Allegion plc ALLE CEO Dave Petratis on Q4 2019 Results

Thanks Mike. Good morning and thank you for joining us today. Allegion experienced modest top-line revenue growth in the fourth quarter, with strength in the Americas offset by weakness in Europe and Asia Pacific. The Americas region had reported organic growth of 6.8% in the quarter, driven by both the non-residential and residential businesses. The AMIA region saw markets soften, and the complexity of moving our operations from Turkey to Poland negatively impacted the top line as well as operating income. The level of effort in executing a move like this cannot be underestimated. While we did experience some impact from the transition, we are better positioned after leaving Turkey. Asia Pacific continued to experience weak markets in Australia and deteriorating markets in China. Electronics growth in the Americas came in just over 12% in the quarter and increased over 10% for the full year. We continue to see electronics as a long-term positive trend as more and more products become connected for ease of access. As I look to our end markets, U.S. non-residential remains healthy, and U.S. residential has improved. As I mentioned, AMIA and Asia Pacific are experiencing weaknesses in the markets they serve, and we see that continuing in the near term. Adjusted operating margins are up 30 basis points in the quarter and 70 basis points for the full year. Margin expansion was led by the Americas region, which saw full-year adjusted margins up 120 basis points. Volume leverage was good during the year, and the price productivity inflation dynamic was positive in the quarter. Adjusted EPS growth came in at nearly 5%, bringing the full-year increase to approximately 9%. Available cash flow was up nearly $14 million to $422.6 million for the year. Overall, I'm pleased with our full year 2019 results. We saw good revenue performance, expanded adjusted operating margins, delivered solid adjusted EPS growth, and generated substantial available cash flow. Please go to slide five.

Rolling into the fourth quarter with $719.5 million, an increase of 2.4%, inclusive of 3.5% organic growth. Currency headwinds and the impact of the divestiture of our business in Turkey offset some of the organic growth. Americas led the way on revenue growth, offsetting the weakness we experienced in AMIA and Asia Pacific. Patrick will share more detail on the regions. Adjusted operating margin increased by 30 basis points in the fourth quarter as we saw significant margin expansion in Americas with declines in Europe and Asia. Adjusted earnings per share of $1.20 increased six cents or nearly 5% versus the prior year. The increase was driven primarily by higher operating income, favorable share count, and interest expense, offset by an unfavorable year-over-year tax rate increase. Available cash flow for the year came in at $422.6 million, an increase of nearly $14 million versus prior year. Increased adjusted earnings and improvement in net working capital were the driving factors for the increase. Please go to slide six.

This year we're recognizing Schlage for its past, present, and future innovation. 2020 marks the 100th anniversary of the brand, and we're proud to celebrate this milestone in various ways that support the business and engage the customer, non-residential and residential audiences. As the legacy brand with a rich history, there is no doubt that Schlage is an important part of the Allegion story. Schlage has been providing security, style, and peace of mind for the last 100 years, from the first push button lock pioneered by Walter Schlage in 1922 to the high-tech mobile solutions of today. Our trusted brand's passion for door hardware is rooted in security and steeped in innovation. As you may recall, we saw strong market acceptance of the Schlage Encode residential lock after it was introduced in 2019, especially because we were the first major manufacturer to bring a smart Wi-Fi deadbolt to the market. By year end, the Schlage Encode was recognized as a best-in-class product by consumer tech influencers at CNET, Digital Trends, and Consumer Reports among others. Just last month, it was named the best smart door lock to keep intruders out, highlighting the peace of mind Schlage is known to bring to homeowners across the globe. And it's not the only one drawing recognition. The Allegion suite of products, Schlage Sense and Schlage Connect, also continue to receive accolades as the best smart locks you can buy and the best tech gifts. Collectively, these smart locks along with Schlage Encode have been recognized by tech experts as the best to work with Amazon Alexa, Apple HomeKit, and Google Home. As a powerful brand, we expect Schlage will continue to set the bar for customer experience in our industry and redefine what's possible with security solutions for seamless access. Please go to slide 7.

Last March we announced our business strategy centered on seamless access for a safer world. Allegion has a strong internal innovation engine, creating award-winning products like the one you just saw, as well as Overture for specification work, and next generation products like the SimonsVoss more handle AX. As we look to the future, we see the opportunity for technology to drive progress in seamless access. One I'd like to highlight today is edge computing. We made a leap forward in edge devices with the acquisition of Isonas. It was a good technology move, and through Allegion Ventures, we're investing in companies that approach authentication and people flow in new ways, companies like TenDrops and OpenPath. I'm excited to see the ways we can create new value in access by pairing Allegion products with the data and analytical capabilities of a company like OpenPath. You'll see us continue to look for opportunities to invest, partner, and drive progress through internal and external innovation that aligns with our strategic pillars: being a partner of choice, deliver new value in access, smart capital allocation, expand in our core markets, and focus on enterprise excellence. Access has been a part of the company heritage for more than a hundred years, and seamless access will define our company going forward. Patrick will now walk you through the financial results, and I'll be back to discuss our full year 2020 outlook.

Thank you, Catherine. Please go to slide 15. We continue to see favorable trends in our primary end markets in 2020. We also believe growth in the electronics portfolio will continue to outpace mechanical in all regions, and we are well-positioned to continue to take advantage of this industry trend. In the Americas, we see continued positive fundamentals in our non-residential verticals. The residential end markets have rebounded and improved. We expect the general trend towards electronic products in both residential and non-residential businesses to continue. With these expectations, we project organic revenue growth in the Americas of 4.5% to 5.5%. We are projecting Americas total revenue expansion to be 4% to 5%, with a slight impact from divesting our business in Colombia. In Europe, markets have softened in Germany and southern Europe and remain weak in the UK. For the region, we project total and organic growth to be 1.5% to 2.5%, led by our SimonsVoss and Interflex businesses. In Asia Pacific, we expect weakness in the Australian markets to continue, particularly in residential. The market in China has also softened. With that backdrop, we expect growth in the region to be flat both on a reported and organic basis, with declines expected in the first half of the year and modest recovery in the second half on easier comparisons. All in, we're projecting total revenue growth for the company at a range of 3% to 4% with organic growth between 3.5% and 4.5%. Please go to slide 16.

Our 2020 outlook for adjusted earnings per share is $5.10 to $5.20, an increase of approximately 4% to 6%. As indicated, the earnings increase is driven by revenue growth and operational improvements, as adjusted operating earnings are expected to increase 6% to 8%. Our outlook anticipates continued volume leverage and a positive equation for price, productivity, and inflation. We also expect margin accretion in our region for the full year but continued pressure in the first half for AMIA and Asia Pacific. Incremental investments continue to be a headwind as we remain focused on accelerating new product development and channel initiatives, which we believe enable us to keep delivering above-market growth and allow us to take advantage of shifting customer preferences for electronic products. The combination of interest and other expenses is expected to be a slight positive to earnings per share. Our outlook assumes a full-year adjusted effective tax rate of approximately 16.5% to 17%, an increase from 14.3% in 2019. It also assumes outstanding weighted average diluted shares of approximately 93 million. The outlook additionally includes a $0.10 per share impact from restructuring charges during the year; as a result, reported EPS is estimated at $5.00 to $5.10. We are projecting our available cash flow for 2020 to be in the $450 to $470 million range. Please go to slide 17.

We are pleased with our 2019 performance. We saw top-line growth, delivered organic revenue expansion of 4.6%, adjusted operating margins up 70 basis points, adjusted EPS growth of nearly 9%, and strong available cash flow. And while it's not highlighted on this slide, we strengthened the foundational elements of Allegion's culture that will help drive our success as a company into this new decade: safety, sustainability, and engagement. In 2019, we were safer, reducing workplace accidents and their cost, which were already below the industry average. We were cleaner, reducing energy inputs and waste outputs. And we were significantly more engaged, meaning our global employees are more connected to our vision and our work than ever before. As we look to 2020 and renew our commitment to safety, sustainability, and engagement, we are well positioned to drive continued growth in revenue and earnings. We also expect to deliver solid growth in adjusted earnings per share and generate substantial available cash flow. Before we take questions, I'd like to take a moment to share some news with regard to organizational changes here at Allegion. Mike Wagner will be assuming a general management role within the Americas business. Mike has been treasurer and head of investor relations since the summer of 2016. Since that time, Mike has served as a valuable voice for the shareholder community among the leadership team. As we move forward, Tom Martin, a vice president of finance for the AMIA region, will assume the vice president, treasurer and investor relations role. Many of you are familiar with Tom and know that he brings a wealth of financial experience and knowledge that will position him well as Allegion's primary representative to the investment community. I'd like to congratulate both Mike and Tom on their new opportunities. This transition has been completed, and you can begin contacting Tom for any investor related questions on a go-forward basis. Now Patrick and I will be happy to take your questions.

Good morning, Josh. I would say number one, European end markets definitely softened. I think if you look at industrials and automotive, which were particularly strong, that softened. Our electronics businesses and then just general decline in our mechanical side because of regional weakness in the UK, Italy, and others, so clear market weakness. Second is the move from Turkey to Poland. It's a good productivity play for us over the long term, but we moved a lot of jobs, a lot of tools, and change of the supply base. That certainly impacted our ability to serve our customers and drove inefficiencies. As you think about 2020, we will get better every month, but we're talking almost 140 new roles in Poland. Good productivity inside that, but as an old manufacturing guy, we will get better week to week, month to month, and I think we'll have this operation in pretty good order by year-end.

We have an outstanding supply chain team. They've been working with the events in China and the coronavirus. I would say this, Andrew: every week that China stays shut down, it will put pressure on our supply chain. Remember, we typically produce in region, but we still draw a lot of sourcing out of China. Probably more concerned about second tier suppliers, providers that could supply subcomponents to final assemblers. But we're well out in front of it. The timing helped us a little bit with Chinese New Year, we would typically stock up. But I looked at some reports yesterday out of China, only about 30% of the industrial workforce is back to work. It's really a function of how quickly this comes back up.

I'd say strong institutional. We continue, as you think of 2019 to 2020, we actually see that market continue stronger. Our spec position, our backlogs, we like that with a focus on education. Those bond issues that we look at across the country are going into security, and we like that trend. I think the other significantly more favorable is residential, and then complemented by electronics. The residential market was in a bit of a doldrums in 2019. I think there are some things that step up nicely for Allegion in the Americas as we go into 2020, which would include new products, the full year of Lennar, and continue to grow this channel to go out and grow that part of the market.

I think number one, a great lineup of capabilities. I think you mentioned our spec writing capabilities, but it's really that installed base with technical mastery, working with clients like the University of Michigan, Iowa Western Community College, the University of Tennessee. Those products and capabilities come together in trusted relationships that help us grow. I would say things like Isonas, our investment in multifamily, which can position itself in college dormitories, it's that trusted position in a market that wants to move keyless that is driving the growth. Let me give you one other one: Encode, the first Wi-Fi lock. The battery sustainability, our ability to get through some technical issues, and I think growth on our part in terms of our mastery to be able to connect into the web of complexity that can appear in a residential home or a commercial institutional site. How things connect, our teams have put a lot of work into that, and I think as we unload out of the box and connect, we're doing a better job, which builds customer loyalty.

I think our priority will continue to be heavily institutional focused because of that installed base and our spec writing capability. Things like the master key system, the funding for negative devices are already there, so ability to upgrade puts us in a position. I'd say second, we're doing a nice job on multifamily. You see a lot of movement into the inner city. Our ability to solve multiple problems for a developer, including keyless access, has given us some nice growth across the country.

I would say our uses of cash have been pretty clear. We like organic growth, especially around the opportunity of seamless access in electronics. Second is M&A. We continue to work extremely hard on deals in what I call the mid-major area, and think about the future of how we can position Allegion stronger for electronics and capabilities that will help us realize this vision of seamless access. And yes, you did see our announcement authorized by the board to increase the dividend as well as a reload of the stock buyback. Our message is that we want to make sure that our capital is put to work frequently and efficiently, and if that means returning to shareholders, we pull that lever as well.

You hit one of them. We continued our specifications. One of the strengths, Overture, would be an investment to help give tools to customers and our spec writers. Then relationships are important, feet on the street that could help us grow and optimize that tool. Second, multifamily, we continue to see a strong market there that we've had historically been under-penetrated, and we like our electronic offerings to be able to grow in that market. We put some investments back in resi because that market is responding. These are examples of how we're segmenting the market and industry.