Earnings Call Transcript - JCI Q4 2024

Operator, Operator

Good morning, and welcome to the Johnson Controls Fourth Quarter 2024 Earnings Conference Call. Today all participants will be in a listen-only mode. After today’s presentation there will be an opportunity to ask questions. Please note that today’s event is being recorded. I would now like to turn the conference over to Jim Lucas, Vice President, Investor Relations. Please go ahead.

Jim Lucas, Vice President, Investor Relations

Good morning, and thank you for joining our conference call to discuss Johnson Controls fiscal fourth quarter 2024 results. The press release and related tables that were issued earlier this morning, as well as the conference call slide presentation, can be found on the Investor Relations portion of our website at johnsoncontrols.com. Joining me on the call today are Johnson Controls' Chairman and Chief Executive Officer, George Oliver, and Chief Financial Officer, Marc Vandiepenbeeck. Before we begin, let me remind you that during our presentation today, we will make forward-looking statements. Actual results may differ materially from those indicated by forward-looking statements due to a variety of risks and uncertainties. Please refer to our SEC filings for a detailed discussion of these risks and uncertainties, in addition to the inherent limitations of such forward-looking statements. We will also reference certain non-GAAP measures. Reconciliations of these non-GAAP measures to the most directly comparable GAAP measures are contained in the schedules attached to our press release and in the appendix to this presentation, both of which can be found on the Investor Relations section of Johnson Controls’ website. I will now turn the call over to George.

George Oliver, Chairman and CEO

Thanks, Jim, and good morning, everyone. Thank you for joining us on the call today. I would like to start today's call by taking a moment to acknowledge and thank all of our employees for their contributions in delivering strong quarterly results. We also made significant progress in our transformation to simplify our portfolio and become a pure-play provider of comprehensive solutions for commercial buildings. Today, we are a faster-growing, more profitable, simpler company. Let's begin with slide four. We ended fiscal 2024 with momentum, delivering double-digit organic revenue growth, robust margin expansion, and 96% adjusted free cash flow conversion. Order growth of 7% in the year was led by data center demand and contributed to our record backlog, which ended the year at $13.1 billion. Our differentiated solutions to enhance efficiency and sustainability in commercial buildings continue to resonate with our customers across the key verticals we serve. For example, we extended our leading position in cooling for data centers, with orders for the full-year more than doubling the sales we delivered. In fact, we are now seeing key customers placing multi-year orders in the hundreds of millions of dollars to provide cooling solutions. Our pending sale of the Residential & Light Commercial to Bosch is progressing, and we expect the transaction to close in the fiscal fourth quarter. Today, we are introducing our fiscal 2025 guidance from continuing operations of $3.40 to $3.50, which Marc will give more details on later in the call. We believe we are well-positioned going forward to deliver long-term shareholder value. Our business transformation is almost complete and we are benefiting from more consistent, predictable performance. Slide five presents a pro forma look at the new Johnson Controls, representing the composition of our company going forward. Today, Johnson Controls is a leader in building solutions, dedicated to solving our customers’ needs for energy efficiency and clean electrification. Our innovative approach and commitment to sustainability are driving us forward, ensuring we provide cutting-edge solutions that meet the evolving demands of the market. Johnson Controls' unique customer value proposition directly translates to shareholder value creation. Our multi-domain presence enables us to serve our customers over the building life cycle while also delivering safe, healthy, and sustainable solutions. This means we can meet the needs of our customers all over the world and deliver cost savings and efficiencies for them. We are confident we are well-positioned with the integrated domain expertise and an extensive branch network to deliver greater value to our customers. In turn, we believe this will lead to sustained top-line growth and significant margin expansion. As part of our path towards simplification, we have now deployed one end-to-end operating model that we leverage globally across all of our key verticals. This is positioning us with a unique capability in serving buildings and leveraging our digital expertise to expand our connected services model. We are improving productivity on behalf of our customers, helping them maximize outcomes for their buildings. Whether it is the fast-growing data centers, expansion of campus housing and labs in higher education, or solving needs across healthcare from hospitals to outpatient facilities, we deliver engineered solutions across all of our key verticals. This enables us to realize the benefits of this model over the life cycle of our solutions, ensuring sustained value creation. Johnson Controls is better positioned than ever before to help customers create safer, more sustainable buildings while also maximizing the occupant experience. Our strong finish to fiscal 2024, coupled with our record backlog, reinforces our confidence that Johnson Controls will continue to lead globally in building solutions. With that, I'll turn it over to Marc.

Marc Vandiepenbeeck, Chief Financial Officer

Thanks, George, and good morning, everyone. Please turn to slide six. Our performance in the fourth quarter highlights continued strong execution across our portfolio. Our single end-to-end operating model provides the visibility needed to drive consistent and predictable results. This was evident in our performance in the quarter as organic revenue grew 10% and segment margin expanded a robust 260 basis points to 18.6%, led by substantial improvement in both EMEALA and Global Products. We delivered another strong quarter of increased productivity while converting our higher-margin backlog. Adjusted EPS of $1.28 was up 22% year-over-year and exceeded the high-end of our guidance range by $0.02. Our operational efficiency contributed to the majority of the growth and more than offset additional corporate expenditure, primarily related to IT investments. The strategic allocation of resources ensured we are well-equipped to support our growth and safeguard our infrastructure. Below the line, net finance charges were higher, while EPS benefited from a lower share count. Overall, we achieved significant EPS growth, and we are pleased with these results. On the balance sheet, we ended the fourth quarter with approximately $600 million in available cash and net debt decreased to 2 times, which is the lower end of our long-term target of 2 to 2.5 times. Our adjusted free cash flow conversion of 96% was a strong improvement year-over-year and substantially exceeded our previous commitments. This trend reflects our improved fundamentals in working capital management. Adjusted free cash flow of $2.4 billion improved nearly $800 million year-over-year. For the full year, we returned $2.2 billion to shareholders via dividends and share repurchases. Let's now discuss our segment results in more detail on slides seven through nine. Beginning on slide seven, our Global Product business had a strong finish to the year. Organic sales grew 8% as pricing remained positive and we delivered 5 points of volume growth. Low double-digit growth in HVAC, both commercial and residential, offset declines in Fire and Security and Industrial Refrigeration. Strength was broad-based across the region, led by double-digit growth in North America. Adjusted segment EBITDA margin expanded an impressive 700 basis points to 28%. We have made tremendous progress over the past year in improving our operational efficiencies, leading to substantial margin improvement experienced in the fiscal second half. Turning to slides eight and nine to discuss our Building Solutions performance. Building Solutions delivered a solid performance this quarter, underpinned by sustained order momentum, double-digit revenue growth, and margin expansion. Additionally, we increased our record backlog, which remains at historical levels, underscoring the strengths of our business model. Our outcome-driven solution offering continued to resonate with our customers across many of the attractive verticals we serve, with strong growth in data center, government, healthcare, and higher education. Orders grew 8% in the quarter, led by mid-teen service growth, while system orders grew 5%, again, a tough double-digit comparison. Orders in North America increased 7% in the quarter with low-teen growth in service led by strength in Fire and Security. System orders grew 3% against a tough comp. In EMEALA, orders were up 14% with over 20% growth in service, while system orders grew 9%. Across the portfolio, we saw strong double-digit growth in HVAC controls and industrial refrigeration. In Asia Pacific, momentum is building as orders rebounded from the past few quarters of decline. Overall, orders grew 6%, led by 9% growth in service. Our pipeline of opportunities within Building Solutions remains healthy as we continue to build on the momentum of the past several quarters. Our Building Solutions segment entered the quarter with a record backlog, which provided a solid foundation, enabling us to capitalize on high demand for solutions and services. Organic sales increased 11%, led by double-digit growth across both systems and service. Our sustained service growth sets us apart as we continue to deliver differentiated lifecycle solutions for our customers. Sales in North America were up 16% organically with continued strength across HVAC and controls. In EMEALA, organic sales grew 10% with double-digit growth in controls, security, and industrial refrigeration. In Asia Pacific, while sales declined 5%, we saw sequential improvement. This improvement was driven by a stronger backlog and our resilient service business. The margin profile within our Building Solutions segment continues to strengthen due to enhanced productivity, favorable service mix, and improved operational efficiencies while executing our higher-margin backlog. By region, EMEALA adjusted segment EBITDA margin expanded 370 basis points to 11.5%, driven by improved productivity and the positive mix from growth in service. In APAC, adjusted margin expanded 70 basis points to 14.2% as the positive mix from our service business offset a decline in the systems business. In North America, adjusted segment margin declined 40 basis points to 15% related to mix, as systems grew faster than service. Building Solutions backlog remained at record level, growing 7% to $13.1 billion. Service backlog grew 12% and system backlog grew 6% year-over-year. Let's discuss our first quarter and fiscal 2025 guidance and the impact of discontinued operations on slides 10 and 11. We are entering fiscal 2025 with momentum, and our record backlog offers great visibility into the new year. Our service business remains well-positioned and provides a favorable mix to margins. As we look to our guidance for fiscal 2025, we will be presenting both the first quarter and the full-year on a continuing operations basis. After moving the Residential & Light Commercial business to discontinued operations, our fiscal 2024 continuing operational adjusted EPS is $3.21 per share. For the first quarter, we anticipate organic sales growth of mid-single digits, adjusted segment EBITDA margin expansion of over 100 basis points to approximately 14.5%, and adjusted EPS in the range of $0.57 to $0.60, representing 24% to 30% growth. While the first quarter is against an easy comparison, the overall fundamentals are strong entering the year. For the full-year, we expect organic sales growth of mid-single-digits, which is consistent with our long-term growth algorithm. Adjusted segment EBITDA margins are expected to expand over 50 basis points. Our adjusted EPS range of $3.40 to $3.50 per share represents 6% to 9% growth. We expect free cash flow conversion of 85% or greater, consistent with the performance of fiscal 2024 on a continuing operations basis. We continue to target returning 100% of our free cash flow to shareholders through dividends and share repurchases. We expect the Residential & Light Commercial divestiture to close during the fiscal fourth quarter. Consequently, we have not included any capital deployment from sale proceeds in our fiscal 2025 outlook. Additionally, we are committing to a multi-year restructuring plan to address stranded costs and further right-size our global operations following our previously announced portfolio simplification actions. We anticipate incurring roughly $400 million in expenses over the next three years, resulting in expected annual cost savings of approximately $500 million. Similar to the timing of deploying capital from the closure of the residential and light commercial divestiture, many aspects of this restructuring plan will depend on the timing of the close of the transaction. We are confident this factor will drive sustained success and create long-term value for our stakeholders. While fiscal 2024 was a year of significant portfolio transformation, we are better positioned as a faster-growing, more profitable, simplified company. We look forward to updating you on our progress as we continue our strong momentum entering fiscal year '25. With that, operator, please open the lines for questions.

Operator, Operator

Thank you. We will now begin the question-and-answer session. And today's first question comes from Nigel Coe with Wolfe Research. Please proceed. Mr. Coe, your line is open. You may ask your question.

Nigel Coe, Analyst

Oh, good morning. Sorry, I had the mute button on. Thanks for the question. So, I think this question is for you, Marc, regarding the mid-single digits. How do you see that across the segments? I'm assuming APAC is probably a bit above that. I'm just curious about your perspective on mid-single digits across the segments and any details on the 50 basis points, again, across segments? I also want to confirm that the restatements are occurring within Global Products, and it seems like the clean EBITDA margins in '23 and '24 were 25.7% and 27.1% excluding Hitachi and York. I just want to ensure those numbers are correct.

Marc Vandiepenbeeck, Chief Financial Officer

Yes, good morning, Nigel. A lot to cover there. So first on growth, we had a very strong growth quarter, and I'm very happy with the results. But we're entering the new year with a record backlog of about $13.1 billion. I think we continue to target that footprint of mid-single digits, granted, we have a lot of confidence given the level of backlog we have. As you know, the timing of some of the larger projects can impact quarter-over-quarter growth rates. I think we are seeing some very strong tailwinds in the core verticals. Now, if you think by segment, how that growth rate in mid-single digits is going to break down, we think APAC is going to be slightly above that overall guide for the enterprise, and really on an easier compare, and as we showed in the fourth quarter, we're starting to see sequential order growth for that business. The rest of the businesses, North America, EMEALA, or Global Products, will be at or just slightly below that overall guide throughout the year. Now when it comes to margin, and I hear you both on the total margin and the continued operation basis, Global Products margin, what we covered in the last quarter when we gave guidance for Q4 is, with the base cost and how we dealt with that base cost within that business and a lot of the disruption from a supply chain standpoint being behind us, a little bit of volume was going to go a long way, and you saw that in Q4. I think that's going to remain true as we enter fiscal year '25. We've been driving significant operational efficiencies that are structural and fundamental across both the manufacturing base and the supply chain. You can see that the Global Product business has benefited, and we continue to see benefit from improved absorption, and that leverage will continue to provide easier comps year-on-year. Now that business has some seasonality to it, so the first part of the year will be a little bit softer than the second part of the year, but that margin we feel is very well set for fiscal year '25.

Nigel Coe, Analyst

And just wanted to make sure I've got the numbers for the Global Products margins in fiscal '23-'24. So any help there would be good. But I'm just wondering, George, maybe if you could comment on the CEO succession, what progress has been made identifying the right person to replace you when you retire?

George Oliver, Chairman and CEO

Yes, good morning, Nigel. We understand there is significant interest in the ongoing CEO succession process. At this time, we don't have any new updates to share. You can be rest assured that the Board is actively considering an impressive list of candidates, both internal and external, and we do expect to have an update in the first half of calendar 2025.

Operator, Operator

And today's next question comes from Steve Tusa with JPMorgan. Please proceed.

Steve Tusa, Analyst

Hi, good morning.

George Oliver, Chairman and CEO

Good morning, Steve.

Steve Tusa, Analyst

Sorry, I just wanted to clarify whether the guidance you provided was for the year or just the first quarter. Given that orders are increasing by 8% and your organic performance is strong this quarter while the comparison isn't particularly challenging, what explains the mid-single-digit growth in organic for the first quarter?

Marc Vandiepenbeeck, Chief Financial Officer

Yes. If you think about the timing of some of those larger orders and how the revenue, particularly in the big verticals that we are benefiting from, whether it's large decarbonization projects or the data center project, we had very strong performance in the fourth quarter in those particular verticals. And that quarter being the busiest season for our service business, we also had very strong performance there with double-digit service growth. While that's probably sustainable over the long-term, there's some quarter-to-quarter volatility to that. So mid-single-digit growth for Q1, granted on an easier compare versus last year, is where we feel comfortable. North America will see some strong performance, probably a little bit higher than that mid-single digit, but both EMEALA and APAC, as well as Global Product will be right in line with that mid-single digit or slightly lower. I think that's where we feel comfortable, and that's where the growth is going to come next quarter.

Steve Tusa, Analyst

Okay. And then can we just get for the refresh portfolio, what percentage of revenue now is data center than you expect in '25?

Marc Vandiepenbeeck, Chief Financial Officer

Consistent with what we said prior, give or take a little bit, our data center exposure is about 10% of our revenue and continues to grow faster than the rest of the portfolio with very solid double-digit growth sequentially, at least for the foreseeable future.

Operator, Operator

Our next question comes from Scott Davis with Melius Research. Please proceed.

Scott Davis, Analyst

Hey, good morning, George and Marc and Jim.

George Oliver, Chairman and CEO

Good morning, Scott.

Scott Davis, Analyst

Hi, when you receive a large data center order and proceed with an installation, does it usually involve a similar service attachment rate in OpenBlue as you would expect in a building, or is the attachment rate different in this case?

Marc Vandiepenbeeck, Chief Financial Officer

Yes, very good question, Scott. The service overall is slightly better than our portfolio from an attach rate standpoint. The digital services really depend on the type of customer. That particular vertical is very sensitive to digital solutions and is very cautious about how they deploy it. There are some customers that have a little bit more cutting-edge than others expecting to have full connection; some others would like to manage that on their own. But the service attach rate for that business is very, very strong and better than the rest of the portfolio. It's changed a lot, I'll tell you, over the last five or six years, where that vertical probably five or six years ago was not very high service attached, where a lot of those key customers had taken the view that they wanted to self-serve some of that. I think what they've learned with the complexity and also the quality of our capabilities, we are really able to differentiate ourselves and provide a full suite of service with guaranteed outcomes for those customers.

George Oliver, Chairman and CEO

Scott, what I would tell you, the short term, the trend is significantly up because as you look at these data center sites, we have hundreds of units deployed on these sites and we have dozens of our technicians that are supporting these operations. We made the case that when we have connectivity, number one, is not only are we more efficient in how we serve them, but we can be very proactive in making sure we're maintaining the overall operation. So the trend is actually significantly up because of that.

Scott Davis, Analyst

That's helpful, guys. And just now that you've had another quarter of seeing big orders come through and such, how would you compare the pricing power in that vertical to the traditional building segment? Is it a little bit better because it's more complex, or is it more comparable because, honestly, everything in Applied isn't that easy?

Marc Vandiepenbeeck, Chief Financial Officer

Yeah, well, there's some parts of Applied that are slightly commoditized, but most of Applied is engineered solutions that require a strong partnership with the customer and allow us to deliver value to that customer and drive good pricing. The way we've approached the data center vertical is we've really embedded our engineering resources with those customers to try and solve really higher-value chain, the problems they're trying to solve for when it comes to heating, cooling, as well as the way they control the fire and security of their building. So across the board, if you compare, probably the margin of those particular vertical businesses vis-a-vis the rest of the market is probably slightly more than what you see. Now, it's going to continue to evolve as a market over the next few months and years. We've developed differentiated solutions from our peers that allow us to command a little bit more price, and we're expecting that to continue to drive a better margin profile than the more traditional Applied equipment business.

George Oliver, Chairman and CEO

I would add to that also on the product side, we've been ahead of the curve with our reinvestment in product. So, as we've been differentiating our product and getting positioned for the next generation of data centers, I believe that we're positioned extremely well with that value proposition. We believe that the margin profile that we've been able to achieve with what we've done to date is going to continue to improve going forward.

Operator, Operator

And today's next question comes from Julian Mitchell with Barclays. Please proceed.

Julian Mitchell, Analyst

Hi, good morning. Maybe just wanted to understand first off on the restructuring announcement that you made. Maybe help us understand the phasing of the $500 million of sort of cost-out savings and how much of that is reflected in the 2025 operating margin guide. And similarly, on the, I think, $400 or so of costs for that program, how much is in the free cash flow guide for the current year?

Marc Vandiepenbeeck, Chief Financial Officer

Now, great question and good morning, Julian. So as with any significant change to a business portfolio, like the divestiture of the Residential & Light Commercial, we've been pursuing opportunities to refine our business structure and our operating model better to really facilitate how we deploy resources in a simpler, clearer, and quicker to market. We’ve been driving many different aspects of that restructuring as we go through that. As you know, we still have a business to run until the transaction closes. Some of the timing of that cost is going to be hard to predict because it's very attached to the timing of the closing of the transaction. But as with any restructuring, we expect the restructuring costs to come ahead of the restructuring benefit. So the $400 million will come ahead of the $500 million. It's not a one-to-one perfectly timed structure. As we looked at the free cash flow conversion guide for the year, we've included a substantial amount of that $400 million into our guide for fiscal year '25, which is kind of one of the large structural headwinds we have for the year, alongside some CapEx investments and our traditional delta between effective tax rate and cash tax rate. There's a large portion of restructuring, probably right about half of that, that is included in our guide for fiscal year '25.

Operator, Operator

And today's next question comes from Chris Snyder with Morgan Stanley. Please proceed.

Chris Snyder, Analyst

Thank you. I wanted to ask about North America Building Solutions margins and kind of the outlook into '25. So clearly a lot of pressure on the segment in Q4 on that systems mix. But it sounds like that's supposed to kind of normalize into the first half of the year, I guess, really through fiscal '25. So can you just kind of talk about what that can mean for Building Solutions margins as that mix headwind goes away and what's in the guide for that?

Marc Vandiepenbeeck, Chief Financial Officer

Thank you for the question, Chris. It’s a great point. I wouldn't say we are experiencing significant margin pressure, but North America showed very rapid growth this quarter due to larger projects. These larger systems projects tend to have slightly lower margins compared to what our service business typically achieves. While our team managed to demonstrate solid service growth in North America, it wasn’t sufficient to offset the impact of the mix from those major data center, new energy, and decarbonization projects completed this quarter. Looking ahead, the value generated from these projects will continue, but the challenges posed by this mix should lessen over time, particularly as we progress through the year. The positive impact of service and the service attachment rate will increase as we start recognizing revenue from these projects, which should lead to improved margin rates.

Operator, Operator

And today's next question comes from Joe Ritchie with Goldman Sachs. Please proceed.

Joe Ritchie, Analyst

Hey, guys, good morning.

Marc Vandiepenbeeck, Chief Financial Officer

Good morning, Joe.

Joe Ritchie, Analyst

Hey. Marc, maybe just kind of focusing on Global Products for a second, I think you guys said a little volume goes a long way, but these are margins that candidly like we haven't seen before. And so maybe just kind of dovetailing that question that Nigel had earlier as well, was there anything kind of one-off in the margins this quarter? And then really just trying to understand what the right jumping-off point is for 2025. So what was like the pro forma Global Products margins for 2024 so that we have that locked in as we think about next year? Thank you.

Marc Vandiepenbeeck, Chief Financial Officer

That's a great question, Joe. No, there wasn't a specific one-time event or deal that significantly impacted that margin. It all comes down to the foundational work our team in Global Product has accomplished over the past year, which has set the stage for driving substantial operational efficiencies. If you're considering the pro forma continued operation margin for that business, I would suggest looking at the 20% margin rate. I anticipate that the first half of the year will be below that rate, while the second half is likely to exceed the 20% margin rate. The business is now operating with greater efficiency and focus, which should enable it to maintain or even improve upon that performance level.

Operator, Operator

And our next question comes from Vlad Bystricky with Citigroup. Please proceed. And also your line is open, you may ask your question. And Mr. Bystricky, your line is open. You may ask your question.

Jeffrey Sprague, Analyst

Thank you. Good morning, everyone. Hey, maybe just kind of a multi-part question on some of the non-operating items here, so to speak. First, just on corporate, it's kind of interesting that it's nominally roughly the same dollars, $430 million-ish in both cases. I thought the stranded friction would show up there. So maybe some color on that. And also what's taking the tax rate down to 12%? And Marc, I think some of the global changes have you believing your tax rate would actually be drifting up, and instead, we're stepping down here. So maybe you could give a little color on that. And just finally, the share count seems to just imply you're buying back stock kind of pay-as-you-go as the cash comes in the door over the balance of the year. Is that correct?

Marc Vandiepenbeeck, Chief Financial Officer

I will start with the guidance, which is between $3.40 and $3.50. This guidance does not take into account any use of proceeds from the sale of our residential business. It represents a straightforward return of 100% of our free cash flow to shareholders. Regarding corporate expenses, they remain flat compared to last year. Although they might have been expected to be higher, we have made significant efforts to reduce these costs. However, we have also invested in strengthening our cybersecurity and IT infrastructure, and we still have stranded costs that we plan to address, albeit at a measured pace to align with the timing of the divestiture of the Residential & Light Commercial business. We must continue to support the existing business. As for the continued operating tax rate, we are experiencing a 100 basis point increase year-over-year. We forecasted about an 11% rate for fiscal year '24, which will rise to 12%. I previously mentioned that I expected a bit more pressure than that, particularly as we prepared for the transaction involving the Residential & Commercial business. This preparation allows us more control over the rate for 2025. Looking ahead to 2026 and beyond, we anticipate more pressure on that rate due to global tax reforms. We expect an increase of around 400 to 500 basis points above the 12% for fiscal year '26, once we finalize the planning and closure of that transaction.

Operator, Operator

And the next question comes from Andrew Obin with Bank of America. Please proceed.

Andrew Obin, Analyst

Yes, good morning.

Marc Vandiepenbeeck, Chief Financial Officer

Good morning, Andrew.

George Oliver, Chairman and CEO

Good morning.

Andrew Obin, Analyst

Just a question. Can we just get more color on Applied sales in North America by key verticals? I know their focus is on data centers, but what are you seeing elsewhere? What stands out positively or negatively?

Marc Vandiepenbeeck, Chief Financial Officer

There's four or five verticals that are really supportive. Of course, data center is one of the critical ones. But whether it's healthcare, hospitals, where we're seeing a strong pickup, there's still a lot of activity associated with manufacturing and new energy, the re-onshoring of some of the battery manufacturing has been a great help to our business. Overall, as the commercial real estate market is softer, but a lot of that portfolio is rebalancing as people repurpose some of the spaces associated with the post-pandemic reallocation of that office space, it creates opportunity across the domain, not just for Applied to be able to drive new opportunities throughout the market.

Operator, Operator

And the next question comes from Deane Dray with RBC Capital Markets. Please proceed.

Deane Dray, Analyst

Thank you. Good morning, everyone.

Marc Vandiepenbeeck, Chief Financial Officer

Good morning, Deane.

George Oliver, Chairman and CEO

Good morning, Deane.

Deane Dray, Analyst

Hey. Questions about the free cash flow guide. Just for fiscal '25, kind of talk us through what the impact is of taking Resi and Light Commercial out of structurally lower working capital, but just how does that play out and support the 85% conversion? And then I noticed you put it in twice the longer-term goal of 100% conversion. Marc, just structurally, what has to change to get you to that threshold? Thank you.

Marc Vandiepenbeeck, Chief Financial Officer

Yes. To clarify, what I mentioned earlier is that we are focused on returning 100% of free cash flow to shareholders, rather than converting 100% of free cash flow. In the long run, I believe we can exceed 85% conversion, but we are facing some ongoing structural challenges. Trade working capital will remain a supportive factor for improving our free cash flow conversion, although it's not lower overall. There are two or three significant structural headwinds that could weigh on our free cash flow conversion. As we separate from the Residential & Light Commercial business, which previously provided some structural advantages to our cash flow conversion across the company, we will be affected. We used to own about 60% of the joint venture with Hitachi, which is now categorized as discontinued operations. This means we'll now receive 100% of the free cash flow, irrespective of overall earnings. The timing of dividends hasn’t always matched the cash flow generated by that segment. Excluding the discontinued operations, achieving 85% on a continuing operational basis will be challenged by a few structural headwinds. The first is the restructuring we've discussed, along with our significant capital expenditures aimed at expanding our data center capacity, with a goal to double it and potentially more as market opportunities arise. Additionally, the difference between our cash tax rate and effective tax rate remains in the 8% to 10% range. While I expect that gap to close as we experience pressure on the effective tax rate, I don't foresee much change in our cash tax rate. For 2025, understanding these challenges will help us navigate the headwinds related to restructuring, capital expenditures, and taxes overall, while seeing some improvements in trade working capital.

Operator, Operator

And the next question is a follow-up from Steve Tusa with JPMorgan. Please proceed.

Steve Tusa, Analyst

Got it. Hey, sorry about that.

Marc Vandiepenbeeck, Chief Financial Officer

No problem.

Steve Tusa, Analyst

I just wanted to confirm my calculations regarding the Global Products margin. It seems that if we exclude continuing operations sales from what you reported this year, we have around $5 billion in revenues for RemainCo at Global Products. Is that correct as a starting point?

Marc Vandiepenbeeck, Chief Financial Officer

The RemainCo of Global Products is probably going to be a little bit less than $5 billion, I would say.

Steve Tusa, Analyst

Okay. If I take that number and divide it by the continuing operations profit for Global Products that you mentioned, which is in the slides, it results in a margin in the high 20s, not the 20% figure you're referring to. Am I missing something?

Marc Vandiepenbeeck, Chief Financial Officer

No. So I didn't say 20%. I said the first half will probably be on one side of 20% and the second half will be on the other side of 20%, but much, much higher than the 20%.

Steve Tusa, Analyst

Okay. But the 28% on a pro forma basis, around 27% to 28%, is the appropriate baseline for this year, and there’s nothing out of the ordinary about that? Should we expect that you can leverage volume off of that?

Marc Vandiepenbeeck, Chief Financial Officer

We can absolutely leverage volume on that, and I think that's the right ballpark. Yes.

Steve Tusa, Analyst

Okay. And then lastly, sorry, just on data center, you broke up a little bit there. Did you say 15% or 10% data center exposure?

Marc Vandiepenbeeck, Chief Financial Officer

10%.

Operator, Operator

And our next question comes from Nicole DeBlase with Deutsche Bank. Please proceed.

Nicole DeBlase, Analyst

Yes, thanks. Good morning, guys.

Marc Vandiepenbeeck, Chief Financial Officer

Good morning, Nicole.

Nicole DeBlase, Analyst

So just a question on, I guess, order growth and backlog. When you guys put together the outlook for fiscal '25, is the expectation that backlog starts to come down from these record levels, or do you think it kind of remains consistent through the year? Thank you.

Marc Vandiepenbeeck, Chief Financial Officer

It will depend somewhat on the mix of jobs we book this year and the strength of the data center vertical. However, based on the trend we are observing and the growth in our pipeline of opportunities, we expect the backlog to continue improving and margins to become more solid. Therefore, we anticipate strong growth in the backlog, which makes us very comfortable with the expectation of mid-single-digit revenue growth as we will be able to generate significant revenue from that backlog.

Operator, Operator

And the next question comes from Joe O'Dea with Wells Fargo. Please proceed.

Joe O'Dea, Analyst

Hi, good morning. Just on slide five and the revenue mix, it looks like maybe 15% or so indirect. Could you just talk about the end-market exposure within that, how you think about that fit within the portfolio on a go-forward basis? And then, Marc, just with the restructuring announcement today and as you think about proceeds toward the end of the year, just any perspective on how you're thinking about kind of offsetting the exits dilution and sort of timing objectives around achieving that?

Marc Vandiepenbeeck, Chief Financial Officer

Yeah. So on the mix, Joe, we view our operating model as an integrated operating model. So for every market, every vertical, we segment the market by product, sometimes by brand even, and we make sure that we get to our full entitlement from a market share standpoint. For some markets, where we see an ability to both sell value, create high service attach rates, and being able to drive the lifecycle value of those products in the buildings we are in, we always choose our direct channel and our branches are going to do the vast majority of the work. There are parts of the markets where maybe it's harder to sell value, or that's not where the customer wants to meet us, or the lifecycle value comes in a different profile, either because of the application of the building itself, the type of vertical it addresses, or just simply the complexity of that market. It's more commoditized part of the market, more mid to low end of the market. There, we use a leverage highly or indirect channel through our distribution and sales partners, where we're able to hit mostly the mid to lower end of the market and try to stay away from that more larger complex part of the market. Now, the second part of your question on capital and restructuring and our ability to offset dilution, the capital deployment plan is going to be very similar to what we've done historically when we've had large divestitures. You can see how we took that approach, for example, in 2019 when we divested our battery power solutions business. The goal is going to be able to return as quickly and as efficiently as possible the proceeds of the divestiture, as we see a clear line of sight of closing the transaction. The restructuring action, we are going to take them as early as possible. We are not going to wait for the transaction to close. Now there are certain actions that are going to have to be taken at or after restructuring. So that's why the timing on some of that benefit and cost is a little bit difficult for us to commit to, but we have a clear plan on how to deploy and continue to improve our operating model as we have throughout the past couple of years.

Operator, Operator

And the next question comes from Noah Kaye with Oppenheimer. Please proceed.

Noah Kaye, Analyst

Thanks. A couple of questions. First, I assume the free cash flow conversion guide doesn't include the tax payments on the divestitures. Would you expect those to fall within the year, just for housekeeping purposes? Second, just to put a finer point on the answer to the earlier question, the $500 million of benefits over time from restructuring, that's assumed to be immaterial to the '25 guide. I just want to confirm that. But then I think more sustainably, can you just give us the broad strokes of what the cost-out program entails and perhaps more qualitatively, how you may be changing the configuration of the business or your go-to-market within that program?

Marc Vandiepenbeeck, Chief Financial Officer

You are correct in your first two comments, and your assumption is right. We are focusing on simplifying and optimizing our cost structure. Over the past six to nine months, we have worked to right-size our organization and better understand how to allocate resources to seize market opportunities. This will drive simplification, enhance clarity, and ultimately improve the customer experience that our clients face. As for our operating structure, we are actively exploring opportunities to refine our business structure and operating model to achieve the simplicity and clarity we've discussed. We will keep you informed about any necessary changes in how we operate and present ourselves.

Operator, Operator

This concludes our question-and-answer session. I would now like to turn the conference back over to Mr. George Oliver for any closing remarks.

George Oliver, Chairman and CEO

Yes, I want to thank all of you for joining us today. As we conclude fiscal 2024 and look to the future, I am confident Johnson Controls is heading in the right direction. Our team has delivered important achievements this year and created momentum entering fiscal 2025. Our customer value proposition is resonating, demonstrated by our sales and service growth and multiple consecutive quarters of building a record backlog. We are well-positioned to capitalize on the opportunities ahead, provided by our leadership in Building Solutions and our end-to-end operating model. So I want to thank you for your continued support and confidence in Johnson Controls. And with that, operator, that concludes our call.

Operator, Operator

Thank you. The conference has now concluded. And thank you for attending today's presentation. You may now disconnect.