Regal Rexnord (RRX) Q3 2025: Data Center Orders Surge $195M, Offsetting Margin Headwinds
Data center momentum and a record $195 million in new orders propelled Regal Rexnord’s backlog and future growth trajectory, even as rare earth magnet shortages and tariffs weighed on margins and free cash flow. The company’s CEO succession announcement arrives as RRX pivots deeper into secular growth markets, with investments in modular power systems and capacity expansion. Management’s focus on tariff mitigation and operational leverage sets the stage for 2026, but persistent supply chain constraints and global trade headwinds remain critical watchpoints.
Summary
- Data Center Acceleration: Secular demand and $1 billion bid pipeline position RRX for multi-year growth.
- Margin Pressure Persists: Tariffs and rare earth shortages delay margin expansion, despite cost actions.
- Leadership Transition: CEO succession process underway as strategic priorities remain unchanged.
Performance Analysis
Regal Rexnord delivered solid Q3 results, with orders up nearly 10% and a book-to-bill ratio of 1.05, signaling future revenue momentum. Backlog rose 6% year-over-year, underpinned by $135 million in data center orders during the quarter and an additional $60 million in October. Organic sales growth was modest, up less than 1%, with energy, discrete automation, and aerospace offsetting softness in medical and timing-related data center shipments.
Gross margin contracted 80 basis points to 37.6%, affected by rare earth magnet constraints and tariff escalation, while adjusted EBITDA margin held steady at 22.7%, supported by $11 million in synergies. Free cash flow reached $174 million for the quarter, primarily used to reduce debt, and the company exited with no variable rate debt. Segment performance was mixed: AMC (Automation & Motion Control) faced shipment delays from rare earth shortages, IPS (Industrial Powertrain Solutions) saw steady energy and mining demand, and PES (Power Efficiency Solutions) benefited from HVAC mix and cost discipline. Margin headwinds from tariffs and rare earths led to a guidance cut for full-year adjusted EPS and free cash flow.
- Data Center Win Rate: AMC data center orders totaled $175 million in recent months, with full-year Thompson Power Systems sales on track for $130 million—double five-year levels.
- Tariff Escalation: Annualized tariff impact rose from $125 million to $175 million, with cost neutrality targeted by mid-2026 and margin neutrality by year-end 2026.
- Rare Earth Magnet Shortages: Constraints worsened, impacting high-margin medical and defense shipments and extending supply recovery into early 2026.
Despite operational headwinds, RRX’s order momentum and backlog expansion point to an inflection in top-line growth for 2026, though margin recovery will be gradual and back-half weighted.
Executive Commentary
"Our team delivered solid third quarter performance, nicely ahead of our expectations on orders, and roughly in line on sales and adjusted EBITDA, driven by over-execution in PES and strong execution in IPS and AMC. Performance would have tracked even stronger if it were not for larger-than-expected pressures from two items out of our control. Additional tariffs announced in August just after our Q2 earnings call and incremental challenges sourcing rare earth magnets."
Louis Pinkham, Chief Executive Officer
"Our revised assumptions are outlined in the table on this slide. Notably, our sales guidance is rising modestly, primarily to reflect initial revenue from our recent data center project wins and some additional tariff pricing net of incremental impacts from delayed shipments of products with rare earth magnets... We see both the tariffs and the working capital investments as timing related, as we expect the impact of pricing on tariffs to flow through once that inventory is sold in the first half of 2026."
Rob Rehart, Chief Financial Officer
Strategic Positioning
1. Data Center Expansion and Modular Solutions
RRX’s aggressive push into the data center market is a defining growth lever. The Thompson Power Systems business in AMC is set to quadruple its size in five years, with $130 million in 2025 sales and a robust $1 billion bid pipeline across AMC and PES. The company’s move into modular E-pods—turnkey power management solutions—positions RRX to capture both hyperscale and edge data center build-outs. Capacity expansion in British Columbia and a new Dallas facility (up 50%) will support this ramp, with shipments from Dallas expected by mid-2026.
2. Tariff Mitigation and Supply Chain Resilience
Tariff escalation, especially from Section 232 and India’s 50% rate, raised annualized exposure to $175 million. RRX is executing pricing actions, supply chain moves, and potential manufacturing shifts to neutralize cost by mid-2026 and margin by year-end, but timing remains a challenge. Rare earth magnet shortages, exacerbated by China export license delays, now extend into early 2026, prompting alternative sourcing and production strategies.
3. Segment Focus and Secular Growth Bets
The company is channeling investment into secular growth verticals—data center, discrete automation, and aerospace— while maintaining strong positions in energy and HVAC. PES’s commercial HVAC business is leveraging technology for data center cooling, winning a $20 million order this quarter, and targeting semicon clean rooms. Cross-sell synergies and technology differentiation, especially in IP-protected furnace technology, are driving share gains in residential HVAC and discrete automation.
4. Leadership Transition and Continuity
CEO Louis Pinkham’s planned departure comes as RRX enters a new phase of growth, with a focus on continuity and cultural preservation. The board has launched a comprehensive search, considering both internal and external candidates, with an emphasis on operational, commercial, and growth leadership. Strategic priorities remain unchanged during the transition.
5. Capital Allocation and Balance Sheet Discipline
RRX continues to prioritize debt reduction, targeting net leverage of 2.5 times by end of 2026, supported by nearly $900 million of projected free cash flow next year. Working capital investments for data center orders and rare earth inventory are seen as temporary, with normalization expected as backlog converts and supply stabilizes.
Key Considerations
This quarter marks a strategic pivot for RRX, as the company leans into secular markets while navigating persistent cost and supply chain headwinds. Investors should weigh the durability of data center demand against execution risks in tariff and supply mitigation.
Key Considerations:
- Data Center Pipeline Visibility: $1 billion in identified opportunities and capacity expansion signal multi-year growth, but component supply remains a gating factor.
- Tariff and Rare Earth Mitigation: Price actions and supply moves are underway, but margin recovery will be gradual and back-half weighted in 2026.
- Segment Margin Variability: AMC and IPS offer higher operating leverage (40–45%) compared to PES, influencing overall margin trajectory.
- Cash Flow and Deleveraging: Free cash flow is expected to rebound sharply in 2026, enabling further debt reduction and strategic flexibility.
- Leadership Stability: Succession process is designed for continuity, but execution must be monitored during the transition.
Risks
RRX faces persistent risks from global trade volatility, especially further tariff escalation and unpredictable rare earth magnet supply from China. Execution on capacity expansion and data center project delivery is critical, as is the company’s ability to pass through costs and maintain share in sensitive end markets. Leadership transition adds a layer of uncertainty, though the board’s emphasis on continuity is reassuring. Investors should monitor for any slippage in margin recovery timelines or order conversion rates.
Forward Outlook
For Q4 2025, RRX guided to:
- Modest sequential sales growth, driven by data center shipment timing and continued strength in commercial HVAC and discrete automation
- Further margin pressure from tariffs and rare earth shortages, with adjusted EBITDA margin expected near 22%
For full-year 2025, management lowered guidance:
- Adjusted EPS range of $9.50 to $9.80, reflecting incremental tariff and supply chain headwinds
- Free cash flow of $625 million, down from prior expectations due to higher tariff costs, working capital investment, and interest expense
Management highlighted several factors that will shape 2026 performance:
- Data center growth expected to contribute 1–1.5 points to enterprise growth rate
- Tariff and rare earth cost neutrality targeted by mid-2026, with margin neutrality by year-end
- Sales growth outlook of low-to-mid single digits, with operating leverage of 35% overall and higher in AMC/IPS
- Free cash flow targeted near $900 million, supporting leverage reduction to 2.5 times
Takeaways
Regal Rexnord’s Q3 marks a decisive shift toward secular growth, with data center orders and backlog expansion setting the stage for 2026, but tariff and supply chain headwinds will continue to weigh on margins and cash flow in the near term.
- Secular Growth Pipeline: Data center and automation investments are beginning to pay off, but timely project execution and supply chain resilience are critical to sustaining momentum.
- Margin Recovery Delayed: Tariff and rare earth headwinds will persist into 2026, with gradual improvement expected as mitigation actions take hold and cost pass-throughs materialize.
- Leadership Transition Watch: CEO handoff comes at a pivotal time; strategic priorities remain intact, but execution stability must be monitored through the transition.
Conclusion
RRX’s Q3 results highlight the company’s ability to drive order momentum and capitalize on secular demand, even as external headwinds delay margin expansion. With a robust data center pipeline and clear mitigation plans, the company enters its CEO transition with a solid platform for multi-year growth, but investors should remain vigilant on execution and supply chain risks.
Industry Read-Through
Regal Rexnord’s data center surge and focus on modular, turnkey power solutions underscore the expanding opportunity as AI and cloud infrastructure drive hyperscale and edge build-outs. Tariff escalation and rare earth supply disruptions are sector-wide risks, especially for industrial technology and automation peers with global supply chains. Margin pressure from trade policy and input scarcity will remain a recurring theme for diversified industrials, emphasizing the need for flexible supply strategies and pricing power. Leadership transitions in a period of secular opportunity and operational challenge are likely to recur across the sector as companies recalibrate for a new industrial cycle.