Vontier Corp Q1 FY2021 Earnings Call

My name is Dorothy and I will be your conference facilitator this morning. I would like to welcome everyone to the Vontier Corporation's First Quarter 2021 Earnings Conference Call. All lines have been muted to prevent background noise. After the speakers' remarks, there will be a question-and-answer session. I would now like to turn the call over to Ms. Lisa Curran, Vice President of Investor Relations. Ms. Curran, you may begin.

Thank you, Dorothy. Good morning, everyone, and thank you for joining us on the call. With me today are Mark Morelli, our President and Chief Executive Officer; and Dave Naemura, our Senior Vice President and Chief Financial Officer. We will present certain non-GAAP financial measures on today's call. Information required by SEC Regulation G relating to these non-GAAP financial measures is available on the Investors section of our website, www.vontier.com, under the heading Financials. Please note that unless otherwise noted, the presented financial measures reflect year-over-year increases or decreases. During the call, we will make forward-looking statements within the meaning of the federal securities laws, including statements regarding events or developments that we expect or anticipate will or may occur in the future. These forward-looking statements are subject to a number of risks and uncertainties and actual results might differ materially from any forward-looking statements that we make today. Information regarding these factors that may cause actual results to differ materially from these forward-looking statements is available on our SEC filings and subsequent quarterly report on Form 10-Q. These forward-looking statements speak only as of the date they are made. We do not assume any obligation to update any forward-looking statements. With that, I'd like to turn the call over to Mark.

Thank you, Lisa. Good morning, everyone, and welcome to our first quarter earnings call. We had an outstanding start to 2021. Our team's strong execution drove double-digit core revenue and earnings growth. We delivered adjusted earnings per share of $0.63, an increase of 43% year-over-year and $0.08 above the high end of our guide. Our results this quarter are a clear demonstration that better prioritization and embracing our core values drive robust improvements. I cannot underscore enough the importance of unlocking value by combining our cultural heritage with a greater focus and fresh perspective, made possible by the separation of Vontier. Our renewed discipline enabled us to better prioritize our highest-return opportunities and pursue strategies to transform our portfolio. We are taking advantage of secular trends to win share with North American EMV solutions. Importantly, we're also gaining momentum on initiatives to deliver growth beyond this regulatory driver. I'd like to give additional color on our profitable growth initiatives and operational milestones, as this is indicative of the significant runway of opportunities available to us. We continue to drive deeper deployment of VBS and build momentum. We revamped our performance and incentive programs to solidify accountability through our aggressive strategic and operational agenda. The right linkage is in place to ensure emphasis on the critical few areas of growth, innovation, and simplification. Accordingly, we are repositioning to streamline the business, while investing for more profitable growth. Early wins, share gains, and new product launches are driving this accelerated growth. In the first quarter, we delivered mid-teens core revenue growth in non-EMV sales, including greater than 25% core revenue growth in high-growth markets. We saw strong growth in retail solutions driven by 30% growth in point-of-sale offerings. Additionally, we continue to see accelerated growth in diagnostic and repair technologies with high-teens core revenue growth. Lastly, we're continuing to make important progress returning Teletrac Navman to more profitable growth. To summarize, we're advancing all of our priorities, as we outlined last October, and this is unleashing our earnings growth potential. And so, as I mentioned, we're off to a strong start to the year. However, we will be facing continued supply chain constraints and inflationary pressures going forward, as the sourcing environment for steel and electrical components among other things is challenging. But this is another area where our team has executed exceptionally well. We're leveraging VBS to derisk our supply chain. We were able to more than offset inflation in the quarter with price. And I'm confident in our team's ability to continue to manage these headwinds. We remain vigilant, as we expect to see increasing challenges with supply chain, logistics, inflation, and COVID-related impacts centered on India and other parts of the world. However, we always come back to the Vontier way as our guiding principle. Our commitment to integrity and our people is the foundation of our success. We've escalated programs to support our employees and their families in the most impacted areas, and that will remain our highest priority. Moving to the outlook. Given our strong performance in the first quarter and expectations for improved demand, we are raising our full year 2021 adjusted diluted net EPS guidance to $2.55 per share to $2.65 per share. This includes raised assumptions for low to mid-single-digit core revenue growth and core adjusted operating margin expansion of 60 to 90 basis points. We're also initiating our second quarter adjusted diluted net EPS guidance of $0.50 to $0.54, which includes assumptions of 23% to 25% core revenue growth and core adjusted operating margin expansion of greater than 200 basis points. With that, I'll turn the call over to Dave.

Thanks, Mark. Adjusted net earnings for the first quarter were $108 million, an increase of 44% from $75 million in the prior year period. This translated to an adjusted net earnings per share of $0.63 compared to $0.44 in the prior year period. The double-digit increase in earnings was primarily driven by volume growth and strong fall-through, which led to 380 basis points of adjusted operating margin expansion in the quarter. Core revenue growth in the first quarter was 14.3%, driven by broad-based non-EMV growth of approximately 15% in the quarter supplemented by the continued strength of the EMV rollout in North America. In GVR, core revenue grew mid-teens with bookings growth of high-teens, while Matco had high-teens core revenue growth and more than 20% bookings growth. High-growth markets were also a significant contributor in the first quarter growing more than 25% year-over-year and low-teens growth sequentially. Within the high-growth markets, we saw particularly strong growth in India and in Latin America driven by Mexico share gains. Adjusted operating profit for the first quarter was $151 million, growth of 41% compared to the prior year period, primarily driven by strong core revenue growth and continued cost management in both cost of goods sold and operating expense. To that end, we drove 90 basis points of gross margin expansion and 380 basis points of adjusted operating margin expansion continuing the progress we made in the back half of 2020 as we leverage VBS to execute our profitable growth initiatives and manage through a very dynamic supply chain and inflationary environment. Our earnings growth continued to translate through to very strong cash flow performance with adjusted free cash flow of $156 million, a conversion of 145% in the quarter. Q1 is historically the low point in the year for free cash flow conversion, as we normally build working capital coming off the year-end low in what is typically a seasonally lower volume quarter. However, this quarter we further improved working capital through targeted receivables and payables actions while also satisfying high volumes. In the first quarter, we closed on $1.6 billion of senior notes at an average interest rate under 2.5%, lengthening the maturity of our debt structure. We subsequently retired $1.4 billion of our temporary debt financing including repaying our two-year term loan, which was put in place to facilitate our October 2020 spin. This had the impact of opportunistically increasing our gross indebtedness by $200 million to approximately $2 billion better positioning the company to execute on M&A. Our growth in earnings along with our strong free cash flow generation resulted in our net leverage decreasing to 1.9 times from 2.2 times at the end of 2020 and 2.6 times at the time of the spin in October of last year. Looking at the top line performance of our two platforms. Mobility Technologies had core revenue growth of 12.7%, primarily due to mid-teens core growth in GVR, partially offset by Teletrac Navman. The strength in GVR was multifaceted. We saw strong demand and high-teens growth in non-EMV sales driven by retail solutions point-of-sale aftermarket and environmental solutions and 30% growth in high-growth markets. And we continue to see strong demand from EMV in North America ahead of the deadline. As Mark mentioned, Teletrac Navman continues to improve and we remain optimistic that the business will return to growth by the end of the year. In our diagnostics and repair technologies platform, core revenue growth was 18.6% and driven primarily by accelerated strong demand at Matco. Matco experienced high-teens core growth as the demand environment remains strong with substantial same-store sales growth. We continue to add to our distribution base posting our third consecutive quarter of strong net franchisee additions following the pause that we saw during the height of the pandemic. Looking at total company sales regionally, the growth was truly broad-based. As I mentioned, high-growth markets grew more than 25% and our developed markets in total grew low double-digits with mid-teens growth in North America, partially offset by softness in Western Europe. In addition to executing on the growth opportunities in our markets, we also made progress on our profit improvement actions that will better position the company as we progress through the year. We recognized a restructuring charge of $4 million in Q1, which is part of the approximately $20 million charge that we continue to anticipate for the full year. This charge is excluded from our adjusted net operating profit as we discussed last quarter. We expect to have these actions substantially complete in the year positioning our exit rate to achieve the benefits of these actions in 2022. Taking a closer look at our outlook assumptions. We now expect our weighted average share count to be approximately 170 million for the year down from 172 million in our prior review. And as a reminder, during the second quarter last year, we acted quickly and decisively to reduce our cost base by about $20 million in line with the pandemic demand environment. Given the V-shaped recovery in the majority of our markets, we saw about $15 million of those costs return in the third quarter of 2020. We have contemplated the return of these temporary cost actions and the impact from the supply chain constraints and inflationary pressures in our guidance for both Q2 and the full year. Our adjusted free cash flow conversion of 145% this quarter was unseasonably high for a first quarter of the year. Historically, we have built working capital in Q1 and have seen this as the low point for conversion in the year. For 2021, we anticipate that Q1 will be the high point for conversion and Q2 will likely be the low point for the year. We expect to see conversion from down from Q1 levels for the remaining three quarters as we work to better align working capital with demand. Furthermore, as we noted last quarter, we will have five federal tax payments in 2021 as compared to three in 2020 due to the dynamics of the spin. The actual payment will occur in Q2. All that said, we still anticipate full year adjusted free cash flow conversion of around 95%. Importantly, we enjoy a healthy balance sheet with liquidity in excess of $1 billion and ample near-term M&A capacity. Overall, a robust start to the year operating from a strong financial position and with a meaningful raise to our full year expectations for core growth, margin expansion, and earnings growth. With that, I will turn it back to Mark.

Thanks, Dave. Indeed our team delivered another quarter of strong execution resulting in top-tier financial performance across all metrics. I'm extremely proud of our employees and encouraged by our ability to deliver against our most important priorities. You may recall that last quarter I characterized 2021 as an important springboard to a multiyear transformation, and it's imperative that we deliver on every step of this journey. Since separation we've more than delivered on our commitments. And now with the first quarter behind us, we are even better positioned to navigate the growth and comparison dynamics ahead. Our improved full year guide remains a tale of two halves. The first half reflects broad-based strong growth including continued demand for EMV coupled with a favorable comparison, due to the impact of the pandemic in the second quarter of last year. In the second half, we have much more challenging comparisons, because we benefited from the V-shaped recovery and accelerated demand for EMV and Mexico regulatory solutions in the back half of 2020. Given the improved growth outlook from environmental and point-of-sale solutions high-growth market initiatives and Matco, we now see first half adjusted earnings per share growth of approximately 40%. This is partially offset by more favorable expectations of a second half decline in the low double-digit range. To wrap up, we had a strong start to the year as we build momentum and establish a successful track record as a stand-alone company. I just want to reiterate how pleased I am with our team's execution this quarter to deliver top decile operating leverage and growth. A greater focus and deeper deployment of the Vontier Business System is the driving force behind our success today and tomorrow. We are well positioned for capital deployment due to our strong free cash flow conversion. We are confident in our organic and inorganic opportunities. And we expect to drive compounding growth thanks to our market-leading positions and compelling long-term secular growth drivers. With that, I'd like to turn the call over to Lisa.

Thanks, Mark. That concludes our formal comments. Dorothy, we are now ready for questions.

Your first question comes from the line of Andy Kaplowitz with Citigroup.

Hey, good morning, guys. Nice quarter.

Thanks, Andy.

Mark, you adjusted your second half 2021 expectations slightly higher down low teens versus down mid-teens what you had last quarter. Can you give us a little more color into that expected improvement? Is it more because of improved profitability you're delivering? Maybe reopening is positively impacting your businesses, or is EMV sunset not as bad as expectations? And I know last quarter you suggested EMV adoption, would be in the mid-80% range by the end of the year, what's your current expectations for that?

Yeah. Andy listen, I think it's both better top line visibility and that's really on the backs of our ex-EMV growth initiatives. As you know we've really down-selected to a critical few priorities. And one of those is driving some growth that's coming not from the secular driver in EMV. And particularly, I spoke about them on the call, but it's also important to reiterate here we're getting better traction in high-growth markets. As you know, they can be lumpy. Where we're getting a really good backlog there and we've raised the outlook for full year. We've also got a lot better traction on some initiatives around retail solutions and that gives us a lot of confidence. Also Matco is showing some strength and we're also carrying a good backlog there. So a lot of really good initiatives that are paying off for us and we feel really good about it. At the same time, EMV by the way while we won't make comments on that, but we are gaining share in EMV. And I think we feel pretty confident in that view. The drop-through has been great. And I think the initiatives that we're doing on simplification and driving better margin improvement, and our focus there is beginning to pay off as you can see. So I think that the combination of both those really give us more confidence to raise our outlook in full year.

Mark, can I just ask you a follow-up on high-growth markets? Obviously, you guys are pretty big in India. And given the unfortunate events there, how are you guys thinking about from high-growth markets in general including India? Have you sort of discounted any COVID disruption in any of those regions?

Yeah. That's a great question. Look the situation in India is tragic and it's still developing. First and foremost we're prioritizing our safety and the health of our employees. And we've contemplated some of the India risk in our guide. But as you know it's a developing situation for full year. When you look at other high-growth market opportunities, Middle East and Africa represents good growth as well as some opportunities in Latin America as well. So I think we're – we feel good about our initiatives there. And I think we feel good about our outlook but obviously working through some hotspots with COVID that is – it's quite significant and very heartfelt for our team and our employees.

Appreciate it, Mark.

Hi. Good morning, everyone.

Hey, John. Good morning.

I wanted to ask about kind of the M&A priorities pipeline if you can give us any metrics around that either the number of opportunities, the size, etc., because right you did delever nicely on the free cash flow generation this quarter. So, just love to get a little bit color around the pipeline and the timing, please?

Certainly. Deleveraging is an important factor in generating strong free cash flow, which we aim to use for mergers and acquisitions. We currently have a robust pipeline, particularly focused on non-ICE targets, and we are actively cultivating these opportunities. These prospects will help accelerate our strategy and are designed to enhance growth and cash flow. We are pursuing them rigorously, with a focus on targets related to retail solutions, smart cities, and potentially telematics. While our pipeline is broader, I wanted to highlight these areas of particular interest. The market is competitive, but we are seeing deals being completed. As I mentioned, deleveraging is part of the process. It's worth noting that predicting the timing of these deals can be challenging as they tend to occur sporadically.

And then maybe that leads into the follow-on. You've taken your share guidance down here by $2 million. Maybe just a little bit of more thoughts around deploying some share repo to that.

Hey, John. It's Dave. Our main focus for capital deployment will continue to be mergers and acquisitions, but we are primarily concerned with returns. The adjustment you noticed in our guidance was simply us getting accustomed to the effects of stock compensation and other factors in our first year as a public company. However, I encourage you to consider mergers and acquisitions as our top priority for capital deployment.

Thank you, John.

Thank you.

Thanks. Good morning, everyone. I'll keep this to one question. Can you maybe just give us a bit more definition around what you've seen? Now we've passed the EMV deadline how is the backlog looking at this point? It seems that we're still working with this $100 million to $150 million headwinds for the year. How much of that hits in 2Q? And how much in the second half of the year? That would be helpful. Thanks.

Thank you, Nigel. It's Dave. I’ll address that. We have not changed our outlook and we remain in the $100 million to $150 million range for the impact following the decline from the peak year of 2020. The EMV results came in as we expected in the first quarter. The backlog remains robust. As we've mentioned before, we want to get through the adoption deadline, which was a few weeks ago, and observe some trends in the second quarter before we provide an update. In terms of the second quarter, we are still seeing growth year-over-year. However, the EMV dollars we ship will be lower than what we shipped in the first quarter. While we do anticipate a sequential reduction, we still expect year-over-year growth. Therefore, we see the impact of the year-over-year decline becoming more pronounced in the second half of the year.

Great. Okay. Thank you.

Yes. Thanks Nigel.

Hi. Good morning. Maybe my question is just around the margin outlook. So I guess one aspect of that is it looks like the guide is embedding a second half sort of down margin year-on-year maybe 50 bps, but up 200, 300 bps half-on-half. So maybe just help me understand if that math is roughly correct for the 2H. And what's driving that big half-on-half uplift as the EMV rolls? And also tied to that, it looked like your restructuring charges guidance at least on a per share basis has gone up from $0.07 to $0.12. Maybe help us understand kind of what's driving that and what the in-year savings will be next year?

Yes, thank you, Julian. I believe you are accurately interpreting the dynamics between the first and second halves. We expect a significant increase in profitability and margins in the second half compared to the first half, which aligns with historical trends for these businesses. However, the year-over-year comparison poses some challenges due to a substantial improvement last year; demand shifted out of the second quarter and was satisfied in the second half, resulting in mid-single-digit growth in Q3 of 2020 and high single-digit growth in Q4. This skews our year-over-year comparison. Sequentially, though, I think you are correct. The margin improvement is anticipated from higher volumes, along with the profit improvement strategies we have discussed, including a restructuring plan that remains on target for $20 million this year. We haven't altered our restructuring expectations and foresee this occurring throughout the year, with a likely concentration in the latter half. There will be some partial-year savings as these initiatives take effect, aimed at improving our exit rate. Regarding the impact of EMV on the dynamics between the first and second halves, we previously noted EBIT at around $0.38, or approximately $0.28 at the EPS net earnings level. We are confident in our ability to offset the effects of EMV, including its mix impact, especially since we have raised our guidance without changing our EMV assumptions.

Great. Thank you.

Thank you.

This is David Ridley-Lane on for Andrew Obin. Could you tell us about the incremental margin assumption in the second quarter? Are you assuming the full $20 million of temporary costs come back? Is price/cost still positive? Just give us a little bit more of the pieces around the margin assumption in Q2?

Sure. Thanks, David. As you know, $20 million was spent last year, and I think most of that is included in this year's run rate, though it may not fully return to the $20 million due to some factors like travel and other expenses that aren't back yet. However, that amount definitely affects the year-over-year incremental figures. Additionally, there is a different dynamic in operating expenses linked to our expo event at Matco, which is our major annual sales event. It took place in Q1 of 2020, but this year we pivoted to a large virtual event for the sales part, while still holding the expo in Q2. We captured a reasonable amount of sales in Q1, but the significant event costs will shift to Q2. There are various factors like this to consider as well. Moreover, with our strong backlog, we have a good understanding of our shipping plans. We face a few mixed challenges when comparing Q1 to Q2 in terms of product and geographical mix. This is part of our calculations. We also expect price and cost dynamics to be positive for Q2, but, as we mentioned, the environment is quite challenging.

Got it. And just as a quick follow-up, what was pricing in the first quarter? What was cost inflation? And are you planning to take further pricing actions in this year?

Yes. Just to frame it up for you, price was greater than cost. Price was about a point maybe a little bit more. We would anticipate positive price for the full year. And we think that point of positive price even comes up a little bit over the course of the year and we end up maybe closer to 1.5 points again dynamic environment but that's how I'll color it for you.

Thank you very much.

You bet.

Hi, good morning. My question relates to your comment about the M&A landscape and your vision of what the areas you're focusing on. You mentioned retail solutions. Just a big-picture question. I'm curious how you see retail solutions fitting in with the current refueling stations and maybe a change how folks use refueling in the future, just to give us a better sense of how you're thinking about retail solutions going forward?

Look, there's a number of areas where the retail solutions, which by the way we absolutely believe is non-ICE. Retailers have had a growing format for many years and these are profitable growing venues that are part of our local fabric that will continue to grow even as we get into electrification. The things that are really interesting here is that we're pretty uniquely positioned in the market because we penetrated into the point-of-sale systems the head office back-of-sales solutions here that really help manage how these retailers make money. And by the way, they make money in many points actual – most of the money they make is not through pumping gas. It's through all of the other retailing aspects. And so this is really their focus. Of course they want to make money and they want to grow. And we are – have embedded ourselves into how they do that and we're part of that making money. So as we build that out on security of payments as we build that out on financial or fintech, as we build that out on services that are being done there and point-of-sale systems we think that's a robust area for growth.

And the geographic focus right now would you say the opportunities are as prevalent in North America as they are internationally?

Yes. Listen, I think it's – when you look at the buying dynamic of the convenience store by country there's a lot of evolution to this. And even if you look in the Nordic countries in Europe there's pretty strong evolution of these formats in the areas that I'm talking about. And so this is absolutely an important area for growth in Europe North America. And then high-growth markets, well high-growth markets are going to build out the petrol refueling infrastructure for sure. Countries like India have a lot there. But they're also moving up in their sophistication on automation and in the areas that I'm exactly talking about. Not only that, there is a big opportunity on environmental solutions, things like vapor recovery. I mean these are big areas for growth. And that infrastructure is going to be in the ground for a long period of time. So there's lots of solutions there that are quite relevant to us based on our position.

Thank you very much.

Thank you. Good morning, everybody. Two for me, if I could squeeze two in. First just on Matco. Can you elaborate a little bit more of just kind of what you're seeing kind of underpinning the demand? Would you view it as just kind of a bit of a pent-up recovery? I would not suspect that maybe the shortage of new vehicles or anything is impacting aftermarket demand yet. But if you have any thoughts about that that would be kind of an interesting footnote maybe to the main question.

Yes. Matco is up. It's been a great business for us for a long period of time. And if you see what happened in third quarter with this really strong V-shape recovery it shows the resiliency of serving the last mile. And it's one of our more profitable businesses as you know. What's really interesting there is that where we're seeing growth come from is really strong same-store sales. Now what's happened to this industry historically is that miles driven has typically been the major driver. But miles driven is actually down year-over-year. So it's not the major driver right now. And the technician count is actually down a little bit as well. But what's happening is these technicians have more disposable income so they're actually spending more on tools. The second aspect that is also really important to us is the net franchisees adds are up for us. We've deployed to a virtual way of adding franchisees. And we have a net positive. And by the way this is kind of unique to us. We've got about 30% of our territory in North America and Canada that is not yet served by our distribution network that we continue to build out. As you know this is one of our more profitable businesses and we think it's a steady grower for quite some time.

I'm curious if you have any information or insights on how much in-store traffic at DC stores is influenced by customers stopping to refuel. I imagine they are highly correlated, but do you have any estimates on whether it accounts for 90% of sales, 80% of sales, or any data related to that?

Yes, we do have some data. First of all, it varies significantly by country, leading to a lot of differences across regions. Many people form opinions based on their personal experiences, but consider that there is a $650 billion global market for convenience. It's a large market with considerable variation worldwide. When you examine the data, you'll notice the number of transactions occurring is somewhat different from the sources of revenue and profit. This suggests that there's significant demand for transactions that go beyond just refueling. Additionally, most profit comes from activities other than refueling. Look at companies like 7-Eleven, Circle K, Wawa, Sheetz, and Buc-ee's, and how they are expanding their franchises and retail offerings. This is an intriguing aspect of our local landscape that presents growth opportunities.

Great. Thank you.

I have a quick question. In your full-year guidance, you increased the core revenue forecast by about three points. Considering your commentary about Gilbarco and the dispenser business, it seems that revenue trend is still intact. Is this three-point increase mainly driven by the diagnostics and repair sector? If so, is the pricing in diagnostics and repair at Matco significantly higher than the overall 1%?

Hi, Rick. Thanks for the question. It's Dave. I would say first of all the increase in the guidance is balanced between the two platforms. We are definitely continuing to see strong demand in Matco, and that's been beneficial. More broadly, the GVR business is also experiencing growth from non-EMV areas, which is a significant factor as well. From a pricing perspective, we're seeing prices increase across the board, which is crucial in this inflationary environment. In terms of the guidance, the price assumption we had at the beginning of the year remains consistent with our current outlook. We expect an inflationary environment and have accounted for our ability to increase prices, which we have historically demonstrated, in our guidance and have maintained that stance.

Okay, very good. I have a follow-up question regarding the telematics business. We are seeing another decline, which seems to align with our expectations for the first part of this year. How much of this decline can you attribute to the aftermath of the ELD? Is there still significant churn occurring, or has that stabilized? Additionally, there is the context of subscription growth and its potential effect on revenue growth. Could you address that? Furthermore, do you anticipate that telematics will serve as the platform for your smart city growth rate mentioned in relation to M&A? There’s a lot to unpack, but I'd appreciate your insights on this.

Sure. I'll discuss that. First of all, we've been focused on improving this business, and I'm quite optimistic about our progress. This quarter marks the first time we've achieved positive annual recurring revenue, which is a significant milestone for our organic growth. Given that 95% of our business is SaaS, the revenue from sales is spread over the contract's duration, so it takes time to see a real impact on organic growth. The key metric to monitor here is annual recurring revenue, and it’s crucial that we continue to grow it. This achievement reflects both the annual contract value and the effects of churn. We're beginning to see growth in annual recurring revenue, which is essential. In response to your question, we are also observing a decrease in churn. The director platform has faced ELD issues for several years, and we put considerable effort last year into resolving those. More importantly, we have introduced a new platform called TN360, a real-time AI-based system. We will be launching our ELD offering within it shortly, which will be vital for the North American market. As we develop this platform further, it will create growth opportunities. You mentioned smart city initiatives. Since telematics encompasses various sectors, there are many niche growth areas. One promising area we are starting to explore is merging our technology with TN360, which includes AI, along with our presence in cities through our Global Traffic Technologies (GTT) division. We have a leading brand in GTT called Opticom that controls traffic lights. By integrating telematics with modern stoplight control, we've developed Opticom 360, which we recently launched. This product has even received an IoT award for 2021. There are numerous opportunities for us to explore and expand into niche markets where we can leverage our unique capabilities.

And with the investment in that business is that running at breakeven-ish, or is that still a losing a bit of money and not meant to...

No, it's expected to be profitable. However, I believe there are many more profit opportunities available. When you examine certain businesses like telematics, it's clear that there is significant potential ahead. We also have other businesses, such as Hennessy, which are currently performing below fleet margins. Therefore, we are focused on identifying and enhancing these underperforming areas to elevate those businesses. We anticipate making progress in these areas, which we believe will lead to substantial improvement over the long term.

Thank you. Good morning everybody. I want to start by saying that your working capital is really impressive. I would like to understand how you are achieving this and how you view the relationship between normal working capital and sales. What kind of investments do you anticipate making as the business continues to grow? At first glance, it seems questionable whether this is sustainable, but it may very well be. If you could provide some insights on this, that would be great.

Thank you, John. It's Dave. We are clearly in an unprecedented situation regarding working capital. When we finished last year, we were at a high single-digit percentage of last twelve months sales, which was better than we've seen in a long time. However, as we entered 2021, I've always mentioned the need to increase working capital. I expected that we would have added working capital in the first quarter, but again, this unprecedented situation led to a further decline in working capital. We have a strong focus on cost improvement, so I’m not saying that we can’t reach these levels, but I believe that in the near term, this isn't sustainable. I still anticipate that we would add back at least 1 to 1.5 points of working capital this year, and that’s been part of our planning. We're seeing a lot of cash receipts come in more easily than in the past, potentially due to the work-at-home environment and supply constraints that make customers eager to pay for guaranteed deliveries. While inventory levels are low in several constrained supply chain areas, I think we will see working capital normalize to some extent with demand. However, it won't reach historic levels anytime soon. It's an unprecedented situation without much historical precedent to guide us, so we’ll have to see how we navigate it.

Well you guys are a continuous improvement company as sales continue to climb for lots of different reasons right? Does inventory can you call that the inventory in particular to sales at a constant rate, or does that have to kind of get built back up and maybe more so because of the environment right just with various pinch points around supply chain and so forth?

Yes, I believe that's a fair assessment. Given the current environment, we are looking to bring more inventory into the system right now. While we always aim to enhance our working capital efficiency, there are certain areas where we want to see additional inventory come in.

The follow-up here is on the DT order growth of 20%. Dave, you mentioned that technicians have a lot of money, which is an interesting comment. What would that number look like if you compared the DT order growth on a per head or per franchisee basis? I'm trying to understand what's really happening here. I heard some of Mark's response, but I'm still not entirely sure. I appreciate the dynamics driving this. Is it pandemic-related, new product-driven, or a combination? If possible, could you rank the influencing factors? Any insight would be great. Thank you.

We are observing an increase in spending per technician and higher average sales per distributor, which is accompanied by a growing number of distributors on the road. This improvement isn't solely due to new advertisements; we are also experiencing record-low delinquencies and a decrease in the number of people on credit hold. In response to your question about what is driving this change, yes, the introduction of new and desirable products plays a role. However, I believe that the competition for consumers' disposable income has become somewhat less intense. For instance, people are perhaps opting against expenses like a Disney cruise and are choosing instead to invest in tools and other items. While it can be challenging to pinpoint the exact reasons, we engage extensively with distributors to gain insights. What is evident, as Mark highlighted, is that consumers are redirecting their spending away from other areas. The technician environment is in good shape; they have disposable income and are opting to spend it on tools.

Yes. Very impressive. Thank you, both. Appreciate it.

Thanks for the follow-up here. I just want to maybe dig into the supply chain constraints that you've been referring to now for the past three or four months. It sounds like, you want to rebuild inventory a little bit, maybe that helps but maybe just dig in a little bit deeper in terms of where you're seeing the real pressure points and the degree to which it's strolling your sales growth or maybe causing some share to shift around a little bit here. Any idea there would be helpful.

Yes. Managing the supply chain and logistics is a daily challenge. Our team is putting in a tremendous amount of effort, which often goes unrecognized. I tend to hear about their work only when issues arise. One key area of concern is the supply of chips for electronics used in dispensers, which is particularly difficult to manage. We need to have a plan for every component and accurately forecast to manage our suppliers. This is all part of our operations, and I am extremely proud of their efforts. On the Matco side, the supply chain dynamics are different. We source a lot of our products, which involves long shipping times. If we had been able to reduce our backlog significantly, we could have seen much higher growth this quarter. It’s a unique situation compared to some competitors who manufacture in-house and have more control. We are continuously introducing new products, with about 30% being new to the market, which further complicates supply management through our suppliers. Overall, we are improving our management of the supply chain from quarter to quarter, and I believe we are performing better than many others. However, there are still challenges ahead, including ongoing inflation and necessary price increases, all of which are part of managing this situation. Thank you for your question.

Thanks a lot. That's great. And then just quickly on Tritium. I think at the end of this year you got a decision to make regarding that option. I know you're bound by confidentiality clauses, but is the cost to take control is that market value kind of market price-based, or was there some option price already negotiated there? Any color there would be helpful.

Hi Nigel, yes, I understand. I think those aspects of the mechanisms and things are I would say are kind of captured in that confidentiality of the agreement, so we wouldn't be able to go there.

Okay. I understand. Yes all right. Thanks guys.

Yes. Thanks for the follow-up. Mark could you just speak to EMEA as a region? I think you referenced softness. I don't know if that was to Western Europe being down or if it just grew at a mid-single-digit rate. But just speak to the softness that you were seeing there obviously on mobility side of the business, but...

Our business in Europe experienced a low double-digit decline, largely due to shutdowns and the impact of COVID during Q1. However, the Middle East and Africa represent significant growth opportunities for us, indicating a different dynamic in those regions. I hope that provides some clarity.

And that slowdown on the COVID side raises the question of whether that business simply ends up in backlog or if there were no orders at all because of that.

Yes. No, I think there's clearly a backlog that can be served. Yes. Thank you, Dorothy. Look, our greater focus on a critical few items grow, both taking advantage of EMV to gain share as well as ex EMV growth, our focus on innovation, our focus on simplification to drive greater margins, I think all these things are gaining traction. And I couldn't be more proud of our team to have a strong start of the year to build momentum. So more to come folks. Thank you for joining on today's call.

Thank you, ladies and gentlemen. That does conclude today's conference call. We thank you for your participation and ask that you please disconnect your lines.