Watts Water Technologies, Inc. Class A 2026 Q2 Earnings Call

Thank you. Good morning, everyone. Welcome to our second quarter earnings conference call. Before we begin, I'd like to remind everyone that during this call, we may be making certain comments that constitute forward-looking statements. These statements are subject to numerous risks and uncertainties that could cause actual results to differ materially. For information concerning these risks, see Watts' publicly available filings with the SEC. The company undertakes no obligation to update or revise any forward-looking statements, whether as a result of new information, future events, or otherwise. Today's webcast is accompanied by a presentation which can be found in the Investor Relations section of our website. We will reference this presentation throughout our prepared remarks. Any reference to non-GAAP financial information is reconciled in the appendix to the presentation. With that, I will turn the call over to Bob.

Thank you, Ray. Welcome to your first earnings call with Watts. Good morning, everyone. Please turn to slide three. I'll provide an overview of the second quarter. We delivered another quarter of better-than-expected results, including record sales, operating income and earnings per share. I'd like to thank the entire Watts team for their dedication and contributions, which made these results possible. Organic sales rose 12% in the quarter as we benefited from strong growth in data centers and favorable price, as well as pull-forward demand, partly offset by our 80/20 rationalization program. Adjusted operating margin was 21%, down 60 basis points, primarily reflecting the anticipated dilution from recent acquisitions and a difficult comparison against a one-time price-cost benefit in the prior year that we discussed last quarter. Even with those headwinds, margin performance was better than expected due to favorable price, volume leverage, and productivity.

Our balance sheet remains strong and provides ample capacity to support our disciplined capital allocation strategy. This includes evaluating strategic M&A opportunities while continuing to invest in productivity, product innovation, and other key growth initiatives. Moving on to our business updates. We continue to make good progress integrating our recent acquisitions using the One Watts performance system. As a reminder, we completed five acquisitions in 2025 to expand our portfolio, strengthen our market reach, and increase exposure to non-residential markets. Overall, these businesses are performing well, and we remain on track to achieve or exceed our targeted synergies. We have also continued to proactively manage the impact of the Middle East conflict on our business. While it created some headwinds during the quarter, our teams have responded with pricing, supply chain, and productivity initiatives to help mitigate both the direct and indirect impacts.

We're also pleased with the resilience of our newly acquired Saudi Cast business as its in-country, for-country business model has limited the impact from the disruptions in the region. The tariff environment also remains fluid, with new Section 301 and 338 tariffs recently announced. These are in addition to the Section 232 currently in effect and replace the Section 122 tariffs, which recently expired. Based on the tariff structures currently in place, we continue to believe we're well-positioned from a price-cost standpoint. Watts offers one of the industry's broadest portfolios of water solutions, and as we discussed before, approximately 60% of our sales come from repair and replacement activity. Together, these characteristics give us a strong foundation across different economic environments.

As a result, while residential and non-institutional new construction markets remain challenged, we have continued to execute well and have been able to allocate resources towards high-growth market opportunities, including our data center initiatives. We continue to see accelerated demand in data center cooling applications, and while data centers remain a relatively small part of our overall business today, we're encouraged by the momentum we're seeing. I'll provide more of an update on our data center initiatives in a few moments. We published our 2025 sustainability report in June. Our sustainability efforts continue to create value for both our customers and Watts. We've made meaningful progress against our second generation of environmental goals while expanding innovative solutions that improve safety, water conservation, and energy efficiency. These efforts reinforce our commitment to solving our customers' most critical water challenges while supporting long-term growth.

I'm proud of the progress our global teams have made and invite you to read more about it in the appendix of today's presentation or in our sustainability report, which can be found on our investor relations website. Now, an update on our outlook for the remainder of the year. Due to our strong first half and our expectations for the third quarter, we are increasing our full-year sales and margin outlook. Data center growth, price realization, and performance in Europe and APMEA are all better than expected versus the outlook we provided in May. However, we do continue to see weakness in some of our macro indicators. Inflation measures and commodity prices are persistently higher compared to earlier this year. In addition, the market outlook for interest rates has shifted with expectations of no further rate reductions throughout the rest of the year.

These factors are compounded by continued uncertainty around trade policies and geopolitical disruptions, especially the ongoing Middle East conflict. As a result, we continue to expect softness in residential and non-institutional new construction markets. Next, please turn to slide four for an update on our data center growth initiative. In the second quarter, our data center sales more than tripled compared with the prior year, reflecting continued strong demand for our cooling solutions, including our recently launched CoolVault thermal storage tanks. Through the first six months of 2026, our data center sales represented 8% of total sales, including some of the pull forwards I mentioned earlier, which Diane will discuss in more detail. We estimate our served addressable market is approximately $2 billion.

This is based on our view of the global market opportunity, including regions beyond China and North America, the double-digit growth rate of the market, and also the trend towards more liquid cooling solutions. As liquid cooling adoption continues to increase, we're also seeing greater content opportunities per megawatt than the traditional air-cooled systems. Because this is a project-based business, the timing and volume of sales will be more variable than in some of our other markets. This can have an impact on our quarterly outlook, as we saw with customer-driven pull forward in Q2. Our expanding global data center organization, along with investments in new product launches, have been paying off, and we feel confident in our ability to scale with our customers.

We now expect data center sales for the full year to represent mid to high single digits as a percentage of overall company sales, compared with just 3% of sales last year. We've been growing faster than the market based on our ability to serve our customers and deliver quality products while continuing to develop strong relationships with contractors, OEMs, and hyperscalers. Data centers continue to represent one of our most attractive growth opportunities. With that, let me turn the call over to Diane, who will address our second quarter results and our third quarter and full-year outlook.

Diane? Thank you, Bob. Good morning, everyone.

Please turn to slide five, which highlights our second quarter results. Sales increased to $763 million, reflecting a 19% increase on a reported basis and a 12% increase organically, both better than expected. Growth was driven by price and volume, including the benefit of growth in data center sales and pull-forward sales from the third quarter, which more than offset the impact of our 80/20 rationalization initiative. The Americas region delivered strong organic growth of 12% and reported growth of 17%, both better than expected, driven mainly by price and volume, largely from data center sales. The region also saw some pull-forward demand from wholesale customers of approximately $10 million, ahead of our SAP implementation at the end of June at our largest site, as well as approximately $5 million of pull forward of data center project sales, which shipped earlier than planned.

Our 80/20 product rationalization initiative resulted in a reduction of sales of approximately $8 million or a 1% impact on organic growth. Acquisitions accounted for $28 million in sales, contributing 6 points to the Americas reported growth. In Europe, organic sales rose 9% while reported sales increased 12%. Organic growth stemmed from favorable pricing and higher volumes, particularly in our HVAC business. Reported sales also benefited from positive foreign exchange. Our 80/20 product rationalization resulted in a decline of sales of roughly $1 million or a 1-point impact on organic growth. In APMEA, organic sales grew 31%, driven by an increase in data center sales in China, partly resulting from approximately $5 million of pull forward of several data center projects, which shipped early due to customer requirements, which more than offset the headwinds from the Middle East conflict.

Acquisitions added 17% and favorable foreign exchange contributed 9% for total reported sales growth of 57%. Adjusted EBITDA totaled $177 million, an increase of 15% with an adjusted EBITDA margin of 23.1%, down 70 basis points year-over-year. Adjusted operating income of $160 million increased 15%, adjusted operating margin decreased 60 basis points to 21%. The margin declines were primarily driven by the expected acquisition dilution of 70 basis points, the difficult comparison to the prior year tariff-related price cost benefit, and inflation. This decline was partially offset by favorable price, volume leverage, and productivity gains. Segment margins were as follows: Americas decreased 150 basis points to 25.7%, while Europe increased 160 basis points to 13.3%, APMEA increased 100 basis points to 19.9%. Adjusted earnings per share were $3.66, representing 18% year-over-year growth with operational performance, acquisitions, tax, and foreign exchange driving the majority of the increase.