Q1 2023 TE Connectivity Ltd Earnings Call
[music].
Ladies and gentlemen, thank you for standing by and welcome to the key E connectivity first quarter 2023 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 a question. During this time. Please press star one on your telephone keypad.
If you would like to withdraw your question again press Star one on your telephone keypad.
As a reminder, today's call is being recorded.
I would now like to turn the conference over to our host Vice President of Investor Relations.
Jill Shah. Please go ahead.
Good morning, and thank you for joining our conference call to discuss Te connectivity first quarter 2023 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. We 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, we ask you to review the sections of our press release and the accompanying slide presentation that address the use of these items.
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.
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.
Now, let me turn the call over to tariffs for opening comments.
And thank you everyone for joining us today to cover our results for our first fiscal quarter, along with our outlook for our second quarter.
For Heath and I take you through the details on the slides I do want to take a moment to discuss our performance within the backdrop of the current environment along with what we're seeing since our call 90 days ago.
Clearly, we're all experiencing a lot of moving pieces in the global macro environment.
While this volatility is creating cyclicality in specific end markets.
We continue to benefit from secular trends, leading to outperformance across many of the markets we serve.
The strategic positioning of our portfolio and our team's execution enabled us to deliver sales and adjusted earnings per share that exceeded our guidance and we also delivered strong free cash flow in the quarter.
We generated high single digit organic growth year over year with organic growth in all businesses, and our transportation and industrial solutions segments.
The growth in these two segments offset incremental weakness in our communications segment.
And while we can't control the macro environment or the headwinds from currency exchange effects.
We are taking actions on the elements of our business model that we can control.
Our industrial segment continues on its journey to expand margins towards the high teens margin targets and we will talk through that Nicole.
As well as we continue to implement price increases to offset inflation in our transportation segment.
In addition, we continue to drive cost reduction and footprint consolidation efforts and are now implementing additional structural reductions in communications to ensure we stay in line with the target margins in that segment as we go forward.
Right.
So let me provide some additional color on our markets and other updates since our call 90 days ago.
Our view of the transportation end markets remained unchanged.
Our growth will continue to be driven by content outperformance from our global leading position in electric vehicles and electrification trends.
Even in an environment, where auto production, we expect to remain flat this year.
Our view of the industrial end markets is also consistent with our prior view.
We are seeing continued strong recovery in the commercial air and medical markets as well as continued momentum in renewable applications in our energy business.
In our communications segment. This is where we're seeing changes versus our prior view.
Last call, we highlighted that we were expecting moderation in cloud demand in our data and devices business and we're now seeing incremental weakness in enterprise and telecom applications.
With inventory adjustments across the broader supply chain that serves.
Data and device market.
And as typical our expectation is that the inventory adjustment will last a few quarters.
Turning to orders from a company perspective, our book to Bill level remained below one as we expected due to the strong backlog coverage from our customers and increased stability in the broader supply chain.
And I do want to highlight that our backlog remains near record levels and is almost <unk> higher than we were pre COVID-19.
Lastly, I do want to comment on the inflationary environment and just want to stress that we continue to be in an inflationary environment.
And we've negotiated additional price increases with our customers and transportation.
Which will take effect as we move through this year.
These increases were partially offset these inflationary cost and we expect to have positive contributions to the transportation margins later in 'twenty three from the price cost dynamic.
Yes.
So with that as a quick overview.
Let me now get into the slides and discuss additional highlights and we will start on slide three.
Our first quarter sales were $3 8 billion.
And this was up 8% organically year over year.
We saw market outperformance in transportation and continued growth and recovery in the industrial segment, which offset the sales decline in our communications segment.
Our sales were up 1% year over year on a reported basis and was impacted by approximately $300 million of currency exchange headwinds.
Order and backlog trends continue to reflect a strong demand environment in both the transportation and industrial segments.
And I'll get into more details about order trend dynamics by segment on the next slide.
Adjusted earnings per share was ahead of our guidance at $1 53, and included 25 cents of currency exchange and tax headwinds versus our prior year.
Adjusted operating margins came in as expected at 16, 2%.
Our free cash flow was strong at $400 million.
And we returned approximately $410 million to shareholders.
And we will continue to be aggressive with share buybacks, taking advantage of market dislocations in our share price.
As we look forward, we are expecting second quarter sales to be approximately $3 9 billion.
And adjusted earnings per share to be around $1 57.
Our guidance represents sequential growth in sales driven by the transportation and industrial solutions segments, and this will offset a sequential decline in our communications segment.
Our teams remain focused on how we innovate with customers around the key secular trends that we positioned te around.
Such as electric vehicles, and renewable energy and data centers just to name a few.
Yeah.
Now I would like to move away from the financials just for a moment.
And I am pleased that <unk> was named to the Dow Jones sustainability index for the 11th consecutive year.
This recognizes our positive environmental social and governance policies and puts <unk> in the top 10% of the largest 2500 companies in the S&P broad market index based upon long term ESG criteria.
So let me get into the order trends in markets and I would appreciate if you could turn to slide four.
For the first quarter, our orders were $3 6 billion.
And I think the key takeaway by segment is that we're seeing stability in transportation.
And the industrial solutions segment and.
And we've seen incremental weakness in communications.
I also want to highlight that as you look at the slide and you compare orders versus the prior year. There are some key moving pieces I want to highlight.
First off is while currency impact sales. They also do impact orders and so the compare we're comparing different currency rates year on year.
In the prior year also has higher than normal order levels due to the broad sub supply chain challenges, we were all dealing with.
I do also want to highlight as I stressed earlier that our backlog remains at near record levels.
So let me get the orders by segment.
Our transportation book to Bill was <unk> 95, reflecting ongoing stable environment and strong backlog levels.
On an organic basis, our transportation orders grew 9% year over year and it reinforces our ongoing strong content growth momentum and what is essentially a flat production environment.
In our industrial segment.
The book to Bill of one point to reflect strong demand across most of the served end markets.
We continue to see momentum around renewable applications in energy and we're also continuing to see improving order trends in commercial air and medical as those markets continue to recover.
Turning to communications.
The orders reflect the incremental weakness in data and devices that I talked about.
And the other thing I want to highlight on the orders as the appliance market is moderating as we expected and we've been talking to you about.
As we continue to move through this year and continue to see supply chain improvements and a reduction of backlog levels. We expect book to bill levels to remain below one which is consistent with what we've been talking to you about.
Yes.
So with that as a brief overview of orders, let me now briefly discuss year over year segment results in the quarter that are laid out on slides five through seven and you can see the details on each of those slots.
Starting with transportation.
Sales growth was strong it was up 14% organically year over year with organic growth across all businesses.
Our auto business grew 20% organically versus auto production that was roughly flat versus the prior year.
The outperformance was driven by our global leading position on electric vehicles, we're benefiting from electronic vacation trends in the vehicle as well as some benefits from our pricing actions.
While overall auto production is expected to be flat for this fiscal year, we expect production of hybrid and electric vehicles to grow approximately 25% of the.
The total global auto production in 2023.
And as you know, we generate two extra content and EV platforms versus combustion engine vehicles. So we expect our content per vehicle to continue to expand as we move through the year.
In the commercial transportation business, we saw 3% organic growth driven by growth in North America and Europe .
And this growth was partially offset by declines driven by a continued China market that's weak.
And in our sensors business, we grew 3% organically and that was driven by our growth in automotive applications.
At the transportation segment level adjusted operating margins were 15, 8% as expected.
Selecting the lag in the timing of price actions to offset inflation.
Over the past three to four months, we took incremental cost actions and are implementing additional price increases to improve margin performance.
We expect adjusted operating margins to improve sequentially into quarter, two and get back to the high teens in the second half of this year as we mentioned last quarter.
Now, let me turn to the industrial segment.
And this segment sales increased 7% organically year over year with organic growth across all business.
Our industrial equipment business was up 3% organically driven by continued benefits from automation applications.
Our <unk> business was up 14% organically with growth driven primarily by ongoing improvement in the commercial air market.
In energy, we saw 8% organic growth with continued momentum in renewable applications.
And our medical sales were up 5% organically and we're benefiting from the recovery and interventional procedures.
As you can see on the slide from a margin perspective, we expanded adjusted operating margins by almost 200 basis points and we continue to make progress towards our high teens margin target for the segment.
Yes.
Now, let me turn to communications.
And in this segment, our sales were down 11% organic.
The appliance market is down as we expected and as you would expect with the benefit we got during Covid as it turns we saw declines across all regions in this business.
Our data and device business was down 6% organically and this was driven by broad market weakness, which I already discussed.
In the communications segment, adjusted operating margins were 17% driven by lower volume, including declines on higher margin distribution sales.
We are taking additional cost actions to improve margin performance in this segment as we go forward.
We will balance these actions with investments for growth as we continue to see strong design win momentum in next generation platforms, serving the cloud data center market.
So with that as a quick overview of our performance by segment, let me turn it over to Heath and I will get into more details on the financials as well as our expectations going forward.
Yes.
Thank you Darren and good morning, everyone. Please turn to slide eight where I will provide more details on the Q1 financials.
Adjusted operating income was $622 million with an adjusted operating margin of 16, 2%.
GAAP operating income was $502 million and include in and included $111 million of restructuring and other charges and $9 million of acquisition related charges.
You'll note that we have taken nearly $200 million of restructuring charges over the last two quarters as we aggressively.
Optimize our manufacturing footprint and improve the cost structure of the organization.
We now expect full year restructuring charges to increase versus last year and as we mentioned last quarter with the charges being more heavily weighted towards the first half of our fiscal year.
We will provide further updates to the restructuring expectations as we move through the year.
Yes.
Adjusted EPS was $1 53, and GAAP EPS was $1 25 for the quarter and included restructuring acquisition and other charges of <unk> 28.
The adjusted effective tax rate was approximately 20% in Q1 and for the second quarter and for the full year, we expect our adjusted effective tax rate to be approximately 21%.
And as always importantly, we continue to expect our cash tax rate to stay well below our adjusted ETR for the full year.
Now, let's turn to slide nine.
Sales of $3 8 billion were up 1% reported and up 8% on an organic basis year over year.
Currency exchange rates negatively impacted sales by approximately $300 million and adjusted EPS by <unk> 21 versus the prior year.
In the second quarter, we expect currency exchange rates to be a headwind of approximately $165 million year over year.
And last quarter, we indicated that foreign exchange would negatively impact full year sales by approximately $1 billion year over year. We now expect the full year impact to be roughly half of this number at the current exchange rates.
Adjusted EPS was $1 53, and adjusted operating margins were 16, 2% as we expected.
Yeah.
Now turning to cash flow and.
In the quarter, we once again demonstrated the cash generation model of our business with cash from operations of $581 million free cash flow was approximately $400 million and we returned over 100% of our free cash flow to shareholders through share buybacks and dividends.
We continue to remain disciplined in our use of capital and our long term strategy remains consistent.
And as you know that is the route that is to return two thirds of our free cash flow to shareholders.
And use one third for acquisitions over time.
Before I turn it over to questions. Let me provide a quick recap.
The strategic positioning of our portfolio enabled us to deliver Q1 sales and adjusted EPS that exceeded our guidance.
From a market perspective, the transportation and industrial segments are consistent with our view 90 days ago, we continue to benefit from content growth in transportation and continued market recovery and growth in the industrial segment.
However, some of this was offset with cyclical weakness in communication in markets and the inventory adjustments that come with that.
We continue to execute on our margin journey and you can see that progression in the industrial segment. We remain focused on the actions that we can control implementing price increases to offset inflation and driving additional structural cost reductions to improve our margin performance as we go forward.
Sure.
We continue to demonstrate our strong cash generation model.
With strong balance sheet that can support investments for growth, we will balance the short term pressures with long term opportunities and I'm very excited about the opportunities we have.
To drive long term growth margin expansion and value creation for our customers employees and shareholders.
Abbvie can you please give the instructions for the Q&A session.
I would like to remind everyone in order to ask a question.
100 telephone free cash.
In order to have signed for all question. Each participant is limited to one question. If you would like to ask a follow up question. Please press star one to return to the queue.
Your first question comes from the line of Mark Delaney from Goldman Sachs. Your line is open.
CFO and good morning, and thank you very much for taking my question could you. Please provide more detail on orders specifically the linearity of how orders tracked over the course of the quarter and into January and any differences in order trends by end market.
Sure. Thanks, Mark Thanks for the question first off how orders trended during the quarter and even into January has been pretty stable outside except for our communications segment.
So when you think about orders linearity, our orders were stable except for the one area that we highlighted.
And whats interesting is when you see it on the orders chart.
Our backlog in both Ts high.
So are up year over year, we have seen our backlog being worked down in CFS and it reflects the demand dynamics that we see so from a demand I think you got to look at both orders and the backlog together to really get a picture.
If you break it apart from by segment as I said on the call transportation, if you remove currency effects, our orders were up 9% year over year.
And production has been running around this 20 million units per quarter. So relatively it's got more stable and the supply chain has improved and really that growth really comes into the content that you see the strong outperformance in that.
<unk> proven to you about our content opportunity.
In industrial we continue to benefit from some markets that are recovering you'll see that calm air while single aisles back very back to pre COVID-19 levels dual aisle aircraft, which are bigger content opportunity source are starting to improve so we still see recovery. There also a medical we see it and in those two markets, we still see some broader supply.
Hi chain challenges, but we see our orders continuing to accelerate there and.
In renewables I talked about as well.
The only place in industrial I would highlight we had multiple years of very strong growth in our industrial equipment business, we probably see that plateau ing would probably be how I would phrase it because that growth. It's just off a very high base and we have tough compares and.
And in communications, where we really saw the weakness I would say, we always highlighted to you that the appliance business that we had was going to benefit in cycle due to the Covid benefited got it's playing out as we expected.
We're got worse was in communications, where we were expecting moderation in cloud Capex spend we saw it got weaker both in enterprise and telecom type applications and that supply chain is sure let's face it whether it's distributors selling in the masses or lower tier players for the <unk>.
<unk> and <unk>. They all make the same and what we are experiencing is we do see inventory burn happening. There. So I think it's more of a cyclical element, we're dealing with and as you go through inventory Burns as I said on the call that's going to be with us for at least a couple of quarters.
That's going to have a cyclical pressure with us in communications.
Okay. Thank you Mark and we have the next question. Please.
Your next question comes from the line of David Kelley from Jefferies. Your line is open.
Hey, good morning, and thanks for taking my question I wanted to follow up on the Communications solutions segment discussion I was hoping you could provide a bit more color on the progression of comps demand throughout the quarter and then can you give us a view of our sins into how youre thinking about sequential too.
<unk> sales and margin trajectory for the segment. Thank you.
Sure David Thanks for the question and I don't I am not going to repeat what I said in the last question on the demand side.
But as you think about our comm segment last year pretty much every quarter. It ran in excess of $600 million and really shows.
The momentum we have in those applications in the first quarter, it's down to 520, when we look at where.
We see the demand levels, we think that we're probably going to be around $450 to $500 million in revenue in the second quarter.
So we do expect that an incremental step down with what we're seeing in demand patterns and this inventory work off and then right now with the best we can tell that's probably where we're going to stay for a couple of quarters.
So that's how I think you.
You should think about it.
Do think what Youll see from a margin perspective, as I think we've done a great job proving to you what we've done with the cost base of the segment when you saw that.
The margin outperformance last year, but I do think youll see this in the mid teens as we work through this and working our way back up as the inventory works up into the higher teens as we worked through the year.
Okay. Thank you David we have the next question. Please.
Yeah.
Your next question comes from that.
From Bank of America. Your line is open.
Yes. Thank you good morning, Terrence can you help us with.
Color on margins in your other segments as well, particularly.
Net.
And moving industrial back to high teens and also recovery in transport margins, how much of that is predicated on some of these restructuring actions where it says.
The pricing initiatives that you've taken and in transport and how contractual or those are or is there a lot of cyclicality or uncertainty associated with accomplishing those.
Hey, This is heath I'll take the question.
First of all.
Just take a step back for a second.
Our margin targets for each of the segments is unchanged, we will react to.
Types of market conditions in terms of the demand environment as you would expect us to but in terms of how we focus some of the cost reduction and footprint consolidation efforts.
Those those strategically are unchanged now we've accelerated some things and you've seen that more recently and some of the charges that we've taken.
Some of that is in response to quicker.
The decline in the current in the communications business than than what we had originally anticipated, but if you just break it down by the three segments and they each have a little bit different story. The transportation margins. We've talked to you about there's been a lag from when we felt the inflationary pressures and continue to and we feel those.
Real time versus when we can get the negotiated price increases in effect and those are meaningful price increases and we're confident that.
That we are in the <unk> as we implement those real time that those are going to have a nice benefit for us as we work our way through the year and would expect the transportation segment margins to be in the high teens during the second half of.
Fiscal 'twenty three.
<unk> business, we're pleased with the performance as you see in the quarter. It was nice not just year over year expansion, but as we continue to move forward.
We have been committed to a high teens margin trajectory for the industrial segment that has been a balance of both restructuring and growth.
And Youll continue to see us move our way through that.
Hopefully.
<unk> the progress that you see reflected in our Q1 results accordingly.
And then communications is a bit of a wildcard right now obviously the prior couple of years you saw the types of margins that can kick out at the types of volume levels that we were seeing and as Terrence mentioned if.
If you go back and look over the last year plus.
Our communications business was running well north of $600 million a quarter in revenue and as we go into a period here as there is some inventory corrections and so forth, where we see the revenue being somewhere in that $4 $50 million to $500 million range for the communications segment as Terrence mentioned.
There will be a deleveraging impact we will get after the cost structure as you would expect our long term margin for this business is still around 20%, but we're not going to be able to react in one quarter to be able to preserve that.
I think Terence just mentioned and I'll mention it again, if you're modeling it I would say the communications segment will be in the mid to high teens from a margin perspective this year as we deal with.
The decline, but importantly, all the areas that we're focused in on all the platforms that we've won relative to the areas that we're excited about have very good margin opportunities as we move forward. So we are confident in the overall margin.
Projections there.
Okay. Thank you <unk>, we have the next question please.
Your next question comes from the line of Chris Snyder from UBS. Your line is open.
Thank you I know the company has only guiding for the March quarter, but I wanted to ask a little bit about the outlook for the various end markets into the back half of the year and then specifically for auto I know the company said last quarter that there was.
Agreed to price coming into effect in January is that not really having an impact until the back half or are you going to start to see that in Q2. Thank you.
Great. Thanks, Chris.
Okay.
Thanks, Chris sorry about that and let me talk about the first part before I get to your price question.
You said I'll give you some insights that I think I said in the script around how we think markets could develop.
We're only guiding for one quarter and so in transportation.
Well I think Theres a couple of key points as we think about these markets I think we've said very clearly that we expect production to be flat I also think it's important to highlight we're still well below pre pandemic levels on auto production. So while it might be around 80 million units as Sharon flat versus 2019.
There were 88 million cars made in the planet. So we're still in.
Below pre pandemic levels by about 10% on production.
When you look at this year, it's all going to be about our penetration in our global leading position in electric vehicles.
And what we get excited about is that position I said on their electric vehicles and plug in hybrids to get up to about 25% of that 80 million units our revenue our auto revenue. This year the amount around electric vehicles and plug in hybrid will be well in excess of $2 billion of our revenue in automotive.
And I think we've proved the content story there we continue to prove it and you see it in the outperformance.
Looking at outside of automotive and transportation and <unk>.
<unk> transportation last year was a negative market for that.
Those submarkets this year is probably going to be flattish with anything going on in North America, and European offset by China weakness and we'll slightly outgrow that due to our content momentum.
In industrial I already covered calm air medical or recovering markets. So we expect that youre going to continue to see further growth on these markets because it's how we're catching up and then there is also levers of further growth potential, especially when you get into <unk> dual aisle aircrafts, which are only at 50% of pre pandemic levels.
<unk>.
And renewables that momentum continue so I really don't view that as kind of slow and that's up to 25% of our energy revenues relate to renewables.
And in Communications I think we spent a lot of time on already about how you should think about that market from here as well as maybe where the revenue can be.
On the second part of your question around pricing.
In the first quarter, we were with our customers and our pricing in automotive it does lag when we get inflationary pressures inflation doesn't stop we have negotiation with our customers and we did an additional round in the December quarter, which were negotiated and now they are starting to come in they do phase and into the early <unk>.
Part of calendar year, and we will get margin improvement in transportation this quarter in the second quarter from the first quarter and then it will continue to increase as we go through the year. So those have been.
<unk> negotiated and we're going to start seeing the benefits of those as they come in.
As we as we work through this year.
Okay. Thank you Chris could we have next question. Please.
Yes.
Your next question comes from the line of Matt Sheerin from Stifel. Your line is open.
Yes, thanks, and good morning.
I wanted to just ask about your inventory levels I know last quarter, you talked about some margin headwinds due to that.
That's been in your own inventory within transportation it looks like your actual inventory dollars were up quarter on quarter. So could you walk us through that inventory picture.
Yes, sure Matt Thanks for the question and honestly it's.
It's fairly straightforward and we normally grow inventory in our fiscal Q1 that we just that we're talking about today.
In anticipation of some things specifically rated related to activities in China in anticipation of the Chinese new year. So if you think about the increase we had from sequentially within the quarter about half of that was just the revaluation due to foreign exchange.
And the other half was the planned inventory build that that we anticipate as you think about it for the year.
We will continue to be aggressive I do not anticipate and when you look at when we sit back and look at this at the end of the year that we're going to have.
Our material.
Inventory inflation, obviously, we'll do what we need to do on the communications side as we deal with way everything <unk> talked about already and then the other the other two segments are well on plan for that so hopefully that answers your question.
Thank you Matt we have next question please.
Your next question comes from the line.
Jim Suva from Citi. Your line is open.
Yes.
Thank you your transportation content story is very positive and compelling. So congratulations on that one concern we get though is given a recession or a slowdown in the economy concern is there any signs although unit you mentioned flat outlook, but a potential inventory correction there.
Fair or slow down there as we progress through 2023.
Thanks, Jim for the question and what we continually monitor with our customers is really has inventory to the consumer and when we look at that inventory Jim.
North America is still in the mid 30 days, which is well below the 60 days, which is more traditional Europe is pretty much in line in China's in line. So we continue to monitor that what's also nice should continue to see the supply chain.
Improving across the world that anything that would be out there in the supply chain is being worked off so I'll be honest here, we got to watch it because certainly we're in a slowing macro economy, but I do want to also stress again auto production is still 10% below pre pandemic. So I don't think we've overshot, but I think we.
Have to keep an eye on it and I think flat is the way we're seeing it as a prudent way that we've been planning our business right now.
Alright. Thank you Jim can we have the next question. Please.
Your next question comes from the line of Amit <unk>.
From Evercore your line is open.
Thanks for taking my question.
Thank you.
That was a lumpy kind of have you spent a bit more time on the price increases that you're expecting on the transportation side, how that flows into the model in 'twenty three.
As you can just quantify what those price increases that you expect this year and then secondly, I think the pure I would have is.
We raised prices on customers the auto Oems will actually lowering the prices of the old card by 15% to 20% at this point or do you end up with more HIFU perspective.
The next year.
Secondly, it might increase.
And what benefit are you embedding from that into your guidance.
Yes, so a couple of things Amit you were breaking up a little bit. So I hope I get every element of your question first off being our pricing with our customers our contractual so no different than you've seen us have a lag in transportation I do want to make sure. It is around transportation.
These are negotiated elements that came in and we have been over the past three to four months doing another round, which does give us the confidence around the pricing and those global agreements Orange Orange check now certainly each one's a little bit different and they will be coming in so we will see the benefit of them starting this quarter that.
And then it will accelerate as we go through the year and the other element is we're still dealing with inflation.
So when you look at it we are still in an inflationary environment things that are oil based how utilities and conversion costs that come out of some of the materials we use.
We're still in an inflationary period, even though it might be a lower rate than last year and we're still dealing with that transportation is these prices come in so as I said on our.
<unk> recorded message we.
We do expect our margin to get up in the high teens in a flat environment.
Later in the year and that will benefit from the pricing that we put in and.
What we do with our customers.
We are commodity business, we are key to their EV launches.
Arent, making commodity products here and.
That's the contractual nature of what we do with them. So certainly they may have some price pressure certainly we've had price pressure and that's what we had to go through some of the negotiations and we do have confidence around them.
Okay. Thank you Amit we have the next question please.
Your next question comes from the line of Scott Davis from Melius. Your line is open.
Hey, good morning, guys, Hey, Scott.
There's been a lot of talk already on kind of inventories and price and inflation, but can you disaggregate inflation, a little bit for us and help us understand kind of.
Are you seeing material moderation in things like labor inflation I mean, we can follow the materials themselves, but labor is something that takes a little bit harder too.
To track.
Yes, Scott I think it's important when you look through that and our world material is the biggest part of our spend when you look through it.
Labor is incrementally higher but the bigger pressure that we have is really around the base materials we use.
During this period and you cover it well you really have not only the base materials. But then you also have where do utilities in conversion costs come in and where I would say, we're still seeing inflation.
Metals have come off yeah, I would say, it's more neutral year over year and resin based things and chemicals, where you use a lot of energy to make those and let's face. It some of that does come out of Europe .
Continuing to see inflation there.
<unk>.
The world certainly the costs run factories is inflationary.
And the other area that I would say, we talked about but actually has retreated is around how do you move things around the planet.
From a freight and logistics perspective, so last year, you would've had everything inflationary youre seeing freight logistics come down.
Seeing metals be more neutral, but youre still seeing resins and oil based things that are energy intensive still have an inflation around labor for us is incrementally inflationary, but I wouldn't say, it's the biggest headwind we have and that may be different for other companies.
Okay. Thank you Scott we have next question. Please.
Your next question comes from the line of Christopher Glynn from Oppenheimer. Your line is open.
Hey, Thanks, Good morning, just.
Shifting gears, a little bit I was curious about the industrial segment margins.
Incrementals were a few hundred.
Percentage points and you help margins on lower sales versus the second half of last year. So I'm curious if you are hitting more of a.
Culmination of the cost structure program that you've been talking about for a while.
Hey, Chris.
<unk>.
Yeah.
It's a good question it feels like we're always on this journey with industrial I would say that certainly we're pleased with the results in the quarter and as we look through the year and our internal viewpoint.
Certainly there's progress being made now the other thing.
And there's a lot of good reasons, but we do this is this does tend to be the segment that we are in most acquisitive in.
And we have done enough acquisitions last in the last couple of years, where we feel at least 100 basis points of margin pressure just from those acquisitions, but thats part of the value creation journey right. We bring something then we know it's lower margin, we get the cost structure right, we integrate as appropriate and then we start to see the written.
Turns.
From the overall so.
Absent that impact I feel very good about where we are from a from the restructuring journey, we've been on which is really a foot top or I'm, sorry, a rooftop.
Consolidation journey that we've been talking pretty publicly about for the last five years.
We have made a ton of progress on those on those rooftop consolidations.
And then just the acquisitions of the things that are kind of the wildcard in here in terms of.
The pressure relative to the opportunity.
Sometimes we don't get into that as much business.
Further to your question I thought I'd highlight that Chris.
Okay. Thank you Chris we have the next question. Please.
Your next question comes from the line of William Stein from <unk>. Your line is open.
Great. Thanks for taking my questions.
You just.
Answered a bit of this but I'd like to dig a little bit more into the M&A opportunity.
You highlighted that.
The company plans to spend over.
We're talking about a third of its free cash flow on acquisitions, I think it's been significantly below that level for several years.
So I'm, hoping you can maybe refresh our memories as to both the strategic and tactical approach to M&A and whether we might expect that to accelerate in the next couple of years given the spend has been I think quite a bit below that third of free cash flow number. Thank you.
I appreciate the question certainly the.
The two thirds one third ratio that we talk about have talked about for years is through a cycle right youre going to have periods of time, when you do acquisitions, its heavier or size of a deal tends to swing you a particular direction.
I would tell you that that there's been times over the last couple of years, where we have not spent that third at the same time that doesn't mean, we're not active in the space I think.
So far this fiscal year, we spent about $100 million auto transaction. So were I don't know what that is in terms of.
Our ratio, which you can't look at it.
It really quarter by quarter or even in a one year off basis, we do have a pipeline of activity.
And as you imagine besides the.
The stuff that we keep track of it and we monitor and cultivate on our own.
Obviously are involved in a lot of processes that are out there as well. However, our approach to this is unchanged and that means the deal has to be strategically important for US number one number two where do we add value as the owner of that company.
And then number three obviously the financial profile of.
Of the of the acquisition and how it relates to what is what's good use of cash for our owners. So we're going to continue to be.
Disciplined in that process, we're going to continue to make sure that.
We're making smart acquisitions and in spaces that we feel very good about so there is some fragmentation out there and it just depends on which of our business units and we will continue to be aggressive in those areas and we'll see where it all adds up here as weak as we track it over time.
Alright. Thank you we'll go over the next question. Please.
Your next question comes from the line of Joe Giordano.
Your line is open.
Good morning, this is Michael on for Joe.
Hey, Michael.
Earlier, you mentioned elevated restructuring costs in the first half of the year or more in line with 2020 levels can you disaggregate the drivers behind that I know you had mentioned a little bit earlier, but any additional color would be super helpful.
And Michael I appreciate the question.
As you think about it when we went into the year, we said restructuring will be roughly flat or down from the prior year.
Prior year FY 'twenty, one number was around.
Im sorry, FY 'twenty, two number was around $150 million.
Certainly that was our plan going into the year with the incremental downturn, particularly in the communications segment, we have elected to accelerate some things and in order to react more aggressively to that which will push our FY2023 number higher I'm not at a point right now where I want to quantify exactly.
How much higher it is we'll have a better view and we're back on line here in April .
But I would say that we.
We took a charge in Q1 of north of $100 million. So we've already.
<unk> spent a good chunk of that and that was really to aggressively get after a few things here.
Longer term certainly after we react to that we would we would anticipate bringing this number down.
And our hope was to do some of that in 'twenty, three but with the market conditions that is not going to happen.
Okay. Thank you Michael we have the next question. Please.
Your next question comes from the line of Amit <unk> from Jpmorgan. Your line is open.
Oh, hi, Thanks for taking my question I guess I wanted to see if I can dig into the industrial equipment sub segment debate.
Get some more color there you talked about the recovery that you're seeing in medical.
The strength in renewables, but when I look at the industrial equipment, the broad set of industrial group the.
How are you what are you seeing in terms of the impact of pass through one of the puts and takes there and any sort of color on book to Bill what that sort of sub segment is tracking that.
Yes, so first off when you look at it I would tell you I do think we have to keep in the context, our industrial equipment business grew 25% each of the last two years, so very strong growth and I think what we're seeing as we continue to see the backlog around capex, whether it's around what <unk>.
You see around automotive electric vehicle those types of things that backlog is very strong.
We are also seeing supply chain, improving so in that space youre seeing supply chain, improving so that will impact order levels, a little bit but not to the extent, we're seeing in communications the.
The other things that I think we're watching is spot.
It's not lost on us what's happening in consumer electronics consumer electronics is a big user of factory automation.
That certainly has been a weakened market what happens around warehousing.
Could be a weaker environment as well.
So when we look at that there are areas, but there are strength areas. When you think about the infrastructure investment as well that our products go into and Youre also seeing strength in process automation. So I would tell you its not all in one direction. I think it's also we have tough compares that we're going to be going up against and it feels like we've seen a peak implied.
Tolling is how we would see it both from an orders as well as the supply chain improves.
Okay. Thank you we have next question please.
Your next question comes from the line of Steve <unk> from Barclays. Your line is open.
Hi.
Good morning.
One broad question on China, there's been a lot of.
News flow out of there and questions around how companies manufacturing footprint should look for the long term or even short term.
Given all the changes in terms of government policies et cetera can you just sort of sum up your current situation in China and then how you look at sort of your global footprint, especially as you do some restructuring down the road here. Thanks sure.
Sure, Thanks, Steve and a couple of things.
You followed us for quite some time now and we've always been one that how do we produce engineered where we make if we can and our China footprint is very much where China.
We're not a big exporter out of China.
And anywhere we even do have that we do continue to look at where do we have China plus one within region, where we might be doing some things for Japanese or Korean customers in China. They may want an option.
I view it much more as a modification and in an evolution than a wholesale change because we don't.
Important a lot of things back to places like the United States.
<unk> again is a big picture, we want a manufacturer in region is the best for the supply chain certainly we have to mirror, what our customer supply chains are and youre going to continue to see us modify so that we make within region and even some of the things he talked about restructuring as you know in some cases.
We're still exporting out of places like Europe into China, we want to make sure. We're more localized in China. So we are continuing to invest in China around these key verticals that we expect to be there long term and drive our growth.
Okay. Thank you Steve can we have next question. Please.
Your next question comes from the line of Guy hardware from credit your line open.
Hi, good morning.
Just wanted to understand this sorry, if this has been covered already but I want to understand the gross transportation margins, just a little bit better. So I think you've guided to at the last quarter or at least 100 basis points of impacts on the transportation margins for the inventory reduction.
But at the same time you also benefited this quarter from I believe very strong pricing as well as strong outgrowth driven by mix and even if I take out that 100 basis points of <unk>.
<unk> tungsten impact you still like 100 140 basis points decline in the margin despite the pricing so.
Is the pricing get even stronger as the year progresses is that kind of what you communicated can you help me understand that a little better.
Sure Guy this is heath.
We covered some of this a little bit earlier, but our price increases largely are little more calendar focused if you think about it and go into effect really as we sit here today. So January ish time frame.
They're obviously not all aligned on the same date, but it's more or less we didn't see.
Much help in our first quarter results and transportation or otherwise from pricing.
So a pretty well laid out.
As you would as you would have thought in.
In terms of that now as we work our way through the year both in the quarter as Terrence mentioned earlier, both in the quarter or the second quarter that we're sitting in today as well as our second half of our fiscal year.
We do expect.
A significant help from those price increases and Youll see those I'm confident you'll see those and both are are.
Our second quarter results as well as the back half of the year.
Hey, Thank you guys can we have the next question. Please.
Your next question comes from the line of Luke junk from Baird. Your line is open.
Good morning, Thanks for taking the question modeling question from me Heath, just wondering if you can help us understand the moving pieces around your updated FX guidance, specifically how that translates from revenue to earnings wondering what has changed versus 90 days ago in terms of how it works through the plumbing, if you will especially thinking about the back half of the year and the earnings.
Impact as the topline impact starts to moderate.
Sure Luke and listen it's been a moving piece for us as well over the past 90 days.
The top line piece is really just we snap a line in the sand in terms of where things are relative to the dollar and we did see the dollar weaken in the quarter, particularly towards the end of the quarter and obviously thats impacting muscle.
Most all companies who are core global.
That's the translation impact the transactional impact is a little bit harder because that starts getting into where we denominate currency versus where we have costs and those types of things.
And where we move things across border cross currencies and so.
That piece of it has more of an impact to the EPS element of it now we talked last quarter about $1 billion and most of that first $10 million year over year and most of that in the first half weighted.
Now, it's about half of that at todays rates and that's still largely in the first half of the year and you see the numbers, we talked about the $300 million year over year impact in the first quarter and 165 that we just guided for the second quarter in terms of that and I think we provided in the bridges the EPS elements of that now.
At today's rates, if you work your way through the back half of the year. It balances itself out you don't have much of an impact in the back half of the year, a little bit of headwind I think in the third quarter and then it swings around a little bit of tailwind in the fourth quarter, but were getting into its much smaller numbers at that point. So the back half again at today's rates, we don't know whats going.
Go from there.
Kind of how it looks.
Okay. Thank you Luke can we have the next question. Please.
Your next question comes from the line of <unk> <unk> from Wolfe Research.
Research Your line is open.
Hey, Thanks, so much for taking my question.
Just coming back to communications, and maybe thinking a little bit beyond this year.
<unk> talked about the ability to sustain.
<unk> 20, 20% margins in that segment.
Obviously, we're going to be dipping below that for the next few quarters, but but im just trying to get a sense of the bridge.
Get back to that that low twenty's level I mean, how much of that is really dependent on the end markets.
Versus some of the internal cost actions that you are talking about taking now.
Sure. This is Heath I'll take this it's really I mean listen I think if you look at your models first of all it's our it's our smallest segment right. So there is a little bit of law of small numbers here on a relative basis for GE when you start getting into margin rates.
We were always very careful about.
Not not.
Jumping up and down to when we had the real high margins last two years, because we knew what.
With the leverage was in those factories when you when you have that kind of output.
And when you see a flip around so when you go from a $600 million to $650 million per quarter run rate at that segment down to sub $500 million here for the next few quarters. It does have a meaningful impact in and I think part of it also is as the amount of inventory bleed off in the margins that we know exist in that channel inventory that's just.
The reality of the cyclical nature of this now our confidence in terms of being able to get back to closer to 20%.
Margin number for the segment really resides in the fact that we don't we don't we see this as more than a $2 billion segment annually.
We do see this continuing to grow we know the markets, where they are we know where our customers' capital needs are and the things in the platforms that we've been specced in on that our incremental growth to us going forward for the next several years. So we feel good about we feel good about that and we know what the margin is going to look like.
But we're going through a bit of an air pocket here for.
For the rest of 'twenty three are for at least the next couple of quarters of 'twenty three.
Okay. Thank you we'd like to thank everybody for joining our call. This morning, and if you do have additional questions. Please contact investor relations at Te. Thank you and have a nice day.
Ladies and gentlemen, todays conference call will be well for replay beginning at 11 30, a M eastern time today.
20 <unk>.
Investor Relations portion of Te connectivity website that will conclude the conference for today.
Okay.
Yes.
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