Kyra Yates:

Thank you, operator. Good morning, everyone, and welcome to Wabtec second quarter 2024 earnings call. With us today are President and CEO, Rafael Santana; CFO, John Olin; and Senior Vice President of Finance, John Mastalerz. Today's slide presentation, along with our earnings release and financial disclosures were posted to our website earlier today and can be accessed on the Investor Relations tab. Some statements we are making are forward-looking and based on our best view of the world and our business today. For more detailed risks, uncertainties and assumptions relating to our forward-looking statements, please see the disclosures in our earnings release and presentation. We will also discuss non-GAAP financial metrics, and encourage you to read our disclosures and reconciliation tables carefully as you consider these metrics. I will now turn the call over to Rafael.

John Olin:

Thanks, Rafael. And hello, everyone. Turning to Slide 7, I will review our second quarter results in more detail. Our second quarter results played out largely as we expected. We expected both revenue and earnings growth to be overshared versus our full-year growth expectations, but slightly tempered from our first quarter results. The primary driver of our first half results growing faster than our expected second half results is due to a shift in the combined production of our new locomotives and mods to the first half of this year from the second half, in an effort to more evenly load our manufacturing production across the four quarters. It is also important to note that we expect our second half revenue and margin to grow, but at a more tempered pace than we experienced in the first half. Within the second half, we do expect to grow revenue and earnings year-over-year in each quarter. However, we expect the third quarter's growth to be greater than the fourth quarter's growth. Sales for the second quarter were $2.64 billion, which reflects a 9.8% increase versus the prior year. Sales growth in the quarter was driven by the Freight segment, especially by equipment and components. For the quarter, GAAP operating income was $430 million, driven by higher sales, improved gross margin and an unrelenting focus on continuous improvement in productivity. Adjusted operating margin in Q2 was 19.3%, up 2.9 percentage points versus the prior year. This increase was driven by improved gross margin of 2.9 percentage points. GAAP earnings per diluted share were $1.64, which was up 54.7% versus the second quarter a year ago. During the quarter, we had net pre-tax charges of $6 million for restructuring, which were primarily related to our Integration 2.0 and our portfolio optimization initiative to further integrate and streamline Wabtec's operations. As you may recall, Integration 2.0 is expected to drive $75 million to $90 million of run-rate savings by 2025. And our portfolio optimization initiative will eliminate roughly $110 million of low-margin non-strategic revenue while reducing manufacturing complexity. In the quarter, adjusted earnings per diluted share was $1.96, up 39.0% versus prior year. Overall, Wabtec delivered another strong quarter, demonstrating the underlying strength of the business. Turning to Slide 8, let's review our product lines in more detail. Second quarter consolidated sales were up 9.8% as we expected. Our quarter results were driven by solid growth across all our business groups and further aided by a year-over-year increase in the combined new loco and mods as we have shifted our production and deliveries more to the first half versus the second half in order to more appropriately balance or level load our factories, thereby allowing us to be more consistent with our labor staffing, improve our quality and to gain manufacturing efficiencies. Equipment sales were up 36.4% from last year's second quarter, driven by robust deliveries of new locomotives and increased sales of mining equipment. Component sales were up 17.5% versus last year, largely driven by increased sales of industrial products, higher international sales and the acquisition of L&M in late Q2 of 2023, partially offset by lower North American railcar build. Digital Intelligence sales were up 2.1% from last year, where we continue to experience growth in international sales aided by higher PTC revenues, partially offset by lower revenues in our North American market. Our Services sales grew 2.3%. Sales growth was driven primarily by higher year-over-year overhauls and parts sales. Our customers continue to recognize the superior performance, reliability and availability of our fleet. In our Transit segment, sales were up 2.0%. During the quarter, we saw our aftermarket revenue grow 10%. On a constant-currency basis, sales grew 3.4%. The momentum in the Transit segment remains positive as secular drivers such as urbanization and decarbonization accelerate the need for investments in sustainable infrastructure. Moving to Slide 9. GAAP gross margin was 33.0%, which was up 2.9 percentage points from last year. Adjusted gross margin was also up 2.9 percentage points during the quarter. In addition to the higher sales, gross margin benefited from favorable mix between segments. Mix within the Freight segment was also favorable despite higher combined new locomotives and modernizations in the quarter. Foreign currency exchange was a headwind to revenue as well as gross profit and operating margin in the quarter. During the quarter, we also benefited from favorable fixed-cost absorption, increased productivity and benefits from Integration 2.0, as well as lapping last year's start of the Erie Strike in late Q2 of 2023. Our team continues to execute well by driving operational productivity and lean benefits. Now turning to Slide 10. For the second quarter, GAAP operating margin was 16.3%, which was up 3.4 percentage points versus last year. Adjusted operating margin improved 2.9 percentage points to 19.3%. GAAP and adjusted SG&A expenses were up versus prior year, but largely flat as a percentage of revenues. Engineering expense was $57 million, moderately higher than Q2 last year. We continue to invest engineering resources in current business opportunities, but more importantly, we are investing in our future as an industry leader in decarbonization and digital technologies that improve our customers' productivity, capacity utilization and safety. Now, let's take a look at segment results on Slide 11, starting with the Freight segment. As I already discussed, Freight segment sales were up 13.1% during the quarter. GAAP segment operating income was $391 million for an operating margin of 20.4%, up 4.5 percentage points versus last year. GAAP operating income included $5 million of restructuring costs, primarily related to Integration 2.0 and portfolio optimization. Adjusted operating income for the Freight segment was $462 million, up 34.3% versus prior year. Adjusted operating margin in the Freight segment was 24.1%, up 3.8 percentage points from the prior year. The increase was driven by improved gross margin behind strong operational execution, favorable mix, Integration 2.0 savings, and as we lap last year's manufacturing inefficiencies caused by the strike in Erie. At the same time, SG&A and engineering expenses were lower as a percentage of revenue. Finally, segment 12-month backlog was $5.50 billion, up 4.0% from the same period a year ago. The multiyear backlog was $17.93 billion, down 2.0% from the prior year. Turning to Slide 12, Transit segment sales were 2.0% at $724 million. When adjusting for foreign currency, Transit sales were up 3.4%. GAAP operating income was $82 million. Restructuring costs related to Integration 2.0 were $5 million in Q2. Adjusted segment operating income was $91 million. Adjusted operating income as a percent of revenue was 12.7%, up 1.6 percentage points from last year, driven by Integration 2.0 savings and favorable mix. Finally, Transit segment 12-month backlog for the quarter was $1.83 billion, down 5.0% versus a year ago. The decrease on a year-over-year basis was expected due to our focus on being more selective on the orders that we add to backlog, thereby expecting to drive improved long-term profitability. Now let's turn to our financial position on Slide 13. Second quarter cash flow was another highlight for the quarter, with operating cash coming in at $235 million. During the quarter, cash flow benefited from higher earnings and improved working capital, partially offset by a reduction of $230 million of securitization borrowings. We continue to expect greater than 90% cash conversion for the full year. Our balance sheet and financial position continue to be very strong as evidenced by, first, our liquidity position, which ended the quarter at $2.09 billion. And our net-debt leverage ratio was 1.6 times at the end of the second quarter, which was lower versus the same quarter a year ago at 2.4 times debt leverage. We continue to allocate capital in a disciplined and balanced way to maximize returns for our shareholders. During the quarter, we purchased $200 million of our shares and paid $35 million in dividends. With that, I'd like to turn the call back over to Rafael to talk about our 2024 financial guidance.

Kyra Yates:

Thank you, Rafael. We will now move on to questions. But before we do, and out of consideration for others on the call, I ask that you limit yourself to one question and one follow-up question. If you have additional questions, please rejoin the queue. Operator, we are now ready for our first question.

Daniel Imbro:

Good morning, everybody. Thanks for taking our questions.

Daniel Imbro:

Rafael, maybe I'll start on the new locomotive side. I think you mentioned in your remarks that the $600-plus-million order, one of the bigger Tier 4 orders you've had in a while. It's coming over multiple years from the slides. Any color you can provide just on how many years that contract is, when it should start up as we think about modeling it? And then to clarify, was that included in the 2Q backlog or was that assigned July quarter-to-date?

Daniel Imbro:

Great. Really encouraging. And for my follow-up, John, maybe just something on the guide, if we can dig into it a little bit. I think you're expecting, you said, revenue and earnings growth in the back half. I think the previous assumptions had been that margins would moderate through the year, but it looks like sequentially revenue is relatively flat. So can you talk about maybe what's changing on the cost side? Are costs increasing to drive that sequential deleverage on the margin piece on the operating margin? Is there some conservatism in that? How are you thinking about the operating margin outlook for the back half of the year after a strong first half?

Daniel Imbro:

Great. Appreciate all the color. Best of luck.

Operator:

Our next question comes from Angel Castillo from Morgan Stanley. Please go ahead with your question.

Rafael Santana:

Angel, we are tracking right on our revenue plan. We adjusted that in the first quarter, brought it up a bit largely for some of the things that we're seeing in the parking arena. That's right on track. Everything is tracking well. And I would kind of look at what we did in terms of EPS as fine-tuning the quarter. We brought it up $0.15 at the midpoint. Again, revenue is on track, but we did see a little bit of favorability in mix in the first half and the tax rate came in a little bit favorable. And I would say, Angel, that about, half that $0.15 is in the actuals in the second quarter and a little bit of favorability that we're expecting in the back half, and that is due to the same two reasons. Mix is going to be a little bit more favorable than we expected. However, still a headwind to the half. And then the tax rate is favorable. And we've also re-guided on the tax rate, bringing it down from 25 -- 25% to 24.5%. But, we're seven months into this thing and we feel very good about our overall guidance and how the back half is going to unfold and really in line with what we've talked about the last couple of quarters.

John Olin:

Well, Angel, thanks for pointing out the very strong first half, much appreciated. Yeah, the first half was up $469 million on a year-over-year basis. And what we're seeing there and why we're seeing that is if you recall a year ago, our working capital was still rising as most industrial companies were because of the supply disruptions. And we had a little bit of added in there with regards to the inventory we were building on with regard to a potential strike at the time. So in the back half of last year, we brought that inventory down quite a bit. The team did a fantastic job on managing it back down after the supply disruptions. And so what we're seeing in the first half is really lapping that higher working capital, so we're seeing significant strength there. Overall, we are expecting the guidance that we've had of over 90% cash conversion and we're looking to continue to deploy that, Angel, as we've talked about in the past. We're going to favor M&A. And with the excess cash, we'll buy back shares.

Rafael Santana:

Let me take on that. I mean, we're continuing to be really looking at M&A. The pipeline is as robust as it's ever been. We're going to be opportunistic here. What's going to drive decision-making is really making sure that we drive higher ROIC for the business and faster profitable growth. But we're going to be opportunistic here. And as we continue to see opportunities to return value to shareholders through share buybacks, we'll do so. And we feel we're very well-positioned here to drive long-term profitable growth.

Operator:

Our next question comes from Bascome Majors from Susquehanna. Please go ahead with your question.

Rafael Santana:

Yes. So, we see a strong pipeline of opportunity internationally. When we talked about Pakistan, I think one of the things that we've talked about is the opportunity to continue to modernize the fleets that are out there. We often emphasize the age of the fleet, and we have continued to invest on significant innovation that allows customers here to significantly reduce fuel by upgrading those engines. They can improve both reliability and availability of those units through those. When you think about modernizations, we largely -- we have a kit that’s shipped and we ultimately work with the customers on doing some of that internationally. But as you know, we have some of our locations around the world that we're very much equipped to do so, whether if it's in Brazil, whether if it's in Australia, whether if it's in Kazakhstan. And we'll leverage those as we work through. But I think what's exciting about the international opportunities, they're not concentrated in one single location. We're seeing our business be very competitive. If customers are looking for reliable, efficient power, if they're looking for value, we are seeing the business winning. I think we highlighted in the first half of this year, a significant order for us in West Africa. That's the kind of orders that's going to be executed in '26 and '27. So it's good to see the strength of international, especially I'm going to call -- bringing broader and broader visibility into conversion going out into '26 and into '27. So overall, I think good dynamics internationally, and we've seen that business grow between 4% and 5% -- our fleets grow 4% to 5% over the last five years and we continue to see good dynamics there.

Rafael Santana:

So I think we continue to see it mixed in North America. It's very customer-specific. So it really varies different levels of, I'm going to call fleet redundancy some customers might have or not. And I think you see that reflected on the significant order here we got in the second quarter. So it's customer specifics. I don't think -- when I think about what will make our customers invest, it's ultimately the value, the returns they obtain on really modernizing their fleets. What I'm happy to see is the innovation we're driving the business. A lot of the growth you saw here over the last few years, which was tied to the modernizations, largely connected to in a lot of ways what I'll call the 7FDL fleet, which is an older engine we have. We're doing the same thing now for the EVO engine. So in fact, we're going at the end of this year into really commercializing the EVO product, which will drive another five-plus-percent fuel efficiency and improvements for that fleet, and we're doing the same thing on Tier 4. So it's that continued innovation that's going to make customers come, modernize their fleets before they get to 25, 30 years of age. And that will drive both an element of a reduction in cost, which will improve OR on how they operate the fleets, but will also improve services with availability and reliability of those fleets. So all in all, I think we see strong coverage here as we progress forward for the business with the backlog we have.

Rafael Santana:

Thank you.

Unidentified Analyst:

Good morning. This is James on for Saree. Thanks for taking the questions.

Unidentified Analyst:

So I just wanted to follow-up on the Tier 4 locomotive orders in North America. What was the driver behind the customer ordering new locos versus modernization? And I believe Class 1s are generally fine with the number of locos they have, so I just wanted to understand like the conversation that you had with the customer and why they decided to go with the new locos. Thanks.

Unidentified Analyst:

Great. Thanks for the color. And as a follow-up, I want to touch on the digital, like North America kind of remained weak for a while, while international kind of continued to show strength. Can you talk about when you expect North America to recover and the driver behind the weakness here?

Unidentified Analyst:

Great. Thank you.

Scott Group:

Hey, thanks. Good morning. One -- just one more on the guidance. So I totally get the first half, second half comps. I just want to sort of look a little bit more on just like on an absolute basis. So op margins were 19.5% in the first half. If we're looking at the model right and guidance right, it sort of suggests that margins go a little bit below 18% in the second half. And I thought the message was more, hey, we're smoothing out mods and deliveries. And so I think we're seeing the revenue smoother. I guess, why aren't the margins smoother? And ultimately, I'm trying to figure out, right, is there sort of upside to the -- to sort of the implied margin in the back half of the year?

Scott Group:

And so ultimately, when we start thinking about '25 margins, maybe it's just too early to go there, but like should we -- is there -- is the first half or the second half you think more representative of like what the business should be as on a go-forward?

Rafael Santana:

Scott, the only thing I'd add there is I think we have good momentum coming from lean initiatives with productivity, cost actions driven by Integration 2.0. I think you're going to see more on portfolio optimization. And while I think you're going to continue to see variation, whether if it's quarter-to-quarter, half-to-half, we are kind of continue to expand margins ahead.

Rafael Santana:

Scott, we look at price very much connected to the level of differentiation and innovation that we bring into the business, which ultimately leads into value for our customers. And by driving value to our customers, we drive value for ourselves. And on those lines, we continue to expect to drive value for our customer share, which means, yes, we should be able to drive profitable growth ahead along those lines.

John Olin:

Thanks, Scott.

Operator:

Our next question comes from Jerry Revich from Goldman Sachs. Please go ahead with your question.

Rafael Santana:

Good morning.

Rafael Santana:

Yeah. So based on that ruling, I mean we can expect here, I think, that federal agencies will receive less deference to their regulations when, of course, our considerate agencies are acting within the authority here granted by Congress, Jerry. But as courts take a more prominent role here, I think they'll certainly have an impact to regulations pertaining to rail. I think the way I would think about it, there's a -- it could go in different ways, but if you think about like the two-person crew mandate, I mean that's certainly one area here. And the other one is really associated with the CARB emissions through that. So I think those are things that are going to play out over time, but I can't say we have seen necessarily a change in customer behavior associated with those. I think those are fairly fluid and still playing out.

John Olin:

With regards to the mix, Jerry, there's really three big drivers. And it's not only the second quarter, it's for the first half. And a lot of the favorability we're going to see in the first half is not going to be there or be a little bit of a headwind in the second half. The first area is in our equipment group, right? While the equipment group is a little bit lower than the average in terms of overall margin, we've had significant favorability. And that -- I'm going to take you back, Jerry, to an order that we had, an international order that wound up in the back half -- I'm sorry, the first half of 2023 that was very low-margin. And so in the first quarter, we're comparing against that and driving significant mix favorability. Again, that won't be there in the second half. The second area is with regards to our mining business. Our mining has been a good strong business for us and expected across the year. However, when we look at the production schedule, we are producing more OE in the first half and more aftermarket in the -- I'm sorry, more aftermarket in the first half and expect to do more OE in the back half. So that's going to turn from a tailwind to a headwind. And then the third area of mix favorability has been in our components group, driven by a couple of things. One is the international growth is greater in the first half. And within this product line, it's a higher margin. And then the second one is the cars that are being built for the railcar build, the orders that we got in the first half for specific cars are higher margin than in the back half. So the same thing there, we've got a benefit and then we're not going to have in the back half.

John Olin:

The answer would be overall, yes. And I guess I wouldn't be thinking so much as pre-COVID, but some of the strike ramifications all behind us, all the efficiencies are back where we would expect within our plants. As a matter of fact, John -- Jerry, when we look at the first half of this year, the operation on -- the operations have run extremely well. The operations team has done an admirable job of kind of post-supply disruptions and the strike at Erie of really driving great productivity. And you're seeing that in some of that 3.2 percentage points of lift in the first half due to productivity.

Rafael Santana:

Thank you.

Ken Hoexter:

Hey, great. Good morning. Rafael, John, I guess just a real quick one, clarify that North American order, did you mention that was a Class 1 railroad? Just to clarify that. And then looking at the margin expectation slide, you've got North American locomotive still down, railcar deliveries below historical average, Wabtec's share going up. Thoughts on sustainability of that share gain? I know there was lawsuits a while ago to kind of target that. I guess just how that's proceeded as new orders have come in? And then is there anything post the Chevron doctrine in terms of discussions on shifting from new-builds to mods or any discussions on that at this point yet?

John Olin:

Yeah. And with regards to the -- I think the question, Ken, was the railcar and market share. So going -- taking you back to the first half of last year, the supply disruptions were still in full swing, and we took an inventory position on that and it paid off very well. We gained a fair amount of market share because of availability. And we've seen a lot of that share -- it's tempered a bit, but we've seen a lot of that share stick. And again, I think it goes to the value of our products and the kind of the full service and the way we look at things in supporting and supplying our customers. So again, we're seeing that benefit this year in terms of holding on to a fair amount of that share.

Ken Hoexter:

All right. And then just a follow-up on the backlog was up 4% in the 12 months, but down 2% long term. Anything -- is the thought here that we're at past peak in terms of building that backlog, or is that -- you're going to tell me it's kind of lumpy and it comes in different things like the $600 million order? Any thoughts on the scale and size of backlog as we look into next year and beyond?

Ken Hoexter:

Great. Thanks, Rafael. Thanks, John.

Rob Wertheimer:

Thanks, and good morning, everybody. My question is on -- just a minor one on the front half, back half. John, you mentioned a couple of differences in mix between front and back half, which were helpful. Are you doing -- with the level loading, are you doing fewer mods in the back half than the front half? And is there any room for -- I think you mentioned 3Q a little stronger than 4Q. I don't know if that was absolute or year-over-year, but is there any room for fill-in in revenue still in 4Q?

Rob Wertheimer:

Well, is that flat to slightly negative one half versus two half or year-over-year? That's what I'm trying to sort of figure out on. I understand the mining thing you said was down, but -- yeah, sorry, go ahead.

Rob Wertheimer:

Okay, perfect. Sorry to be pedantic there. Thank you. And then I guess your Transit guys are getting lonely. You're having great margin progress, a couple of good quarters there as well. Just any commentary on the end markets on, you know, price versus inflation, just margin direction in Transit? And I'll stop there. Thank you.

John Olin:

Yeah, commenting on the 12-month backlog. They were down this quarter. They were a little bit tempered in the first quarter. And as you know and we've talked about, it's due on large part of our focus on being more selective on orders that we add to backlog. And Rob, that's in line with our effort to drive improved long-term profitability in the Transit business. We've seen the impact of the selectivity again in the first quarter to some extent, and we would expect to see it over the next few quarters as we build in a higher level of profitability in our backlog over time. But overall, the underlying strength and business of the Transit business is there, but we are going to see some shifts in timing of backlogs as we build in more profitability.

Operator:

And our next question comes from Steve Barger from KeyBanc Capital Markets. Please go ahead with your question.

Rafael Santana:

Good morning.

Rafael Santana:

We are, of course, much more highly penetrated in North America. If you think about the bulk of our products with -- if you think -- while if you think about internationally, we still have significant opportunities here. And I think some of that is really connected to some of the products. I mean, you think about Trip Optimizer, we still have ways to go into markets like Kazakhstan, for instance. If you think about PTC 2.0, I think you continue to have demand out there and you're going to see us grow into some of these markets. What I think is interesting also is some of the products like Zero-to-Zero, which we continue to work through regulation in North America, we're moving forward with those into our international markets. So to some extent, you could start seeing some degrees of automation potentially moving faster in the international markets given some of the dynamics in North America. So more and more, I think positive growth coming from international, still some of the dynamics I described earlier in North America.

Rafael Santana:

It is a multibillion dollar opportunity, so size is significant here. I think one of the things that I look at internationally is more the timing to get to some of these orders. You're fundamentally describing, in some cases, orders that might take a little bit more time to get those. And those are some really the work started by the group here a couple of years back, but glad to see the progress. I think you've heard from us on some of the orders we've gotten from PTC. You're going to see more of those orders outside of North America as we continue to progress.

John Olin:

No, Steve, we don't provide individual quarters in margins. I would just say that overall, a lot of businesses over time develop traits and that ends up being in the margin profiles. And I've always felt that it's more important to look year-over-year than sequentially. But we're not going to provide some specific thoughts on the fourth quarter.

Steve Barger:

Got it. And just, John, if I look at the last three years, you know, staying away from this year, what causes that -- has caused that margin step-up? Is that budget flush at customers or what -- why did that happen in the past?

Steve Barger:

Okay, thanks.

Operator:

And ladies and gentlemen, that will conclude today's question-and-answer session. At this time, I'd like to turn the floor back over to Kyra Yates for any closing remarks.

Operator:

And ladies and gentlemen, with that we'll conclude today's conference call and presentation. We thank you for joining. You may now disconnect your lines.

Kyra Yates:

Thank you, operator. Good morning, everyone and welcome to Wabtec's First Quarter 2024 Earnings Call. With us today are President and CEO, Rafael Santana; CFO, John Olin; and Senior Vice President of Finance, John Mastalerz. Today's slide presentation, along with our earnings release and financial disclosures were posted to our website earlier today and can be accessed on the Investor Relations tab on wabteccorp.com. Some statements we are making are forward-looking and based on our best view of the world and our business today. For more detailed risks, uncertainties and assumptions relating to our forward-looking statements please see the disclosures in our earnings release and presentation. We will also discuss non-GAAP financial metrics and encourage you to read our disclosures and reconciliation tables carefully as you consider these metrics.

Rafael Santana:

Thanks, Kyra and good morning, everyone. Let's move to Slide 4. I'll start with an update on our business, my perspectives on the quarter and progress against our long-term value creation framework and then John will cover the financials. Last quarter, when we met, we talked about the strong momentum that we had when we exit 2023. Well, that momentum continues. Sales were $2.5 billion, which was up 13.8% versus prior year. Revenue growth was driven by strong performance, largely from the Freight segment. And adjusted EPS was up 47.7% from the year ago quarter, driven by increased sales and margin expansion.

Rafael Santana:

Thanks, John. Now let's turn to Slide 15 to discuss our 2024 updated full year guidance. As you've heard today, our team delivered a very strong start to the year. We believe that the underlying customer demand for our products and solutions continues across our business. Our orders pipeline and 12-month backlog continue to be strong, providing visibility for the profitable growth ahead. With these factors in mind, we are increasing our previous guidance .We now expect 2024 sales of $10.4 billion at the midpoint, up 7.5% from last year and adjusted EPS to be between $7.00 and $7.40 per share, up about 21.5% at the midpoint. Finally, we continue to expect cash flow conversion to be greater than 90%. Looking ahead, I am confident that Wabtec is well positioned to drive profitable growth in 2024 and beyond.

Operator:

[Operator Instructions] Our first question comes from Justin Long with Stephens.

John Olin:

Great, Justin. When we look at the freight margins up 5.1 percentage points, we do not expect to end the year up 5.1 percentage points. There are a few things in there that are going to bring it down over the course of the back half. But overall, our margins are building from our guidance -- from the last guidance to this guidance. We feel very good about the way the year is going but specifically, Justin, on freight margin, let's talk about a couple of those pieces. One, there was great operational execution that led the increased productivity, that we would expect would continue.

Rafael Santana:

So Justin, you're right there. I mean, the public comment period was due last Monday. They had a public hearing. I think the outcome here of the rule remains, I'll say quite fluid. So what I'll tell you is, we're technically very well positioned here to support customers for all outcomes. We've got the best-in-class products. We've got the lowest emissions, the lowest fuel consumption, best reliability, ultimately best availability and value for customers there. One thing that I would want to highlight is, the EPA also recently finalized the new standards for highway vehicles, which requires manufacturers to reduce greenhouse gas by 25% for the heavy truck fleet.

Operator:

The next question comes from Bascome Majors with Susquehanna.

Rafael Santana:

Bascome, let me start here because, #1, we're confident on the fundamentals of the business. I mean we've had a strong performance and over the last years and now in this quarter and hopefully comes through here, the team's commitment and the robustness of the strategy. I think we're continuously innovating. I think that's been a key piece, even if you think about mods or new locos. We're continuously adapting to some of these market changes to ensure we remain in a growth trajectory. We've been actively managing our pipeline to really convert some of these opportunities into tangible results. I think we've also continued to take proactive steps when challenges arise in this process.

John Olin:

Yes. Bascome, when we look at locos and mods over the long term, we would expect it to provide a headwind on overall mix. And again, we talked about this. There's good mix and bad mix and this is a really good mix because it puts an asset out there that we're going to make money off of for decades to come. But if we look more nearer in, when we look at -- in the first quarter, as well as the first half, we are actually getting some mix favorability from locos and mods because of what we're comparing to in the year ago period. If you remember in the year ago period, we had talked about an international order that was -- that we delivered over 4 quarters, the back half of '22 and the front half of '23 that was very low margin as we moved into a market. So that's providing some of the mix that you're seeing and that will just be in the first half.

Angel Castillo Malpica:

Congrats on a solid quarter. Just wanted to talk about your decarbonization slide, very strong performance there and just the second half deliveries in terms of your targets for some of the alternative fuels is very impressive. So just curious, as you think about or you have conversations with customers, what are you hearing in terms of the benefits of some of these improvements that you're making in enabling your engines to deliver some of these savings. How is that impacting overall kind of discussions, order patterns and kind of expectations as we think about second half and then flowing into 2025?

John Olin:

Yes. Angel, #1 is, we expect a fair amount of free cash for the year. But we've got the balance sheet where we want it. And when I say that it's in that zone of 2 to 2.5x net debt leverage ratio, right, we're towards the low end of that and we feel comfortable with that at this point as well. Having said that, it's -- the cash that we generate, we will prioritize -- with the free cash, we will prioritize first M&A, if we can -- if we find good accretive strategic M&A. And then if not, we'll return the excess cash to our shareholders in the form of share repurchases and feel good about the start to the year in terms of share repurchases with $175 million purchased. But we're looking to return all of our excess cash to our shareholders throughout the year.

Ivan Yi:

This is Ivan Yi on for Scott Group. I wanted to touch on pricing here. I know you guys don't really give out any core pricing numbers but can you directionally talk about the how the pricing trends are kind of going? And what are your expectations for pricing sort of the rest of this year?

Operator:

The next question comes from Matt Elkott with Cowen.

Rafael Santana:

So I think, first, I mean, I think there's certainly an element of, I'll call it, overall life cycle cost that those units provide and that's how you got to keep that in mind. And those are investments that have been done over time that have really positioned our fleets to #1, be it the most efficient fleets at an engine level. So it starts there. It's continuous. If you think about our ability to provide service and support to those fleets, so our customers ultimately get not just the fuel efficiency but they get the reliability and availability of those units. And that comes with significant investments we've made over time on an engineering team that are able to really drive what I call continuous improvement to those fleets over time and really the service network that we've got and our ability to support customers across the globe on that.

Matthew Elkott:

Got it. That's very helpful. And just one follow-up question. I think John, back in February at the plant tour, you mentioned $110 million of revenue this year that could be discontinued to optimize margins. Could you provide an update on that?

Operator:

The next question comes from Jerry Revich with Goldman Sachs.

Rafael Santana:

No, we don't. In fact, I think there's continued opportunity here to drive profitable growth in the business. First, some comments in the quarter. I think they were very much in line with the expectations we had. And those were, some of them tied to the higher OE growth. We had high input costs and some of that was offset by Integration 2.0 savings. But in one end, while we are pleased with the overall progress that the business has had we are continuing significant work there to simplify the footprint, to further improve and sustain margins. So I think you're going to continue to see that variation quarter-to-quarter but the team here is very much committed to continue expanding margins, taking action to drive profitable growth and being more selective too, in terms of the opportunities we tackle, in terms of the differentiation we're able to provide in the products that we have.

Rafael Santana:

We -- as we look at longer term and over time, it's probably a range of 3% to 5%. It's probably a range that we should keep it in mind. But we continue to see favorable book-to-bill there. And I just would emphasize the first comment I made in terms of us being more and more selective about the opportunities that are out there.

Unknown Analyst:

This is James on for Saree. So I wanted to go back on alternative fuels here. So I think rails are -- I mean, while rails are focused on reducing CO2 emissions, I think fuel cost and efficiency also play a critical role here. So can you kind of talk about the economics of using alternative fuels such as biodiesel and renewable?

John Olin:

Yes, James, as we look forward in the business, we believe we see the mid-single digits on the revenue side and double digits on the EPS side. Nothing has changed based on our performance of this year or last year in terms of our longer-term view of the industry and our performance within that industry.

Operator:

The next question comes from Adam Roszkowski with Bank of America.

John Olin:

Yes, Adam, we are -- when we look at the cost from a cost standpoint, we are about $120 million, $125 million down the runway of what we were expecting of $135 million to $165 million and that's kind of realized in the first 2 years. And from a standpoint of savings, we run a run rate savings base at $22 million a year as we exited 2023. And with that, Adam, we are ramping up to that $75 million to $90 million that you mentioned as we exit 2025. So we would expect an escalation of the $60 million, the midpoint, $60 million, $65 million, whatever the midpoint is over the next couple of years and would expect that to be somewhat linear. But most of the projects have all been approved and are in different phases of execution and some are actually completing as well. And so we would expect those savings to ramp pretty quickly over the next 2 years.

John Olin:

Yes. When we look at -- from a growth perspective, margin growth perspective, we would expect the preponderance of that growth to be in the first half. We do expect growth, Adam, in the back half but not nearly at the level that we're seeing in the first half. And again, the first half is aided by the fact that revenue is going to be significantly -- the significant majority of revenue will be in the first half. And therefore, the P&L leverage will follow that. And as we've talked about, mix is going to be favorable in the first half and the second half. So we will see a step down in the revenue growth, it will grow and we'll see a step down in the margin growth.

Operator:

The next question comes from Steve Barger with KeyBanc Capital Markets.

Rafael Santana:

I -- there's certainly a choice to be made but it's really very customer-specific. So I wouldn't say there would be not necessarily a complete reversal of that and I do not expect cancellations in that regard. But there would certainly be an element of more thoughts towards really moving forward with the newer technology, especially as we include in that technology, the ability to take on those alternative fuels. I think that really provides the customer here, what I'll call the safe net to transition over time with the reversibility they need.

Rafael Santana:

So 2 comments. I do expect hydrogen to be, I'm going to call both tested and there could be an element here if government potentially steps in to create some corridors where you might be able to introduce that as an alternative fuel into the internal combustion engine. If your question is more around 100% hydrogen utilization, that's later down the road and that goes with fuel cells. That goes with irreversible technology. So that's going to take a bit more time on that. So that's not in the near or midterm.

Rafael Santana:

So we do that similarly. We do that today with LNG. We have a [indiscernible] that's, ultimately you have an engine that's able to mix up to 78% of LNG. So you should think along the same lines. At the same time, if there's any issues as you're running or availability of fuel is not there, you're still able to complete the mission with the current engine that you have on. So I think you could expect to see some experimentation there. There could even be some corridors but I think still going to be a niche application.

Kyra Yates:

Thank you, Dave and thank you, everyone, for your participation today. We look forward to speaking with you again next quarter. Goodbye.

Kristine Kubacki:

Thank you, operator. Good morning, everyone, and welcome to Wabtec's fourth quarter 2023 earnings call. With us today are President and CEO, Rafael Santana; CFO, John Olin; and Senior Vice President of Finance, John Mastalerz. Today's slide presentation, along with our earnings release and financial disclosures, were posted to our website earlier today and can be accessed on the Investor Relations tab on wabteccorp.com. Some statements we are making are forward-looking and based on our best view of the world and our business today. For more detailed risks, uncertainties and assumptions relating to our forward-looking statements, please see the disclosures in our earnings release and presentation. We will also discuss non-GAAP financial metrics and encourage you to read our disclosures and reconciliation tables carefully as you consider these metrics. I will now turn the call over to Rafael.

John Olin:

Thanks, Rafael, and hello, everyone. Turning to Slide 8, I will review our fourth quarter results in more detail. We finished the year with another solid quarter of operational and financial performance. Sales for the fourth quarter were $2.53 billion, which reflects a 9.5% increase versus the prior year. Sales were driven by strong growth across both the Freight and Transit segments. For the quarter, GAAP operating income was $308 million, driven by higher sales, improved gross margin, and focused cost management. Adjusted operating margin in Q4 was 17.0%, up 1.7 percentage points versus the prior year. This increase was driven by a higher gross margin of 1.2 percentage points, and 0.5 percentage points of lower SG&A and engineering expenses as a percent of sales. GAAP earnings per diluted share were $1.20, which was up 39.5% versus the fourth quarter a year ago. During the quarter, we had pre-tax charges of $47 million, of which $19 million was for restructuring, which was primarily related to our Integration 2.0 initiative to further integrate Wabtec's operations and to drive $75 million to $90 million of run rate savings by 2025. In addition, we are exiting some small non-strategic product lines and related assets, which generated a Q4 charge of $28 million. Finally, in the quarter, our acquisition of the remaining 50% interest in our LKZ assembly joint venture generated a gain of $35 million on our existing ownership interest. I will talk more about our progress on Integration 2.0 and portfolio optimization in more detail in a few minutes. In the quarter, adjusted earnings per diluted share were $1.54, up 18.5% versus prior year. Overall, Wabtec delivered another solid quarter, demonstrating the underlying strength of the business. Turning to Slide 9, let's review our product lines in more detail. Fourth quarter consolidated sales were up 9.5%. Equipment sales were down 19.3% from last year as higher mining sales were more than offset by lower locomotive deliveries during the quarter. Recall that second half locomotive deliveries, as planned, were significantly skewed to the third quarter. Total equipment sales for the year were up a very strong 15.8%. Component sales were up 17.4% versus last year, largely driven by the higher demand for railcar products, along with increased sales from industrial products. Sales also benefited from the acquisition of L&M earlier in the year by $32 million. Digital intelligence sales were down 6.7% from last year, which was driven by lower revenues in our North American market, partially offset by higher demand for international PTC, next-gen on-board locomotive products, and digital mining. Our services sales grew 23.9%. Sales growth was driven by significantly higher modernization deliveries. In contrast to new locomotive sales, our planned second half mods deliveries were significantly skewed to the fourth quarter. Additionally, parts sales continued to show strength as our customers continue to recognize the superior performance, reliability, efficiency, and availability across their Wabtec locomotive fleets. Across our Transit segment, OE and aftermarket sales increased versus last year. Segment sales were up 14.3% to $728 million, behind execution of our growing backlog. The momentum in this segment is strong across our core markets as secular drivers such as urbanization and decarbonization accelerate the need for global investments in sustainable infrastructure. Moving to Slide 10. GAAP gross margin was 30.3%, which was up 2.0 percentage points from Q4 last year. Adjusted gross profit margin was up 1.2 percentage points, driven by higher sales, favorable price/mix, and foreign currency exchange, as well as improved productivity. Our team continues to execute well to mitigate the impact of continued cost pressures by driving operational productivity and lean initiatives. Now, turning to Slide 11. For the fourth quarter, GAAP operating margin was 12.2%, which was up 1.5 percentage points versus last year, while adjusted operating margin improved 1.7 percentage points to 17.0%. GAAP and adjusted SG&A expenses were down as a percentage of revenue as we leveraged higher sales with a strong focus on managing costs. Engineering expense was $61 million, about flat with Q4 last year. We continue to invest engineering resources and current business opportunities, but more importantly, we are investing in our future as an industry leader in decarbonization and digital technologies that improve our customers' productivity, capacity utilization, and safety. Now let's take a look at segment results on Slide 12, starting with the Freight segment. As I already discussed, Freight segment sales were up 7.7% during the quarter. GAAP segment operating income was $246 million for an operating margin of 13.7%, up 1.2 percentage points versus last year. GAAP operating income includes $28 million of portfolio optimization costs. Adjusted operating income for the Freight segment was $347 million, up 22.2% versus the prior year. Adjusted operating margin in the Freight segment was up 2.3 percentage points from the prior year at 19.3%. The increase was driven by significantly higher gross margin, which benefited from higher sales, favorable price/mix, and improved productivity and absorption. At the same time, SG&A and engineering expenses were lower as a percentage of revenue. Finally, segment 12-month backlog was $5.45 billion, up 11.2% from the same period a year ago. The multi-year backlog was $17.83 billion, down 4.3% from the prior year. Both our 12-month and multi-year backlogs demonstrate good visibility into 2024 and beyond. Turning to Slide 13, Transit segment sales were up 14.3% to $728 million. When adjusting for foreign currency, Transit sales were up 9.9%. GAAP operating income was $86 million, up 36.5%. Restructuring costs related to Integration 2.0 activities were $17 million in Q4. Adjusted segment operating income was $108 million, which was up 13.7%. Adjusted operating margin of 14.9% was up 0.1 percentage points from last year, driven by the benefits of volume growth and Integration 2.0 savings. Finally, Transit segment 12-month backlog for the quarter was $2.01 billion, up 8.0% versus a year ago. The multi-year backlog was also up 9.7% to $4.17 billion. Moving to Slide 14, over the next two slides, I would like to touch on both our progress against our Integration 2.0 initiative, as well as provide details on our portfolio optimization. The efforts of both these programs in 2024 will unlock greater profitability and margin expansion across the portfolio. With regards to Integration 2.0, recall that during our Investor Day in 2022, we announced a restructuring program comprised of estimated one-time expenses between $135 million and $165 million, that would yield an incremental $75 million to $90 million of run rate savings by 2025. These savings are to be achieved through a combination of actions which simplify, streamline, and consolidate parts of our operations. With program-to-date restructuring expenses of $118 million, we achieved $22 million of run rate savings as we exited 2023. We expect savings to ramp more meaningfully in 2024, and we remain on track to meet our 2025 goals. Now turning to Slide 15. As you are aware, we are very focused on driving improved shareholder value through the addition of strategic bolt-on acquisitions with accretive earnings, margins, and return on invested capital. In the second quarter of 2023, we acquired L&M, a business that is very complementary to our heat transfer portfolio and enhances our mining installed base. In the short time that we've owned this business, we are pleased with its performance, and more importantly, we are excited about its future potential for driving long-term profitable growth for Wabtec. Also, as Rafael stated, late in the fourth quarter, we acquired the remaining 50% stake of our unconsolidated LKZ assembly joint venture in Kazakhstan for $81 million net of cash received. As a result of the transaction, we recorded a $35 million non-cash gain in the quarter, which is excluded from adjusted earnings. Going forward, this business will be 100% owned by Wabtec and consolidated in our financial results. We would expect virtually no impact to sales and limited benefit to earnings in 2024. We're also announcing today the exit of some non-strategic product lines in 2024. Pruning of these product lines will improve focus in profitability, while reducing manufacturing complexity. Sales from these product lines totaled about $110 million of sales in 2023, and represented a lower-than-average margin profile. The expected net exit charges of roughly $85 million are largely non-cash, of which we recognized $28 million of non-cash charges in our Q4 GAAP results. Both our progress against our Integration 2.0 initiative and the announced portfolio moves will help position Wabtec to drive multi-year margin expansion. Now, let's turn to our financial position on Slide 16. Fourth quarter cash generation was strong at $686 million, resulting in total cash from operations of $1.2 billion versus $1.04 billion in the prior year, an increase of 15.7%. Cash flow benefited from higher earnings and improved working capital. Our balance sheet and financial position continue to be strong. We ended the quarter with liquidity of $2.12 billion. And our net debt leverage ratio was 1.9 times at the end of the fourth quarter, which was favorable versus the prior year's 2.2 times debt leverage. During 2023, we invested $308 million on the strategic acquisitions of L&M and the LKZ joint venture, and returned $532 million to shareholders through share repurchases and dividends. Finally, we improved ROIC during the year by 1.2 percentage points. We continue to allocate capital in a disciplined and balanced way to maximize returns for our shareholders. Moving to Slide 17, quickly recapping the year. Overall, the team delivered a strong year for all our stakeholders. Despite macro challenges, we drove strong revenue growth, expanded our operating margins, and generated robust cash flows. The resiliency of the business and strong execution provides us with a solid foundation for profitable growth as we enter 2024. With that, I'd like to turn the call back over to Rafael to provide our 2024 financial guidance.

Kristine Kubacki:

Thank you, Rafael. We will now move on to questions. But before we do and out of consideration for others on the call, I ask that you limit yourself to one question and one follow-up question. If you have additional questions, please rejoin the queue. Operator, we're ready for our first question.

Justin Long:

Thanks, and good morning.

Justin Long:

So, maybe to start with a question on Freight margins, if you look at the fourth quarter, we saw a decline relative to the third quarter, despite mix looking like it got better. Equipment sales were down a lot sequentially, services revenue was up a lot sequentially. So, can you talk about what drove that pressure kind of quarter-to-quarter in Freight margins, and what you're anticipating for the progression of Freight margins as we look at the 2024 guide?

Justin Long:

Okay. Great. That's helpful. And I guess as a follow-up, I know we can see some lumpiness in the business on a quarterly basis because of mix and the timing of deliveries, similar to what we saw here in the fourth quarter. So, as we think about the 2024 guidance, is there anything you can share on the expected quarterly cadence of revenue and earnings?

Justin Long:

Okay. Great. I'll leave it at that. Thanks for the time.

John Olin:

Thanks, Justin.

Matt Elkott:

Sorry about that. Good morning, everyone. Can you guys give us some more insight on the 5% revenue growth at the midpoint, price versus volume? Are there any acquisitions baked in? I also ask because your backlog is 10% higher, and your revenue growth is 5%. Last year you did 16% revenue growth. Is it just a function of comps being more difficult for revenue this year?

Matt Elkott:

That's helpful, Rafael. As my follow-up question, some of the kind of headwinds you mentioned, is that the reason why the Freight organic -- the organic Freight revenue contribution to growth in the fourth quarter was lower than 3Q, and basically, the lowest in the last couple of years, if I'm doing my numbers correctly? And do you expect that to continue to trend downward in '24?

Matt Elkott:

Yeah, John. Like the $92 million organic Freight revenue contribution in the fourth quarter, if I look back over the last two years, it's the lowest number we've seen from organic Freight revenue. Is that a function of the headwinds in the North American rail market? And do you expect it to continue to trend downwards?

Matt Elkott:

Got it. Thanks, Rafael. Thanks, John.

Operator:

Thank you. And our next question comes from Jerry Revich with Goldman Sachs. Please go ahead.

Rafael Santana:

Hi, Jerry.

Rafael Santana:

Yes. So, Jerry, last November, CARB petitioned the EPA for a waiver and supports for regulation for in-use locomotives. EPA has not responded to California's waiver request, and the ruling became effective beginning of this year. In one hand, I'd say the outcome of the rule remains fluid, but we are technically very well-positioned to support our customers here for all outcomes. We have the best-in-class products, lowest fuel consumption, lowest emission, best reliability, best availability, and regardless of further regulation what I'll tell you the good news is, our entire installed base will be able to burn bio and renewable fuels. But what's more exciting to me is, our newer fleets, they will ultimately go beyond bio and renewable fuel. We firmly believe we can bridge customers here to their ultimate near-zero emission goals. We are aggressively testing alternative fuels, hydrogen being part of that mix in our newer internal combustion engines, and with really an eye towards enabling customer sustainability journey, and in parallel, we're integrating batteries, and ultimately hybrid systems into our fleet. So, we have not incorporated regulatory change into our guidance. So, that would be a tailwind for us.

John Olin:

So, when we look off over the rest of our investment horizon that we came out with a couple of years ago, we would expect 2% range of CapEx over that entire period of time.

Operator:

Thank you. And our next question today comes from Rob Wertheimer with Melius Research. Please go ahead.

Rafael Santana:

Hey, Rob. Our customers invest for returns at the end of the day. So, it's just really comes down to making sure as they look into their fleets, they've got really the opportunity here to continue to drive costs down, to drive reliability up, and improve service levels, and I think that continues. When I look at that investment, of course, we're coming from trough levels here in the past. We have growth coming into '23. We have still significant growth in '24, and the recent order that you just referred to, it just gives us greater visibility into really continue to grow market. I think we still have, I think, an opportunity to grow here as we get closer here to what I'll call average replacement rates with really the older fleets we've had. I think some of the elements on what customers decide to invest in could be shaped here certainly by regulation, but most importantly, I think, it's going to get shaped by some of the elements of technology that we're introducing, that allows faster payback, a greater payback, and greater flexibility to really, I'll call, ultimately bridge customers here into a lower emissions environment, and that's how we look at it.

Scott Group:

Hey, thanks. Good morning. So, within the...

Scott Group:

Good morning. Within the revenue guidance, just directionally, are you guys expecting better Freight or Transit growth? And when you just think about all the moving pieces with your growth, how should we think about mix as a tailwind or not this year?

Scott Group:

Okay. Helpful. And then, I just want to clarify just on the mod side, are you seeing -- I think you've been talking about pretty consistent double-digit growth in mods the last bunch of years. Do we have that again this year? And then, any update on the battery loco and timing of first delivery and all that? Thank you.

Rafael Santana:

So, strong growth here going to '24, and, Scott, with greater visibility ahead. On your question on battery electric, we're continuing to make progress here. In the fourth quarter, as you know, we unveiled the first heavy-haul battery electric locomotive with over 7 megawatts of power. These units will start running this year in Australia. And on that, I think fuel continues to be a one of the biggest cost for customers. There's a continued focus here on driving efficiency. We've got a number of pilots and demo projects, and while we do not expect broad adoption of these, there's going to be some really key opportunities here that we're ready to work on and support customers on.

Rafael Santana:

Thank you.

Allison Poliniak:

Hi. Good morning.

Allison Poliniak:

Just wondering if you could expand on the digital intelligence piece of your business, particularly in North America. It seems like that's been a bit slower. Just -- any color there? Are folks pushing off some of these investments from a cyclical standpoint? Understanding the long-term drivers are still there? Just any color on that near term. Thanks.

Allison Poliniak:

Got it. And then, on the cost optimization, could you maybe give us any color on how we should think about run rate exiting 2024? And then, was that portfolio pruning part of that? Is that incremental? Just any color there. Thanks.

Allison Poliniak:

Great. Thank you.

Operator:

And our next question today comes from Ken Hoexter with Bank of America. Please go ahead.

Rafael Santana:

Yeah. When you think of revenue side, I think you heard me describing stronger international pipeline, which I think, ultimately, wants to reflect stronger growth internationally as we look especially beyond '24 in that regard. So, we see a strong pipeline of deals, some of them signed last year. We'll see a part of those converting into backlog this year, which will continue to signal really the strength that we've got longer term in the business. I think with regards to specific margins, I mean, this is really project-by-project driven, as John described. I think there is an element of still headwinds just associated with pace in which we grow both the new locomotive business, but also the mods business at a rate -- at a growth rate faster than the overall company.

Rafael Santana:

So, a couple of things. I mean, we will have variation here to quarter-to-quarter. Just reflecting last four quarters, I mean, we have quarters on low-single digits, we have quarters on double digits. And I think you're going to see some of that variation. How we run the business is making sure that we've got that convertibility built out 12 months out, 18 months out, and we got to really think about the lead times we've got associated with our products. So, it's making sure that we have that coverage. If you think in specific about '24, I think, there's some elements of coverage, especially for the flow products that really need to -- really be executed through the year. And if you keep in mind, you've got things like the freight car build, which is down. So, you do have some elements here that play out through the year. But bottom line is, we feel strong about both the coverage, and about the ability here to continue to drive profitable growth with the pipeline we have.

Rafael Santana:

Thank you.

Angel Castillo:

Hi, good morning. Thanks for taking my question. Just maybe kind of expanding on that and a little bit longer term, as you think about your book-to-bill for 2024, focused in particularly on locomotives -- new locomotives, how are you thinking about that kind of evolving? It sounds like deliveries will be ramping up during the year. But just based on what you're hearing from your conversations with your customers, how do you kind of see that throughout the year in terms of above 1, below 1? Just any more color there would be helpful.

Angel Castillo:

Got it. And then, maybe just on the portfolio divestitures or pruning that you talked about, could you quantify that from an EPS perspective, how much of that is kind of -- what was kind of the impact embedded in the guidance? And any kind of incremental pruning that you see as kind of opportunities here?

Angel Castillo:

Very helpful. Thank you.

Saree Boroditsky:

Thanks for fitting me in. So, you announced the $1 billion in share buyback authorization. Can you just talk about how you're thinking about using the cash flow this year between repurchases and M&A, the expected timeline for completing this authorization, and if any of this baked into your EPS guidance for the year?

Saree Boroditsky:

But is it fair to say that any of that -- any additional share buybacks this year is not included in your EPS guidance?

Saree Boroditsky:

Okay. So, it does include share buybacks?

Saree Boroditsky:

Okay. And then, for next question, I know you're hesitant to kind of put a number on Freight margin performance for this year, but maybe comment on incremental margins in Freight, because I think you should have easier comps with the absence of the strike, you have higher volumes, and you're exiting lower-margin products. So, what can we think about for incremental Freight margins this year?

Saree Boroditsky:

Great. Thanks for taking my question.

Operator:

And our next question today comes from Chris Wetherbee with Citigroup. Please go ahead.

John Olin:

Yeah. We wouldn't expect any unusual aspect of that. There's numerous projects that make up Integration 2.0, and most of them have all been executed. And now it is just different levels as the savings start to drive forward. So, for purposes of modeling, probably more straight line is more accurate than any other way to look at them, that build.

John Olin:

Yeah, we would just expect revenue growth to be higher in the first half than in the second half, again, largely how we have some of our delivery of the high-ticket items planned. But, again, whenever you move a few locomotives from one period to the other, or deliveries a little bit ahead or behind, it's hard to get too fine-tuned on that. So, suffice to say that the first-half revenue growth will be a little bit higher than the second half.

Operator:

Thank you. And our next question comes from Bascome Majors with Susquehanna. Please go ahead.

Rafael Santana:

So, what we described was carloads being, I'll call it, to some extent muted for the year. That has, of course, been included into our guidance. What I think you have that more than offsets this is the continued opportunity here for customers to really invest for returns, it's really by driving productivity, lowering costs, replacing, in some cases, three units for two units, and I think those dynamics remain in place and remain in place not just for '24 as you see reflected here by the orders that we just got. We think, at least from a fleet perspective and parkings, service levels have really -- the focus on service levels has really kept the active fleets relatively stable, and we would expect us to continue to be -- have a favorable market dynamics for North America included.

John Olin:

Bascome, I would think about the LKZ venture that we have as an assembly joint venture. So, it doesn't have any impact on our overall revenue growth or growth into the CIS region. What it does is it improves our supply chain, right? A lot of the things that we were driving through the joint venture were kits that we would make and lot of the parts were made in other parts of the world and shipped in there, and the JV was for the assembly side of it. So now, this just gives us a great operational -- complete control over the operational supply chain in an area of the world that we believe is going to show significant growth going forward.

Bascome Majors:

Thank you.

Steve Barger:

Hey. Thanks. John, you said equipment will be the fastest growing group, but if I'm remembering right, that category is pretty evenly split between locomotive and mining, marine, and drilling. Are you thinking locomotive outgrows the industrial products, or do you expect more equal growth from those kind of two categories?

Steve Barger:

Got it. Thanks. So, similar growth rates, no big variance between the two?

Steve Barger:

Got it. And for Transit, you're coming off a tough comp, but really the best growth in years. And with equipment and services on the Freight side outgrowing consolidated guidance, does that mean Freight is more like high-single digit for the year and Transit low-single digit?

Steve Barger:

Understood. Thanks.

Operator:

Ladies and gentlemen, this concludes our question-and-answer session. I'd like to turn the conference back over to Kristine Kubacki for any closing remarks.

Operator:

Thank you. This concludes today's conference call. We thank you all for attending today's presentation. You may now disconnect your lines, and have a wonderful day.

Kristine Kubacki:

Thank you, operator. Good morning, everyone, and welcome to Wabtec’s Third Quarter 2023 Earnings Call. With us today are President and CEO, Rafael Santana; CFO, John Olin; and Senior Vice President of Finance, John Mastalerz. Today’s slide presentation, along with our earnings release and financial disclosures were posted to our website earlier today and can be accessed on our Investor Relations tab on wabteccorp.com. Some statements we’re making are forward-looking and based on our best view of the world and our business today. For more detailed risks, uncertainties and assumptions related to our forward-looking statements, please see the disclosures in our earnings release and presentation. We will also discuss non-GAAP financial metrics and encourage you to read our disclosures and reconciliation tables carefully as you consider these metrics. I will now turn the call over to Rafael.

John Olin:

Thanks, Rafael, and hello everyone. Turning to slide eight, I will view our third quarter results in more detail. We delivered another good quarter of operational and financial performance from strong underlying momentum across the business, coupled with great execution from the team. Sales for the third quarter were $2.55 billion, which reflects a 22.5% increase from the prior year. Sales were driven by strong growth across both the freight and transit segments. For the quarter, GAAP operating income was $370 million, driven by higher sales and focused cost management. Adjusted operating margin in Q3 was 17.9%, up 1.5 percentage points versus the prior year. The increase during the quarter was driven by significantly higher sales, improved productivity and cost management, partially offset by manufacturing inefficiencies driven by the strike at our Erie facility. GAAP earnings per diluted share were $1.33, which was up 51.1% versus the third quarter a year ago. During the quarter, we had pre-tax charges of $13 million for restructuring, which was primarily related to our integration 2.0 initiative to further integrate Wabtec’s operations and to drive $75 million to $90 million of run rate savings by 2025. In the quarter, adjusted earnings per diluted share were $1.70, up 39.3% versus prior year. Overall, Wabtec delivered another strong quarter. We outperformed our expectations, demonstrating the underlying strength and momentum of the business, and as a result, we are fine tuning our full year outlook by increasing our sales and adjusted earnings guidance. Now, turning to slide nine, let’s review our product line in more detail. Third quarter consolidated sales were very strong, up 22.5%. Equipment sales were up 38.8% from last year due to higher locomotive sales, which, as planned, were significantly skewed to Q3 versus Q4, along with increased demand for mining products this quarter. Component sales were up 32.3% versus last year, largely driven by higher North American OE rail car build and market share gains in freight car product sales, along with increased demand for industrial products. Sales also benefited from the strategic acquisition of L&M late in the second quarter by $42 million. Digital intelligence sales were down 3.2% from last year, which was driven by a softness in our North American signaling business, partially offset by higher demand for international PTC, next-gen on-board locomotive products, and digital mining. Our services sales grew 17.6%. Sales growth was driven by higher modernization deliveries and increased parts sales. Our customers continue to recognize the superior performance, reliability, efficiency, and availability across their Wabtec locomotive fleets. Across our transit segment, OE and aftermarket sales significantly increased versus last year. Segment sales were up 20.0% to $660 million, behind execution of our growing backlog, easing of supply chain disruptions, and comparing against the cyber impact in Q3 2022. The momentum in this segment is strong across our core markets as secular drivers such as urbanization and decarbonization accelerate the need for investments in sustainable infrastructure. Moving to slide 10, GAAP gross margin was 31.0%, which was down 0.1 percentage points from Q3 last year, while adjusted gross profit margin was up 0.1 percentage points, driven by higher sales and improved productivity, partially offset by inefficiencies related to the strike in Erie. Mix was favorable, driven by a richer mix between and within segments. Raw material costs, while still elevated, were largely flat on a year-over-year basis. Foreign currency exchange was favorable to sales by $32 million, or 1.5 percentage points, and it improved our third quarter gross profits by $7 million. Finally, manufacturing costs were positively impacted by favorable fixed cost absorption and benefits of integration 2.0, more than offset by manufacturing inefficiencies, primarily at our Erie facility. Our team continues to execute well to mitigate the impact of continued cost pressures by driving operational productivity and lean initiatives. Turning to slide 11, for the third quarter, GAAP operating margin was 14.5%, which was up 2.0 percentage points versus last year, while adjusted operating margin improved 1.5 percentage points to 17.9%. GAAP and adjusted SG&A were $295 million. Adjusted SG&A as a percentage of sales was 11.6%, down 0.7 percentage points versus the prior year, as we leveraged higher sales and strong focus on managing costs. Engineering expense was $53 million, about flat with Q3 last year. We continue to invest engineering resources in current business opportunities, but more importantly, we are investing in our future as an industry leader in decarbonization and digital technologies that improve our customers’ productivity, capacity utilization, and safety. Now let’s take a look at segment results on slide 12, starting with the freight segment. As I already discussed, freight segment sales were very strong for the quarter, up 23.4%. GAAP segment operating income was $327 million for an operating margin of 17.3%, up 2.1 percentage points versus last year. Adjusted operating income for the freight segment was $399 million, up 30.0% versus prior year. Adjusted operating margin in the freight segment was up 1.3 percentage points from prior year at 21.2%. The increase was driven by significantly higher sales, including fixed cost absorption and lower SG&A as a percentage of revenue, and improved mix, somewhat offset by manufacturing inefficiencies driven by the strike at Erie. Finally, segment multiyear backlog was $17.61 billion, down 8.1% from the end of Q3 last year. We continue to compare against the multiyear modernization and locomotive orders, totaling over 1.5 billion that we received in 2022. The 12-month backlog was $5.28 billion, up 15.7% for the same period, and shows good momentum well into 2024. Turning to slide 13, transit segment sales were up 20.0% to $660 million. When adjusting for foreign currency, transit sales were up 14.5%. GAAP operating income was $68 million, up 28.3%. Restructuring costs related to integration 2.0 activities were $10 million in Q3. Adjusted segment operating income was $83 million, which was up 38.3%. Adjusted operating income increased as a result of higher sales, favorable mix, benefits from our integration 2.0 activities, and the cyber impact in Q3 2022. This resulted in adjusted operating margin of 12.5%, up 1.5 percentage points from last year. Finally, transit segment multiyear backlog for the quarter was $3.87 billion, up 12.6% versus a year ago. Now let’s turn to our financial position on slide 14. Q3 cash from operations was $425 million versus $204 million in the prior year. Cash flow benefited from higher earnings and improved inventory management. Our debt leverage ratio was 2.1 times at the end of the third quarter, which was favorable versus prior year. And finally, we’ve returned $344 million of capital back to shareholders year-to-date through share repurchase and dividends. During the third quarter, we utilized free cash flow to pay down debt and reduce leverage after the $229 million acquisition of L&M in the second quarter of 2023. As you can see in these results, our financial position is strong, and we continue to allocate capital in a balanced strategy to maximize shareholder returns. With that, I’d like to turn the call back over to Rafael.

Kristine Kubacki:

Thank you, Rafael. We will now move on to questions. But before we do and out of consideration for others on the call, I ask that you limit yourself to one question and one follow-up question. If you have additional questions, please rejoin the queue. Operator, we are now ready for our first question.

Justin Long:

Thanks, good morning and congrats on the quarter.

Justin Long:

So maybe to start, I was wondering if you could quantify the strike impact at Erie in the quarter. And thinking about the guidance the full year outlook was raised, but it implies a sequential step down in earnings as we move into the fourth quarter. So John, can you give a little bit more color on some of the key drivers to that sequential pressure?

Justin Long:

Okay. That’s helpful. And secondly, I wanted to ask about the backlog. So we did see a sequential moderation. I know timing, particularly with some of the multiyear orders can move things around. So I’m curious if you’ve seen any slowdown in inquiry levels or the pipeline or if you would just chalk this up to timing. And on the Kazakhstan, $2 billion MOU. Could you just confirm that’s not included in the backlog?

Justin Long:

Okay, thanks for the time.

Operator:

The next question is from Jerry Revich of Goldman Sachs. Please go ahead.

John Olin:

Jerry good morning.

Rafael Santana:

So Jerry, I mean, as you see, finished the strong quarter, strong pipeline of opportunities which, I’d say, have just strengthened really the visibility that we have to continue to drive revenue and margin expansion. It’s for sure a bit early to get into the specifics of 2024 guidance. But the momentum we’ll continue to see, in my mind, with results being driven by -- first, I’ll start with the strength of the short and mid-term backlog. The 12-month backlog that we spoke about at $7.1 billion, up double digits. Second piece, we continue to see momentum on both new locomotives and mods. Our customers, we’re continuing to invest for improved costs. So this is bringing a modernization in so they can part to order units. They’re investing for reliability. We’re still coming out of the trough there. If you think about the lead times, as I mentioned here before, we need a strong backlog here as some of the lead times here with the mods and new units is longer, and you need the backlog, and we have it for the next 12 and 24 months. The other piece for me is international. We’re very bullish on key international markets. We have the momentum there. You saw in Kazakhstan, but what if I think about Brazil, South Africa and Australia, they’re all driving significant momentum going to 2024. On the margin side, the business will benefit and further benefit from Integration 2.0. So we’ll continue to drive expansion here as well. So all in all, the pipeline of opportunities, we continue to get better visibility. In fact, this is the best, I’ll call, we’ve had stepping into a year, which strengthens our position here to deliver on profitable growth.

Rafael Santana:

Jerry, we’re pleased with the progress that we’re seeing there. We’re continuing significant work to simplify the footprint and further improve the business competitiveness. I think you’re going to continue to see some variation quarter-to-quarter, but that team is committed to continue to expand margins and take action here for profitable growth. Despite of the more, I’ll call competitive environment, the fundamentals are good in the business. If you think about our book-to-bill ratio, we’ll close above 1 for the year. 12-month backlog is up. Multiyear backlog is up 16%, the other one, I think 12 -- over 12% and the team is continuing to progress to really drive mid-teen margins. So yes, we expect the business to be more competitive in the marketplace there, and we’re saying no slowdown. In fact, we see the opportunity here to continue to grow with the business. If you think about the record backlog some of our customers had, we’re continuing to see momentum there.

Rafael Santana:

Thank you.

Nathan Ho:

Hi, sorry. This is Nathan Ho dialing in for Ken Hoexter. Congratulations to the team on the solid results. John, I think you commented earlier that mix was favorable to Freight gross margins. And I’m just looking through some of the segments. It looks like Equipment is up 40%, Components up 30%, yet Services and Digital are a little bit. I mean, Service is up 18% and Digital is down 30%. I understand the team doesn’t usually comment on segment level of margins. But could you maybe just talk a little bit more about the comment there and maybe some of the pricing and mix dynamics at play?

Nathan Ho:

Perfect, thank you. And as my follow-up, I just wanted to maybe continue on the prior trend of thought on the backlog. I noticed just on the Freight side, it seems like this is the fifth quarter of sequential declines. I think just comping the multiyear backlog, this quarter versus 2Q were down $722 million. How should we read this? Is this a -- is this any commentary on unit volumes or maybe something regarding pricing or mix? Any thoughts there would be helpful.

Nathan Ho:

Perfect. I appreciate it. Thank you.

Ivan Yi:

Good morning. This is Ivan Yi on for Scott Group. My first question, you’re showing very strong EPS growth this year. What are the puts and takes to another year of double-digit EPS growth next year? Can you kind of walk through the moving parts there? Thank you.

Rafael Santana:

I’ll reinforce two other points, which is just an element of international markets. I spoke here specifically about Brazil, South Africa, Kazakhstan and Australia, which are very significant, and we have significant momentum walking into 2024 with this market. So we do expect significant growth there from a sales perspective. And the other piece is, again, the coverage as we look into stepping into 2024, which is certainly one of the strongest coverages we’ve had stepping into any given year.

John Olin:

I got -- first, go back to the things I’ve highlighted here. You’ve got to make sure you have the coverage, especially on the long lead items. Otherwise, you’re getting an order here a new locomotive at this point and you don’t have the coverage for 2024, there’s not much you can do there. So having the coverage for that long lead items is important, and we have it. The second piece I talked about is the fact our fleets internationally continue to grow out. So we’re seeing good momentum there, not just from a CapEx but from also an OpEx perspective. So that’s very positive. And in North America, discussion continues despite of, I’d say, continued to grow parking levels. Customers are investing for really lower costs for improved efficiency, for improved reliability. So all in all, when we think about the momentum here, looking at North America and internationally, CapEx and OpEx, it continues to look into profitable growth going to 2024, very much aligned to the long-term guidance we’ve provided.

Operator:

The next question is from Matt Elkott of TD Cowen. Please go ahead.

John Olin:

No, no. Not at all, Matt. when we look at it, we’ve been talking about the year a lot in first half, second half. And at the beginning of the year, we said that first half would grow a little bit faster than the second half. And I think the way to look at between our third and fourth quarter is to look at them together, and we’re seeing what you would see on the implied growth is 14% growth in the back half versus 16% growth in the first half. And again, that’s what we’ve expected. But it’s really a function of the way the production plan was set up over a year ago in terms of the deliveries that we expected to make in the third quarter versus the fourth quarter on some of our larger equipment, in particular, on locomotives. And as I had mentioned that about 70% of the second half production plan for locomotives is delivered in the third quarter versus the fourth quarter. So overall, when you even those out, we’ve had a year very much in terms of overall cadence expectations, of course, at a higher level of revenue growth, which explains the raise in the second and the third quarter. But the fourth quarter underlying momentum is just as strong as the third quarter. And we feel good as going into the 2024 with the backlog growing as Rafael had mentioned, has actually sequentially grown for the last couple of quarters. And as we exit the third quarter, it’s up 13%.

John Olin:

We’re not going to break out the timing of it, but we would expect all $2 billion of it to turn into orders. We’ve got a great customer in Kazakhstan and they’ve got a tremendous growth opportunity, given some of the dynamics of the flow of products from China to Europe. And we’re certainly working with them to upgrade their fleet and expand their fleet so that they can manage their future.

Matthew Elkott:

Perfect. Thanks Rafael, thanks John. Appreciate it.

Operator:

The next question is from Saree Boroditsky of Jefferies. Please go ahead.

John Olin:

Yes. Saree. So if you recall that Integration 2.0 was a 3-year program that started at the beginning of 2022. And on any of these type of restructuring programs or opportunities to integrate, we’ll see a higher investment profile in the beginning and a higher savings profile in the back as we get the projects often executed. So to date, we’ve invested about $100 million out of an expected $135 million to $165 million over the next -- or over that 3-year period of time. And Saree, what we’re seeing now is just as those projects start and either the facilities are being consolidated or products being moved or however, we’re looking at optimization, those savings are starting to build. And at the end of 2022, we had about ongoing savings of about $5 million and that continues to escalate, and we look for that to build up to $75 million to $95 million. So we won’t quantify it, but you can start to see the momentum that we need to have to be at a run rate of $75 million to $95 million in 2025.

John Olin:

Yes, we’re very pleased with the Transit margin. It was up 1.5 percentage points driven by a couple of things, Saree. Number one, is certainly fixed cost absorption was favorable given the volume growth ex currency of 14.5%. The other area is product mix. Product mix was favorable in Transit. And if you look at the aftermarket grew a fair amount faster than OE. And also, when we talk about Integration 2.0, a fair amount of that hits our Transit business, right? So that’s helping driving it. And also we’re lapping some of the inefficiencies that we had in cyber in the year ago quarter. So I feel very good about the transit business, as Rafael had mentioned and certainly a bright future as we continue to move that business forward.

Operator:

The next question is from Chris Wetherbee of Citigroup. Please go ahead.

John Olin:

Yes. Rob, it’s a little bit early for us to start talking about gating. It’s early for us to talk about guidance as well. So a typical cadence would be to provide guidance in the call in February after the year is done. And again, just broadly, we’re looking at certainly profitable growth in 2024, but in another quarter’s time, we’ll have certainly more detail with regards to what that is and what’s driving it.

Rafael Santana:

I think more in terms of the coverage looking ahead, right? And my comments on the strong coverage that it provides a piece of it has really to be connected with long lead parts of our portfolio. And that’s where I think about new locomotives, and I think about mods and I think it in conjunction of both international markets and North America. And that’s probably the strongest -- certainly the strongest we’ve had to walk into any year.

Rafael Santana:

Thank you.

Robert Wertheimer:

Thank you. I just had two quick follow-ups. John, I think you’ve been pretty clear on the gross margin and some of the puts and takes. I wondered though, I mean, can you give any comment on just what normal gross margin leverage should be absent the strike or whatever and whether next year has any incremental labor pressure that would keep gross margin from rising. I mean, a great fixed cost leverage across the enterprise, don’t going to be wrong, but more on the SG&A line. So just any comments on that would be helpful. Thank you.

Robert Wertheimer:

Perfect. Thank you. And then one last one to close out mining really strong, I think, particularly for some of your customers. Any sign that that has peaked out? Are we still early in that cycle? Just any commentary there and then I will stop.

Robert Wertheimer:

Beg pardon. Mining is quite strong, especially I think, for some of your customers. I’m just curious if that strength continue or whether you’re seeing any signs that could plateau?

Robert Wertheimer:

Thank you.

Steve Barger:

Hey, thanks good morning. Rafael. Backlog has been stable at around $22 billion for the 5 years post the GE deal. Do you think of that as a natural run rate, meaning if things go to plan, it will be around the same 5 years from now? Or the way it’s structured does monetization speed up at some point, meaning revenue accelerates but backlog contracts. How do you think about that long-term?

Steve Barger:

Yes, I think so. If I can just boil that down, it sounds like you do expect when you look at your pipeline and how you try to manage the business that you’ll have 2x the forward years revenue in backlog for the foreseeable future? Is that fair?

Rafael Santana:

This is a business that go before the transactional was done. There was a lot of, I’ll call, ups and downs through the cycle. I think one of the things that the team has been very purposeful on is making sure we are working with customers to drive what I’ll call sustainable investments moving forward, which plays well for the entire ecosystem. It’s an element of making sure that we’re ultimately getting to the right quality, the right value for the products ultimately to better costs as we run some of these programs. And that’s been a huge part of the focus. If you think about the focus on 12-month backlog 18, 24, that’s a significant part of it. And the longer-term agreements will play them to make sure that we’ve got the continuation of a lot of the infrastructure that we’ve got out there that supports the delivery of some of these assets for customers around the world.

John Olin:

Well, we expect to continue to grow this company in 2024, 2025 and 2026, Steve, and well beyond that. No, I can’t pull out what it would look like without. All I can say is it was a tremendous effort on the part of the overall company to be able to deliver that revenue growth and again, I talked about the locomotive piece, right, and that shift. We delivered all the locomotives in the second quarter that we were intending to deliver with the 10-week strike at our largest plant that makes locomotives. So it’s a tremendous tribute to the team and how the whole company pulled together to continue to work through the strike.

John Olin:

Thank you.

Kristine Kubacki:

Thank you, Kate. And thank you, everyone, for your participation today. We look forward to speaking with you again next quarter.

Kristine Kubacki:

Thank you, operator. Good morning, everyone, and welcome to Wabtec's Second Quarter 2023 Earnings Call. With us today are President and CEO, Rafael Santana; CFO, John Olin; and Senior Vice President of Finance, John Mastalerz. Today's slide presentation, along with our earnings release and financial disclosures were posted to our website earlier today and can be accessed on Investor Relations tab on wabteccorp.com. Some statements we're making are forward-looking and based on our best view of the world and our business today. For more detailed risks, uncertainties and assumptions related to our forward-looking statements, please see the disclosures in our earnings release and presentation. We will also discuss non-GAAP financial metrics and encourage you to read our disclosures and reconciliation tables carefully as you consider these metrics. I will now turn the call over to Rafael.

John Olin:

Thanks, Rafael, and hello, everyone. Turning to Slide 8, I will review our second quarter results in more detail. We delivered another strong quarter of operational and financial performance with underlying business momentum strengthening through the first half of the year. Sales for the second quarter were $2.41 billion, which reflects a 17.5% increase versus the prior year. Sales were driven by strong growth across all major product lines. For the quarter, GAAP operating income was up $48 million, driven by higher sales. Adjusted operating margin in Q2 was 16.4%, down 0.3 percentage points versus the prior year. The benefits of higher sales were offset by a less rich mix of sales between and within segments. GAAP earnings per diluted share were $1.06, an which was up 16.5% versus the second quarter a year ago. During the quarter, we had pretax charges of $10 million for restructuring which was primarily related to our Integration 2.0 initiative to further integrate Wabtec's operations and to drive $75 million to $90 million of run rate savings by 2025. In the quarter, adjusted earnings per diluted share were $1.41, up 14.6% versus the prior year. Overall, Wabtec executed a good quarter and a strong first half of 2023. We outperformed our expectations, demonstrating the underlying strength and momentum of business and as a result, we are raising our full year outlook for sales and adjusted earnings. Now turning to Slide 9. Let's review our product lines in more detail. Second quarter consolidated sales were very strong, up 17.5%. Equipment sales were up 8.9% due to higher locomotive sales this quarter versus last year's second quarter. Components sales were up 23.1% versus last year, largely driven by the higher OE railcar build and an increase in our market share due to product availability, along with increased demand for industrial products. We also closed the strategic acquisition of L&M late in the quarter, which did not have an impact on components sales during the quarter. Digital Intelligence sales were up 18.9%, which was driven by robust demand for onboard locomotive products and international PTC, along with revenue contribution from the acquisitions in Q2 of last year. Our Services sales grew 13.9% and Sales growth was driven by higher sales from increased modernization deliveries and increased parts sales. Our customers continue to recognize a serial performance, reliability, efficiency, and availability across their Wabtec locomotive fleets. Across our Transit segment, OE and aftermarket sales significantly increased versus last year. Segment sales were up 25.3% to $699 million. The momentum in this segment is strong across our core markets as secular drivers such as urbanization and decarbonization accelerate the need for investments in sustainable infrastructure. Moving to Slide 10. As forecasted, gross profit margin was slightly lower, driven by a less rich mix and higher manufacturing costs. Mix was unfavorable driven by strong sales from the Transit segment and higher sales of new locomotives and modernizations within the Freight segment. Raw material costs, while still elevated, were largely flat on a year-over-year basis. Foreign currency exchange was unfavorable to sales by $7 million or 0.3 percentage point, and it reduced our second quarter gross profits by $2 million. Finally, manufacturing costs were positively impacted by favorable fixed cost absorption more than offset by manufacturing inefficiencies at our Erie facility in June. Our team continues to execute well to mitigate the impact of continued cost pressures by driving operational productivity and lean initiatives. Turning to Slide 11. For the second quarter, GAAP operating margin was 12.9%, which was flat versus last year, while adjusted operating margin declined 0.3 percentage points to 16.4%. SG&A was $285 million, and adjusted SG&A was $283 million, both of which were up versus the prior year, but down significantly as a percent of sales. Engineering expense increased from last year according to plan, yet was down 0.2 percentage points as a percentage of sales at 2.2%. We continue to invest in engineering resources and current business opportunities but more importantly, we are investing in our future as the leader in decarbonization and digital technologies that improve our customers' productivity, capacity utilization and safety. Now let's take a look at the segment results on Slide 12, starting with the Freight segment. As I already discussed, Freight segment sales were strong for the quarter, up 14.6%. The GAAP segment operating income was $271 million for an operating margin of 15.9%, up 0.2 percentage points versus last year. Adjusted operating income for the Freight segment was $346 million, up 15% versus the prior year. Adjusted operating margin in the Freight segment was flat with prior year at 20.3%. The benefits of increased sales, including fixed cost absorption and lower SG&A as a percentage of revenue were offset by unfavorable mix from higher sales of international locos and modernizations as well as nonrecurring expenses from our labor negotiations in Erie. Finally, segment multiyear backlog was $18.3 billion, down 6.8% from the end of Q2 last year, while the 12-month backlog was $5.3 billion, up 10.3% over the same period. The 12-month backlog continues to show momentum beyond 2023. Conversely, the year-over-year reduction in the backlog was driven by lapping last year's significant multiyear order from Union Pacific for over $1 billion of modernizations. Now turning to Slide 13. Transit segment sales were up 25.3%, driven by strong OE and aftermarket sales. GAAP operating income was $66 million, up 32.0% and GAAP operating income increased as a result of higher sales and benefits from our Integration 2.0 activities, partially offset by higher restructuring costs. Adjusted segment operating income was $76 million which was up 31.0%. This resulted in adjusted operating margin of 11.1%, up 0.8 percentage point from last year. Finally, Transit segment multiyear backlog for the quarter was $4.1 billion, up 15.4% versus a year ago. Now let's turn to our financial position on Slide 14. We Q2 cash from operations was $115 million. While cash flow benefited from higher earnings, we are continuing to invest in the businesses growth, which is driving working capital higher, in particular, receivables and inventory. Despite that, we continue to drive toward a greater than 90% cash conversion for the full year. Our debt leverage ratio was 2.4x at the end of the second quarter, which was flat versus prior year, primarily due to the acquisition of L&M. As we look forward, we have a $250 million senior note at 4.38% coming due in August. We intend to roll that debt into our delayed draw term facility. I'd like to spend just a moment on providing some additional color on L&M. As Rafael mentioned, during the quarter, we completed the bolt-on acquisition of L&M. This strategic acquisition will extend and complement our portfolio of premium heat transfer solutions in mining. We purchased L&M for $223 million in cash, and the business is expected to have calendar year 2023 sales of about $130 million. And finally, we returned $105 million of capital back to shareholders in the quarter through share repurchases and dividends. As you can see in these results, our financial position is strong, and we continue to allocate capital in a balanced strategy to maximize shareholder returns. With that, I'd like to turn the call back over to Rafael.

Kristine Kubacki:

Thank you, Rafael. We will now move on to questions. [Operator Instructions]. Operator, we are now ready for our first question.

Justin Long:

Based on the updated full year guidance, I was wondering if you could share how you're expecting third quarter and fourth quarter to look on a relative basis. Do you think they'll look similar from a revenue and earnings perspective? I just wanted to better understand the cadence that you're anticipating when you think about the timing of deliveries, mix, or anything else we should be mindful of in the back half? .

Justin Long:

Okay. That's very helpful. Second question I had was on the Freight Services segment. We saw some notable strength there in the second quarter. Is there a way you can help us think about the growth in that segment if you exclude mods? And then going forward, I was wondering if you could share what you're assuming for locomotive utilization. It sounds like parkings were maybe a little bit better than you thought, but we're hearing from some of the rails that locomotives are getting put into storage. So I just wanted to kind of marry those 2 trends.

Operator:

Our next question will be from Chris Wetherbee of Citi.

Rafael Santana:

Yes. I'll start just with, I feel very good about our overall backlog. I feel strong about the pipeline of opportunities that the team is working on. I think the overall underlying growth fundamentals of the business is also strong. As you said, the 12 months is up 10%. It's accelerating. Last quarter was 4.4%. The current total backlog is also healthy. So while it's down 3.5%, I look at it in conjunction with the multiyear $1 billion order that we got from Union Pacific and the auto multibillion-dollar auditor opportunities were being worked right now and with the team. So we see good momentum internationally. We see it in North America. It's positive. We're progressing, and we're continuing to grow and our pipeline supports it. In terms of the convertibility, the 12 months, already provides you a view into '24, and we continue to see strength in the pipeline.

Rafael Santana:

First half versus second half of the year. That's where I made the comment.

Rafael Santana:

It continues. I mean, as you saw, I think the demand for a lot of the solutions we have there continues to be robust. We have an opportunity to modernize a significant part of the fleet there. I think customers are really looking into it. You see based on the announcement we just made yesterday. When you're looking at 18% fuel savings, 40% improvement on reliability, 55% on pulling power. Those are significant numbers that are really compelling in terms of driving, not the quality of the service you're providing to your customers, but reducing your costs. And I think that these some of the fundamentals will continue to build on growth for the modernization of the fleet and demand for new units as well. .

Robert Wertheimer:

So just to clarify on gross margin, obviously, you mentioned that you had mix headwinds between segments and within. Is mix the entire driver of the down gross margin? Or is there any price/cost or anything else to catch up still? And then was there a mix drag within Transit as a segment? .

Robert Wertheimer:

Perfect. Okay. Got it. And then if I can ask a different one, on hybrid electric, the wind, mining, the biggest iron ore train in the world. I don't know what the size of that market is and what your expectation for the pace of testing validation and potential future orders maybe? I wonder if you have any comments you can make.

Operator:

Our next question will be from Saree Boroditsky from Jefferies.

John Olin:

Great, James. So as we've talked out, when we announced Integration 2.0 a little bit over a year ago that we would invest $155 million to $165 million and expect ongoing savings of $75 million to $90 million. We're off to a great start as we talked about at the end of the '22 investment was a little bit ahead of schedule, which is a good thing. And as we ended last year, we were at run rate savings of $5 million. In the 6 months that we've had this year, we've over doubled that, and the trajectory will continue through the remainder of 2023, and add to a fair amount of our incremental margin in the back half as well as through 2024 as we head up to that $75 million to $90 million run rate in 2025.

Rafael Santana:

I'll start with, over the last 2 years, we have successfully reached an agreement with all of our union and nonunion side. So we're working on collaboration. We remain committed to the workforce with that, We remain optimistic that we can reach an agreement here in a timely manner. From a financial perspective, plan to realize for a variety of outcomes and contingencies here and we do not mistake any impact to the full year revenue. .

Allison Poliniak:

A quick question on the outlook. Your 5% revenue growth at 5% earnings growth. So it really implies sort of lack of leverage on that revenue. Is that just simply a mix situation that's driving that? Just any -- if you could walk us through that.

Allison Poliniak:

No, for the full year, the guidance raised nice revenue guidance raise, but EPS really just in line with that revenue guide, just implies the lower incrementals. I just want to understand if that's just purely mix, if there's something else within that that's driving sort of a lack of incrementals there. .

Allison Poliniak:

Great. That's very helpful. And then on the digital side, if I recall, it's always been more, I would say, cyclically sensitive and it doesn't seem to be exhibiting that sort of same trend. Is it sort of a change in how your customers are approaching that product? Is this sort of the investment that you've done that they can gain maybe even more efficiencies than they did in prior cycles so they're pushing through that investment? Just trying to understand sort of how -- why a book that's very cyclical or trend exhibit.

Operator:

Our next question will be from Scott Group of Wolfe Research.

John Olin:

We would look at price on a full year basis to be in the 1% to 2% range.

Rafael Santana:

So I think we're not get into any specifics of '24. Of course, it's sort of early for that. We expect growing momentum modernization portfolio. And you see that. I think the order you just asked about CN. It's part of that, and we see that growth momentum much as going to '23. We see that momentum going into really '24 and beyond. So just a good backlog. .

Jerry Revich:

Rafael and John, I'm wondering if you could just talk about in Transit, you've had really strong bookings for 3 quarters now, The top line inflection this quarter. Are we at a point where this business has earned the right to grow, and we could see more substantial pickup in top line now that the margins are where you need them be? In other words, is there more runway based on the bookings and the performance this quarter for the momentum to continue in Transit?

Jerry Revich:

So the point where we're putting up north of 20% top line growth. It sounds like, based on the backlog, that should continue into the back half?

Jerry Revich:

And in Freight, really impressive performance in service in an environment where freight volumes have obviously not been very good. Can you just talk about for your Service business ex mods, what are some factors that are contributing to the performance because if all of the year-over-year sales growth was driven by mods? That would be a pretty dramatic ramp. So it feels like the core business is doing pretty well ex mods given the gap versus freight volumes. I'm wondering if you could just comment on that if you don't mind, Rafael.

Operator:

Our next question will be from Steve Barger, KeyBanc Capital Markets.

John Olin:

Yes. Steve, this is John. Absolutely. We've watched our margins come up over the last couple of years, and that is a function of bringing in better orders at higher profit. And so as we look forward to the backlog we've talked about, we feel great about it overall, not only from a standpoint of the revenue it will drive in the future, but also from a profitability standpoint. And it is booked at a higher margin than we've seen in the past.

Rafael Santana:

Steve, I'll tell you use [indiscernible]. Yes, the total backlog is down. It's going to be lumpy as we have those, I'll call multibillion-dollar deals. We've got more than a couple of those being worked right now, so that could drive some lumpiness. I think our focus here is making sure that we've got the convertibility moving forward. And of course, as you look into the convertibility 12 months, 18 months and 24 months. So we track that, and we feel very strong about that. And it's really in the pipeline of the deals that we're working on, and we're continuing to grow that and it's really supported by our pipeline. .

Unidentified Analyst:

[Indiscernible] on for Ken Hoexter. We've covered a lot. Maybe just to touch on the M&A pipeline. Is there anything you can share broadly about verticals or geographies of interest in this space?

Unidentified Analyst:

And then maybe just going over to Transit. You've mentioned a mid-teens margin target in the past. Just -- maybe give us a sense of how we are trending there versus initial expectations? Any view over the next coming years? Maybe that could be achieved earlier than initially thought.

John Olin:

Yes. And as I mentioned earlier on the question on Integration 2.0, right? We're going to see that continue to ramp. The majority of the benefit will accrue to our Transit group. So we feel great about consolidation and the integration that's happening here and the results that it's starting to spin. And part of the benefit we saw in margin growth in Transit in the quarter was due to Integration 2.0. And the other one is, the other question with regards to the backlog. We continue to bring in volume in the backlog, we're very focused on making sure that it is coming in at a higher margin. And we are focused on bringing in good, profitable business versus revenue in the Transit Group.

Matthew Elkott:

On the 69 certified preowned locomotives, do you guys foresee any similar opportunities going forward? And if you can provide some insight maybe on to like the revenue and margin profiles of those locomotives, if not on an absolute basis, at least kind of relative to mods?

Matthew Elkott:

And Rafael, also it sounds like this is not that you guys have done actively to any meaningful extent in the past and it's kind of a fairly new area for you, these certified preowned units.

Matthew Elkott:

Okay. And then are these -- is the guidance raise partly in part because of this order that you got, I think you got it last month? .

John Olin:

Exactly.

Rafael Santana:

I think it just validates what we've been saying, I mean, in some cases, customers will look at modernization as a better solution for some of the fleet dynamics they've got, in some other cases, it's going to come with really new locomotives. And so we see both active, and I think the fact that you continue to see that. I think that's really a positive in terms of the dynamics that we're looking into the North America market. So there is really a commitment to continue to drive service to invest in the fleets that are really at this stage at the oldest levels in at least a couple of decades. So a good opportunity here.

Matthew Elkott:

And if I missed it, did you guys say what the purpose of those? These are just diesel locomotives for replacement? Or is there a technology element?

Operator:

Next question will be from Steve Barger, KeyBanc Capital Markets.

Rafael Santana:

They are absolutely included in our revised guidance, Steve?

Kristine Kubacki:

Thank you, operator. And thank you, everyone, for your time today. We appreciate it, and we look forward to talking with you next quarter. Goodbye.

Kristine Kubacki:

Thank you operator. Good morning everyone and welcome to Wabtec’s first quarter 2023 earnings call. With us today are President and CEO, Rafael Santana, CFO, John Olin; and Senior Vice President of Finance, John Mastalerz. Today’s slide presentation along with our earnings release and financial disclosures were posted to our website earlier today and can be accessed on our investor relations tab on WabtecCorp.com. Some statements we are making are forward-looking and based on our best view of the world and our business today. For more detailed risks, uncertainties and assumptions relating to our forward-looking statements please see the disclosures in our earnings release and presentation. We will also discuss non-GAAP financial metrics and encourage you to read our disclosures and reconciliation tables carefully as you consider these metrics. I will now turn the call over to Rafael.

John Olin:

Thanks, Raphael and good morning. Turning to slide 7, I’ll review our first quarter results in more detail. We started the year with another good quarter of operational and financial performance, despite continued challenges in foreign currency exchange, and still elevated input costs. Sales for the first quarter were $2.19 billion, which reflects a 13.9% increase versus the prior year. Sales were driven by very strong trade segments sales, which were up 18.5% from last year. Q1 sales were once again negatively impacted by unfavorable foreign currency exchange, which reduced our revenue growth in the quarter by 2.9 percentage points. For the quarter, GAAP operating income was up $37 million driven by higher sales. Adjusted operating margin in Q1 was 16.4%, down 0.1 percentage points versus the prior year as we had expected. The benefits of higher sales were offset by a less rich mix of sales between business groups and higher next generation product development costs. GAAP earnings per diluted share were $0.93, which was up 16.3% versus the first quarter a year ago. During the quarter, we had pretax charges of $9 million for restructuring, which was related to our integration 2.0 initiative to further integrate Wabtec’s operations and to drive $75 million to $90 million of run rate savings by 2025. In the quarter adjusted earnings per diluted share, were $1.28 up 13.3% versus the prior year. Overall, Wabtec delivered another solid quarter of results demonstrating the underlying strength and momentum of the business and our ability to navigate through volatile macroeconomic conditions. Turning to slide 8, let’s review our product lines in more detail. First quarter consolidated sales were very strong up 13.9%. Excluding foreign currency exchange, sales were up 16.8%. Equipment sales were up 43.4% from last year, due to higher locomotive sales this quarter versus last year. Component sales were up 21.8% versus last year, largely driven by higher OE railcar build and an increase in our market share due to product availability, along with increased demand for industrial products. Digital Intelligence sales were up 22.2% which was driven by robust demand for onboard locomotive products and international PTC along with revenue contribution from the strategic bolt-on acquisitions of Beena Vision and ARINC last year. Our services sales grew 6.2% versus last year. The increase was driven by higher sales from a larger active fleet partially offset by the timing of mags deliveries in the year. The superior performance reliability and availability of our fleet continues to drive increased customer demand for our services and solutions. Across our transit segment, sales increased 3.8% versus prior year to $628 million. Absent the impacts of foreign currency exchange, transit sales would have been up 9.6%. The momentum in this segment remains positive as secular drivers such as urbanization and decarbonisation accelerate the need for investments in green infrastructure. Now moving to slide 9, as forecasted, gross profit margin was slightly lower driven by a less rich mix, unfavorable foreign currency exchange and higher manufacturing costs. Mix was unfavorable, driven by strong sales of locomotives and our equipment business. Raw material costs, while still elevated are largely flat on a year-over-year basis. Foreign Currency Exchange adversely impacted revenues by 2.9 percentage points, and adversely impacted first quarter gross profits by $14 million. Finally, manufacturing costs were positively impacted by productivity gains and higher absorption offset by higher digital development costs. Our team continues to execute well to mitigate the impact of these cost pressures by driving operational productivity and lean initiatives. Turning to slide 10, for the first quarter GAAP operating margin improved 0.2 percentage points to 12.6% while adjusted operating margin declined slightly to 16.4%. GAAP SG&A was $263 million and adjusted SG&A was $258 million, both of which were up versus prior year, but down as a percentage of sales. Engineering expense increased from last year according to plan and was flat as a percentage of sales at 2.3%. We continue to invest engineering resources and current business opportunities. But more importantly, we are investing in our future as a industry leader in decarbonization and digital technologies that improve our customers productivity, capacity, utilization, and safety. Now let’s take a look at the segment results on slide 11. Starting with the freight segment, as I already discussed freight segments sales were strong for the quarter up 18.5%. GAAP segment operating income was $227 million for an operating margin of 14.5% up 0.2 percentage points versus last year. Segment adjusted operating income was $297 million up 14.7% versus the prior year. Adjusted operating margin in the freight segment was 19.0%. Adjusted operating margin was down six tenths of a percentage point on a year-over-year basis. The benefits of increased sales, including fixed absorption and lower SG&A as a percentage of revenue were more than offset by unfavorable mix and higher next generation product development costs in our digital group. Finally, segment backlog was $18.4 billion down 3.5% from the end of Q1 last year. On a constant currency basis, segment backlog was down 2.3%. The year-over-year reduction in backlog was driven by lapping last year’s multi-year order for modernizations. Now turning to slide 12, transit segment sales were up 3.8% driven by higher aftermarket sales, partially offset by negative effects of foreign currency exchange. Unfavorable foreign currency exchange adversely impacted segments sales by 5.8 percentage points. GAAP operating income was $69 million up 6.2%. GAAP operating income increased as a result of higher sales, improved mix from aftermarket sales and benefits from our integration 2.0 activities partially offset by higher restructuring costs. Adjusted segment operating income was $83 million, which was up 12.2%. This resulted in an adjusted operating margin of 13.1% up 0.8 percentage points from last year. Finally, transit segment backlog for the quarter was $4.0 billion up 6.3% versus a year ago, on a constant currency basis backlog would have been up 9.3%. Now let’s turn to our financial position on slide 13. Q1 cash used for operations was $25 million. While cash flow benefited from higher earnings, we are continuing to invest in the business’s growth, which is driving working capital higher in particular, receivables and inventory. Despite that we continue to expect greater than 90% cash conversion for the full year. Our debt leverage ratio at the end of the first quarter declined to 2.3 times versus the prior year. And our liquidity was robust at $2 billion. As Raphael mentioned, during the quarter, Moody’s upgraded our credit rating, which reflects the strength of the balance sheet and the outlook for continued strong cash flow. With the Moody’s upgrade. Wabtec is rated investment grade across all three rating agencies. And finally, we returned a significant amount of capital to our shareholders in the quarter with $209 million returned through share repurchases and dividends. As you can see in these results, our financial position is strong and we continue to allocate capital and a balanced strategy to maximize shareholder returns. With that, I’d like to turn the call back over to Rafael.

Kristine Kubacki:

Thank you Raphael. We will now move on to questions. But before we do and out of consideration for others on the call, I ask you that you limit yourself to one question and one follow up question. If you have additional questions, please rejoin the queue. Operator, we are now ready for our first question.

Justin Long:

Thanks. And good morning.

Justin Long:

I was wondering if you could help us think through the assumption in your guidance for North American locomotive utilization over the rest of the year. What percentage of the locomotive fleet are you assuming gets parked by the end of 2023? And as we think about your sensitivity to that, is there any way you could speak to the percentage of your freight services revenue that’s transaction based that would be impacted by that trend.

Justin Long:

Okay. Great. And on the percentage of your freight services business that’s tied – it’s more transaction-based. John, is there any color on that you could provide?

Justin Long:

Understood. And as a follow-up, John, you were helpful last quarter and helping us think through the quarterly cadence that’s baked into the guidance in terms of both revenue and operating margins. Just curious if you have any updated thoughts as we look out the rest of the year based on what’s coming in the backlog mix, etcetera?

Q - Justin Long:

Okay. Got it. Congrats on the quarter.

Operator:

The next question comes from Allison Poliniak of Wells Fargo. Please go ahead.

John Olin:

Yes. So when we looked at the full year, and we talked about the last couple of quarters that we expect our mods to be up double digit on the year. But when we look at the quarter, Allison, actually mods were down a fair amount in the first quarter. And that’s nothing to get excited about. That’s the way it was planned. And we’ll have still that double-digit growth by the end of the year. So that’s the cadence that we’re referring to. I think where it comes in to be important, Allison, is when you look at the fourth quarter, mix was a big driver of that unfavorability. And at that time, we had talked about both locomotives and mods being up quite significantly driving that. In the first quarter, mix is unfavorable, but not to the same extent that we saw in the fourth quarter, because we had a little bit of offset and the mods being down in the quarter. And we also saw a very strong growth, as you saw in our equipment group, with regards to the locomotives.

John Olin:

There was a little bit of catch up in the computer chips. I wouldn’t say a lot. And again, the first time we started to see the computer chip market ease was in the fourth quarter. And so we saw a little bit more easing. But not a huge portion of it, Allison, but a bit of it.

Allison Poliniak:

Great. Thanks for the color.

Ivan Yi:

This is Ivan Yi on for Scott Group. First, following the Norfolk derailment in East Palestine, what potential regulatory initiatives could Wab benefit from? And I know Wab does not manufacture the hot bearing detectors. But are you seeing any uptick in orders for other detection systems? Can you get into the hot box market? Thank you.

Ivan Yi:

Thank you. And just on a follow-up, can you discuss the M&A market? In what areas or regions are you most actively looking right now for any potential acquisitions? Thank you.

Ivan Yi:

Thank you.

Robert Wertheimer:

Thank you. Good morning everybody. I had two questions on international freight. And one was just on locomotives. Is there any shift in trend there? Or is strength just normal variability in production and delivery? And then second, I wonder, kind of a bigger picture question, if you could just give us a state of the market PTC and digital, in general, across international freight? And what the runway looks like there?

Robert Wertheimer:

Thank you. And one follow-up, if I may. I mean that’s a fairly bullish statement. The North American locomotive kind of pipeline of potential orders, etcetera, do you have any characterization of what’s driving that? You mentioned the old fleet we all definitely know that’s there. You guys have done a ton with efficiency, and I think your Tier 4 is more efficient. So maybe that makes the economics easier. Just any color commentary from the conversations you’re having, and I’ll stop there. Thank you.

John Olin:

Rob, we typically see -- or our customers typically see a mid-double-digit return, or IRR, on their purchase of either a new or a modernized unit. Typically a little bit higher on a new, but both in the mid double-digit returns. So they’ve got a very good strong economic incentive.

Operator:

The next question comes from Saree Boroditsky of Jefferies. Please go ahead.

Rafael Santana:

We’re continuing to work with our customers and other stakeholders share in the industry to continue to call support improvement. And there’s always a sense of continuous improvement, despite rail being the most sustainable way of moving things over land. I mentioned here some other technologies that we’ve been working with customers that could anticipate, once again, a failure at various equipments, including not just thermal, but also vibration and other technologies here that allow us to be more predictive on rail. So we see an opportunity here to continue to drive, I’ll call innovation in the space. And with that, I think we have a set of solutions that can continue to help customers drive efficiency, productivity, emissions and rail safety.

John Olin:

Sure, Saree. Integration 2.0, as we exited 2022, the spending was a little bit higher than what we had anticipated. So that is very good. It means we’ll get to the savings quicker. But looking at that launching spot, Saree, after 1 year, we spent $46 million. A lot of that noncash, but took a $46 million charge. And with that, we returned $5 million of savings. And as we move into the next couple of years, we would expect that $5 million of savings to grow to $75 million to $90 million on a run rate basis in 2025. So we expect a fair ramp as we go forward with that. And we saw some of that certainly in the first quarter. When we look about the segments, most of the spending and you said a majority of the spending as well as the savings are going to accrue to the transit group. There is a fair amount in the freight side, but a little bit over shared in terms of our investment and opportunity for consolidation in transit. And again, when you look at the margins in the first quarter, we were up 0.8 points year-over-year. Some of that was certainly driven by those savings on the investments that we made in 2021 beginning to turn and pay off.

John Olin:

No. In terms of the spending, we would expect it to be a little bit north of what we spent last year of the $46 million. In terms of savings, again, Saree, we’ve got 3 years to ramp up from $5 million to, call it, $80 million to $85 million at the midpoint. So it’s pretty significant, And it will continue to build over that period of time. So a little bit more in 2024 than 2023.

Operator:

The next question comes from Jerry Revich of Goldman Sachs. Please go ahead.

Rafael Santana:

Jerry, I think it’s, number one, it’s a significant opportunity that we have. A lot of it resides into a lot of the elements that we described as automation, which comes down to really driving what I call a more seamless operation that will improve both the elements of efficiency, but that will also drive opportunities here to continue to capitalize on safety and other elements of that. And some of it comes down to potential introduction of new projects and new products and technologies, such as products that allow the detection in anticipation of failure, whether that’s at the locomotive level, whether that’s at train level, that’s a piece of it. The other one is the integration of some of these systems. You’re well aware of our Trip Optimizer, which is a product that we have largely deployed not just in North America, but internationally as well. The combination of that with PTC and some other elements really allow you to fundamentally operate a train largely with what we would call an autopilot. So those are some of the things that we have an opportunity here to continue to drive with customers. And we’re at different stages on that, depending on the complexity of networks around various parts of the world. And we’re seeing really an opportunity here to drive larger adoption. I mentioned here, PTC internationally. I mean we’ve gone with PTC now not just into Brazil, but we did it in Africa. We’re expanding into Asia, and that’s another area where we expect that to go into. We’ve got opportunities to share with wayside monitoring as well. And those are some of the things that we’re currently either in the process of installing or discussing it with customers in North America. It’s a significant opportunity.

Rafael Santana:

Jerry, it’s very high, right? I mean if you think about PTC, it’s really deployed across the entire installed base, whether it’s Wabtec locomotives or any other compatible locomotive that’s running out there. When this -- when it comes to Trip Optimizer, that’s more, I’ll call, really been largely deployed at the Wabtec locomotives. So that’s an area of an opportunity that we would have here to continue to expand on that. And with that, I mean, there is the evolution of some of the products that we’ve talked to you guys before, such as 0 to 0, which really amplifies a lot of the element of automating the entire trip. And with that, the continued automation of some of these systems. The Shamoda [Ph] systems, that really operate at a network level. So helping the railroads both dispatch trains, but really ultimately manage the network. Things like Movement Planner, which allow you to really, in a very fast mode, be able to redefine the operations and dispatches you’re going to be doing along the day.

John Olin:

Yes. Sure, Jerry. So yes, this is the first quarter after 6 very rapidly rising quarters of our cost of goods sold that we saw, even with a year ago. So costs were flat on a year-ago basis. I don’t want anyone to walk away that think that costs are fine. They are very elevated. They are very high, but this is the first quarter and 6 that we didn’t see them rise, right? And -- so with regards to that, Jerry, it’s tough to say what next quarter will be. We’ve certainly got our forecasts, but there’s more elements of the costs that are all moving some in different directions. And you got metal costs and they’re falling, right? They skyrocketed from the second quarter of 2021 through the invasion, into the second quarter of 2022. Since then, they’ve been coming down. And so we feel very good about that. And then also the transportation costs, very similar, both from a fuel standpoint and a container cost. Those are on the positive side. And remember, that takes time for that to flow through our inventory. The other pieces of it are not so good, right? Labor is more of a latent cost that certainly continues to rise. And then we can’t forget about general inflation, right? Everything else is inflating. Certainly, CPI was up 5% in March. So all of those things are acting within our cost structure. And then, Jerry, as you know, we got about 60% of our revenue under long-term contracts. And a lot of those have cost escalators in them. And if things start to go down, it will be a cost the escalator. So we monitor it all very closely. I think the important piece or the most important piece is it has been our aim since it all started 7 quarters ago, is to make sure that we’re driving a price cost equilibrium, which we started or hit in the second quarter of last year and have maintained for the last 4 quarters. And we expect to continue to maintain that throughout 2023.

John Olin:

Thank you Jerry.

Unidentified Analyst:

Thanks operator. This is Nathan [Ph] dialing in for Ken. Congratulations on the solid quarter. Just want to quickly follow up first on Justin’s first question on the quarterly cadence. I see that there is a pretty positive impact from international orders in the first quarter. And per your guidance from last from 4Q, I think that was supposed to be a little bit more first half weighted. Would you mind just giving the split between 1Q and 2Q on the magnitude of impact to equipment? And just secondly, on the backlog, I noticed that despite the 12-month backlog being up, this is roughly the third quarter of sequential decreases in the total backlog. Is that just a function of the commodity escalators being assumed? What’s -- maybe talk a little bit about your outlook on demand and selling into the pipeline? Thank you so much.

John Olin:

Yes, in terms of quarterly cadence, Nathan, obviously, all of our equipment is under longer-term contracts. And we had a contract that came through that was going to be heavy in the back half of 2022 and heavy in the first half of this year. And with that is tied to the mix. We saw unfavorable mix in the back half of last year, and we’re seeing unfavorable mix in the first quarter. And we would expect the mix in that level of elevated growth out of the equipment group to move into the second quarter. We don’t specifically provide what that growth would be from equipment. But suffice to say that, that level of delivery was for 4 quarters, and we would start to see from a revenue standpoint to step down in the back half just as we saw it step up in the first half -- second half of last year. And again, the mix will also mitigate and drive some of that improved margin in the back half of next year -- I’m sorry, back half of this year.

Operator:

The next question comes from Matt Elkott of TD Cowen. Please go ahead.

John Olin:

Matt, when we look at it, there can be orders that move this quarter to that quarter just like our overall volumes. Over time, it’s nothing significant in the numbers. We saw a 4.4% increase in the 12 months, and ex currency was about 5.5% up. But any driver of the supply disruptions, a lot of that would have been baked in over the last 7 quarters, right? And we’re seeing a little bit of release of that, but nothing of great significance on a number of that magnitude.

Rafael Santana:

Well, let me start here because I think the first thing is we will have significant variation, as John mentioned here, in terms of quarter-to-quarter. And some of it, it’s mix. I mean, John, just told you here how we saw very significant growth on delivering of new locomotives, But mods was significantly down in the quarter. We’ve got project specifics. We’ve got investments when it comes down to specialty R&D, which we continue to drive. And those will have variation quarter-to-quarter. And we’ve got still some of the elements of cost dynamics playing in. So I’d just be careful with some of those assumptions on how they play quarter-to-quarter as it will be bumpy from that perspective, but we feel very well about making sure that we deliver on the guidance we’ve provided.

Matthew Elkott:

Got it. And John, you mentioned you haven’t taken market share in components. Is there any way you can update us on your average content now in railcars, both freight and transit and locomotives? And I guess, have you guys been realizing the revenue synergies one would expect now that you’ve worked through the locomotive backlog you inherited from GE, and are now taking orders as both the equipment manufacturer and the component supplier?

Rafael Santana:

Matt, if you go back to some of the comments we made earlier on, those who are around, I’ll call it, to translate to today, about $7,000 of content in a freight car that we would see on average. We have had the opportunity here to, as John described, win share. And that was largely due to some of the investments we did in inventory and the ability to ultimately be able to serve customers in that context. We do see an opportunity here, and we’ll continue to drive, I’ll call, really entitlement and share into the products that we sell, especially as we go here into this battery electric locomotives, the opportunity to have a lot more content as we drive the integration of the system. And that speaks not just to the brakes that speaks to various other parts, including heat exchangers and things like that into the system. So I think we’re going to continue to see us driving share up. It’s a slow play game as you got to really work with customers that have fleets with auto systems deployed. And we got to make sure that we’re putting up also the services to be able to support them on through that process. But it’s not an opportunity for growth for us and how we’ve been executing on it.

Rafael Santana:

It will depend again by freight car type. And -- so that’s why we give that average number. But -- and again, that’s related to freight car. That’s a different number if you think about locomotives.

Rafael Santana:

It is higher. Again, it speaks to the various, I’ll call, critical systems that we have that’s sell-out to doors, HVAC systems, call platters, brake systems and so forth.

Rafael Santana:

When I talk about I thought in the context of transit and specifically, when I made those comments. But overall, we see that across the business. I think in transit, if you think about the underlying fundamentals, the book-to-bill over 1- to 12-month backlog being really up over 5% and even the multiyear backlog on a constant current basis, up over 9%. And we’re continuing to see, I mean, really a lot of strength in the pipeline of opportunities there. But we -- as I said, on the Freight segment, see it very much the same. So the order question that we got before, it was largely an element of, I’ll call, multi-billion dollar orders that we signed in the first half of the year, the combination of the modernization with both Union Pacific and NS.

Operator:

The next question comes from Steve Barger of KeyBanc Capital Markets. Please go ahead.

Rafael Santana:

Here, shall I look at it. It comes down to the pipeline of opportunities that we’re driving. And the convertibility is going to be lumpy. I mean as I signed a 3-year agreement, that’s over $1 billion, that’s not going to repeat again every year. So that’s a little bit of that lumpiness that we’re talking about. We are working with our customers and making sure that we’re driving to really have those multiyear orders. I think it’s in the best interest in terms of both the quality of the product, but the cost of the product that we get. And the visibility is good in terms of those pipeline of opportunities. And the opportunity to continue to drive, I’ll call, both revenue growth here on the combination of both modernizations and new equipment. So good visibility out there and good visibility with the 12-month backlog, which provides us really the confidence on the convertibility into 2023 and now starting to look into the first part of 2024 as well.

Rafael Santana:

That’s a key area of focus for us. It’s really looking at the convertibility of the backlog. And that’s why I’ve highlighted the elements of this -- about our visibility that we have right now, and then with over really had in the business, which comes down to visibility on 2023, 2024 and 2025. And that’s what those multiyear orders ultimately provide us. We have had discussions. It’s something that we’ll continue to evaluate here in terms of making sure that there is that visibility in terms of how the business will behave. But I go back to very much the guidance we provided last year in terms of the 5-year outlook, which provides both, I’ll call revenue expansion and margin expansion for the business. We’re committed to deliver on that.

Steve Barger:

Understood. Well, I mean, when I go back to look at 1Q 2019, it was $23 billion. It’s $22 billion right now. I look at it as fairly stable over that period, which is a great outcome. But I would say just anything you can do to improve the visibility of that in terms of deliverability beyond 4 quarters would be really helpful for investors just given the increasing macro concerns that are out there and people’s concerns about order growth rates and things like that.

Steve Barger:

Thanks very much.

Operator:

The next question comes from Chris Wetherbee of Citi. Please go ahead.

Rafael Santana:

Well, we’re not seeing pushouts, number one. And so again, back to the comments I made earlier on. A lot of what’s driving the demand is associated with really gains in productivity and efficiency, tied to a fleet that aged quite a bit. That’s some of the elements of North America, but we see also some positive signs here in terms of the pipeline of opportunities internationally. Some of that is tied to new projects, like in countries like Brazil, as we described. In some other ones, you’ve got an element of a combination of both replacement of older units, driving efficiency and productivity with also good in terms of volume in that context. And so in that framework, no, we have not seen any delays or push outs in terms of orders.

John Olin:

Well, that was all part of the initial guidance that we put in there, Rob, is we are looking for the year overall to be up in terms of margin and that driven by productivity, absorption, partially offset by unfavorable mix on a full year basis. And then we would also expect SG&A to be positive as a percent of revenue throughout the year and our R&D spending to be in line with that. So again, when we look at the first quarter, we’re right on track in terms of margin. And we don’t see any change in the margin as the guidance that we gave that margin will grow largely in the back half of the year.

Unidentified Analyst:

Got it. That’s helpful. I was just trying to get a sense of if the benefit should step up as the year progresses, which kind of feels like what’s baked in the guidance. But I just wanted a little bit of additional clarification there.

Operator:

The next question comes from Dillon Cumming of Morgan Stanley. Please go ahead.

Rafael Santana:

Well, so a little bit of welcome with just the first quarter results, which organic growth over 9%. I think to some extent, we’ve benefited from catch up in the quarter due to supply chain disruptions. So I think that’s a piece. I did mention about the fundamentals of the business being strong. But it, you look to the book-to-bill above 1 to 12 months and multiyear backlog. I think we’re pleased to see the progress, but we still have significant work ahead here to simplify the footprint further improve and sustain margins. I think you’re going to continue to see some variation quarter-to-quarter. But we’re working to drive margin expansion in the year, both for transit and for our freight business as well. I think the fundamentals on transit; we continue to see really authorities committed to continue to invest some infrastructure. Spending continues to be a positive there with government spending in rail. And our customer OEMs also have very strong backlogs in that context, which continue to drive opportunities for us.

Rafael Santana:

We see a growing opportunity there. And you’re right, we see this as a very strategic quarter. This customer that ultimately, I’ll call adopted Wabtec largely in terms of the solutions, and we see that as a very significant step in that direction. There’s a number of new concessions taking place. I think we have really built a very solid story on partnering customers over time to drive efficiency, to drive productivity and we’ve been, I think, really benefiting from that starting with customers, and we’ve got growth opportunity here ahead of us. In terms of the numbers for the market, I’d say you can probably think about 50-plus unit market for us in that context.

Rafael Santana:

Thank you.

Kristine Kubacki:

Thank you, Andrea. Thank you, everyone, for your participation today. We look forward to speaking with you again next quarter.

Kristine Kubacki:

Thank you, operator. Good morning, everyone and welcome to Wabtec's fourth quarter 2022 earnings call. With us today are President and CEO, Rafael Santana; CFO, John Olin; and Senior Vice President of Finance, John Mastalerz. Today's slide presentation, along with our earnings release and financial disclosures were posted on our website earlier today and can be accessed on the Investor Relations tab on wabteccorp.com. Some statements we're making are forward-looking and based on our best view of the world and our business today. For more detailed risks, uncertainties, and assumptions relating to our forward-looking statements please see the disclosures in our earnings release and presentation. We will also discuss non-GAAP financial metrics and encourage you to read our disclosures and reconciliation tables carefully as you consider these metrics. I will now turn the call over to Rafael.

John Olin:

Thanks, Rafael and good morning. Turning to Slide 9, I will review our fourth quarter results in more detail. We finished the year with another good quarter of operational and financial performance despite continued challenges in foreign currency exchange, still elevated input costs, and persistent supply chain disruptions. Sales for the fourth quarter were $2.31 billion, which reflects an 11.2% increase versus the prior year. Freight segment sales were very strong up 17.1%, partially offset by unfavorable foreign currency exchange impacting sales in our transit segment. Q4 sales were negatively impacted by unfavorable foreign currency exchange which reduced our revenue growth in the quarter by 4.5 percentage points. For the quarter GAAP operating income was $17 million driven by higher restructuring costs. Adjusted operating margin in Q4 was 15.3% down 0.8 percentage points versus prior year. We expect that our margin to be lower in the quarter on both a sequential and year-over-year basis. The key drivers of the year-over-year margin performance include unfavorable mix within business groups, in particular, within equipment and services due to strong sales of locomotives and modernizations versus last year's performance, some of which pushed from the third quarter to the fourth quarter and higher technology spend associated with investment in future growth and costs associated with the commercialization of the first battery electric locomotives. GAAP earnings per diluted share were $0.86, which was down 15.7% versus the fourth quarter a year ago. During the quarter, we had pretax charges of $32 million for restructuring, largely related to our integration 2.0 initiative to further integrate Wabtec's operations and to drive $75 million to $90 million of run rate savings by 2025. I will talk more about our progress on integration 2.0 in a moment. In the quarter, adjusted earnings per diluted share were $1.30, up 10.2% versus the prior year. Overall, Wabtec delivered another solid quarter of results, demonstrating the underlying strength of the business and our ability to navigate through volatile macroeconomic conditions. Turning to Slide 10, let's review our product lines in more detail. Fourth quarter consolidated sales were strong, up 11.2% excluding foreign currency exchange, sales were up 15.7%. Equipment sales were up 14.1% from last year due to higher locomotive sales this quarter versus last year. Component sales were up 10.6% year-over-year, largely driven by higher OE railcar build. Digital Electronics sales were up a strong 34.7%, which was driven by robust demand for onboard locomotive products and software upgrades along with revenue contribution from the strategic bolt-on acquisitions of Beena Vision and ARINC earlier in the year. Our services sales grew 16.6% versus last year. The year-over-year increase was driven by higher sales from a larger active fleet versus last year and increased MOD sales. Superior performance, reliability, and availability of our fleet continues to drive increased customer demand for our services and solutions. Across our Transit segment, sales decreased 1.7% versus prior year to $637 million. Sales were down versus last year due to the negative impacts of foreign currency exchange. Absent the impacts of foreign currency, Transit sales would have been up 9.3%. The momentum in this segment remains positive as mega trends such as urbanization and decarbonization drive increased investments in green infrastructure. Now moving to Slide 11. As forecasted, gross profit margin was lower driven by unfavorable mix, adverse foreign currency exchange, and higher input costs, partially offset by increased pricing and productivity. Pricing actions implemented to recover increased costs positively impacted our margins during the quarter. Mix was unfavorable, especially within our equipment and services businesses behind strong sales of locomotives and MODs. Raw material costs, while down from recent highs over the last year were up again year-over-year. Foreign currency exchange adversely impacted revenues by 4.5 percentage points and adversely impacted fourth quarter gross profits by $21 million. Finally, manufacturing costs were favorable due to productivity gains, which were partially offset by higher transportation costs. Our team continues to execute well to mitigate the impact of these cost pressures by driving operational productivity and lean initiatives. Turning to Slide 12, for the fourth quarter, as expected, operating margin declined on both a GAAP and adjusted basis, driven by lower gross margins and increased investment in future technologies. GAAP SG&A was up $8 million versus prior year due to higher net restructuring costs related to integration 2.0. Adjusted SG&A was $271 million which was flat versus prior year, but down 1.3 percentage points as a percentage of sales. Engineering expense increased from last year according to plan. We continue to invest in engineering resources and current business opportunities but more importantly, we are investing in our future as the industry leader in decarbonization and digital technologies that improve our customers' productivity, capacity utilization, and safety. Now let's take a look at our segment results on Slide 13, starting with the Freight segment. As I already discussed, Freight segment sales were strong for the quarter, and GAAP segment operating income was $209 million for an operating margin of 12.5%, down 2 percentage points, which was impacted by increased restructuring expenses versus the year ago quarter. Segment adjusted operating income was $284 million, down 1.7 percentage points versus the prior year. The benefits of higher sales and improved productivity were offset by unfavorable mix within business groups and higher technology investments and costs associated with the commercialization of the first battery electric locomotives. Finally, segment backlog was $18.64 billion, up $139 million or 0.8% and from the end of Q4 last year. On a constant currency basis, segment backlog was up $344 million from last year. Turning to Slide 14, transit segment sales were down 1.7%, driven by the negative effects of foreign currency exchange. Unfavorable foreign currency exchange impacted segment sales by 11 percentage points. GAAP operating income was $63 million, down 2.3 percentage points, which was impacted by increased restructuring expenses versus the year ago quarter, largely related to our integration 2.0 initiative. Adjusted segment operating income increased by $7 million to $95 million, which resulted in an adjusted operating margin of 14.8% and up 1.2 percentage points versus the prior year, driven by strong productivity, benefits from prior restructuring activities and disciplined cost management. Finally, transit segment backlog for the quarter was $3.8 billion, up 3.6% versus a year ago. On a constant currency basis, backlog would have been up 9.2%. Moving to Slide 15, I would like to briefly touch on our progress against our integration 2.0 initiative. Recall that during our Investor Day last March, we announced a restructuring program comprised of an estimated onetime expenses between $135 million and $165 million that would yield an incremental $75 million to $90 million of run rate cost savings by 2025. These savings were to be achieved through a combination of actions which simplify, streamline, and consolidate parts of our operations. A great example of the actions we are taking to drive these savings occurred in the fourth quarter, including two consolidation projects across our manufacturing footprint, which will eliminate a total of four facilities and a third project focused on streamlining and optimizing our North American distribution network. With full year restructuring expenses of $46 million in 2022, we achieved an initial $5 million of savings during the year. We expect investment to increase more meaningfully in 2023 and are on track to meet our 2025 goals, positioning Wabtec to drive multiyear margin expansion. Now let's turn to our financial position on Slide 16. We had strong cash generation in the quarter. Q4 cash flow was $410 million, bringing total cash for the year to $1.04 billion for a cash conversion rate of 93%. Cash flow benefited from higher earnings but was impacted versus last year by the proactive build of inventories ahead of our 2023 growth expectations and managing supply disruptions of critical parts. Our debt leverage ratio at the end of the fourth quarter declined to 2.2 times, and our liquidity is robust at $2.29 billion. And finally, we returned a significant amount of capital back to shareholders in 2022 with $584 million returned through share repurchases and dividends. And as Rafael mentioned, our Board of Directors approved a $750 million share buyback reauthorization and increased our quarterly dividend to $0.17 per share, up 13%. As you can see in these results, our financial position is strong, and we continue to allocate capital in a balanced strategy to maximize shareholder returns. Now moving to Slide 17, quickly recapping the year. Overall, the team delivered a strong year for all our stakeholders. Despite challenging dynamics, we drove revenue growth, expanded our operating margins, and generated robust cash flow. The resiliency of the business and strong execution provides us a solid foundation and good momentum as we enter 2023. And with that, I'd like to turn the call back over to Rafael.

Kristine Kubacki:

Thank you, Rafael. We will now move on to questions. But before we do and out of consideration for others on the call, I ask that you limit yourself to one question and one follow-up question. if you have additional questions please rejoin the queue. Operator, we are now ready for our first question.

Allison Poliniak-Cusic:

Hi, good morning.

Allison Poliniak-Cusic:

I want to turn to the services outlook. You noted an uptick in locomotive. Just wondering if you could give us a little bit more context on how impactful you're thinking about that for 2023, is it sort of a point offset something bigger, I know there's a lot of moving parts in that business right now, just any thoughts?

Allison Poliniak-Cusic:

Yes, yes.

Allison Poliniak-Cusic:

No, that's great. And then just a point, you mentioned sort of that replacement level for locomotives under the assumption that you probably wouldn't reach that level this year. But how quickly, I mean, there's ESG targets and so forth, is it sort of a 2024-2025 that you think you could reach that sort of run rate for replacement there or above, just any thoughts there on how you see this walk towards that level? Thanks.

Allison Poliniak-Cusic:

Great, thank you.

Operator:

The next question comes from Justin Long with Stephens. Please go ahead.

John Olin:

Okay, Justin, this is John. So again, let's step back in the full year guidance. We expected it to be up in 2022, and we talked about margin growth in the first half and margin contraction in the back half, which you had mentioned, Justin. And that's exactly what happened. The first half was up 1.4 percentage points and the second half was down 0.7 points. And the fourth quarter was right in line with the second half being down that 0.7 point. So overall, fourth quarter was down 0.8 points. A couple of things driving that is first the unfavorable mix that was the biggest driver of the reduction. And Justin, that was business that was mixed within our business groups. You had mentioned between our business groups, right and some of our higher margin products did grow at a faster rate, but that was offset by unfavorable mix within the groups. And in particular, that was within the equipment and services group behind very strong sales of locomotives and modernizations versus last year. And to put it in perspective, we sold 30% of all combined locos and MODs were sold in the fourth quarter. So that put that pressure on it. And if you recall, Justin, in the third quarter, mix [ph] margins came in a little bit better than what we had anticipated. And at that time, we talked about some of our international local MOD deliveries being pushed from the third quarter to the fourth quarter. So that was why it was a little bit more pronounced maybe than was expected. So that was a big piece of it. The other piece was really our continued investment in the future of our business and decarbonization. So part of that was the technology spend. And as you can see on the face of the P&L, that was up $8 million on a year-over-year basis. And again, that is our investment in hydrogen and battery electric as well as digital. And the other piece with regards to our investment in the future were costs associated with the commercialization of the first battery electric locomotives. So we -- about a year from now, we'll be shipping out the first battery electrics. We couldn't be more thrilled or excited about that. And in the fourth quarter, we had costs and as you remember, we wouldn't have had those same costs in 2021. So that's what's driving the negative variance on those. But overall, we're right where we expect it to be on a full year basis. And certainly looking forward to moving into a strong 2023.

John Olin:

Well, I would say generally, overall, half of it was mix and the other half was a combination of the investment in both technology as well as the commercialization costs.

John Olin:

Yes. First, Justin, the first question is the use of the generation of cash that we expect to have in 2023 is part of our -- included in our guidance. You had mentioned repurchases, again, that could come in the form of acquisitions. It could come in the form of share repurchases. It all depends on if we have the right M&A, we'll invest it that way. But the cash generation is contemplated in the guidance that we provided this morning. When -- the second question is, when we move to revenue and margin cadence. I think the most important part is on a full year basis, we expect our operating margins to be up moderately versus 2022 margins of the 16.2 and to be generally in line with our long-term margin growth framework that we presented at our Investor Day about a year ago, Justin. So okay, let's talk about revenue and margin guidance for 2023. I want to start with 2022 because it certainly plays into what we expect in 2023. All through 2022, we characterized our revenue and margin cadence as higher margin growth in the first half and higher revenue growth in the back half. And that's exactly the way it played out. In 2023, we expect to see the opposite cadence that we had in 2022. Consequently, we expect higher revenue growth in the first half versus the second half of 2023, and we expect our full year margin growth to come largely in the second half of 2023. And as you can imagine, the drivers of this are the cadence that we continue to see with -- I'm sorry, the driver of the cadence is the mix impact of our international locomotive sales. And Justin, as we talked about it, they were pretty pronounced in the back half of 2022 and we would expect more mix headwinds in the front half of 2023 as some -- as we execute on some of those international locomotive sales. And then the second reason is that we're comping against higher 22% margins in the first half and stronger 2022 revenue growth in the second half.

John Olin:

Thank you, Justin.

Scott Group:

Hey, thanks. Good morning guys. So any color on the new Tier 4 local orders, is that one rail or multiple rails, and can you say who it's with and how you expect that order to be split out over the next couple of years? And then just maybe just separately, as I think about like markets, any update here on ECP breaks, it's in the news a little bit, how you think about that opportunity?

Scott Group:

Okay. And then as I think about last year and now your guidance for this year, right, better revenue growth is sort of coinciding with maybe some margin pressure and I know sort of when revenue growth slows, some better margins. Is there something we can do to sort of get both at the same time of good revenue growth and margin improvement sort of coinciding with each other, I'm just curious how you think about that over the next few years?

Scott Group:

Okay, thank you guys.

Unidentified Analyst:

Hey, good morning. This is Matt on for Chris. Thanks so much for taking the question. If you guys could just touch a little bit more on how you're evaluating acquisition opportunities and sort of how we should be thinking about the year in 2023 and if you think sort of in 2022, if there is any comparable metrics on that front, just sort of show your puts and takes on how you're thinking about that moving forward into this year?

Unidentified Analyst:

Awesome. Thanks so much for that detail. And just following up on a little bit of a separate topic, just touching on rail volumes in general. I know that you said they came in a little bit softer in the fourth quarter and that potentially wait on business some aspect. I didn't know if you had any sort of comments regarding rail volumes, seeing a little bit of a weaker freight economy in the first half of this year. And do you think that, that -- if there's any risk associated with that 2022 guidance that you guys issued? Thanks.

Unidentified Analyst:

Thanks so much for the detail.

Saree Boroditsky:

Good morning. So you highlighted $5 million of savings realized this year as part of integration 2.0. Could you provide any color on how you're thinking about these savings into 2023?

Saree Boroditsky:

Thanks. And then one of your competitors recently took a large impairment charge on the lower outlook for locals and MODs. Could you maybe talk about the competitive environment and how you're thinking about market share gains?

Saree Boroditsky:

Okay, thanks for taking the questions.

Operator:

The next question comes from Jerry Revich with Goldman Sachs. Please go ahead.

Rafael Santana:

Jerry, a couple of things. Number one, we do expect both margin expansion across both segments and revenue expansion on both segments for the year. On transit and specific in the fourth quarter, I think there's benefit from really a catch-up in the quarter. Some of that was an element of supply chain disruptions, which we've had. There was certainly the cyber incident, which had a significant impact there in the third quarter. And -- but we also have had, what I'll call, underlying growth for the business. The fundamentals for the business are good. The book-to-bill is above one. The 12-month backlog on a constant current basis is above 14%. Our multiyear backlog on a constant currency basis above 9%. And at the same time, while we're pleased with the progress, I think we still have significant work ahead to really simplify the footprint, further improve margins. We will have variation quarter-to-quarter but we're committed to continuing to expand margins here and take action to drive profitable growth in the business.

Rafael Santana:

Jerry, MODs growing double digits. The good news there is the element of multiyear orders that give us visibility, in this case all the way out to 2025. So we feel strong about that. And when you have that visibility, you're actually really able to translate that into, what I'll call efficiencies across the supply chain, which drives both quality and the product. So product performance being up, the other elements you're able to translate that into also I will call economies that you're able to pass around to your customer. And I don't see necessary constraints tied to our overall capacity. The one thing I would highlight to you, I mean, we're certainly continuing to operate in a very challenging supply chain environment. There are some areas that have improved, but electronics, I think, is an area that we continue to see bottlenecks there. And some of those will extend throughout the first half this year at least as far as we look at it. So I think that's the element to keep it in mind.

Rafael Santana:

Thank you.

Kenneth Hoexter:

Great, good morning. Just two clarifications, I guess, before I jump in. Is this a legacy contract on international locomotives or is that just structurally lower margins? And then mix, John, you mentioned, I think, three times already that the mix within category like equipment, is that because you have lower margins on MODs versus new equipment or is there something else that I'm missing? Just if I can understand those two.

Kenneth Hoexter:

Okay. I got that, John. I just thought you meant within the group. But if you just mean one group being equipment versus services, then I get that. And then Rafael, you talked about the $600 million kind of run rate per year. I think you got a question on that earlier. Is there any reason you don't give number of MODs or new builds in order to track how you're doing versus that historical level, obviously, we know when it was zero it becomes irrelevant, but as it scales and gets larger, is there still a competitive differentiation in giving that number to understand when we're getting back towards a normal run rate as we get into the few hundred in that mix?

Kenneth Hoexter:

Yes. So you're saying even to break it out -- even to put them together, both MODs and locos, it's still...

Kenneth Hoexter:

And then my just last one on the -- John, you had a question before about the progress on the expense cost specifically in 2023, right. Obviously, you had $46 million. Are you not talking specifically to a number and kind of what's in that guidance just so we can understand and then you talked about two plants being shut down or I think it was four plants you mentioned. What are the -- are there big projects coming in 2023 that we can kind of look at as far as where you get those synergistic gains?

Kenneth Hoexter:

And are those in SG&A and corporate costs or is…?

Kenneth Hoexter:

Thank you.

Matthew Elkott:

Good morning and thank you. First, just a quick follow-up to the competitive landscape question earlier. Historically, how much have you guys done in the line of upgrading non-Wabtec locomotives and do you think there are opportunities there going forward?

Matthew Elkott:

That's good to know Rafael. And speaking of international, I think last month, Siemens announced the 1,200 freight locomotive order with Indian railways. Is that something you guys would have bid on and just generally, any update on the India opportunity for you guys will be helpful, there's a significant infrastructure effort there, and I think they just raised their CAPEX for that for the next fiscal year to 10 trillion Rupees or $120 billion?

John Olin:

And then the order Siemens, that was for electric locomotives that we are currently not in the market.

John Olin:

Yes, Matt. It's just the -- our technical term is lumpiness of backlogs. When we look at 2022, we had a very strong year in overall backlog. So they were both up -- but if you look at it on a quarterly basis, there is a lot of volatility. So the first half -- the first quarter in 2022, we're up $0.5 billion, $600 million in the second quarter and then down in the third quarter, about $4 million to $5 million and down 500 in the fourth. So it's just a nature of how the backlogs come in and go out and what we're comparing to and lapping. So you're always going to see a fair amount of volatility from quarter-to-quarter.

Matthew Elkott:

Yes. Makes sense. Thanks Rafael, thanks John, thanks Kristine.

Operator:

The next question comes from Dylan Cumming with Morgan Stanley. Please go ahead.

Rafael Santana:

So I'll go back to my early comments, I'm not going to speculate on how the recovery or volume I have looks like. What I can tell you is we've got great coverage done we had in the business especially if I go back like 2019, and that's represented by backlog we have. I think the other point we wanted to make there is that we're still at trough levels and if you connect out to the age of the fleet, if you connect that to the elements of how you continue to drive productivity, if you start thinking about obsolescence of components into that fleet together with the component of the ESG, I think you've got a lot of opportunity here to continue to build out on that momentum. That's really the point that we want to make.

Rafael Santana:

So I'll start with double digits growth last year. We see the opportunity to drive double-digits again for this year. We had about $1 billion in orders for Digital Electronics in 2022. I think this is, well, number one, a significant increase versus the year before. And book-to-bill was really above -- very positive, in fact, for 2021 and 2022, one of the highest between our businesses. Some of these are multiyear agreements. So no different than the past couple of years. We need to drive convertibility of orders in 2023 to cover that. North America continues to improve. Internationally, the pipeline continues to be very strong. I think some progress made here on recurring revenues, I think we talked about that a little bit into the business. We've got some additional work to be done there. And supply chain has improved the bet into the fourth quarter here, and that's, I think, some of the goodness you saw. But as I mentioned, I think we're continuing to see tough dynamics in supply chain in the first half of the year in terms of chip shortages and semiconductors and some auto ones.

Rafael Santana:

Thank you.

Steve Barger:

Thanks. On the guidance slide, it looks like you expect growth in all the categories you list. Are those rank ordered by growth rate and do you expect anything in the portfolio will contract in 2023?

Steve Barger:

Can you give us any more color around the growth rates that you do expect for those categories?

Steve Barger:

Can you tell us how much of the 6% projected growth is price?

Steve Barger:

Thanks Rafael. And just to make sure we're thinking correctly about the cadence comments. If I assume a first half freight margin similar to 4Q, and transient margin around the average of last year, it looks like first half EPS will be down somewhere mid to high single digit versus 2022, is that how you're thinking about that first half progression?

Steve Barger:

Understood. But given the mix issues that you're talking about, should we assume that the first half freight margin is similar to 4Q?

Steve Barger:

Got it. Thanks.

Operator:

This concludes our question-and-answer session. I would like to turn the conference back over to Kristine Kubacki for any closing remarks.