Greetings, and welcome to Ecolab's Fourth Quarter 202 Earnings Release Conference Call. At this time all participants are in a listen-only mode. A question-and-answer session will follow the formal presentation. It's now my pleasure to introduce your host, Andy Hedberg, Vice President, Investor Relations for Ecolab. Mr. Hedberg, you may now begin.

Thank you, and hello, everyone, and welcome to Ecolab's fourth quarter conference call. With me today are Christophe Beck, Ecolab's Chairman and CEO; and Scott Kirkland, our CFO. A discussion of our results, along with our earnings release and slides referencing the quarter's results are available on Ecolab's website at ecolab.com/investor. Please take a moment to read the cautionary statements in these materials, which state that this teleconference and the associated supplemental materials include estimates of future performance. These are forward-looking statements, and actual results could differ materially from those projected. Factors that could cause actual results to differ are described in the Risk Factors section in our most recent Form 10-K and in our posted materials. We also refer you to the supplemental diluted earnings per share information in the release. With that, I'd like to turn the call over to Christophe Beck for his comments.

Thank you so much, Andy, and welcome to everyone. Our team delivered a strong fourth quarter, and honestly, even slightly better than I would have predicted. The milder winter in Europe certainly helped, but most importantly, our team executed very well in a macro environment that was far from ideal. Organic sales grew 12%, with good momentum across all segments. Industrial grew 14%, Institutional & Specialty grew 11%, Healthcare & Life Sciences got back to growth, delivering 7% organic, and Pest Elimination remains very strong, growing 10%. Volumes outside Europe remained stable year-over-year, while our total pricing continued to accelerate from 12% in the third quarter to 13% in the fourth quarter. All this contributed to a strong 14% adjusted fixed currency operating income growth even as we experienced the expected peak in delivered product cost inflation, which reached 43% over the last two years in the fourth quarter. This led to adjusted EPS getting very close to last year's $1.28 EPS, while mitigating $0.10 of currency headwinds or 8 percentage year-over-year headwind to adjusted EPS growth. Since the initial impact from the war in Europe, we have delivered consistent operating performance improvement quarter after quarter. And as mentioned during the last earnings call, this is the path we expected to stay on for the quarters to come. We're entering '23 with a reasonable level of confidence. While we would have lost most of our $1.3 billion of earnings in 2022 to cost inflation, we have rebuilt almost all of it within the same year. This demonstrates the true earnings power of our value proposition and the strong momentum we have in margin rebuild. Most importantly, our shift to offense, which is where Ecolab is at its best, is also showing some very encouraging signs of progress. Our net new business pipeline reached record high at the end of last year as what we offer - water, energy, and labor savings - while delivering the best and safest outcomes in the industries we serve around the world continues to grow in importance to our customers. And we expect this trend to continue to strengthen. On the other hand, our view on the macro environment remains unchanged. We still expect inflation to remain high well into the year, interest rates to move higher and have an increasing impact on demand in most markets, and geopolitics in Europe, China, and now in the Middle East to remain unpredictable. Nevertheless, we feel ready. In '23, we, therefore, expect to deliver double-digit adjusted operating income growth and adjusted earnings growth that keeps accelerating towards our low double-digit historical performance. This includes an approximate 7% year-over-year unfavorable earnings headwind from higher interest expense and FX in 2023. For the first quarter, we feel even more confident and are ready to resume quarterly guidance. We expect our strong top-line momentum to continue and to deliver adjusted earnings per share in the range of $0.82 to $0.90 compared to $0.82 a year ago. This includes an approximate 15% year-over-year earnings headwind from higher interest expense and FX. And finally, while this is a period of caution, we have a positive outlook on where we're headed. Over the last two years, our expertise grew as we focused on supporting our team and on developing strong new innovations. Our retention rates remain high as we protected our customers from supply shortages. Our margin started to recover as we drove pricing in thoughtful ways, while increasing customer value, helping to drive a strong acceleration in operating income. We remain prepared for softening market trends in Europe by accelerating the productivity improvements we had planned for future years. We are adjusting Institutional to winning the new reality, and we're beginning to reposition Healthcare for profitable growth, as we promised. We will also keep investing in our major engines of high profitable growth like water that delivered 14% organic sales growth in the last quarter, and Life Sciences that accelerated to 18% in Q4. Additionally, Pure Lite, we started its expansion exactly as expected with new capacity coming online, helping to drive a very strong acceleration in sales, with operating income margins north of 30%. We remain good stewards of capital by continuing to invest in the business, increasing our dividend, reducing our leverage, and returning cash to shareholders as we've always done. And most importantly, with the best team, science, and capabilities in the industry, we're ready to grow our share of the high-quality $152 billion market, and our future has never looked brighter. I look forward to your questions.

Thanks, Christophe. That concludes our formal remarks. As a final note, before we begin Q&A, we plan to hold our annual tour of our booth at the National Restaurant Association show in Chicago on Monday, May 22. If you're interested in attending or have any questions, please contact my office. Operator, would you please begin the question-and-answer period?

Our first question is from Tim Mulrooney with William Blair.

Good afternoon, Christophe, Scott, and Andy. Thanks for taking my questions. So the first one, unsurprisingly, on gross margin. I mean, they were down year-over-year, but that contraction continued to narrow for a few quarters now. Based on what you're seeing in your pricing outlook and inflationary cost inputs, when would you expect gross margin to inflect into positive expansion territory? And the same question goes for OI margin given some of the productivity gains that we're seeing.

Thank you, Tim. So let me start with what we've done in 2022 because margins, gross margins, and OI margins were our number one focus for the full year. And as I've mentioned in my remarks as well, we were facing headwinds that were equivalent to our net income, so close to $1.3 billion. And we've been able to rebuild most of it within the same year, which is really showing the earnings power that we have as a model and as a company. So I'm confident that we will rebuild our margins to where they were, and we will expand from there as we've done many times in our history. So if I look at our OI margin in Q4, they turned almost positive. They were slightly still down in the fourth quarter. So that's a good sign, obviously, of where we're trending. Our OI growth, organic, was up 10% as well. So if we look at the trajectory, we're in a fairly good place. So if I look at '23, we have some good momentum. Pricing keeps accelerating. Productivity is in a good place as well, and we'll see what happens, obviously, with inflation. Q1 should be a continuation of the OI growth, which means that OI will keep improving as well in the first half. So I think that it's going to turn positive in the first half of '23, and gross margin will probably follow in the second half of the year. It's not going to happen on July 1, but it's going to happen sometime in the second half.

Got it. Very clear. Thank you. Just as a brief follow-up, I saw an announcement recently, you're launching a consumer retail product line with Home Depot, I think. Can you just talk about what drove that decision to expand into this channel? And what the margin profile looks like if it's materially different than your institutional margins?

I would love to, Tim. So first, it's not a consumer brand. It's a brand that's aimed at pros as their Home Depot also calls them. It's mostly cleaning contractors. That's the vast majority of the customers buying this range, which is an end market that we never really addressed in the past because we go through service and distribution as we've done so for 100 years. So it was a white space, basically for us, again, focused on pros, not really on consumers. We have the best partner ever with Home Depot to do that as well. So we'll see how big it's going to turn, but we're quite bullish about what that could deliver in the years to come.

Got it. Thank you.

Next question comes from the line of Seth Weber with Wells Fargo Securities.

Hey, good morning, everybody. I wanted to ask about the new cost program. How should we think about the cadence on that flowing through? And more importantly, are those savings meant to be permanent? Or will those costs come back if volumes get better?

Thank you, Seth. Maybe just a few comments from me and then I'll pass it to Scott, who will give you a little bit more details on that. I'd like, first and foremost, to say that for us, productivity is an outcome of momentum. So sales, innovation, pricing, this is the best way, obviously, to drive productivity, as we've done over the past few years, and we'll continue to do it as well in the future. Now to the programs, it's really to focus on individual businesses or markets, as we've disclosed, our Europe program. So during the last quarter, and now to be more focused on two businesses that we need to address, Institutional because the market has changed. We're in a good place, but the market has evolved, and we need to evolve here, and Healthcare because we need to bring that business back to profitable growth since it's been a challenge for many, many years. But I'd like to pass it to Scott to give you some more color on that.

Yes. Thanks, Christophe. Thanks for the question, Seth. So just getting to your question about the pacing of the program. And when I talk about the program, I'm talking about the combined $175 million savings program, which includes the announced program we talked about in Q3 as well as the expansion that Christophe talked about, which includes Healthcare and Institutional focus. So the pacing of that $175 million I would expect about 75%, 75% of it in 2023, and then the remainder in 2024.

Okay. It sounds like those changes are meant to be permanent. So if volume comes back, you wouldn't expect those costs to return then?

Exactly. And as Christophe talked about on Institutional and Healthcare, this is stuff that we're doing on those specific businesses, targeted on those businesses. And then on Europe, it's really clear; we had been thinking about it for quarters and years to come. And so yes, we will expect to retain those savings.

Right. Okay. Thank you. And then just a quick follow-up on the Purely. I mean, can you just are the capacity additions done there at this point? And I'm just trying to understand like what the run rate of that business really looks like today? Thank you.

Yes, maybe I take that question, Seth. So for the most part, it's done, but it's a continuing story. We will be maximized, as I've mentioned in the previous quarter, a couple of years down the road again, which is out of a good problem because it's a business that's growing really fast. So it's not going to be done forever, thank God, by the way. But what we've seen in Q4 has been a very strong acceleration of sales. We didn't have pro forma reporting, so I don't want to get too much into detail here, but it's been so strong double-digit growth, which is good with margins north of 30%. So the trajectory that we've seen in Q4 is kind of a good indication of what we expect for the future or the near-term future.

Thank you.

The next question is from the line of John Roberts with Credit Suisse. Please proceed with your question.

Thank you. Did the surcharge come down in Europe with the drop in energy prices? And do you have any plans to merge the roll the surcharge, I guess, into the base price at some point here to get back to a simple pricing structure?

John. So two parts, a few questions. So first, the surcharge has not come down since we started it on April 1. So generally, so far, so good, no change here. And the second part of your question, yes, we are progressively merging as much as we can of the surcharge into traditional structural pricing. It's not going to be a 100% game. Every region is in a different place. You mentioned Europe. Every customer is in a different place as well. But generally, we're trying to get everything in traditional pricing going forward.

And then on the Pro So Clean program with Home Depot, will those be identical products to what you distribute through Cisco and others? And will the Ecolab salespeople service customers who buy through Home Depot?

So two parts in your question as well here. So the first part, those are different products than what we distribute through distribution like Cisco. They're really made for smaller cleaning contractors. Those are not concentrated products. Those are ready-to-use products for the most part. So they're different, but really adapted for their needs at the right price point as well. So no real competition with anyone else out there. And the second part of your question, there will be no service to those products. It's strictly all consumer products as well. But knowing as well that those cleaning contractors sometimes become bigger as well. And those ones who might be shifting towards a service program at some point, which is what we do with Cisco as they have their own line like Keystone that we do for them, a non-service, and when customers become bigger, we start to service them. So it's really finding ways to approach every part of the market out there.

Thank you.

Our next question is from the line of Josh Spector with UBS.

Yes, hi. Thanks for taking my question. I'm curious if you could talk about your volume expectations in the first quarter. And you mentioned in your prepared remarks, you were surprised by some of the performance in the quarter. I wasn't sure if that was volume or something else you were talking about?

Yes. Josh, so not surprised. It was in Europe, we were expecting worse situations like everybody else, actually. So the milder winter has been less negative news generally for Europe. And we'll take. And I'm not taking it to the bank for '23. We know that in the months to come, the geopolitical situation on the eastern front in Europe could change quite dramatically, but I'm not going to make any prediction in here. We'll take the trajectory as it is right now. But generally, for the whole company, what you've seen in Q4, with volumes fairly stable, excluding Europe, is what I'm expecting more or less in '23 as well. I think the environment is going to soften generally with interest rates going up in the U.S. and in Europe. That's the whole intent of rising interest rates, obviously. But the shift that we've made to offense a few months back, as I've mentioned, is driving some very positive results in terms of new business, which I think should mitigate the further softening of the demand out there. So what we've seen in Q4, I think, is a good indication of what we could see in '23.

Thanks. And just a follow-up on the cost reductions, specifically institutional. I guess when adjusting to the current environment, I mean, is that restaurants and takeout or something different? And what does that mean in terms of volume recovery potential?

Great question. So Institutional is in a good place. As a business, we love that business. That's where we came from. It's a highly profitable business. We have great position. And I think it's going to be a great business for the future as well. So here's the situation. I would say our north of 19%, which is good. Our margins are not there yet, which is the opportunity that we need to adjust. Now the market has changed because of the return to office, because of what you're saying as well, that people are ordering online, using takeout much more than they did before. It's translating to the dine-in traffic, so people sitting in a restaurant down 30% versus 2019. That's a fact that we all need to live with. It's not the demand reduction that we are seeing in our own business, but it has gone down. So we have the same amount of work because we have a similar amount of customers out there for a demand that is slightly lower. So we need to adjust for that. So what we're doing is doing two things. On one hand, and we started that over the past 12, 18 months, it's not totally new. We're just accelerating that program right now. On one hand, it's to have a dedicated sales organization that drives new units and increased penetration, and the second service organization that drives productivity in order to reduce our cost structure as well, and that's where our program is directly focused on.

Our next question is from the line of Manav Patnaik with Barclays.

Thank you. Good afternoon. Christoph, could you provide insight into your price increase and the assumptions you've made regarding raw material costs for 2023? The 13% growth in the fourth quarter is impressive; how sustainable is this compared to your expectations?

Well, two parts to your questions. So first, the delivered product cost inflation outlook, and then pricing, which obviously both are driving our margins. Starting with the market that we can't influence, obviously, but the way we look at it from our perspective in 2023, it will keep going up, but at a lower rate than what we've seen in 2022. So it's not that our delivered product cost is going to get cheaper; it's going to increase less fast than what it did in 2022. So that's the first part. And obviously, things can move one way or the other depending on what's happening in the world. But that's the middle of the road that we've taken. Inflation staying high as a rate for longer well into 2023, as I've mentioned as well during the past call. Now on the pricing piece, we remain focused on pricing. We will have carryover in '23 coming from '22. We expect half of it to be strictly carryover into '23. And we will keep pricing further as we've always done as a company, and we'll keep doing going forward in order to recover and expand our margins. Wait will net out, we will see, but that's how we're estimating basically our sequential progressive earnings improvement quarter after quarter into '23.

Okay. That's helpful. And then you talked about often a couple times in the call. Just the cost reductions that you're making, which categories, I guess, are you doing the headcount reductions? And I guess the question ties to, are you beefing up your sales force had a faster equip maybe?

So when we talk about beefing up our sales force, they're not all created equal. We have the high-growth businesses like Life Science, Purelite Hightech; those ones are clearly being fueled, and we add people, we add investments for those ones because we know it's driving high profitability growth. And we have, on the other side of the spectrum, other ones where we need to do some work. Healthcare being one of the examples because it's a $1 billion business that's not making much money as we know. So we'll have to work on cost efficiencies, including in our sales structure as well, but all done with a long-term view of building a profitable growth business. So when we talk about cheap to offense, this is, by far, the number one priority that we have as an organization for '23. It's about new business, Manav. You're familiar with that, and we had some very good results in Q4. It's about innovation. The Home Depot that we talked about is a good example as well and fueling the high-growth businesses, as I just mentioned. So it's what we're really good at. It's what the organization loves doing. And while we do that, we'll stick as well to new pricing because we need to get our margins back to where they used to be and expand further, and third, we will address those programs, as mentioned. But in a real surgical way, this is not going to be our main priority in '23.

Next question comes from the line of Mike Harrison with Seaport Research Partners.

Hi, good afternoon. Christophe, I was wondering if you could give a little bit more color on how you're thinking about the earnings cadence in 2023? You talk about getting to an EPS low double-digit growth rate later in the year. But if I look at your guidance for Q1, the top end of that range is already kind of a 9% to 10% growth rate. So maybe just help us understand how you expect the year to play out. And maybe what are some of the key drivers that could lead you to be maybe towards the higher end or lower end of that outlook?

So a few parts to your question. But generally, no change versus what we said, what I said during the third quarter call, and now in our release and in my remarks as well in the fourth quarter. The way we look at the outlook hasn't changed. We've decided to provide formal guidance for the first quarter because we see pretty clearly what's happening, or more clearly than what we've seen in the past. We're not providing formal guidance for the full year yet. It will come at some point, obviously, here, but it's two parts, for Q1 and for the full year. Now as I've mentioned, we expect continued sequential improvement as you've seen in '22 by the way. So Q3 was a nice improvement versus Q2. Q4 was a nice improvement versus Q3. And Q1 is going to head in the same direction of being a further improvement as well, and that's what we're providing with the range. That's going to continue in the quarters to come, driven by the momentum that we have, the pricing that we've done and we'll keep doing, obviously, the productivity that we've done and we'll keep doing as well going forward, which will lead to an operating income growth that's going to be in the double-digit range, which will drive operating income margin turning positive sometime in the first half and the gross margin sometime as well in the second half. That leads to an EPS improvement quarter-after-quarter, keeping in mind that we have headwinds in FX and interest, $0.30, as we've mentioned, half of it in the first quarter as well. So you will see continued improvement quarter-after-quarter. And then the question, when do we get to the low double-digit traditional Ecolab performance? I said during the last call, it's going to happen sometime during the second half with everything I know today, everything I see today, I think that's probably going to happen in the fourth quarter.

All right. And then a quick question on the Water business, particularly the downstream portion. I was just hoping to understand the additives impact that you called out in the prior year. Were those sales kind of one-time in nature? And I guess is that the main reason that volumes aren't looking better in that downstream business as we're seeing some improvement in refinery utilization rates?

That's exactly right. You gave the answer. It's one time in nature. It depends on where the crude is coming from as well, so sometimes they need additives and sometimes they don't need. That's not under our control, that's our customers' control whether they need additives or not depending on where they're buying the crude from. On the other hand, the water business in general is doing really well. So it's close to 2.5% volume in that business, a 14% total growth as well in the fourth quarter. So water is in a very good place, downstream being this special case in additive, as you've mentioned, with the one-timers.

Our next question comes from the line of David Begleiter with Deutsche Bank.

Thank you. Christophe, just on your cost inflation in '23. Is it primarily wage inflation and for raws this year? Are you expecting raws to be actually down year-over-year for you guys?

No, we don't. Dave, we expect, as mentioned before, that our costs are going to keep going up as they did in '22, the rate is going to be lower than what we've seen in 2022, but our delivered product cost is going to keep rising in 2023. The wage part is a minimal part of it. It's going to contribute to an increase in cost. That's always the case every single year, obviously. So that's not exactly material, but that's going to go up as well and all parts of the outlook that I described before.

So on that note, which raws are you seeing the most inflation right now year-over-year and through the rest of the year, just some raw materials specifically?

We purchase 10,000 different raw materials, so it's challenging for me to detail everything. However, the reality is that most prices are rising, with some increases being more significant than others. For example, the price of caustic in Europe recently jumped by 90%. These are issues we need to manage. The rest of the materials are generally seeing slight increases or negligible decreases, but nothing close to the extreme 200% rise like the caustic I mentioned. This response may not fully answer your question, but managing the thousands of commodities we buy is complex.

Our next question comes from the line of Jeff Zekauskas with JPMorgan.

Thanks very much. Historically, Ecolab has raised prices about 1% or 1.5% per year in that its rate of inflation and costs has been pretty low. But over time, there's much less commodity production in China, and domestic producers of chlorine and caustic soda are operating their businesses differently. So as a base case, are your expectations that annual price increases for Ecolab are no longer in the 1% to 1.5% range, but maybe now we're more 2% to 3%? And your customers understand that, if that's true?

It's a great question, Jeff. The short answer is, we can deliver more pricing than what we've done in the past. We've learned that over the past few years, and our teams have built as well new capability during that time because we had to, and we wanted to do it in a way that was thoughtful and smart with our customers as well. And the fact that our retention rates have remained almost unchanged during that remarkable time is a good indication. We've gained customers during that time, and we keep gaining customers. The big difference beyond the capability that we are improving within our team, Jeff, is the fact that we've become much better at documenting the value, the savings that we are providing our customers with our service, how much we can deliver for them in the years to come as well. We've become much better at that. We can document it. We can share it with customers. We can make sure that we align on those numbers as well, and we have a discussion ultimately on what's our share of that savings that we have delivered for our customers. It's been at the core of the way we've been selling for 100 years. We've never brought it to such a high level as the past 18 months, and that's going to help us get more pricing in the future. What's going to be the exact range, Jeff, I don't know yet, but it's going to be higher than where we were before.

And maybe quickly for Scott, it seems like your inventories might be $150 million too high. What will working capital be as a source of cash in 2023?

Yes, Jeff, thanks for the question. We certainly have seen throughout the year, working capital increased in both because of inventories as well as just because of the sales growth with this very high pricing. And again, we expect higher pricing next year relative to history, as Christophe and you had talked about. And so the inventory was, again, a very specific decision as we dealt with the supply chain constraints around the world, and to make sure that we can get products to our customers, help our customers and with that made a very intentional decision. So now as we've seen the supply chain constraints ease a bit, then we will start working our inventory and DOH levels down. And so certainly, I wouldn't expect the same level from inventory in 2023 as we head in 2022. But at the same time, we are going to continue with having very high sales growth, and so you will have some natural drag there.

Our next question is from the line of Christopher Parkinson with Mizuho.

Thank you very much. Christophe, you mentioned the volume trends in the water segment. Could you elaborate on the trends in light, heavy, and mining, and how you anticipate these will evolve throughout the year? Thank you.

So it seems like your question is focused on the Industrial segment here?

Right.

Good. So generally, industrial is in a good place, not because the market is booming, and we know that interest rates are going to soften the demand. So that's our base case of saying our general demand like-for-like same-store sales is going to go down. So we will need to drive our own growth through new business innovation, in new end markets and so on, as we've done as well in the past. Industrial is in a very solid place, in a very good trajectory in terms of margins as well. So it's doing that balancing act of making sure that we can drive pricing, getting the right margins driven by value, as I mentioned to Jeff as well before, while we drive the new business with the shift to offense, which I like a lot because it's ultimately where our teams want to focus their time. It's where we are best at and what we love most doing. So generally, industrial is going to keep being in a good place and some quarters will be a little bit lower in volumes and some will be a little bit higher, but generally in a very good place.

Just a quick follow-up on Pest Elimination. It seems like your market share gains, I mean, obviously, coming out of COVID is a bit difficult, but it seems like your market share gains are beginning to reaccelerate. Can you just confirm that and talk about how your innovation in that segment is going to further drive, and whether or not you're interested in further M&A? Thank you.

It's a great business. It's been a great business for a long time, and I'm a fan of that business going forward. I can't comment on the M&A side, obviously. But generally, it's a business that has done very well during the COVID times and has done very well in the years after that as well, a very nimble business, very strong leadership team, unique market positions as well, and we see that in the 10% growth that they've delivered in the fourth quarter as well. And I expect them to continue to do so. When I think in terms of innovation here, they're starting to provide disinfection services for their customers as well, which I think is going to be a very promising proposition. It's a good complement to what our teams are doing so right now as well. So, strong business, with strong margin, with the highest return on invested capital because there's almost no capital involved, obviously, in that business, then driven by good innovation for the future. So great story that's going to keep staying great.

Our next question is from the line of Ashish Sabadra with RBC Capital Markets. Proceed to your question.

Thanks for taking my question. I just wanted to drill down further on the first quarter EPS guidance and follow up on a prior question that range seems pretty wide. What are the key factors which takes you to the top or the bottom end of the range? Is it more volume, raw material, or below-the-line items?

It's a good question. So for Q1, the range we provided is reasonably consistent with what we've done in the past when we were providing guidance as well. The inflation component of the delivered product cost is the timing that we cannot manage. Obviously, that's market dependent. That's probably the main driver for the minimum or the maximum of the range as well in here. But we're getting close to the end of the first quarter, obviously, as we speak. So, we have a reasonable view on how it's going to end. But in a month, a lot of things can happen. Last year, I was pretty confident in the first quarter and the way it started. At the end of February, we had one month to go, and we had to deal with that. It's those external factors that are driving ultimately the range that we're providing for the first quarter, as for every quarter in the past.

That's very helpful color. And then good to see that strong momentum in the business as well. Maybe just a quick question on the National Restaurant Association. I was just wondering, from a preview perspective, can you provide any color on new innovations that we can potentially expect at that event? Thanks.

It's a great business, as mentioned before. We've been in that business for 100 years. Today, we've been successful. We have great positions. We are a very close partner to most of the restaurant and hotel companies around the world. So, I'm very bullish about the future of that business. That being said, as mentioned before, we need to adjust as well because the market has evolved from dining in a restaurant versus taking out from a restaurant as well. We need to adjust. We've done that in the past. We need to do it today. That's going to take some time, but we're going to get in a stronger place as well after that. And in terms of innovation, I think the most important for Institutional is the overall program of Ecolab Science Certified because it's one way of bringing all the solutions that we have, all the innovations that we have for our customers and to really drive full penetration. It's good for us, it's good for the customer, and it's good for the guest ultimately because that's the way that they are the most protected from whatever that can happen, and at the same time, making sure that they have a good experience being in that hotel, that restaurant, or that retail store as well. So, if I had to pick one, that would be the most important one.

Our next question is from the line of John McNulty with BMO Capital Markets. Proceed to your question.

Thank you for your question. Regarding the Healthcare and Life Sciences business, in the third quarter, you mentioned that some comments were made at that time which were not well received. Just one quarter later, the segment's earnings doubled. How much of that increase do you think can be attributed to the Purolite capacity being unlocked compared to the changes you're implementing within the sales team, cost-cutting measures, and other initiatives? Given the significant improvement, I’m trying to better understand what contributed to this growth.

So, two things, John, and very different stories, obviously, so in that segment. Life Science has been in a good place for a long time. They were just lapping against very high numbers during the years prior as well. So, it was more of a year-on-year comp than anything else. And Life Science, as mentioned before, is back to our 18% growth, driving very good earnings as well as they did prior during that comp was an issue and back ultimately to their traditional trajectory. So, life science in a very good place, which you see fully in Q4, and you couldn't see fully in Q3. Second, Purolite, as mentioned many times, so we were capped in terms of how much we could produce until Q4, which limited the growth by definition because we couldn't produce the products that we could sell ultimately. That has created a bump, obviously, in Q4. It's not in our organic numbers by definition, since it's an acquisition, and it's the first year. It's going to change as of Q1. And then you have Healthcare, a totally different story. I like the fact that they're turning slightly to positive growth. The fact that they have made some money, but I'm not getting overly excited with that. It's one quarter, and it's not a dramatic change in that business. On the other hand, I like a lot the efforts that are being made by that team to really drive it back to the performance that it should be from a growth and, most importantly, from a margin perspective. The program we've announced is part of it that will help, obviously, the cost structure. But at the same time, we know that we need to improve our offering. We need to make sure we focus on the programs that make most sense as well for our customers and for us. So, it's still a long road ahead, but we will get to the right place as I've committed to that.

Got it. And then thinking about the Industrial segment and China. You had lockdowns in, but you had the virus kind of ripped through the country, and that business of yours doesn't tend to be overly economically sensitive, but it is sensitive if plants have to close. I guess how much of a pressure was that in the fourth quarter? And how should we think about how that may snap back?

First, China represents 4% of our global business. So, it's hard to be material like Europe would be in our results. We have a good position in China. Our Industrial business is a very strong business. What we do is something that customers and government like a lot as well. It's about clean water, safe food, preventing infection. It's obviously very important for all of them as well out there. We've had a decent performance in '22 in China, in Q4 as well. So, it’s positive growth. It was kind of in the mid-single range in China during the fourth quarter. And we’ll see how Q1 is exactly happening. There’s the new year that’s happening during the quarter with the shutdown and reopening. That’s going to be a bit of a messy quarter in China in Q1, but ultimately, I think we’re going to get back to a good place once this kind of a volatile period is behind us because what we do matters and our team is really strong as well over there.

The next question comes from the line of Shlomo Rosenbaum with Stifel. Proceed to your question.

This is Adam on for Rosenbaum. What tax are you seeing for 2023?

Hi, Sam, you talked about the tax, right? I'll give it back to Scott, who is much better than I about that.

Yes, I will cover off on that. Thanks for the question. I expect the rate for 2023 to be slightly higher than this year just due to sort of geographic mix, but right around, call it, 19%.

Okay. And how should we think about free cash flow in '23 in light of the restructuring items related to the expanded cost savings program?

Yes. You should think about the free cash flow in 2023 much like we did this year in terms of our historical conversion. Certainly, from a pacing perspective, Q1 will always be lighter, but I would expect the free cash flow for 2023 to be right in that mid-90s conversion on net income.

Next question is from the line of Rosemarie Morbelli of Bally Funds. Proceed to your question.

Thank you. Good afternoon, everyone. Congratulations on a great quarter and a great year. We have discussed the challenging economic environment, and you are starting to notice its effects. When you compare the current situation to what was happening before the last recession, are you seeing indicators of a recession or just a slowdown from your perspective?

It's hard to tell. I don't have a clear opinion on whether they're going to be hard landing, soft landing, recession, no recession. We're seeing some softening in the demand of individual customers, a like-for-like or same-store sales demand from our customers. That's not true in every segment, obviously, but the indication that it’s softening is there, even though it's very minimal. So, what we've seen here feels very traditional versus what we've seen in the past. And the shift to offense, which is the typical Ecolab way of responding to it, is going to be the best tool we have to mitigate against that.

Can you tell whether demand is slowing down or if it is actually destocking?

It's probably a combination of both, especially in the industrial segment; for hotels and restaurants, they don't have much inventories, distributors. So, it could be the case. Everyone is becoming a bit more cautious, so that has an influence on it. Exactly how much, I can't tell, but it's definitely not helping. So, you have softening of straight demand, and the reduction of inventories as well at the same time. I even saw a slight impact on the rate of demand. But so far, nothing dramatic, and I feel good with our shift to offense approach because getting new business, driving penetration, getting innovation in the market, well it's what we're good at.

The next question is from the line of Kevin McCarthy with Vertical Research Partners. Proceed to your question.

Good afternoon. How would you apportion the $175 million of targeted productivity savings between the Institutional and Healthcare segments?

So, let me give you just a few comments, and then I'll pass it as well to Scott. But as you've seen, half of the overall program is in Europe. That's what we've communicated. Well underway on this one. I like the progress that the team is making over there. And the balance of the overall program is mostly Institutional, with Healthcare getting its fair share. But maybe any more comments, Scott?

Yes. No, not a lot to add there, Christophe, exactly that. Certainly, the year program will impact other businesses as well. But certainly, Institutional will have the largest portion of the overall $175 million.

Okay. And then secondly, if I may, for Scott, if we go back a quarter or so, my recollection is that you anticipated higher pension expense in 2023. Is that still the case? And if it is, how large might that headwind be?

Yes. We do expect some modest headwinds, but we're talking in the sort of $0.05 to $0.06 range. So not overly significant.

Our next question is coming from the line of Steve Byrne with Bank of America. Proceed to your question.

Thank you. If you had to estimate the current raw material costs for purchasing 10,000 products compared to their average cost in the fourth quarter, what would you estimate that change to be? This is just regarding the purchase of the products. Additionally, what would you estimate the average duration in months is for raw materials to be purchased before it impacts the cost of goods?

So, we don't buy any spot price or product at spot price to begin with. So, it's usually contractual. There are some exceptions, but it's not material, so it's up, generally, it should be less than a 5% range.

I'm sorry, I didn't follow that. You mean what is the less than a 5% range? I'm trying to assess whether there has been a sequential change in your raw material costs?

I want to make sure I understand your question.

From just the last quarter to where we are today?

Okay. Got it. You mean today in Q1. The trends, as mentioned before, they keep going up. So just to be very clear. So, in the third quarter, our total costs, as mentioned, were up 30%. They were up in Q4, a little bit less than that. And in Q1, they will be up a little bit less than what we had in Q4, but still up. Did I answer your question like that?

Well, I see the year-over-year trend, you're starting to lap higher costs and thus that maybe as part of that decrease. But there's two things here. Our raw material cost is actually starting to deflate. Are you seeing cost deflation? And then how long does it take before that flows through cost of goods because I'm sure there's some of your outlook is just the lag that it takes for the rows to flow through COGS.

So, to the lag question, it takes a quarter or two to get through the system generally. Not every product is created equal in here, but I want to be very clear that the increase that we see in Q1 is a net increase, which means that the cost of our delivered product cost is clearly going up as well in Q1 versus what we saw in Q4 in dollar terms as well. So, the cost of what we buy keeps going up, albeit at a lower rate of increase than what we saw in the past few quarters.

Okay. And then maybe just one on a potential end market opportunity for you. A lot of industrial companies are getting sued because the products they're selling contain some PFAS. And it's not because they're making stuff out of PFAS; it's in the water. Is that an opportunity for you? Do you have expertise in taking these really, really minute levels of PFAS out of water?

Yes. We're probably the most advanced company in the science of water, in mastering water, in managing water. So PFAS is an opportunity that we've been looking at for quite a while. The demand hasn't been as clear as we would wish so far. So, it's something that's going to come at some point, which will be most probably something interesting for us, like microplastics, by the way, as well. So, the technology, the science, we have it, we'll be ready when the market is ready to use those solutions.

Our next question is from the line of Vincent Andrews with Morgan Stanley. Proceed to your question.

Thanks. I just have one question left here. In your Downstream segment, you talked about particular strength in the quarter in petrochemicals. And I was just wondering if you could bridge that with the fact that in most cases, particularly in the U.S. and Europe, the petrochemical assets were running at very low operating rates.

Yes, we've shifted what we do for petrochemicals, so towards water management, energy footprint reduction, cost reduction, which I think the team did exactly the smart move. Our customers are looking for solutions to reduce their environmental footprint while reducing their costs at the same time. So even though the utilization rates are going down, so to your point, our business is still in a very healthy place. And I think it's going to keep being good for the years to come.

Next question is from the line of Scott Schneeberger with Oppenheimer. Proceed to your question.

Thank you so much. Good afternoon. Following up on an earlier question on the cost savings program you guys shared on Institutional versus Healthcare breakout, I'm just curious, it was originally in Europe, but when you announced in the third quarter and now it's been to other regions. So, first part of the question, just curious, is this mostly global non-U.S.? How involved is the U.S. with regard to these cost savings plans? And then also, Scott, I guess, specifically for you on this topic, you're going from $80 million savings to $175 million, more than a double with this incremental announcement, yet the costs incurred to enact only go up by about half as much as what it originally cost for the enactment. So just curious how you're able to basically get more leverage off the second iteration? Thanks.

So, two parts of your question. I'll let maybe Scott to answer the cost versus savings first, and then I'll build on your question, U.S., non-U.S. So, Scott, first?

Yes. The split of the savings, as you pointed out, certainly, the first program, and this is very consistent with what we've experienced historically with programs where the cost to implement these programs is higher in Europe and then less so in the U.S., just due to the nature of the environment.

To expand on your question, most of our operations are concentrated in the U.S., where we've been developing several programs for a considerable time. As previously stated, Healthcare is a sector focused on timely and appropriate services, and this marks an initial step in that direction. The majority of our announcements relate to activities within the U.S., and the same applies to our Institutional segment. The transition from in-person dining to takeout has predominantly occurred in the U.S., which is where we aim to adapt as well. It's important to emphasize that our initiatives are designed to make precise improvements in our operations. The main driver of our company's margin and earnings enhancement comes from fostering new business, ensuring accurate pricing, innovating, and boosting productivity, while these programs provide targeted assistance where it's genuinely required within a short timeframe.

Great. Thanks. And a quick follow-up. You've addressed working capital a bit and free cash flow, just curious on CapEx levels this year versus the past, and what a normalized level revenue perhaps is a good way to think about that? And going one step further, where the free cash flow might be utilized this year? Thanks.

Sure, I'll start with your CapEx question and then address the capital allocation question next. This year, we're at about 5% of sales, which is at the low end of our historical range. A couple of years prior to that, the percentage was even lower. I expect that in 2023, we'll approach the middle of our historical range of 5% to 6%. Regarding capital allocation, we completed our $500 million share buyback program this year and will be entering our 31st year of increasing dividends. Together, these efforts returned 100% of our free cash flows to shareholders, totaling over $1 billion in 2022. Moving forward, I anticipate continuing to increase dividends while adhering to our consistent principles: first, investing in the business, which includes M&A and increasing dividends, and then, with any excess cash, looking at share buybacks.

At this time, we've reached the end of our question-and-answer session, and I'll turn the floor back over to Mr. Hedberg for closing remarks.

Thank you. That wraps up our fourth quarter conference call. This conference call and the associated discussion slides will be available for replay on our website. Thank you for your time and participation, and I hope everyone has a great rest of your day.

This will conclude today's conference. You may disconnect your lines at this time. Thank you for your participation.