Q3 2024 Earnings Summary
- Otis's Service segment continues to show strong performance, with operating profit margins reaching 24.8% in Q3 and expected to exceed 25% in Q4, driven by growth in maintenance, repair, and modernization, as well as favorable pricing and productivity improvements.
- In the Americas, Otis is experiencing an inflection point, with New Equipment orders up 23% in the quarter, improved pricing, and strong growth in repair (up 10%) and modernization sales (up low teens).
- Despite challenges in China, Otis is successfully pivoting to its Service and Modernization business, with service units up high teens and service revenue up 1% in China; the modernization market is growing and picking up nicely, contributing to future margin expansion.
- Significant decline in New Equipment sales, particularly in China, is negatively impacting revenues and operating profit margins, with expectations of an approximate 8% decline in Q4 and operating profit margin below 5% for New Equipment due to volume and mix effects, and fading price and commodity benefits.
- Continued weakness and uncertainty in the China market could result in up to $0.05 EPS headwind, with lower China volumes and mix impacts putting pressure on New Equipment margins into 2025. The New Equipment backlog in China is down mid-teens, and without policy stimulus, margins may remain under pressure.
- Competitive pricing pressures and regional mix shifts are impacting New Equipment margins, with more than 75% of New Equipment revenue now driven by sales outside China, leading to margin pressure due to mix, and challenging market conditions in regions like Europe adding to the headwinds.
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China Market Outlook
Q: Is China market deteriorating, and will pricing become irrational?
A: The China New Equipment market remains weak, down 15% this quarter, similar to Q2, and expected to finish the year at about 415,000 units. While pricing remains competitive, we are not seeing irrational pricing. We continue to balance volume, price, and liquidity to maintain a strong China business into 2025. Despite a projected $0.5 billion decline in China revenue this year, we still expect organic top-line growth for the company. -
2025 New Equipment Margins
Q: Will New Equipment margins remain at mid-single digits in 2025?
A: Yes, we expect New Equipment margins in 2025 to be similar to the second half of this year, around 5%, due to the mix impact from lower China contribution. Our uplift program is on track and will continue to deliver savings. While we anticipate 50 to 100 basis points of margin decline in New Equipment next year due to volume, mix, and fading commodities and price tailwinds, overall operating profit is expected to grow mid-single digit. -
Service Margins and Growth
Q: Why are Service margins flat, and will they improve?
A: Service margins are in line with expectations, sequentially increasing from 24.7% in Q2 to 24.8% in Q4, driven by higher volumes and approximately 4 points of price increases, offsetting wage inflation. We anticipate Service margins to be above 25% in Q4, and we remain focused on price, productivity, and uplift actions to continue margin expansion. -
Free Cash Flow and Working Capital
Q: Why is free cash flow guidance reduced, and what about next year?
A: The free cash flow guidance was reduced to $1.4 to $1.5 billion due to lower down payments from New Equipment orders in China and a working capital build-up of approximately $250 million. We expect this working capital to unwind in Q4 as the business mix stabilizes. Next year, free cash flow should pick up at a faster pace than operating profit growth. -
Americas Market Improvement
Q: Is the improvement in Americas orders sustainable or just due to comps?
A: While comps played a role, we are genuinely seeing better demand signals in the Americas, with New Equipment orders up 23% in Q3. This indicates an inflection point, and we expect positive performance to continue into Q4 and next year. -
China Stimulus Impact
Q: What is the impact of China stimulus on construction?
A: We are encouraged by the announced stimulus actions but await implementation details. The impact is more likely to be felt in 2025, and we are prepared for potential benefits in both New Equipment and modernization. -
Cost Structure Adjustments in China
Q: How are you adjusting costs in China given lower volumes?
A: We are optimizing costs in China by reviewing our operational footprint and workforce. For example, we have moved our modernization into New Equipment factories to improve efficiency. These actions aim to maintain profitability and prepare for growth in the modernization business. -
Modernization Business in China
Q: Do modernization margins in China align with global strategies?
A: Yes, modernization margins in China are attractive and similar to new equipment margins relative to the rest of the world. We are optimistic about the growth potential in China's mod market and are seeing positive early indicators.