RRX - NYSE

Good day, and welcome to the Regal Rexnord Fourth Quarter 2025 Earnings Conference Call. [Operator Instructions] Please note this event is being recorded. I would now like to turn the conference over to Rob Barry, Vice President, Investor Relations. Please go ahead.

Great. Thank you, operator. Good morning, and welcome to Regal Rexnord's Fourth Quarter 2025 Earnings Conference Call. Joining me today are Louis Pinkham, our Chief Executive Officer; and Rob Rehard, our Chief Financial Officer. I would like to remind you that during today's call, you may hear forward-looking statements related to our future financial results, plans and business operations. Our actual results may differ materially from those projected or implied due to a variety of factors, which we describe in greater detail in today's press release and in our reports filed with the SEC, which are available on the regalrexnord.com website. Also on the slide, we state that we are presenting certain non-GAAP financial measures that we believe are useful to our investors, and we have included reconciliations between the non-GAAP financial information and the GAAP equivalent in the press release and in these presentation materials. Turning to Slide 3, let me briefly review the agenda for today's call. Louis will lead off with opening comments and overview of our fourth quarter and full year performance and the discussion of our recent data center wins. Rob Rehard will then present our fourth quarter financial results in more detail and introduce our 2026 guidance. We'll then move to Q&A, after which, Louis will have some closing remarks. And with that, I'll turn the call over to Louis.

Thanks, Rob, and good morning, everyone. Thanks for joining us to discuss our fourth quarter results and to get an update on our business. We appreciate your continued interest in Regal Rexnord. Before we get into the quarter, I want to provide you with an update on the CEO search. The Board Search Committee has been working diligently and our process is progressing as expected. We will update you as new information becomes available. Now on to our results. Our team delivered solid fourth quarter performance, ending the year on a high note. Fourth quarter aligned with our expectations on adjusted earnings per share. We saw tremendous order strength and a backlog exiting 2025 up 50% versus prior year giving us extremely positive momentum as we begin 2026. While our Data Center business is clearly performing exceptionally well, we also saw healthy orders in other parts of our business, especially Discrete Automation and Aerospace and Defense. Before continuing, I want to take a moment to thank our 30,000 Regal Rexnord associates for their hard work and disciplined execution, in particular, driving our new product pipelines, our cross-sell initiatives and building our commercial funnels to drive stronger and more profitable growth. Now let me provide some specifics on our fourth quarter performance, starting with orders. Orders in the quarter on a daily basis were up 53.8% versus prior year and book-to-bill was 1.48. In the quarter, we booked orders worth approximately $735 million for our new e-Pod solution, which comprises our proven power management content including switchgear, automatic transfer switches and power distribution units. You may remember, we discussed e-Pods on our third quarter call when we mentioned an opportunity funnel worth over $400 million and $1 billion funnel for our Data Center business more broadly. In Q4, we also built momentum in Discrete Automation, which saw orders grow 9%; in Aerospace and Defense, with orders up 21%; and in IPS, where orders grew over 3% and which we believe reflects outperformance in end markets that were challenged by a sub-50 ISM. Excluding the large e-Pods orders, our enterprise orders grew 2.7% in the quarter. Shifting to sales. Our sales in the quarter were up 2.9% versus the prior year on an organic basis, demonstrating accelerating organic growth. We saw particular strength in AMC, which grew over 15% organically. The AMC team did an excellent job executing its backlog and benefiting from share gains in its largely secular markets. We saw weakness in PES in the quarter, which was more severe than expected given headwinds in the residential HVAC market. IPS continued to achieve steady growth, outperforming sluggish industrial markets. Turning to margins. Our fourth quarter adjusted gross margin was 37.6%, up 50 basis points versus the prior year. Our teams overcame tariff and mix headwinds with continued strong execution on synergies, good price realization and benefits from volume leverage. Adjusted EBITDA margin was 21.6%, roughly flat versus prior year, reflecting our gross margin expansion, volume leverage and disciplined discretionary cost management, which offset higher growth investments. Adjusted earnings per share for the quarter was $2.51, up 7.3% versus the prior year. Lastly, we generated $141 million of free cash flow in the fourth quarter. We ended the quarter with our net debt leverage coming down to 3.1. In summary, a strong fourth quarter characterized by solid adjusted EPS growth, exceptionally strong orders and a rising backlog giving us positive momentum as we begin 2026. At the beginning of a new year, it is always good to reflect on the success of the prior year. In 2025, our orders grew 15.5% for the year on a daily basis, led by AMC up 53%; followed by IPS up 4%; and PES, which was down 5%. Sales for the year were up 80 basis points on an organic basis with acceleration as the year progressed, strength in aerospace and defense, discrete automation, energy, data center, commercial HVAC and an incremental $90 million of cross-sell and powertrain synergies were partially offset by headwinds in general and industrial and medical. Turning to margins for 2025. Our adjusted EBITDA margins were 22%, roughly flat to the prior year on a comparable basis reflecting good execution in a tough operating environment. Our teams overcame headwinds from tariffs, rare earth magnet availability and mix, by effectively executing on synergies worth at $54 million in addition to price realization discipline and good discretionary cost management. Adjusted earnings per share for the year was $9.65, up nearly 6% versus the prior year. Adjusted free cash flow was $893 million, including the ARS program we launched in second quarter. Our cash flow allowed us to pay down over $700 million of debt in 2025. In summary, I would characterize 2025 as a year of executing a wide range of growth initiatives, which are starting to pay off, giving us increasingly positive momentum. It was also a year of achieving margin stability in the face of external pressures outside of our control. As we enter 2026, I believe we are extremely well positioned, in particular, giving traction on our growth initiatives. One of these initiatives in the data center market is where I'd like to turn next. On this slide, we are providing additional details on the orders we received during fourth quarter for our e-Pods offering. As discussed on our third quarter call, these turnkey power management solutions, which we launched in early 2025, are designed to expedite data center construction by making the installation of power management content more plug and play. The pods, which are tailored to specific customer needs, comprised content drawn from our long-standing power management portfolio which include switchgear, transfer switches and power distribution units as well as from our thermal management offering, which includes hermetic motors and air-moving solutions. Regal is also project managing assembly of the pods, including content from third parties. So part of our value proposition is providing a single source of contact for the customer and allowing customers to procure a suite of power management content with a single SKU. As you can see on this slide, we were awarded orders for e-Pods with a base value of approximately $735 million. So why are we winning this business? It starts with our 50-year track record of quality and performance in power management. Our product solutions are tried and true. Second, our customization capabilities. This is a differentiator for Regal and ability and willingness to customize the system design to best meet the needs of our customers. Third, the strength and durability of our supply chain relationships, which help enable the next success factor, our high service levels around on-time delivery and lead time. Equally important, we have shown across our business an ability to support high service levels, while manufacturing at scale. Another driver of these wins, the scale and scope of Regal Rexnord. Orders of this magnitude are facilitated by the backing of our $6 billion enterprise. Customers value our ability to balance agility and velocity with disciplined execution as they contend with a feverish pace of AI-driven development. In short, we are seeing the power of our evolved Regal Rexnord portfolio to support differentiated growth. As part of the new Regal Rexnord, what was a $30 million power management business 5 years ago and a $120 million business today, has a defined path to roughly $1 billion in sales over the next 2 years. Viewed more holistically, these wins demonstrate that our enterprise growth strategy is gaining momentum, in particular, investing to address rising demand in targeted secular markets. We are working the strategy in many areas, which is where I would like to turn next. On this slide, we highlight key secular growth verticals where we are directing the majority of our new product, e-commerce and channel investments. In the middle column, we provide examples of new products we have launched to address relevant customer needs in each vertical. And on the right, we highlight a few notable examples where we are seeing traction in the marketplace. We already discussed e-Pods in the data center market. Our electromechanical actuators for the emerging eVTOL market which we developed through a partnership with Honeywell is another great example. Various third-party forecasts are calling for significant growth in eVTOL unit volumes in the coming years, and we are well positioned with over $200,000 of chipset potential per plane. Next, our Kollmorgen Essentials product which launched at the end of 2025, where we are leveraging our motion control technology for the ultra premium market in an offering designed for the much larger, high- and mid-premium market segment. Initial market reception has been strong, and we believe we are on track to meet our goal for $50 million of sales from this new offering by 2028. Finally, we have developed a range of differentiated solutions to support robotic actuation, which spans humanoid, cobots and robotic surgery applications. Our teams are currently working an opportunity funnel in excess of $200 million across these applications and have already been experiencing strong double-digit compounded growth in robotic actuation in recent years. The common theme here is Regal Rexnord making a range of growth investments in the high potential secular market, which are starting to pay off. What we are experiencing in data center is one, more advanced example. Positively, we see tremendous additional upside as both our offerings and earlier-stage markets such as eVTOL and humanoid continue to mature. And with that, I will turn the call over to Rob.

Thanks, Louis, and good morning, everyone. Now let's review our operating performance by segment. Starting with Automation and Motion Control, or AMC. Sales in the fourth quarter were up 15.2% versus the prior year period on an organic basis, which was ahead of our expectations. The performance reflects broad-based growth but with particular strength in data center, in Aerospace and Defense and in Discrete Automation. We would attribute the strength to underlying end market momentum in these secular markets as well as to our outgrowth initiatives, including cross-sell activities, which continue to gain traction. I would also point out that the medical market was flat after 4 quarters of destocking-related declines. This is another secular market where we are extremely well positioned with high-margin, technology-rich products and are very happy to see this market appearing poised to improve. We continued to face headwinds in the quarter related to rare earth magnet availability, but these were in line with our expectations and our plans to secure alternative sources of supply are on track. Turning to margins. AMC's adjusted EBITDA margin in the quarter was 20.5%, which was below our expectations and down roughly 1 point versus the prior year. While we were pleased to see the team overexecute on its backlog during the fourth quarter, some of the incremental volume, which was weighted to OEM versus distribution sales, created mix headwinds. Orders in AMC in the fourth quarter were up 190%, primarily reflecting the large e-Pod orders, Louis discussed earlier. Excluding the e-Pods orders, AMC's orders were up 19.2% versus the prior year on a daily basis, primarily reflecting the strength in Data Center, Aerospace & Defense and Discrete Automation. Notably, orders in Discrete Automation were up just over 9% in the quarter and are up about 6% on a rolling 12-month basis, reflecting growing momentum in this market. The momentum we are building in automation bodes well for our growth and margin outlook given the above-average conversion rate on these products. January orders for AMC were up 3.9% on a daily basis. Now before I leave AMC, I'd like to emphasize that the growth we saw as we exited the year reinforces our belief that the strength of the markets served, along with our differentiated products and solutions, help set up AMC to consistently achieve the mid- to high single-digit growth that we expect from this segment. Now turning to Industrial Powertrain Solutions, or IPS. Sales in the fourth quarter were up 3.7% versus the prior year on an organic basis, which was in line with our expectations. The growth was broad-based, but with particular strength in the metals and mining and energy markets. We are encouraged by this performance, which we believe evidences share gains given the ISM remain in contraction as we exited 2025. In particular, the IPS team continues to work our various cross-sell and powertrain initiatives, and we can see these results showing up in our performance. Adjusted EBITDA margin for IPS in the quarter was 25.7%, within our expectations and just below the prior year. Performance versus prior year was impacted by weaker mix, the impact of tariffs and higher growth investments, partially offset by continued strong synergy gains. Orders in IPS, on a daily basis, were up 3.3% in the fourth quarter, the sixth quarter in a row of positive orders growth for this segment, which contributed to the backlog ending the year up 6% versus prior year. Book-to-bill in the fourth quarter for IPS was $0.96. January orders were down 0.5% on a daily basis. Turning to Power Efficiency Solutions, or PES. Sales in the fourth quarter were down 10.7% versus the prior year on an organic basis, which was below our expectation. The shortfall was due to weaker performance in residential HVAC which we would attribute primarily to more severe channel destocking after the A2L regulatory transition, which was partially offset by strength in commercial HVAC. Speaking further on the residential HVAC market, it is important to note that if you follow the AHRI market volume data, central air conditioners were down about 26% year-to-date through November, but Regal was only down about 7%. We don't believe all of this is due to share gain, but 2025 was clearly a year of strong market outperformance for PES in the resi HVAC space. Turning to margins. Adjusted EBITDA margin in the quarter for PES was 15.6%, which was above our expectations and up 30 basis points versus the prior year. This strong performance, achieved despite challenging end market conditions, reflects both strong cost management by the team as well as mix benefits. Orders in PES for the fourth quarter were down 15.9% on a daily basis, directionally consistent with views we had previously articulated tied to channel destocking and weak consumer and housing metrics. Book-to-bill in the quarter for PES was 0.91. January orders in PES were up 3.8% on a daily basis. Turning to the outlook on Slide 12. The table on the left outlines our principal assumptions for 2026. Starting with sales, our guidance assumes growth of roughly 3%, comprised of 1 to 1.5 points from the large data center project we have won and roughly 1.5 points from price, which is largely tariff related. Outside of data center, we assume that volume growth across all other end markets is roughly flat on a net basis. Several of our end markets have the potential for stronger growth in 2026, and we were pleased to see the January ISM above 50, which has generally been in contraction territory for roughly 3 years. That said, one month does not make a trend, and we are intentionally adopting a more measured approach at the beginning of the year. This allows us to carefully monitor developments and make adjustments to our assumptions and guidance only when justified by new information or changing market dynamics. For example, we would like to see the ISM remain above 50 for a sustained period of time before becoming more constructive on our market growth assumptions. Another area we are carefully monitoring is our Data Center business. We continue to actively pursue a robust pipeline of bids, which could translate into orders eligible for shipment within 2026. Additionally, as delivery schedules for the e-Pod orders already secured are finalized, there is the possibility that some of these sales may be recognized in late 2026 rather than in our current plan for 2027. Should these factors materialize, they could offer upside potential to our existing guidance. However, until delivery dates are confirmed, we will maintain our prudent and measured outlook. Our adjusted EBITDA margin is forecast to rise 50 basis points to 22.5%. The increase reflects our mid-30s incremental margin applied to the growth we are forecasting. Note, that while we fully expect to realize $40 million of cost synergies this year, we are treating those as a contingency against unforeseen P&L pressures, which we believe helps derisk our guidance. The table also outlines relevant below-the-line items. These assumptions result in an adjusted earnings per share guidance range of $10.20 to $11. The low and high ends of the range factor a combination of slower or faster top line growth and to a lesser extent, modestly lower or higher adjusted EBITDA margins. The midpoint of the range of $10.60 equates to approximately 10% adjusted earnings per share growth. For 2026, our cash flow guidance is set at approximately $650 million. This figure reflects our need to invest in working capital throughout the year to support the robust growth occurring in our data center business. Finally, regarding tariffs. Our guidance embeds all current tariffs in place today. It also reflects the recently announced update to India tariffs. With this update, our annualized unmitigated impact is now roughly $155 million. Consistent with our previous views, we expect to be dollar cost neutral on tariffs cited by the middle of 2026 and to be margin-neutral on tariffs by the end of this year. On Slide 13, we provide more specific expectations for our performance by segment on revenue and adjusted EBITDA margin, for the first quarter and for the full year. Let me flag a few key assumptions that should help with modeling. One, we assume modestly lower revenue in the first quarter relative to fourth quarter, largely reflecting normal seasonality across our businesses and expected destocking pressures in residential HVAC in PES. We expect annual sales to be weighted roughly 49% to 51% between the first half and the second half of the year. Second, we expect enterprise adjusted EBITDA margins to be roughly 21% in the first quarter and to improve sequentially, tied primarily to improving tariff-related price cost, improving mix as we gain top line traction in our AMC segment and other cost productivity actions. A more steady sequential trend is expected for IPS and AMC, while PES margins are seen tracking at a cadence similar to what we saw in 2025 with a peak in third quarter related to seasonality. Lastly, we expect first quarter to be the low point for adjusted EPS due to all of the items I just discussed. And for our adjusted earnings per share to be weighted roughly 48% to 52% between the first half and second half of the year, which is comparable to the weighting we saw in 2025. As I reflect on our guidance for the year, I believe we have outlined a compelling and achievable plan that delivers improved top line growth, some margin expansion and double-digit earnings per share growth. We attempted to balance our strong orders momentum, higher backlog, ample secular growth opportunities in markets largely at or near trough demand and a path to further margin expansion with a degree of measured prudence. This view anticipates persistent weakness in global industrial markets and volatile global geopolitical and trade policy environments. For example, our guidance does not embed any improvement to the 2025 ending ISM. Rest assured, our teams remain focused on executing the many compelling opportunities in front of them, and we are confident we can deliver a year that result in meaningful value creation for our shareholders. And with that, operator, we are now ready to take questions.

[Operator Instructions] The first question comes from Mike Halloran from Baird.

So can we start on the data center side of things and the e-Pods wins? Maybe frame it up in a couple of ways. One, how do you think about the margin profile of this type of business? Is it comparative to the segment level as well? And then secondarily, could you just walk through what that opportunity looks like and frame it from here? You're talking about north of $1 billion last quarter. This is a $735 million transaction. It gets you pretty darn close to that. So what does this look like? What does this run rate look like from your perspectives? And how to think about the opportunity set after we just got such a great order number?

Yes, Mike, thanks for the question. I'll start with the second question first. We're thrilled with the $735 million order, and we talked about a $400 million funnel in the last quarter call and so clearly, we outperformed here. We want to build on that, and we believe we have the capability to do that. And hence, part of the reason why we started expanding capacity and announced our capacity expansion in the last quarterly call. So we feel good about the offering here in our future potential and that it will grow from here. Now specific to margins and specific to these projects, these orders, we would expect adjusted EBITDA margins to be in the 20%-plus range. Our content is a little less than 50% of the bill of material, and we would expect our normal gross margins there. And then we are being compensated a fair margin for the product that's being sourced and then assembled and sold as the e-Pods. So again, expect adjusted EBITDA margin to be in the 20%-plus range, but then expect also that in time as we drive productivity and supply chain actions that we would expect to ramp that program margins as well. Hopefully, that helps.

Yes. No, it did, certainly. And then if you ignore the data center side of things and we think back to where we were on the third quarter. Within the Industrial businesses as a whole, do you think you're seeing the right trend and trajectory to support a recovery? I know Rob's commentary said PMI 1 quarter -- 1 month doesn't make a trend, and it's not embedded in guidance necessarily any sort of improvement from here, but I'm curious if you're seeing the right signs in what you would point to in your business to support that?

It's mixed, honestly, Mike. We ended last quarter and our OEMs started accelerating, distribution slowed down. We didn't see much change of that in January, although we feel good about our order positions of January and our ability to make our guide for the year, but we didn't see a change of that. We are optimistic about the strength of the ISM coming out of January. But we'd like to see a couple more months of that strong together and then a little bit more strength in the distribution channel as well before we say we think we're on a path to strong recovery. But based on our measured approach to our guide, we feel really good.

The next question comes from Julian Michael -- sorry Mitchell from Barclays.

Maybe my question -- you've given very good color on the top line. Maybe my first question would be around the margin outlook. Because I guess the margins were sort of down or flat to down in AMC and IPS in the fourth quarter. It looks like the first quarter is similar, year-on-year decline with solid revenue. Just trying to understand within IPS and AMC how we should think about the margin improvement trajectory through the year? And kind of tied to that, what are you expecting or assuming on price cost, just given what's been happening with metals prices, chip prices and so forth? Just trying to understand what kind of operating leverage step-up we might get later in the year? That would be helpful, please.

Yes, Julian, thanks for the question. Let me start with a little bit. I think AMC is more of the story here than IPS and that IPS, we still see some strong margins moving forward and feel really good about where we're going there. I think AMC is one -- let me spend a minute here. Fourth quarter product and channel mix certainly were the main factors. For example, we saw some slowdown in distributor sales into the year-end as customers -- we saw them as managing the balance sheet. So that certainly played in. And we're seeing just stronger project growth. So for example, food and beverage, especially in Europe within our conveying division is one where we're continuing to see more volume that has a little bit lower margin profile. The bottom line is until we lap the mix impact from the medical and discrete automation side of the business, which is largely tied to rare earth magnet availability, we're going to continue to see a bit of pressure on our AMC margins. Now as you go into the first quarter of '26 and move to the back -- into the back half, the first half of the year, and especially in the first quarter, we do expect to see continued pressure related to rare earth magnets, especially in AMC, and that is, again, going to impact our medical side, in particular as well as some Defense and Discrete Automation. So that will continue. However, as we move to the back half of the year, we do see that improving. And overall, for the year, we see that at the midpoint, AMC margins should improve by about 40 basis points. Again, we are not embedding that any improvement in our mix at this time because we are using our current mix to project future margins. So that we just haven't embedded anything new. There is opportunity for that to improve. But at the same time, this is a business that we are going to continue to look to grow. And therefore, we do see that it could take a little bit longer to get back up to that range that we provided at Investor Day. There are really a few key things that need to happen in order to hit that number, which is about 24%-or-so. Number one, we need some more volume. Number two, we need the mix, especially in medical and defense and distribution to get back on track, which I just talked about. Rare earth magnets are about 50 basis points of headwind through '25. We need -- that's expected to go away midyear. Great. That should help us out. And then tariff margin becomes -- tariffs become margin neutral by the end of the year. That's really what needs to happen in order to get back to that 24% range. Now from a tariff impact and you asked a little bit about price cost, our assumption right now remains. Midyear, we will be price/cost dollar neutral, end of year until we get to margin neutral.

That's very helpful. And then just my follow-up. You mentioned sort of costs of growth and fully understand that approach, and you've laid out very clearly on the P&L margins. Maybe on the free cash flow side, I think you'd alluded a couple of times late last year to a $900 million-ish free cash number for this year. I think the formal guide is $650 million. So just trying to understand the delta there because it looks like the revenue and EBITDA outlook is pretty similar maybe to what you thought a couple of months ago. So just maybe flesh out that delta in the free cash flow assumption today versus maybe what you were thinking a couple of months ago?

Yes. I think it's a great question, and let me draw it out for you. It really comes down to 2 main things. One is the investment that we're making that you just talked about in -- especially for this data center business. We expect about $50 million to $100 million of investment there as we move through the year. That's embedded in our current cash flow projection. The other is we really -- at the time we set that the forecast or the close to $900 million expectation, quite a bit has changed in terms of the current supply chain landscape primarily due to tariffs and rare earth and all these things, the uncertainties that we're dealing with on a daily basis. We are taking a more measured approach to setting guidance for 2026, and therefore, we have created really a guide that we think we can absolutely hit without a lot of additional working capital benefit. So we reduced our working capital impact that was in the prior forecast by roughly half. And that's the other side of what took down the guide from the prior $900 million to the $650 million. Again, it would be closer to $750 million-or-so, if it wasn't for the working capital, the investment we're making for data centers. So hopefully, that helps. It really is just those 2 things, and it's all around working capital.

The next question comes from Jeff Hammond from KeyBanc Capital Markets.

Yes. So just back on this e-Pod. It looks like you're going to ship all of this $735 million in '27. Is that correct? And then just on Slide 7, maybe just level set us on individually or collectively, how you think what your percentage of mix of business is kind of in the secular growth bucket?

Yes. So Jeff, we do not have a firm schedule at this time. The expectation is that we would start shipping in beginning of 2027. We'll probably hang over a little bit into '28. There's also a possibility it could pull a little bit into '26 as well. So as we get more firm path, we would expect those orders would ship over a 15- to 18-month period in total. Specific to Slide 7, we talked about 40% to 50% of the markets that we serve are secular markets. Now with this data center opportunity and our acceleration of growth, that's just expanding. And so this is why we're putting so much investment in these specific markets is with new products and solutions and commercial initiatives, and we feel that this is going to help accelerate our growth for the future.

Okay. Great. And then just on this rare earth dynamic. It sounds like -- I just want to understand how buttoned up it is in terms of kind of coming to resolution. I know it's a headwind, maybe 1Q into 2Q, but maybe just talk through resolution? And then ultimately, how much you can get back from the headwind you had in '25?

Yes. Really, everything is proceeding as we talked about coming out of our third quarter call, Jeff. We remain on track to mitigate the majority of the exposure by end of '26 with a combination of alternate sourcing, so sourcing outside of China, shift to HRE-free alternatives that don't require China approval for export as well as permissible exports. So that would be magnets that we can ship as well as subassemblies that we can ship out of China. Right now, we're absolutely, from a supply chain perspective, on path. What we're working with, though, and it's especially in the defense area, as you can imagine, any time you make any kind of change in the components of the bill of material, you have to go through a validation process. And so we're working with a number of our OEM partners to get through that testing. And I would say it's going pretty much as expected, a little faster in some customers, a little bit slower in others. So that's what we're working through. I feel the teams are all over it. They're managing it well. And we should be -- well, we are improving as we -- every quarter getting more product and supply and the ability to ship more. We do not feel that we have lost any material levels of share here. If anything, we feel like our supply chain has been very solid. But again, you got to think about the markets that we're applying these products to. The medical market and defense markets, in particular, where the validation process for our products are pretty onerous. And so once you're embedded in the platform, you stay on the platform. And so the teams are doing a nice job, and we feel like most of this will recover by the end of the year, for sure.

The next question comes from Kyle Mendez, [ Randy ] from Citigroup.

This is [ Randy ] on for Kyle. Just starting with automation, I mean, the strength in orders again in this quarter was good to see. I was just hoping you guys could give us some color on the underlying demand trends underpinning those orders and maybe bifurcating between some of your new products and the robotics opportunity between some of the more traditional automation markets and how to frame up the shippable backlog for 2026 in automation would be helpful.

Yes. So thanks for the question, [ Randy ]. Our orders were up roughly 9% in the quarter on automation. Our 12-month rolling is up about 6%. We talked about the Kollmorgen Essentials product launch in the quarter. We feel really good about that gaining momentum and acceleration. But the reality is we only saw about $1 million of orders in the quarter from that. And so it wasn't a big part of the 9% up. We continue to gain traction with humanoid OEMs and selling our subassembled [ axis ] solutions. And so from of our expectation is double-digit growth in robotics. We've seen that for the last few years, and we expect to see it for the next few years as well. Hopefully, that helps.

Yes. Got it. That's very helpful. And then just shifting over to PES. I mean it sounds like destocking was a little bit more than you expected in the fourth quarter. So just curious as to how that informs your outlook for resi HVAC in particular in 2026? And what is your confidence level and some of that pressure starting to alleviate in the second half of the year?

Yes. So our outlook really doesn't change, even though we saw more pressure in fourth quarter than we thought. We are expecting resi HVAC to be down high single digits for 2026. The compare in Q1 is a tough compare for us. So the biggest part of that down is coming in first half, with some rebounding in the second half. At some point, this business -- when you think about the market, it was down significantly in 2025. And so when you ask me the question of your confidence in the second half, the confidence comes from the compare. It doesn't come from our ability to forecast this market effectively. And so hopefully, that's a helpful perspective.

The next question comes from Tomo Sano from JPMorgan.

Regarding robotics actuations and $200 million-plus pipeline, could you share the latest developments and your expectations for orders in 2026 and 2027, please?

Yes. No, we're really excited about our pipeline. We're excited about the new products we're launching, Tomo. When we talked about the Kollmorgen Essentials that moves us into a much larger TAM market. But right now, we're not suggesting anything different than what we've said in the past, which is low double-digit growth. There's also lots of potential in humanoids, and that's gaining traction. But it's a little early for us to say it's going to accelerate. And so although we were really pleased with the order rates we saw in 2025, we feel we're nicely and well positioned with a number of OEMs in North America, but we're not going to provide any further guidance than low double digits for our automation business right now.

That's a helpful. And just a follow up on your net leverage target for 2026. And how are you thinking about the capital allocation priorities, please?

Yes. The net leverage target for 2026, as the guidance would suggest is about 2.7x by the end of the year. It means that by mid part of the year, we should be right around 3x. And then we're starting to year about 3.1 coming out of last year. From a capital allocation standpoint, we would certainly continue to prioritize debt pay down as we move through the year. Of course, we have other capital priorities as well as we've talked about earlier today in some of those investments that we're making in inventory and the like. So we expect to continue to do that and invest in great CapEx projects with very quick paybacks. But overall, that's the way we're thinking about it, and we'll continue down that path until we get to kind of our communicated range that we talked about, our target is less than 2.5x, until we start doing something that might include some other options on capital allocation.

The next question comes from Nigel Coe from Wolfe Research.

Covered a lot of ground. So going back to the e-Pod, just want to -- just tie that one up. So I think you said 20% EBITDA margin sort of like as what you expect. I'm guessing gross margin would be sort of like closer to the [ 30% ] there. But is that sort of like we expect to realize on an average basis or where you expect to be on a -- kind of as you ramp up and go through the learning curve because, obviously, this is a fairly new business for you guys. So I wouldn't expect you to be 20% on day 1. Just maybe clarify that. And secondly, do you have raw mats inflation protection here because, obviously, steel prices could move around pretty crazy between now and then. So just wondering what sort of protection you have on raws?

Yes. So actually, Nigel, we should start out at around 20% and then improve from there. But we don't see this as getting much beyond where our targets are for the AMC business. But our margin potential looks like it's going to start at around 20%. Specific to hedging. We do hedge. We hedge for steel. We hedge -- sorry, we hedge for copper and aluminum. You're right that we -- steel would not be one that is on our program. But we feel good about how we plan to hedge for this project. And we've embedded some risk around the supply chain and inflationary risk in the program. So right now, we feel good about the 20% margin starting point and then growing from there.

Great. And congratulations on the order, fantastic news. And then maybe just a follow-up on the CEO succession. Obviously, it's now been several months in progress, so just wondering where you are on finding the person to fill those big shoes?

Yes. No. As I said in my prepared remarks, the Search Committee has been working hard at this, and they're making progress. We're down to a select few and so our expectation is that we should be able to make an announcement in the near future.

Next question comes from Joe Ritchie from Goldman Sachs.

So I'll focus my questions on the ePod offering. So Louis, I'm curious -- I know you referenced multiple data center projects, but I'm curious, are you selling into multiple customers, too, or is this one single customer? And who are your customers? Are you selling directly into just the integrators or the co-locators, hyperscalers? Just any color you can give to that would be great.

Joe, thanks for the question. Consistent with our prior practices though here, we're not going to provide a lot of detail. And of course, we have confidentiality agreements in place as well. And so we wouldn't be able to provide specifics. But you answered the question correctly. We are selling into co-lo, hyperscaler. It is multiple customers and multiple data center projects in North America.

Okay. Great. That's helpful. And then how do I think about like the content per megawatt? So it's a big number, right, the $735 million. How many like -- what content per megawatt are you actually providing with these e-Pods? And then also, I'm just very curious, is this mostly for like low voltage, medium voltage type switchgear and other power equipment that's going inside it?

Yes, Joe, it's a great question. And unfortunately, I'm not going to be able to answer the first part of the question. I don't have the specifics there. But as we've talked about in the past, Regal has low-voltage and medium voltage switchgear, paralleling switchgear, low-voltage power distribution units and automatic transfer switches. Our part of the bill of material is around 40% to 50%. The other part of the bill of material is going to be things like the container, UPSs. And so that's what makes up the project offering. I'll make sure that I'm better prepared next time, though, on the power question you asked. But hopefully, that gives you a little perspective.

The next question comes from Christopher Glynn from Oppenheimer.

Sticking with the e-Pods still. So $735 million out of a $400 million pipeline a few months ago. Curious if you could provide any color on what that pipeline looks like now? And could we see another quarter of orders like this or even more than one over the next year?

Yes, Chris, I appreciate the question. And my answer right now is likely not. The pipeline is about $600 million in size for all of our data center business. But when you think about capacity and the fact that we're pretty filled up through '27. I don't expect large orders. But I say that and our sales teams for this business are incentivized to grow this business beyond the projects that we've already won today. And so do expect that this is going to be an area of focus for Regal and that we will talk about data center opportunities for many quarters to come.

Okay. And then I'm not sure if you gave the CapEx guide, I'd like to hear that. And also on the $200 million-plus robotic automation funnel, are you incumbent there? Is that funnel stuff you're already specified on?

So I'll take the second part of your question and pass the first to Rob. The $200 million funnel, the answer is, yes. We are on some of it. We already specified on some of that funnel. And then others, we're working in building relationships. I just saw a report recently from one of our -- from our team on humanoid, as an example. There's 10 key OEMs that we're targeting in the U.S. 3 of them, we are on their platforms, and we're selling subassemblies. 7 of them, we're still working on getting integrated. And so -- my answer on the $200 million, although, maybe a little more detailed than you needed, was that it's a mix.

Great. And from a CapEx perspective, we're looking at about $120 million in CapEx in the year, primarily to support growth and then some of the SCOFR activities or supply chain realignments that are currently in the plan to achieve the $40 million of cost synergies. That, as I stated earlier, are not embedded in our current guidance, but gives us a degree of risk mitigation, if you will, as we approach the year.

Okay. And then separately, and you said IPS backlog was up 6% year-over-year?

Yes, that's correct. Coming into the year, IPS' backlog is up 6% as compared to the same period last year.

This concludes our question-and-answer session. I would like to turn the conference back over to Louis Pinkham for closing remarks.

Thank you, operator, and thanks to our investors and analysts for joining us today. My closing message today is simple. Our growth strategy is working, and we are gaining momentum. This is apparent in our improving organic sales growth and in our tremendous order and backlog growth. And we see so much more opportunity ahead of us as we continue to execute our growth playbook across our secular market with additional upside to the extent our end markets improve. Encouragingly, we are seeing early positive signs in a number of key markets. In short, I believe we are better positioned than ever before to create increasingly significant value for our stakeholders in 2026 and beyond. Thank you again for joining us today, and thank you for your interest in Regal Rexnord.