Emerson Electric Co

NYSE:EMR

Earnings Call Transcript 2020-Q4

[Operator]

Good day, ladies and gentlemen. Thank you for standing by. Welcome to the Emerson's Fourth Quarter and Full Investor Conference Call. [Operator Instructions]. This conference is being recorded today, November 3, 2020.

Emerson's commentary and responses to your questions may contain forward-looking statements, including the company's outlook for the remainder of the year. Information on factors that could cause actual results to vary materially from those discussed today is available at Emerson's most recent annual report on Form 10-K as filed with the SEC.

I would now like to turn the conference over to our host, Pete Lilly, Director of Investor Relations at Emerson. Please go ahead.

[Pete Lilly, Director, IR]

Thank you, and welcome, everyone, to Emerson's Fourth Quarter and Full Year 2020 Earnings Conference Call. I hope everyone is staying safe and healthy. Today, I am joined by David Farr, Chairman and Chief Executive Officer; Frank Dellaquila, Senior Executive Vice President and Chief Financial Officer; Lal Karsanbhai, Executive President of Emerson Automation Solutions; and welcoming Jamie Froedge, our New Executive President of Emerson Commercial & Residential Solutions.

As usual, I encourage everyone to follow along in the slide presentation, which is available on our website. Starting with the cover slide. Despite the overarching challenges of COVID-19, Emerson has continued to invest in key technologies and solutions for future growth and value creation. We are excited to welcome OSI Inc. to the Emerson family, a leading provider of software-based technology for advanced grid management. Additionally, we also welcome Progea Group to Emerson, a leader in software-based HMI, SCADA and analytics solutions. We will also be -- we will also review other important strategic 2020 acquisitions later in the call.

Now please turn to Slide 3. Similar to last quarter, I'd like to briefly highlight the Emerson Corporate Social Responsibility report, which is available on our website, emerson.com. This document reviews in detail many of Emerson's aspirations and accomplishments within the environmental, social and governance realms. Many of these important topics remain at the forefront of the national and international conversation. As problem solvers at our core, Emerson strives to advance the discussion, share our own progress and strategies and also be a valued resource for our customers as they embark on their own individual sustainability journey. Emerson takes very seriously our role as a critical enabler and partner for digital monitoring, measurement, control, optimization and efficiency management across our broad customer base. Fundamentally, we believe that this role and responsibility aligns very well with the broader purpose and goals of the sustainability movement. I encourage everyone to read the CSR report if you have not yet had a chance to do so.

Please turn with me to Slide 4, and we will review some highlights of the quarter and the fiscal year. First, Emerson remains steadfast in our commitment to health and safety for our employees, customers and communities. Business continuity, serving our customers in critical industries, disciplined cost control and positioning to outperform as we emerge from COVID-19 remain our key thematic priorities. Next, we continue to work hard to ensure that our localized supply chains and operations remain stable, safe and productive.

Turning to performance. Emerson executed well in a challenging but stabilizing demand environment. The organization was able to deliver adjusted earnings per share of $1.10 in the quarter and $3.46 for the full year, a strong finish driven by our ongoing aggressive cost reset actions, which totaled $73 million of restructuring actions in the quarter and over $300 million for the full year.

Cash flow in the quarter was very strong, representing 128% conversion of net earnings and 6% growth year-over-year. It is important to highlight the balance -- that the balance and market diversity and stability of our 2 platform business portfolio was critical to enabling a strong operational and cash flow outcome. Savings for the year on both restructuring and COVID-related cost actions totaled approximately $370 million. And we were able to manage decremental margins to 21% at adjusted EBITDA.

Despite all the uncertainty and demand challenges, sales and orders finished squarely in line with guidance given in August. Commercial & Residential Solutions orders turned sharply in the quarter, ending up 6% on a trailing 3-month basis. We now expect this business platform will turn positive to sales growth earlier than previously expected.

Overall, as we look towards 2021, management has adopted a conservative view given the uncertainty in the marketplace but continues to expect sales to turn positive in Q3.

Now please turn to Slide 6, which summarizes results for the year. Both net and underlying sales growth finished towards the higher end of their guidance ranges at down 9% and 8%, respectively. Commercial & Residential Solutions came in slightly ahead of expectations at down 7% underlying. Adjusted EPS of $3.46 was above the guidance range of $3.20 to $3.35, and restructuring actions finished slightly above guidance of $300 million.

Despite lower sales, both platforms executed well on profitability with the COVID-19-related cost control measures, in addition to the ongoing aggressive restructuring reset actions. Finally, cash flow performance for the year was strong with both operating and free cash flow finishing above guidance.

Turning to Slide 7. We will briefly bridge full year adjusted earnings per share. Starting with adjusted EPS in 2019 of $3.69, we subtract $0.13 for foreign exchange, pension and other items. Tax, share repurchase and interest added $0.17, which partially offset operational headwinds totaling $0.27. The operational headwinds from COVID-19 were broadly mitigated by restructuring and cost-containment efforts. This left adjusted EPS for the year at $3.46.

Turning to Slide 8, we will review the results of the quarter. GAAP EPS of $1.20 was up 3%, while adjusted EPS of $1.10 was down 4%. Total net sales were down 8% with underlying sales finishing down 9%. Importantly, both underlying sales and orders for the consolidated company showed improvement from last quarter.

Automation Solutions underlying sales were down 11%, and trailing 3-month underlying orders were down 19%. Commercial & Residential Solutions underlying sales were down 3%, while trailing 3-month orders were up 6%. Cash flow performance was strong in the quarter with operating cash flow of $1.23 billion and free cash flow of $1.02 billion. Full year operating cash flow and free cash flow of $3.08 billion and $2.55 billion were up 3% and 6% over prior year, respectively. Lastly, the company continued and built upon its aggressive cost-reset plan, initiating a total of $73 million of restructuring actions in the quarter.

Turning to Slide 9, we will bridge adjusted EPS. Beginning with fourth quarter of 2019 adjusted EPS of $1.14, you can see that nonoperational items of foreign exchange effects, pension, tax and other items attracted a total of $0.07. This was somewhat offset by $0.03 from share repurchase and interest. Most importantly, operational deleverage was fully mitigated via cost-control actions. Overall, we finished the quarter at $1.10, $0.15 above consensus estimates.

Moving to Slide 10. We will review the P&L in the quarter. Starting with gross margin, we saw a reduction of 150 basis points to 41.3% as deleverage and unfavorable mix were partially offset by favorable price cost. Importantly, SG&A as a percent of sales declined by 150 basis points as aggressive cost-control actions took effect.

Adjusted EBIT and adjusted EBITDA margins, which exclude restructuring and related costs, increased 80 basis points and 140 basis points, respectively, also reflecting the cost-containment actions flowing through. Lastly, our effective tax rate dropped this quarter, driven by foreign subsidiary reorganization efforts. Of note, the adjusted EPS decline of approximately 4% was ahead of overall revenue decline of approximately 8%.

Turning to Slide 11, we will look at underlying sales by geography. For the quarter, the Americas continued to show the steepest declines, down 13%, with the North American market also down 13%. Here, we saw strength in residential, life sciences, medical and food and beverage markets more than offset by weakness in most other end markets. Europe was down 5%, and Asia, Middle East & Africa was down slightly driven by growth in Southeast Asia. For the year, the Americas finished down 11% with the other 2 world areas each down a more modest 4%.

Please join me on Slide 12, and we will discuss total business segment performance. Total segment adjusted EBIT margin decreased 30 basis points to 19.9%, reflecting aggressive cost-control measures and strong operational execution as sales declined. Total segment adjusted EBITDA deleverage was limited to 21% in the quarter. Meanwhile, adjusted pretax earnings increased 70 basis points to 18.4%.

As previously highlighted, Q4 cash flow performance was strong given the challenging environment. Operating cash flow of $1.23 billion and free cash flow of $1.02 billion both increased year-over-year by 2%. Free cash flow represented 140% conversion of net earnings.

Turning to Slide 14, we will review the business platforms. Automation Solutions underlying sales finished down 11% for the quarter as broad-based declines in most end markets were slightly offset by life sciences, medical and food and beverage markets. North America again saw the steepest declines, down by over 20%. Meanwhile, Asia, Middle East & Africa was slightly positive driven by India and Southeast Asia.

Trailing 3-month underlying orders were down 19%, again, reflecting stagnant but stabilizing demand trends. Restructuring actions totaled $52 million across the platform, which brought the total to $244 million for the full year.

The platform delivered on profitability in a very challenging demand environment. Adjusted EBIT and adjusted EBITDA margins were limited to down 80 basis points and down 20 basis points, respectively, reflecting the aggressive cost actions taking effect. Decremental margins were held to 26% at adjusted EBITDA. Lastly, the platform converted approximately $400 million of backlog, leaving an ending balance of $4.7 billion.

Turning to Slide 15. Commercial & Residential Solutions underlying sales were down 3% in the quarter. The Americas and Europe each had modest declines of 1%, while Asia, Middle East & Africa was more challenged at down 13%. As previously mentioned, trailing 3-month orders turned sharply in the quarter, finishing up 6% driven by residential and big box retail market demand.

For the quarter, restructuring actions totaled $21 million, which brought the total figure to $52 million for the year. Adjusted EBIT and adjusted EBITDA margins were up 50 basis points and up 120 basis points, respectively, reflecting continued effective focus on profitability.

Please turn to Slide 17, and we will introduce the first quarter guidance. We expect that underlying sales will be in the down 7% to down 6% underlying range as residential, life sciences, medical and food and beverage market growth is more than offset by challenging but stabilizing other process, discrete and commercial markets.

GAAP EPS and adjusted EPS are expected to be $0.52 and $0.67, respectively, plus or minus $0.02. We expect adjusted EBIT margin to be 15.5% to 16% with adjusted EBITDA margin in the range of 21.2% to 21.8%.

Slide 18 introduces our full year 2021 guidance framework. First, management has a conservative outlook for the macroeconomic environment in 2021, given the ongoing COVID uncertainty. We assume that demand will continue to be challenging but stabilizing and gradually improving as companies, communities and governments continue to learn and operate and live with the virus as the year progresses. We also assume that there will be steady progress with regard to vaccine development and distribution during the fiscal year. Lastly, we assume there are no major operational or supply chain disruptions and that oil prices remain in the $35 to $50 range.

With those assumptions in mind, we expect a flat underlying sales year with a range of down 1% to plus 2%. Automation Solutions is expected to be in the range of down 4% to down 1%, while Commercial & Residential Solutions is expected to grow between 4% and 7%.

Expected total restructuring in 2021 now totals over $200 million with approximately $160 million coming from Automation Solutions, $30 million coming from Commercial & Residential Solutions, and the balance coming from corporate. We expect operating cash flow to come in at approximately $3.1 billion, capital spending of $600 million, resulting in free cash flow target of approximately $2.5 billion.

Emerson intends to resume share repurchases in fiscal year 2021 in the amount of $500 million to $1 billion while concurrently maintaining optionality for further acquisitions should the opportunity arise. This allocation excludes the funding of the previously announced acquisition of Open Systems International, which closed on October 1, 2020.

Additionally, we remain fully committed to our dividend program and plan to increase our dividend per share for 65th consecutive year. Within this framework, as management forecasted in April of 2020, we expect overall revenue to return to growth in the third quarter of 2021. Commercial & Residential Solutions is expected to return to growth earlier than originally expected, while Automation Solutions is expected to return to growth later in the year.

GAAP EPS is expected to be $3.11, plus or minus $0.05, while adjusted EPS is expected to be $3.45, plus or minus $0.05. Lastly, we do expect to encounter some profitability headwinds in the year. These include the return of some COVID-related costs as business conditions slowly normalize, stock price changes and amortization costs from the OSI acquisition. Also of note, we expect price costs to be less positive in 2021 and pension costs to be a tailwind for the year.

And now please turn to Slide 19, and we will review the updated reset restructuring and COVID-related savings summary. Due to the delayed recovery in many automation markets, we are increasing restructuring spend within Automation Solutions in 2021, resulting in a total company restructuring spend of over $200 million, up from the $125 million shown last quarter. This increase in restructuring spend yields higher incremental savings in 2021 of approximately $245 million.

We still expect that approximately $70 million of the $150 million COVID-related savings from 2020 will come back in 2021 as business conditions start to normalize in the back half. Total long-term annualized savings of the overall reset restructuring program are now expected to exceed $650 million.

Please turn to Slide 21, and I will now hand the call over to Mr. David Farr.

[David Farr, Chairman & CEO]

Thank you very much. Thank you very much, Pete. And Jamie, welcome to the group here.

[James Froedge, EVP, Commercial & Residential Solutions Business]

Thanks, David.

[David Farr, Chairman & CEO]

And Frank, and obviously, Lal. But Chart 21 is clearly the underlying orders forecast, and I'll talk about that in a second. But first, I do want to welcome everybody from the investor world, the shareholder world, our employees, thanks for joining us today. And thank you for your continued support and engagement over this quarter and the total fiscal year. And as we all know, it's been a truly unusual fiscal year for this company, but I think this team has risen to the challenge.

I want to make a special call out to the global Emerson employees, the leadership team and our new members from acquisitions this year and thank them for their commitment to safety, our customers, our fellow employees and shareholders and community as we return to work starting in March and throughout the years, we continue to reengage and be successful as a company. I want to appreciate -- I appreciate everything you've done. I want to thank you for the job you did. And thank you for everything you did over the last 8 months as we got back into our offices, as we got back in the manufacturing plants and we opened and produced product for our customers. I want to thank all of you very, very much. I know that this was not easy to do, but you all did it. You rose to the challenge. And you delivered to our customers, our shareholders and the communities and the fellow employees.

As we know, 2020 was an exceptional year in sales, profit margins, earnings and cash flow. Our free cash flow to earnings, our conversion was close to 140% this year. It's our 64th year dividend increase. Our dividend free cash flow came in at 47.5%. As many of you know, we did not cut our dividend when we did the major repositioning back in 2016, and we've worked our way back into under 50% in free cash flow to dividend ratio. We returned over $2.1 billion to our shareholders this year in 2020. We kept our dividend going like many companies did not do, and we returned capital to our shareholders through share repurchase.

And given what I see right now in underlying margin improvement, strong cash flow generation, growth returning in the Commercial & Residential Solutions business and I think that a business in Automation Solutions that will return in the second half of the year, we are going to increase our capital allocation back to the shareholders to get to $2 billion this year, as Pete talked about. This is something we feel strongly about, confidence in the company, how we position the company from a cost standpoint, the new products, the investments we've made in acquisitions. Clearly, we got a very uncertain political environment right now. But the investments we've made, we have a lot of confidence in that we'll be able to grow and outperform this marketplace and do well, at the same time make an investment internally by returning in more cash back to our shareholders. And I think that's very, very important to show that confidence to our shareholders that we will get our way through this.

As you know, we sat here in April, gave a forecast for quarters, for the year and the first half of '20 and 2021. Very few companies did that. We delivered. We actually beat them as we went out through that quarter. We are 2 quarters ahead, and Commercial & Residential returned to growth, tremendous performance by the Commercial & Residential Solutions group. And the market's coming back. Great to see. They're leveraging. Their margins are really doing well based on all the restructuring that went on from 2019 throughout 2020. And they're ready to grow and expand those margins.

We also believe that Auto Solutions, the cycle that we laid out back in August, we're probably 1.5 quarters behind that cycle, still some tough things ahead of us, but we feel quite strongly that business will return to growth in the second half of the year. But Lal and his team, they have confidence in delivering improved profitability and improved cash flow in 2021, has made the decision to increase, increase the restructuring in the first half of this year and all -- and mostly for -- in the second half of the year, but most importantly, in the first half of the year to drive higher margins even though sales are going to continue to be down in the first half of the year. That is not easy to do when you look at all the things they've been doing over the last 12 to 18 months. But I feel quite strong that they will deliver.

The company is stronger. The balance sheet is stronger. I believe the underlying growth momentum will return. Our aggressive cost actions are self-help. We're on track to deliver the peak margin plan we laid out in February of 2020 despite sales being approximately $2 billion lower than we said back then before the pandemic, before, obviously, the recession we've had to go through. But the hard work on cost actions, the hard work in restructuring, the hard work in new product investments and the things we had to do to make this company stronger for our shareholders and for our customers, we have done. We have confidence in 2021.

Yes, we still have problems ahead of us. Yes, we have an election going on today. Who knows what's going to happen? Yes, COVID virus is still out there. But we have confidence we'll have a vaccine. We have confidence that we'll move back into a more normal business environment as we go into the middle of 2021. We feel good that we can return more cash to our shareholders as we go into 2021.

But again, before I go into the charts, I want to make a very special call out to our Emerson employees around the world, the Emerson leadership team, the corporate employees, the employees that stood by me and the OCE live in St. Louis, not live from Saturday Night Live, but live in St. Louis to get through this COVID pandemic environment. Live together, I want to thank them for making that happen.

Clearly, we got some challenges. But clearly, I feel the company today is in a much stronger position than it was back in April when we talked, and I feel very good about what was going to happen as we go into the 2021 time period.

As we laid out in Chart 21, chart you saw in 21, a lot of people said, "How are you going to get back to the top of that lines, we were coming down?" Well, we did, upper right-hand corner. Obviously, Commercial & Residential came back strong. Lal's business is going sideways right now as we continue to wait for America, KOB 3 and some KOB 2. He'll be talking about that. We've laid out some dots here. As we go forward into this quarter and how we think orders will trend in the first quarter, how orders would trend in the second quarter, this is the trend line we see -- we have to be on as a total company. How the various pieces move around, that will change depending on what happens each month. But we -- this is the trend line we have to be on to return to total growth for the total company by the second half of 2021.

Again, as we sit here today, as we talked about in April of 2020, the midst of COVID, the forecast that we laid out is pretty well in line, except we're a little bit ahead for Commercial & Residential, and Lal's a little bit behind just from a recovery standpoint. He didn't go any deeper than we thought. But he has not recovered yet primarily because of KOB 3 in the turnaround business in North America, but we're seeing other parts of the world doing pretty well for Lal.

If you go forward to Chart 22. Here's the forecast we laid out right now. On the first quarter, after delivering down 8.6% underlying growth in the fourth quarter this year, we're looking to be down somewhere in the 6% to 7%. I hope it'll be close to the 6%. As we look at October, you can -- I hope Jamie will comment on how we saw October. I hope Lal will comment how they saw October. But I think that we'll be down somewhere in the 6% to 7%. We'll get a little bit better as we move into the second quarter, and then we'll get better and go positives as we go into the third and fourth quarter. This is the same lines that we drew out in the last year in April. The only difference is right now, we clearly have the uncertainty of the election. We clearly have the uncertainty of how the COVID will continue to move and impact the rest of the world. But we feel confident that we can control some of our own destiny for underlying growth and also improvement in profitability and cash flow as we go into '21.

As I look at the Auto Solutions business, and I'm going to turn it over to Lal right now to talk about what he sees, but it's very important to see that I think the momentum will start shifting for you, Lal, as we go through this quarter. I want to take the hats off to you and your whole team in the restructuring. Many people in this phone don't know how hard it is to restructure and do what you're doing. And my hats off to what you've got done. I know what -- how proud you guys are on the team, but this is not easy work. So it's your mic.

[Lal Karsanbhai]

Thank you. Thank you, David, for those words. It's very meaningful for all of us in the business. It was an extraordinary year as you described, and I'm so grateful and humbled by all the efforts and the results that this team delivered. Very proud, as you said.

A few words, if I may, on 2020. The second half of 2020 was weaker than we expected when we first talked, David, back in April as we reset the plan. And we did not see that acceleration in orders in the second half, in the latter half of the year as we expected into Q4.

However, the team did a tremendous job, and I'll call out 5 fronts here: the first being identifying and executing the restructuring programs; secondly, converting $400 million of backlog in the second half of the year, meeting that commitment that we had made; thirdly, growing our life science and medical segment by over $100 million in sales value through the year, that's through participation gains in therapeutics, in vaccine development as well as medical PPE manufacturing; fourthly, stay committed to the digital transformation journey across our business; and then lastly, working very, very diligently on the diversification and software elements of our business, including through acquisition and internal development. So just tremendous work across the business to deliver 26% quarterly adjusted EBITDA leverage and 23% annual adjusted EBITDA leverage on almost $1.5 billion down sales. So great work on the year.

Now turning to '21. We do expect 2 additional challenging quarters in the first half prior to turning positive in the second half of the year as we laid out the plan here. So we are watching 3 key leading indicators in the business. First, the discrete industry orders and the inventory levels in the distribution channels. To David's earlier point, we are seeing some early encouraging signs through September, October, particularly in Europe and China driven by automotive. So that's encouraging to see as we've gone through the first month of this fiscal.

Number two, the manpower presence in customer sites. If you recall, we had talked about back in August at a 40% level of manpower presence. That's moved now into the mid-70s through October. That's very encouraging as there will be a sign of moving from an environment of break fix into further KOB 2 and KOB 3 activity.

And then lastly, and perhaps most importantly, the ultimate bell weather in this business is the rate of our short-cycle KOB 3 business in North America. And then again, as Pete pointed out, it's stable today, but we need to see an acceleration in the core market spending as we go through the quarter and into the second half of the year.

Let's turn then to Page 24. I want to highlight 3 specific segments that performed extremely well over the calendar year 2020. There are over $650 million of sales represented on this chart across the platform. Life sciences on the left grew 15% in 2020. We have the leading DCS position in the life science industry with DeltaV, a position that has been invested in over time through both organic investment and acquisitions. We have over 3,000 DeltaV systems installed in the industry, including 1,200 across the top 20 pharmaceutical companies. The growth has been predominantly in two areas driven by COVID. The first has been therapeutics, and the second has been vaccine development and production, where we are engaged in over 20 of the 160 vaccine efforts underway around the world.

In the middle part of the chart is our medical business, which grew 40% in 2020 driven by two predominant applications: mask manufacturing, where we use ultrasonic welding machines instead of, for example, glue to assemble masks; and secondly, valves and regulators for ventilators and oxygen therapy devices for patient treatment.

And then lastly but very important is our clean fuels and renewable businesses. We are well positioned -- we have a well-positioned portfolio that grew 10% this year to really capitalize on this macro trend. There are 2 key areas here: number one, enabling our core process customers to reach carbon neutrality and predominantly in the power and oil and gas industries; and secondly, we have the technology and application know-how for biofuels, biomethane applications as well as the growing field of clean hydrogen aimed at fuel cells for the long-haul mobility segment. So very encouraging, and we have a significant role to play here, particularly in that hydrogen value chain from production to distribution and utilization.

We turn to Page 25. And I wanted to highlight 4 very significant investments that we made through the year. We continue to be acquisitive and really think about our -- expanding our served markets, diversifying our industry and increasing our software portfolio. So in 2020, we completed 3 acquisitions and made a fourth equity investment. The four investments, American Governor, OSI and Progea as well as inmation, support our strategy to drive end market diversification and strengthen the portfolio as I described.

Our power industry diversification is driven by growth in renewables, hydro turbine controls and grid control and optimization. And we bought an HMI company in Progea that complements the PLC assets that we had acquired from General Electric. It really focuses on the hybrid and discrete segments.

And then lastly, inmation is a German-based, next-generation cloud native and OT data lake, which is a critical element for the continued success of our digital transformation business.

And then lastly, I want to provide you with an update on our project funnel. So the funnel today is valued at $6.4 billion. That's down from the $7 billion when we last reviewed the funnel in April 2020. And David, we did not look at this since that period of time as we went through the last 6 months.

So we have booked approximately $150 million out of the funnel since April to bring the total bookings from the funnel to $400 million for 2020, the significant bookings in Saudi Arabia as well as in the Arctic LNG. As a matter of fact, I would like to highlight the LNG wave. We've spoken at length with the investment community about the 8 jobs that have been committed through this set of wave -- to this wave. We have won 54% of the available automation dollars to date, and there are an additional $600 million to be bid over the next year or so. So a tremendous job across all the automation businesses, but I'll take my hat off particularly to the Final Control business that has participated in every single one of the 8 jobs to date. So a great job there.

There has been about $800 million of value that's been removed from the funnel. The single biggest cancellation is about $200 million. That's a Saudi crude to chemical job that was just moved out. And then we've had about $700 million of projects that have shifted into -- from '21 into '22 and beyond. So that's occurred.

And then the last thing I'll say is $500 million of project additions into the funnel. These are particularly, on average, smaller projects and concentrated in gas globalization in the power generation segment.

[David Farr, Chairman & CEO]

Before we turn it over to Jamie, I just want to thank Lal and the team for a couple of things here. One, major effort on the restructuring cost reductions to get -- driving the margins back up, the peak margin improvement and to drive higher margins in 2021 they're going to have, even though sales are still going to struggle for them in the first half of the year.

But I also want to say that they made sure they made the right investments. As we had site reviews, as we did talks and had WebExes or face-to-face meetings, we made sure we talked about the new products, the next-generation technologies. We wanted to make sure that we continue to make the right investments. They've got the right monies where they need to be to make sure we did not jeopardize the future franchises within this company.

And at the same time, we made some very unique, as you saw, acquisitions that strengthen our hand in many, many core places that we think that will have long-term growth and long-term sustainability from the standpoint of value creation for Emerson and diversification for Emerson. So Lal and your team, a phenomenal job.

So Jamie, your first call, I mean, I hate to say Bob Sharp set it up for you. And now you've got a growth, and you just got to keep the plants open and start growing. You've got a growing tiger in your hands. So here it is, let me -- let's talk about it.

[James Froedge, EVP, Commercial & Residential Solutions Business]

Yes. I was in Asia, working with Lal as we were working through the depth of the COVID impact, and it's great to come back here to see that the team put a tremendous number of investments in place, both in terms of improving our operational capabilities and transforming our structures and our business, so that we can have improved profitability as we grow going forward, but they also invest in the technology. And as we go through these charts, I think you'll see a combination of those two things.

Looking at Chart 27, we saw a return to growth in underlying sales in the fourth quarter of 2020 across many of our product lines driven by strength in the North America residential markets. We also experienced sequential improvement across our businesses as the quarter unfolded.

Trailing 3-month orders in September were 6.4% and will improve to be double-digit as we finalize the October numbers. Residential markets globally typically represent between 40% to 50% of our mix in a given quarter, and North America is by far the largest portion of that.

Inventory restocking across residential segments provided -- is providing additional order sales growth opportunities beyond the demand being driven by home sales and home improvement. So I think we're very well positioned for 5% to 6% underlying sales growth in the first quarter. Second quarter outlook in growth percentage is slightly lower than Q1 as we believe the inventory rebuild restocking activities will start to level out a little bit.

And the North America A/C strength, we think, could continue potentially into fiscal third quarter, given seasonal trends. We see growth occurring in the Europe, heating and A/C technologies group businesses throughout the year and overall growth for the broader European portfolio returning in the second quarter. And Asia is on track right now to return to growth late Q1 or early Q2.

Looking on to Chart 28. Home sales, home improvement, inventory restocking and our operational capabilities enabled strong Q4 North America residential A/C growth. Our strong partnerships with customers' ability to execute have allowed us to capitalize on these growth opportunities. Q1 '21 North America A/C will be up 20-plus percent with greater than 50% growth in the residential space alone.

We've also been investing heavily during the downturn in technology and recently won an AHR Expo Innovation Award. The K7 compressor that you see on the chart will help prepare the industry to meet the new DOE efficiency standards, which go into effect January 2023. And this product line will support multiple refrigerant types, including lower-GWP refrigerants such as R32 and R454B. This product line will serve residential and commercial markets.

On the right side of the chart, you can see the Sensi platform. Our Sensi thermostat sensing and analytics platform continues to outperform and has been recognized in the industry. Additionally, we have lots of exciting features on the way over the next couple of years. So we're very excited about how that space is unfolding.

Moving on to Chart 29. Not only have market conditions created a growth opportunity in our wet/dry vac and InSinkErator businesses, but the investments in improved performance as well as new features, functions and product lines position us well in these spaces. Q4 combined sales for these businesses were up 10%. And as you can see on the chart, we expect an even stronger Q1 performance.

Additionally, our main wet/dry vac competitor SharkVac has created a unique opportunity for us in the market to take our leadership to the next level. We are working very closely with our channel in that space, and we're putting in the appropriate investments to help serve the industry needs and accelerate growth.

Looking at the bottom half of the chart, although the commercial and industrial spaces haven't returned to year-over-year quarterly growth, sequential improvement matched with our investments in new technology provide momentum into the second half of the year. On the chart, you can see multiple examples of products that we launched in fiscal 2020. So the team really stayed focused on innovation and launching new products.

FlexShaft and pipe inspection enhancements in technology will increase our customers' productivity and provide features such as the combined cleaning camera visibility and the ability to see the pipe pitch during inspection. In our next-gen battery tools category that you can see on the right side of the chart, our RIDGID product shown increases cycles to a level 2x the normal time needed for service and provides cycles greater than the tool normally requires, making it essentially service free.

The insulated tool shown can help protect a worker from accidentally cutting a live line up to 1,000 volts, a very unique and new feature for a battery hydraulic tool in this industry. The remote cable cutter product shown, which was awarded the Showstopper Award by the National Electrical Contractors Association allows the user to manage the jobs with a remote control, keeping them safely away from the cutting procedure. In partnering with users of our products, it has really helped us unlock innovative ways to improve their work experience, allowing them to be safer and more productive.

On Chart 30, you can see our focus on product lines that help drive decarbonization served us very well in 2020 with strong year-over-year sales growth in European heat pumps and renewable natural gas compression orders. Multiyear growth in these spaces is expected to continue driven by market trends and in many cases, accelerating subsidy and decarbonization targeted policies.

Just to wrap up, I'd say that given the current market conditions, we do see a solid first half fueled by residential markets, second half growth driven by improving nonresidential markets as those residential markets kind of ease into more sustainable growth rates. But I want to say this, as Dave and Lal said, how so proud I am of the team, their focus on safety, our people's safety, our customers' safety, operational excellence and margin improvement. But I'm really proud of them because they did all those things while maintaining the same intense focus on innovation as they had in all those areas, so that we can return this growth -- return to growth with enhanced products to serve our customers' needs.

With that, I'll hand it back to, David, to you and Pete.

[David Farr, Chairman & CEO]

Thank you very much, Jamie. Again, I want to thank the commercial and residential organization for the work you got done. Bob, in 2018 and 2019 and the first half of 2020 really got into the restructuring. They kept the investments going. We knew that we return to growth. And they are that. But they have -- the return to growth of major new innovation, major new product portfolio is second to none. And I think it's pretty exciting.

The markets are returning. The key issue for them right now is they have several plants within their structure running full out. In the midst of COVID, increased COVID, that's not easy to do. They have plants. They have to keep running and producing at record levels, and we have a major competitor to disappear on the marketplace. He will return, but we don't know exactly when. At the same time, they'll have other industries across their business that will start growing in the second half of 2020. So the team got ready for this. They executed. And I give them high marks.

Before I go to Q&A, just want to make a couple of comments here. First of all, 2020 was my 20th year as CEO, a year that I'll never forget. We started out with activism. Then we launched a massive, massive restructuring effort across the company to drive increasing margins in a tough year. And then we just happen to have this thing called COVID-19 pandemic with a resulting recession around the world.

But the Emerson team rose to this challenge, and we drove, I think, less down sales than people thought. Our earnings minimization of the decreasing was less than people thought. And we drove increased cash flow, a very strong 2020. Some people say, "Well, what are you going to do for us in 2021?" Well, we had a heck of a 2020. We've got a little bit tougher base to come off of, but we're going to make 2021 a better year."

As I move into my final year as the Emerson CEO, I think our plans to drive top line growth, improve margins and earnings and cash flow, as we get into the second half of the year, are very strong and very positive. And we'll be ready to hand this over to the next CEO and his leadership team, and I want to thank everyone for that support.

But we've got a tough 2000 -- 2021 ahead of us. But we -- I think we have a lot of confidence that we can deliver improved sales, earnings and cash flow and turn that over to that next leadership team as Mr. Knight get back to me in early 2020.

So with that, we'll open the mic for Q&A. So let us have it.

[Operator]

[Operator Instructions]. Our first question comes from Jeff Sprague from Vertical Research.

[Jeffrey Sprague, Vertical Research Partners]

Congrats to Jamie. Glad they've had the chance to meet you a few years back in Austin. Good luck in the new position.

[James Froedge, EVP, Commercial & Residential Solutions Business]

Thanks, Jeff. Look forward to seeing you again soon.

[Jeffrey Sprague, Vertical Research Partners]

Yes, absolutely. Well, Dave, I mean, you've been signaling your impending retirement for a while, but you made some pretty explicit comments just there, right? I think, I guess, some of us have nothing better to do than speculating whether you're going to stay around longer and all that sort of thing. So really, my question -- first question is, though, how does this play out? What's kind of the timing of naming your successor? And how long a transition period might there be?

[David Farr, Chairman & CEO]

From the standpoint, that's obviously a Board decision. I mean I'm just one member of the Board as Chairman, Chairman of the Board. But as I basically be communicating, I would say that we will name my successor sometime in late 2021, in second half of 2021. In my opinion, there will be very little transition. I mean it's up to the next CEO, does he even need Dave Farr, the old man around.

We can hear. People would so many -- okay. Someone came in, and said they can't hear us, but I think they can hear us. They -- yes, I thought so. And so I think that what will happen is what Mr. Knight did to me is I got announced. He threw the keys in my chest and said, "It's all yours. I'm out of here." And so I'll probably throw a couple of bats at him and a couple of rally monkeys and say, "I'm out of here. Give me a call if you need me."

And I think that Emerson management team is strong. They don't need old farts like me around. Maybe I know how to fight COVID, maybe I know how to fight recessions, but I will -- my door is always open. My keys -- the house is always open for people to ask me questions. So it'll be quick, bam-bam. And I'm not a big believer in transition. The guys will be ready. They don't need Dave. And so that's where it is right now. But I would say I'm in charge still, and I will most likely name it with the Board sometime in late 2021. That's how it looks right now, Jeff.

[Jeffrey Sprague, Vertical Research Partners]

Yes. We'll definitely miss you when that day comes. I had a question for Lal, too, is just a follow-up, and I'll pass the baton.

[David Farr, Chairman & CEO]

Just assuming I don't die in between now and then, okay, Jeff, okay?

[Jeffrey Sprague, Vertical Research Partners]

Yes. No, please don't. Stay safe. On -- Lal, on the KOB 3, I mean, everything you said was pretty crystal clear. I'm just wondering, though, in terms of dialogue with customers or other indicators that you look at, do you actually have some visibility on when this may begin to turn? And can you just level set us, too, so we have the base correct? What was KOB 3 as a percent of the total mix for 2020?

[Lal Karsanbhai]

Jeff. Yes. Thank you. So KOB 3, right now, we're still crunching the numbers. We'll be close to flat from 2019. That was 57% of sales in 2019. That's what we expect right now. And the reason for that, I actually expected it to come up. The reason it hasn't is that we had a significant drop-off in the latter half of the year, particularly in that short-cycle business, instrumentation and the discrete side and consequently impacted Q3. So it sits at flattish to 2019. That's the way to think through it right now, Jeff.

Now in terms of indicators, there are a couple of others. The shutdown turnaround activity is a very relevant indicator to us of KOB 3 activity on sites. We talked about at the prior earnings call of what occurred in spring and the summer shutdowns. They obviously didn't occur. We have seen reschedule of activity into the fall, and we acted -- actively working those now.

I will tell you that they tend to be more systems-driven upgrades than valves and instrumentation right now. So whether it's cybersecurity upgrades or various other things, that's what they're really focused on. So we haven't seen a tremendous uplift yet in what will drive core device, valve instrument uplift in new orders. So that's another one to watch carefully.

And then last, Jeff, I will mention just it is important what I stress in terms of getting the customer back on site. And we're watching those numbers very carefully, and that will be a telltale sign to activity. But ultimately, as you and I talked, Jeff, in the past, it's got to be demand-driven. You've got to see that underlying demand in the end products come back versus an acceleration. David?

[David Farr, Chairman & CEO]

Thanks. We just -- what we're talking about internally, people who dialed in can hear us, but the people on the WebEx couldn't hear us.

[Pete Lilly, Director, IR]

They can't.

[David Farr, Chairman & CEO]

I think it was with Jeff because I told him I was retiring and stepping down next year. They all cut off.

[Jeffrey Sprague, Vertical Research Partners]

You blew up the website, yes.

[David Farr, Chairman & CEO]

I blew up the website. They said, "Oh my God." Celebrations, people are saying like, "God, we finally got rid of this guy after 40 years."

[Operator]

Our next speaker is Josh Pokrzywinski, and he is from Morgan Stanley.

[Joshua Pokrzywinski, Morgan Stanley]

A couple of questions for me. I guess, first, just looking at the Auto Sol orders and how they've been trending the last few months, not just what we've seen here more recently in September and trying to square that away with the outlook for fiscal '21. And I guess, part of that mix is also considering that you guys said you did a better job of working down some of the backlog. So carrying a little less backlog into the year, if I understand it right. It seems like orders are still a little mushy, and the underlying sales outlook doesn't quite jive with it. What am I missing in that? And what should we watch for that order cadence to really need to pick up to support it? I see the chart in there, obviously, but any milestones that you would really need to hit on?

[David Farr, Chairman & CEO]

I'll give you my two cents, and I'll give the expert, Lal. But -- and my two cents is what we're still watching for is North America, U.S.A. KOB 3. And we are not -- and we're seeing some early life on that and some planned turnaround right now. But we're not expecting anything of substance to return to that until we get into the new calendar year.

So we're going sideways. And then what we expect going to happen is those investments will start unfolding in the U.S.A. We'll start seeing some additional investments in aftermarket and some KOB 2 coming in, allowing us to have a little bit of growth in the second half of the year. So we're watching, and we'll continue to communicate to you all about this KOB 3 when we start seeing it happen.

The problem will be if we get into February, March, April and we don't see any turnaround in KOB 3, if something happens, that will be a problem for Lal and his business. So that's why he has chosen to do additional restructuring in the first half of the year and the first quarter in particular to try to give some protection as this thing -- as we wait for this thing to turn. But that's the way we look at it right now. We've been here before. It is probably a little bit on the -- as we say on the comm, for the second half of the year. But I feel confident that the customers will start spending as we see that capital coming in. So Lal, why don't you go ahead and give what you feel? You're the expert.

[Lal Karsanbhai]

No, I think you're an expert. You said it well, David. We've been running between $38 million and $40 million a day in bookings. And through October, that has not changed. We actually expected to see a drop-off in October. We did not see it. It stayed very stable at $39 million a day in October.

[David Farr, Chairman & CEO]

That's good.

[Lal Karsanbhai]

Which is good, which is good. So David, you're absolutely right. We've got to watch that KOB 3 environment, Europe, North America predominantly and Asia, very telling as to the pace of business as we see those early short-cycle orders come in.

But I will also say that there are elements where we can control our own destiny. We've set very aggressive new product sales goals, our competitive displacement activities that we worked in the power industry and are now working in the chemical segment and then really going after the life cycle and the medical opportunities that are out there in our business.

[David Farr, Chairman & CEO]

So Josh, what we'll do, as you know, we are a company that puts out orders and dialogue. What we'll come in to do, Lal and I will commit to the shareholders right now and obviously, the sell-side analysts here, is we'll continue to put out any dialogue we see on the day-to-day, the daily order number that he just put out there, $39 million a day right now. And also, most importantly, the North America KOB 3. That's what you got to watch. That's what we're watching. And the fact that the plants now are getting a 70% population, that's a good sign. That means they're getting ready, and they'll start spending money. They have to spend money or those plants will have safety or quality issues. And that's not a good thing for the facilities we operate in. So that's what we're watching, Josh.

[Lal Karsanbhai]

And it's perhaps a...

[Joshua Pokrzywinski, Morgan Stanley]

That's helpful.

[Lal Karsanbhai]

Sorry, Josh. Perhaps anecdotal, but I'll throw it out. Customers are actually inviting us into sites, that particular business line in Houston in a couple of weeks. So that's encouraging, again, as we see activity pick up.

[Joshua Pokrzywinski, Morgan Stanley]

Yes. Just a quick follow-up. I heard both Lal and Jamie mentioned restocking in some of their comments. Any sense on what that might be embedded in the guide over the next presumably not more than the next 1 or 2 quarters, but whatever time frame you want to say that that's baked into numbers, how much of that is restocked?

[David Farr, Chairman & CEO]

So yes, I'll let Jamie answer that. But the restocking mostly will be in Jamie's side of the business. Lal only have -- he's watching restocking on the hybrid and the discrete side, the early stages of that because inventories have been taken way down. So Jamie has the biggest restocking going on because the -- his customer base liquidate inventory when we went into COVID, demand came up, and now he's behind the curve. So why don't you do your...

[James Froedge, EVP, Commercial & Residential Solutions Business]

Yes, that's right, Dave. I mean, it's -- I hate to give you a little bit of answer, but it's a little hard to tell right now because these levels were taken down so low historic levels. Big box retailers, the CEOs in those spaces have been very public about their comments about what happened there. They took them down almost nothing. Our A/C industry did the same thing.

So what you have is there's a lot of noise in the system right now as they chase -- people are chasing to restock inventories. There's real demand by home improvement and home sales. And we don't know how long that cycle is going to last. So if you ask the A/C folks, I think right now, how much of this is going to be restocking versus real demand, it's too early to tell because the cycle could run into the third quarter, if you have a hot summer. By the time you catch up to the demand we're seeing right now and you get caught up, all of a sudden, you hit peak season, and it could keep running.

So we're seeing similar things. How long does SharkVac have challenges supplying the industry? Okay, we're not sure yet. So there's a lot of unknowns. And I think we'll have more clarity as we get into the first part of the calendar quarter -- first quarter of calendar year, it will get a little more clearer to us.

[David Farr, Chairman & CEO]

So Josh, what we're looking at right now from my -- this is Dave's expertise from being 40 years in the company and 20 years as CEO is we're adding capacity in Jamie's business right now. I think we have a unique window here to pick up some share. Jamie and his team are -- I mean, the innovation that Jamie inherited from Bob and those guys is phenomenal. And I think that we have a unique opportunity. So we're adding capacity at this point in time. At the same time we have -- we're running at peak levels, we're adding capacity.

Right now, Lal's business is -- we're more interested in getting some of the capacity moved around into a better cost structure, and he's got to get that done because he doesn't want to be in the position that Jamie is right now, where he's trying to do some massive restructuring with capacity moving out.

So we're betting on things will get better in Jamie's business and that the restocking will go and then the paid online business will continue to go, assuming nothing happens relative to the election or some crazy happens with the COVID. But we're adding capacity in Jamie's business right now because we think we'll be better as we get into the second half of this year.

[James Froedge, EVP, Commercial & Residential Solutions Business]

The only other comment I would add is that as you look at our first half outlook for sales, especially first quarter, we are being prudent right now, though, as we assess those orders. So I don't want to give the exact numbers, but just know that as we see the orders unfolding, they're good. As I said, October is a double-digit quarters number. Again, we know some of that's restocking. And so we're being prudent in what we put into the sales forecast at this time.

[David Farr, Chairman & CEO]

But we'll keep you informed as we go forward -- as we go with the order. That's our vehicle to let you guys know think things are better or worse, okay?

[Operator]

Next question comes from Gautam Khanna at Cowen.

[Gautam Khanna, Cowen and Company]

My question is more on how you look at the business with the oil and gas exposure because time and again, we hear from investors that this is not just a cyclical challenge. It's more secular as the world moves to alternative fuel sources and the like, and how Emerson is going to react and position to be ahead of that trend and maybe help in that trend with your customers. If you could just talk a little bit about your perspectives on what might be a structural change and how the company is going to emerge on the other side of it.

[David Farr, Chairman & CEO]

Yes. I mean it definitely is a structural change, Gautam. And if you look at this year's sales as a percent of our total sales, we're going to be down to 23%, 24% as a total company. As we continue to invest in other technologies, as we make acquisitions, we are still a major supplier, a very important supplier, especially in KOB 3, which if you look in the oil and gas industry, our KOB 3 is probably closer to 70%. It's primarily an aftermarket business.

So what we'll do, and we'll talk more about this in February, but we're continuing to make investments in the next-generation renewables, be it hydrogen, be it hydro, be it the investment we made in the -- in OSI power. We continue to make investments around other uses of power and energy to replace oil and gas. We'll continue to do that. But we're not going to -- it's not something you can say, okay, we're going to sell that segment off because a lot of the technologies we use from a DeltaV or sensors or pressure or whatever we're doing are very similar to what we use in other industries.

But I think what you're going to see, we'll continue to serve this industry. At the same time, we'll continue to invest in other technologies. As we talk to the Board today about the innovation we're doing in the medical field and also are doing the sensing field and other -- in the renewable fields, we'll continue to do that. So that percentage will continue to move downwards. We're still -- we're not going to walk away from it. Don't -- we can have a spike as they make investments come back in it, but we fundamentally believe as we look -- show the Board the pieces of the pie of where Emerson is going, it will continue to be smaller and smaller. We'll continue to grow, and we'll continue to make those investments to allow us to have a more balanced portfolio.

I think people are way overestimating how much oil and gas we have in this company and way overestimating the impact as we make this transition. We've been making this transition for some time now over the last several years, and we'll continue to make it. At the same time, we'll continue to make those investments.

So I feel very good on where we are right now. We're working very, very hard with our customers from a renewable standpoint, and we'll share that with you in February, so people are going to have that. But I think people have to understand we as a Board, we as a management team understand we have a very strong presence in oil and gas. We'll continue to invest to try to diversify, but we're not going to walk away from that cash cow that we have from the standpoint of that business segment today.

So I think that from the standpoint of what I see also is the good news happening is the consolidation of this industry. That's going to be good for the short term, and that will help us as people consolidate. But in the meantime, we're continuing to invest to diversify. We'll continue to be a player, but it will be less and less of a player. And I think people overestimate the impact of that because most of that business right now in oil and gas is around KOB 3 aftermarket.

And by the way, if you go look at any forecast for the next 20, 30, 40 years, oil and gas is still the primary source of energy, and it's still growing. It doesn't mean you've got to make more double down on it, but it's still growing, and investments will come back. Got to have -- unless you don't want to have lights. Unless you want to be like California.

[Operator]

Our next question comes from Steve Tusa from JPMorgan.

[Charles Tusa, JPMorgan Chase & Co.]

Speaking of dogs jumping over targets or whatever you used to say, I kind of calculate a bit more tailwinds just mechanically. You do have a bit of a tailwind, whether it's restructuring and some of these other things, buyback. So on kind of flat revenues, a flat EPS number, I know you got a little bit of tax headwind, some of these temporary costs coming back, but is there anything in the mix that we should be aware of? I mean KOB 3 is already kind of down. CR&S is a higher-margin platform that should outperform. So is there anything in the mix or anything like that? You've given us price cost. Anything in the mix that's negative that would be kind of holding you guys back from converting whatever little kind of revenue you get on top of some of these tailwinds?

[David Farr, Chairman & CEO]

No. Okay, Steve. I mean what we try to put forth for our shareholders, we had a very, very strong second half of the year. You know that. I mean our earnings per share, our margins, our cash flow is much better. One of the things that we're all worried about is my concerns about what happens in election, in particular in North America, what happens to the global -- if COVID comes back in our plans and things don't -- investments happening. But you're right. I would say that we put forth what I would call conservative forecast in a somewhat uncertain world. The only bad mix we have coming at us right now that I can tell you about is I know that Lal in the first half of this year, his most profitable business being instrumentation and flow, our -- without the return to KOB 3, he'll struggle, and that's a 60-plus percent GP margin business. So all these cost reductions are very helpful, but 60%-plus GP margin business when it has a struggling in the short term.

But you're right. He's taken additional actions. I think that if we get any volume, our leverage, our upside is there, but I want to make sure that we laid out a foundation forecast for that little -- I have two dogs right now. Both of them can jump a little bit higher than Zorro can do because they're younger. They're only -- one's 2.5 and one's 1.5. So they can jump a little higher. They can jump higher than dad can jump now.

So I think the key issue for us is the only headwind we see is the mix on KOB 3 North America. If we start seeing that turn around, especially around instrumentation and flow, Lal's business will do pretty well. As it is right now, he's targeting internally a 20% deleverage in 2021 as he's got this forecast. But the only thing we're watching very carefully and we'll be conservative about is to see North -- is this North America not turn around in KOB 3. If it doesn't, he's going to have a really tough -- I don't care what he does. That instrumentation and flow business will deleverage pretty hard because he's got it down to the bare minimums at this point in time. So that's the only thing we're really cautious about, Steve. So you're right.

[Charles Tusa, JPMorgan Chase & Co.]

Yes. I guess what I kind of like -- maybe this is just too stupid of a way to look at it. But your sales are down.

[David Farr, Chairman & CEO]

I'd never call you stupid, Steve. I'd never call you stupid.

[Charles Tusa, JPMorgan Chase & Co.]

Your underlying is down. You have your toughest comp in the first quarter, yet your adjusted EPS is going to be flat. And then you're calling for the year to be flat. So it just is kind of like if you're starting the first quarter at kind of flat EPS and that's your toughest revenue comp, it just -- I kind of like struggle with like why you're going to be flat for the rest of the year on an EPS basis.

[David Farr, Chairman & CEO]

I just want to make sure that we -- I'm not trying to be too crazy here. There's so much uncertainty around it in the timing, I think as Josh said earlier in talking about the signs. Our biggest uncertainty right now is the U.S.A. KOB 3, and I did not want to put a forecast out there that really gave us a lot of leverage around KOB 3 and the U.S.A. until we start seeing the whites of those eyes. And so that's why we're being a little bit cautious, Steve. I mean if you go...

[Charles Tusa, JPMorgan Chase & Co.]

Okay. And then one...

[David Farr, Chairman & CEO]

Go ahead.

[Charles Tusa, JPMorgan Chase & Co.]

And then -- sorry, one for Jamie. Congrats, first of all. Second of all, what will your -- why not more of a catch-up on resi, North American resi HVAC? I mean is that just all coming now? Is there a particular -- now that we've seen all the resi guys report, the numbers are obviously very strong. In fact, Carrier up ridiculously. Lennox, you may not serve as much, not up as much. Is there a particular customer out there that you guys serve that may have kind of missed out a bit on this season and is now kind of restocking for next? Like, it's just a little bit strange to me that you guys as a component supplier would be having this big channel fill in kind of the first quarter of this year as opposed to a catch-up in the third or maybe a catch-up in the second going into the third or next year or whatever it is, the next spring. Maybe you could just talk about kind of resi HVAC, what you saw there.

[James Froedge, EVP, Commercial & Residential Solutions Business]

Yes. Look, the A/C orders have been strong going back into June, especially July, August, September. So this isn't brand-new thing, okay? As you know, there's a timing differential between our order rates, our sales rates and when these guys -- our customers are reporting out, and they have a different mix than we do. Actually, Steve, it's quite the contrary to your question. We believe, based upon what our customers are sharing with us and what we've been asked to do to help the industry out, that we're doing very, very well during this recovery.

Now there are uncertainties with everyone's operations. But overall, I think we've done a nice job, maybe better than the competitors on the operations side, and we're being asked to fill some holes. So if anything, it's kind of the opposite of what I think the question maybe implies. So we've seen strong orders now 3, 4 months. We see strong orders going into the next few months and sales following right along. And we've not lost track with any major customers.

[David Farr, Chairman & CEO]

I think it's just a function of trying to keep up with them right now. And we always will lag them a little bit. We'll always lag them a little bit, but I don't see -- our underlying growth rate is the same as their growth rates from the standpoint of components. We're not seeing any problems there.

[James Froedge, EVP, Commercial & Residential Solutions Business]

Yes. I mean you look at...

[Charles Tusa, JPMorgan Chase & Co.]

And then, Dave, just one last quick one. Who did you mention? You mentioned some competitor that's exited the market. Is that -- was that on the HVAC side? Is that Bristol? Or are you talking about somebody on the -- what you said on the automation side, somebody exited or something like that, somebody is not there. Who was it?

[David Farr, Chairman & CEO]

ShopBack. ShopBack went bankrupt. And ShopBack is the #2 player.

[Charles Tusa, JPMorgan Chase & Co.]

Oh, ShopBack. All right. I'll have to add that to my watch list. Okay. All right. Awesome.

[David Farr, Chairman & CEO]

Well, it's a private company, you can't add it to your watch list, let me say. It's private -- it's the major supplier in the industry, and they had half the industry. We had the other half. It's -- so it's going to come back, but I think that we have a window here to pick up some of that business over the next, I would say, the next 6 months before they get their act back together. They literally shut down their plants in Asia, Vietnam and United States right now, and they've been shutdown for probably 30 days. And so that's a unique opportunity for us right now.

But you hit the nail in the head there, Steve. We're -- I want to be very careful with the uncertainty out there. And as we see things getting better, as Lal's business picks back up North America, we will leverage. That's the whole game here. That's what we want to play this year.

[Operator]

Our next question comes from Andrew Obin from Bank of America.

[Andrew Obin, Bank of America Merrill Lynch]

A question on oil and gas. So you did talk about structural change in oil and gas. But the question I have, as your customers sort of think about -- we've seen headlines, for example, Exxon is reducing CapEx to protect its dividend. So clearly, they're thinking about the world differently. What does it mean for what they're going to spend money on going forward? Does it change the mix dramatically? And in particular, does it change the conversation, you have this, if I have it right, top-quartile initiative? How did they change their thinking about efficiency? And as I said, just going back, what do they spend on going forward if there is no more growth long term?

[David Farr, Chairman & CEO]

I'll take a shot in. Lal's there, but I think the -- it is going to change the mix. It's going to change. You're not going to see a lot of new energy resources going to play. What they're going to figure out how to do is get more out of it, more efficiency, more productivity, safety and all those different things which will be good for us. It's a good thing, other than the fact that there won't be any new fields for many, many years for us to deal with from an installed base.

So we'll be -- the KOB 3 will become more and more significant for us, and the upgrades they're going to have to spend around that to be from a productivity and quality and safety issue, which are all good things for us because that's not a jump ball type of big project. It's going to be -- you're going to be mining your installed base. And we have the strongest, the strongest by far of the global service support organization around the world for all the oil and gas industry. And as you know, we've made huge investments in that over the last couple of years, and that will really pay dividends for us as they start changing that mix. But that's why I think what's going to happen is we'll see that industry continue to shrink relative to investments. But our profitability should be pretty good once they start spending that money. So that's the way I see it. Lal, what are you hearing from your guys in the field right now?

[Lal Karsanbhai]

Yes. I think that's right, David. And just 3 things to add there, Andrew. The first is I still believe that we still are executing around the investments for the globalization of natural gas. Methane will continue to be a viable energy source in industry and in power generation combined cycle, and we're seeing those investments continue, be it on Exxon, Shell or anyone around the world. So that's important to note that it's not purely an oil and gas across the board.

The second is the technology investments that drive reliability, safety, smart operations are still -- will continue to be very viable. A lot of those fall within our digital information business, and we continue to see those go forward. And then lastly, Andrew, we talked about a little bit earlier is the applicability of our technology for the decarbonization efforts and for the sustainability efforts that these customers are driving in a very broad set of applications, which we'll flush out in more detail for you in February and highlight. But that's an opportunity for us to change our mix within the customer spend.

[David Farr, Chairman & CEO]

Yes. So all the big oil and gas customers right now are engaging pretty heavy with Stuart Harris and Lal's business profile on digitalization and how they're going to try to reduce their carbon use. And that's where -- that's a benefit to us because it's a sensor business. It's more of a technology business and works. That's our strength.

So as that shift happens, we'll still have pretty good sales, and we'll definitely have better profitability over the long term. So it is a shift that we're all going through, but I think it's going to benefit us as a company, given our presence and our digitalization position and everything we've been doing relative to that over the last 20 years. And I like the hand we have right now.

[Andrew Obin, Bank of America Merrill Lynch]

Got you. And just a follow-up question on Commercial & Residential Solutions. Asia and Middle East & Africa down, just a little bit surprising given the pace of recovery in China. Is it China? Is it something else? And maybe more color on what's happening, specifically what are you seeing in China specifically?

[David Farr, Chairman & CEO]

Go ahead, Jamie.

[James Froedge, EVP, Commercial & Residential Solutions Business]

Well, look, October, there were some positive signs in Asia. But I think it's too soon to say that we've turned a corner. At this point, I still think it's a quarter, maybe 1.5 quarters away. But what you see there is we participate in industries like the hospitality as far as servicing hotels and restaurants and foodservice, food retail. And those industries are industries that are still pretty heavily impacted in China and across large parts of Asia. So although we've got some growth that's come back like our -- we serve some of the appliances in China out of our -- our Therm-O-Disc business has been very good. So there's pockets where we're strong. We've seen some good strength in the residential side. But the cold -- some of the cold chain and some -- especially around food service food retail, hospitality is still a tough, tough market.

However, again, October results were promising. We had positive results in Asia and China. And so we'll see if that's sustainable or if it's just a blip on the radar here. But too early to tell, but some positive signs.

[David Farr, Chairman & CEO]

So Andrew, as you know, we -- our thrust in Asia and the Middle East was all around commercial, not residential. And so those markets have been hurt pretty hard relative to the end markets of this COVID situation. And we continue to develop the new products and new technologies around that. They'll come back. But until we start seeing movement of people, I think you're going to have a struggle there. And -- but I think it will start bouncing back as we go forward this year. Obviously, it's been down, tough for us so you get an easier comp. But more importantly to me is what I'm watching people spend the money on.

Lal bounced back pretty nicely in China and Southeast Asia. Jamie ran that. He probably stuffed the channel before he came back and make a good year. But -- and so Susan Hughes, who follows him, will have a hard time with that, if she ever gets over there.

[Lal Karsanbhai]

She got to work from it.

[David Farr, Chairman & CEO]

She got to work from it? That's fantastic. So I think I'm more optimistic about 2021 in Asia for Jamie than it was last year. I see signs picking back up.

[Lal Karsanbhai]

Yes, it should be a good year. I mean what we're outlooking for the full year is extraordinarily positive. It's just the growth really starts to accelerate kind of more in the second half.

[David Farr, Chairman & CEO]

But it's been disappointing. I would say the second half of '20 was disappointing for us. It didn't come back like it always do.

[Operator]

Our next question comes from Andy Kaplowitz from Citibank -- or from Citigroup.

[Andrew Kaplowitz, Citigroup]

So you've talked about $650 million of annualized cost savings. It's a big program. I think it might be the biggest you've done in your tenure. So maybe you can just talk about -- put it in perspective for us. So you did talk about reaching your margin targets still that I think you set for FY '23, despite $2 billion less of sales. And I think you already answered Steve's question regarding conservatism around decrementals and incrementals. But if Lal's business does turn, does we get to see better than historical incrementals, especially if KOB 3 is coming back faster than KOB 1?

[David Farr, Chairman & CEO]

I'll answer that question right away. It's better or he won't be around, but I might step down. So that was an easy answer to that one. I mean to be honest, he wants it, too. I mean his organization to be -- they've gone through pain, step up, he's doing the first half. I mean he wants to get back to peak margins. He wants to do that. And his whole organization is very much focused on it, but at the same time, not cutting.

So the answer is, yes, you'll get very good leverage as it comes back in the peak margin plan. We presented to the Board. We didn't -- we haven't talked to you this time, but we'll update you. I updated the planning conference group last week with our planning conference where we had 700 people, 600 of them are on the WebEx, and 100 in our conference room live face-to-face.

And then -- but I think the key issue for the restructuring number, it is the largest number. Now the next largest would have been back, I would say, in the year that we broke the -- back in 2002, '03, '04, that time period there, '05, as we repositioned the whole company, as we globalized the company, that would be the next largest. And we had a very strong margin run-off of that if you go back, you look at those historical charts we put out there.

But I think the most important thing we're doing here, we're also going back to the questions people have been asking. We're resetting the industries we're going after, where we're putting the resources, where we're putting our facilities, what type of plans we want to have. And from the perspective of what we're trying to get done with this repositioning, it's not all about margins. It's about how we reset the businesses for the next generation.

And so a lot of that work that both Jamie and the Commercial & Residential side has been doing, the work that Lal has been doing, I said, okay, where does the business go? It's not where it's been, but where does it go? And so that's why what he's looking at, a lot of it's restructuring and the online type of technologies, the online customer base, that's moving. Where do I want that to be? And that's why it's such a massive number. I think that what we're trying to do is reset like we did back in 2002, '03 and '04 and then had a hell of a run all the way -- through all the way as we set those some peak margins. And I think that that's what these guys are trying to do right now. It's heavy lifting, but it's resetting the company structure for a different Emerson, for different industries, different customer base and different services as the company continues to transform.

And that's not easy to do because you've got to go debate with everybody saying, "Why are we doing it this way?" And so I think that -- I think Lal and Jamie are set up when they finish this to be a good run. So I think...

[Lal Karsanbhai]

Andrew, I think you know he said it well. We didn't want to waste the opportunity. And it's not purely about taking costs out. It's about thinking about how we can do business differently, the way we're resetting the platform and how we interface with our customers and how we interface internally as an organization through this process. And that's really what this is.

A heavy element of that is also realigning our vast cost structure into Eastern Europe, Mexico and Asia, a very important part of this journey as well. So both components are very well thought out. Our entire plan runs across 17 different individual tracks of execution that we manage month to month and has been done very, very well with the leadership of Ram and others across the organization.

[David Farr, Chairman & CEO]

Yes. We're trying to totally reset Automation Solutions. I mean there's not as much of that with Jamie. There's a little bit of that, but it's been far more with Lal's business because we know Lal's business, as we've been talking about, there will be different customer base, different customer needs as he thinks forward 10, 15, 20 years from now. And that's what this is, a reset.

[James Froedge, EVP, Commercial & Residential Solutions Business]

Yes. On the commercial side, it's different SG&A profile. And so as Dave said, we did take out around 11% of SG&A head count over the last few years because the business wasn't growing in '19 either. And there'll be a little that comes back, but there's still a lot of work that we're doing that we're able to get done on the facility side. So our footprint, and to Lal's point, where the footprint is and how efficient that footprint is to serve our markets, how regionalized we are, we'll be able to do 6, 7 years' worth of work in 2 or 3 years. And so, like Lal said, we didn't want to waste the opportunity, and it's going to pay huge dividends for our business going forward.

[David Farr, Chairman & CEO]

And that's why I keep telling everyone out there thank you very much because that's not easy to do in the middle of a friggin' COVID recession pandemic.

[Andrew Kaplowitz, Citigroup]

Very helpful. And then just talking about free cash flow, it probably doesn't get talked about enough, but I mean, obviously, strong conversion in Q4. Can you talk about how you're thinking about sort of the puts and takes of working capital as you go into '21? Obviously, you mentioned a little bit more CapEx. But again, good conversion going to continue.

[David Farr, Chairman & CEO]

Okay. So 2021 is going to be a fun one. We've set ourselves up for a very challenging 2021 because, obviously, we really performed well in the second half of the year in operating cash flow and free cash flow. We almost set a new record as free cash flow as a percent of sales at 15.1%. I think all-time record is probably around 15.5%, 15.6%.

The big issue for us, Andrew, it's going to -- Andy, has got to be around we need earnings. We need earnings because what's going to happen as the year progresses, our balance sheet is -- other than a little bit of extra inventory that we brought in to make sure we protected our customers from a channel standpoint and a supply chain standpoint, we're in pretty good shape on the balance sheet. So what's going to happen is that balance sheet is actually going to get bigger from a working capital standpoint because we're going to be growing in the second half of the year.

So the way for us to get back to the very challenging operating cash flow and free cash flow number next year, which will still be very, very good, is we've got to get higher earnings because as we -- as Frank and I have communicated to all the lead people out there, earnings is going to drive cash flow this year, not the liquidation of the balance sheet. In fact, the balance sheet is going to go the opposite way.

So this is -- we thought last year was a lot of fun. This one's a higher degree of difficulty for the operating people because they're going to try to figure out how to not to put a lot of working capital on but they're going to have to put some on because our receivables are growing, our inventory will be growing a little bit but at the same time, how we get more earnings. So now if we want to keep a $3 billion or $3.1 billion in front of the operating earnings or cash flow next year, we've got to really work hard on the earnings side. It's not going to be on the working capital side. And that -- and everyone has been communicating. Frank's been beating everyone up on that one from the standpoint of CFO. We can see that, period.

[Operator]

Our next question comes from Julian Mitchell from Barclays.

[Julian Mitchell, Barclays Bank]

I'll keep it quite brief. Maybe just two quick ones. So one would be for Jamie, and welcome again to this forum. But what are your thoughts around the operating...

[David Farr, Chairman & CEO]

Forum?

[Julian Mitchell, Barclays Bank]

Yes. I think a virtual forum, perhaps the -- how is the operating leverage in the business this year? You've got that mid-single-digit-plus sales growth. What kind of incremental margin should we expect? And any big variation through the year? And then the second question would just be for Lal around China. How did that business finish up fiscal '20 in Auto Sol? And what's the expectation for China in fiscal '21 in your business, please?

[David Farr, Chairman & CEO]

Okay, Jamie?

[James Froedge, EVP, Commercial & Residential Solutions Business]

Yes. I mean it will be somewhat just north of 30%. And exactly what number will be, it will depend a little bit around -- on the mix and all the other factors. But it will be in that range, and so we feel very positive about it.

We've not lost any momentum on the cost actions that we're taking, and those are going to continue throughout the year. So we feel pretty good about that. I don't look at the year right now and say, well, this quarter, we're fine. This quarter, we're not. Price in the mine was very good for us. Last year, it's good for us in the first quarter. It gets a little tougher as the year develops, but we knew that. We've known that. And that's normal for our cycle, and so we've got plans around it.

So I don't see anything extraordinary at this moment as the way of the cycle. We have profitable businesses growing right now. We have other profitable -- very profitable businesses at a similar profit profile that start to grow in the second half. So right now, that's the way the plan looks.

[Lal Karsanbhai]

So yes, Julian. On China, the first -- obviously, we had a very significant downturn in the second quarter, fiscal quarter of the year. But the market recovered very aggressively in the second half. We ended up flat for the year in China destination sales for 2020. So it was a flat, but as Jamie will tell you, hasn't been there, it felt like a plus 10 or more because of the tremendous second half work and what our teams have to encounter on that $1 billion-plus business.

Now looking at '21, I'll give you a range of plus 1 to plus 4, somewhere in there, is where I'm landing right now. I think there's some positives in chemical, life science, automotive, as I said earlier, and that's offset by some challenges around power generation and refining. So the plus 1, plus 4 is where we're working at right now. I think it will be low single digits. It may turn better as we go through the year.

[Operator]

Our next question comes from Joe Ritchie from Goldman Sachs.

[Joseph Ritchie, Goldman Sachs Group]

So I'll just keep it to one question since we're bumping up against some time here. But like just if I look at your portfolio, you guys referenced, especially within Automation Solutions, some good growth on the hybrid and discrete side. Just talk to us a little bit about how you feel about the portfolio there and whether you need to add on via M&A, just given some of the growth that you're seeing, especially, whether it's on medical or life sciences. Or do you have the right portfolio in place today to go after the opportunity?

[David Farr, Chairman & CEO]

From our perspective, as we went through Lal and his team this year from a strategy standpoint, we are acquirers in this space. We would like to add more, again, help us diversify into the hybrid space. We've been doing some software acquisitions, not many hardware at this point in time. We have the primary software. We would like to continue to acquire in the space to help us diversify and also drive a little bit faster growth.

It's a tough market right now to do it, but we're outlooking pretty hard. And we're trying to shake it out. And I know Lal has his wish list, working with Mark Bulanda and the team there. So we are acquirer in this space right now, and we will continue to push that pretty hard from that perspective.

I know Lal is very interested and has a very strong preference to that from that standpoint. So anything else you want to add?

[Lal Karsanbhai]

No, you mentioned it earlier, David, I think that's well said, but there's also internal development ongoing in this space, including single-use devices for pharmaceutical bioproductions. So that's very relevant as well. So it's a combination, too, but absolutely acquisitive in that segment, and we'll continue to do that.

[David Farr, Chairman & CEO]

A lot of investment in that area right now, try to make that more relevant and more significant for all of us. So with that, I want to thank everybody for joining today. It was an amazing year. It's quite an unusual year as we wrap up 2021 -- our 2020 as move into '21. I want to again thank everybody out there for attending today and talking. I apologize, we lost our webcast -- WebEx, I guess, webcast for everybody. So the -- I guess...

[Pete Lilly, Director, IR]

For a few minutes, but the recording will be available.

[David Farr, Chairman & CEO]

The recording will be available. Unfortunately, it tells you that Mr. Farr is stepping down or something like that. So you can't go back and change that.

But I want to appreciate everybody for joining, and I want to thank everyone for this year. And we're looking forward to have a very good 2021 in an uncertain time, but we feel good about going into '21 based on what we got done in self-help in 2020. We got a strong team at the top here. We got Jamie here, Lal here, Frank and everybody else working around here. So we're looking forward to have a great year and making another record year for us in '21.

So thank you, everybody, and look forward to seeing everybody soon.

[Operator]

This conference has now concluded. Thank you for attending today's presentation. You may now disconnect.