Corning Incorporated (NYSE:GLW) Q3 2023 Earnings Call Transcript

Corning Incorporated (NYSE:GLW) Q3 2023 Earnings Call Transcript October 24, 2023

Corning Incorporated misses on earnings expectations. Reported EPS is $0.45 EPS, expectations were $0.46.

Operator: Welcome to the Corning Incorporated Quarter Three 2023 Earnings Call. [Operator Instructions] It is my pleasure to introduce to you, Ann Nicholson, Vice President of Investor Relations.

Ann Nicholson: Thank you, and good morning. And welcome to Corning’s third quarter 2023 earnings call. With me today are Wendell Weeks, Chairman and Chief Executive Officer; Ed Schlesinger, Executive Vice President and Chief Financial Officer; and Jeff Evenson, Executive Vice President and Chief Strategy Officer. I’d like to remind you that today’s remarks contain forward-looking statements that fall within the meaning of the Private Securities Litigation Reform Act of 1995. These statements involve risks, uncertainties and other factors that could cause actual results to differ materially. These factors are detailed in the company’s financial reports. You should also note that we will be discussing our consolidated results using core performance measures, unless we specifically indicate our comments relate to GAAP data.

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Our core performance measures are non-GAAP measures used by management to analyze the business. Third quarter GAAP EPS reflected restructuring and asset write-off charges, realized gains and unrealized non-cash mark-to-market losses on currency hedging contracts and non-cash mark-to-market adjustments associated with the company’s Japanese yen denominated debt. As a reminder, mark-to-market accounting has no impact on our cash flow. A reconciliation of core results to the comparable GAAP value can be found in the Investor Relations section of our website at corning.com. You may also access core results on our website with downloadable financials in the Interactive Analyst Center. Supporting slides are being shown live on our webcast. We encourage you to follow along.

They are also available on our website for downloading. And now I will turn the call over to Wendell.

Wendell Weeks: Thank you, Ann. Good morning, everyone. Today we reported our third quarter results. As expected, sales were $3.5 billion and EPS was $0.45. Gross margin expanded sequentially to 37% and free cash flow improved to $466 million. Our results demonstrate solid progress on the programs that we have put in place to increase price and improve productivity while lowering inventory. These initiatives led to improved gross margin and cash flow in the quarter despite volume coming in at the low end of our expectations in Optical Communications as carriers continue to draw down inventory and in Display Technologies as panel makers lowered utilization at the end of the quarter. Now let me share a couple of highlights for the quarter.

I will start with gross margin. We drove an 80-basis-point sequential expansion to 37% on consistent sales, driven primarily by our pricing actions in Display. Additionally, if you compare the third quarter of this year to the fourth quarter of last year, when we launched our comprehensive plan, sales are down almost $200 million, yet we have expanded gross margin percent by 340 basis points. Looking to the fourth quarter, we expect gross margin to be similar even with sales down sequentially. Moving to cash generation, free cash flow of $466 million grew sequentially by $156 million and grew year-over-year by $211 million, up 83% on lower sales. Our gross margin improvements and our ability to run with lower inventory levels, as well as lower CapEx levels are driving these results.

Now this all leads to significantly improved free cash flow conversion and we expect to convert profit to cash at a strong rate going forward. Overall, our results in the quarter illustrate that we continue to make solid progress to reset our price and cost levels to enable an even stronger profit and cash flow cycle as our market volumes revert to mean. We also continue to demonstrate progress on our More Corning technology efforts. We extended our market leadership by collaborating with Apple to deliver durable glass with infused color, a first for any smartphone for the back of the iPhone 15 and iPhone 15 Plus devices. These devices also feature Ceramic Shield, which we collaborated on with Apple to deliver a cover material with unparalleled smartphone performance.

We also recently announced Corning Viridian Vials. This new technology can improve filling line efficiency by up to 50%, while reducing vial manufacturing carbon dioxide equivalent emissions by up to 30%. And just yesterday, we announced an expanded collaboration with long-time customer AUO to accelerate the production of their industry-leading large format curved Automotive display modules using our patented ColdForm technology. Stepping back, we are on the right track, enhancing profits, improving cash generation and delivering new products that capture More Corning content opportunities, all while maintaining our leading market positions. The area that continues to be problematic is our customer demand, especially the weaker carrier sales in Optical.

So although we have hit our guidance to you for 11 consecutive quarters, weak customer demand has put us consistently at the lower end of our sales expectations over the last year even as we are outperforming on price and productivity plans. More importantly, we are well below the trend line for our operations profile. We have the capacity and the capability to deliver $3 billion plus in additional sales with minimal additional cash investments. As a result, this revenue will have powerful incrementals as it returns as long as we keep our capacity and our capabilities vibrant and ready to go. So as we assess our operations profile, we ask ourselves two broad questions. Will our revenue return and when? The first question is relatively straightforward to address.

We simply ask ourselves, what are the long-term trends in our markets and where are we now versus those long-term trends? And then, of course, we need to feel confident that we will win in those markets. Are we the clear market leaders with superior technology offerings, lowest cost platforms and are we advancing More Corning opportunities to increase our value capture for the same volume. So first, let’s look at the trends in our markets. We build our capacity and capabilities around long-term trends. We then modulate our operations and staffing around current volume run rates. So we must understand where our volume run rates are versus trend at all times. We do this for each of our businesses. Let me give you just one example, optical fiber as a good illustration.

Here, you see industry shipments measured in fiber kilometers since the beginning of 2004. The trend line shows a 6.6% compound annual growth rate over the last decade. As you can see, the industry has been operating below trend line in the first half of 2023. Because industry shipments are reported with at least a quarter or two delay, I am going to switch to our own shipment data so that we can bring you up to real time, what we saw over the last few quarters and what we are projecting for quarter four. First thing to notice is, the trend line for our shipments has a 7.3% CAGR over the same 10-year period. We have been growing faster than the market. Now this just makes sense with everything we have shared with you about our More Corning strategy.

Quarter one of 2023 was basically on track and our shipments started dropping away from the 7.3% CAGR line in quarter two and even more so in quarters three and quarter four. Currently, our shipment run rate is at least 30% below trend line. You can think about the 30% plus gap is carrying through all of our Optical revenues. Remember that fiber accounts for only a portion of our sales, we have significant value to our fiber with our cabling and connectivity solutions. So this gap to trend ripples through our entire Optical product portfolio. We feel the demand drop in our fiber sales, cable sales and equipment sales. We are confident that we will return to the long-term trend line. We believe that as customers deplete their inventories, the industry and our sales will resume growth.

Just returning to trend adds more than 40% to our revenue run rate for Optical Communications. So that’s what we mean when we say we will revert to mean and fiber is just one example, we use a similar methodology for key product lines in each of our maps, Automotive, Display, Mobile Consumer Electronics and Life Sciences, all of them. are showing a gap versus long-term trend lines. Right now, because we are operating well below long-term trend lines, we see an enormous opportunity as our markets revert to mean. Now as I noted a moment ago, because we anticipate this recovery across our markets, we need to know we will win as they bounce back. Are we maintaining our leadership position in advancing opportunities to grow faster? In short, yes, are we have built a more advantaged position for 80% plus of our revenues over the last few years.

We are the technology leader, as well as the lowest cost producer, and we have built more opportunities to capitalize on growth in our markets, increasing our value capture with our More Corning approach. Let’s look at a few examples. In Optical Communications, fiber optics remains the ascendant technology with growing applications in wireless, cloud computing, including AI and government efforts to connect the unconnected. Within each of these applications, we have new product innovations that will increase our revenue per installed fiber as those applications grow. We are building on our undisputed global cost and technology leadership position, along with our market leadership in North America. In Automotive, new U.S. EPA regulations go into effect starting in 2027.

These new regulations force adoption of gasoline particulate filters and we are the inventor and clear market leader in GPS. We expect to see sales as early as 2026. In terms of More Corning, this adds 2 times to 3 times the content opportunity for ICE vehicles in the U.S. This means significant growth in our environmental business even in the face of global BEV adoption. In fact, we will still grow environmental sales up until BEV adoption reaches 40% of all vehicles globally and that is not forecast to happen until the next decade. Keep in mind, we have also built new revenue platforms with the successful introduction of our auto glass for interiors, which is being widely adopted in BEVs and offers hundreds of millions of dollars of growth opportunity for us.

In Display, we have been and continue to be the undisputed leader in technology, quality and cost. Our successful development and capability in Gen 10.5 technology aligns with the continued move to larger size TVs with the lowest cost platforms for large displays. We continue to improve productivity, which allows us to free up assets to serve Gorilla Glass, Glass Ceramics and our growing Automotive Glass business. Finally, we continue to build entirely new product platforms that allow us to enter new categories for growth, examples include pharmaceutical packaging, automotive exterior glass for high autonomy systems and the rapidly growing opportunity to reassure U.S. solar capacity. In total, this amounts to a $3 billion plus incremental sales opportunity with minimal cash investment.

Taken together, that’s why we believe our revenues will recover. The next question is when? The answer to this question is less clear. Conventional wisdom is that customer demand in telecom display, semiconductor, smartphones, tablets and notebooks, bounces back in the second half of 2024. That seems plausible to us, but rather than trying to predict the timing of the recovery, we will continue to guide one quarter at a time based on our order entry models until visibility improves. We will continue our programs to improve price, productivity and cost so that we improve profitability and cash flow despite our muted sales outlook. This serves both the purpose of providing enhanced performance near-term, and more importantly, providing a better price and cost springboard for profitability as our volume reverts to trend.

Simply put, we have the ability to deliver another $3 billion plus in sales with powerful incrementals and minimal cash investments. This represents such a significant opportunity for our shareholders that will maintain this powerful platform throughout this down cycle, all while we continue to improve our near-term profitability and cash flow. This is how we are steering our way through this period and I look forward to updating you on our progress. Now I will turn the call over to Ed so we can get into the details of our results and outlook.

Ed Schlesinger: Thank you, Wendell. Good morning, everyone. In the third quarter, our sales were $3.5 billion, gross margin was 37%, EPS was $0.45 and free cash flow was $466 million. This was in line with our expectations. However, I want to point out that volume in both Optical Communications and Display Technologies was below our expectations. This was offset by strong sales in Specialty Materials. Our gross margin was up 80 basis points sequentially on consistent — on sales consistent with the prior quarter and 340 basis points from the fourth quarter of 2022. Free cash flow was up $156 million sequentially and $211 million year-over-year. The increase in free cash flow was driven by improved profitability and inventory reductions.

We also lowered capital expenditures in the quarter. Our improving profitability and cash, despite muted sales, demonstrates execution of our programmatic approach. Let me provide some details on our segment results. In Optical Communications, sales declined 14% sequentially to $918 million, reflecting lower order rates from carriers as they continue to draw down inventory. Net income was $91 million, down sequentially reflecting lower volumes. Looking ahead, we are not counting on improvements in our orders over the next six months. Longer term, we expect our growth to resume as customers complete the drawdown of their inventory. Additionally, we remain confident that the industry’s underlying growth drivers are intact, specifically, broadband, 5G, cloud computing and advanced AI.

There are also public infrastructure investments to help connect the unconnected and bring broadband to a much larger share of the U.S. population. In Display Technologies, third quarter sales were $972 million and net income was $242 million. Volume in the quarter was lower than our expectation. Net income grew 16% sequentially, reflecting the progress on our previously announced price increases. Here’s an update on what we are seeing in the business. In line with what we told you last quarter, we are on track to achieve double-digit price increases at our customers in the second half. The impact of these complicated agreements flow through our financials in both the third and fourth quarters. These pricing actions resulted in net income margin of 25% in the third quarter, up 3 percentage points from 22% in the second quarter.

On average, our customers are experiencing double-digit price increases with the majority of the impact in the third quarter. Year-over-year sales and net income were up 42% and 81%, respectively. Panel maker utilization declined as we exited the third quarter. And looking ahead to the fourth quarter, in line with industry reports, we expect panel makers to reduce utilization further from these levels and we expect the glass market and our volume to be down sequentially as much as low teens. Display industry analysts attribute the panel maker utilization decline to a wrestling match between panel makers and set makers over the significant panel price increases during 2023. This dynamic is expected to maintain a healthy supply chain exiting 2023, setting the stage for panel maker utilization to recover in the first half of 2024.

However, despite lower sequential volume, we expect to maintain or improve our profitability levels in the fourth quarter as we continue to see the benefits of our pricing actions. For 2024, we expect the pricing environment to remain favorable as we expect glass supply to be balanced to demand as multiple display glass makers have announced capacity reductions earlier this year. In Specialty Materials, sales in the third quarter were $563 million, up 33% sequentially. The improvement was driven by higher Gorilla Glass sales resulting from customer product launches in the quarter, which helped offset overall end market softness and continued solid demand for semiconductor optics drove another strong quarter for Advanced Optics. Net income was $72 million, up sequentially, primarily driven by higher volume and the adoption of premium cover materials.

Moving to Environmental Technologies. Sales in the third quarter were $449 million, up 6% year-over-year, driven by ongoing growth of gasoline particulate filter adoption in China, which offset expected softness in heavy-duty markets in North America. Productivity improvement actions helped net income grow faster than sales to reach $99 million, up 14% year-over-year. In Life Sciences, sales in the third quarter were $230 million, consistent with the second quarter. Sales were down year-over-year, reflecting significantly lower demand for COVID-related products in China and the impact of customers drawing down inventory. Net income increased sequentially to $13 million, driven by productivity improvement actions. Turning to Hemlock and Emerging Growth businesses.

Sales in the third quarter were $327 million, down 13% sequentially and 20% year-over-year, reflecting a decline in solar grade polysilicon prices and lower sales in pharmaceutical technologies as we completed the last of our volume commitments for COVID-related products in the second quarter. We are seeing continued strong demand for our solar grade polysilicon, which meets the need for a transparent, sustainable and traceable solar supply chain in the U.S. market. As a reminder, we have long-term take-or-pay contracts with our customers that have floor pricing mechanisms built in to help mitigate the impacts of spot market dynamics. Net income was a loss of $8 million, down sequentially driven by lower sales. Now let’s turn to our outlook.

For the fourth quarter, we expect sales to be approximately $3.25 billion, driven by continued weak demand in Optical Communications, sequentially lower volume in our Display business, reflecting lower panel maker utilization, typical sales patterns in Specialty Materials following significant customer product launches in the third quarter and the possibility that the labor issues in the automotive industry could impact our Automotive business more in the fourth quarter than it did in the third quarter. We remain focused on our actions to improve profitability and cash flow during this low volume period. As a result of our continued execution we expect to deliver another quarter of strong free cash flow and a gross margin percentage similar to the third quarter despite lower sequential sales.

We expect EPS of $0.37 to $0.42. Before I wrap up, I’d like to reiterate our commitment to strong financial discipline. We are maintaining a strong and efficient balance sheet. For example, we have one of the longest debt tenors in the S&P 500. Our current average debt maturity is approximately 25 years with only a little more than $1 billion in debt coming due in the next five years and we have no significant debt coming due in any given year. Let me leave you with a few final thoughts. In the near-term, we will continue our focus on improving profitability and cash flow despite the muted sales outlook for the quarter. At the same time, we will — we remain well positioned to capture significant additional sales with minimal cash investment and longer term we remain confident in our ability to outperform our markets as they recover and to grow beyond prior peak sales run rates with strong incremental leverage.

I look forward to updating you on our progress. Now I will turn things back over to Ann.

Ann Nicholson: Thank you, Ed. Operator, we are ready for the first question.

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Q&A Session

Operator: Thank you. [Operator Instructions] Our first question comes from the line of Asiya Merchant with Citi. Your line is now open.

Asiya Merchant: Great. Thank you. If I could just dive a bit on Display and I apologize to jumped on the call later, I had another call at the same time. But if you can just talk to us a little bit about how you kind of see the Display environment improving in the — as you guys look ahead, not just the fourth quarter, but due to 2024 as well and how we should think about the margin trajectory there? Thank you.

Ed Schlesinger: Yeah. Hi, Asiya. So a couple of things. So, first of all, as we talked about our price increases taking effect here in the back half of 2023. So that obviously improves our profitability in this space and we expect the pricing environment to remain favorable as we go into 2024. We talked about some glass makers taking capacity offline, which helps to keep supply and demand in balance. What we are seeing in the — with respect to volume and panel maker utilization at the end of Q3 and in Q4, we view that as improving as we go into 2024. So we would say that the volume environment improves in 2024, the glass volume environment improves in 2024 as well. Does that answer your question?

Asiya Merchant: Yeah. And if I may just…

Ann Nicholson: On the fourth quarter, I know there’s been some discussion on panel made utilization coming lower, but I am not — I just wanted to reconcile that with your comments that the panel maker utilization will increase as you kind of look ahead.

Ed Schlesinger: Yeah. We think that what’s happening in the fourth quarter is a temporary situation as panel makers and set makers work through their pricing environment. As you know, panel prices have increased throughout 2023. That said, we think the inventory levels, we exit the year with healthy inventory levels and retail doesn’t really have to improve for panel maker utilization to go up at some point in 2024, we think that’s relatively early in the year.

Asiya Merchant: Got it. Thank you.

Ann Nicholson: Our next question.

Operator: Our next question comes from the line of Martin Yang with Oppenheimer. Your line is now open.

Martin Yang: Good morning. Thank you for taking my question. On Display, do you feel that you have achieved what you set out to regarding pricing increase with your customers and do you expect additional benefits in 4Q from the price — pricing change relative to 3Q?

Wendell Weeks: Yes. So we are — these are super complicated agreements, okay? But fundamentally we are going to exit, we are going to have double-digit price increases as we flow through this back half. There will be further enhancement as we go into Q4. And all the dynamic that’s going on in our guide is we are also expecting panel maker utilization, which started to lower as we exited quarter three, we are expecting that to be pretty low through the quarter as sort of panel makers and set makers wrestle around pricing themselves and so that’s going to drive our volume down sequentially in quarter four. But we feel very good about the reset of the price and so we will continue to see those benefits in our profitability.

Martin Yang: Thank you, Wendell. I have another question relating to Display and Automotive. I think the agreement you have, are new customers as AUO for ColdForm technology is an interesting one as AUO itself acquired a Tier 1 supplier recently in Automotive. Maybe can you talk about the cost and effect there is Corning having a bigger presence in Automotive triggered the AUO due the same or AUO’s entry into Automotive led to a deeper collaboration between Corning and AUO Automotive Glass.

Wendell Weeks: Just because of the time cycles involved in materials development of our type of innovations, we start earlier, right? And then to have something novel like ColdForm just takes longer, right? What you are seeing is a lot of our long-term customers in Display are now looking to how do I apply those technology platforms to new areas. And what we have been able to do is help bridge them using our ColdForm technology and the strong access we have with Automotive players, right, to be able to bridge those long time customers to new market opportunities for them, all while they are sort of executing their move forward to add a lot more value to their Display Tech. I think it’s a great example of AUO, like intellects is another [ph], right, where some of these Taiwanese based players as they face the growing competition from the new big Gen 10.5 plants that we facilitated in China, they are finding good ways to use their capacity and their capabilities to enter the Automotive stack.

Martin Yang: Thank you.

Ann Nicholson: Thank you. Next question.

Operator: Our next question comes from the line of Meta Marshall with Morgan Stanley. Your line is now open.

Meta Marshall: Great. Thanks. Maybe a question just on the Optical business and just whether there’s any different trends between kind of your service provider customers and cloud customers, because kind of the 30% cutback in Q4 would be even more extreme, given the offsets of kind of cloud customers staying consistent. So I just want to get a sense of, is that trend line even more severe if you were just to take the service providers versus cloud customers? Thanks.

Wendell Weeks: The simplest way to answer that is yes.

Meta Marshall: And so maybe just any trends on the cloud customers would be helpful this quarter?

Wendell Weeks: 30% gap versus our long-term trend lines, that includes sort of what’s going on in cloud and so does our run rate, right, and the other apps. So, yes, that is giving you — you have a good understanding that the gap in that one area is even more dramatic than the 30% gap we are showing you in total.

Meta Marshall: Okay. Great. Thank you.

Wendell Weeks: Is that what you were asking?

Meta Marshall: Yeah. I mean that is kind of the point, but I guess, I am just trying to get a sense that cloud customers are not pulling back as severely as well. There’s nothing we should be noting on the cloud customers as well?

Wendell Weeks: Not that we are seeing. Now remember, cloud went through their own cycle sort of during the pandemic, right, and then adjusting to what they have to do with their value chains. And they are struggling now — not struggling, but the reaming a lot of their CapEx is being aimed to do a large language model training and that basically adds a second network on the back end, adds even more fiber optic connections. So we have yet to start experiencing the rapid growth that, that represents in our run rate, right? But cloud has been pretty stable.

Meta Marshall: Okay. Perfect. Thank you.

Operator: Thank you. Our next question comes from the line of Matt Niknam with Deutsche Bank. Your line is now open.