TTM Technologies, Inc. (TTMI) Earnings Call Transcript & Summary

Well, good afternoon, everyone. We have TTM Technologies, our last fireside chat for the day. I have Todd Schull with me this afternoon. He is the Chief Financial Officer for TTM. He's been in the position since March of 2013, has previous stints as Senior Vice President of Finance and Corporate Controller at Sanmina Corporation as well as cutting his teeth previously at Deloitte as well as some leadership positions at Verbatim, Solectron, Tidal, Repeater, VA Linux and Ultratech. Todd, thanks for joining me today. We do have the ability to have questions coming from the audience. This is a fireside chat setup, so we'll do some Q&A. If you have questions, feel free to submit them via the QR code that's on the table, and they'll come through here to my iPad, and we can address those questions. All right. So I think we're ready to get started.

So Todd, just high level, I want to talk to you first about TTM. Do you mind providing us a brief overview of the company as well as its end markets, customers and general geographic footprint?

Sure. So TTM Technologies is a PCB, Printed Circuit Board, manufacturer as well as a manufacturer of RF components and subassemblies that have applications in microwave and microelectronics products. We have 24 facilities worldwide, 17 in North America and 7 in China. I'm sure we'll talk about it, but we've announced an additional facility that will be greenfielding in Penang, Malaysia. Revenues last year of about $2.25 billion. And we have probably, I want to say, about 16,000 employees worldwide, maybe a little bit more than that. It fluctuates from season to season, but a pretty sizable company. We're one of the largest providers of circuit boards to the electronics industry. For those of you who aren't familiar with what a circuit board is, it is basically the foundation of every electronic product. So components are mounted on circuit boards and that provides the electronic functionality for all the different products that we come to use in our everyday lives. We're unique in that we're a pretty diversified company. We have 5 end markets that we focus on. Our largest by far is aerospace and defense, about 1/3 of our business, and with the -- once we close our acquisition of Telephonics, that will grow to about 40% of our business. The rest of our business is relatively evenly divided with 4 different commercial end markets: Automotive, data center computing, which for us is heavily weighted toward hyperscale data centers, medical, industrial and instrumentation and then finally networking and telecom, networking communications.

Great. And I know you guys have been pretty acquisitive, been expanding geographically over the last number of years. I'd love to learn a little bit more about the long-term strategy, if you can talk to it. It would be great just to understand from your perspective, where you see the company, where it came from, where you're at today, sort of where the company is going in the future?

How much time do we have? But it's been an interesting journey. In our history, we've been a fairly acquisitive company. And early on, it was very much focused on diversification end markets and also diversification or you call it differentiation of our footprint, which we consider an important competitive advantage. We're probably the only company of any consequence that has the North America footprint to complement the Chinese footprint, so we can help customers with needs in terms of product development as well as some of our end markets lend themselves well to a North America business model, tend to be high mix, low volume or when necessary, we have a high-volume solution for our customers in our Chinese plants. So we've started off that way. And we've acquired a significant size. We're one of the major players in the PCB business globally and certainly the largest by far in North America. And as we've looked at our future, and we said, well, how can we help our customers? Where do we go from here? It was really looking at ways to add more value through really engineered solutions and services and as a way -- using that as a way to differentiate ourselves because we really saw that as the key. We've always focused on the higher end of the technology spectrum within the markets that we support. When things get commoditized, we tend to walk away from that business. That's not who we are. We're more technology focused. And so as we thought about, well, how do we build on that? We said, number one, we really like the aerospace and defense market. It fits our goal of longer cycled, less volatile end markets. And how do we grow in there? And then how do we combine that with kind of moving up the food chain a little bit with more engineered solutions and engineered products where we can add IP and add value. And it started with the Anaren acquisition in 2018, where we really got into the RF module subsystem business with beamforming and really managing signal integrity where we can do simulations of product characteristics. So our customers instead of just bringing us a design and say, build this, they come to us and say, "Here's a problem, can you solve it?" And it's a very different approach and one where you can bring a lot more value to your customer. And part of our strategy here is then, and also improve the financial model with that process and bring our margins to a little higher level and make ourselves more indispensable to our customers. It's all really centered around the concept of differentiation, whether it's a new location in Southeast China, which -- or Southeast Asia, which we can talk about or it's adding more value in products and services and capabilities to customers, something that sets us apart, which we can grow our business and get compensated for it.

Yes. Well, obviously, I want to talk about the Malaysian facility. I also want to talk about Telephonics a little bit. Maybe first we hit on Malaysia a little bit. Tell us sort of the rationale to the facility that you're building. I know you have a pretty robust footprint in China today, so to speak, great to get your perspective on sort of why you're doing that move and sort of your strategy going forward there?

The genesis of all of this is really the concept of supply chain resiliency. About 60% of the world's circuit boards are manufactured in China. That's a lot. And as we saw over the last 4 or 5 years, countries, the U.S. and China have not always played well with each other. And it's created some economic tensions, tariffs, technology embargoes. I mean and could it get worse? I mean, it opened people's eyes, particularly it opened our customers' eyes that, I've got so much of my product coming out of China. If for some reason those borders close, what does that mean to me? And has started to do some soul searching about how do we differentiate that or diversify that rather. And so we had had conversations, strategic conversations with our customers about what do we do and how can we help with that. We did a pretty exhaustive search looking for M&A opportunities and evaluating greenfield opportunities and then decided the greenfield was the best solution. But we did that in conjunction with some key customers. We wanted to go into this with anchor customers in place and not be totally at risk for the whole thing. And we were successful in doing that. We've got some really key anchor customers, focused around end markets of high layer count conventional technology focused mostly in data center, networking and some medical and industrial instrumentation, but primarily the first 2. And as we work with those customers, they've committed the capacity. They've actually made deposits to secure that capacity and that gave us the confidence to go forward and create a facility that's going to be able to generate about $180 million of revenue when it hits run rate. And as soon as we announced it, several other customers, potential customers called us up looking for help. So it's a real issue, and this will serve a real need for our customers, and it helps to differentiate us. We're going to be the first company of size in this kind of market and technology in Southeast Asia, and that will be an advantage for us.

Yes, of course. And obviously supply chain resiliency, it's a big theme, generally speaking, both in the U.S., thinking about how China behaves at times. Is there any other sort of discussions that you've had or been thinking about strategically about other ways to diversify that geographic footprint and continue to increase that supply chain resiliency to customers?

Well, we have the opportunity. So the $180 million in revenue is basically Phase 1. We have the opportunity to upsize that by about 25% within the bricks and mortar that we're putting in place, so there's some flexibility to grow there if the demand materializes. Beyond that, it will really depend on what our customers need and where they want to go. There's a lot of discussion about North America and reshoring. Is that something that's viable? There's a significant cost differential that needs to be evaluated and whether that's viable for some products, probably not in the commodity space, but perhaps in the technology space, could that be something. We've had our eyes set on and have a goal to try to develop a prototyping or a small operation, some place in Europe where we can serve our customers that are headquartered in Europe and have their R&D and development processes based in Europe. That's something that's kind of on our shopping list. Haven't been able to quite find the right solution yet, but that's something we've been looking at and would be another opportunity. And then we will take it that far, and then we'll wait and see where the market develops and what our customers need. I often get asked the question, well, are you shutting down your China operations? The answer is no. This is in addition to that. We feel there's sufficient business there that justify both. People just want to be able to have diversification in their supply chain and not necessarily totally replace one with another. You just trade one problem for another problem doesn't really solve the problem.

No.

That's what we're thinking about on the PCB side.

Yes. And it's tough to talk supply chain resiliency, onshoring and anything like that without discussing a little bit about what you're seeing labor wise? I know we're pretty constrained with labor these days in the U.S., globally speaking as well. It would be great to get your perspectives on that.

That's part of a bigger discussion about supply chain in general. Labor is just another element of supply chain, right? We certainly saw a lot going on in raw materials in 2021, started with commodities like copper, which then filtered into our laminate, which is a key raw material for circuit board fabrication. You saw it spread into chemistries, which we use in the fabrication process. So inflation was really just showing -- starting to show up everywhere. And also because we had a huge demand jump, created some supply chain shortages, which then just exacerbates the pricing, leveraging. And so it became a real challenge for us. We worked really hard to try to mitigate and solve a lot of those issues. Ultimately a component of that was price increases with our customers, which took a while to execute and was kind of new in our industry, quite frankly, but our customers kind of understand that. And so we climbed, I liken it to climbing a mountain and then the next quarter the mountain was higher because inflation was even more and we more or less got on top of that mountain by the end of 2021. And supply chain pricing, in general, is holding. The Ukraine-Russian conflict has created some pressure, inflationary pressures in some metals, but relatively minor compared to 2021's challenge and we're doing a good job mitigating that. So lo and behold, we get on top of that mountain and then North America labor becomes a real issue late last year. We've got -- and it continues. I mean, we have 11.4 million job openings, I saw from this week's article, and 4 million eligible unemployed workers is like, okay, there's 2, 3 to 1, that makes it really challenging. And that's been a big challenge for us in North America, is labor. We had a lot of turnover. It's not unique to us. I think it's pretty widespread. We see a lot of competition going on for particularly direct labor. I mean, it's across the board, engineering and other skills, but it's really a challenge for us in direct labor because we don't have enough hands to actually build our products and we have the demand for the products. So we took some actions from a compensation structure standpoint. We did a very robust evaluation in Q4 going into January and implemented a change in our compensation structure in February. The good news is that has helped with retention and its helping with the traction of new labor, but not as much as we would need or hope. And it will gradually get better, I think, as we go along here, but it's still a challenge in North America. But that then created another cost issue. And we got ahead of this one in December by talking about our key North American customers on pricing adjustments and so forth. And again, nobody likes a price increase, but they understand it. In many cases, they're suffering these same issues themselves. So it's not like we're unique in that situation. And they've been pretty accepting of what we've needed to do, but it takes a little bit of time before those price increases show up in revenue as you work through your backlog, which is pretty healthy for us and actually get that through the process and actually shipped out as revenue. So we're expecting to see most of that recovery and normalization in margins more in the second half of this year. We'll probably see some progress in Q2 of the current quarter, but really we're expecting most of the normalization to kind of hit equilibrium, if you will, an equilibrium in the second half of the year. So it's a challenge, but we're managing through it.

Of course, and something everyone's dealing with at this time. All right. Well, let's shift gears a little bit. I think we've talked enough about supply chain. You acquired Telephonics, just announced it fairly recently. I'd love to hear a little bit more about the transaction, talk about your strategic rationale, how it fits within your existing product offering, customers, et cetera.

I'd love to do that. I want to just kind of put it in context. We started the discussion earlier, we talked about Penang and what's going on in our strategy. Our strategy looking forward is focused on differentiation, okay? That's the umbrella. Under that, we've looked at a couple of different angles. We talked about Penang, which is more of a footprint issue to differentiate ourselves in the circuit board fabrication side. We also have 2 other pieces. One is an RF component business, relatively small, nicely profitable. We have IP in that area. So that's a nice area to grow. And we've been growing quite strong, but it's coming off a small number, so relatively modest contribution. But it's an area, again, where you're adding engineering content. And so you can move up the food chain a little bit in terms of the quality of what you're providing to customers. And that's an area that we would continue to look for opportunities to grow. And then the third one is fairly focused on aerospace and defense. And we want to continue to grow there, primarily through increasing the engineering content and moving up that value chain in terms of what we can provide to customers. Therein lies the Telephonics story, right? So part of that path, we know, has to happen through acquisition. Started with Anaren back in 2018, which got us into the component and subsystem business and RF. And then when we look at Telephonics, that is really a system integrator. So they design systems. So it's more of a Tier 1 supplier, a small company. But nevertheless, they have integration capabilities. And under that, they have -- half of their business comes in radar type products. So that's RF. And that has a nice intersect with our existing RF capability and their roadmap actually leverages pretty well with what we're already doing in terms of AESA radar systems and the latest technology in radar. So we think there's a lot of business synergy that we can generate there and help in terms of product development. But they're system integrators. So there's a lot of other parts of that equation, the rest of the product, if you will, that we don't have a lot of historical experience with. And so that's a new area for us, and that's what we really want to aspire to. So we're moving up the chain vertically from a component subsystem supplier to acquiring Telephonics gets us into the Tier 1 system solution provider, of which we can feed into, okay? The other part of it is Telephonics really supports not only radar, but they have communications and surveillance, which are big end market product directions, those are new for us. So it's an expansion horizontally for us. We see this as a really nice opportunity for us then to kind of put some infrastructure in, in areas that we can then add to as we go down the road with potentially further acquisitions as we go forward in time. So it's pretty strategic for us in that respect. It fills out the menu. It creates the infrastructure or the framework that we can then add to both horizontally as well as vertically.

And obviously this is probably a good segue to talk a little bit more about how you think Telephonics just generally fits into your M&A strategy? And how you think about your M&A strategy going forward?

Right. So we get into there. We see a great opportunity. There's synergy opportunities there that we think we can do. And we really focus -- we've done a lot of acquisitions in our life. And so we believe we have a model for it. We're disciplined when we buy a company, but we're also very disciplined in how we focus on integrating the company. And so we're going to focus the next 6 months. Our expectations are still to close this transaction by the end of the quarter. Assuming that happens, we're going to take the next 6 months to really focus on integration from an organizational perspective and start identifying how we're going to harvest or realize those synergies that we've identified to make sure that we can get the profitability where it ought to be and then look at the opportunities, how do we add on to this framework. So with pro forma, this acquisition will generate enough revenue where A&D revenue will be about 40% of our business. We'd like to grow that to about 50% of our business through additional M&A as well as organic growth. And that's something we'll aspire to. So we have, from a strategic standpoint, working differentiation on circuit boards, generally geographic, sometimes technology. We're working the RF component business, which we have, which we call RF&S, RF and Specialty components, which is relatively small, and we look for acquisition opportunities there. And then we have the more broad A&D business where Telephonics fits in, where we would look to continue to grow and look for M&A opportunities down the road with that. So that's kind of the strategic roadmap.

And obviously, you talked a lot about your exposure to the A&D end markets, trying to bring up the allocation from low 30%-ish of your total business to 40% after this acquisition, 50% in the future. How do you see the A&D market today? What themes are you trying to expose TTM to a little bit more and capturing the business to help drive value for shareholders?

Well, we certainly started and our core here now is RF, right? Whether it's offensive or defensive, radar surveillance capabilities are huge, whether you're space, ship, air, land, I mean, it's amazing. I mean there's football fields of radar tracking, just satellites in space. I mean, the applications are very broad. And AESA technology is really sweet because it's modular. You can have it in the nose cone of a plane and you can have it on a football field, track and junk in space. So it's very modular in its capability, and it's very attractive. And it's an electronic surveillance approach rather than a mechanical. If you think about the old movies where the radars are circling around, these are stationary, the signals are moving. So it's a different approach, but it's an exciting and it's a high-growth area. And it has its tentacles in so many different applications in the defense world, defensively as well as offensively, okay? You want to know if somebody is going to shoot something at you, you want to see what's up there in space and there's all sorts of applications. And it's a high-growth area. So that's where we focused initially. Telephonics fits into that because a big part of what they do is RF based. And we think we could see opportunities to continue to expand on that technology front. Could we add something else to that later on? Another component that is adjacent to what we do today. Sure, but we see a lot of potential in RF in the near term.

So the acquisition, just going back to Telephonics a little bit, the acquisition is getting you up to about 2.5x net leverage. You've guided to getting the business down to about 2x net leverage right in the year. I'd love for you to talk a little bit more about how you're thinking about capital allocation strategy as well as that deleveraging strategy as well?

Sure. We -- as I mentioned, we've done acquisitions in the past and we've gone to the debt markets and we've levered up to do some deals. This one, we happen to have enough cash on hand. We're just going to pay for it out of our checking account. But we are focused, we are fairly conservative in our financial discipline and approach. We think 1.5x to 2x net debt leverage ratio is kind of our sweet spot. And we'd like to be in there because that gives us maximum flexibility to do deals and go to the markets. We have a strong balance sheet that we can take advantage of. This deal will reduce the cash. So the net debt -- the debt doesn't change, but the net part does, right? So it will go up to 2.5x, which is still very, very comfortable for us, but it's just above the sweet spot. So we're going to -- we generate cash consistently as a company and we'll drive that down pretty quick. That's been our MO. Integrate, streamline, get those synergies, generate cash, pay down the debt, rinse and repeat. That's kind of been our model over a long period of time, and we'll do that. Now recently we talked about -- we had a stock buyback program that we completed. We announced it a year ago, $100 million. We completed that at the end of April, beginning of May, right, when we were dealing with this transaction. And I get asked the question, well, are you going to do that? Are you going to do another program? And in the immediate short term, the answer is no because I want to rebuild our cash a little bit. Longer term, sure. We've reached a level of maturity and size and consistency within our business that we feel that that can be an ongoing element of our capital allocation model. And we expect to be back doing something like that again in the future. It just won't be in the next 6 months while I kind of restock, if you will, from a cash standpoint.

So obviously we've been -- we're about 2.5 years or so into COVID now. The environment has been very challenged. You've seen that sort of play through in your own business. I'd like to hear a little bit more about your 2021 results and then Q1 2022 results as well and how you're seeing the business sort of rebound going forward?

It's been a series of body blows, right?

Yes.

And COVID wasn't done with one cycle. It's there have been several cycles. Well, here we have the latest. Fortunately this is relatively smaller than the last round and relatively milder. Thank you, heavens. But it's been an ongoing challenge, not so much in our Asia facilities, although we've had a lot of press about Shanghai and what's going on, but most of our facilities in Southern China and haven't been overly impacted. But North America it's been a big challenge. And we had the initial wave. We had the Delta variant, which had major impacts for our facilities. And our facility -- the impact on us tends to mirror the broader community in which our plants live, and we're scattered around the country. So as the wave worked its way from Northeast to the Southwest, you could track that in our plants in terms of the same pattern. And then the most recent one, so that affected '20 and certainly affected '21. We had the Delta variant kind of mid-'21, right? But then Omicron came through at the end of '21, beginning of '22. And it was short, but powerful. I mean it was intense, if you will. And we had significant impact. I mean, January, we had several plants with 25% of our employees quarantined. That has an impact on production. And thankfully we got through that fairly fast, but it's something we monitor. Now we're very -- our employees are paramount to us and we try to take good care of them. We even produce our own masks internally so that we could take care of them. We have protocols that we follow, but we're not immune to what happens in the community. When people go home, they live their lives. And sometimes they get -- they run into it and they get sick and that affects us in the factories, right? So it's an ongoing thing that we're doing to take care of our people. How has that affected the economy? Well, it affected us from a production standpoint, particularly in North America. We know that there was a lot of stimulus that came in. It's created all that demand in 2021, which created supply chain, exacerbate the supply chain problems, inflation setting in, now we're dealing with inflation, including labor, wage inflation, which is hitting us this year. So there's been a lot of -- a series of just challenges that we've had to deal with. And I got to tell you, I'm really proud of our team and how we've dealt with those things. Sure. Were our margins impacted? Yes. But we did really pretty well under the circumstances. And we see the potential to recover as we digest or overcome these hits that have happened from a really macro level induced. And we're fairly well through that. I think we see a path now, the second half of the year, our margins will be back where they ought to be. And I really credit my teammates for making that happen. It was not easy. It took a lot of creativity, and most importantly, responding to customers and being flexible and dealing with that. And I think we've done a pretty good job. I'm really proud of what we've done.

And what do you see as the next challenge ahead for TTM?

There's always a new mountain to climb, right?

Always.

Certainly immediately in front of us is the Telephonics integration. We got to close the deal. We got to get the integration done. We need to make sure that we navigate the interest rate environment and what is the repercussions of all of that and how does that filter through? Fortunately, for us, our capital structure is in a great shape. So there's a lot of -- we're really kind of -- that doesn't put the company at risk in any respect. We've got nice long-term debt in place. We do have one piece of debt that will get refinanced in a year or so, but we're in good shape to deal with that. So I like our position in being able to weather that. It's really just continuing to support our customers and continuing to find ways to do things better for our customers and differentiating ourselves so that we can carve out our niche independent of our competition.

Yes. It's hard to get through any conversation without talking about Russia-Ukraine impacts. You talked a little bit about it earlier with commodity pricing. If you have a few thoughts on it, we'd love to hear sort of what you think the impact is going forward.

Yes, it kind of comes on 2 levels. There's a direct impact and an indirect impact. The direct impact is modest, but it's primarily felt in metals. And even that has started to stabilize. So it's not. I think there was an overreaction initially. People figure out where truth is and the market kind of stabilizes and finds its footing. So we've seen some inflation in some of the metal pricing, but not too egregious. The indirect side of it is more what happens to our customers. We don't really buy a lot sourcing from suppliers in that part of the world, so it's not a direct issue, but our customers sometimes do, particularly one that's gotten a lot of press is the automotive community because a lot is done in Eastern Europe and particularly in automotive wire and harness for European automakers was heavily concentrated in Ukraine. Well, that went south and dried up. So now they can't get the wire harness to build vehicles. So what does that mean? So we see some demand fluctuations, particularly in Europe and then in the short-term here as a result of that. We see a little bit of fluctuation with the Shanghai lockdown from COVID over the last 2 months. But all of those things are kind of sorting themselves out. Europe's got another source now for the wire harness. They've gone back to Morocco. And that's a relatively easy transition. It's not a very sophisticated process. And China is reopening in Shanghai now this past week, and that's encouraging. There's a lot of auto manufacturers, both multinational companies as well as Chinese companies that are based up in that general area, and so they've been impacted by this. That coupled with Chinese incentives to kind of get the economy back and rolling bodes well, I think, as we go forward. So there's been some impacts here and there, but tend to be more focused on certain end markets, particularly automotive.

Yes. Automotive is obviously a very interesting end market. I think you're seeing a lot of interesting themes there, electrification, ADAS, things like that. I'd love to hear your view on it and sort of how you're playing that at the TTM level as well going forward.

We've had great success in automotive the last couple of years, ever since kind of COVID started to come out of the depth. And people have said, we grew 51% in revenue last year. We grew 20% in -- I think, 25%-ish plus or minus in Q1. We've given guidance to the effect that we'll grow in kind of mid-single digits in Q2 and people say, how do you do that when unit volumes are going down? And the answer is a couple of things. One, we are gaining market share. But two, it's the electronification story. We've all been shopping for cars. We've seen the features and those are continuing to expand. When we first got into automotive, and one of the reasons we did was this electronic theme. And back in 2015, going to 2016, there was $50 to $55 of circuit boards in a vehicle, in an average vehicle, more in a luxury vehicle, more still in an EV, but those are relatively modest. Now in the most recent numbers is there's $90 to $100 of circuit boards in an average vehicle. EVs are well over $150 of circuit boards. So you have a mix benefit. So the same number of units in 2 years is worth more to us because there's more circuit boards in the new unit versus the old unit. And then the shift to EV, although relatively in its infancy, it's gone from less than 1% of vehicles sold to -- it's got 3%-plus market share in new vehicles, it's like 10% in China, it's closer to 50%. That acceleration just plays into the electronic content theme. And so we're seeing that migration. And we have, I mean, a good presence in EVs. That's a strategic market that we're focused on. So all of those things are playing and really bringing some strength to our end market, and we're excited about that. And vehicle volumes, autos go through those cycles. But the electronic story is sure and continues to grow.

Yes. Still a lot of runway there to capture, of course. Okay. Well, we got about 5 minutes left, Todd. I'll leave it to you for any closing remarks. I'd love to hear a little bit about what keeps you up at night and what puts you to bed and then we can end there.

What keeps me up at night? Right now, our big challenge is labor. We've got customers that we need to satisfy, and it's challenging. We just don't have enough people to put it together. And it's a North America focused issue. And I say North America because it's Canada and U.S. It's not just a U.S. phenomenon. And so trying to find ways to solve that problem and to address that challenge without totally blowing up your cost structure and creating a P&L nightmare is something that we keep our eyes on. And then continuing to look for opportunities to differentiate, right? How do we set ourselves apart so that we can continue to grow and expand and be successful? That's what -- that's probably our biggest challenge and what I think about the most. What I am pleased to say I don't worry a lot about is our financial strength. Our balance sheet is in great shape. We've worked hard to put it there and keep it there. And so we're -- we can take body blows and still stand solid and be able to move forward with our strategy because we've positioned ourselves as a strong position from a balance sheet perspective. So I take a lot of comfort in that.

That's awesome. So it's obvious that TTM has a lot of momentum in the business today. It looks like you guys are on a great trajectory and a lot more of the story to come. Thank you for joining us this afternoon for the present -- or, I guess, for the fireside chat. Really appreciate it.

Well, I appreciate the invitation. It's good to visit with you. Thank you.

Thank you.