Corning Incorporated (GLW) Earnings Call Transcript & Summary

Good morning, everyone. This is Asiya Merchant from Citi Research. With me today, we have Corning, Tony Tripeny, CFO; and Jeff Evenson, who is the Chief Strategy Officer; welcome, gentlemen. Before we begin, I just have a few housekeeping items from Citi Research. There are disclosures associated with this for your review. All clients are subject to MiFID II, and they're reminded to have research agreements in place with Citi. We have a few questions, and Tony has a few opening comments, after which we have a few questions that we prepared for the event. However, if investors have any questions during the slide stream, please feel free to e-mail me at asiya.merchant@citi.com. So with that, I'll hand it over to Tony and Jeff for some opening comments from Corning.

All right. Asiya, thank you very much. It's great to be here. Just a reminder, the statements made in the course of my presentation today may contain forward-looking information, and actual results may differ materially from what we are presenting today. And of course, we are all confronting profound challenges as a result of COVID-19, and our thoughts for those who are directly affected by the pandemic and then many people fighting it on the front lines. If you go back and recall during our July earnings call, we noted our expectations for sequential growth based on improved demand and visibility during both June and July. Our industries were flashing green, as Wendell said, but we didn't provide specific guidance because we were concerned about potential impacts arising from the pandemic, global recession, civil unrest and geopolitical tensions. But what we did say is that we would update you as we went through the quarter, and that's what I'm here to do today. Q3 consensus has sales up high single digits and EPS up 30% versus the second quarter. And today, I'm pleased to say that we expect total company sales to grow low teens sequentially, with the biggest contributors being specialty materials and environmental technologies. And we also expect EPS will also be above consensus. Now we expect this improved profitability given the operating leverage that we have as a company. Plus we have capacity in place to meet expected demand with minimal investment. So we expect capital efficiency gains, including improvement in ROIC. And we remain on track to generate positive free cash flow for the year. Our decisive actions and strong execution are driving these results. We are delivering for our customers, outperforming our markets, and preserving our financial strength. And as we look ahead, our underlying growth drivers remain intact, we're confident Corning is positioned to come back stronger than ever. So with that, Asiya, Jeff and I'd be happy to answer any questions you have.

Great. So with the positive 3, you kind of talked about specialty and environmental. If we can kind of dig into each 1 of those first, maybe starting with specialty materials, which is obviously your Gorilla Glass, you have the Gorilla Glass Victus. So maybe you could talk about the confidence of the trends that you saw as calendar third quarter evolved and the -- what drove the positive pre today?

Sure. So from a specialty material standpoint, as you said, that a lot of that is driven by what's happening in Gorilla Glass. And what we saw in the second quarter was actually year-over-year growth in specialty materials in spite of the fact that this underlying smartphone market was down about 14%, I think, in the second quarter. And what really drove that was the technology and the innovations that we're bringing to that market. And in particular, as our customers are building in advance of their new product launches that occur primarily in the third quarter. And of course, we also introduced a new set of products including Gorilla Glass Victus that we introduced, I think, at the beginning of this quarter and the expectations of the success around that. So we feel good that the trends that we were on in the second quarter continues into the third quarter and that we see some nice growth in the third quarter sequentially and actually some growth on a year-over-year basis based on the new product introductions and the success of our innovations.

And I think one thing that I would add on that is we broke from our trend of using numbers for Gorilla Glass versions. And we did that because Victus is distinctive from earlier innovations in giving benefits both on raw performance and scratch performance. And we wanted to recognize that distinctive contribution with a new approach to the naming. And I think the financial success in that business that we're seeing in the third quarter is really confirmation of the benefits that our customers are seeing in the simultaneous innovation on both fronts.

Fair enough. And then obviously, the question that investors always have is you've seen growth in this segment on a year-on-year basis year-to-date, along with the positive trends you're seeing in calendar third quarter, smartphone units are down year-on-year. Is there any inventory build that's happening perhaps at your end customers with respect to your specialty materials?

Well, certainly, I think there's a buildup in anticipation of the new product introductions and so that is absolutely happening. And if you go back over time, that inventory then gets sold once they've introduced the new products. And so a lot of -- what the impact is going to be from a longer-term standpoint, it depends a lot on the success of the new product introductions that they have. And assuming that they are consistent with what they're expecting, then this buildup happens and it does tend to plateau out in the normal cycle that we see in this business. But there's no reason to think that it's something different than that.

And if you also remember that it's only fair that as we make big innovations on behalf of customers that we share in the benefits of that through higher pricing. So in terms of the magnitude that you see, we think, is very appropriate for product launches of this nature from a unit perspective.

Okay. Are there any particular features or functionality in the new phones that makes them more interesting from a specialty Gorilla Glass consumption basis, whether it's 5G, whether it's glass on both ends, is there some things that you could point out to why there is a higher adoption of specialty glass for this latest and greatest smartphones looking ahead?

Well, I think 5G, we've been talking about the benefits of that in terms of opening up the -- that the glass opens up design degrees of freedom for the antennas. We've been talking about that for a while. I think the benefits here are just really in the dollar content is higher because the benefits we're delivering in terms of protection, both from drops and scratches is higher.

Okay. Fair enough. If we can switch a little bit as well now to your environmental technologies that you're seeing is also driving some of the upside here. If you can talk a little bit about the gas particulate filters and what you're seeing in there that would be great. I mean, clearly, automotive demand, people are still a bit mixed on that. It will bottom. Are you kind of experiencing that? And what's the drivers behind your upside for the environmental business?

Well, clearly, what we saw in the environmental business was a big impact in the second quarter as our customers shut down their assembly plants. That first happened in China, and that actually started to impact us in the first quarter. China came back online in the second quarter. The North America market and the European market came off-line in the second quarter and began to come back in the third quarter. And so partly, what we're seeing is just that some of our customers coming online faster and then that's having a positive impact from a business standpoint. But so then what you have to really look at, which is, as you said, is what's happening with the underlying demand. And in China, the underlying demand has continued to be pretty good. On a year-over-year basis, China auto sales have been up for several months in the first couple of months, you wondered, well, is that just the pent-up demand from earlier in the year. But as each month goes by, and that continues to be the case that does seem to be an indication that that is definitely a positive from an end market demand standpoint. And of course, that's where we really see the impact of gasoline particulate filters because that's the market where they're really being adopted now. And so that's allowed us to grow. I mean, even last quarter, we shrank, but we shrank less than the overall market because of the impact of GPFs. And we continue to see that, and there's nothing on the -- in the market environment that doesn't say that as China grows, that we'll get the content boost that comes from GPFs. And then so the rest of what we're watching most like most companies is what's happening in the North America auto market where all signs seem to be pretty positive. And also what's happening in the European auto market. But when you add all that up together, that's stronger growth sequentially after a quarter that, of course, wasn't so great in the second quarter.

Right. And then how does that affect your outlook for auto sales? I know you had some pretty aggressive growth drivers there that you laid out at your Analyst Day last year for auto sales. So in general, with GPF rebounding, plus you have auto interiors and the auto exterior business as well. How should we think about that as a revenue contributor, say, in the next 6 to 12 months? And then with respect to your long-term outlook for auto sales contribution?

So I think that the timetable that it takes for auto production at our in-customer level and auto sales by the in-consumers to get back to the levels that they were before given the pandemic, is probably longer than any of the rest of our businesses. I think that's the business that was most dramatically impacted by the pandemic from a Corning standpoint in Q1 and Q2. And it's probably the 1 that takes the longest to recover. Now when I say that, I don't mean years and years to recover. But I think in comparison to some of the other businesses, I think, it takes longer to recover. That being said, the content part of it really hasn't changed and isn't -- is maybe off track our original expectations of a year ago a little bit caused by the pandemic, but the underlying trends that are driving that really haven't changed. I mean the need for clean-air, which is really what's driving the GPF business is probably even greater than it was before because I think it's a pretty clear relationship between air quality and the impact that COVID is having. So I think that people are going to double down around on some of those efforts. And then in terms of the interior of cars and the connectivity and the experience that you have and the displays and the like, I mean, those trends are continuing just like they were before. Our backlog continues to build in that business. We continue to see success in that business. So I think the vehicle, the content per vehicle, which is the way we described it, back last June, we still see those trends continuing. And then it's just a question of how many vehicles are being built. And that clearly has been disrupted by the pandemic.

With the pandemic and the need for cleaner air, do you see any acceleration perhaps an adoption of GPF in markets that don't currently have these regulations? Like I think China is one of them that's already implementing these, but then Europe and North America are still further behind on adopting the clean-air initiatives that China has?

Yes. Actually, Europe was first with those, and those were adopted, and that was the first wave of growth that we saw in that business in the '18, '19 time frame. And now the wave that we're seeing right now is in China, and we would expect that to continue. And I think what happens in the North America market, is really driven by other regulatory environments than it is COVID per se. We've never put those in our longer term projections, our ability to double sales in the automotive business was not driven by the adoption of the increased regulations in North America. But I think we've always thought that that is something that might happen in the back half of the 2020s, and I think that's still true.

Okay. Fair enough. If we can switch a little bit to maybe 1 of your other segments, if you may, let's talk about consumer demand for televisions, especially the large-sized televisions. I think the demand has been pretty good. Given most people were staying at home and had not much other entertainment avenues. I think we've heard from notebook OEMs at the conference that the panels are still in tight demand for that. If you could kind of talk to us about demand, how that's shaping up across different geos? And as you kind of look into the holiday season, what should we be thinking about in terms of television unit growth, size growth, any change in seasonality versus last year that would be great?

Yes. I think generally speaking, you're right. TV demand has been strong. And other device demand, which like notebooks and actually tablets have been relatively strong, too. Now when you think about our display business, it's, of course, it's a lot about big TVs, as you noted. So sometimes those other things don't necessarily stand out in our commentary, but they definitely have had a positive impact on our business. They've had a positive impact on Q3, and we'd expect that to continue into Q4. From a retail standpoint, in China, we saw -- in Q1, we saw a drop-off in TV demand. In Q2, it did start to return. Again, we wondered how much of that was catching up versus how much is ongoing demand. But demand in the third quarter, has stayed pretty solid. And so we've been -- that's been a good trend. And then in North America and Western Europe, I mean the trends have been very strong from a TV demand standpoint. And for all the reasons that you mentioned. I mean, the 1 region that hasn't been as strong has been in the emerging markets, and that's clearly the 1 geography that we have definitely noticed the difference. As we look out, there's a lot of discussion, we got 2 big holiday seasons coming up. The kind of the Christmas holiday season, starting with Black Friday in the western world and then, of course, Chinese New Year's coming up after that. We would expect -- I think the question is, does this strength continue into those seasons? And it's not totally certain, but all indications are. In Black Friday, there's a lot of dialogue. I think within a lot of retailers that maybe they spread the Black Friday season out a little bit longer from a retail standpoint, not as interested in getting lots of people into their stores on the Friday after Thanksgiving as much as they may be interested in getting those sales over a longer period of time. And then the most important thing from our standpoint is that we do remain very confident in the screen size growth that we thought would be about a bit 1.5 inch or so. And TVs 65 inches or larger have grown almost 40% on a year-over-year basis. So not only are people buying TVs, but they're buying bigger TVs, and that's good for us and especially good for our Gen 10.5 investments.

Great. And then how does it -- talking about the supply side as well. So the demand is holding up pretty well. On the supply side, it seems like glass pricing has remained fairly modest, down or slightly down relative to what previously people had expected. Can you kind of update us on where you think -- how you think about glass pricing here? And as we think about TV demand, could -- is there any opportunity for upside on those glass pricing discussions?

I think from a glass pricing standpoint, we've had a favorable environment now for a number of years, and we'd expect that to continue. And we expect our pricing decline this year to be in the mid-single digits. It's really driven by 3 factors. One is supply and demand being in balance, and it is in balance today. And some of these factors that we talked about with increased demand, of course, continues to keep supply and demand in balance. And if for some reason that were to change, of course, we have the ability to adjust our capacity based on the modular nature of our capacity. The second area is that our competitors are not very profitable. And so for their ability to remain profitable, you need to continue to see moderation in pricing. And then thirdly, we all have to make investments in this business on an ongoing basis and to get the returns, the current level of declines of pricing cannot continue. So we feel good about it from a pricing standpoint and expect that the moderate price declines that we expected at the beginning of the year to play out this year.

Right. And then with the -- did the pandemic at all impact the remainder of your fabs that were expected to come online in the back half of this year and into '21? Or how do you -- as well as for some of your competitors, the Gen 10.5 fabs that were coming online?

Yes. I mean, I think, being able to build capacity in regions like -- we were -- we got involved in the pandemic from day 1 because we were building 1 of those factories in Wuhan. So clearly, those things had an impact on the ability to get engineers and employees into the factories and the like. We're working through all of that. But there's been a lot of people working on that. I mean, it certainly had an impact. As the pandemic had an impact on most of our operations around the world.

And did your competitors also get impacted? And as a result, do you think there was any temporary positive upside in glass supply demand? Or have those kind of now normalized with return to operations?

I think that for the most part, what really matters, especially over any amount of time is the -- what's happening from a in customer demand standpoint, and the little blips that might happen in any given month. I wouldn't say anything really stands out in that area.

Okay. Fair enough. Shifting to optical a little bit. I think people are very interested to see -- to understand the optical market that is set to decline. I think based on your discussions earlier in the year, there -- that's expected to decline in 2020. So now that we're halfway through the year, kind of if you can update investors on fiber demand, through the back half of this year. And if you think about pent-up demand as we look into 2021?

Yes. I mean, I think you're recalling it correctly. I mean, we had expected this year, the passive optical market to be down and we had expected to be down for Corning, in particular, in the first half of the year and then for things to pick up in the second half of 2020. And the pandemic, clearly, through a lot of that, made a lot of changes relative to that. I think from a carrier standpoint, the carrier networks have actually seen a lot of increased demand on them. The amount of WiFi calls, I think, it was AT&T is up 100% and the VPN connections and Verizon's up something like 80%. And of course, Zoom went from 10 million users in December to over 300 million users. And so there's been a dramatically increase in the demand on the networks, and the networks are built out in advance in anticipation of that demand. So all of this, we view as a very positive thing for the longer term demand for our products. But in the near-term, as we talked about in the past, we saw some impact, especially in the carriers as them getting technicians out into the field for installations and then some of the permitting issues that you need to get done slowing down. But in the second quarter, that was a place where we did see growth. And in fact, that growth was I think, about 19% quarter-over-quarter versus what we saw in the first quarter. So I think from a carrier standpoint, especially in North America, we've seen some positives there and we -- and those positives continued in the second quarter -- or in the third quarter. From a hyperscale data center standpoint, the same thing, the demand -- underlying demand has definitely been there from a product -- from their product standpoint. But in the end they haven't changed any of their deployment plans in terms of where they want to go. But their ability to actually deploy that varies kind of customer by customer. And so in our enterprise network, that hasn't been quite as strong. That part of it as it has been in carriers. And then in the rest of enterprise, it's definitely been impacted by small and medium business enterprises. And then also, a lot of the corporate IT spending has been constrained, too. So we've seen a little bit of everything in this segment. And as we go into Q3, we'd expect Q3 to be pretty similar to Q2 in terms of sales, maybe a little bit higher, but pretty similar to Q2 in terms of sales.