Johnson Controls Inc. (JCI) Q4 2020 Earnings Call Transcript

Johnson Controls Inc. (NYSE: JCI) Q4 2020 earnings call dated Nov. 03, 2020

Corporate Participants:

Antonella Franzen — Vice President, Chief Investor Relations and Communications Officer

George R. Oliver — Chairman and Chief Executive Officer

Brian J. Stief — Vice Chairman and Chief Financial Officer

Olivier Leonetti — Chief Financial Officer-Elect

Analysts:

Deane Dray — RBC Capital Markets — Analyst

Jeffrey Sprague — Vertical Research — Analyst

Nigel Coe — Wolfe Research — Analyst

Steve Tusa — J.P. Morgan — Analyst

Gautam Khanna — Cowen and Company — Analyst

Nicole DeBlase — Deutsche Bank — Analyst

Scott Davis — Melius Research — Analyst

Presentation:

Operator

Good morning. Welcome to Johnson Controls Fourth Quarter 2020 Earnings Call. [Operator Instructions].

I will now turn the call over to Antonella Franzen, Vice President and Chief Investor Relations and Communications Officer.

Antonella Franzen — Vice President, Chief Investor Relations and Communications Officer

Good morning and thank you for joining our conference call to discuss Johnson Controls fourth quarter fiscal 2020 results. The press release and all related tables issued earlier this morning, as well as the conference call slide presentation, can be found on the Investor Relations portion of our website, at johnsoncontrols.com. Joining me on the call today are Johnson Controls’ Chairman and Chief Executive Officer, George Oliver, our Vice Chairman and Chief Financial Officer, Brian Stief; and our Chief Financial Officer Elect, Olivier Leonetti.

Before we begin, I’d like to remind you that during the course of today’s call, we will be providing certain forward-looking information. We ask that you review today’s press release and read through the forward-looking cautionary informational statements that we’ve included there. In addition, we will use certain non-GAAP measures in our discussions, and we ask that you read through the sections of our press release that address the use of these items.

In discussing our results during the call, references to adjusted earnings per share, EBITA, EBIT and free cash flow exclude restructuring and integration costs, as well as other special items. These metrics are non-GAAP measures and are reconciled in the schedules attached to our press release and in the appendix to the presentation posted on our website. Additionally, all comparisons to the prior year are on a continuing ops basis. GAAP earnings per share from continuing operations attributable to Johnson Controls’ ordinary shareholders, was $0.60 for the quarter and included a net charge of $0.17 related to special items, including the year end pension and mark-to-market adjustments. Excluding these special items, non-GAAP adjusted diluted earnings per share from continuing operations was $0.76 compared to $0.78 in the prior year quarter.

Now let me turn the call over to George.

George R. Oliver — Chairman and Chief Executive Officer

Thanks Antonella and good morning everyone. Thank you for joining us on today’s call. As the effects and impacts of COVID are still fresh in our minds, I hope you and your families are continuing to stay healthy and safe.

Before we get started with the prepared remarks, I wanted to take the time to officially welcome Olivier to the team. Olivier is on the call today and will be actively participating in our guidance discussion and in Q&A. Many of you have already had the opportunity to speak with him briefly at a few of our investor conferences in early September, and if not, we look forward to speaking with many of you over the next several weeks. From my perspective, the transition couldn’t be going any better and it’s clear to me, that Olivier is already having a positive impact on the organization in his first 10 weeks. As we said at the time of his announcement, Olivier will formally assume the role of CFO immediately following the release of our 10-K in just a few days. I’d also like to take this opportunity to thank Brian for all of his contributions over the past several years. Brian has been an incredible partner and ally to me, and of course, played a vital role in the success of the merger integration over these last four plus years. I can’t thank you enough for all that you’ve done. I think I speak for the whole team, Brian in wishing you a long and happy retirement.

With that, let’s get started with a look back at our fiscal year on slide 3. It likely goes without saying, that 2020 is a year of unprecedented challenges. The experiences of this past year have tested the resilience, agility and resolve of the entire organization and all of us as individuals. I am incredibly proud of the way we came together as one team, with an unwavering reliance on our core values and culture, which have underpinned every decision we made along the way.

As we have said since the onset of the crisis, our goal as a company has been twofold. First and foremost, to protect the health and safety of our employees and their families, and second, to fulfill our customer promise, by proactively developing and delivering solutions, to ensure the continuous functionality of their critical infrastructure and essential facilities. Those two goals remain in place today.

Improving the fundamentals of our business has been the foundation of our integration and transformation over these last few years, and the significant progress we have made, was critical to our ability to navigate through the pandemic. From my perspective, we have continued to demonstrate strong execution and established a consistent pattern of achieving our commitments.

In spite of the enormous amount of volatility in our markets this year, we continue to execute on our strategy. Although we had to pivot early in the year to mitigate the impact from COVID-19, we further strengthened our operating systems, continued to invest in our businesses, filled key leadership roles and returned nearly $3 billion in capital to shareholders through share buybacks and dividends. We ended 2020 with arguably the healthiest balance sheet and strongest liquidity profile we have had since the merger. We opportunistically refinanced a significant portion of our debt at very attractive rates, and issued our first Green Bond, further underscoring our leadership in and commitment to sustainability.

We’ve remained on offense throughout the course of this downturn, competitively positioning the company for the recovery, as market conditions normalize. For example, we launched an impressive number of new products this year, including our expanded fleet of light commercial unitary HVAC systems. In addition, we completed a number of bolt-on acquisitions over the course of the year, including the remaining minority stake in Qolsys, a proven technology disrupter in the security products market, delivering cloud-based intrusion in smart building solutions, which further enhances our digital innovation capabilities.

We also doubled down on service, and on digitally connected systems, and of course, announced the launch of OpenBlue, all of which will form the access of our growth strategy going forward.

And finally, as we enter the next stage of the evolution of Johnson Controls, I couldn’t be more excited about the opportunities in front of us, as we turn our attention to accelerating growth and gaining share. I will come back later in the call to discuss this in more detail.

Turning to slide 4; I’ll provide a quick summary of the financials for the quarter. We ended the year with positive momentum, as general business activity and demand trends continue to improve sequentially across many parts of our portfolio. That said, while we are encouraged by the progress of the recovery to date, almost all of our businesses continue to experience material impacts from the pandemic.

Overall, sales in the fourth quarter declined 6% organically, better than the 10% decline we were projecting coming into the quarter, as our sales teams executed very well in the current environment. Global Products showed the strongest sequential improvement, declining 3%, with sharp rebounds in many of our product lines, including our residential HVAC portfolio. Our field revenues declined 7% in aggregate, as site access continued to improve, although discretionary spending remained somewhat more restrained. Service continued to outperform, showing more normal resiliency, with sales down 3% in the quarter, led by the relevant strength of our contractual service base.

Installed revenues declined 10%, but again, significantly improved compared to last quarter’s 18% decline. We remain vigilant on our planned cost mitigation efforts in the quarter, holding our EBIT margin flat year-over-year at 12.9%, despite continued volume pressure, a direct result of strong execution, delivering best-in-class decrementals, at 13%. Adjusted EPS came in at $0.76, down 3% year-over-year and we delivered on our cash commitment for the quarter, with strong free cash flow of $1 billion, bringing the full year to $1.9 billion, 115% conversion on adjusted net income.

Turning to slide 5, let’s look at our order trends for the quarter. Similar to last quarter, this chart highlights our monthly field orders on a trailing three-month basis through the end of September, and excludes orders related to our Global Products business, as they tend to be book and ship. For the quarter overall, orders declined 7%, continuing to recover up the May lows, substantially better than the 16% decline we reported last quarter and in line with our expectation for a mid to high single-digit decline. All three segments rebounded on a quarter sequential basis. By platform, orders for our global applied HVAC install and service businesses improved to down, a little less than 1%, led by positive growth in North America and APAC.

Orders for our Fire & Security business remain challenged, including weakness in our retail business. However, these businesses have improved on a quarter sequential basis. We continue to see uneven order patterns across many of our regions, and many countries across Europe are seeing renewed lockdowns in restrictions, and case rates in the U.S. are picking back up. So we continue to plan conservatively.

With that I will turn it over to Brian, to discuss our performance in a little more detail.

Brian J. Stief — Vice Chairman and Chief Financial Officer

Thanks George and good morning everyone. So let’s get started with our year-over-year EPS bridge on slide 6. As you can see operations, net of mitigating actions was an $0.11 headwind, despite continued volume pressure and some unfavorable mix, price/cost was again positive and we achieved significant cost savings during the quarter. In total, Q4 benefited from approximately $200 million in mitigating cost actions, in response to COVID-19.

Ongoing synergy and productivity save was a $0.04 tailwind as anticipated, and net financing costs were $0.02 headwind. Our lower share count, given the significant share repurchase activity over the past 12 months, benefited us $0.05.

Moving to our segment margin bridge on slide 7; as I mentioned, despite continued volume pressure across all four segments due to the pandemic, we did remain very disciplined on price, in an increasingly competitive environment. As a result, we delivered another quarter of strong gross margin expansion, up 70 basis points year-over-year to 34.3%. With a full quarter of run rate permanent cost savings in Q4 and the incremental benefits from our cost mitigation efforts, we were able to hold decremental margins to 20% at the segment EBITDA level, and as planned, 13% of the consolidated EBIT level. Overall, segment EBITDA margin declined 20 basis points on an organic basis to 15.6%.

So let’s turn to slide 8 for a look at our segment results in more detail, and my comments will also focus on the segment end market performance, included on slide 9. For North America, revenues declined 6%, with install down 9%, and service down 3%. We saw strong retrofit activity, particularly from our enterprise customers, requesting solutions to enhance the health and safety of their facilities. However, demand in our conventional install business related to new construction remains under pressure.

Applied HVAC declined mid-single digits and Fire & Security was down low-double digits, while Performance Solutions grew low double digits in the quarter. Segment margin increased 50 basis points year-over-year to 15.4%, slightly ahead of our internal expectations, given better than expected top line performance. Cost mitigation efforts and restructuring benefits, net of a mix headwind, also benefitted us in Q4.

Overall, orders in North America declined 9% with low-single digit growth in applied HVAC, offset by softer orders in Fire & Security. Backlog of $5.9 billion was flat year-over-year.

Moving to EMEALA, where revenues declined 7% with install down 11%, and service down 3%. By end market Applied HVAC and Fire & Security both declined as high single-digit rates versus a high teens rate last quarter. Industrial Refrigeration continues to outperform, relative to the other end markets, declining only mid-single digits in the quarter.

By geography, we saw continued challenges across most of the major regions. Europe declined mid-single digits, while the Middle East saw significant pressure, down high teens in the quarter, with continued weakness in our HVAC business. Latin America was down high single-digits. As expected, EBITA margins improved sequentially, but declined 30 basis points year-over-year, as favorable mix, our cost mitigation efforts and better fixed cost absorption, weren’t enough to offset the volume deleverage.

Orders in EMEALA declined 7% in the quarter, with strength in our Industrial Refrigeration & Security Monitoring businesses, more than offset by continued pressure in our HVAC business, and to a lesser extent, Fire & Security. EMEALA’s backlog of $1.6 billion, was up 1% year-over-year.

Moving to APAC, revenues were down 10% with install down 14% and service down 4%. On a positive note, China continued to improve, down only 3% in Q4, with positive sequential revenue growth during the quarter. Across the rest of the APAC region, conditions do remain a bit fluid, as it relates to COVID-19, and the steady pace of economic recovery that we’ve seen over the past several months, may moderate from recent levels. EBITA margins in APAC improved 50 basis points year-over-year to 14.7%, as the favorable mix and the benefit of cost mitigation actions, more than offset the volume decline. APAC orders increased 2% in Q4, with China orders up a strong 7%. Backlog of $1.7 billion grew 10% year-over-year.

So let’s move to Global Products, where total revenue declined 3% on an organic basis in the quarter. Residential was a clear standout, with strong growth across our HVAC & Security product portfolios. North America resi HVAC grew 31% in the quarter, driven by favorable weather, the release of pent-up demand, and our strong dealer conversions. We also continued to gain share, primarily in the air conditioning and heat pump categories, as a result of our new product launches earlier this year. As we transition to heating season, we continue to see unprecedented order momentum, with many of our channels restocking for upcoming service demand.

In Asia Pacific, our Hitachi residential revenues grew 5%, driven by strong double-digit growth in Taiwan, despite more challenging market in Japan and India. Commercial HVAC markets remain under pressure, particularly light commercial unitary, as these products, typically support verticals, that are still struggling due to the pandemic.

Sales in our North American light commercial business declined low double digits in the quarter. That being said, we continue to gain share in this market, both for the quarter and on a trailing 12-month basis, and we are seeing good traction with our new Choice and Select rooftop platforms, as well as our new channel program incentives, aimed directly at converting replacement demand.

The story for applied equipment in our indirect channel is very similar to Q3, with revenues down 9% and strong chiller and air-handling unit replacements in North America, being offset by declines in APAC, due to continued project delays and elevated channel inventories. Fire & Security products declined mid-single digits, with security products benefiting from healthy building trends, and strong growth in our intrusion business globally, as we integrate Qolsys.

EBIT margins declined 130 basis points year-over-year to 17.8%, as positive price cost and the benefit of mitigating cost actions was more than offset by the volume decline and related absorption, as well as a negative mix.

So let’s turn to slide 10, Corporate Expense was down significantly year-over-year to $58 million, as we continue to benefit from cost mitigation actions, synergy and productivity save, and the ongoing cost reductions related to the Power Solutions divestiture. As a reminder, we expect that our Corporate Expense will increase to a range of $300 million to $330 million in fiscal ’21, as some of the benefits from this year’s temporary cost reductions, begin to reinstate over the course of fiscal ’21.

Moving to our balance sheet on slide 11; during Q4, we made significant improvements to our balance sheet and liquidity profile. We took advantage of the favorable interest rate environment, to refinance approximately $1.8 billion of our short-term debt, some of which was raised in April 2020, and to longer-dated maturities at very attractive rates. This included the issuance of our first Green Bond, one of few industrial companies to do so, with a $625 million 10-year note that will be used to finance eligible green projects, which further underscores our commitment to sustainability. Overall, our net debt leverage remains at a very strong 1.8 times, still well below our target range.

As mentioned to you last quarter, given our strong balance sheet position and cash flow generation, we resumed our share repurchases in Q4, completing the remaining $750 million of the planned $2.2 billion for fiscal ’20.

Moving to free cash flow on slide 12; we continue to see extremely strong cash flow performance across the company. Reported free cash flow in Q4 was $900 million, with adjusted free cash flow of $1 billion. For the full year, adjusted free cash flow was over $1.9 billion, representing conversion of 115%, well above the prior year, primarily due to aggressive management of capex and COVID related cash tax benefits.

With that, I’ll turn it over to George, to provide you an update on our go-forward strategy.

George R. Oliver — Chairman and Chief Executive Officer

Thanks Brian. Please turn to slide 13. As we have come to the end of our original full year integration period, we are at a point now where the difficult work around our internal transformation, portfolio rationalization and leadership changes, is now largely complete. While there is always more work to do in an organization of this size, we are very excited about the growth opportunities in front of us.

Our portfolio is very well aligned with the strong secular trends, including sustainability and energy efficiency, urbanization in smarter and safer buildings and infrastructure. We are uniquely positioned to serve these trends with a holistic approach, that leverages the most comprehensive product portfolio in the industry, combined with the largest installed base, and brought us direct channel footprint to enable extensive go to market advantages.

Our vision for this merger, five years ago, was to ultimately lead the evolution from managing traditional building systems, becoming an outcome based solutions provider, supporting more intelligent, connected spaces and places. Given the improvement in our growth and operational fundamentals over the last few years, we are very well positioned to accelerate and leverage our unique competitive advantages.

As I mentioned earlier, we have developed three growth priorities, all designed in calibrated around gaining share. Scaling OpenBlue, accelerating new product introductions, and driving higher service attachment rates and sales growth. At the same time, in some respects enabled by these growth priorities, we will remain focused on driving improved margin performance, attacking the cost structure with the same intensity we have over the last four years.

With the steps we’ve taken to strengthen the balance sheet over the last two years, and the improvements we made to our liquidity position and cash generation capabilities, we are now in a better position to pursue a more balanced, but disciplined capital allocation plan.

Please turn to slide 14; the launch of OpenBlue represents the next stage in our journey. Although it is still very early, we have achieved significant success in creating momentum with customers and partners. OpenBlue is immediately compelling to a wide variety of customers looking to connect, plan and manage space for enhanced security, sustainability and experiences. This platform addresses a series of the solution for a variety of environments. Worldwide, we saw our engagement with a range of customers from one of the largest and most respected real estate developers in Asia, to multiple sports venues across the world and everything in between.

For example, let’s look at universities. We began OpenBlue engagements at Stanford, Brown, Tulane, Penn State, University of Arkansas, and others. Our work with the National University of Singapore, demonstrates our deep collaboration with Microsoft, creating a living laboratory for a new breed of customizable, contact-free applications, built on Johnson Controls’ unifying digital technology suite, OpenBlue.

From a technology perspective, I mentioned our collaboration with Microsoft. We’ve also begun new work with a portfolio of technology companies, including Accenture, Cisco and Intel. OpenBlue is also fueling some of the most ambitious projects in the world, such as BEA in the next World Cup. Over the last several months, we have had numerous releases under OpenBlue. For example, in August, we launched our comprehensive suite of digital solutions under the OpenBlue healthy buildings labels. Bringing together intelligent, connected hardware, software-based analytics, and dashboards, as well as mobile applications, aimed at accelerating building occupancy, by instilling confidence and assisting in the management of COVID-19 risk.

We remain focused on creating the world’s best technologies, and proud that we received over 600 patents and we earned the highly coveted ISA secure development lifecycle assurance certification, the highest standard in product security.

Let’s turn now to slide 15; as we have mentioned to many of you over the last few months, one of the biggest benefits of OpenBlue will be our ability to tailor our service offerings to individual customers, based on their unique needs. This platform enhances lead generation, improves attachment rates, increases average revenue per user, and over time, should sustainably accelerate our service growth rate by 2 to 3 percentage points, with a very attractive margin profile.

In late September, we launched a new flexible tiered service offering, powered by OpenBlue, which increases our capabilities around real-time remote service and monitoring, as well as predictive analytics.

Lastly, turning to slide 16; demand for indoor air quality and healthy building solutions, remain a key focus area and we have seen significant uptick in interest from our customers, since the beginning of the pandemic. For example, year-to-date sales of our MERV 13 filters are up over 400% year-over-year. Our second half residential indoor air quality products were up 84% year-over-year. And in most cases, the revenue dollars for any one of these products individually are smaller, but in aggregate, have been enough to partially offset some of the weakness we are seeing.

In addition to some of our core offerings that have always served these markets, we have also rapidly innovated or redeveloped several new products for customized applications. I won’t spend time on each one listed on this page, but this collection represent why we believe, we are uniquely positioned to fulfill the different customer needs, regarding healthy buildings. This focus on targeted innovation, is one facet of our goal to accelerating new product introductions. Over the next three years, we expect to gain nice share and plan to launch over 150 new products in fiscal ’21 alone.

With that I would now like to turn things over to Olivier, to provide you with his initial impressions and our thoughts on fiscal ’21.

Olivier Leonetti — Chief Financial Officer-Elect

Thank you, George, and good morning everyone. I’m pleased to be with you on the call today and I’m thrilled to be part of the Johnson Controls team. I have been in the office for about 10 weeks now, and I have fully immersed myself in learning the business and with the help of Brian and the finance team, understanding the strength and opportunities we have in front of us, as an organization. I cannot think Brian enough for his guidance and alliance through this transition.

I thought I might quickly share with you my initial impressions and perspective, before I get into our forward outlook. I’ve been asked by some of you, why I was drawn to this role out at Johnson Controls? And I would tell you, there were a number of reasons. From a personal standpoint, how we do things is increasingly important to me. I wanted to be part of an organization where culture diversity, and inclusion matters, where focus on the environment matters, where developing people and meritocracy matters. I’m impressed by what the team has achieved over the last three years, its strategic vision, and the operational discipline that has been established. I also recognize there is still work to be done, particularly around optimizing the cost structure of our business model.

I am very positive about the growth opportunities of the end markets we serve. Smart, safe, healthy buildings, and by our vision around services, digital and product innovation. Finally, I’m excited about the ability we have to drive above market growth, with best-in-class margins.

That seems like a natural point to transition to our outlook, starting on slide 17. I mentioned my optimism about our served markets and I think this depiction of our business mix, shows a very balanced revenue profile, roughly split one set each for products, install and service.

We have one of the largest installed bases of buildings globally, with an unmatched direct channel footprint, both of which we can leverage to generate very attractive service opportunities. As George mentioned, service powered by OpenBlue is expected to be an attractive vector of profitable growth for the company.

Looking at our installation portfolio, we are roughly evenly split between new construction and renovation retrofit. Although many parts of this business remain challenged, by the effects of the ongoing pandemic, our portfolio of healthy building solutions and retrofit activity, can moderate the weakness in newbuild.

Product revenue at 35%, represents those products sold through our indirect channels, and will not include products and equipment installed through our direct channel. This is our short cycle business, that is typically book and ship.

Turning to slide 18, this slide provides our end market exposure, as well as a few economic indicator, on the fiscal year basis, we utilize as an input to our planning process. Construction outlook is a barometer for the new construction portion of our installation business in North America, which is about 15% of our total sales. GDP tends to be the barometer for service market growth. As the market forecast indicate, the global macro environment remains uncertain. However, given the attractiveness of our portfolio and the elements of our go-forward growth strategy George discussed, we feel very confident that we are positioned to outgrow our end markets.

Now let’s turn to slide 19, with our views of fiscal ’21 and our Q1 guidance. Current forecast for market recovery, suggest a stronger second half of the year. We will continue to manage cost over the course of the year, keeping tight controls on the amount and timing of temporary cost reversals, as volumes continue to normalize. We also have the carryover benefits from the permanent cost actions we took in the back half, which will partially offset the return of temporary costs. This, along with our focus on higher margin revenue growth, is expected to result in ongoing EBIT margin expansion.

Regardless of the Presidential election outcome, we are very confident in our ability to maintain a 13.5% tax rate in fiscal ’21. Free cash flow on a reported basis will approximate 95% for the full year, and should follow a fairly normal challenge, with the majority of our cash being generated in the back half, in line with our traditional cash flow seasonality.

With the majority of the large cash adjustments now being behind us, we are transitioning to an unadjusted cash flow metric. As part of our disciplined capital allocation, we expect to deploy the remaining $1 billion of proceeds from the Power Solutions sale to share repurchases.

Now for our Q1 guidance; we expect to start the year off with organic sales decline in the range of 5% to 7%. The continued focus on the cost side will allow us to expand our EBIT margin 20 to 40 basis points, and EPS should be in the range of $0.39 to $0.41. Overall, continued strong performance in a challenging environment.

With that operator we can open the line for questions.

Questions and Answers:

Operator

Thank you so much. [Operator Instructions]. Our first question is from Deane Dray with RBC Capital Markets. Sir, your line is open.

Deane Dray — RBC Capital Markets — Analyst

Thank you. Good morning everyone and welcome Olivier, and best of luck to Brian.

Brian J. Stief — Vice Chairman and Chief Financial Officer

Thanks Deane.

Olivier Leonetti — Chief Financial Officer-Elect

Thank you, Deane.

Deane Dray — RBC Capital Markets — Analyst

Just to start off on the forward look and guidance, and we suspect that a lot of companies are still going to keep the annual guidance suspended, but you’ve given us enough datapoints in the forward look, free cash flow and the conversion to back into an EPS number. Just want to make sure our math is right, we’re getting a $2.45 to $2.50 range. I just want to make — looks like a brackets consensus. Just want to make sure that math is right, and is it just the point of still heightened uncertainty that’s keeping you from framing that guidance officially?

Olivier Leonetti — Chief Financial Officer-Elect

Let me give you a bit of colors, before to answer specifically to your question. We have — as you sense from the call, very confident about the position of the company, and we believe we’re going to be able to navigate this uncertain environment, as we did last year. Now, as we alluded to, at this point in time, there was a lot of uncertainty regarding what is happening in the pandemic. We have had particularly over the last few weeks, additional lockdown and restrictions in Europe, and we have a second wave in the U.S. So in this context, we believe we have a solid plan. We have momentum building, and we will be agile. As you said, we have stress tested our plan, and we believe that despite the uncertain environment, we’re going to be able to deliver a pretty good EBIT margin expansion and a strong cash flow performance.

Now, let me answer to your question, specifically. Based upon the current market trajectory and all of that is still a bit unknown where that would go, we were looking at our organic revenue growth in the low to mid-single digits range. Our salesforce today is targeting growth part of the market, focusing on indoor quality and healthy buildings, and in verticals such as datacenters, warehouse and institutions. And as George indicated, we are investing heavily in new product launches.

Now if you look at your EPS range today, we believe it’s not an unrealistic expectation.

Deane Dray — RBC Capital Markets — Analyst

Great, that’s real helpful. And then on the — I really appreciate all the new color on OpenBlue. A number of your HVAC peers have started giving at least some framework on what the indoor air quality funnel might look like. I was hoping you could quantify for us? You gave a data point on the filtration orders being up, but can you give us a sense of what the funnel looks like? We’re seeing a bit of the retrofit North America business starting to come through, but I was hoping, you could frame for us that opportunity, as it stands today?

George R. Oliver — Chairman and Chief Executive Officer

Hey Deane, let me just kind of frame up, what we’re doing on indoor air quality, how important it is, and then I’ll kind of frame up what we see here within the pipeline. So I would start by saying, it’s clear that this is front and center with all of our customer engagement. So with the education that has been had around air quality and the impact that that has in mitigating the impact of the virus, that’s certainly front and center.

Now there’s many critical elements to delivering clean air, it includes ventilation, filtration, disinfection and then isolation, and it’s also combined with centers, around temperature, humidity, occupancy and ultimately tied to building controls. And so our Clean Air strategy has been focused on finding the right balance between air quality, as well as energy efficiency, and is based on science-backed recommendations on Clean Air delivery rate, which is ultimately clean air changes per hour. We’re performing a number of assessments as starting points to align our solutions and services to each customer application and ultimately, the clean air delivery rate target, and we’re not simply making product recommendations. And there’s really no one better positioned now, to be able to help our customers operate healthy safe buildings. It really is built on the combination of our HVAC portfolio, with our security and building software platforms, that do uniquely enable us to provide more powerful solutions, based on specific customer outcomes.

Now in addition to that, Deane, we’ve got over 16,000 service experts around the globe, which is the size and strength of our direct channel footprint, which we believe, creates a significant competitive advantage. And so, as we look at this today, with all of this activity, right from assessments to deploying capabilities. We’re looking at a pipeline of a couple of hundred million dollars for 2021. And now a longer term, I think the, the focus on clean air and striking the right balance between proper ventilation, filtration, disinfection, and then, energy efficiency will ultimately lead to increased service activities, system replacements and other emerging solutions.

So as we look out — over a few years we think Clean Air, the market itself is multi-billions of dollars in incremental market, and then with that, not only with our strong position, but we’ve been expanding our partnerships, to be able to accelerate our penetration, in our go-to-market and that’s with universities, that’s partnering with technology companies that have additional capabilities that we can combine with ours, that ultimately drive the highest disinfection solution. And then that, combined with our attractive channel, we believe that we have a unique channel where we can get partners, and ultimately bring the best solution to the market.

Deane Dray — RBC Capital Markets — Analyst

Great. Appreciate all that color and best of luck to everyone.

Operator

Thank you for your question. Our next question is from Jeff Sprague with Vertical Research. Your line is open sir.

Jeffrey Sprague — Vertical Research — Analyst

Thank you. Good morning everyone and best of luck Brian. Two from me. First, George, and this may be picks up a little bit on what you were talking about. But you were kind of talking about OpenBlue adding one to two points to your sales growth, and now you’re saying two to three, your confidence level is clear in your voice this morning, but interesting that you’re already thinking a higher number, before we’re too far into this. So I just wondered if you could elaborate a little bit more on your thinking around that incremental growth rate, and how the customer conversations are going?

George R. Oliver — Chairman and Chief Executive Officer

Yeah, let me start Jeff, by talking about the strength of our OpenBlue platform. And so for everyone on the call, it is a complete suite of connected solutions, that enable the delivery of more impactful sustainability, new occupant experiences, and enhanced safety and security, that does combine with our longstanding expertise in buildings with cutting-edge technology. And it does enable us along with our customers and partners, to fundamentally transform how spaces and places are experienced and that are ultimately safe and protected.

Now, what it does, it combines everything that we do on a building, and through leveraging connectivity and data, allows us to be able to create new outcomes. And we truly do believe that this differentiates what we do through our direct channel footprint, with the significant installed base of equipment and service that we have today, that we can actually amplify this now, with digital solutions.

So let me talk a little bit about the progress we’ve made. In the last 90 days, as I said in my prepared remarks, we’ve had significant engagement, customer engagement, right from the start, and we’ve kept the momentum going with the release of several new solutions, including OpenBlue workplace, new tiered flexible service offerings under OpenBlue. OpenBlue Enterprise, and there’s many, many more coming over the next several months, including five that are planned in the first quarter.

Now let me move to customers; when you look at the customer wins, we are very excited. I mean the one example I talked about, was one of the largest real estate developers in Asia, who is a leader in facility management. They ultimately selected our OpenBlue Enterprise Manager solution, which is a software solution that helps customers manage large portfolios of properties. They’ve now deployed that across 42 of their buildings in Singapore.

So we’re embedding OpenBlue in everything we do. In the enhancements we’re making to our go-to-market strategy, we have already built, when you look at the pipeline that now OpenBlue is connected to. So our multi-year pipeline, is well over $1 billion of opportunity, when you take what OpenBlue does not only as a standalone, but how that combines with our core capabilities and how we go-to-market. And then like I said, we supported that with partnerships with Microsoft, Accenture, Cisco and Intel, and when you look at these partnerships, they are integral, I would say on many levels to ultimately deliver a complete outcome based solution, that our customers are asking for, and we believe that we have a lot to offer as a partner.

Jeffrey Sprague — Vertical Research — Analyst

Thanks for that. Just on the cost headwinds and tailwinds, you gave a very explicit table and chart on the Q3 call. I’m wondering if all those numbers are basically the same, the $240 million to $260 million tail on permanent and kind of what you gave us on the temporary? And I guess, whether the answer is yes or no? Can you give us a little bit of color on how these kind of feather in and out over the course of this year? Thank you.

Olivier Leonetti — Chief Financial Officer-Elect

So Jeff, before I answer to the specific of your questions. We have said that in the past, but we want to repeat it, because it is very important. We believe we have the opportunity to improve the return on sales of our business going forward. And we believe we have opportunities in both gross margin and opex management, and if you look at the prepared remarks from Brian, improving the margin rate by about one full point year-on-year last year, despite the environment was remarkable. So that says a lot about the execution discipline of the company. And we believe we have said that, and we have done some modeling lately. We believe that the 30% incremental is achievable and required goal for the company.

Now to answer specifically to your question, the net $40 million that Brian mentioned before, is still valid. We would expect those costs to come back, mainly in the second half of the year. So we believe that it’s the best way to plan for those costs. However, we are still looking at levers to mitigate those costs to come back in the second half, but it’s too early for us to commit, Jeff, at this stage.

Jeffrey Sprague — Vertical Research — Analyst

Thank you for that. I’ll pass it on.

Operator

Thank you so much for your question. Our next question is from Nigel Coe with Wolfe Research. Your line is open sir.

Nigel Coe — Wolfe Research — Analyst

Thanks. Good morning. Just wanted to come on the back of Jeff’s question there. So the — obviously the temporary costs coming in towards the back end of the year, the structural costs, is that more linear through the year, or are we seeing some of those coming through in the 1Q guide?

Olivier Leonetti — Chief Financial Officer-Elect

So at the moment, for the first half of the year, we have a net benefit to the P&L, when you look, Nigel, at the permanent and temporary costs coming back, and headwind will come in the second half, and more in the Q3 fiscal quarter, Nigel.

Nigel Coe — Wolfe Research — Analyst

Great, thank you. And then the — obviously the service kind of acceleration is really encouraging, and also the billion dollar pipeline. Has that $1 billion — that funnel, has that been built since you soft launched OpenBlue I think in mid 2000s, I can’t remember the date, but I think in the last seven months. Has that all been built in that timeframe, and do you have any indication on sort of the timeline to the service revenue accelerations?

George R. Oliver — Chairman and Chief Executive Officer

Yeah, let me go back, Nigel, to the pipeline. That pipeline is, when we do — as we do in installs, and now taking our digital capabilities with OpenBlue and combining that with our core capabilities and ultimately then deploying that as a solution. So that isn’t just service, that is ultimately creating a much bigger install base with our digital capabilities, that will then spin-off services from that. And so that’s one, what I talked about there with the Digital Blue pipeline.

As far as the services, what we get with OpenBlue, it allows us to be able to not only differentiate the core of what we do with our services, making everything connected, utilizing data to optimize our delivery of service and then adding new services on top of that, and that’s what OpenBlue allows us to do. It enhances our ability to be able to immediately attach service contracts, and we’re starting to see a nice pick up in our contractual services, and that will continue to improve, as we go forward. And then from a revenue per customer standpoint, it ultimately allows us to now build on top of that base of service, new capabilities, and be able to deliver enhanced value, which ultimately then we get paid for. And so it’s really a combination of not only expanding our install base with OpenBlue, but then being able to mine that install base, with additional services on a recurring basis.

Nigel Coe — Wolfe Research — Analyst

Thanks George. Just to clarify, the funnel though has been built this year, correct?

George R. Oliver — Chairman and Chief Executive Officer

Yeah. The funnel, I mean, when we look at our pipeline, what we’ve done Nigel, is take everything that we do with how we go to market. OpenBlue now becomes part of what we offer, and how we differentiate, not only the solutions that we go to market with in install, but also the capabilities that we deploy, to be able to attach service and then perform the service over the lifecycle of that installation.

Nigel Coe — Wolfe Research — Analyst

Okay, I’ll leave it there. Thanks George.

Operator

Thank you for your questions. Our next question is from Steve Tusa with J.P. Morgan. Your line is open sir.

Steve Tusa — J.P. Morgan — Analyst

Hey guys, good morning.

George R. Oliver — Chairman and Chief Executive Officer

Good morning.

Steve Tusa — J.P. Morgan — Analyst

Just curious, how much does the — one of the big differentiators versus you guys in your HVAC equipment peers at least, is your control system, the kind of Metasys platform, maybe that brand has changed. But how much of a differentiator is, having that you know Controls legacy, if you will? The Building Controls legacy, over and above the kind of HVAC and Fire & Security?

George R. Oliver — Chairman and Chief Executive Officer

Yeah Steve, let me just start by talking about commercial HVAC and the importance of, not only the equipment, but also the digital capabilities. When we look at these markets, they are very attractive, with long-term secular drivers that ultimately align with our core capabilities in both equipment as well as digital, and the secular trends of energy, efficiency and sustainability, enabling us to be able to now mine a much larger install base, with the connectivity and with our digital offerings. And then the ability now, as we discussed previously with Nigel, which opens up an opportunity for us to be able to build on additional services. And then ultimately, capitalizing on the emerging trend, with indoor air quality and healthy buildings.

So all of these trends, the ability to be able to take a holistic solution with our equipment, plus our digital platforms, which from a building system standpoint, it is Metasys, and then being able to connect every other device and every other system within a building, is what uniquely positions us to be able to bring the most — the best solution, the most efficient solution, and ultimately delivering on the customers’ priorities. And when I look at what we do, we’re very well positioned with that combination of not only leadership products that we’ve been reinvesting in, but also now, industry leading Controls embedded software, with also our digital offerings and building automation software, that all complement the core. So although we push intelligence to the edge, the ability to be able to take that intelligence within one platform, and to be able to create new outcomes, is a competitive advantage, and we’re going to continue to not only differentiate what we install, but also how we go about capitalizing on the service opportunity, which is what contributes to, being able to accelerate our service growth on a go-forward basis.

Steve Tusa — J.P. Morgan — Analyst

Right. So said differently, the Controls system is key. And then just one maybe, correct me if I’m wrong. Just one other nitpicky one, you guys brought in a JV I think, at least on the cash flow statement, it suggests you guys had some activities there. Was there any P&L impact from that? Sometimes companies that we cover, buy in JVs and they book a gain on their ownership? And any impact on the P&L from that front?

Brian J. Stief — Vice Chairman and Chief Financial Officer

No Steve. That was that related to the buyout of Qolsys. We had a majority interest in Qolsys already and we bought out during the quarter, the remaining 42% of those shares. So the activity that you’re referring to, was an entity that we historically have consolidated. So there was no unique P&L in Q4 related to that.

Steve Tusa — J.P. Morgan — Analyst

Great, thanks guys.

George R. Oliver — Chairman and Chief Executive Officer

Thanks Steve.

Operator

Thank you for your question. Our next question comes from Gautam Khanna with Cowen. Your line is open.

Gautam Khanna — Cowen and Company — Analyst

Thank you. Congrats Brian and Olivier.

Olivier Leonetti — Chief Financial Officer-Elect

Thank you.

Gautam Khanna — Cowen and Company — Analyst

I had a couple of questions, George, maybe if you could elaborate on the IAQ opportunity. Carrier had talked about, it’s like $9 billion to $10 billion in aggregate. I wondered if you would agree with that assessment? Secondly, maybe if you can talk about whether you think IAQ sort of becomes a table stakes for some of these commercial building operators? Because it seems like there is a conflict between energy draw going up, when you utilize some of these solutions, and what has been the compelling case to renew applied systems, which is the energy consumption drops with the new technology? You know, just how you kind of frame that? Do you think it’s table stakes? Do you think it’s kind of a short-term blip, while we have COVID, and then maybe we will revert back or — just your opinion on that topic?

George R. Oliver — Chairman and Chief Executive Officer

Yeah so, when we talk about Indoor Air Quality, as far as the market. And so you’ve seen numbers from Navigant, where there is like a 1.7 trillion of square footage and about a quarter of that is ultimately non-resi space. And then within that, today’s level of air purification is well below what would be — now in this environment, perceived as being acceptable. And so, as I talked about the key elements of being able to provide the right solution, it does include multiple domains or multiple capabilities, whether it be maintaining or maximizing the ventilation, bringing the highest level of filtration, so it might be today MERV 8, and moving towards MERV 13. It includes deploying potential disinfection technologies. And then, like in healthcare, it’s isolation.

And so what we do, is be able to not only provide the best solution that ultimately delivers, what we call the Clean Air Delivery Rate, which is clean air changes per hour, with a level of a purification, but also making sure that we’re doing that and optimizing the energy required to ultimately perform and deliver on that outcome. And so we are working feverishly here, not only in how we deploy these multiple capabilities, but how we optimize those with our Building Controls, and ultimately bring the best solution, at the least amount of energy required. We believe that there is optimization that can be had, where you can get to a much higher standard, while you are still delivering on the sustainability goals of our customers. And that’s what we’re ultimately focused on doing, with the technology developments that we have underway.

Gautam Khanna — Cowen and Company — Analyst

Thank you.

Operator

Thank you for your question. Our next question is from Nicole DeBlase with Deutsche Bank. Your line is open ma’am.

Nicole DeBlase — Deutsche Bank — Analyst

Yeah, thanks, good morning guys.

Olivier Leonetti — Chief Financial Officer-Elect

Good morning.

Nicole DeBlase — Deutsche Bank — Analyst

I just wanted to focus a little bit on the first quarter guidance? Looks like you guys are kind of projecting organic revenue decline, similar to what you saw in 4Q. Just curious, if that reflects kind of stabilization in organic trends throughout the quarter, or if you did see improvement into the later parts of the quarter and into October?

Olivier Leonetti — Chief Financial Officer-Elect

So Nicole, we are seeing today — you’re right, a gradual improvement in our business environment, both for our field business and our Global Products segment. So if you look at our order book, and I’m not talking about revenue for now, we will give you the specificities in a second. And order book is more representative of the current velocity of the business. We see Q1 as being an improvement over Q4. So if you look at our field business specifically, we saw — we are seeing in Q1, orders velocity for our field business being sequentially better by one or two points, relative to Q4. And what you see is, you have our in-store business, which is booked now, but the orders were recorded about two quarters ago, give or take. So you see this in-store business because of this lag in the quarter, being still down. And you see, as George mentioned, an acceleration of our service business, which is largely offsetting what is happening in in-store. So that’s about our field business.

If you look at our Global Products, again we see today, that we are gaining shares in the product we sell, and we are experiencing because of our product portfolio, the impact of the delay in commercial HVAC and Fire & Security businesses. And as we move into Q1, we see today, a slightly larger revenue decline relative to Q4. And what is happening, and you saw that in our opening remarks, Nicole, Q4 was very strong, and largely — not largely, but in part due to the demand we satisfied in Q4, due to the depressed Q3 we had. So if you look at a two year stack, Q1 financial year ’21 will be similar to Q4. So overall, an environment from revenue standpoint, which is comparable to Q4, and we believe it’s a prudent approach, despite an improvement in the level of order velocity.

But as you saw in our guide, we believe we’re going to be able, nevertheless, to protect the bottom line, due to our cautious cost mitigation activities.

Nicole DeBlase — Deutsche Bank — Analyst

Got it. Thanks Olivier. That’s really helpful. And then maybe just a follow-up also on the first quarter, when we think about the 20 to 40 bps of expected margin improvement, can you just talk about any divergences between the segments? I know Global Products faced some unique challenges this quarter, does that continue into the first quarter? And anything on the field businesses that we should make sure we think about?

Olivier Leonetti — Chief Financial Officer-Elect

We believe that — without going into too much details, we will still see some negative impact on our Global Product business for two reasons; one, exception of fixed costs, and two, product mix. And our field business is keeping its momentum, from a margin improvement standpoint.

Nicole DeBlase — Deutsche Bank — Analyst

Got it. Thank you. I’ll pass it on.

Olivier Leonetti — Chief Financial Officer-Elect

Thank you, Nicole.

Operator

Thank you for your question. Our last question will come from Scott Davis with Melius Research. Mr. Davis, your line is open.

Scott Davis — Melius Research — Analyst

Good morning, everybody.

George R. Oliver — Chairman and Chief Executive Officer

Hey Scott.

Scott Davis — Melius Research — Analyst

Couple of questions. But first just is George, is M&A is still on the table as a possibility in 2021?

George R. Oliver — Chairman and Chief Executive Officer

Yeah, I mean absolutely. We’re going to be very disciplined. But certainly as we look at our capabilities, and as we look to enhance some of our positions in technology and as we build out OpenBlue, there are certainly going to be opportunities that we’re going to pursue and have been pursuing. We’ve done some — in the past year, we’ve done some bolt-ons. We completed the acquisition of Qolsys, which has helped us from an interactive standpoint technology capability, that we’re now leveraging more broadly. So yeah, that’s going to be — as we think about growth, it’s part of our capital deployment.

Scott Davis — Melius Research — Analyst

Okay. And then on OpenBlue, George, and I know there has been a ton of questions. But just to clarify, when you do an install, I imagine there is a fair amount of upfront customization. Do you charge for that, or is that part of kind of the SaaS pricing you expect over time to have, perhaps a breakeven period, and then more profitable period after that? Is that a way to think about it?

George R. Oliver — Chairman and Chief Executive Officer

Yeah. So Scott. When you think about our install business today, it is an applied business, where we apply engineering, we configure solutions, we deploy those solutions with install, and then ultimately, we look to attach and get the lifecycle serviced. And so today in many ways, we do incur a lot of engineering upfront, before we ultimately get a contract and then we take the contract and pursue — continue to pursue that.

What OpenBlue does for us, it really changes the level of engagement with our customers. Now with OpenBlue we can significantly change the outcomes that we can produce, with the installations or solutions that we propose. And then with that, that is incremental to what we historically would have done, and certainly get paid for that upfront, with the ability now to be able to attach recurring revenue onto that service, on a go-forward basis. And so that’s why, when I say, when we look at our pipeline of projects, and we begin to deploy OpenBlue with those projects, it truly does differentiate how we can go to market, and ultimately create outcomes, that historically we haven’t been able to achieve.

Scott Davis — Melius Research — Analyst

Okay, that’s helpful. Thanks. Good luck, guys. Thank you.

George R. Oliver — Chairman and Chief Executive Officer

Thank you, Scott.

Operator

Thank you for your question. I will now turn the conference back over to George for some closing remarks.

George R. Oliver — Chairman and Chief Executive Officer

Yeah, just to wrap up here, I want to thank every everyone again for joining our call this morning. I’m incredibly proud of how our teams responded, in the time of the global pandemic and the progress that we’ve made as an organization, and I’m extremely pleased with our continued strong performance and very excited about the future opportunities, which we discussed today. I hope that you and your families remain safe and I look forward to speaking with many of you soon. So, operator, that concludes our call.

Operator

[Operator Closing Remarks].