Good morning, ladies and gentlemen, and welcome to Modine's Third Quarter Fiscal 2024 Earnings Conference Call. [Operator Instructions] As a reminder, this conference is being recorded. I would now like to turn the conference over to your host, Ms. Kathy Powers, Vice President, Treasurer and Investor Relations.

Good morning, and thank you for joining our conference call to discuss Modine's third quarter fiscal 2024 results. I'm joined on this call by Neil Brinker, our President and Chief Executive Officer; and Mick Lucareli, our Executive Vice President and Chief Financial Officer. We'll be using slides for today's presentation, which can be accessed either through the webcast link or by accessing the PDF file posted on the Investor Relations section of our website, modine.com. On Slide 3 is our notice regarding forward-looking statements. This call will contain forward-looking statements as outlined in our earnings release as well as in our company's filings with the Securities and Exchange Commission. With that, it's my pleasure to turn the call over to Neil.

Thank you, Kathy, and good morning, everyone. I'm pleased to report another successful quarter, highlighted by very strong margin expansion and earnings growth. Our results this quarter further demonstrate our ability to improve our earnings profile as we shift towards faster-growing and higher-margin businesses. Despite all of our early success, I continue to believe that we are in the early stages of our transformation and are just beginning to realize the opportunities we've identified in each of our core market verticals. In many cases, we are recommitting our focus on operational excellence adding additional resources for lean manufacturing and supply chain to improve productivity, quality and cost realization. Coupled with the success of our commercial team, this approach enhanced by 80/20 will help to support our ongoing progress towards our goals. Overall, on the M&A front, we feel very good about the pipeline of opportunities available to us. We are not focusing on large transformational deals, but instead are looking for bolt-on acquisitions that bring complementary products and technologies to our key growth verticals. Our recent acquisitions of Napps Technology and the IP and select assets of TMGcore are perfect examples of this approach. We benefit from a very strong balance sheet, which will help support our inorganic growth targets as we remain vigilant in our search for attractive opportunities that fit our focus areas. Mick will go over our third quarter financial results and provide an update to our full year outlook. But first, I'd like to provide some high-level updates on each segment. Please turn to Slide 5. Starting with our Climate Solutions segment, we observed many of the same trends we saw in the second quarter. Our data center business remains very strong with revenue up 34% compared to the prior year. Meanwhile, certain markets for our…

Thanks, Neil, and good morning, everyone. Please turn to Slide 7 to review the segment results. Climate Solutions completed another excellent quarter driven by a 29% improvement in adjusted EBITDA. Revenue was down slightly due to a decrease in heat transfer products and mostly offset by strong growth in data centers and a favorable FX impact. As discussed over the last 2 quarters, we've experienced some reductions in several markets served by heat transfer products. Based on these trends, we lowered our full year outlook for this product group. The adjustment is primarily due to lower demand within commercial and residential HVAC markets, including European heat pumps along with 80/20 initiatives. Data center sales grew 34% or $15 million, driven by strong demand from both hyperscale and colocation customers. Our data center outlook remains quite strong while anticipating a very strong fourth quarter and full year growth in excess of 60%. HVAC&R sales were higher by 2% or $2 million driven by an increase in IAQ sales and the acquisition of Napps Technology that we completed last July, along with higher sales in power industrial coolers. Our heating sales were somewhat lower than expected as the overall market remains depressed from previous levels. We expect this softness to continue for at least another quarter but the market data is indicating a potential bottom, and we believe it will improve through calendar '24. We're very pleased with the Climate Solutions strong earnings conversion resulting in a 470 basis point margin improvement to 18.9%. Our 80/20 discipline is at the heart of these quarterly margin improvements. At a segment level, we continue to prioritize earnings and margins improvement over revenue growth. To wrap up on Climate Solutions, we remain cautious in a few markets for HVAC and heat transfer products businesses, but…

[Operator Instructions] Our first question comes from the line of Matt Summerville with D.A. Davidson.

A couple of questions. First, how much do you feel like you're seeing incremental market weakness in the areas you highlighted in climate versus more of a function of just 80/20 kind of making its way into the business. And along these lines, if the market headwinds you see today are there and are going to be prevalent in '25? Is there any reason that shifts the momentum at all with respect to the massive amount of EBITDA margin and EBITDA dollar improvement you're generating across Modine.

Yes. Matt, it's Mick. Let me give you a couple of comments on revenue, and then I'll turn over to Neil to add some more color just around the 80/20 impact because I know there were some questions just around our revenue adjustments. First, I just want to be clear that our revenue adjustments aren't solely tied to market softness. There's clearly an 80/20 element in there. So last quarter, we had the automotive divestitures closed right at our quarter end on the 31st. And as we analyze the revenue impact at that point, we were estimating we're running a little bit below the midpoint of the range last quarter. And as we announced last night, we're raising the earnings outlook and adjusting the overall revenue range down a little bit. That's about that 2% adjustment to our sales outlook for the year about $50 million. And then that's in 3 areas that we'll get to your question, right? So one of them is in heat transfer products, we lowered our outlook. And that's a combination of market and 80/20 activities. And again, I'll let Neil comment in a second. The second one, we talked about air and liquid and the divestitures. So we're running towards the lower end of our air and liquid range, combined by adjusting -- truing up the full year outlook for the closing of the deal, the divestitures. And we've seen some softness on the automotive side across the globe, especially on automotive, EV, both ICE and EV vehicles. But that's strategically okay with us and also tied to 80/20. And then last, we talked about HVAC&R and there, I want to be clear, it's really the heating market has been slower to recover. It was basically relatively flat. So we're not seeing it getting worse. It's -- and we are -- and the industry data is showing that we seem to be turning a quarter, but we thought it would recover at a little bit faster rate. So again, the way we sit today, Matt, we're running about the middle of the revenue range, about the midpoint that we put out last night. And again, it just -- I want to highlight, it's really a combination of the market adjustments and 80/20 activities. And that's really what's allowed us to drive the -- a key driver of our rapid earnings growth and margin improvements. So just maybe before we wrap it up, Neil maybe a couple of comments around the 80/20 impact.

Yes, Matt, this is Neil. Thanks for the question. That's a good summary for Mick in terms of how we're thinking about it. And especially when we think about heat transfer products, and we see some softening in some markets that we potentially would consider exiting, we accelerate those opportunities so we can continue to drive margin expansion and profitability in that business. HTP is a big business. Not all of it is ready for growth. It's still going through 80/20 activity. We've isolated some areas in HTP, where we found favorable markets and trends and customers that we're preparing strategic initiatives to grow that business in the next fiscal year, but there's still a lot of work to clean up with the tens of thousands of SKUs and customers that we serve. So when we see an opportunity to accelerate that through 80/20 because of market softness, we react pretty quick.

And then as my follow-up, just on the data center side of things, Neil, can you talk about kind of what the go-forward funnel looks like, how much visibility you have looking ahead into fiscal '25 in that business? And when would you expect to start to see a little bit of liquid related activities start to creep in?

Yes. Great question, Matt. So we've got visibility with some of our customers out as far as 2 years. I'd say on average, it's between 12 and 18 months, funnel continues to grow. It's been growing at the rates that we had assumed it would grow at, hence, the revenue targets that we've been pretty public about, projections that we've been public about. So we're happy with where we're at working with our customers in both North America as well as in Europe on colocations and hyperscalers. Relative to liquid, we had the acquisition and technology acquisition of assets, IP and assets, which is going to really help us with our product portfolio and making sure that we have the most current technologies on the liquid side, and that's immersion. And then we announced we were going to go into development with a couple of customers around our cooling distribution unit, or CDU, which is direct-to-chip liquid cooling. And we expect to be in the prototype in the next quarter or 2 on the CDU with a couple of customers. And if their markets and their end customers have demand for high-performance computing, they'll have a solution in place, assuming we pass the validation and testing with our customers. So CDU is direct-to-chip, I think, is closer to generating revenue than emerging cooling is at this time. But having the emerging cooling allows us to be part of conversations around next-generation data centers, that we weren't a part of prior to the acquisition of assets from TMGcore.

Our next question comes from the line of Chris Moore with CJS Securities.

Maybe just start with margins. It looks like fiscal '24 operating margin will be in 10-plus range, Q4 being a little bit lower than the first 3 quarters were adjusted in that 6 and 7 range. I realize you're not giving guidance for '25, but what are the puts and takes to Modine being able to match or perhaps improve on this -- on the '24 margins in '25?

Yes. Chris, it's Mick here. So I'll just -- I'll talk to EBITDA margin but same drivers, right? And I'd say, first, we'll wrap up this year as a company well above the target we set out. We want to be in the 10% to 12% range, and we're clearly trending between the 12% and 13%. So we're ahead of schedule, but that doesn't mean we're not going to -- our plan is fully to drive further margin improvement next year. And to your question, where that comes from a couple of elements. On the growth side and mix, we still anticipate growth in those targeted areas that we've been through, whether that's on the GenSet side in PT or data centers or IAQ, EV systems, we see growth, and that's a good margin and earnings mix up for us. And then if you go through where we're at our 80/20 journey, early days. There's a lot of simplifying the business, looking at pricing, and there are still elements of that for us, but also then move into a heavy focus on operational and productivity, right, leaning out and getting the benefits of those things where you simplified your businesses. So it will be -- it's kind of like this year and where we started the journey in some of our businesses. We are not going to worry about the top line. We're going to drive earnings and margin through PLS, product line simplification 80/20 while continuing to accelerate growth in the targeted areas.

Got it. Very helpful. Maybe talk a little bit more about M&A. I know that in the prepared remarks, you guys talked about primarily looking at bolt-on acquisitions. At the Investor Day, you talked about needing roughly $400 million to $600 million in M&A between '24 and '25 to comfortably reach your Climate Solutions goals. You have subsequently indicated not necessarily need to get to that level. I'm just wondering if you can give kind of any updates in terms of what a more reasonable range might look like moving forward?

Yes. Again, Nick, I'll go first just from the kind of the math and then Neil can add some more color. Early days when we -- Neil first came in that we're literally assembling the current team, and we're spinning through the data. We look at it from an 80/20 perspective, we weren't really sure how much business we want to retain, how much stays when we go through all of our activities. And I think as we've had the last 4 to 6 really strong quarters, one of the messages Neil and I've had is we're getting everything we thought we would get from the improvement and in many cases, as we better serve our customers, focus on key customers, orders are up. So all of that said, the reason why we don't see the need for large acquisitions to get to our financial targets is really around the lessons we've learned in -- from an 80/20 about the stickiness of some of our business. And then the second thing I'd say to turn it over, Neil, we've continued to uncover jewels within Modine that we didn't necessarily know were there that we can grow organically.

Yes. That's a great point, Mick. And thanks for the question. Those -- the $400 million, $600 million number was the very first days of our 80/20 journey a couple of years ago, and we've learned so much more, especially with the fact that we've got more organic growth that we can drive within the company, which requires less inorganic growth for us to meet our inorganic -- for us to meet our financial targets. So we have spent a lot of time on the organic growth and the businesses that we want to stand up and create organizations around it to drive. And then at the same time, we have been active on the M&A front. We've done multiple divestitures and a couple of small deals in the last couple of quarters. And we're doing that in strategic areas where it helps us build out our product portfolio helps us expand in the geography or most importantly, it helps us improve our technology in the areas that we want to serve.

Just on that last point, it's really hard to quantify due to timing and opportunity. But I think it's safe to say that, that original number is at least half, right, from what we thought we would need. So again, it really depends on the funnel and the exact timing, but it's significantly below, but we'll still be doing out looking at M&A.

Our next question comes from the line of Jeff Van Sinderen with B. Riley.

Let me first say impressive work on margins and overall cash flow. Maybe you can give a little bit more color on the status of the heat pump market, what you're seeing there, the latest. And then also on the GenSet business, how is that evolving? And then I guess the outlook there and any quantification around that for those 2 businesses?

Yes. So on the heat pump market, we continue to see some softness there as this heat pump adoption has been elongated out over an additional couple of years based on the European regulations, some excess inventory in the system. And we're pacing our investments in heat pump to adjust to that. Long term, I'm personally with what we're doing and the actions that we put in place, we're confident in this space in this market. It's just a short-term reset based on the extension of the adoption rate. So that's kind of what we're seeing. We're working through it, it's real time. It's live and the team is making the appropriate adjustments. On the GenSet side, we've got a nice technology there. We're helping the essentially the industry move towards a lower cost, more reliable, higher quality product that is starting to get adopted. The earlier adopters are starting to win share. And I think a lot of people are taking notice of that, and they're looking for the solution that we can provide with Modine.

Okay. That's helpful. And I know there's been a lot of talk about 80/20 and you seem to be executing phenomenally well on everything you're doing there. I guess, are there other low-margin businesses that you are planning to exit or you might contemplate exiting? And as you look at your entire enterprise, how much business do you have that you'd like to either divest or wind down at this point, if we were to kind of look at that in overall dollars.

Yes, it's a good question. So certainly, as we continue to improve our profit profile and we expand margin in the business, it sets the bar and it raises the bar and then you always have some bottom quartile business that needs to be addressed. And that's just the evolution of 80/20 and that will essentially be how we operate the company going forward. So there's always going to be that level of business that we have to question. Is it strategic that we want to be in it if it's low margin. If not, then let's -- we have a series of different approaches and activities in terms to address it. We haven't gone out with a specific number in terms of what that looks like, but I can see it being in the same range of what we've been able to address over the last 18 months within 80/20. It's, what, $300 million to $400 million of revenue that we've -- through divestitures and product line simplification, so far. And I would expect somewhere in that $100-plus million range as we go forward, that there's always going to be something that's underneath the threshold.

Yes. I think too when we look at the data, it aligns where Neil was going. And as Neil was saying, there's always the bottom quadrant, the Quad 4 stuff and just for any company, for us, that's going to be 4% or 5% of sales. I think where we're at, it's probably a little bit more than that. So there's probably the $200 million to $250 million type number of what we would call when we say that Quad 4, it's the lowest volume product, the lowest volume kind of margin products with customers that are lower on our volume scale.

Okay. That's helpful. And then if I could just squeeze in 1 more. I wanted to circle back to the liquid quote for data centers for just a moment. Just to clarify, I think you said that you'll start to go out to data centers that previously you did not? Maybe just touch on strategy to win business in those.

Yes, we're -- absolutely, we've cast a net on the hyperscaler side to go into make sure that the hyperscalers that are winning share in this space understand the technology advantages that we have with Modine and our Airedale brand, 100% we're having those conversations, and that takes time to cultivate those relationships. Relative to the liquid cooling pieces, this allows us to get into conversations of next-generation data centers that are planning for high-performance computing, where air cooling, traditional mechanical cooling solutions are not sufficient. It needs to be augmented. And it typically is augmented through a liquid cooling or immersion cooling technique. So we did not have that product and we did not have those assets which meant we weren't invited to those conversations on how do we use technology to solve for high-performance computing. Now that we have those assets, we have something to sell and help them solve their problems. They're looking for us as well as our competitors in terms of how we can advance the next generation of data centers or on high-performance computing, driven by all the things that we know, AI, AL, MB. And not having the TMG assets, we weren't in those discussions, but we are today now.

Okay. And the new liquid-cooled CDU that will be out in Q4 or Q1, we think?

Yes, we're targeting for Q1 of the next fiscal year and getting on some pilots and working closely with our customers with some of -- a couple of our colocation customers, correct?

[Operator Instructions] Our next question comes from the line of Brian Sponheimer with Gabelli Funds.

Congratulations on another great quarter. Couple questions. And a lot has been addressed already. Just on the German businesses, I'm looking at the cash flow statement, it doesn't look like there was any cash in? Were you able to get us in any liabilities with those businesses when they went out the door.

Yes. Brian, it's Mick. Yes, there is actually a small cash benefit on the ultimate transaction that immaterial? And then 2 answers on your liability question. Actual liabilities, the biggest one on the balance sheet would be some pension liabilities that went, and that was a fairly material number, which we're happy about. And then the second one, and you know it well, it was the potential liability and right, if you took each of those facilities in a situation where we would exit them, the liability that Modine and the shareholders would have if we would have retained them was quite a large potential liability.

Okay. Yes, I certainly appreciate that. And forgive me, but these businesses show the roughly $30 million or so of revenue was not in the prior 6 to 11 sales contemplation for growth that was given at the end of the second quarter.

We have built -- we factored that in, Brian. It's been the days heading into our earnings call, and we were trending a little bit lower towards the lower end of the range. What we did this time is we trued it up, we made up some adjustments. And then on top of it for our remaining automotive business, we took that down a little bit.

Okay. All right. Understood there. I guess last 1 for me. Last year in the fourth quarter, you had a valuation allowance adjustment that tweaked your GAAP earnings. Anything as we think about this fourth quarter from a tax perspective that could move the needle one way or the other. Obviously, the algos are going to see year-over-year declines in EPS. But anything we should be thinking about for the fourth quarter here?

No. A good point about the reported number. That's going to be tough. We'll do our -- we'll make sure we highlight that. But from this coming Q4, we're not anticipating any large events or impacts to that.

Understood. Well, you all keep raising the bar higher and higher each quarter. So congratulations, and I look forward to talking to you later.

Our next question comes from the line of Tim Moore with EF Hutton.

Congratulations on the continued impressive EBITDA margin expansion and self-help catalysts to drive highly impressive EPS growth, you may exceed it my street high estimate. I got a really good sense of the data centers differentiation edge when touring that facility in August in person. I just want to address another business line actually. For Advanced Solutions, those revenues were flat sequentially in the quarter, but your guidance at the midpoint implies about a 25% sequential growth in the March quarter from the December quarter. Could you just give us a little bit more of an update on battery thermal management as we kind of look out over the next 12 months? And that timing without pinpointing exactly the $160 million sales and maturity, how far out do you think that is? And then while you're on the topic for thermal management, how is the planning of the launch in Europe going?

Good question. Thanks for the question. This is Neil here. So we continue to invest into our battery thermal management system and electronics cooling package. Certainly, we're seeing continued interest in the product. And we're expanding our capability and capacities. We opened up the earnings in my script, at least to talk about the $160 million that would be at peak volume. So I think 2 to 3 years out, that's when you're running at peak volume within these programs that we won. So we're excited about that because the trend continues to grow quarter-over-quarter in terms of the potential revenue there. More investments are being made. And we are -- we've been in contact and had some really good conversations in Europe with some of our customers that we've targeted and the fact that we've been public about the expansion and an existing facility that has existing infrastructure and Modine employees that are already very attuned to making sure that we have good reliability, quality and delivery for this industry has been well received. So we're going to continue to ramp up our investments. We're going to continue to open up the space in the facility in Italy for us to be able to grow in Europe, and we've had positive conversations with those customers, and we continue to trend in the direction that we had expect with the amount of investment that we put into this business.

Great. That's really helpful color. Just I'm switching gears. During my visit in August, the facilities, not just data centers, but client -- on HVAC, I got a sense of really the customers' focus and emphasis there live in the shops, dedicated customer areas and such. But I was just wondering, as you progress through 80/20 more so on performance technology side, are you uncovering more savings and efficiencies than you budget or expected a year ago? And then I'm just wondering, just thinking about this whole customer maximization. As you go through both segments on 80/20, I mean how do you maybe avoid going too lean as you achieve the value-based pricing?

Yes, good question. So certainly, on both sides of the business, not just Performance Technologies, the Climate Solutions and Performance Technologies, there's opportunity for productivity gains without a doubt. And I think we've been able to display that through the success that you've seen through the margin expansion. We've done that through commercial excellence programs. And we're pivoting into the operational excellence program. So that's anything from labor to supply chain procurement or purchase price variance or PPV. So there's a lot of activities that we can do on the operations front, and the team has been working diligently to put those together. And that will be the next phase in terms of our margin expansion within the business as we've reached the thresholds that we would expect through some of our price expansion. So operations improvement and excellence is there. It's in both sides of the business, not in PT. And the teams are putting together the funnels and the activities and the list of projects for the next annual operating plan. So that will be a good indicator of how big that is.

Great. It's a good carrot for margin expansion in the next fiscal year.

Our next question is a follow-up question from the line of Matt Summerville.

Just 2 quick follow-ups. Mick, what's the headwind? And I apologize if I missed it, what's the headwind from divestitures in your fiscal fourth quarter?

It's going to be $20 million to $25 million as the estimated impact in Q4.

Right. And the BTMS business, 2 to 3 years ramping to $160 million or so thereabouts based on the programmatic wins you've had, fiscal '24 realizing this is buried alongside the coatings business, the EV components business, how big is the BTMS business for you guys this year to kind of think about how that trajectory looks out over the next 2 to 3?

Yes. So that the ATS business, excluding coatings is about $100 million. And I think -- and we just had that question, too. I think we'll provide an updated long-term outlook, Matt, that we've -- this year, we're talking about 30% type growth and we said we think the CAGR on that the 35% to 40%. I think as far as growth for next year, we'd expect it to stay in that range. So we -- that $100 million growing at -- in the compound growth rate range of that 35% to 40% would seem reasonable.

There are no further questions in the queue. I'd like to hand the call back to Kathy Powers for closing remarks.

Thanks so much. And thanks to everybody for joining us this morning. You will be able to access the replay of this call through our website in about 2 hours. We hope that everybody has a great day. Thanks. Bye.

Ladies and gentlemen, this does conclude today's teleconference. Thank you for your participation. You may disconnect your lines at this time, and have a wonderful day.