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

All right. Good morning, everyone, and thanks again for joining us for the Jefferies Virtual Industrials Conference. As most of you know, my name is David Kelley, auto tech supplier analyst at Jefferies. And pleased to host Littelfuse, a global leader in circuit protection, power control and sensing, for this 25-minute slot. Joining me today are Littelfuse's CEO, Dave Heinzmann as well as Head of IR, Trisha Tuntland. I believe Dave is going to kick it off with a quick slide PowerPoint presentation here and a quick recap of the quarter. And then we're going to dive right into fireside Q&A. One quick thing to point out, if anyone has any questions, feel free to IM those in, in the Wall Street Webcasting. Or if you want to email me direct, that's fine as well. My email is [email protected]. That's the letter [email protected]. With that, I'll kick it over to Dave, and thanks again for joining us this morning.

Well, thanks, David. Just briefly, I want to -- just one slide here, summary, for those of you who maybe are less familiar with Littelfuse before we jump into the details. So on the right-hand side of the slide, you kind of see our growth strategy in one picture. Structural growth themes for Littelfuse are sustainability, connectivity and increasing focus on safety, which are strong growth themes that really drive our business and our growth drivers, which are really around share and content gain, really strong focus on some high-growth end markets, complemented with strategic acquisitions that support ongoing larger, faster growth from an organic standpoint. So our outcomes, we expect, are double-digit revenue growth, best-in-class profitability and really top-tier shareholder returns that we've demonstrated over the last few years. Our Q2 '21 results were quite strong, where we delivered record revenues and EPS during the second quarter, really with broad-based demand across all segments of our environment. Challenging supply chain dynamics that everyone is dealing with, but our teams really did a great job of pushing through that. Order books and bookings are quite strong. So we really look to the back half of the year to continue to be strong. We feel we're quite well positioned to take advantage of the structural growth themes to drive good, solid outgrowth, double-digit growth, in the coming years. So with that, David, I'll hand it back over to you for Q&A.

Okay. Great, Dave. And maybe starting with your electronics exposure and particularly the setup given the strength in the quarter. We've seen distribution channel inventories remain fairly lean. I guess, a, what visibility do you have to the OEMs? And it sounds like there's been some anecdotal channel build, but anything more pronounced at this point that you're seeing?

Sure. No. And so we talked about this in the earnings call. We have great visibility to our distribution channels, full visibility to their inventory positions, their sell-through and those sorts of things. And clearly, David, as you talked about, inventories remain quite lean in our distribution channel. So there's not an inventory buildup there for sure. But we certainly have seen some evidence that key OEMs, EMS folks are trying to build inventory if they can just to kind of help weather the storm of shortages and things like that in other components. We don't have great visibility to the EMS inventory or OEM inventories. So it's more anecdotal than pure data there. But certainly, there are some, and we'll go -- where they're public companies, we'll go out and look at their revenue growth versus their inventory growth and see, are those matching up? But even if they're matching up, inventories are up, certainly, as they are even in our business. So we certainly see there's some effort going on to accomplish that. But there -- we haven't seen evidence of a strong buildup yet in that side. But bookings and backlog is quite strong for the back half of the year.

Okay. Got it. That's helpful. And it feels like the distribution partners of yours, they're staying fairly disciplined. You've been at Littelfuse for a long time, started your career there. Is that typical at this point of the cycle? Is this would have -- what you would have expected kind of going into a pretty pronounced recovery we're seeing?

Yes. Whether or not it's disciplined at the distribution partners or just the reality of the fact that whatever they get, they sell through as soon as they get their ability to build inventory. Clearly, they would like to build inventory. At this point in time, it's just not practical for them to accomplish that with kind of the dynamics going on. And certainly -- and customers wanting to build up inventory if they could. So it is a little different. You would tend to see a little faster build in inventory at distributors during a cycle like this. But it's an unusual cycle, right? The drivers of it and the rebound are quite different. And we also see maybe OEMs and EMS guys behaving a little differently in this cycle as well, being -- trying to take those things on themselves a little bit maybe. So it is a bit different.

Okay. And maybe kind of one quick follow-up. What does that mean from a pricing standpoint? I mean clearly, you've all had some pricing levers you were able to pull in the second quarter. But would it be as meaningful as you've seen in past cycle recoveries? Or does that provide some longer runway and -- or potential opportunity in the future?

Sure. And so it varies by different segments of our business and customer base. But in the Electronics side, where -- very broad-based customer relationships tends to be not long-term contracts in the Electronics side. So we're able to pass-through cost increases to customers faster there. So Electronics, we've had good success at passing along some pricing in that side. Other parts of the business, like Automotive, where we tend to have multiyear, long-term contracts, it's a bit more challenging to be able to do that in the near term. Longer term, negotiating contracts that we're doing right now will be favorable for us for the next few years. But it's a little tougher to deal with it in the near term on the auto side.

Okay. That's helpful. And maybe one more on Electronics and taking a step back from the cycle discussion, a few meaningful secular drivers as well. So hoping you could talk about some of the puts and takes and what you're seeing with your electronics exposure, whether it's areas like data center, consumer electronics, communications infrastructure, just curious on kind of visibility on the ramp.

Sure. Yes. No. In our electronics end markets, pretty broad-based sort of strength in demand, but particular strength kind of being driven out of, let's say, kind of the extended connectivity, structural growth stream that kind of drives some of our significant growth as we kind of go through digital transformations in our customer base. So we see strong demand and increases for increasing connectivity at the device level for our customers, the telecom infrastructure side of things and all the backhaul, 5G systems and things like that, the backhaul, massive amounts of data, video content. And then also, it plays out certainly in data centers, where we see strong growth out of our Electronics business, also our Industrial business, selling into data center applications. So that whole connectivity and digital transformation is certainly a nice growth driver for us. Sustainability also drives opportunities in the Electronics side of our business. So think of areas like smart metering, some kind of work to do optimization and power conversion. And power optimization creates opportunities for the team there that we're seeing. And then kind of this broader, we use the term electronification. So the amount of electronics in all sorts of devices, whether they're appliances or in our consumer goods, that increasing electronification requires more and more sophisticated circuit protection. And so, therefore, a very broad range of our products are responding to that and seeing very strong growth. So I'd say those are maybe the strongest growth areas within Electronics. But broad based is also quite strong.

Are you seeing any change in the competitive dynamic given some of the drivers? I mean do you -- when I think of Littelfuse, I think historically, a pretty like bubble set base of competitors. So curious if there's others making a bigger push given the opportunity.

Yes. I'd say in the Electronics side, we have not seen a lot of change in the competitive dynamics. We've had a strong set of competitors by product, by technology over the years. That hasn't changed too much. And we'll have some bigger competitors, and then we'll have nichier, smaller players, [ Visteon ] in Asia. So we really -- in some ways, surprising for us. I haven't seen the competitive dynamics change that much in the Electronics portion of the business.

Okay. Got it. And maybe shifting gears to your Automotive business. Also performing fairly strongly. Can you talk about regionally what you're seeing? I think we certainly got into the dynamics during the earnings call. But from a regional standpoint, it still feels like North America is playing some catch-up to demand. Europe's the slowest out of the downturn. China has rebounded to an extent. So from Littelfuse's standpoint, kind of what's your take on the regional perspective?

Yes. And so first of all, we have a very strong global presence in the Automotive, particularly in the past -- power portion of our business. And with the backdrop of car builds, we're still pretty modest, all things considered, because of shortages in chip supplies and things like that and resins and all sorts of shortages that are keeping the OEMs from completing the car builds they want. When we look at it from a global perspective, as you mentioned, I think North America, certainly car build is softer. OEMs would clearly like to build much more than they are today. However, our business is pretty solid because what the OEMs are doing, particularly here in North America and in Europe, they're very focused on the higher-end vehicles. So in the U.S., that's pickup trucks and SUVs. In Europe, it's higher-end kind of luxury vehicles that are doing the best either for there or export. Our content is much higher in those types of vehicles. So it's a favorable mix trend for us in that environment. So we do see the Americas, and North America particularly, car build continuing to be a good growth driver in the next probably 18 months as they try to catch back up. However, the mix will shift a little bit. It might be a little less favorable at the back end of that with the mix of vehicles being produced. And in Europe, we see that's quite soft. Even the demand side is relatively soft still in Europe. So we think that will pick up coming forward, whereas Asia, I think, has picked up and is reasonably stable right now. Particularly China is doing okay. So I think we kind of see them in different situations there. The good news is I think we're really well positioned with the electrification trends and even electronification, again to use the terminology, in vehicles as well. They're going to continue to drive nice growth in the auto side.

Okay. Great. And I think you've referenced the CV exposure, and we're seeing some nice commercial vehicle ramp and certainly had contributed strong growth to your second quarter results, but also some talk of maybe a second half pullback a bit. So maybe could you give us your sense of what you would expect given your commercial vehicle exposure?

Yes. On the commercial vehicle side, obviously there's been robust demand in the first half. And I think our mix of customers in the commercial vehicle side, they're finding a bit more challenging supply chain environment in the back half of the year. So again, not a demand problem for them that we're seeing. It's really more shutdowns are hitting them a little heavier in the back half. It just kind of caught up with them, if you will. So at least with our mix of commercial vehicle customers, we'll see a little bit of a pullback in the back half just because of shortages and shutdowns, not related to our products but related to others'. But we still see pretty robust commercial vehicle demand extending for a while that many of you -- or that we would expect.

Okay. Got it. And you referenced the underlying EV strength you're starting to see. I always sort of laugh when I was asked the EV question. So maybe to frame instead the typical content question. I wanted to ask about the competitive landscape, and you've been vocal about that in the past. And it is still early, but we're starting to ramp to maybe double-digit penetration in a couple of markets. How's that market share dynamic playing out relative to your expectations going in?

Yes. Yes. First of all, what we're doing is we're kind of leveraging our leadership and our key OEM and Tier 1 relationships on the 12-volt side where we're clearly the global leader. And we're leveraging those relationships at the engineering level to be able to continue to have a leadership position in the high-voltage side of the on-vehicle applications. So our content on high-voltage power distribution and battery management and protection, power conversion, onboard charging sorts of applications, there's lots of content gain opportunities for us there where we can get on a battery electric vehicle 6 to 8x content. But we've been open about the fact that if you look at the 12-volt side, we're the clear global leader, largest market share with kind of our -- the #2 player being about half our size and then it drops off pretty rapidly. We expect -- we are and continue to expect to be the leader in the high-voltage side, but we think it's probably impractical to think we have the same market share in that area. One, just the dynamics of the OEMs wanting to have additional players involved. As they're kind of in these emerging areas, it works in their favor to do that. And also, they're -- everybody in the world wants to go after EV. Right now it's one of the hottest markets and spaces, so there are industrial players that are targeting that and things. So while we are and expect to continue to be the leader in that area, our market share will likely be less than it is in the 12-volt side.

Okay. That's super helpful. And maybe one more on automotive. And again, we've got about 10 minutes left. If anybody has any questions, we'll get to those at the end. So feel free to shoot them over. But last one on automotive. I think we're -- we saw a bit of a pullback in the margin. Higher commodity prices for most right now. And as you've referenced earlier, it's a tougher pricing dynamic than some of your other segments. So can you just walk us through kind of expectations on the Automotive margins in the back half of the year?

Yes. Obviously, we've talked about the fact that input cost challenges are getting tougher, not easier. So commodity costs and things like that are not letting up, and logistics costs are higher than ever. So we're not seeing a flattening out or declining. Input costs continue to go up. Now we have some success of passing along some of that cost to automotive customers. But we've taken the approach with our long-term relationships with the automotive Tier 1s and OEMs that we will honor long-term contracts. So we're not breaking contracts. There are some suppliers who are breaking contracts. We believe that's not in our best interest in the long term. So where we might have specific costs and logistics costs that we'll negotiate with OEMs and Tier 1s to address, it's a bit more challenging, as I mentioned earlier. So we think there'll continue to be some headwinds in the auto side, but we're operating well within kind of the range we said in our long-term strategic area on our margin profile in auto. I think we will continue to in the back half of the year as well.

Okay. Perfect. And a couple more, while we have time, on Industrials. The Hartland acquisition and integration, curious if you could update us on status there and kind of how it's been performing. Or early days?

Sure. Sure. Yes. So it's going very well and really seeing the benefit of kind of, if you will, the basket of products between the 2 companies. That's a business that was very focused on the North America, specifically HVAC space, and that's been a very dynamic, strong market. So we've had the opportunity to take advantage of that both for their products and the core Littelfuse products. So it's been going quite well as we've begun to integrate that business.

Okay. And any incremental opportunities you're maybe more upbeat on post close, complementary products or cost synergies there?

Yes. And while clearly there are cost synergies in this acquisition, that's not -- the deal was primarily built around sales opportunities and synergies on the sales side. And really, that's -- they have very strong access to particularly HVAC customers here in North America, bringing more of our products along with theirs, which sit side by side. We see that beginning to take traction. We also see some of the core capabilities from Hartland actually having some play in what we would say building and home infrastructure and automation in our business, with our customers. And even there's some opportunity in some of the EV charging infrastructure for some of their technologies as well. So we're beginning to see some good things there bubbling up that we think will drive nice synergies in the business.

Okay. Great. And maybe last one on industrials. Can you just talk broadly kind of what you're seeing from a recovery standpoint? It feels like we're still early stages in ramping CapEx cycle. Plus you've got the electronification opportunity. So curious as to the visibility there.

Yes. It's kind of a mix in that part of our business. But certainly, with kind of an increasing focus on sustainability and electronification, that increases our product content. And we really are seeing kind of broad industrials strength. HVAC, we talked about that, certainly a strong area. Energy storage, power conversion, motor controls, those sorts of areas we're seeing pretty strong robust demand. In our core business, we've also had North America oil and gas as well as nonresidential construction as a big driver of our business. Those parts of the business are not returned yet. Those are still kind of bumping along the bottom right now. Maybe there's some glimmers of hope on nonresi construction. If infrastructure bills pass and they begin to invest in that area, it could bode well for that over time. But we're kind of late cycle on nonresi construction. So a little bit of a mix there. But overall, still quite positive.

Okay. Great. Is there anything, maybe a quick follow-up from a mix standpoint, we should be thinking about in industrials that could impact margins? Certainly, I think of [indiscernible], which is, as you pointed out, a big laggard at this point. Usually, it's a [ big ] margin business. So is it strictly a volume leverage gain?

Those are -- those will be positive opportunities. If those lagging parts of the business start to kick in, those are very higher-margin parts of our business -- the highest-margin parts of our business. So as those might kick in, if anything, that should give some tailwind to our margins in that business. So we're looking forward to that. Again, we tend to be -- we've seen significant improvement in margins in that business as we kind of completed some of our client consolidation activity that we're in the middle of and are kind of in the final ramp-up phases there. So we see some good positive momentum on margins on Industrial business.

Okay. Got it. And maybe one from an email question here. "Just updates on kind of the M&A opportunity given the what feels like kind of the high visibility to free cash flow ramp."

Sure. Sure. So obviously, as part of our strategy rollout that we did earlier this year, M&A plays a very key part in driving actually long-term organic growth rate -- accelerated organic growth rates. But -- and we have a very robust funnel of activities. We've actually added resources in that area to work to get a healthier and healthier funnel because the best thing -- the best opportunity for us is to have a lot of optionality in the funnel. It allows us to make much stronger business decisions and strategic decisions there. So quite robust, very engaged, lots of opportunities. We've got good optionality in our business. Things are a little bit amped up on multiples on opportunities. But if there are key strategic opportunities, the multiples are not going to get in the way because they're really big strategic plays for us. And not all businesses are at the higher level of multiples. So there are opportunities out there that we're actively working on.

Okay. And maybe just kind of more broadly, the capital allocation opportunity, whether it's dividends, buybacks. I mean there's...

Sure.

Your count makes a buyback tougher, but...

Yes. Yes. But -- so we've been pretty open about kind of how we see that. The best return over history for us that we've gotten is actually inorganic growth. So M&A continues to be our #1 area to focus on, and that gets our best returns. But we've said about 40% of our free cash flow, we will return to shareholders through dividends, which we recently increased and have a history of double-digit growth in our dividend profile. And -- but we're still an opportunistic player on share repurchase. So we'll continue to look for those opportunities. We might buy significantly for a couple of years in a row. We may not buy for 3 years in a row depending on what's going on with other opportunities and where we're at in the market.

Okay. Great. And we've got about 1 to 2 minutes left. And talked a lot about EVs, electrification and charging infrastructure. It seems like a fairly exciting opportunity for you, particularly the ramp up to DC fast charge. Still very early days, but can you walk us through the opportunity for Littelfuse in charging?

Yes. No. Actually, it's a significant opportunity for us in the charging -- off-board charging systems as well as, long term, the infrastructure in and around that because there are infrastructure issues that have to be addressed over time as well with regard to that, which can be energy storage, renewable energy, grid -- smart grid sorts of things, 2-way charging, those sorts of things that will create opportunity over time. But for us, our content opportunity grows significantly from level 1 to level 2 to level 3 charging. Whereas level 1 being really just a protective cord, and it relies on the onboard charger, so we've got onboard charging content. The charger itself, the protective cord, a little bit of a content but not a great deal. Level 2 improves. Those are the units you see mounted on -- in your parking garage or maybe in your home garage you have added. So it's content. The big kicker for us is DC fast charging, level, level 3, level 3-plus, level 4, that -- we're beginning to use those terminologies. So that's the DC-to-DC fast charging where our content grows dramatically from a few dollars to hundreds of dollars of potential in a DC-to-DC fast charging application. We've had good success being designed into some of the key leaders there and continue to look for opportunities there for our protection products as well as our power semiconductor products.

Okay. That's wonderful. Looks like we are on spot out of time here. So really appreciate your time today, Dave. And to everyone for joining on the line, thanks for listening as well. And then thanks, Trisha also. So I hope everybody has a great rest of the day and afternoon.

Sure. Thanks, David and Gavin. Appreciate it. Good conference.

Thank you.