Celestica Inc. (NYSE:CLS) Q1 2024 Earnings Call Transcript

Celestica Inc. (NYSE:CLS) Q1 2024 Earnings Call Transcript April 25, 2024

Celestica Inc. isn’t one of the 30 most popular stocks among hedge funds at the end of the third quarter (see the details here).

Operator: Good morning, ladies and gentlemen, and welcome to the Celestica First Quarter 2024 Earnings Call. At this time, all lines are in a listen-only mode. Following the presentation, we will conduct a question-and-answer session. [Operator Instructions] And this call is being recorded on Thursday, April 25, 2024. I would now like to turn the conference over to Craig Oberg, Vice President of the Investor Relations and Corporate Development. Please go ahead.

Craig Oberg: Good morning, and thank you for joining us on Celestica’s first quarter 2024 earnings conference call. On the call today are Rob Mionis, President and Chief Executive Officer; and Mandeep Chawla, Chief Financial Officer. Please note that during the course of this conference call, we will make statements relating to the future performance of Celestica that contain forward-looking information. While these forward-looking statements represent our current judgment, actual results could differ materially from a conclusion, forecast, or projection in the forward-looking statements made today. Certain material factors and assumptions are applied in drawing any such statements. We undertake no obligation to update these forward-looking statements unless expressly required to do so by law.

In addition, during this call, we will refer to various non-IFRS financial measures, including non-IFRS operating margins, adjusted gross margin, adjusted return on invested capital or adjusted ROIC, adjusted free cash flow, gross debt to non-IFRS trailing 12-month adjusted EBITDA leverage ratio, adjusted earnings per share or adjusted EPS, adjusted SG&A expense, adjusted effective tax rate, and non-IFRS operating earnings. Additional information about material factors that could cause actual results to differ materially from a conclusion, forecast, or projection in the forward-looking information, as well as risk factors that may impact future performance results of Celestica, and reconciliation of such non-IFRS financial measures to their most directly comparable IFRS financial measures are contained in our public filings at sedarplus.ca and sec.gov, as well as in our press release that was distributed yesterday and which may be found on our website.

Unless otherwise specified, all references to dollars on this call are to US dollars and per share information is based on diluted shares outstanding. Let me now turn the call over to Rob.

Rob Mionis: Thank you, Craig, and good morning, everyone and thank you for joining us on today’s call. We started off the year with a very strong first quarter, achieving revenue of $2.21 billion, while our adjusted EPS came in at $0.86, both exceeding the high end of our guidance ranges. Our non-IFRS operating margin was 6.2%, which was above the midpoint of our revenue and adjusted EPS guidance ranges. Our solid non-IFRS operating margins resulted in adjusted free cash flow of $65 million during the quarter. The strong performance to kick off the year was driven by the ongoing strength in our CCS segment, supported by continued demand strength from our hyperscale customers. This dynamic drove solid sequential and year-to-year growth in revenues across both our enterprise and communications end markets.

And resulted in CCS segment margin of 7%, 120 basis point improvement year-over-year. In our ATS segment, revenues were down slightly year-to-year, as anticipated, driven primarily by demand softness from customers in our industrial business, partially offset by growth across our other ATS businesses. Our A&D business continues to see solid double-digit year-to-year revenue growth, and the outlook for the year remains positive. And after several tough quarters in our capital equipment business, revenues appear to have stabilized, and customer forecasts are signaling that year-to-year growth will accelerate in the coming quarters. We are also pleased to share an update regarding a recent tuck-in acquisition. Following the close of the quarter, we signed a definitive agreement to require NCS Global Services LLC, a US-based IT infrastructure and asset manager business for $36 million.

This acquisition accelerates our IT services roadmap within our CCS segment by expanding our strategic capabilities and geographic footprint, and allowing us to enhance our service offerings across the entire lifecycle of our customers’ assets. This acquisition is strongly aligned to our strategic roadmaps and meets our financial hurdles, including being accretive to our adjusted EPS in 2024. Overall, we are very pleased with our start to the year. We are encouraged by our solid execution, our strong financial performance, and by the positive market tailwinds across a number of the businesses in our portfolio. I would now like to turn the call over to Mandeep, who will provide further details on our first quarter financial performance and our guidance for the second quarter of 2024.

Mandeep, over to you.

Mandeep Chawla: Thank you, Rob. And good morning, everyone. First quarter revenue came in at $2.21 billion dollars, above the high end of our guidance range and up 20% year-over-year. The increase was supported by stronger than expected growth in our CCS segment, partially offset by an anticipated modest decline in our ATS segment. Our first quarter non-IFRS operating margin of 6.2% was an improvement of 100 basis points year-over-year and marked the first time that our quarterly non-IFRS operating margin exceeded 6.0%. The margin expansion was driven by improved profitability in both segments as a result of favorable mix and production efficiency. Our adjusted earnings per share for the first quarter was $0.86, which exceeded the high end of our guidance range.

Our adjusted EPS was up $0.39 compared to the prior year period, driven primarily by higher non-IFRS operating earnings and a more favorable adjusted effective tax rate. Our first quarter adjusted effective tax rate expectation was 20%, assuming that global minimum tax would be enacted in Canada by March 31st. Given the legislation has not yet been enacted, our adjusted effective tax rate came in favorably at 15%, leading to a benefit of approximately $0.05 per share. Moving on to our segment performance, ATS revenue in the first quarter was $768 million, down 3% year-over-year, which was in line with our expectations of a low single-digit percentage decrease. The year-over-year decline in ATS segment revenue was driven by continued demand softness in our industrial business.

These declines were partially offset by solid year-to-year growth in our A&D business. In addition, our capital equipment business saw revenues stabilize on a year-to-year basis, registering modest growth compared to the prior year period. ATS segment revenue accounted for 35% of total revenues in the first quarter. Our first quarter CCS segment revenue of $1.44 billion was 38% higher compared to the prior year period, driven by strong growth in both our enterprise and communications end market. CCS segment revenue accounted for 65% of total company revenues in the quarter. Revenue in our enterprise end market was up by 72% year-over-year in the first quarter, exceeding our expectation of a high 60% increase. The growth is driven by continued demand strength for AI/ML compute products from our hyperscaler customers.

Revenue in our communications end market was higher by 17% compared to the prior year quarter, which was better than our expectation of a low single digit percentage increase. The return to growth in our communications end market was driven by increased demand for HPS networking products from hyperscaler customers, predominantly in support of AI/ML infrastructure. HPS revenue was $519 million in the quarter, up 40% year-over-year, and accounted for 23% of total company revenues in the quarter. The growth in the first quarter was driven primarily by stronger networking demand from hyperscaler customers, including new program ramps. Turning to segment margins, ATS segment margin in the first quarter was 4.7%, up 30 basis points compared to the prior year period, driven by favorable mix.

CCS segment margin during the quarter was 7.0%, up 120 basis points year-over-year as a result of improved mix and volume leverage which drove strong productivity. During the first quarter we had one customer that accounted for more than 10% of total revenues, representing 34% of sales for the quarter. We continue to support this strong demand with solid execution across a number of programs. And we remain comfortable with our current levels of concentration with this customer in our portfolio. Moving on to some additional financial metrics. IFRS net earnings for the first quarter were $102 million, or $0.85 per share, compared to $25 million, or $0.20 per share in the prior year period. Adjusted gross margin for the first quarter was 10.2%, up 80 basis points year-over-year due to more favorable mix and production efficiencies resulting from higher volumes.

Our adjusted ROIC for the first quarter was 24.8%, an improvement of 6.9% compared to the prior year quarter, driven by higher profitability and effective working capital management. Moving on to working capital. At the end of the first quarter, our inventory balance was $1.96 billion, down $150 million sequentially, and down $440 million year-over-year. Cash deposits were $719 million at the end of the first quarter, $185 million lower sequentially, and down by $91 million compared to the prior year period. Our cash deposits decreased as expected as a result of higher deliveries on a number of ramping projects. Cash cycle days were 69 during the first quarter, down three days sequentially, and six days lower than the prior year period. Moving on to cash flows.

Capital expenditures for the quarter were $40 million or approximately 1.8% of revenue, flat compared with the prior year period. Consistent with our discussion last quarter, we continue to expect our capital expenditures for 2024 to be between 1.75% and 2.25% of revenues. During the first quarter, we commenced operations at two of our new facility expansions, the first phase addition to our Thailand facility, and the 80,000 square foot expansion at our Kulim site in Malaysia. We remain on track to complete the second phase of our Thailand facility expansion by the first half of 2025, which will add more than 100,000 square feet of manufacturing floor space to support our programs with hyperscaler customers. Turning to our adjusted free cash flow, we generated $65 million in the first quarter compared to $9 million in the prior year period.

Moving on to some additional key metrics. At the end of the first quarter, our cash balance was $308 million. In combination with our approximately $600 million of borrowing capacity under our revolver. This provides us with liquidity of approximately $900 million, which we believe is sufficient to meet our anticipated business needs. Our gross debt at the end of the first quarter was $632 million, leaving us with a net debt position of $324 million. Our first quarter gross debt to non-IFRS trailing 12-month adjusted EBITDA leverage ratio was 1.0 turns, down 0.1 turns sequentially, and down 0.3 turns compared to the same period last year. As of March 31, 2024, we were compliant with all financial covenants under our credit agreement. During the first quarter, we purchased approximately 460,000 shares for cancellation under our normal course issuer bid at a cost of $17 million.

We intend to continue to repurchase shares on an opportunistic basis in 2024. Now turning to our guidance for the second quarter of 2024. Revenues in the second quarter are expected to be in the range of $2.175 billion to $2.325 billion, which, if the midpoint of this range is achieved, would represent growth of 16% compared to the prior year period. Second quarter adjusted earnings per share are expected to be in the range of $0.75 to $0.85, which, at the midpoint would represent an improvement of $0.25 per share, or 45% compared to the second quarter of 2023. If the midpoint of our revenue and adjusted EPS guidance ranges are achieved, non-IFRS operating margin would be 6.1%, which would represent an increase of 60 basis points over the same period last year.

Our adjusted SG&A expense for the second quarter is expected to be in the range of $67 million to $69 million. We anticipate our adjusted effective tax rate to be approximately 20% for the second quarter, excluding any impact from taxable foreign exchange or unanticipated tax settlement. Consistent with our approach last quarter, our guidance assumes that our income will be subject to global minimum tax. Now turning to our end market outlook for the second quarter of 2024. In our ATS segment, we anticipate revenue to be down in the high single-digit percentage range year-over-year, driven by demand softness in our industrial business, partly offset by growth in A&D and capital equipment. We anticipate revenues in our communications end market to be up in the mid 40 percentage range year-over-year, driven by strengthening demand for HPS networking products from hyperscaler customers.

Finally, in our enterprise end market, we expect revenue to be up in the low 20 percentage range year-over-year, driven by anticipated demand growth in AI/ML compute programs from our hyperscaler customers. I’ll now turn the call back over to Rob to discuss the outlook for each of our end markets and the overall business.

Rob Mionis: Thank you, Mandeep. Before discussing the outlook for our end markets, I would like to provide an update to our annual financial outlook for 2024. We are pleased to be raising our full-year outlook based on our solid performance in the first quarter and the positive momentum we are seeing across a number of our businesses. We now expect revenue of $9.1 billion in 2024 and adjusted EPS of $3.30, which would represent a growth of 14% and 36%, respectively, compared to 2023. Our non-IFRS operating margin is now expected to be approximately 6.1%, which would represent a 50 basis point improvement compared to 2023. Finally, we are raising our adjusted free cash flow outlook to $250 million for the full year. Now moving on to the outlook for our businesses.

Beginning with our ATS segment, within ATS we continue to anticipate a decline in the first half of 2024 compared to 2023 and for year-to-year growth to resume in the back half of the year. As a result, we are now expecting ATS segment revenues to be approximately flat for the full year in 2024 compared to 2023. In our industrial business, we believe that key sub-markets, including EV charging, smart energy, on-vehicle and factory automation will continue to be supported by favorable secular trends in our economy over the long term and will help drive robust and sustainable growth in our industrial business in the coming years. However, in the near term, the industrial business continues to experience softness across a number of our submarkets, driven in large part by EV charging as the industry works through an inventory backlog amidst a slowdown in demand for electric vehicles.

However, we do expect demand to improve as the year progresses and for revenues to show sequential improvement throughout 2024 with a return to year-to-year growth expected by the fourth quarter. In our A&D business, the recovery in air traffic continues to drive solid commercial aerospace growth. We expect broad-based demand strength in our commercial aerospace portfolio to persist throughout 2024. We also anticipate healthy growth in our defense business this year, supported by the ramping of new programs. In our capital equipment business, we are seeing early signs of a recovery, with revenue stabilizing both year-to-year and sequentially in the first quarter. The latest third-party forecasts are now calling for an improved demand outlook for the wafer fab equipment market in 2024, supported primarily by a recovery in the memory market.

Within our portfolio, stronger base demand and the ramping of newly-run programs are affirming our outlook for a return to growth in 2024. Market forecasts currently suggest that capital investments by chip manufacturers will continue to grow into 2025 in order to support demand for processes used in generative AI applications and increase silicon content in products within other sectors such as automotive. We anticipate that these trends will support continued momentum in our portfolio into next year. Now turning to our CCS segment. Based on the strong outlook in our CCS segment, we are raising our expectation for revenue growth to the mid-20s percentage range for 2024, supported by solid demand in both our enterprise and communications end market.

The demand strength from our hyperscaler customers continues to support very strong growth in our CCS segment. In 2023, hyperscalers accounted for 62% of our CCS segment revenues, and we expect that number to grow in 2024. As we have discussed in recent quarters and at our November 2023 Investor Day, the growth in demand for new AI and machine learning applications remains the primary driver underpinning this investment cycle. We continue to believe that this secular scene is durable in its nature and is likely to support continued demand strength for our CCS offerings into 2025. As such, we are continuing to make the necessary investments, including a capacity expansion and engineering capabilities in order to maintain our position as a leading provider of critical products and services for the data center.

Now moving on to our end markets. The demand outlook for our enterprise end markets remains very healthy, as we continue to benefit from the growing investment in AI/ML compute capacity by hyperscalers. We anticipate enterprise demand to remain strong in the coming quarters, supported by increasing AI/ML compute deployments and new program ramps. Our communications end markets saw stronger than anticipated demand to start the year, and we expect this momentum to accelerate in the coming quarters. We anticipate sustained growth throughout 2024, supported by strong demand from hyperscalers customers for HPS networking products and the ramping of new programs. Within our HPS business, the demand largely mirrors that of our communications end market.

Our outlook calls for sustained double-digit growth throughout 2024, supported by increased deployment of networking infrastructure from hyperscalers. That’s our period of inventory digestion in 2023. In addition, new program wins, including for our 800G platforms, are expected to ramp throughout the year and into 2025. We feel that our portfolio is well positioned for another very strong year in 2024. We continue to prioritize the fundamentals, adherence to our strategic roadmaps, solid execution, and prudent decision-making, and all of our businesses, regardless of the dynamics at play within the underlying markets. We remain confident in our ability to deliver on our financial targets and continue generating long-term value for our shareholders.

With that, I would now like to turn the call over to the operator for questions. Thank you.

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Q&A Session

Operator: Thank you, presenters. And ladies and gentlemen, we will now begin the question-and-answer session. [Operator Instructions] Your first question comes from the line of Robert Young of Canaccord Genuity. Your line is now open.

Robert Young: Hi, good morning. Congrats on the quarter. The first question I had was related to the full year guide. If we just simply take the Q1 and Q2 guide out of there, it implies a deceleration in the top line in the second half. And so, just curious if that’s visibility into the second half or is there something specific to call out there or any other factor?

Rob Mionis: Yes, good morning, Rob. Thank you. So hyperscaler demand remains healthy across multiple markets, and demand signals remain healthy, but really it comes down to visibility and you touched on it. So hyperscale customers generally provide about a 12 month outlook, but beyond six months, there are some demand dynamics at play. Demand continues to exceed supply, so as material availability improves, orders accelerate. And then secondarily, there’s some variability in customer deployment plans, driven by customers resource constraints or to some extent technology transitions. So our visibility into the fourth quarter is a bit murky. It should firm up in the next few months, but hence our view of a flattish relative to the first half [indiscernible] full-year outlook.

Mandeep Chawla: Yes. Hey, Rob. Mandeep here. Just to build on what Rob was mentioning. The [90, 100] (ph) reflects 14% year-over-year growth. And to your point the second half year-over-year is a little bit lower than the first half, but still a strong double digit set of numbers. I think the important thing to take away is that, the demand environment in CCS in particular remains healthy. We’re not seeing areas of concern, but we are being mindful of things such as material availability and going back to our customers and saying, look, Q2 came in stronger than what we had thought it was going to be, what are the implications for the back half of the year? And so those discussions are continuing.

Robert Young: Okay, thanks. That’s very helpful. Second question for me would be on the customer concentration. I think last quarter you suggested that networking recovery would maybe help that out a little bit and so with HPS returning to growth, I was surprised to see the concentration actually go up and so is that networking plus AI at that first — that largest customer or is there any other dynamic at play and then I’ll pass the line.

Rob Mionis: Yes. You hit on it Rob, which is, 34% with our biggest customer, at the same time we saw a very large level of growth happening in comms, and it’s continuing into the second quarter. And it just underscores what we had talked about last quarter, which is, we do a number of programs, 20 plus programs with this largest customer. And so not only are we seeing demand strength on the compute side with that large customer, but we’re also seeing an acceleration now on the switching side as well. And so we’re happy that our portfolio is able to support them in multiple areas.

Mandeep Chawla: And I’ll add that beyond that our top customer growth remains very healthy across a number of our hyperscale customers as well along those same platforms, the comms enterprise.

Robert Young: And just as a follow on there, the HPS growth I assume is driven by 400 gig switch. Is that spread across a larger number of customers? Is it broader than just that large customer? Maybe give us a sense of how many customers you have there or how broad that business is?

Rob Mionis: Yes, 400 gig is across a number of customers. We’re also ramping 800 gig switches this year and into next year. Next year, additional customers will come on on 800G switch ramps. On HPS, it’s also important to point out that HPS is not just limited to networking, there’s also a fair amount of HPS content in compute modules these days as well.

Robert Young: Okay, thanks. I’ll pass the line.

Operator: Thank you so much. And your next question comes from the line of Daniel Chan of TD Cowen. Please go ahead.

Daniel Chan: Hi, good morning. And maybe just to top up on that communications question. As you get more mix of 800G, how does that affect the financials? In other words, what is the price and margin profile difference between an 800G and a 400G program?

Rob Mionis: Hi, Dan. Thanks for the question. So the ASPs, of course, change a little bit as you go from 400G to 800G. They’re not necessarily twice as much. And so, it’s really a conversation of how many units are being shipped, et cetera. I think if we were to just up-level it and look at overall revenue, we expect revenue growth to be higher year-to-year as the 800G deployments happen. To the question that you’re asking, 400G demand has really — as you know, communications slow down because of an inventory overbuild. We’re now seeing customers not only work with us on program development around 800G products, but also taking 400G products in the meantime as well. And so, it’s nice to see that we’re actually shipping both products right now. We would expect naturally for 400G to start slowing down going into next year. That filled more than one-for-one on the 800G side.

Daniel Chan: Thanks, that’s helpful. When you talk to your cloud customers and you look at the AI data center architecture, do you get the sense that the mix of your products within an AI data center could be higher than what was done for a traditional data center?

Rob Mionis: That’s a hard one to discern, but what I do know is, we have all the solutions that our customers need that go into an AI data center, and we’re currently providing them, so hence we’re firing on all cylinders. We have HPS content across compute modules. We provide high-value EMS across compute modules. We have HPS content on 400 and 800 switches. And we’re also in advanced development on future generation network devices. And we also, as you know have storage solutions both the HPS and traditional as well. So our customers are really taking advantage of our full solutions.

Mandeep Chawla: Dan, as you know not all hyperscalers are created equal and there are some hyperscalers that lean towards more complex, challenging product deployments, and that really works out well for us. The reason that you’re seeing the amount of growth that we’re showing in HPS is because those are the solutions that really fit the demand requirements of certain hyperscalers. And so, as we see this shift towards more AI type of data centers, it implies more complex product, which is, what we want to see.

Daniel Chan: Great, that’s helpful. Maybe squeezing one more in on the enterprise, the enterprise growth is expected to decelerate next quarter. Have you been successful in diversifying your hyperscale customer base in AI compute, just giving your experience with servers using custom AI chipsets. And if so, what does that ramp look like? Or is this the new run rate for the remainder of the year? Thank you.

Rob Mionis: Yes, I’ll start off with that. Mandeep, finish the second quarter dynamic in terms of enterprise up in the 20s. The main driver is really tough comps from a year ago. What we’re seeing in the second quarter is also storage demand declining, but we’re seeing very healthy steady demand from compute as well. We’re also, as we mentioned earlier, happy that comps was up significantly, and CCS is up significantly as well.

Mandeep Chawla: Yes. Dan, what I would say is that the enterprise revenues, especially as we go into the second quarter, continue to increase on a sequential basis. And as we did talk about, the demand signals continue to be healthy. We do serve a number of customers on the server side, but I think what’s important to look at comes in enterprises side is as we up-level it to total revenue with our hyperscalers, we’re seeing that growth continuing. They’re shifting CapEx now and then from one type of product deployment to another, but overall continuing to see strong top-line growth with hyperscalers in aggregate.

Daniel Chan: Thank you.

Rob Mionis: Thank you, Dan.

Operator: Thank you so much. Your next question comes from the line of Matt Sheerin of Stifel. Your line is now open.

Matt Sheerin: Yes, thank you. A couple of questions for me, please. One, Mandeep, just on the balance sheet, I saw that the inventory — gross inventory was down and net inventory was down, where your cash deposits were also down, yet you’re growing significantly. So, could you talk about the dynamics going on there? And given the growth in the hyperscale business, are you seeing a shift in terms of consignment inventory that you’re not passing through your COGS?

Rob Mionis: Thanks for the question, Matt. So, yes, strong working capital performance, happy with the free cash flow that we generated, $65 million, happy that we’re able to raise the overall free cash flow number for the year to $250. We want to continue to monitor how healthy our conversion is, and we’re comfortable with the conversion ratios that we have. And we try not to say it anymore, but as you know, over five years of positive free cash flow every quarter. Under the covers, as you’re hitting on it, we are seeing some unwind on the inventory side as we were anticipating. Our inventory turns are improving, and it’s really a function of continuing to be collaborative with our customers and seeing lead times come in. Lead times on semis as well as passives are now under 20 weeks, which is allowing us to do some of that unwind.

The deposits were also unwinding, again, as expected because we were always working with our customers saying as long as lead times are really extended how do we come into a model where they can help fund some of that. As they’re coming in now we’re happy to return the deposits and still generate positive free cash flow. Your point on inventory build, from a dollar perspective, inventory may go up as we go through the year, but we’re very focused on turns. And we don’t think that the turns are necessarily going to take a step back. And then in terms of consigned, non-consigned, nothing really to note in terms of any differences.

Matt Sheerin: Okay. Thank you for that. And I wanted to just ask a question on the competitive landscape. Obviously, you’re gaining market share, particularly with the one hyperscale customer. There is some concern that we’re seeing more competition from your North American EMS peers, but also, obviously, from the ODMs in Asia. Could you talk about your competitive edge and whether you expect your large customer to bring on other suppliers and what does that do to your dynamic in that relationship?

Rob Mionis: Yes. Hi, Matt. This second sourcing in the EMS ecosystem is nothing new. What typically happens is, new programs are single sourced from the onset, and over time as the technology matures, a second source is brought into the equation, usually enabling the primary source to introduce next generation products. And this is currently at play in some respects. There’s a competitive dynamic where a second source is being brought on to help our customers. In other cases, we’re the benefactor of being a second source to some of our competition, so it goes both ways. Also I would add that on HPS products, there’s a little bit of a different dynamic at play. HPS products are typically single sourced for the life of the program.

And that’s given the stringent qualification process. And also next generation products typically are awarded to the incumbent, assuming strong initial performance, because switching costs are also prohibitive. And again, within our AI/ML data center offerings, a lot of our high value EMS programs are transitioning to HPS products over time because of the value add we’re able to bring into the equation, which we think is a competitive edge versus our EMS peers.

Mandeep Chawla: Matt, maybe just to add on one point, which is, as we all know, the pie continues to get bigger. The CapEx spend across the top hyperscalers who we all support is growing materially this year. Everyone knows that. The expectation is that, there’s going to be a good level of growth going into next year as well. And so, as the pie continues to get bigger, our revenue with the hyperscalers is also continuing to grow. When second sourcing is happening on less complex products, the positive way to look at that is, it allows us to redeploy capacity to the more complex products. And the more complex products are what Rob just mentioned, whether it be HPS or heavy engineering content. And so, there had not been any dynamics on the competitive landscape, I would say, that has surprised us. It’s really playing out as expected.

Matt Sheerin: Okay, great. Just in line with that, are you still — you’ve talked about being sort of exclusive in terms of the AI/ML programs, is that still the case with your big customer?

Rob Mionis: No, I wouldn’t say so. I would say, it’s on a program-by-program basis, Matt. Some programs were exclusive, some programs were not, and those dynamics, as I mentioned earlier, might change over time. [Multiple Speakers] through the product life cycle.

Matt Sheerin: Got it. Okay. Thanks very much.

Rob Mionis: Yes.

Mandeep Chawla: Thanks Matt.

Operator: Thank you so much. Your next question comes from the line of Thanos Moschopoulos of BMO Capital Markets. Your line is now open.

Thanos Moschopoulos: Hi, good morning. If we look at your CCS growth in the quarter outside of your largest customer, that growth rate has been up there a bit more subdued. Is that just a function of how you’ve been prioritizing capacity to have to do with perhaps some tough year of your comps on the programs you’re exposed to those other hyperscalers or any color you could provide be helpful?

Rob Mionis: I’ll start off and I’ll let Mandeep finish. But it’s not a function of capacity. I would say, we do have ample capacity at our sites, and we’re also building forward, investing forward, to make sure it stays that way. As mentioned in the script, our Kulim factory just came online, and we have additional Thailand capacity that’s coming online in the second half of 2025, but currently ahead of schedule. It really has to go with the buying patterns and capacity expansion plans of our hyperscalers. They all have different investment cycles and different expansion plans, so it’s kind of their bio rhythms and we’ll be able to kind of happy to support each of them. Some are heavier this year, some might be heavier next year.

Mandeep Chawla: And just to build on that, Thanos. So, the growth that we saw in the first quarter that you’re seeing in comms is the — being started off by our largest customer. What we’re encouraged with is that, the growth that we’re seeing in comms going into Q2 is now spreading to the rest of the hyperscaler customers. And so, while the point you made is very valid as you look at the first quarter, when we’re looking at it in terms of the full year, we are seeing growth across a number of customers, not just one or two.

Thanos Moschopoulos: Okay. That’s helpful. And with respect to margins, maybe it’s too early to talk about 2025, but as we think about the fact that you’ve got this weakness in capital equipment and industrial, which might improve later in the year and into next year. And then, you’ve got the growing HPS mix. Is there any reason for why we should not expect margins to be sustainable or to expand next year? Any offsetting constraints which you think about?

Mandeep Chawla: Yes, I’ll start off and Rob can add-on if needed. We’re happy with the way that the margins are coming together. Clearly, 6.2% in the first quarter, highest in our history. And the outlook now that we’re providing at 6.1% up year-over-year. And when achieved will be the highest in the company’s history. From a mixed perspective, hyperscaler margins, because of the level of complexity that is involved, is accretive to the overall company. And so, as we continue to grow hyperscaler revenues we are looking to maintain CCS margins plus or minus a little bit. The opportunity I think as you talk about for next year really goes to ATS. So our outlook for ATS right now is to be below 5% on a full year basis. They did 4.7% in the first quarter.

But to your point, as the demand returns in capital equipment, which is profitable by the way, but as the demand comes back we get leverage benefits. And as industrial, which is a strong margin business, contributes more, both of those will help expand margins in ATS. And so, we think that we have some opportunities going into 2025.

Thanos Moschopoulos: Great. I’ll pass the line. Thank you.

Mandeep Chawla: Thanks, Thanos.

Rob Mionis: Thanks.

Operator: Thank you so much. Your next question comes from the line of Jesse Pytlak of Cormark Securities. Please go ahead.

Jesse Pytlak: Hey, good morning. When you think about the increased guidance for 2024 in the context of the numbers you laid out for 2025 and 2026 at the November Investor Day. Is the increase really — is it just, like you said, the pie getting bigger or is there some demand that’s maybe being pulled forward?

Mandeep Chawla: Yes. Hi, Jesse. First of all, welcome to the call, and really pleased to see Cormark providing some coverage. To answer your question, the demand signals continue to be healthy across the hyperscalers. To say that pull-ins are not happening probably wouldn’t be accurate because, as you see, we came in at above the high end of our guidance range in Q2 — excuse me, in Q1. And some of that was fulfilling demand that dropped in as we went through the quarter. As Rob had talked about, because it’s not a 12-month rolling forecast, we don’t have clear visibility to how that revenue that may have been out a few quarters is getting backfilled. But at the higher customer level, we’re not seeing shifts in the demand patterns.

And so, what that would imply is that, yes, we’re continuing to see strong growth in the back half of this year as we talked about at the beginning of the Q&A, double digit growth rates. The demand signals continue to be positive for data center deployments going into 2025. But then to your point, we’re already now ahead or pretty close to what our 2025 outlook was in April of 2024. And so, we’ll wait for six months to really give a better outlook for 2025. But right now, we’re not feeling like it’s feeling from 2025. The demand signals just seem to be that the overall tide is rising.

Jesse Pytlak: Okay, that’s helpful. And then can you just comment a little bit on what you’re seeing in the networking side of things, kind of beyond the hyperscalers, more in the traditional cloud space?

Rob Mionis: Yes. Most of our networking business is actually going to the cloud providers in terms of 400G and 800G switches. On the OEM side, we are seeing continued softness as the industry burns through some excess inventory. We do see some of that recovering in the back half of the year.

Mandeep Chawla: Yes. As you know, the OEM side of the business are exposed not just to hyperscalers, but also to small-medium businesses and those capital type of deployments have been impacted from the macroeconomic conditions, but we don’t believe that that demand is going to be permanently gone, but there does continue to be a slowdown outside of the hyperscaler market.

Jesse Pytlak: Okay I’ll pass the line.

Mandeep Chawla: Thanks, Jesse.

Rob Mionis: Thanks Jesse.

Operator: Thank you so much. Your next question comes from the line of Paul Treiber of RBC Capital Markets. Your line is now open.

Paul Treiber: Thanks and good morning. You’ve been very successful with your largest customer over the last couple years or you’re going to have. What’s your visibility and strategy to try to replicate that degree of success with other hyperscaler customers?

Rob Mionis: I would say we are actually replicating that success with other customers. And we have very strong positions with the majority of the big hyperscalers. We’ve won a number of new programs with those hyperscalers that are either in development or currently in ramping. So we’re not solely reliant on that one customer. And we have actually very healthy portfolios across a number of hyperscalers and across a number of platforms within those hyperscalers. It just so happens that our number one customer happens to be in heavy investment mode right now and those are driving some of the concentration numbers. Over time, those investment levels might come down, but other hyperscaler investment levels will increase. So our overall hyperscaler portfolio is actually very, very healthy.

Paul Treiber: That’s helpful to hear. The earlier comments on being comfortable with the customer concentration, is that — we’re not getting to a specific outlook for what you see in the customer concentration. Could you just give us a sense of why you’re comfortable with it at 34% this past quarter?

Rob Mionis: Yes, because it’s not a single program. It’s multiple programs across multiple technologies, crossing a decade, even over a decade of past relationships and with continued strong performance, not just on high value EMS, but across engineering engagements as well. So it’s a very sticky relationship, one backed by mutual respect and high performance. We never take these things for granted, but we’re happy with the breadth of solutions that we’re providing this customer.

Paul Treiber: And then just lastly, just on the capacity side of the equation, you mentioned that you do have capacity. Can you speak to your capacity utilization and how it compares to what you’ve historically averaged? And then are you seeing additional opportunities with your customers for co-investments in capacity expansion?

Rob Mionis: Yes, so capacity or utilization is extremely high in our Azure sites where the majority of our AI demand is fulfilled. Within our business, highly utilized sites and highly leveraged sites are very profitable sites, and that’s what you’re seeing in our results and we carefully manage our capacity. We have decided to invest in some additional capacity and we think those investments should take care of us for the next clip of time. We don’t foresee any need for any additional co-investments at this time. We think the expansions that we are underway should take care of us for a period of time and keep those high utilization rates.

Mandeep Chawla: Paul, just to add on to that, in November when we gave our Investor Day, we had provided a revenue outlook going up to 2026, the range was $9.5 billion to $10 billion. And we had stated at that time that we believe that we have the footprint now to fulfill that. So we don’t need to green field a brand new factory in a new country in order to keep up with that demand outlook. And so, one of the things that we’re pleased about is that, we believe we’re able to — while the CapEx may be a little bit elevated, more or less in line with our historical levels, while still being able to grow revenue.

Paul Treiber: Thanks for taking the question.

Mandeep Chawla: Thanks, Paul.

Operator: Thank you so much. [Operator Instructions] And your next question comes from the line of Todd Coupland of CIBC. Your line is now open.

Todd Coupland: Great. Thanks, and good morning, everyone. I wanted to ask specifically about compute. We’re seeing that decelerate into Q2 and into the second half of the year, what factors are you looking for in terms of reaccelerating that line? And give us any indication on when you think that might happen? Thanks a lot.

Rob Mionis: Yes. I’ll start. So compute in Q1 was up over a 130% year-over-year, compute in Q2 was up in the 70 percentage range on a year-over-year, I’d not call that within the first half of the year decelerating. As we go into the second half of the year, some of that is — at least our outlook is driven by a little bit of murkiness as we exit the year. But broadly speaking, compute volume and demand remains material constraint. So again, demand exceeds supply and as material availability becomes available that might give us an opportunity to increase our output. But this is a visibility that we have at this point in time.

Mandeep Chawla: Yes. And Todd, I would maybe just add to that to say, as we talked about when the demand cycle for hyperscalers started to really accelerate in the middle of last year is that, we believed it was going to start with compute and that it was going to start migrating over to AI type of networking which is 400G switches, but moving into 800G switches as well. And so, we’re starting to see that. Customers have a fixed level of capital and they choose on where they deploy that capital. And what we’re seeing right now is more of a shift towards the comp side. Because communications is a larger part of our portfolio, we think that we’re going to come out more ahead because of that. Not to say that compute is going away, because the other dynamic that we have to keep in mind is that, the comps now are becoming quite high. But overall, we are seeing healthy demand coming out of Q1 and going into Q2.

Todd Coupland: And if I could just follow up on that. Within compute, you’ve had this debate on merchant silicon versus custom silicon. And obviously, the hyperscalers are all coming up with their own custom processors. And that’s yet to come. I guess I would have thought that that might have started to flow into your business, and I’m just wondering if you could help bridge that gap of understanding? Thanks a lot.

Rob Mionis: Yes, Todd. We are definitely heavily tilted towards custom silicon versus merchant silicon. And we have been the benefactor of that switch. As you see from the announcements in the press, the hyperscalers are continuing to invest in custom silicon. And as these new custom silicon comes to market, we feel confident that we’ll be able to get access to them and also provide these types of solutions to our customers moving forward. So that trend is continuing, and I think we’re taking advantage of it.

Todd Coupland: Thanks for the color. Appreciate it.

Rob Mionis: Thanks, Todd.

Operator: Thank you so much. And there are no further questions at this time presenters. I would now like to turn the call back to our speaker Rob Mionis for closing remarks.

Rob Mionis: Thank you. Overall, I’m very pleased that we posted another solid quarter, and the strong momentum is giving us confidence to increase our outlook for 2024. I’m also very pleased by our continued strong execution and encouraged with our strong market position, especially with some new products like 800G and strong and growing markets. I thank you all for joining today’s call and we look forward to updating you next quarter.

Operator: Thank you, presenters. And thank you, ladies and gentlemen. This includes today’s conference call. Thank you for your participation and you may now disconnect. Have a good day.