Watts Water Technologies Inc Q2 FY2021 Earnings Call

Thank you for standing by, and welcome to the Watts Water Technologies Second Quarter 2021 Earnings Conference Call. At this time, all participants are in a listen-only mode. After the speaker's presentation, there will be a question-and-answer session. Operator provided instructions. I would now like to hand the conference over to your speaker today, Timothy M. MacPhee, Treasurer and Vice President, Investor Relations of Watts Water Technologies Inc. Thank you. Please go ahead, sir.

Thank you, and good morning, everyone. Welcome to our second quarter earnings conference call. We're glad that you could join us. With me today are Bob Pagano, CEO and President; and Shashank Patel, our CFO. During today's call, Bob will provide an overview of the second quarter and discuss the current state of our operations and markets. He will also update you on our smart and connected and sustainability efforts. Shashank will discuss the details of our second quarter performance, provide an initial outlook for the third quarter and offer a revised outlook for the full year 2021. Following our remarks, we will address questions related to the information covered during the call. Today's webcast is accompanied by a presentation, which can be found in the Investor Relations section of our website. We will reference this presentation throughout our prepared remarks. Any reference to non-GAAP financial information is reconciled in the Appendix to the presentation. Before we begin, I'd like to remind everyone that during the call, we will be making certain comments that constitute forward-looking statements. These statements are subject to numerous risks and uncertainties that could cause actual results to differ materially. For information concerning these risks, see Watts publicly available filings with the SEC. The company disclaims any intention or obligation to update or revise any forward-looking statements, whether as a result of new information, future events or otherwise. I will now turn the call over to Bob.

Thanks, Tim, and good morning, everyone. I want to start the call by thanking our 4,500 global employees for their continued dedication and hard work during these challenging times. They've been navigating a robust demand environment and at the same time, managing through persistent supply chain constraints and the emergence of COVID-19 variants. I'm proud of our team's efforts to support our customers while remaining safe in the workplace. With that, please turn to Slide 3 in the presentation and I'll provide an overview of our Q2 performance. We anticipated a strong second quarter performance as the economy improved. However, demand was even better than we expected and our team delivered record results. As we guided last call, the February U.S. weather freeze provided a revenue tailwind in Q2 and we also benefited from our announced price increases. Adjusted operating margin exceeded our estimate, driven by incremental volume and our focus on productivity and cost management. Year-to-date, free cash flow is strong despite additional working capital needed to meet the current demand. In late June, we successfully completed negotiations to exit our manufacturing facility in Mery, France. This action will help to simplify our manufacturing structure and provide incremental productivity. We've taken a charge for GAAP reporting in the second quarter. We expect to realize the full savings by 2023. Shashank will provide more financial details in a few minutes. Now, let me provide a view on the markets. In general, the markets continue to move in a positive direction during the second quarter. GDP expectations for 2021 have trended up in many of our key global regions since the first quarter. So, we expect that should continue to drive repair and replacement activity. In the Americas, single-family residential new construction remained strong in the second quarter. Residential and non-residential repair and replacement activity was buoyant. These markets have more than offset weakness in multifamily new construction and certain non-residential new construction, especially in verticals like lodging and office buildings. Forward-looking data offer some hope that non-residential new construction may gain momentum in 2022. Europe markets were solid again in the second quarter, driven by repair and replacement activity. The wholesale market remained strong in France and Italy, while the OEM market held its own, especially in the electronics business. Here, we saw high demand from channel anxiety caused by component shortages in the market. We also saw heating OEMs continue to benefit from green initiatives driven by government stimulus. We are introducing our third quarter outlook with sales and margin improvements expected versus the prior year. And we have increased our full year adjusted outlook to account for the stronger second quarter and expected third quarter results. We are more encouraged about the markets in general, but still have concerns about non-residential new construction, supply chain issues, continued inflationary pressures and virus variants. On Slide 4, I'd like to update you on our smart and connected journey. We continue to introduce new connected products in the marketplace based on customer feedback. The tekmar snow melt controller has a snow ice sensor interface designed specifically to integrate into building management systems. It was developed to eliminate the need to write custom code, which is a time and cost saver for the contractor. In addition, the challenge of commissioning, testing and then maintaining the code is made easier. The tekmar snow ice interface provides proven snow melt functionality in a simple to integrate device. HF Scientific's Copper Silver Monitor or CSM is designed to monitor the level of copper and silver ions in a plumbing system down to the parts per billion range. Copper-silver ionization has emerged as one of the leading technologies used in mitigation of waterborne pathogen growth, specifically Legionella in the plumbing systems of healthcare and hospitality facilities. By monitoring ion concentrations daily, the CSM allows copper-silver ionization systems to more accurately regulate their disinfection levels. Under dosing reduces the efficacy of the system, while overdosing increases operating costs and risks to patient and guest health. During the second quarter, the percentage of smart and connected product sales to total sales increased sequentially as compared to the first quarter as well as to the full year 2020. We continue to make progress toward our goal of 25% smart and connected product sales by 2023. Now, on Slide 5, I'd like to update you on our sustainability efforts. We are focused on and committed to having a positive impact in the world. This commitment is leading us to deploy ongoing initiatives to reduce energy, water and waste usage within our own organization as well as developing solutions to support our customers' sustainability goals. We also view our role as an employer, as an opportunity to affect positive change and are addressing diversity, equity and inclusion in our everyday actions. In June, we issued our most comprehensive sustainability report to-date, highlighting 2020 accomplishments in establishing some longer-term goals to reduce our environmental impact. In 2020, we reduced our water usage by 33% and our greenhouse gas emissions by 13%. Our product portfolio shift to eco-friendly products and solutions continues. This past year, sales of our condensing boilers and water heaters reduced more than 110,000 metric tons of CO2 for our customers, more than four times what Watts generated as a company. We have maintained our partnership with Planet Water, providing funding and resources to install water purification systems for disadvantaged areas of the world. To-date, we have positively impacted over 30,000 people in eight different countries, providing safe drinking water and education on the importance of proper hand sanitization. Later this year, we'll be sponsoring additional sites as part of a Global Handwashing Day initiative. Concerning diversity, equity and inclusion, we commenced our first internal DE&I survey to employees. We've revised our recruiting guidelines and training manuals to include new diversity-based standards. We've begun partnerships with several historically black colleges and universities, supporting programs that we hope will garner future Watts employees, and we've initiated multiple diversity employee resource groups to promote education, awareness and inclusivity. Let me turn the call over to Shashank, who will discuss our second quarter operating performance and provide more detail on our third quarter and revised full year outlook. Shashank?

Thanks, Bob, and good morning, everyone. Please turn to Slide 6 to review our second quarter consolidated comparative results. Sales of $467 million increased 38% on a reported basis and 32% organically, driven primarily by the global economic recovery. Sales benefited from a 5% foreign exchange tailwind and acquisitions added 1%. Adjusted operating profit increased 85% and adjusted operating margins expanded 380 basis points to 14.9%. Both measures were driven by increased volume from easier compares to last year, price, productivity and cost actions. This more than offset incremental investment spend, inflation and the return of expenses related to business normalization. Adjusted earnings per share increased 100% as compared to last year from the better operating result as well as favorable below the line items and our foreign exchange benefit. Our adjusted effective tax rate was 27.1% compared to 26.4% in the prior year period. As a reminder, last year included a benefit from a discrete item related primarily to the foreign exchange impact of repatriations. As Bob mentioned, we have completed negotiations to exit our facility in Mery, France. Total pretax exit costs approximate $26 million, which includes approximately $2 million in non-cash charges. Most of the costs are severance-related and are expected to be incurred through 2022. For GAAP purposes, we booked approximately $18 million of those costs in the second quarter and expect approximately $2 million in additional restructuring charges in the second half of 2021. Full year pre-tax run rate savings should approximate $5 million, which should be fully realized in 2023. We expect about $0.5 million in savings this year, largely in the fourth quarter. Free cash flow was $65 million through June 30th, up 160% from the same period last year. The increase was due to improvements in net income and lower net capital spending. Our goal remains to achieve free cash flow conversion at 100% or more of net income for the year. The balance sheet remained strong. Gross leverage was 0.7 times and net leverage was negative 0.2 times. Our net debt-to-capitalization ratio at quarter end was also negative at 4.5%. During the quarter, we repurchased approximately 31,000 shares of our common stock at an investment of $4 million, primarily to offset dilution. Turning to Slide 7 and our regional results. The region experienced organic sales growth of between 28% and 51% during the second quarter as compared to last year, amid a strong economic recovery. Sales also benefited from favorable foreign exchange in Europe and APMEA by 14% and 10%, respectively. Acquisitions benefited APMEA sales by 14%. The Americas had an estimated 5% revenue tailwind from the continuing benefit of the February weather freeze in South Central United States. The Americas experienced strong repair and replacement activity and growth in single-family residential markets. Growth was across all major platforms with plumbing related products especially strong. Americas' adjusted operating profit increased 54% and adjusted operating margin increased 270 basis points to 17.7%, driven by volume, price, cost actions and productivity, which was partially offset by incremental investments, inflation and the return of expenses related to business normalization. Europe delivered another solid quarter with sales growth in all major regions and platforms. The wholesale markets in France and Italy remained strong and we saw good growth in Germany and Italy OEM sales. Electronics sales increased as pre-buying by customers continued from market concerns around component shortages. Europe's adjusted operating margin increased 700 basis points to 17.1%. This was driven by volume, price and cost actions, which more than offset investments, inflation, the return of expenses related to business normalization and the loss of benefits from government employment subsidies. APMEA's second quarter sales increased double-digits, both inside and outside China. China sales continued to benefit from commercial valve demand in data centers. Outside China, New Zealand was strong due to residential demand and the Middle East is slowly improving as the region benefits from higher oil prices. APMEA's adjusted operating margin increased 460 basis points to 17.9%, driven by trade volume, a 61% increase in affiliate volume, productivity and cost actions, which more than offset inflation. Moving to Slide 8 and general assumptions about our third quarter operating outlook. We are estimating consolidated organic sales growth for the third quarter to be 8% to 12% over the third quarter of 2020. Versus last year, we should see the benefit of additional volume and price increases allowed through June. We have announced a third price increase in the Americas, which goes into effect in September, but we anticipate minimal benefit in the third quarter. Acquired sales should approximate $2 million. We anticipate that our adjusted operating margin could range from 13.7% to 14.5% in the third quarter, driven by volume and price, partially offset by investments of $6 million and incremental cost of $7 million related to the return of discretionary spend. Corporate costs should approximate $13 million in the third quarter. Interest expense should be in line with Q2 at about $1.5 million. The adjusted effective tax rate should approximate 27%. Foreign exchange is expected to be neutral to slightly positive to last year should current rates persist throughout the quarter. Now, please turn to Slide 9 and I will review our revised full year 2021 outlook. From an organic perspective, we expect Americas' sales growth to be in the range of 9% to 13% for 2021. This is higher than anticipated in our May outlook and is being driven by stronger growth in non-residential repair and replacement due to higher GDP expectations, a stronger North America residential market and the third price increase recently announced. Sales should increase by about $5 million for the full year from acquisitions. We expect adjusted operating margins in the Americas to be up versus 2020, driven by the drop-through benefits of additional volume, including the freeze impact. We also expect that price will more than offset cost inflation for the year. For Europe, we're forecasting organic sales to increase between 10% and 14%. In France, the increase will be driven by continued residential market growth and government energy incentives will drive the growth in Germany and Italy. Adjusted operating margin should be up from incremental drop-through on volume, price and cost savings initiatives. In APMEA, we now expect organic sales to grow from 23% to 27% for the year. Sales also increased by approximately $6 million from the AVG acquisition in the first half of 2021. We anticipate adjusted operating margin for the year to be up as compared to 2020 from third-party and affiliate volume drop-through. Consolidated organic sales growth for the full year is expected to range from 10% to 14%. This is approximately 7.5% higher at the midpoint from our previous outlook and is primarily driven by better global end market expectations and our third price increase in the Americas. We anticipate adjusted operating margin will be up by 100 basis points to 150 basis points year-over-year, driven by the incremental volume drop-through, price, restructuring savings of approximately $12 million, partially offset by $32 million of incremental investments and expenses related to business normalization and general inflation. And now regarding other key inputs. We expect corporate costs will approximate $48 million for the year. Interest expense should be roughly $7 million for the year. Our estimated adjusted effective tax rate for 2021 should approximate 27.5%. Capital spending is expected to be in the $35 million range. Depreciation and amortization should approximate $46 million for the year. We expect to continue to drive free cash flow conversion equal to or greater than 100% of net income. We are now assuming a 1.21 average Euro U.S. dollar FX rate for the full year versus the average rate of €1.14 in 2020. Please recall that for every $0.01 movement up or down in the euro-dollar exchange rate, our European annual sales are impacted by approximately $4 million and our annual EPS is impacted by $0.01. We expect our share count to approximate 34 million for the year. So, with that, let me turn the call over to Bob before we begin Q&A. Bob?

Thanks, Shashank. To summarize, let me leave you with a few key themes. Second quarter results were better than expected as activity improved during the quarter, helped by the global economic recovery, a strong repair and replacement market and the U.S. weather freeze tailwind. We have announced a third price increase in the Americas as inflation and supply chain costs continue to rise. Markets are supportive and the leading indicators for non-residential new construction are positive entering 2022. We continue to invest in long-term growth opportunities, especially in smart and connected solutions and in productivity-enhancing technology in our manufacturing facilities that support our long-term strategy. We have also increased our full year investment spend. During the second half, we expect to see increased costs on necessary investments, such as in-house training as business normalizes from pandemic levels. Still, we continue to closely monitor expenses. We expect to see improvement in third quarter results versus last year. Our full year outlook has been raised for both sales and adjusted operating profits, given the stronger than anticipated second quarter results and expectations for Q3 in the second half. With that, operator, please open the lines for questions.

Operator provided instructions. And your first question comes from the line of Nathan Jones with Stifel.

Good morning everyone.

Hi Nathan.

I'd like to start off just focusing on a comment you made during your prepared remarks, Bob, about high demand from channel anxiety. I think that was a specific comment about some European markets. Maybe you could comment more broadly on your feeling about your customer distributors potentially over ordering a little bit here, trying to get to the front of the line. Everybody is trying to lock in their own supply chains. Any color you have on what kind of your sell-in versus sell-through is?

Yes. Nathan, I think we are seeing some of that inside of the channels all over, in particular, in North America and Europe. Europe, I commented on that because of our electronics business in Europe. We actually were pushing our customers to give us their orders so we could understand how much they really needed, so we could lock in our supply chain from an electronics point of view. So, again, I think there are some buys out there. I think people are beating price increases, but we are seeing sell-through in the channel. People want inventory and when we get the inventory, it's pushing through right now. So, again, there's some pent-up demand as we saw GDP and opening up of the economy has been strong. So, we're watching it very closely. But we believe based on our July results so far that it's all in line with our forecast for the third quarter.

Yeah. It seems like the markets are getting much better as well. You announced another price increase for September. Obviously, inflation continues to go up, freight costs continue to go up. Can you talk about where you expect to be on price cost for the full year? And what maybe the price carryover into next year would be?

So, in the first half, if you think about price and material cost, net of the two were slightly positive. As we've talked about, we always try to stay ahead of the curve and that's why we're looking at that our third price increase in the Americas. The second one went into place through July 1 between Americas, Europe and the rest of the world. As we think about how much of that goes into 2022, it's a little early because we still have to get to the realization of the second and third price increases. We'll give more color on that in the next call. But certainly, on a year-over-year basis because of the timing, there will be incremental benefits in 2022.

Got it. And you said you're slightly positive on first half. Do you expect to be neutral or slightly positive in the second half or some lag as pricing catches up to inflation?

We always expect to be ahead, Nathan. You know how we run this business. So, we're in front of it.

Not surprising. Thanks for taking the questions.

Thanks, Nathan.

Thank you.

Operator provided instructions. Your next question comes from the line of Jeff Hammond with KeyBanc Capital Markets.

Hey, good morning guys.

Good morning Jeff.

Good morning Jeff.

So the European results are very impressive, particularly on the margin side. And I know this has been kind of an ongoing effort, but just trying to unpack the margin improvement here over the last couple of quarters and how much you think is mix versus structural improvements?

I think it's a combination of both. In France in particular, there was some pent-up demand; we're strong in residential there. So, we're seeing some of the same patterns we saw in North America, just delayed a little bit, and people are staying home and doing DIY and various things in their local houses. In addition, the energy incentives in Germany and Italy have helped some of our OEM business. And regarding electronics, we're seeing people put in orders quickly. Those items between France and electronics were favorable mix for us for sure. When we look at our fixed cost structure, we continue to work on that. We announced the Mery, France closure that's taken us a while to do, and we've been taking out costs all along in this platform. With higher volume, we're getting better leverage in our fixed cost structure. So, it's volume related. I think it may taper off a little bit as we get going, but we're always focused on improving. I'm proud of the team's effort to hit that record operating margin and take advantage of the volume opportunities where we could.

Okay. Great. And then can you quantify price, how much price was in the quarter? And how you think price plays out in the second half?

In the second quarter, on a global basis, our price was about 2%. We got the second price increase that went into effect from, let's say, the end of May to the end of June time period, and that will benefit us in the third quarter. The Americas price increase, the third one, will benefit us in the fourth quarter. For quantification, the second price increase is in the 5% to 10% range. Typically, our realization rates are about 50%, and that's the closest one to us. So, 5% to 10% is the price increase, with about half of that realization. The third one in the Americas is early days on that one.

Okay. And then just last one. Bob, you still seem a little less certain on kind of new commercial construction recovery. Can you just talk about what you're seeing from an order activity standpoint? And what does that tell you about timing for an inflection there?

We have to estimate that because we sell through the wholesale channel. Our market intelligence suggests lodging, stores, office buildings and recreation have been slow. But we look at reports like the ABI and Dodge Momentum, and they are projecting more positive growth. We've seen some pickup in education markets and in institutional healthcare. There are labor shortages and they are regional. We watch loan data for new construction and that's starting to move in the right direction. We're seeing big quotes on new projects. So, I think things are starting to move in the right direction. The significant bump in repair and replacement has been nice to offset some of the weakness. It's encouraging to see new construction indicators starting to move forward.

Okay. Thanks, Guys.

Thank you.

Operator provided instructions. Your next question comes from the line of Ryan Connors with Boenning & Scattergood.

Great, thanks for taking my questions. First off, just a bigger picture one. If we assume that at least part of what's going on in the markets is the impact of just increased money supply, just general inflation on a monetary basis and that driving not only the raw material costs higher, but driving demand in the end markets as well, what are your thoughts about the potential unraveling of that in the future as the Fed steps back and contracts money supply? What's the scenario analysis in terms of how that impacts, not only the markets, but the margins and the price cost as all that maybe gets walked back in the next 12, 18 months, if in fact that kind of happens?

I still think we're in a low interest rate environment going forward. Although rates may rise a little, I expect they will remain relatively low. A lot depends on the virus and variants and potential lockdowns. There are labor shortages as well. There's pent-up demand and some projects are out there. Over a 10,000-foot view, repair and replacement, which is about 60% of our business, tends to follow GDP, and new construction follows the remaining 40%. GDP has gone up significantly this year, around 5% globally, which supports activity. I think that will taper down, but construction will continue as things open up. If some bills pass, there could be investments in healthcare and institutional areas. We're watching this closely and that's how we're looking at the environment.

Okay. And I guess, specifically, what I'm trying to drive out there is price cost. If some of this liquidity gets sucked out of the economy and that has an obvious effect on commodity prices and things like brass, do you believe you can hold a significant amount of the price you've gotten and then realize the benefit of that in the margin? Or do you think in that kind of scenario, you'd be just sort of the market would force you to give some of that, most of that back?

I think we'll have to give some of it back. It will be our goal and our team's goal to keep as much of it as we can by leveraging our differentiated products that offer solutions versus commodity products. That's why our smart and connected initiative is focused on adding value. We look at the value we provide to customers rather than a strict cost-plus approach. We're watching the market and focused on providing higher value to our customers.

Got it. And then one last one, just to follow-up on the prior question there on non-resi. How important is office to watch longer term? That does seem like the one market where we've maybe got a structural change. I'm talking to you from a fully opened office where about 5% of people have elected to actually be here. It seems like maybe we are in a new normal in terms of remote work. How important is that market? And if it never really does come back, what impact does that have on you longer term, in terms of growth of business?

It's not significant, less than 5% of our business. We'll focus on the markets that are doing well. Our products are applicable across end markets, so we'll offset weakness in one area with strength elsewhere.

To qualify, that less than 5% is the new construction piece of our office sub-segment.

Okay. Thanks for your time.

Thank you.

Operator provided instructions. Your next question comes from the line of Bryan Blair with Oppenheimer & Company.

Thanks, good morning.

Good morning.

You've called a strong momentum across the repair, replace side of your portfolio. Drilling down a bit more, can you offer color on break fix versus retrofit activity and what your team is expecting differentiating between the two for the back half?

It's a combination of both. It's hard to determine precisely because demand is broad-based. Break-fix is about 40% and renovation is about 60%, somewhere around there. It's across the board—solid opening up, people are renovating, and there is only so long you can hold off plumbing repairs before you need to do them. We saw some of that in Q2 and some continued demand in Q3.

That's fair, and good to hear. Just a level set on the revised guide, Shashank can you walk through some of the pricing dynamics? But if we think of the 7 to 8 points that you've lifted the full year outlook, what's baked in for incremental volume versus price?

It's approximately half now, because some of those price increases go into effect July 1 and then the Americas one is effective October 1. If I were to break it out, it's roughly about half of that is incremental price and the other half is some of the incremental volume we've already seen in the second quarter.

Got it. Thanks again.

Thanks, Bryan.

Thanks, Bryan.

Operator provided instructions. Your next question comes from the line of Joe Giordano with Cowen & Company.

Yeah. Good morning.

Morning Joe.

When I think about the growth guide for the full year, the raise here — was the previous guide more just a reluctance to extrapolate what you saw a couple of months ago into the rest of the year and now we're just about three months later and we're still there or do you feel like something structurally changed for the better over the last three months?

When we gave guidance last time, there was still a lot of uncertainty about growth and the potential for slowdowns. I think we feel more confident now, and that's why we're more aggressive with our third quarter forecast and outlook. The second quarter last year was an easier compare globally because the world largely shut down. Our leading indicators and feedback from customers give us the confidence to bring some of the expectations forward for the rest of the year.

Yeah, fair enough. And then on the balance sheet, just thoughts there on capital deployment priorities. I know you guys want to — you're always looking and you have a pipeline, but if things don't — if prices are not where you need them to be, your thoughts on other sorts of usage of the balance sheet?

Our first priority is investing in ourselves and we continue to do that; that's our primary focus. We believe in a balanced capital deployment strategy as we always have. We'll look at alternatives and be patient and disciplined. There are opportunities for capital deployment, but we won't give up discipline. We'll continue to invest in organic growth and automation in our factories, maintain dividends and evaluate M&A when appropriate. Timing of any M&A is uncertain, but our priorities remain consistent.

Thanks guys.

Thank you.

Operator provided instructions. Your next question comes from the line of Michael Halloran with R.W. Baird.

Hey, good morning guys.

Good morning Michael.

Could you just go through how the uptake is going on the innovation and the connected strategy? Incremental spend is happening on the R&D side, which we like to see. Curious if receptivity is still gaining momentum, what the clients are saying and any context behind it?

We're getting very positive feedback on our innovation strategy, especially smart and connected. Smart and connected allow us to offer solutions to customers and address pain points. There's a shortage of plumbers and maintenance personnel, so connected products help anticipate issues or detect them before they become catastrophic. Everyone sees the benefit of that, especially amid labor shortages. Our percentage of smart and connected sales continues to increase sequentially and versus last year. The pipeline is full and the team is excited.

Thanks. Outside of some of the pre-buy activity you talked about in Europe, how do you think channel inventories are sitting here today?

Channel inventory compared to a year ago is probably flattish overall. However, channels want more inventory given current demand and supply chain concerns. It's a mixed bag. People are asking for more because they fear supply disruption.

Is that a challenge from a capacity perspective for you to meet at this point where inventory, supply chains are, and what the capacity looks like?

It's been a challenge mainly because of supply chain issues, but our team has worked tirelessly at finding alternative sources and staying ahead. The team is excelling in this area. We continue to build capacity where needed, but like everyone, we face labor shortages and supply chain constraints, and we're working hard to manage them.

Great. Appreciate it, Bob. Great quarter. Thanks.

Thanks, Mike.

Thanks, Mike.

Operator provided instructions. Your next question comes from the line of Walter Liptak with Seaport Research.

Hi. Thanks guys. Just as a follow-on first to the last one. Do you think you're getting market share because of supply? Are your competitors able to meet their channel partners' inventory needs?

I think we're holding our own or doing better. That's the best I can say.

Okay. All right, fair enough. I think in your commentary, you talked about some costs coming back in. I wonder if you could talk a little bit more about what those costs were that are coming back and maybe quantify them?

For the full year, we talked about business normalization costs which include travel, marketing communications, training and other items we cut back starting last March. That's about a $15 million headwind in 2021. In addition, last year we received government compensation incentives, primarily in Europe and a bit in China; those are not available this year. Last year also we had some pay cuts and related benefits for a few months. On top of that, we have about $17 million of incremental investment spend planned for this year. About half of that is in our smart and connected strategy, and the rest is product expansion or global market expansion.

Okay. All right. And I think you mentioned some expenses from travel and so forth. Have you lifted any kind of travel bands or are you allowing people to travel to and from your locations?

There's limited travel. I've been out to our sites and met with our sales team. International travel is still limited. It's more internal travel right now. Travel has started to ramp up, but we'll be watching the variants closely. We're balancing safety and the need to meet customers and employees.

I guess the reason I ask this is it’s important now—have you been able to figure out ways of selling to get around that travel or do you think it's important to have your channel partners coming into your facility for training on new products or are you able to get around that through digital ways?

We've been doing digital training and it's worked well, but there's pent-up demand for hands-on, in-house training. That training is very useful: troubleshooting, disassembling products, and practical instruction. It's scheduled for the fourth quarter and customers are pushing to open it sooner. If external people come into our facilities, we would require vaccinations. Digital training has been effective, but with many new product developments, hands-on training will be important to restart.

Okay. Great. Thanks for the color on that.

Thanks, Walt.

Thanks, Walt.

We have no further questions at this time. I would like to turn the call back over to Bob Pagano for closing remarks.

Thanks, everyone, for taking the time to join us today for our second quarter earnings call. We appreciate your continued interest in Watts, and we look forward to speaking with you again on our third quarter earnings call in early November. Stay safe and enjoy the rest of your summer.

Thank you for participating. This concludes today's conference call. You may now disconnect.