Littelfuse, Inc. (LFUS) Earnings Call Transcript & Summary

Good afternoon, everyone. I'm David Silver, senior research analyst at CL King. And I'm very happy to be the moderator for the presentation by Littelfuse. Representing the company, we have the Chief Financial Officer, Ms. Meenal Sethna, and we also have Trisha Tuntland, the Head of Investor Relations. So Meenal is going to start with some opening remarks in just 1 minute. But I am going to just mention that if you do want to ask a question, the audience can ask that question via the browser page in front of them. And I will give preference to questions from the audience as they come in. All right. So with that, I'm going to turn the microphone over to Meenal for some opening remarks, and then I'll start with a question or 2, and then we'll add in questions from the audience as they come in. Meenal, over to you. Thank you.

Thanks, Dave, and good afternoon, everyone. Thanks for joining us today on the virtual conference. Happy to be able to be with you today. You see the safe harbor here. It's out on our website, if you want to take a look at that. I thought what I would do is spend a few minutes just talking a little bit about Littelfuse for those of you who may not be familiar with the company. And one of the questions we've been getting a lot, as you can imagine, is what are some of the specific actions that we've taken during these challenging times with COVID, and I thought I would touch on that as well. So let me start with an overview of the company, Littelfuse. We are -- we talk about ourselves as a growth company. And when I talk about some of our financial targets that makes sense, we -- in 2019, $1.5 billion in sales really across electronic and sensor products, ranging from circuit protection products, sensors, semiconductor products, protection relays, so a broad portfolio of technologies covering, again, broadly the electronics, automotive and commercial vehicle spaces as well as various industrial end markets. We're global in nature, 11,000 employees around the world, and have got footprint in probably over 20 countries from where we are today. Our products are sold to a wide range of not just end markets, but also end customers. Part of our go-to-market strategy is both OEM -- direct OEM sales and design in of product as well as a lot of channel partnerships especially across both of our electronics and industrial segments. We've got -- when we talk about our strategy, we talk about really the secular themes of our strategy, in a context of safe, green, connected meaning, really a focus around safety. And many of our products starting from the electronic components and legacy circuit protection products we have, have safety elements ranging from resource efficiency and energy efficiency, whether that's electric vehicles, solar and wind energy products, LED lighting and then connectivity, increasing electronic content in products as well as connectivity. And I think that's been very evident this year where you want a number of devices, all that connect to one another, all that work seamlessly across your home, in office, and even your car as you're driving that. So those are really the secular themes that apply to us. And really, our strategy, I mentioned at the beginning, was really around growth, high organic growth, complemented with M&A. We try to focus our product development and our strategies around high-growth niches, high-growth applications, high-growth end markets, and then really look at M&A as an opportunity to supplement and add to the organic growth that we really want to drive for the company. So taking a look at the next slide in response to COVID, what have been our priorities and what are some of the actions that we've taken. From the get-go, really, this goes back into the first quarter where we started to see, of course, like many people, signs of the potential impact of COVID starting with China, and we have pretty significant operations in China. So we had stated gold very early on, the 3 that you see here around: first, protecting the health and safety of our employees, making sure we have safe work environments, extending that out to not just our associates, but their families and thinking about that more broadly in the community that we operate as well, where, in some cases, we've also donated personal protective equipment, et cetera, to first responders and others who need equipment in the communities where we operate. Secondly, our customers, many of the products that we are manufacturing that we're selling are considered essential. Many of the products that we're selling are into customers whose products are considered essential. So for us, it's been critical that we do everything possible that we continue to support and serve our customers and meet the needs they have as they're trying to meet the needs of their customers as well. And then lastly, and I have to call this the foundation, as CFO, the long-term financial health of the company, right? We are able to protect our associates. We're able to serve our customers and meet the needs of really all of our stakeholders if we have that foundation of strong financial health as a company, and that's what we've been focused on, whether that's been around cash. I can answer questions really about our financial structure, which remains strong, very strong balance sheet. Strong cash generation. That's been a hallmark of the company, and that continues. So when we talk about the key actions we've taken, a number of health and safety protocols that we've taken across all of our sites; we, like many companies, have some of our locations where we're manufacturing product or moving -- having to physically touch product, as an example, where we need people at our work sites. And we've put in a significant set of procedures and practices that really tried to keep our employees safe and healthy. And of course, their families as well. And also, where possible, working remotely to try and to manage that balance. Along the way, we have also done some work around our cost structure. We had started some of that back in 2019 when we saw some end market declines in 2019, but that's also continued in 2020. I'm happy to talk about that in more detail, so that our -- really our cost structure aligns much more closely to the demand levels we have. And then I highlighted the preservation of financial flexibility and liquidity. Very quickly made sure that we were focused on cash, cash generation, the availability of liquidity and really the strength of our balance sheet, all of which I feel very good about, we're comfortable with, and we tend to highlight more details as we talk about that on our quarterly earnings call. So overall, with those priorities, and the actions that we've laid out, our expectation is to come out stronger on the other side of this challenge, and I think we're well underway on doing that. And with that, I'll turn it over now to David. I think David's got a few questions from the audience and from himself as well.

All right. Great. Thanks, Meenal. So maybe the first question might be kind of get us up-to-date on the effect of COVID-19 on your global operations. So has Littelfuse suffered any notable production disruptions during the current quarter? For example, Mexico has been hard hit by the pandemic for some time now. And recent headlines have suggested there might be further lockdowns implemented in the Philippines. So you have a very global footprint, and can you just update us on the status of your key global operations?

Sure. Yes. So David, as you mentioned, we did have, especially because of government-mandated shutdowns back in the second quarter, we had several of our factories that were shut down in the second quarter, and in China, in the first quarter for periods of time. Our teams around the world really did a terrific job scaling back up, largely all in the second quarter. So as we've been in the third quarter and we talked about this in July at our earnings call, really, all of our plants are producing today. There's really been no change to that. So even though, as Dave mentioned, we have production facilities in Mexico, in the Philippines, those are countries where we have large operations in addition to China. We've been able to manage the balance of protecting our employees, setting up and structuring the working environment, so they're safe for our employees and then continuing to meet the needs of our customers. I think to specifically address your questions, Dave, around Mexico and the Philippines, while there have been certain spots or hotspots in Mexico, the combination of locations where we are located were where cases are a little bit lower as well as all the safety protocols that we've put in place, we've continued to manage through that, and our production continues in Mexico. And I'd say similar in the Philippines, it's been certain targeted hotspots have been an issue. And again, we've been able to manage through that with our safety protocol, and we feel good about our production capabilities and the safety.

Okay. And then maybe just building on that, but in the areas, I wanted like to ask about new product development and commercialization. So in terms of industrial marketing and commercializing your new products, have you been able to continue to communicate or collaborate effectively with customers while abiding by restrictions on travel and face-to-face contact. And how about -- so new product development or any other kind of naturally collaborative elements?

Yes. That's one where we've talked about this a little bit. We have been very happy with our abilities and capabilities and really just the opportunities to virtually overnight where we have shifted to some of the remote interaction or all of the remote interaction we've had to do and it's gone amazingly well. Part of what I've done is I talked to our associates around the world who are interfacing with customers on a regular basis or doing design in work and almost all of them to a tee say, yes, in the beginning, it was difficult and it took everybody a little bit of time to adapt, but now we seem to have found our rhythm. We found our rhythm with fellow engineers. We found our rhythm with other customers. And in many cases, what some of our folks are saying for sales calls as an example where you wanted to go meet with the company, you'd have to figure out how to get calendars to align weeks in advance to take a trip somewhere and now you can schedule a 30-minute phone call with a couple of days advance notice because you have a lot more flexibility since a lot of this is happening remotely. So our sales folks have been very happy with the ability to reach out, maybe to customers that they wanted to have a meeting with difficult to arrange a lot easier now. And the design-in work, I think, with the tools that we have in-house, and I think the availability of a lot of technology tools that are out there, the ability to have the conversations and do the work virtually has been a lot easier than maybe 5 years ago. So we've been very happy with the progress we continue to make there.

Okay. Great. My next question involves, I guess, competitive strategy and the effectiveness of your competitor -- how effective you are competing. So Dave often highlights particular new business wins during his public comments. And when you examine your win rates, let's say, over the past 2 to 4 quarters, are there key common elements that stand out? In other words, are you winning because of, a, strong customer relationships; b, a unique or bundled product offering; c, design-in elements? Can you say maybe where and whether you're gaining market share? And how your competitiveness is, I guess, evolving in response to whether you're winning your share of contracts or not?

Sure. So I would say, just stepping back, I think there's some facets to the way we go-to-market and our relationships with our customers that have really given us the proverbial seat at the table. And they are the virtual seat at the table as we talk about it. But I would say it's been around the engineering expertise we bring, and you were -- on the last question, you were asking about the design-in activity and how that's going. So whether that's literally sitting at the table with a group of engineers and thinking through the design or the architecture, say of an electric vehicle or really a change to the electrical system in an automobile in general, that's something that even in the automotive world, as we're a Tier 2 supplier, we work just as closer with OEMs as we do with Tier 1s around those types of designs. We're doing more and more of that with our industrial customers. So really, the design-in capabilities, I think, have been very strong. I think our long history around a lot of these technologies, whether that's circuit protection and then extended that to other areas that we've gotten into in the past 10, 15 years around semiconductor protection, in our power semiconductor products and sensors. Putting all that together, our teams have greater and broader capability. So that helps, again, as you're looking at product and product development. And then I would also say customer responsiveness as well in terms of -- our manufacturing footprint, as you alluded to earlier, we've got a very global footprint that's been very specifically to align our global footprint to where our customers are located. A lot of our customers are in Asia. For a lot of our growth has been in Asia. And so a lot of our manufacturing is done there because it is close to our customers, and a lot of our engineers are also located there. A lot of our North America activity, we have a lot of that in Mexico as well. Again, the closeness that we have to our customers as well. So that's allowed us to be especially responsive to our customers. It gives our customers opportunities to come visit with our engineers and see our manufacturing facilities as well. And then on the second part of your question around market share and how do we think that's coming? Our expectation is with these features and with really the capabilities that we've brought to the table for a long time that we absolutely would gain in market share during this time. You saw when I talked about our priorities, one of our key priorities is customer responsiveness and being able to serve our customers. And everything we're doing right now, with the protection of our employees, to enable our ability to serve our customers and that's really where we're focused on. We think there are some significant opportunities there for us to gain share.

Okay. Great. The next question I guess was, it would be about maybe the sensitivity of your company's sales and earnings to auto or light truck build rates. So during the second quarter conference call, I think your forecast assumed the third quarter build or production rate of around $17 million on a SAAR basis. And I think some of the more recent production forecasts for the third quarter are $19 million or above. So given that maybe reality is moving a little bit ahead of your initial forecast, is there any reason why your company wouldn't benefit proportionately or even disproportionately from this current kind of demand boost from the auto side?

Yes. I'll go back to some of the comments that we had made as part of our second quarter call, where we looked at the second quarter to be the trough in terms of sales, especially because of some of the declines in auto because OEMs and Tier 1s were shut down. And when we talk about going into the third quarter, we said we absolutely expected strong growth -- sequential growth coming back led by automotive for us because we expected that -- and what we were seeing, and we're continuing to see that in China, as an example, markets were starting to come back in the second quarter. We've continued to see good market trends, good demand trends in China that are continuing in the third quarter as well, both on the retail side and on the wholesale side. I think as -- also China is maybe back to, I think, what they would call a new normal in terms of overall way of life right now. In North America, we're definitely seeing activity because of dealer stocking of inventory. I think there've been a lot of stories about car lots being empty and people buying cars, and so a lot of good activity in North America from seeing that. And I would say Europe is maybe a little bit more cautious right now. I think some of that coming from consumer confidence right now, maybe a little less bullish than some of the trends that we're seeing in North America right now.

Okay. So I'm going to ask you another kind of auto-related question, and I'm afraid you could probably take an hour kind of parsing this. So I'll ask it in kind of a very general way, but given your exposure and your emphasis on the auto industry, is there -- and the changes going on there in terms of electronification of existing vehicles and then, of course, moving towards greater production of EVs. But is there a way that we should think about the relative contribution or earnings potential to your company from shifts in auto production mix with different designs, so there's a certain revenue potential from a gasoline-powered engine versus a gas electric hybrid versus a 100% EV? And there's 1 million -- I mean there's 1 million angles to this, I know, but internally, do you think an EV has 10x the potential of a full gasoline one? Is a hybrid at 7 on that 1 to 10 scale? Or how might we think about that? And really our own forecast for the growth in, let's say, EVs or hybrids relative to the overall mix of waters?

Sure. Let me touch on that at a high level, and then I'll answer some of the questions that you're asking. Overall, when we talk about automotive growth, we like many people talk about content growth in -- for us in automotive above and beyond car build. And we talk about that in terms of -- we generally expect 3% to 4% content growth above car build. So getting to some of the math you were asking about, we think of today, when we talk about content, we look at it more with our fuses or our protection products today. And we think about that as about a $4, $4.50 content per vehicle, per an ICE vehicle today. That's an average blended average across multiple regions when you take a look at that. 48 volts or otherwise known as the mild hybrid for us that adds about 30% to 35% additional content for us. Hybrid, different configurations of hybrids, but for us, a hybrid about 2x to 3x an ICE vehicle content. And then when we think about EVs, full EVs, we think about 5x, maybe more in terms of electrical content. I think that's still evolving as the architectures of EVs continue to evolve as well.

Okay. Great. I want to ask maybe about your overall sensor strategy. So since 2012 or so, I mean, your company has made several acquisitions that aimed to broaden your sensor product offerings and globalize your operations. And at points, the growth trajectory in this business appears to have been more mixed. So could you maybe highlight the areas of success within your overall sensor business and maybe touch on those areas where results may not have reached your expectations and whether your response has been to shift your strategy or rather to deemphasize that particular area. So kind of an update on your overall views within your sensor business.

Sure. Yes, it's a great question. So let me start out, if I take a step back. When I think about -- I talk sometimes about our sensor platform. And that really talks about the sensor products that we sell in both the automotive space, the general, I call it, electronic space and even some that are touching the industrial end markets. And for 2019, our sensor platform was, I don't know, call it, $180 million, maybe close to $200 million or so. So a fairly good-sized portion of the portfolio. For those that may not have the history, we've really been in the sensor space about 6, 7 years or so, it hasn't been that long. And really, we built it through acquisition, supplemented with some very strong organic growth. So what -- I'll touch on the electronics side first. While we had originally pegged automotive as a space we were looking at sensors, and one of the acquisitions we made about 5, 6 years ago came with some products as well as a pretty strong customer base in what I'd call electronics side: white goods, building and home automation, so think appliances, think building and home security and automation, which, as you can imagine, in the past 5 or 6 years has grown pretty significantly. So our strategy there, one, we needed to add capacity for us to be able to meet some of the market demand. We built a factory back in 2016 or so in the Philippines to be able to handle the additional capacity that we needed there. And that's really been a nice organic growth story for us. You can find those products as part of our Electronics segment. But that's -- we're really selling into a lot of the electronics markets and then some industrial applications as well. The other part of our sensor portfolio or platform has been in the automotive sensor side and I would say that's where there have been niches where we bought products that are in niches. As an example, originally more around seat belt buckle, safety sensors, but I'd say more broadly now around occupant safety. Because when you think about seat sensors and you think about autonomous driving trends, as an example, you need to know who's sitting in a seat, maybe the size of that person. Is it a child versus an adult, et cetera. So occupant safety has become more complex, as is climate and comfort control. So say, a solar sensor that manages the heating and cooling systems in your car; manages turning your lights on and off, if you're going through a tunnel as an example. And then there are other automotive sensor niches that we're in, those are just 2 of the examples. I would say that's one where we had focused on growth when we made our acquisitions on sensors, we did very well on the growth. We didn't -- it's a, unlike a Littelfuse, we didn't spend as much time on the manufacturing supply chain footprint, but that was a conscious decision because we didn't want to disrupt our customers by doing that. We were focused on growth. But fast forward to 3 or 4 years later, we found we were not really at the profitability levels that we wanted to be. So we did a few things. One, over the past couple of years, we've pruned out the portfolio a bit on some low margin products, and that could be some of the growth that you mentioned, where we took some steps back in growth, and that was because of some of the portfolio pruning we did. And then really also that over the past couple of years, took some big steps in really working on the cost profile. We closed down one of our factories that came with an acquisition. We took a look at how we could consolidate resources across our automotive businesses, combining that with our protection side of the business as well. And then we've just done some other workaround really taking a look at where we're making some of the investments. In our sensor business and really taking a look at some of our more profitable lines and really focusing on those. So I would say pre-COVID, we were well on a good profitability trajectory path, and I was really happy with the path that we were going down.

Okay. No, thank you for that. My next question would be kind of about your overall strategic footprint initiatives. So could you maybe just give us an overview of the key elements in your plan from the past few years? And what key elements within that original plan remain to be completed? And secondly, I guess I was wondering if the IXYS acquisition, from your perspective, has been fully integrated? And what, if any, meaningful synergies remain to be achieved there?

Sure. So if I take a step back, when we think about manufacturing supply chain footprint initiatives, they're not corporate initiatives or they're not big banks, but it's really -- I give credit to our business teams, they're constantly looking at their business. And as their business continues to evolve, they'll take a look at what's the right way to continue servicing our customers in a cost-effective manner. And so that's driven some of the actions that we've taken with even existing businesses over the past few years. I mentioned, as an example, we closed one of our European automotive sensor plant because it was something that we felt that we could continue servicing customers, but didn't need to do that at that factory. We did the same with one of our North American industrial segment plants as well. So those were, again, existing businesses that we continue to hone and we looked at some footprint there. There's a couple of others that are underway. Another one in our industrial segment that we expect to be completed in the first half of next year, slowed down a little bit, as you can imagine, with all things COVID right now, but we're well on track to finish that in the first half of next year. And then as it relates to IXYS, maybe to answer your question twofold is, we had talked about the IXYS acquisition originally when we had made the acquisition, and we talked about $30 million in cost synergies, that that's really what we were going after annualized cost synergies. The initial tranches of those synergies, whether it's public company costs, G&A and back office costs, other costs like looking at material pricing opportunities and logistics, things like that, those are all substantially completed, and we did those really in the first couple of years in 2018 and 2019. And as it relates to some of the -- what's still left on the synergy side, it's really the manufacturing supply chain pieces that we're working on now. There were a few projects that we're working on. We've talked about those in a couple of our calls, one being the consolidation of 2 of our epitaxial manufacturing facilities in the U.S., that's just about close to done at this point, and so we're finishing that one-off. The other one is a much bigger set of projects, which includes consolidating some of our semiconductor -- power semiconductor back-end assembling test activities out of a couple of facilities in Europe into a new plant that we've built in the Philippines as well as where we've got activity during, again, back-end assembly and test with some third-party partners moving that into our plant in the Philippines. And because a lot of that work also requires customer qualification activities, that will take us through 2021 to complete that. It's going pretty well, maybe a slight bit slower because of the lack of travel and customer visits out there. But once we complete those projects, we expect to be well over the $30 million in synergies that we had talked about when we made the acquisition.

Okay. So I want to ask a question sort of kind of get your opinion about something that can't be proven definitively yet. But so you're a growth-oriented company, and you're working in a lot of areas with interesting technological developments, and there are longer term initiatives, and then there are some tactical issues that have probably come up this year as a result of the pandemic. But what are the long-term secular growth drivers that you personally are most excited about and that you think Littelfuse is best positioned in? So in other words, if it's 5 years from now and we look back in your slide presentations and your public presentations, there's no shortage of growth opportunities seemingly in various end markets. But if you were a betting woman, which of those secular drivers do you think are going to prove to be most important to Littelfuse achieving that 10% to 12% top line growth half organic, half may be from M&A.

In the beginning, when I was going through a couple of my slides, I talked about the underpinnings of our strategy, the safe, green, connected. And what we're seeing now is -- I'll maybe do this backwards. Even in a post-COVID world over the next 5 years, areas like connectivity, I think, I've seen statistics about how connectivity and how areas like e-commerce have advanced so much quicker over the past 6 months and they might have over the past 6 years, as an example, and we see those trends continuing over the next several years. I think, as you -- you ask us about growth trends in the short term, and I think this will still continue a lot of the work from home trends that we're seeing, we would expect to continue. And longer term, what that does for 5G expectations, what that does around data and other cloud computing applications. So all good growth drivers, we think, for us, when we think about probably more desire for at-home capabilities, whether that's maybe gaming systems, entertainment, fitness, as an example, you're seeing a lot more trends of people wanting to have the flexibility to do things that were maybe available in a commercial setting to do some of that at home, maybe home health care trends as well. So we think those are good opportunities. When we talk about the resource efficiency or alternative energy, those have been good trends that have continued, but people continue to talk about those even more actively during this time, around -- expectations around electric vehicles, as an example, around other ways to be resource-efficient. Maybe you're in your house more, you're looking for more resource-efficient ways to be at home. You're looking at other solar energy opportunities, wind energy opportunities, all themes that we had built our 2016 strategy on and I think continue there. And then, I said the last one safety. I had talked about circuit protection being our heritage and the foundation around some of the safety. But you think about the conversations these days about human life and you think about the preservation of human life and you think about some of our products that could end up in other products like home health care, as an example, in addition to -- we've talked about occupant safety opportunities, harsh environment capabilities, that sort of thing. So I guess my summary answer would be a lot of the trends that we had built our strategy off of we think hold true and are even -- we can see even greater trends coming out of this COVID pandemic that align to those secular themes.

Okay. Thank you for that. And I think that puts us right up against our allotted time. So with that, I greatly want to thank Meenal and Trisha for taking the time to participate in our Best Ideas Conference, share all of your insights. And to the audience, thank you for your participation, and I hope you find value in the rest of the conference. Meenal and Trisha, thank you again very much.

Thanks for having us, Dave.

Thanks, Dave.