Corning Incorporated (GLW) Earnings Call Transcript & Summary

Hi. Good afternoon. I'm Samik Chatterjee, the networking equipment and hardware analyst for JPMorgan. For the post-lunch session today, we are starting off with Corning. As you can see on your screen, we have Jeff Evenson, the Chief Strategy Officer and Executive Vice President at Corning. He has been the Chief Strategy Officer since 2015, Executive Vice President at Corning since 2018. Jeff, it's a pleasure to host you here. Thanks for making it to the conference. I know you have some introductory remarks you want to start with, so let me hand it over to you and then we can take it to some of the more specific questions.

Well, thanks, Samik, and good afternoon, everyone. Just a reminder that I will be making forward-looking statements, and you should check out our filings in our website to see reasons that actual results may differ materially from the perspectives that I share today. As we stated in the April earnings call, we expect double-digit growth in the second quarter driven by improving markets and our more Corning strategy. We expect second quarter sales of $3.3 billion to $3.5 billion and EPS of $0.49 to $0.53. We expect to generate significantly more free cash flow in 2021 than in 2020 with continuing momentum across the company. As a result, we increased the quarterly dividend per share by 9% in January, and we reinitiated our share repurchase program in April by repurchasing 35 million shares from Samsung Display. In addition to this strong financial performance, we've advanced commercialization efforts for multiple innovations, including a new generation of gas particulate filters. Our strategy is built on a complementary set of 3 technology platforms and 4 proprietary manufacturing/engineering platforms. We are leaders in each and the synergies among them allow us to create distinctive value for our customers, improve the return on our innovation investment and reduce our capital intensity. We prioritize opportunities for more Corning. In other words, opportunities that increase the value that we deliver to customers through new combinations and applications of our leadership capabilities. Creating a purpose-engineered glass for the automotive industry or inventing ceramic shield for Apple are great examples. These opportunities typically increase our TAM and strengthen our relationship with industry leaders in our 5 market access platforms. Our more Corning strategy also provides a mechanism to sustain outperformance in both up and down markets because we're not counting on consumers buying more stuff. We're counting on them getting more Corning content in the stuff that they're already buying. Witnessed that we've grown specialty materials sales every year from 2016 to today despite smartphones unit sales being roughly flat or down each year. Over that 5-year period, we've added more than $750 million in sales on about a $1 billion base. We are fortunate to be leaders in a special set of materials at an exciting moment. Glass is one of the most transformative materials of all time, and it's an exciting moment because, once again, glass is vital to progress on multiple fronts. It's also an exciting moment because of the progress we're making on the journey from magic to science and back to magic again. We not only understand that glass is the quintessential nano material, we understand how different formulation and fabrication techniques determine the atomic state and structure of a glass, which allows us to precisely control its chemical, mechanical, thermal and optical properties. As the futurist Arthur C. Clark remarked, "Any sufficiently advanced technology is indistinguishable from magic." And that's where we are with glass and ceramics. It gives us the opportunity to grow and continue making important inventions for a very long period of time. And right now, we're seeing opportunities to bring the magic in all 5 of our market access platforms. With that, I'd be happy to take questions.

Great. Jeff, thanks for that. Before I start, I want to remind investors that they do have the option of sending in their questions, and I can ask it on their behalf. I'm seeing some on the Q&A portal here. So use your Q&A button on the website to ask a -- send in your question. If you are unsure whether that button is working or not, obviously you can email it directly to me as well so I can ask them for you. Jeff, with that, let me start with a broader question here. As we look back to early part of 2020, there were definitely challenges led by some of the COVID-19-led demand pauses that we saw across different consumer markets. As you evaluate some of the market access platforms on which you largely kind of treated those as the pillars of growth here for the company, how did the pandemic and kind of subsequent demand changes drive you to think about relevance of those platforms to customers?

Sure. If you think about the goals of our market access platforms in terms of products and supporting customers, we are doing things like connecting people to each other, to information through both the surfaces that we produce in display and Gorilla and also the optical fiber and solutions we produce in our Optical Communications business. Our products are also helping to clean the area -- the air that we breathe. And increasingly, the products that we're making are contributing in important ways to medical research and also to packaging of advanced and important therapeutics. So if I think about that set of objectives, everything that I learned about our relevance from the pandemic makes me believe that those things are even more important than before. I think if you look at the press coverage and interest in Corning in 2020, if you look at the grants that we received, accolades from customers, new supply agreements, all of those go to supporting that view that we're working on a very relevant set of things.

Great. So as we return to a more normal environment post COVID, one of the things that we've seen is there's usually more visibility that you provide to investors about your market segments pre-COVID, and you've definitely been a bit more cordial about that during this pandemic. As we get back in terms of to a more normal environment, do you feel comfortable enough to start providing that same level of visibility to investors? Or are things still abnormal in certain pockets where the visibility is limited?

Yes. Well, first, we agree with you that things are getting back to a more normal situation. For example, if you look at our sales in the first quarter, they were up 14% versus 2019 or about 7% on an annualized basis since then. That's a number that we're happy with, and we would feel really good about sustaining. We've also had a sufficient increase in visibility that starting in our October conference call, we gave insight on our expectations for aggregate sales and EPS in the following quarter, and I expect that to continue into the future. In terms of specific growth drivers across our businesses, in display, it's really about screen size growth and strength in the IT segment. In Optical Communications, it's 3 categories of products that have strong demand at the moment. We have fiber-to-the-home, especially at one of our biggest customers. We have 5G build-outs which we expect to sustain our demand for a significant period of time, probably most of the rest of this decade. And we also have hyperscale build-outs. In automotive, our inventions are significantly increasing our total addressable market. We're seeing strong demand for our gas particulate filters. In fact, customers are asking for even higher levels of filtration, which gives us some exciting opportunities over the next few years. And we're entering the market for automotive glass, where we invented a brand-new formulation and process that's getting great traction. In Life Sciences, we are getting demand from the move to cell and gene therapy as well as building a new business around Valor Glass, which makes a 21st century package for 21st century drugs. So I feel really good about the growth drivers in all of our businesses. I think I left out mobile consumer electronics, where it's really about innovations that increase the value we deliver per device and happy to talk more about any of those, if you would like.

Yes. No, we'll definitely get into the segments in a bit, and I see some questions coming in about these individual segments as well from the audience. But let me hit one more topic before that, which is one of the sources of discussion on Corning in the past with investors has been the capital intensity or the high capital intensity that Corning has. As we think about the related growth between the market access platforms or the change in mix, for example most of the segments improving revenue or increasing revenue better than display in the long run, how does that influence the capital intensity of the company? Does that change overall how investors perceived Corning from the previous years?

Yes. First, I'd remind investors that capital or investments are important source of our growth. We're really focused on primarily organic growth. So the dollars that we invest in RD&E, in extending the capabilities of our existing facilities and building new facilities are all really important to Corning's growth on an ongoing basis. When we think about large capital investments, the ones that we would talk about with our Board, which is essentially everything other than smaller fixing, depreciation and bringing things up to modern standards of production or the cutting-edge standards of production, we've really worked on increasing the returns on those investments through thoughtful design and by derisking the growth with tangible commitments from our customers. Our recent investments have had 20%-plus return on invested capital, and we're seeing those materialize in our results as we fill the factories that we created. So the way I think about it is that we are reducing our capital intensity over time through the repurpose and reuse and the focus that we have. And I think that you'll see that translate into stronger free cash flow conversion across the cycle and that we're getting good returns on those investments, which is a great thing for investors and allows the value they get from Corning to increase over time as well.

Great. That's good. Let me move to the segments here because there's a lot to talk through. So firstly, the display segment. How transient is the price increase that you recently took in the PV glass business? Once some of these abnormal industry dynamics normalize, do we go back to kind of the mid-single-digit price declines maybe beyond 2021? What -- how temporary or permanent should we think these are?

Yes. We think several factors are continuing to drive a favorable glass pricing situation from the Corning perspective: first, we expect glass supply/demand to remain tight; second, our competitors face profitability challenges at current pricing levels even with the increases that we saw in the first quarter or in the early second quarter; and third, to remain a vibrant display manufacturer, you have to make continuing investments in your capacity and your production facilities, which is challenging as prices go down. Additionally, recent logistics-related costs have made some of the profitability challenges that our customers -- or our competitors face even more prominent. And our success in generating new applications for our fusion glass, and here I'm thinking about the continued growth in Gorilla and the new growth that we're seeing in automotive, creates kind of a constantly tight supply situation for us and therefore for the industry because we are far and away the leader in these markets. So I think that a strong pricing environment continues. Having said all that, as we think about our Q3 pricing, those decisions will get made sometime in June. As always, we'll think about the industry supply-demand position, our customers' various cycles, our temporary cost positions, and we will let you know how things go at the next earnings call.

Jeff, let me take a follow-up with that, which is a bit more near term in that aspect and a question that came in from the audience, which reads, "What is the opportunity you'll get further glass price increases from here? What is the perspective on supply/demand just for the second half of the year given that we see strong panel momentum but also downstream inventory build and softer demand?" Last part of that is, "Is glass capacity coming back online at the competitors?"

For the last part of the question, on supply at competitors, you should ask them how they're doing with their supply. In terms of the overall market, we continue to believe that the glass market will be up mid-single digits in 2021. The primary driver of that is increasing screen size. So you get -- you can get growth in the glass market even if units are slightly down. We saw that in China so far in the first half of 2021. With that, we expect glass supply/demand to remain relatively tight, and we're doing our best to get our customers all the glass that they order.

I guess my follow-up to that and one of the questions that I had, you did touch on it with the demand in China, but if data points in the China market where TV has remained soft, if they continue to run soft for a period of time, is there a concern around some of the inventory being kind of pulled down from the panel makers? Is that, on a sustained basis, a weakness there or a source of concern?

So the performance of the China market in the data that I've seen for the first half of the year has units down a bit, area up a bit and is consistent with the expectations that we had going into the year. Digging a level deeper on why is that, we think that strong global demand has resulted in less favorable retail pricing in the China market. So there's a bit of a self-correction loop in there, and I don't think it raises long-term concerns. In fact, the way I think of it is that pent-up demand in the China market is a way that the market continues to grow as other parts of the world that have been very strong over the last 5 or 6 quarters have kind of natural slowdowns.

Okay. That's great. No, that was helpful on display. So let me move over to Optical Communications and take one of the questions that has come in, which largely was similar to what I was going to ask you. "Can you elaborate on how AT&T's increased fiber focus and investment announcements benefit Corning in the optical segment?

Again, it's always tough for me to comment on a particular customer, so let me just broaden the topic. So long term, we think that our demand is driven by efforts to expand broadband reach, efforts to resolve bottlenecks in the network, efforts to build out 5G infrastructure and bring that quality of service level to all customers around the U.S. and globally. And also, once you have more bandwidth, it naturally drives up demand in hyperscale data centers, which are a meaningful part of our sales. So longer term, we think about all of those drivers. When we look at the near term, we kind of ask ourselves 3 questions. One is, is there an actual need in the network? Right now, we think the answer is definitely yes. We saw a ton of the normal capacity headroom in networks get consumed very rapidly last year. We're seeing strong demand levels continue in networks, and we feel good about that. We think that hyperscale data centers did not build at the planned level last year and are resuming those types of builds. And we see governments in Western Europe and the United States really move to a new way to think about broadband, kind of moving from it's a good thing to have to it's a basic human right. And we're seeing policies in Germany, the U.K. and, obviously, through President Biden's infrastructure proposal in the U.S. go toward supporting all these things. So does demand for additional network capacity exist right now? Absolutely. The second thing that we look at is statements by our customers. And we have seen multiple customers on their earnings calls, at investor conferences talk about specific efforts around fiber-to-the-home builds, around the importance of fiber being core to the backbone for 5G that make us feel really good about how vital we are to them. And third, and maybe most importantly for the near term, we look at our order book, and it is just very strong right now. We are seeing the network need and the customer statements translate into real orders, and we feel great about where our optical business is for the foreseeable future.

Jeff, sounds like you're seeing very strong near-term drivers. And I don't know if you've quantified the amount of backlog of orders that you have, but, I mean, the first quarter was -- you had strong 19% year-over-year revenue growth, essentially within multiple near-term drivers you're seeing. Is that largely reflective of like being able to sustain that level of demand because you have strong near-term drivers and orders that you're seeing?

Yes. I think in terms of year-over-year growth, the compares get tougher for the back half of the year. So I don't want to predict any growth rates. But in terms of sequentials, I would expect us to continue to be very strong on those. We've been adding employees to meet the strong orders that we get. So we feel really good about building on a quarter-to-quarter basis from the strength that we have. Whether that translates into the type of year-over-year growth we saw in the first quarter, I think that would be probably very hard to do in the back half of the year. Do you want to make any other comment on that, Ann?

Yes. That's fair, I think.

Yes.

No, that's fair. Let me stay on that topic but essentially pivot to the infrastructure spending or the government spending plans related to infrastructure or broadband infrastructure of Biden's infrastructure plan being proposed. How should I think about the impact of those opportunities? Are there -- like are there quite high cost hurdles to driving adoption of fiber in the rural areas? Because we've seen some numbers and the cost of getting fiber out to some of these rural areas is really high. Does that effectively become one of the limiting drivers in getting fiber to leverage all of this spending coming through?

Yes. As I alluded to a couple of minutes ago, the interesting thing to us about the discussion at the government level has moved from economics to it's a basic human right, comparisons to electricity in the U.S. in the 1930s, very sizable investments, over $100 billion proposed in the U.S. The U.K. already underway on a GBP 5 billion program. And I think the goal of that spending is to make it attractive for networks to be created for every citizen. I think that the discussion now is more about fairness and opportunity and what it means to be a modern society, which I think is really exciting from a societal perspective. And from Corning's perspective, hard to say exactly until we see how these proposals materialize. But we think it's a multibillion dollar incremental opportunity for us.

Staying on Optical Communications but largely the telco customers and them talking more recently about their 5G CapEx plans as well. Obviously, a lot of that focus has been on C-band deployment and wireless equipment being deployed. How should we think about correlation to demand for fiber? When does that start in terms of timing, rate of [ boost ], some of the timing around wireless equipment deployment? Any insights on that?

The time line -- we -- at this point, we've seen enough hyperscale data centers that we can tell you that here's the proposals, the things get -- the building permits get filed, takes about this long. Once they break ground, our stuff starts to go in here, servers, switches start to go in here. That's one where we feel pretty confident about the time line. 5G is more challenging because it depends what you mean by 5G, that if it means just getting coverage and just getting 5G to appear on a phone, that can be done in a fiber-light way for a lot of players. To actually deliver the service levels of 5G requires significant densification of the network. And the way I look at it is the C-band auctions recently in the U.S. generated about $81 billion with more than 2/3 of that going to Verizon and AT&T. The message from that is how important it is to use the spectrum efficiently. And fiber is a super important tool in using spectrum efficiently. You put the antennas in the right place, and all of those have multiple fibers going to them. And that is the driver of a lot of our growth in the 5G infrastructure. But in addition, we have new solutions that are built on our fiber-to-the-home solutions which take that opportunity for the labor arbitrage, where we use our optimized factories to create bespoke networks that snap together in the field and use that power to significantly reduce our customers' cost of installation. That kicks in as you go from kind of the coverage phase to the true performance phase, where you're really getting the 5G service-level specifications to be material and real for individual customers.

Okay. Got it. One of the other things that I wanted to touch on is fiber -- just supplying fiber to the customers is a lower-margin business, I believe, related to addressing some of the other 5G equipment needs. How do you think about the margin drivers for Optical Communications going forward if a lot of the demand is going to come through fiber? What's the likelihood that you get back to a mid-teens segment margin if mix is going to be more inclined towards fiber?

Yes. On a quarter-to-quarter basis, the mix of products does make a difference in our margins. I think if you look at it from a longer-term perspective, 2 things. One, we have fixed costs each quarter that we use to deliver the products. And from that perspective, all growth helps us drive incremental margins. So that's a good thing. And fiber tends to be a higher fixed cost business, so its incrementals are generally pretty positive for us. The second thing is back to evolve that I mentioned, that traditionally wireless and 4G have been -- to the extent there's any optics used, it's optical cable. Now we're moving to a regime where our solutions really become, I think, very important, super attractive value propositions to our customers and also providing additional margin for us as we share in some of the costs we help our customers save overall. So I think that growth in 5G will help us reach higher margins than we have today and be in the vicinity of our peaks in the past. But no comment on the timing on when we get there at this point.

Before I move to the other segments, let me take a question that came in. And so the question reads, "What percent do you spend on R&D?" But maybe if I add a second leg to that because what you spend on R&D, I think, is more kind of current levels, just given the multiple revenue drivers or multiple new opportunities for revenue that you're ramping on, does your R&D need to kind of increase just to cater to those broader portfolio drivers or broader portfolio that you have in terms of growth? So maybe I'll make that a 2-part question for you.

Yes, So the -- next month, I will be celebrating my 10th anniversary at Corning. Over that time period, our RD&E has ranged from roughly 8% of sales to a little bit north of 10% of sales. It's been closer to 8% recently, and we have been able to bring that down because of the focus we imposed on projects we pursue back in 2015 with the advent of the strategy framework. The mechanism that we do to reduce those costs is we emphasize projects where we can repurpose and reuse. Gorilla is a great example that's been a big success, where we were able to -- often for us, the invention is both the formulation, the material and the process that we use to make it. In that case, the process was a relatively straightforward extension, at least in the early days, from our fusion manufacturing assets that we were using in display. And in fact, we saved about $1 billion in capital investment by repurposing assets built for display to go after Gorilla. But we also saved a lot in the research and development and the dollars and the time it took to get to market with that product. Today -- I'll talk about a couple of long-term opportunities that Corning may have pursued in a very different way in the past. They would definitely pursue things that were long term. But the ones I'll talk about today are quantum communications and computing and also active carbon capture. I think everyone would agree that if there are breakthroughs in those fields, it would be a big deal for the world. But those -- there are a lot of breakthroughs and it's probably a long-term program. Corning is an active participant and, in some areas, a leader in those fields because we're able to take our existing research on optical fiber. For example, how you make low-loss optical fiber is critical for quantum communications because point defects interfere with the transmission of a quantum wave. And the work that we've been doing that has allowed us to provide most of the fiber for records in quantum communications has also led to us advancing state-of-the-art for low-loss optical fiber. That's a product that we have today called Ultra and the whole Ultra family. In active carbon capture, we are using our existing technology for extrusion in our environmental business to make substrates that are used by some of the leaders in active carbon capture. Still a lot of work to be done in that field, but it's a fairly inexpensive thing for us to pursue because we can use downtime in our gigantic ovens basically to produce the products for carbon capture and set ourselves up for a long-term growth opportunity, we hope.

That's helpful. Essentially, a lot of synergies in the R&D across the portfolio is [ you said ].

Yes. Yes.

For investors, we're getting close to session time here. So if you have any final questions, please send them in. Jeff, one of the topics that I did want to get in, squeeze in here is Valor Glass. You indicated extra funding coming from the government. There's also a stronger volume ramp than you had guided to earlier. So just help us think through the revenue drivers here as part of the COVID-19 vaccine kind of ramp in capacity. And then what happens beyond that? What do we kind of think in terms of a sustainable growth phase beyond that?

Yes. I will give you facts, and then I'll give you a theory that I think there is some evidence for. So the facts are that we have seen increased demand in our traditional Life Sciences business driven by components of test kits that have gone into COVID tests. We received a government grant to help us expand capacity for robotic tips, for instance, that go into these. That is an example of getting a customer commitment that helps us derisk the growth. So we're excited to do that on behalf of everyone. And then in our growing pharmaceutical packaging business, early use of Valor has helped our customers and the government really get behind the value proposition. I think that bodes well for long-term growth. And the extra money that you see that we received in Valor, which I think took us from about $204 million to about $259 million, is due to just seeing the progress that we've made, seeing the value that it offers for COVID vaccines. But a lot of that value applies to other therapeutic areas as well and I think is good news for the long-term business. I will remind investors that there are 5 to 10 vaccines that fit in each vial. And recently, it was discovered that ours can go to 11. More on that later. And that -- so even though we're supporting hundreds of millions of doses, that's an order of magnitude fewer vials. And the real revenue opportunity when we start talking about it to you is probably more like 2023 than it is in the next year or so. So I think great progress from a commercialization perspective. Great progress from demonstrating the value. This continues to be a product that needs to get approved case by case. And good momentum, but a while from being material, really material to our financials.

Jeff, last-minute question coming in. "Any comments on the gross margin trajectory for the company here particularly given the -- again, the changing mix of the revenue drivers?"

Sure. Gross margin is something that we manage carefully internally. We want to make sure that our manufacturing efficiencies and investments are being realized and demonstrated in our financials. And that's an important reason that our operators look at that. From a company-wide perspective, however, we think our biggest leverage opportunities are on operating margin. Right now, we continue to be in a period where we're seeing some pressure, we think, coming from transitory elements like logistics costs. We talked about in the first quarter that, that reduced our gross and operating margins by about 150 basis points. If you correct for those, our first quarter results were the strongest operating margin in several years. And we're really focused right now given that there are still unusual situations on doing what it takes for our customers, on making sure our employees operate in a safe environment. But I'd add that we think we can do both those things and demonstrate further leverage and profitability improvement starting in the second quarter. So I think things are improving on those fronts.

I know we've gone a bit over time here, Jeff. Thanks for taking the time to host this. Thanks for attending the conference. And thank you to everyone who dialed in and sent questions as well. Thank you.

My pleasure. Thanks. Bye.