Xylem Exec Insights: Orders & Backlog Dynamics, Pricing

On Thursday, Xylem Inc (NYSE:XYL) reported its first quarter earnings and discussed the following topics in its earnings conference call. Take a look.

Order Dynamics

James Lucas – Janney Capital Markets: Two questions. First, I was hoping you might be able to give us a little bit of color as we are trying to understand the dynamic of the orders and backlog from a timing perspective. I mean, 1.09 book-to-bill very positive growing backlog. How does that book-to-bill translate into shipments as we think about the progression during the year?

Gretchen W. McClain – President and CEO: Jim, let me give you some color there just from our businesses. Our two segments, Water Infrastructure and Applied Water, when you look within Water Infrastructure, I would think about on an average when we get an order to when we ship around on an average 60 days. So let me break that down a little bit further. You get into transport, a large portion today with a large of the funding coming out of the operation and maintenance side. It’s a much quicker churn. We take the order, we deliver the parts that can be anywhere from a short-cycle to 90 days. Now, if you are getting into the capital expenditure funding where you are now into treatment or the transport or supporting a large project, that can be anywhere from 90 days to 18 months. So longer cycle when you are looking at large projects. Our testing inside end markets quick turns, but I would just hesitate with YSI as we spot YSI and integrated it and looked at what they are doing. They support a lot of large projects which do take a little bit longer time, not a quick turn sale. But overall test is pretty quick to get the order actually ship. When you think of Applied Water think of it around 30 to 60 days you’ve got somethings that are two day turnaround, but you’ve also got the irrigation and some building services projects that you are working with the builders and take a little bit longer, but on the average 30 to 60 days turn there.

Mike Speetzen – SVP and CFO: Jim, the only the other points I would make is we ended the quarter with about 740 million in backlog, little over 80% of that will actually deliver in 2012 so clearly there is components in the backlog that are going to go out into 2013. Obviously, there is going to be components of backlog that are going to be beyond just Q2. So, when you think about that 1.09 not all of that is going to translate into Q2 revenue, but it is a good indicator and gives us confidence as we start moving into the second quarter.

James Lucas – Janney Capital Markets: Second question. Could you just bring us up-to-date on your capital allocation strategy given the strength of the balance sheet and the strong cash flow expected this year?

Gretchen W. McClain – President and CEO: Let’s just talk about the business first of all. We’ve got a great business and great foundation of our core business and then the new platforms that we just strategically have been building out. So, our priority is our organic growth and continue to expand and invest in those opportunities where we can grow geographically as well as some attractive markets specifically in our core space. As well and continuing to invest in our de-watering and our analytics business both from an organic perspective as well through acquisition so we see a nice pipeline of candidates that we are looking at. We are actively engaged in opportunities for us to quickly move. You’ve seen us actually have a very nice success with our acquisitions over the last two years, and so, that’s where we’ll be putting our first priority in terms of investing organically and equitably.

Mike Speetzen – SVP and CFO: Jim, I guess I’d also ask, and I talked about it a little bit on the margins, we had about a 10 point drag on the incremental, because of that organic investment we’re making back in the business. So for example, the expansion we made into – Russia is a prime example there – we’ll continue to invest in the sales channel of the business as well as continuing to invest in the organic growth initiatives, like we’ve done in the past with eSV and the Flygt Experior. So, we see, as we indicated, investment being about a 50 basis point a drag relative to operating margins, but that’s where we really focused on driving gross margin improvement to be able to fund, continuing to invest in the business.

Gretchen W. McClain – President and CEO: Jim, just one other thing in terms of new projects. We’ve been launching quite a few new projects over the last couple of years, but we’re also thinking about how we can use smart information, so we’ve gotten into smart app, and making it much easier for our customer base to work with our sales team out in the field, configuring their applications and their solutions, and that’s another area where we’ve been investing as well.

Pricing

Matt Summerville – KeyBanc: Couple of questions. Gretchen, in your prepared remarks, you talked a little bit about what you guys have been doing from a pricing standpoint. I think back at your Analyst Day, you had indicated targeting about 150 basis points a year on price, and it looks like you’ve already ramped to that kind of run rate. So two things. Does it make sense to move that bar higher or that goal or target? Then I guess the other question is, how far through the organization have you rolled this pricing process or initiative out of at this point?

Gretchen W. McClain – President and CEO: Matt, we’ve been driving this commercial excellence process for the last couple of years. We’re still in the process of doing it. We’re about at the end of 2012 we’ll be 80% deployed across our global sales team. If you think about that we’re in 150 countries. We’ve got a lot of sales team around the globe. I would say we’re further along in our Applied Water business than we are in our Water Infrastructure. But in terms of where we are we’re getting great results as you can see and I think it’s going to stay about that level. Obviously we drive internal targets as aggressively as we can, but you also have inflation coming down and being able to pass on price to customers. Our main thing here is we want to make we maintain our shares in those attractive markets we want to continue to grow and we have a good process around our pricing policy where we look at our wins and losses and we think about our product strategy and our differentiation and what we’ve done with our sales team is really get them out their selling on a value proposition as compared to on price, and it’s working but there is still more to do.

Mike Speetzen – SVP and CFO: Matt the only other piece I would add to that is you have to remember we’re lapping 2011 where we took some pretty significant price actions in light of the environment we had on inflation. So, we have a little bit of that dynamic that plays out. So, I think as Gretchen indicated we’re kind of right in the range that we anticipated being for the year.

Gretchen W. McClain – President and CEO: But the culture is building and that’s the positive thing that I feel good about. It’s becoming part of our day to day process and we’re really seeing it in the results. So, that should continue.

Matt Summerville – KeyBanc: Then just to follow-up. Can you talk a little bit about your incoming order rates in terms of linearity and if you can provide any comments on what you saw in April that would be helpful as well?

Gretchen W. McClain – President and CEO: I would say, as I laid out the market dynamics and so forth, it’s consistent with what I’ve been talking about. I’d say the one area we’re most challenged with is we’ve got a lot of activity going on in treatment in the larger projects around capital expenditures, lot of bidding taking place, but what we don’t see yet is the release of funding at this point in time. Not an impact right now, but obviously, something we’re watching very closely coming out of quarter two and beyond.

Mike Speetzen – SVP and CFO: I’d say in the latter part of March and April, we did see improvement in a couple of the areas. We mentioned the Middle East, given us some headwind year-over-year. We did see order rates improving there and we did see orders improving in some parts of Europe. So, again, that’s been consistent with the level of guidance that we’ve provided in consistent with what we’ve seen going into the month of April.