Timken Co (TKR) 2022 Q1 法說會逐字稿

Good morning. My name is Christina, and I will be your conference operator today. As a reminder, this call is being recorded. At this time, I would like to welcome everyone to Timken's First Quarter Earnings Release Conference Call. (Operator Instructions) After the speakers' remarks, there will be a question-and-answer session. (Operator Instructions)

Mr. Frohnapple, you may begin your conference.

Thanks, Christina, and welcome, everyone, to our first quarter 2022 earnings conference call. This is Neil Frohnapple, Director of Investor Relations for The Timken Company. We appreciate you joining us today.

Before we begin our remarks this morning, I want to point out that we have posted presentation materials on the company's website that we will reference as part of today's review of the quarterly results. You can also access this material through the download feature on the earnings call webcast link.

With me today are: The Timken Company's President and CEO, Rich Kyle; and Phil Fracassa, our Chief Financial Officer. We will have opening comments this morning from both Rich and Phil before we open up the call for your questions. (Operator Instructions)

During today's call, you may hear forward-looking statements related to our future financial results, plans and business operations. Our actual results may differ materially from those projected or implied due to a variety of factors, which we describe in greater detail in today's press release and in our reports filed with the SEC which are available on the timken.com website.

We have included reconciliations between non-GAAP financial information and its GAAP equivalent in the press release and presentation materials. Today's call is copyrighted by The Timken Company and without expressed written consent, we prohibit any use, recording or transmission of any portion of the call.

Finally, I would like to announce that we are planning to host an Investor Day on Wednesday, September 28, in New York City. So please stay tuned for more details. With that, I would like to thank you for your interest in The Timken Company, and I will now turn the call over to Rich.

Thanks, Neil. Good morning, and thank you for joining us today. Timken delivered an excellent first quarter with record revenue, record earnings per share and 20% EBITDA margins. And we delivered the results in the face of continued inflationary pressures, supply chain challenges and lingering COVID issues. Our performance demonstrates the resiliency of the company and builds on our track record of delivering strong financial results through industrial cycles and dynamic market conditions.

In the quarter, demand continued to be very strong across almost all markets and geographies. Despite the persistent supply chain and COVID challenges, we increased revenue by 10% over last year's first quarter and by almost 12% compared to the fourth quarter. Even with the strong revenue, incoming orders continued to outpace shipments and backlog grew sequentially.

We achieved neutral price cost in the quarter, which was the primary driver of the improved EBITDA margins. We repriced many of the annual contracts at the start of the year, and we continue to move spot and aftermarket pricing through the quarter. We are on track to achieve greater than 4% price this year.

Earlier in the year, we forecasted that costs would hold at fourth quarter levels, and that is largely what happened until late in the quarter, when we saw costs tick higher after the Russia-Ukraine war began. As a result, price realization in the quarter completely offset the significant year-on-year increases in material and logistics costs, and manufacturing costs were essentially flat from prior year. Sequentially, performance strengthened each month through the quarter, both operationally and financially.

COVID and supply chain issues persisted but improved as the quarter progressed. However, the Russia-Ukraine War and the China COVID disruptions did not become issues until late in the quarter, and we are assuming they will both have a bigger impact on the second quarter results. More on that in a moment.

In terms of capital allocation, we repurchased 1.5 million shares of stock in the quarter or approximately 2% of the outstanding shares, and we paid our 399th consecutive dividend. On Friday, we announced the acquisition of Spinea. Spinea is a technology leader in serving robotics and automation OEMs, particularly in the factory automation sector. The business is an excellent complement to Cone Drive, and together, the businesses will provide customers a package of leading technology solutions for their factory automation systems.

Spinea comes to Timken as a solid financial performer, with pre-synergy EBITDA margins of around 20%. We are excited to soon have it in the portfolio and welcome Spinea employees to Timken.

Overall, it was an excellent start to the year. Timken has established its ability to deliver results through all sorts of varying economic and geopolitical conditions, including inflation and now, unfortunately, a war in Europe. Timken will perform well in an inflationary environment. While rising commodity prices and input costs may pinch our margins in the short term, like they did at the end of last year, we will recover those costs in the market with time. And while the inflation we've experienced in the last year is significantly more pronounced than any we have seen in the last couple of decades, we remain confident that we can recover input costs in the market through pricing and the first quarter demonstrated that ability.

Turning to the outlook, uncertainty remains elevated and the range of possibilities for the rest of the year remains wider than normal. We lowered our revenue outlook slightly for the full year due to the possibility of headwinds from the Russia-Ukraine war, currency and the continuation of the supply chain issues. We suspended Russia operations near the end of Q1 and we are assuming in our guide no Russia revenue for the remainder of the year. Last year, Russia was about 1% of sales. The change in revenue outlook is not a reflection of current demand for our products or our ability to supply. Demand for our products continue to grow through the first quarter and remains very strong.

The pricing environment for Timken is also very positive. Pricing took a step up in Q1 from the fourth quarter, and we expect it to continue to increase modestly through the remainder of the year. We have continued to increase production levels through capacity adds, increases in staffing and through productivity gains. We are in a good position to deliver the 10% organic revenue for the full year and that assumes that we, our customers and our suppliers all continue to deal with various supply chain issues at an elevated level for the full year.

Across the company, April shipments continued at roughly the March pace, and that is despite a slowdown in China from the COVID restrictions and no revenue in Russia. Overall, the demand situation is stronger than our revenue outlook as we continue to assume in the revenue forecast that there will not be any significant improvement in supply chain performance through the course of the year.

As I mentioned, our China revenue was impacted in April from COVID restrictions. Our plants are running and have not been significantly impacted, but customer shipments as well as exports are both down as customers and logistics networks have been impacted. We have assumed that this will improve by the end of the second quarter and will not be an issue in the second half, but that remains uncertain.

From an earnings perspective, we are holding the prior guidance range of $5 to $5.40, which also reflects the higher level of uncertainty that we are facing. We are assuming our costs to be higher in the second quarter than they were in the first and to hold at the higher level for the rest of the year.

We saw energy, steel and commodity prices increase with the start of the war and other costs, including logistics, have not eased. We don't know if the recent uptick in costs will hold or be transitory, but I would say that we are being significantly more cautious on our cost outlook than we were at the same point last year. Last year at this time, we assume that much of the inflation will be transitory. This year, we are assuming that it will stick. We are, of course, working tirelessly to mitigate both the inflation and supply chain costs, and there is also the possibility that the cost ease through the balance of the year, but we are also preparing that we will need to realize more pricing both this year and in '23 to offset the net impact of these higher costs.

We expect cash flow to seasonally improve the rest of the year but to remain well below 100% conversion. This is due to increasing working capital to serve the growth and to mitigate supply chain challenges. Our balance sheet remains strong. We remain active in the M&A market, and we expect to continue to allocate capital through the remainder of '22.

In closing, I want to reiterate that our performance the last several years, including our first quarter results, has really demonstrated the enduring strength of our product portfolio, the diversity of our market mix and the capabilities of the Timken team. Timken has been a mid- to high-teen EBITDA margin business every year for over a decade. That's through the highs and lows of industrial cycles, falling and rising commodity prices, special tariffs, currency swings, a pandemic and now most recently, through inflation, unprecedented supply chain challenges and a war.

Through all those conditions, whether positive or negative, demand for Timken products and technology remains strong, and we continue to grow and deliver for our customers, investors and employees. In 2022, Timken is on track to deliver record revenue and earnings per share for the fourth year out of the last 5, while at the same time continuing to advance our strategy to grow the company's industrial leadership position. Phil?

Okay. Thanks, Rich, and good morning, everyone. For the financial review, I'm going to start on Slide 14 of the presentation materials. Timken delivered a great start to the year with strong performance across the board in the first quarter, and you can see a summary of our financial results on this slide. Revenue in the quarter was over $1.1 billion, up about 10% from last year and a new record for the company. We delivered an adjusted EBITDA margin of 20%, and we achieved all-time record adjusted earnings per share of $1.61.

Turning to Slide 15, let's take a closer look at our first quarter sales performance. Organically, sales were up 11% from last year, which reflects broad growth across most markets and sectors, as well as higher pricing. On the right-hand side of the slide, you can see organic growth by region, excluding both currency and acquisitions. All regions were up in the quarter versus the year-ago period, led by the Americas.

Let me add a little color on each region. We were up 22% in Latin America as most sectors were up year-on-year, with industrial distribution in rail posting the strongest gains. In North America, our largest region, we were up 14%, with most sectors up there as well, led by distribution, off-highway and marine. In Europe, we were up 11%, with strong growth in distribution, off-highway and general industrial. This was partially offset by lower renewable energy and Russia rail shipments. And finally, in Asia, we were up 3% as sales were down in China from the very strong first quarter of last year, but up solidly across the rest of the region. From a market standpoint, rail was notably up while automotive was lower.

Turning to Slide 16. Adjusted EBITDA was $225 million or 20% of sales in the first quarter compared to $204 million or 19.9% of sales last year. Adjusted EBITDA was up $21 million or 10%, with margins up 10 basis points from last year's strong first quarter. We delivered a sizable step-up in margins from the fourth quarter. Looking at the change in adjusted EBITDA, the biggest thing that jumps out is that price mix and material and logistics costs fully offset each other in the first quarter. This allowed us to capture the benefits of our strong organic volume growth, which more than offset the impact of higher SG&A expense.

Let me comment a little further on a few of these items. As I mentioned, price/mix was positive in the quarter. Pricing was meaningfully higher in both Mobile and Process Industries, reflecting our recent pricing actions. Mix was also positive, driven by strong distribution sales.

Moving to Material & Logistics, as expected, we saw significantly higher costs in the first quarter compared to last year, driven by inflationary pressures and supply chain challenges. But I would point out that these costs were largely in line with fourth quarter levels.

On the SG&A line, costs in the first quarter were up in dollars, supporting the higher revenue and reflecting annual compensation increases. But SG&A was down as a percentage of sales as we continue to leverage our cost structure very well coming out of COVID.

And finally, I want to touch on manufacturing performance. In the quarter, we benefited from higher production volume and achieved productivity improvements, but this was fully offset by the impact of higher energy, labor and other costs as well as continued supply chain-related inefficiencies.

On Slide 17, you'll see that we posted net income of $118 million or $1.56 per diluted share for the quarter on a GAAP basis. This includes $0.05 of net expense from special items, driven largely by Russia-related charges. On an adjusted basis, we earned $1.61 per share, up 17% from last year, and a new Timken record for any quarter. You'll note that we have fewer shares outstanding on average in the first quarter compared to last year, reflecting our buyback activity. And our first quarter adjusted tax rate was 25.5%, in line with last year.

Now let's move to our business segment results, starting with Process Industries on Slide 18. For the first quarter, Process Industries sales were $584 million, up more than 12% from last year. Organically, sales were up 13%, driven by growth across most sectors with distribution and general industrial posting the strongest gains. Heavy industries, marine and industrial services were also up, while renewable energy was down modestly as expected. Pricing was also positive in the quarter.

Process Industries' adjusted EBITDA in the first quarter was $158 million or 27.1% of sales compared to $136 million or 26% of sales last year. The increase in segment margins was mainly attributable to the impact of higher volume and positive price/mix, which more than offset higher operating costs in the quarter.

Now let's turn to Mobile Industries on Slide 19. In the first quarter, Mobile Industries sales were $540 million, up roughly 7% from last year. Organically, sales increased nearly 9%, with off-highway and rail posting the strongest gains. We were also up slightly in aerospace and heavy truck, while automotive was down modestly against a difficult comp last year. Pricing was also positive in the quarter. Mobile Industries adjusted EBITDA for the first quarter was $79 million or 14.7% of sales compared to $80 million or 15.9% of sales last year, so EBITDA dollars were roughly flat year-on-year. The decline in segment margins was driven by the impact of higher operating costs, which more than offset the benefits of higher volume and positive price/mix. While Mobile continues to be more negatively impacted by cost headwinds in process, I would point out that margins in Mobile were up over 600 basis points from the fourth quarter, driven by a meaningful improvement in price/cost.

Turning to Slide 20, you'll see that operating cash flow was just slightly negative in the first quarter, reflecting higher working capital to support our sales growth and customer service. After CapEx of $34 million, our free cash flow was negative $35 million. The first quarter is normally the lowest quarter for cash flow, given seasonal working capital needs and our annual incentive compensation payouts in March. We expect a significant step-up in cash flow over the course of the rest of the year, but it will be more back half weighted.

Taking a closer look at our capital structure, we ended the quarter with net debt to adjusted EBITDA at 1.8x, well within our targeted range. Note that gross debt includes the $350 million 10-year bond issuance we completed in March. This provides us with additional financial flexibility at an attractive fixed rate of 4 1/8%. It will also enable us to fund the Spinea acquisition with cash that's already on hand.

From a capital allocation standpoint, during the first quarter, Timken returned $124 million to shareholders through the repurchase of 1.5 million shares of company stock and the payment of our quarterly dividend. The step-up in share buybacks during the quarter demonstrates our confidence in the long-term outlook for the business and our commitment to consistent and accretive capital allocation.

Now let's turn to the outlook with a summary on Slide 21. Our first quarter performance was a terrific start relative to the full year earnings outlook we provided 3 months ago. However, the level of uncertainty has risen over the past couple of months with the Russia-Ukraine conflict and ongoing COVID lockdowns in China. Given this uncertainty, we have decided to hold our full year earnings outlook and continue to evaluate it as we move through the rest of the year. So our full year earnings guidance is unchanged with adjusted earnings per share in the range of $5 to $5.40 per share, which would be up 10% from last year at the midpoint and a new record for Timken. The midpoint of our earnings outlook implies that 2022 adjusted EBITDA margins will be roughly flat with last year, which is modestly better than our prior outlook.

Our outlook assumes a step-up in inflationary pressures and supply chain inefficiencies over the remainder of the year compared to our prior guide. To the extent these headwinds don't materialize as assumed or transitory or to the extent we can otherwise mitigate them, it would be upside to the guidance.

Turning to the revenue outlook. We're now planning for revenue to be up around 8% in total at the midpoint versus 2021 compared to 10% in our prior outlook. The 2% reduction is comprised of 1% organic and 1% currency. Organically, we now expect revenue to be up 10% compared to the 11% in our prior outlook. The change reflects the impact from suspending operations in Russia and the expectation for continued supply chain disruptions. We continue to see solid demand across most markets and sectors and we also expect to benefit from outgrowth initiatives and positive pricing. Our demand outlook is supported by our strong backlog as well as incoming order rates and customer sentiment.

With respect to currency, we now expect a 2% headwind on the top line for the full year, up from 1% in our prior outlook. This is based on April spot rates, which reflect the strengthening of the U.S. dollar versus key currencies since the beginning of the year. And please note that our outlook does not include any revenue from Spinea, which is expected to close in the June time frame.

Moving to free cash flow. For the full year, we estimate conversion at around 65% of net income. We expect CapEx in the range of 4% to 4.5% of sales, which includes several growth-related projects and other initiatives to improve productivity and margins. For 2022, we anticipate net interest expense to be roughly $65 million, reflecting the recent bond issuance and our expectation for higher variable interest rates. And we estimate that our adjusted tax rate will be around 25.5%, in line with the first quarter, but up slightly from our prior guide.

So to summarize, Timken delivered an excellent start to the year, and we remain well positioned to achieve record results for 2022. Our team remains focused on driving our profitable growth strategy, winning in the marketplace and performing well through this ever-changing environment.

This concludes our formal remarks, and we'll now open the line for questions. Operator?

(Operator Instructions) We'll take our first question from Rob Wertheimer with Melius Research.

So actually, my first question -- or my question is really just going to be a strategic one with the Spinea acquisition, which looks pretty interesting. I wonder if you could compare the technology of Spinea to what you do currently? You mentioned highly engineered. I don't know if it's a bit more advanced. I wonder if you could describe -- I understand it fits well into kind of automation markets, which are growing nicely. But does it also represent a branch into a more highly engineered product? Does it expand your TAM on acquisitions? And does it open up new avenues for future growth?

Yes. Thanks, Rob. So Cone Drive organically has developed what we call the harmonic drive for robotic applications and Spinea's specialty is a cycloidal drive, which it differences in torque and weight and a very complicated subject, making it simpler, but generally bigger, heavier applications would link towards the Spinea solution and smaller joints or smaller applications, lighter duty would lean towards Cone. So now we would have a full complement of products.

I would say the precision level and the complexity is similar for both. But 2 things we want to fulfill this out and too, since we're organic, we're working our way into that market in Cone's case, and it's taken us some time, but now we just acquired a significant position, so customer access and Spinea has been at it for 20 to 30 years, Cone's been at it for a few.

In terms of your follow-up question there, in terms of other areas, there are actually some other similar adjacent products that we still don't have in this and then also moving beyond factory automation into a bigger presence in guided vehicles and other precision drive applications. And then for Spinea specifically, European history, European focus, a huge Asian market in this space. And they have a very small presence in Asia. So we think part of the thinking family can help them significantly there as well. So I think it's not a huge acquisition, but it's a very exciting one for us and what's a very exciting growth market, and we look forward to getting into the portfolio here in a couple of months.

Okay. And then if I can just -- my last, just your general feeling on the acquisition pipeline backlog, [some of the feelings] right now in periods of uncertainty, and I will stop there.

I think our activity level is good. I would say it's fully back to where it was pre-pandemic. And then also, as we talked about in the last call or the one before that, we spent a little bit of time on some larger possibilities. And I would say we're back to 100% focused on cultivating and getting active the small to midsize that you've seen us do, say, Spinea size up to 2, 3x that size. That's where we're focused. We've got a lot in the pipeline, and I would be hopeful that Spinea would now be -- would not be our only acquisition closed in 2022. But obviously, a lot of factors there.

We'll go to our next question from Bryan Blair with Oppenheimer.

I apologize if I missed this detail, but can you break out the volume and price contribution that is now factored into your 10% organic sales outlook? I think it's [7 and 4] last quarter or thereabout. And I'm assuming that we now have new more balance or perhaps some price weighting to the -- to revise that one.

Yes. Bryan, thanks for the question, and welcome to the call. Thanks for picking us up. On the sales outlook, I think you heard Rich in his remarks talk about pricing coming in as we thought. We expect to achieve greater than 4% pricing for the full year and then the rest of that would be volume, if you will. So we're not getting more specific on the pricing than that.

And you heard from Rich that the Q1 pricing came in as we expected. We continue to move spot pricing through the quarter. We continue to look at aftermarket pricing and feel really good that we'll exceed our 4% target for the year. So you can think of the rest of it be in volume with -- as we talked about, really strong growth across sectors. The only sector that will be flat for the year as we anticipated was renewable energy, which should be flattish for the year, but the rest of the markets looking across markets, looking across geographies, very strong across the board, as you can see on that one slide in the materials.

And just to be clear, it's 10% organic because we also -- we start with a little bit of headwind from FX.

Right, exactly.

Understood. Appreciate the color. And no surprise that your cost profile steps up sequentially. I was wondering if you could offer a little more detail on that front, how we should think about the impacts on a segment basis. You had mentioned that Mobile is understandably facing a little more pressure there and how that influences its second margin outlook and cadence for the year?

I would say -- first, I would say, through the quarter, as I mentioned, our operational performance, supply chain challenges actually reduced as the quarter progressed. And you go back to January, we were dealing with significant Omicron cases, high absenteeism in our plants and still a lot of delays in the supply chain. Those persisted. So I wouldn't say anything went completely away, but I would say we did see for the first time in a while, some clear momentum going in a positive direction on that front.

But then when the Russia-Ukraine war broke out, energy costs, mostly in Europe on the energy side, steel globally, and we saw scrap prices go up in the U.S. almost within a week or 2 of that happening. Logistics cost, we thought those might start coming down, they instead held. So whether those are -- ended up being transitory or they're here for the rest of the year, again, we've taken what we think is a prudent approach to assuming they are here to stay because they've been -- and we're now in 6 quarters of increasing costs, so we're taking the approach that they are here. But certainly, it could be more transitory than what we're assuming as well.

We'll go to our next question from David Raso with Evercore ISI.

Maybe I missed it, but the margin cadence for the year, can you give us a little help with that? Just given the fourth quarter, you would think -- should provide a relatively easy year-over-year comp. But it looks like you're implying the rest of the year, the margins were only flat year-over-year. Can you help us a bit with the cadence, particularly 2Q?

Yes. Thanks, David. I would tell you, the guidance would assume that we still would expect some second half improvement in the margins year-over-year. But as we said, by holding the earnings guidance, which again, as Rich said, it's admittedly a prudent approach, we think we're being conservative relative to the guide. We would expect cost to tick up a bit or planning for cost to tick up a bit in Q2 and then kind of sustain for the rest of the year. So I think still would expect second half margins to be up year-on-year. And then for the full year, the guidance would imply the full year margins would be roughly flat with 2021.

Just so we level set though, on the second quarter, year-ago EBITDA margins were 18.8%. Just to give us some framework here a little bit. I mean, is it 100, 150 bps lower year-over-year? Where I think we're all just trying to square up the price cost for 1Q, how much does it go negative again in 2Q to drive the margin down? And then...

Yes. David, I don't think we want to go into second quarter specifics and outlook. But to add a little more color to what Phil said, the last -- and maybe I'll switch the margins to earnings per share, but obviously, you have our revenue outlook. I mean, the last 4 years, our EPS, I think, has ranged from 51% in the first half to 58% of it in the first half. And so I mean we do have a seasonal part to our business that's almost always there. And then both in '19 and '21, it was in the higher 50s. Last year was the rising cost, '19 was a little bit of easing volume. But I think the midpoint of the guide would imply a little heavier weighting on that. So it's basically a similar performance to what we saw last year for the full year off of the first quarter level.

That's very helpful. And when it comes to having to price more from your original thoughts based on the cost outlook, have you already seen a cost increase to where you have gone back to the market since your original increases? Or you just have that in the ready in case it does go up even further than what you're currently seeing?

Well, we have a step-up from Q4 to Q1. And some of that -- some of our global distribution prices went up mid-quarter, so not all of that was in the run rate. We have some other contracts that are opening up midyear. So as I said, I think what we would be planning for in this -- or assuming in this guide is probably a similar progression from this point through the end of the year, what we saw last year, which is prices modestly going up quarter-to-quarter for the rest of the year.

That being said, as we've gone through the contracts this last year or this year, I mean we are increasingly, I'll say, structuring our commercial negotiations to where we will have more flexibility. As you know, we have a lot of pricing mechanisms, a lot of indexes, contracts, spot pricing quotes, et cetera. But as we've gone through that, generally, I would say we have shorter deals than we had before and/or we have more coverage, whereas we may have had a scrap index. Now we're trying to get a material index or an inflationary index and/or in some cases, we had a contract and we don't have a contract anymore, and we're just putting pricing through.

So I still think we have some limits as to what you could see this year if costs took another step up. But we are in a better position today, if that's the case, than we were a year ago. And if we're still in a situation, if 4% pricing a year or more is the new norm, we will be in a better position for it this year, and we'll be even better positioned for it next year.

And just to summarize that. You have more flexibility for the next 9 months than if we had the same conversation 12 months ago? Just so I'm clear that...

Let's say flexibility or coverage, or better -- flexibility or better coverage of what the index is covering, yes.

We'll take our next question from Stephen Volkmann with Jefferies.

A couple of demand questions, if I could. I know you said Russia was somewhere around 1% of your sales. I think it was actually more, if I'm not mistaken, for some of your large competitors. So I'm just curious if there's any type of an opportunity there to backfill some of the other shortfalls based on that?

I think, take the Russia business for us, historical Russia business into 2 parts, the rail business produced in Russia, sold in Russia, probably gone. The non-rail business produced outside of Russia, sold into Russia and certainly with supply constraints, capacity constraints, et cetera, there's possibility that we can make that up and direct that capacity and revenue into other places. But the market share itself is gone at this point that, that market is getting served by others.

And maybe the other point, Steve, maybe you might be referencing is some of our competitors may have a larger footprint. So you heard from Rich, our footprint in Russia is mainly rail, the rest of the business we serve from outside of Russia. So to the extent folks have larger footprints in the region that are impacted, it does give us some ability to continue to serve -- broadly serve the European markets from the remainder of our footprint.

Historically, we were in the rail market and then, I'll say, metals and commodity markets, mining, not in automotive, not in truck. And I think some of our competitors have market positions in those industries as well.

Okay. And then on the flip side, everybody is kind of watching for signs of demand destruction because, obviously, you're not the only one seeing cost increases. So I'm curious if there's any of -- it doesn't look like it, based on your end market chart, but is there anything that you're worried about relative to demand and kind of demand destruction on price and so forth?

No, we haven't seen anything you could point to. I think war certainly makes people a little more nervous, ourselves included, but there's been nothing that you could point to. The one thing you can point to today is China with the lockdowns. There's a general sentiment there that's not affecting in demand. And when the lockdowns are restricted, that things will -- light switch turn right back to where they were. And that's largely what happened when they locked down a lot of the country back in early '20. So I think that's very plausible, but we can certainly -- it would certainly be good for us if that happens sooner rather than later, and those restrictions were lifted. But no, we've seen no negative impact on demand from pricing, no negative impact from demand from the ore and the demand situation is very strong.

Yes. Maybe just a couple of anecdotal points on -- to follow that up, Steve. When you look at a couple of markets like in process, heavy industries, which typically moves, the latest was up significantly, year-on-year up significantly sequentially. That's OEM demand coming out of heavier markets like metals, aggregates and then pulp and paper, even oil and gas. So we're seeing good momentum there.

Strong momentum across the rest of the process portfolio with the exception of renewable energy, which we expected would be flat this year. And then on the mobile side, we saw a nice step-up in rail sequentially, despite the Russia impact. So despite the Russia impact, we were up pretty solidly year-on-year, up sequentially, and we're seeing some good momentum outside of Russia for the full year. So I think those are a couple of markets that give us confidence that we're seeing that the momentum is there. And again, within mobile, strong momentum continues in off-highway and the other sectors. So I think all signs are still very positive.

We'll go to our next question from Chris Dankert with Loop Capital.

I guess, first off, thinking about the automation portfolio now, is that principally serving machine builders, more end users? Is it kind of a healthy mix of both? And then just any comments you can kind of give us on growth rates in that business during the first quarter here?

Yes. So the biggest part of that market for us is automatic lubrication systems, which would serve -- it would go into diverse markets, but it's really replacing manual lubrication. So that's the solution itself. Then when you're moving in the end markets, our second biggest market would actually be before Spinea would be automated warehouse systems. So Rollon has a nice position in that market, along with a couple of other product lines.

And then I'd say, you get into factory automation from there with Rollon, with Cone, with Timken house units and some other products, so it's a mix. But again, it's a market that go back 5 or 6 years ago, it would have been sub-1% of the company because we weren't in automatic lubrication systems in these other markets.

I don't want to get into the first quarter run rate, but I think the trend has been positive, high single-digit type overall growth in this. And then I think what we've seen coming out of the pandemic, if anything is only putting more confidence and belief in that with labor shortages, the need for -- the need to reduce labor intensity and the ability to increase output without that. And then also the development of the emerging markets where you see more automation going to countries like China and India than what we're for.

So it's a market similar renewable energy, we're very bullish on over the long term. It does have a cyclicality to it, like most of our markets because it's tied to capital equipment, but the current outlook for it is quite strong.

Got you. That's really, really helpful. And then to kind of follow up on another key market driver here. I mean we've talked about renewable energy. I think everyone understands you've got some pretty massive comps to deal with in that business and that's why it's flattish this year. But I guess the order rate and kind of the interest in that business, do you feel like, again, 2023, we should be able to get back to growth in that market specifically?

Yes. So first, to back up that specific question, I really think when you look at our revenue in the last few years, I mean, really starting to see the benefit of the diversity of our markets. Renewable energy carried us in 2020 during the pandemic. China carried us in the pandemic. This year, other parts of the end markets and other parts of the geographies, I think are going to carry us.

Now coming specifically to your renewable energy question. We ended the year a little on a lower rate last year. So we expect it to start out down in the first quarter. We needed orders to come in to really support the second quarter -- the second half growth. That happened. And then, again, I think similar to the automation story, what's happened in the world with energy dependence on other countries, et cetera, I think the capital going into this market is going to be there, whether it's -- regardless of what geography.

So if anything, what's transpired in the last 3 months and the last couple of years, I think, has only increased our belief that this is going to be a growth market. And I think what's -- the risk around probably this year is that we started slow and then the China situation needs to resolve itself pretty quickly. But backlog has grown, orders are building, and I would say, customer sentiment for the end of this year and into next year is growing.

We'll take our next question from Joe Ritchie with Goldman Sachs.

Rich, can you maybe just elaborate a little bit more on what's happening, what you're seeing on the ground in China? I know it's about, call it, mid-teens percentage sales for you guys, and the environment has been very fluid, particularly since the end of the quarter. So any color on like end markets and specifically what you guys are seeing on the ground?

Yes. So our -- I think it's very site -- it depends on where your factories are, whether your factories or your customers' factory. So our factories were -- have been very minimally impacted. We're not in Shanghai, we're not in Beijing, where the lockdowns. But we have an office in Shanghai and a lot of our people have not been able to leave their homes or get to the office for some time but were able to operate.

So our factories have not been significantly impacted. However, ports have been impacted, trucking has been impacted and some of our customers, depending on where their locations are, are either impacted or they're having trouble getting some material. So we did see a, I'll say, double-digit decline in China revenue in April from March. We'd expect to be down in May as well. I think our team generally feels this is going to work its way through the system quite quickly. And the optimistic case is probably by the end of this month, it's back to normal.

But it's not -- certainly not normal as we sit here today, and I think there's some uncertainty around it. But we're not looking at 40%, 50% drops and industry is still running over there. But it is -- it has been impacted for sure.

Got it. That's helpful. And then is it impacting your mobile market more so than your process markets at this point?

No, I would say there's probably no real correlation there. It tends to be more of a process industries market for us, particularly because of renewable energy. So I'd say it's probably an even impact between the markets as a percentage-wise, but more dollars than probably in process.

Okay. Got it. And then my one other follow-up. I saw that you guys break out on a dollar basis the materials and logistics impact year-over-year. That seemed to decline in the first quarter versus the fourth quarter. So I'm just curious, like, are you seeing any easing on both or either? And where are you seeing kind of like just a little bit less pressure?

Yes, I'm not sure the decline from the fourth quarter to the first you're referencing in dollars, I think it was flattish. But I would have said material was flattish to down a little bit on a unit cost basis. But again, we saw it go up in April after the war and commodity costs, the alloy costs have gone up, et cetera. So that's happened globally. And then logistics, I would say, is a little bit off peak. But peak is up dramatically from where it would have been a year ago. So we're still up a lot year-over-year.

There was some forecast that, that was going to be easing. And I think that's probably between what's happened with China and in Europe and Russia. I think we're taking a little more cautious outlook on that and not assuming that's going to ease.

Got it. Yes. No, I was just referring to -- in the fourth quarter, it was a $58 million headwind year-over-year and $45 million in the first. But that's helpful.

We'll go to our next question from Steve Barger with KeyBanc Capital Markets.

Rich, going back to your comments on how strong demand is in most end markets and better than the guide suggests, we know orders for a lot of your customers have been pretty good in 1Q, backlogs are sizable across the space. What are the real pinch points on production and your ability to supply at higher rates?

Well, I think the conservatism, I don't know the first step on that, I'd say it's also customers, right? I mean, they'd say, "Hey, we need 1,000 of this for the next 3 months," and then they have a labor problem, they can't get another part in, et cetera. So I would say the demand while strong, it's still not as -- doesn't have a smooth cadence as what you would normally have and/or like. So I think there's -- it starts upstream.

And then for us, we are definitely -- we're up from where we were a year ago in manning in our plants. We have spot issues with where materials either short or hand to mouth. But for the most part, we have enough material. We're still adding staffing to our plants globally. On the specific supply side, we're certainly having some problems with electrical components, where we have automatic lubrication systems and some other things like that rubber has been a tight commodity.

But I would say it's more just delays. And then also through the first quarter, January and February, we still had extremely high absenteeism in the plants. Now that really started easing in March, but now we've got the magnified problem in China. So I'd say it's just a combination of issues, Steve, that's keeping a little bit of a lid on the efficiency and throughput that you're able to get through the supply chains.

Would you say it's more your customers' inability to take that next piece? Or more internal in terms of your ability to get the electronic component or whatever?

I would say it's both. And yes, I would just say it's both and probably leave it there.

Okay. And then on industrial automation, we've seen a lot -- or some of the public OEMs and integrators call out growth in some areas, high teens to 30% plus across their portfolios. Is there anything you can do to position for the higher growth verticals in automation? Or what is your strategy for accelerating market share there?

Well, it's a combination of organic product development and inorganic. I think the answer certainly is yes. I think the move into lubrication systems certainly feel that, that is a -- I don't know, a business that we would put on a CAGR like you just threw out there, but certainly one that we would expect to grow significantly faster than the portfolio and significantly faster than industrial GDP, et cetera, just again, because it's addressing labor shortages and it's improving equipment uptime and equipment maintenance and deferring capital cycles, et cetera.

So now when we really -- we were doing quite well with the business then did the BEKA acquisition and then hit the pandemic. So we've really just bounced back in the last year here, but would expect that to have a high growth rate. And then on the factory automation, which is the gist of the Spinea acquisition, certainly, again, would expect that to have a significantly higher growth rate than a lot of our core industrial markets. So we have a lot happening both in -- I would say, in product development as well as our M&A pipeline to continue to scale that position and mix into that. And I think all of the global cost and demographics and labor shortages are all playing squarely into that market.

Yes. And the pictures you have on Slides 8 and 9 are of the bigger industrial robots, are you also selling into the cobot space?

Yes. The -- as I said, the Harmonic Drive that we already have in the portfolio, we tend to be on the smaller side and the cycloidal, which we just acquired with Spinea, would tend to be on the larger side and quite often the robot has both in it, depending on which joint and again, the weight torque of the joint. But yes, our objective is to build a position in both.

And we will take our next question from Courtney Yakavonis with Morgan Stanley.

Appreciated some of the color on the quarterly EPS distribution. Can you also just comment a little bit on the revenue cadence for the year? I think, usually, 2Q is pretty similar to 1Q, but given some of the disruption that you had from COVID in North America in January, February and then the disruption you kind of called out on the China side in 2Q, any thoughts about how the revenue cadence should progress through the year?

Yes. I think typically, first quarter or second quarter is our peak revenue and peak earnings per share. And typically, we'd see a little bit of an uptick from Q1 to Q2 I mean, 1% to 3%. I think this year, we're probably a little more cautious on that, given the immediate loss of the Russian revenue -- the direct Russian revenue as well as the start of April in China. But still -- and then typically, from Q2 to Q3 and Q4, at 2% to 3% per quarter decline is pretty normal for us. And I think those numbers all are within a bandwidth to what we're looking at again this time on the revenue cadence.

Okay. Great. That's helpful. And then just on some of the changes that you had called out on end markets. It sounded -- one, can you just remind us what percentage of rail is Russia? I think that was really the only end market that you took out of that higher growth bucket and lowered, assuming that, that was all related to Russia. And can -- I think the comment was that the ex-Russia business is actually performing quite well. So just if you can give us a little bit more color on how that would look ex Russia? And then similarly, I think industrial services got pulled up. So if you can have any comments on what you're seeing in that end market.

I would say globally rail, excluding Russia, is performing well. It was a market that was lagging last year. I would say the U.S. was still lagging, but I would say the U.S. rail market is really preparing for a good run into and well into probably through '23. So I would say the rail market globally, to your comment, is doing well, excluding Russia. And Russian rail sales, call it, 0.5% of company revenue, maybe a little less. So that would come, obviously, all out of the rail segment, so it would lower meaningfully. But corporation-wide not a big deal.

Got it. And then industrial services?

Yes, I would say, just to comment on industrial services, up in the first quarter, pretty solidly. That business tends to be tied to industrial activity mainly in North America. I mean, it is a global business, but it's mainly in North America. So for the full year, we did see an improvement in the backlog in that business and improvement in the bookings in that business. So we do expect stronger growth across the services sector for the full year than we had coming in.

Some of the sectors that our services business is tied to as an example, pretty strong position in oil and gas. So we saw some improved activity there with what's been happening around the world and just more broadly, industrial activity in the Americas and even in Europe to a lesser degree. So just a step up in bookings, step up in activity. We saw it in Q1 and expect to -- expect that to sustain itself for the rest of the year.

We'll go to our next question from Michael Feniger with Bank of America.

Filling in for Ross here. I appreciate you have more flexibility than you were on pricing than a year ago. If pricing is 4% in Q1 and your costs are going up, why is that 4% number not moving higher on a full year basis? Is it because of annual contracts? How does the pricing mechanism work? If you could remind us on the process side, are competitors not raising pricing as aggressively? Maybe kind of just flesh that out for us.

Yes. Our pricing metric is a year-over-year comparison for exact mix of parts sold. So last year at this time, our pricing was probably close to 0. And then in the second -- late in the second quarter, it started ticking up. So to get 4% in the second half of the year, we have to have more pricing than we have today because our comp today. So the pricing comp gets harder as the year goes on, not so much in the second quarter, but certainly in the third and the fourth. So we are expecting more pricing. And we said we'd go into the year getting more than 4%, and we are getting more than 4%, and we're probably not going to go into too much more detail of how much more.

Fair enough, Rich, and you made a comment about how inflation, is it transitory, it's indeed permanent. I'm just curious if that permanence kind of even last going forward? Does it change -- other than pricing, does it change the way you operate, you run the business outside of just raising prices? Does it have to change maybe your footprint and where you guys invest capacity? Obviously, there's been comments about reshoring supply chains and you're a critical supplier. I'm just curious if you could maybe comment on that portion. And if we do see inflation more permanently, how it kind of changes the business model other than just maybe pricing?

Yes. I certainly think on the labor side, as we said, it would play into our CapEx and automation, and certainly, a sizable percentage of our annual CapEx spend is either for pure automation and/or assets, equipment technology that is more efficient and state-of-the-art and improving labor productivity and material conversion efficiency, et cetera. So I think you could certainly see that step up. And then I do think the footprint is relevant as well because the labor challenges around the world are different depending on where you're at in the country, in the United States and even more so where you're at in the world.

So like I think historically, there would have been too many cases where we would have been reluctant to make an investment in a facility because we are concerned we couldn't hire the people. And I think that is now a real concern, particularly where we have some things in smaller communities, where you do have to -- you have to concern yourself, are you going to be able to attract the labor into those markets? So I think those would be the 2 factors. I think there's an impact on automation within the footprint and an impact on the capital going to the parts of the footprint, where the labor availability to support it is assured.

And as there are no further questions, please go ahead, Mr. Frohnapple.

Yes. Thanks, Christina, and thank you, everyone, for joining us today. If you have any further questions after today's call, please contact me. Thank you, and this concludes our call.

This concludes today's call. Thank you for your participation. You may now disconnect.