financial situations that's occurred in hospitals, you know, that's obviously been a big challenge for the last couple of years. You know, 2021 through 2023, we're gonna grow 4% at in the business. The margins are continuing to expand over that time as well.
Yeah.
We're in a wonderful position. We saw some, even some nice green shoots in the fourth quarter. Consumables were up high single digits at ASP, as an example.
We're well-positioned in our software solutions at Censis and Provation. We think we're, you know, well-situated. I mentioned the China impact that's gonna have some impact at ASP, which will impact the growth of the segment in the first quarter, and some sort of headwinds at Invetech, which is a small business, but has some sizable COVID-related.
Yeah.
... Situations. We feel really good about where that segment is right now relative to the year. I think, you know, it's a show me year for that segment, but we feel good about the, their ability to pull that off.
Within AHS, are there kind of things you're doing differently today versus, you know, three years ago when the segment was kind of taking shape inside the organization? Or it's more about, no, you're doing the same things well, it's just some of those external factors become more helpful?
Yeah. Well, I mean, our culture is always about being better.
Yeah.
I would say, number 1, there's lots of things we could do better, and we're focused on that. I think we start to get back to some of the secular drivers that made us interested, the durability of growth.
The fact that, you know, in the U.S. and in Western Europe, healthcare is going to become a greater amount of spend just simply because of the demographics. In the developing world, people want higher quality healthcare. It's one of the first things they want.
Yeah.
I think those secular drivers, you know, in the case of sterilization, there's technology that's related to surgeries like robotic surgeries, where Terminal Sterilization, where we mostly play at ASP, is needed more so. There's gonna be more sterilization, maybe a little bit less disinfection, more sterilization going forward. We'll now start to see those secular drivers play out now that things normalize. I'm not suggesting 2023 is gonna be back to normal in hospitals, but it's gonna be better than 2022, we think. We think it continues. The secular drivers start to play out better and we anticipate that certainly we'll be a beneficiary of that. We've been doing a lot of work with in terms of FBS and those businesses that we're starting to see.
Provation and Censis as examples are some of the newer businesses certainly have been great practitioners of FBS in their early days, and ASP has really started to do that. You know, I think we had, we had tremendous working capital over the last couple of years as an example at ASP. Despite a little bit, you know, they've been a little bit challenged on the growth side, their free cash flow is exceptional.
-Because of the working capital improvements. I think, what, $70 million of-
Over the last couple of years.
Over the last couple of years of working capital we've gotten out of the business.
Perfect. You know, looking at sort of IOS and PT for a second, you know, you've got the FAL piece that you built up. You look at kind of, sort of the base hardware businesses in those two, Fluke and then Tektronix, you know, how satisfied are you with the effort to sort of digitize.
Yeah.
-Those, make them, you know, less volatile, perhaps more recurring to the extent you can? Any updates on that progress?
Well, I think the Fluke story has been won over a couple of decades, right?
Yeah.
You know it well. I think number one, you know, we built a health business that was became so big that we moved it into the health segment, right? You know, they don't get credit for that in the segment, but that's a-
Yeah.
That's been a really steady business and will be a steady business in a little bit more if we get a little bit more turmoil in the macro. You know, we built a software business in, with eMaint.
Condition-Based Monitoring business. Yeah, we've done a lot of things at Fluke and, you know, and then on the innovation front, we're probably gonna have our best year for innovation at Fluke in 2023. You know, there's gonna be things that are gonna be able to fight a number of those macro things. On the tech side.
Yeah.
You know, I think we've just had a great story at Tektronix. I think those secular drivers that we've talked about, you know, I think we've moved the long-term growth rate up at.
-By focusing on things like, you know, everything needs a battery and that battery needs to last longer, and it needs to be smaller, and that requires new designs. Tech is you know, there's a whole bunch of signal analysis that you need to do to do that. I think we're well positioned to tech. We put a service business onto Tektronix. I think both.
Yeah.
Businesses. They won't be completely devoid of a severe macro situation. I think in maybe what we sort of think, which is maybe noisy, we think the businesses are both in good shape. As we said, Tech has a tremendous amount of backlog. We feel good about.
Yeah.
23 and 24 as we look out right now, you know, as far as the crystal ball can really see.
That's helpful. You know, on the subject of tech, clearly, you know, people are interested in seeing how the National Instruments process plays out. I think, you know, maybe some investors were sort of concerned after the last earnings call, some of the commentary around, you know, willingness to issue equity for certain transactions. Yeah, just wondered sort of how you would approach this, the subject of National Instruments specifically, if there's anything to sort of point out or highlight.
I don't think we comment on any deal that's.
Yeah.
In the market. I'm sure you know that. Of course, we think our share price is undervalued. In any case, equity is non-starter for us. Issuing equity.
Got it. More broadly, I suppose, on, you know, on capital deployment. Last year was a quiet year for good reasons, we'd expected it to be a quiet year for acquisitions. How's the environment overall for M&A right now?
Yeah.
Last year was a tough year, and a lot of good stuff came up, so in a way it was a good year for you to be on the sidelines.
Yeah. Well, we were busy, so you know...
Yeah.
It wasn't one of those things where we weren't doing anything, you know. M&A is hard to predict and, you know, as we've said, and we've talked about this, you know, it's hard given the valuations of where things were at. I would say 2022 was a year where, you know, the bid-ask separation was pretty high. You start to see some of those things calm down a little bit. Not perfectly, not. Yeah, we think, you know, there's opportunity out there for sure. We've, we've got a number of things, you know, in a year where maybe we think, you know, the process has started to slow, maybe in the second half, but we're out cultivating, we're out doing market work, continuing to assess opportunities.
We, you know, balance sheet is in great shape. You know.
Yeah.
-In that sense, we've got plenty of firepower. We'll certainly look for opportunities. We're gonna be disciplined. You know, we're not gonna necessarily... I think we've got so many great businesses that are.
Yeah.
-Really contributing to Fortive today, that if we had to go, you know, a few quarters with not doing a deal, you know. We don't embed anything in our guide that we need to do in any way, shape, or form. We can deliver, I think, continued outstanding results without it. We hope we continue to accelerate strategy with some great businesses in the future.
Understood. And on the point on, you know, Chuck, you mentioned the sort of where the shares are and so on, of Fortive itself. I think there's always the view among investors that, you know, anyone from a sort of a Danaher background is immediately, you know, very antithetical to buybacks, you know, philosophically. You know, how are you thinking about?
Yeah.
The appeal of buybacks?
You, you know, I don't think it's a. As we said, when we bought some shares back last year, it'd be opportunistic when we, and, you know, depending on the situation. That is where we're gonna stand. That doesn't mean it's not a program. It's not a commitment every quarter.
Yeah.
When we, you know, think we're undervalued, we'll consider it. Not, you know, it's not gonna be all of our free cash flow for sure. Just we'll see how the year plays out.
Yeah. On the M&A approach, you know, some investors have worried about the multiples that you've paid for one or two deals in the past. Has anything you know, evolved around how you approach M&A? The view would be, "No, because we know we get very good returns on those transactions after a couple of years.
Yeah. I think about, you know. First of all, I think when we look at if we go, you know, several years back...
Yeah.
The deals are all, you know, they're. You know, we've talked about ASP being sort of a corner case of a challenge.
A little bit more challenged given the pandemic. You know, the other deals were, you know, as we come up on five years, we're hitting that 10% mark or better.
Yeah.
We keep going. I think that's the other thing with the way we've moved the recurring revenue from, you know, 20%, a little less than 20% to 40%, you know, almost 40% now. You know, we're gonna continue to build that revenue base over time in these deals. we talk about the first five years, but now you're starting to see the benefit of some of those deals in their sixth and seventh years. eMaint, the first deal we did, which was a software deal, you know, is probably our best software business in a sixth and seventh year.
Net Dollar Retention approaching 110% margin, you know, a Rule of 60 kind of business. you know, we just think that we'll continue to be disciplined.
Yeah.
We're gonna continue to use the benchmarks around ROIC that we've discussed. You know, we think bringing those businesses in really helps the business. I think you see that in the metrics in 2022, particularly in the free cash flow.
Yeah.
I think when you look at our free cash flow differentiation, the businesses we bought, you know, really contributed to strong free cash flow. The software businesses are a tremendous contributor, and the compounding that comes from that over time is pretty tremendous. We feel good about where our strategy is, and I think we continue to As we said, 22 was gonna be a show-me year. People would see the benefits of those things. I think we demonstrated that. I think every year is a show-me year to some extent.
Yeah.
We'll make 23 another show-me year. I think you'll continue to see that, and we feel good about the returns we're getting.
Lastly, before we move on to the audience response survey. You know, divestments, Fortive's been always an active portfolio manager. It's been a couple of years since Vontier came out. Should we expect most divestments or divestments in general to be small in scale, and that was the last kind of big one?
Well, we just, you know, we just were with our board in January, where we reviewed our strategic plans.
For the next five years. I think we looked across the portfolio and felt really good about where we stand in the businesses.
Yeah.
As you said, we always reevaluate. You know, that's why we do those plans every year. We do an assessment of the external environment. Did, you know, did competitors consolidate?
Yes.
Are there changes in the secular drivers?
Yeah.
we'll always reevaluate, but I think where we stand right now, we feel like the portfolio is in a good place.
That's helpful. Great. Let's switch now please to the audience response survey. You've got those small gray devices on the desk. The first question.
Do we get to vote?
No. These should be locked up. Do you currently own this stock? 60% no. The next question is around the general bias for the stock today, positive, negative, neutral. Fairly balanced, very little negative. The next question, what do you think through cycle earnings growth for Fortive will be? The peer set here, you know, probably, you know, broad industrials or multi-industry if you like. A pretty broad peer set I think is the right way to look at this. Mostly think above average. The next question is around what should Fortive do with excess cash? A lot of different choices there. Mostly bolt-on acquisitions, not much appetite for larger ones. We'll move to what PE multiple on 2023.
There's a wide range. You know, I think obviously there's been a broad re-rating the last few years. Mostly, you know, 17 to 20 times it looks like. The next question is around, you know, why do people not own the stock or own less of it rather than more of it? Core growth and capital deployment. Clearly the margins are run extremely well and the cash. Lastly, does ESG play an active role in your decision-making relating to the shares? Very little impact in general. Great.
We have some work to do.
Yes. Well, thanks so much, James.
Great. Thanks, Julian.
Thank you very much, Chuck.
Thanks, Julian.
Thanks, everyone.