Good morning. My name is Matt, and I will be your conference operator today. At this time, I would like to welcome everyone to Vertiv's fourth quarter and full year 2021 earnings conference call. All lines have been placed on mute to prevent any background noise. Please note that this call is being recorded. I would now like to turn the program over to your host for today's conference call, Lynne Maxeiner, Vice President of Investor Relations.
Great. Thank you, Matt, and good morning and welcome to Vertiv's fourth quarter and full year 2021 earnings conference call. Joining me today are Vertiv's Executive Chairman, David Cote; Chief Executive Officer, Rob Johnson; Chief Financial Officer, David Fallon; and Chief Strategy and Development Officer, Gary Niederpruem. Before we begin, I point out that during the course of this call, we will make forward-looking statements regarding future events, including the future financial and operating performance of Vertiv. These forward-looking statements are subject to material risks and uncertainties that could cause actual results to differ materially from those in the forward-looking statements. We refer you to the cautionary language included in today's earnings release, and you can learn more about these risks in our registration statement, our proxy statement, and other filings with the SEC.
Any forward-looking statements that we make today are based on assumptions that we believe to be reasonable as of this date. We undertake no obligation to update these statements as a result of new information or future events. During this call, we will also present both GAAP and non-GAAP financial measures. Our GAAP results and GAAP to non-GAAP reconciliations can be found in our earnings press release and in the investor slide deck found on our website at investors.vertiv.com. With that, I'll turn the call over to Executive Chairman Dave Cote.
I and the Vertiv team are disappointed and embarrassed by our second half 2021 and projected first half 2022 financial performance. We got behind on the inflation recovery curve with insufficient price and stayed there all year. In the past two months, Rob and his team have implemented price increases that we expect will generate $360 million year-over-year price versus $260 million incremental inflation, generating $100 million of favorable price costs for the full year 2022. Because much of that price is in the backlog, it takes several months before the increases show in the financials, hence the vast difference between our expected first half and second half 2022 performances. Our unimpressive financial performance was exacerbated by continued supply chain issues, which don't show much sign of abating at this point.
Like everyone else out there, we'll hopefully be issue lessened in the second half, but we aren't counting on much lessening. On the plus side, our orders were through the roof in Q4, with total company orders up 51% and the Americas up 114%. The first quarter is off to a good start even with the price increases. Our short-term performance, including anticipated first half 2022 results, is unimpressive. Our expected long-term performance starting in the second half of 2022 will be quite impressive. We get ahead finally on price inflation recovery. Our orders are off the charts and market-leading. Supply chain should loosen. We have favorably resolved the Tax Receivable Agreement in two lawsuits, and the product ramp-up is just beginning. Some of you may be wondering why I don't get more involved. The answer is, I have.
That's why you see much more aggressive inflation forecasting, price implementation, and other fixes that Rob will talk about. The management has readily accepted and implemented these, let's say, suggestions, and will deliver as presented. I apologize for putting all our investors through this. That being said, it's a short-term issue that should turn around in the second half. The long-term thesis is very intact, especially as performance begins in the second half. If you take the second half run rate into 2023, you can see how intact that thesis is. We know we have to prove it to you, and we will. With that, I'll turn the call over to Rob.
Thank you, Dave. The management team and I share your sentiment about our Q4 results and the outlook for the first half of 2022. Before diving into the key messages on the first slide, let me comment on two topics. First, while Dave has been a good mentor to me over the last two years, our relationship has certainly evolved over the past 60-90 days. As his opening comments suggest, he has become much more actively involved in the day-to-day aspects of the business, both on the cost and price side. He is helping me almost daily basis to conduct reviews with our teams and host other business topics, and it is my full expectation that this level of involvement will continue through 2022. Secondly, let me address our guidance miss in the fourth quarter for which I take full responsibility for.
In short, we screwed up, and some of you undoubtedly are wondering how we could get so surprised. We significantly underestimated the magnitude of the material and freight inflation in the fourth quarter forecast, mostly in Americas, by approximately $36 million. This underestimation of costs also contributed to our underpricing in the market in 2021. It was a huge deal, not only for cost, but also price. Half of the inflation miss was related to unforeseen supplier decommits on critical components and our need to execute spot buys and premium freight to meet customer commitments. The other half is related to forecasting issue within Americas region, heavily influenced by our ERP implementation, but also due to forecasting process issues within the region.
These regional cost forecasting issues have been fixed, and we feel very confident with our cost projections for 2022 as evidenced by our January cost being lower than what we were planning, and that is why we are comfortable with what we have, that we have it all corralled. In addition, based upon better understanding of our underlying costs, we have been extremely aggressive with pricing in the last 90 days or so, as you will see in today's presentation, to more than offset the higher cost. With this better understanding of cost and higher pricing, which we are seeing in our year-to-date orders, we are confident that we will deliver a strong financial result in the second half of 2022 and beyond. Now turning to the key messages. On demand, Vertiv products and services is very strong.
Our organic sales were up 4% from Q4 of 2020. The strength of our position in the market can be validated by our order rate, which was up over 50% in Q4 over last year, and has pushed the total Vertiv backlog to over $3.2 billion. Two, profitability challenge primarily driven because of inflationary headwinds, not because of a flawed strategy or decrease in demand for our products and services, but due specifically to inflation that companies everywhere are battling. Our fourth quarter adjusted operating profit was $94 million, which unfortunately was $58 million lower than last year's fourth quarter. We felt inflationary pressures most severely in Americas, but also across our other regions. Our pricing actions increased as the year went on, but they were exceeded by inflationary costs and created a $135 million net headwind.
We continue to raise price at aggressive rates even as recently as last month, and we will continue to do so to make sure we get ahead of inflation. As you know, and fortunately, we are carrying a large backlog, and it takes quarters for that pricing to be fully realized. Fourth, we won't see the full impact of our pricing actions in the first half of 2022, but those actions will kick in during the second half, and we expect the second half adjusted operating profit to be approximately $455 million, $230 million over the second half of 2021. Supply chain issues are real and challenging, delaying product completion. The Vertiv team is battling parts on a daily basis. Our biggest challenge is with electro-mechanical parts and fans, critical components of many of our Vertiv products.
Internally, we have launched countermeasures to address these shortages. However, we expect and have been prepared for supply chain pressures to continue for the majority of 2022. Final and most important key message: although 2021 did not produce the results we expected for reasons I just shared, Vertiv is now well-positioned for a strong performance in the second half of 2022 and into 2023 due to our aggressive pricing actions in Q4 and early 2022. Turning to slide four. Recapping our 2021 performance, and then I'll provide some additional detail on what's playing out for 2022. With regard to 2021, we continue to have strong demand for our products. Some of this demand is because we are in a strong growing market.
Some is because we are winning with our go-to-market strategies, and some is a result of our Vertiv product development efforts. These three reasons are giving us an order rate that's almost up 30% year-over-year and over 50%, as I mentioned earlier, in fourth quarter. Admittedly, we believe the significant order growth rate in quarter four is an indicator that we could have priced even more aggressively and adding further confidence that our pricing actions over the next several months are appropriate and will be received in the market. While a good portion of our $3.2 billion backlog will ship in 2022, right now, we are getting visibility into customer plans for 2023 and beyond.
This visibility is being provided in the form of forecasts, purchase orders, providing us greater visibility to our revenue profile, not only over the next several quarters, but into the future. On the 2021 supply side, we fully expect to be challenged for most of the year. Critical parts availability is spotty, and despite all the efforts to qualify second and third sources and redesign products where possible, we know part shortages are something our industry will grapple with throughout the year. In addition, 2021 inflation got ahead of our pricing. Just when we thought we had budgeted enough price, inflation got worse. This happened several times. We have corrected it now and are being very conservative in our expectations that inflation will not go away in 2022. The acquisition of E&I closed in November. Integration efforts are in full swing.
We remain more confident than ever in our purchase decision. Vertiv will reap the benefits from this complementary nature of E&I's process and products and its ability to be accretive platform for Vertiv long into the future. In 2021, we invested significantly in ER&D, just as we planned. We launched several new and innovative products as evidenced by their order rates, these products have exceeded expectations of our acceptance from the market, allowing us to take share in certain categories. In 2021, we invested in ER&D, a fundamental part of our long-term growth strategy. Now as we turn to 2022 outlook. Our demand environment remains strong, but deliveries remain constrained by parts shortages, especially in semiconductors and electromechanical parts that I discussed earlier. We aren't planning to see meaningful improvement in the supply chain this year.
We have new production capacity coming online in Americas to support our growing thermal business. We are anticipating material and freight costs will continue to increase, but our incremental pricing actions are expected to materially offset 2021 and 2022 inflation by the end of 2022. Pricing realization accelerates throughout 2022 and provides a net price cost tailwind by Q3. We expect profit in the first half of 2022 will remain challenged, but will markedly re-improve in the second half of the year as price cost turns positive. Due to the pricing actions already initiated, we expect to exit 2022 in a good position. Turning to slide five. This is the chart we use to illustrate what we are seeing in the market in each of our regions and each of our end markets. In the cloud and hyperscale markets, they remain strong, represented by green buttons in America and EMEA.
In APAC, however, we see some slowdown as China is pushing cloud and hyperscale companies to maximize their existing facilities. We expect this to be a short-term phenomenon. When looking at our colocation customers, we are not only seeing strength across the regions, but increasing strength in Americas and EMEA. Tier one, tier two, and tier three colos are building out data centers to serve their customers, and we are participating in a very healthy way with these building out efforts. Our enterprise small and medium business markets remained constant for Q four to Q one. We're experiencing good performance in each region. The pipeline is growing, and Americas is leading the way. The communication network market remains consistently strong with an uptick in Americas as 5G deployment continues to accelerate.
In the commercial industrial market, things remain consistent in EMEA and APAC, and we did see an uptick in Americas, allowing us to upgrade Americas from yellow to green. While the commercial and industrial market is a smaller slice of our business, the variety of products and services we sell in this market continues to grow. Moving to slide six. We closed the E&I acquisition on November 1, and the integration team has been hard at work ever since. E&I has also faced, and is facing, supply constraints and inflation, which has temporarily affected the top and bottom line. E&I has a very healthy backlog. We believe the pricing actions that we have taken in Q4, and will continue to be taken as needed, will be realized in the back half of 2022 with E&I as well.
We anticipate 2022 revenue from E&I alone to come in around $470 million with an adjusted operating profit of $80 million. Customer reactions to the deal have been nothing short of fantastic, and this acquisition has increased our relevancy with our customers. We expect, as 2022 progresses, the synergistic leverage we will get from E&I will enhance our performance in 2023 and beyond. I might summarize E&I in 2022 as a tough year, but still a great deal. Now I'll turn it over to David to walk through the financials. David?
Thanks, Rob. First, turning to slide 7, this slide summarizes our fourth quarter financial results, which certainly fell short of our external guidance across most of these financial metrics. Versus last year, sales were up $105 million or 8%, 4% organic when adjusted for the $67 million of sales from E&I. We also had a $13 million foreign exchange headwind. Our fourth quarter top line, as Rob mentioned, continued to be negatively affected by challenges with procuring parts. As the underlying market demand certainly was much stronger than implied in this year-over-year sales growth with orders up over 50% compared to last year's fourth quarter, and it is definitely seen with our record high backlog at year-end.
Without the supply chain constraints, and this is a little bit hypothetical, conceptual, our sales growth percentage would have easily been in the double digits for the fourth quarter. Adjusted operating profit of $94 million fell significantly short of our external guide, and it was primarily driven, if not entirely, by contribution margin, which we'll summarize in a separate slide in a short bit. On this slide, we captured the drivers of the $58 million reduction in adjusted operating profit from last year's fourth quarter, including $80 million lower contribution margin, which was primarily driven by a $60 million headwind from price cost, approximately $90 million of material and freight inflation only partially offset by $30 million of incremental pricing.
Of note, our pricing was actually relatively consistent with our external guide. As we will discuss with 2022 guidance, we've addressed the $60 million fourth quarter and $135 million full year 2021 price-cost imbalance with aggressive price actions taken in the fourth quarter and early 2022. Returning to fourth quarter adjusted operating margin and adjusted EPS drop consistent with the adjusted operating profit decline, with adjusted operating margin about 500 basis points lower and adjusted EPS about $0.25 lower than last year's fourth quarter.
Finally on this page, fourth quarter free cash flow was significantly lower than prior year, primarily driven by the lower adjusted operating profit, but also timing of working capital and about $30 million of cash M&A expenses. Turning to page eight, this slide summarizes our fourth quarter segment results. The Americas region continues to be more impacted by supply chain challenges than the other two regions. The supply chain challenges negatively affected both Americas top and bottom line with organic net sales up just $7 million or around 1% against a very strong regional market demand backdrop, where orders were more than 2 times last year's fourth quarter. The left-hand chart at the bottom of the page shows the $69 million year-over-year decline in adjusted operating profit in the Americas.
Of course, heavily influenced by price cost. Approximately 70%-75% of the overall Vertiv price cost headwind for 2021 and in the fourth quarter is in the Americas, despite the Americas representing less than 45% of total sales. Freight inflation was particularly acute in the fourth quarter and accelerated significantly in the U.S. as we progressed through the end of the year. Of course, in response to disproportionate net inflation in the Americas, our fourth quarter and 2022 pricing responses have also been much stronger in that region. All things considered, APAC posted relatively good results in the fourth quarter with organic sales up almost 3% and adjusted operating profit and margin relatively flat with last year.
Although not completely immune from the current supply chain challenges, relatively little of our 2021 net price cost headwind came from APAC. Finally on this slide, moving to the right, EMEA showed strong fourth quarter top line growth with organic sales up 11%. However, margins were down about 130 basis points from last year as the leverage benefit from these higher sales was more than offset by a price cost headwind. Next, turning to slide nine. This chart bridges fourth quarter adjusted operating profit from our $176 million guidance to the $94 million actual and $82 million negative variance.
$46 million of this variance was due to higher than expected material, freight, and labor inflation, primarily in the Americas and especially concentrated on freight, including premium freight for both inbound and outbound shipments to protect customer deliveries, but also due to an increase in standard over-the-road rates, which were up over 30% from last year's fourth quarter. As we will discuss shortly, our 2022 guidance assumes that these fourth quarter inflationary headwinds continue and trend even higher in 2022. Moving to the right, we incurred approximately $10 million more than expected sales commission expense in the fourth quarter, primarily due to strong fourth quarter orders up over 50% from last year's fourth quarter. E&I, as Rob mentioned, came in short of expectations in the fourth quarter.
Volume for overall Vertiv base Vertiv was lower than expected due to the parts availability that we discussed. Finally on this page, pricing was materially in line with our fourth quarter expectations, off about $2 million. The approximately $53 million of pricing we realized in 2021 has been sticking. As we will review in a few moments, it is expected to accelerate significantly as we progress through 2022. Next, turning to slide 10. This page summarizes our full year 2021 results versus prior year. We won't spend a lot of time on this slide, as I'm sure everyone is anxious to understand what we see going forward in 2022.
To summarize 2021, despite the supply chain constraints, we grew our top line organically by about 11%, which likely would have been over 15% without the supply challenges. Our adjusted operating profit and margin were significantly affected by negative net price costs with almost $190 million of material and trade inflation, only partially offset by $53 million of pricing. Although more aggressive pricing actions were taken at the end of 2021 than implied with the $53 million full year number, realization in our income statement was certainly influenced by our significant backlog, which drives a timing lag between inflation and offsetting price hitting our P&L. We certainly expect pricing to catch up with cost in 2022.
Finally on this page, full year 2021 free cash flow was about $27 million lower than last year, with a $92 million cash interest benefit from debt restructuring, more offset by an inventory build, cash M&A expenses and higher CapEx, and cash taxes. Now, flipping a couple slides, we transition from 2021 actuals to 2022 guidance beginning with slide 12. Before we dive in, you will see that we supply a lot of detail within our 2022 guidance, including first half, second half, and quarterly breakouts for expected sales, adjusted operating profit, and also pricing and inflation.
We are providing this detail because we realize absolutely realize we have likely damaged some of our credibility in 2021, notably with the quality of our external guidance, and we want to be fully transparent with you with how we see the year unfolding. It is impossible to understand the dynamics within 2022 with looking at only full year figures. As you will see, our anticipated second half of 2022 is much different and much improved from the first half, and each quarter improves sequentially from the previous quarter. This expected improvement, both in the second half and with each successive quarter, is driven by accelerating price cost benefit versus 2021.
Of course, we understand that providing this level of detail likely creates the expectation for us to supply the same level of detail as we progress through the year, and we are absolutely prepared to do that. We will update our assumptions and projections for all inputs as appropriate. We know that you'll track with us every step of the way. With that said, finally getting to the content on slide 12. This page summarizes our broad expectations for 2022 by splitting our guidance between first and second halves.
We expect first half to continue to be challenged by parts availability, with underlying organic volume, when you remove price, to be down 5% year over year despite the record year-end backlog, as we do not see significant supply chain constraints lessening at all in the first half of 2022 versus what we saw at the end of 2021. In addition, although price cost recovers as we exit the second quarter, it is still projected to be upside down by approximately $70 million for the full first half. The second half is a much different story, as we expect financial performance to improve significantly from the first half. We assume 6% higher organic volume, once again excluding price, and part of that is based on a greater visibility to allocation of parts in the second half.
This 2% higher organic volume could be conservative based upon our backlog and the end market demand. Once again, the underlying driver of improved sales performance in the second half is pricing. Based upon pricing actions that we have already taken, we expect $250 million of incremental year-over-year pricing in the second half alone. As a result, price-cost is expected to be a positive $170 million in the second half, significantly improving adjusted operating profit with adjusted operating margin increasing to 14%.
Our expectations for a strong second half portends a strong 2023 as we capture additional year-over-year pricing from actions already taken, as virtually all sales in 2023 will be at the higher pricing, while we have significant sales in 2022, as we mentioned, from our existing backlog at lower historical pricing levels. We'll further explain this dynamic in a couple of slides. Let's move on to slide 13. This is another slice of our guidance going from a first half/second half perspective to a quarterly perspective. Net sales, adjusted operating profit, and adjusted operating margin are all projected to sequentially increase as we progress through the year. As we mentioned on the prior slide, the primary driver of this sequentially improving financial performance is the timing of price realization.
The chart at the bottom left illustrates the quarterly profitability trend for both 2021 and 2022. Our price cost issues began in the third quarter of 2021, and we anticipate them to be addressed after the second quarter of this year. We're almost 3 quarters of our way through what we see is a four-quarter issue, as price cost turns positive for each of the last two quarters of 2022. Finally, on this page, the chart at the upper right shows the relatively conservative volume assumptions inherent in the plan with full year organic volume, once again excluding pricing, assumed to increase just 1% as we do not assume significantly improving parts availability as we progress through the year. We will continuously reassess that assumption as we go forward.
Next, turning to slide 14. This page details our year-over-year quarterly price cost or net inflation assumptions for 2022. For the full year, we expect to generate $100 million favorable year-over-year price cost, including the assumption of $360 million of price offset by $260 million of incremental inflation. As discussed in the prior slides, our quarterly pricing increases sequentially as the proportion of sales from existing backlog declines, as you can see in the chart at the bottom of the page. Also very important, we should have significant carryover price benefit into 2023 as we expect 95% of next year's sales to be at the higher pricing levels, while in 2022 only 50% were.
This drives an expectation for about $200 million of carryover pricing impact for 2023. Now from an inflation perspective, we assume that what we experience exiting 2021 will continue through full year 2022. That's an approximate $160 million year-over-year carryover negative impact. In addition, we have assumed $100 million of new inflation in 2022. As Rob mentioned, 2021 actual inflation outpaced our expectations each step of the way, and we believe it prudent to assume that inflation will continue to worsen in 2022, which drives the $100 million incremental assumption. We definitely will reevaluate this new inflation assumption as we progress through 2022.
Based on the forward-going assumptions, we expect price cost to be neutral in the second quarter, and as mentioned, significantly favorable for the second half beginning in the third quarter. Next, turning to slide 15. This page supplies some color on our confidence that the $360 million pricing number for 2022 is achievable and will stick. The first, as we saw on the previous page, the first $125 million of the 360 is actually included in our year-end backlog. So we risk assess that from highly probable to certain. Now the second $235 million is based on pricing projections in new 2022 orders that will book and ship within the year.
Based upon the market acceptance of our fourth quarter price increase, you know, evidenced by the 51% increase in orders, we certainly saw the opportunity to be much more aggressive with 2022 pricing. In late 2021 and early 2022, we initiated multiple waves of list price increases, and this is across all product lines in all regions. Although we certainly were a bit more aggressive in both the Americas and EMEA, where inflation has been more pronounced. Based upon our order rates so far in January and February, which are in line or even a little bit higher than last year's order rates for that same period, it appears that our higher pricing is sticking in this high demand, short supply market environment.
Of course, we will continue to reevaluate this assumption and reassess our pricing as we progress through the year. As we have mentioned many times, we believe we operate in a great position in a good industry. Data center demand for our equipment and more importantly, our technology is not abating anytime soon, and it should continue to accelerate going forward. With the backdrop of rising global costs and this long-term market demand, we believe our price increases are justifiable, reasonable, and achievable. In fact, one lesson learned as we manage price increases over the last nine months or so is that we have historically underestimated our ability to get price. Based upon the success of our recent price actions, we have absolute confidence that we will be able to drive consistent price increases going forward. Next, turning to slide 16.
This page summarizes our full year 2022 financial guidance. We provide added detail in the appendix to aid analysts and investors with the modeling. Overall, we expect 13% top-line growth, 8% organic. Components of this organic growth are 7% price and 1% volume, as our assumption is that the supply chain constraints do not significantly ease in 2022 and only in the fourth quarter, if at all. We will continue to reassess this possibly conservative assumption as we go through the year. Full year adjusted operating profit is expected to increase $54 million or 11%, with base Vertiv relatively flat and most of the increase coming from net acquisitions and divestitures.
There is an $85 million year-over-year increase in fixed costs, and we provide some additional color on that increase in the appendix. As we showed in prior slides, quarterly adjusted operating profit and margin increased sequentially with higher pricing, with fourth quarter operating profit projected to be $255 million. Fourth quarter adjusted operating margin expected to be 15%, and fourth quarter adjusted EPS to exceed $0.40 a share. Even though full year financial metrics are not overly impressive, we should be exiting 2022 in a very good position. Finally, on this page, we summarize both adjusted EPS and free cash flow for 2022, and once again, we supply underlying assumptions for each in the appendix. Now, turning to slide 17.
This page summarizes our first quarter financial guidance. As we previewed in prior slides, our performance in the first quarter will continue to be challenged by negative price costs, about $70 million in the quarter. Supply chain constraints will unfavorably affect year-over-year organic volume, we estimate by about $45 million. Now, the net impact is not great, as shown by the expected $20 million adjusted operating loss. These first quarter results should be the nadir for our quarterly financial performance as we project consistent quarterly improvement as we go through 2022 based on actions we have already initiated, including by delivering $360 million of higher pricing for full year 2022. Pricing actions should deliver additional carryover impact $200 million into 2023.
Now, with that said, I turn it back over to Rob.
Thanks, David. Now let's turn to slide 18. I know this quarter's earnings report is not what you expected from us and is not what we expected from ourselves. We got caught up in supply chain challenges that have perplexed most of the world, and we did not appropriately anticipate inflationary pressures we would experience as we tried to obtain parts we needed to manufacture our products. We have a great position in a good industry. We have world-class products and service offerings. We have a talented team. We are relevant to our customers. We are cultivating our relationships, and we are investing in our future. We have a clear line of sight to our margin expansion goals.
While I'm extremely disappointed in our performance in Q4, I am confident in our ability to deliver on our 2022 commitments and how the new actions we have taken have set us up to deliver a very impressive 2023. In the end, our success for 2022 and beyond is highly dependent on our ability to deliver pricing commitments that we have communicated today. I have the confidence that we'll be able to deliver that. I take personal responsibility for this. To Vertiv employees around the world, thank you for the work you've done and continue to do and the support you provide to me, to each other, and to our customers. With that said, I want to thank all of you for listening today, and I'll now turn the call over to the operator who will open up the line for questions.
We will now begin the question and answer session. In order to ask a question, press star, then the number one on your telephone keypad. We'll pause for just a moment to compile the Q&A. Our first question will come from Scott Davis with Melius Research. Please go ahead.
Hey, good morning, everybody, and rough day for everyone. Look, I want to get a sense of whether you need to change your sales commission structure or it kind of looks like your sales force is getting paid to book unprofitable contracts. How do you need to change that, or am I misreading it? I'm just trying to get a sense of the incentive system internally, how it may need to change in 2022.
Yeah, Scott. No. To be clear, they're not paid to book unprofitable business. We actually have really instituted over the last 60, 90 days even tighter controls. They don't have the ability just to discount to grow the backlog and grow the business. We have a very tight, rigorous process that goes all the way up to certain levels, including myself, depending on what discounts we're trying to do. We hold that tight from that perspective so that they don't have the freedom just to discount to build backlog or to go book orders. In different parts of the world, we have profitability as part of the overall sales compensation. Again, the answer would be no. They're not paid to book unprofitable business.
Rob, from a cultural perspective, you know, it seems like Vertiv is a place where maybe bad news doesn't travel up as fast as it should. I mean, you guys reported on October 27, you already had one of the three months of the quarter in your back pocket. How did you guys miss it? You know, from a rate of change perspective at least, you know, where was the breakdown? Is it financial controls? Is there cultural challenges? You know, are there learnings from this? 'Cause we cover a lot of companies, and you guys are an outlier at the extreme end of really getting hit here.
Yeah. A couple things I'd have to say here. I kind of said in my opening comments, we did have some issues up front with our ERP in Americas. To be clear, we didn't see the rate of inflation that we were actually experiencing till later in the quarter, in the later months. We did, however, see an increase in spot buys and expedited freight in order to counter supplier decommits. When we came out in our last earnings call, supply for us with certain suppliers with our products actually got worse and decommits happened and accelerated throughout the quarter. It really wasn't necessarily I would say a cultural issue as more of a system issue and our ability to see that as we changed over ERPs.
Secondly, we consciously made decisions to pay expedited freight and drive spot buys, in order to counter the decommits from our suppliers.
Okay. That's helpful. All right. I'll pass it on.
Now, if you don't mind, Scott, this is Dave Cote, and I'll probably ask.
Yep
David Fallon to interject also. 75% of our issue approximately is the Americas. I think Rob is being a little too kind. In the Americas, there was a cultural issue between the sales guys and operations guys truly understanding what was going on. When the October results were actually okay, November looked a little bit worse, but not distressingly so. We got the report that December was gonna recover. When we got the December results, that's where all of a sudden everything seemed to crash. We didn't really know all the details of it till we got to the latter part of January and spent a good part of February trying to figure out what the heck was going on and what we had to do.
Rob and I got significantly more involved with what did we have to do to resolve the cultural issues that did exist in the Americas, and that's been addressed. When it came to inflation, it was clear we had been underforecasting what was gonna happen with inflation. I would argue some of that was a cultural issue also, which we have addressed. That's why we've been so aggressive on the pricing side. If you take a look at our Americas orders, they were up 115% in the fourth quarter, which as Dave pointed out, is an indication that we could have been pricing a lot better than we did, and we have adjusted that.
That's why we're pleased to see that as we go into January, and at least from what we can see, February so far, orders in the Americas are continuing to grow, even over what was a good first quarter of 2021. But we've had to get much more heavily involved in resolving these issues. I'm confident they have been resolved, and they will continue to work with the new process, and it's why I'm encouraged by what I see for the second half, which I think gives us a very good lead in to the future and gets us back where we should have been all along. I think Dave's right. One of our learnings from all this is how we've underestimated our ability to get price historically, not just currently, but historically. That's another dynamic that's gonna change.
Yes, there's been a significant amount of change that's occurred over the last 60 days. I think, Rob, David, I don't know if there's anything else you want to add there.
No, I think those are fair comments, Dave.
I think they're fair comments.
All right. Thank you. Good luck, guys. We'll pass it on.
Thank you.
Our next question will come from Nicole DeBlase with Deutsche Bank. Please go ahead.
Yeah, thanks. Good morning.
Good morning, Nicole.
I guess maybe.
Good morning, Nicole.
Thanks. I guess maybe to just elaborate on, you know, everything you guys just said, where I'm struggling a little bit is understanding how you'd make such big cultural changes in the scope of two months. Maybe you could give some examples to kind of help us. What has changed about the planning process in 2022 to give your investors confidence that this isn't gonna happen again?
I'll address some of the cultural issues up front. Dave can talk a little bit, and I'll talk a little about the planning process, and Dave can come in over the top. You know, as it relates to cultural issues, again, the organization didn't and wasn't set up to drive a lot of price. Previous years, we've shown $25 million in price. What we really had to do, really top down, Dave, myself, and others in the management team, is really drive all the way down to the salespeople, what it means to get price, how to get price, and not to be afraid to lose orders as we go through that.
That's something culturally, losing orders was something that we had to overcome and say, "It's okay," from the perspective of we've got to go drive price. It's proven out that that works and that we were able to get price. As Dave mentioned, probably should have and could have got more price in Q4 in Americas with the order backlog that we saw. The other cultural issue that Dave talked about is really the SIOP process for Americas and really having that tighter pulled together so that the demand and the supply and those constraints were working closely together. Coupled with an exacerbation of that of a new ERP system that came in that we had lack of visibility for a period of time, which is now since then fixed, from that perspective.
That's kind of on the cultural side. Then on the process side, you know, we are well in and beyond the implementation of our ERP as it relates to. As evidence of January's results, we have visibility into what our PPV is and our purchase price variances and have a good handle on what inflation's looking like. We were behind throughout the quarter. As Dave mentioned, we got into December, recognized what was going on, and have implemented both, you know, process changes, as I talked earlier, on pricing levels of approval, as well as process levels with the integration of Americas' operations and supply and sales. Any other comments, David Fallon or David Cote?
I'd say 100% agree with your comments, Rob. Nicole, oftentimes when it comes to forecasting, it's a lot of blocking and tackling. I would say we have instituted, you know, a lot of rigor in the last 60 days, specifically around the Americas forecasting process to the extent that last Thursday, both Rob and I were effectively in and out of a meeting that lasted from 9:00 A.M. in the morning to 10:00 P.M. at night. We are putting a lot of diligence into this, and we understand, you know, our credibility was harmed as it related to forecasting, and we will not let that happen again. We're confident with the steps and processes we put together for that specific issue.
Okay, thanks.
Just to add a little.
Sorry, Dave.
Well, to add a little more color, Nicole. The Americas cultural issue was always there. It's just it wasn't visible in a stable cost and supply chain environment. It became extraordinarily visible as we started to run into those two problems. To David Fallon's point, Rob pulled together a come to Jesus meeting with the Americas operations and sales folks to say, "This is not happening anymore. I'm not gonna be the arbiter of your issues. You're going to sort it out just like we're able to in EMEA and APAC on your own. And we want to figure out where exactly are we now and how do we have a better process going forward." To David's point, that went on all day, and then Rob and David came in at the conclusion.
We adjusted what we thought was going to happen for 2022 as a result of that, negatively, but it allowed us to be able to figure out where the bottom was a lot better than we had in the past. They have changed the process that they're going to use going forward, both culturally and mechanically. Rob and Dave are going to be very involved going forward in understanding that reconciliation every month to make sure that we truly understand what the hell is going on. Yes, I'm confident that we've addressed it at this point, but this is gonna take more than just a one-time meeting. It's gonna require Rob and David's constant attention to make sure that it sticks, and they're doing that.
Okay, thanks. That's really helpful color. I appreciate all of that. I'll just ask a quick one to follow up to give someone else a chance. The order activity was obviously really strong this quarter. What did it look like excluding E&I? Maybe you could comment on, you know, organic backlog as well, like split out the E&I contribution from underlying Vertiv.
Yeah, Nicole. The order rate percentages are all without E&I, because we haven't tried approximating what orders were or would have been in the fourth quarter of 2020. That order rate is all excluding E&I. If you look at the backlog, the $3.2 billion backlog, that does include E&I. I think E&I is just a little bit short of $300 million at year-end. The base Vertiv backlog is somewhere between $2.9 billion and $3 billion.
Very helpful. I'll pass it on. Thank you.
Yep.
Our next question will come from Jeff Sprague with Vertical Research. Please go ahead.
Thanks. Good morning. Not to beat a dead horse on that last thread, but I just wanted to come back.
To A, the ERP system, and if in fact all the kinks are worked out. B, I was a little concerned to hear kind of the comment that the teams are left to figure it out and we'll monitor them. You know, it sounds like it requires you know, much more direct marching orders. Perhaps that has happened and it wasn't conveyed in that answer. I think we're all still looking for some level of assurance, if you will, that we've righted the ship, and everybody's kind of rowing in the same direction here.
Hey, Jeff, this is Rob. A couple things, comments, and others can chime in. Let's be clear, the teams aren't left to just go figure it out on their own. A combination of myself, Dave Cote being involved and David Fallon have given strict marching orders of what needs to happen. They need to make it happen, so it's not, "Hey, go figure it out and come report out to us." We've given specific instructions as to what they need to do, what needs to happen. Guess what Dave is saying is they need to drive that, make that happen. We will monitor that. But no doubt that from top down, we're driving that message to the team, the three of us.
Secondly, on the ERP system, as you know, all ERP systems are difficult in their own ways. In this particular one, while things went cut over, we were able to continue to ship and do the basic business functions that you'd expect to do that some people get caught up. We didn't have that problem. It was more of an understanding of the price variance and things that we didn't get till later on. We've since then fixed that. As any ERP system, you do have things you fix after the launch, and that's where we got caught up and kind of got behind on the visibility, and then begin to better understand that as we got into December and really towards the end of January.
It took us a little bit longer to assess where we were at and making sure that we now understand, you know, our PPV. Any other comments from Dave Cote or David Fallon?
Yeah, Jeff. The monitor I guess is not a strong enough word. I'll leave it to David and Rob to use whatever strong word is required. They're gonna be much more involved in understanding, did the reconciliation work the way it was supposed to? As to having the team figure it out, and the approach that we took, this is a tool that I generally use, and I've talked about in the past. Because you can't have the CEO always having to tell people to just work together. They have to do it. They have to recognize the problem, and they have to fix the processes themselves, and have to come up with, "Here's how we're going to do it going forward." It starts with they got to recognize they have a problem, which they have done.
The fixes that they've developed didn't just fix what we had as the current forecast, but it's going to get fixed going forward. Like with any new process, you don't just set it up and walk away. You still have to monitor, or use a stronger word, be involved to understand that it's happening. I can assure you both Rob and David are committed to making sure that that happens that way.
Could you address cash?
So-
Thanks for that. Could you just address free cash flow for us? Obviously you're taking a big hit here, working capital and other things. You are trying to get us to think about 2023 and your exit rate. It's probably gonna take some points on the board before people want to fully underwrite that. I'd love your thoughts or commentary on kind of what the normalized free cash flow of this company should be. Maybe present it as a or, you know, in, you know, kind of in the framework of maybe a free cash flow margin, free cash flow to sales, for example.
Yeah. Thanks, Jeff. This is David. You know, I would say our guide for 2022 is certainly uninspiring, I think $150 million. There are some elements of that guide that, you know, might be one-off. You know, for example, our CapEx for 2022 is projected to be about $130 million. That's probably a little bit elevated. Number one, some of the 2021 CapEx split into 2022, but we do have some capacity expansion dollars in there as well. I would say a more normalized CapEx number on an annual basis is probably around $100 million or so. That's one element. You know, the number one driver, the free cash flow, you know, in the long term is gonna be the EBITDA.
You know, the full year EBITDA is certainly not what it should be for 2022. If you look at what we're gonna do in the second half, notably in you know, Q4, you annualize that is gonna be a direct contributor to much higher free cash flow. I think our guidance at the beginning of 2021 was $285 million. I would say based on where we are, especially after the pricing increases go through, our run rate should be much higher than that. It's a little bit of a hypothetical, but our overall goal is to get 100% of you know, free cash flow and you know, cover conversion on that income.
The other thing I would add, Jeff, or Mr. Sprague, is that AOP is a good indicator, I think, of operating cash flow. If you take a look at our fourth quarter run rate and then the $200 million of price carryover in 2023 that Dave referenced earlier, that puts us in a very good AOP position, and that is the biggest driver of what free cash flow will be.
Got it. Thank you.
Our next question will come from Mark Delaney with Goldman Sachs. Please go ahead.
Yes. Thanks very much for taking the questions. First is about the assumption of $100 million of incremental inflationary cost off of the December run rate. Maybe you could elaborate on how you're coming up with that number, and how much of that based on what suppliers are saying they may institute in terms of pricing and what you're having good line of sight into? And how much is, you know, potentially, you know, trying to be more conservative on the inflationary metric, even if it's not cost issues you've already been seeing?
Yeah. Thanks, Mark. This is David. I think it really is a combination of all the things you mentioned. I would not be completely honest if I said that there is an element of conservatism included in that, and that's based on our lessons from last year. Every time we put a spike in the ground related to inflation, it got worse. We saw that especially in the Americas as we progressed through the year, and most notably in EMEA, as we exited the year. There is a provision for conservatism, but you know, certainly a part of that $100 million is based on what we are seeing currently.
It would be hard for me to handicap, you know, a specific dollar for what we're seeing and how much it is conservatism. You know, that's something that we will better be able to reassess as we go through the year, and we can provide an update on that at the end of the first quarter.
Have any of the input costs stabilized that they give you confidence $100 million is a conservative number, or, you know, why wouldn't it potentially just, you know, keep going up at the same rate that it did last year?
Yeah. We've actually. There is some good news out there, right? Notably with some of the commodity prices and in particular, with steel in the U.S. Our pricing for steel, which is our most, you know, prevalent commodity, is indexed based on an average price the quarter before. Steel prices have come down fairly nicely since the mid fourth quarter. We've seen some of that benefit in our Q1 pricing. If the lower steel prices hold through the end of Q1, we should definitely see a benefit in Q2. We have not built into any of our forecasts any specific component or commodity improving this year. That would be an excellent example of, you know, a specific piece of conservatism built into our forecast.
Okay. My other was just on the procurement strategy for 2022. To what extent is Vertiv locking in contracts at, you know, at prices that's giving it visibility into what your expenses will be? You know, but also hoping you could touch a little bit on your ability to get that supply. Right? You mentioned decommits were occurring. You know, have you taken steps to, you know, change your procurement strategy to have better certainty in how you're able to deliver, you know, both to the, you know, the financial community, but also your customers? Thanks.
Yeah. Hey, this is Rob. A couple things there. As it relates to getting price and getting that in the contract, there's a couple things we've changed, too, is getting that price but also putting escalators in there if commodities change outside a certain boundary. That's something we've done and put into the contracts. It wasn't in all of our contracts prior. We're looking at. We can never predict where it's gonna go, and we believe what David just said. But I would say as a backstop, the ability to get additional price if necessary if things continue beyond, you know, a threshold from that perspective.
As it relates to supply, I mentioned earlier in my discussion, we've done a few things. We're not just sitting here saying, "Oh, we can't get it." We've either qualified additional suppliers, we've modified or reengineered certain parts, and allowed for additional supply base to help us out. As it relates to, we keep continuing to talk about fans being a problem. We've qualified additional vendors there and also have changed some of the design there that uncouples it from maybe some of the constraints that we have. We look at that, you know, whether it's displays, whether it's qualifying additional IGBT vendors, which is a big part of our power conversion products and the DC power. One of the things you'll see from us is that,
You know, from a IGBT perspective, which is the power conversion, we have a DC power business that most of our competitors don't. We buy a significant amount of those, getting additional supply base, additional suppliers. A lot of this got started even pre all of this inflationary and supply constraint. It was really as COVID hit, and it taught us a lesson to kind of qualify and drive additional suppliers, and we'll continue to do that. Even as you know, hopefully at some point in time, who knows when inflation goes in the.
You know, we have deflation in the other direction, our strategy is still to make sure that we have multiple suppliers all the way down through our design process so that we don't single source, and those suppliers aren't just in one particular region, that they have multiple regions. Because we've learned that while I may have multiple suppliers and they might be fan vendors out of Germany, that could cause a problem, so I need to have supply base in different parts of the regions. Thank you.
Our next question will come from Lance Vitanza with Cowen. Please go ahead.
Thanks, guys, for taking the questions. On slide 13, I'm looking at the adjusted operating profit guide for 2022, and I see the $200 million in Q3 and the $255 million in Q4. My question is there any seasonality baked into that trajectory? I mean, I'm trying to figure out when I think about the run rate, the starting point for 2023, do I wanna think about annualizing the back half? Or no, do you think we really should be thinking about annualizing Q4 as a run rate to start from in January 2023?
You know, there's likely some seasonality in Q4 projections for 2022, not nearly what we normally would have. I would say Q4 is certainly a better run rate projection for 2023. With that said, Q1 2023 is probably gonna be lower than Q4 2022, but it's a lot easier to annualize that Q4 2022 number than it would be to do that in any other year, and that's because we are assuming continual or continued supply constraints in that number. Of course, we're hopeful that some of that actually gets rectified as we enter the second half.
Okay. With the stock, you know, at $11-$12 a share, can we expect C-suite management to be buying shares in the coming days? How about Vertiv the company buying back some stock? Is there any opportunity to do that based on your liquidity profile covenants and so forth?
Yeah. I certainly can address, you know, from a Vertiv perspective. You know, we look at, you know, alternative uses for our cash on a continuous basis. You know, certainly based on the stock reaction today, you know, a stock buyback would definitely be more attractive than it was yesterday. You know, not making any commitments whatsoever, but it is something that we would strategically evaluate.
The last question from me is on the balance sheet. Could you talk about your plans to de-lever, pay down debt, and then really from a liquidity standpoint, I see the free cash flow you know, target for the year, but could you talk about when you expect your cash plus available borrowings, when does that bottom out and at what level? Are there any maintenance covenants perhaps in your revolver that could further crimp liquidity or maybe even trigger a potential default as we progress through the year?
Yeah. On the last one, no issues on any covenants. I think there's one covenant within the ABL. It's a fixed charge coverage ratio, and we have ample room for that. That will not be an issue this year. As it relates to use of cash, you know, as is, and maybe 2021 was the exception, but we generally have our lowest free cash flow in Q1. We had positive free cash flow last year. This year, we will definitely use cash. Similar to the financial projections, the free cash flow should progressively improve as we go through the year as well.
I would say sometime, you know, probably early third quarter would be the bottom point as it relates to liquidity. We do have. As, as we mentioned, we resolved the Tax Receivable Agreement. There's a $50 million payment at the end of June, end of September. I think soon after that $50 million payment at the end of June would be the bottom of our liquidity, and then it should improve thereafter.
Thanks very much.
Yep. Thanks, Lance.
Our next question will come from Nigel Coe with Wolfe Research. Please go ahead.
Thanks. Good afternoon, and thanks for taking it. It's extra time here. Apologies for the background noise and chatting, but I just wanna go back to pricing. Maybe just if you could maybe address, you know, have you changed incentive structures around price specifically to make sure that that behavior change is sort of getting hardwired in comp? And then maybe just address the order strength in Americas in 4Q. I mean, how confident are you that that wasn't related to, you know, upcoming price increases and therefore, you know, pre-buying ahead of that? And perhaps also if you could just, I know this is a multi-part question, but if you could address maybe the pricing on current orders in-transit backlog relative to some percent of your price then to your guide.
Okay. Hi Nigel, thanks for the question. This is Rob. I'll answer the first two, and then David Fallon can come over on the third one. As I mentioned earlier, some of the behavioral changes that we've put in place across the world is really authority and approval. One of the quickest ways to get there is stop discounting. We've raised list prices appropriately, but you can lose price through discounting. So we've changed those thresholds across the globe. We've changed the level in which those decisions can be made all the way up to myself and David as CFO, so that we don't give away the pricing that we were getting through discounting.
That is a, I'd call it, a cultural thing and a change that we implemented over the last 60, 90 days. We believe that's very effective, although painful for the organization. It's the right thing to do to guarantee that we get this price. If you take a look at specifically Americas, what the dynamic that's going on there in our market overall is it's supply constraint in general. Lead times have gone out for whether it's generators, whether it's breakers, whatever it might be. I think what we saw is, and what we'll continue to see, is people are putting orders in to get their slots to make sure they get supply.
Where that used to be maybe they order six months ahead, three months ahead, in some cases they're ordering and looking at 12, maybe 18 months as we go forward. The demand is extremely strong on a global basis, and that's why you're seeing that uptick overall. It wasn't a rush to get it before price because a lot of that had pricing actions that were taken in November, back in October, September, and then more recently, you know, in December. The strength for us really comes from a lot around the colo cloud, but also even in the channel. We've seen growth as we continue to increase price there. We continue to see growth around the Vertiv product offering. David, on the third one? Or Gary.
Yeah. Yeah, thanks Rob. Hey Nigel, it's Gary. I think your last question was specifically around pricing in the backlog. The pricing in the backlog as we entered January 1 was right around $125 million, give or take a little bit. Probably just north of 4%-4.5%, somewhere in that range. If you look at the momentum of the pricing that we had in 2021, every quarter got stronger, with Q4 being the high point. We feel good to what everyone's comments have been up to this point in time, that it really is, we had to believe it ourselves almost in order to be able to take that next step function.
We saw that step function in Q4 between the data point of $125 million-ish of pricing in the backlog going into this year is number two. Number three, even with what we've seen in January so far in early February, you know, the price increases that we put out at the end of Q4 and even in Q1 doesn't seem to have materially changed the order input rate at this point in time. All of that gives us confidence of you know how we're gonna continue to build up pricing as the year goes on.
Okay. I've asked three questions. I'll leave it there. Thanks a lot.
Thanks, Nigel.
Our next question will come from Steve Tusa with JP Morgan. Please go ahead.
No. Hey guys. Good afternoon, I guess.
Good afternoon, Steve.
Just on this whole pricing discussion, how will this change, you know, like next year and the year after that when we kind of go back to, you know, what this industry has really been historically, which is generally negative price on the equipment and then a little bit of price on services? I mean, you know, the fact that kind of you're changing these, you know, these discounts in the fourth quarter of 2021 when like it was pretty readily apparent to everybody, you know, early last year that there were gonna be issues here. I don't know what your competitors are doing 'cause they're kind of buried in, you know, larger organizations. But I mean, do you see the same kind of behavior from them as well?
Is this something kind of, you know, unique and specific to you guys? I guess my question is just how are you so confident that you can kind of maintain a spread like that in an industry that has typically had, you know, very challenged pricing to begin with?
Steve, this is Rob. You know, thanks for the question. Traditionally, I think culturally, you may have heard earlier. David said, "We didn't think as a company we could go out and be strong with our price." What I really see is happening, where we're getting price is where we're differentiating, where we're developing, you can call them unique or innovative products and solutions. The organization, you're absolutely right, and kind of the industry culturally hasn't gone there, because a lot of areas haven't been providing innovation.
Where we have innovated in certain areas like thermal management and so forth, those are areas that we found and learned through this that we can actually get price and continue to get price for innovation. That's the basis of our thesis and reason we've been driving our R&D up. Fundamentally, we believe with innovation providing, you know, stronger products to the customers, we can get that price. We can get a higher price than those that aren't innovating in those sections. As you may know, we don't compete. I know a lot of people think it's just the big guys that are part of big conglomerates. We compete with a lot of locals that you wouldn't know that don't report out, and those also are experiencing these commodity or specific price cost issues as well.
We've seen people follow, and we look at the different parts of the market. As we've gone to it, what we've found is where Vertiv products are preferred, where we have that innovation, pricing sticks and people will pay us more. We've learned something through this process, and we'll continue to apply that throughout the years. Any other thoughts on this?
Yes, you mentioned like thermal, I guess. That's on kind of like the HVAC side?
Yeah. The thermal management products, areas of certain power distribution, E&I, other PDUs where we have strength and again, you're absolutely right. In the past, it hasn't been, but as we've driven innovation and as we've gone through this process, the team has really kind of reset its mind in understanding that, "Hey, we can get paid for the things we do, where we differentiate." That's where we'll continue to focus on that differentiation to drive that price and hold that price for the future.
Got it. I just wanted to clarify the cash side. I guess the one-
Hey, Steve.
Yeah.
Steve?
Yeah.
If I could just interject something, building on Rob's cultural point, I'd say historically, we also underestimated the value of that differentiation that already existed. We had a predisposition or a deference to not lose the order. If you approach it that way, you will generally underprice. This process has shown us that not only is our new innovation worth more than we thought, the innovation that already exists in our products has been historically underpriced. This has been, I think a really good learning for all of us in the business, that we've got a lot more capacity for price than we ever realized.
Right. Just on those orders, you mentioned that there's some people are ordering, you know, 12 to 18 months out. I mean, how much of your orders do you think are kind of unusually timed, if you will? I know some companies have said like 10%-15%. How much are unusually timed that you think, you know, will kind of, you know, not be there in their normal cadence as we move through the year, if things normalize?
What we're seeing right now and from the pipelines and the discussions I'm having with most of our large customers, we continue to see a robust environment of orders. I think this goes well beyond 2022 into 2023 and into 2024. There is just an enormous appetite for data center space on a global basis. Steve, we have not seen this kind of level. Normally it's EMEA growing fast or it's Asia or it's Americas. This phenomenon that we're seeing now and experiencing is global expansion of data centers in all parts of the world. There's a lot more companies involved in the tier two, tier three colos, a lot more building being done for the hyperscalers.
What I'd say is it wasn't just an unusual time, a one-off. I continue to see the market to be capacity constrained because of the volume of data centers that are needed to be built. As we look at our pipeline 18, 24 months ahead, it's more robust than we've ever seen.
Got it. All right. Good luck through the beginning of the year. Thanks.
Thanks, Steve.
Our next question will come from Amit Daryanani with Evercore ISI. Please go ahead.
Yep. Thank you. I have two questions, I guess. You know, first up, thank you for all the details around calendar 2022. You spent a fair amount of time talking about all the issues and challenges, how you intend to fix them, which has been helpful. Maybe you could spend a few minutes talking about how does incentive compensation get aligned to fix these challenges? Maybe you could talk about on the sales side where you seem to have some issues and also on the management level. I'd love to understand, does incentive comp change at all to rectify some of the challenges we've had?
Sure, Amit. This is Rob. I'll start off there. As it relates to management, I mean, we are completely aligned with the shareowners and what we want to deliver, and that's really earnings and profitability as we go forward. As we look at goals and things set for 2022, pricing is absolutely in there from a management, not just my team, but my team's teams below. Pricing is one of those, what we call OKRs or objectives for the year that we need to hit. As mentioned earlier, the incentive from the sales side, and again, depending on the part of the world, is primarily right now driven by their ability to discount or not discount, right? Sales, they need to get sales with price.
They get more quota. The higher price they get, I guess in general, the more quota attainment they retire. It's true for if I take a look at the selling regime that we have in Americas today, the salespeople are incented to get a higher price because they get a higher multiplier and a higher commission when it comes to that. I'd say that we feel like the areas we needed to really shore up was where that price leakage could happen on big deals and other areas, and really push back on that and put higher levels of approval, so that we're not giving price away kind of further down in the organization. I feel confident that both sales-
Management throughout the globe understands and gets the price and understands what it's gonna mean to them ultimately in their wallet.
The other thing-
Yeah, I'm sorry.
Sorry. Go ahead.
The other thing I would add is, as you might expect, what Rob is recommending to the board is significantly lower than what a normal payout would be. Rob is also recommending that he and his team take a zero bonus this year. I don't know how much more of an incentive you need than that to make things work. Their comp is largely focused on equity, and a big part of this is driving, making sure the stock price goes up. They're heavily incented to make sure that all these things get fixed.
Perfect. That is really helpful. You know, if I could just follow up. You know, a lot of the expectations for 2022 are predicated on, you know, how good the order book is, how good the backlog is, north of $3 billion, I think is what you mentioned. Can you just talk about your conviction that there's not a lot of double ordering or the quality of the backlog is, you know, good? Is there any way to think about what's the duration of this backlog today versus what it would normally be potentially?
As we think about it, we look at each order when it comes in, and it's not just a blanket order for this many units. You know, our orders are specific sites, specific jobs, specific locations where they need to go. That gives us confidence. You know, this question's been asked over the last couple years as, you know, as the backlog increases or as the order rate increases, are people double and triple ordering? We don't believe that's the case whatsoever, that people are just putting in blanket orders just to cover themselves. These are specific projects as we go forward. If you take a look at the duration of the backlog, you know, we used to say maybe it's 9-12 months or 9-15.
Maybe it's, you know, a little bit longer than that, or six to nine months. Now it's 9-15, something like that. But it's not. You know, things don't get in the backlog if they're two years out, that type of thing. We, you know, while people are looking to drive orders to us for that, what you'll see is the duration hasn't moved that much, maybe by, let's say, a quarter or three months type of thing based on what we've seen. I don't know, Gary, you seeing anything different than that?
I think that's exactly right, Rob. There's no indication of double ordering anywhere amid. You're right, we would always say the backlog, everything we have in backlog turns within about a 12-month period of time. Maybe that's slightly elongated to 15, 18 months, just because even our customers are having a hard time getting tradespeople and site ready, all that type of stuff. You know, if you look at our backlog today, there's probably, you know, only 5%-10% of it that is, you know, scheduled out in 2023. Really, customers are telling us that they would take the product as soon as they can get it. There's nothing in 2024 or 2025 by any means.
Got it. Thank you.
Our next question will come from Andrew Obin with Bank of America. Please go ahead.
Yeah, guys, good afternoon.
Good afternoon.
Uh, just, uh-
Yeah
Sort of taking a longer picture. You know, the medium-term goal for adjusted operating margin was 15%+. How do you think about the bridge from the 2022 midpoint of 9.3% up to 15%? You know, you highlighted more aggressive pricing. You know, also how much do you think what's happening is structural in nature, right? One, inflationary environment going forward, more labor shortages, et cetera, et cetera. You know, are you guys just sort of putting out the fires, or have you sort of considered how to restore this long-term bridge? Thank you.
Yeah, Andrew, like a lot of things, very much dependent upon pricing, which we feel very good that is sticking. I think the focus, instead of looking at you know, a 2020, 2021, or 2022 midpoint, is to look at the adjusted operating margin in the fourth quarter, which is 15%. As we discussed with Lance, it's not fair to just annualize that from an operating margin perspective into 2023, but it's a great start. You know, we would say we would be right back on track where our plans were, you know, let's say six months ago, with the timing of getting the, you know, near-term adjusted operating margin up to 16%.
I would say as we exit 2022, things are back to normal and, you know, even to a certain extent, maybe a little bit more accelerated than where we thought, especially with E&I's adjusted operating margin also returning to the levels that we expected.
Gotcha. Just to clarify. Thank you for this color. Just clarification, slide 13, just, you know, understanding 110% of pricing in the first half, versus, you know, 120, 130 in Q3, Q4, it's just I don't quite understand how year-over-year comps work as well, right? Because it's sort of a weak comp of an easy comp, and then we have a strong comp of strong comps in the second half. Maybe I missed something on the call. I apologize for that. Just to understand why it's only 110 in the first half, given that the comps are low and given that we got 130 and 120 in Q3 and Q4 respectively. Thank you.
Yeah, great question, Andrew. The biggest dynamic there is, you know, addressed on slide 14 at the bottom. You know, the pricing is driven by what we're able to sell out of backlog and based on what we're able to sell on a book and ship basis. The pricing that we get for book and ship deliveries is, you know, certainly higher than what's in the backlog. The dynamic that it's, you know, $110 million in the first half and much higher in the second half is directly driven by the amount of sales that come out of backlog in the first half and the amount of sales that come from book and ship in the second half.
that implies that there was a lot more book and ship in Q3 and Q4, and now we're just shipping out a backlog. Is that just the simple explanation? Sorry.
Yeah. When we progress through 2022, you know, specifically for Q3, 70% of the sales that we anticipate in Q3 will be based on new orders placed in 2022, which will be at a price point much higher than those coming from backlog. There's still about 30% of our sales in Q3, which will be based out of the 12/31/2021 backlog. You know, that you can see that sequentially improves as we go through the year. You know, as important, I think Q4, we still have 25% of our sales that are based on, you know, orders that were in the backlog at the end of 2021.
If you progress to 2023, almost 95% of our sales in 2023 are gonna be based on this higher pricing that we get, not only in 2022, but also in 2023.
Okay. Gotcha. Thanks so much.
Thanks, Andrew.
This concludes our question and answer session. I would like to turn the conference back over to Rob Johnson for any closing remarks.
Sure. Again, I want to apologize to all of you for our Q4 performance. As you know, we're not happy. You're not happy with it. We have a handle on the issues. I hope you saw that through our presentation today, and need to prove it to you throughout this year. We will earn your trust back. I want to thank you, and have a good day.
The conference is now concluded. Thank you for attending today's presentation. You may now disconnect.