Q2 2025 Earnings Call Transcript

Good morning. My name is Janine, and I will be your conference operator for today. At this time, I would like to welcome everyone to the ITW's Second Quarter Earnings Conference Call. [Operator Instructions] Erin Linnihan, Vice President of Investor Relations, you may begin your conference.

Thank you, Janine. Good morning, and welcome to ITW's Second Quarter 2025 Conference Call. Today, I'm joined by our President and CEO, Chris O'Herlihy; and Senior Vice President and CFO, Michael Larsen. During today's call, we will discuss ITW's second quarter financial results and provide an update on our outlook for full year 2025. Slide 2 is a reminder that this presentation contains forward-looking statements.

We refer you to the company's 2024 Form 10-K and subsequent reports filed with the SEC for more detail about important risks that could cause actual results to differ materially from our expectations. This presentation uses certain non-GAAP measures, and a reconciliation of those measures to the most directly comparable GAAP measures is contained in the press release. Please turn to Slide 3, and it's now my pleasure to turn the call over to our President and CEO, Chris O'Herlihy. Chris?

Christopher A. O’Herlihy: Thank you, Erin, and good morning, everyone. As you saw in our press release this morning, the ITW team outpaced underlying end market growth and delivered solid financial performance in the second quarter. Total revenue increased 1% as foreign currency translation increased revenue by 1% while product line simplification or PLS, accounted for a 1% reduction. We achieved GAAP EPS of $2.58, operating income of $1.1 billion, an operating margin of 26.3%, which are all second quarter records. We continue to execute well in controlling the controllables as evidenced by enterprise initiatives, which contributed 130 basis points to operating margin and pricing actions that more than offset the tariff cost impact in the quarter. Furthermore, I am very encouraged by the meaningful strategic progress we made in the first half of the year, diligently advancing our next phase growth priorities to make above-market organic growth powered by customer-back innovation at defining ITW's strength. We remain firmly on track to deliver on our 2030 performance goals, including customer-back innovation yield of 3% plus. These results are a direct testament to the strength of the ITW business model, the quality of our diversified and resilient portfolio and the unwavering dedication of our global ITW colleagues to serving our customers and executing our strategy with excellence. Looking ahead, ITW is inherently built to outperform in uncertain and volatile environments. And therefore, we are raising our full year guidance. Confident in our ability to successfully navigate the current environment and deliver differentiated performance through 2025 and beyond. I will now turn the call over to Michael to discuss our second quarter performance in more detail as well as our updated full year guidance. Michael?

Thank you, Chris, and good morning, everyone. The ITW team achieved solid operational and financial performance in Q2. Our top line saw a 1% increase in total revenue, driven in part by a 1% positive impact from foreign currency translation. Our organic growth rate was essentially flat, marking an improvement of over 1 percentage point from Q1. Geographically, while North America posted a 2% organic revenue decline and Europe was down 3%, Asia Pacific stood out with a 9% increase with impressive growth of 15% in China. We experienced encouraging sequential revenue growth of 6% from Q1 along with some positive signs in end markets such as semiconductors, electronics, welding, specialty products, equipment and an improved outlook for auto builds.

On the other hand, more consumer-oriented end markets, notably construction products remained challenging. The ITW team continued to demonstrate strong execution on all controllable factors positively impacting our bottom line. Our enterprise initiatives were particularly effective this quarter, contributing 130 basis points to the operating margin of 26.3%. Although our decisive pricing actions more than cover tariff costs and positively impacted EPS in Q2, the overall price cost dynamic was modestly dilutive to our margin.

Finally, we generated $449 million in free cash flow, representing a 59% conversion rate. Although this was modestly below our historical average, primarily due to the timing of certain onetime items, we're still on track to reach 100% plus conversion for the full year as planned. To summarize the quarter, we continue to significantly outperform our underlying end markets in a tough macro environment. Our solid financial performance includes organic growth of 1%, excluding PLS, incremental margin of 49%, operating margin of 26.3% and GAAP EPS of $2.58. Let's turn to Slide 4 for a closer look at our sequential performance from Q1 to Q2, which was quite encouraging.

Revenue grew 6%, operating income improved 12%, and operating margin expanded by 150 basis points. Notably, every 1 of our 7 segments grew revenue and expanded operating margin sequentially, with 3 segments exceeding 30%. Let's dive into our segment results, beginning with automotive OEM. Revenue here was up 4%, driven by 2% organic growth in the quarter.

Strategic PLS reduced revenue by over 1%. Regionally, while North America was down 7% and Europe up 1%, China was a standout with impressive 22% growth. Our local team continues to innovate and gain market share in the rapidly expanding EV market with customer-back innovation efforts driving increased content per vehicle. We anticipate this strong momentum will carry into the second half of 2025 and beyond.

For the full year, we project the Automotive OEM segment will outperform relevant industry builds by 200 to 300 basis points as we continue to consistently grow our content per vehicle. We've updated our guidance to incorporate the latest more positive auto build forecasts, which are as follows: worldwide auto builds are now projected to be about flat, with North American bills down mid-single digits and Europe down low single digits, partially offset by mid-single-digit growth in China builds. Overall, our relevant markets are expected to be down in the low single digits in 2025, which is an improvement from the down mid- single-digit projection in our prior guide.

The bottom line performance was a significant highlight for automotive OEM with operating margin improving 190 basis points to 21.3%. This marks our highest margin since Q1 of 2021 firmly placing us on track to achieve our long-term goal of low to mid-20s operating margin by next year. Turning to Food Equipment on Slide 5. Revenue increased 2% with 1% organic growth. Equipment sales were flat, while our service business grew by 3%.

Regionally, North America grew a solid 5%, driven by 4% growth in equipment and 6% in service. The growth was notably strong in the institutional end markets. International, however, was down 5%. For Test & Measurement and Electronics, revenue was up 1% and as organic revenue saw a 1% decline.

Demand for our Test & Measurement capital equipment continues to be challenging. However, we noted encouraging order activity late in the second quarter. Meanwhile, our electronics business grew 4%, fueled by heightened activity in the semiconductor-related businesses that achieved double-digit growth. Despite being impacted by onetime items this quarter, operating margin is projected to recover to the mid- to high 20s in the second half.

Moving to Slide 6. Welding was a bright spot, delivering 3% organic growth. Equipment sales increased 4% with strong new product contributions, while consumables grew 1%. These represent the highest growth rates for both businesses in 2 years. Industrial sales also increased 1% with every region contributing to growth this quarter.

North America was up 1% and international sales grew 11% largely driven by 28% growth in China, a direct result of new product introductions targeting the energy sector. Our 33.1% operating margin remained essentially flat year-over-year demonstrating sustained strong profitability. Revenue in Polymers & Fluids declined 3%, which included a percentage point headwind from PLS. Organic revenue was down 5% in polymers and 3% in both fluids and the more consumer-oriented automotive aftermarket.

Let's look at Construction Products on Slide 7. This, our most interest rate sensitive segment continues to contend with global demand challenges on the residential side. Revenue declined 6% in markets we estimate are down even more significantly and were further impacted by a 1% reduction from strategic PLS. Regionally, organic revenues saw North America declined 7%, Europe was down 5% and Australia and New Zealand decreased 10%. However, despite these persistent market headwinds, the segment demonstrated remarkable resilience, improving its operating margin by 140 basis points to 30.8%, a testament to strong execution in a difficult environment.

For Specialty Products, revenue increased 1% with flat organic revenue this quarter due to a challenging 7% organic growth comparison with last year. Revenue also included over 1 percentage point from strategic PLS. On a positive note, equipment sales, which rose 8% were fueled by sustained strength in our packaging and aerospace equipment businesses. Operating margin improved 70 basis points to 32.6%, significantly benefiting from enterprise initiatives.

With that, let's move to Slide 8 for an update on our full year 2025 guidance. We've often reiterated our high confidence in successfully navigating challenging macro conditions and delivering solid financial performance. Our decision to raise GAAP EPS guidance by $0.10 at the midpoint, narrowing the range to 135 to 155 serves as clear evidence of this capability. We are well positioned to outperform our end markets and continue to project organic growth of 0% to 2%.

Per our usual process, our projection factors in current demand levels, the incremental pricing related to tariffs, our updated automotive build projections and an easier year-over-year comparison in the second half of the year. Total revenue is now projected to be up 1% to 3%, reflecting current more favorable foreign exchange rates. As we look at the second half, we fully expect to continue to execute at our usual high level on all the key profitability drivers within our control. This includes already implemented pricing actions, which we project will more than offset tariff costs and favorably impact EPS.

Additionally, we expect our enterprise initiatives to contribute 100 basis points or more to the operating margin independent of volume. Notably, all 7 of our segments are projected to grow revenue and improve margins in the second half relative to the first half. Our full year GAAP EPS cadence remains consistent. We expect 47% in the first half and 53% in the second half.

This reflects our typical business seasonality along with expected benefits in the second half for stronger pricing and more favorable foreign exchange rates. Implied in our guidance is solid second half financial performance with reasonable organic growth, substantial margin improvement and strong free cash flows. To wrap up, we're confident that the enhanced strength and resilience of the ITW business model, coupled with our high-quality diversified business portfolio and crucially, our dedicated people equip us to decisively and effectively manage the current environment, no matter how it evolves and all while steadfastly pursuing our long-term enterprise strategy.

With that, Erin, I'll turn it back to you.

Thank you, Michael. Janine, will you please open the call for questions and answers.

[Operator Instructions] Your first question comes from the line of Tami Zakaria from JP Morgan.

All right, good morning. Thank you so much. I just wanted to ask about the new operating margin outlook. I think you reduced it at the midpoint.

I just wanted to get some color on it. Are price increases causing more than expected volume headwind, which is driving the reduced operating margin outlook? Or is there anything that you didn't anticipate, but now are seeing and are expecting for the back half. So any color on what's driving that outlook versus the last time you spoke?

Yes, Tami, it's a pretty straightforward answer. Essentially, while our price actions to offset tariffs have been quite successful, and we are ahead on a dollar-for-dollar basis. As you know, that can be -- can mean that it is still dilutive from a margin standpoint, which is what I mentioned in the prepared remarks that price/cost was modestly margin dilutive in Q2. And so that's really what's driving it. And I think just taking a step back, if you look at the last time we were together, we said that we expected price cost to be neutral or better.

And I think our teams have done a great job putting us in a position where these price actions are EPS positive, but slightly margin dilutive, which is what you're seeing in the updated margin guidance. Now that to us is just a timing issue. We will recover that margin just like we did every other cycle that we've been through. And whether that happens by the end of the year or next year, I think is a little uncertain at this point.

But as we've talked about before, good companies will offset the cost impact and eventually recuperate the margin impact as well. And so that's what you're seeing in our updated margin guidance.

Got it. That's very helpful color. And a follow-up on the auto segment specifically, I think margins came in at least better than what I was modeling. So as I think about the back half, as we think about the back half, should we expect sequential improvement versus 2Q?

So I think we're very pleased with the progress in our Automotive segment, both on the top line in the quarter and the improved outlook for the back half and also on the margin side. 21.3%, an improvement of 190 basis points. I think as you look forward into the balance of the year, I think we'll be solidly above 20% both for the second half and likely for the full year as well, which puts us in a great position to reach our long-term goal, kind of low to mid-20s sometime next year.

Christopher A. O’Herlihy: Just to support that, Tami. The only thing I would say on auto is that when we looked at our auto margins back at Investor Day, we forecast that we get ongoing significant contributions from enterprise initiatives and from higher-margin innovation. And that's very much what's playing out here in 2025.

Our next question comes from the line of Jamie Cook from Truist Securities.

I guess two questions. It sounds like on CBI, you guys think you're doing -- you're sort of gaining traction there. So can you help me understand outside of automotive where you're seeing the most success? And is the -- do we still expect CBI to contribute to 2.3% to 2.5% that you initially laid out?

And then I guess my second question, just a follow-up. Michael, just what's implied in the new guide in terms of FX? I know initially, it was I think, a negative $0.30 headwind, it went neutral last quarter. Just trying to understand what's implied in the new updated guidance.

Yes. Let me answer the FX question. So basically, what we've incorporated now are current foreign exchange rates. And so we've gone from anticipating a significant headwind going into the year, we now expect some modest favorability based on rates as we sit here today.

Now I say modest because on a year-over-year basis, the contribution to EPS in Q2, for example, was about $0.03 a share. So we're not talking about huge tailwind from foreign exchange. But that's kind of the modeling assumption, current foreign exchange rates and assuming that they stay where they are, which obviously can change quickly as we've seen this year. But -- and with that, on the CBI side, Chris?

Christopher A. O’Herlihy: Sure. So Jamie, on CBI, we're certainly encouraged by the progress that we're making across the company, great pipeline of new products, really across all 7 segments. It's one of the reasons that we would say we're outperforming our end markets at the enterprise level. Several successful product launches this year across the portfolio. You asked for some segment color. I would say Welding has been a standout. You've seen that in terms of welding growth of 3%. We believe our CBI contribution of Welding is above 3% right now. But also say food equipment, where we continue to have product launches across all product categories, all real tangible areas like energy and water savings and then automotive, where we see it particularly in China, where we're certainly growing market share through CBI. So off to a solid start here in 2025, to your question, well on track to deliver on our CBI yield goal of 2.3 to 2.5 this year.

Our next question comes from the line of Andy Kaplowitz from Citigroup.

Chris or Michael, you mentioned encouraging sequential growth of 6%. I think usually, you get a couple of percentage points of growth sequentially in Q1 to Q2. I think you had one extra selling day, if I remember correctly for Q2. But would you say you're seeing incremental continued improvement in short-cycle businesses such as semicon that you saw last quarter? And how are your longer-cycle customers? What are the conversations like?

You mentioned Welding a little bit better, you mentioned Test & Measurement getting better at the end of Q2. Maybe you can give a little more color on that.

Yes. I think, Andy, those are fair points on the sequential. I think really the point of putting that slide in there was that this is certainly not a company that's slowing down. We were really encouraged.

If you look back to where we were on the last earnings call, we were talking about the slowdown and some real concerns around tariffs. I think at this point, we're talking about some really encouraging positive momentum. And you can see what happens when you get just a little bit of growth, 6% growth equated to 12% income growth on a sequential basis, incremental margins sequentially are above 50% and year-over-year 49%. So that was really the point that we were trying to make here.

I think we still see some challenges, as you heard, as we went through the segments on the consumer-oriented side. Construction product is the obvious one, which I think is not going to be a surprise to anybody at this point. A little bit of softness maybe in automotive aftermarket, which in Polymers & Fluids, which also tends to be more consumer oriented, but also some positive signs as we went through the quarter in the kind of the more general industrial CapEx space. We saw order activity really pick up in Test & Measurement towards the end of the quarter.

We saw a significant increase in the number of big orders that were taken relative to last quarter. We saw some good progress also in Welding. We talked about the growth rates there. Semi which is a fairly small percentage of our total revenues, about 3%.

I think it is last time we looked at it, growing double digits. And so that's really what we want to try to highlight that there are some positive things going on here. The automotive build forecast improved. And I think all those things are obviously not just market tailwind, but it's all the work that we're doing around customer-backed innovation and new products to gain market share.

And if you were an optimist, I would say we're seeing the first encouraging signs that this is really working. And it gives us a lot of confidence not only going into the back half of the year, but also going into next year and the commitments we've made kind of in terms of our long-term performance goals that even when macro conditions are maybe not very supportive of the growth that we're trying to achieve, we're still delivering solid performance and in a position we're halfway through the year, we can raise our guidance. So that's how I would characterize it, Andy.

Michael, to that point, you've always been good in China, but it seems like you're getting better, particularly in China Automotive. Chris talked about CBI. If I look by region, China just such a standout versus your other regions, especially versus other industrial peers. So is it really just CBI or maybe it's just China EV.

Is there anything that you can do for the other geographies to really sort of support or improve that growth and maybe the durability? I think you just answered it, Michael, durability in China it seems there.

Christopher A. O’Herlihy: Yes, Andy, and I would just add to that, that we would certainly see -- you saw a 15% growth in China, '22 in automotive. But the growth is really sustainable for a number of reasons and not just automotive. Our business in China across all segments are highly differentiated. The proof point that I would offer here is that our margins in China are at the same level as North America or Western Europe, which really speaks to the whole kind of focus on differentiation. We have very strong customer-back innovation efforts in China. China actually generates a disproportion of our patents protecting customer solutions. We have these very long and very strong, long-lasting customer partnerships in China. As an example, our auto business in China has been there of close to 30 years. A reminder, again, we produce in China for the China market. But last and I'd say by no means least, we have a very highly tenured, highly talented and experienced leadership team who are ITW business model experts and who execute for the company every day. So we really feel well positioned across all 7 segments in China. Innovation is certainly a part of it. But I think across the relationships, the quality of our team and most importantly, our focus on sustainable differentiation is really what underpins our future growth prospects in China.

Our next question comes from the line of Julian Mitchell from Barclays.

Maybe just my first question, trying to understand the sort of FX dynamics in the EPS guide. So I think maybe sort of versus the beginning of the year, there's about a $0.30, $0.40 tailwind to EPS from the FX change, what are sort of the offsets in that sort of blunting that because the drop-through to the overall EPS guide is much smaller, and I think price cost is dollar positive?

Yes. I think, Julian, we're still taking a fairly cautious approach here. I think as we said in Chris' opening remarks, I mean we remain in a really uncertain and a pretty volatile environment where things can change quickly, whether it be the tariff environment or foreign exchange rates. And so I think the reason why you're not seeing us take guidance up by $0.30 is exactly that, that we are maintaining an appropriately conservative approach here given the current macro conditions that we're dealing with.

And I would say given, again, the conditions that we're dealing with, we feel pretty good about the type of performance that we're putting up. And the confidence that we're trying to convey in the second half, which, based on our -- everything I talked about, we're going to be putting up some reasonable organic growth implied in our guidance is kind of 2% to 3% organic growth, 100 basis points plus of margin improvement year-over-year in the back half, really strong incremental margins and also really strong free cash flows. So given the conditions we're dealing with, we feel like we're in a pretty good position here going into the back half of the year.

That's helpful. And then maybe just a second one kind of trying to follow up on sort of within the back half, third versus fourth quarter? I know there was a little bit of conversation of that already. But any sort of shift in terms of demand patterns, let's say, in recent weeks into Q3?

And when you're thinking about that price cost margin headwind, how are we thinking about that in sort of the third versus the fourth quarter, maybe just sort of flesh out anything?

I think, Julian, I mean, from Q3 to Q4, it's kind of our typical sequential. Typically, revenues go up a little bit from Q2 to Q3 and into Q4. The kind of the traditional run rates are not as accurate as usual because of all the price that we're getting. So if you think about these price-related -- tariff-related price increases, those are really only starting to flow through here in Q3 and Q4. And so -- that's why we're effectively guiding to something that's a little above our typical run rate. But again, we should expect, like we talked about on the last call, good sequential improvement from Q2 into Q3, Q3 into Q4. Both -- really on all the key elements here, the top line margin improvement.

I think we talked about every segment improving margins and revenue in the second half relative to the first half. And that's not assuming a pickup in demand. That's basically, like I said, current run rates, it's the price current FX rates, which I think you asked about. And then an updated outlook for automotive and then a more -- about 0.5 point of easier comps in the back half of the year.

So you put all that together, that's how we end up with a pretty solid second half. Just to wrap up your question around what did you see in Q2? Nothing really unusual going through the quarter other than in June, June was our strongest month, it typically is. And then some of these more positive signs that we talked about around some of the order activity and the CapEx equipment businesses became more encouraging as we went through towards the end of the quarter.

Our next question comes from the line of Stephen Volkmann from Jefferies.

I guess I'm trying to say -- I know you don't like to talk in too much detail about this, but I'm assuming in your 0% to 2% organic, your volumes must be down like low to mid-single digits or something. And the reason I'm curious about that is because, obviously, you're putting up pretty good incrementals on lower volumes, I guess, so I'm trying to think about when volumes do come back, did the enterprise initiatives mean we'll have higher incremental margins? Or how should I think about that? Sorry, it's a little complicated.

No, that's okay. Let me just start by saying that your volume assumptions are not entirely correct, even though we don't guide volume versus price. And then your second point, we put up incremental margins of 49% year-over-year in Q2. And that is some of these price cost actions related to tariffs are basically coming through at a fairly low incremental. So if that's the case, you have to believe that the core incrementals are significantly higher at this point in time relative to our kind of historical 35% to 40%.

And I think you can see in a couple of places here. Automotive is maybe the better example this quarter. What happens when we get just a little bit of growth. I mean automotive with 2% organic margins are up 190 basis points.

And so you look at the sequential growth and the incrementals from Q1 to Q2. So to answer your question, it's reasonable to assume that incrementals are above historical and you'll see some of that in the second half. We expect reasonable kind of 2% to 3% organic growth with some very strong incrementals.

Christopher A. O’Herlihy: And Steve, over the long term, the incremental is -- strong incremental is predominantly driven by the quality of the portfolio and continuous improvement in the quality of the portfolio and execution of the business model against that portfolio is ultimately what drives the incremental higher.

Got it. Okay. And then maybe specifically on construction, sort of amazing to see 140 bps of growth on 6% decline in revenue. And it doesn't look like it was a geographic mix issue there. Was that all just kind of enterprise or CBI? Or is there some sort of mix there? Any detail there would be great.

Yes. I mean the biggest driver is as usual are the enterprise initiatives were well above company average at about 160 basis points. So that's really the key driver. I think that we agree with you that the fact that we have a construction business that for over a year, has been putting up margins in that 29%, 30% range in some of the most challenging end markets that we've seen in a long time is pretty remarkable.

And I think the team frankly gets a lot of credit for trying to find a way to make the best of a tough macro.

Christopher A. O’Herlihy: Yes, and all underpinned with great brands and technology, very focused on the most attractive parts of the construction market.

Our next question comes from the line of Mig Dobre from Baird.

Q2 was just such a strange quarter, not so much in your reporting, but just the broader backdrop, right? I mean we started in April with Liberation Day and a lot of volatility, I guess, in the national markets, and then we exited feeling very different. And I'm kind of curious how your business experienced all of this? Have you -- at any point in time through the quarter, maybe actually felt an economic effect from this tariff uncertainty and obviously, the quarter all-in on a surface looked fine.

So I'm wondering about the cadence. And the reason why I'm asking the question is because if we end up with another wave of disruption related to these tariffs, based on your learnings from Q2, how disruptive do you think that could end up being or maybe not at all to your business going forward?

Christopher A. O’Herlihy: Yes. So Mig I think I would say just -- I suppose as a reminder, and you characterized Q2 very accurately in terms of how it played out. But from our standpoint, and particularly relating to the tariffs, we go back to the point that we're over 90% produced what we sell. So the direct impact of tariffs is largely mitigated. And to the extent that we need to get price, we are able to get price due to the high levels of differentiation across the business, both in 2018 and in this past round tariffs were manageable for us. And based on what we know today and even if tariffs were increased, we'd expect the tariff cost to be manageable going forward. Certainly, we would hold to our EPS neutral or better, I say no matter what happens from here on out.

Okay. But you didn't experience that whole customer freezing up or anything of the sort, as they were seeking for more clarity. That was just not a factor in your business you're seeing?

Christopher A. O’Herlihy: Yes, there was a little bit of that in one segment. We have one segment where we have some shipments to China from the U.S., particularly relating to customer requests for us to do it that way. And certainly, with the enormous China tariffs at the beginning of the quarter, there certainly was a freeze in that. That has no freed up since then. And also, we've had several -- through our we read and react capabilities in our businesses, we've been able to read and react very successfully to that. So it was to happen again, we'd have mitigation plans in place where it wouldn't be as much of an issue.

Got it. And my follow-up, if I may, just kind of a bigger picture capital allocation question. I'd love to hear as to how you're thinking about your M&A pipeline and in terms of returning capital to shareholders, if M&A is not available for whatever reason, is there an argument to be made for taking a more aggressive approach at this point in a cycle where maybe you're dealing with lower growth knowing that, obviously, as growth accelerates eventually, you'll be able to hopefully create some value with more aggressive buybacks in the lower part of the cycle?

Christopher A. O’Herlihy: Yes. So with respect to M&A, Mig, what I would say is that, first and foremost, we're very confident in our -- the ability of our current portfolio to grow at 4% plus over time. And so we are comfortable in really sticking to our disciplined portfolio management strategy around M&A. We've got a very clear and well-defined view of what we think fits our strategy. So it's just a matter of us finding the right opportunities, focused on those high-quality acquisitions that could extend our long-term growth potential to grow at a minimum at 4% plus at high quality while being able to leverage the business model to improve margins. That's typically how we think about these things. Now we do review opportunities for this on an ongoing basis, but we continue to be very selective and very selective being mindful of the fact that we've got all this organic growth potential that we're working on. We're very active in terms of reviewing M&A opportunities. And to the extent that we find the right opportunities, then we will certainly be appropriately aggressive in pursuing them, I would say. And obviously, MTS was one that we did -- we -- that's the criteria we use to evaluate and to acquire MTS, and it's proved to be a really great acquisition for us on that basis. And that's the lens by which we look at acquisitions, remaining selective, but appropriately aggressive when we see the right ones.

And I'll just add on the other elements of our capital allocation strategy. Mig, we obviously constantly review, debate, discuss our strategy and we are still coming in conclusion that it's pretty optimal and pretty well aligned with our enterprise strategy with #1 priority being the internal investments to support all the organic growth initiatives that are going on inside the company and maintain core profitability in these highly differentiated core businesses. We have an attractive dividend. If you look at our payout ratio, we're probably and rightfully so towards the higher end of the peer group just given our margins and our best-in-class balance sheet and highest credit rating in the peer group.

We'll continue to grow that dividend in line with long-term earnings. And then we allocate surplus cash to the buybacks, which is about $1.5 billion this year, about 2% of our outstanding shares. And so as we sit here today, we feel like we've optimized this. And as Chris said, we'd love to do M&A given the criteria that Chris outlined.

And as you know, this is -- it's not an easy market given often the valuation are what's making this pretty challenging.

Our next question comes from the line of Sabrina Abrams from Bank of America.

I think my understanding was that there would be some more restructuring in the first half. So I think there were comments about 80% of the full year, $0.15 to $0.20 headwind in the first half. So I guess just looking at the components of the margin bridge, it doesn't seem like we had -- I think restructuring year-over-year was a tailwind this quarter, and there wasn't a ton in 1Q. So just any color you could provide on restructuring this year, how it's changed?

Is that still the right full year number? And how has the cadence evolved relative to your expectations?

Yes. Sabrina. So I think restructuring with everything going on in the quarter, a couple of things did move around. At the end of the day, we ended up spending $20 million in the first half this year, which is the same as what we spent in the first half of last year.

These are all projects tied to kind of our 80/20 front-to-back process, all projects with less than a 1-year payback. We had a few projects that just from a timing standpoint, moved into July. Those have been approved and are well underway. We expect that we'll spend about another $20 million here or $0.05 a share, so it's pretty small relative to our overall earnings.

We'll spend about $20 million here in the second half. And on a year-over-year basis, that will be about flat year-over-year.

Okay. And then just how much PLS is in the guide this year? I think there was 100 bps this quarter. I think there was 50 bps in 1Q. I think you started the year with 100 bps of PLS in the guide. Just how are we thinking about that now?

Yes. That's unchanged. We still have a fair bit of activity. And as you saw this quarter in automotive, specialty as well as construction.

And so we're still at about a percentage point of headwind to the organic growth rate from strategic PLS. But obviously, a huge tailwind in terms of positioning the portfolio for future growth as well as -- if you look at the margin improvement in the segment that I just talked about, you can see kind of the benefits associated with these PLS efforts.

Our next question comes from the line of Joe O'dea from Wells Fargo.

First just on margins in the second half of the year. And when we look at sort of the walk from Q2 into the back half, about 100 bps improvement. Can you just outline cadence of that? Is that sort of 50 bps sequentially over the back half of the year in each quarter is kind of reasonable?

And then the segments that are going to be contributing that the programs are going to be driving that, presumably, Test & Measurement are ones where we should see the biggest contribution.

That's exactly right. That -- Test & Measurement is the biggest step-up sequentially from the first half into the second half. I'd rather -- the segments that are above 30% already kind of in the -- we got 3 at 33%, 31%, 33%, you may not see the same type of step up in those, but other than that pretty broad-based, and we expect some sequential improvement from, like I said, from Q2 into Q3 with some -- also some improvement on a year-over-year basis. And then, frankly, a slightly bigger step-up in Q4 on the margin front on a year-over-year basis.

So you take all of that. And this is implied in our guidance, so I'm not telling you something you couldn't figure out yourself is that external operating margins of about 27% in the back half of the year. And that's with some reasonable improvement year-over-year. These are improvement on already best-in-class operating margins with not a whole lot of help from macro conditions.

And that's why we talk about these being such differentiated results. There are -- without dragging there are not many companies that could put up this type of margin performance given the top line and the macro that we're dealing with and just look at the incremental margins this quarter and implied for the full year.

Got it. That's helpful. And then I wanted to come back to some of the more kind of CapEx order activity that you're talking about and maybe specifically on Welding and just trying to parse kind of DBI and share versus underlying end market. I think a lot of what we hear out there is MRO trends are stable.

Bigger spend projects, elongation between quote to order. So it doesn't really sound like in broad strokes, we're hearing much of a sequential acceleration. It sounds like you're seeing it a little bit more early days but the degree to which you can talk through some of the end markets within Welding, what you're hearing from those customers versus kind of CBI and that's really the answer to the better growth.

Christopher A. O’Herlihy: Yes. In short, Joe, I would say CBI is a better answer to the growth. And we see some pickup in activity on the industrial side. But in general, the big driver of our growth in Welding right now is CBI.

Yes. And I'll just go back to what we talked about earlier. I think the more consumer-oriented businesses certainly are dealing with some more challenging end market conditions. The general industrial more CapEx set aside some of the delays that Chris talked about early in the quarter when there was kind of peak tariffs angst.

I think we are seeing some positive signs in general industrial in the semi space as well as in automotive. But these are short-cycle businesses. Things can change very quickly. We're dealing with a pretty challenging underlying market demand.

We estimate our end markets on average are down 3 to 4. And we're holding organic flat. We improved the organic growth rate sequentially from Q1 to Q2. So that's kind of the environment that we're dealing with. And so that's why it's so important that we continue to do what we said we were going to do from an execution standpoint and continue to make progress on the enterprise initiatives and the things we can control, including CBI, price costs and so forth.

Okay. Great color there. One last quick one, just China. Really strong growth in auto. Can you just talk a little bit about other parts of China exposure?

Yes. I think China was up 15%, as I said in the prepared remarks. I mean, the biggest driver by far is the automotive business, but there's also some solid double-digit growth in Test & Measurement, Polymers & Fluids & Welding. And where we're seeing this are -- is in the businesses that had the highest contribution from new products.

So there's a real correlation here. In terms of being able to outperform end markets is really a result of great progress on CBI. And I think maybe that explains -- there was a question earlier in terms of our performance in China and not seeing the same results in other with some of our peers and maybe that's part of the explanation.

Our last question comes from the line of Steven Fisher from UBS.

Just to follow up on one of those last questions there. In terms of the pickup maybe at the end of the quarter in some of the capital- oriented equipment, I guess, just to achieve the 2% to 3% organic growth that you have in the second half, are you guys assuming that you -- there will be a continuation of some of that strong order levels that you saw at the end of the quarter? Or is it really just sort of -- that was kind of a onetime thing? Or I'm guessing if it's really CBI, as you said, I think it would be maybe a continuation, but just curious how you'd frame that.

Yes. I'd go back, Steve, to kind of our usual process for giving guidance, which is based on current levels of demand in our businesses. We have more price than usual coming through in the back half associated with these tariffs. We have some easier comps in the second half than we did in the first half by about 0.5 point.

But we're not factoring in any further acceleration from kind of current levels of demand. And so if that were to happen, that would be great news. That would suggest that our guidance is conservative. If we have another round of tariffs, as somebody suggested and things slow down, then that would be bad news.

But overall, I think as we sit here today, we are confidently raising our guidance, and we're well positioned for a solid second half, as I think we said earlier.

Okay. Terrific. And then just to follow up on the CB&I. I think maybe Chris mentioned 3-plus percent in the long term, 2030. Do you still think of CBI and net market penetration as 2 separate growth buckets? And if so, can you sort of help us differentiate between these 2 things? I think you had a 1% to 2% target on net market penetration and 2% to 3% on CBI and the longer-term targets?

Christopher A. O’Herlihy: Yes, Steve, we bucket them differently, CBI and net market penetration. And the way we think about it is that CBI is revenue -- new product revenue in the next 3 years. After that, it's market penetration. And so the way to think about it is that the CBI revenues are today turn into the market penetration revenues in the future. It's kind of how we think about it.

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