Avnet, Inc. (AVT) Earnings Call Transcript & Summary

All right. Let's go and get started. So I'm Joe Quatrochi, the components distribution analyst, here at Wells Fargo. Excited to have the Avnet team here, Phil Gallagher, CEO; and Ken Jacobson, CFO. Thanks for joining us.

Thanks for having us, Joe. Appreciate it.

So maybe to start, I think it might be helpful just kind of give us your view or how do you think about when you talk to investors you just said a full day of meetings, what do you think is the most misunderstood or maybe not -- or underappreciated by investors for the Avnet story? And like as you look out in the next 3 to 5 years ago, what is the biggest opportunity that you see?

Yes, it's a great question. And yes, we just met with a bunch of investors. So again, thanks for having us. It's been a good conference. Misunderstood -- misperceptions, we just came off 2 years of double-digit revenue growth, high double digits. We just closed our fiscal '23 runs July to June. We closed at record earnings per share. We are global. We're a diversificate -- diversified company from the standpoint of there's not 1 supplier or customer that's greater than 10% of our revenues. The verticals we serve, transportation, automotive, industrial, medical, defense, aerospace, consumer, heavily diverse, which is, again, great. And I think the part that just maybe not appreciating, I don't know it's undervalued. It's just what we do is we're in the center of the technology supply chain. I call it upstream. We're between our suppliers, some of the largest, highest tech companies in the world and 1 million-plus customers that are some of the highest tech companies in the world. And we're connecting those from demand creation to supply chain anywhere they want to go. So we just need to continue -- explain that story. We're proud of it, and we've been around for -- you actually know that we've been around for 102 years. So resilience. We've seen all kinds of different markets, ups and downs, and we managed through it well, and we will again. Ken, anything you want to add?

I just think the last few years, clearly, there's been tailwinds with the market and the market growth components. But we've proven that the distribution model works. And we can -- as we get scale, we can create operating leverage and you see that in the operating results and the margins. And we think there's more secular tailwinds to come, right, even though we're going through a correction period right now, we see lots of opportunities in all those markets, Phil talked about high single-digit growth type opportunities, and we're playing all those higher growing markets.

And Joe, you mentioned and what do we see in the next 3 to 5 years, right? Again, I've been with Avnet for 42 years. Next 3 to 5 years is exciting as it's -- I think it's going to be in my career here. I mean, just look in the last 5 years or 10 years to what the next 3 to 5 is going to bring from a technology standpoint. Your home, your auto, your bike, e-bike, trucks, tractors. It's just going electronics, okay? And pervasiveness is just phenomenal. So we're right, again, in the middle of that. And then in a way, this past 2, 3 years of COVID and supply chain breakdowns have really positioned us. It's kind of almost been a silver lining for us because when the supply chains breakdown, they're calling us. And we're having to hire more supply chain architects to help rebuild out the supply chain. I think the industry in general on supply chains kind of took that for granted. And now that people realize you've got a $0.25 ship holding up a $500,000 dump truck, they can't let that happen again, right? So they're calling us in and we're dealing with companies that we've frankly weren't dealing with before, large -- major large OEM manufacturers. So the next 3 to 5 years are exciting.

That's helpful. You had an Analyst Day 18 months ago, something like that. You outlined some medium-term targets and we can go into that a little bit later on. But like, I guess, a lot has happened since then in terms of the cycle and the shape of the cycle and everything. What maybe then the surprise? The positive has been a surprise. The negative, I guess, what's gone better than expected? What's not? Maybe just kind of touch on that and we'll dive into the segments a bit.

So I mean our time frame for last Investor Day was June of 2022 or so. And what I would say is the positive surprise that we've been the market and demand held up pretty well. We always kind of knew there was a potential correction coming. But we feel the demand held up pretty well. We've been able to exceed those growth targets we had there. Really, across the board, across all 3 of our regions, really, really strong growth and been able to leverage the OpEx model and get efficiency there to be able to drive that operating leverage and actually achieve earlier than expected our kind of medium-term targets in terms of operating margin. Clearly, the disappointment, I would say, would be a combination of the working capital days growth and the drag that had on cash flow. Clearly, there's opportunity there to create more free cash flow for the future. As well as our Farnell business, our Farnell business really peaked and now it's kind of come back down for various reasons. So I would say those are the 2 things that clearly, we still believe in hitting those targets, but it's maybe more disappointing a year into it. And the last thing I'd say is the capital allocation priority. Even though we've been in and out of buying back shares, we're still ahead of those targets in terms of we've reduced over the last fiscal year, 7% to 8% of our share count, which is on track for what we were thinking about in terms of capital allocation.

And we projected, to Ken's point, a 5% to 8% that growth rate is based on all the prognosticators out there and putting our own little formula to it. Some analysts said -- tend to say why would you go out that aggressive? We're like, well, that's what we see and that's what we've seen. So we're actually taking -- we're hitting those numbers and growing share. We've got some things you need to go work on Ken just pointed out, which we are [ mononymously ] going to go work on, okay, in the cash, inventory at Farnell but the other metrics, as I said earlier, we're pretty pleased with what we projected out to do and the execution.

Okay. That's helpful. Maybe in that segue, right, let's talk about the cycle, right, in terms of demand environment you're seeing. No 2 cycles are alike. But, I guess, want to talk about your current views of the cycle. How do you think about this down cycle relative to past and what's maybe different? Let's just start there.

Yes. So you're right. No 2 cycles are like. And like I said, we've been around for 100 years. I've been through in my 40-plus, quite a few cycles and none of them are the same. Look, we've had a great upcycle, right? There's been fraught with shortages and what happened because demand just went through the roof. Now we just got a little bit of a flip flop with that. I believe what I said in our last earnings call, Joe, is that I believe we have inventory correction has to happen, end markets, EMS, ourselves and some of our suppliers. I think we're at 2 to 3 quarters, maybe mid-2024, as we start doing a burn through that. And if that's the cycle compared to other cycles have been through [ assets ] we can manage that, okay? The difference, I think, I always call out the great -- the Y2K, the 2000 cycle. That was -- for those that have been around that, that was certainly the most painful. I was running the Americas at that time. And the business almost went in half, right? I mean you had all the telecom guys, you know who I'm talking about, I won't mention the names, all projecting 50% growth and 50% share and the whole industry kind of toppled, and that was pretty painful. Well, that business is all still there, right? And I got mobile, PC and then the pervasiveness of the applications of technology, the semiconductors and interconnect, capacitors, it's just everywhere. So I think that's the difference in this cycle versus previous ones, right? I think there I say it's off landing because we've never seen one in our industry. But it does feel that the underlying demand is still -- there's still underlying demand. Yes, book-to-bills are falling below parity. I'm fine with that. It was too overheated [ a day ] before. As lead times come in, it's a very natural thing for book-to-bills go -- to go below parity. But our backlog is holding a full case still. It's really -- it's a very interesting cycle to say the least. But I'm not bullish, I'm not there. So I'm like, hey, we can manage through this one.

I mean the backlog build, right, I mean you never see -- no one- you could pretty much throw a dart -- no company has seen backlog build like they've ever seen in this past, call it, 2 years, right? Do you see that as like sustaining like at higher levels, like through cycle, and that's kind of maybe what part of this smoothing things out?

I don't know. Yes, the backlog, I mean I would just say, it wasn't real. I mean you can't have book-to-bills at 1.8 to 2:1 for over years, not sustainable. So that's why I get on the call I'm like, "Hey, I'm fine with the adjustments and backlog." I think a lot of it has to do with the published lead times versus delivered lead times, okay? And how customers then adjust their MRPs, okay? And we -- for the audience, we've taken thousands of customers MRPs on a daily, weekly, monthly basis. So we get a pretty good aggregated view of it and put our own analytics around it. I don't think there's going to be a huge shift for us in the backlog. I think there's going to be bigger shift in the JITs and the leans and things along those lines. We're now -- of course, interest rates going up might change out a little bit, but when money was free, effectively, why were all these companies running so lean, okay? No inventory. And now they get the shortages, can't build out their trucks, cars, whatever it might have been. So I think you'll see a difference there as much as anything in the backlog.

I think just the demand across our diverse customer base has held up pretty good. And where we're not seeing inventory replenishment gets back into the inventory situation with our customers as they have maybe too much of certain products, they're not replenishing it, but there's still good demand for their end customers. It's just a matter of they don't need replenishment from us. So it's creating more inventory in the overall ecosystem than we'd care for. But other than that, the diversification is holding up across those end markets, and we're seeing some weakness there, but there's also some recovery in other markets. So I think that's -- the good thing here is some of these markets that have been down for several quarters now at some point, they're going to start to recover, which gives us a little bit of a lift if some of the markets that have been steady for us start to decline a little bit in demand.

Yes. Some of these markets that Ken just touched on, but I mentioned names, they really start to bounce back, okay? And we could be right back into some longer lead times again. I think the last thing I just want to make a comment on -- we tie the backlog. Our job is we're that shock absorber for the industry. So we've been there from day 1. Inventory, we're basically a bank in our own right, and we're really proud of the team that we thought going into COVID all the challenges going on supply chains. And we thought there will be a lot more companies that didn't make it, smaller companies. We service that long tail of companies, and I'm really pleased to say we're -- that we're not seeing that, okay? So -- and that's helping to manage their inventory, helping to manage their cash flow. You are not forcing things down don't need because we're in for the long haul. And that's a real credit to the finance and asset teams.

I mean it's fair to say -- characterize that as like that is different than past cycles and the way that just the industry in general has behaved that's fair.

Fair. Yes, yes, yes.

Okay. Maybe kind of regionally, there's definitely probably different demand signals out there that you're tracking. So I mean, talk about weakness in Asia has been definitely persistent. And maybe there's starting to be some indicators around the Western regions. I mean what's the correlation there in terms of like, is it kind of a first-in, first-out, last-in, last-out? How do you...

You mean regional kind of it?

Yes. Like how do you think about like Asia as being a leading indicator of the West?

Typically -- again, I don't know what's typical anymore, but typically, in the past, Asia has let it out or let us in, right? And Asia -- and I should know too, Joe, we're also not overly weighted to China. Okay. We're doing business in China, of course, but we're not over -- it's not like 50% our business, not even close to that. It's roughly 25% of our Asia business, a little on our enterprise. So we're not getting hit as hard there when China slowed down. We are feeling more optimistic, okay, about Asia starting to or maybe they hit bottom in this June-September time frame, we'll start to see them come out a little bit. So our leadership there believes, which should be a positive sign. And that's still with China relatively slow, right? So again, some of these things pop, it could be [indiscernible]. Europe has been really strong for us. It's our strongest region. It's our most diversified region from a customer set, heavy, heavy industrial. So is the U.S., but heavy long tail of industrial customers. And they've had 3 record quarters in a row, and we're finally going to see that correct seasonally, okay? So we're going to have a -- where the typical seasonality in the past several years has not been so typical because it's COVID and whatnot. We're going to see that, which we called out, slowing down a bit in Europe. But it's been extremely resilient. And Europe has been terrific. In the Americas, it's kind of holding on. I mean it's down slightly, but the Americas business is pretty steady, down just a few percentage points sequentially, right? And which is again, typical for the seasonality. So yes, if Asia flattens out, starts to come up a little bit, it usually does go around the horn.

Yes. Okay. When you think about one of the dynamics in the cycle, that's definitely been different in terms of inflation and the cost and pricing. Help us kind of understand the pricing dynamic that you're seeing -- maybe just actually, first, give us kind of an overview like where your role is in terms of your supplier gives you pricing increases and then passing on to the customer? And then how do you think about pricing going forward?

Yes. Let me take that. So yes, we heard all this inflationary pricing over the last several years. We -- and every supplier, and we had 50 different suppliers, raise prices 10 different times, and they all do it differently. So you can imagine the amount of SKUs and the system issues that we had in getting that done process-wise. We have a contract with you, Joe, for XYZ price and supplier raises that price 10%. We go to work with that customer to -- and a lot of times, suppliers help us say, we need to raise the price. We don't raise at 15%, we don't gauge. We don't have a gray market business. So we're not out taking that product as Joe cues and sell them for 2x the price out there in the marketplace, which we could do, but it's not what we do. So we don't get -- and we got a lot of these questions on the earnings call. We'll have to actually lift in margin. We get some scale, right, and some volume and GP dollars, but not necessarily margin percent, okay? Same thing on the other side. And we're not seeing -- today, we're seeing some -- we're seeing some pricing pressure. We always see pricing pressures. But we're not seeing the deflationary that we've seen in the past, Joe? Standard Products. Yes. I mean, they're always kind of like portfolios go up and down. But in the higher end, with the input cost, labor cost, precious metals costs, et cetera, we're not seeing that typical, okay, price deflation, Ken?

Yes, I think, Joe, you mentioned earlier about behavior being different this time around this cycle, and I think the pricing increases were an example of that where no one liked it, and the customers clearly have pricing fatigue. But they understood it because the suppliers were the ones that are having to pay more and it all kind of goes upstream. We saw it in our own everyday life together at home improvement project, right? Lumber is up, everything else and the semiconductors kind of moved like that. And so there's a lot of execution there. Although it did, let's say, over that time frame, maybe 25% of our growth, give or take, came from pricing. There's a lot of execution by our teams to be able to pass that through and not get stock hold in the bag, if you will. And we do feel there's a lot of work to get those pricing increases passed on. The price increases are still there. So we still feel pretty good about a stable pricing environment. There's still some places where you see price increases. You see some competitive pressures for ASP erosion a little bit. But I think in general, pricing is holding up pretty well. And suppliers are really trying to manage the inventory in the broader market to help make sure they can maintain that pricing. We've seen a lot of that with their growth in inventory and their guidance because they're trying to make sure they manage the inventory that's out there to make sure they can keep that pricing where it's at because it's needed because of the true input costs.

Right. On that, one of the questions I get a lot of times from investors is, can you remind us of the protections that you have in place for your inventory with your suppliers and just how that process works?

I think in general, especially for proprietary-type products, if we have the inventory on hand, then our contracts typically provide us price protection one way or the other is even in increasing price markets, right, then we still have to pass those on, but if the prices go down, then we could get inventory on hand corrected. Typically, there's a period of time that happens, when a price change happens for those protections to be exercised. And so again, there's good communication when it's happening. Sometimes we'd like more advanced notice, but what we've been dealing with lately has been increases rather than decreases, but we feel we're sufficiently protected on the downturn in terms of the broader market declines in pricing.

That's helpful. As you think about -- and I think I've asked you this, like, I ask you this every quarter, but as you look at the bread crumbs or the derivatives of what you're trying to understand for pricing changes coming down the pipeline. What is it that you kind of look at? Is it foundry wafer prices? Or we see await like some kind of news articles and things saying that pricing for some of the second tier, third tier foundries are starting to maybe see some kind of loosening of pricing there. Is that kind of the derivative that you look at? Or is it even down just like the raw materials?

Not really. I mean, we look at it, Joe, but we don't -- I mean, we're not out there hedging. We're not out there spot buying. We're not opportunistic. Most of what we buy is going to be ABC coded products that are for the general market and general awareness in the market. And then we have -- a lot of our business today is contracts. I mean we have customer contracts for -- which is why we don't price gouge. They have a contract their long-term partnership. So we don't really speculate much on that at all, really. We have pricing tools. Now we have -- we use a couple of third-party tools. We have our own inhouse analytics that we look at for pricing optimization, quick turn pricing, things along those lines, but not as much looking at the fabs and trying to figure out what that pricing point is going to be.

Okay. Okay. Maybe shifting gears a little bit. You've talked about some of the demand creation and things. But maybe double click and like help us trying to understand like the value proposition that you add that you can attract new suppliers, you can attract new customers. Talk about some of those kind of design activities and engineering that you guys are doing?

Yes. So there's 2 pillars we talked about all the time. And we got demand creation on one side and for those that aren't aware of that, it's where we're influencing design. We don't create demand. But we're influencing design with our top suppliers. We have proprietary products. We have thousands of field application engineers around the world that are EE engineers. And we don't just help design in the chip, if you will, but more and more customers are looking for solutions. Okay. And then we help them do that. Suppliers give us -- award us, I should say, a registration. And then when it starts to ship, it's called design win. So that's the number we talk about on the earnings call, demand creation revenues, has to have a supplier registration tied to it. And then we -- that enables us to track that anywhere around the world. We think about we're doing all the designs here in California, everything ends up in Asia with no protection. We have a lot of investment in FAEs, digitals, design tools, et cetera. So that's a big part of our business, over 30% of our business that's tied to a design. And you got to keep feeding that funnel because there's generation, this product might be around for 2, 3 years. You have to make sure you're capturing that next design and the chips inside. And then we have a embedded business. It's -- we do full turnkey designs, it's based in Germany, let's kind of now just say our new facility. But we're doing turnkey signs -- designs for customers in the -- typically in the industrial space where we actually do the design, we manufactured, we put it in enclosure. We ship that product to the end customer. So that's a big piece of our business as well moving forward. So more and more customers and suppliers, frankly, are leaning on the channel, leaning on Avnet, okay, because there's not enough resources out there, right? So they're leaning on us to use more of our design services.

And maybe just kind of on that, talk about some of the investments you guys have made. I know that's been a big focus since you took over as CEO with really leaning into that.

Yes. So very candidly, you've been always transparent. We kind of got off kilter a little bit with some things that you know, Joe. And we say, hey, we're back to the -- not going backwards, but back to the fundamentals. We know the value we bring to marketplace. We continue to invest in field application engineers. They're not going away. I mean, I know you could digitally go online, and it's an and, not an or, okay? We want to make them more efficient, more productive, higher value sales calls where you could -- level 1, level 2 might be able to be done online, okay? But we -- the FAE is still going to play a key role for us. One of the big tools -- 2 things we've rolled out, and we talked about it before, one is called AVAIL and AVAIL's tool is a block diagram tool, that's a digital online tool. So it used to be just where our FAEs had access and we had to share with the customer. Well, we found a way to be able to port that directly to the customer with security around it because we want to take all our designs, can come up with more down the street. And so they can self-serve now and pull -- as you pull down the [indiscernible] 14A flow meter control into application lighting [ shades ]. Whatever -- there's block diagrams in there, and then our teams can see that, okay? Then our teams can go to that customer and add further value to help them with that design. And then recently just rolled out what we call FSP, full service portal. I think it's really important that no different than us is the consumer. Customers -- we want customer to do business with us anyway that they want to. Believe it or not in this day and age of 2023, they still love to call their inside salesperson. They've got inside salespeople covered them for years. That person knows as much about their account and product as the buyer or procurement folks or engineer find and they keep calling. They want to go in and self-serve. We have a full service portal. They can go and adjust their backlog, book orders, contracts, et cetera, they could do it all themselves or e-commerce as well. So kind of the full service portal is something we've rolled out in Europe, rolled out in the Americas and will be in Asia as well. So just some of the things we're doing. It is about digital. I mean we've got to make ourselves more productive, more efficient, higher levels of service and accuracy and quality. A lot of that's going to be done through digital.

That's perfect. Maybe shifting gears a little bit, let's talk about the Farnell business. Obviously, you talked about it a little bit earlier that maybe something that's been disappointing since the Analyst Day of just kind of how things have shaken out there. Talk about the demand kind of perspective -- from a demand perspective, the revenue drivers or contributions and just kind of think about what's happened there.

You want to take that?

Yes. I think a couple of things. I think when the shortages were there, our Farnell business, which is really a high-service business, along a lot of SKUs, not very deep but a wide of inventory. Customers were going to Farnell to get some of their component shortages. So they did see a premium in terms of their gross margin, which led to premiums in their operating margin. But really, what's happened as of late is that premium is unwound as products become more available. But really, it's been kind of a double whammy because now the mix of semiconductor or on-the-board components have kind of gone down, which is generally a higher gross margin product mix for them than some of their other maintenance and repairs and test and measurement, industrial applications. So kind of a twofold where you had a gross margin declines from the premiums unwinding but then also a negative mix in terms of their overall component mix. So the sales levels have held up reasonably well, but it's a negative mix on the gross margin. So those are probably the 2 primary factors and what happened. As we grew that business as we did add costs, we're making certain investments. And I think there's some optimization of the cost model we have going on there as kind of the immediate steps to kind of get the business back on track. They have gross margin, let's call it, 3x of Avnet's overall gross margin, so very healthy gross margin. So at their current sales levels, they should be much more profitable in terms of operating or EBITDA margin. So we're kind of back on track to fix that. And longer term than or medium term, there's lots of growth opportunities that expanded their line card. They've got some tailwinds coming from availability of single-board computers. And so there are some very exciting growth opportunities, not to mention the synergy opportunities between Avnet and introducing the Farnell proposition into our broad customer base. So there's more opportunity to kind of cross-sell what Farnell provides, especially in the MRO test and measurement space into our broad industrial customer base. So lots of exciting opportunities. We're not pleased with the current performance but we have kind of a pulse on where we need to fix it and where we need to go short term as well as medium to long term and still have a lot of optimism on that business in terms of why they can provide and we've proven we can operate at high double-digit operating margins, and we think we got a path back there.

I think you said a lot, we're not pleased you recap that. We've got the actions in place. That should be a tailwind and a lift to the ink numbers right now, last quarter wasn't, and so we got to fix that.

Okay. And maybe just kind of turnaround to the broader kind of discussion of the EBIT margins. Like one of the questions that I get a lot from investors is what happened in Farnell in terms of -- I think there's some pricing dynamics in there as well like -- and we kind of talked about pricing, but like why should we not think about, like, Farnell as being kind of a leading indicator of what might happen in the EC business or pressure on margins spreading to the broader business? Like what decoupled that, I guess?

It's a totally different business model. You asked earlier, Joe, from an investor standpoint, concerned about pricing deflation, right? What we -- on the core side of the business, besides the [ $24 billion ] with this, we got the price protection here and the shipping even, right, get very complex, as you know. Farnell doesn't have that as much. So I think that's one of the bigger difference. They're buying more off of -- more -- not everything, but more of a book price. And the other thing is, to Ken's point, they just have a mix shift issue. Their margins on the components are still pretty good. It's just that -- the revenue is down, margins down a little bit. And their other businesses picked up, which again is in our world pretty healthy margins, but for them, not so much. So we -- that's why on the surface, you look at is, hey, their revenues are not down that much, but they're getting the negative drop-through based on the cost model. So I think the engagements are so different. I mean, we're -- they're dealing like with SKUs, just broad millions of SKUs, inventory that's deep. We're -- we've hundreds of thousands of SKUs, but deep inventories. We're doing a more production world. So I think the way the contracts are set. The way the business model is set up, it's just -- it really is a different business. If it wasn't, we would have merged them in. But there's a distinct brand with Farnell and Newark that they have that draws a certain customer set to them.

And I'd say my only comment on the electronic components business, there's always been pricing pressure in terms of -- we have stiff competition out there. Not only global competition, but also competition specific to Asia. So we've always had challenges competing on price. I would say the cost of capital is changing some of those behaviors, right, because it give you a better margin, still give you terms it becomes upside down pretty quick now with interest rates where they're at. But we talk about demand creation. We haven't talked about IP&E, supply chain as a service, some of our embedded opportunities as Phil just mentioned, those are all higher margin opportunities within the EC business that allows us to, let's say, have some normal competition, some maybe normal margin erosion for kind of base business, but still be able to kind of maintain margins. So we feel pretty good about those higher-margin opportunities coming into our electronic components mix that help us kind of balance it out where we can still absorb some pressures and still kind of hold up and even expand margins over time with some of those opportunities, we think we can expand gross margins modestly.

Good point, Ken. I want to reemphasize just 2 points. Ken mentioned demand creation. We get -- why is that important to us? Well, one is stickiness around the board and we get protected. We also get, on average, 400 bps higher margin, okay. IP&E, we didn't talk about IP today. That's the connectors, capacitors, electromechanical, that's a $3 billion to $4 billion business for us. That also gets about 400 to 500 bps higher gross margins. And then supply chain as a service, as you know, we've been starting to introduce that model more and more. So we think there's offsets, okay, that can help us protect our margin on the downside and increase it on the upside.

Yes. And I think you guys have also done -- I know you talked about [indiscernible] sort of like structural things underneath that maybe provide you better gross margin and better just operating margins than the company in the past. And so, I guess, maybe when you think about those structural things, talk about those in terms of being able to sustain higher through-cycle margins?

I mean, Phil talked about some of the digital tools and capabilities, right? So how do we make ourselves more efficient? That's a core tenant of that. There's some long-term investments in terms of warehousing capabilities and things like that, that we've been investing and that really gives us a platform to be able to grow and scale without adding much of cost. And really just when we're talking about an investment, we were on to say, does the business need it? Is it going to help the business grow versus that's nice to have or I need this tool. And that tool is really more of being business led with our decisions on where to make investments, right? What does the customer need? What does the supplier want? How do we be easier to do business with, and that's really the fundamental getting back to the fundamentals -- we're a value-added distributor. We're going to invest in tools that make us a better value-added distributor and get away from some of the things that are nice to have higher margin opportunities, but they're really not in our wheelhouse, right? We know supply chain and we know distribution business. And that's okay we can make a lot of money doing that, and there's higher margin opportunities like supply chain as a service, that can really show the value we provide. We don't need to go too far outside of our wheelhouse to be able to grow, grow profitably and to make a nice return, and we think longer term provide a lot of returns to shareholders.

Yes. So I think a good strategy to find is as much of what you stop doing as much what you do to, and we stopped some things. So that was part of the [indiscernible] we just -- we can't afford to do that. It's too far outside the wheelhouse to Ken's point. So we just structurally just about 3.5 years ago, just stopped investing in some areas that weren't getting us return.

One of the things curious about, this year we're seeing China domestically invest a lot, just adding semiconductor production capacity. You're obviously seeing a big inflection in terms of just their ability to try and develop their own semiconductor industry, obviously, a big driver of that being EVs. How do you think about offering Chinese supplier components as well as just kind of there are some Chinese distributors, your value prop relative to them? And just, I guess, how do you think about that aspect of the semiconductor market that's maybe somewhat -- it's becoming much larger very quickly.

Yes. That's a [ 3-beer of ] conversation there. Yes, carefully -- I mean, obviously, we're watching. We're in China. So we have a sizable business there but not overweighted to China. We're just really watching that landscape. We have to make sure -- and we have our commitments to our current suppliers, right, that we've had for some 60, 70 years that we've had them. So we take -- we don't take it lightly just adding a line for the sake of adding a line. That's not what you're saying. I know that. But we -- we look at what we call gaps and overlaps. What technologies do we have? How many technologies do we need to have to cover this gap in a board, let's say, a board design? Do we need to go bring in another line. And we have these conversations transparently with our suppliers. Obviously, the Western suppliers are lot more sensitive to bring on Chinese suppliers, particularly the U.S. Western suppliers even more so than the European. So there'll be more China for China, right? But we're going to be very, very slow to move outside of there.

Perfect. Maybe just I'll sneak in one last one. Just working capital, free cash flow. Can you just talk capital allocations, gives us a quick.

Yes. So I think we need to get back to generating consistent cash flow. The inventory has been a challenge there, the working capital investments, but we do see line of sight over the next few quarters to kind of getting that to soften a little bit. So we can generate the cash that already exists on the balance sheet. And when that cash flow occurs, we're going to stay committed to not only investing in ourselves in some of those investments we talked about, but also return to shareholders in the form of buyback and our consistent dividend. We will take some of that cash flow and pay down debt. We want to make sure we've got appropriate leverage level. There's opportunity to lower our interest expense, but we want to kind of balance that with buybacks, and we're still trading below book value. Think the stock is very attractive right now and it has been. So we want to kind of get back to that buyback trajectory and make that more consistent part of our capital allocation priorities.

Perfect. I think we'll end it there. Thanks, guys.

Okay. Thank you, Joe. Thanks everybody for listening.

Thanks, Joe.