Corning Incorporated (GLW) Earnings Call Transcript & Summary

Good morning, everyone. I'm Samik Chatterjee. I cover hardware at JPMorgan. Welcome to Day 2, we have the pleasure of hosting Corning. And from Corning, we have Ed Schlesinger, who is the Chief Financial Officer. Ed, welcome to the conference. Thank you for making it in person and thanks as well for setting this up. For those on the webcast, you have an option to send any questions. For those in the room, we will open it up for Q&A in a bit once we get to a few questions. So bear with us.

Ed, I'm starting with a few standard questions for every company, and I know it's not the best ones to start with but I'll still run through them. We're asking every company based on demand trends that you're seeing, if I ask you for a probability of what a potential recession likelihood is your -- what number would you put or sort of what are you seeing in terms of demand trends to either confirm or deny it at this point.

Good morning, everyone. Nice to be here. So I think probably, like everyone else, I would put a high probability on growth slowing in general, macro growth across the globe slowing in general. I think it already has in many places. I think a recession is reasonably likely. What that looks like and how that plays out in various different markets, it's probably hard to say; in different geographies, hard to say. But I would say we are operating as a company under the premise that growth will slow sort of on a macro basis, and we're thinking about what that might mean for us.

Okay. Great. The second one in that list, the supply situation. Obviously, the industry's constrained at this point, but the China lockdowns had been sort of another headwind to navigate. How much -- how material is that? Is that just something on the edges making it slightly worse? Or is that a big material impact on it?

Yes. I think, in general, supply chain, certainly for the last 12, 15 months, has been difficult. And it has evolved where the difficulties are not just from an inflation perspective but just moving goods around, supplying the things we need to produce our products and what our customers demand has been, given their own supply chain constraints. But I would say China COVID lockdowns was pretty impactful for us at the end of the first quarter, and it's certainly impacting us in the second quarter. We're navigating it well. We are operating a closed loop manufacturing environment in most of our facilities, so we're able to operate even if it's not at 100% of what we otherwise would do. We're seeing that impact for our customers, and we're seeing that impact from our suppliers as well. So it's definitely impacted what we think otherwise would have been our ability to supply not only in that region but globally to some extent. And the only other thing I would say is that I don't know -- I think there's -- China is opening up shortly. At least in theory, they are opening up. I don't know what that means. And we, again, are sort of thinking about it probabilistically. There's definitely a range of outcomes that this current environment continues for a while. It may get better, but we're not assuming that it gets better.

On supply, again, I think last year, the consensus seemed to be that the second half of this year, you start to see a normalization or at least a material easing. And increasingly, as I've talked to companies that seems to be getting pushed out of it, what's your latest expectations of when supply does normalize? And maybe if I can add on to that, I mean, does supply normalizing means pricing normalizes as well?

Yes. Here, I would say I'm going to be conservative. I don't know that the supply chain normalizes anytime soon. We have changed the way we operate materially in various different ways. We're obviously looking to localize supply wherever we can, at least on the fringe and even structurally to some extent. I think supply chains stay disruptive for a while. Whether it's COVID China lockdowns or otherwise macroeconomic conditions, consumer demand may have an impact on that. We haven't really seen material change in raw material or commodity input costs from where we were at the beginning of the year other than in energy. I think that's the one I call out. If I thought about how we expected the year to play out in '22, energy is much higher from a cost perspective. Assuring -- supply assurance is also a little bit more difficult, especially in Europe, given the Ukraine-Russia situation. Again, I think we're going to be conservative and assume that it doesn't get better. I don't know that it continues at the same rate of increase, but we'll assume that costs stay where they are. And we've raised prices to offset that, and we have some price increases hitting here in the second quarter as well. And we're going to continue to look to do that if costs don't come back down.

Okay. Great. Bringing it back to some of the more company-specific questions, and thank you for answering the first 3. Before we get into any product segments, I mean, you've really run the business on these market access platforms as you call them. And even in uncertain or a tough macro, you're now expecting to grow about high single digit. How are these market access platforms sort of helping you drive that? Can we just go into that before we get into the individual segments?

Yes. I think stepping back for us, we think of sort of -- we have a more Corning strategy or approach to our markets. Our goal is to grow faster than the markets we serve. So to serve, we try to choose markets that have good fundamental dynamics and will grow over time. And our desire is to serve those markets in a way where we continue to add content. Mobile Consumer Electronics is a great example where we continue to add content into the mobile phone space. So we've significantly outgrown that market over the last 5 years. Automotive is another one where auto glass for us is a huge opportunity. It's actually a relatively small business now. But over time, we expect that to drive significant growth and to far outpace auto growth from a market perspective. So that's sort of how we think about it. And I think the fundamental dynamic in most of our markets is positive. And even in a recessionary environment, I think those markets can actually perform relatively well.

Moving back to the Investor Day guidance. And at that point, this was 2019, you had issued guidance for top line growth of 6% to 8%. As I just mentioned, you're on track to high end of that. In macro, that remains quite challenging. So how should we think about sustainability of growth when we return to a normal sort of macro environment? Or is the right sort of influence here that your growth accelerates beyond sort of what you've guided to in a normal macro environment?

Yes. I think there are a lot of important assumptions for us in that 6% to 8% growth range, and one of them is stability in display in the display market, and in our business, in particular, we've done really well. We've outperformed that market, and we think we can continue to do that. And we think that business can remain relatively stable over time. And then Optical Communications, which we see as having a multiyear significant growth environment where our customers and governments are funding large broadband network build-outs, we think that will drive a significant amount of growth for us in '22, '23 and then certainly beyond that time window. And again, just sort of ignoring recession for a second, I think if you look at it over a 4-, 5-year window, we expect that to be a very significant driver of growth for us. And then if I think about our other markets, there are some dynamics that we aren't really seeing a material amount of growth in now that we think can kick in over time. So for example, the automotive space, autos are actually down and haven't really grown in a couple of years. I don't think that can be the case forever. At some point, there will have to be growth in that industry to keep up with demand. And I think that will drive growth beyond where we are today, both in our environmental business and in auto glass. I think in Mobile Consumer Electronics, we'll continue to add content and there are some interesting things in that particular space like AR, VR, where today, we don't have any sales. But 3, 4, 5 years out, depending on how that market develops, there's opportunity for us to grow. So we haven't predicted or guided beyond the 2023 time window with respect to sales, but I think we may do that at some point later this year or early next year. And I would say, sitting here today, growing at that level seems reasonable, again, just putting recession aside and how that impacts the macro environment.

Got it. Now moving from the revenue growth to the operating margin or the earnings growth sort of trajectory that you had planned for, you had outlined expectations to continue to expand margins. The investor perception, though, seems to be that unless you're growing display, margin expansion is a bit tough to drive. Can you sort of share some insights there on where the investors might be sort of misplaced in relation to that perception?

Yes. I think the biggest change from where we were, let's say, in the middle of '19 and how we thought about that to today is obviously inflationary pressures that we've seen in our business. And I think as you all know, you probably hear this from companies, you incur $1 of cost and you offset that with $1 of price and your margin actually goes down. So it creates sort of this headwind for you that you have to overcome in order to be able to expand margins. And obviously, that's impacted us in 2021 significantly. We've stabilized margins. We expect them to go up from here and price will be one of the drivers, and we'll continue to cost reduce and we'll continue to grow. So I think there's a little bit of a headwind in that particular area. But I do think that we can continue to expand margins from here back to a level that we were in the past. And yes, it is important for display to be stable for us to be able to do that. I don't know that we need to expand margins in display to be able to do that, but I think you would have to assume that we're able to keep display sort of about where they are today.

Okay. Got it. So let's dive into display. You've reiterated even on the last earnings call for glass retail volumes to be up high single digit. And that continues to be a big debate with investors, right, given the concerns about consumer spending in this environment. We've seen downward revisions to smartphones, to PC units. And TVs are -- we don't get as much data, but investors are assuming the same. So just take us through what's embedded in your forecast, what gives you confidence in that number relative to sort of investors thinking it's a much more gloomy sort of environment for TV sales.

Yes. Maybe I'll start with the market or retail and then kind of come back to Corning. I think our perspective is glass screen size, and TVs will continue to grow. So putting aside the number of TV units that are sold, the amount of glass that will go into retail goes up. We project that to be about 1.5 inch a year. That's been the trend for the last few years. And if units are flat and that happens, you get about 4% growth at retail just from that extra glass. So to go from that 4% to high single digits, what we assumed for this year was that retail would be up a little bit. TV units would be up. I'll come back to that in a second, and that IT and public information displays and other things that glass -- other places where glass goes into would also be up a little bit. And that's kind of how we got to our high single digits. At the end of last quarter, we sort of reflected on that and said we think we're probably at the lower end of that range versus, say, the higher end of that range. And of course, what happens at retail and TV plays out a lot in the second half of the year. It's just where the retail season is. So it's probably early to really call the TV units. But the one thing I would remind folks about is that in 2020, the number of TVs that were sold was above the trend line. The COVID impact of people buying TVs was significant. And then in 2021, it was well below the trend line. So over a 2-year period, sort of averaged out at about the trend line. What we're projecting for '22 is growth, but we're not projecting the units to actually get back to trend line. So if you were to look at that over a 3-year window of time, I still think TV units has underperformed historically the number of units that have been sold. So I don't expect that to be materially better. Sitting here today, the data wouldn't point to that being better than what we've projected. Could be better depending on the retail season, obviously, in the back half. But I think it bodes pretty well for 2023 and beyond as we think that trend line really doesn't change with respect to the number of units that are sold. And for us, what matters really is what do panel makers do and how much glass we sell into that space and panel maker utilization remained pretty high, and we performed really well. We've projected panel maker utilization to come down in the second quarter and to stay relatively low, historically low in the back half of the year. So we're not really projecting there to be a very strong amount of glass sold into the panel making space. That's sort of what's baked into our outlook. And we believe the pricing environment can remain stable in that environment because supply/demand continues to remain relatively tight or tight to balance. And I'll expand, if you don't mind a little bit, we shared our perspective on the second quarter call. There are a lot of dynamics that helped us. First and foremost, we depleted our own inventory significantly over the last 6 to 9 months, and we really need to replenish it. So we'll use a lower panel-making environment to do that. Additionally, we have to take our tanks down from time to time and actually put new technology in, refurbish those tanks, and we intend to do that during this time period. We have not been able do that. So we're running a lot of our tanks past their useful life and in some sense, almost running them to failure. So we need for our own business to be able to do that. So we just think the supply-demand environment will remain relatively balanced or even tight for some time despite the fact that panel makers are taking their utilization down. So we think the dynamics in the industry for Corning are good. And if retail plays out like we think it is, we think we're set up pretty well for 2023.

Good. And that's an interesting point you bring about pricing because, I was going to ask you, clearly, you think pricing can be stable because of supply/demand holding tight on the glass side. For the panel makers, pricing has been declining quite rapidly, and that often leads to investors to think that pricing for glass should start to come down as well. What's different on the panel maker side? Is it really just supply-demand that's different? Or why doesn't it translate into glass pricing?

Yes. I think primarily because there isn't supply available for glass. I think that the supply-demand balance in the industry is what has kept pricing relatively stable. And by stable, maybe definitionally, for us stable is down a little to up a little, right? It's sort of a range of flattish pricing could be up a little, could be down a little at any given quarter, it doesn't mean that it's not down at all. We view that as a very favorable pricing environment relative to what price has been historically. So I think the supply-demand component, I also think we have great long-term contracts and relationships with our customers. And because we have a really strong position in Gen 10.5, which is where the large-sized display glass, where the industry is moving, I think it just positions us well to be able to maintain that type of pricing.

Great. Let's move to optical. Clearly, that's the segment most investors want to talk about nowadays. So just broad level, how are you thinking about the length of the investment cycle from your customers, both service providers and cloud? I think most investors think of this as being a cyclical investment cycle from your customers, but how are you thinking about the length of it?

Yes. We think the dynamic right now bodes well for a multiyear period of growth in the United States and Western Europe, maybe Latin America, the markets that where we primarily serve. So we view it as certainly a 3, 4, 5-year window of time. I always caution people that in any given quarter, you can have kind of what we use the technical term lumpiness, right? Where someone who's building out a network or a data center provider might slow down, might start up. So you can have spikes and they can go in either direction. But if you think about it over a year or a 2-year window of time, we would say that it's a double-digit growth kind of environment. And we think that's partly because of what we know carriers are going to do and data center builders are going to do and because of government funding for things like rural broadband in the United States or expanding out geographic networks in many countries in Europe.

Wanted to see if I can quantify a few things and let's see how much you're able to share on this. But curious about what Corning's share is, if you break it down by the service provider vertical and cloud, where do you think you stand today in terms of market share? And what are the sort of pricing dynamics, and how are they different in these customer verticals?

Yes. We don't give out share information, so I won't do that specifically. But I would say that we have a nice share of the market, certainly in the United States and in Europe, in the areas that I speak about. I think price is very dependent upon what customers decide to do. So for us, to the extent customers use things like a preconnectorized solution to build out their network, that's a much higher priced, higher margin-type product for us, and we think that's the case in many spaces. We actually think we can save customers a significant amount of labor cost in building out their networks, which is a significant portion of their cost. And as you know, at least in recent times, labor has been one of the constraints for customers to go faster. So we're seeing some traction there and some success there. And we think that bodes well from a margin perspective.

Okay. You've been mentioning on the earnings calls about capacity addition just to try and keep up with customer demand, right? So maybe just take us through what's the road map here in terms of capacity addition? How -- like what are the time lines around when capacity starts -- more capacity starts to come online?

Yes. One of the things that our CEO has said is if in this particular market space, if we could make more, we could sell more. And that actually is true. We have a significant amount of backlog in the space. And you can think of our sort of product sets in 3 buckets: fiber, cable, types of cable and connectivity, sort of the connectors that tie everything together. We added connectivity capacity in 2021. It's less asset intense and more people intense. And I feel like we're in a pretty good space there. So our bottleneck is primarily fiber and cable. We have capacity coming online in that -- in both of those spaces in the back half of 2022. And we're actually working on projects now. We haven't approved them internally on adding even more capacity in both cable and fiber. And we may make some announcements with customers at some point either later this year or in 2023. So we have a pretty good near-term ability to catch up a little bit. I don't know if the band stays where it is and -- which is a good thing, I don't know that we can catch up, but I think we'll make some headway on that in the back half of the year. And then if we feel really good about where the market is heading, we'll look to do some projects to add more cable and fiber capacity. And then those are probably 18 months to 2 years out in terms of when that capacity would come online.

That's actually a good segue to what I was going to ask you as a follow-up. As a CFO, how are you thinking about balancing, sort of spending on capacity here? Particularly given, I mean you have an investment cycle coming up, but then you do have probably lower utilization beyond that. So how are you thinking about balancing that? And I mean it goes back to what we've seen sometimes in the past where pricing in markets like China have been really tough on the fiber side. So how do you think about capacity addition in the context of where do you want supply to be longer run?

Yes. I mean a couple of things I would say, more generally speaking, we tend to like to get customer commitment in some form or another. Obviously, cash upfront is probably the best approach. If we're able to do that, we do that. And we've been pretty successful with doing that. And then there are other forms of commitment. We can get volume commitments in the form of take-or-pay, or we can get some other form of commitment that we feel fills that capacity for a period of time and guarantees us some level of return that we view as enticing in order to put the capacity in the ground. And we typically look for a 20% return on that invested capital when it's up and running. So let's say, year 3, if it's a 2-year project to get it up and running year 3, it's full, our goal is to be running at at least a 20% return on that capital for a significant period of time, a multiyear period of time. So that's kind of how we think about it. Depending on the market we're serving, it's easier to get the cash. We might be the only company that could actually put the capacity in and do the work. In Optical Communications, more often than not, it's a long-term -- a firm long-term commitment from customers that allows us to know will generate a return.

Yes. I know we have to get to a few more segments. We already got 2 out of the many that you have. So let me move quickly to Specialty Materials. You have been outperforming the underlying market. Can you talk to some of the use cases that are driving higher content for Corning glass, be it smartphones or wearables? And how much like room do you see to just continue to innovate there?

Yes. I think in this space is really the best example of that more Corning strategy. We've worked really closely with the large mobile consumer electronic manufacturers and we've innovated and we've been able to kind of move up the chain, whether it's a new material that we can get a higher price on, or more content per phone. The Samsung S22 Galaxy phone is a great example where we went from phone -- glass on the front to glass on the back. And then depending on the model, like the Ultra actually, we have glass on all the cameras on the back of the phone. There's 5 cameras. And even though the glass space is small, the content value is high. So I think it's a good example of a use case for us, and we'll continue to do that. And our customers really come to us with ideas and we co-innovate on those ideas. Sometimes they actually give us cash to actually do that co-innovation with them, so it derisks it a little bit for us. And then more longer term, I really think the opportunity -- if Wendell were here, or even Jeff Evenson, who's our Chief Strategy Officer, they start talking about AR/VR as a space, I don't know who wins out in that space. But I think there's a fundamental belief that someone wins out and that at least, to some extent, devices begin to take hold, maybe not at the level of 1 device per person, but certainly at a material level. And we believe that's a space where the content per device could far exceed the content per device for a phone for Corning. So although it's not something that impacts '22 or '23, if you think more broadly, that's a great use case for us where we think in the Mobile Consumer Electronics space, we could really move up the value chain in terms of adding content to devices.

Great. Let me open it up here to the audience and see if anyone has a question. Okay. And let me take the one on the web, that came over the webcast in the meantime. And this is more relative to your guidance. The question is, has anything happened since you released earnings to impact your guidance for 2022?

No, I think our guidance is still relevant.

Good. Let's move up to automotive, and noise around electric vehicles have picked up in the recent sort of years. And investors continue to sort of look at your environmental business and think about sort of the trajectory of emission reduction and the content over time -- or rather the amount of internal combustion engine vehicles moderating over time. You've clearly been more optimistic about your auto business when it includes sort of the other opportunities that you see. So maybe just outline the opportunities you're seeing outside of just emission reduction in the automotive market.

Yes. I mean, I think first and foremost, obviously, we all know auto production is constrained. So we think at some point, our view at the beginning of the year was the second half of this year. That start -- that constraint starts to loosen a little bit when more autos get produced. So that's good news regardless, I think, of the type of vehicle that's produced. I think from an EV perspective, what we're seeing is that EV manufacturers are more and more using glass in their cars for many reasons, lightweighting the vehicle, sound-proofing the vehicle, there are just -- the driver interacting with the vehicle, glass becomes more important, and we're seeing that. We think there's $100 per car opportunity. We've talked about that in the past. Far more than half of that, we think, is glass versus, say, emissions-related products. And we think that trend continues over time. And we're winning on vehicle platforms that will come out in a few years. So I think there's actual, real sort of data behind the way we think about it. So we're excited about EVs or ICE vehicles. We think there's a great opportunity for us either way.

Okay. And as we start to wrap up here, so taking all the sort of different segments or markets you're in, as we think about the next 5 years, which are the sort of market verticals that you're most excited about in terms of growth particularly.

Yes. I mean I think if I sort of reflect on what I think is the most likely outcome, Optical Communications will drive the most dollar growth for us over the next 2 to 5 years. It's hard to imagine not. It's our largest segment now, and we believe it will grow at a double-digit rate over that time period. So I just think from a dollar perspective, that is the highest certainty. Beyond that, I think we have an opportunity to continue to grow Mobile Consumer Electronics. We talked about smartphones. If you go out 3, 4, 5 years, AR/VR could kick in. And I also think in our Advanced Optics business, we serve the semiconductor market where there's likely to be more capacity coming online. I think there's some opportunities for us in that space as well. And then we just talked about auto. I think that's an area where I would expect us to grow from here, because auto glass is small. And so the rate of growth is actually pretty high. But as that business continues to gain size, I think we have the ability to grow dollars pretty significantly in the back half of that 3- to 5-year time window. And then the only other space that I would highlight, which I would be cautious on it, but I think it's interesting, is renewable energy, in particular the Hemlock business we have. We think there's an opportunity for solar to grow outside of China. And if that happens, we have capacity that we have not turned on in that Hemlock business that we could take advantage of. And that could actually be something that happens in the earlier part of that 2- to 5-year window, depending on how the solar renewable energy space plays out.

Good. Great. Next 3 questions are very CFO like for you. Free cash flow and the sort of CapEx investment trajectory from here on. Your free cash flow generation has improved as CapEx moderated, and it's down about 20% from, I think, the peak CapEx spend that you were doing. The question that I'm getting often from investors is when does CapEx need to sort of take another step up? How should we think about the capital intensity going forward, particularly if you have to sustain this level of growth?

Yes. It's a good question for us, especially as I think about the macro environment, generating stable free cash flow is really important. Having a strong balance sheet is really important. So those are things that are priorities for me and priorities for us at Corning. I think that in '22 and for the next few years, it's likely that we'll spend, at this level of capital, maybe a little more. I don't know that we'll go back to a significant build cycle. But I would not expect down significantly from where we are, mostly because I think there's just a lot of opportunity for us. We'll pace it, and we'll try to tie it, as I mentioned earlier, to some customer commitment, right? So if we get cash, it's a great commitment, high probability outcome for us, we'll put the capital in the ground. But if we get a long-term agreement, we'll do that as well. So I would say we are very, very thoughtful about it, and we seek to generate a return in a short window. But it's what we do, I mean, in order to really grow, we'll need to put capital in the ground for sure.

And that brings me to the second question here. You're trying to balance improvement of ROIC with growing the business and making these investments. So how do you continue to sort of think about maintaining this growth pace while balancing ROIC and keeping to those strict targets of return on capital?

Yes. I mean, I think -- the 2 biggest dynamics on our overall ROIC are stability in display, right? If we can keep display stable, that really helps to keep our overall return just at a macro level, at least stable. And then if we are able to get to that 20% return on capital or more over time, it should be accretive as we continue to grow. We had -- back in 2019, we had said maybe we get to 12% low teens kind of level on ROIC. We're almost there now in total for the company. So I think it's possible that we can improve from where we are and maybe mid-teens is somewhere where we could be at some point. If we're able to keep capital at this level, and continue to grow, I think that's certainly not unachievable for us. And as I said earlier, we're working on sort of thinking about the longer-term outlook, and we may share some perspective on that at some point.

Yes. Got it. Last one. So your gross leverage is modestly below your target leverage that you had shared. I think at the Investor Day was probably the last sort of time you provided an update on that. But I mean how are you thinking about capital allocation just given -- it seems like you're growing robust -- at a robust pace and in a tough macro environment, growth should be pretty sustainable going forward? I mean, how I guess, how can you be more opportunistic in using the leverage level that you have?

Yes. So I think when I step back, we take a long view on everything. We've been around for a really long time. We've been serving our markets for a really long time. So having a strong balance sheet is important. I don't think that perspective will change for us in the foreseeable future. We are maybe slightly below the leverage level that we had said. But in this environment, I think that's probably okay. I don't know that we would take a more aggressive approach. And from a capital allocation perspective, the way we think about it is our primary, sort of, delivery vehicle for allocation is organic growth. So to the extent we have organic growth opportunities, we want to be able to fund those opportunities first and foremost. Of course, we'll continue to return cash to shareholders in the form of a dividend, and we'll continue to buy back shares. But I don't think we would lever up significantly to do anything like that, at least in the foreseeable future.

Okay. Great. Almost up on time, and that's all the questions I had as well. Thank you. Thanks for coming to the conference, and thank you, everyone, for coming to listen to this. Thank you.

Yes. Thank you.