George Oliver: Yes. When you look at our North America resi deducted business, when you look at the overall market, it’s down in units in the teens, now we were down more than that. And it’s really two big factors here. This is where we’ve had coming into the year, we still had continued supply chain disruptions. We also had the launch of our new product, the 2023 product. We worked through that, we worked through the supply chain. So although, we were down further in units, we had strong pricing coming through. We worked with our distributors and there’s another key point to make on our field direct channel, which is a small portion of our distribution, we were actually up 13%. And so that’s similar to what others have seen.
On the distribution side, we’ve worked with our distributors in making sure that now as we have continued to improve our supply chain through the quarter that we’re going to be positioned to be able to deliver on their expectations from a demand standpoint as we now go through the rest of the year. And so when you look at the rest of the year, we are projecting that the market will be down high single digits in units. There’ll be continued strong pricing coming through and we’ll be in line with the industry. And we believe that now with our recovery of the supply chain, we actually start to pick up some of the share that we had lost over the last year due to the supply chain.
Joe Ritchie: Got it. Very helpful. Thank you.
George Oliver: Thank you, Joe.
Operator: Our next question comes from Steve Tusa, JPMorgan. Steve, your line is open.
Steve Tusa: Hey guys, good morning.
George Oliver: Good morning, Steve.
Steve Tusa: Good morning. If I look at roughly kind of the 350 or so where consensus is, it implies we’re using the midpoint of your guidance about $2, $2.10 or so of earnings in the second half. That’s about $1 per quarter by my math. Do you €“ is that kind of the right type of seasonality? Would you expect fourth quarter to be above third quarter and how materially above? Maybe just give us a little bit of a little more color on how the third and the fourth quarters break out EPS-wise?
George Oliver: Yes. At the high level, Steve, when we look at our build for the year, we were in a very different place this year than we were last as we’re now continuing to accelerate our capacity expansion across our product-based businesses. And we’ve seen a nice ramp, for instance, in our applied businesses. In some cases, we’re expanding capacity 2 or 3 times, and we tried to see that volume come through. And then we have worked with our supply chain. So we’re very much aligned now going into our seasonal ramp as well as the recovery of our backlog to be able to begin to accelerate here in Q2, and that will continue through the seasonality that we see in Q3 and Q4. And so we’re in a very different place than we were a year ago and being able to execute on that ramp.
And I’m very encouraged with the work that we’ve done, especially across our applied business where, from a core strength, that is our strength, and we’re beginning to see that pick up across the board. So Olivier, I don’t know if you got any additional.
Olivier Leonetti: No, not much more to add. The backlog conversion now is going to have its full impact. It will be very strong from Q2 onwards. The productivity initiatives are still well on track. We are identifying new productivity initiatives all through the year. The backlog is very resilient. Our service mix is very strong, accelerating significantly across the portfolio. So we see margin expansion clearly in the second half, Steve.
Steve Tusa: So like is $1 around the right number for 3Q and then it kind of steps up a bit from there? Or is it more fourth quarter weighted, maybe just a little more precision to get people in line?
Olivier Leonetti: Roughly, you’re in the ballpark, Steve, indeed.
Steve Tusa: Okay. And then one €“ just one last one on non-res activity. You said that things are €“ you expect things to pick up here. What are you seeing in January on that front? I assume you’re seeing some positive things? And what’s the latest outlook on how things trend in the back half of the calendar year?
George Oliver: Yes. When we look at our pipeline and we track our pipeline very closely, especially as it relates to all of the €“ our growth vectors and then the overall general market, when you look at the Dodge number and when you look at that growth, we are lagging that. So we’re seeing significant opportunity there as that plays through. We are watching the ABI, which is longer term from projects that are coming to market. It did soften in November. It did come back and stabilize in December. And so for us, it’s €“ and then when you look at our mix of our businesses, with the demand for our core applied business, when we look at our chillers, when you look at industrial refrigeration, you look at our data center offerings, across our supply €“ across that portfolio, we’re seeing incredible demand.
And we’re working to make sure that we’re executing on the capacity expansions that we made €“ that we started over a year ago to be positioned to be able to support that demand, and we’re making good progress, Steve. So from a non-res, as far as our mix and where we see our strength to be, we see continued very strong activity building in the pipeline.
Steve Tusa: Great. Thanks a lot.
George Oliver: Thank you.
Operator: Our next question comes from Julian Mitchell from Barclays. Julian, your line is open.
Julian Mitchell: Hi, good morning. Maybe I just wanted to
George Oliver: Good morning, Julian.
Julian Mitchell: Good morning. I just wanted to start off perhaps with the inventory and the cash flow because I think the inventory was up about $400 million sequentially, and it seems like it’s a mix of kind of too much supply and too little demand in things like resi and then too much demand and too little supply in some other areas like commercial HVAC. So maybe just help us understand kind of what’s going on in that inventory balance. And then what does that mean for the pace at which free cash flow improves over the balance of the year? Do you think free cash flow can be up year-on-year in the current second quarter or it’s more of a sort of second half recovery on cash?
Olivier Leonetti: So if you look at, first of all, the full guide, it’s unchanged, 80% to 90% free cash flow for the full year. If you look at the seasonality of your question, we believe we’re going to go back to historical free cash flow generation seasonality. That means that we should be year-to-date at the end of Q2, close to breakeven from a free cash flow standpoint. You can infer from that, that we would be positive in Q4 €“ in Q2, I’m sorry. So breakeven year-to-date at the end of Q2, positive in Q2. You’re right. Inventory was the key variable explaining what happened in free cash flow in Q1. Largely, George covered that. Resi and some mismatch of inventory is what is explaining this trend. We believe that this is going to keep improving all through the year. We have detailed action in place. And we believe that breaking even after the first half is an achievable goal from a free cash flow standpoint.
George Oliver: So Julian, just to add to that, as you look at our commercial applied business, in many product lines, we’re doubling; in some cases, tripling. And we’re in the process of building up and being able to achieve that output through the course of the year. So we’re in a build and we’re making good progress on the applied business. When you look at our total applied business with what we do externally as well as internally, it’s up very strong here in the first quarter. And then the second is what Olivier said, as we work through the residential disruption, it’s really comes down to one plant on supporting our residential business with the disruption that we had really coming into the quarter. We’ve worked through that, and we’re positioned to adjust. Given the mismatch we had, we’ve lined out with our distributors relative to what they expect. And we have confidence that, that’s going to normalize here over the next quarter or 2.
Julian Mitchell: Thanks very much. And then I just wanted to circle back to the North America Field business again, because you’ve had, I think, seven quarters now of down margins year-on-year. The Q1 margin was 200 points lower than it was two years ago. And I think you’d mentioned mix as a headwind specifically in the first quarter, but clearly, there have been issues predating that, pulling down the margin. And it seems like it’s taken longer than you’d expected to get that North America field margin to turn the corner. So I think clearly, the guide embeds an improvement there getting to that $1 of EPS, for example, in Q3. But maybe give us a bit more color on what you’re doing kind of inside that organization to get the margins to turn around. And how much of the improvement in margin is that internal self-help versus getting some sort of macro or supplier benefits?
George Oliver: And so let me touch on that, and I’ll turn it over to Olivier. When you look at the turn, so what we’ve booked over the last €“ it’s really been the last year, 15 months, what’s been turning some of the longer cycle projects that are turning now and you look at what’s going to turn second, third and fourth quarter, a much higher mix, Julian, relative to the margin that we booked into the backlog. And that margin is tied to much greater value propositions. And then ultimately, in installed base, it’s going to spin off service. And so we’re going through the last of the tail that was prior to this inflationary period of projects that are still coming through. But I have confidence that when we look at what we’ve been €“ how we’ve been building these projects costing and then ultimately executing, you’re going to start to see a nice pickup in margins.
And I think €“ and then the other factor is that the velocity of our turn, because of the improvement in the supply chain, you’ll start to see much higher productivity because the velocity of being able to turn these projects more consistently as we work through the year. Those are the two big factors. Olivier, maybe you could comment on the margin rate.
Olivier Leonetti: Absolutely. So as a byproduct of the speed of the backlog conversion, we would see, as I indicated earlier, Julian, margin expansion, I can go a bit more into the details of the numbers here. So probably in Q2, we will expect segment EBITDA margin to increase close to a full points. And today, for Q3, we are planning actually close to a 4 points margin improvement in this business, not assuming a significant change in churn rates of the backlog.
Julian Mitchell: Great. Thank you.
