Industrial Sector Explained: Data Center Growth & Rise of Vertiv — The Real Eisman Playbook Ep. 21

[00:00:00] Steve Eisman: Not much going on in your sector. [00:00:01] Steve Tusa: There's always something going on. [00:00:03] Steve Eisman: Today, we're going to switch to a new industry, and that industry is industrials. What would you say are the major themes of your sector today? [00:00:13] Steve Tusa: Well, the number one theme that we recently upgraded from being a ferocious investment cycle to a historic investment cycle would be data centers, obviously. It's massive. We've never really seen these types of growth rates at scale. You've never seen this before. Let me tell you something about Vertiv. They will be growing close to 20% for the next three years. [00:00:31] Steve Eisman: The U.S. produces something like 4,000 gigawatts of electricity per year. If we don't get to 5,000 within the next 10 years, bad stuff's going to happen because you could build a data center, but if you can't plug it in somewhere, what good is it? Do you think we have the ability to produce all the electricity that we apparently seem to need? [00:00:50] Steve Tusa: The innovation on the power side that's going to come from this is going to be really, really spectacular. [00:00:55] Steve Eisman: Let's talk about Honeywell. Once an iconic company, not so iconic these days. What happened? Describe to me what happened to 3M and why you're recommending it now, why it's a turnaround story. What happened to GE? I think people have written books about this. There was something really fundamentally wrong with the entire balance sheet of the entire company. [00:01:14] Steve Tusa: There's no company that's going to be able to have this much financial complexity. But that's not the same thing as manipulation. [00:01:34] Steve Eisman: Hi, this is Steve Eisman and welcome to another episode of The Real Eisman Playbook. So today we're going to switch to a new industry and that industry is industrials. And my guest today is Steve Tusa, who is the industrial analyst at J.P. Morgan and has been so for a long time. Welcome, Steve. [00:01:51] Steve Tusa: Thanks. Pleasure to be here. Honored to be here. [00:01:53] Steve Eisman: It's dope. I appreciate that. So let's... Not much going on in your sector. Always something going on. So, you know, would you agree with this statement? If we were talking about your sector 10 years ago, it wouldn't have been quite as thematic as it is today. Would you... Do you think that's a fair statement or not? [00:02:13] Steve Tusa: Yeah, no question. I think after the emerging market boom from, you know, call it 2002 to 2008 with a bit of a pause and then the rebound back really to call it 2013, 2014, between that time period and then really just after COVID, there really wasn't a real growth story in my group. In the entire sector? In the entire sector. Thematic, if you will. [00:02:36] Steve Eisman: So let's... What would you say are the major themes of your sector today? [00:02:40] Steve Tusa: Well, the number one theme that we recently upgraded from being a ferocious investment cycle to a historic investment cycle would be data centers, obviously. Okay. Specifically. Now, that's kind of a small part of the economy. I think people kind of look at all these big hyperscaler CapEx numbers and they're big numbers. But in the context of the global economy, they're actually not that big today. Private non-res construction for data centers, it's about 5% of the total. So it's... Oh, sorry. Say that in what sentence again. Private non-res building construction in the US, data centers only represent about 5% of the total. Of total what? Total private non-res construction. Building construction. [00:03:20] Steve Eisman: That's not that big. [00:03:21] Steve Tusa: So the point is that as a growth theme focused on data center, it's massive. I mean, the growth rates are... We've never really seen these types of growth rates at scale. But obviously, the knock-on impact of that, when you think about the power that's required, that then creates an engine around power generation, transmission, and distribution. So when you think about the whole kind of data center and power complex as one, data centers and utility CapEx, now you're starting to get into some pretty big numbers. [00:03:52] Steve Eisman: So if you go to data center plus utility CapEx, how much of the whole is that? [00:03:58] Steve Tusa: Yeah. So right now, the hyperscaler data center CapEx is several hundred billion dollars, three to four hundred billion dollars today. A year. A year. Right. And utility CapEx is into the hundreds of billions as well. So you're really getting into this upwards of you're going to get close to a trillion in a couple of years of this stuff. Right. And there's also a massive backlog of projects on the transmission side that we already kind of had to get done in order to keep our infrastructure up to date. And all this data center demand is now going to unlock that. That's slow to come. But the point is that everything's now mobilizing because there's an actual... It's not the government pushing anything. Right. It's an economically viable existential cycle that's driving this event. [00:04:46] Steve Eisman: Where do you stand on... I mean, I have read... Someone told me a statistic that the U.S. produces something like 4,000 gigawatts of electricity per year and we need to get to at least 5,000. And if we don't get to 5,000 within the next 10 years, like bad stuff's going to happen because you can't have... You could build a data center, but if you can't plug it in somewhere, what good is it? [00:05:10] Steve Tusa: Yeah. [00:05:10] Steve Eisman: So do you think we have the ability to produce all the electricity that we apparently seem to need? [00:05:18] Steve Tusa: I think where there's an economic will and where there's not necessarily my words, but like a generational technology that's coming onto the scene, the beauty of our economy in this country... We'll find a way. They make it happen. And so what they're doing now is instead of calling up the utility and plugging in, you know, 30% of... And in a recent Bloom Energy survey, 30% of the respondents are now saying they're going to just build it within the wires, within their own fence line. [00:05:48] Steve Eisman: Build what? [00:05:49] Steve Tusa: Build their own power. How? Bringing in smaller turbines, lining up 10 of those instead of like one big generating station, solar and storage, I think will be a bit secondary. But it's really going to be on-site, probably gas turbine, smaller turbines generation. I mean, they did it during the oil and gas boom when they had these big oil fields, when they were doing all the offshore. All these smaller turbine manufacturers like Caterpillar and GE Vernova and Siemens Energy, they were pumping these things out in a pretty significant way. It's going to happen here as well. So I view this as somewhat of akin to kind of the shale boom, just in like a different sense. It's still like very capital intensive and they're going to find ways to make it happen. So it's a bit of a... It's a tight environment right now when it comes to centralized generation. And they're certainly working on that. There's a lot of turbine orders out there. Generation CapEx is going up substantially. But there's going to be a lot more of these data center guys saying, I don't want to even count on the utility. I don't want to wait for that. I'll make it myself. I'm going to make it myself. And you're definitely seeing a lot more of that today. [00:06:57] Steve Eisman: So your coverage is pretty broad. Yeah. So let's sort of work out... 52 different end markets. Yeah. I mean, companies do different things. Some of what we just spoke about is very relevant. There's some companies where it's not relevant at all. Yes. Correct. So let's just give me a list of all the companies that you cover where this whole theme that we just talked about is relevant. [00:07:19] Steve Tusa: Yeah. So number one would be Vertiv. 80% data center. So number one, by far. [00:07:25] Steve Eisman: For the audience, what does Vertiv do? [00:07:26] Steve Tusa: Vertiv does all the power and the cooling infrastructure that goes in the data center. So this is not a utility play. They're not outside the fence line. They're not really even, for the most part, outside of the building. They are in the building in what's called the gray and the white space, which is where your mechanical and electrical are, and then in the data center where the IT racks are. And they do everything power cooling related. They do it all. Okay. Who else? Eaton would be the second. And what do they do? Now, they compete with Vertiv on the power side in the data center. Then they also extend outside the building into transformers and then into the grid from a distribution products perspective. So if you, like, you know, look up on telephone poles and you see all these metal contraptions that look like they're helping the energy move from one place to the other, that's the kind of stuff that they do. So they would be the number two play in my group as far as the exposure. And they have about 30%, 40% exposure to data center plus utility for their... And Vertiv's exposure is how big? 80% data center. 80%. It's hands down. I mean, I always joke around and say it has more data center exposure than NVIDIA does. Well, I don't know about that. Obviously, well, factually, revenue-wise, that is true. Oh, that's probably true. But obviously, not quite the technology cachet and a little bit of different business. I understand. [00:08:47] Steve Eisman: Okay, so you got Vertiv and you have Eaton. Yeah. Who else? [00:08:50] Steve Tusa: And then Hubble would be more on the utility side. What does Hubble do? Hubble does everything on the distribution grid that hangs off the telephone poles except for those cylinder transformers and the wires. So all the different stuff. They do some transmission as well. They do have a little bit of data center exposure, but by and large, they're more of a utility play, you know, up and away from the data center, but still having that type of influence. Those would be like what we call the electricals. There are a couple of other electricals I don't cover. Like Invent, they do some cooling products. I met them once. [00:09:22] Steve Eisman: They have some cooling products as well. [00:09:24] Steve Tusa: Yeah, I don't cover them, so I can't comment on them. But that's another kind of like, there's a couple of other small caps, Modine, Aon, and these are all getting kind of like, you know, pulled along. Then there's the HVAC stocks. Now, what does HVAC mean? Heating, ventilating, and air conditioning. Okay. [00:09:39] Steve Eisman: I just wanted to know that because I always just thought about air conditioning. [00:09:42] Steve Tusa: Yeah, heating, ventilating, and air conditioning. You got to have the heating, and especially here, and the ventilation. So Vertiv doesn't do HVAC? Vertiv does HVAC, but just for data centers. And the data center HVAC is a lot more complex than, you know, what we would have in our home unless you have an on-prem data center at your home because inside the IT room, there's a lot of heat being generated, and there's different technologies that are being used there. Like, for example, liquid cooling that's coming in and cooling the racks with these new Blackwell chips that, you know, these other HVAC guys wouldn't necessarily do in their traditional businesses, but they're applying their expertise and coming into the data center world because it's obviously a massive growth story. And if you look at- [00:10:23] Steve Eisman: So what do they do that a Vertiv doesn't do? Like, what are they needed for? [00:10:27] Steve Tusa: So the heat gets generated on the chip at the rack. Yes. That heat needs to ultimately go somewhere. And so Vertiv takes that heat in the IT room, dissipates to a secondary fan system that then dissipates into an HVAC system like the one we would have in this building, like a big chiller, that would then take that heat and reject it into the atmosphere just like the chiller does here. So Vertiv doesn't do HVAC? Vertiv does chillers, but they don't do chillers with enough scale to do it for every building out there. They just do it for data centers because that's their domain expertise. Where they overlap with a company like Trane or Johnson Controls or Carrier would be those guys do the chiller, and they're increasingly trying to come in to the data center. But that's a bit of a tricky proposition. Why? Because there's a lot of cooling IT equipment at the source is very different than cooling this room with a chiller. So those guys are trying to get in there, but there's a lot to do with the system, how it's controlled. The delivery temperatures you need have to be, you know, much more thought tolerant within a few degrees. So it's much more technical. And the last thing these data center guys want to do is blow up their new NVIDIA chips. So they're very careful about who they bring into the IT room. Okay. [00:11:50] Steve Eisman: So they'll bring in Vertiv because at least they know they can rely on it. [00:11:52] Steve Tusa: And it's been 20 years of experience with them being the most robust, reliable. [00:11:57] Steve Eisman: Was Vertiv created by Cody, who used to be the CEO of Honeywell? [00:12:00] Steve Tusa: So the story is Vertiv was created by Emerson. Emerson Electric. Emerson Electric. Dave Farr, 20 plus years ago, recognized data center as a growth part of the economy. And this was when enterprises were building data centers and the enterprises had no clue what they were doing. So they relied on experts like Vertiv. And it was a very technical type of sale. [00:12:25] Steve Eisman: So this was a division within Emerson Electric? [00:12:28] Steve Tusa: Called network power. [00:12:29] Steve Eisman: Okay. [00:12:29] Steve Tusa: What happened was in 06, 07, 08, when the hyperscalers started to come into play, and they started basically rinsing and repeating with large warehouses of more commoditized technology, just store data, store data, store data at a bigger and bigger scale. The hyperscalers said, we're going to do this. We're going to do it much more efficient than the enterprise does. And we're going to figure that out ourselves. So what happened over really a 15 to 20 year period was Vertiv's domain expertise went from being very valuable to actually not being very valuable at all because the hyperscalers didn't need them. Didn't need them. They needed them. They needed the capacity, but they didn't need the expertise because they were doing it all themselves. Explain that to me. What do you mean by they didn't need their expertise in cooling? When you're spending, when your business model is to just basically throw out as much storage capacity as you possibly can and make sure that things move from on-prem to the cloud, you want to get your first cost down as low as possible so that you and I can put everything on the cloud at a very reasonable cost. Therefore, as they ramp their spend, they took that over, found the most productive ways to do it. For example, they weren't building data centers in Texas. They built them up north and used more air and just circulated it in. Yeah, literally, like as simple as that. And when you have that kind of scale, you can do that because you can spend that little bit of R&D and then leverage it across your entire platform and go back to Vertiv and say, you know what, I know what you do really isn't that special. You may be able to tell the small business down the road that what you do is special, but we're doing this at scale. We don't really need your expertise. We just need your product. And so it was a bit of a price war for 15 to 20 years. And that ended when? With the advent of GPUs and AI, because this is a completely different level of density. [00:14:18] Steve Eisman: So how did this thing get spun out and become a SPAC and a CODI? There's a story here. I don't really know. [00:14:23] Steve Tusa: So Emerson sold to a private equity player. They then sold. They sold Vertiv. Vertiv to a private in 2016. Okay. Not at a great price, probably at the bottom, more or less. The private equity player came in. They invested some. They kind of repositioned their product portfolio. And then they tried to come public. It ultimately came in the SPAC, invested in by Dave Cody, who's got a phenomenal reputation, did a great job at Honeywell. Correct. And when the SPAC came out, they had a couple of stumbles. And then in COVID, it really exposed the business model of traditional data center, which was they didn't have pricing power. So when supply constraints hit and when inflation hit, these guys literally lost money for a quarter back in 2022, I believe. Maybe it was even 21. That was a long time ago. It's actually when we upgraded the stock. And this seems like a long time ago. It does. I can't even like, so much is happening. What happened that year? But anyway, this is why there's been so much skepticism on Vertiv, because everybody knows Vertiv from 20 years ago with the exclamation point of what happened during COVID, which was basically losing money and going to six times leverage. [00:15:36] Steve Eisman: So why is the business so much better now? And why do they have pricing power as opposed to 2020? [00:15:43] Steve Tusa: It's as simple as every time NVIDIA comes out with a new generation of chips. It requires a whole new architecture, a significantly higher level of density. And when I say density, what I mean is historically, kilowatts per rack were 10 kilowatts per rack, just a measure of how much energy it's using. Today, they're building them with Blackwell at about 100. 10 times. The next generation of chip is going to be 200, upwards of 500. [00:16:14] Steve Eisman: So the need for cooling is exponential. [00:16:17] Steve Tusa: In a significantly more dense setting. Okay. And so every time that you come out with a new gen of chip, now it's a new architecture. And the hyperscalers don't want to take on a whole design team, a whole organization to change every two and a half years. In addition, if you look at the spread of the CapEx that's going on right now, the hyperscalers are absolutely, hugely important. There's no question about that. But if you look at our data center pipeline, it's now 300 gigawatts, 300 gigawatts of pipeline, data center pipeline in the US right now. If you look at that funnel, only 35% of that funnel is hyperscalers by name. There's now Oracle that's spending 20 billion. There's now CoreWeave. There's OpenAI. There's XAI. I mean, it is a much more fragmented race, which is frankly driving- And when you say hyperscalers, you mean like AWS? Yeah. AWS, Google, Microsoft, you know, are kind of the, you know, and MetaNow. [00:17:19] Steve Eisman: So the customer base of Vertiv is much broader. Yes. And maybe they're not nearly as capable of doing the things that the hyperscalers used to be able to do. So they need Vertiv that much more. [00:17:27] Steve Tusa: 100%. And, you know, in addition, just keep in mind, these hyperscalers are very busy, especially somebody like Google, defending their business models. So, so they don't want to really be focused on the nuance of how to cool, how to like, oh, you know what? I, I, I'm going to save a hundred thousand dollars by, by coming up with like a different way to cool it. It may work. It may not. We'll have to test it. We'll have to take time. And our eye off the ball of like the real, the real battle for them. Yeah. Yeah. So this is a, this is a, I complete, this is a complete renaissance for Vertiv from this and this is why the tech guys in my view, a lot of the tech guys I speak to are the most bearish on a stock like this because they know these server cycles. They've seen them play out over 20 year periods and they're like, yep, two years up, two years down, two years up, two years down. I get that. I'm a cyclical guy. What do you mean two years up, two years down? Server cycles. You get a little, a minor new generation of servers. They get bought. Everybody stockpiles. And that's it for two years. That, and then that's it. And then they, and then they absorb, they digest and it goes down for two years. That's kind of the historical data. [00:18:35] Steve Eisman: So they're not believers in that the data centers are just going to keep growing and growing and growing. [00:18:40] Steve Tusa: I don't know. After this, after the last six months, I think they're not big, I think they're believing now, but nine, 12 months ago. Yeah. No, they were not. [00:18:48] Steve Eisman: Nope. So interesting. You know, there's one statistic that to me sums up the whole environment, which is the largest company in the United States of America is NVIDIA, you know, 4.3 trillion market cap company. And in the first quarter of this year, revenue grew 69%. And it's like, it's like, you have to like actually step back and say, say that again. You mean earnings grew 69%? No, no, no, no, no. Revenue grew 69%. I mean, the thought that, you know, if one of your industrial companies 10 years ago grew revenue 10%, you would have said that is the Babe Ruth of industrials. [00:19:25] Steve Tusa: I mean, impossible. Can't happen. Well, let me tell you something avertive. They will be growing close to 20% for the next basically three years. Right. Because NVIDIA is selling chips growing 69% throughout the year. We've never, to your point. You've never seen this before. This is, this is like, you know, there were some growth stories during the China commodity boom for sure. But this is, this is the grand. All right. So let's switch here. That's clearly a theme. I'm totally on board with that. But let's, let's talk about. And let's just say one more thing here. A lot of the pushback that we get, which I totally acknowledge. I'm a, I'm, I like to be a historian of cycles. We get the pushback that this is like the fiber build out again in the late 90s. And I, I just, to your point, like the, the biggest companies in the world who have the best balance sheets are like self-funding this. They didn't even know what to do with their cash. Right. Three or four years ago. This is not like, you know. [00:20:19] Steve Eisman: Oh, we're going to build a nuclear reactor next to, next to our data center. Because, because what does it cost? It's meaningless to us. That is kind of what it, what it's about. A hundred percent. It's meaningless. [00:20:28] Steve Tusa: This is not like, to go back to our conversation earlier on sell side research. This is not like a, you know, a, a, a, a telecom debt funded, you know, telecom IPO cycle. [00:20:39] Steve Eisman: Exactly. I mean, you think about it. I forget who said they were going to build a nuclear reactor next to their data. Yeah, yeah. It's the talent energy. Yeah. They didn't even ask the government for help. [00:20:47] Steve Tusa: They just said, eh, what do we need? We'll take too long. We'll just write a check. And what I like about this too, is I think the power, the innovation on the power side that's going to come from this is going to be really, uh, really spectacular. What do you mean the innovation? Well, I mean this, whether it's just like fast tracking, small modular nuclear reactors or, you know, new ways to power industrial sites, um, off the grid in an efficient way and being able to feed that back into the grid. There's going to be, there's going to be a lot of innovation on kind of how we get there. And I think that's going to be a residual impact from this, uh, you know, longer term. I'm not a big, like, how is this impacting society guy? Cause I try and kind of stay, stay in my lane. It's about your pay grade. Definitely. Um, at least during the week and the weekend, I've got all the answers on the week, uh, during the weekend, but, uh, you know, uh, it's, it's, I think it's going to have a long, a long, a long last thing. [00:21:37] Steve Eisman: Which gives for a sec to the big, beautiful bill that just got passed and it has something in it that the first time I heard it, I thought the person was joke with what they told me. I thought they were joking, which is that if you build a factory in the United States, you get to write off the whole thing. So look, president Trump has this whole policy of trying to onshore as much stuff as possible. He just created a tax structure that turbocharges it. Yeah. Do you think this is going to be effective? And if it is going to be effective over what period of time and who benefits? [00:22:09] Steve Tusa: Yeah. I mean, typically when we, when we've seen in the U S these, um, supply side incentives, if you will, they've been, uh, they've had less of an impact and they've been a bit shorter lived. Um, this is a, this is a big one. No question. A hundred percent. Right. It's a big one. I totally people don't build plants unless there's demand on the other side. And so I do think it will be positive. No question. And where we are today in the CapEx cycle, we're not depressed, but we're also not at a peak level, obviously. So, um, th there will be incremental investments from this. And I, I look at the CapEx stat, the, you know, the, uh, the, the BEA CapEx stat, um, has grown about 3% for the last 20 plus years. Makes sense, basically in line with GDP and every year we get a little bit more efficient. So we don't have to spend more than GDP to produce, um, uh, you know, a nominal amount of, of goods, a nominal amount of more goods every year. So I don't think we're necessarily depressed. I don't think we're at a peak level either. Um, and I do see a couple of industries, life sciences for one is already cranking up. You can see that in the CapEx budgets. That's a small part of CapEx. Less than 5% probably of the automation industry, um, and then semiconductors. But in semis, we are already coming from a period where all these companies committed to building here. Now they're kind of gone in fits and starts. So I do see an uptick there, but again, that's not a huge part of CapEx. The big capital spenders out there traditionally have been automotive. And remember, we just went through an EV cycle where they were building out an entire ecosystem of battery and assembly plants. [00:23:56] Steve Eisman: And that seems to be over right now. [00:23:58] Steve Tusa: That is over. Yeah. So that is deleterious. On the traditional auto side, they do have a decent amount of capacity. And if you look at what Ford and GM have said recently, they are ticking up CapEx, but it's not skyrocketing. It's not skyrocketing. The other major capital spender that we've had in the U.S. over the, you know, over the last call it 20 years has been oil and gas and process industries. That's not really going to be influenced by this. And in fact, Saudis are now pumping, oil is going down, process industries are kind of flat. So what I struggle with is when you line up all these industries, if you're going to kind of like remove auto and you're going to remove process industries, the automation industry out of their percentage. [00:24:40] Steve Eisman: Explain to these people, when you say automation industry, what does that mean? And why would that be a beneficiary if factories were built? 100%. [00:24:47] Steve Tusa: Well, that's the names in my group that people are trying to buy right now in this theme, which I get because they're at the bottom of their earnings cycle. That would be Rockwell and then Emerson. [00:24:55] Steve Eisman: And what do these guys do? So if I build a factory, an auto factory, a life sciences factory, I call Rockwell, Emerson to do what? [00:25:06] Steve Tusa: You call them, you have a bunch of machines that are building the products. You know, like the cars, the bottles of Coke that are going down the line, whatever it is. These guys do the intelligence that basically tells the machines what to do and when. And they're getting feedback device on what's happening. Hey, this bottle's coming down the line. We need to put a cap on it. So it gets the feedback to the control system. The control system tells the machine to put the bottle on the cap. [00:25:38] Steve Eisman: It's like the scene in Lucy with the chocolate, except now it's automated. So yeah, Lucy's not there anymore. [00:25:45] Steve Tusa: It's a little more like Laverne and Shirley when, you know, when the bottles are going around and the glove goes on to the bottle. Yeah, it's a little bit like. [00:25:51] Steve Eisman: So in other words, if all of a sudden, you know, a billion new factories were built in the United States, Emerson and Rockwell would be the big beneficiaries. [00:25:57] Steve Tusa: So because of those we cover those names, we watch the, you know, CapEx budgets for their customers very closely. And if you look at their pie charts, you know, I always call them the pie charts, the the the split of business. They give you what end markets they're exposed to. And that's really representative of like the CapEx economy. So for them, this will influence probably 20 percent of their business, but not 100 percent of their business. So when you think about the size of the U.S. economy, it's a, you know, it's a two trillion dollar industrial cap goods economy. You need a lot of investments in all different types of places. And it is typically it typically has to be driven by a indicator of demand. Even even the the process and the oil and gas boom we saw, I mean, in a way it was supply side related because we came up with shale. But like oil price also went to 140 and these guys couldn't spend enough with an oil price at 140. So it's there has to be, in my view, some sort of demand side driver to really make it a theme in a cycle. [00:27:07] Steve Eisman: So Rockwell and Emerson, I was looking at the charts earlier today. I mean, they've gone in Fuego. But that's it. But you think those stocks are up because people are anticipating. Yes. That we're going to have a huge cycle of new factories. Yes. And you're skeptical. [00:27:20] Steve Tusa: To a degree. The issue with being a stock picker of these stocks right now is that, to use the term I'm skeptical, we're talking about magnitude. Because like I said, we are not at a peak level of CapEx. We're kind of on a trend line, which means that we probably could see a pickup. But is it going to 9% to 10% growth? I don't know. Maybe for a year. But probably not for an extended period of time. Okay. This is not like data center that we just talked about growing, you know, 15% to 20% for five years. Or like the oil and gas, you know, shale emerging market commodity boom that we had. Or frankly, you know, the housing boom we had, you know, back in the day. Way back when. Yeah. Which I think you know a little bit about. All right. Let's switch gears again. So let's talk about. So I'm skeptical of the magnitude. I understand. I want to be clear on that. [00:28:10] Steve Eisman: You're not skeptical that there's going to be an increase. You're skeptical. I think it's good. That the stocks have gone up so much, anticipating a hell of a lot. You think it's not going to be quite as good as people might. [00:28:19] Steve Tusa: So I'm being probably stubborn as I can be about. I hadn't noticed that about you over the years. About valuation. And I want to make sure I always like to get at least like. [00:28:32] Steve Eisman: But you're still very bullish on your electrification stuff. Yes. No question. Verdon, Eaton, et cetera. Okay. That's a much more powerful story. [00:28:37] Steve Tusa: I'm not sure after this quarter I've really. I'm not sure I've been this bullish on the trends and the electrical stuff. [00:28:43] Steve Eisman: We're not talking about the quarter. Just as long term. That's your favorite part of the story. [00:28:45] Steve Tusa: What I meant was after this quarter. Yeah. I'm at a kind of a new level of. [00:28:49] Steve Eisman: Oh, during this quarter. This is what happened to you during this quarter. Yeah. [00:28:51] Steve Tusa: Just a bunch of confirmatory data points that, you know, we're very comfortable with that cycle being very, very strong. [00:28:57] Steve Eisman: Okay. So let's talk about Honeywell. Sure. So once an iconic company, not so iconic these days, splitting up into various parts. Yeah. You were not recommending it. Yep. And so my question for you is GE, which we're going to talk about, but did break up. And two out of the three parts have done extremely well. Yeah. So knowing nothing, but just knowing what happened with GE. Yeah. I would say to you, Steve, why isn't Honeywell GE part the? [00:29:30] Steve Tusa: Yeah. And the answer is? Completely different bases of starting point. Completely different starting point for both. What do you mean starting point? I'll get to that in a second. Okay. And then a completely different growth algorithm. So like you're not starting at as much of a depressed base and you don't have a- What are you saying? GE was depressed? It was. Oh, we'll get to that. It was. It was. I mean, I didn't quite call it that way at the exact time. We got one side of the trade right at the other side. [00:30:09] Steve Eisman: So explain, what are the component parts of Honeywell right now? [00:30:12] Steve Tusa: So first of all, just remember that. So let's go aerospace first. Okay. Aerospace is going to be the majority of the value creation at Honeywell. Remember when GE Aviation came out, we were still like, when GE bottomed and people started to anticipate this breakup. Remember, we were at like a bottom of the avi- a historic bottom of the aviation cycle with COVID. Yes. So very low base, which for cyclicals and for the companies I cover, the base that you're operating from is incredibly important. It's going to make you look good for the first couple of years. And it just so happens that with the tightness in the supply chain, with a lack of new planes coming in, that the older engines, that GE manufacturers and services have been on wing a lot longer. And it's been a tremendous earnings growth story. I mean, I think it's been- I don't cover it now, but I think it's been operating profit north of 15% plus for like several years. So a boomer off the bottom, that's currently continuing. Okay. Honeywell is a much more diversified aviation business, 40% defense, and then the rest commercial with some business jet exposure. And their cycles are not as well aligned. And they were not at the bottom of the aviation cycle. They're coming out today, probably mid to late cycle when it comes to aviation. And you can see it in their margins. Their margins are 26% versus GEs, I think, are in the 20 range. So these guys maintain margins. They're not at the bottom of their cycle, which means their profit growth is going to be a lot slower over the next few years than what you see at some of these other aerospace companies, especially over the last three to four years. That's point number one in aerospace. Now, we value aerospace, I think, at $100 billion in our EV analysis. It's still a 20 times EBITDA multiple. So we're giving aerospace a lot of credit, but not quite GE credit. That's a pretty unique business model that's firing on all cylinders right now. Okay. Secondarily, the rest of Honeywell is pretty mixed. And if you compare that to the rest of GE, which is basically GE Vernova, that was losing money. [00:32:16] Steve Eisman: It was borderline disaster. 100%. [00:32:19] Steve Tusa: No, it was a disaster. [00:32:20] Steve Eisman: Yes. It was a disaster. Okay. I was being kind. You know, GE Vernova is an example of a slogan that I love, which is peacock today, feather duster tomorrow, peacock again. [00:32:39] Steve Tusa: Correct. That's GE Vernova. Although, I think if you look back five or six years ago, when it was all about renewables and going in that direction, and that's where the entire economy was going, it didn't look like there was a way out of this for them. [00:33:00] Steve Eisman: For GE Vernova. For GE Vernova. Oh, totally. [00:33:02] Steve Tusa: Now, with AI and with the power demand, they're still losing a billion dollars in wind. So this is not a, you know, it's not like they- [00:33:11] Steve Eisman: If they could wave a magic wand and just say, make wind disappear, they would do it in a heartbeat. I think one of the titles of our previous notes was gone with the wind. [00:33:19] Steve Tusa: It wasn't let it go away. It was it's- Please take it. It's going with the wind. Yeah. And so now you've got this AI kicker that's obviously 300 gigawatts of demand that we've talked about. Honeywell does not have that kind of growth rate in the Remain Co. kind of business. And in fact, the Remain Co. business, as they've showed you, they're selling assets now out of it. And whenever a company starts selling assets that you thought could be a little bit growthy in the future, you start to realize just like GE, GE had eight segments at one time. And then at one time, only one of those segments was actually like making money. So when you see that kind of decay in the business, you know there's going to be an investment cycle for that business to kind of start to move up. And it's unclear to me with the diversity of that business that you're going to have something like- Actually, I'll tell you right now, you will not have something like AI. In fact, it's a lot more process industry exposure, a lot more oil and gas and chemical exposure, which is not very growthy. [00:34:16] Steve Eisman: So that's why that's not GE. Let me ask you a different question on Honeywell. What happened? I mean, we're going to talk about what happened to GE in a bit. But, you know, if we were here seven years ago, when did Cody leave Honeywell? Yes, he left in 16. Okay, so go back to 16. So Honeywell is viewed as like- He was 18 then. You know, people would talk about how if you were long Honeywell and short GE, you made your career. Or it really was true. If you did that, I'm kind of betrayed. [00:34:52] Steve Tusa: I'm kind of joking because we were long Honeywell from 2010. [00:34:54] Steve Eisman: No, no, but I'm saying that was your- If you were at a hedge fund and you said, I'm long Honeywell massively and I'm short GE, great trade. Yeah. Great investment. Yeah. And yet, since Cody left, things have really fallen apart. Like what, like how do you explain that? [00:35:09] Steve Tusa: I think as we all know and, you know, in life or career, again, the base of ops and what you're coming into is very important. And when you follow, it's almost like that, you know, that coach that inherits a team that's won four Stanley Cups and, you know, the greatest coach ever. Right. That coach is probably not going to be successful. It's almost, it's a very, the odds are very low. So, so when you look at Dave Cody ran Honeywell by delivering on numbers consistently. It was like kind of the old style way of managing. The old Jack Weld style of managing an industrial company. He wasn't quite as, there wasn't quite as much financial gimmickry. I'm not going to use that term. But I would. Complex. There wasn't, there wasn't as much complexity in the financials. Yes. And so Dave ran an, he came from a low base, GE Honeywell merger broke up. The, the, the corporate office was in shambles, literally the GE guys just left the Honeywell corporate office. And it was like, you know, it was a mess. So he came in, stabilized the ship for five years, developed credibility, and then really kind of operated really well, delivering, in a period where there wasn't a lot of growth, delivered on margins, margins, margins, margins. And when you focus too much on margins, and these margins go to a high level, it happened at 3M as well. McNerney drove margins to a higher level. And frankly, 3M dealt with that for 15 years. Yeah. To get growth and margins at the same time in this group, when the end markets aren't growing very fast, is, is, is a massive challenge. And so I think Darius came in and Darius got the job because he is, was a really good operator. And he was on top of everything. I mean, he, he ran things very tightly. And I think it's very hard to look at your all-star predecessor and say, here are the things we need to do like today to reset the bar. He didn't reset the bar. And then COVID happened and COVID destroyed their aviation business, big part of their industrial business. And how did they react to that? They reacted to that by cutting costs. So when you came out of COVID, it kind of, COVID forced them to almost like perpetuate the same stuff they've been doing. And they delivered well during COVID. But then once things started coming back. There was no oomph. There wasn't any oomph. And there's still, when you look at their revenue growth rates, there is, you know, it's hard to get margins and growth at the same time. Really hard. So what they're doing now is they're deploying the balance sheet. They're, they're, they're using the balance sheet to invest, enhance the growth rate. It's a little bit less capital efficient. It's definitely negative for ROIC. And that's why people are still kind of lukewarm. And it's, it's a little bit of an uncertainty whether they actually can drive growth through acquisitions. But that's kind of, that's the evolution of this, of the story. And it's really coming from here to there. And now you really don't want to go back here. But like gravity is, is pulling you in a reset direction. [00:38:15] Steve Eisman: With Honeywell splitting up, the age of the conglomerate's over. It's, I mean, what's left? [00:38:22] Steve Tusa: There's a couple, Parker Hannafin's out there. I don't cover them. They've done a great job. There's all these smaller companies, Amitek and IDEX. And there are some up and comers. And I think the market will always value a, you know, in the end, what do we care about? Growth and earnings and free cash flow. And as long as you're not getting there in an unsustainable way, if you do something well and you leverage that business model, there's a value to it. But I completely agree with you. The old earnings management beat by a penny, great company. I think that that's getting a lot more scrutiny these days. [00:38:50] Steve Eisman: So let's talk about the company you really cut your teeth on, GE. And I want to talk about this from almost like a historian perspective. I mean, you, we were talking earlier, when did, when did you become the senior analyst? [00:39:02] Steve Tusa: 2005. [00:39:03] Steve Eisman: Okay. So Immelt was running the company for a few years when you got started. Oh yeah, absolutely. But you were there for the most of his duration. [00:39:11] Steve Tusa: Yeah. Oh, I mean, absolutely. He was there until, you know, 2017. So. [00:39:16] Steve Eisman: So let's, let's just talk about, from a historic, historian perspective, what happened at GE? [00:39:23] Steve Tusa: What happened at GE? I mean, I think people have written, written books about this. [00:39:26] Steve Eisman: Yeah, but I want to hear what, what, what, what, what, from your perspective, what happened to GE from your perspective? Like when you, when you think about it, he came in, unfortunately, just before 9-11. Yeah. It was an iconic company. And basically from the moment he stepped in to leave left, it would go straight down. [00:39:42] Steve Tusa: Yeah. Just to be clear, you're, you're only as good as your last trade. And, uh, it would have been great to get this one off the bottom. We didn't. I'm glad, I'm glad we have this whole data center theme. Cause it's, it's refreshing to be positive about something, about something genuinely positive about something. So it's, uh, it's, it's, it's, you know, been, it's meant a lot for the career and for the, um, for, for work day-to-day work to do something like this in a positive way. So I'm not just a guy who's, you know, who's, who's, who's banging around on, on stocks. Um, even though I definitely call it as I see it, I, I think Jack Welch grew up in a, in a very different time. The disclosure was nowhere near as good. I mean, GE didn't even have a, an earnings call back in the late night. [00:40:26] Steve Eisman: I used to go through the earnings before you, you were the analyst JP Morgan. I analyzed GE and, um, my analysis of this, I did this in 2001 was that there was something really fundamentally wrong with the entire balance sheet of the entire company that, that the entire balance sheet was on the financial services side, but the entire earnings of the company was on the non-financial side. And there was something really flawed about it. And I would talk to industrial analysts about it and they, and they're, they go cross side [00:40:58] Steve Tusa: cause they would, they, they wouldn't know what I was talking about. Nobody had the, and as we talked about earlier too, I mean, I think back then, uh, the, the incentive structure of the sell side was probably not, um, not, not aligned, not, not aligned to, um, ask tough questions in a situation like that. Um, so it's, it's not surprising to me that, that it kind of got to that, um, got to that point. And I completely agree with you. It was a stuffing everything that's bad onto the, um, onto the capital side and making the industrial side look as good as possible. I, I, I knew we had something when we, we asked the analysts at, uh, at Moody's, we talked to the, um, industrial analysts and said, how do you analyze financial services? [00:41:40] Steve Eisman: He accepts it. He takes it as a given. [00:41:42] Steve Tusa: And he said, oh, it's, it's, it's my, it's my financial services guy. Like I just kind of listened to him. And then we talked to the financial services guy and he said, uh, he said, well, they're guaranteed by the industrial company. So I just listened to my, what my industrial guys. And I remember, I remember being in the, I think it was in the parking lot of my, uh, uh, of my dentist or something. And I was on a call with my associate, uh, Pat, who's been with me for a long time. And he's absolutely massive part of the engine room here. Um, and super smart guy. And, uh, we were just literally, I mean, if we had zoom, we would've been looking at each other, but like, uh, it was a, it was a moment where it was like, okay, so this is, this is like, it takes a while to realize what, what the, where the level of, um, discourse is first and how lopsided people and off sides people actually are. And it takes a while to really figure that out. And that to me was a moment where I was like, okay, this is, this is gonna be, um, and I, I remember asking Jeff in 2005, six, I, young analyst didn't have a clue. Um, and I, I, I remember after one of their breakfasts before their annual outlooks, which we had at 30 rock, which was, you know, always great fanfare. Um, and I, I just went up to him afterwards and I said, I don't really know what I'm looking at, but every single one of the investors that I talked to who's smart says, you guys need to get out of G capital at all, like at all costs. Right. And he said, and they did a, they always did a good job of, of kind of making you feel like you didn't really know what you're talking about. Right. And he said, he's like, I'm not sure who you talk to, but my top shareholders do not want that. And maybe he was being honest because he was basically saying like, this stock would go down 30% if I did that. And maybe he was just being honest by saying that. Um, but that was the, that was the response to that. And, and I think that, um, again, time, time and situation many times makes the man. And I think that if he had looked at Jack and said, different time. And he'd come out in 0102 and said, look, guys, Jack had a different playing field. I know where this is going. We're going to have to take like a 20% to 30% earnings cut, but I know you're going to value me at a higher level because we're going to D lever and we're going to be a safe bet. I think that, that would have been, that would be the lesson to a new CEO in a situation like that. But he couldn't do it. Well, I don't, you know, I don't, I don't know all the personalities. I, I, I just know that this was a, a culture that was, uh, you know, um, it was a marketing culture. It was an optics culture and it was a, uh, deliver the numbers, put the headline out type of culture and keep your head down. Well, keep your head up and look for the next with internally look for the next opportunity. So drive as hard as I can get the promotion. I understand. [00:44:33] Steve Eisman: I mean, one of the, I think one of the hardest things for a CEO is to come in at exactly the moment where there's a massive paradigm shift in your own industry, whether that's, you know, running Morgan Stanley and all of a sudden you can't be live at 40 to one, you can only be live at 15 to one or the case of GE, where the whole world lets you get away with murder on, on the capital side. And all of a sudden the world wakes up and says, we don't like this business. He was, I think it was completely incapable of, of, of understanding that, that the whole world around it had changed and he, he just, he just ignored it. [00:45:13] Steve Tusa: I, I, I, I don't, I don't know. I, I, I think, um. [00:45:16] Steve Eisman: That's just my thesis. [00:45:17] Steve Tusa: I, I, I've never spoken to him. I, I, I, I would not say he ignored it. I think this was a, an iconic company that if he had started to kind of like pull the string, that would have been a, you know, we don't know the dynamics of the boardroom. We don't, you know, that, that could have been a three year string that you pull that, you know, again, takes 30 to 40% out of the market cap of the company. And does he even survive that? So, um, it, it, it's tough to say, I, I, I think he's, you don't get to that point of GE without being, without being smart and in the know, but, but you also, if you're a salesman and you're, and you're pitching, which he, he was, he pitched, he loved to pitch. He loved to be on stage. He was super funny guy. Yeah. So if you're that guy, you know, you don't want to disappoint people either. And so, uh, it's a, it's, it's a tough one. They, I think this one's going to be debated for, uh, for, for a long time. [00:46:11] Steve Eisman: I know which thought I come out of my question, question about why did they buy Alstom? That was the one thing. I mean, the fact that they sold NBC at the bottom. Okay. You know, whatever. Yeah. But tell everybody what Alstom was and what, what possessed them to do that? Cause that's what eventually what sunk them. [00:46:28] Steve Tusa: So, so the, so the power paradigm really changed. They, they sold 300 turbines in, uh, in 2001, 2002 at the peak of the kind of Enron driven power demand mania. Um, those turbines were serviced for 12 to 15 years. So they had a service stream from those turbines that was pretty bulletproof and, and very positive. What happened though, was the utilities who bought those turbines and we're thinking they were gonna, um, supply an economy that was growing power demand by GDP plus because of energy efficiency and then renewables came along. The power generated from those turbines was actually GDP minus. And so they had the utilities had a bunch of effectively like stranded assets in the end. And so at, after you renewables started coming in and, you know, you, you started realizing that centralized generation was, you know, not gonna be worth it financially. Um, they, you know, nobody was buying turbines anymore and they started pushing back on service contracts. And so what GE tried to do with Alstom was, well, as these contracts came due, they sold upgrades on these contracts that the utilities didn't want. They, they marked gains on the contracts, non-cash gains are based on what based on the performance of the contracts. You know, you can, you can, you can manipulate the, um, the calculations, uh, over time with these contracts and keep them at a certain level that at the end of the contract, you have a paper gain because you, you booked a little less every year. And that adds up to something that when you actually have an event, you pull in that entire gain and adjust the contract. And so they were booking these, it was basically like a bit of a, of a jar for gains. They would book these gains, non-cash gains. And they would tell the utilities to say, I don't want these turbines anymore. Let us upgrade, upgrade them for you, extend the useful life. And then you will, we'll put a receivable on our book for 20 years. And you know how they made it look like cash. They took the receivable and they sold it to GE Capital. And GE Capital paid industrial. Oh my God. So when you're doing that for a couple of years and you can't keep that, you're running out of, you're running out of turbines to upgrade, you're going to go, you're either going to admit it or you're going to go and try and do something to say, now we have the full plant solution. We, you know, this, this makes it much more, uh, attractive for our customers to buy. Oh, and by the way, Allstom is losing money. So we can, we can fix this asset. We can take a lot of, uh, a lot of cost out and adds to our installed base of, of coal. They bought a coal installed base with it. I mean, so, so this was a, this is a function of this could go like this. So let's put something on top of that. And you know, when you do that, when you add, you know, when you add D minus to, you know, to C minus. Well, I mean, the rest is history, right? Right. That's what sunk them in the end. Ultimately that, and you know, they didn't have the, you know, then, then you had to like, they're unwinding capital. So everybody was asking, wait, what is this business in GE capital? That's 30 billion in, in 30 billion in receivables. Like, what is this? Oh, that's what we sell to ourselves. It's a receivables program, but then we sell it off balance sheet to SPVs. And so it's fine. It's like, wait, what? I think I've heard this game before. Yeah. I mean, it was only 10 years later. So this was, yeah, this was, there's not going to be another story like this in our sector, like full stop. No question. Because you're just not going to be able, there's no company that's not, that's going to be able to have this much financial complexity and kind of allow themselves to get that far out on the spectrum to where it's a complete, the market is completely over values by, you know, 70% what the stock is worth. Just, just not going to happen. We're going to have cycles and Vertiv that someday will peak out and it'll go down 50% when all this capex rolls over. But that's not the same thing as, you know, what happened. Manipulation. I'm not going to use that term. [00:50:36] Steve Eisman: You don't have to say, I'll say. [00:50:38] Steve Tusa: But I will say they settled with the SEC. Yeah. So all of that stuff is in, a lot of that stuff is in the SEC findings. So that's all publicly available information. That is not Steve Toos' opinion. I understand. It was my opinion before it happened. Last company, 3M. Yeah. [00:50:57] Steve Eisman: So describe to me what happened to 3M and why you're recommending it now, why it's a turnaround story. Like, take me down and take me up. [00:51:06] Steve Tusa: Yeah. I mean, here we go again with a legacy GE CEO is kind of the starting point here. And Jim McNerney didn't get the job at GE. He went to 3M. He effectively Six Sigma'd the labs. This was back literally in '02 through '06. And he wrote one growth story, took the margins to the low 20s. And I mean, honestly, they've been there since 2006. And every successive CEO has tried something different. The first CEO, George Buckley, tried to invest at the margins. Didn't quite move the needle. And people didn't like the fact that their margins were going down. So he left. Ingotulin came in, bought back stock. Ton of stock. Levered the balance sheet. That was when oil and gas was going down. So he had a huge price cost tailwind. Stock actually went to 15 times EBITDA. But the results didn't really change. Mike Roman, who came in after him, had the PFAS issue. They have a PFAS liability. He spent probably most of his time just trying to figure out where to go with that, because that's kind of an existential threat. Bill Brown has come in, great reputation, former UTC, also integrated a couple defense companies, did a fantastic job. He's come in. And what he's told us is that there's great technology, but there hasn't really been a cultural focus on innovation and operations at the same time. And some of the statistics he's thrown out as far as their plant footprint and their equipment utilization and stuff they're selling they shouldn't even be selling resonates big time. And they've guided to 400 base points of margin improvement over the next few years. And we love that idiosyncratic aspect of the story. It's trading at 18 times earnings, more like 20 times you adjust for PFAS. My group's at 23. It's a high quality company. I don't see any reason why it can't be at least up to that 23 times number. And if they get the growth, then it's going to be phenomenal. But that's the key. That's the key question. And where are they on PFAS, the liability? So they've booked, we believe they've booked about half of it now. It's out in the open. The water authorities have agreed to a $15 billion settlement. And they're still going through state attorney general cases and personal liability cases, which we believe will be basically the same amount. So we think there's another 15 billion to go. But again, that's where we're kind of marching it down from the 23 times down to something in the more in the 20 range. I mean, we upgraded at 90. We had, I think, a $130 price target at that point. The stock's at 145. I think our price target's 170 now. So it's not quite the upside. But I got to tell you, there's not a lot in our group right now that is that attractive to begin with. So this is a little bit of a, you know, inch by inch type of group right now with these valuations. I'd say JCI, which is John's Controls, which is a HVAC player. They are the budding idiosyncratic story, except they actually do have top-line growth. And they have a fantastic new CEO in there who's- [00:54:16] Steve Eisman: And what do you mean by their idiosyncratic story? [00:54:19] Steve Tusa: Idiosyncratic means something outside of- [00:54:21] Steve Eisman: No, I mean, what do you mean by, with respect to them, what is idiosyncratic? [00:54:23] Steve Tusa: Oh, margins. Margins. I see. Same. We love, industrial cycle guys love margins. [00:54:27] Steve Eisman: You build better margins. We love margins. That's your thing. [00:54:30] Steve Tusa: Well, you just like to have somebody- [00:54:31] Steve Eisman: See, tech guys, they just want growth. [00:54:33] Steve Tusa: Yeah. Well, because ultimately, if you don't have growth in tech, you're probably not going to have the margins because it's so competitive. In my industries, you can have three to 4% growth. And that's enough growth to kind of, in relatively favorable competitive sets, that's enough to drive some decent margin expansion every year. But this is a really strong level of margins. Plus, commercial HVAC right now is a really good growth story. So they could actually have both for the next few years. They actually just announced a $5 billion ASR last week. What's an ASR? Accelerated share repurchase. Ah. So they sold their Resi HVAC asset at basically the peak of the cycle. And they're doing a huge ASR just so the earnings growth next year is going to be fantastic. There's upside to earnings. And it's kind of where 3M was, I would say, about a year ago. Okay. [00:55:23] Steve Eisman: Steve, thank you. That was great. [00:55:25] Steve Tusa: Well, it was an honor and a pleasure. It was a real pleasure. Thanks for having me. I'll come back anytime. [00:55:34] Steve Eisman: This podcast is for informational purposes only and does not constitute investment advice. The host and guests may hold positions in stocks discussed. Opinions expressed on their own and not recommendations. Please do your own due diligence and consult a licensed financial advisor before making any investment decisions. [00:55:50] Speaker ?: I'll see you in the next one. I'll see you in the next one. I'll see you in the next one. I'll see you in the next one. I'll see you in the next one. I'll see you in the next one. I'll see you in the next one. I'll see you in the next one. I'll see you in the next one. I'll see you in the next one. I'll see you in the next one. I'll see you in the next one. I'll see you in the next one. I'll see you in the next one. I'll see you in the next one. I'll see you in the next one. I'll see you in the next one. I'll see you in the next one. 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