Q3 2023 TE Connectivity Ltd Earnings Call
Ladies and gentlemen, good morning, and thank you for standing by welcome to the T E connectivity third 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 that time simply press. The star key followed by the number one on your telephone keypad.
If you would like to withdraw your question Press Star one a second time.
As a reminder, today's call is being recorded and I would now like to turn the conference over to our host.
Vice President.
Of Investor Relations.
Shah. Please go ahead.
Good morning, and thank you for joining our conference call to discuss T connectivity third quarter 2023 results and outlook for our fourth quarter.
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 and we ask you to review the forward looking cautionary statements included in today's press release and.
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 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 in fiscal 2022 included an extra week in this call year over year comparisons for the fourth quarter and fiscal 2023 are made excluding this extra week.
Finally during the Q&A portion of today's call, we're asking everyone to limit themselves to one question you may rejoin the queue. If you have a second question now let me turn the call over to tariffs for opening comments.
Thanks, Joe and thank you everyone for joining us today.
Before we get into the slides and as I typically do I want to take a moment to discuss our performance this quarter within the backdrop of the market environment, along with what we're seeing versus our last call 90 days ago.
I am pleased with the execution of our teams in the third quarter with revenues that were in line and EPS that was ahead of our guidance due to strong performance across all three segments.
Our transportation and industrial segments grew year over year, which essentially offset the expected declines in our communications segment.
Our adjusted operating margins expanded 130 basis points sequentially without the benefit of any volume growth.
We delivered on the actions that we've been driving to ensure margin expansion occurred as we move through this fiscal year.
Also as important youre going to continue to see the benefits from the strategic positioning of our portfolio around secular growth trends.
Including increased global production of electric vehicles adoption of renewable energy and applications for cloud and artificial intelligence.
In the quarter, our orders of $4 billion are not only indicating stability in transportation and industrial but also in our communications segment as well.
I view, the order trends to be a real positive and they are reflecting the improving supply chains and reinforce our fourth quarter guidance, which I'll get into more details on in a moment.
As we've been sharing with you one of the key areas of focus this year has been working capital management as supply chain performance improves.
Our streak of strong free cash flow performance reflects our focus both in the quarter as well as you say that year to date.
Cash generation is an important part of our business model and year to date free cash flow was up 40% versus last year.
Also our capital strategy continues to remain disciplined and we've returned roughly $1 $2 billion of capital to our owners so far this year.
Yeah.
Let me now provide some additional color on our markets and other updates since our last call.
So on an overall basis, our markets are playing out as we expected.
We have most of our key end marks markets and our growth or recovery trajectory.
And we have a few markets that continue to cycle and these we previously discussed with you.
Our view of transportation end markets remained consistent with our prior view and we continue to expect auto production to remain roughly flat at approximately 20 million units per quarter globally.
Our growth in the transportation area will continue to be driven by content outperformance and our leading global position in electric vehicles.
Yeah.
Turning to our industrial segment, we have three businesses that continue to have strong growth momentum.
You continue to see our strong positioning in renewable energy with growth from both wind and solar applications.
In commercial air sales continue to grow as this market recovers.
And our medical business is benefiting from increases in interventional procedures.
In our communications segment, while sales are down significantly this year versus last year's cyclical peak.
And finally, I do want to reinforce that the way, we think about long term value creation remains unchanged.
It's built on the pillars of secular growth trends that will drive increased content in the markets, where we position Te.
Strong free cash flow generation with discipline around how we deploy capital.
And leverage to enable margin expansion as we move forward.
While our orders are indicating stability, we continue to see strong opportunities to expand sales margins and earnings per share as we move forward.
So at this time I want to get in the slides.
And we will discuss some additional highlights and if you could turn to slide three I'd appreciate it.
Our third quarter sales were $4 billion and this was in line with our guidance and down slightly year over year on a reported and an organic basis.
We saw organic growth of 7% in our transportation segment and 2% in our industrial segment.
Our communications segment declined due to the expected market weakness that we've been talking to you about.
Adjusted earnings per share was ahead of our guidance at $1 77 with.
With adjusted operating margins of 17, 3%.
And these margins were up 130 basis points sequentially as I already mentioned.
The margin improvement from quarter two to quarter, three was driven by our transportation and industrial segments. As we are delivering on our commitment to expand margins from the first half to the second half of this year.
Yeah.
Our earnings per share performance that was ahead of guidance was driven primarily by the stronger margin performance.
As we look forward, we are expecting our fourth quarter sales to be approximately $4 billion and adjusted earnings per share to be around $1 75, which are both similar to our quarter three levels.
Also similar to our third quarter, we do expect year over year sales growth in our transportation and industrial segments and a decline in our communications segment.
Okay.
Just moving away from the financials for a moment I do want to highlight that we issued our corporate responsibility report, which we call connecting our world.
And we've issued this report for over a decade.
There are a number of initiatives that we're driving internally and our goals are in line with our purpose as well as expectations from our customers.
Key highlights from the report versus prior year includes an over 30% reduction in our absolute scope, one and two greenhouse gas emissions and currently I want to highlight that 50% of the electricity in T. He comes from renewable sources.
I also want to know that we communicated our commitment to the science based target initiative.
Which enhanced targets for greenhouse gas reduction by 2030 that are inclusive of scope three emissions.
Yeah.
Yeah.
So with that as a quick background on slide three lets move to slide four and I want to talk about our order trends.
On the slide you can see the details on the moving pieces, but I do think the key takeaway is that our orders are reflecting stability in all three of our segments.
And this is nice to say after some of the order patterns, we've had over the past couple of years.
And these orders reflect and reinforce our guidance for the fourth quarter.
When you look at our transportation and industrial orders. They are both roughly flat from the second to third quarter.
The real highlight and where you see the changes in our communications segment.
Orders increased 5% sequentially.
And this is the first sequential increase in our communications segment orders since the first quarter of fiscal 2022.
So with that quick overview of orders, let me now discuss the year over year segment results that are laid out on slides five through seven and you can see the details and I will just talk about the high points.
In our transportation segment sales growth remains strong and it was up 7% organically year over year with organic growth across all of our businesses.
Our auto business grew 9% organically and we had growth in all the regions of the world.
The strong performance continues to be driven by our leading position in electric vehicles as well as electron application trends in cars and positive impacts from pricing.
While auto production is staying flat at about 20 million units per quarter production of hybrid and electric vehicles are continuing to grow and right now reflect about 25% of total global auto production in our fiscal 'twenty three.
As you know we generate approximately two times the content in an electric vehicle platforms versus a combustion vehicle.
So we expect our content per vehicle continue to expand as we move forward and the increased adoption of electric vehicles.
Elsewhere in this segment, our commercial transportation business, we saw 2% organic growth in the third quarter and in our sensors business, our 4% organic growth was driven by automotive applications as we see increased volumes from new design wins.
At the margin level in the segment adjusted operating margins were 18, 6% in the quarter and this was up 130 basis points year over year, and 200 basis points sequentially as a result of operational performance, including the benefit of price increases.
Okay.
Now, let me move over to the industrial segment.
At the segment level sales increased 2% organically year over year, but we had strong organic growth in three out of the four businesses in the third quarter.
Our AVM business, our sales were up 13% organically and we're benefiting from the ongoing improvement in the commercial air market.
And medical sales in the quarter were up 11% organically driven by ongoing increases in interventional procedures.
Turning to our energy business, we continue to see momentum with 8% organic growth driven by renewable applications.
The addressable market for <unk> and renewable applications has a double digit CAGR and we're helping to enable utility scale solar and wind farm deployments.
Through our broad product portfolio, we are helping our customers reduce installation as well as maintenance cost and we expect our sales from renewable applications to be up double digits again this year.
What's really nice on this business is that the current quarter continues to demonstrate the growth momentum that we've been delivering in this business, which has had an organic sales CAGR of 8% since 2019.
And finally in the industrial segment.
In our industrial equipment business, our sales were down 10% organically.
This sales decline was driven by inventory digestion in the distribution channel and is being driven by improvements in the broader supply chain that we're all feeling.
In the industrial.
<unk> segment adjusted operating margins were 15, 8%.
And these margins reflect the impact of the expected volume declines in the industrial equipment business and.
And I want to highlight that we remain committed to achieving our high teen margin target for this segment.
Okay.
Now, let me turn to the communications segment.
And in this segment, our sales were down 37% organically to $424 million and it was slightly lower than we expected.
Versus last year's cyclical peak apply.
Appliances, and our data and device businesses are being impacted by market weakness and the ongoing consumption of inventory across our customer supply chain that we previously discussed with you.
Despite this weakness in sales we maintained adjusted operating margins in the mid teens range at 14, 2%.
Based upon the order trends I talked about earlier.
We believe communications revenue will be roughly flat.
To quarter three levels in the fourth quarter with adjusted operating margins remaining in the mid teens.
Now with the communication segments I do want to look beyond the near term for a moment and really talk about what we get excited about especially in our <unk> business. As it continues to have strong design win momentum in next generation AI platforms.
When you think about where we play we focus on providing the high speed low latency connectivity to meet the needs of these next generation data centers.
Last quarter, we mentioned that we secured $1 billion in design wins for AI, and certainly related server applications and I just want to highlight for you. This number continues to grow.
We expect meaningful ramps of AI programs as we move through fiscal 'twenty, four with 50% more content in an accelerated compute AI platform versus a traditional compute server.
The other key highlight is we're working closely with cloud customers as well as leading semiconductor companies with reference designs I call out our Te connectivity solutions.
So with that as a wrap up let me turn it over to Heath who'll get more details on the financials as well as our expectations going forward.
Well, thank you Terrence and good morning, everyone.
Please turn to slide eight where I will provide more details on the third quarter financials.
Adjusted operating income was $692 million with an adjusted operating margin of 17, 3%.
GAAP operating income was $630 million and included 53 million of restructuring and other charges and $9 million of acquisition related charges.
Year to date, we have taken $208 million of restructuring charges. We continue to expect full year restructuring charges to be approximately $250 million as we continue to optimize our manufacturing footprint and improve the cost structure of the organization.
The adjusted effective tax tax rate was 18, 2% in Q3.
For the fourth quarter and for the full year, we now expect our adjusted effective tax rate to be approximately 19%.
Importantly, we continue to expect our cash tax rate to stay well below our adjusted ETR for the full year.
And we can get you to turn to slide nine.
Sales of 4 billion were down 2% reported and 1% on an organic basis year over year.
Currency exchange rates negatively impacted sales by $42 million and adjusted EPS by <unk> <unk>.
Versus the prior year.
Adjusted operating margins were 17, 3% in the third quarter, expanding 130 basis points sequentially. Despite despite lower sales driven by margin expansion in our transportation and industrial segments.
We have continued to drive productivity and cost initiatives and have implemented the price increases that we discussed in prior calls.
Our pricing is now fully offsetting the impact of higher input costs.
Turning to cash flow in the quarter. We once again demonstrated strong cash generation model of our business with cash from operations of $779 million.
Free cash flow for the quarter was approximately $615 million.
And through the first three quarters of the year free.
Free cash flow was approximately $150 million, which is up 40% year over year.
And roughly a $1 2 billion returned to shareholders through share buybacks and dividends.
As you May recall I indicated that we would look to drive our own inventory levels lower as we saw performance improving in our supply chain.
We have been able to deliver improvements to working capital, which has contributed to our free cash flow performance. This year.
As a result of our actions and strong profitability, we expect free cash flow conversion to approach 100% this year.
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 about a third for acquisitions over time.
Before I turn it over to questions I want to reinforce that the strategic positioning of our portfolio is enabling us to deliver strong results from secular growth trends.
In our transportation segment, we expect to deliver high single digit organic revenue growth this year.
In our industrial segment, we expect double digit organic revenue growth in three of the four businesses for their year.
In our communications segment, we continue to generate strong design win momentum in AI and cloud applications.
We are delivering strong operational performance, including the work we have done on our cost structure and price actions to offset inflation, enabling our first half to second half margin improvement and EPS expansion as we expected.
Overall this sets us up for a strong finish to the fiscal year and a good step off point as we enter fiscal 'twenty four which as you know begins in October .
We remain excited about the opportunities. We have ahead of us to drive long term growth margin expansion and value creation for all stakeholders.
So now let's open it up for questions.
Can you please give the instructions for the Q&A session.
Yes. Thank you.
At this time I would like to remind everyone in order to ask a question Press Star then the number one on your telephone keypad.
In order to have time for all questions. Each participant isn't limited to one question. If you would like to ask a follow up question.
Please press star one to return to the queue.
We'll pause for just a moment to compile the Q&A roster.
We will take our first question from Chris Snyder with UBS. Your line is open.
Thank you.
Three.
Offline only met the guy despite a higher level of auto production.
Just talk about some of the offsetting headwinds there.
And then also what some more color on what really drove that strong step up in margins. Obviously the step up was expected, but this was much more significant and then just lastly, any puts and takes into Q4 of <unk>.
<unk> segment or end market levels. Thank you.
Sure Thanks, Chris and thanks for the question.
First off on the first part of your question.
We met our overall guide on the top line and Youre right and transportation, we were a little stronger but.
Communications was a little bit weaker we've been talking for many quarters now about hey, as we go through some of the supply chain correction in market weakness around cloud, we thought we'd be in the $4 50 to 500 range and we saw this past quarter, we'd be closer to that $4 50.
Our communications segment came in a little bit below that and our transportation revenue, which was stronger really made up for that so on your first part of your question.
And really the margin front.
Let's shows.
To move it up a little bit.
We had to do margin opportunity as we March through the year.
We had the price cost element that as we've talked about in automotive that was going to be on a lag basis.
We did get those in place I think youre seeing the benefit of that and we said we could get our transportation segment back up to where its at today as we get later in the year and Thats been accomplished I also think theres been good operating performance in our industrial segment, even in light of our biggest and higher prop.
Stability business unit their industrial equipment has some destocking occurring so I think that was very good performance there and the other element is as communications is cycling down here in both businesses, we've been able to maintain the mid teens margin even on lighter revenue. So I do think to my prepared comment.
It came through.
Now when we go to next quarter.
Really with the order trends that we're seeing.
It does look like the segments will be very similar next quarter to where they were this quarter.
Auto production is going to be flat, we expect transportation revenue look similar to quarter three similar to Ias and CES right now, where we see the order patterns and we expect margin to be similar.
So the guide is very consistent with what we just did and Thats. Some of the stabilization that I talked about on the EPS side, we're just a little bit lower in quarter, four and that's really due to tax and FX.
So it's nice to be able to show some of the stabilization.
As we wrap up quarter, three and go into quarter four.
Thank you Chris can we have the next question. Please.
Our next question comes from the line of <unk> Mohan with bank of.
Erika Your line is open.
Yes. Thank you, it's really nice to see the operating margin improvement here in transportation.
Is it a little too earlier.
I was wondering if your EBITDA terrans, maybe double click on some of your inventory comments.
How much more inventory digestion do you attain is ahead of us, especially in industrial equipment and.
How much more of a correction do you think can also often and data devices. Thank you.
Thanks, <unk> and thanks for the question.
I guess the first thing is I know, we talked about Destocking and the same benefit we're driving and cash flow as supply chain get better. It is important we're not in a bubble where not only our supply chains are getting better, but our broader customer supply chains are getting better and I think really where you see it in our results are.
The three business units, we have two in CES and won an Ias is where we feel it the most.
And Thats really where we have distribution channel involved and certainly things arent as much of a direct direct relationship.
So in transportation, we don't feel there's any supply chain to work off we don't see impacts of Destocking and you see that in our performance and you see the growth in all three businesses.
And the other businesses, while he does do about 20% of its revenue through distribution.
And businesses, you mentioned appliance on D&B.
CES as well as industrial they do about 40% to 50% of their revenue through distribution and what we've been saying is we do see is broader shared supply chains improve we see our distribution channel partners adjusting their inventory levels to get to more normal demand and lets face it if lead.
Times people are hitting lead times and people don't need to go to distribution of falling something to complete a build they won't have to do that.
So it is a natural effect on our business. When you have this but I think we have to.
It is a good sign that supply chains are improving I think where we are certainly industrial has gotten to it a little bit later I think we still have.
There are two that we need to work through in these businesses.
<unk> is our best guess and guess what that is a guess, but I do think there'll be a point in time, where our revenue in those businesses, especially go through distribution will get closer to demand for right now we're billing less and what demand is as inventory working now.
Okay. Thank you <unk> next question please.
Our next question comes from the line of Steven Fox with Fox Advisors. Your line is open.
Hi, Good morning, I was wondering if you could dig in a little bit more into the cash flow numbers like you said, they're up a lot how sustainable do you see cash flow going forward and maybe what does it mean.
In terms of your capital allocation. It seems like it's not changing right now, but how does that influence you in a rising rate environment.
And then within that if you could touch on just the M&A environment that would be helpful. Also.
Sure Steven This is Keith I'll take this question.
First of all we're pleased with our cash flow performance. This year year to date, our free cash flow was $1 5 billion, which as I mentioned earlier is up 40% year over year, and we've had pretty consistent results as we each quarter as we worked through the year.
A little.
A big chunk of that to answer your question about sustainability of that performance builds on what tariffs just talked about and that stability and if you think about there are times, particularly over the past couple of years.
When we've had to flex our working capital, particularly inventory to handle all of the volatility that's out there in the various supply chains.
The uncertainty from our suppliers as well as.
Differing order patterns from our customers.
And the last thing we're going to do is be in a position to hold our customers ups. We've had to flex inventory. So now with the visibility improving that's tied to some of the supply chain improvement out there.
We've had the ability this year and particularly through the first half of this year to reduce inventory levels. During our days on hand back more in line, there's a little bit of work to do in a couple of our businesses, but for the most part we're getting to a better place.
And that working capital management has really driven our ability to.
To drive free cash flow improvement year over year. So we feel good about that we feel good in general about our ability to sustain that going forward in terms of overall capital allocation, which was the second part of your question was are we are fully funding capital expenditures, we have not cut that back to.
Possibly most of our Capex goes towards new products and new applications.
And that is still real and that is still happening whether that's on the EV side or some of the AI opportunities are things within our industrial segment. So.
That's being fully funded that is unchanged and then when we start thinking about outside of investing in ourselves the opportunities out there around the M&A environment.
And it's.
It's always going to be a bit dynamic in terms of what's coming to market and what's available and we always take the approach that are we the right owner for something that fits strategically well for us and then do the financials work.
I feel like I say thats, just about every quarter, but at any given time, we're looking at about a half a dozen things and most don't get across the finish line for one reason or another but we're active in that process and there's been some things that that you'll continue to hear us talk about.
Over time, I still believe that M&A will take up about a third of our free cash flow.
But the EBITDA is lumpy its not its not a straight line in terms of linearity of how that's deployed so short answer.
No change in our capital allocation strategy, we feel good about.
Where we are from a balance sheet perspective, and it allows us to play offense going forward.
Okay. Thank you Steve we have a next question please.
And our next question comes from the line is Matt Sheerin with Stifel. Your line is open.
Yes, Thank you and good morning, I wanted to drill down a little bit more on the opportunities in AI in your comments it sounds like you've got a strong relationships with key customers in the semiconductor suppliers, but could you talk about the competitive landscape in the edge you have over competitors.
And could you also size up the market opportunities for us, perhaps as a percentage of your overall cloud revenue.
Sure Matt Thanks for the question and let's face it we like data anywhere because typically you need a connection to occur. So when you think about the core of what we do whether it's data power or some sort of signal.
That's where we see opportunities in anywhere data goes as an opportunity for us when.
When you think about AI, though.
There is one thing to move data, but when you think about the high speeds at this is that as well as the low latency you need it's really an extension of what we've been talking about from a cloud perspective.
There is one thing to have a data connector. There is another thing to have a high speed that can handle what these gpus are throwing off as well as make sure that you not only have to compute you also have to move the data you also have to store the data and how does that all stay in sync and Thats really there is a number of us in the world that do that very well.
Cause you are at the cutting edge of technology, and you not only need to design with the people that build the architecture you need to be very close to the semi companies that are making these next generation chips that everybody's all excited about so when you look at it I sort of view it as a next step of where cloud wide and we're just taking it up.
A level of speed and certainly with the adoption of AI that we all hear about.
It's exciting for us.
So from a product set when you look at what we do.
We have sockets that actually the Gpus and Cpus go into.
You do need something that takes that semiconductor and connects it into aboard our high speed back plane products that actually make sure had the signal moves around and then you get into things like DAC cables, and so forth that actually make sure you're connecting different parts of the rack in boxes together and we've had opportunities on all of those similar to we talked in cloud and what I read.
Really like is our position that our team has built.
That is both with the SME customers as well as the ones that are working on the architecture, which are also the cloud guys.
Really as positioned as well.
I said, we have over $1 billion of wins.
They probably will go out over a four to five year period as they ramp so and the momentum is still building on the wind side. So once we worked through some of the market correction, we're working through in a place like DMD I think youre going to continue to see the ramp of these programs probably be more in the middle of our fiscal 'twenty four.
That will be more visible to you some of it's in our revenue already but the launches will be more than 24 based upon the launch schedules of our customers and through the architecture build out.
And.
We're really excited about the wins, we have and also the problems we're trying to solve with our customers, which is really in essence, what our engineers do.
Okay. Thank you Matt can we have the next question. Please.
Our 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 my question I realize the company only formally guide one quarter at a time, but given that we're now in your fiscal fourth quarter I'm, hoping you can provide some early thoughts on fiscal 2024, and how you're currently thinking about trends by end market for next year.
Thanks, Mark and I also appreciate your given the caveat that we only guide for one quarter.
First of all I'll start off it is nice to see the stability that we're starting to see an orders and communications at pick up so I do think the comments start with that sort of as a backbone.
It is important that some of the Destocking, we talk about <unk>.
Some of our businesses.
That will work off I can't tell you the exact date that will be done.
But that will that while that's a headwind now that will that will be something as we get into next year will be a tailwind for those businesses.
I also think.
When you look at transportation specifically.
Our transportation growth. This year is going to be driven by automotive is in the low double digits.
And that's why I'm pretty low production growth and it has the content that we've always talked to you about and then a little bit of price on top of that really you should expect on top of what auto production is will be in that 4% to 6% next year, because we won't have the additional price increases and less material would go up more.
And so in transportation, we still see content being the driver into next year.
I think the only thing that we're watching real time is in our commercial transportation business, we see some signs in China, and North America that being a little bit slower.
So that's one market, we're going to keep an eye on.
And then when you get into the industrial segment.
You think about the three units that I talked about on the.
The prepared comments.
Commercial aerospace is not going to be slowing down in the recovery and its the one area that we're still playing catch up in <unk>.
Medical interventional procedures, we feel good about and you're seeing the strong growth there and renewable applications. We would continue to expect strong growth momentum there and once we work through the Destocking in industrial equipment.
We will get back to some of the growth that we've been showing you.
And then in the communication segment. It really is around the Destocking and then the AI programs kicking in.
So having the stability I think you see the secular content drivers, we still expect it will be a slow global economy.
But really when you look at these content levers that we've been talking about will really be the drivers as we get into next year and hopefully the inventory Destocking whitestone.
Okay. Thank you Mark and we have the next question. Please.
Great. Thanks for taking my questions.
First sort of a supply chain question, you've given us.
Pretty good bit of information already about where.
Youre seeing destocking and such but.
I'd like to draw the comparison to some of the semiconductor suppliers.
In this cycle with very effective.
Picking the extended lead time situation as an opportunity to screen with they were delivering into the channels that they didn't run into this problem and I wonder if there are any lessons learned from that I know every cycle is a little bit different but as you think about this going forward is that a potential.
Opportunity to improve the business to constrain what you ship into those guys Sito wind up in the situation.
So a couple of things well I just want to give a contrast between semi land and what we do because I do think there is an important difference.
<unk>.
Semiconductors had some lead times at or well out over a year I would tell you when you look at what we do.
Our lead time typically on average can be six weeks to 12 weeks.
And while we had supply chain challenges I think the bigger challenge was not us extending lead times. It was meeting lead times.
When I think about the service levels, we're at today, which are direct customers feel other than maybe in the aerospace market. Our service levels are back to pre COVID-19 levels from a shift to request elements. So I do think theres a big difference on.
Shorter.
We did constrain demand.
Certain areas, where we knew we were ahead.
Take our appliance business, we did not add capacity for our appliance business to be permanently at a $1 billion run rate, we were trying to manage through our various channels. So I think you're always going to have.
Elements of a little bit of stock in destock, where you have more channel activity, let's face it we build the orders.
When we're getting orders, we don't say, while this was a real order and this was a fake order every order is real because there is a customer that is asking for something someplace.
So I actually feel pretty good how we manage through it I'm also pretty proud when you look at our communications segment with where their margins running on how much. The revenue is off I think it also proves we have improved the profitability substantially in that segment. When we're at maybe a cyclical low that.
Really gets us back to where we can take the margin back up to what we talked about when we target for this segment more like 20% so.
There are lessons, we think about I'm not sure where it relates to the semiconductor Prost.
Processes as much as how we manufacture.
Alright. Thank you will we have next question. Please.
Our next question comes from the line of Christopher Glynn with Oppenheimer. Your line is open.
Thanks, Good morning, guys.
Yes, I had a question about the Ts margins so yes.
The price fully realize some wrap around into next year and you also have.
Although some operational improvements as well Im curious if you could talk about a view of kind of fundamental incremental margin expectations over the next year or two.
Ts segment.
Hey, Chris This is heath.
Listen I think <unk> has done a lot.
The transportation segment in general, but particularly the automotive piece of this as well as the sensors piece of this is done a lot of heavy lifting on the cost structure.
And thats largely moving.
Production in a meaningful way away from higher cost locations into lower cost jurisdictions.
And we are starting to see the benefit of that.
In many cases, we're also following where part of our supply chain Thats also following that trend so.
Not necessarily.
Unique to us that following our customers to where we need to be just to support them.
The impact of that on our cost structure.
Is is something that has been gradually layering in catching up on inflation wisdom of the price increases that we've done over the past.
A couple of quarters has certainly benefited us and as I think about as we go into next year.
The difficult thing to call on that is what auto production numbers going to be we're not terribly bullish as we go into next year that auto production globally is going to ramp masterfully I guess more to come as we all get smarter on that by region.
But you know the content story and we do expect that.
The category of EV and hybrid to grow very nicely again, just as it's shown in the past couple of years and our content on that so I feel good about our ability to outperform the market as we've always done it and that will lead to some margin opportunity for us when I think about incrementals.
Kind of target and normalized times, roughly a 30% incremental.
And more to come on that as we get through into into next year. Obviously as you mentioned, we'll have some price wraparound for the for the first half of next year. So.
I appreciate the question.
Okay. Thank you, Chris and we have the next question. Please.
Cowen Your line is open.
Hey, guys good morning.
I appreciate all the color on the AI today.
One kind of follow up there.
How do I think about that business.
A replacement for business that you would have been doing in the absence of.
If I think about your coal.
Data and devices business.
Where.
What does that business look like on a normalized basis now.
A $1 $5 billion business.
Now it's been run rating at $1 billion.
Where's the right pedaling.
Yes, I think Theres a couple of things you do have the Destocking and certainly I would say the one area, where I know I talked about distributional.
There is still a lot of server and semiconductor inventory and the on the planet.
That needs to work through so I do think youre going to have as being below that level right now.
As that clears out I would also say just realize just because AI is happening doesn't mean every server and cloud application is obsolete.
It is different architecture, where youre still going to get the benefits of those so I think we're going to get back to normalization in the supply chain, which is which is driving it and then you will see AI add onto some of the cloud element. It is not a full cannibalization by any means and.
And you Shouldnt think about it as cannibalization and we're in the early innings.
Really on AI I know I talked about the wins, we've had but the engagements. We have are still very strong and youll start seeing them next year Joe.
Okay. Thank you Joe the next question please.
Our next question comes from the line of Amit <unk> with Evercore. Your line is open.
Hey, guys, So hey, Amit <unk>.
It is the velocity for Amit.
I just wanted to focus on industrial and I think last call you mentioned industrial environments.
Environment, some margin expansion in the second half.
Really nice expansion I think almost 30 bips this quarter, despite revenues being down I think in the segment and $50 million or so.
Curious what goes beyond what the ways puts and takes on.
Yes.
Again the seats on the margin question for ice.
Listen I mean, <unk> got four four very distinct businesses within this and you are always going to have a little bit of noise quarter to quarter I think we talked about last quarter. Some.
Some of the mix with the downturn in the industrial equipment business, which is our highest margin component of that segment.
Certainly impacted us we were able to make up.
Some ground here in our fiscal third quarter.
With some cost actions as well as to improve profitability in some of the other businesses. So it's a bit of a mix as you think forward I think listen at this kind of revenue range and with this current mix of what we're talking about the operating margins for the segment probably start with a 15.
I don't necessarily know that we would get back down into the <unk> like we were last quarter, but this but as we think forward I think it's in the Fifteens and then I think the important piece here is that we are still committed to high teens operating margins within this segment. We do have a couple of acquisitions that we needed to die.
Jeff that we've taken on over the past year or so those have come in with considerably lower margins, but have a really really strong opportunity to create value through some of the margin improvement and growth opportunities that we've already identified and are implementing but still running below segment average and as we get those acquisitions.
Layered in and I think that will also have a meaningful impact. So we feel good about our trajectory there.
There's no doubt that we're running we're running a couple of hundred basis points lower than where we want to be longer term.
Okay. Thank you <unk> can we have the next question. Please.
We will take our next question from the line of Cemig <unk> with Jpmorgan. Your line is open.
Yes, hi, Thanks for taking my question I guess I had a question on industrial solutions as well, but more sort of looking at it.
From a mix perspective, just wondering how you think about.
What this business mix looks like in four to five years, how do you want it to look like in four five years because from the outside it does look like you have secular drivers in ADM.
And <unk> medical.
I understand sort of the better margin on it but it doesn't appear from the outside of the same.
In terms of secular growth. So is there a way we should think about how this mix transitions in this business by sub segment over time.
You had a focus of investment will be as you look at this business.
Well I think when you look at the business I think it's important to say where you've seen our investment first.
<unk> seen has been very focused on building out the industrial equipment business unit, because we like the factory automation trends that are there.
And even if you went back probably three or four years that was not always the largest business unit.
So we have done M&A there, we like the opportunities that are there and we also like the challenges that are there that what our customers trying to solve your typically trying to solve getting data off of factory floor, and a very harsh environment and getting it back to the compute and it turns out into intelligence. So I think youre going to continue to see areas.
That space, where we continue not only to invest but also think of continually about where we can do M&A in that spa.
And the other areas that you sit there energy has become much more of a secular driver than we've had and it's where we've really focused around renewable energy, we actually get a small M&A earlier this year and I think thats an area that we would also continue to look at on top of the secular drivers we have.
There to say, how do we continue to build out that.
In aerospace I would say, we're capitalizing on the recovery.
A space that I would say.
The content is really set because those platforms are one.
I don't see there being big secular changes to the platforms right now certainly as <unk> and things like that but they are further out further out the near horizon to really create value. So I think it's really more of an execution story and in medical I think you see the consistent growth and I think you are going to continue to.
See as we're benefiting from interventional. So I think what's nice about this segment is all four of them have growth drivers in them today, we couldnt say that five years from that five years ago, and I think what youre going to continue to say they all give us different options as we continue to build out those businesses.
And we will have times, where we do have a little bit of a mix or one has a little bit higher margin than the other but thats just can be a factor as we build it out.
Okay. Thank you Sumit can we have the next question. Please.
Our next question comes from the line of Luke junk with Baird. Your line is open.
Good morning, Thanks for taking the question just wondering if you could comment on the pace of AI related awards that Youre seeing just wondering how quickly the $1 billion plus in awards that you've referenced has come together how quickly that could get to 1 billion and a half or two and then related to that in terms of book to Bill could you just give us some additional color on.
Overall communications book to Bill of <unk>, 96, and just how that splits between data and devices and appliance and to what extent AI is impacting the debt and devices side. Thank you.
Let's take the last question first batter and devices is above one.
And certainly appliances still below one I would tell you on both of those where the orders go through distribution. The book to Bill is well below one and the direct customers are above one so it sort of shows you some of the dynamics and even in the appliance market I would say inventory.
At the Oems and at our direct relationship seemed to be hidden check where they need to be where that lower market is.
When you look at the wins M&A AI to go back the Windsor coming fast and furious and it's one of the things I have to give our team credit for as we were dealing with a market that was turning how do we really make sure.
We capitalize on those when so when you sit there.
The pipeline has moved up even since the last time, we talked.
We're well over $1 billion now I think it's really going to be around how these programs ramp and certainly the architecture size. So it wouldn't surprise me that we continue on these calls to update you, but there is no pause in the AI platform. So in some cases similar to the the EV platforms, we had an auto no matter what.
As happened on the cycle they are accelerating and I think we'll be able to give you ongoing updates as they ramp.
Okay. Thank you Luke next question please.
Our next question comes from the line of <unk> <unk> with Wolfe Research. Your line is open.
Hey, thanks, so much so maybe just coming back to the transportation solutions.
If I think about where we are.
Now you mentioned.
The price increases are fully offsetting material inflation to youre generating and you're generating about an 18, 5% margin.
There is going to be some additional outgrowth.
Potentially some benefits from restructuring so how do we think about that.
<unk> to the 20% margin target.
Are there other headwinds considering.
It does seem that that is something that could be achieved potentially.
Some point next year.
Okay great.
First of all I don't want to commit to anything for 'twenty for until we get closer to 24. So I think we've got to be careful with that obviously, we're pleased with the improvement from our first half two or second half.
Both in the third quarter, our reported results as well as how we feel about how we're going to finish the year.
Our target margin for TFS is still 20% and that is that is unchanged obviously.
We're approaching 19 now I want to be careful that we don't commit to something for next year, because as I as I mentioned.
An earlier question, we got to see where revenue comes out as well and the thing that we have to keep a very close eye on within this segment is commercial transportation, which is an important piece of the segment. We didn't talk about it too much today, but Terrence did mentioned.
On an earlier question that we do that is our highest margin component of the segment and we do expect some pressure there next year, particularly in China and so as we think about it is not just an auto story. It's also the combination of commercial transportation, which was a $1 billion business as well as is our.
As our sensors business so.
More to come on that but.
Our goal and I feel comfortable in the next couple of years for sure.
Getting to a sustainable margins closer to target.
Okay. Thank you <unk> can we have next question. Please.
And our next question comes from the line of Guy hardware with Credit Suisse. Your line is open.
Hi, good morning.
Good morning.
Wondering if you could differentiate and industrial equipment between.
Sales into distribution sales to original equipment manufacturers.
Our sharply different all the trends, where maybe there's another tool and I had a follow up question as well.
Hey, Hey, guys. Its parents have you look at it.
To our direct customers our book to Bill is running closer to one <unk>.
Through distribution is probably running more like <unk> eight.
The only color I would add to.
The industrial equipment business in Asia, which includes Japan the Japanese.
Equipment makers for factory automation, who support a lot of things in China, and certainly in China that continues to be weak both in direct as well as indirect but the backlogs of our OEM customers are strong I would tell you in some cases, we see them working off some inventory as they were making sure their supply chain they were protect.
Good.
But there are different trends between our direct relationship and what we're seeing from.
In the distribution channel and in that business. That's great is close to 50 50 between the channel and what we do direct.
Thank you.
Could you give us an update on your Chinese water business, particularly in electric vehicles.
Sure I mean, it potentially this market could be 40% and evs.
By the end of the year, EPS and I'll stay on how <unk> positioned particularly versus local competitors.
When do you fully participating in the growth, particularly one or two very strong domestic clients.
Very well of late.
Yes, so a couple of things. Thanks for the question, So just I'm going to talk.
About we have about $3 billion of business in China overall.
Of which two thirds of that is automotive I mean, so when you really think about China and the biggest play we have is around <unk> and Guy Youre right on.
Want to really participate in EV adoption globally, you have to participate in China or.
They are the biggest driver of it.
And 70% of global fully battery electric vehicles that are adopted on the planet have produced this past year.
Our basically in China.
And the thing that I would tell you is our market share with the local Chinese Oems versus the multinationals is similar and you have to realize today well over 50% of production in China is local Oems.
So the old days of a multinational brands owning the market that's no longer the case.
And when you look about our content story.
Our content story is being driven.
Content per vehicle when you look at it over on China, It's pretty similar between the two whether it's a multinational or a local Chinese OEM and honestly the growth we talked about in our CTV growth is really driven by we're positioned well with both of them.
So I know, sometimes people say well I'm only with the multinational is not something that's not true with TD.
He's on essentially every car in the plan and I always say and what's really nice is what our team has done to really make sure. They are penetrating both types of Oems in China, and it's been very important to our growth.
And.
Our China automotive business as I said in my prepared comments all regions and automotive grew this quarter.
And also for the year, we will have growth in all regions. So certainly we see sluggishness in China outside of automotive, we've actually seen auto production starting to ramp back up again and our positioning there is very strong.
Okay. Thank you and I'd like to thank everybody for joining us on the call. This morning. If you have any additional questions. Please reach out to Investor relations at Te. Thank you and have a nice morning.
Sure.
Ladies and gentlemen, todays conference call will be available for replay beginning at 11 30, a M. Eastern time today July 26 on the <unk>.
Mr relation portion of Te connectivity website that will conclude the conference for today.
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Yes.
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