Great. We're gonna move on here with Vertiv, the data center manufacturer, not the packaging company. We have Giordano.
Albertazzi.
Albertazzi, CEO, and David Fallon, the CFO. Maybe we'll... My associate Pat's up here, he's gonna ask a few questions of you guys, but maybe if you just want to give a little bit of a just a couple minute update on what you guys are seeing out there, you know, in the economy. You guys have seen some very strong demand, and maybe just some color on what you've seen recently with everything that's gone on in the last several weeks.
Well, what's going on in the last several days, dare I say, is a little bit too premature to comment. Certainly, we come from a period of quite exciting growth in the spaces that we serve. We serve an industry that is certainly in a important secular trend. We see technology evolutions that are going in the right direction for what we do. AI certainly creating net increased demand for the industry as a whole, and a technology transition towards higher density. Higher density means different types of loads, more loads, and more challenges from a thermal management standpoint. An industry that is more and more focused on energy efficiency, and hence an industry that values technology increasingly more.
All things that we like. That's not only true for this part of the world, but this is true in general. An industry that is going through some changes in the way orders are being placed. You know, we, as many industries experience challenges in terms of a supply chain that expanded lead times in general. Our customers started to cover more and more months out with their orders, and that certainly created a very strong acceleration of order intake. This is the context in which we operate, a strong industry with certainly strong long-term opportunities.
Pat, fire away.
Great. Maybe we'll just start on the orders front. You know, clearly you guys have built a very big backlog.
Yeah.
Provides good visibility here. Last quarter, you had a cancellation in that backlog. Maybe just talk about some of the protections that you have in place, should a customer wanna come and cancel an order. Maybe specifically on that one, what drove that decision?
Yeah.
from that customer?
Our backlog is very robust and solid, and that's the nature of the backlog in our industry. What we, especially for the large part of our market, that is data center, the orders that we get are for buildings that are being built and infrastructure that is already defined in terms of projects. The majority is engineered to order, so very specifically connotated for our customers. Cancellations are rare, far between and unusual. That's why we wanted to be upfront and clear about that. We'll not elaborate too much on that particular case for obvious reasons. We do not share information, specific information with customers.
You know, there are moments in which some customer may decide to change their generic footprint and how they do, they go about their investment. We wanna make sure that we accompany them in their, in their long-term trajectory. They will continue to build data center. We wanna continue to be their partners, of their partner of choice in this, in this trajectory. We do not see that as a change in industry. We see that as a change in a particular customer's strategic priorities and design decisions.
What does that mean exactly? I mean, change the generic footprint. Does that mean they're using somebody else's product or they're just designing it in a way that they figure out a different way to do the same thing with something else that your product would have done? What does that mean, change the generic footprint?
again, without going too much-.
Right.
into the details because
Right.
That would be revealing. It's not someone else instead of us.
Okay.
Not absolutely. The same cancellations or same type of cancellation, we know, have touched other players in the industry. I'll not elaborate further without.
Yeah.
Otherwise, I would go in details that would reveal too much.
Is it a deman-?
It's not-
a demand thing? It was kind of a... You make it sound like it's kind of a, I suppose, a macro driver of a cancellation. It's more of a very specific customer decision.
It's a very specific customer decision.
Okay. Got it.
Very specific customer decision.
That's helpful. Thanks.
Do you have... That was, I guess a unique situation. What are the policies in place around that backlog if macro causes customers to decide to want to You know, cancel an order or-?
Clearly, we have in general, we have clauses in our contracts that are specific to the individual individual contracts and the individual situations. Again, this is not about us negotiating or going after if anything happens. It's about working with our customers and understanding, you know, what's next. The industry will continue to grow. Our customers continue to build. If and when they need to rethink their way about building their infrastructure, we're there for them to work with them. I'm not worried about that part.
Are there down payments associated with these orders?
There is certainly down payment associated with many of the orders. Not always the case. Well, the industry actually evolved a lot, and certainly we are a main actor in this evolution. Up until recently, the industry would not think and operate with a down payment. That has changed. It certainly has changed for us quite systematically.
Orders last year, as we talked about, very good, sets up a tough comp, particularly in the first half of this year. As you think about the sales plans you laid out this year, what do you need to see from an orders perspective to be able to achieve those? I imagine a lot of that's coming from the backlog, but you still need some book and ship. Like, how much of an orders headwind are you expecting to absorb to kinda, you know, meet your plan?
Let me answer it from another angle.
Mm-hmm.
We enter the year with more than 70% backlog coverage, which is unusually high. Unusually high now is something. It's caused by that kind of a extension of lead times in the industry that changed the behavior of many of our customers, of the players in the industry, not only with us, but with other components and infrastructure suppliers. Having said that, if we look at the guidance that we have given, that the book and ship component is relatively small and certainly covered by a normal book and ship. Don't forget we have a large service business, and the large service business is a shorter cycle, clearly.
It's really more of a book and ship type of business, even when it's a contract annuity renewal. But that's something that continues to happen as we go through the year. But clearly, our attention is on the long-term growth. During the earnings call, we were pretty adamant to explain what we think is happening in the market. So given a certain kind of a revenue growth path, we've been explicit about 2023 and all beyond, but we will see a kind of a whiplash, kind of a countereffect of the lengthening of the lead times, with a lower, slower order intake, as we were saying, especially in the first part of the year.
You know, what we see today is not something that is in going to hamper our long-term trajectory, and certainly not our 2023 trajectory. Will only kind of, take the industry, you know, just relative back to more normal, backlog coverage and book and ship ratio during future years.
Do you think a lot of companies that have these big backlogs are kinda giving us some degree of visibility on where they see this year ending? I mean, they're not giving a point estimate, but they're kinda saying it's below prior year levels or it's normal was here and it's gonna kinda get halfway back. Like, what's the... Any, any good color on where you'd expect what's normal backlog coverage and where you expect to be on that backlog coverage at the year-end of this year?
Yeah. We've been historically on a 35, 40%.
Yep.
It varies a lot year to year. 70% is certainly an anomaly. In this moment, we know that we will be below 70%. I mean, that's absolutely a very fair expectation. We'll be shocked.
Somewhere between those two.
Exactly.
So-
It's good goalpost.
Yeah. It's not, it's not very narrow, but it's.
It won't be below normal. It won't be below normal, you don't think?
No, absolutely.
Not below. Yeah. Okay. Okay.
I'll be shocked if it's below normal.
Okay.
By the way, it will be good for the industry. I mean, these are an anomaly, and the industry needs to adjust. I mean, supply chains are normalizing. We are adding, we have added and continue to add a lot of capacity because, again, it's an imbalance between demand and capacity that generates this situation.
Yep.
Very simply.
Yep.
I was trying to measure, you said whiplash. I was trying to measure, is that, like, down 20% in the first quarter or first half in terms of orders? You went like this.
We said, we said, I don't know exactly how deep I kind of indicated.
Yeah. It was up. You did it up, then it was down.
Don't read, don't read too much. Don't read too much exactly on my kind of the movement of my finger. Fact is, that you know, three weeks ago, we talked about a double digits, and we predicted that in Q4, and we were pretty accurate. Double digit can be many things, but yeah.
Maybe we could talk about some of the, some of the end markets in the, in your kind of order, end market chart. You moved, the, I think the EMEA hyperscale, colo piece to yellow last quarter. What drove kind of that move? Was there something specific?
Simply because we expect specifically in the hyperscale in EMEA, a slower growth than we have seen in the past. This was just more to signal. It's never exact science and kind of a, as a kind of a traffic light indication of demand is not an exact science. Say in general, in that part of the market, and in general in the hyperscaler and colocation markets, so the upper end or the large data centers, we expect, continue to expect growth, as we said during earnings call. Let's say a reduction of a growth speed, so to say. Market will continue to grow. That's our expectation, but I don't know what's been in the past.
As you look at all those different markets, enterprise, cloud, internet, you know, maybe telecom, CNI, all the markets, are there any of those that you're or also geographically, that you think could turn red over the next quarter or turn green over the next quarter? They're like, what's on watch on the negative side or on the positive side?
I would say, everything is on watch because we are very keenly looking at all the indicators and constantly talking with our customers across the board. We talked about a China re-acceleration when we were at earnings call. Again, I think that's common to many industries. We continue to believe that is the case, of course. I talked about the colocation colo cloud. If we talk about enterprise data center, well, that will probably be more sensitive to the macroeconomics, but it's early to call. We, you know, having different views than two or three weeks ago.
telecom, it's yellow for us. We still are, telecom is always driven by technology transitions. We had a big wave of 5G, and 5G continues to be rolled out, but then in other markets, not in the biggest markets. We do not expect any major differences in any of the markets at the moment. We have no reason to think that there will be a big red coming up. You know, again, who knows what the last few days of news in the world in general will trigger.
Um-
It's not, and it's not specific to our industry, I would say.
No, understood. Drilling just into the one that's driven a lot of the growth here the last few years, the cloud, the hyperscale one, colo, what do you guys look at on your dashboard?
Yep
as an indicator? Like I look at cloud CapEx. I mean, there's so much stuff in there, like in these big internet companies. Like, I don't even. Like, it's very hard to read.
Yeah.
We look at layoffs from these companies obviously over the last six months. People get worried about that. What are you guys looking at as an indicator on your dashboard?
We look at layoffs, let's say. That and the infrastructure, not necessarily the same side of the equation, not necessarily the same business. A myriad of things, of course. That principally in our how much new pipeline we generate, how big are the pipelines relative to what the pipeline trends are, pipeline velocity. We look at industry metrics like or indicators like occupancy rates, very important specifically for colocation, and that's really kind of an acid test for the entire industry. Occupancy rates are very high. We look at the lease costs that are also up big time. The industry craves for additional compute capacity.
What we see, the AI acceleration is gonna drive is more demand and capacity. Those are the things that we see.
kinda take the big colo guys that publish publicly and take their occupancy, take their lease rates.
Exactly
... you think that's a very good leading indicator.
That's a good lead-
Okay
that's a good leading indicator.
I mean, it makes sense. I, you know.
We work with them on the new projects. We know what projects they have in their pipeline, and we work with them, and we draw our conclusions.
We're hearing from like Amphenol and TE Connectivity that there's, you know, some destocking in data center. It seems to me that those products probably got stockpiled because they were, you know, they couldn't get switchgear, they couldn't get your stuff, so they were kinda taking what they could get. Or is that an early indication like, of an impending slowing? How would you explain the-
I, I-
... the connector guys and their negativity?
I would have to defer that with, I wouldn't necessarily be able here to connect those dots. A good point. We'll meditate on that.
It doesn't necessarily make sense that you guys have a lot of inventory in the channel 'cause you have a huge backlog, and you haven't really been able to supply it, so.
Yeah. channel and a hyperscale call are two very different.
Well, I guess I just mean, you know, some of these guys-
Oh, channel.
...buy HVAC and they stick it on the site, and they, you know, they just take it when they can get it, right? especially with components, but probably not with your stuff.
Not with our stuff.
Yeah.
Our stuff is absolutely engineered to order.
Yeah.
Very often. Certainly highly configured to order.
Right. Right. Sorry.
Maybe, switching gears a little bit. You acquired a business a year or so ago, E&I, and, just looking for an update on kind of that business, your expectations for growth and profitability into this year. You know, you had some cost overruns there in the fourth quarter. You've built a lot of backlog. What kind of visibility do you have to profitability of that backlog as we move forward into this year?
Yeah. switching gears for our switchgear business is very
Yeah. Very good.
propriate. We explained the cost overruns in Q4, increasing our ability really to understand cost and forecast, predominantly to do with one of the facilities. But more in general, we are extremely happy about the decision and the acquisition couldn't be more strategic in terms of our enhancement of our value proposition. Our portfolio moved from being UPS manufacturers and DC power manufacturers to being able to deliver an entire powertrain for critical infrastructure. So phenomenal
Having said that, more to your question, how are you making sure that the business is gonna yield in terms of growth and in terms of profitability the way, the way you expect. We certainly are increasing the speed of integration. And with the speed of integration also our ability to manage more thoroughly and rigorously a business that was, of course, built to serve a different, a different type of purpose, not kind of a publicly traded type of run in the business. The business is very healthy, and the product is extremely well-liked by our customers. In the specific case of that unit was a little bit tricky.
You know, we have, certainly our, operations experts on site to make sure that everything is brought up to the speed that we like when it comes to rigor in running the company, specifically the backlog. The backlog that we have is backlog that we have built in the last, more or less 12 months. Also for E&I, we did start that process of more rigorous price management that we had for the rest of the company. I'd say that as we move forward, the more we move on, let's say, the better in terms of margin quality that backlog is.
Our, let's say, intelligence and accuracy, visibility on that backlog is certainly higher now than it was only three months or five months ago. I'm confident we're headed in the right direction there. Again, the right direction is also, you know, testament to that is the surprisingly good, sort of beating our expectation acceleration in terms of sales synergies that we have experienced after acquisition. Happy there.
I think you had put out, or maybe we had a forecast. I thought you'd put out like a forecast for revenue and profitability when you initially did the deal. Are you kind of tracking towards those profitability numbers that you had out there from a margin perspective? Wasn't it like 20... I don't know. It was like a mid-20s margin. It was like a high margin business, I thought.
I think when we announced the deal, we were expecting adjusted operating profit percentages in the mid to low 20s, right? We were trending mid-teens, mid to upper teens as we went through the year, the fourth quarter, of course, took that overall percentage down. You know, what E&I went through wasn't dissimilar to what Vertiv went through. They had a decent backlog heading into 2022, but it was all priced based on orders that were booked in 2021, and they are exposed to commodities, copper in particular. They saw that, you know, mismatch, going into 2022, similar to what we saw.
I think it was modeled at $130 million-$140 million of AOP, adjusted operating profit for 2022. We guided to $80 million, and we came in south of $60 million. Now if we were to redo that model today, and it's a five-year model, the exit adjusted operating profit would be higher today than it was when we put it together 18 months ago, and that's because of these sales synergies. The sales synergies are, and I think we talked about this in one of the calls last year, it was 3x what we anticipated. It's north of that now. Backlog in that business grew 150% during the year.
We're, you know, going through some challenges as it relates to integration, in particular operational, integration. You know, we chalk it up as a, you know, great acquisition, you know, challenging year.
Is the, does the guidance embed for this year, the $60 million has a lot of improvement, or is it more in that out year?
We certainly anticipate. Driven by two things. We have been able to invest in that business to from a capacity perspective, to increase the sales, and that was one of the issues we had in that particular manufacturing location. It just could not handle operationally the higher volume. Number one, we've invested in additional capacity. Number two, we've made some pretty significant strides in integrating it. We would anticipate being north of the $80 million Adjusted Operating Profit guide that we gave at the beginning of 2022. We're not separately disclosing it, but we'll give updates as we go through the year as far as how we're progressing with that.
The 80s have much higher revenue, though, right?
It's north of 80, and the revenue will be north of what we guided at the beginning of last year as well.
Okay. Maybe it's a good time to kind of switch to the margins maybe. As you think about, this ties into margins, I think, as well as revenue, just kind of remaining risks in your supply chain, like what you guys kind of the state of the environment in the supply chain, what you're watching, what are the key bottlenecks?
Certainly a lot of improvements in the supply chain. Like we referred to a few times, we were really it was a whack-a-mole situation last year. Really tough. I think not uniquely for us, many industries and certainly many peers in our industry in a very similar situation. We did a lot to increase the resilience, multi-sourcing what was a single source to an example. You've never done that, we're continuing. Certainly, resilience will become a much central focus as there needs to also increasingly be a geopolitical resilience in the equation in any industry in the future. A lot of attention, a lot of attention there, but certainly a much more robust position for us right now.
Better processes that has helped us to eliminate or reduce greatly the endogenous factors of complexity in the supply chain, still a supply chain that has not healed in general. Everything to do with power semiconductors, directly, power semiconductors that we can buy for our power products or tier two suppliers, or tier three sometimes is still creating ripples in our supply chain. The situation has greatly improved. It's still a complex environment, and we expect that to remain so for the rest of the year. At a different level than it was.
What about the fan assemblies for the thermal stuff?
Fan is, I think, a good example of how we were able to focus and address some of the big problems that we experienced. We moved from, basically a single supplier per each kind of a type of application or product to at least dual, if not, 3 or 4 suppliers.
Mm-hmm.
Our resilience has increased dramatically there. Again, you know, that is a component that will be impacted by semiconductor, power semiconductor shortages. We believe and we experience certainly, much more stability by virtue of the multi-source that we have right now.
On inflation and price cost, how do you feel like you've kinda like, do you think you've set the guide appropriately given what you're seeing in kind of cost, commodities, you know, so far year to date? Any color on?
Yeah. We've had.
... that part of the bridge?
I mean, going back 18 months or even more, we've had quite an experience with inflation, just like every industrial. I think every time that we put a stake in the ground, inflation's kinda jumped over it. Even last year, we thought we had a pretty conservative number, you know, I think a $100 million hedge or buffer for inflation, and we ended up $40 million higher than that. We definitely respect inflation. I know there's a lot of conversations that things are taming, but we are not counting on that. For the full year, we have $175 million of inflation built into our guide. $75 million of that is labor.
If you break down material and freight, $130 million of material inflation, and we're anticipating about $30 million of deflation from a freight perspective, and a lot of that is ocean and air, but also you know, over the road as well. You know, if you looked at the pure quantitative modeling of that, it wouldn't be $130 million. We're anticipating or we're building into our model, you know, the continual increase velocity of inflation, and we're also building that assumption into our pricing. When we price orders with our customers, and it's something that needs to ship in the fourth quarter or first quarter of next year, we're assuming, you know, continued velocity with inflation.
If you snap a line today on kind of the raws, would you be in a better position, or are you building in a little bit of, you know, hedge in the back, in the back part of the year?
probably a combination. I mean, it's pretty uniform, what we're assuming as it relates to that velocity of inflation. We pretty much know first quarter.
Yeah.
You know, as it relates to 2Q, 3Q, 4Q, we just assume pretty consistent increase, so.
Increase.
Increase. Yep.
Sorry, just remind everybody how big your raw kind of material buy is?
Yeah.
Can I get that?
Yeah. Our total direct material purchase is between $2 billion and $2.5 billion. I think we had about... This is based on 2022.
Yeah.
We had about $4 billion of cost of sales last year. Of that $2 billion-$2.5 billion, about $600 million of that is metals.
Yep.
Half of that being steel and maybe a quarter of that being copper and the rest aluminum and lead combined. As it relates to direct purchase of raw metals, coils and wires, that's probably only a third of that $600 million. And the significance of that is that you have an opportunity to negotiate with a supplier if it's embedded in a stamping or a blanking. Oftentimes there's a lag. Even in our raw material we purchase, we buy on for steel, we buy off of an index based on the previous quarter.
Right. Based on the previous quarter.
Previous quarter.
Got it.
Maybe a year ago, it was kind of felt silly to talk about the midterm margin target because things had kind of rolled over a little bit. The guide for this year, you're at 12%, I think. You had always talked about, maybe midterm in the mid-teens, 15, 16. Can you talk about what is the path to get there? Like, what needs to happen? Is it just volume growth? Are there other levers? Like what are kind of the moving pieces?
Yeah. Let me start here without, of course, being specific on what happens when beyond what we have been specific about a couple or three weeks ago, but what are the levers really? Certainly one that we mentioned is price. The lever was very wobbly for us in the past. It's now pretty firm. It's pretty strong in terms of both price management, price approvals, but in general, ability to price the value that we deliver to our customers. Price is one. We have a large opportunity for productivity across the board in the organization. That can be viewed as productivity in manufacturing. That can be viewed as, and should be viewed importantly as productivity on the procurement side of the equation.
Also in general, think about an ability to improve and make every process across the organization more efficient. I'll give you the example of the, of the Americas, certainly a very relevant example being a large part of our business. A year ago, we would probably be, let us say, licking our wounds of an ERP implementation was a little bit tricky. Let's say it that way. Certainly in a much better situation right now. You know, anyone knows that a system implemented only a year and a half ago under very difficult circumstances in terms of market and demand, still harbors big opportunities of driving process improvement. Processes improvement is productivity.
Productivity you can look at in terms of, you know, our philosophy of fixed cost constant by which top line growth will be combined with by and large, a stable fixed cost base, all things that we know are in the range of possibilities for us. We're very focused as leadership to go grab all those opportunities. Also, you know, in the longer term, there needs to be a lot of focus on innovation and making sure that we continue to strengthen our value proposition.
I was talking about the expanded portfolio and our ability to move up into the value proposition for what power, the powertrain is concerned, and then the ability to translate that into more price and more value for us and for our bottom line. These are the ingredients.
How does that kind of come together in like an incremental margin on AOP? You know-
I've certainly-
In like a mid to high single-digit growth environment.
Certainly the direction that you were mentioning. When it comes to the timelines or something like that, it's probably a bit premature.
When will you have like an investor day or something where you'll kind of lay out the grand medium, long-term plan, kind of reset that a bit?
We are plan to have investor day towards the back end of the year, this year.
Any questions in the audience? Right, right over here.
Can I go ahead?
Yeah. Go ahead.
My question is on breaking out load capacity. I think you guys mentioned earlier carrying a lot of capacity, seems like some competitors are doing the same. When we think about the history of the space being relatively price competitive pre-COVID, I would say, how do you think about like normalization of supply chain, increased capacity on your ability to hold price, take more price? Are you worried a little bit about like a slight land balance going the other way?
The question is, with all the industry adding capacity, is there any concern around a break in the price discipline that the industry has had, given that there's been pricing pressure in the past? Is that about right?
Yes.
Okay.
Well, certainly we come from a situation in which the demand and capacity were unbalanced. That caused a lot of the problems that the industry is experiencing. A lot of the price that we have seen is not just that, is a reaction to an unprecedented wave of inflation, not just in our industry, of course, but across the board. As that wave will eventually normalize, and as David was explaining, we do not think that will be the case in 2023. We continue to assume plan and price, based on, growing, or continuing inflation. You know, over time, markets are markets. Markets tends to balance, demand and supply, and our market will not be alien to that.
At that stage, you know, it will be the name of the game is what additional value you deliver to your customer and how good you are to translate that into a price premium so that everyone is happy, us and the customer, because we all have a value creation out of that. When that will happen, I am not sure. I do not think it's gonna be a short-term factor. Are we gonna see irrational behaviors in the market? I think that this industry might experience some, rational price behaviors are typically short-lived, I think that this industry will not be an exception.
Gotcha.
Go ahead.
On that very last comment, are you seeing any of that irrational already or are you just saying it can't last forever?
We do not see irrational behaviors. Now, we all anecdotally can mention a project that we scratch our head about, et cetera. In general, the industry is behaving quite normally or quite according to the new normal that we have experienced in the last year and a half.
One more question over here, and then we'll call it.
Thank you. I'm starting to hear more about liquid cooling in a bigger way. Can you talk a little bit about that impact that might have on your business, and what do you think about the future of liquids?
Yeah, you know, we're very excited about the transformation the industry is gonna go through. Liquid cooling is one ingredient. Never people should think about Liquid cooling as an alternative way of cooling. First and foremost, we have the broadest portfolio in the industry, and we make sure that will continue to be the case, and basically offering every possible technology that critical infrastructure may need, including Liquid cooling solutions. But think of Liquid cooling as one of the ingredients. Typically, you will see hybrid data centers out there probably in 3, 4, 5 years or more. That hybrid situation in which you will have coexistence of multiple technologies, more traditional air, Liquid, Direct Expansion will become... I'll go probably too technical.
Certainly make the thermal management in a data center or any way in general digital infrastructure, a more complex problem to solve. One where orchestrations and management of the various components need to be done by those who are truly expert of the domain of cooling and thermal management for data centers. We see it as a very cool engineering problem, but also, and especially as a very good opportunity for someone with our experience and breadth of portfolio.
By the way, you know, I think it's important to mention that we are today working with the major hyperscalers and the most advanced chip manufacturers really on solutions there, because that's where the technology shift will be driven. We have proof of concepts being built, et cetera. Very excited.
Thank you.
Well, thanks a lot.
It's great. Thank you so much.