Andrea van der Berg:

Thank you, Operator. Good morning, everyone, and welcome to Xylem's second quarter 2024 earnings call. With me today are Chief Executive Officer, Matthew Pine; and Chief Financial Officer, Bill Grogan. They will provide their perspective on Xylem's second quarter 2024 results, and discuss the third quarter and full-year outlook. Following our prepared remarks, we will address questions related to the information covered on the call. I'll ask that you please keep to one question and a follow-up and then return to the queue. As a reminder, this call and our webcast are accompanied by a slide presentation available in the Investors section of our website. A replay of today's call will be available until midnight August 6. Additionally, the call will be available for playback via the Investors section of our website under the heading Investor Events. Please turn to slide two. We will make some forward-looking statements on today's call, including references to future events or developments that we anticipate will or may occur in the future. These statements are subject to future risks and uncertainties such as those factors described in Xylem's most recent annual report on Form 10-K and in subsequent reports filed with the SEC. Please note that the company undertakes no obligation to update any forward-looking statements publicly to reflect subsequent events or circumstances and actual events or results could differ materially from those anticipated. Please turn to slide three. We have provided you with a summary of our key performance metrics including both GAAP and non-GAAP metrics with references to prior year segment metrics being made on a comparative basis reflecting the change in segment as of the beginning of the year. For purposes of today's call, all references will be on an organic and/or adjusted basis unless otherwise indicated. And non-GAAP financials have been reconciled for you and are included in the Appendix section of the presentation. Now, please turn to slide four, and I will turn the call over to our CEO, Matthew Pine.

Bill Grogan:

Thanks, Matthew. Please turn to slide five. Q2 was another great quarter, and I want to thank our entire organization for their amazing work. We outperformed against our guide across revenue, margin, and earnings per share. We continue to see resilient demand, and our backlog is at $5.2 billion, a modest decline from prior year as we execute on MCS past due backlog. Book-to-bill was approximately one, supported by strength in water infrastructure, while organic orders were down 1% in the quarter driven by project timing within MCS and WSS. Total revenues grew 26%, and organic revenue rose 9%, exceeding our guidance on a healthy combination of volume and price. Outperformance was led by MCS and WSS, as we saw growth in all regions led by double-digit growth in the U.S. EBITDA margin was 20.8%, up 170 basis points from the prior year, with productivity savings, strong volume and price more than offsetting inflation, investments, and mix. This reflects incrementals of 28% on a consolidated basis, and 50% on a pro forma basis. Our EPS in the quarter was $1.09, above the high end of our guidance by $0.04 and up 11% over the prior year. Our balance sheet is strong with net debt to adjusted EBITDA at 0.7 times. Year-to-date free cash flow was up 200% versus the prior year. And conversion of 62% is strong given seasonality. This year-over-year improvement was driven by higher net income, offset slightly by increased CapEx. And, we continue to benefit from improved working capital efficiency. Please turn to slide six. Measurement and Control Solutions had another great quarter, and again, exceeded our expectations. MCS revenue is up 26% driven by smart metering demand and backlog execution. However, due to project timing orders were down 18% and book-to-bill came in under 1. We worked down past to backlog. And total backlog for MCS now sits at roughly $2 billion, A 12% organic decrease from prior year. We finished the quarter with impressive EBITDA margins of 23.4%, up 700 basis points versus the prior year and up 70 bps sequentially. Margin expansion was driven by volume, price, productivity, and favorable mix, more than offsetting inflation. As a reminder, we continue to expect a margin headwind from mix in the second-half as energy meters account for a larger portion of our sales. In Water Infrastructure, orders were up strong, 8% in the quarter, led by robust treatment demand. Revenue exceeded our expectations with total growth of 22% and organic growth of 7%, driven by healthy demand across all regions and applications. Adjusted EBITDA margin for the segment was down 60 basis points with roughly 40% pro forma incrementals. This decline was driven by inflation and acquisition, but was offset partially by productivity, volume, and price. Without the impact of acquisitions, adjusted EBITDA margin improved 40 basis points for the quarter. In Applied Water, orders were up 5% and book-to-bill was greater than 1, reflective of a few large project wins which will ship next year. Revenues were down 4% in line with our expectations lapping strong comps and 12% growth in the second quarter of last year. Decline was primarily driven by softness in developed markets. Segment EBITDA margin declined 200 basis points year over year, but increased 100 basis points sequentially. Higher inflation and unfavorable mix was partially offset by productivity savings. Closing the segments with Water Solutions and Services, orders declined 1% organically driven by timing of large capital projects, offset by strength in the watering. Organic revenue was up 12% with healthy growth across most of the business. Adjusted EBITDA margin was strong at 23.8%. Up 60 basis points and driven by volume, productivity, and price. Offset in part by unfavorable mix and inflation. Two quarters in re-segmentation, we continue to see synergy momentum and benefits for our customers in combining our service-based offerings. Now, let's turn to slide seven for updated full-year and Q3 guidance. Given our first-half outperformance and both commercial and operational momentum, we are raising our full-year guide. We are increasing our revenue guide by approximately $50 million, up from $8.5 billion. This reflects an additional 0.5 point of growth at the midpoint versus our prior guidance. That will put total revenue growth at approximately 16% and organic revenue growth at 5% to 6%. The integration is going smoothly and we continue to expect $100 million of exist run rate cost synergies in 2024 with a potential to accelerate by yearend. We are confident about driving further margin expansion with operational productivity and are raising our EBITDA margin guidance to about 20.5%. That represents 160 basis points of expansion versus the prior year, driven by higher volume, productivity including cost synergies and price offsetting inflation. Our updated EPS guidance of $4.18 to $4.28 reflects an increase of $0.06 at the midpoint. Free cash flow conversion for the year is now expected to be over 120% of net income. The full-year outlook at the segment level remains largely unchanged with the exception of MCS, which we now expect to grow at high teens during our first-half performance versus our previous outlook of low teens. For the quarter, we anticipate revenue growth will be 3% to 5% on a reported and organic basis. We expect third quarter EBITDA margin to be in the range of 20.5% to 21%, up 70 to 120 basis points, driven by higher volumes, continued price realization, and productivity gains. This yields third quarter EPS of $1.07 to $1.12. Our diversified portfolio of mission-critical products and services positions us well to address our customers' evolving needs, and we anticipate healthy demand across most end markets and applications. And we talked about our driving profitability through simplification efforts and our 80/20 implementations at the Investor Day in May. We are progressing well on those initiatives, and I want to reiterate our commitment to systematic margin improvement through operational excellence, supporting our long-term profitability framework. While we are closely monitoring the macro environment, including geopolitical, election uncertainty, and tariffs, our overall outlook for the year remains positive. With that, please turn to slide eight. And I'll turn the call back over to Matthew for closing comments.

Operator:

And we will now begin the question-and-answer session. [Operator Instructions] And at this time, we'll pause momentarily for the first question. And our first question today will come from Deane Dray with RBC Capital Markets. Please go ahead.

Matthew Pine:

Hey, good morning, Dean.

Andrea van der Berg:

Thank you, Dean.

Matthew Pine:

Yes. No, no, happy to give an update. So, again, the teams are progressing well. Like you said, we have three businesses in the thick of implementing the toolset. North American AWS and North American M&CS smart metering businesses, they're a few months ahead of global transport that kicked off in the second quarter. And we actually just had a kickoff for Applied Water, in Europe, that started on their journey last week. AWS and smart metering have gone through their initial quads and quartile analysis. And now they're working through the [need] (ph) of segmenting their businesses, how they want to support their ongoing customer base, and building their [zoom up] (ph) P&Ls really highlighting the appropriate level of resources they need to run those businesses. They've come out with some initial price increases. Again, those benefits take a little while to work their way through the backlog. So, again, no material short-term benefit, but we see a significant pickup at the end of this year, leading into 2025, where we'll see a more material P&L hit or pickup. The teams are focusing on communicating with their customers and how their toolset is going to impact them, really talking to their largest customers on how these changes will benefit them in the long-term, really improving the overall experience with Xylem as we bring new product innovation to them faster, improve our delivery and quality to them, so a lot of excitement around the toolset externally for their customer bases. So, progress continues. I think we're right on schedule. Again, confident in the value 80/20 is going to bring and provide for us over the next several years, really in line with what we highlighted in the additional impact the toolset is going to have in the framework we laid out back in Investor Day.

Matthew Pine:

Thanks for your question, Deane. We didn't see this one coming. If you asked us three months ago, this was not on our radar. So, we're reacting to lots of different volatility out in the marketplace. But the Supreme Court striking this down, the Chevron doctrine, it does introduce some uncertainty in some regulations and federal laws, there's the risk of being challenged, much like the EPA's final rule on PFAS, to your point. Additionally beyond that, Deane, there's litigation ongoing already that's challenging EPA's cost estimates used to set the MCL level, the maximum contaminate level, that four parts per trillion, as you're aware. And it's only going to potentially push out what's already a long phasing timeline of three years to test and five years to mitigate PFAS. So, to your point, we think, ultimately, the states are going to fill in the gaps if the national PFAS regulation is reversed. We don't really anticipate that, but if it does you've got about 11 states today that have MCL, the maximum contaminate level for PFAS in drinking water already, even another 12 states that have some kind of PFAS regulation around guidance health or notification levels, things of that nature, and that's over half the U.S. population. So, while it may stumble a little bit out of the gates and there's going to be some challenges, that we're already seeing challenges in litigation, that's why we didn't bake it into our long-term framework. We just think it's too far out. But we stand ready to and well-positioned to partner with utilities, and we have partnered with utilities, as you know, and helping them manage this and other emerging contaminants. So, more to come, but that's kind of what we think.

Matthew Pine:

Thank you.

Mike Halloran:

Hey, morning, everyone. Thanks, Andrea.

Andrea van der Berg:

Thanks, Mike.

Matthew Pine:

Yes, Mike. No change or expectations for the second-half. Yes, I think it's playing out exactly how we thought when we gave our update last quarter. Yes, with the exception that we had some accelerated performance in M&CS, which drove us to take up our full-year guide, we increased our full-year revenue guidance up to 5% to 6% and some timing of capital projects in WSS that drove better results in the second quarter. Sequentially, Q3 looks a lot like Q2 from a dollars perspective, which is more challenging year-over-year comps really driving the lower implied organic growth rate. So, we're still confident, bullish in most of our end markets. The macro noise that we highlighted is there's things out there, but from our perspective, we don't see material impact or any signaling of expected slowdown for us. M&CS, there's still high demand for our smart metering products and our differentiated AMI network. Orders were down, but again, that's primarily just project timing. There's still a strong funnel of large deals in the U.S. and Europe and we had several wins recently, a really good one that leverages synergy sale with the [Adrica] (ph). So, the team continues to do an excellent job of finding new projects and winning new business. WSS, again, really strong growth, just really the timing of capital projects there, but they still have strong demand across the legacy ISS and the watering business. They had some orders lumpiness. Again, we had a huge build on operate project last quarter. We have a couple more of those in the funnel that could be realized in the orders here over the back-half of the year. So, really nothing there that is any concern, so bullish around kind of their high growth verticals. Water Infrastructure, again, really strong performance on healthy demand, high-single-digit orders with growth across all the regions, treatment was up over 20% with some large project wins. The Transport business is one of our most differentiated business, and continues to perform well. So, our developed markets and pretty much all our applications within WI are doing extremely well. AWS obviously is the one market that remains a little bit challenged. Again, it's our shortest cycle, most cyclical group of businesses. But what we've seen there has been pretty consistent with our expectations, kind of low-single-digit, second-half comps get a little bit easier, so they'll gradually get to a lower organic decline. And then some of the project wins that we highlighted in the prepared remarks, we'll start to get them back on the road to growth in 2025.

Matthew Pine:

Yes. I would say backlog is still really strong. It declined slightly organically, that's primarily just us continue to work down the MCS past due backlog. That's a tough one to forecast just because of the lumpiness of some of the large projects within MCS and again just the new business opportunities within WSS on the build on operate. So, I think we'll bleed a little bit here as we progress the year, but still confident in kind of our long-term growth frameworks for the individual segments getting into 2025. So, I would say lumpiness probably gives us a little bit of caution to give you a specific number, but again, robust demand and outlook for most of our end markets.

Bill Grogan:

No, exactly. That's spot on.

Bill Grogan:

Thank you.

Scott Davis:

Hey, good morning everybody and congrats Andrea, on your move. Hey, guys, you didn't talk at all about capital deployment, which is fine because you still have Evoqua coming in. But is there a certain tipping point where you get more confident being able to do deals? Are we close to that? Are we there? Just some commentary would be helpful.

Scott Davis:

Okay. Good question or a good answer. Thank you. And guys, I don't I'm sure you don't want to give a lot of detail here, but you referenced the large project wins. I assume those are domestic. Are they related to mega projects? Can you give us a little bit of color on kind of the scope and size historically versus how you kind of think about what large looks like? I mean, there're so many big semi plants, just stuff out there of scope that we've never seen before that love to get a little color from you on those projects, if you can.

Scott Davis:

Okay. Thank you, and congrats on the first couple of quarters of the year here, well done. I'll pass it on.

Operator:

And our next question will come from Nathan Jones with Stifel. Please go ahead.

Matthew Pine:

Good morning.

Matthew Pine:

Yes. I'd start us out here and then maybe turn it over to Bill. Again, just a reminder, we're still in fairly early innings to mid innings in AMI adoption. So, there's a lot of runway out there. And although it doesn't always show up in orders, we do obviously put some of the orders in backlog and it's or some of the contracts in backlog and how they convert to orders can be a little lumpy. And this is also a reminder that only 20% of that business is kind of big deals, 80% of it is book and ship or what we call flow. But Nate, just looking at the pipeline that I see, we've got a lot of room for continued growth in that business. And we don't see it slowing down. It's just a matter of timing, more than anything.

Matthew Pine:

Yes. And I think you had asked a few calls ago about where we are in past due. We expect to be almost complete with the past due backlog by the end of the year and probably wrap that up in Q1 of next year. So, that burn is happening and obviously leading to the increased guide and M&CS revenue at the high teens.

Bill Grogan:

Yes. No, Nate, I think you're exactly right. That's a big part of the tool set as you start to reduce a lot of the complexity of the product portfolio. We get a lot more efficiency through just faster-moving inventory. Obviously, you reduced the complexity of a tremendous amount of long-tail customers and your DSO improves from that perspective. So, I totally agree, we'll see some benefits. The team does a phenomenal job right now with our overall cash conversion. But I think 80/20 will be able to take it to the next level. But I think that will be on the back end of the P&L benefits that we get. So, probably looking at as you get through the implementation, we said, hey, 12 to 18 months to realize the P&L benefits, it's probably in that 18 to 24 months. That's the second phase of simplification on the back end.

Bill Grogan:

Thanks, Nate.

Joseph Giordano:

Hey, good morning, guys.

Joseph Giordano:

Andrea, thanks for everything. You've been a huge help. If we -- if anything happens with water infrastructure, we'll now know who to blame on it.

Joseph Giordano:

A lot of my questions have been asked already, but maybe if you could touch on since moving the service business and combining it with WSS, like any like concrete kind of examples of how this is changing like conditions on the ground for you guys and leading to better results.

Joseph Giordano:

And then if I can ask maybe you talked about data center and stuff like that. If I think about like the large project pipeline at WSS and maybe also like general industrial-type exposure to infrastructure, are you seeing any bifurcation there because data center is definitely strong, but the commentary around large project activity in other sectors is kind of weakening. So, curious if you're seeing like puts and takes in any of those businesses there?

Joseph Giordano:

Thanks, guys.

Operator:

And our next question will come from Andrew Kaplowitz with Citigroup. Please go ahead.

Andrea van der Berg:

Thank you, Andrew.

Matthew Pine:

Price-cost was positive there. I think the biggest impact, and that's why we highlighted just the acquisition element, second quarter last year, during the short time that APT was part of that segment, it had an unusually high margin. It was in the low 20s versus its normalized rate of the teens. So, that was the biggest difference. That's why we added in the pro forma margin expansion, 40 bps, and it was at 40% performance incremental. So, fundamentally, the profit there is still strong. It's sequentially improved. We expect it to continue to sequentially improve as we progress to the back-half and have year-over-year margin expansion. I would say from a water infrastructure perspective, they do have probably the largest piece of our China exposure. China's been a little bit lumpy for us. It's actually the first-half it's been positive from a revenue perspective. The orders were down, but we see some of the larger projects, especially within treatment, continue to get delayed just as I think China is trying to figure out the overall economic situation and how they're going to fund several things across their investment framework. So, that's probably the one area we are continuing to keep our eye on as things just seem to be perpetually shifting to the right.

Matthew Pine:

Yes, I think third quarter is still down, low single digits. Fourth quarter is probably closer to zero. Again, it's relatively in line, I mean, sequentially, the dollar amounts. The decline is largely seen in developed markets and primarily in our commercial and industrial space. Again, from a macro perspective, the institutional ABI has been negative for 16 consecutive months. And we continue to see manufacturing PMI, which are good indicators for us for that business. But I give the teams a lot of credit. Matthew highlighted; they're making their own luck. They're leveraging their differentiated technology to win some of these larger projects to get back on a growth track into next year.

Matthew Pine:

Thanks, Andy.

Bryan Blair:

Thank you. Good morning, everyone. Andrea, thank you very much for your help.

Andrea van der Berg:

Thank you, Bryan.

Bill Grogan:

Yes, I mean, we think it could be around 100 basis points in the back-half, sequential decrease from where we finished the first-half.

Bryan Blair:

Very encouraging. Thank you again.

Operator:

And this concludes the Q2 earnings call. I would like to turn it back to Matthew Pine for any closing remarks.

Operator:

The conference has now concluded. Thank you for attending today's presentation. You may now disconnect your lines at this time.

Matthew Pine:

Thanks, Bill. Two things I want to mention before we close. First, it's been such a privilege in my first 100 days as CEO to spend time with so many Xylem colleagues around the world. You can see they're doing fantastic work, and it's evident in today's results. And our integration progress is a great indicator of how smoothly the Xylem and Evoqua teams have come together. As a combined company, there is so much potential for growth and impact, especially as we pivot to even stronger execution of our strategy.

Deane Dray:

Maybe we can start with the Evoqua integration and just lots of focus here on the potential revenue synergies, the rollout of the European business. Just any color there in terms of what the potential is on some new outsourcing contracts? And then also, can you just -- any color on that large outsourced contract. That would be helpful too.

Matthew Pine:

No, it's a great question, and you pretty much hit on 3 of my key messages that I'll be taking up in the Investor Day with me. Look, we're extremely focused on executing on the platform that's been built over the past decade, especially over the past year with the acquisition of Evoqua to drive above-market growth. I mean that's our mantra. This is our #1 execution priority in our goal deployment process this year, and it will be in the future years. And it's really obviously bolstered by the Evoqua synergies.

Michael Halloran:

So a couple here. First, maybe just taking a step back here, you've been [indiscernible] year-to-date 100-plus days, Bill, you've been there, what, 6, 7 months now. What are the initial impressions as far as the momentum you're seeing, how the messaging you 2 are pushing through are starting to sink into the culture, sink in to the people? And what kind of impressions do you have so far?

Matthew Pine:

Maybe I'll let Bill open up on your orders question, I'll give us some commentary and color on the markets.

Matthew Pine:

Yes. So good momentum on orders in Q1. The book-to-bill was greater than 1 and backlog up 4%. And not a lot has changed. Demand remains healthy, Mike, in the majority of our end markets. And it's supported by a lot of the favorable drivers that we've been talking about around the secular trends. Government funding is trickling in globally across different parts of our coverage still a lot of resiliency in municipalities or utilities, OpEx and CapEx for that matter. I know that there's been questions about with rates, especially in the U.S. and in Europe with that slowdown, we're not seeing any slowdown. And you've seen with our results in the WSS segment this quarter, the durability of that business model. And I'm really proud of the M&CS team with their backlog conversion. We continue to win orders, though, and our orders are up year-over-year, and we've got good momentum there.

Operator:

The next question comes from Scott Davis with Melius Research.

Matthew Pine:

Yes. If you're referring to the cost synergies as a part of the Evoqua transaction?

Matthew Pine:

Yes. So look, we did announce $140 million when we did the deal. So it is a little bit more than $100 million. Look, we're running to a target much higher than 140. And we're going to land the plane for sure at 140, and we're going to make sure that we put that upside probably somewhat to the bottom line, but also somewhat investing in growth. It's probably a mixed bag of whatever the overage would be -- would kind of fall half to the bottom line and half the top line growth. It's easy when you do these deals to look at cost synergies and they're on paper and they look like, okay, they're easy to do, they're procurement, back office, they're lift and shift factories. It looks pretty straightforward, but there's a lot of work that goes into this and a lot of tracking. And I'm really impressed, Scott, of the capability that we have built through this transaction. And that's only going to help us as we go forward and deploy more capital in the future.

Scott Davis:

That makes sense. And the second question, I'd probably only get an opportunity to ask this once when you get a newer CEO. But when you think about the buckets of where Xylem is historically perhaps over invested or under invested or over loved or under loved, what stands out to you as areas of perhaps improvement that you'd like to see. I mean, you mentioned the cultural changes and some of the operational rigor. But if you could be more specific around -- around maybe some areas where you feel like you guys could use a little bit more love or the [indiscernible]?

Operator:

The next question comes from Andy Kaplowitz with Citigroup.

Matthew Pine:

Yes. I'd say it's largely what we thought. If you look at the prior Q1s, we're up 10% in each 1 of those. So it's a tough compare. But it's our most cyclical segment, we do continue to expect low single-digit decline this year. It's kind of in line with what we planned. We did, to your point, have good Q1 orders performance. There were a few larger projects in that, that are a little bit out in the future. So it's not something that's book and ship. It's more of future projects. But we do continue to see soft markets, especially in Europe and emerging markets is where our orders were down. Obviously, we're watching developed markets as well, but obviously, Europe plays into that. But our really weakness in Q1 was emerging markets and in Europe for Applied Water.

Andrew Kaplowitz:

Helpful. And then obviously, it was expected, but can you talk a little bit more about how the new EPA rules regarding PFAS affect Xylem. Did they change the time line at all when PFAS may be impactful? Or is it just kind of slow and steady wins the race for how to think about your impact?

Bryan Blair:

Great to drill down on M&CS margin performance, kind of eye-catching step up in profitability there. Maybe offer some finer points on the drivers, seem kind of broad-based in terms of productivity, volume price mix in the quarter? And whether there's anything that we should consider one-time-ish that benefited results? And then lastly on that front, is it still the expectation that margin will improve sequentially throughout the year.

Operator:

The next question comes from Nathan Jones with Stifel.

William Grogan:

Yes. I think, obviously, price capture has been a focus with rising inflation. We're going to talk more about that at the end of the month, just a new approach to strategic pricing. I mean, I think for us, it's really -- we're looking to offset our material inflation with price and then let productivity handle the balance of indirect and SG&A inflation and fund our investments. I think the teams have got the operational productivity down, and now it's for us just to continue to refine and our process relative to value capture for the products that we offer to our customers.

Nathan Jones:

I guess my follow-up question for Matthew. You talked about government funding kind of trickling in. There's I think, an increased focus in Europe on non-revenue water, big increases in the focus for that in the next [ half ] cycle and parts of Western Europe and Southern Europe after the 2022 drought. Can you talk about if there's any material opportunities from that increased focus on non-revenue water for Xylem's business over the next several years?

Operator:

The next question comes from Joe Giordano with TD Cowen.

Matthew Pine:

Yes. So -- we're -- obviously, we have the technology to capture through our acquisition with Evoqua coming together at Xylem. And we have over 80 PFAS installations to date. Actually, we just had 1 written up in Newsweek, I believe it was Newsweek a month or so ago up in Maine, where we were capturing PFAS from a well that they had dug to serve the increasing population. So we've got proven technology on the capture side. Where the innovation needs to happen and get to commercial liabilities on destruction. And then sensing, we can sense and bring it to a lab and get the sensing part of PFAS, but need to get sensors that can be in real-time flow. So those are the areas on destruction and real-time sensing whether it's innovation needed and our teams are working on that through our innovation labs. And with the 2 teams coming together from a legacy of Xylem and Evoqua, we believe that we can move faster and obviously spend less money getting there.

Matthew Pine:

Yes. I mean, look, on the power side, we're excited. It's one of our high-growth verticals. You heard Bill talk about the big win, $130 million build on operate win in hydrogen. And so we see that energy mix shift driving lots of opportunity for us. Specific to data centers, I do think it is a growth opportunity. We're starting to see it. Actually, one of our examples. I won't steal the thunder here at Investor Day coming up in a few weeks is about the data center, where we have synergy win there. But it's currently a small part of our revenue, probably less than $50 million.

Operator:

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

Operator:

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

Andrea van der Berg:

Thank you, Operator. Good morning, everyone, and welcome to Xylem's fourth quarter 2023 earnings conference. With me today are Chief Executive Officer, Matthew Pine; and Chief Financial Officer, Bill Grogan. They will provide their perspectives on Xylem's fourth quarter and full-year 2023 results, and discuss our outlook and guidance for 2024. Following our prepared remarks, we will address questions related to the information covered on the call. I'll ask that you please keep to one question and a follow-up, and then return to the queue. As a reminder, this call and our webcast are accompanied by a slide presentation available in the Investor section of our website. A replay of today's call will be available until midnight, February 13. Additionally, the call will be available for playback via the Investor section of our website under the heading Investor Events. Please turn to slide two. We will make some forward-looking statements in today's call, including references to future events or developments that we anticipate will or may occur in the future. These statements are subject to future risks and uncertainties, such as those factors described in Xylem's most recent annual report on Form 10-K and in subsequent reports filed with SEC. Please note that the company undertakes no obligation to update any forward-looking statements publicly to reflect subsequent events or circumstances, and actual events or results could differ materially from those anticipated. Please turn to slide three. We have provided you with a summary of our key performance metrics, including both GAAP and non-GAAP metrics. For purposes of today's call, all references will be on an organic and or adjusted basis unless otherwise indicated, and non-GAAP financials have been reconciled for you and are included in the appendix section of the presentation. Now, please turn to slide four, and I'll turn the call over to our CEO, Matthew Pine.

Bill Grogan:

Thanks, Matthew. Please turn to slide five. As Matthew mentioned, we are pleased with the strong finish to 2023. The team has stayed focused and consistently delivered throughout the year, exceeding on our expectations on revenue and earnings per share for Q4 and the full-year. We continue to see resilient demand and are supported by our $5.1 billion backlog, which grew 5% organically for the year. Organic orders grew 10% in the quarter, with book-to-bill approximately 1 for the quarter, and greater than 1 for the full-year. Total revenues grew 41%, while organic revenues rose 9%, exceeding our guidance of 4% to 5%. Outperformance was led by M&CS and Water Infrastructure. All regions grew led by double-digit growth in the U.S. EBITDA margin was 19.6%, up 90 basis points from the prior year, with productivity savings, price, and higher volume more than offsetting inflation. This reflects 33% incremental on the legacy Xylem performance. We finished the year with EBITDA margin of 18.9%, up nearly 200 basis points over prior year. Our EPS in the quarter was $0.99, above the high end of our guide by $0.03. When excluding the impacts of Evoqua, EPS was $1.10, up 10% over prior year. Our financial position remains robust with over $1 billion in cash, and available liquidity of approximately $2 billion. We ended the year with adjusted free cash flow conversion of 122%, exceeding our expectations and significantly improved versus last year. Please turn to slide six. Before I highlight each segment's fourth quarter performance, I want to touch on some changes you'll see in our earnings materials going forward. In the spirit of 80/20, we have simplified our earnings materials to focus on what is most important for investors. To assist with the transition this quarter, we have provided our historical presentation format in the Appendix. And now, on to the segment performance, measurement and Control Solutions saw robust orders growth of 14%, with strength across the portfolio led by metrology and assessment services. Backlog is $2.3 billion and book-to-bill is above 1, a reflection of the strong demand for our AMI solutions and other digital offerings. MCS revenue is up 21% driven by metrology backlog execution and strong demand. We finished the quarter with improved EBITDA margins of 17.3%, up 220 basis points versus the prior year, and up 160 basis points sequentially on productivity, price, and higher volumes. Water Infrastructure also saw orders growth of 9% for the quarter, with strength across the portfolio, led by robust treatment demand globally. Revenue exceeded our expectations with total growth of 30% on organic growth of 9%, driven by robust OpEx demand across all regions. EBITDA margin for the segment was down 90 basis points driven by the impacts of legacy Evoqua. When excluding the impact of Evoqua, EBITDA margin was up 50 basis points primarily due to price, productivity, and volume more than offsetting inflation and unfavorable mix. In Applied Water, although orders grew, book-to-bill was 0.9 times as we continue to work down our backlog and we saw softer demand environment in the U.S., our largest geography. Revenues were flat, in line with our guide, with the decline developed markets offset slightly by growth in emerging markets. Segment EBITDA margin expanded 80 basis points, with productivity and price more than offsetting inflation and volume declines. Integrated Solutions and Services, orders grew 5% on a pro forma basis, and book-to-bill was 1. Demand was driven by services. Pro forma revenue growth of 10% exceeded our expectations, as implied in our reported guidance, with healthy growth across the portfolio. Adjusted EBITDA margin was strong, at 21.1%, driven by price realization and volume. Please turn to slide seven, I will cover our segment outlook for the year. As Matthew mentioned, in December, we announced the creation of Water Solutions and Services segment. We are providing organic revenue guidance based on our previous reporting segments. Later this month, we will provide recast financial information aligned to the new segments. However, we expect the segment guidance outlook to largely be in line with the new segment structure, and will update as needed in our Q1 earnings call. In M&CS, we expected growth of low teens. Demand and order momentum for our AMI solutions remain strong. We expect to see sequential revenue improvement throughout 2024 supported by our robust backlog. In Water Infrastructure, we expect growth of mid-single digits. We expect resilient OpEx demand due to mission critical nature of our applications, and a healthy CapEx demand. We are continuing to closely monitor its office in China, where the majority of our business is in the utility end-market. In Applied Water, we expect a modest decline of low single digits. We continue to see pockets of softness across our end-markets, particularly in developed markets which make up about 80% of our business. We also expect to see headwinds as we lap price increases and our backlog returns to more historic levels. ISS growth is expected to be mid single digits with growth across both capital and services. We continue to see strong activity in our funnel, particularly in high-growth verticals such as food and beverage, energy, and life sciences. This segment is supported by $1 billion in backlog and a durable service business model. And as a reminder, the ISS growth outlook is on an organic basis. Now, let's turn to slide eight for our 2024 and Q1 guidance. The growth outlook by segment translates to 2024 full revenue of $8.4 billion to $8.5 billion, resulting in total revenue growth of 14% to 15%, organic revenue growth of 3% to 5%. EBITDA margin is expected to be 19.4% to 19.9%. This represents 50 to 100 basis points of expansion versus the prior year, driven by higher volume, productivity, and price offsetting inflation. This yields an EPS range of $4 to $4.20, up 8% at the midpoint over prior year. We are expecting approximately $100 million of exit run-rate cost synergies in 2024, which is embedded in our guide. Free cash flow conversion for the year is expected to be 115% of net income. Drilling down on the first quarter, we anticipate total revenue growth will be in the 36% to 38% range on a reported basis and 4% to 6% organically. We expect first quarter EBITDA margin to be approximately 18%, up 170 basis points, driven by higher volumes, continued price realization, and productivity gains. This yield first quarter EPS of $0.80 to $0.85. We are entering the year with momentum and from a position of strength. Our balanced outlook reflects our strong commercial position and the durability of our portfolio. While we also continue to monitor broader market conditions particularly in China in Applied Water which is our shortest cycle business. In the case of larger than expected volume declines, we are ready to take additional cost actions as needed to ensure continued focus on margin expansion. Overall, our expectations for the year remain positive as we build on a strong momentum. With that, please turn to slide nine. And, I'll turn the call back over to Matthew for closing comments.

Operator:

We will now begin the question-and-answer session. [Operator Instructions] Our first question is from Deane Dray with RBC Capital Markets. Please go ahead.

Matthew Pine:

Hey, good morning, Deane.

Matthew Pine:

Great, thanks, Deane. First, I want to just acknowledge the team's Q4 and full-year performance during really a transformational year for Xylem. We had the Evoqua combination, we announced that in January, followed by the Idrica partnership. And then obviously we had a leadership change, all that while dealing with a lot of macro challenges out there around the globe. So, the team's done an incredible job staying focused. I'm really humbled and excited to lead Xylem into the next chapter. We've built, as I've said before, an incredible platform over the past decade. If you look back six or seven years ago, half the company did not even exist, so a lot of really good momentum there. And from my perspective, we're in a very unique position with our platform leadership of this 10-year journey, to have visibility across the water value chain. And this really enables us to provide holistic kind of optimized solutions to our customers. And moving forward, we're going to continue to build on that platform. As COO last year, I did lead the strategic planning process at Xylem. So, we have, I'd say, really strong strategic continuity as we transition this year. And I've talked about three strategic execution priorities that we're focused on. Number one, we have to deliver the Evoqua value capture, that's first and foremost. That's the transformational deal that we did last year. Number two, is -- and you hit on it, is we've got to get after margin expansion acceleration. And we're going to do that through productivity and continuing to drive operational excellence through the business. And then lastly, scaling our services business enabled by digital, which we'll talk probably later in the call about the WSS segment for 2024 and its ability to help us do that. One thing I'd mention that we don't talk a lot, it's kind of the soft side, and that's on culture. As we bring two large companies together, culture is really important. And we've put a lot of focus in that area. We call it high-impact culture. And there's behaviors to drive alignment around our culture. And those behaviors are, first of all, to have our people be inspired to innovate. We don't want people to feel a fear of failure. We want them to innovate, and that's going to drive the next cash flows and top line growth in the company. The second is we want them to be empowered to lead, and empowered in the business. And then thirdly, and most importantly, we want them to be accountable to deliver. And so, those are things we're really pushing the organization on get around that'll, I think, help us going forward. Maybe the last comment I would make is we have a call to action in the company that we've been working on over the past few months, and that's we want to simplify water. And what that means is really bridging our aspiration, which is Let's Solve Water, which everybody knows our tagline, to our strategic execution priorities, which is really the what we're going to focus on. So, that's really the rallying cry in the organization, and that's what we're going to be focused in 2024.

Bill Grogan:

Sure. So, maybe I'll start with the first part of the question. And first off, 80/20 is a multiyear journey. As it gets weaved into the fabric of the culture, Matthew just highlighted, we are on a cultural evolution incorporate some new tools and behaviors into the organization. And you have to remember, 80/20 is kind of about systematic complexity reduction, and that takes time. It's not just a quick math exercise, and you're done. It's really about focused resource allocation methodology, aligning the teams around the things that matter most in the business. Obviously, there's a tremendous margin opportunity that comes with the toolset, but longer term, it's really a tool to drive better organic growth performance by over-serving your best customers and innovating around your best ideas. We've kicked off two pilots late in Q4 within Applied Water North America and North American Metrology within M&CS. It takes some time to do the analytics. And I look to see some benefits starting to evolve within six to 12 months. Obviously, as we get to Investor Day, we'll be able to put some more specific numbers around that. But I really think it's going to be a transformational tool for the organization as we roll it out, and be a big part of our longer term margin improvement story.

Operator:

The next question is from Mike Halloran with Baird. Please go ahead.

Matthew Pine:

Good morning, Mike.

Matthew Pine:

Yes, I could start this out. I mean, on the CapEx front, we've seen continued momentum there. For us, the proxy is our Treatment business. Orders were very strong both in Q4 and the full-year, up double-digits. And so, that gives us a lot of confidence. And that number is not only just in the U.S, that's a global number. So, every region is performing very well in treatment. So, from a CapEx perspective, we haven't seen any pullback or any concern there. And obviously, a big part of our focus in our portfolio in utilities is focused on the OpEx side, and that's about 75% of the revenue and that remains pretty strong. And it's also we've talked about buoyed, especially the long-term. It's not going to be this year or even in the next year, but over the next five to seven years, it's buoyed by regulation globally, whether that's in the U.S. with the Infrastructure Bill, which Includes PFAS funding or if you get into Europe with The Recovery and Resilience Act and then the AMP cycle in the U.K., that gives us a lot of confidence that we'll continue to see those markets do well. I'd say, industrially it's a little bit of a mixed bag on the new segment WSS, which is a Legacy ISS business, which contains assessment services and dewatering now. We're seeing strong momentum there, especially in power, life sciences, microelectronics, we're seeing a lot of bid activity there and we feel good about that. We've seen a little bit of lumpiness in the Applied Water end markets, especially resi. Some of that is just due to coming out of the pandemic where people were investing their discretionary income and upgrading their houses and also weather has played some of our role and that is a lot of our resi products are applied into Ag applications. And so, we've seen some lumpiness there in the U.S. and a little bit in Western Europe. So, that's a little bit of the view of the landscape.

Matthew Pine:

Yes. Mike, maybe I'll take that one. So, price expectations for next year are going to ramp down versus the capture that we experienced in 2023, will be a little over a point. That's still significantly higher than pre-pandemic pricing, yes, but it is an opportunity as we look forward, as we calibrate and hone in the skills to continue to capture the value for our products across the portfolio. Obviously, that one point plus varies across the different segments with M&CS and WSS going forward, probably stronger price capture opportunities. And then, 80/20, I think will be up as we roll out opportunities within AWS as they've done some additional analytics and we look for just a better pricing methodology and capture on some of the longer tail customers that we have. Obviously, we're leveraging price as one of our components to offset inflation. The team does a really good job driving operational productivity as a second lever to offset inflation. So, we're going to manage price and material costs and stay positive. Obviously, that will compress a little bit next year as pricing goes down, but also our expectations relative to inflation will be price material cost positive and then look for productivity to really enhance our margins as we move forward.

Scott Davis:

Hey, good morning, everybody.

Scott Davis:

Wanted to, you made some comments incrementally on China seemed a little bit more cautious, which is not a surprise just given what we've heard from others. But it looks like your business there has held up okay, at least versus some peers out there. But what maybe a little bit more granularity there would be helpful. Thanks.

Scott Davis:

Okay. That's super helpful. Your balance sheet is in fantastic shape and given the way you structured the Evoqua deal, just it leads me natural question would be, are there should we expect kind of some bolt-on acquisitions or anything kind of in 2024 that perhaps you could talk about your M&A backlog and just as much as talk about the pipeline, perhaps talk about your interest in doing deals? That would be helpful.

Operator:

The next question is from Andy Kaplowitz with Citigroup. Please go ahead.

Matthew Pine:

Good morning, Andy.

Bill Grogan:

Yes, I mean, relative to the largest impact in margin expansion for next year, I think M&CS leads the pack. Obviously, we've started our journey on margin improvement and recovery as they've gone through chip supply shortages, which I think for the most part has resolved. They've added capacity within the production facility to meet kind of the record backlog levels that they've had. They've gone out with incremental pricing to improve the quality of the margin within the backlog. And I think the value of their products and solutions, they're able to continue to drive incremental price as we go into next year. So, I think their ability to exit the year at near historic record levels of EBITDA margin is the target. As they continue to leverage their volume and drive some pretty significant productivity as they look at their labor and material footprint around their products. So, we're excited about the progress that they've made and look for them to continue to sequentially improve as we progress through the year in 2024.

Matthew Pine:

Yes, I think again, a lot of that is not changed from what we've said in the past. It's just, I think, being balanced in our approach and with a watchful eye to China. We've got that flat year-over-year, but there could be some potential headwinds there. And also with Applied Water, which is some of that cyclicality and timing as we think about that, Andy. So, from a long-term framework, none of that's changed. It's just really more thinking about in the context of 2024 and, thinking about going out with a balanced approach. We do have a lot of healthy demand across our largest end markets. When you look at the year from a seasonality standpoint, it's normalized. There's no change in terms of the seasonality of our business and how we ramp from Q1 through the balance of the year. I think the thing I'd leave you with too, is our margin guide reflects low 40s pro forma incrementals. And so, we feel really, really strong about the margin that we're delivering as well in the growth.

Nathan Jones:

Good morning, everyone.

Nathan Jones:

I'm going to follow-up on the margin question. I think the vocal cost synergies get you something like 80 basis points. And you're obviously going to get some pretty good margin expansion out of the M&CS operating leverage, which when I do the math, it gets me well in excess of 100 basis points top end of your margin expansion target. So, can you talk about what could be the offset there or increased growth investments or anything that's kind of muting some of that margin expansion that I might otherwise expect?

Nathan Jones:

Great. And then, my follow-up, Bill, I think you just mentioned that the chip supply issue has basically worked itself out. Can you guys comment on where the past view backlog is in M&CS today and when you expect that to get to whatever a normal level of past view backlog is?

Operator:

The next question is from Joe Giordano with TD Cowen. Please go ahead.

Matthew Pine:

Hey, good morning, Joe.

Joe Giordano:

I wanted to touch on Idrica. I guess one of the more like interesting kind of high level where can we go type stories within water, how to get a real connected utility. I'm just curious how you guys think about this. Like, how do we judge success? What how meaningful could something like this turn into, kind of over a near to medium term and just kind of maybe set expectations about where that can go?

Joe Giordano:

That's great color. And then, I just apologize if you mentioned some of this on the prepared remarks. I had to join late, but -- on Evoqua, like revenue side synergies, I know like selling an ISS solution outside the U.S. is going to take a long time to build out, but I'm curious if there's anything you could point to about like leveraging existing channels that you have and like Europe to put product through, which I would imagine would be a lower lift than to try to do a solution based on.

Operator:

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

Operator:

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

Andrea van der Berg :

Thank you, operator. Good morning, everyone, and welcome to Xylem's third quarter 2023 earnings conference. With me today are Chief Executive Officer, Patrick Decker; Chief Operating Officer, Matthew Pine; Senior Advisor and former Chief Financial Officer, Sandy Rowland; and Chief Financial Officer, Bill Grogan. They will provide their perspectives on Xylem's third quarter 2023 results and discuss the fourth quarter and full year outlook. Following our prepared remarks, we will address questions related to the information covered on the call. I'll ask that you please keep to one question and a follow-up, and then return to the queue. As a reminder, this call and our webcast are accompanied by a slide presentation available in the investor section of our website. A replay of today's call will be available until midnight, November 7. Additionally, the call will be available for playback via the investor section of our website under the heading Investor Events. Please turn to slide two. We will make some forward-looking statements in today's call, including references to future events or developments that we anticipate will or may occur in the future. These statements are subject to future risks and uncertainties, such as those factors described in Xylem's most recent annual report on Form 10-K and in subsequent reports filed with SEC. Please note that the company undertakes no obligation to update any forward-looking statements publicly to reflect subsequent events or circumstances, and actual events or results could differ materially from those anticipated. Please turn to slide three. We have provided you with a summary of our key performance metrics, including both GAAP and non-GAAP metrics. For purposes of today's call, all references will be on an organic and or adjusted basis unless otherwise indicated, and non-GAAP financials have been reconciled for you and are included in the appendix section of the presentation. Now, please turn to slide four, and I'll turn the call over to our CEO, Patrick Decker.

Sandy Rowland :

Thank you, Patrick. Before I go over the quarter's performance, I would like to take a moment to congratulate Bill. In the short time since he stepped into the CFO role, I've been impressed with how quickly he has immersed himself in the business and taken on financial leadership of the company. Like Patrick, I will continue to stay on as an advisor through March to ensure a smooth transition, but the company will be in great hands with Bill working alongside Matthew next year and I couldn't be more confident in Xylem's future. And now, let's look at the quarter. Please turn to slide five. As Patrick mentioned, the team has continued to deliver strong performance in Q3, exceeding expectations on growth, margin expansion, and earnings per share. Each segment outperformed including Integrated Solutions & Services. As a reminder, since the combination with the Evoqua, we began including ISS as our fourth reporting segment. For Xylem overall, total revenues grew 50%, while organic revenue rose 10%, led by particularly robust double-digit growth in the U.S. Western Europe grew a healthy 6% and emerging markets was down largely due to China, despite strengths in other parts of Asia and also in Africa. From an end-market perspective, utilities grew 16%, mainly driven by robust demand and price realization in both M&CS and water infrastructure. Industrial grew 5%, driven by strong demand in the U.S. and healthy demand in Western Europe. Lastly, building solutions grew 3% with strength in developed markets, more than offsetting moderation in emerging markets. Overall, demand remains resilient. Our backlog is now $5.2 billion, up 5% organically, and this includes a $1.3 billion contribution from Evoqua. Orders were up 3% in the quarter and book-to-bill for the company was approximately one. EBITDA margin was 19.8%, up 150 basis points from the prior year on higher volumes, productivity savings, and favorable price-cost dynamics. Our EPS in the quarter was $0.99, up 14% year-over-year. Please turn to slide six, and I'll review each segment's third quarter performance in a bit more detail. M&CS revenue was up 25%, driven primarily by improved chip supply and backlog execution, as well as strength in test and measurement. All regions saw double-digit growth, led by an impressive 31% in the U.S. Orders were down in the quarter due to the timing of metrology orders, while assessment services saw strong growth. Year-to-date, book-to-bill remains above one for the segment. Our M&CS backlog of $2.3 billion is up 11% organically versus the prior year, a reflection of strong continuing demand for our AMI offerings and the accelerating trend towards digitization. EBITDA margin for the segment was up 190 basis points versus the prior year, driven by volume conversion, price realization, and productivity, more than offsetting inflation. And now let's turn to slide seven, and I'll cover our water infrastructure business. Water infrastructure outperformed due to stronger-than-expected price realization and backlog execution, with reported growth of 40% and organic growth of 7%. As a reminder, we have integrated Evoqua's applied products technology business into the water infrastructure segment, further building out our treatment portfolio. This business outperformed expectations driven by stronger backlog execution. For both, utilities and industrials, the U.S. saw robust growth, while Western Europe proved resilient, offsetting some weakness in emerging markets. Organic orders in the quarter were up 14% year-over-year, and each region saw double-digit growth with particular strength in developed markets. EBITDA margin for the segment was up 50 basis points and 80 basis points when excluding the contribution of Evoqua. Please turn to slide eight for an overview of Applied Water. Applied Water revenues grew 1% on continued backlog execution, modestly better than expectations of flat revenue growth. Growth in building solutions was driven by continued strength in commercial, particularly in the U.S. While industrial was down modestly, there was resilient growth in developed markets, offset by moderation in emerging markets. Orders were up 2% in the quarter on strength in the U.S. And segment EBITDA margin expanded 20 basis points with continued strong price-cost dynamics and productivity, more than offsetting volume declines. Please turn to slide nine. Last quarter, we introduced Integrated Solutions & Services as our fourth segment. ISS brings a durable recurring revenue base from businesses including outsourced water, which provide outcome-based treatment services to customers. In its first full quarter with Xylem, ISS revenue exceeded our expectations as implied in our reported guidance. On a pro forma basis, ISS revenue grew 10% year-over-year, driven by strong price realization and backlog execution. Orders grew on a pro forma basis by 12% year-over-year with broad-based demand across industrials and utilities. Book-to-bill was greater than one, and backlog exceeded $1 billion to end the quarter up 14% year-over-year on a pro forma basis. Adjusted EBITDA margin was strong at 22.6%, driven by price realization and productivity. And now let's turn to slide 10 for an overview of cash flows and the company's financial position. Our position remains robust as we exit the quarter with over $700 million in cash and available liquidity of $1.7 billion. Net debt to EBITDA leverage is 1.2x. And year-to-date we have adjusted free cash flow conversion of 94%. Please turn to slide 11, and I'll hand it back over to Patrick.

Matthew Pine:

Thank you, Patrick. I am grateful and energized at the prospect of building on Xylem's momentum and creating our next phase of growth and impact. I'm also deeply grateful for Patrick's passionate, visionary leadership. His legacy is Xylem's bright future, having put Xylem firmly on a path of continuing profitable growth. The strength of our partnership is making it easy to deliver the continuity essential to all stakeholders in this handover as we approach the turn of the year. And as Patrick said, our thesis is constant, our strategy is sound, and we are committed to our long-range plan. Our team is solving customers' greatest water challenges with the most advanced platform of solutions in the world. In a fragmented, complex market, that integrated offering is a distinctive, competitive advantage. The opportunity ahead of us is to make it easier for even more customers to access the full range of capabilities they need to solve their most critical water challenges. In the process, we'll grow our penetration, our profitability, our durability, and our impact. The team and I look forward to sharing more color about the next phase of our growth at an Investor Day in May next year. We'll provide a further update on our combined company opportunity and long-range plan then. In the meantime, I'm pleased to share our nearer-term outlook. I'll provide a brief update on our Evoqua integration, and then a picture of what we expect in our end markets over the next period. And then finally, I'll ask Bill to provide guidance for the remainder of the year. Moving to slide 12, as you can see, the integration of Evoqua has gained quick momentum, and the team has come together remarkably fast. There's great collaboration, and we have the benefit of bringing two highly complemented cultures with a similarly strong sense of purpose together. We committed $140 million of cost synergies within three years, as well as exiting 2023 with a $40 million run rate. And as Patrick mentioned, that's well on track. But the rationale for the combination has always been about growth, the opportunity to create more value serving customers with our combined capabilities. In utilities, we'll deepen our penetration, especially with the addition of Evoqua's applied product technology offerings through our water infrastructure segment. The combination allows us to provide even more comprehensive treatment solutions in both clean water and wastewater. In industrial, we will scale our presence in attractive verticals with services offerings of ISS. We see long-term market expansion in growing verticals such as microelectronics, power, life sciences, and food and beverage. And geographically, we will scale Evoqua's products and solutions internationally, including the services business, by leveraging Xylem's global distribution platform. Both Xylem and Evoqua were market leaders on their own, but together, we're in even a stronger position. We are already seeing the benefits of scale, reach and integrated offerings, and a robust pipeline of global opportunities, as well as the combined wins both teams are posting. And as we integrate our two businesses even more deeply, we'll take advantage of the opportunity to optimize our portfolio for growth. That will include structuring our offerings in ways that are matched to how our end markets address water management. The job is to make it even simpler for them to access solutions they need, and we're already hearing how customers appreciate having fewer vendors to coordinate across multiple domains. Now, let's turn to slide 13, and I'll cover the outlook for our end markets. Our outperformance in the first three quarters of the year provides great momentum to build on. I especially want to echo Patrick's shout out to all of our teams for delivering such a standout performance this year, and in the third quarter. It's that kind of commitment and discipline that demonstrates the team's ability to execute through a dynamic macroeconomic environment. That said, we continue to take a balanced outlook and are monitoring signs of softness on a regional level, particularly in China, and some end markets addressed by our Applied Water Segment. As a reminder, our 2023 outlook is expressed on an organic basis. At a high level, we anticipate that utilities demand will continue to be resilient, and industrial demand will provide steady growth. Utilities compromise approximately 45% of revenue. They continue to show healthy demand, and we continue to expect growth of mid-teens. On the clean water side, we continue to see robust demand for our AMI solutions. On top of that, we're driving backlog execution on improved chip supply, and we're seeing even more traction on solution selling with our digital platform as customers increasingly value bundled offerings. We now anticipate growth of mid-20s up from low-20s previously. On the wastewater side, OpEx is expected to remain resilient in developed markets, alongside steady CapEx spend across regions, underpinning demand. We expect to see high single-digit growth in wastewater overall. Turning to industrial end market, which is about 45% of our revenue, we now expect global growth of high single digits up from mid-single digits. Developed markets continue to be resilient, although there are pockets of moderation in emerging markets. Lastly, in building solutions, which is about 10% of our revenue, we continue to expect growth of mid-single digits, driven by steady replacement business, particularly in commercial applications. Overall, the demand outlook continues to be positive despite some variability in macro indicators. While the organic view does not include Evoqua, the demand profile in ISS is resilient on a foundation of recurring revenues, further increasing the durability of our business. Now, I have the pleasure of turning the call over to Bill for the first time to walk through our Q4 guidance.

Patrick Decker :

Thanks, Bill, and thank you Matthew and Sandy. This is a bittersweet moment for me. I'm wrapping up my last earnings call with Xylem. Leading and helping build this enterprise has been absolutely the greatest privilege of my career. I'm so proud of what the team has achieved in the past 10 years. Of the work that we've done alongside our partners, serving our customers and communities, and of the value we've created together. That said, it's clear to me personally, we are only just beginning to realize our full potential. Xylem is strongly positioned, our momentum is accelerating, and there has never been a greater need for solutions to the world's water challenges. It's incredibly gratifying to know that me, that my more than 22,000 Xylem colleagues and our partners are going to take the work of solving water forward under an exceptionally strong leadership team. We are poised to have an even greater impact and to create even more value in the many years to come. On a final personal note to the many of you whose jobs include closely tracking and analyzing our business, I've come to know you quite well as you followed Xylem's growth. I admire and respect the work that you do. All the very best to each of you, and simply go keep making a difference. Now, we're going to take your questions, and so operator, let's open it up for Q&A.

Deane Dray:

Thank you. Good morning, everyone.

Patrick Decker :

Good morning.

Bill Grogan :

Appreciate it, Deane.

Patrick Decker :

Thank you, Deane, and that means a lot coming from you. You've been here from the beginning.

Matthew Pine:

Yeah, thanks Deane for the question. Maybe I'll just start at a very high level and just talk about the guiding principles that Patrick really stated when we did the deal, which I think were really important to our execution. The first was, we said we have to deliver on our ‘23 plans, and as you can see from Q3, really strong performance. As most of you know, that was the legacy Evoqua's business Q4 in this past fiscal calendar Q3. So great execution by the team, and I couldn't be happier. The second, we need to make sure we deliver on the value capture of the cost and revenue synergies. And on what I would call the softer side, which is equally as important when you bring two companies together, is to make sure we get the right talent on the field or the pitch, if you will, and make sure we retain top talent. We've done a really nice job there. And then lastly, bringing the best to both cultures together. So obviously the work's not done, but we're off to a good start, and those guiding principles have helped really get momentum in the business. Just quickly on cost synergies, we're tracking at the $40 million exit rate that we talked about, and those three buckets of corporate costs, procurement, and footprint. But more so on the revenue synergies, which you're getting at Deane, the momentum is strong. We've just completed the APT integration into water infrastructure, which is really a milestone for us. We've appointed regional synergy leads in each one of the regions to drive the value capture. The incentives are in place, and the training's ongoing, both for the sales team as well as the services organization. The short term, as you talk about, really the short term we're focused on cross-selling our products into industrial and back into municipal. I think the services, which I'll touch on in a minute, has been the biggest surprise so far. Midterm, we're going to leverage the Xylem footprint in Europe to bring capital products to customers, to the Evoqua products that are international, and bringing those folks from the U.S. to international. And then lastly, long term we're moving our services internationally. But I wanted to give you an example of an early synergy win. We have a power customer, it's an oil and gas – well, actually it's an oil and gas customer, where we do the process water for them. It's a build-on operate. We do not do the wastewater and they had their wastewater system go down and it was crippling their operations. So within really 48 hours, we were able to bring the legacy businesses together, both on the treatment side, as well as the pumping and transport of wastewater in that facility and keep them up and running, and also keep them away from having fines. We've had several examples like that where we can bring a full solution to the customer with one phone call, and I think that's really important. So off to a great start. There's many examples like that, but we'll be able to give a lot more context as we roll into 2024.

Matthew Pine:

Yeah, I'll start with orders and I'll come back to chip supply. Although we were down 11%, backlog is up 11%, $2.3 billion in M&CS, book-to-bill ratio greater than one. Deane, the bid activity remains really strong in M&CS, especially metrology. Really the reason for the decline in orders in the quarter was more of a timing of the backlog conversion to orders. As you know, a lot of the larger AMI deals, they sit in backlog for a period of time, anywhere from three to 12 months, while the utility is getting ready for the deployment. And when we receive the PO is when we book it as an order. So it's more of a timing issue, and that can be a little bit lumpy. But in general, we're really bullish on AMI adoption, and it's still fairly early innings. On the chip supply, the original guide this year for the business was low teens. Now we're in the low 20s. So we've seen continual gradual chip improvement quarter-over-quarter. I think this quarter it came in a little faster than we had thought, and it can be lumpy. But really chip supply in Q3 was strong. We see that continued momentum into Q4, especially with our product redesigns. And then obviously we've got -- with the backlog, we have a lot of potential in ‘24 in M&CS.

Deane Dray :

Great. That all sounds good, and congrats again to everyone.

Patrick Decker :

Thanks, Deane.

Mike Halloran :

Hey. Good morning, everyone.

Sandy Rowland :

Hey Mike.

Patrick Decker :

Thanks Mike.

Patrick Decker :

Yeah. Hey Mike, we don't do things orthodox here, so – but we do them the right way through, it's called succession planning. So thank you.

Matthew Pine:

No, it's a great question Mike. We're committed to both the legacy businesses, long-range plans that were presented back in ‘21. Just start right there and just get that out. And really we have great momentum heading into next year with the platform that's been built by the Evoqua, Xylem combination. If you look back over the past decade of Patrick's leadership, 50% of the company didn't exist six or seven short years ago, and we're really operating from a position of strength in terms of the platform that has been built. So that feels really good as a jump-off point. I think if you kind of think about the macro drivers or favorable drivers, the secular trends continue to be strong, scarcity of water, aged infrastructure in developed markets, water quality is increasingly an issue, and as many of us have seen this year with flooding happening all over the world. So those trends will continue and they'll continue to buoy the business. Government funding, we talk a lot about the funding. It's going to be a dimmer switch. It's going to come over a period of time. But the next six to seven years, we'll see continued trickle funding globally, not only in the US. I think the resiliency of our OpEx and utilities will continue to be a strong point. I think the ISS durable business model, with the combination coming together with 75% services and aftermarket, gives us a lot more diversity of cash flows as we move into ‘24. And then lastly, M&CS backlog, which we just talked about with the supply chain improvements, I think are all positives. I think if I had to mention a few watch items, our more cyclical pieces of the portfolio with the end markets and applied water are definitely a watch item. There's pockets of industrial weakness. It's really niche when you think about Ag or marine, but they are very small pieces of our business. But in general, industrial has tended to hold up pretty well. And then I think the last thing I'd mentioned is China, which I mentioned in the opening comments. Industrial has remained pretty resilient in China for us. It's been the utilities, but it's been more on just a push to the right more than anything in China, which we can talk a little bit more about that later, but that's kind of the insights that we give. Obviously in our February earnings call, we'll be able to give more color, but that's what I see right now.

Matthew Pine:

Yeah, this price cost in Q3, continue to be positive for Xylem. We're up 70 bips. We expect pricing to moderate in 2024 as we lap previous increases. I think ‘24 is going to fall more in line with historical trends, but in terms of M&CS, definitely price costs contributed to a little bit of the incrementals this quarter. But we feel really positive in a step up in Q4 and into ‘24, we've taken some pricing actions that will start to really materialize into ‘24. And in terms of the mix, it'll continue to be a little bit lumpy with energy, but we're working that backlog down and we expect that to normalize as we get into ‘24.

Matthew Pine:

Thank you.

Scott Davis:

Hey, good morning, everyone.

Sandy Rowland:

Good morning, Scott.

Scott Davis:

I'll let Dean's congratulations kind of take the lead for me. And since he's the elder statesman, I will defer to him, but I agree with everything you said to everybody.

Scott Davis:

No problem. Matthew, can you, just on China, can you guys help us understand kind of the interplay between OpEx and CapEx? I mean, when I assume it's all CapEx that's declined and pushed to the right, but is there a certain OpEx impact as well?

Patrick Decker:

Hey Scott, I guess two weeks ago I was – two weeks ago I was there for a week and I spent time with our leadership gang and the team and visited our locations in Nanjing, Shenyang, Shanghai, traveled around, met with customers, met with the team, and the whole purpose was to really get a sense for kind of how things feel in China. And all I can say is based upon our portfolio, what we have there. Yeah, there's some near term shifting to the right on when backlog gets converted on the utility side, but underlying demand is still very strong there. That market is very positive and as many of you've heard me say before, as my father said, every generation thinks theirs is the last. This is my third time talking about the future of China in terms of demand for water and environment, and things felt very, very good in terms of robust underlying demand.

Matthew Pine:

That's a great question. We haven't talked a lot about the R&D synergies, but for sure they are there. Let me first start out by Snehal Desai leading that team. And I’m actually here in DC today with his leadership team. So he comes over from the legacy of Evoqua business. And yes, there is some overlap, especially when you think about the work that's being done in PFAS, both obviously the capture technologies there about the destruction and the sensing is really where the innovations required. And obviously one plus one can equal three there. We were both working on that to get – separately. But now together, we think we can get there more efficiently and in a more expedited fashion. But in general, yes, there were different solutions that we were working on separately, that as we come together we can get leverage from that combined spend and really that effort.

Scott Davis:

It makes sense. Best of luck, everybody. Take care. Congrats on the quarter.

Patrick Decker:

Thanks Scott.

Nathan Jones :

Good morning, everyone.

Nathan Jones :

I'll add my congratulations to Patrick and Sandy and congratulations to Bill and Matthew.

Bill Grogan:

Thanks Nathan.

Matthew Pine:

Yeah, I think ex-China, emerging markets has been pretty resilient for us across all different end markets, Nate. I think with the exception would probably be a little bit of weakness in the Middle East and our applied water business. But in general, if you look at the other businesses, they've been really resilient outside of China. And it's helped kind of buoy the – a little bit of the tough push to the right that we've seen in China. That's across all different regions; Africa, Northern Asia, Southeast Asia, India and Australia, New Zealand.

Matthew Pine:

Yeah, no, it's been fabulous. Actually, it's exceeded our expectations. We've engaged over 200 customers globally, and it's – the thing I'm excited about, it's been really balanced across the globe, both the U.S., Europe, and emerging markets. We've got a tremendous pipeline built. We're working now on executing from orders to sales and deployment. I did – if you remember, I highlighted – I'm going to highlight a couple of examples. One was in the U.S. in a southeastern city, a large city, we're able to cut what I'll say, land and expand. We took the platform, the digital platform and the utility to aggregate all their applications and then making it easy for them. Then we bolted on two of our own applications, which is recurring revenue. And then from there we picked up a $40 million AMI deal. So it's kind of land and expand, but it's also pulling through our products and solutions. On the heels of that, we just also picked up in Europe from a large European utility, $20 million of treatment in metrology in southern Europe, the same situation. They have the platform implemented and we're able to leverage our relationship and pull through treatment and AMI solution. So I've talked a lot about the platform being the consolidator of utilities information. We believe that's true, but the pull through we're getting and the relationships we're building allows us to bundle our offerings, and that's really exciting.

Nathan Jones :

Maybe you'll have to add a discussion on the revenue synergies from Idrica to the revenue synergies from Evoqua at the Analyst Day next year.

Nathan Jones :

Great. Thanks for taking my questions.

Patrick Decker :

Thank you.

Joe Giordano:

Hey guys. Good morning.

Patrick Decker :

Hey. Good morning Joe.

Sandy Rowland:

Thank you, Joe.

Joe Giordano:

Bill, maybe I'll start with you. Like as you come over from IDEX and you kind of want to bring the best of what that firm had, like how do you kind of kick-start an 80/20 kind of culture here? What's involved in really doing that and driving it to be like at the forefront?

Patrick Decker :

And I think – this is Patrick.

Patrick Decker :

Sorry, sorry, Joe. That's all right. I just add that I think the way I would encourage investors to look at this is we've spent the last decade building a platform that customers can access for their needs, which means growth. And when you've built that platform, then you have something to actually apply 80/20 to. And so that's why right now is the perfect time for this combination to be coming together and Bill coming in with his toolkit. The team had already been working on this, but I think what he brings to the table is going to be incredibly valuable to the enterprise in terms of value creation.

Bill Grogan :

I think on balance, it'd be similar to the opportunities we have at Xylem that it's not hugely differentiated there. Obviously there's a – 80/20 is applicable to all different business models. So the service aspect versus a product based organization, it's still a tool that will drive significant value.

Matthew Pine:

Yeah, the water infrastructure order rate? Yeah. It included a couple of big projects in custom pump. But in general, yeah, we're seeing good demand, resilient demand, both in developed markets and ex-China and emerging markets. So we feel pretty good and it's been pretty resilient.

Matthew Pine:

Thanks, Joe.

Operator:

We'll take our next question from Andy Kaplowitz with Citigroup.

Matthew Pine:

Hey, good morning, Andy.

Matthew Pine:

Yeah, I would just maybe just specific to utilities and wastewater, I think, is the proxy for the question. Just a reminder that 50% of our revenue is outside the U.S. and 75% of that is OpEx, which can be a little bit different in terms of the mix. We're seeing continued resiliency in orders in developed markets leading the way with emerging markets kind of minus China, like I just said to Joe, contributing nicely. With regard to CapEx, I'd point to our treatment orders, which are up 6% in Q3. And we have a healthy funnel and pipeline up 8%. We have been reaching out to customers, kind of qualitatively a cross section of customers across the globe, and specifically in the U.S. They don't really see a major funding shift in spending. Plus the addition of stimulus money that's going to trickle in over time, Andy, I think will also help kind of keep things stable. But in general, we haven't we haven't really kind of seen anything that's alarming for us, it would be a watch item.

Andy Kaplowitz :

Definitely appreciate that color guys. And then maybe I could ask you for a little bit more on what you are seeing in our applied water segment and specifically across your channel and channel inventory there. Can you give us color into sellout versus sell-in? Do you still see inventory is in balance? Do you see a period of slow orders for that segment where they just continue to be a bit lumpy?

Andy Kaplowitz :

I appreciate the color guys. Congrats again.

Patrick Decker :

Thank you.

Patrick Decker :

Well, thank you all. I mean it's been a great privilege to work with such an extraordinary set of colleagues and partners over the past nearly 10 years. I couldn't be more proud of where we are today and I'm looking forward to seeing all that Matthew, Bill and the team are going to do is they take Xylem into its next chapter. The work has never been more important as to what Xylem is doing and this company has never been better positioned to make a difference, as we're committed to doing with our customers and communities around the world. Again, I want to thank you everyone and all the very best to you and your families.

Andrea van der Berg:

Thank you, operator. Good morning, everyone, and welcome to Xylem's Second Quarter 2023 Earnings Call. With me today are Chief Executive Officer, Patrick Decker; Chief Financial Officer, Sandy Rowland; and Chief Operating Officer, Matthew Pine. They will provide their perspective on Xylem's second quarter 2023 results and discuss the third quarter and full year outlook. Following our prepared remarks, we will address questions related to the information covered on the call. I'll ask that you please keep to one question and a follow-up and then return to the queue. As a reminder, this call and our webcast are accompanied by a slide presentation available in the Investors section of our website, www.xylem.com. A replay of today's call will be available until midnight, August 9. Please note the replay number +1-800-839-1320 or +1-402-220-0488. Additionally, the call will be available for playback via the Investors section of our website under the heading Investor Events. Please turn to Slide 2. We will make some forward-looking statements on today's call, including references to future events or developments that we anticipate will or may occur in the future. These statements are subject to future risks and uncertainties such as those factors described in Xylem's most recent annual report on Form 10-K and in subsequent reports filed with the SEC. Please note that the company undertakes no obligation to update any forward-looking statements publicly to reflect subsequent events or circumstances, and actual events or results could differ materially from those anticipated. Please turn to Slide 3. We have provided you with a summary of our key performance metrics, including both GAAP and non-GAAP metrics. For purposes of today's call, all references will be on an organic and/or adjusted basis, unless otherwise indicated and non-GAAP financials have been reconciled for you and are included in the Appendix section of the presentation. Now please turn to Slide 4, and I'll turn the call over to our CEO, Patrick Decker.

Sandra Rowland:

Thanks, Patrick. Please turn to Slide 5. Since this is the first time we are reporting as a combined company, I would like to walk you through how we will cover our performance. We now have 4 reporting segments

Matthew Pine:

Thank you, Patrick. Turning to Slide 14. Before I cover our end market outlook for the year, I want to thank the team and our partners for a great quarter. Our continued outperformance and momentum give us confidence to deliver in 2023 and beyond. We have record backlogs and the value proposition of our differentiated portfolio in attractive end markets puts us in a strong position even in a potentially dynamic macroeconomic environment. We continue to take a balanced approach in our outlook and are monitoring leading indicators watching for signs of moderation. That said, we expect resilient demand in utilities and continued steady growth in industrial water applications. And now I'll turn to our 2023 outlook by end market, which will be on an organic basis. Utilities, which is approximately 45% of our revenue continue to be healthy and we now expect growth of mid-teens, up from low teens. On the clean water side, we anticipate growth of low 20s, up from high teens previously due to robust demand for our AMI solutions, and backlog execution on improved chip supply. In addition, we are seeing great traction on solution selling with our digital platform and customers are increasingly interested in bundling offerings. On the wastewater side, we continue to expect high single-digit growth, resilient OpEx in developed markets as well as continued CapEx spend in emerging markets will underpin demand. Turning now to the industrial end market, which is 45% of our revenue, we expect steady global growth of mid-single digits, but are keeping a close watch for signs of moderation. We expect any softness from developed markets to be somewhat offset by growth in emerging markets including China, where industrial momentum has continued to outpace utilities. Lastly, in building solutions, which is about 10% of our revenue, we expect growth of mid-single digits, driven by steady replacement business and backlog execution. The overall demand outlook remains healthy. And although we are not including Evoqua in our organic outlook, we expect the contribution of mission-critical solutions and services in attractive high-growth verticals such as life sciences and microelectronics to further increase the durability of our business. That outlook, combined with our operating discipline, commercial momentum and large backlogs gives us confidence for the rest of the year and beyond. Now I'll turn it over to Sandy to walk you through the detail of our raised guidance.

Patrick Decker:

Thanks, Sandy. We've covered a lot here. So we look forward to your questions. But just before we do that, I want to reiterate a fundamental point. This is a transformational step forward for Xylem, and we believe it is transformational for our customers and our communities. We are very excited about this strategic evolution, but the most important things about Xylem are not changing. Our investment thesis is one of those unchanging constants. We are creating significant economic and social value with a durable business model that addresses intensifying water challenges. And we're doing that with a differentiated portfolio of solutions and services in attractive and growing end markets. This gives us a multiyear runway of profitable growth with sustainable margin expansion on the foundations of a strong balance sheet and cash generation with capital deployment to further strengthen our portfolio. It has become increasingly apparent that the need for solutions to the world's water challenges is only growing, and we are in a very privileged position to serve those needs. So now we look forward to taking your questions. So operator, let me turn the call back over to you for Q&A.

Deane Dray:

Just a comment to start, and we really appreciate all the heavy lifting that went on, all these moving parts, recasting financials, the re-segmentation, the new end market mix and the move to cash EPS. And look, from our perspective, that all makes sense, but we appreciate all the work that...

Deane Dray:

Yes. That's exactly what I was doing. And just the fact you did not skip a beat on the organic side of the business. Cash conversion, order intake and so forth. So that was the comment part. And now I go to my question. On the re-segmentation, ISS is a stand-alone check the box. That's what we'd expect you to do. And then combining APT with Water Infrastructure that also makes sense because that's where there's some interesting overlap in terms of go-to-market, customer, not so much on the technologies, but on the go-to-market side. So first question, because that is where there's some integration that will be going on. So give us a sense of what that integration effort is on combining those businesses and anything about the cost synergies and any conceptual thoughts on revenue synergies?

Matthew Pine:

Thanks, Patrick. Deane, first of all, as Sandy mentioned a few minutes ago in her remarks, they're very complementary businesses, first and foremost. And there is immediate synergies, both on the revenue and the cost side. So that's getting us out of the gate fast. The teams are making great progress, as Patrick mentioned. It allows us to quickly cross-sell our products, both in industrial and utilities. And an example of this would be in the utility space, being able to bundle our solutions and kind of walk through the front door with a total solution across the whole treatment train, if you will, from beginning to end. We didn't have that capability before. Bringing the 2 companies together enables us to bring that full offering to the table. Also, something that maybe is not as intuitive is our technicians, what we call AQUApros, are out with our customers. Now they have a broader portfolio to solve customer pain points. And we're already seeing that play out just organically with our technicians recommending other -- recommending new products in the portfolio very quickly. So that may be something that's not as intuitive, but it's happening already. I'd say thirdly, I'd say the R&D synergies. There's obviously R&D synergies when we bring the treatment businesses together. And then lastly, we -- Patrick mentioned leadership in the very beginning. We brought over 3 leaders to the senior leadership team from Evoqua. Hervé Fages will lead the combined treatment business. He has tremendous experience here and bringing those two pieces together will be instrumental for our out-of-the-gate performance on cost and revenue.

Patrick Decker:

I'll let Matthew start on where we are on chip supply and then he and I will tag team on where we are in digital.

Patrick Decker:

Yes. And I just -- I would wrap that up, Deane, with -- first of all, great question because it's a key underpinning of our overall story and differentiation in the marketplace, which is I know why you raised the question. So high confidence in both the heritage kind of Xylem business. I would say what I'm most encouraged by there also is we continue to see really exciting adoption on AMI in the marketplace, which really is borne out by the print in our increased backlog and deal wins. With Evoqua, the opportunity there, it really is more of a complementary strategy on digital. In the Evoqua businesses, we're really talking about the ISS business. The digital path that the team there has been on is really more around how do you use digital and connectivity to actually improve the productivity of the services offering making it easier for AQUApros to do their jobs. That leads to margin enhancement. That's a big opportunity within the ISS portfolio to improve our EBITDA margins by, again, digitally enabling kind of what they do every day, making less truck rolls, less visits to serve the customer, give the customer more data insights, predict where the issues are, before they have to go out and find them. So there's a whole exciting area there that for those that are new to either the Xylem or the Evoqua story, we'll have more to share on that at our Investor Day going forward. It's very exciting.

Michael Halloran:

So the first question, I think, is a relatively straightforward question, but I just want to level set everything, given how many moving pieces here that there are. So it sounds like guidance was raised both organically as well as your expectations that have moved higher on the Evoqua piece if we compare this to, call it, 2, 3 months ago, whenever you last gave an update. Can you just talk through the pieces of why that those expectations have moved higher? I know some of it is the second quarter outlook, but it feels like that it's a little broader than that. So can you just maybe line out those moving pieces for us?

Michael Halloran:

Great. No, that's exactly what I was looking for. Appreciate that. And then second question, maybe you could just talk a little bit about the momentum you're seeing on the utility side as we work through next year. Book-to-bill seems pretty good on the utility pieces. Obviously, M&CS is healthy. I think the infrastructure piece is healthy, though, obviously, you got some industrial in there. Backlog is very high on the M&CS side. Maybe just talk about the visibility you have on those pieces in the next year, wrapping ISS into that a little bit as well, and talk about how you're looking at the contribution from some of these regulatory drivers coming out of some of the funding that might or might not get released here?

Matthew Pine:

I think the only thing I would add to that, we have really close relationship with our customers, especially our utility customers. And based on conversations that we've had with them over the past few months, we don't see a reason that there's going to be any slowdown. The draft muni budgets for the next year for some of our weather utilities are showing growth year-over-year. So I'd say kind of -- that's kind of customer back, the feedback we're getting. Obviously, we play very globally in utilities, not only in the U.S. but half of our revenue is outside the U.S. And to Patrick's point, there's a lot of public funding globally both in the U.K. with the AMP cycle. In China, the EU and then obviously, in the U.S. So feels pretty good.

Joseph Giordano:

Can you talk through like kind of how the quarter went in Western Europe and China? I mean that's where the debt has been kind of squishy and maybe getting work there a little bit. And I'm just curious on your thoughts on potential for Chinese stimulus and where that might get directed if it does impact you guys?

Patrick Decker:

And Joe, you know this already, but for the rest of the listeners, I've been a long-term bull on China just because of the underlying demands and needs from a water and environmental standpoint there continues to be a top policy mandate of the government. You couple that with the strength of our team and our portfolio of offerings. We've weathered a couple of cycles in China over the time that I've been here. But when you go back and look over the last 7 or so years, it's like a double-digit CAGR of growth, and we continue to see that potential going forward. So I'm very proud of the team and optimistic about China for us.

Sandra Rowland:

Yes, let me knock that out of the way and then Matthew can take Idrica. When you look at the performance of the full quarter of Evoqua, the business grew 9% organically and the APT piece of Evoqua grew 4%.

Operator:

And we'll take our next question from Nathan Jones with Stifel.

Sandra Rowland:

Yes. Sure, Nate. Let me kick that off. I think the cost synergy buckets that we outlined when we announced the transaction have not changed. So the first category was to go after a public company costs, overlapping public company costs as well as some of the SG&A savings. And so that is making up the lion's share of the savings that we're going to realize in 2023. And the other two categories of savings, which are going to come from procurement savings as well as some site consolidations and manufacturing footprint overlap, we expect the procurement savings to start to kick in later in '24. And the manufacturing site consolidations, that's going to happen over time. We have those phased because we want to make sure we're purposely taking care of our customers. So about $40 million exit rate in Q4 as I look into '24, we'll be more than double that when we exit '24. So I think all signs, we're very confident about the $140 million.

Patrick Decker:

Sure. So Nate, this is Patrick. So I go back to the 3 overarching kind of areas that we're focused on. And what I would offer is we've also got special incentives in place for our teams to go capture the revenue synergy because we want people to be highly motivated to go do these things beyond their day job. So deep in our utility penetration. And that really is around, again, combination of our treatment product portfolio of the 2 companies. They really do complement each other very, very well and leveraging what Xylem's really market-leading utility position is around the world. These are not North America comments alone, they're around the world, is a big opportunity. Secondly, scaling our offering to industrial customers. Again, we call them industrial, and there's a number of customer sets that are in that area that we think there are big opportunities. We don't think we see big opportunities to really go solve their needs. So if you think about -- well, the third is expanding the ISS offering internationally. And 2 and 3 have a lot in common because as part of our diligence when we looked at Evoqua, they have a really, really impressive roster of customers market-leading customers that cut across areas of whether it be power, whether it be food and beverage, whether it be life science, whether -- again, whether it be microelectronics that have needed even more Evoqua's capability than Evoqua has been able to provide in the past, especially international. And that's where we, as Xylem, have the footprint and we had the scale and the resources to be able to drive that adoption.

Sandra Rowland:

Operator, I think we've heard from him.

Saree Boroditsky:

Maybe digging into building solutions a little bit. Commercial demand has continued to be strong. I think this is one area that you're anticipating a slowdown previously. So maybe just an update on what you're seeing there.

Patrick Decker:

Saree you were a bit choppy and breaking. I want to make sure we clarify your question in terms of which segment.

Sandra Rowland:

Yes. Saree, I mean, I think when you look across the portfolio, we're seeing really good orders momentum and strong book-to-bill. The one soft spot in our portfolio is residential. And before the acquisition, that made up about 5% of our revenue base. Now it's even lower than that. It's 2% or 3% of our revenue base. So yes, that is the weakest part of our portfolio. You're seeing a slower growth outlook in AWS for the second half of the year, offset by the other businesses that have more resilient end markets such as utilities.

Andrew Kaplowitz:

So Patrick, dewatering has obviously remained strong for you guys. We talked about it in the past being a little more cyclical, but it seems like it's sort of holding up well. So maybe you can talk about sort of what you see going forward, maybe even into '24 in that business.

Matthew Pine:

Yes. No, it's great, Patrick. We've put a lot of time and effort into dewatering over the past couple of years, Andy. And I would say maybe a couple of things. One is we invested in the fleet, both in Europe and in the U.S., which has really helped us capture more wins. Number two, really coming out of 2019, we needed to diversify our segments in dewatering. We were too oil and gas dependent. And we've done a nice job of mixing into light construction as well as into mini bypass and some different areas that are a bit more profitable and a bit more steady and less cyclical. So those are a couple of key drivers, I would say that's really helped us. And the last thing I would say in the U.S. where predominantly our revenue is, we've done a good job of driving the businesses together and driving synergies with our service organizations, passing leads back and forth to one another, with our pipeline assessment service businesses, our valve maintenance business and whatnot. So really good on the synergy side that's helped drive growth as well.

Andrew Kaplowitz:

Very helpful, guys. And I apologize, I joined the call a little late, so if this has been asked, but like on price versus cost, maybe talk about sort of -- you already talked about supply chain getting better, I think, but sort of what you're seeing on the pricing side versus that sort of improving supply chain? And then maybe looking at Evoqua too, any sort of differences in markets as you're thinking about price versus cost as you go to the second half of this year and into '24.

Operator:

We'll take our next question from Brian Lee with Goldman Sachs.

Matthew Pine:

Yes. Thanks for the question. I'll start us out and then turn it over to Sandy. But we've spent a lot of time in the past 6 to 12 months, really, the past 12 months on M&CS margins. And I'd say there's probably 2 or 3 things I would point to. Number one, obviously, we were hampered by chip supply, not being able to unlock the backlog. And so being able to unlock the backlog is really helped with absorption in our factories and helping cover fixed costs. So that's probably number one. Number two is we're getting back to productivity in that business. We had to redeploy resources to go after redesign our products for chips. And so productivity has increased this year year-over-year, and we'll continue to drive that in the business. And then thirdly, I would just say, in general, price cost has been a very good positive over the past 2 to 3 quarters in M&CS, which has helped buoy margins as well. So we'll continue that pace going forward and expect margin improvement sequentially going forward.

Brian Lee:

Okay. That's great. I appreciate that color. And then maybe just a second question around -- with the acquisition of Evoqua, clearly much bigger scale, but much more diversification across the business model. It seems like it'd be a lot less cyclical going forward. In the past, I know Evoqua has sort of broken out what the sort of their recurring revenue exposure is as a part of their portfolio or sales mix. Now on the combined entity, any sense you can give us as to how you think about the recurring revenue nature of the different segments where you have exposure there and kind of how that compares to Xylem stand-alone?

Operator:

This concludes the Q&A portion of today's call. I would now like to turn the floor over to Patrick Decker for closing remarks.

Operator:

Thank you. This concludes today's Xylem Second Quarter 2023 Earnings Conference Call. Please disconnect your line at this time, and have a wonderful day.

Andrea van der Berg:

Thank you, Operator. Good morning, everyone, and welcome to Xylem First Quarter 2023 Earnings Call. With me today are Chief Executive Officer, Patrick Decker; Chief Financial Officer, Sandy Rowland; and Chief Operating Officer, Matthew Pine. They will provide their perspective on Xylem's first quarter 2023 results and discuss the second quarter and full-year outlook. Following our prepared remarks, we will address questions related to the information covered on this call. I ask that you please keep to one question and a follow-up, and then return to the queue. As a reminder, this call and our webcast are accompanied by a slide presentation available in the Investors section of our website, www.xylem.com. A replay of today's call will be available until midnight, May 11. Please note the replay number +1-800-925-9354 or +1-402-220-5384. Additionally, the call will be available for playback via the Investors section of our website under the heading Investor Events. Please turn to Slide 2. We'll make some forward-looking statements on today's call, including references to future events or developments that we anticipate will or may occur in the future. These statements are subject to future risks and uncertainties, such as those factors described in Xylem's most recent annual report on Form 10-K and subsequent reports filed with the SEC. Please note that the Company undertakes no obligation to update any forward-looking statements publicly to reflect subsequent events or circumstances, and actual events or results could differ materially from those anticipated. Please turn to Slide 3. We have provided you with a summary of our key performance metrics, including both GAAP and non-GAAP metrics. For the purposes of today's call, all references will be on an organic and/or adjusted basis, unless otherwise indicated. Non-GAAP financials have been reconciled for you and are included in the Appendix section of the presentation. Now please turn to Slide 4, and I will turn the call over to our CEO, Patrick Decker.

Sandy Rowland:

Thanks, Patrick. Please turn to Slide 5, and I'll cover our first quarter results. As Patrick highlighted, the team built on our momentum coming into 2023 with another healthy quarter of growth and margin expansion. Revenue grew 17% Year-over-Year, led by double-digit growth in the U.S. and Western Europe and high single-digit growth in emerging markets. In a moment, we'll look at detailed performance by segment, but in short, each segment grew double-digits and exceeded our expectations. Utilities, our largest end market, was up 23% with strength in the U.S. driven by continued chip supply improvements in M&CS, as well as price and robust OpEx demand in Water Infrastructure. Industrial, which is approximately 35% of revenues, grew 13% with strong price realization and solid demand across all regions, particularly in Western Europe. Commercial, which is approximately 10% of our revenues, was up 16% mainly due to continued backlog execution in the U.S. And Residential, our smallest end market with approximately 5% of revenues, was modestly down. Orders performance overall was better than expected and underlying demand remains resilient. M&CS was down 17% due to unusually high orders growth of 25% last year as a function of supply-chain lead times. Water Infrastructure orders were up 1% and AWS was down 1%. EBITDA margin was 16.3%, up 210 basis points from the prior year on higher volumes and favorable price cost dynamics. Our EPS in the quarter was $0.72, up 53% year-over-year. Please turn to Slide 6 and I'll review the quarter's performance by segment in a bit more detail. M&CS, revenue was up 32%, driven by better-than-expected recovery in chip supply. We saw double-digit growth, not only in metrology, but across our M&CS businesses, including Test and Measurement and Pipeline Assessment Services. There was strong performance across all regions, led by U.S. growth of over 40%. As mentioned, M&CS, orders were down in the quarter, but up sequentially. Demand for our AMI offering remains healthy and our $2.1 billion backlog in M&CS is up 8% versus the prior year. EBITDA margin for the segment was up 690 basis points versus the prior year on strong incrementals. Robust volume conversion, price realization and productivity drove the expansion, more than offsetting inflation and unfavorable mix. And now, let's turn to Slide 7, and I'll cover our Water Infrastructure business. Water Infrastructure revenues were up 15% versus our guide of high single-digits, due to better price realization globally and stronger-than-expected demand in emerging markets. Growth exceeded our expectations across the portfolio, with revenues up double-digits in all regions and end markets. Geographically, the U.S. was up 22%, with strong price realization on utilities, OpEx demand and backlog execution. Western Europe grew 10%, with robust demand in utilities and industrial. Emerging markets was also up low double-digits, driven by strong OpEx demand in Latin America, Africa and China. Orders in the quarter were up sequentially and up 1% year over year versus double-digit growth last year. EBITDA margin for the segment was down 80 basis points, primarily due to unfavorable mix and strategic investments in digital and solutions selling, partially offset by favorable price cost dynamics. And please turn to Slide 8 for an overview of AWS. Applied Water revenues grew 10% on strong price realization and improved supply chain. Geographically, Western Europe was up 17% due to backlog execution and healthy industrial and commercial demand. The U.S. was up 10%, driven by backlog execution and strong price realization, particularly in the commercial market. Emerging markets was down low-single digits, primarily due to lapping double-digit growth last year in the Middle East and Eastern Europe. And while orders were down 1% in the quarter, they were stronger than expected and notably, book-to-bill was greater than one. Segment EBITDA margin was up 480 basis points in the quarter, driven by continued strong price realization and productivity, more than offsetting inflation. And now, let's turn to Slide 9 for an overview of cash flows and the company's financial position. Our financial position remains robust as we exit the quarter with over $800 million in cash and available liquidity of $1.8 billion. Net debt-to-EBITDA leverage is 1x. Due to seasonality, free cash flow was negative in the quarter, but came in better than expected. While supply chain challenges are not yet behind us, we've made significant progress on working capital and we remain confident in our full-year guidance of 100% conversion. Please turn to Slide 10, and I'll hand it back to Patrick.

Matthew Pine:

Thank you, Patrick. Before I dive into the end market outlook, I want to congratulate the team on a great quarter. We exceeded our expectations across the board and made great progress on productivity initiatives, leading to healthy margin expansion. Overall, we are well-positioned to continue building on this momentum through the rest of the year. Looking ahead, we have taken a balanced approach in our outlook. Given the dynamics of the macroeconomic environment. Our backlogs are strong and underlying demand in our largest end markets continues to be resilient, providing confidence to raise our 2023 guide. That said, we are closely monitoring leading indicators and some of our more cyclical businesses, particularly in developed markets. We expect continued steady demand in emerging markets and are optimistic about a gradual recovery in China through the rest of the year. Utilities, which makes up the largest end market, continues to be healthy, and we now expect growth in low teens in 2023, up from high single-digits. On the wastewater side, we expect high single-digit growth up from mid-single-digit growth. We expect OpEx strength in developed markets as well as continued CapEx spend in emerging markets will result in steady global demand. On the clean water side, we anticipate growth of high-teens, up from low-teens. This increase in our outlook is driven by continued robust demand for our AMI solutions and earlier improvements in chip supply through 2023 as seen in quarter one, allowing for backlog execution. We continue to foresee healthy momentum in our Test and Measurement, and our Pipeline Assessment Service businesses, due to increasing focus on infrastructure and climate challenges. We are also seeing early benefits from the unification of our commercial team in the Americas. The team has made great progress in solution selling to our utility customers, bringing the best of Xylem's offerings to bear solving our customers' highest value challenges. Looking at the industrial end market, we expect to grow mid-single-digits on steady demand for solutions globally. While U.S. industrial production estimates point to potential softening in the back-half of 2023, we expect that to be offset by growth in emerging markets and were supported by our backlog. In addition, our dewatering business continues to see strong demand from mining and emerging markets, particularly in Latin America and is benefiting from strategic investments we've made in our fleet. Moving on to commercial given Q1 out performance, we now expect mid-single-digit growth up from low single-digits. We anticipate continued growth, driven by solid replacement business and backlog execution, partially offset by new construction. We would expect moderation to emerge in the second half results and our monitoring the ABI institutional index and other indicators closely. In residential, our smallest end market, we continue to expect a low-single digit decline, due to normalizing demand in U.S., partially offset by continued resilience in emerging markets. Overall, we feel confident about the resiliency of demand, given our backlog and healthy orders momentum. Now, I will turn it over to Sandy to walk you through our updated guidance.

Patrick Decker:

Thanks, Sandy. I'm very proud of the team's performance, demonstrating continuing dedication to serving our customers and communities and delivering very strong results. Looking ahead, we're focused on continuing that momentum while also executing a successful integration of Evoqua once the deal closes. We look forward to updating you on that combination in our next earnings call, when I anticipate we will be presenting the performance, outlook and opportunity of our combined company. Now, operator, I'll turn the call back over to you for questions.

Deane Dray:

Good morning, everyone.

Sandy Rowland:

Hi, Deane.

Sandy Rowland:

Yes, Deane, great question. I think you highlighted some really important points. First of all, Q1 is typically our lowest margin quarter for our Water Infrastructure business. On an EBITDA basis, we were down about 80 bps this quarter. It's really essentially all-in gross profit and it really comes down to two or three items. One, just product mix, a little bit of geographic mix. And we had some larger-scale projects this quarter that typically carry modestly lower margins. And then, we have been continuing to make some investments in this segment. It talks to our optimism about its long-term prospects. And those investments have been really focused on increasing our digital selling and solution selling capabilities, and we're seeing proof of that investment come through in our orders momentum and growth. And I think, Deane, when you look forward to the rest of the year, we think that Water Infrastructure margins are going to rebound in Q2 and the rest of the year in line with our typical seasonality.

Patrick Decker:

Hey Deane I would just offer - this is Patrick - that margin improvement is also supported by what we have in backlog. So these orders that are being won based on these investments support that continued improvement in margins.

Patrick Decker:

Sure, thanks for the question, Deane. I'll hand it over to Matthew to give more color on it.

Patrick Decker:

And I would just offer that as well that, one, we’ve continued to hold on to all of our deals in backlog. There have been no cancellations. And so that's continued to be a good sign as we deliver - as we say we're going to deliver. And then certainly, two, as Matthew pointed out, continue to see really strong demand and end market wins, despite the chip supply challenges. So I think the confidence has grown over the course of the past year and more.

Operator:

Thank you. Our next question will come from Nathan Jones with Stifel. Your line is now open.

Patrick Decker:

Hi. Good morning, Nate.

Nathan Jones:

I'm going to follow-up on the M&CS guidance, chip supply, etcetera, et cetera. I mean, the guidance going from mid-teens to high-teens pretty much just considers the outperformance in the first quarter. If you model it out, the dollars of revenue each quarter doesn't really change for the remaining three quarters. I know you guys have talked about better chip supply, you have product redesigns to use more available chips that come in the back half. Is there still a little bit of maybe overly conservative approach to the guidance for M&CS, just given the improvements that you're seeing plus these product redesigns that start coming out, I think, probably in the third quarter?

Matthew Pine:

Yes. I would just add, we're trying to be prudent with the guide. To Sandy's point in the back half, we still don't have good visibility. We do - I call it the daily miracle, we're managing decommits and push outs and come ins of chips, and we're just trying to manage the guide and be prudent in the second half.

Matthew Pine:

Yes, we'll progressively work the backlog down as the chips come to be more fluid. The bottleneck is not going to be - well the bottleneck now is chip supply, but the next bottleneck will not be our capacity. To your point, it's going to be really working with our customers to make sure they have the deployment capacity. And that's something we're planning on right now and really getting ahead and looking out and projecting with our customers through really the end of 2024 in lining up that capacity for deployment. So we're lockstep with our customers to make sure that we've got that set up as the chip supply continues to improve, that the deployment capacity does not become a bottleneck as we move through 2023 and through 2024.

Nathan Jones:

Thank you, Matt.

Nathan Jones:

Okay. So, I'll pass it on. Thanks for taking my questions.

Sandy Rowland:

Thanks, Nate.

Joe Giordano:

Hi, good morning guys.

Sandy Rowland:

Good morning, Joe.

Sandy Rowland:

Yes. I mean, Joe, we saw nothing surprising coming out of our April results. Obviously, we're in the process of closing the books there for that month, but nothing has jumped out to be out-of-the-ordinary or change from what we saw in Q1.

Matthew Pine:

So from a channel inventory point of view, we do have really good visibility because we have strong relationships with our channel partners. And overall, I'd say levels are healthy, and they're not sitting on excess inventory. On the industrial front, there's not a lot of inventory, it's configured to order, engineered to order. But we have seen good demand in that area, specifically in emerging markets in the first quarter was really strong and resilient in industrial. Utilities, specifically in wastewater OpEx, that's been really healthy, and really resilient through the past 18 months, given our vertical integration in that segment. On the commercial front, we're still not back to 2019 levels given the continued supply challenges and constraints that we feel in the commercial part of our business. And then lastly, which is resi is the smallest portion of our business. It's well-stocked, and we're seeing a little bit of moderation there.

Patrick Decker:

Sure, yes. No, thanks, Joe. So just on the transaction itself, as I said in our - in our comments, I mean, really pleased with the progress. I'm proud of the team. I mean is a ton of work that goes into this from both companies, while people are doing their day jobs. So a lot of great progress there. There were several countries, obviously, beyond the U.S., that required approval. We've achieved clearance in all of those countries. The only remaining country is China. In China, our filing has been accepted for what we call a short-form review, which typically takes no more than 30 days. And we're moving well through that, and don't expect any issues there. And so, we've got our shareholder votes coming up on May 11th, both sets of shareholders. So we will get through that next week. And again, for all those reasons, we continue to expect to close this by mid-year. So that's on the transaction closure. You're right, we've got a dedicated integration planning team. I've spent a considerable amount of time with Ron Keating, their CEO and his leadership team. Matthew has spent a considerable amount of time with them as well. We've had many, many integration planning meetings. And on the cost side, clear line of sight to what we committed to before, that being $140 million in three years in very simple, straightforward areas. I didn't say simple is easy, but they're simple, but we are not going after rabbits here. We're going after big items, and deliver those as quickly as possible. And again, what we've always been most excited about is the growth synergy. And so, looking there, you're right, we are somewhat limited on how much detail we can get into until we have final regulatory approvals from a competitive standpoint. But as the teams have worked together, we're even more excited about the top-line growth synergies that are out there. As we've mentioned before, we’re most excited about the opportunity to deepen our penetration within utilities of the combined portfolio, to expand both their integrated services and solutions business on the industrial side internationally, but also a number of their treatment products that we can take through our channels internationally. We both have efforts going on around digital services and solutions, and opportunities to leverage our combined platform there to serve needs for different customer sets around the world. And then there's going to be opportunity in synergy in the areas of R&D and innovation, as well as some of our portfolio enhancements in that area. Obviously, Joe, as you know, some of these synergies are going to materialize sooner than later. And we'll be in a position that, once we get the transaction closed, in an upcoming call to give you more clarity on that in terms of how we're thinking about enhanced growth rates of the new company.

Sandy Rowland:

Thanks, Joe.

Mike Halloran:

Hi, morning, everyone. So

Sandy Rowland:

Good morning, Mike.

Matthew Pine:

Yes. Hi, Mike. It's Matthew. We feel really bullish on it. You can see our orders growth in Q1 was 8%. Maybe just take a step back and look at AMI adoption in total for the U.S., it's only around 30% today. And there's a very strong value proposition for this offering for our utility partners to make them more productive and more efficient in their business. And that's something, coming through the pandemic, they've really gotten laser-focused on. And I would say even with digital, in general, have really latched onto and started to ramp-up their capabilities. So we're very bullish over the - over the long term there will be more and more adoption. We're still kind of in the early innings, kind of 30% in. And then when you take a step-back and look around the globe, other parts of the world are a decade behind the U.S. in adoption of AMI networks. So as we not only work the U.S. marketplace and the U.K., which is also very similar to the U.S., we're now starting to focus on the international front and how we can improve our opportunities there is funding for non-revenue water and smart metering really picks up to some of the subsidies that are coming out in Europe.

Matthew Pine:

Yes, just to reframe it just for folks that were not on the last call, it's an exclusive commercial partnership worldwide. It is a SaaS business model. Idrica is headquartered in Valentia, Spain. They're a leader in what we call data management and analytics. And as we’re out talking to a lot of our utility customers, the biggest pain point we hear from these partners, is the need to have a singular platform to integrate all of their applications and data. They have multiple applications, passwords, logins, siloed information, and this really gives us the platform, much like a smartphone, like in iOS platform to be able to integrate all these disparate systems. It's a proven platform. It's been deployed in over 300-plus utilities. What I like to say a lot is it's built by utility operator for utilities. They actually understand utility workflows, which is really important, coupled with our application knowledge that we have as an OEM. Our teams are building strong commercial momentum. Sandy talked about investments that we're making around the globe, especially in Europe, on digital investments and solution selling to deploy this platform. And we've built a significant funnel over the past three months. And it's really - it also enables us to pull through a significant amount of Xylem content. Now, I would say on the next call, we'll be in a much better position to kind of get into some detail on that as it matures over the next 90 days.

Matthew Pine:

Yes. So I'd say, in Water Infrastructure, the utility business, obviously, OpEx is very strong around the world. We haven't seen a really slow-down in CapEx either. If you think about Europe specifically, they're really wedded to making sure they spend their CapEx. And although, I'm not going to go down the rabbit hole of the infrastructure bill, but over time that will start to drip out and start to really provide long-term support and demand in the utility space with Water Infrastructure, both in the U.S. and around the world. There’s other programs like the European Recovery and Resiliency Act, you've got the AMP cycle the U.K. And all of these are coming online in the next - anywhere from six to 12 to 18 months to really buoy and lift the demand signal for that sector.

Mike Halloran:

Great. Really appreciate it everyone. Thanks.

Matthew Pine:

Thank you.

Scott Davis:

Good morning, team.

Scott Davis:

I was just kind of curious on how you guys think about the kind of long-term growth algorithm of industrial versus industrial production indicators and when I think about the ebbs and flows, there's so much of the installed base that's probably inefficient. At this point, it could be pulled out. And there's all these new projects, mega projects that we talk a lot about, including some pretty high intensity stuff like semi fabs, I would imagine you guys have a lot of content on. So is there any way to kind of quantify or think about growing 2x IP or 3x or 1.5x. Just kind of curious how you guys think about it internally.

Scott Davis:

That's super helpful, Patrick. Am I correct to assume that a semiconductor fab is going to have a pretty large TAM for you guys.

Scott Davis:

Okay, I'll pass it on. Thank you.

Operator:

Thank you. Our next question will come from Andy Kaplowitz with Citigroup. Your line is now open.

Patrick Decker:

Good morning.

Andy Kaplowitz:

Probably for Matthew. I know you've been working on a number of initiatives to enhance Xylem's productivity. Obviously, Xylem raised revenue guidance nicely for '23. I think you kept your margins. So maybe just more color on the progress you're making and what would you see going forward there?

Sandy Rowland:

Yes. What I'd add on top of that, Andy, is obviously we're very focused on margin expansion and the goals we set for our organization for 2023 contemplated significant margin expansion. I think we've gotten out of the gate with a good start there. And if you look at what we're thinking about the rest of the year, one of the items that we're focused on is what do the incremental margins look like? And our guide contemplates 30% incremental margins at a period where we're continuing to make investments and a period of time where we don't have the most optimal mix, as we work on the deployment. So I think we feel good about where we landed and we're going to continue to be focused on productivity through the rest of the year. And we're going to be focused on making sure that our discretionary costs remain tight.

Andy Kaplowitz:

Very helpful, guys. And then Patrick, you talked a little bit about Europe and the U.S., in terms of regions, but I think China's been a bit of a drag on your performance in the past. It seems to look a little better in Q1. But what are you seeing out of that region in the near-term going forward?

Andy Kaplowitz:

Helpful color. Thank you.

Matthew Pine:

Thank you.

Patrick Decker:

Well, again, thanks, everybody, for your continued interest and questions and the support. Look forward to catching up with you on our next earnings call. And I'm sure we'll see many of you at various conferences between now and then. As always, stay safe. And I look forward to speaking to you again.

Andrea van der Berg:

Thank you, operator. Good morning, everyone, and welcome to Xylem's Fourth Quarter and Full Year 2022 Earnings Call. With me today are Chief Executive Officer, Patrick Decker; Chief Financial Officer, Sandy Rowland; and Chief Operating Officer, Matthew Pine. They will provide their perspective on Xylem's fourth quarter and full year 2022 results and discuss our outlook and guidance for 2023. Following our prepared remarks, we will address questions related to the information covered on the call. [Operator Instructions] As a reminder, this call and our webcast are accompanied by a slide presentation available in the Investors section of our website, www.xylem.com. A replay of today's call will be available until midnight, February 14. Please note the replay number +1 (800) 388-6509 or +1 (402) 220-1111. Additionally, the call will be available for playback via the Investors section of our website under the heading Investor Events. Please turn to Slide 2. We'll make some forward-looking statements on today's call, including references to future events or developments that we anticipate will or may occur in the future. These statements are subject to future risks and uncertainties, such as those factors described in Xylem's most recent annual report on Form 10-K and subsequent reports filed with the SEC. Please note that the company undertakes no obligation to update any forward-looking statements publicly to reflect subsequent events or circumstances, and actual events or results could differ materially from those anticipated. Please turn to Slide 3. We have provided you with a summary of our key performance metrics, including both GAAP and non-GAAP metrics. For purposes of today's call, all references will be on an organic and adjusted basis, unless otherwise indicated. And non-GAAP financials have been reconciled for you and are included in the Appendix section of the presentation. Now please turn to Slide 4, and I'll turn the call over to our CEO, Patrick Decker.

Sandy Rowland:

Thanks, Patrick. Please turn to Slide 5, and I'll cover our fourth quarter results. As Patrick highlighted, the team closed out a strong 2022 with another quarter of robust growth and margin expansion. Revenue grew 20% year-over-year, led by 26% growth in the U.S. and mid-teen growth in Western Europe and the emerging markets. In a moment, I'll give you a detailed performance by segment. But in short, utilities was up 24%, with strength in the U.S. driven by chip supply improvements in M&CS, and robust OpEx demand in Water Infrastructure. Industrial grew 15% on particularly strong demand in Western Europe and emerging markets and sustained strength in the U.S. Commercial was up 24%, mainly due to continued backlog execution in the U.S. and Western Europe. And residential was up 17%, driven by strength in emerging markets, partially offset by softness in the U.S. Compared to prior year, orders were down 3% in the quarter versus up 23% in the same period last year, but underlying demand remains resilient and in line sequentially. Water Infrastructure orders were up 13%, AWS down 6% and M&CS down 19%, following exceptionally high orders last year. However, M&CS orders were in line with the last quarter with a book-to-bill ratio of 1.1x. EBITDA margin was 18.7%, up 250 basis points from the prior year and up 40 basis points sequentially on strong volume and price, which more than offset inflation. Our EPS in the quarter was $0.92, up 46% year-over-year. Please turn to Slide 6, and I'll review the quarter's segment performance in a bit more detail. Water Infrastructure outperformed expectations with revenues up 15% in the quarter. Growth was robust across the portfolio, led by our wastewater utility business in the U.S. and industrial strength in emerging markets on continued dewatering demand. Geographically, the U.S. was up 26% with solid price realization on strong utilities OpEx demand and continued improvements in the supply chain. Foster Europe grew low double digits, driven by healthy industrial activity and emerging markets was also up low double digits, driven by dewatering demand in Latin America and Africa. Orders in the fourth quarter were up 13% with solid dewatering demand in emerging markets and continued utility strength in the U.S. EBITDA margin for the segment was up 80 basis points as price, net of inflation and volume conversion more than offset strategic investments. Please turn to Page 7. The Applied Water segment also exceeded expectations with fourth quarter revenues up 17% on strong price realization and backlog execution. Geographically, Western Europe was up over 20%, led by supply chain improvements and strong industrial and commercial demand. Emerging Markets was up mid-double digits on strong residential demand in the Middle East and India. The U.S. was up low double digits as supply chain improvements and price realization were partially offset by moderating residential volumes. Orders were down 6% in the quarter, with healthy industrial demand in the U.S. and Western Europe, offset by slowing U.S. residential orders. Segment EBITDA margin was up 270 basis points in the quarter. Margin expansion was driven by continued strong price realization, more than offsetting inflation and further supplemented by productivity savings. And now let's turn to Slide 8, and I'll cover our Measurement & Control Solutions business. M&CS revenue was up 35%, driven by recoveries in chip supply year-over-year and strong project execution in our test and measurement and pipeline assessment services businesses. Geographically, all regions were up more than 20%, led by U.S. growth of over 40%. M&CS orders were down 19% in the quarter, lapping a prior year compare of 28% orders growth during the peak of supply chain constraints. Demand for our AMI offering remains strong and our $2.1 billion backlog in M&CS is up 14% versus prior year. EBITDA margin for the segment was up 800 basis points versus the prior year and importantly, 130 basis points quarter sequentially. Strong volume conversion, coupled with price realization offsetting inflation, drove the expansion. And now let's turn to Slide 9 for an overview of cash flows and the company's financial position. In the fourth quarter, we generated free cash flow of $302 million. The team did a great job driving down working capital to hit our previous outlook of 80% free cash flow conversion for the year. While inventory remains elevated versus where we targeted to be longer term, as there still are pockets of the supply chain that necessitate the extra safety stock that we are carrying, our performance in Q4 gives us confidence in our path to return to 100% conversion in 2023. Our financial position remains robust as we exit the year with over $900 million in cash and available liquidity of $1.7 billion. And this is after paying down over $500 million of debt in December. Net debt-to-EBITDA leverage is 1.0x. Please turn to Slide 10, and I'll hand back to Patrick to look forward at 2023.

Matthew Pine:

Thanks, Patrick. We are very strongly positioned on intensifying trends with technology leadership in a large and growing installed base in attractive end markets. My focus as Chief Operating Officer is to further accelerate profitable growth and maximize the value we deliver to customers and communities around the world. Across the business, we continue to remove complexity, increase our local agility and unlock further scale efficiencies. This is all aimed, of course, at better serving our customers at the same time we deliver continuing margin expansion. We're driving this margin focus across the enterprise, taking particular aim at even more enhanced productivity and customer satisfaction. For example, in the M&CS segment, improvements in chip supply enabled us to build momentum, delivering the accretive backlog, we deploy resources back to productivity as well as new product introductions from innovation. Secondly, we continue to enhance our digital portfolio, as Patrick covered. Our customers need simple, integrated digital technologies that solve their problems cost effectively. Our portfolio increasingly meets that demand with attractive growth and margin profiles. Lastly, our customers depend on Xylem as a trusted partner to deliver ongoing support. So our third operational focus is in standardizing our solutions and creating new offerings. This will take us deeper into our installed base with aftermarket sales and services. New offerings such as outcome-based solutions and condition-based maintenance will enable us to capture demand, address customers' needs and expand reoccurring revenues. It's no accident that there's a theme running through all 3 of these priorities. Each is about growing revenues and improving our margins by serving our customers better, more thoroughly and more simply, making it even easier for them to do business with us and solve more of their challenges. When we talk about being in a privileged position, that's not mentally to refer to our strategic or market positioning. It also reflects our view that we are fortunate to work alongside the kind of customers that we do, partner with them to solve their critical water challenges they face. It's a privilege and also a great opportunity for continuing value creation from our shareholders, communities and all stakeholders. Now let's turn to Slide 11, and I'll walk you through our end market outlook. We expect underlying demand and most of our end markets will continue to be healthy through 2023. We've taken a balanced view based on the strength of our backlog, critical nature of our largest end markets, and the continued value proposition of our differentiated products. We anticipate our utility business overall, which is our largest end market, will grow high single digits in 2023. On the wastewater side, we expect mid-single-digit growth as we see a continuation of steady global demand. We anticipate resilient OpEx demand in developed markets due to the critical nature of our offerings as well as the benefit of continued CapEx spend in emerging markets. The outlook for longer-term capital project spending and bid activity remains robust. On the clean water side, we anticipate revenues being up low teens. This growth is driven by continued robust demand for our AMI solutions and expected improvements in ship supply through 2023, allowing for significant large deal deployments already secured in our backlog. We foresee healthy momentum in our test and measurement and our pipeline assessment service businesses due to increased focus on infrastructure and climate challenges. Looking at the industrial end market, we expect to go low to mid-single digits on steady demand for our solutions globally. We continue to see strong growth in dewatering due to mining demand in emerging markets and the benefits of our strategic investments in our U.S. and European dewatering business. The commercial end market should deliver low single-digit growth on solid replacement business and backlog execution, partially offset by moderation in new construction. In residential, our smallest end market, we are expecting low single-digit decline due to normalizing demand in the U.S., partially offset by continued strength in emerging markets. In both commercial and residential, we would expect moderation to emerge in the second half results as we continue to work through the backlog in the first half of 2023. Now I'll turn it over to Sandy to walk you through our updated guidance.

Patrick Decker:

Thanks, Sandy. We're coming into 2023, very strongly positioned. Our end markets continue to show resilient underlying demand. We're confident in delivering mid-single-digit revenue growth and strong margin expansion and the team continues to outperform on strong operational and commercial execution. Beyond 2023, we remain well on track to deliver our longer-term strategic and financial milestones. We are very excited about all of the combination of Xylem and Evoqua will offer towards the creation of a more water secure, resilient and sustainable world, while driving value for our shareholders by accelerating growth and scale. The integration team met last week at our headquarters in D.C. The first of many meetings to set us up for success on day 1. And last week, I traveled with Ron Keating, Evoqua's CEO, to a number of their key sites to spend time with their incredibly talented people. Those visits only heighten my appreciation of the potential opportunities ahead and confirm the strong strategic and cultural fit of our 2 companies. We've also taken the next step in the regulatory process, having submitted the required filings here in the U.S. and progressing toward filings in the relevant international jurisdictions. We continue to anticipate the deal closing midyear A great deal of opportunity will open up when we bring our 2 companies together. During our next earnings call, we will provide an update on our progress. Meanwhile, our business remains squarely focused on delivering on our 2023 financial commitments and continuing our commercial momentum and execution. Now operator, I'll turn the call back over to you for questions.

Deane Dray:

Strong finish to the year, both revenues and margins. And I just want to say congrats again on finally getting to the altar on Evoqua. This has made strategic sense for so long. And have a midyear target closing is lightning fast in our view. I know that there's a lot of heavy lifting. So best of luck.

Deane Dray:

Can we start with M&CS margins? It sounds like the 2 drivers here, the chip supply improving, and this has been kind of a steady story for the past couple of quarters. How much have you worked through that backlog? And how much of the chip supply improvement contributed to the margin improvement in the segment? And then I've seen a nice shutout for pipeline assessment. Is this all pure and what's driving that?

Matthew Pine:

Yes. I think the only thing I would add, Deane, is that we did pivot in Q4 to a more continuous improvement as we started to roll off of our product redesigns. So we saw a really good lift in Q4 and continuous improvement. And if you look at the price cost and the exit rate in Q4, it was really solid building momentum. This was -- if you recall, this was the last segment to really be impacted by inflation and really overcoming that in Q4, which also led to the margin improvement.

Patrick Decker:

Sure. So Deane, I'll just make a few comments, and I'll have Matthew go a little deeper because Matthew was part of the team that was integral to this courtship over the course of the past year or more. So he's well versed along with other team members on the opportunity here. But you're right, you said it best. It's the amalgamation of data coming from different data sources that we refer to as the power babble, with different languages, different code, and it makes it very difficult for the utility to optimize their overall network. So that's really what Idrica is getting at. They got a great platform already around the world, and our channels to utilities is really the big opportunity for them. But overlaying this solution to where effectively the way I described it, it's almost as they built the interoperable operating software on which our operating technologies will sit along with other apps that make it easier for the utility user to interface. But Matthew, do you want to talk a little bit about pricing and just the opportunity in the upside?

Patrick Decker:

And I would clarify, Deane, that when we say pilots in this case, these are actual commercial arrangements that are revenue generating. It's not a pilot where we're going and testing something. So we've already had some very impressive potential wins there that we'll talk about in the, hopefully, the next quarter.

Joe Giordano:

So I just want to follow up on that Idrica stuff real quick and then move on. But is that something that utilities would put in, like, on top of what they already have? Or would it like more likely go like something that they would decide to move forward with like if they're putting in a new deployment?

Matthew Pine:

And Joe, just to add, what -- when we say it's built by utility for, utilities is that there are many other solutions that are out there, but they can tend to be quite complex and overly sophisticated. And this really allows them to design a solution that meets the utility where they are on the journey. Not every utility is of the same space or the same place in the journey as to how sophisticated the system needs to be. And so it could be tailored in that regard, but it's also a highly standardized platform. And that's part of the efficiency of their rollout is how easy it is to maintain.

Sandy Rowland:

Yes. So I think that's a great question, Joe. There are certainly some overlaps between what we're spending money on from an R&D perspective. Just to remind you, the structure of the transaction is that it's a commercial agreement, which allows us to take the product and sell it on a global basis. And on top of that, we have a minority investment. And so there are certain things that we're going to keep going on our end. And then there are certain things that we're going to be able to leverage between the 2 companies. But there are certainly some synergies there. But really, this is a growth play.

Sandy Rowland:

Yes. Joe, I mean, there's a few things to unpack there. Let me start and the team here will remind me what else you asked. So look, there is some seasonality in our business. And if you look at it from a revenue perspective, we'll have a step down in revenue between Q4 and Q1. We always do. The biggest step down is actually in Water Infrastructure that has a big Q4. M&CS, there will be a little bit of a step down to. It's not so much in the metrology business, but some of the other businesses that we highlighted earlier on the call, our pipeline assessment services business, our test business, there's some seasonality there. So I think it's somewhere between $150 million and $200 million step down, Q4 to Q1. And that aligns with sort of our historical patterns. As we think about the year and the seasonality in the year, different businesses look a little bit different. Certainly, you touched on AWS, which is our most cyclical business when it comes to macro. And from an AWS perspective, we're entering the year with a very, very strong backlog. And so as we've modeled that business, we have modeled a stronger first half versus a stronger second half. The other businesses don't have quite as much seasonality built into the plan, other than in M&CS, we have been calling for a bigger ramp-up in the second half when some of the redesign work comes online and that coincide with better chip supply.

Operator:

And we'll take our next question from Mike Halloran with Baird.

Sandy Rowland:

Yes, Mike. I think we are already starting to see some normalization. If you look at the orders rate that we've had in the second half of the year, as -- particularly as the pockets where the supply chain has stabilized, we're seeing some of our customers there return to normal behaviors. I'd say Water Infrastructure is a great example of that. We've had a more stable supply chain there. And so that's where we've seen more normal order patterns, and we don't see a backlog that has been as elevated. We still have quite a bit of our backlog that's past due in M&CS, and we do expect to start eating into some of that in 2023. And I think that's a good thing because that means our projects are getting deployed.

Matthew Pine:

Yes. I was just going to build on the M&CS comment. We still have 30% of the backlog past due coming into the year. And so we'll still continue to monitor that as the chip supply continues sequentially to improve. That's something where we're looking at. But orders sequentially are good in that business, and we see good momentum going forward commercially.

Matthew Pine:

Yes. From a bidding pipeline standpoint, I would say, look, industrial remains really strong globally. We primarily play in the general industry. there, and that's been pretty resilient. So that continues strong. Commercial is a bit of -- it's showing strength, however, expected to be slow in the back half, primarily due to new construction moderating. We track the ABI Index, the architectural billing index, that's been less than 50 in the past 3 months. And so looking for a little bit of a slowdown in the bid activity for new construction for commercial. And we talked resi, that's primarily a replacement for us. the orders are slowing down, largely due to the improved supply chain. It's probably the biggest area that we've seen the supply chain improve and also from pandemic investments. And so that's really what's impacted that. And then a strong pipeline in M&CS, plus water infrastructure, especially treatment. We're starting to see treatment really ramp up and the net backlog also continues to build, and we have a strong funnel.

Nathan Jones :

I think I'm going to go to questions and if I can get any answers around revenue synergies from the combination of Xylem and Evoqua. I mean this is clearly a growth-enabling deal, and Patrick, you highlighted a couple of avenues for that. Investors have been very hungry for information on what kind of value that might add. So is there any color on kind of what your targets are going to be in terms of the expected growth for the combined businesses, how you're going to approach it? Are you going to have specific growth teams assigned to these kinds of projects? Any color and more color you can give us around those kinds of things?

Nathan Jones :

I have one follow-up question on a specific avenue of revenue synergies. Xylem historically been a product company and Evoqua developed this service-based model. Is there -- do you see the opportunity for you to implement new kinds of service-based business models on the legacy Xylem portfolio leveraging their service footprint?

Nathan Jones :

Yes, it seems to be a lot of avenues for growth there. So I look forward to hearing more about it over the next few months and few quarters.

Scott Davis :

Every -- just a couple -- one kind of point of clarification then a real question. But are you still raising price here and now that we're into '23 or the price increases you did in '22 pretty much enough to offset your inflation.

Scott Davis :

All right. Helpful. And then I think about 2022, so much of the year, not just you guys, but most companies were held hostage by the chip makers. And how -- where do you guys see yourselves going forward and kind of redundancy or flexibility or whatever other words that we want to use to kind of describe it just to make sure that this chip issue doesn't come back every time there's some sort of dislocation that design is more perspective in the future?

Scott Davis :

That’s helpful, Patrick. Just to be clear, so when you talk about redesigning, are you talking about going to a chip design that’s more ubiquitous and more commonly used in consumer electronics? Or is there some sort of level in between where you’re at from that next-gen chip?

Operator:

And we'll take our next question from Andy Kaplowitz with Citigroup.

Matthew Pine:

Yes. So Andy, on the first one on channel inventory. We have really good visibility into the inventory given our relationship with our channel partners. The teams we meet monthly and actually quarterly with counsel meetings in addition to weekly sales calls in contact. So we have really good insight into the inventory. The levels are healthy and normalizing and they're not sitting on any excess inventory, which is reported back to us. There are some pockets that have not fully recovered. Commercial is not back to kind of prepandemic levels in terms of inventory. But resi, I would say, is normalized due to the improved supply chain and softening from the pandemic investments. On the industrial front, that's really more of an engineer-to-order product. There's not a lot of build to stock. And so that's where I'd leave it on the channel inventory there.

Andy Kaplowitz:

Appreciate that, Sandy. And then it seems like industrial dewatering continues to hold up well as it does tend to be more historically cyclical, but could the business be much less cyclical during the current cycle given the amount of activity that's out there. I know you mentioned mining. Maybe you could comment on the support you're getting from your strategic growth investments as well, what exactly you're doing there?

Operator:

It appears that we have no further questions at this time. I will now turn the program back over to Patrick Decker for any additional or closing remarks.

Operator:

Thank you. This concludes today's Xylem fourth quarter and full year 2022 earnings conference call. Please disconnect your lines at this time, and have a wonderful day.

Andrea van der Berg:

Thank you, operator. Good morning, everyone and welcome to Xylem's third quarter 2022 earnings conference call. With me today are Chief Executive Officer, Patrick Decker; and Chief Financial Officer, Sandy Rowland. They will provide their perspective on Xylem's third quarter 2022 results and discuss the fourth quarter and full year outlook. Following our prepared remarks, we will address questions related to the information covered on the call. I'll ask that you please keep to one question and a follow-up and then return to the queue. As a reminder, this call and our webcast are accompanied by a slide presentation available in the Investors section of our website, www.xylem.com. A replay of today's call will be available until midnight on November 8. Please note the replay number is +1800-839-9881 or +1402-220-3100. Additionally, the call will be available for playback via the Investors section of our website under the heading Investor Events. Please turn to Slide 2. We will make some forward-looking statements on today's call, including references to future events or developments that we anticipate will or may occur in the future. These statements are subject to future risks and uncertainties, such as those factors described in Xylem's most recent annual report on Form 10-K and in subsequent reports filed with the SEC. Please note that the company undertakes no obligation to update any forward-looking statements publicly to reflect subsequent events or circumstances and actual events or results could differ materially from those anticipated. Please turn to Slide 3. We have provided you with a summary of our key performance metrics, including both GAAP and non-GAAP metrics. For purposes of today's call, all references will be on an organic and adjusted basis, unless otherwise indicated. And non-GAAP financials have been reconciled for you and are included in the Appendix section of the presentation. Now, please turn to Slide 4 and I’ll turn the call over to our Chief Executive Officer, Patrick Decker.

Sandy Rowland:

Thanks, Patrick. Please turn to Slide 5. The team did a great job over delivering on commitments with disciplined commercial and operational execution on continuing strong demand. As a result, revenues grew globally, high teens in the U.S. and mid-teens in emerging markets in Western Europe on strong price and backlog execution as supply chains modestly improved. In a moment, I'll detail performance by segment. But in short, utilities was up 15%, led by strength in the U.S. and Western Europe. Industrial grew 16% with strength across all geographies, particularly in emerging markets in Western Europe. Commercial was up 17%, mainly due to strong backlog execution in the U.S.; and Residential was up 19%, led by commercial execution and backlog conversion in the U.S. Global demand remains healthy on strong end market fundamentals, especially in Water Infrastructure and M&CS. That said, organic orders were down 1% in the quarter versus up 20% in the same period last year. Water Infrastructure was up 3%, AWS down 4% and M&CS down 2%. Adjusted EBITDA margin was 18.3%, up 40 basis points from the prior year and up 170 basis points sequentially as price more than offset inflation. And as Patrick mentioned, our EPS in the quarter was $0.79, well above expectations. Please turn to Slide 6 and I'll review the quarter's performance by segment. Water Infrastructure revenue grew 13% organically in the quarter, exceeding expectations. Growth was broad-based, led by our wastewater utility business in the U.S. and Western Europe, both up high teens as supply chain constraints improved. Industrial growth remained robust, driven by continued dewatering demand in emerging markets and increased activity in Western Europe. Geographically, Western Europe grew mid-teens, driven by robust transport and treatment demand. The U.S. was up low teens, led by strong utilities OpEx demand. Emerging Markets was up low double digits, driven by strength across Latin America and Africa, a continued growth in dewatering. Orders in the third quarter were up 3% organically with robust dewatering demand in emerging markets and continued utilities strengths in the U.S. Segment EBITDA margin was largely in line with the prior year as favorable price realization offset inflation but was also impacted by unfavorable mix and strategic investments. Please turn to Page 7. SP999 In the Applied Water segment, third quarter revenues grew 20% organically, exceeding expectations. Growth was robust across all end markets, with each up high teens or greater. Geographically, the U.S. was up high teens with strength across all 3 end markets due to price realization and modest improvements in supply chain. Western Europe was also up high teens, led by growth in industrial, on strong price and continued demand. Emerging Markets was up almost 30%, driven by strong industrial demand in China and commercial development in the Middle East and Africa. Orders were down 4% organically with continued growth in emerging markets, offset by some moderation in Residential in the U.S. As a reminder, Residential, our most cyclical end market, is only about 5% of our overall revenue. EBITDA margin for the segment was up 110 basis points compared to the prior year and 200 basis points sequentially. Margin expansion was driven by strong price realization, more than offsetting inflation, supplemented with productivity savings. And now, let's turn to Slide 8 and I'll cover our Measurement & Control Solutions business. M&CS revenue was up 15% organically, in line with our prior guidance as chip supply played out as expected, with continued modest improvement sequentially. We also saw strong growth in test applications and our pipeline assessment services business. Geographically, the U.S. was up more than 20% on improved chip availability versus the prior year and favorable price realization. Emerging Markets was up mid-teens and Western Europe was up high single digits, driven by strength in our Test and Pipeline Assessment Services businesses. M&CS orders declined 2% organically in the quarter, lapping a tough prior year compare of 42% orders growth. Underlying demand for our AMI offerings remains strong and orders continue to outpace revenue, yielding backlog growth of 35% versus the prior year. Our M&CS backlog alone exceeds $2 billion. Segment EBITDA margin in the quarter expanded 400 basis points sequentially and is now approaching prior year levels. The team did a great job driving margin improvement, even though volumes continue to be constrained by chip supply. And now let's turn to Slide 9 for an overview of cash flows and our balance sheet. In the third quarter, we generated free cash flow of $149 million, driven by income conversion, partially offset by higher working capital. You will note that our working capital levels are elevated as we've chosen to carry about 30 days of extra inventory. And while supply chains are gradually improving, delivery metrics are below historical levels and we can best serve our customers and communities by making this short-term investment. Having said that, our financial position remains strong with $1.2 billion in cash and $2 billion of available liquidity and our net debt-to-EBITDA leverage is 1.3x. Please turn to Slide 10 and I'll hand it back to Patrick to give some color on underlying demand.

Sandy Rowland:

Thanks, Patrick. Consistent with our previous presentations, we provided key facts for each end market in the appendix. The 2022 full year outlook across our end markets remains largely in line with our previous guidance, with an increase in commercial upon improved backlog execution. We expect healthy underlying demand will carry on through the remainder of the year with continued modest improvements in supply chain. The outlook for our utility business remains unchanged with mid-single-digit growth across both wastewater and clean water. In wastewater, we see continued OpEx strength and the CapEx outlook is supported by modernization of aging infrastructure and continued new development, particularly in emerging markets. For clean water utilities, although chip supply remains constrained, we do expect a continued modest easing of chip supply sequentially. We also expect momentum in our test and pipeline assessment businesses to continue due to increasing focus on infrastructure and climate challenges. Looking at the industrial end market, we now expect low double-digit growth lifted from a previous range of high single-digit to low double-digit growth, driven by strong global demand for dewatering and continued underlying demand for our solutions in the U.S. and Western Europe. We now expect the commercial end market to deliver high single to low double-digit growth, up from mid-single to high single digits on strong demand and backlog execution. In Residential, our smallest end market, we expect strong price realization and continued backlog execution to drive growth in the high teens. As a reminder, our Commercial and Residential exposure is largely replacement-driven and is approximately 15% of our total revenue. And now let's turn to Slide 12 and I'll walk you through our updated guidance. Our continued out performance gives us confidence to raise our full year guidance for adjusted EPS to a range of $2.65 to $2.75, up from $2.50 to $2.70. Our raised guidance is driven by stronger price, backlog execution and continued underlying demand. We are also lifting the low end of our full year organic revenue growth, now 9% to 10%, up from 8% to 10%. Our revenue outlook on a reported basis is largely unchanged due to FX headwinds. Looking by segment, we expect high single-digit growth in Water Infrastructure and low double-digit growth in Applied Water. We expect measurement and control solutions to be up mid-single digits as chip supply continues to modestly improve. For 2022, we are raising our adjusted EBITDA margin outlook to approximately 17%. We now expect free cash flow conversion to be approximately 80% of net income. This is lower than our previous outlook, largely due to higher working capital levels as I referenced earlier. While we’re carrying about an extra month of inventory, our position is fully aligned with the requirements needed to fulfill our backlog. As supply chain stabilize, we will bring inventory down, enabling us to return free cash flow conversion of at least 100% and as we have consistently done in prior years. We’ve provided you with a number of other full year assumptions on the slide to supplement your models as well as our latest assumptions on our basket of currency exposures which can also be found in the appendix. And now drilling down on the fourth quarter, we anticipate total company organic revenues will be up 12% to 14%. This includes mid-single-digit growth in Water Infrastructure, mid-teens growth in Applied Water and M&CS growth of mid-20%. We expect fourth quarter adjusted EBITDA margin to be in the range of 17.5% to 18.5%. And with that, please turn to Slide 13 and I’ll turn the call back over to Patrick for closing comments.

Operator:

[Operator Instructions] We'll take our first question from Deane Dray with RBC Capital Markets.

Patrick Decker:

Thank you, Deane. Happy to have him on board and with mixed emotions to see Tony move on. But yes, it's been a great run. -- for sure.

Sandy Rowland:

Yes. Deane, let me start there. I think we've built good momentum throughout the year. We've had -- throughout the year, we've had strong orders growth all along. I think we have good visibility into Q4. The way we're kind of envisioning it is that it looks very much like what we just printed in Q3. So we'll see strong top line growth, EBITDA margins that are very similar to the strong step-up that we saw from Q2 to Q3 this year and maybe a little bit of a difference in mix. Water Infrastructure typically has a stronger Q4 when projects get completed towards the end of the year. A little bit of moderation in AWS. They were doing some catch-up orders to work through some of the supply chain and a slight ramp in M&CS. As we've talked about on prior calls, we're continuing to see a more modest step-up on the chip supply situation. And then sometimes in the -- towards the back half, second half of 2023 when the redesign work and some more supply comes online, you'll see a bigger ramp. So long story short, I think our Q3 and our Q4 look pretty similar. All along, we've called for a stronger back half compared to our first half. And we're really happy to report that that's playing out very much in line with our expectations.

Sandy Rowland:

Yes. I'll give you some color around the backlog. When we look year-over-year, the backlogs are up about 30%. It's a little higher than that in M&CS and a little bit lower than that in the other 2 businesses. So all around, Deane, backlogs remain elevated. And so we're not able to convert as much of the backlog as we would have in other periods. And that's not because production levels are falling short. It's just because backlog still remain elevated.

Deane Dray:

That’s real helpful. And then just as a follow-up, on free cash flow, completely understand the tweak here, adding more inventory. We’re seeing that elsewhere. But maybe share for us, Sandy, the precision, adding an extra 30 days, how does that square across the segments? And maybe weave in like how has lead times on -- how heavy [ph] lead times with your suppliers? How are those trending? Are they beginning anything close to normalization there?

Operator:

We'll take our next question from Nathan Jones with Stifel.

Sandy Rowland:

Yes. I think, Nate, obviously, this has been something that our teams have been really focused on all year long. And I really applaud the good work that our commercial teams have done securing these important price increases to get in line with inflation. So a couple of milestones. On a year-to-date basis now, we're price cost neutral. In the quarter, we were ahead from a price cost perspective on both a dollar perspective and a percentage perspective. We still expect that price will be a tailwind in Q4 and that's part of the year-over-year margin expansion that we're calling for. Having said that, we start to anniversary some of the quarters where we secured price momentum. And so that starts to happen a little bit in Q4 and more as we move into Q3. But I think as we go into 2023, we'll be in a better spot from a price cost perspective than we certainly were going in this year.

Sandy Rowland:

Yes. And so I think inflation, we've definitely seen an increase inflation compared to what we guided initially this year. We sort of came into the year thinking inflation would run around 10% or 11%. When we look all in for the year, inflation is running more in the mid-teens. I would say there is some slight moderation from a commodity perspective but we're still seeing headwinds on inflation in both areas like energy, particularly in Europe. And labor inflation is still out there. And when we look at labor inflation, that's not transitory, that's probably more permanent. So our pricing strategies are dynamic and they need to be in line with what we're seeing and experiencing from a costing perspective.

Sandy Rowland:

Yes. Yes, I think our -- where we've seen price -- we've seen -- it's sort of matched where we've seen the highest inflation levels. And so from an ordering perspective, that's been AWS, what our Infrastructure and M&CS. Having said that, if you look at the past couple of quarters, we're starting to see some of our price increases that we've implemented in M&CS drop through. And so we still have good momentum there from a pricing perspective. And I think you'll continue to see that through the next couple of quarters. And I think that's also made a significant part of why we saw quarter sequential improvement in the M&CS EBITDA rate.

Operator:

We'll take our next question from Michael Halloran with Baird.

Patrick Decker:

Yes. So as you know, Mike, the -- so roughly 70% of our demand in utilities is OpEx. So it's repair replacement, very stable. If anything, right now, I would say it's probably overcharged because of just aging infrastructure and climate change. So we're seeing really strong growth there. CapEx which is the 30% roughly and this is a global number, not just the U.S. That's the one that we do keep close eye on throughout cycles. And as you know, what we've tended to see is the one driver that can lead to a reduction in CapEx spend historically if we were to see it which we've not seen it yet. I mean our frontline right -- our frontlog right now is very strong. the bidding pipeline is very strong right now. But if we were to see a slowdown in muni-tax receipts, if we were to see a slowdown prolonged in residential expansion in the U.S., those things tend to be later cycle, so it'd be a couple of years down the road. We're not seeing it right now, Mike but that's what we would look for -- on -- and that's on the wastewater side. Now historically, even during the past recessions around the world, if you set aside dewatering for a moment which does tend to be more short cycle and we diversified that part of the business away from kind of pure mining, oil and gas were much more in the muni space now and broader industrial space. But we would see it there. We haven't seen it. And we would ultimately see maybe a low single-digit kind of water infrastructure growth if we were to see a recession but we've not seen that in our frontlogs at this point in time. So we're keeping a close eye on it and we're trying to be responsible and prudent in our planning here.

Sandy Rowland:

Yes. We look at our results, Mike, in Europe and they're very, very strong. We're also seeing good orders growth, especially on a year-to-date basis. And when we look historically and benchmark kind of one region to the other, Europe tends to be very steady. And I think you see very disciplined and resilient spend from the European -- so I think -- the European market. So on the industrial side, we're not seeing a slowdown either. So -- we're staying close to it. We're talking very frequently with our commercial teams who are in constant contact with our customers. But so far, it's hanging in there.

Scott Davis:

Can we talk a little bit about M&A and your pipeline and it seems your balance sheet is in just great shape and asset prices are coming down a bit. So just some color on that would be helpful.

Scott Davis:

Okay. Helpful. And then can you guys just remind us, [indiscernible], Sandy, you can help with us on these big extreme moves we’ve had in FX and you guys have a little bit different clearly situation than most of the companies we cover. But the net-net of all the different moves in FX, what that really means for you guys?

Operator:

We'll take our next question from Joe Giordano with Cowen.

Patrick Decker:

Sure. That's a great question, Joe. So digital is certainly not new. So we've got a great foundation that we've already built, both organically as well as through a number of the acquisitions we've done. So [indiscernible] comes in really building on that solid foundation. We are continuing to look at the opportunity to both build internally which is really as much about talent capability, commercializing, selling those opportunities. But our pipeline from an M&A standpoint is still very much focused on adding other solutions and technologies to the mix. And I look forward to having [indiscernible] join us on one of our upcoming calls and share his perspective on what he sees and the opportunities in front of us. But it's a combination, Joe, between organic and M&A.

Sandy Rowland:

Yes. I think great question, Joe. We've been working really hard to get our margins back up in the M&CS side. And obviously, volume plays a big role in that. we've talked historically that when we get revenue up into the $350 million level per quarter, you'll see revenues -- you'll see EBITDA margins in the mid-teens. To get to the high teens, 20% benchmark, we need to be north of $400 million of revenue per quarter. And we are certainly focused on productivity initiatives the disciplined steps we're taking around, pricing and looking at our backlog and incremental pricing opportunities there are an important catalyst as well. And then, of course, our backlog has a higher digital mix. And so that will naturally bring with it some higher margins. So it's a real combination of factors and the good news is we've seen some uptick in the revenue, a little bit of a flattening from Q2 to Q3 and we'll expect that continued moderation and then another kind of step up more in the back half of next year.

Joe Giordano:

That all makes sense. And just last quick for me. Just given how shorter cycle AWS is, I know backlog is extended there but it's like the shortest backlog throughout the company. And just when I think about price this quarter at 1,000 basis points, when price starts to normalize and orders are coming down and that business just starts to get to more like reasonable levels, what do we -- how do we think about like margin deleveraging in that kind of scenario? You made a lot of progress there. So how much of that do you expect to be able to hold on to as volumes kind of come down?

Patrick Decker:

And we continue, Joe, to make investments in innovation and R&D within that segment also within Water Infrastructure. I know M&CS has kind of gotten more the headline over the last few years. But we continue to make increases in R&D spend in those segments because that kind of refreshment of our offerings and portfolio, we see and our new products that we bring to market that they’ve got much higher margin and growth rates than what they’re replacing. So it’s important to note that there’s a refresh that continues to go on in both of those segments.

Andrew Kaplowitz:

Patrick, I know you’ve said that you have elevated backlog and a strong pipeline of opportunities but just focusing on orders for a second, down a bit this quarter, they decelerated over the last couple of quarters. I know it’s really just more difficult comps. But you did mention a little slower U.S. in Applied Water, for instance. So could you give us some more color into what you’re seeing in orders and whether you believe orders will continue to decelerate or how to think about orders going into '23?

Andrew Kaplowitz:

Very helpful, Patrick. And maybe if I could just follow up on your dewatering business. Kind of a similar question. I know you raised your industrial growth to low teens but what are your industrial customers telling you about the opportunities in dewatering? And do you see those orders staying positive and dewatering into ‘23?

Patrick Decker:

I would just add Andy, that the thing -- when we say customers and dewatering, there's the part that we handle direct, where we have our rental fleet and then there are our channel partners that we actually replenish their fleet and then they have their own rental fleet. And in the past, the part of that business that can turn very quickly is if our channel partners that are all local around the U.S. predominantly, if they get nervous and they see things, they then pull back on replenishing their fleet and that can happen very short cycle. And so we are in regular calls with them to get a feel for how they're feeling about the general macro economy right now. Thus far, it's strong and resilient but that's the area that we would keep a very close eye on.

Brian Lee:

I guess first question I had just following up on an earlier one. Price read out by almost 250 basis points more this quarter than in 2Q. It sounded like based on Sandy’s comments that maybe you’re starting to see a peaking sort of cadence in terms of price. So I just wanted to make sure that I heard that correctly. And as we start to lap some of the price increases over the past year and we head into ‘23, are we thinking more like a typical low single-digit price year starting early next year, just kind of get a sense of the cadence of price are into next year?

Brian Lee:

Absolutely. Yes, makes sense. And I guess a follow-up here, just to focus too much on the short term. But if I look at the guidance here for 4Q, I know nothing about the past couple of years has been sort of normal but it does imply a pretty flattish performance across key metrics, revenue, EBITDA, operating margin. Seasonally, you typically have a pretty meaningful increase from 3Q to 4Q across a lot of those headline metrics. So kind of walk us through, is there anything impacting near-term seasonality in the model here? You just kind of working off more backlog in 3Q than you expected. Just any sense of why this year, maybe 3Q to 4Q is a little bit lighter than you typically see in past years?

Patrick Decker:

Yes. And I think, Brian, the other -- I mean, regionally, the 2 areas that I would say that we’re just seeing things playing out a little bit differently this year than we have in the past. I mentioned earlier, things shifting to the right in China. And again, we have the uncertainties in Europe. And so we just think it’s prudent to build that into our outlook for Q4.

Saree Boroditsky:

A lot has been covered on the call but there is a big differential between the strong order growth between Applied Water growth and the decline in orders. So since you expect to work down the backlog through this year, how do you think about growth as we head into 2023?

Saree Boroditsky:

Yes for Applied Water.

Patrick Decker:

I mean we look at that part of our portfolio as market growth itself is GDP on a global basis. And we always look to and have historically beat that by some share gain. And that comes through investments in innovation through R&D. We continue to refresh the portfolio. But to Sandy's point, we're coming off of elevated backlogs due to one demand but also supply chain constraints. We'll see that normalize as we go into 2023. And in our upcoming call, we'll lay out by segment what our outlook is for '23.

Sandy Rowland:

AMI is -- it's a very long selling cycle. It's a big decision for the utilities to make -- we're working on RFPs that go out anywhere from 1 to 3 years. We have a big backlog in M&CS. If you look today, we still have about 1/4 of it that's past due. And so we're going to start working through that as chip supply recover. What we're most excited about is that the pipeline remains strong. We're winning a good percentage of those awards. And the value proposition is very, very sound.

Operator:

It appears that we have no further questions at this time. I will now turn the program back over to Patrick Decker for any additional or closing remarks.

Operator:

Thank you. This concludes today's Xylem third quarter 2022 earnings conference call. Please disconnect your line at this time and have a wonderful day.

Andrea van der Berg:

Good morning everyone and welcome to Xylem's second quarter 2022 earnings conference call. With me today are Chief Executive Officer, Patrick Decker; and Chief Financial Officer Sandy Rowland. They will provide their perspective on Xylem's second quarter 2022 results and discuss the third quarter and full year outlook. Following our prepared remarks, we will address questions related to the information covered on the call. [Operator instructions] As a reminder, this call and our webcast are accompanied by a slide presentation available in the Investors section of our website, www.xylem.com. A replay of today's call will be available until midnight on August 9. Please note the replay number is +1800-839-5676, or +1402-220-2565. Additionally, the call will be available for playback via the Investors section of our website under the heading Investor Events. Please turn to slide two. We will make some forward-looking statements on today's call, including references to future events or developments that we anticipate will or may occur in the future. These statements are subject to future risks and uncertainties, such as those factors described in Xylem's most recent annual report on Form 10-K and in subsequent reports filed with the SEC. Please note that the company undertakes no obligation to update any forward-looking statements publicly to reflect subsequent events or circumstances, and actual events or results could differ materially from those anticipated. We've provided you with a summary of our key performance metrics, including both GAAP and non-GAAP metrics in the appendix. For purposes of today's call, all references will be on an organic and adjusted basis, unless otherwise indicated and non-GAAP financials have been reconciled for you and are also included in the appendix section of the presentation. Now, please turn to slide three, and I will turn the call over to our CEO, Patrick Decker

Sandy Rowland:

Thanks, Patrick. Please turn to slide 4. The team did a tremendous job over delivering on our commitments with disciplined execution on strong fundamentals and continuing demand. As a result, revenues grew globally high single digits in Western Europe and mid-single digits in the US. In emerging markets, revenue grew low double digits, excluding China, which was slowed by ongoing COVID restrictions. In a moment, I'll detail performance by segment. But in short, utilities was up 2%, led by strength in Western Europe and the US. Industrial grew 12% on increasing activity in all geographies, particularly the US, Western Europe and Latin America. Commercial was down 1%, strength in Western Europe was offset by continued US supply chain challenges. And residential was up 13%, led by commercial execution and backlog conversion in the US. Organic orders were up 6% in the quarter, with water infrastructure up 21% and AWS up 2%, partially offset by M&CS. Global demand continues to be strong, and our book-to-bill ratio was a healthy 1.2 in the quarter. EBITDA margin was 16.6%, well-above our guided range, and that reflects a 240 basis point rise sequentially on strong commercial execution and discipline on discretionary costs. Price contributed two points of incremental revenue growth sequentially. As Patrick mentioned, pricing and productivity benefits combined more than offset inflation, and our EPS in the quarter was $0.66, coming in above expectations. Please turn to slide 5, and I'll review the quarter's segment performance in a bit more detail. Water Infrastructure revenue exceeded expectations, growing 9% organically in the quarter. Industrial remained strong, driven by continued backlog conversion, and our US wastewater utility business grew double digits as supply chain constraints improved throughout the quarter. Geographically, the US and Western Europe were also up double digits, driven by robust transport demand in the US and treatment applications in Western Europe, alongside strong dewatering growth. Emerging markets, excluding China, was up high single-digits, driven by strength across Latin America and Africa. These markets were down mid-single digits, including China, due to COVID site access restrictions there. Orders in the second quarter were up 21% organically versus last year, with growth underpinned by strong underlying demand supported by large infrastructure projects in the US and Canada. We also saw sustained demand in our wastewater utility business in North America and Western Europe. EBITDA margin for the segment was up 240 basis points as strong price realization, volume and productivity benefits more than offset inflation and investments. Please turn to Page 6. In the applied water segment, second quarter organic revenues grew 7%, modestly exceeding our expectations. Geographically, the US was up high single-digits with strength across industrial and residential, partially offset by supply chain constraints in the commercial business. Western Europe delivered low double-digit growth with healthy gains across all end markets, led by benefits from new energy-efficient product introductions. Emerging markets was up low single-digits, driven by strong industrial demand. Orders were up 2% organically and continued to outpace revenue with a book-to-bill ratio of 1.1 for the quarter. Segment's EBITDA margin declined 130 basis points compared to the prior year. And while price realization more than offset inflation, volume and mix for the quarter were negative. Despite lower volumes, demand remains robust as seen in our book-to-bill ratio. However, we expect to continue to deliver sequential EBITDA improvement as the benefit of pricing actions comes through our backlog. And now let's turn to Slide 7, and I'll cover our Measurement & Control Solutions business. M&CS exceeded expectations on strong demand and modestly better chip supply with revenue declining 2% organically. We also saw strong growth in our test and pipeline assessment services product lines. Geographically, the US and Western Europe were down mid-single digits and emerging markets was up high single-digits. M&CS orders declined 9% organically in the quarter, due to lapping some large deals in North America and the UK. Underlying demand for our AMI offering remains strong and orders continue to outpace revenue. We recorded a book-to-bill ratio of 1.4 and has built a backlog of over $2 billion. Segment EBITDA margin in the quarter was ahead of expectations, expanding 120 basis points sequentially on improved volumes. As supply chain stability improves and we convert our backlog, we will see strong margin accretion on higher volumes as we have previously discussed. And now let's turn to Slide 8 for an overview of cash flows and our balance sheet. In the second quarter, we generated free cash flow of $67 million, driven by income conversion, partially offset by higher working capital. Our financial position remains strong with $1.1 billion in cash and $1.9 billion of available liquidity. Net debt-to-EBITDA leverage is 1.5 times. Please turn to Slide 9, and I'll hand the call back to Patrick to look forward at the rest of the year.

Sandy Rowland:

Thanks, Patrick. Consistent with our previous presentations, we've provided key facts for each end market in the appendix. The outlook across our end markets has broadly improved. We expect healthy underlying demand will continue through the remainder of the year, with improved price/cost mix and modest improvements in supply chain. We now expect our utility business to grow mid-single digits, up from low single digits. On the wastewater side, we now expect mid-single-digit growth, up from low to mid-single-digit growth on improved backlog conversion and resilient global demand. The outlook for longer-term capital project spending and bid activity remains solid globally. For clean water utilities, we now expect mid-single-digit growth up from flat. The main driver is earlier than expected easing of chip supply constraints. Although, supply has improved, lead times continue to remain elevated, and our volumes continue to be constrained. We also expect momentum in our test and pipeline assessment services business to continue, due to increasing focus in our end markets on infrastructure and climate challenges, as evidenced by our strong backlog. Please turn to slide 11. Looking at the industrial end market, we now expect high single-digit to low double-digit growth, up from mid-single-digit growth and increased activity in the US and Europe and strong global demand for our solutions. We continue to expect the commercial end market to deliver mid-single to high single-digit growth on solid replacement activity and new introductions in the US and Europe. In residential, our smallest end market, we now expect healthy demand to drive double-digit growth, up from mid-single digits. As a reminder, the majority of our commercial and residential end market exposure is replacement driven versus new construction. Now let's turn to slide 12, and I'll walk you through our updated guidance. Our outperformance in the second quarter gives us confidence to increase our full year guidance for organic revenue growth and to raise the low end of the adjusted EPS range. We now expect full year organic revenue growth of 8% to 10%, up from 4% to 6%, and we have raised the bottom end of our EPS range by $0.10. The increase in the reported revenue guidance is more modest, as the strength of the dollar offsets roughly half of our operational improvements. We have modified our assumptions on our basket of currency exposure, which is included in the appendix. These changes result in an incremental $0.05 headwind to the full year EPS guide. And this is on top of a $0.10 EPS FX headwind that we discussed last quarter. On slide 13, we've shown how our guidance breaks down by segment. We now expect high single-digit growth in Water Infrastructure, up from mid-single digits and low double-digit growth in Applied Water, up from high single digits, driven by disciplined commercial execution and backlog conversion on continued strong demand in both segments. We now expect Measurement & Control Solutions to be up mid-single digits, up from flat. This reflects the outperformance in the first half from chip supply improving sooner than expected. For 2022, we are raising the bottom end of our adjusted EBITDA margin range, which is now 16.5% to 17% and this yields the adjusted EPS range of $2.50 to $2.70 that I just mentioned. We now expect free cash flow conversion to be approximately 90% of net income. We're carrying about a month of extra inventory to mitigate the risk of supply chain disruptions and provide continuity of service to our customers. We expect to bring conversion back to historical levels as supply chain stabilize, enabling us to return to free cash flow conversion of at least 100%. We have provided you with a number of other full year assumptions on the slide to supplement your models. And now drilling down on the third quarter, we anticipate total company organic revenues will be up 10% to 12%. This includes mid-single-digit growth in Water infrastructure and mid-double-digit growth in Applied Water and M&CS. We expect third quarter adjusted EBITDA margin to be in the range of 16.5% to 17%, a sequential improvement over the prior quarter. And with that, please turn to Slide 14, and I'll turn the call back over to Patrick for closing comments.

Operator:

[Operator Instructions]. Our first question is coming from Deane Dray with RBC Capital Markets. Your line is open.

Patrick Decker :

Good morning, Deane.

Deane Dray:

Hey, maybe we can start with the better news on the chip supply. And we've been hearing that from other manufacturers that it's starting to improve gradually, and your commentary is pretty consistent with that. But just some additional color, what you see in the quarter? And what's that outlook for the second half? How much of the backlog in digital might you be able to sell?

Patrick Decker:

And I would just add Deane that – sorry, for my voice that in addition to that the team has done terrific work not just on landing chips in the spot market, but a lot of the redesign work that we talked about in past quarters is nearing completion. And so there was an added cost in the quarter for that, but it was there to really make sure we secured supply for our customers. And we also shipped out more mechanical meters in the interim in order to bridge that gap while we're waiting on the chip to come through. So there were multiple dynamics, but as Sandy laid out things certainly got better and we feel more confident now about the second half than we did before.

Sandy Rowland:

Yes. Deane, the margins are clearly richer on the digital side. And we saw that in our mix in M&CS in the quarter. We were about 5% less digital this year compared to last year. And I think that was with the purpose of taking care of our customers and putting product into the hands of our customers where -- to keep them up and going. And so that took a more mechanical meaning this time around. I think as we look at longer-term where we expect to land from a margin perspective nothing has changed structurally from what we laid out in our Investor Day last year in September.

Deane Dray:

Got it. And then just last question for Sandy, on the free cash flow, we've seen most of the companies this earnings season trimming free cash flow guidance, all because of higher working capital commitments both supply chain inefficiencies and big demand. Just -- how do you -- the expectation for returning to 100% free cash flow, is that really dependent on the supply chain? And what would be the time frame?

Patrick Decker:

And from a segment perspective Deane, it was most notable in Applied Water, where again we've had continued knock-on effects whether be supply chain casings coming out of China due to COVID. Obviously, we expect those to continue somewhat in the second half. And that's why to Sandy's point we brought in an extra month of inventory into that business. So it's very visible. We know exactly what it is. It's totally under control. It's simply a matter of meaning to do that in order to supply customers and maintain that demand.

Patrick Decker:

Thank you.

Nathan Jones:

Good morning everyone.

Sandy Rowland:

Good morning, Nath.

Sandy Rowland:

Yeah. I think obviously a really important question, Nath. I think one thing I want to call out is we've already seen from the low point in Q4, 300 basis points of margin expansion from Q4 to Q2. And that's evolving because of the higher volumes, partially constrained by some of the things that we referenced earlier in the call the mechanical mix the redesign costs on optimal manufacturing flows. But as we look out into the back half of the year, there's not as much of a pickup from a revenue perspective, but we would expect margins to kind of continue along the same trajectory that we've recognized from Q4 Q to Q2. And I'm not going to give guidance on 2023 on this call. But as we look out to 2024, 2025 we don't see anything structurally different about where margins should land in that time period.

Sandy Rowland:

Yeah. I think for us Europe has been a real bright spot. And it's not just in one segment. It's really across the entire portfolio. We've seen good revenues in Europe. We've seen good orders. I know, there's a lot of concern about potential recession in Europe, and the industrial market in particular. I think one thing, I would call out is that, if you look at our dewatering business, for example, which is more industrial, we've done a lot to diversify the end markets there, much less exposure to oil and gas than we did in the prior recession. I think we're down to about 1% revenue in that end market. And then, of course, there we've also been diversifying from a geographic perspective.

Nathan Jones:

Thanks for taking my questions. I’ll pass it on.

Operator:

We will take our next question from Connor Lynagh with Morgan Stanley. Your line is open.

Sandy Rowland:

Yes. No. Great question. We do have a plan to start working down some of our inventory through the back half of the year. It's nothing dramatic. It's going to take place over the next six months on a very gradual basis. And I think we are – our teams have been doing a good job on the elements around working capital. We are going to continue to lean in hard on collections, and make sure we bring those in, and that – we've seen really good results through the pandemic on our collection front. And similarly, we're doing work around, getting better terms from a payable perspective. I may have referenced it on another call. We have a supply chain financing program that's quite active, and it allows our supplier base to take advantage of our credit rating. We're getting more of our supplier base engaged on that program, and that will give us some incremental days from a payables perspective. And I think, it all ties into being prudent also around cost and discretionary spend, and CapEx spend to make sure, we start seeing a better cash conversion in the second half, which lines up with our historical seasonality as well.

Sandy Rowland:

Yeah. So we haven't changed our strategy, our capital allocation strategy. We've typically bought stock back in the first quarter, which is when we have a vesting date in our equity compensation programs. And so this was nothing that we bought back stock in Q1. We wrapped that up at – in the March time frame. And as we look at our M&A funnel, and pipeline, we still see a really – we're really encouraged by the funnel, the range of opportunities, and that remains a higher priority for us than buying back our stock.

Connor Lynagh:

Right. Makes sense. I'll leave that comment for somebody else to ask about. But – thanks.

Mike Halloran:

Hey, good morning, everyone.

Sandy Rowland:

Good morning, Mike.

Sandy Rowland:

Yeah. I think, Mike really good question. Nothing has changed structurally about our backlog. If you look at our AWS business that has a larger book-to-bill ratio than the other segments, and we're carrying record backlogs across really all three of our segments. And we did see really strong book-to-bill ratios across the portfolio in the quarter from an orders perspective. As we look at our water infrastructure and Xylem's M&CS backlogs, they stretch out for longer periods of time. Water infrastructure is in the middle. We have our transport business, which turns fairly quickly and a treatment business that has projects that stand out for multiple years. And then M&TS is the longest coupled with the supply chain constraints, which don't magically disappear at any one month, we have a $2 billion backlog there. So that's going to take a couple of years plus to work to work through.

Sandy Rowland:

Yes. I mean, we are really pleased with what we saw from a price perspective. We've leaned in harder on price, because inflation is also coming in higher throughout the year. A big milestone we did get price cost positive in the quarter from a dollar perspective, given the magnitude it's slightly dilutive to the rate in Q2. Q3 is a little bit lower from a seasonality -- a little bit lower on the revenue side compared to Q2 just because of the typical seasonality in our water infrastructure business. And so in Q3, we expect to continue to be price/cost positive on a dollar basis, probably still in the same order of magnitude about 30 basis points this quarter in that order of magnitude dilutive from a rate perspective. And then we think in Q4, we should be positive again from a dollar perspective and neutral from a rate perspective. So, really good progress across the portfolio to reach this important milestone.

Patrick Decker:

If I could just go back to your question on visibility and backlog. I think the other dimension that we feel much better about now than we even did in the last industrial downturn is the visibility and the closest we have to our channel partners, our distribution channel partners both here in the US as well as in Europe, where we have meaningful indirect channel business. And we've got much better visibility and coordination with them now than we did back then. So we got hit with a couple of surprises last time around in a quarter or two, we feel much better about that not happening going forward. So they are also our eyes and ears of what's going on in the marketplace at a local level.

Sandy Rowland:

Thanks, Mike.