Xylem Inc. Aktie

Welcome to Xylem's Third Quarter 2026 Results Conference Call. [Operator Instructions] Please note this event is being recorded.

I would now like to turn the conference over to Mr. Gregory Giometti, Senior Vice President, Investor Relations and FP&A. Please go ahead.

Thank you, operator. Good morning, everyone, and welcome to Xylem's Third Quarter 2026 Earnings Call. With me today are Chief Executive Officer, Matthew Pine, and Chief Financial Officer, Andrea van der Berg. They will provide their perspective on Xylem's third quarter results and discuss the fourth quarter and full year 2026 outlook. Following our prepared remarks, we will address questions related to the information covered on the call. I'll ask that you please keep to 1 question and a follow-up and then return to the queue.

As a reminder, this call and our webcast are accompanied by a slide presentation available in the Investors section of our website. A replay of today's call will be available until midnight, November 10, and will be available for playback via the Investors section of our website under the heading Investor Events.

Please turn to Slide 2. We will make some forward-looking statements on today's call, including references to future events or developments that we anticipate will or may occur in the future. These statements are subject to future risks and uncertainties such as those factors described in Xylem's most recent annual report on Form 10-K and in subsequent reports filed with the SEC. Please note that the company undertakes no obligation to update any forward-looking statements publicly to reflect subsequent events or circumstances, and actual events or results could differ materially from those anticipated.

Please turn to Slide 3. We have provided you with a summary of our key performance metrics, including both GAAP and non-GAAP metrics. For the purposes of today's call, all references will be made on an organic and/or adjusted basis, unless otherwise indicated, and non-GAAP financials have been reconciled for you and are included in the Appendix section of the presentation.

Now please turn to Slide 4, and I will turn the call over to our CEO, Matthew Pine.

Thank you, Greg, and good morning, everyone. Thank you for joining us. Before I begin, I'd like to welcome Andrea to her role as CFO of Xylem. Her deep knowledge of our business provides important continuity as we continue to execute our strategy. The third quarter reflected a mixed operating environment. Demand for water infrastructure and technology remains strong. which was evident in our order performance during the quarter. Across the markets we serve, the long-term drivers of water investment remain firmly in place.

Near-term conditions were more challenging with revenue coming in below our expectations as certain projects move more slowly than anticipated, and utility customer spending decisions took longer to materialize amid a more cautious and deliberate spending environment. While those near-term factors affected revenue, our healthy order performance and solid earnings results reflect the greater resilience we built into Xylem.

Through the operational excellence and portfolio actions we've been driving, we're better positioned to navigate short-term variability while staying focused on long-term growth and value creation. Today, we're taking another step in focusing Xylem on growth. This morning, we're announcing our intent to divest Applied Water International and Specialty Flow Control, which is our beverage and marine business, while also moving from 4 segments to 3 beginning in 2027. These actions are rooted in a simple objective, continue applying our 80/20 principles to sharpen Xylem's focus around the businesses and end markets with the strongest growth and margin potential.

The assets we intend to divest are noncore to our long-term strategy or operate in markets that are less aligned with where we see the greatest opportunities for growth. We believe exiting these businesses strengthens the portfolio and increases our ability to invest in higher-growth, higher-margin markets that are shaping Xylem's future. At the same time, moving to 3 segments reflects the company we're becoming. The 4 segment structure served us well as we integrated Evoqua and executed the first phase of our transformation. However, the new structure better aligns the company around how customers move water, treat water and measure and optimize water systems. It enables us to accelerate value creation, capture synergies across the portfolio and operate with greater speed and accountability. Together, these actions reflect our determination to proactively advance our transformation plan and position Xylem to accelerate growth while continuing to expand margins over time.

Most importantly, we're rotating our exposure to higher-growth, higher-margin opportunities. Over the last few years, we've deliberately reshaped our portfolio towards markets with stronger underlying growth, more attractive economics and compelling long-term demand drivers. Businesses like Cornell Roper, WaterFleet and TriOS have historically grown at rates above our target growth rate and our additions to expand our presence in attractive high-growth industrial verticals.

As we continue rotating the portfolio, proceeds from divestitures and other capital sources will provide additional capacity to execute against our capital allocation priorities and help to further increase our exposure to these higher-growth, higher-margin markets. We're already seeing tangible evidence of that momentum. Amazon provides a strong example. What began with digital water replenishment efforts through Xylem view in Mexico is now being commercialized globally and more recently, treatment solutions for data center infrastructure projects at scale. Today, the relationship engages multiple parts of our portfolio and demonstrates the value of our differentiated platform.

And recently, we secured a significant win with a new customer and 1 of the world's leading semiconductor manufacturers, providing advanced ultrapure water treatment technology for a critical U.S. fabrication facility. This breakthrough win demonstrates our competitiveness in the high-growth microelectronics sector. These are the types of opportunities that validate our strategy and reinforce our confidence in where we're headed. The long-term demand drivers for water remain intact. Our portfolio is becoming more focused, our exposure to higher-growth end markets continues to increase, and the actions we're announcing today position Xylem to accelerate organic growth while creating additional opportunities for margin expansion and value creation in the years ahead.

With that, let me turn the call over to Andrea to discuss the quarter in more detail.

Thanks, Matthew. Please turn to Slide 5. As Matthew mentioned, revenue results fell short of our expectations, largely due to lower MCS book and ship volume and timing of WSS capital projects. However, the strength of our operating model enabled us to deliver earnings in line with our guide. Despite some near-term volatility, overall demand remains healthy. Orders were strong, up 10% versus prior year, driven by water and gas metering strengths in MCS and data center orders in AW.

Our ending backlog grew 13% to $5.5 billion versus prior year. sequentially up roughly $200 million, and our book-to-bill for the quarter was above 1. Revenue was roughly flat to last year on an organic basis, largely driven by lower MCS metering, WI treatment and WSS. Together, these more than offset continued strength in North America transport and data center execution. Through productivity improvements and price, we more than offset the impact of inflation, lower sales volumes and mix to deliver earnings in line with our guidance.

The team's operational execution delivered quarterly EBITDA margin of 23.9%, up 70 basis points versus the prior year. We also grew EPS 5% compared to last year to $1.44, excluding any benefit from IEEPA tariff refund. Year-to-date free cash flow was $444 million, slightly below last year, mainly because of working capital and investments in outsourced water contracts. We expect working capital improvements in the fourth quarter. Net debt to adjusted EBITDA increased to 1.1x, driven by our opportunistic share repurchases in the quarter.

Let's turn to Slide 6. Across the segments, the common theme was healthy underlying demand with different revenue conversion dynamics by business. For Measurement & Control Solutions, demand remains healthy, supported by strong customer engagement a book-to-bill of 1.16 and backlog of approximately $1.3 billion. Orders increased 30% in the quarter, driven by large water and gas metering awards with deployments largely scheduled for the second half of 2027 and into 2028. While these orders reinforce our confidence in the long-term growth outlook, we are seeing greater caution and shorter cycle demand. The affordability pressures that have weighed on electric metering are now extending into water metering purchases.

Although these purchases are generally funded through utility operating budgets, replacement timing is more discretionary than mission-critical repair and maintenance activity and water infrastructure. As utilities continue to manage inflation, interest rates and affordability concerns, some customers have slowed the pace of these purchases. We continue to believe the issue is pace rather than demand. Customers remain committed to these investments and our strong value proposition, but are progressing more deliberately than prior periods.

Revenue was down 5% on a tough compare with 11% growth last year, driven by softness in electric metering and analytics. EBITDA margin of 24.5% was 270 basis points higher than the prior year, driven by favorable productivity, price and the divestiture of international metrology, partially offset by inflation, volume and mix.

In Water Infrastructure, orders were down 1% in the quarter, driven by delays in treatment order intake and continued China headwind, partly offset by strength in transport orders in the Americas, where OpEx funded demand remains healthy. Revenue was down 1% as growth in transport was more than offset by lower treatment revenue, reflecting 80/20 walkaway actions in China headwinds. EBITDA margin for water infrastructure of 26.2% increased 180 basis points with productivity and price more than offsetting inflation, volume and investments.

In Applied Water, orders grew 15% and book-to-bill was above 1, lifted by data center wins and strength in Americas Commercial business. Data center orders in Q3 were again up over 200%. Revenue grew 9% versus the prior year, primarily driven by strength in U.S. commercial buildings, including data centers. EBITDA margin declined 40 basis points against the strong prior year quarter. as inflation, mix and growth investments more than offset productivity volume and price.

Our planned divestiture of Applied Water International and Specialty Flow Control will strengthen the financial profile and durability of island as these 2 businesses represent roughly 9% of Xylem revenue on a run rate basis. for less than 5% of company EBITDA and reduces our exposure from China from approximately 2% of Xylem revenue to 1%. This divestiture supports our continued strategic portfolio rotation towards margin-accretive high-growth industrial verticals.

In Water Solutions and Services, demand remains healthy. Orders increased 6% in the quarter, led by continued strength in capital. Funnel activity remains strong across capital and services. Revenue declined 2% year-over-year. certain large capital projects rent more slowly than anticipated, and we're comparing against the prior year quarter that grew double digits on onetime service and capital work. We view this as an issue of timing rather than demand. Segment EBITDA margin was 24.9%, down 140 basis points versus the prior year, driven by inflation, lower volume and mix, partially offset by price and productivity.

Now let's turn to Slide 7 for our updated full year and fourth quarter guidance. As we've discussed, underlying demand remains healthy as reflected in our orders and backlog in the near term, however, demand is converting to revenue more slowly than anticipated. The municipal markets, affordability pressures are leading some utilities to defer more discretionary purchases. We've stayed close with our utility customers and remain confident that federal funding is not a major factor. In industrial markets, demand is solid, with some large capital projects are ramping more slowly than we anticipated. As a result, more of our backlog is now scheduled to ship in later periods.

With that, we're lowering our full year revenue guidance to reflect lower revenue conversion in MCS and WSA. Based on our current visibility in both water and electric metering markets, MCS is expected to decline modestly on a sequential basis in the fourth quarter and stabilize at that level for the near term. In WSS we expect to return to low single-digit growth in the fourth quarter. The improvement from the third quarter, but below our prior expectations as large project timing continues to weigh on revenue. Full year reported revenue is now expected to be down roughly 1% year-over-year at $8.95 billion, with organic revenue roughly flat to last year versus prior guidance of 2% to 3% growth.

Despite the top line challenge, our disciplined execution is still expected to result in EBITDA margin of roughly 23.2% or 100 basis point expansion versus the prior year, driven by productivity and price more than offsetting inflation as well as investments for growth. As a result, we now expect full year EPS of $5.40 to $5.45 compared to $5.55 to $5.70 previously. The reduction reflects lower volume as we continue to hold margin and remains within our original EPS guidance for REC for the year. We now expect free cash flow margin of about 10.2% at the low end of our prior range, driven by higher interest costs from financing the Cornell and Roper acquisition and our opportunistic share repurchases.

Now drilling down on the fourth quarter. We anticipate revenue will be down roughly 5% on a reported basis and down 1% to 2% organically. We expect fourth quarter EBITDA margin to be roughly 24.5%, which is up 130 basis points driven by price realization and productivity gains. We expect these results to yield fourth quarter EPS of $1.39 to $1.44. While more of our backlog is now scheduled to ship in later periods, we exited the third quarter with strong demand indicators and remain confident in our competitive position.

With that, please turn to Slide 8, and I'll turn the call back over to Matthew for closing comments.

Thanks, Andrea. The long-term demand drivers for our business remain strong. Water challenges continue to intensify, infrastructure needs continue to grow, and customers remain focused on reliability, resilience and sustainability. While near-term spending decisions have become more cautious, our customers continue to tell us the same thing. The need to invest in water infrastructure, resilience and efficiency has not changed.

At the same time, Xylem is fundamentally a stronger company than it was just a few short years ago. We strengthened operations, sharpen the portfolio and build greater resilience across the business. The actions we're announcing today represent the next step in that journey. They further focused Xylem on the businesses, technologies and end markets where we see the strongest opportunities for growth and value creation. We remain confident in our strategy, confident in our positioning and confident in our ability to create long-term value as these opportunities continue to unfold.

With that, let's open up the call for your questions.

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

Welcome back, Andrea. So a couple of questions here. First, maybe help just drill in more with the dichotomy you're seeing between what was good order patterns, the more broad-based commentary of decent underlying strength with some of the air pockets you're seeing in the short term in terms of whether it's conversion timing or just some of the softness in the utility spend given some of the inflation and spend challenges. How does that play out as we work into next year?

Are we going to be seeing some softness emerge in the front half versus back half? When does this type of thing normalize as far as you're concerned? And just kind of any context on the contrast between those 2 points that you've been making?

Thanks, Mike. As you mentioned, we had really strong orders in Q3, and that was primarily driven by MCS as well as data centers and Applied Water. Overall, though because of the timing that we're seeing on MCS orders, especially on the book-to-bill portion of the metering business, that tends to be more discretionary, although we won significant projects in Q3 that drove that orders growth. However, those projects are slated for the end of 2027 going into 2028. As well with WSS, we saw great demand. We had a strong funnel, 6% orders growth in WSS. And where we saw the sequential backlog growth in WSS was in WSS drove the biggest portion of that $200 million of sequential backlog growth. However, that WSS tends to be lumpier and some of those projects were booked either at the end of Q3, and we still have a strong funnel going into Q4. So in general, it's about timing of when those WSS capital projects support growth in going into next year.

I'll hand it over to Matthew to give a broader view of revenue going into 2027.

Thanks for the question, Mike. So yes, just elevating into thinking about '27 from a revenue perspective, I frame revenue into 2 buckets, the areas where we have strong visibility to growth. And I would say the other area is where timing is the main variable. On the growth side, we continue to see momentum in AI-related infrastructure and data center orders. But still, I'd say, relatively small, but growing quickly, supported by a stronger growth profile in Applied Water than we've historically described. So you can think about that in '27 as being Applied Water historically above where we've typically been. .

Also, we feel really good about water infrastructure. Transport remains very durable given the break-fix nature of the business. And in treatment, we're lapping much of the 80/20 headwind in China headwind from this year, and that really disproportionately affected 2026. The second bucket, as we think about 2027, where the watch item is and remains a variable is primarily in M&CS and WSS as Andrea was talking about in M&CS, we have strong order activity, projects are scheduled for the back half of '27 and into '28, but the shorter cycle water maturing business remains a little softer.

In WSS, the funnel and orders are strong. The pace of large project conversion will really determine the growth cadence. We have a nice step up from Q3 to Q4, and we expect that momentum to carry into '27 as we exit Q4 of this year. So in general, I'd say we like the underlying setup for '27, but we're going to give you a more precise framework when we provide guidance in February.

And then maybe just some thoughts on where you are in terms of the portfolio journey from here. Obviously, a couple of noncore divestitures, resegmentation actually makes a lot of sense. But let's break that into 2 buckets. One, how much more larger-scale divestiture opportunity do you see from here? And two, when you think about the more run rate E20 revenue work that you've done, the 2 points of headwind this year, how does that second bucket then translate on a forward basis? Are we towards the end of the journey on either of those 2 different buckets? Maybe just kind of help with the thought process from here? .

Yes. Maybe on the first, just at a high level, we continue to evaluate the portfolio to make sure it aligns with our long-term strategy and the needs of our customers. And I would say at the moment, we're focused on the divestitures we announced this morning around Applied Water and International, especially Flow Control. But it's something that we obviously look at pretty consistently. Obviously, we look at that with the Board, and we'll continue to do that as good hygiene.

In terms of 80/20, maybe I'll just elevate and talk about the broader transformation of Xylem first and then get a little bit more double click into the details. But 80/20 is really part of a broader transformation of Xylem. Phase 1 has really been about executing over the past 3.5 years on improving our operating model. And I've talked a lot about, that's very comprehensive. That's our culture, our processes, systems and structure. And maybe just a couple of things I'd like to point out that are, I think, really good testament to our success there is, I'll start with safety, because we always start with safety and quality. Our safety injury frequency rate is down 34%, very significant and approaching world-class. Our on-time performance is 700 basis points of improvement. Our days of inventory outstanding has improved by 22%. Our margins were up 600 and our SKU count is down 40%. So 80/20 is a part of a broader operating system, but it's not all that we do to execute on our transformation.

Now obviously, we'll continue to do that, but we're really focused on Phase 2 and 3 of our journey, and that's about building the growth engine of the company, and it's about optimizing our portfolio. And you can see that in the actions that we announced today. As far as 80/20 goes specifically, it's well embedded into the functions, the segments and divisions of our company now going into year 4. That's led centrally by Tom Pettit, our Chief Operations Officer. And we plan to be at our peak walk away this year at 2%. And into '27, we see this probably 50 to no more than 100 basis points of headwind. And obviously, we'll continue to see margin improvement from that.

The next question comes from Andy Kaplowitz with Citigroup.

Andrea, congrats on the role. Maybe just back to MCS and how to think about as you go into 27, I think, Andrew, you mentioned of MCS projects you burn later in '27 that's fine. But obviously, as you talked about, have a pretty big backlog. So if we break down water versus electric metering, any more color you can give on the respective end markets and when you might see that book and ships start to reaccelerate? Is some of this may be election uncertainty? Like how do you think about all that? .

Yes. Thanks, Andy. So as we mentioned, we had really strong orders in MCS up 30%, but the backlog is still down or is down year-over-year. But when you peel that back, water metering within our backlog is up by 13%, and it sequentially increased as well. So we're seeing really good strength in our water metering business. but the book-and-bill portion of that business has been softer and it's for projects that are more later dated in the end of 2027 into 2028. So we'll continue to monitor the booking book-and-ship business portion of the business and how those projects, whether they accelerate earlier or deferred later, which is why we said, overall, it's strong demand, but it's pushing out into look to CS revenue is sequentially around Q3 and Q4 levels going into the first half of next year. And then it will all be about whether those projects stay on track and the book and ship business recovers and accelerates from there.

That's helpful. And then one, Andrea, maybe a similar question on WSS. Some I know you've mentioned delays, but obviously, a lot of that business seems to be well positioned given the markets it serves. So why are you seeing these delays? And what's the unlock to sort of get these larger projects going to go forward? Is it rates exposed? I mean what's going on sort of in these industrial markets? Because I think you should see acceleration at some point here. .

Thanks, Andy. So we are seeing benefits from the industrial cycle. It shows up first in our pipeline and then orders and then later in revenue. Our WSS business as a portion of capital projects that tend to be lumpier. The majority, as I mentioned, the majority of our sequential backlog improvement was within WSS. It's just all about when those convert those orders get converted into revenue as well as some of the later pushouts of some of these projects in Q3 also impact Q4, which is why we previously guided WSS high single digits in Q4 and now that will be low single digits because of the timing of these larger capital projects. But overall, we're still seeing very strong demand as Matthew mentioned. We highlighted 2 large customer projects, and we expect WSS over the long term or in short term, medium term to be at mid-single-digit growth rate.

The next question comes from Joe Giordano with TD Cowen.

Maybe just the resegmentation. So we've had some moves in the past. I just want to understand, like from a customer standpoint versus like a Xylem internal standpoint, because I thought like moving the rental like a dewatering stuff into WSS was to keep that whole segment kind of run on this service, rental type basis and now bringing in like the treatment stuff which is more capital sales seems a little bit against that. And I'm thinking like from a utility standpoint, you're probably buying flight pumps and then treatment stuff, and now you're buying it from 2 different segments. And does this like complicate it in some ways as well, even though it streamlines down to 3 segments from 4?

No, I think it's a natural evolution, Joe, of what we've been working on. We were highly metricized before, and you'd have a lot of finger-pointing and not a lot of accountability into like I said in my prepared remarks, for segment, 16 divisions with much more accountability. And that's worked well for us as we integrated Evoqua. And we did, to your point, make the dewatering business integrate into WSS, that will not change. So really taking a step back, too, when we looked at that transformation, 80% of our customers buy from 1 division. And so buy from multiple divisions, but a lot of them don't even know it.

So when you think about water infrastructure, transport and treatment are very different. You've got mechanical kind of electromechanical pumping and then you've got biological treatment, and those are very different customers. within a utility. And sometimes, they're not even the same utility in a market. So we have a process when we do have overlap where we do have internal lead sharing. We built an enterprise selling team over the past 2 years that also works at kind of an enterprise level calling on these types of customers when we can have a more holistic solution-driven conversation. But that's really the 20% of our business, if you kind of put it in 80-20 terms. The new structure really just better aligns the company on how customers move water, treat water, measure water, optimized water systems.

For me, it's about bringing together shared technologies, Joe, in end markets enables us to unlock greater value across the portfolio and operate with greater speed and accountability and a sharper focus on growth. And maybe just a couple of examples that I wrap this up. As we pivot to more industrial exposure, we do see a lot of overlap in WSS and WI today and within WI and Applied Water. And a good maybe example of this is evidenced in the Cornell Roper deal. I'd walk into meetings and we would have 2 and sometimes 3 segment presidents in the meeting. And as we look at our pipeline, we are cultivating targets where there's multiple segments involved. And by aligning this way, it's just going to make us much more efficient as we execute on our portfolio and get better focus.

And the second thing I would say is there is significant R&D synergies when you think about a treatment portfolio and a transport flow portfolio, where we align pumping and treatment into discrete segments. And there's operating synergies as well. For example, our castings, a lot of that is outsourced in Applied Water today by bringing flow together in our pumping business, we think there's a lot of in-sourced opportunities that give us more economies of scale. And so the last thing which is a benefit from this as well is eliminating the WI segment support cost. So there's a lot of, I would say, outweighing very positive than any of the negative of moving this way and our customers actually will be much more benefited by the structure.

And just a follow-up. Matthew, you mentioned your excited about like the former water infrastructure growth into 2027. Orders look like they're going to be flat to down this year. So that kind of surprises me. Like historically, normally like orders kind of that rate this year, it kind of means growth pressure next year. And then Andrea, if you could just comment on the margin profile of the stuff you're booking in MCS now versus like what you're currently putting up in margins for that segment? .

Yes, no problem. I mean in terms of water infrastructure, transport remains very healthy. I mean I talked about 80-20 walk away in China. That's been a big drag on some of the orders. We lapped that in Q4. And I have meetings with the treatment team and looking at our backlog coming into Q4, we feel really confident that we can get WI to mid-single-digit growth, but even treatment into potentially mid- to high single digits as we exit the year. So I think there's really good momentum.

There has been some delays in terms of those projects maybe being pushed out 4, 6, 8 months. Some of that has to do with how the utilities are bidding this project kind of contractor manager at risk, which is kind of making them go a little bit slower. But in general, we see momentum there as we exit the year.

And Joe, on the MCS margin profile, 1 of the biggest drivers of the margin profile that will benefit MCS is on the international metrology divestiture. And then also, as I mentioned, on water projects, water metering backlog was up sequentially, and it's up year-over-year. So we continue to see strength on water metering. It's just that book and ship business in the near term. Mix will be the biggest driver or variable for our 2027 margin because of the strong incrementals in water. But again, we have strength in our backlog year-over-year and sequentially within MCS in the water metering business.

The next question comes from Nathan Jones with Stifel.

I guess I'll do the data center questions. I think you talked about 3Q revenue -- or 3Q orders having or up 200% year-over-year. I think, Matthew, you've talked about exiting the year at 2% of revenue from data centers. Can you just talk about, I guess, what the expected growth there is in 2027? Can this add a point of growth, a couple of points of growth to the 2027 outlook?

Yes. Maybe just at a high level, I mean, we're definitely excited about the opportunity. We're staying disciplined in terms of how we're investing. We're trying to invest behind demand versus way in front of it. So we're not building a ton of capacity ahead of what we see, but we are adding capacity, and that's going to have a little bit of impact on margins in the short term, but normalizing back to kind of our standard margins for the company. as you said, the data center orders are up 200% for Applied Water again in the quarter. And we're seeing broader opportunities across the entire portfolio, especially with our expanding relationship with Amazon there that we mentioned in the prepared remarks.

We do, to your point, expect data centers to exit at 2% of Xylem revenue on a run rate basis. And we clearly see it as an attractive growth opportunity in '27. I think we'll be able to size that better in February. But just as I was making my comments around our 2027 revenue just a moment ago, Applied Water is definitely going to be at a much higher growth than we've been signaling in the past on that business is benefited by the data centers.

Got a follow-up on data centers. It appears to me that a bigger opportunity over time would be around recycling reuse of water and potentially build on operate projects at data centers. Are you at a point where you're having discussions with customers about things like that? And can you talk about any of the opportunities over what I would imagine would be a few years, you could go retrofit existing data centers that are liquid called. Just any thoughts you've got around that. .

Yes. I mean at a high level, there's not a lot of water consumption at the data center itself, the direct usage, especially as a lot of those are being converted to air cooled chillers, and so that's not really a huge benefit. Now there are opportunities that we've seen, and we're taking advantage of where a data center can get municipal water, because for whatever reason, it could be location. It could be that the water doesn't give them a permit because they expect them to use too much water. But we would take surface water into the data center and treat that. That's more an exception than the rule.

Really where we're seeing the benefit of kind of the, I'd say, the broader AI ecosystem build-out is on semiconductor chip fab. And I mentioned we've had a few wins here recently with some new customers in that area. And the 1 that is on the horizon, it's probably not '27, but for sure, it's going to be '28, '29 and '30 is power. Power is where the most water is used in the AI ecosystem. And we're positioned very well there from the legacy of local business, especially on nuclear. And so as those projects come online, both in Europe and the U.S., we're well positioned to take advantage of that growth.

The next question comes from William Grippin with Barclays.

Excellent. Just wanted to dig in here a bit more on, Andrea, I think you mentioned affordability concerns. What product segments, I guess, within that context, you really do consider sort of see as being more discretionary? And then you did reference funding in your prepared remarks. As we look into next year, what are you seeing in terms of the overall funding picture? And what have you been hearing from your municipal customers? .

Yes. Thanks for the question. I'll take that. So I would say, in general, let me just elevate at a high level, I would say that municipal demand remains, I would say, fundamentally healthy. And there's obviously all of you know, the secular drivers that are driving that. I would say at the same time though, we are seeing caution in some areas on muni spending. I wouldn't characterize it as a broad-based slowdown per se. But I do have several conversations with over the course of each quarter. And in my recent conversations with utility CEOs here in the U.S., I would say that they are more cautious about the general economy than they were a quarter or 2 quarters ago. And they're seeing increases in construction costs, energy costs, financing costs, along with a little bit of spillover from energy of pushback on customer rate increases in some areas.

I wouldn't say it's holistic, but in some areas. And that is leading to a deferred spending on things that are not immediately operational in need. And for that, that really shows up mainly in metering, both kind of the short-cycle replacement nature of the metering that we do as well as some project pushouts where utilities kind of have flexibility on timing. I would say treatment demand remains really strong. But as I mentioned earlier to Joe, projects are taking just a little bit longer, in some cases, due to contractor availability. They're tied up on AI jobs, for example, or they're rescoping them due to inflation or, as I mentioned before, they're bidding them as contractor manager risk, which takes more time.

I would say the last thing I would wrap up on, there's been some commentary that I'd like to get out in front of here is I think it's important to keep it in context that our U.S. -- the Xylem U.S. utility CapEx exposure is less than 10% of our revenue. And the majority of our utility exposure is repair and replace demand, and that can't be deferred. So you really see that show up in our transport orders and our transport business. So that's a little bit of a state of the muni business in the U.S. as we see it.

Great. I appreciate that color. And I just wanted to ask my follow-up here on -- if you could provide a bit more color on the customer mix and exposure for the 2 divested or the 2 businesses that you announced planned divestiture for today? And could you sort of scope or quantify to what extent those could be margin-accretive divestments.

Thanks, Will. Overall, the planned divestiture will improve our portfolio mix resilience, growth and margin profile, while again, sharpening our focus on higher growth and more attractive verticals as part of our portfolio rotation. So as we highlighted, these 2 businesses represent 9% of Xylem revenue but less than 5% of Xylem EBITDA. From a revenue growth profile, they are negative this year with our forward expectation that we'll be well below our target frame mark. It also, again, reduces our exposure to China. This year, China is 2% of Xylem revenue. And after the divestiture, China will be 1% of revenue. And from an EBITDA margin perspective, these 2 businesses are dilutive to EBITDA margin, while Applied Water Americas margin is accretive to Xylem overall margin.

The next question comes from Steve Volkmann with Jefferies.

So I just want to follow up on that last question. Are there also some opportunities sort of stranded costs for these 2 businesses that you might be able to get at over time? And what might that look like?

No, great question. And as a reminder as well, we'll be closing the Cornell & Roper acquisition in Q4 too, which will be adding additional revenue, and that's accretive to our growth in margin as well. And then we continue on our transformation. So we will still continue to have benefits from structural cost actions as 80/20 continues to be embedded in our operating model.

Okay. Great. And then, Matthew, I think you mentioned this in your prepared remarks around having capital to sort of deploy, but I'm curious how you're thinking about the EBITDA that's lost from these divestitures. Do you already have stuff in the pipeline? Do you you're going to be looking for something and you'll maybe just take your time on that or maybe buy back some stock in the meantime. Just curious how you're thinking about that kind of EBITDA impact as you divest these things.

Yes. Maybe just elevate to kind of our priorities in terms of capital deployment. The first is going to be organic investment then, to your point on M&A and looking to -- from a bolt-on perspective, looking to move that more towards high-growth. We're going to grow dividend in line with earnings. And then at the end, we're going to use what's left for opportunistic buybacks. And so after -- to Andrea's point, we're going to close on Cornell Roper here within the end of the year. And by then, we'll be managing about 1.5 to 2x leverage. And from a proceeds perspective, we'll take the proceeds from Applied Water, specialty flow control divestitures, and it will give us some more capacity to execute against the healthy pipeline, which will allow us to accelerate the strategic rotation of our portfolio.

So really the proceeds are not going to come into play until the end of 2017, beginning of 2018. So we have time to work on the business to your first question, and then we've got time to plan and continue to execute against our healthy pipeline on acquisitions.

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

We'll wrap it up there. Thanks for your questions today, and thanks to everybody who joined on the call. A lot of our colleagues joined these calls and I just want to say to our colleagues, really appreciate all you're doing to transform Xylem and make it a best-in-class company. As always, we appreciate your interest in Xylem. All the very best.

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

Good day, everyone, and welcome to Xylem's Second Quarter 2026 Results Conference Call. [Operator Instructions] Please also note today's event is being recorded. At this time, I'd like to turn the floor over to Mr. Gregory Giamatti, Senior Vice President, Investor Relations and FP&A. Please go ahead.

Thank you, operator. Good morning, everyone, and welcome to Xylem's Second Quarter 2026 Earnings Call. With me today are Chief Executive Officer, Matthew Pine; and Chief Financial Officer, Bill Grogan. They will provide their perspective on Xylem's second quarter results and discuss the third quarter and full year 2026 outlook.

Following our prepared remarks, we will address questions related to the information covered on the call. I'll ask that you please keep to one question and a follow-up and then return to the queue. As a reminder, this call and our webcast are accompanied by a slide presentation available in the Investors section of our website. A replay of today's call will be available until midnight, August 11, and will be available for playback via the Investors section of our website under the heading Investor Events.

Please turn to Slide 2. We will make some forward-looking statements on today's call, including references to future events or developments that we anticipate will or may occur in the future. These statements are subject to future risks and uncertainties and such as those factors described in Xylem's most recent annual report on Form 10-K and in subsequent reports filed with the SEC. Please note that the company undertakes no obligation to update any forward-looking statements publicly to reflect subsequent events or circumstances, and actual events or results could differ materially from those anticipated.

Please turn to Slide 3. We have provided you with a summary of our key performance metrics, including both GAAP and non-GAAP metrics. For the purposes of today's call, all references will be made on an organic and/or adjusted basis, unless otherwise indicated and non-GAAP financials have been reconciled for you and are included in the Appendix section of the presentation.

Now please turn to Slide 4, and I will turn the call over to our CEO, Matthew Pine.

Thank you, Greg. Welcome to the team. It's great to have you with us today. And good morning, everyone. Thank you for joining us.

Across our markets, we're seeing a clear theme, both utilities and industrial customers are placing greater value on comprehensive water solutions that help improve resilience, performance and efficiency. Over the past several years, we've been intentionally positioning Xylem for this moment. And today, that strategy is increasingly taking shape. Municipal remains a core strength and a resilient foundation for our business. At the same time, we've been increasing our exposure to high-growth industrial verticals where our technology, services and water expertise create greater value for customers.

This evolution is being driven by 3 factors: First, more industries are relying on water to support quality, reliability and operational performance. Second, the AI ecosystem build-out is increasing the strategic importance of water across a broader set of end markets. And third, our portfolio actions are sharpening our capabilities around the markets where we see the strongest long-term growth and value creation. One of the clearest trends we see is that customers increasingly want simplicity. They are looking to work with a strategic partner that can help them manage growing complexity around regulation, operational resiliency and risk management. We've seen this play out in a number of engagements this year from the expansion of our long-term partnership with Dow which became the largest contract in our company's history to our recent win with 1 of the world's largest chemical companies.

In this engagement, we were selected over a long-term incumbent to secure a 20-year commitment. This opportunity brings together our advanced treatment technology, operations, maintenance and digital monitoring under a single integrated model. Importantly, this momentum reflects the stronger industrial platform we created through the Evoqua acquisition, which significantly expands our capabilities across treatment, reuse and services, deepening our presence in attractive industrial end markets.

That brings me to the second area which we documented in the watering the new economy report we released at [ Davos ] in January. Water will play an increasingly strategic role in the AI ecosystem. As AI-related infrastructure expands from data centers and semiconductors to power and mining, access to reliable water is becoming increasingly important. We're already supporting data centers through wins with hyperscalers, HVAC OEMs and infrastructure partners, and this year's revenue is expected to increase by approximately 200%.

However, this is only part of the story. We view data centers as an early indicator of a larger opportunity across the AI ecosystem where water is increasingly becoming a critical input to infrastructure development and industrial growth. And over time, we see the same value proposition extending into additional verticals such as food and beverage and life sciences for water quality, reliability and sustainability are also essential.

To align our business with these growth drivers, we have actively reshaped the portfolio, sharpening our focus through more than $400 million of divestitures while acquiring assets that expand our ability to serve customers in high-growth markets. The recently closed TriOS acquisition strengthens the intelligence layer of our portfolio through advanced sensing and water quality capabilities that are highly relevant to industrial customers. We also recently signed an agreement to acquire water fleet, which expands our capabilities in mobile water treatment and strengthens our position across AI-related infrastructure markets.

This is a services-led business with recurring revenue, established customer relationships and strong commercial momentum, including a multimillion dollar project supporting a hyperscaler's data center build-out in Texas. And importantly, we're not investing ahead of hypothetical demand. We are aligning the portfolio with demand patterns we are already seeing in the market and where customers are already choosing Xylem to solve increasingly complex water challenges. At the same time, demand in our municipal markets remains healthy, supported by strong infrastructure spending and backlog execution.

I'll now turn it over to Bill to take you through the details for Q2 and our updated guidance.

Thanks, Matthew. Please turn to Slide 5. We're pleased with the momentum we've built in the first half of the year. Our team stayed disciplined despite market volatility and delivered solid results that give us a strong base to build on. Demand remains healthy with our ending backlog at $5.3 billion and our book-to-bill for the quarter well above 1. This was supported by the Dow order in WSS as orders were up 41% versus last year, with growth in 3 of our 4 segments. Revenue was up 1% in the quarter versus prior year, in line with expectations as strength in key markets offset a 27% decline in China and walk away revenue of almost 2%. The team's operational discipline delivered quarterly EBITDA margin of 23.3%, up 150 basis points versus the prior year. The improvement was driven by productivity, price and mix, more than offsetting inflation and lower volume. Water Infrastructure led the way with strong leverage in North America transport growth.

We also achieved record quarterly EPS of $1.46 and a 16% increase over the prior year. Net debt to adjusted EBITDA increased to 0.8x driven by our opportunistic share repurchases in the quarter. Free cash flow was strong in the quarter, driven by higher net income, partially offset by outsourced water contracts and the teams continue to make progress with our working capital efficiency metrics.

Let's turn to Slide 6. For Measurement and Control Solutions, in the quarter, book-to-bill was below 1, but backlog remained at roughly $1.2 billion. Orders were up 2%, driven by continued smart metering demand in water with double-digit orders growth. offsetting declines in electric on difficult comps and project delays. Revenue was down 1%, driven by energy metering demand mostly offsetting softness in water. EBITDA margin of 21.1% was 200 basis points lower than prior year, driven by unfavorable mix, inflation and volume, offset partly by productivity and price.

With recent project delays in electric metering, we are bringing down our outlook for the MCS full year performance to low single-digit revenue versus the prior year. The pipeline is strong and long-term electric demand remains healthy, but affordability concerns and a more cautious capital spending environment ahead of upcoming elections have slowed down near-term investment. We continue to win more than our share of that market and expect sustained growth in the years ahead, driven by the ongoing AMI 2.0 refresh cycle.

In Water Infrastructure, orders were down 4% in the quarter, driven by continued softness in treatment due to 80/20 in China, offset by strong demand in transport. Revenue was up 3% and driven by transport offsetting softness in treatment related to our walkaway actions. Double-digit growth in U.S. municipalities more than offset a 40% decline in China. EBITDA margin expansion was outstanding for water infrastructure at 480 basis points, with productivity, mix, price and volume more than offsetting inflation and investments.

In Applied Water, orders were up 9% and book-to-bill was well above 1, lifted again by data center wins. Data center orders in Q2 were up over 300%. Revenues were up 3% versus the prior year, primarily driven by strength in U.S. commercial buildings, offsetting softness in the residential end market and China. EBITDA margin was slightly below expectations, down 50 basis points year-over-year, driven by inflation and volume, mostly offset by productivity and price.

Finally, Water Solutions and Services saw significant orders growth due to its largest order ever in April and approximately $850 million 23-year outsourced water projects. Revenue increased 1% year-over-year, driven by capital projects, including the impact of the finalized all contract and strength in dewatering. Segment EBITDA margin was 25.3% and up 90 basis points versus the prior year, driven by price, mix and productivity, offset by inflation and lower volume.

Now let's turn to Slide 7 for our updated full year and third quarter guidance. We are narrowing our organic outlook against the prior guide with MCS electric project delays impacting the near-term outlook. Full year reported revenue is now expected to be roughly $9.2 billion, which delivers revenue growth of approximately 2%, while organic revenue growth will be in the 2% to 3% versus prior guidance of 2% to 4%. EBITDA margin is expected to be 23.1% to 23.5% versus the prior guide of 22.9% to 23.3%. This represents 90 basis points to 130 basis points of expansion versus the prior year, driven by productivity, volume and price more than offsetting inflation as well as investments in the business.

Also, there is no material impact to our projected results from recently announced changes in tariffs or tariff refunds. Our strong first half performance, along with the benefits from share repurchases, and and higher margins more than offset the revenue headwind from electric metering delays and gives us confidence to raise the EPS range from $5.35 to $5.60 to $5.55 and to $5.70. Cash flow generation was strong in the first half, and we remain on target to achieve our low double-digit free cash flow margin for the year.

Now drilling down on the third quarter. We anticipate revenue growth will be flat on a reported basis and up roughly 3% organically. We expect third quarter EBITDA margin to be approximately 23.5% to 24% and which is up 30 to 80 basis points, driven by price realization, productivity gains and higher volumes. These results will yield third quarter EPS of $1.42 to $1.47. We are exiting the first half of the year with strong demand and in a position of strength.

Our balanced outlook reflects our strong commercial position, the durability of our portfolio and impacts and benefits from our simplification efforts. We also continue to monitor broader market conditions and volatility, including the Middle East conflict, changes in tariffs and other inflationary pressures. Overall, our expectations for this year remain extremely positive as we build momentum to a strong fiscal year in 2027.

With that, please turn to Slide 8, and I'll turn the call back over to Matthew for closing comments.

Thank you, Bill. Stepping back from the quarter, I think it's important to keep sight of what's driving demand across our markets over the longer term. We continue to see healthy demand for water infrastructure investments as the underlying need to modernize and maintain water systems remain strong. At the same time, the growth of AI is making water a more strategic input across a broader ecosystem. -- driving demand from semiconductors and power generation to mining and other critical industries.

Beyond AI, we see similar opportunities emerging across high-growth industrial sectors such as food and beverage and life sciences, where water is increasingly central to quality and operational performance. These trends are creating demand opportunities across the markets we serve and reinforcing the value of the capabilities we have been building.

As we position Xylem for the future, we remain focused on strengthening our portfolio, our capabilities and our leadership team. Recent leadership changes reflect that ongoing focus, and I'd like to recognize Meredith and Joe as they take on their new roles while also thanking Mike for his many contributions to Xylem and wishing him the very best. Across the organization and portfolio, the strategic decisions we're making today are expanding our ability to serve customers increasing the quality of our growth and positioning Xylem to create greater value over the long term.

And now let's open up the call for your questions.

[Operator Instructions] And our first question today comes from Deane Dray from RBC Capital Markets.

Love to put the spotlight on Applied Water in that organic revenue growth of 9%, nice upside there. And I know you've talked about the data center growth and the 300% in the orders. But can you just kind of flesh out for us that 9%, what were the key industrial nonmunicipal drivers there? And kind of what the outlook is for the balance of the year?

Yes, Deane, thanks for the question. Primarily, it was, I would say, in Applied Water, it was largely data center-driven. Although in North America, our commercial building services business has done well across multiple verticals. Data centers remain a very attractive growth area for us, and we expect our exposure to continue to increase over time. And like we said in the prepared remarks, we expect revenue to be up 20% this year, and we'll probably be exiting this year about 2% of our revenue tied to data centers. But I think also, I just mentioned and maybe we'll get into it later, our acquisition of Water fleet which is not in the Applied Water business, but in the WSS segment also gives us more exposure into that part of the marketplace as well.

Yes, I did want to put the spotlight on capital allocation, just really balanced here and we like that water fleet deal and its positioning. And maybe just step back and talk about the opportunities in the outsourced contracts. I mean the Dow got a milestone deal for you all, but it does sound like there is more to do, and this was like the whole premise of the Evoqua deal to begin with. So what can you talk about in terms of that pipeline for these contracts?

Yes. We have multiple contracts, but build on operates are obviously a big part of that as well as capital and services. But let me just maybe first say that Municipal does remain a source of strength for us in the core part of our business. But what's changed is that we've expanded our capabilities and really increased our participation through the Evoqua acquisition especially in high-growth verticals like high-tech power, life sciences and things of that nature. So we view it as complementary to municipal. But maybe a couple of examples that I would highlight, Deane, that are kind of been this build on operator capital service type of a deal. We recently won a job in the lithium battery space. So we secured a win with the world's largest lithium battery cell manufacturer.

We built the solution to treat the recycling of really a novel wastewater system. It includes, I would call it, cutting-edge wastewater treatment and really took the entire treatment train, including our most recent acquisition of [ Wacom ], the 0 liquid discharge asset that's helped us kind of have the complete front-to-back part of the treatment train. So -- that's a really big win.

The second I would point to is a data center in Pennsylvania. We're finding not all the time, but sometimes data centers are having to secure additional water outside of mini water through river streams and wells. And we're treating settled river water in bringing that into a state-of-the-art facility to make sure that they've got the quantity and the quality of water that they need.

Our next question comes from Mike Halloran from Baird.

Let's start on the MCS commentary and just kind of help frame how you're thinking about things. The electric piece sounds like there are some push outs -- what's going on there? Any change in thought process from those customers on a medium to long-term horizon and then maybe contrast that with the water utility side of things, all else equal, what you're seeing more on the water side as we move to the back half, any change on that side? And how you think about what that trajectory means for out years.

Yes, Mike. If we start just -- our revenue take down from 4 to 3 on the high end is really all around MCS, and that's really directly attributable to the slowdown in electric meter deployments. We talked about affordability concerns and more cautious capital spending environment ahead of upcoming elections have just slowed down the near-term investment cycle. And we've really seen politicians take a hard stand on electricity rate increases and utilities have pulled back and pockets the short-term investments to compensate. I think, again, we continue to gain share versus competitors as we look at our bid and win rates and do expect this to be a healthy market in the years ahead, primarily driven by the ongoing AMI 2.0 refresh.

But again, the near-term pullback is trading a little bit of pressure for us. But to your point, on the water side, we actually continue to see strength. Order activities really positive and customer engagement is really constructive. Our funnel is up about 30% versus last year. Water orders have been up double digits in both the first and second quarter, and we expect that to continue into the second half. Helping offset some of the declines we're going to see on the electric side and expect water to be up about low single digits for the year with a strong second half.

And then maybe some thoughts on orders more holistically and how you're thinking about things from here. the treatment side of things that seems concentrated overseas and intentional, what's the run rate for the U.S. piece on the infrastructure side? And then -- maybe just put all this together between the applied comments that Dean was talking to, some of your 80/20 initiatives, what you just mentioned on the water, timing in the electric, however you want to answer the infrastructure piece. Are we looking at something more normalized as we exit this year from a growth perspective relative to how you think about long-term growth for Xylem?

Yes, definitely. Maybe if I started at a high level, revenue progression through the year is generally in line with the exception of the electric metering delays. Yes, we said we're flat in the first quarter, we're up 1% here in the second quarter. Expectations are for 3 here in the third, and then we're going to exit the year in fourth quarter at mid-single digits. So I think we're building momentum leading into next year. And if you break it down by segment, obviously, Matthew highlighted, again, strength in Applied Water, right? They've had really strong orders consistently with book-to-bill above 1 for the last several quarters.

On top of the data centers, we really see resiliency in the U.S. commercial building space and expect them to continue to build backlog here in the second half, leading into a strong $27 million to your point, water infrastructure, even with the China headwind and some of the 80/20 walk away on the treatment side, we've built backlog in the first half and expect positive orders growth here in the second half. They'll finish the year with positive book-to-bill and again, with strong momentum leading into next year, again, with a lot of the 80/20 walk away in the China comp behind us. WSS obviously, has had a phenomenal first half of the year, but it's always going to be lumpy.

We talked about just the shift in outsourced water in the funnel that's creating across a variety of different end markets. Really excited about that and the backlog that they're going to end with this year puts us in a strong position. And again, my commentary around MCS I think we have here a little bit near-term mitigation on the electric side, but water momentum continues to build, right? We'll see a positive book-to-bill in the second half with high single-digit orders growth. So I think there's lots of momentum across the organization and continues to give us confidence in the outlook from a commercial perspective heading into next year.

Our next question comes from Nathan Jones from Stifel.

This is Adam Farley on for Nathan. Maybe just following up on some of that commentary. Maybe first on water infrastructure. Maybe could you speak to the underlying treatment market ex the AB20 actions that you're doing?

I think positive overall. I mean, even with the 80/20 actions and some of the projects where we've increased price, we've had a very strong win rate. So I think the treatment market here in the U.S. has been really positive for that business. And I think we expect that to continue in the second half. A lot of the challenges there, again, relative to China. Different decisions we've made on our bidding strategy around tenders in different emerging markets. So I think that business has got a lot of momentum here as we progress in the back half.

And then maybe switching gears. Are you seeing any signs of supply chain tightness anywhere in the portfolio -- do you think there's any need to increase more safety stock for electronic components?

I mean it's something we review really monthly in our leadership meeting. I don't think there's anything pressing right now that we already haven't taken action on. Obviously, we look at rare earth, and we've got most of our businesses about a year of supply we pulled in from a safety stock perspective. Obviously, we've made some investments, and I might have highlighted this on a prior call on chips. -- wafers looking to kind of get about 6 months of supply there. This is more of a safety stock buffer. But outside of those 2 areas, I would say, in general, we're pretty balanced, and we do review it, like I said, every month.

Our next question comes from Andy Kaplowitz from Citigroup.

Strong quarter margin, particularly in water infrastructure. So maybe you could just double click on what were the main drivers of the strong performance there. Did you sort of hit another glide path in terms of the '20 performance? And then I know you want to be conservative -- but Q3, up 30 to 80 basis points, Q2, you did 150. So maybe you can give us some more color on the puts and takes you see for that Q3 margin.

Yes. If we start with water infrastructure, again, they had a phenomenal quarter, and they continue to be the leader in margin expansion for the organization. I think they're definitely seeing increased benefits from their simplification efforts. They've kicked off 80/20 and have been doing this now for over 2 years. They've done a really good job optimizing their overhead more effectively and efficiently serve their customers. And then again, they've been really purposeful if their go-to-market strategies to be selective on bidding projects where they can create the most value, a little bit to my treatment commentary a little bit earlier. That's weighed a little bit on their orders and sales growth, obviously, but that's short term.

I think the focus that they have will help them better lever as they get back into their mid-single-digit growth algorithm. Exiting the year with positive performance here in Q3 and Q4. We continue to see margin opportunities within the segment, though, right? They've made solid progress, and I think they still have operational productivity and things that they're going to be able to leverage and the 80/20 benefits that they've driven on the margin side, you're going to see them inflect on the growth side. Particularly in transport where they've made resource allocation decisions to refocus certain areas of their commercial and engineering teams to drive incremental growth.

So they did have a little bit more transport mix within the quarter that helped overdrive relative to our expectations. That will balance a little bit, Andy. I think that's part of the Q4 sequential challenge that we'll have from a margin perspective. But overall, still really excited about their margin outlook.

That's helpful. And then I think we all know that WSS is a bit lumpy and talked about the shift toward outsourced water. But as you know, [indiscernible] you bought, it was big in end markets that we've been starting to talk about like microelectronics, mining, life sciences. So do you see more incremental projects there in general? Like what are your customers doing saying about that? So WSS overall could continue to improve in growth even outside of outsourced water.

Yes, Andy, it's Matthew. Like we said coming into the year, there were some project delays coming from tariffs and that we're creating slower decision-making and really some rescoping of projects that happened last year that really pushed out that business, some decisions, at least probably, I'd say, 3 to 6 months. So momentum is picking up, and the business will be back at mid-single-digit growth in the second half. We have a very active funnel and a strong backlog position as noted by obviously, the Dow win we highlighted on the last call and then another large order that we just received a few weeks ago the -- 1 of the world's largest chemical companies.

Long term, we do see accretive growth coming from high-growth verticals that mainly sit within the WSS segment. What we're calling high tech, I would say that's kind of defense, semiconductor, data centers, power seeing a big pickup in power where the energy mix over the past couple of years has actually expanded versus contracted, which is held plus. If you think about the power generation needed for the AI ecosystem over the next several years, I think that business is in a very strong position to take advantage of a lot of nuclear expansion specifically. And then mining and life sciences and food and beverage are other ones that we're really focused on. So I think we're really starting to see some momentum, Andy, and we'll exit the year pretty strong in that business.

Our next question comes from Scott Davis from Melius Research.

I wanted to -- just talk a little bit about 80/20. And I'm just kind of curious to hear your view on how it evolves as it scales. And what I mean by that is that -- you spent the first couple of years doing kind of basic 80/20. It's a fair amount of walkaway revenues related to that. By the time you get to 2027 though, do you still have walkaway revenues? Or are you at the point then where you're back to a more traditional 80/20 where you've got your customers segmented and folks kind of that stuff is kind of already gone, right? And so you're playing offense more than playing defense. If you know what I'm saying?

Yes. No, definitely. I think we've highlighted this year, obviously, we've accelerated some of our actions, and this will be the height of our walk away revenue. at close to 2%. I think next year will be significantly lower, just as we've pretty much gone through a majority of the portfolio. So I agree kind of like 80/20 is an element of fundamental operating model for us is taking hold, though. We're kind of midway through 2.5 years into the transformation. And each quarter, we take an additional step at simplifying and embedding it in the culture, right?

So it's just not a tool set and right highlighting walkaway revenue and getting the margin increase from it. It's really how we're going to drive growth longer term. And I think we highlighted some of the conversation just as we've implemented the tool set and areas of focus where businesses are shifting resources and developing strategies to drive growth around underrepresented or under penetrated areas within U.S. transport or the data center story or mining or outsourced water offerings, we're able to increase our capabilities and the resources we're throwing at those, which I think will be a catalyst for incremental growth as we get into 2027. So I think you're exactly right. We're shifting from it being a significant lever from a margin perspective. We're going to wash through the majority of our walkaway revenue here this year. And then next year, it's all going to be how it's enabling our growth algorithm.

Okay. That's helpful. And then just switching gears to M&A and potential things to do with your balance sheet, when we've seen some revaluation lower on water assets, obviously, public assets, and it's hard to know what's going on in private markets necessarily, but typically, they'll follow at some point. Have you seen opportunities out there? Or do you have a backlog of opportunities where you feel like the valuations are coming down to attractive enough levels where it makes sense, particularly given the fact you revalued lower a bit too.

Yes, that's a great question. I think it's a mixed bag. It kind of depends on the types of businesses that you're looking at, Scott, I would say, in general, it's probably starting to soften a little bit. We're starting to see some signals. But I think in general, it's not aligned to where the market is.

Okay. Usually isn't, right?

[indiscernible] But look, we have a very active funnel. We've talked about deploying $1 billion of capital towards M&A year. We're tracking to that goal, and we've got a really healthy pipeline. So we're excited to continue to deploy capital holistically, but specifically towards M&A accretive M&A.

Our next question comes from Andrew Buscaglia from BNP Paribas.

Just wanted to check in some of the more sheer cycle areas within Xylem. Did you see a noticeable pickup as the quarter progressed in some of your more core pump and valve areas.

I missed the first part of the question, sorry?

Just asking if you saw a more noticeable pickup in your more short-cycle pump and valve areas as the quarter progressed?

No, I don't think so. I mean our short-cycle exposure for us is primarily within the Applied Water business. That's been fairly consistent on the items outside of the data centers, really strong in the U.S. Europe kind of bumping along a little bit our small resi exposure we have, it's probably the 1 area of weakness that we call out within Applied Water. So I think relative to increase in industrial production, not a lot of our business, you see an immediate inflection.

Got it. And a little bit of confusion on the China, some of your time at comments, just that we had Intera, think that kind of was a pretty small portion of your total sales. Yes, can you help us understand the nature of the declines and what your commitment is to China, maybe as you reevaluate or you continue to evaluate 80/20 as a strategy?

Yes. No, I think our commentary with China has been pretty consistent over the last few quarters. It remains a challenging market for us, both on the orders and revenue side. like we said, Q2 orders were down over 30%. Sales were down almost 30%. And again, I think that's primarily reflecting ongoing economic headwinds within Water Infrastructure and Applied Water. Some of that is the broader economic with the Chinese government investing less on infrastructure and shifting their dollars into AI and the life sciences.

Again, we've talked about significant competition within the market that's put pressure. And then, again, relative to 80/20 and us being more selective on the quality of the business that we're bidding there kind of stacked up and -- we framed that as last year, it was about 3% of overall sales. This year, it's going to be about 2%. So again, 1% headwind for total Xylem. We think it's stabilized a bit. There have been a couple of data center wins within the country that have been positive. But for the most part, I think we've it's bottomed out a bit.

The second half, I think will be sequentially similar from a total volume perspective to the first half. so the comps will be easier year-over-year. But we've rightsized that market. I think we're being selective in the areas that we're investing and trying to target things where we can differentiate with our technology. And again, it's the world's second largest economy. So at some place here in the near term that we want to participate in, but we consistently evaluate that assumption.

Our next question comes from Joe Giordano from Cowen.

This is Chris Grange on for Joe. The MCS outlook continues to rely on a fairly substantial fourth quarter step-up -- could you elaborate on what you've seen that increases your confidence in the trajectory, particularly given that Q2 growth was relatively modest at 2% organic.

Yes. Again, I think the Q2 growth really strong growth on the water side offset with some of the electric metering delays. So I think what gives us confidence is we've seen here in the first half double-digit orders growth on the water side, what we have line of sight to with our flow business and where that's tracking has been strong all year and conversations we've had with customers on the balance of the projects that we need to see the sequential improvement, we're close to signing. Again, we'll be book-to-bill positive in the second half with orders in the high single-digit range on the water side. So we're -- excuse me, overall with double-digit order growth on the water side. So I think all the proof points are there outside of the challenges we're seeing on the electric side.

And you've highlighted momentum in digital offerings, and we've heard positive feedback around early adoption of Data Lake. Utilities are leveraging that phase of AMI meters. Could you talk about what you're seeing in customer engagement since the launch of that product? And whether tools like DAta lake are accelerating adoption of higher-value offerings such as you and the pathway that you're seeing from metering deployments to recurring software revenue.

Yes. We definitely have seen a pretty fast pickup in the view platform through our joint venture with Adrica out of Valencia, Spain. We've been at this in earnest in the past to really probably 2.5 to 3 years, and we've got significant momentum. We doubled the business last year. We're on pace to grow that business significantly in 2026. And probably close to 30% to 40% as we sit here today. I would say that -- as I travel around the world and I talk to lots of different CEOs of municipalities, it solves their biggest pain point. Really, it's about -- they've got -- to your point about a data lake, they've got several applications that they're trying to manage that are discrete and bespoke and they want to bring them into a common platform and then put that into a data lake, so they can drive insights off the data.

And so that's what really we're coming over the top of their applications to do. We've had some significant wins over the course of the past, really, I'd say, 3 months that really continue to bolster our position with utilities. Another area, I mean, this platform is scalable beyond municipal. We are talking to other industrial companies and other verticals where this platform can also scale. So we obviously wanted to get rooted in municipal and get momentum there, but also we're looking to expand the platform into the industrial sector as well.

And with that, ladies and gentlemen, we'll be concluding today's question-and-answer session. I'd like to turn the floor back over to Matthew Pine for any closing remarks.

Thanks for your questions today, and thank you for all that joined. As always, we appreciate your interest in Xylem. All the very best. Take care.

And with that, we'll conclude today's conference call. We do thank you for attending today's presentation. You may now disconnect your lines.

Welcome to Xylem's First Quarter 2026 Results Conference Call. [Operator Instructions] Please note, this event is being recorded. I would now like to turn the conference over to Mr. Michael Travers, Senior Director of Investor Relations. Please go ahead.

Thank you, operator. Good morning, everyone, and welcome to Xylem's First Quarter 2026 Earnings Call. With me today are Chief Executive Officer, Matthew Pine, and Chief Financial Officer, Bill Grogan. Bill will provide the perspective on Xylem's first quarter results and discuss the second quarter and full year 2026 outlook. Following our prepared remarks, we will address questions related to the information covered on the call. I'll ask that you please keep to 1 question and a follow-up and then return to the queue. As a reminder, this call and our webcast are accompanied by a slide presentation available in the Investors section of the website. A replay of today's call will be available until midnight, May 12, and will be available for playback via the Investors section of our website under the heading Investor Events.

Please turn to Slide 2. We will make some forward-looking statements on today's call, including references to future events or developments that we anticipate will or may occur in the future. These statements are subject to future risks and uncertainties and such as those factors described in Xylem's most recent annual report on Form 10-K and in subsequent reports filed with the SEC. Please note that the company undertakes no obligation to update any forward-looking statements publicly to reflect subsequent events or circumstances, and actual events or results could differ materially from those anticipated.

Please turn to Slide 3. We have provided you with a summary of our key performance metrics, including both GAAP and non-GAAP metrics. For the purposes of today's call, all references will be on an organic and/or adjusted basis, unless otherwise indicated, and non-GAAP financials have been reconciled for you and are included in the Appendix section of the presentation. Now please turn to Slide 4, and I'll turn the call over to our CEO, Matthew Pine.

Thank you, Mike. Good morning, everyone, and thank you for joining us. Coming off a strong 2025 with sustained momentum, 2026 is proving resilient with a solid first quarter financial performance despite a dynamic external environment. Demand for our mission-critical solutions were consistent with expectations. Our teams are leveraging our reduced complexity to execute with discipline, staying close to customers as evidenced by our strong book-to-bill in the quarter and focusing on long-term value creation. We had a strong start to the year deploying capital across the business in line with our priorities.

In January, we increased our dividend by about 8%. In February, we announced a new $1.5 billion share repurchase authorization, executing on $581 million in quarter 1. This reflects our confidence in the business and our commitment to a balanced approach to capital allocation. In March, we signed an agreement to acquire a German firm that designs and manufactures highly-engineered water quality instruments. The company is a leader in submersible sensors for environmental monitoring. And the acquisition expands our role as a systems intelligence partner supporting resilient long-cycle demand and enabling higher-value digital and service solutions.

I also want to highlight how our transformation is helping advance our priorities. Our self-improvement initiatives are foundational, simplifying our structure and processes to build stronger capabilities. They've strengthened our resilience, enhancing our ability to mitigate macro uncertainty. That operational foundation is centered around making it easier to do business with us in building our growth engine. To that end, WSS booked our largest order ever this month, an outsourced water contract for $850 million delivered over 20 years. This isn't just a milestone. It reinforces that our strategy is delivering. And we continue to make progress with our disciplined approach to M&A with a solid pipeline of opportunities in place. We're progressing towards our $1 billion annual target, optimizing our portfolio and leveraging our balance sheet.

Taken together, this progress shows we are well underway in our multiyear operating model transformation, strengthening our growth engine through disciplined execution and operational rigor. I'll pass it over to Bill to take us through the details of Q1 and updated guidance.

Thanks, Matthew. Please turn to Slide 5. We are pleased with the strong start to the year. The team stayed focused despite the volatility and delivered healthy results to build off of as we progress through the year. Demand remains solid with our ending backlog up sequentially to $4.7 billion, and our book-to-bill for the quarter was above 1. Orders were flat versus last year, driven by project timing in WSS, offsetting strength in the other segments. Revenue was also flat in the quarter versus prior year, in line with expectations as we saw impacts from our 80/20 efforts in China headwinds moderating our short-term revenue outlook. This team's operational discipline delivered quarterly EBITDA margin of 20.6%, up 20 basis points versus the prior year. The improvement was driven by productivity and price more than offsetting inflation, significant mix and lower volume.

We also achieved quarterly EPS of $1.12, a 9% increase over the prior year. Net debt to adjusted EBITDA increased to 0.6x and driven by our opportunistic share repurchases in the quarter. Free cash flow was positive in the first quarter, driven by timing of accruals and lower payments, offset in part by restructuring costs and higher CapEx. And the teams continue to make progress with our working capital efficiency metrics.

Let's turn to Slide 6. In Measurement & Control Solutions, book-to-bill was below 1, but backlog remained flat sequentially at roughly $1.4 billion. Orders were up a robust 15%, driven by smart metering demand in water as we made progress on the projects that shifted out of Q4. We expect double-digit orders growth for water throughout the balance of the year. Revenue was up 1%, driven by energy metering demand, offset in part by softness in water meters. EBITDA margin was 20.9% and was 10 basis points lower than prior year, driven by unfavorable mix and inflation, offset partly by productivity and price. We also wanted to provide an update to our international metering divestiture. Due to regulatory approval timing, we now expect the deal to close at the end of Q2, which is reflected in our updated guidance.

In Water Infrastructure, orders were up 2% in the quarter, driven by strong demand in transport supported by growth in the U.S. and India. Revenue was down 1%, driven by softness in treatment related to walkaway actions, partly offset by strength in transport. Growth in the U.S. was offset by declines in China and Western Europe. EBITDA margin for water infrastructure was up 120 basis points with productivity more than offsetting inflation and mix. In Applied Water, orders were also up 2% and book-to-bill was well above 1, lifted by large projects and data center wins. Data center orders in Q1 exceeded the full year amount for all of 2025. Revenues were flat versus the prior year, primarily driven by strength in U.S. commercial buildings offsetting softness in industrial and residential end markets.

EBITDA margin was below expectations, but increased 10 basis points year-over-year, driven by productivity and price, mostly offset by inflation, volume and mix. We are confident in the segment's strong margin expansion opportunities throughout the remainder of the year. Finally, Water Solutions and Services saw an orders decline driven by capital project timing. Subsequently, WSS booked its largest order ever in April, an $850 million outsourced water contract with a 20-year service contract. Revenue declined 2% year-over-year driven by capital project timing and weather impacts on service branch operations, partly offset by strength in dewatering.

Segment EBITDA margin was 22.1%, up 40 basis points versus the prior year, driven by price, productivity and mix, offset by inflation, volume and investments. Now let's turn to Slide 7 for our updated full year and second quarter guidance. The organic outlook is largely unchanged versus what we provided at the start of the year. with minor changes to our reported figures due to the delayed divestiture closing in MCS. Full year reported revenue is now expected to be $9.2 billion to $9.3 billion, up from the prior guide of $9.1 billion to $9.2 billion, which delivers revenue growth of 2% to 3%. And while organic revenue growth of 2% to 4% remains unchanged versus prior guidance. EBITDA margin is expected to remain at 22.9% to 23.3%. This represents 70 basis points to 110 basis points of expansion versus the prior year, driven by productivity and price more than offsetting inflation as well as investments in the business. And benefits from our simplification efforts will help mitigate mix pressure from MCS.

Also, there is no material impact to our projected results from recently announced changes in tariffs. Despite the benefit from share repurchases, we've chosen to keep our EPS range unchanged at $5.35 to $5.60, reflecting a prudent approach to guidance in an uncertain macro environment and not a change to our outlook for the year. Cash flow generation started strong this year. We remain committed to low double-digit free cash flow margin in our long-term financial framework and we'll make additional progress in 2026. Now drilling down on the second quarter. We anticipate revenue growth will be in the 2% to 3% range on a reported basis and roughly 1% organically. We expect second quarter EBITDA margin to be approximately 22% to 22.5%, which is up 20 to 70 basis points, driven by price realization, productivity gains and higher volumes.

Second quarter MCS EBITDA margin will be down year-over-year, driven again by the impacts from energy. However, we expect it to improve sequentially from the first quarter and return to margin expansion in the second half. These results will yield second quarter EPS of $1.31 to $1.36. We started the year with strong demand in a position of strength. Our balanced outlook reflects our strong commercial position, the durability of our portfolio and benefits from our simplification efforts. While we also continue to monitor broader market conditions and volatility, including the Middle East conflict, changes in tariffs and other inflationary pressures along with fluctuations in currency and interest rates. Overall, our expectations for the year remain positive, and we build on our strong momentum. With that, please turn to Slide 8, and I'll turn the call back over to Matthew for closing comments.

Thanks, Bill. I want to return to the core purpose of our company to empower our customers and communities to build a more water-secure world. We've been very intentional about putting customers and communities at the center of our strategy. In 1 place, you can clearly see that progress is in sustainability. Xylem's 2025 sustainability report was posted to our website on April 24. The report reflects the fundamental truth about our business. Long-term success is driven by disciplined execution, applied in service of a clear purpose that delivers meaningful outcomes for the communities we serve. .

Looking back at 2025, that alignment delivered concrete measurable results in partnership with our colleagues customers and communities, we've achieved our sustainability goals we set in 2019 around water reuse, pollution prevention and stewardship. Looking ahead, we are building on that progress through our 2030 sustainability agenda, which is focused on longer-term systematic impact around 3 signature priorities: decarbonizing the water sector; strengthening water stewardship; and expanding access to water, sanitation and hygiene. Sustaining this progress means continuing to evolve Xylem to we're positioned for what comes next especially for our customers as we leverage the simplicity we've created to the first phase of our transformation.

That's why I'm pleased to share 2 updates to the executive leadership team. To further strengthen how we serve our customers across our global footprint, Snehal Desai, assuming a more focused role as Chief Growth and Commercial Officer. In this role, Snehal will lead our enterprise growth strategy and execution, doubling down on commercial excellence, customer focus and consistent delivery of scale. At the same time, to accelerate innovation that directly translates into customer value, Sivan Zamir has been appointed to a newly created role as Chief Innovation and Product Officer. Sivan will build the capabilities required to bring differentiated solutions to market faster.

This leadership update, along with our purpose forward culture, operational rigor and disciplined capital deployment accelerates Xylem's growth engine and positions us to deliver exceptional long-term value creation. And now let's open up the call for your questions.

[Operator Instructions] Our first question comes from Deane Dray with RBC Capital Markets.

Can we get -- I'd love to hear more about this outsourced contract and congratulations. This is exactly the way you've positioned WSS to build out services. So anything about the customer? Anything on the economics? And is there a pipeline for more of these types of outsourced contracts? .

Yes. So for sure, there's more pipeline, and I pushed the team every day on that topic, Deane. Thanks for the question. I can't name the actual customer, but it is an existing customer of ours, and it's in the specialty chemical vertical. We're providing processed water for cooling and also boiler feed water in their manufacturing process. So it's a great example of our technical know-how on the front end of a capital build along with our ability to provide a long-term service tail, which is really great for the next 20 years for our business. So maybe I'll have Bill walk you a little bit through some of the numbers.

Yes, Deane. So out of the $850 million, it's about 75% service and 25% capital. right? We'll realize about 10% of the contract value this year with the balance of the capital build next year and look to flow water in 2028 to start the service tail.

Really good to hear. And then just a second question. Matthew, I'd like how you started off with using the word resilient. Can you give us a sense of the municipal demand outlook at this stage of the year? And anything on the macro. And there's nervousness about project activity away from municipal, but just the approval process, on projects? Any color there would be helpful.

Okay. Yes, I would say that the overall utility demand remains resilient, like I said in some of the opening remarks, I was with about 15 utility CEOs across all parts of the U.S., specifically a few weeks back, and we spent a lot of time together the full day. And there was really -- and these are large municipalities across the U.S. and there was really no indication of any meaningful funding pullbacks or project delays outside of some of the normal things you would expect to see. For our business in Q1, U.S. utility orders, and this is based on the MCS and the WI segments, which are really a proxy for utility orders, we were up double digits in the U.S. Our revenue was up mid-teens.

So I would tell you right there that shows the resilience of the utility demand in the U.S. If you kind of pull the lens back and look at those 2 segments I talked about, overall, WI was up 2% in orders. supported by transport in the U.S. and India. And you've heard us talk a lot about China and we've signaled that in the past, and we were down 30% year-over-year in China. So that's really the -- a big part of the drag. And then in Europe, specifically Western Europe, their short-term noise with our 80/20 initiatives.

In MCS, you heard Bill talk in the opening comments. Orders were up 15% for MCS driven by large water orders, primarily in the Southeast of the U.S. and solid energy activity. So all in all, Deane, there remains significant demand for our solutions. We're dealing with an aging infrastructure in the developed parts of the world. Western Europe and the U.S., it has to be addressed. If you look at what -- the U.S. Army Corps of Engineers says about our infrastructure, they give us a C- to a D+ depending on which part of the infrastructure you're looking at in water, drinking water, wastewater, storm water. So we talk about $1.5 trillion needed over the next decade, just in the U.S. to maintain those poor ratings. So from my perspective and from the customer's perspective, things are still pretty robust.

And the next question comes from Andy Kaplowitz with Citigroup.

Can you give us a little more color on what you're seeing in terms of price versus inflation across the company? And I know you mentioned Applied Water, Q1 margin was generally fine across the portfolio. But for instance, you thought water back to 20%, and you did acknowledge you record a bit lower than you expected. So maybe just talk about conviction staying ahead of inflation and getting that uptick in margin trajectory that you expect for the rest of the year? .

Yes. I think for the broader portfolio, we're still price cost positive from a price of material cost, including the tariff piece. Again, I think the teams have been extremely proactive and have built up a solid skill set to understand the levers, timing and process to capture the incremental value to offset inbound inflation. Obviously, we've seen it here with the escalation with Iran and fuel prices increasing, where we've seen immediate fuel surcharges go into place to offset that. So I think we're confident that we can stay ahead of inflation through price is our first lever and the teams continue to work on sourcing actions as a secondary lever.

For Applied Water specifically, as we said in the call, I think the performance was below our expectations. But I think primarily, that was more of mix within the sales on the gross margin line. I think we're confident that they're going to get back above 20% as we look at the balance year relative to the cost actions they've taken, mix normalizing some of these data center projects that Matthew highlighted in the opening comments will start to play at a little bit higher margin and they'll sequentially improve through the balance of the year.

Bill, that's helpful. And then maybe the same kind of question on organic growth for the year. You obviously mean an uptick in growth in the second half. to meet your forecast. It seems like you made progress on booking those 5 to 10 projects that you've been most focused on in MCS. Maybe give us a little more color there. And then it's nice to hear about the big capital project in WSS, but do you need a capital recovery at all in WSS to make your original, I think it was mid-single-digit organic growth for that segment? .

Yes. No, I think, again, we've seen the things that we needed to see happen here in the first quarter relative to strong MCS orders in some of those projects. that were delayed start. Now we got the orders that they're going to play out through the balance of the year. We still need to have a couple more orders hit for us to reach our back half, but relative to conversations with the team, that looks positive right the book and ship for MCS was actually up 9%. So there's a lot of traction and progress there as inventory within the channel is back to normalized levels.

I think from a broader Xylem perspective, the ramp in the second half, we're going to see a significant ramp in volume here from the first quarter. That part of our normal seasonality. If you look at the third quarter, it's basically the same revenue dollar sequentially, and we go from a 1% growth to a 5% and then we'll see the normal seasonal ramp in the fourth quarter relative to water infrastructure to get us to another mid-single-digit number. So I think relative to normal seasonality and the orders we've need to see win have progressed and give us confidence in our back half figures at this point in time.

Appreciate the color.

The next question comes from Mike Halloran with Baird.

Can you just touch on the capital allocation piece. One, could just see the magnitude of buyback in the quarter. What's the intent look like from here? Stock stays in and around where it is now? Do you see yourself being as aggressive as we move through the year? And then -- well, I'll leave that as the first question, sorry. .

Yes, I'll take that, Mike. We continue to buy in April, and we'll reassess the balance of Q2 after this month. And we're kind of looking at it a couple of ways. One is managing kind of our leverage between half a turn and 1 turn net debt to EBITDA. And then obviously, we also want to balance that with taking advantage of stock dislocation. So we'll reassess it here at the end of the month as we get into the meat -- but we've got a real healthy balance sheet, and we'll continue to deploy capital across our whole framework over the course of the year.

Makes sense. And then maybe just talk about what the optionality looks like in terms of pipeline, actionability, et cetera? And then maybe just give a little bit more context on why the tuck-in you made on the analytics side made sense to you all.

Yes. I think in my opening remarks, and I've said this in the past, we talk about $1 billion of capital deployment towards M&A. -- to help us get to the kind of mid-teens EPS growth that we outlined at our Investor Day back in 2024. So we're still tracking for that. You've heard me talk a lot about our improved internal process, where before we were a bit more top down. a bit lumpy in terms of our execution on M&A, bigger targets. And now it's much more focused in the segments with the segment presidents really owning it, working bottom up. And because of that work over the past couple of years, we have a very strong pipeline and across all of our segments. So I think that gives us a lot of confidence that will be more consistent over time with capital deployment. .

What was the second part of your question, No, the tuck-in sorry. Yes, the recent deal we -- the recent deal we did sign -- so it's a -- like I said on the prepared remarks, we signed a -- first of all, we have confidentiality provisions with the seller. So we're unable to share the targets name or a lot of the transaction details outside the purchase price that was $219 million. But it's really a highly engineered water quality instruments business. It strengthens our position in high-margin optical sensing and process applications. across clean water, wastewater environment and industry.

And I think for us, we expect pretty significant revenue synergies, although it's a small to medium bolt-on, we do expect significant revenue synergies through leveraging our industrial and utility customer base. And so I think from that perspective, it makes a lot of sense as we continue to grow our analytics part of our business.

And the next question comes from Jacob Levinson with Melius Research.

Just on measurement and control, it looks like things are stabilizing a little bit there. The order book looks pretty solid. Can you maybe just mark to market where we are in the cycle across electric and water because I know there's not necessarily synchronized right now, but it seems like there's a refresh cycle going on in electric and maybe that's coming in water. But -- how do you see that playing out this year and maybe into '27.

Yes. I mean just at the high level, if you go back to kind of 2008 and '09 with the American Reinvestment Recovery Act, kind of coming out of the great recession. The utilities on the electric side did a major push on AMI. And so you started to see a refresh there over the past, probably last year into this year in the next coming couple of years. Water was probably anywhere from 5 to 7 years behind that initial wave of AMI deployments. And so as we're moving through the next 2 to 3 years, of electric refreshes we'll start to as we exit this decade going into 2030, start to see a pickup in the refresh of water. So that's a little bit of history and some of the timing as we think about energy and the refreshes going on now. And then as we get into the end of the decade, we'll start to see a turn in a pickup on the water refresh side.

Okay. That's helpful. And just on China, I think I heard you mentioned it was down 30% this quarter. Have we bottomed in that market yet, and it's just a function of the comps today. And I guess just relatedly, how much of that 30% is the market versus some of the work you're doing to reposition that business? .

Yes. I think we'd probably say it is bottoming out, kind of bouncing at the bottom here, right, with the team making some progress in some of their focused efforts with areas where we actually have more differentiation, and we're doubling down and focusing. Relative to the -- I think we've highlighted about 1/3 is market, 1/3 is kind of actions that our competitors are taking and then 1/3 is kind of us actively walking away from business. So I think for the total Xylem, most of the pressure is here in the first and second quarter, and that comp gets easier. We said for the full year, it was about 1% headwind for sales. but that equates to, again, on the first half of the year, about 2% since it's primarily concentrated in the first and second quarters.

And the next question comes from Nathan Jones with Stifel.

I guess I'll start with an M&CS question. Obviously, seeing some pretty good order growth over the last few quarters. I mean it's been double digit for 4 quarters in a row. But the actual solar level of orders has been below the level of revenue. Can you talk about how that supports growth, how we should think about growth going forward, not just this year, but as we go into '27, '28, what kind of order rates do you need to support growth over the next couple of years?

Yes, I think long term over the cycle as things normalize, it's at high-single-digit rate. Now relative to the lumpiness of the business and large projects come in, I think you have to look at a combination of our backlog position in conjunction with orders, right, because you see our backlog increased sequentially but not in the magnitude of our -- what the implied book-to-bill because the orders we received within the quarter were things of projects that we had won that now we have kind of a go with firm commitments to start delivering within the year.

So I think it's really looking at over a kind of rolling probably 24 months looking at a high-single-digit order growth rate with a check on our backlog growth and position as that progresses as we hit some of the replenishments that Matthew highlighted.

Okay. I guess the follow-up is margins. The business already has sequentially stronger margins in the second half and the margin expansion is -- in 2026 is significantly lower in the first half than the implied expansion in the second half. So can you just talk about the contributors to the accelerating margin expansion in the second half and where we should see those materialize?

Yes. I think it's across the portfolio, but significant expansion within and water infrastructure, primarily as mix normalizes and we shift from price-driven growth to significant volume growth based upon some of the projects hitting within MCS and then within water infrastructure, getting past some of this walk away pressure in China pressure here in the first half. So that's really it's a volume and mix normalization kind of leveraging the structural costs that we've taken out last year and continue to take out in the first half of 2026.

And the next question comes from Bryan Blair with Oppenheimer.

To follow up on Nathan's question I guess I ask a little more directly. Given current visibility with MCS inclusive of mix expectations and the pending divestiture. How should we think about margin cadence through the back half? And more importantly, the -- what's the realistic exit rates or equivalently jumping off point for '27 margin?

Yes. I think as we said in the prepared remarks, MCS will sequentially increase and exit the year post the international metrology divestiture, well in excess of 25% EBITDA margins. I think that's the base rate going into next year with again, the water balance of sale normalizing and then the actions the team are taking on continued profitability improvements within the gas and electric business.

That's very encouraging. And we know your consolidated organic sales outlook is unchanged. And it doesn't sound like the moving parts within that have meaningfully shifted. But if we think about the segment expectations that you outlined last quarter, are there any shifts that you would call out, particularly curious about MCS and WSS just given the moving parts for those segments?

No, no, no major changes to the organic guide in aggregate and no major changes to the makeup between the segments.

The next question comes from William Grippin with Barclays.

Just wanted to come back to your comments on sort of price cost and really specifically kind of drilling into potential supply chain impacts here on material costs as sort of global supply chains continue to be disrupted. I know you've got some locked in sort of fixed price arrangements for materials. But could you elaborate a bit on how long do those last? How much does that insulate your business and what is your sort of visibility to managing any increase in raw materials costs post any of the fixed price arrangements?

I think we have some forward fixed contracts, but that's limited on some of our raw commodity exposures. I think our supply chain team does a phenomenal job at looking for alternate sources and competitive bids to help mitigate just increase in prices through dynamic supply chain management. But again, our first and fourth lever on this is incremental pricing again, the practice the team has had post COVID supply chain challenges, inflationary drivers now with tariffs and then now potential increased inflation due to rising fuel costs and the ripple effect that, that has across the industrial supply chain. .

I think we're confident that we can continue to offset that. The magnitude could compress margins slightly as we're not getting incremental flow-through of 40% on that on those types of price increases. But relative to dollar for dollar, right now, our expectations that we can manage. Obviously, we'll see the next 4 weeks, I think, will be critical to see what happens with the conflict of the [indiscernible] opens up. But again, relative to the actions that we've taken internally, I think we're as prepared as we can be in the nimbleness of our new organizational construct.

I appreciate that. And then just wanted to follow up on 80/20. I know you had previously talked about 2026 being sort of the peak of walk away. I think that was a 200 basis point offset to the organic growth guidance. Could you just talk about the cadence or timing of that walk away? Is that primarily in the first half or evenly spread throughout the year?

No, I think it's more weighted to the first 2 to 3 quarters of the year. There's some longer-tail stuff within the treatment business within water infrastructure that will maybe extend past that, but we're more heavily weighted here in the first half of the year.

We'll wrap up there. Thanks for your questions, and thank you to everyone who joined today.

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

Good day, everyone, and welcome to Xylem's Fourth Quarter 2025 Results Conference Call.

[Operator Instructions]

Please also note today's event is being recorded.

At this time, I'd like to turn the floor over to Mr. Keith Buettner, Vice President, Investor Relations and FP&A. Please go ahead.

Thank you, operator. Good morning, everyone, and welcome to Xylem's Fourth Quarter 2025 Earnings Call. With me today are Chief Executive Officer, Matthew Pine; and Chief Financial Officer, Bill Grogan. They will provide their perspective on Xylem's fourth quarter and full year 2025 results and discuss the first quarter and full year 2026 outlook.

Following our prepared remarks, we will address questions related to the information covered on the call. I'll ask that you please keep to one question and a follow-up and then return to the queue. As a reminder, this call and our webcast are accompanied by a slide presentation available on the Investors section of our website. A replay of today's call will be available until midnight, February 24, and will be available for playback via the Investors section of our website under the heading Investor Events.

Please turn to Slide 2. We will make some forward-looking statements on today's call, including references to future events or developments that we anticipate will or may occur in the future. These statements are subject to future risks and uncertainties, such as those factors described in Xylem's most recent annual report on Form 10-K and in subsequent reports filed with the SEC. Please note that the company undertakes no obligation to update any forward-looking statements publicly to reflect subsequent events or circumstances, and actual events or results could differ materially from those anticipated.

Please turn to Slide 3. We have provided you with a summary of our key performance metrics, including both GAAP and non-GAAP metrics. For the purposes of today's call, all references will be on an organic and/or adjusted basis, unless otherwise indicated, and non-GAAP financials have been reconciled for you and are included in the appendix section of the presentation.

Now please turn to Slide 4, and I will turn the call over to our CEO, Matthew Pine.

Thank you, Keith. Good morning, everyone, and thank you for joining us. The team delivered an outstanding fourth quarter to close a record year for Xylem. We delivered strong Q4 performance across all major metrics. The team executed with discipline across the portfolio, both in the quarter and full year. The record results demonstrate the impact of our operating model transformation, which represents Phase 1 of our plan to deliver Xylem's long-term framework. That first phase has been about transforming Xylem's operating model, our high-impact culture, a simpler, scalable structure and improvements in our business processes and cornerstone systems.

We've simplified Xylem, increasing speed and accountability. The numbers we posted this morning reflect the ground we've already taken, and there's more to come in 2026. In parallel, we're entering Phase 2, strengthening our growth engine by leveraging improvements in our operating model, focusing on sales force effectiveness, product management and innovation.

Phase 3 will invest further in long-term competitiveness, building on our core franchises, expanding breakthrough innovation and deepening exposure to the most attractive future water markets. We're tracking to the framework we laid out almost 2 years ago, and we have plenty of runway ahead.

As we sharpen our customer focus and simplify our product offerings, 2026 will be the peak of purposeful walkaways from lower quality revenue. That creates a short-term top line headwind as we've communicated previously, but it drives higher quality earnings.

Looking ahead to 2026, we see resilient demand in our largest end markets, strong backlog conversion and continued traction from our transformation efforts. I'll leave the detailed guidance to Bill, but at a high level, we will build on our commercial and operational momentum, growing the top line and expanding margins again in 2026. With that, Bill will take you through the quarter and full year and also our 2026 outlook in more detail. Bill?

Thanks, Matthew. Please turn to Slide 5. We are very pleased with the strong finish to 2025. The team stayed focused and delivered consistently throughout the year, delivering record revenue, EBITDA and earnings per share for the fourth quarter and the full year. Demand remains positive with our backlog finishing at $4.6 billion. Our book-to-bill was near 1, both in the quarter and for the full year.

Orders were healthy, up 7% in the quarter, driven by over 20% growth in MCS. And for the year, orders were up 2%. Revenue grew 4% in the quarter despite a challenging comparison of 7% growth in the same period last year. Full year revenue growth was solid at 5%. Full year EBITDA margin expanded 160 basis points to 22.2%, driven by the same factors. The team's operational discipline delivered quarterly EBITDA margin of 23.2%, up 220 basis points versus the prior year. The improvement was driven by productivity and price more than offsetting inflation. Full year EBITDA margin expanded 160 basis points to 22.2%, driven by the same factors.

We also achieved a record quarterly EPS of $1.42, a 20% increase over the prior year. Our balance sheet remains in great shape with net debt to adjusted EBITDA of 0.2x. Year-to-date free cash flow decreased by 2% from the prior year, in line with expectations, driven by outsourced water projects, system investments and restructuring costs, offset by higher net income.

Let's turn to Slide 6. In Measurement & Control Solutions, we continue to convert the backlog with MCS' backlog finishing the year at roughly $1.4 billion. Orders were up a robust 22%, driven by smart metering demand across water and energy. However, this was below our expectations with several projects pushing out into 2026. Revenue was up 10%, driven by energy metering demand, but supported by high single-digit gains in water as well, which offset softness in analytics related to timing effects caused by the government shutdown. EBITDA margin of 20.2% was 310 basis points higher than prior year, driven by productivity, price and volume more than offsetting mix and inflation.

In Water Infrastructure, orders were down 1% in the quarter, with softness in treatment, primarily in China, mostly offset by strong demand in transport. Revenue was flat with strong double-digit growth in the U.S., offset by an almost 30% decline in China. EBITDA margin for Water Infrastructure was up a remarkable 510 basis points, driven by productivity, price and mix, offset by inflation, volume and investments.

In Applied Water, orders were up 5% and book-to-bill was roughly 1, lifted by large projects and data center wins in the U.S. Revenues were up 3% versus the prior year, primarily driven by strength in U.S. commercial buildings. Segment EBITDA margin increased 60 basis points year-over-year, driven by productivity and price offset by inflation, volume and mix. With some of these items being nonrecurring in nature, we expect Applied Water to be back in the 20% EBITDA range in the first quarter.

Finally, Water Solutions and Services saw robust demand with orders increasing 7%, driven by strength in services. Revenue growth was strong, up 4% against a tough comp with strength in capital and services. Segment EBITDA margin was 23.9%, up 110 basis points versus the prior year, driven by price, volume and productivity, offset by inflation and mix.

Now let's turn to Slide 7 for our 2026 segment outlook. Heading into 2026, our markets remain positive, and our teams are delivering on our commitment to simplify Xylem, focus on our customers and drive profitable growth. We are providing full year organic revenue outlook for the segments and want to highlight that we are accelerating our 80/20 efforts around product and customer simplification. As a result, we will have an outsized headwind to our top line for the year of roughly 2%, doubling the impact we experienced in 2025. We expect this is a 1-year elevation, and we are still committed to delivering on our long-term framework.

In MCS, we expect growth in the mid-single digits. Overall, demand is positive and our pipeline remains strong, but project timing has been more variable and less predictable than we have experienced over the last few years. Our expectation is energy meters will drive a majority of the growth in 2026, and water meters will grow low single digits as expected orders from the fourth quarter pushed out into the first half of '26. We will also have an impact from our 80/20 actions, primarily in analytics, impacting overall segment growth for the year.

The first quarter will be challenged, down low single digits, we expect to see sequential revenue improvement throughout the year as project kickoffs accelerate in the back half of the year. Also, as a reminder, we expect to close on the divestiture of the international metering business at the end of the first quarter.

In Water Infrastructure, we expect low single-digit growth. We anticipate resilient OpEx and CapEx demand due to the mission-critical nature of our applications with healthy utility end markets across most regions. However, we will see headwinds from 80/20 actions as we accelerate the simplification of our offerings and expect continued weakness in China's utility market, primarily impacting the first half of the year.

In Applied Water, we expect growth in the low single digits. We see growth across developed markets, particularly in the U.S. with large projects coming online and strong growth in data centers. Similar to the story in Water Infrastructure, growth will be offset in Applied Water by 80/20 actions, exiting unprofitable business and a weak China market impacting the first half of the year.

WSS will deliver mid-single-digit growth, driven by strength in outsourced water projects and solid demand in dewatering. Though we expect this will continue to be a more variable segment quarter-to-quarter due to the project nature of our capital offerings. The segment is supported by a $1.4 billion backlog and a strong funnel across all businesses.

Now let's turn to Slide 8 for our full year and Q1 guidance for 2026. The growth outlook by segment translates into 2026 full year revenue of $9.1 billion to $9.2 billion, resulting in revenue growth of 1% to 3% and organic revenue growth of 2% to 4%. Again, this is on the low end of our long-term framework due to the 80/20 actions we are taking across our segments, but continuing to increase the quality of our earnings and simplifying our businesses to outperform our markets for the long term. EBITDA margin is expected to be 22.9% to 23.3%. This represents 70 to 110 basis points of expansion versus the prior year, driven by productivity, volume and price offsetting inflation with productivity continuing to benefit from our simplification efforts.

This yields an EPS range of $5.35 to $5.60, up 8% at the midpoint over the prior year. As a reminder, we are committed to low double-digit free cash flow margin in our long-term financial framework, and we will make additional progress in 2026.

Drilling down on the first quarter, we anticipate reported revenue growth will be in the 1% to 2% range on a reported basis and flat organically. We expect first quarter EBITDA margin to be approximately 20.5% to 21%, up 25 basis points at the midpoint, driven by productivity gains and impacts from our simplification efforts, offset by mix. This yields first quarter EPS of $1.06 to $1.11. We are entering the year with momentum and in a position of strength. Our balanced outlook reflects strong commercial positioning, the durability of our portfolio and further benefits from simplification, though we are monitoring broader market conditions and volatility, including tariffs. Overall, our expectations for the year remain positive as we build on our strong results.

With that, please turn to Slide 9, and I'll turn the call back over to Matthew for closing comments.

Thanks, Bill. Before we open for questions, let me close with a broader lens. Xylem participated in the World Economic Forum Annual Meeting at Davos for the first time this year. The headlines were all about AI and geopolitics, but water emerged as a significant underlying theme. More than a dozen sessions framed water as foundational to economic growth, energy systems and geopolitical stability. That aligns directly with the research we released last month, watering the new economy, which makes a simple point. As AI accelerates growth in power generation, data centers and microelectronics, water strategy becomes business strategy.

These sectors are wrestling with availability, reliability and efficiency. They need reuse at scale, dramatic reductions in network leaks and adaptive infrastructure that automatically optimizes performance. And that's where Xylem is uniquely positioned, covering the full water value chain with practical solutions. That breadth differentiates us at a time when customers are looking for credible, scalable partners.

As we pivot further into growth, we'll keep building capability where we have structural advantage. mission-critical utility and industrial applications where reliability, compliance and life cycle costs matter most, digital platforms that help customers optimize network performance and make resilience affordable, advanced treatment and reuse that support economic growth without increasing freshwater withdrawals or compromising communities. and services that turn our technology and installed base into dependable high-value outcomes for customers and durable revenues for Xylem.

We're already doing this work at scale, helping cities and industries recover water they already have, reuse what they once discarded and run their assets more efficiently. We're helping Los Angeles produce 580 million gallons of recycled water per day with plans to deliver 260 million gallons more. Smaller communities like Hot Springs, Arkansas are reducing water losses by 50% or more with far less digging costs.

On the industrial side, Silfex, a microelectronics manufacturer is reusing 80% of its process water with a Xylem ultra-pure water system. One of our aerospace customers is now avoiding more than $30 million in wastewater disposal cost with 0 liquid discharge technology. reusing more than 66 million gallons of water annually. All of these examples are responses to intensifying water trends, driving sustained demand for the solutions we provide across the water value chain. We are confident in the strength of our team and our platform to capitalize on that demand and to deliver sustainable, high-quality growth over the long term.

With that, we'll open the call for your questions.

[Operator Instructions] And our first question today comes from Deane Dray from RBC Capital Markets.

Matthew, as we do the calendar flip and as you start Phase 2, maybe you can give us a 2-year progress report, if you could, just kind of reflect on the initiatives regarding margin improvement, portfolio optimization and how you are also trying to keep your eye on growth opportunities, too.

Yes. So first, we've got a lot of work to do in front of us. I'll start there. But if you look back over the past few years, the results have really exceeded expectations from my perspective. Maybe just even starting firstly with not long ago, we were talking about the integration of Evoqua and Xylem. And we've built a great deal of muscle in terms of M&A and integration, and we really enhanced our combined culture along the way, and we delivered synergies 18 months early. So I give the team a lot of credit there starting with that integration.

And at the same time, we've made significant progress in our operational model transformation, which is really about really our culture, our high-impact culture, improving our processes and systems and our structure. And maybe I'll just maybe point to a few proof points on the progress that we've made. The first in significant amount of change that we've been going through the past couple of years, I looked at our engagement rating the other day.

And in essence, an engagement rating in your employee survey is, would you recommend Xylem as a great place to work? Almost 90% of our top 150 leaders said they would. And overall company was 74%. When you're going through a significant transformation, I think that's a really good outstanding result. And the industrial sector average is around 37%. And so I think it just speaks to the resilience of our team and the culture that we're creating. Another good measure that I talk about a lot is on-time performance in terms of how we're really moving our operating model forward. And we've gained 500 basis points of on-time performance, delivering products to customers more effectively over the past couple of years.

And structurally, we've really improved moving from a highly matrix structure to a more 4 segments, 16 divisions, a single axis, reducing our spans and layers. And we reduced our -- we had several micro teams, I think 1,500 micro teams. We reduced that by 40%. So that's folks that have 4 or less direct reports. And so we've really improved our structure, our culture, processes and our systems along the way. Maybe I would just -- like I said in the prepared remarks, we've taken a lot of ground on what I would call Phase 1. It's not over. We have more work to do, but we're starting to transition into what I would call Phase 2, which is really about leveraging that simplicity that we've created, the focus, the speed and accountability to really build a growth engine in the company.

And that's focused on a few areas I would highlight at a high level. One is our sales force effectiveness. We need our sales teams 75%, 80% of the time facing the customer versus 40 or 50 or 60 doing back-office work. We need to improve our product life cycle management and innovation, really speed to customer value. So those are areas that we're -- as we pivot, we're going to be keenly focused on this year and building capabilities so we can leverage the simplicity and get back to growth.

But I'm just -- I'm very proud of the team. I appreciate the question and really the resilience they've shown not only with all the change that we had to deal with, but also the change that's been external to the company as we've dealt with over the past couple of years. So maybe I'll end it there.

That's really helpful. And then as a follow-up for Bill, maybe you can expand on the point of increasing the 80/20 walkaway revenues in the second year. Maybe it's a surprise to me, I think, because I would have thought in the first year, there'd be more opportunities for less -- identifying less profitable businesses, not having it accelerate into the second year. So maybe just kind of help put that into context. Appreciate it.

Yes. No, sure. But let me step back first and just talk about how 80/20 is really taking hold in the organization kind of 2 years into the transformation that Matthew highlighted. Each quarter, we take another step in simplifying Xylem, shifting from just leveraging 80/20 as a tool set to being a critical piece of how we run the company with a real focus on resource allocation, putting our best people and investments around the largest value-creating opportunities. We've got about 80% of the business in some phase of implementation right now with the capital and services piece of WSS, the only part of the company that fully launched, and they'll start at the end of this year after they get through their ERP upgrade. And the team continues to make solid progress leveraging the tool set, right?

We started this year with redesigning the organization and putting P&L leaders in charge of the divisions so they could have a good perspective and drive a lot of this change. They looked at the cost that they needed to support the business and optimize that overhead to get our foundation as lean as possible to make sure that we're focused on simplifying that organizational construct. As for the 2% headwind, right, a lot of that comes with an evaluation of the product and customer portfolio, really understanding the geographies where you might be underperforming, putting in a commercial filter, getting the sales and engineering teams developed and leveraging that filter to make sure that we're not taking business that we shouldn't.

We're looking at parts of the business where we have significant pass-through revenue that doesn't have significant margin. And all of those decisions take a little bit of time because you want to make sure you bleed the inventory, so you don't have an excess issue. You want to partner with your customers to make sure they're supported through the transition. So there's the cultural and adoption part of it that extends it. And then there's just the customer coordination, which really pushes it into 2026. So excited about the teams taking these actions. And ultimately, I think it's going to free up our organizational and economical capacity to better support or facilitate our longer-term growth trajectory.

Our next question comes from Scott Davis from Melius Research.

I wanted to follow up on that question because there's a certain point where 80/20 goes from being a headwind to a tailwind, meaning that you're doing better with the customers that matter the most and perhaps gaining share and such. But when is that point? Do you start to see some impacts like 2027, 2028? Or is it just too hard to say at this point now that you're kind of in the middle of it?

I would say that really 2026 is kind of an inflection point, Scott, for us. The operational transformation never ends, as you know. But we've taken enough ground where we started in the back half of 2025, and we're coming into '26 with a bit more momentum around, I would say, building the growth engine and focusing on customers what we call raving fans and actually building out our enterprise selling organization. So all that is in flight.

I think the big thing this year is about building sales force effectiveness and helping our sales organization get more oriented toward the customer, the majority of the time, meaning today, a lot of our sales teams are doing a lot of admin work, and they don't get in front of the customer, maybe 30%, 40% of the time. And the goal over the first half of this year is to change that to, say, 75%, 80%. So I think we're building momentum. And I'd say we exit 2026 with a lot of, again, momentum around building the growth engine and starting to move towards growth and leveraging this simplicity that we've created.

Okay. Yes, that makes sense. And I have to ask, your balance sheet is starting to look a little bit too good. And it looks like your stock might open up a little bit light today. I mean, what are you guys thinking as far as buyback and -- or do we want to keep the dry powder for M&A?

Yes. Maybe just to highlight that our priorities continue to be investing in our core business, followed by M&A, dividends and then lastly, share buyback. So I've said this on some other calls that our acquisition process that we put in place a couple of years ago is really maturing nicely. It's much more bottoms up. We've got a very strong actionable funnel as an outcome of this process. And we deployed about $250 million of capital last year towards M&A in the second half of the year, and we have much more than that, that's already in process for the first half of '26. So seeing good momentum there.

And we'll continue to target around $1 billion a year of capital deployment towards M&A. We won't not entertain a transformational deal, but it's not something we're focused on right now. It's more medium -- small to medium bolt-ons. With regard to your thoughts on share buybacks, we'll continue to be opportunistic. But again, we're going to be more forward leaning towards investing in the core and M&A. However, at low leverage levels, like we're seeing now, we're going to be much more active in buying back shares.

Our next question comes from Mike Halloran from Baird.

So the backlog exiting the year in context, what it means for this year and the phasing for the year is where the backlog exit rate was? Is that part of the 1Q softness? How do those sequentials work through the year? And then related, maybe just a little bit about the hesitancy on the project side and compare that to maybe what the customers are saying, the pipeline, verbal orders, however you want to put it?

Yes. Maybe I'll touch first just on the backlog positioning, and Matthew, you can comment on the project side. So first off, right, obviously, we've led backlog as we progress through this year and the lower backlog directly impacts the 2026 cadence and revenue guide. First, on MCS, we talked about them working down their backlog throughout the year, getting to a more normalized level. We highlighted really strong orders in the fourth quarter, but we actually had anticipated a few larger projects to book that push out in the first half, which puts a little bit pressure on our ending backlog and then pressure on kind of our first and second quarter revenue.

We've talked China has been really weak, especially in treatment, which is a bigger backlog business for us that probably put us at a lower backlog position. And then we talked about the walkaway revenue. Obviously, that's impacted orders first before it impacts revenue. So we've seen just a lower backlog associated with some of those actions as we progress through the back half of the last year. So I think we're in good shape to start the year. We've talked about healthy commercial funnels for both MCS and WSS, our largest backlog businesses. What we have line of sight to relative to commercial funnel, I think reasonable confidence and line of sight to the improved progression as we go through the year.

And then maybe some thoughts on China. I know you've done a lot of work already because of the environment. But what are the steps you're taking from here given the softness? And how do you see that shaking out over the next couple of years in terms of the commitment to the market, ability to manage that market given the local headwinds, both local as well as softer end markets and kind of what changes are you making?

Yes. So I think consistent with the commentary we provided for the last couple of quarters, China remains a challenging market for us, both on the orders and revenue side. It did accelerate that decline as we progress through the back half. Q4 orders were down almost 70%. Sales declined almost 30%. Part of that is just reflecting of the economic headwinds impacting utility and commercial building and industrial end markets and primarily impacting us within Water Infrastructure and Applied Water, right? Local competition continues to drive intense price competition due to the capacity that they've built. But our teams are applying an 80/20 lens to focus on higher quality, more profitable opportunities, which is creating some of the top line pressure, right?

I mean we're calling that within the China bucket, but you could probably put a little bit of that in the walk away just as we're deliberately exiting some of that low margin or negative margin business within China. As we talked about last quarter, China restructured its operations. We reduced our headcount by over 40%, just to better align with that volume contraction. But right, we're looking to reallocate the resources that are on the ground just around targeted opportunities where we think we have a technological advantage and we can provide some differentiation in certain applications where we can win and deliver stronger margin performance because of that differentiation.

And ultimately, right, China is a very large economy. We don't think there's going to be a material improvement here over the next year or 2. But longer term, it's a place that we think that Xylem will be able to grow -- get back to growth at a much higher margin profile.

Our next question comes from Andy Kaplowitz from Citigroup.

Matt or Bill, so just maybe a little more color on what's going on in smart meters. You did have solid orders, but Bill, you mentioned orders were still below what you expected. And I think peers have had even a harder time than you in water smart meters. So what are you seeing in the market between water and energy? Is your mid-single-digit revenue growth forecast for '26 contingent on converting some of these delayed projects to backlog in the first half? And does availability of memory chips impact the outlook at all?

Yes. Maybe I'll just maybe start at a high level, Andy, then I'll let Bill get into a little bit of color. But I just want to tell everyone on the call, we remain very confident in M&CS to achieve high single digits long term as a segment. The near-term outlook really reflects project timing and some of the backlog normalization coming out of COVID and walk away revenue. So it's not a change so much in underlying demand. The biggest area of walk away in the segment is in analytics. It's one of the last divisions to go into the 80/20 tool, and they're in the process of shedding organic business right now.

Although we do have a little bit of walk away in smart metering as well in 2026, and we've exited mechanical meters, and we've made a decision to be a bit more selective when we do the meter installation. A lot of times, that comes at low margin or no margin pass-through and is a drag on earnings and margins. So we've been a bit forward leaning into that. Bidding remains strong and customers are still ordering and our win rate is higher than it has been in the past.

So I think in general, things are healthy. But maybe one other comment I would make is, again, going back to this post-COVID, the backlog helped to smooth and some of the unevenness that we typically get in this segment and that can have. So I do think we do expect a bit more variability in quarter-to-quarter going forward. So maybe one other point I would make is I would highlight that in the Xylem Vue business, which doubled in 2025, we're expecting that digital business to grow 30-plus in 2026. So as we exit this year, that will continue momentum and help drive the top line of this segment as well.

And then Andy, I think your question on the memory piece, we don't see that as a material impact either from an availability or significant increase in inflation for us to have to pass on to customers.

Helpful, guys. And then, Bill, maybe a follow-up for you. You're guiding to 70 to 110 basis points of margin improvement in '26. As you know, it basically takes you past your 23% and change adjusted EBITDA margin goal for '27 in '26. So where do you go from here? Are you going to have an Investor Day? Maybe you just set new targets and maybe the entitlement of the business from when you started here, is it mid-20s or higher? How do you think about that?

Yes, I'll take it, Andy. I think from my perspective, we're already outlining an Investor Day for 2027. We'll update strategy and targets at that point. It's probably sometime in the spring of next year. We have some work ahead of us to deliver this year, and we don't want to get too far out over our skis. But as a reminder, we laid out the long-range plan at our last Investor Day in May of '24 we -- to your point, that we would move from 20%, which was the forecast of 2024 margins to 23% by the end of '27. So we're guiding this year just over 23% at the midpoint. So we're tracking ahead, and there's likely upside to our long-term targets as we exit '27.

We've made a lot of great progress. And I give the team a tremendous amount of credit, as I said with Deane's question at the beginning, a lot of change, and we've been able to execute. So I think, Andy, about just over a year from now, we'll be in a better position to update the framework and talk about margins.

Our next question comes from Nathan Jones from Stifel.

I'll start with a follow-up on the MCS orders and the smart meter projects that have pushed out. Maybe a little bit more color on what the cause of those pushing out are, if you have any insights there, degree of confidence that those things kind of come through in the first half in order to support the outlook for improved growth in the second half?

Yes. And I think there are several projects and all of them have a little bit different reasons for pushing out. There's not a common thread around it. Some of them are just relative to where they're at with several other projects going on. So I want to push out a couple of months. Some of them have reshaped the scope of the project relative to just increased inflation they've seen from tariffs and other inflation creeping up over time. So it's -- for us, it's a handful of things that we're intimately involved with the customers.

We understand kind of their project plans and some of the hesitancy, and we're working with them to shape an implementation that works with them economically and then still has an ability for us to drive kind of incremental revenue this year. So I think we have reasonable visibility. Again, this isn't 50 different projects. It's kind of 5 to 10 that we're working with the end customer that we have confidence in based upon our guide and our revenue progression for MCS through the year that we'll be able to deliver on.

Okay. I guess next question on divestitures. You guys have talked about up to 10% of revenue being a potential candidate for divestiture. Anything we should expect action on that in 2026? And if you could provide the EPS impact from the divestiture of the international automated business, that would be helpful as well.

Yes. I think we talked about, Nate, we were evaluating about 10% of the portfolio. Last year, we exited a business in the first quarter. That was about 1%. International metrology is about another percent. There's probably 2 or 3 assets that maybe another a couple of percent. So I don't think we're going to hit the 10% number. that we were looking at. But obviously, portfolio evaluation, something that we do on a recurring basis as businesses shift strategy or they want to double down in certain parts of the business, maybe an area becomes less important.

So I think it's an ongoing activity with -- I don't think anything significant outside of international metrology for this year. And then the EPS impact for international metrology is fairly small for the year. We talked about it's a $250 million business at less than 10% EBITDA margin. We'll close it at the end of the third quarter -- or excuse me, at the end of the first quarter, so you kind of got 3 quarters. So it's $0.02, $0.03.

Our next question comes from Joseph Giordano from TD Cowen.

This is Michael on for Joe. Yes, on the last call, you mentioned there was a path to higher margins for the energy meter side and MCS. And since it's mix negative versus water meters, can you just unpack that glide path higher? And what's the status of the transformation?

And your question specifically around just the improvement on the energy meter margin?

Yes. I believe on the last call, you mentioned there was a path higher for energy meters on the margin side. So I would just love to better understand where we are in that cycle.

Yes. I think there's a couple of things. One, there's some structural changes on the energy side from an engineering and a technology perspective that are going to level up, value-add value engineering projects that will lift the margin profile. We did highlight there's a couple of projects that are legacy within energy that they're working through their backlog that put pressure on margins in 2025. That will continue in the first half or first 3 quarters of 2026. So you'll see a margin progression with MCS down slightly overall in the first quarter and then sequentially build a pretty robust margins as it exits the fourth quarter with water balance, the water meter balance being back to more legacy rates and then some of the progress on the energy margin improvement taking hold.

Great. And then orders for the year ended pretty strongly. The organic guide kind of implies a ramp to the back half. Can you just unpack organic expectations? You kind of mentioned this a little bit in the beginning of the call, but by segment for Q1, I just want to understand it came in a little bit lighter than probably most were expecting. I would appreciate the color.

Yes. I think the biggest variable is probably MCS. They'll be down kind of 1 point or 2 in the first quarter relative to probably the external expectations. WSS, we talked about just the lumpiness of that business. They'll be kind of flattish with Water Infrastructure and Applied Water a little bit below their full year guide just with some of the first half pressure that they have from China.

And our next question comes from William Grippin from Barclays.

Just first one here. I did want to ask about the 4Q operating margin step down across Applied Water, MCS and WSS. Is there seasonality inherent in this business? And then maybe how should we think about that, I guess, in relation to the ongoing tailwinds of 80/20 execution?

Yes. And I would say really for WSS, it's more of a mix of business between quarters. So nothing structural there. Within Applied Water, obviously, Q4 was a bit of a blip relative to the performance that they experienced through the first half of the year and really reflected just some negative project mix and a little bit of execution timing and some onetime items. These are transitional factors, and we expect EBITDA margins to be back up in the 20% range in the first quarter and then sequentially improve throughout the year with volume increases and their productivity initiatives ramping up. So yes, it's more of a short term than anything structural. Applied Water, I think, gets back to some pretty robust margin expansion in 2026.

Got it. And then I wanted to ask also about the recent report you folks published in partnership with GWI on water demand management for data centers. I would just be curious to hear sort of your thoughts on what surprised you from that report and perhaps where you think the biggest opportunities for Xylem are to accelerate its growth might come from?

Yes. Thanks for the question. When I was at Davos, 2026 was deemed kind of the year of artificial intelligence. There were a lot of talk of pilot projects now scaling into productivity solutions, and that's why a lot of the AI build-out is racing ahead. Actually, Gartner had a recent prediction that 2026, hyperscalers would invest over $2 trillion in new data centers. But I think one big thing from the report that was pointed out that there's 2 big constraints to that $2 trillion of investment, and that's energy and water.

Up until now, energy has gotten the majority of the attention, and I think water is starting to finally be brought up in the discussion.

So the reason we commissioned the report is we have a pretty good view of the whole water value chain, and we were trying to figure it out ourselves what is the impact of this new economy and the broader AI ecosystem on the water sector. So we couldn't really find any good data. So we partnered with Global Water Intelligence and commissioned the report, and we kicked it off at Davos.

But maybe the first eye-opening stat I would point to is the demand is soaring, and it's really not so much that this new economy is more water intensive to say, some of the first or second industrial revolutions around textiles or steel mills or pulp and paper. It's really more about where the data centers and chip fabs are located is the biggest issue.

But the AI ecosystem, which is data centers, it excludes mining, but data centers, power and semiconductors will need about 30 trillion liters of water each year by 2050. That's a 130% increase in water demand and kind of frame it for everybody on the call, that's late me a year in the western part of the U.S. where it's 12 million Olympic swimming pools. So it's a significant amount of water. The interesting finding was the data centers, the actual direct use is not really the culprit. It's only 4% of the water that's needed. The other 96% is power and chip fabrication, which is predominantly actually power driven, but chip fab is set to grow by roughly 600%. So that was probably one of the biggest takeaways. I think the second, and I don't like to be chicken little.

I want to -- the second point is we can solve the problem, and we have the technology and solutions to manage the demand today and quite frankly, offset the 30 trillion extra liters that we need. And that's largely through water reuse. And I talked about in my opening remarks what we're doing in Los Angeles with reuse water there to help recharge their aquifers and also leak mitigation. These are not hard things to do. I mean, they're hard to implement. They're not hard things to do, though. And over almost 30% of water that's generated today, freshwater to send out to businesses, industry and residents is what gets leaked into the ground. And we have solutions to solve those problems like the project we talked about in the last call with Amazon.

But maybe one example I'll leave you with as I wrap this up is in Arizona, we were out there a few years ago, Intel and the city of Chandler have partnered together. So we need much more public-private partnerships. 90% of the reject water that they generate. So when you have to provide ultrapure water in chip fabrication, the reject water is very high to get to that purity. So all that reject water, Intel invested capital and OpEx to build a recycling plant that they handed over to the city to run and manage. And 96% of that water is being reused.

So we need more of that at scale to solve the problem. So again, the solutions there. It's just about getting the stakeholders at the table early in the data center planning where we talk mostly about energy, we've got to talk about water. So thanks for the question. And maybe I think the second part of your question, I'll answer. For us, it really -- inside the 4 walls of the data center, yes, we do some business, but it's really outside the 4 walls, and it's largely in our WSS segment around mining, around power generation and around chip fabrication is where you're going to see the growth within Xylem.

And ladies and gentlemen, with that, we'll be concluding today's question-and-answer session. I'd like to turn the floor back over to Matthew Pine for any closing remarks.

Thanks for your questions. We'll wrap it up there and thank everyone who joined today. And as always, we appreciate your interest in Xylem. All the very best.

And with that, we'll conclude today's conference call. We thank you for attending today's presentation. You may now disconnect your lines.

Welcome to Xylem's Third Quarter 2025 Results Conference Call. [Operator Instructions] Please note that this event is being recorded.

I would now like to turn the conference over to Mr. Keith Buettner, Vice President of Investor Relations and FP&A. Please go ahead, sir.

Thank you, operator. Good morning, everyone, and welcome to Xylem's Third Quarter 2025 Earnings Call. With me today are Chief Executive Officer, Matthew Pine; and Chief Financial Officer, Bill Grogan. They will provide their perspective on Xylem's third quarter results and discuss the fourth quarter and full year 2025 outlook. Following our prepared remarks, we will address questions related to the information covered on the call. I'll ask that you please keep to 1 question and a follow-up and then return to the queue.

As a reminder, this call and our webcast are accompanied by a slide presentation available in the Investors section of our website. A replay of today's call will be available until midnight, November 11, and will be available for playback via the Investors section of our website under the heading, Investor Events.

Please turn to Slide 2. We will make some forward-looking statements on today's call, including references to future events or developments that we anticipate will or may occur in the future. These statements are subject to future risks and uncertainties, such as those factors described in Xylem's most recent annual report on Form 10-K and in subsequent reports filed with the SEC. Please note the company undertakes no obligation to update any forward-looking statements publicly to reflect subsequent events or circumstances, and actual events or results could differ materially from those anticipated.

Please turn to Slide 3. We have provided you with a summary of key performance metrics, including both GAAP and non-GAAP metrics. For the purposes of today's call, all references will be on an organic and/or adjusted basis, unless otherwise indicated, and non-GAAP financials have been reconciled for you and are included in the Appendix section of the presentation.

Now please turn to Slide 4, and I will turn the call over to our CEO, Matthew Pine.

Thank you, Keith. Good morning, everyone, and thank you for joining us. I'm pleased to share that the team delivered another great quarter, continue our momentum with disciplined execution, driving strong results across the business. Revenue grew in all segments and most end markets with double-digit growth in Measurement & Control Solutions and Water Solutions and Services. We also achieved record quarterly EBITDA margin north of 23%, expanding 200 basis points year-over-year and delivering 23% EPS growth. It's a great performance by the team, supported by healthy demand. While orders were down slightly against tough comps, we saw notable growth in Measurement & Control Solutions with strong performance across smart metering, underscoring the differentiation of our core portfolio. .

We continue to see strong demand for our mission-critical solutions across all segments. These results reflect the impact of our commercial and operational momentum as well as the benefits of our ongoing simplification efforts. Our 80/20 implementations continue to drive margin improvement and focus our resources on the highest value opportunities. And we're also moving even faster than anticipated, especially with the restructuring component of our operating model transformation. These changes we've made to culture, processes and structure are enabling faster decisions, clear accountability and better service.

The team's impact on increasing quality of our customer experience is a great example. We began to set new Xylem benchmarks for on-time performance. That serves to strengthen our customer relationships and reinforce our reputation for reliability. Solid execution is deepening trust with our customers. At the same time, it's expanding margins, and they see the benefit in how we partner with them on innovation because 80/20 focuses our energy and resources on their most important challenges. As we've often said, 80/20 isn't a cost-out tool, it's about resource allocation, helping us redeploy capacity to the areas of our portfolio and customer base where value and impact are greatest, which is aligned with our strategy of portfolio optimization and disciplined capital deployment.

It's that discipline and mindset that led to divesting the international metering business, which we announced earlier this month. The sale concentrates are focused on AMI technologies in markets where we have the strongest differentiation and are best positioned for profitable growth.

Turning to our outlook. Given our performance and resilient market demand, we're raising our full year guidance for revenue, margin and EPS. Our guide reflects confidence in the team's ability to deliver our commitments even as we manage through continuing macro uncertainty. We expect our momentum to continue through the end of the year and beyond, and we're solidly on track to deliver our long-term financial framework.

With that, I'll turn it over to Bill to walk through the quarter's results, our financial position and our updated outlook in more detail. Bill?

Thanks, Matthew. Please turn to Slide 5. We're very pleased with the strong quarter and year-to-date progress. Ongoing simplification efforts have improved our organizational agility and risk management effectiveness, positioning us to navigate uncertainty with confidence. We anticipate further benefits as we continue advancing our simplification initiatives through our operating model transformation and fully leverage the advantages of our 80/20 implementations. Demand across the business is healthy, and our year-to-date book-to-bill ratio remains near 1. Orders were down 2% in the quarter, but against tough comps, with softness in China, mostly offset by growth in the U.S. and Western Europe.

Backlog remains robust, closing the quarter at approximately $5 billion. Revenue growth was strong at 7% in the quarter, ahead of our expectations, driven by outperformance in MCS and WSS. North America was particularly strong in the quarter while we grew across most regions and end markets. EBITDA margin expanded 200 basis points year-over-year, driven by productivity, pricing and volume, more than offsetting inflation, investments in mix. Increased operational discipline continues to come through in our results with Q3 EPS of $1.37, up 23% versus the prior year.

Year-to-date free cash flow was down modestly, primarily due to outsourced water projects and restructuring payments, mostly offset by higher net income and improved net working capital. Net debt to adjusted EBITDA stands at 0.4x, reflecting our strong balance sheet and capacity for continued investment.

Let's turn to Slide 6. We had fantastic results across the segments, starting with Measurement & Control Solutions. Demand for our AMI solutions remains robust as orders grew 11% organically with strength across water and energy metering. Backlog remains healthy at $1.5 billion. Revenue was also up 11% driven by energy metering demand and backlog execution. EBITDA margin was up 60 basis points year-over-year to 21.8%, driven by productivity, price and higher volumes, offset in part by mix and inflation.

As Matthew mentioned, at the end of the quarter, we signed a definitive agreement to sell our international metering business. The business, which includes water and heat meters generated around $250 million of revenue in full year 2024 with a consolidated adjusted EBITDA margin of less than 10%. We expect to close in early 2026 with a selling price of $125 million. This will drive a 100 basis point margin improvement in the MCS segment on a run rate basis. The divestiture will allow us to focus on the North American meter market where we have substantial competitive differentiation with the only FCC licensed proprietary bandwidth on our FlexNet fixed network, serving water, gas and electric utility customers. .

In Water Infrastructure, demand remains strong across most regions and end markets. Book-to-bill was above 1 despite orders declining by 2% against difficult comps. Significant softness in China and funding timing from the AMP cycle in the U.K. were the primary drivers of the decline. Revenue grew 5%, led by strong demand in transport and treatment and growth in most regions with double-digit growth in the U.S. EBITDA margin expanded a robust 400 basis points to 24.4% driven by productivity, price and mix, partially offset by inflation, volume and investments. And the team continues to get significant traction with their 80/20 efforts as treatment starts to replicate the success we have realized in transport.

Applied Water continued its turnaround in the year with orders growth in the quarter, just edging into positive territory, making it its 7th consecutive quarter of gains. The result was driven by strength in the U.S., mostly offset by a significant slowdown in China. Revenue increased 1% with growth in both the U.S. and Western Europe and strength in Building Solutions, again, partially offset by China. EBITDA margin expanded 310 basis points to 21.7%, driven by productivity, mix and price, partially offset by inflation, investments and volume. Applied Water continues to gain traction from 80/20 as it accelerates both productivity and growth.

And in Water Solutions and Services, orders were down 11% against really tough comps, driven by timing of capital projects, though year-to-date book-to-bill remains above 1. Revenue grew 10%, with contributions from capital projects to watering and services. EBITDA margin expanded 160 basis points to 26.3%, reflecting strong execution on price, volume and productivity, partially offset by inflation, mix and investments.

Let's move to Slide 7. We're updating our annualized tariff outlook based on the current rates, noting the fluid nature of the impacts, as of today, our updated annualized impact is roughly $180 million with the inclusion of additional Section 232 derivative tariffs. While there remains uncertainty around final timing and tariff levels, we are confident that the pricing actions and available supply chain levers will allow us to substantially offset the current impact, though we expect a slight margin dilutive effect. We have not seen a meaningful volume impact on the business due to tariffs, but decision-making has taken a bit longer than normal given the uncertainty.

Let's turn to Slide 8. Given our strong year-to-date performance and execution momentum, we are again raising our full year guidance. We now expect full year revenue of roughly $9 billion, representing 5% to 6% total growth and 4% to 5% organic growth. EBITDA margin is expected to be 22% to 22.3% reflecting 140 to 170 basis points of expansion versus prior year, up from the previous guide of 21.3% to 21.8%, primarily due to an acceleration of our restructuring and simplification efforts. We are further raising our EPS guide to $5.03 to $5.08, up from $4.70 to $4.85. Free cash flow margin expectation remains at 9% to 10%.

For the fourth quarter, we expect revenue of approximately $2.4 billion with 2% to 3% organic growth. And as a reminder, we grew 7% in the fourth quarter of 2024. EBITDA margin is expected to be roughly 23% and EPS is expected to be $1.37 to $1.42. We have a strong trajectory as we close out the fiscal year. While there continues to be macro uncertainty, particularly around tariffs and FX movements, the team is doing a great job controlling what we can control and building a systematic process to deliver results. We have confidence in our ability to meaningfully outperform our initial guidance set out in February, supported by strong demand, backlog execution and accelerated benefits from simplification.

Let's turn to Slide 9, and I'll turn it back to Matthew.

Thanks, Bill. Before we move to Q&A, I want to highlight some great work the team has done with Amazon and 2 of our large municipal customers on a couple of projects, we announced during the quarter. They are a great example of how Xylem's leadership in digital water solutions positions us in a global economy being transformed by artificial intelligence. Together with Amazon, we're deploying Xylem's view advanced analytics in Mexico City on Monterrey, helping these cities save more than 1 billion liters of water each year. .

This partnership is a model for how hyperscalers and communities can collaborate to ensure water security for both businesses and residents. And it's a clear example of how our solutions are creating meaningful impact for customers and communities. That's only going to become more consequential as AI infrastructure expands. Attention is focused on data centers, which is understandable. Data centers consume a lot of water, so they present clear applications for water management and reuse solutions that AI's water footprint is much, much larger.

The whole AI value chain runs on water. Alongside data center build-outs, water demand is growing across key verticals like power generation, chip fabrication and mining for essential minerals. In examples like the work with Amazon in Mexico, we see the potential for water solutions that resolve the difficult trade-offs between economic growth and community well-being by effectively providing for both. As AI shapes a new economy, we're optimistic about the opportunity to have positive impact on both customers and on the communities that they serve, increasing water security for both.

That optimism is built on both underlying macro trends and on solid foundations the team has been building, positioning Xylem for sustainable long-term growth. The word simplification can make it sound easy, but our strong performance over the last several quarters is a function of the team's dedication, drive and tireless execution. Our self-help initiatives, including 80/20, portfolio optimization and our operating model transformation are all delivering results. If anything, we're moving a little faster than expected.

Overall, we have a positive outlook for the remainder of the year, we're well on track to deliver our long-term financial framework, and we are strongly positioned to drive sustainable growth and value creation over the cycle.

With that, operator, let's open the line for questions.

[Operator Instructions] And your first question today will come from Andy Kaplowitz with Citigroup.

Nice quarter. Matt and Bill, you're now expecting 140 to 170 basis points of EBITDA margin improvement for '25. I think your Investor Day algorithm has been 100 basis points per year. And obviously, segments such as Water Infrastructure and Applied have had substantial 80/20 benefits so far. So the obvious question becomes how much improvement is still left in the tank? Can you continue to get that 100 basis points off the higher base as you go into '26 and beyond? And is it time to start thinking about a higher potential '27 adjusted EBITDA margin versus your Investor Day target?

Great question. Just as a reminder for folks that may have not heard our Investor Day numbers, we had put out 4% to 6% growth with 23% EBITDA margin by 2027. Now to be fair, we did finish 2024 at 20.6%, so there was 300 basis points up to 20.6%. We're guiding to your point, 22 plus for this year ahead of schedule. So there's likely some upside to our long-term targets. Right now, we're focused on delivering on 2025 commitments. And quite frankly, working to dial in 2026.

There's still a lot of noise out there, macro we're trying to digest. And internally, there's a lot of good things going on that we're trying to calibrate as well. And we'll have a lot more detail in February. But I would say we've made great progress. And I would -- Andy called this the first phase of our journey, and that was really around transforming our operating model, both around our culture, our processes and our structure. And this work never ends. It's always ongoing.

But what we're trying to do in the next phase of our journey as we move out of Phase 1, we've taken enough ground into Phase 2 is to leverage that simplification that we created, to drive our growth engine in what we call Phase 2. And some examples of that would be enterprise account management, targeted selling, especially with our A customers, customers we call raving fans. And to leverage what we've done in 80/20 to redeploy effort for innovation as well. So maybe the last thing I would also comment, what I would call Phase 3 is getting after a long-term competitiveness by doubling down on some of our core franchises like North America metrology.

Hence, you saw the divestiture of the international business, commercial services, our transport business, where we really have strong positions. So -- and M&A that aligns to our value mapping and leveraging the strong balance sheet that we have. So I would say that we have a lot left in the tank. There's more on margins. But more holistically, really this in our first phase of our journey and making good progress.

Very helpful. And then, Matt, you had difficult comparisons in Q3 in MCS, yet you still delivered 11% order growth. Is the strength broad-based in energy and water meters? How is that strength sets out up for 2026 in that segment? Does it mean good visibility toward growth in both smart energy and water meters in '26?

Yes. I mean, in MCS, overall demand is still healthy, right? Our pipeline is strong and the fundamental growth drivers for AMI adoption are still solid. We don't have a concern about funding here in the short term that's been raised a little bit, and we have a long way to go on AMI adoption. We're still less than 50% there. We're through the deployment calibration phase, which took almost a year, but we sit with pretty strong backlog level at $1.5 billion, which is down versus last year, but reflecting a move towards a more normalization to historical levels, kind of after the post supply chain surge in this project redeployment phase, and we're typically around 60% of the following year sales, and we're getting closer to that balance.

This order strength in Q3, up 11%, it was across both water and energy meters. We have a really strong commercial funnel and continue to gain share with our largest 4,400 municipalities that account for about 80% of the AMI market. Q4, we've talked about all year. We think we're going to be back to a book-to-bill positive. As we see some of the water meter project wins convert to orders and our energy funnel still remains robust. So Q4 is shaping up really well, are expected to be up double digits on the water side, making our water growth in the back half, kind of mid-single digits. MCS sales will be up sequentially, too, from the third quarter to the fourth quarter. And the outlook for 2026 remains in our long-term framework of high single digits.

Your next question today will come from Deane Dray with RBC Capital Markets.

That was a really nice earnings quality this quarter between organic revenue, incrementals and cash flow, so you can check the box there. Would like to hear a bit about the government shutdown. We're getting a lot of questions about that. Just kind of what are the ripple effects into -- from federal funding to state and local, have some projects being delayed because of that? And just kind of what does that mean for the setup into '26?

Yes. On the government shutdown front, we haven't seen anything meaningful. Funding mechanisms have always been slow to move in general in this space, especially with municipalities. And previously allocated funds will still make their way down to fund projects. So right now, we don't see any meaningful impact. In the near term, there could be a pause on EPA grant application reviews, but I don't see that, that's going to have any material impact on Q4 or, quite frankly, on the full year of 2026. So all in all, we feel good about the municipal resilience, not only in the U.S., but more broadly across the globe.

Really good to hear, and I appreciate the answer to Andy's question about the 80/20 implementation and entering Phase 2. But can you just step back on 80/20 because there was such high expectations, and there are still high expectations about the fundamental changes that are happening at Xylem. Broadly, what inning are you in? Have all the business has gone through their first implementation? And kind of where do you go from here in terms of further divestitures at the margin? Should we be expecting anything like that in the next couple of quarters? .

Okay. I'll start here. Deane, 80/20 is, as you can tell by the results, really starting to take hold, almost 2 years into our transformation. And I would say that each quarter, the team continues to take another step towards what we call simplifying Xylem. So it's moving from a tool set to more of a critical piece on how we run the business, which is, in my mind, more cultural. So that's very strong evidence that things are progressing in a positive way. As I said in my opening remarks, it also provides this kind of what I would call them a maniacal focus on resource allocation, which is really, really important for any company.

So to answer your question more specifically, 80% of the business is in some phase of the implementation with our dewatering business globally, our analytics business and our treatment business, the most recent divisions to start the implementation of 80/20. Treatment being probably one of the bigger divisions we have so far to date going into the tool, and we'll see some meaningful impact to that division of our company. As you see from the results, we're moving with more speed, accountability, customer focus. One thing I talk a lot about is on-time performance and quality is metrics of the health of your company.

And on-time performance with our A customers reached a record high, and it's nearing what I would deem best-in-class in terms of industrial companies performance to their customers. So yes, maybe the last thing I would say, another proof point is just the margin improvement you're seeing in the legacy Xylem businesses with Applied Water and Water Infrastructure over the past several quarters. So maybe just one thing I just want to highlight for those listening. We're going to continue to walk away from revenue, Deane. We do have divestitures. We obviously will have just about 1% this year in divestiture and about 1% of acquisition this year, kind of almost washing, but obviously, the international metrology piece will happen next year.

It is a core focus. We've talked publicly about $400 million to $600 million of things that will be pruning on the portfolio and that we're still kind of tracking there. But the walkaway business will be a little bit more in 2026 in terms of 80/20. It was just under 1% this year. It will be just over 1% next year. But just to remind everybody, that comes with higher quality earnings. And it's all about simplifying the business so we can really build the long-term growth engine and focus on our customers.

Your next question today will come from Scott Davis with Melius Research.

I'll echo the congrats not just on the quarter, but it's been a really good couple of years for you guys. I just had to ask Matthew, this is kind of a strange question, but you led in with culture, processes and structure. What do you specifically mean by structure? I think that can mean different things to different people. So some explanation.

Yes. So structure was really getting at -- we were -- prior to this year, we were kind of highly a metricized structure. So we pivoted to more of a -- we had a segment orientation but more with discrete divisions under the segment, 16 P&Ls with discrete leadership GMs. And it just drives better accountability. I think the matrix structure served us well in the past, but going forward, just to drive better accountability, better empowerment, getting to a kind of a singular access around the segments and divisions, this enables us to make faster decisions. For example, in the prior structure, we would have 20 to 25 people sign off on a delegation of authority. Now we have 4 to 5.

And so this provides us the ability to be more nimble. It makes our colleagues lives easier and make our customers happier with our service. And so those were 2, what I would call, pieces of voice of customer that we got 2.5, 3 years ago that we wanted to address.

That makes sense. And then your net debt to EBITDA, 0.4, I think you mentioned. the kind of question on priorities in the next 12 months and if you can talk to your M&A backlog or when and if you kind of switch to more of a buyback priority and just where your head is on that stuff right now?

Yes. No, it's a good question. We've always said kind of our priorities are, let's invest in the core. We like M&A. We think it will help us really grow the business in a positive way. Dividends, obviously, would be next. And then we talked about opportunistic share buyback. So that's kind of our approach. As I've mentioned in prior calls, we have put a really strong process in place. Before a couple of years ago, we were a bit more top down and M&A were much more bottoms up, assigning targets to our segment leaders that are now focused maybe not equally, but for sure, focused on organic and organic in terms of growing the business.

So we've got a very strong funnel, probably the most actionable funnel we've had and it's largely because of the new process that we've put in place. So we'll continue to be very disciplined look at things that are strategic fit, meet our hurdles. We've got such a great self-help story right now, Scott, that real focus is on small to medium bolt-ons. We talked about deploying $1 billion of capital a year, trying to create $60 million to $75 million of EBITDA. But I wouldn't rule out if there was something very strategic and transformational, we would definitely look at it, but that's not our intent. So our intent is about $1 billion of capital deployment towards M&A each year.

And your next question today will come from Nathan Jones with Stifel.

A couple of follow-ups on MCS for me. Bill, I think you mentioned in your answer to Andy's question that you're still in the kind of high single-digits framework for 2026. The book-to-bill service is about 0.83, probably gets to 0.85 if you're close to 1 in the fourth quarter. And you have talked about burning off some backlog and backlog being at a more normalized level. I'm just wondering how that -- how the math works to get to high single digits for 2026? And why there wouldn't be maybe a little bit of a reset lower because you're not burning off backlog next year? So any additional color you could give on that would be helpful. .

Well, I think the $1.5 billion that we're at right now, Nate, is still elevated relative to historical. So as we burn existing backlog and start to get the book-to-bill positive, I think that supports that high single-digit framework with. We talked about the calibration of water getting back to a more normalized growth within that framework and some of the additional projects we have on the energy side that will layer in here over the next quarter or 2, gives us real confidence to get back there next year.

Great. I guess, second follow-up on the margin profile in M&CS, 60 basis points of margin expansion. I think I probably expected that to be a little higher. I think we're probably expecting the water mix to improve a bit and, obviously, can leverage on volume given the good growth. Maybe you can just talk about what the offsets were to the margin profile for MCS in the quarter and kind of where we should be longer term for that business? .

Yes. I think the biggest lever there has been the energy water mix. We talked about last quarter, obviously, the strong performance. There was a push out in some of the lower-margin energy projects that we've talked about. I think it's calibrated and sequentially, margins for MCS should look fairly similar here with the energy water mix normalization getting back to historical levels later in 2026 with that business, though, with some of the structural changes they've made relative to 80/20, you see it come through with Applied Water and with Water Infrastructure.

MCS has just been masked a little bit with this mix challenge. So we look for them to continue to expand margins into next year as mix normalizes and the second phase of some of their 80/20 simplification efforts pull through.

Your next question today will come from William Grippin with Barclays.

Just a couple of basic ones here, but you had a little bit of M&A spending in the quarter. Just wondering if you could provide some color on what that was for?

Yes, it's primarily associated with international metering divestiture.

Got it. And on that front, are you able to quantify sort of how accretive that divestiture could be to margin for the MCS segment?

Yes. In the prepared remarks, we talked about on a run rate about 100 basis points.

And your next question today will come from Andrew Buscaglia with BNP Paribas.

On the MCS margins related to the divestment. What are -- how do we compare you guys versus your larger peers in that space? And I ask that in that can you get 2 or even above some of those peers that you comp to? And I think divesting the international piece gets you one step closer. But are there other things you think you can do? Or how should we think about that long term?

I think, Andrew, if we would bucket our margin profile, our core water business within smart metering is at or above our peer set. I think the rule of nature is obviously the international metrology business that we're divesting. Within the energy piece, we've talked about is at a lower margin profile. Obviously, the team has done a phenomenal job of identifying opportunities to increase that over time, but there will always be a gap there relative to the technology differentiation and the end market applications. But right, our core water business, the profitability is significantly higher than some of our competitors and at some of the leading margin profiles that you're probably referring to.

Yes. Okay. Okay. That's helpful. And then I was hoping you could sort of parse out where you're seeing demand pickup versus internal efforts to improve organic sales. If you could just run through some of the markets, and you talked about what was maybe a little bit better or a little bit worse than you expected, demand-wise?

From an overall demand perspective, I would say, if we ticked off -- obviously, we spend a lot of time here just talking about, hey, resilient demand within MCS is still there relative to getting -- it's actually been in excess of our long-term framework here this year with the energy meter refresh cycle and then next year getting back to a combo of high single digits for both water and energy. Water Infrastructure rate, we continue to see resilient OpEx and CapEx demand. Transport has been really strong over the last few quarters. It was 5% growth against this quarter due to its mission-critical nature of its applications and gaining shares, the team has identified several different opportunities through segmentation, different regional opportunities where they're underpenetrated.

Treatment also has had pretty strong growth as it executes its backlog and focuses on different areas of the portfolio that they have the best profitable growth outlook. They're doing a lot of portfolio and looking at different bidding practices to nail down where they have differentiation and go after those areas. Applied Water, we talked about continuing its growth streak with really strong performance in the Western world and within commercial buildings, they've seen, along with -- the biggest headwind for applied water and water infrastructure has been China with double-digit decline in sales and orders for both segments.

And just to frame kind of China overall for Xylem, it had about 2% headwind on revenue and orders growth within the quarter. So pretty material. It's a smaller part of the overall portfolio. But as that market kind of accelerated its decline from kind of a macroeconomic perspective, and then the team is getting much more disciplined with the work that we're going after has created some headwinds.

And then lastly, I'd say WSS, obviously, double-digit growth, again, continued strength with our outsourced water projects. That's ramped here over the last 2 years as they focused providing some really differentiated technology to some large customers, along with dewatering, it was up double digits again this quarter. So we've seen lots of strength across all 4 segments with the only area of watch we dial in on China. And then a little bit in our prepared remarks, just talking about large capital projects. Nothing has been canceled, but things relative to conversion from our commercial funnel to an order has taken a little bit longer is maybe one area we continue to monitor.

Your final question today will come from Mike Halloran with Baird.

Here. First, when you triangulate into all the things you just said, Bill and some of the comments earlier, is there anything to suggest about underlying dynamics in the marketplace, where you would not be at least in the range for kind of normal-ish type growth as you look to 2026. Meaning, we know China is a little bit of a headwind here, but it seems like you're talking to pretty healthy normal dynamics, resilient dynamics; however, you want to characterize it for the majority of your markets. So could you just frame that as a thought process as we head into next year?

Yes, I think you're spot on. I think the fundamental dynamics for all 4 segments are strong. Again, outside of a little bit of the China headwind, Matthew highlighted a little bit. There's probably a little bit more walk away as the teams are accelerating kind of their 80/20 progress. Obviously, you're seeing it in the margin. We expect that to continue, but as we get much more selective and make bigger strides on our customer simplification or product line simplification, there's probably, again, a little bit more headwind, a little under 1 point this year, a little over 1 point next year.

But outside of that, I think as we look out, as best as we have visibility over the next 12 months with still macro volatility, I mean, the fundamental dynamics are still strong with resilient demand within muni and I think, differentiated technology helping us on the industrial side with some of the fits and starts other companies are seeing in that space.

And what's the long-term thought process on how to manage China from here? I know it's an area of softness today. It's maybe there's some deprioritization of U.S.-based products. What's the thought on how you guys plan on addressing or attacking that market from here?

Yes. I think we're staying the course, but we're also rightsizing the business for the demand environment, Mike. We're taking restructuring actions as we speak in China to the extent of around 40% of the workforce is coming out. That's -- we don't take those decisions lightly. It's unfortunate, but it's really just an indicator of the demand that we're seeing in the market and the hyper competitiveness of the market as well. We like the market long term, but we have to size the business for the market that we're dealing with over the next balance of this year and through '26, that's the approach we've taken. .

And we'll just -- it will be a watch item for us as we head into the first half of 2026, but that's really where we are right now.

Yes. And I think that the teams are stepping back and looking at what is the greatest market opportunity where we have the technology to match that and then reallocating all of our resources around those efforts to try to spur incremental growth as we move forward.

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

Thanks for joining today. We'll wrap it up there. I appreciate the questions. And as always, we appreciate your interest and support. Have a great day.

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