Analog Devices, Inc. (ADI) Earnings Call Transcript & Summary

Okay. Great. Thanks, everyone. Chris Danely, your friendly neighborhood, semiconductor analyst here at Citi. It's our distinct pleasure next to have ADI, Analog Devices. We have Rich Puccio, the CFO. ADI is one of our favorite companies. And we think that one of the reasons or a couple of the reasons why we like the stock so much is you kind of get the best of both worlds. As we've seen at this conference, there's a lot of crosscurrents going on out there. I'll leave it to Rich to sort all those out, the Oracle of Boston. But whether or not we have this continued upturn and things get even better, ADI has the leverage as evidenced by, I think they've had the best revenue growth of any of their peers this year. On the other hand, if these macro issues do continue, and we have a little bit of a pause in the upturn. ADI has the high sustainable margins and generous free cash flow to prevent any [ damper ], minimize the damage from that. So you get the best of both worlds. At least that's what I tell people. Anyway so Rich, thanks for coming.

Thanks for having me.

You guys are probably one of the more recent companies to report. So if you could just give us just a brief recap from -- I think it was 2 weeks ago, the conference call, and then we'll dig in from there. And again, thanks for coming.

Appreciate you having me. So for us, and we've been talking about this for a while. We were pretty confident that industrial was going to lead our recovery back out of the cyclical trough, rewind back to our Q2 of '24. We felt like we had hit the bottom of the trough, and we expected that we would start to see some reacceleration in the business with some modest sequential increases in the back half of '24. And then as the cyclical and idiosyncratic drivers for ADI started to play in, we'd see more growth. And that has, in fact, started to play out. You saw in our results, very strong quarter growth led by our industrial business, which is important. That is the bedrock of our business. It's also the most profitable part of our business, and it has grown strongly, and we expect that it will grow again in Q4, which will be pretty far above typical seasonal for us to see as much growth as we've forecasted into Q4. And that's a really important part of our business. And one of the things as we've worked through the cycle and I think a little bit of the chop that we've all seen is not all of the subsegments, whether it's in industrial or -- our end markets have followed the same pattern. But for us, we've gotten to the point now where all of our end markets and in all of our geographies are growing on the industrial side. And we feel really good about some of the -- and we'll talk more about them as we go, I'm sure, some more of the idiosyncratic things at ADI that are helping us grow in addition to some of the cyclical pieces. Obviously, we had a really good overall result. And then from an end market perspective, the only thing that was a little bit different, which we talked about now for 2 quarters is we did have a little bit of incremental pull-in activity that we think is going to correct in the fourth quarter. And we've had 2 quarters now and they were a little bit different. So if you remember the conversations coming out of our Q2, we saw -- we thought we saw auto pull-ins and estimated that in Q2 in North America and Europe. And then in Q3, we saw some incremental pull-in activity in China. So when you look at the opposite of the strength we're seeing in industrial for 4Q, we will see a subseasonal quarter from an auto perspective as we get that correction behind us but we still feel really well positioned. And record -- '25 will be a record year for us from an auto perspective. Obviously, we continue to have very strong consumer results. We've talked about the broadening of our portfolio of sockets there, and we've had continued to have new wins ramping in that space. I feel really strong across both handsets, hearables, wearables, gaming devices. So that's been a strong part of our business. And then you look on the communications side, which for us is wireline and wireless. On the wireline side, we've continued to see really strong growth in support of the data center because in the data centers, we're selling in our optical modules and connectivity, and we're also selling in power management products and for hot swap power management, et cetera. So that's been a really strong market for us and growing very rapidly in the back half of the year. So that leads us to where we feel pretty good about where we are in the end of quarter and heading into the 4Q. And we -- as we've talked about a little bit, we are seeing the signs of the cyclical upturn that we've been talking about happening for us, right? We're now multi-quarters into pretty strong growth.

If we sort of take out the pull-in volatility, maybe talk about like how the recovery in your core business has gone, the other 95% of it. Maybe start with at the beginning of the year, a lot of uncertainty out there. You guys are one of the first companies to talk about, hey, business is getting better, bookings are getting better. I remember you were first to talk about the industrial business stabilizing a year ago where you said, hey, half of our industrial business is starting to get better than the other half is not. And then pretty soon it was -- everything is better. So maybe just if we ex out the pull-ins, we'll talk about that in a little bit, but your core business, how that sort of trended this year, starting in, I guess, the Feb quarter, the Feb?

So I -- there was a great tee up. We were really leaning hard on 2 parts of our industrial business, in particular, where we've talked about, we had real strength in our aerospace and defense business and real strength in our automatic test business. So those 2 pieces of our business were very strong from the get-go. And as you think about those, right, the aerospace and defense has been a good market and all of the external economic data and reporting about the increased spend military and otherwise, as Europe rearms itself and other parts of the world start doing that. We feel really good about where we're positioned there for -- currently and going forward on aerospace and defense. And then again, tied into this huge infrastructure boom is on the ATE. All of that infrastructure requires high-bandwidth memory, high-performance compute, which requires more complex testing, which means more content for ADI in the testers, and we have a very strong share in testers. So that was the initial part of the growth, right? And then as we started to progress into the year, and I talked about automation in a couple of quarters, we saw the automation start to turn and automation has now grown 2 straight quarters. We are seeing growth in our Digital Healthcare businesses, and we're also seeing growth in our -- any big energy management area. So across the industrial subsegment, we feel like we've done really well. And that's the idiosyncratic piece. Also, if you think about it from a cycle perspective, we were out in front of reducing inventories pretty quickly. So we've been reducing inventory, both in our channel and at our customers for the better part of 2 years now. And I think that positions us really well because we are at some of the lowest channel levels we've ever been. We're well below our sort of historical 7- to 8-week channel model. So we feel good about where we're positioned there. And the work we do to look at what's on our non-disti customers balance sheets from an inventory perspective, that has the signs there that has normalized back down to levels, and we see it in the orders, net new orders for some of those customers coming through. So we feel good there. And I still think there's room to run because if you think about the sort of the consumption line, assuming that, that industrial business would typically grow 5% or 6% CAGR over any period of time, you run that line out from pick your starting point to where we are today, even with the strength of the industrial recovery, we'll still be below that trend line. We're also still 30% below our peak in industrial. And I think that's an important thing. So I think that we continue to see room for us to grow given we're below that -- still below the trend line and below our peaks. So I think that's an important piece on the industrial side. And other than auto, all of our businesses are still below their peak values.

Yes. By the way, we had a couple of companies talk about how strong the aerospace and defense mil/aero businesses. How big is that for ADI? Is that like double digits percent of revenue?

Aerospace and defense is about 20% of our industrial.

20% of industrial. Got it. I'll take it. All right. So maybe just talk about, since you guys just reported the linearity of bookings last quarter. Did you see like a steady increase? Or was it a little more volatile, how that go [ as far ]?

Our booking was pretty linear, obviously increasing. And whether you look at it on a 4-week trail, 13-week trail, you looked at the actual just weekly bookings, it was a pretty linear progression throughout the quarter. Obviously, stronger on the industrial side, as we've talked about and probably a little bit weaker on the auto side, given what we've talked about previously, but pretty steady.

Another one of your competitors talked about the automotive...

I got to get on this first, so you can't compare me to everybody.

That's kind of the object of the conference. We're happy to put you on any time you want. So they mentioned that while the automotive order rates to the semis are down, like the end demand for autos is still pretty good, and they're just working through some inventory. Is that pretty much concurrent with what you guys see out there? Any guess as to when the automotive supply chain will be through digesting the inventory.

It's interesting. If I use what we see in our business, we never got as far out of place on inventory in automotive as maybe our other end markets. But also with what we've seen in the area where we continue to see some inventory burn, which had an impact on us was the BMS part of our auto business. But if you look across the rest of our business, I don't think other than this correction for the anomaly in the pull-in, I don't think there's still a big inventory burn there. And an important part of that auto story for us is the continued content gain, right? Because if you look at our business over -- pick it a 10-year or 5-year window, our auto business outgrows SAAR by low double digits. So -- and what's interesting, and you probably all see this, anybody who's bought a car recently whether it's a high-priced car, low or medium, there's more and more content. And so with our leading positions in connectivity, whether it's A2B or GMSL, functionally safe power. All of this in-cabin immersive experience, the Level 2 ADAS that's being pushed into cars, those are all real content gains for us. And so that 10% content gain that we got over a 10-year period. If you actually bifurcate that and look at the last 5 years, it's actually almost a 15% spread. Now it's a combination of content gain and some share gain, but a big piece of that is the content gain because we're continuing to see more sensor modalities and more microphones, cameras, speakers, et cetera, in cars that need connectivity and functionally safe power. So I think that positions us well in that market.

Got it. Yes. Just to touch on the industrial revenue. I mean it's really -- it's bouncing back pretty hard for everybody, but in particular, for Analog Devices, but this is a fairly common theme we've heard throughout the conference. Why do you think industrial is coming back so strong? Do you think it's just because for most folks, it was down 40-something percent, and we have to do some inventory replenishment. Has demand gotten a little bit better, some combination, something else out there. What's your sense as to why it's been so good. And you said it was still 30%?

On a trailing 12-month basis, industrial is still 30% below our peak. I do think an element of this is it was the most severe inventory correction we've ever seen, which -- and it lasted longer than we've typically seen a correction. And I think companies leaned out their balance sheets. But as the industrial piece starts to pick up. Now look, the macro signals are still mixed around industrial. But the build for the rebound for us has been pretty strong. And I think that the inventory treatment has varied by customer, by vendor, end by end market, which is a little bit of that choppiness that we're seeing -- but I still think the majority of that is because of the severity of the inventory overshipped during that run up after the supply change breakage.

Because your industrial business has bounced back so hard, has there been any change in lead times of any of the products? Have you started to run out of anything out there?

So we're -- the majority of our products are still running lead times under 13 weeks. Vince talked about on the call that we had some longer lead times in a few spots, particularly in aerospace and defense, which we expect will get corrected over the next quarter. But otherwise, we haven't seen any significant deterioration in our lead times. I think in a few of the high runners, maybe in ATE, we might be a little bit longer than 13 weeks on some of the parts, but the majority of our parts are under 13-week lead times -- which is -- it's great. It's also one of those limiting things from a visibility perspective for us because we are at 13 weeks.

Yes. We'll get the visibility in a second. One of the things that Vince did talk about was this macro uncertainty, and you mentioned it. Can you guys just define that a little bit? Is it just the whole tariff thing? Is it what you're hearing from your customers, what you're reading in the paper, all of the above?

So it's -- I'd say a couple of ways. And it's uncertainty both ways because it's the tariff and trade uncertainty. And for us, and we've talked about this before, the tariff and trade uncertainty is less about the direct impact to us, right? The impact of tariffs as they exist today is pretty nominal for us. But what it does matter is what is it doing to GDP and what is it doing to demand creation/demand destruction because our products are in a lot of end markets where there are tariffs already and does that drive down demand? And what does that do to GDP? So that's certainly an uncertainty, and that clouds the picture because two of the largest economies in the world, they're still in negotiations with our administration around the trade policies, right? So we still don't yet know where China and India will land on the spectrum. We've still got some potential even additional tariffs in our space specifically to come, right? So I think that's a level of uncertainty. Second piece, I mentioned a little bit, if you look at which for us, industrial this is a really good barometer for us. The PMIs have been choppy, right? They're hovering around 50, but we've had a couple of months of contractionary PMI. So you got to pay attention to that because it does -- has historically been a leading indicator for where we're headed. The other piece is uncertainty around SAAR, right? The number of vehicles are going to be produced. You look at the pressure, the rebates being removed in the U.S., the tariffs and the impact they're having on auto demand. And it's unclear what auto production plans might look like in '26. Now I feel good that we'll be able to get more than whatever SAAR is because of content. But we still don't have a good look in SAAR. So those are some of the things from a challenging macro perspective. The flip side is, given some of the other macro data and the pressure that's now on the Fed, we might see rate decreases, which the market has been pricing in a little bit, and there's a lot of anticipation for that, that could be positive. And if we can solve in the next 3 months, or between now and the end of the year, the remaining tariff things, getting some certainty will help us better shape the outlook for '26 broadly across our industry and our customers' industries.

If we look at auto versus industrial longer term, which end market for ADI do you think will grow faster, let's say, over the next like 3, 5, 10 years?

It's a great question. I mean industrial is the core of our business. And it is our most powerful franchise. And I think if you look at some of the continuing opportunities there where we see growth, whether it's the AI driven, whether it is the trend in automation and robotics, I think we'll continue to grow very strongly on the industrial side.

Okay. Great. And then in terms of geography, there's this whole China for China fear. Well, the last I checked, that's been around for like 25 years since I got into the business. How does that impact ADI, if any? And how is your China business trended this year?

Our China business has trended strong. It was the first into the downturn for us. It was the first out, and it has grown strong across all of the markets.

It's been your strongest...

Very dominant from a growth perspective on the auto side. But now more broadly, as the year progressed, all of the markets in China are growing. But that's also an interesting point for us is we're still below peaks in all of the end markets in China, except for auto and well below at least 30% below in each of the other ones. Auto has been super strong, but we're still well below peak in the others. And the competition there is strong, but we continue to deliver and win there. And look, we do a lot of those things, right? We have a design team in China that designs in China for China. We do have some small manufacturing through a partner in China. But it is a -- what we do today from a China perspective is a very low percentage is actually manufactured in China. But from a performance perspective, where they need the highest performance products and they still need Analog, they're still buying from us. Even in places where they've tried to push and get locals at the high performance and we're still winning. So I think that's an important differentiator for us as we tend to play more in the high performance and less in the good enough sort of low ASP area. The low ASP bands are not big part of our business.

You guys are -- thankfully, you're not there. We -- just to dig in a little bit on the auto space. Your industrial business has basically done the Statue of Liberty move this year. How is the auto business trended? And then I just wanted to clarify, have the pull-ins, have they been all in the auto business? Or has it been in other businesses?

So we have not seen that -- look, it's impossible to be perfectly precise.

Your crystal ball is way better than mine. So I...

Well, and people don't call and tell us they're pulling in orders. But we saw pretty clear signs both in our data when it was around bookings and what we were hearing from our field teams around the pull-ins in auto. And you could see we overachieved in Q2 in 2 regions, in auto that we didn't expect, which was the U.S. and Europe. And then we over -- China has been strong, and we weren't expecting it to be as strong in the third quarter. So that was confirmatory evidence to what we heard, and we do think that sorts itself out here in the fourth quarter. But overall, it continues to be a very strong growth market for us. We feel very -- like we're very well positioned. We had -- and if you want to think out more medium, long term, we had record design wins in China in '25, and we continue to see increased design wins in China, again -- sorry, record designs in '24 and increases in '25. And so we feel like we're very well positioned there in the market broadly, and we like the growth trend we're seeing there.

Okay. And with the business getting better, how has your visibility changed? Are you seeing like -- are you allocating for like less turns in general? Have you seen your turns business increase and has your visibility changed at all for, say, 3, 6 or 9 months versus last quarter, the quarter before.

So I would say visibility hasn't really changed much for us. We're probably...

So you think it's still flat.

Because of the relatively short lead times or in-quarter lead times, visibility is still largely out of the quarter. Do we have some order book in backlog that's beyond the quarter out? Yes, enough to give a concise point of view on where a quarter beyond where we are now. We just don't have that kind of data given the short lead times and the way customers order. And then what was your second part of the question?