Q4 2022 TE Connectivity Ltd Earnings Call
Ladies and gentlemen, thank you for standing by and welcome to the T E connectivity first quarter 2022 earnings call.
At this time all lines are in a listen only mode. Later, we will conduct a question and answer session.
If you would like to ask you a question simply press star followed by one on your telephone keypad.
As a reminder, today's call is being recorded.
I would now like to turn the conference over to your host Vice President Investor Relations Sue Jos Shah. Please go ahead.
Good morning, and thank you for joining our conference call to discuss Te connectivity is fourth quarter and full year 2022 results with me today are Chief Executive Officer, Terrence Curtin and Chief Financial Officer Heath Mitts.
During this call we will be providing certain forward looking information.
I ask you to review the forward looking cautionary statements included in today's press release.
In addition, we will use certain non-GAAP measures in our discussion. This morning, and we ask you to review the sections of our press release and the accompanying slide presentation that address the use of these items the.
The press release and related tables, along with the slide presentation can be found on the Investor relations portion of our website at <unk> Dot com.
I also want to remind you that our Q4 results include an extra week and we will be discussing some of our results on both a 14 week 13 week basis during the call.
Please see the appendix in the slide presentation for the impact of the extra week in our results as well as the accompanying reconciliations.
Finally during the Q&A portion of today's call, we're asking everyone to limit themselves to one question and you may rejoin the queue. If you have a second question now let me turn the call over to tariffs for opening comments.
Thank you and we appreciate everyone joining us today.
As I typically like to do at the beginning of these calls before we get into the slides I'd like to spend some time discussing our performance along with some of the developments that we're seeing since our call just 90 days ago.
While there are a number of external data point, showing cross currents from global economic uncertainty.
We continue to perform well.
And Youll see this both in our fourth quarter and fiscal year 2022 results.
Our performance came in ahead of our guidance and continues to demonstrate the benefits, but how we strategically positioned our portfolio around secular growth trends as we continue to outperform our markets.
We also are demonstrating operational performance and serving our customers and delivering strong financial results. Despite the broader macro challenges.
Our backlog remains near all time high levels and our overall order levels imply solid demand across the majority of the markets we serve.
Within this backdrop, we have some markets that are growing some that are still in recovery mode back to pre pandemic levels and others that are showing signs of moderation.
At the same time, we are being negatively impacted by a stronger dollar which will continue to be a significant headwind into 2023.
I also want to highlight that our team continue to proactively implement price increases to keep up with ongoing inflationary pressures.
I am confident in our ability to execute in the short term as we navigate these challenges.
I am excited about the long term opportunities as we go forward.
And Heath and I will go into more details on these moving pieces as we discuss our performance and outlook on the call.
To summarize our financial performance, we delivered strong results again in the fourth quarter with double digit organic growth and double digit adjusted earnings per share growth year over year.
For the full year our.
Our adjusted sales and adjusted EPS were records with sales up 12% organically and adjusted earnings per share up 13% versus the prior year, despite headwinds from foreign currency exchange and inflationary pressures.
Yeah.
With this quick backdrop, let me give you some details on what we're experiencing.
First on the orders from.
We're seeing some puts and takes across the different end markets. We serve and this is reflected in our orders in our backlog.
With the higher backlog levels that we have and the stability we are starting to see in our supply chain for the first time since COVID-19.
It is reasonable to see our book to Bill below one in the quarter.
Our backlog remains strong at $6 billion.
Which is almost two times higher than pre COVID-19 levels.
If you click down on orders by segment.
Transportation and industrial are continuing to show positive order trends.
And transportation.
Auto production is so constrained by supply chain limitation.
And then demand remains above current levels of production. So we continue to have a favorable outlook for this market long term on both production as.
As well as the content growth.
In the industrial segment, we continue to expect growth in comm air and medical markets as reflected in our orders.
Along with the benefits from wind and solar applications in our energy business.
Reboot renewables now represent 20% of our energy sales.
And the comment market is still recovering to pre COVID-19 levels.
And both of these will be growth areas within the industrial segment in 2023.
Yeah.
In our communications segment, we are seeing orders decline in the appliance Mark.
Based upon recent developments, we have seen our orders to cloud customers moderate.
Reflecting lower capital spending along with inventory adjustments in the data center supply chain.
We also continue to experience inflationary pressures and this is particularly true for resins that we use for molding as well as higher energy costs that impact our manufacturing operations globally.
We are continuing to implement additional price increases to offset these inflationary cost and expect to have a positive contribution margin later in 'twenty three from the price cost dynamic.
Yeah.
And the last thing I want to highlight before we turn to the slides and I think we've consistently demonstrated.
We will take actions to ensure our cost structure is in line with what we're seeing in the market environment.
In Haynesville provide additional details on this in his section.
So now let's get into the slides and I'd ask you to turn to slide three and I'll cover some additional highlights for the fourth quarter and the full year.
As well as get into our first quarter outlook.
Okay.
As Susan mentioned earlier, our fourth quarter included an extra week.
Our fourth quarter sales were $4 4 billion.
Which were up 14% on a reported basis, our adjusted operating margins were 17, 4% and our adjusted earnings per share was $1 88, and this was up 11% year over year.
If you include the extra week to get to a better apples to apples comparison.
Our fourth quarter sales were slightly over $4 billion.
And this was up 12% organically year over year and.
And adjusted earnings per share were $1 75.
A key thing to highlight in the fourth quarter is that we delivered record free cash flow of $745 million in the quarter.
Which demonstrates our strong cash generation model and we returned over $500 million to shareholders.
I do want to highlight and we've discussed with you previously.
Earlier in the year, we did increase inventory levels to deal with supply chain volatility and ensure we can meet the needs of our customers.
As we have begun to see our supply chain, improving we decided to get our inventory more in line and reduced our inventory by approximately $350 million in the quarter and Youll see our days on hand were actually down year on year in the fourth quarter.
We do believe this was prudent balance sheet management in the current environment.
This action improved our free cash flow in the quarter, but does pressure our margin in the short term.
Yes.
So now let me touch upon a few additional highlights for our full year results.
Our fiscal 2022 results were record at $16 3 billion and this is up 9% year over year on a reported basis, despite currency exchange headwinds of approximately $760 million.
Sales were up 12% organically with industrial and communications up double digits and transportation up high single digits, demonstrating the strategic positioning of our portfolio.
Adjusted earnings per share was a record at $7 33.
Which was up 13% year over year and adjusted operating margins were 18, 2% with expansion in the industrial and communications segments versus the prior year.
For the full year, we returned $2 1 billion to shareholders between share buybacks and dividends as our focus was on organic investment in the business as well as return of capital to our owners.
Yes.
Now with that as a wrap up of the financials for 2022.
Let me touch upon our first quarter guidance.
And I want to frame this out by incorporating some of the moving pieces I already highlighted for you.
I do want to make sure we have the right baseline together for guidance. So when you look at this the year over year comparison would be against $3 $8 billion of sales in the first quarter of fiscal 'twenty two.
In the sequential comparison would be against the 13 week sales in quarter four 4 billion.
So if we look at it going back to quarter one of 2022.
Sorry, 'twenty three we do expect sales of approximately $3 75 billion.
And this sales in the first quarter 'twenty, three and we up 9% organically and down slightly on a reported basis year over year, despite approximately $400 million of FX headwinds.
Adjusted earnings per share is expected to be approximately a $1 50.
Which include year over year headwinds of approximately <unk> 25 from currency exchange and a higher tax rate of 21%, which will be up from a year ago.
When you look at our guidance sequentially versus the 13 week $4 billion.
We are declining by $300 million in sales and 25 in EPS.
Roughly half of our top line sequential decline is from foreign currency.
With the remaining balance split between typical seasonality and a decline in our communications volume due to end market moderation.
The EPS decline is driven by foreign exchange.
Volume declines I just mentioned as.
As well as a temporary impact from the proactive inventory reductions we drove in the fourth quarter.
While we have some near term pressures that are non structural we have been making progress on what we can control with our teams driving price increases this past year to partially offset the increasing inflationary pressures.
As we've mentioned in the past and transportation there is a lag between inflation and our ability to recover through price.
We have implemented additional price increases, which should get transportation margins back up into the high teens sometime in the second half of 'twenty three.
While we are working through the cross currency, we're experiencing one thing that has not changed is the benefit we continue to see from the secular trends in our markets and the outperformance regenerating from content growth.
We are benefiting from our position in electric vehicles, Smart factory applications, including automation renewable energy and high speed cloud and artificial intelligence applications.
We remain committed to our business model and long term value creation through growth margin expansion.
<unk> as well as driving our strong cash generation model.
So with that wrapping up the highlights slide, let's turn to slide four and I'll share some more details on orders.
For the fourth quarter, our orders were $4 3 billion.
And this reflects resiliency in both transportation and industrial and also demonstrates moderation in our communications segment.
Our backlog of $6 billion is up 11% year over year and I want to emphasize that we are seeing very little impact from push outs or cancellations from our customers.
In transportation, we had a book to Bill of one three along with a strong backlog position. This reflects favorable demand patterns.
And demand for autos continues to be higher than what Oems can currently produce.
Providing a favorable backdrop for production increases as our customer supply chain bottlenecks begin begin to resolve and dealer inventories get back to historical levels.
Our content growth remained strong with content per vehicle expanding in fiscal 'twenty two at over $80 per vehicle from the 60 range of pre Covid.
We do expect further content expansion due to our global leadership position and increased adoption of electric vehicles globally.
In our industrial segment, we had a book to Bill of one point over one year.
Year over year order growth was driven by both <unk> and our medical businesses as these businesses continue to recover from pre pandemic levels.
And in our communications segment orders declined year over year and sequentially, reflecting expected decline in appliances and moderation in data and devices as the data center supply chain adjust inventory levels for its cloud customers.
Despite this market cyclicality, we expect to continue to outgrow the market and the data and devices business due to share gains and benefits from high speed and AI implementations in the datacenter and cloud.
Now, let me provide a little color on what we're seeing in orders geographically.
On a 13 week organic basis by region, we saw year over year growth of 6% in China and Europe , While North America was essentially flat.
On a sequential basis, we saw orders growth of 18% in China with single digit declines in Europe as well as in North America.
So with that as a backdrop of orders and backlog, let me turn it overheats and he'll get into segment highlights as well as some information on the financials.
Thank you Terrence and good morning, everyone I will now briefly discuss year over year segment results in the quarter on slides five through seven.
You can see the details on the slides and I will talk about organic sales performance on a 13 week basis.
Slide five transportation sales were up 13% organically year over year, our auto business grew 16% organically with growth across all regions. We continue to increase our content per vehicle through our global leadership in <unk>.
<unk> electric vehicles now account for nearly 20% of auto production with further increases in production expected in 'twenty three.
To provide context, EV and HEV production has grown three X from 2019 was 14 million units produced in 2022.
And importantly for 2023, we expect our market outperformance to be well above our stated 4% to 6% range in automotive.
In commercial transportation, we saw 13% organic growth driven by North America, and Europe with significant market outperformance in all regions driven by content growth and share gains this year.
In sensors, we declined 3% organically with our focused growth areas offset by continued portfolio optimization activities.
At the transportation segment level adjusted operating margins were 16, 6% and our margins reflect a short term impact from our planned inventory reduction along with the timing of price actions to offset inflationary pressures, which Terrence mentioned earlier.
Moving to the next slide the industrial segment sales increased 16% organically year over year industrial equipment was up 20% organically with double digit growth in all regions and continued benefits from factory automation applications.
Aerospace and defense was also up 20% organically with growth driven primarily by ongoing market improvement and Com air and.
In energy, we saw 16% organic growth driven by increased penetration in renewable applications and.
In our medical sales were up 3% organically with increases in intervention procedures as the medical device market continues to work through supply chain challenges.
Adjusted operating margins for the segment expanded year over year to 16, 5% driven by higher volume price actions and implementation of previous cost actions.
The next slide communications, we had 3% organic growth year over year in data and devices. We saw continued market outperformance driven by content growth in high speed cloud and share gains in artificial intelligence applications.
Our clients business declined 6% organic.
Reflecting the expected moderation in this end market that will continue into <unk>.
Fiscal 'twenty three.
Communications adjusted operating margins were 21, 7%, reflecting the lower sales in the appliance business.
If you turn to slide eight where I'll provide more details on the Q4 financials.
As mentioned earlier Q4 includes an extra week and we have provided tables in the appendix that bridge sales margins and EPS for that extra week.
Sales of $4 4 billion were up 14% on a reported basis year over year.
Currency exchange rates negatively impacted sales by $348 million versus the prior year.
Adjusted operating income was $757 million with an adjusted operating margin of 17, 4%.
We are being impacted in the near term by non structural pressures of foreign exchange inflation and the previously mentioned inventory reduction.
While we can't influence currency exchange rates, we are continuing to be proactive on recovering inflationary pressures through price increases.
Additional upcoming price increases will go into effect and transportation, helping to lift segment margins back to the high teens in the second half of fiscal 'twenty three.
And while our Q4 inventory reduction has a near term impact on margins. We do expect margin expansion as we move through this year with the back half closer to run rate company margins and as you know we were in and the 18% range for most of fiscal 'twenty two.
GAAP operating income was $660 million and included $82 million of restructuring and other charges and $15 million of acquisition related charges.
For the full year restructuring charges were approximately $150 million, which were in line with expectations.
We did ramp up our restructuring charges in Q4 to proactively proactively react to the market environment.
I expect restructuring charges in fiscal 'twenty three to be roughly consistent with fiscal 'twenty. Two the charges will be more heavily weighted to the first half of the fiscal year and we will continue to further evaluate cost actions as we move forward.
Adjusted EPS was $1 88, and GAAP EPS was $2 21 for the quarter and included a tax related benefit of 57.
Related to discrete tax benefits during the quarter. Additionally, we had restructuring acquisition and other charges of 25.
The adjusted effective tax rate was approximately 19% in both Q4 and fiscal 'twenty two.
And for Q1 and fiscal 'twenty, three we expect our adjusted tax rate to be roughly 21%.
Importantly, we continue to expect our cash tax rate to stay well below our stated ETR for the full year.
Turning to year over year comparisons on slide nine.
Fiscal 'twenty two sales of $16 3 billion were a record and up 9% on a reported basis and 12% organically year over year.
Yes.
Currency exchange rates negatively impacted sales by approximately $760 million versus the prior year due to the further strengthening of the U S. Dollar against other currencies, we expect currency exchange rate headwinds to be approximately $1 billion for fiscal 'twenty three with roughly 70% of this hedge.
Wind to be felt in the first half of the fiscal year.
This equates to approximately 600 basis points of headwinds to reported growth in fiscal 'twenty three.
Adjusted EPS expanded 13% year over year to $7 33.
And adjusted operating margins were 18, 2% with year over year expansion in our industrial and communications segments.
Turning to cash flow free cash flow for the year was approximately $1 8 billion with over $2 billion returned to shareholders through share buybacks and dividends. We continue to remain disciplined in our use of capital and our long term strategy remains consistent which is to return approximately two thirds of our free cash flow to shareholders and use <unk>.
For acquisitions.
Near term, we have been aggressive in buying back our stock and taking advantage of investing in our own organic value creation opportunities.
And before we get into questions, let me wrap up.
We delivered strong performance this past year.
Our teams have continued to execute well in this volatile environment to effectively serve our customers and while we have some near term headwinds I am excited about the opportunities. We have ahead of us this fiscal year, our positioning of the portfolio will drive constant outperformance. We also have a trajectory for further margin expansion and EP.
Growth through actions, we can control, including price increases to fully offset inflation cost reduction initiatives and a strong balance sheet that can support investments for growth, while continuing to return capital to shareholders.
So theres a lot to be excited about there Alex open it up for questions. Angela can you. Please give the directions for the Q&A session.
Sure.
At this time I would like to remind everyone in order to ask a question press star.
Well Ed by one on your telephone keypad.
In order to have time for all questions. Each participant is limited to one question.
I'd like to ask a follow up question. Please press star one to return to the queue.
Your first question comes from the line of David Kelley with Jefferies.
Your line is open.
Hi, good morning team and thanks for taking my question.
Moving parts in the quarter or the extra weeks of inventory reduction shifting in demand. So I was just hoping to dig into maybe the earnings trajectory into 2023, So could you walk us through or give us a sense of exit rate 2022 sales and margin levels.
We just laid out a lot of moving parts for you and I appreciate the opportunity to declare anything that.
It may come across as is confusing.
As we exited the year certainly we enjoyed good order volume and we saw that reflected.
In our in our sales and you saw that and certainly we benefit from the flow through of some of that.
But we still are dealing with a lot of pressures.
We have our inventory that we've elected to take down in the quarter. It was over 10% of our overall inventory balance.
$350 million and that does have a natural impact on margins and the flow through accordingly.
Accordingly, we did bring our days on hand of inventory metric more back in line with where we would see a healthy Indian balance for at this volume level.
So we feel good about that and obviously it has the benefit of the cash flow, which was a record in the quarter of nearly $750 million. So we're going to keep our keep our foot on that in terms of making sure that that stays in check as we move forward, but it does have a negative near term impact on the P&L.
The other piece is we still are seeing a lot of heightened price.
Pressures, particularly in transportation around inflation, and where we buy resins and so forth that are oil based driven cost structures.
Is still hitting us and so we do have plan.
Increases that have already been.
Agreed upon and will go into effect in more or less the January timeframe in the other parts of Q2 that will have a nice uptick for us as we move from the first after the second half of the year.
And we are seeing in our communications segment.
Moderate as expected, we had expected appliances to moderate and we have been discussing that openly throughout the year and we have started to see that both in our orders and our sales and that does have a little bit of a dilutive impact on the segment margins there for transfer tear for communications, So theres a few things.
That direction now on the flip side as we think about EPS.
And the strengthening dollar is as heightened if you recall back in July when we snap the line on what form what the currencies look like I had given us early preview that our FY 'twenty three exposure was going to be roughly $300 million and now we're calling that $1 billion.
With about $700 million of it hitting us in the first half of the year that does well that doesn't hit our margins quite as hard that does have an impact on earnings per share and we're certainly feeling that in the first quarter, we can't control that but we are working we are working on that's just reality, we want to be transparent.
With feet with CEA analysts and owners of the stock here. So there's some moving parts there as we work our way through the year at the same time, we're not sitting flat footed. We mentioned some restructuring activity that will continue that is about right sizing some things and then anticipated softer macro environment. So I appreciate the question and certainly.
If there is follow on let us know.
Thank you David we have a next question please.
Your next question comes from the line of <unk> Mohan with Bank of America.
Your line is open.
Yes. Thank you good morning.
I was wondering if you can talk a little more about the order and backlog trends and if you could share some color on that and maybe the magnitude of the inventory adjustment.
Potentially that youre seeing at these ODM suppliers to Hyperscale errors.
And if I could I was also wondering if you could comment on how <unk> performance was an outgrowth versus production in fiscal 'twenty, two for transport and how much of that.
It was inventory adjustments in 2002 as well thank you so much.
Sure Ross I'll take that and good morning, and let me talk about orders a little bit.
I know you talked about comms I want to talk about what we're seeing in orders again.
Across and then I'll talk about content outperformance.
First off I, just want to be honest that having a book to bill below one with where our bookings have been in building a backlog, that's not surprising to us and as supply chains around the world improve.
And we would continue to expect to see book to Bill has dipped below one so I, just really want to make sure as supply chain to improve including our own.
We would expect our customers to work down our backlog that we have that they have with us.
So I really want to make sure that people don't read into this that demand is dropping off across our markets because we're not seeing that and as I said in the script, we arent seeing cancellations or push outs in any meaningful way.
I think if you look by segment.
So I think those backlogs are getting in book to bills are getting more normalized.
And I think it shows resiliency in communications I think.
What's important is we've had capex growth with our cloud customers that had been 20%, 30% cloud Capex and we've outperformed that clearly you can see it in the growth rates, but as you see the cloud capex moderating well off those levels. The ODM supply chain does have excess.
Inventory in it that's being worked off and I think that could impact us for a couple of quarters.
But it's probably to that magnitude that youll see it in our DSD business.
And then the other area than comms that we've always talked to you about is the appliance market.
Was one that benefited from the trends during COVID-19 and we're seeing that moderation that we've already always expected. So we're getting both of those and those order patterns.
Now, let me turn to your second part of your question around content outperformance I think what's very important is.
So Joel and I said earlier was we arent yet.
How much of our revenue has been impacted.
Any more from supply chain disruptions, it's only about $50 million.
Revenue that we havent built that used to be about $100 million and content outperformance was at the high end of our range that we told you of four to six when we look at the auto supply chain I can't tell you.
And what the impact of that growth is in there we actually feel very good that is at the high end of the range for 2022, and we expect for 2023 will be above the high end of the range. So.
We don't see any major inventory impacts in the auto supply chain from what we're seeing certainly we've seen orders moderate and people getting more comfortable with we're working off the backlog.
Okay. Thank you <unk>, we have the next question please.
Your next question comes from the line of Steven Fox with Fox Advisors. Your line is open.
Hi, good morning.
I was just wondering since you are not providing a full fiscal year guidance for the new fiscal year. If you could maybe walk through what youre thinking about your end markets.
At this point in time, thank you.
Yeah, Thanks, Steve and you know we guided for the first quarter. So.
There is volatility in the macro I don't think Thats a surprise.
The color on providing is on what we're seeing today and how we're planning the business and certainly there can be changes here, depending upon how the global macro moves.
So let me do it by segment.
First off in transportation.
The transportation environment has been a challenging environment for the past couple of years auto production has really been sort of stuck around 70 670 million 77 million units due to all the things that we talked about whether it's supply constraints. The war in Europe , certainly extended lockdowns in China around Covid and I.
Still think where youll get and it's nice to see some of our customers talking about semi supply improving its going to be really about how can they ramp production to still keep up with demand that is greater than what they can produce.
So, we still see and demand for auto being above the production environment.
So we still see that as a nice setup as we go into next year.
We do also expect as I, just said to <unk> question that we're going to have outperformance versus market above the 4% to 6%. This year and this is really going to be driven by our global leadership position, we have where we positioned ourselves in electric vehicles and certainly the penetration of electric vehicles.
The increase as a percentage.
Total production.
The other key market, that's in transportation, which is commercial transportation.
Market that decreased double digit this year really around China, and some of the emissions standards.
That were put in effect a year before.
Then we would expect that China could have an increased market situation, there and we've been driving outperformance.
Versus the market in commercial transportation have you seen all year through all the three regions. So it's also something that we've had a tough year. This year from a market perspective and commercial transportation.
It could have some upside next year.
In industrial you look at that and I still think it's a very strong setup and you heard me when I talked about orders.
Both on backlog and orders and we see calm air and medical are markets that are still recovering and we expect further growth in these markets in 'twenty three.
And when you look at Comm air while single aisle aircrafts are back to pre pandemic levels from a build double aisle is still only at 50% and what's nice as some of the air framers are talking about increasing production and increased demand on double aisle aircraft.
Yeah.
The other thing that I mentioned in his script as wind and solar remains strong and our energy business very strong double digit growth this year and 20% of our sales our energy from renewables. So we expect further growth in that this year.
And the one market that has been really hot for US, which has been in industrial equipment and we had extremely strong performance in past two years, we see good trends there, but we're going to have tough comps.
And as we're focused on higher growth applications in robotics, and new programs around Ethernet connectivity.
That will help make sure we outperformed the market, but I just want to remind everybody we will have tough comps there.
And in communications.
The appliance market is weakening as we expected and you see the step down in our sales in the fourth quarter and Youre going to continue to see that this coming year.
And then data devices as I, just talked about with Romsey question.
We do expect cloud Capex, a step down from where it was moderate and then we also have added the ODM supply chain that can impact us in the first part of this year as they adjust to the Hyperscale companies demand and I think it's reasonable to expect that our <unk> business will be down this year based upon those two factors that were dealing.
Yes.
So I know you asked a simple question and I gave you a lot, but it's sort of how we're thinking about the macro as we're entering 'twenty three.
Alright. Thank you Steve could we have next question. Please.
Your next question comes from the line of Matt Sheerin with Stifel. Your line is open.
Yes. Thanks, Good morning, I wanted to circle back to the gross margin and specifically the impact of that inventory reduction that's $350 million.
How much I mean, it looks like in Q4, you were now with 220 basis points in gross margin year over year and it looks like Youre guiding roughly 200 basis points down.
In Q1, so how much of that is related to that inventory reduction and is that.
One quarter issue or does that carry through to Q2 of 'twenty three.
Hey, Matt it's Terrence so yes.
I'll take that and Youre right I would want to be clear. This is our inventory that we took out so I know, we I talked a little bit about the supply chain with cloud customers. This is our inventory.
And as he sort of said our inventories back in days on hand in the mid eighties. It was running in the nineties as we're working through supply chain and we made the proactive action to bring inventory down and as you have factories that have cost of X you have less units running through it you have higher cost inventory to work off.
We had a partial impact in our fourth quarter.
And you'll have a bigger impact on our first quarter that will be about 100 basis points from the first quarter and there'll be a little bit in the second quarter as it works off but then.
That'll be a temporary issue.
The other thing is why did we do it.
I do think it's important.
Why it is something we made choices to carry more inventory during the year, but as our supply chain got better and we saw more normal flow coming in it was something we said hey, let's make sure we get our inventory more back in line.
And we're serving our customers consistently and it's just something we thought was prudent from a cash generation as well as the uncertainty in the macro.
The only area, we're seeing really supply chain impacts will be in some michie materials as well as those markets that are really.
Still in recovery mode back to pre pandemic medical as well as commercial aerospace, which I don't think is a surprise to anybody. So it is something that it was and again inventory back in line in CE and.
That always kind of a gross margin impact that will be with us here early in 'twenty three.
Sure.
That was a proactive action on our part.
Okay. Thank you Matt can we have the next question. Please.
Your next question comes from the line of Amit Dr. NRA.
With Evercore ISI your line is open.
Thanks.
Thanks, a lot Kevin.
I think there'll be a lot of focus on operating margin trajectory in fiscal 'twenty three beyond the mid 16% I think we're going to do in December I was wondering if you can provide some clarity and how do you think margin stack up in 'twenty, three qualitatively across segments and really specifically on transport.
Back half recovery looks better was the first half and then <unk>.
And dipping below 20 over there just any breakdown on margin trajectory going forward would be really helpful. Thank you.
Thanks, Amit.
I appreciate the question.
No listen I think it's certainly on point as we think about the transportation margins in some of the things we've already discussed this morning.
A couple of things that are that are pressuring transportation margins. One is we talked about the price cost differential and what we're looking forward to in terms of seeing higher prices go into effect that we've already got agreement on.
Later in the first half of our fiscal year that will have a benefit as we move into the second half on transportation margins. The other thing Josh just walk Matt through was on the inventory side as you can imagine we did take out $350 million of inventory as we burn through.
That is the accounting element of that and the pressure. It puts on margins. There is a disproportionate amount of that that hits transportation. So again as we just talked about that will have a benefit as we think about our second half versus first half.
So transportation margins definitely a second half improvement based on a couple of things we talked about.
Industrial is obviously performing very well and we've been pretty vocal and transparent with you about our journey on transportation and the restructuring journey in terms of rooftop consolidations that we've taken on the business has done that well and has absorbed some acquisitions as you're in the middle of this journey.
That are going to be very good returns for the company and for the shareholders. So we're looking forward to those at any given time, there might be a quarter pressure here or there, but we are making strong progress towards our journey towards high teens margins, even while absorbing some of the dilutive impact on acquisitions, so stay tuned.
On industrial, but we feel we feel good about our trajectory there.
In 'twenty three.
And then the last part of your question, Amit was around transfer or communications margins and being able to stay north of 20%.
Listen we've never advertised it as a high 20% business. We've enjoyed a couple of years and we basically have said as a reminder that at those volume levels are just shows what kind of margins that we can get we can generate at those volumes now that we're seeing volumes come back down Terrence mentioned earlier.
A question that we do expect communications to be down modestly year over year in the top line, we would expect that.
The.
<unk> would moderate.
I still think there'll be a little above 20% for the full year, but theres. Some theres some pieces there that any given quarter that might dip below but generally I feel like we'll be above 20% for the year, there, which is still shows the resiliency of that even at lower volume.
Alright. Thank you Amit we have the next question. Please.
Our next question comes from the line of Chris Snyder with UBS. Your line is open.
Alright. Thank you. So I wanted to talk about more the margin outlook for transport solutions, but maybe more so focusing on price cost.
Prior commentary from the company has said that you are recovering about two thirds of cost inflation.
And which translates to a more than $200 million loss at the EBIT line based on my math, presumably the high majority if not all of that is transport.
So I guess as we look into the back half of next year and weaker pricing going higher and costs, maybe flat to down.
At least with metal.
How should we think about that 200, plus kind of EBIT loss could that get to neutral is there any scope for that getting beyond neutral any color there would be helpful. Thank you.
Thanks, Chris.
Take that.
First of all I think your math is pretty close okay.
Again, I'll give you the props for that.
Because certainly that is not an easy way to back into it but your math is pretty close.
Listen our.
Inflationary pressures really come from.
Four main places its metals.
Alright, it's resins that we use for our molds.
Freight cost and Thats, just overall utility costs that we've seen spike, particularly in Europe to run our runoff.
Factories.
Some of those things we have started to see moderation on.
In terms of being able to as capacity has come back online and so forth.
Still feeling inflationary freshens pressure on resins and on non utilities, which are which are both.
Energy driven prices. So we are going to we anticipate that to continue even as we have certain buckets that will begin to moderate and potentially lower year over year in terms of any incremental pressure.
Throughout the year as you mentioned we have recovered.
The ta basis about two thirds of that inflationary pressure through price. So that still leaves us as you mentioned a couple of hundred million dollars gap.
When you break it into our segments, it's a little bit different so while it may be two thirds of the company.
We're covering much more in FY 'twenty two in both industrial and communications and the nuance. There is that we do in both of those segments, we do more.
Through our distribution channel partners and it's simply easier.
To pass along price more efficiently and more timely when youre going through distribution partners. Because you can go out with more regular increases and theyre less about reopening contractual negotiations. So those are both Ben.
Recovering more price requirement more inflation through price as we worked through not just last year, but the prior year transportation is where it gets tougher because you've got more direct to OEM contracts and those contracts are tied to platforms and so forth and so many times. When you are recovering inflation, which everyone is trying to do.
You are discussing things that won't go into effect for some times six or nine months out and Thats really what were feeling in the transportation World now Fortunately, we're coming up on those price increases later in the second half of this fiscal year and I do feel that as we do that we will start to see our over that two thirds of pricing.
Coverage.
Certainly we will improve now as we get to the back half of our year, where we go above the inflationary pressures I would say stay tuned.
But.
That ratio will improve as we work our way from the first half to the second half for sure.
And that gives us more confidence as we move into as we move and make our plans for the rest of the fiscal year.
Okay. Thank you Chris we have the next question. Please.
Your next question comes from the line of Joe Spak with RBC capital markets.
Your line is open.
Thanks, so much.
You mentioned.
Some some higher restructuring I was wondering if you could give a little bit more details on on that stepped up level in the fourth quarter. It looks like it was it was really in the transportation business.
And I think on your guidance it looks like restructuring still going be a healthier level in the first quarter. So maybe just a little bit more on those actions what youre looking for in terms of the payback and when Ken restructuring returned to more normalized levels.
Hey, Joe Thanks for the question.
As we noted in the prepared comments.
We did do a little more than 80 of the 150 and changed that we took charges for in FY 'twenty to little over 80% of that was in the fourth quarter.
And a lot of it was geared towards transportation now we have been working our way through restructuring programs, which has been very focused on <unk>.
Factory footprint consolidations I think we've been pretty clear that we had some European footprint in western Europe that we've been in the process of taking offline most of that is in transportation and to a lesser extent in our industrial segment.
Those are either finish.
On track or certainly underway.
Versus when those charges were taken in the payback for those continues to be in line with what you would expect for us when we start talking about European footprint consolidations or somewhere in that two to three year payback period.
The charges that we took in the fourth quarter and that I anticipate taking in the first quarter.
Certainly are more geared towards.
A bit more of a somber view of the macroeconomic view and we want to make sure that we are getting ahead of that now we're not going to do anything to pinch capacity to a point that we can't deal with a rebound in certain markets and it won't be universally applied across GE, but it will be.
In our transportation segment.
Both in auto and then a couple of other selected places so.
This will be more focused on cost reduction and we don't we want those cost to come out we wanted to stay steady.
Some of our structural costs and I think importantly, lowering our fixed cost structure.
As we move forward here to maintain some nimbleness on the margin front.
Okay. Thank you Joe the next question please.
Yes.
Your next question comes from the line of Mark Delaney with Goldman Sachs. Your line is open.
Yes, good morning, and thank you very much for taking the question.
I want to better understand what's making the company takes.
Take the view that 2023 content growth will be higher than 4% to 6% target and do you think there will be any inventory reductions that your customers could be making in that perhaps could offset some of the underlying content growth. This coming year. Thank you.
Hey, Mark Thanks for the question and really when you look at it I think it just has to do with when we when we look at the setup of electric vehicle penetration and you see and I know Heath talked about where electric vehicles have grown from and to.
And the broad global.
Acceptance of them, which is exciting to us that's very exciting to us that we still continue to see that being a big driver of our content growth and with the mix that we would expect we do expect that we would be above.
The high end of the 4% to six range.
That also has a view when we make that comment and as I sort of said that production is stable.
And we do view will drive that off of stable production, we don't assume major supply chain excesses in the supply chain, when we say that and that's what we're seeing especially as you look at our orders and where our book to Bill has got two in auto it's more back to more traditional levels.
So net net we actually feel pretty good.
If production was to change meaningfully maybe that could create a little bit of supply chain, but right now we're not expecting that.
Okay. Thank you Mark can we have the next question. Please.
Your next question comes from the line of Cemig.
<unk> with Jpmorgan Your line is open.
This is MB Wilmington entity, thanks for taking my question.
I just wanted to ask on transportation relative to the underlying market what are your expectations for auto production growth for 2093.
Blake <unk> currently food costing for the fluid Watson crudely amounting to nearly $85 million because produce.
<unk>.
Thank you for the question and I think what's important and I know at times. We don't include light vehicles. So it might be a little bit different of how we talk numbers and how you.
You talk.
We saw about 20 million units made in the fourth quarter.
2022.
And we also expect 20 million units to be made in the first quarter and there'll be seasonality in it and we think production can be a little up.
But net net we don't see it's going to be a rocket ship of production increases we sort of view it will be up low single digits, which I don't think is far off from what you say.
So net net I think thats, how we see production right now is the Oems try to make sure they fulfill the demand thats in excess of production.
Okay. Thank you make clear the next question please.
Our next question comes from the line of Jim Suva with Citigroup. Your line is open.
Thank you.
Heath and tenants at this time of year, we typically do.
Little bit more on the 2023 of the next year outlook I know I think I heard Sharon's talk a little bump at the end.
Markets, but then with the moving parts of inventory digestion book to Bill and all I was thinking.
Restructuring I think on the company totality level any preliminary thoughts on either sales or margins or cost structure or cash flow for kind of a full years as we look out there are a lot of moving parts.
Hey, Jim This is heath well certainly we've got to be careful in terms of.
What we say because we have not provided FY 'twenty three guidance other than a few buckets like where our current where foreign currency foreign currency excuse me currently stands.
As well as what we're anticipating for restructuring those were full year numbers.
I think as we sum up a lot of things here.
We've talked a little bit today about the first half versus second half and hopefully that provides a little bit of color for you on our expectations that margins will improve and you can kind of cascade that way down through the P&L from a cash flow perspective.
Listen we finished very strong and had record free cash flow in the quarter and that was largely attributable to our inventory reduction we do expect to have a strong cash year in FY 'twenty three.
We will fund all the organic opportunities that are in front of us because we still are in a lot of markets and applications, where we can outgrow our markets that should give you. Some some confidence that we feel pretty good about the revenue line.
And in general.
I feel good about that cash opportunity not just return money back to shareholders, but to fund the capex and the investments we need and still deliver a very strong cash flow year above where we are in FY 'twenty. Two so I know thats, probably more vague than you wanted but that's about all I can give you at this point.
Alright. Thank you Jim next question please.
Next question comes from the line of serious plateau with Wolfe Research. Your line is open.
Okay. Thanks, so much.
Maybe on automotive.
Yes.
You talked about.
On the content outgrowth this year it sounds like it was around six points.
I'm just curious what that would be if you stripped out some of the price recovery just to kind of get a sense of the underlying content growth and then I think as we look ahead.
How are you thinking about.
The ability to sustain that six points.
Of growth over market potential.
Potentially even do better than that.
And as you look at your position amongst some of the big Oems that are poised to be the largest players in EV.
What gives you confidence that that.
<unk> seen content expansion, especially with those Oems.
Yeah sure so a couple of things.
I missed it on my answer earlier, so I apologize to the earlier question one of the things as we get into <unk> and above.
The 6% this year is not only content, but we will have price benefit for the costs that we've talked about so I missed that on the 23 element.
As we get in there and those numbers were framed out earlier.
When we look at the program wins in this year alone our electric vehicle revenue of our automotive and transportation segment is $1 billion.
So if you take what we have today and our revenue it's $1 billion today.
And when we look at the momentum that we have which are by platform wins guess what that is how we build capacity, we know those wins and really the bigger wildcard is what cars get made how the consumers to cars.
Tumors.
The cars consumers want sorry, I said that backwards.
And really that's the bigger variable.
So net net when we look at the programs that we've won we feel very good about the content momentum as well as where we're positioned globally.
It's not only the Oems we know here in the U S. You take places like China, which is about a third of the global electric vehicle cars made in the war. So the 14 million that Heath talked about.
$4 million to $5 million of them are made in China and that positioned very important as well as elsewhere with our European customers, our Japanese customers in our Korean customer.
So we feel very good about the content and it shows the demonstration of.
Our global position as well as I think the $1 billion of revenue we have already in 2022 really shows how deep our penetration is already.
And EBIT at TV revenue.
Alright. Thank you <unk> can we and the next question. Please.
Your next question comes from the line of Luke junk with Baird. Your line is open.
Great. Thanks for taking the question.
Regarding the outlook for communications normalization, clearly theres been a lot of data center capacity put into places since Covid hit.
2020, and Thats of course benefited that in devices. What I'm wondering is as you look forward do you think there are opportunities to go back and strengthen the system and after what at times. It seemed like a very frantic pace of investment in the past three years any near term changes in channel inventory aside of course thanks.
Yeah, So hey look one of the things as I.
I think there were elements that were certainly around COVID-19 from an investment, but I also think it really supports their core business models.
It could be around gaming elements, and so forth where people want to have service is not just about COVID-19, but it's also about how the network that we've all used has had to get strengthened and I. Also think there is a big element about refresh that youre always going to have around the energy efficiency.
The cloud infrastructure and the data centers that go into it. So when we look out there will always be steps around how the technology improves to make them more efficient certainly the speeds in the data center are always very important and some of that will come into as chipsets come out for the data Center you will continue to see a refresh element of the <unk>.
Michael I am not sure Youre going to have the 2030% growth we've had from the past couple of years. So when we talk about it we really view it as a moderation off of two very strong capex shares by the cloud customers, but I think when you think about efficiency.
How they continue to improve the compute to move into store element of everything that a data center in a cloud needs to do that all plays into content growth for us. So we're very excited about that trend long term certainly we think as we're starting 'twenty three we have a little bit of moderation on the capex side as well as the supply chain getting in line like you said from the channels.
Perspective.
Okay. Thank you Luke claims the next question please.
Your next question comes from the line of Joe Giordano with Cowen Your line is open.
Hey, guys. Good morning, this is tristan in for <unk>.
Thanks for squeezing me in here.
Just wanted to double click on your industrial orders, which I believe was down sequentially. Despite that extra week like any reason for that anything you can highlight.
As I said on the call a little bit in industrial equipment.
<unk> seen a moderation a little bit, but also very high level and I wouldn't use the word moderation like we've been talking about and communications.
Our industrial equipment business has had very strong growth. It does look like the orders are moving more a little bit sideways and actually coming down and Thats. What you are really reflecting in our orders and also realized orders do also represent they do have currency effects in them as well.
So you'll also see that sequentially have an impact to what Heath and I talked about from a sales element also does affect our orders.
Okay. Thank you Tristan and I'd like to thank everybody for joining us on the call. This morning. If you have any more questions. Please contact investor relations at Te. Thank you and have a nice morning.
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Okay.