Logitech International S.A. (LOGN) Earnings Call Transcript & Summary

All right. Thank you for joining this fireside with Matteo Anversa, CFO of Logitech. Matteo joined Logitech in September of this year, bringing decades of experience across a variety of C-suite roles across automotive and tech industries. Most recently, he was the CFO of Gentherm, and we're lucky to have him today. Before we begin, I need to mention that important disclosures can be found on the Morgan Stanley research disclosure website at morganstanley.com/researchdisclosures. If you have any questions, please reach out to your Morgan Stanley source representative. With that, Matteo, thank you for joining us.

Well, [ Nigel ], it is great to meet you in-person and be here. So thank you so much for hosting us.

Great. Kicking right off with an earnings recap. Maybe you can start us off and zooming on the September quarter earnings, which reflected stronger-than-expected demand and as expected channel fill. Can you talk to the drivers of the outperformance and key trends by business segment?

Yes, sure. So the -- couple of things I would highlight. First of all, we were very pleased by the performance in the quarter. The growth was broad-based, both in terms of the product lines, pretty much every product line grew, except webcams, and then it was broad-based also in terms of region. We had good performance all across the regions. To me, it really goes down to a couple of key factors that really, I think, made the difference in the quarter. One is execution. Second one is B2B. And then the third one is overall the end consumer demand, which has been solid. So -- maybe let me dissect it for you. In terms of execution, really, the -- I think the highlight of the quarter was Europe for us. We grew almost 13% year-over-year in Europe, which is almost a little counterintuitive based on what you read in the financial, papers about the economy in Europe. And it's really driven by execution. Our team knocked it out the park. They really had a fantastic relationship with the retailers, they organized demo days, play days where customers can go in, feel the product, test it before they buy it. And I think that really, really made a difference. So a great job by [ Elfin ] and his team in Europe. The other thing we were pleased is North America. So overall, AMR grew nicely, particularly in the latter part of the quarter, which also gave us the confidence then to raise the guidance for the remainder of the year. And then B2B, as you know, has been a pillar of the strategy that Hanneke laid out 6 to 9 months ago. With the fact that we are doubling down in B2B. We think there are great opportunities that I can talk through later. And actually, the consumer channel -- sorry, the enterprise channel grew stronger than the consumer channel in the quarter. So B2B, really, the growth was very resilient, very broad-based, and we're very pleased with what we're seeing. And then overall, the consumer demand was good. We grew -- it was about 3% to 4% up for the first half of the year. We are expecting the same thing to continue for the second half. So overall, it was broad-based. We are happy with what you've seen in the quarter.

Great. And you've also raised your full year guidance, but it still implies a second half revenue declined by around 10% year-on-year, which kind of implies quarterly revenue to come in below normal seasonality. So could you elaborate on why that is? What's driving your expectations for below seasonal December quarter? Maybe talking through factors such as your channel inventory, promotional intensity, seasonal end market, et cetera.

Sure. The -- so you're right. The -- we raised guidance for the year to up to 2% to 4% year-over-year growth. The -- if you take the midpoint of guidance, that would imply that the second half of the year is flattish to slightly down year-over-year. And the key driver of that is what happened with the channel inventory. I have to take you back basically to the end of 2024 -- fiscal year '24 for us. So we ended last year with the channel inventory being a little too lean. And so we spent the first half of fiscal year '25, so the first 2 quarters to replenish the channel. And that's why you saw particularly in the first quarter, a pretty sizable difference between the sell-in and the sell-through. That dynamic is reversing itself in the second half, after -- primarily in the fourth quarter after the holiday season is over. So really, the dynamic has nothing to do with what we are seeing on the consumer side, actually, I would say, things are trending well as expected. But it's really more around this replenishing -- the need to replenish the channel inventory in the first half of the year that is driving this dynamic. Our goal is to continue and end the fiscal year with a healthy channel inventory so that next year, we don't have the same volatility and we don't deal with the same issue that we had this year, which I know is particularly for investors can be confusing.

Understood. So actually as a follow-up, how much visibility do you have into December quarter relative to past years? And are there any specific trends by segment or product that you want to call out?

So this is the key quarter for us, right? It's the holiday season. So right now, so far, we continue to see good growth and the consumer is being resilient and is very broad-based, very similar to what we experienced in the second quarter. The -- and actually, growth, I would say, is pacing nicely so far. The -- on a -- if I break it down for you on a regional standpoint, we continue to see strong growth in Europe. AMR is performing similar to what we had in the second quarter, so similar to what we were thinking. And then on the product side, B2B continues to be strong, same reasons that I just discussed that happened in the second quarter. So I think so far, things are going well. Obviously, we are not naive, right? We know that the big days are ahead of us. We had a good 11/11 day in China a few weeks ago, where we saw good growth year-over-year, both on the personal workspace area as well as gaming. But the key sale day, Black Friday, Cyber Monday are ahead of us. So we'll have to see what happens, but we are confident that we're going to have a good holiday season, and we look forward to keeping you -- everybody appraised at the earnings call in January.

There's one trend you can already talk to, which is at least what we're hearing is quite persistent across the ecosystem when products are discounted, consumer demand outperforms and vice versa. So are you seeing this behavior as you refer to 11/11, for example, so far in the quarter? And how does that specifically influence your approach to discounting lodges and products in December.

Look, I consider myself still relatively new with the company. It's been a little bit more than 2 months. I am really pleased by the diligence that all across the board, our sales team led by Quin has on promotions. We have a very good formula. We partner with the retailers. We are very quick, prompt, enacting. And when we do it, we do it in a way that doesn't unnecessarily erode the margins. So in terms of what we are seeing in this holiday season, nothing different from last year. There is nothing that concerns me nor that I would call out in terms of change compared to what we have seen in the last 12 months. Now obviously, when you segment this by product, the -- our philosophy has been to protect our mid-to-high end of the product lines with higher ASPs, and then protect the shares on the lower end and therefore, price a little bit more aggressively, call it this way, on the low end of this product spectrum. But overall, really nothing different from what we have seen in the past in terms of the promotional environment in this year.

Got it. Switching to a key topic, which is the impact of potential tariffs on U.S. bond Chinese export that sort of the incoming administration has hinted at sort of increasing. So how has the company diversified its manufacturing base in the last 4 years to limit the impact of potential tariffs? And how much of your U.S. bond production currently comes from China?

So Hanneke talked in the past about the fact that Logitech is an operational powerhouse. I having just joined, I can 100% confirm that. And I -- the numbers talk by themselves. So if you go back to in 2018, 2019, we basically had almost 100% of the products that we sold worldwide were manufactured in China. Today, we are about 40% of the products that we sell worldwide are manufactured not in China. Our plan is to have to basically reach this percentage up to 50%, slightly higher by the end of this fiscal year. And actually, this number -- so this exposure is even more limited if you look at the products that actually are sold in the United States, which will be most likely the bigger target if the administration goes where it seems they will go. So the team has been working on this now for several years. They've done this in a very methodical, solid way by changing some of the suppliers moving out of China without impacting quality. And in most of the cases, they've actually done a cost neutral. I mean there is -- I'm sure we'll talk about gross margin later. But product cost reduction has been a catalyst of the profitability growth of the company. And as you can see, none of these moves impacted the gross margin of the company in the last few years. So they've done a phenomenal job. We are much more resilient, much more diversified than what we used to be. Now we will have to see what happens and the extent of the tariffs in which kind of shape or form that will be applied. But if things turn out in the way that there is some speculation on the press. I think we have several levers that we can use to mitigate the impact of the new tariff environment. We can definitely accelerate the move out of China. We can increase this percentage just mentioned, of production out of China much faster than what is originally planned. We can renegotiate and change suppliers, working on shipping routes, product classification is another area where the company has done a marvelous job in the first time this happened in 2018, 2019 and changed the product classification, so we were not impacted by tariffs. And then ultimately, price is always the -- an option. So we have a very solid, detailed step-by-step plan that we are ready to enact once we know exactly the dynamic and the landscape of the tariff environment. And I think we are very ready. I think we know exactly where our competition is in each of the key products, and that's where we're going to attack immediately. But first, we need to know exactly where -- what the landscape of the tariff is going to be, but we'll be ready.

Perfect. Maybe switching from top line to gross margins, which have been very impressive in recent quarters, outperforming even your own guidance by multiple points. I guess first question here would be, where are you -- basically why or where have you outperformed your own expectations?

We're very pleased with the performance of the company and a big thanks really goes to Sri, Prakash and our operating team in continuing to drive product cost reduction. So if you look at year-over-year, second quarter gross margin rates were up about 200 basis points. The majority of the improvement was really around actions that the team has taken to reduce the product cost. Primarily around value engineering, so taking cost out of the bill of material through partial design change, full design change, [ akilo ] substitution, so all these kind of activities that we do every year. Then on top of it, in the second quarter, we had also a -- we leveraged very successfully the strong demand that I just talked about, and we were able to sell some of the previously reserved inventory, which gave us about 100 basis points margin lift. And that one, we know that it's not going to repeat to the same extent moving forward. So that's why we said in the earnings call that the gross margin rate will go from about 43.5% in the first half of '25 to about between 41% and 42% in the second half. And the driver of the sequential decrease is driven by this 100 basis points that I just talked about, plus a combination of mix freight cost and a little bit more promotional activities. And the mix and promotion is pretty normal. That always happens in the second half of the year. Because that's where you have the consumer, the holiday season. So that's when you always have an uptick a little bit of the promotional activity in the second half compared to the first half. But that's something we can control, and we'll see how the holiday season plays out. Freight is -- I think, is a matter of what we are seeing, freight costs are elevated. And in some of the lanes that we use. So I'm not expecting a lot of room out of that. But that's kind of the dynamic that we are expecting for the second half. And so this will take the total year to gross margin rate of 42% to 43%, which is on the higher end of the 39% to 44% range that you just talked about. And year-over-year, it's about 100 basis points improvement, which really comes again from the great work that the operating team has done on the value and engineering and product cost reduction that are just mentioned.

Got it. So as a follow-up, I guess, as you're already approaching the higher end of your guidance range, despite actually your highest margin segment being retail calibration underperforming. Is the -- is 39%, 44% range then too low? Or should we assume that recent trends that provided this margin expansion will slow and why would that be?

Great question. The -- look, I think we will update everybody at the January earnings call -- sorry, the April earnings call actually, the for -- with an update on fiscal year '26. So it's a little early to say. I think right now, the 39% to 44% is a good range. Things may vary by quarter. If you look at some of the products, to your point, the gaming, for example, which performed also very well in the second quarter tends to be a little bit more dilutive if you look at the product lines on the gross margin rate for the company. But on the other side, video conferencing B2B is actually accretive, right? And -- so you can have some puts and takes happening in each quarter. Tariffs are an unknown. So I think it's a little bit premature for me to change the 39% to 44% range. I would stick with that for now, and then we will update everyone in the year-end earnings call once we know how the holiday season went, how we close the year, and we're going to have a little bit more visibility into 2026.

Makes sense. Then maybe going on to OpEx. I think one of the concerns that has emerged from September quarter earnings was OpEx, which grew 15% year-on-year, while revenue was up 6%. On the earnings call, your CEO, Hanneke Faber said, you were able to take advantage of some gross profit outperformance to reinvest in the business. But the question is, is this the new norm for Logitech? Meaning should we expect higher levels of OpEx intensity such that less profitability flows through if enabled by the gross margin?

No. That's the answer to the question. So let me expand a little bit. So for sure, we cannot take the second quarter operating expenses rate over sales as a proxy for the future. There were a couple of dynamics happening in the second quarter. We had a few events like Logi WORK, Logi PLAY that where we see some cost that it was really timing that push the OpEx rate a little higher. That won't repeat in the second half. Actually, you will see the second half operating expenses rate to come down notably here in the next couple of quarters. And our plan is at the end of the year, OpEx will be within the range of 24% to 26% as we previously stated, maybe on the higher end of the range, but within the 24% to 26%. Philosophically, though, I want to address the second portion of your question. Our philosophy has always been we want to spend the OpEx that allows the company to grow. So we're focusing on NPI, product development, go-to-market. And we are going to be relentless in driving efficiency in G&A. And that's what you should expect from us and investors should expect from us.

And so maybe wrapping this portion up. If we think of all the moving parts in your model this year, what are the biggest factors that would put you at the high or low end of your full year '24 -- sorry, full year '25 guidance range, respectively, both from revenue and operating income?

Sure. So let's go through the income statement, right? We are finance people. The -- so if you look at revenue, I think the holiday season will be critical. So we'll see how things go. Things can go a little better than what we talked in the second quarter, or a little bit worse, but that's really a variable. And we will know the answer pretty quickly here in the earnings call that we'll have in January. On the margin standpoint, I would go back to the comment that I made when I explained the second half margin, right? So the 3 key variables, the negative mix, the promotional and the freight. I think freight is going to stay as we're expecting. I'm not expecting a lot of changes because they elevated based on what we are seeing. But the promotional and mix is a function of a little bit of how the holiday season goes and how the mix of product that we're going to sell go. So if B2B continues to outperform and perform strong, there can be a potential lift that we may see here in the gross margin. On the promotional side, right now, no change. I am not seeing any shift in the environment, but we'll see when we report the numbers. But that really are the couple of variables that can swing in a way or another. But I think holiday season is critical. So the next few weeks is where really, we're going to have an answer to some of your questions. So we'll wait January.

Yes, understood. And actually, then let's move into the more sort of medium-term outlook. Earlier this year, Hanneke revised the long-term growth expectations from 8% to 10% to mid-single-digit organic growth. Can you help us better understand how Logitech is thinking about the long-term or medium-term growth rate of your 3 major segments to get to that?

Look, the -- so first of all, the 8% to 10% included M&A. But as you know, you can't control M&A. So I think we did the right approach by eliminating M&A out, taking M&A out for a minute and talk about the mid-single-digit organic growth that I think investors should expect the company to deliver and that's what we're expecting to deliver organically moving forward. In terms of spaces, I would go back to a couple of key points. Doubling down on B2B has been a cornerstone of the strategy that we laid out last year. And you see some of the results are really encouraging. And I think even more importantly than that is the approach that we are having to NPI. It's very, very focused, is really continue to do -- continue to be great at what we do great. And that has been the -- in a way, the mantra that we used for approving cost on the NPI. And we are launching some fantastic products. And I'm going to stick to B2B for a second. Sight, for example, which is the one that was named by Time Magazine, one of the best inventions of 2024. With the help of AI, we built a smart switch software where if you are outside of the room, if you're at home and all your colleagues are in the room, you feel like you have a producer in the room. This software can distinguish between me talking versus me opening up a bag of chips or make a noise cup. And you are really much more in the room compared to the traditional product. Gaming, we launched 18 NPIs in the last quarter. I really encourage you to try some of them -- some of these, the Pro Series with the new [ Promise ], Pro keyboard that were actually designed with professional gamers and in mind and have been doing fantastically well. The new Wheel series with the shift are much more real, much more -- I'm a big Formula 1 fan, I can say from Ferrari. The simulator is what I really like, it's unbelievable. You should try it if you haven't. So these are really where we are focusing our efforts. And back to the B2B side, I would add we -- people think about B2B office, which is great. It's a great space for us because particularly in the -- say, in the U.S., hybrid work is here to stay and companies are changing their offices to make it smaller and to make it a more video conferencing ready, and that's a sweet spot for us, right? But there are also other big verticals that we are going after, health care, education. So these are all fantastic opportunity for organic growth that require really minimal product changes. We already have the product is a very asset-light type of model, and we can really tap into the spaces and really grow organically the company. So that's why we feel comfortable about -- talking about the mid-single-digit organic growth. But these are the key areas that I think you will see us focusing on.

Very clear. But there's also the element of competition.

Yes.

So maybe if you start at the personal workspace where you are a clear market leader, competition hasn't given up, you see OEMs and even Microsoft are introducing products. So what does Logitech need to do to defend its market-leading position? And do you think more serious entrants could lead to greater price competition.

We are paranoid about competition, okay? So that's for sure, and we keep that in mind. The -- what I think is what differentiates us on the personal workspace, I think is 2 things. And I think this will continue to be a differentiator for the company. One is the design, and the second one is the performance. The design is our ability to tailor the products to the different critical to qualities, characteristics. That the different consumers have, right? So we have keyboards that are made for the new generation, like the Pop Keys where you have the emoji, they come out, you can replace the emoji. And then if you want a type a text, you click the emoji and all of a sudden, this thing goes into the text. This is for the young generation, okay? You have the products that are for the ergonomics, so the ergonomic key, the economic mice. You have the products on different colors for -- also for the young generation. The Alto keys that we launched in China, which became after a month, the top keyboard being sold in China, also for the tailored to that specific customer. And then you have the performance. And what differentiates us is what our product can deliver that is a step ahead of competition. So for example, if you take the MX mouse -- mice, you have several buttons in the mouse. You can go into our website, download the Options+ app, and you can tailor how you want each button, what you want each button to do. So you can create shortcuts. If you're an excel person like me, you press a button, you go straight to excel. So on waste time in getting out of the workflow. So your productivity really gets significantly improved. And that's how the company is really leveraging software being part of our hardware and AI. So as long as we continue to stay ahead of the competition on these features, I think we will be fine. But we are paranoid about the competition, obviously.

Understood. As an excel person using the mouse though.

I use mouse.

Okay. Maybe just switching to the gaming market. How has the recovery trended versus your expectations? And do you believe gaming is still a category with the greatest long-term growth potential? And how do you think about the various factors driving growth, like organic versus inorganic growth in core gaming expansion and into new markets?

Look, great results of gaming in the second quarter, up mid- to high single digit year-over-year. We continue to do extremely well on -- in the share, particularly on the mid to high end. And this is thanks to all the products that we launched. We launched 18 NPIs, as I said, in the quarter. And I just mentioned a few earlier, so I'm not going to repeat myself. I think the -- where we -- and we have been public on that, where we had some challenges in gaming is in the low end in China, where we saw some share loss. And so what we did, we developed a -- we reallocated -- this is not new resources, it's just a reallocation of resources of NPI resources into China to build in China for China products at the China speed. And the initial results are positive. Some -- I talked about the Auto keys in China, which are #1 keyboard for -- in less than a month. 11/11 data is positive. We saw good a growth. But time will tell if this strategy will allow us to protect the share on the low end. There is another aspect not to forget, China is a big gaming market. So the idea is to do this NPI in China for China, but then potentially transfer them to the rest of the world. So that's our way and our thinking of how to protect the share, but at the same time, continue to grow gaming worldwide. We're very, very bullish in gaming. Gaming is going mainstream, even within my family, I game, my wife games, my kid game. So you don't need to be a professional gamer. And that's why we have some fantastic range of products that go from the professional ones to the more mainstream gamers like you and I.

Great. I think I like this question in terms of worldwide AI gained significant traction, both in consumer and enterprise markets. Could this become a significant growth driver over time? And what areas of AI are you investing in today?

Well, we are using a high quite intensively also internally, like as a tool within Gentherm to make our teams more productive. On the product side, as you know, our products are software-enabled hardware, right? And that's where really in a way the competitive advantage comes in. And some of the products that I mentioned, the Options+ with the shortcut the Sight that use this Smart Switching is all AI-driven. So I think AI is very important for us, and you will see it more and more in our products, but Smart Switching is a key one for someone that works on home. You should try it if you have not done so -- and that's all AI driven, it's a great example on how we are using AI in Logitech.

Right. A couple more questions. I think enterprise has been a key area of investment for the company in the last few years. Where do these efforts stand today? And as you look out for the next sort of 2 to 5 years, do you believe that enterprise exposure will increase or decrease as a percentage of the mix?

Yes. We are -- I think cornerstone of our strategy, as I said, very pleased with the growth that we have seen in recent quarters, particularly in the second quarter. B2B enterprise will increase for the reasons that I mentioned earlier, is not only about our products in the new office hybrid work environment. And by the way, today, I think worldwide, only 20% of the video conference -- of the conference room are video enabled. So there's a big opportunity for us to tap in with the products that we already have. But then I go back to the new verticals. For example, health care, Hanneke was at Stanford Hospital on the West Coast a couple of weeks ago. They are buying the Rally Bar, our products in the conference rooms so that the doctors can interact with the patient's virtue is becoming more and more predominant in the health care space, particularly in the U.S. where the costs are so elevated. So that's a great opportunity for us. Education. Today, we are primarily focused on K-12, but there is all the higher education, which is also ununtapped opportunities. And what I like the most is really, as I said before, that these verticals require really just a minor change to the product lines that we already have in order to be fitted for these verticals. So to me, this is a great opportunity for growth. So we are very pleased with where B2B is going.

Very clear. Maybe circling back on M&A, extracted from the guide, but you have a rock-solid balance sheet, over $1 billion of gross cash, no debt. So what's your message on M&A? Will Logitech do more here? And if so, what kind of deals are you interested in pursuing?

Yes. So the team has done a beautiful job on the balance sheet. And I cannot take the credit, and this happened way before me. So the -- but don't take the size of the cash that we have as a proxy that we will start buying and go into an M&A spree. We're going to be very diligent -- and we -- both Hanneke and I believe that it's much easier to buy a company than integrate a company. So we will be very, very careful and diligent in any M&A activity you're going to see us doing. I would add 2 things. One, in order for us to buy something, this something has to really accelerate the growth of the company, right? And then even more importantly, though, I want to go back to a comment that I made earlier, we have so many fantastic products. The product lineup is impressive. And I did not realize it, quite frankly, well enough, again from the outside, you realize when you are inside the company. And these product lineups and these verticals that are untapped, like the ones that I just mentioned earlier, really represent great, great opportunity for the company to grow organically. And you're going to see us focusing on that.

Very clear. So beyond M&A then, how should we think about capital allocation priorities? Would they remain relatively static. You pay a growing dividend. We invest for growth and a buyback of $500 million per year. Should we expect any of those priorities to change?

We will continue to deliver strong free cash flow, as we always do. I think that remains a key priority for the company. We will maintain a great balance sheet. But in terms of capital allocation priority, you just mentioned, we -- whatever cash we generate, we fund organic growth, and then we paid a good dividend, and we buy back shares. I'm not seeing this capital allocation strategy changing anytime soon.

Very clear. We're running to the end of our time here. So I just wanted to give you the final minute or so to share your message for the audience about why this is the time to invest in Logitech?

Well, thank you, first of all, great questions overall. Look, maybe let me answer it, giving you my perspective is still the new person and what attracted me to the company. Number one, fantastic leadership team with a clear vision, I hope I was able to clarify for you with some of your questions on how to grow the company into the future. The company has been consistently driving profitable growth, and that is what you should expect us and the investors should expect us to do moving forward. We have a fantastic balance sheet that I think is really an enabler to allow us to continue to grow the company. And then ultimately, I would say, I'll give you another data point of what really excites me about Logitech. We did an analysis, and we looked at the top 100 countries where the company operates. And if you take these -- all these countries, just up to the medium share of wallet. The opportunity for us is more than $1 billion. So that's why I am in a way, so focused on the organic growth of the company. So that's really what excite me about the company, about the opportunity ahead, and I am so pleased to be part of it.

Perfect. Matteo, thank you so much for joining.

Thank you.

Everybody, have a good day.

Thank you very much.

Thank you.