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

And this is our 2022 Leveraged Finance Conference. And we're thrilled to be back in person in Boca Raton and thrilled to have TTM Technologies with us today; and Todd Schull, the Chief Financial Officer. So Todd, thank you so much for being with us.

I appreciate the opportunity to be here, and thanks for the invitation.

Okay, great. So I think just in case we have anyone in the audience are listening that's new to the TTM story, if you could start with just some brief introductory comments on the company's key products.

Sure. So TTM is a global leading manufacturer of technology solutions, including engineered systems, RF components, RF, microwave and microelectronic assemblies as well as our legacy quick-turn in high technology printed circuit boards or PCBs. We have almost 30 factories around the world, revenue of about $2.5 billion on a pro forma basis.

Okay. So I think the company is quite well known for your PCB products. What's your current market share there?

So from a market share standpoint, it's actually -- the industry is relatively fragmented. We're probably the fifth or sixth largest globally in an industry that runs close to $80 billion now. We're number one in North America by far in terms of PCB capabilities, but we're one of the unique players in that we're both Asia operations as well as North America operations.

Okay. And then the scale of the non-PCB business? And how would you think about market share for that business?

I would say from a scale standpoint, that's pretty modest, very small at this stage. We've been growing into the engineered solutions element of our strategy over the last 4, 5 years now, starting with the Anaren acquisition back in 2018 where we got into RF subsystems. And then we've added to that now with the Telephonics acquisition that we just completed back in the summer, which actually moves us into a Tier 1 system solution provider.

Okay. And I think we'll touch on that more in a little while. So let's talk about the key end markets and then basically growth drivers and mega trends, if any, by segment. So aerospace and defense, it's about 40% of revenue.

That's right. Longer -- it's a steady market, projected to grow long term 2% to 4%. We've grown larger than -- or faster than that the last few years. Most recently, though, we're capacity constrained a bit in North America, primarily labor. It's hard to find enough direct labor to actually build all the products that we have demand for. But with the state of world affairs, you and I were chatting about that earlier, whether you're Democratic or Republican, there's really strong consensus for the need for a strong defense in North America. And so we have been participating and enjoying that. As far as we see for the next few years, it's going to be a very productive and strong end market for us, and we're looking forward to participating in that growth.

Okay. And then -- so those capacity constraints, it's not the manufacturing footprint, it's really just getting the people in the door.

Yes, we measure utilization off of equipment. And if you look at our utilization numbers in North America, say, well, that's kind of soft. We're in the high 40s, which for us is a little lower than we would normally run. The challenge for us is that it's -- we're not really equipment constrained. We're labor constrained. And we're not unique in that. I think you've seen a lot of companies talk about that recently that that's one of the challenges that along with supply chain, getting the materials that they need from their supply chain. We battle those challenges like they do. And so our demand is actually stronger than we have capacity to produce right now in the near term until we can fill out all the labor.

Okay. And then geographic footprint in the U.S., where are you?

Pretty diversified. Northeast has a sizable footprint. We have some in the Midwest, Denver, Utah has a plant, and then we have several California plants, again, more A&D oriented. And then in the Northwest, we have a plant in Oregon. So we're -- and then one in Toronto. Canadians don't want me to forget that one, but that's a very important plant for us also.

Okay. So A&D is obviously known for kind of long sales cycles and design and contract lengths, time to market, obviously. But with the war in Ukraine right now, how does that impact your outlook for this segment in terms of there being demand.

Yes. It's a sad statement to say, but we benefit from those kind of conflicts, unfortunately, for the wrong reasons. But there is a lag effect. So what we've heard about a lot in the last year is how the U.S. government and other governments have been contributing to the Ukrainian people to help them with their defense. Those materials, equipment whether it's missiles or launchers or planes or whatever, that has to be replenished. And what happens though is there's a lag. So typically, what happens is when we start to consume, we're in this consumption phase this year, there's talk now about replenishing the U.S. stockpiles that are being drawn down to support that conflict. But it takes a year to 2 years before that really trickles all the way down into manufacturing orders for a company like TTM.

Okay. So moving on to medical Industrial, so it's kind of up there with automotive as being your second or third largest segment. What's the growth drivers and megatrends and kind of growth outlook?

So long term, that's projected to grow like 2% to 4%, but we have been growing in double digits for the last few years and actually very strong this year, too. It's really 3 subsegments that are driven differently. They tend to be fragmented end markets. Medical based on demographics and the challenges of an aging population is very strong for us, really focused on patient monitoring equipment as well as the surgical robotics. In the industrial sector, more broad as you might expect, Internet of Things is in there. But particularly, we're enjoying success in industrial robotics as well as downhole drilling. You say drilling, oil and gas. Yes, that's right. There's actually quite a bit of technology involved in that, and it's more of a consumable used on the heads of drills when they're working in the drill field. So we've -- when the price of oil is up fairly high as it is, demand in that end market tends to be pretty good, too. And then instrumentation is the last piece of MII. That tends to be overweighted towards semiconductor CapEx. And so as you might suspect, recently, that market is starting to soften with a lot of the discussions going on from the semiconductor companies about not expanding too rapidly. We went through a phase where lots of planned announcements and now the breaks are getting put on to say, well, wait a minute, the economy is slowing. So we'll have to watch that end market, but it's been a very good end market for us over the years.

Interesting. So at this conference today, hosting a lot of different kinds of companies, there is a disconnect because companies that use semiconductors are still telling us that there is a shortage that they are -- don't have the supplies that they need. So it's quite interesting, but you're feeling the softness?

Well, you contrast that with some of the memory guys, whether that's a Micron or Western Digital or somebody you've seen a very different story from that end market. And you're seeing just caution, I think, on the part of others. Longer term, it's a great market. And we know semiconductor demand will increase over the long haul. But in the short term, we could see a little bit of pause there or a little bit of a slowdown.

Okay. And then same kind of rundown for autos.

So automotive is about 16%, 17% of our business. It's quite interesting because you hear a lot of discussion about the number of vehicles being produced technical term, I guess, a SAAR or whatever we like to use there. And that's been up and down, not very strong as it's been in the past. But yet we've enjoyed very strong revenue growth in that end market, and it's really driven primarily by the electronic content story. Every vehicle has more electronics in it, and electronics starts with the circuit board. And so we are now -- in the last 6 years, we've gone from $50 of circuit boards in a vehicle to $90 of circuit boards in a vehicle. And they just raised the upward limit where they think it will go up to about $180 eventually. EVs play into that. That's that and more in terms of content. So that is helping us to power through kind of stable or not too dramatic strength in the number of vehicles produced, but each vehicle has that much more electronics in it. And that's really -- we've enjoyed very strong growth there. We're looking at a pretty stable outlook going forward in that end market as we try to balance the number of vehicles with this growth in electronic content.

Okay. And then so what is your target growth for the auto segment?

For the Automotive segment, we're looking at kind of a 3% to 6% growth, and we expect to be above that this year, driven really by the electronic content theme.

Okay. Then data center and computing.

Great end market. 2/3 of it is data center driven. So think of the big names in cloud computing or the customer set there, been very strong for quite some time. Now the end market for computing is kind of 1% to 3%, but that unfortunately includes things like PCs and laptops and so forth, which is a much slower end market. The data center market is growing much more rapidly than that. We've grown 25% a year for the last couple of years, very strong growth this year and expect to continue to see good growth there over the long haul. The demands by you and me as users, whether we're storing information or running businesses or streaming puts a lot of pressure on the cloud, and this is all very positive for that end mark in terms of what we can provide to them in terms of products.

Okay. And then finally, networking and communications.

Yes. Communications for us is wireless infrastructure, been a little bit slower. In an area that we've kind of not devoting as much capacity towards because it doesn't play to our sweet spot of high technology, high demand on the circuit board side. Networking on the other hand, is seeing very strong growth and really fits our markets. So what we've redirected some of our capacity from wireless telecom into networking and data center demand, we're better matched with our technology and our capabilities to add more value to customers there. That end market in total will grow 5% to 8%, but that's heavily weighted by the 5G rollout and wireless infrastructure, and that's not an area that we're a heavy player in. Our RF components business plays in that space, but not so much on the circuit board side. So we'll be probably below that range structurally because of our lack of participation in the telecom part of that.

Okay. So as you look across your segments, are you seeing customers begin to manage down their inventory levels?

My answer to that is yes, but it depends on the end market. We watched a period of time in 2021 and early '22, where people were uncertain about their supply chain. And so our customers as well as ourselves to some degree carry extra inventory to try to retain some level of flexibility so that as components came in, we can match them and turn it into revenue. As the supply chain starts to stabilize instead of chasing 400 parts or only chasing 20 parts now, as things get better, they get more -- a better picture of timing of when parts will come and they can better manage their inventory levels of us. And so particularly in data center computing, medical and in networking, we're seeing customers who tell us that demand looks good, but we're going to shrink our inventory. So you'll see some short-term issues in terms of order demand to us. But hey, the end market demand looks good. Well, that's great. But other main markets such as automotive, and I think is less focused on inventory reduction in the near term, but particularly those markets that I mentioned.

Okay. So I think what we're all trying to fair it out among a lot of the companies that we're following is to what degree is this inventory adjustment just a normalization? And to what degree is it early signs of macroeconomic slowdown?

That is the question that everybody is asking. We have a very diverse end markets that you kind of walked through here. And I think the answer to that question really depends on the end market. Again, Aerospace and Defense, 40% of our business, rock solid, great visibility for the next several years, not an issue. Automotive is stable in the near term. We'll have to watch if there is a significant downturn. Ultimately, that will catch up with automotive, but not necessarily upfront because they're -- they don't have the dealer inventory on the dealer lots yet. So there is a buffer there that would insulate us. As you start to move into other end markets, we see -- I mentioned the ones that are kind of managing inventory where they said demand is good, but inventory, that would be data center, medical, networking. And then you get into wireless telecom, the 5G rollout has definitely slowed down; semiconductor-related business, so our capital equipment providers there. And then, of course, commercial aerospace has been soft for a little bit. So we see one end, some markets that are definitely soft. At the other end, some that are doing very well, and then there's this group in the middle that are managing their inventory, and we're going to have to watch over the next quarter; or two, if they're end to market, demand continues to hold up as well as they think it will.

Okay. So to what degree are you still experiencing supply chain issues? And what does that mean for your inventory levels?

So when you look at our legacy PCB or circuit board business, the supply chain constraints that have generally been relieved. We're in pretty good shape. We can get the product that we need. I mentioned in North America, it's more of a labor issue, and that continues to be a challenge. In our Engineered Solutions part of our A&D business, which is about half of our A&D business, there, we run into some challenges with obtaining chips or connectors or in some subsystems that are outsourced that they're having trouble getting labor or parts. And so it is slowing down there. So we see some effect there, not too, too bad, but definitely, we're not meeting demand. We could do more if we could free up that supply.

Okay. So you have a new manufacturing facility being built in Malaysia. Can you talk about the rationale for expanding in Malaysia, scale, the cost and what you're going to produce there?

Sure. We're excited about that. Our factory is under construction right now. If you go back to 2017, 2018, when the Trump administration implemented tariffs on Chinese products, a lot of our customers, multinationals were financially impacted. I think they realized that a lot of -- well, I mean, 60% of the world's circuit boards are built in China. So when you -- and again, no aerospace and defense, right, to speak of, it's really commercial products. And I think when that happened in 2017, 2018, it was a wake-up call for many of our customers to say, perhaps I've got too many of my eggs in one basket, and I'm at risk either financially or if the borders were to close for some reason, then you don't even get the supply. So we started to have conversations with customers at that point, what alternatives are there we talk about short-term solutions. But then longer term, what could we do in Southeast Asia was an answer that kept coming up. And so we explored opportunities. We selected a site. We then went to a handful of key customers and said, okay, we think we've got a plan. Are you ready to commit to this? And we have a handful of what we call anchor customers that have placed capacity deposits with us that have basically secured 70% of the capacity of this plant already. So that really derisks the investment from our standpoint. And so we're marching forward. We expect to be in production, qualifying our products and bringing on people and ramping and training in the second half of next year. And that will take probably 18 months of ramp. And then by 2025, we expect to be a full tilt, which should be about $180 million in revenue. It's a state-of-the-art facility, economically sensitive and Industry 4.0 capable. So we're very excited about this with a fair amount of automation.

Okay. And is that 70% -- is that being shifted from China? So will you be shutting down production in China?

That's good question. Are we cannibalizing China or not? And the answer to that is no. There's a little bit of it. Let's be honest. There'll be some, which is okay. It will relieve some pressure on us in our China facilities, which are pretty well utilized. But the bulk of it is new business opportunities with these customers.

So what is the annualized revenue that you think you'll be generating roughly under that facility?

In Phase 1, $180 million a year, we have the ability to flex it up in a Phase 2 to probably closer to $225 million or $230 million, but we'll fill the first part of the first.

And then when do you hit that run rate?

Our target is to get there by basically the end of '24, beginning of '25.

Okay. So what is the company's China exposure, both with regard to revenue and manufacturing?

So from a revenue perspective, it's very, very small, single-digit percent kind of thing. So relatively negligible. From a manufacturing capability, it's about 50% of our business. Short term, it might actually skew a little bit higher than that because we're not able to get all the labor in North America to kind of match, but from a targeting standpoint, we'd be roughly 50-50 and that would be our -- where we'd like to be.

So how have you been faring with the continued lockdowns?

Pretty lucky. I'd like to take credit for it, but I'll call it lucky. Last summer, we have a very small facility in Shanghai that was shut down for 2 months. Now the current outbreak and what you're reading in the news today in Beijing and Shanghai and some of the others, in Southern China, which is like the manufacturing heart of China, we have 4 major facilities. Our facilities are prepared to accommodate -- we have a significant migrant workforce anyways, which was pretty traditional in China. So we have dormitories and we have cafeterias and the like. And we have one facility that right now is kind of in the crosshairs of a potential issue in Guangzhou. But we've been able to bring in extra -- expand our dormitory capacity and allow some workers to work from home who are more indirect position. So we've accommodated or adjusted to potential lockdowns by having more flexibility and bringing people actually live on site temporarily. So we've increased our food purchases. We've increased our raw material inventory in case transportation gets impacted to be able to stay up and running. And thus far, we've been very successful.

Okay. So moving to financial topics. How have you been coping with inflationary cost pressure? And what is your ability to pass through cost increases through -- into prices on a sort of fluid basis?

Sure. It's a complicated answer. So yes, inflation has definitely impacted us. In 2021, it was really all about materials and particularly our commercial business. Later in '21, that shifted towards North America labor cost inflation, and we've seen that trickle into 2022. We've pretty well digested and kind of overcome the material cost increases. The labor cost increases continue to put pressure on us. So how do we deal with that? Traditionally, our industry is also always about price reductions over time. But in this case, we went back to our customers and said, hey, the old rules don't apply. We need to have some conversations. And not necessarily easy conversations, customers never want price increases. But basically, we were able to push through pricing adjustments in one form or another that made [ us whole ]. There was a lag effect. Costs hit us in one quarter. It might take 2 quarters to come through. Some of our business, about half of it is what we call purchase order transaction business, so we could change pricing on that quickly. The other half is more kind of annual contracts primarily. And so we had to go back to those customers and work through that with them. And we've been fairly effective. We still have to see some benefit come through in our aerospace and defense pipeline because those are longer cycles and the orders in our backlog take a while to filter through. But we're basically able to push that through.

Okay. How has the U.S. dollar strength and other currency kind of swings this year impacted your financial performance?

Unlike most companies it's actually favorable to us.

It was a loaded question. I knew that, but I was.

Yes. We had a few years when the Chinese currency was strengthened where it basically was a cost increase dose. So we sell primarily in U.S. dollars. But we have obviously our China operations have a lot of China-based cost. So when the Chinese currency weakens, that's a favorable tailwind. And we've enjoyed that a bit this year. We have some balance sheet adjustments, what we call below the line kind of things, which grab the headline. Those we really don't -- they come and they go. We don't count on those, we don't forecast those. But our cost structure, we do take into account and how we do our pricing and how we manage things. And this year has been helpful.

Yes. So it's definitely been a tailwind. Okay. So I think a ways back, the company had set a goal to be less cyclical, more differentiated, more stable growth, improved margins, strong free cash flow. So where are you with regard to this goal?

We're on the road. We've made a lot of progress. We exited the -- our consumer mobility business back a couple of years ago, which was highly volatile, very big cash investment drain, not the best returns. So we exited the consumer business, and we are really trying to focus on that long-cycle business. So it plays well with automotive or aerospace and defense where you have -- once you're in a product that's there for 3 to 5 or in the case of aerospace and defense, 10 to 20 years. And that gives us a lot more visibility, a lot more stability. And it also allows us to add more value. This is where we get into the Engineered Solutions part of our business, where we can invest and make that investment because we'll get a chance to get the return out of it. And we'll continue to grow there. The focus in that growth for Engineered Solutions is really in aerospace and defense, and about half of our business there now is like that. We're a $1 billion A&D company now on a pro forma basis. And like I said, about half of that is this Engineered Solutions. And that's how we're going to move and create a better, stronger relationship with customers that kind of lock us in and give us, again, longer-cycled products so we have better visibility.

Okay. What is the M&A environment like now? And how active is your potential pipeline?

It's expensive. Financing -- the financing world has changed, right? You guys know this very well. And that has definitely slowed down the M&A environment. Deals still get done but at a much, much slower pace. We have an active pipeline that we cultivate all the time. We're always -- we have companies we're investigating to see if it's a good strategic fit or not. And we have others that we're watching to see if there's an opportunity to actually do a transaction. Telephonics, for example, was something that we had identified several years ago and reached out, but the timing wasn't good for the seller at that point. So we just kept an eye on it. And when the market was right for the seller and we look good for us, we then could get a deal done. So we actively cultivate this pipeline, but getting a deal done is a function of willing buyers and willing sellers a reasonable price and financing is necessarily the ability to do financing at a reasonable price. And that dynamic is changing quite a bit this year.

Yes. So obviously, funding costs are up, valuations are down actually, but is that -- I mean, so there aren't enough willing sellers at these valuations, right?

That's where you start to get into that. Valuations are coming on maybe not quite as much as we think. But then they say, well, I don't -- I'm worth more than that. Tough to get all the stars to align to actually pull it off.

So on your wish list, though, what are your areas of interest? And what are your criteria for acquisitions?

First and foremost is strategic fit. So we look at kind of on 2 axes. On the vertical, it's how well up the supply chain you move. So historically, we were kind of component circuit boards, adding Anaren got us in the subsystems, adding Telephonics now gets us into full system solution. So that gives us a vertical capacity to kind of look for opportunities somewhere in that chain. On the horizontal, you look at end markets. Radar has been really big for us, and there's a tremendous amount of growth opportunity there. And so Telephonics fit into that with our Anaren acquisition as well as what we do on the circuit board side. Telephonics brings a surveillance element and a communication element. So there's a couple of more market opportunities that, that brings in. So we would look for M&A opportunities that could complement that or add to that market or fill in a gap in the vertical production. So there's kind of a framework and there's lots of different holes that we could look to try to fill. We get through the strategic analysis and it makes a lot of sense, and we think the culture fit because engineering is really key in this, then we look at the financials and make sure that this is going to work, and we're going to make money on the deal and there's going to be a good solution for us that way. Fortunately, thus far, we've been pretty successful with that, which requires us to have a little bit of discipline in our purchasing. And in some deals we walk away from because the price just doesn't make sense to us.

Okay. Because this is a credit conference, we got to talk about leverage a little bit, right? So you have cited a net leverage target of under 2x. So that's pretty conservative. So why is that target? And then do you have a credit rating profile that you target?

So the 1.5x to 2x net debt leverage is kind of our sweet spot. We're very comfortable there. We're at 1.8x right now that puts our balance sheet in a very strong position, which gives us flexibility. Flexibility if there's a recession, flexibility if there's an M&A opportunity. And so we like to have that strength to be able to do that. I don't want to take debt to zero because I think there's a balance that's appropriate, and that's where we get to today. Second part of your question?

Just credit rating. Is there?

Credit rating, so it's really hard from an industry perspective to get us to investment grade. We're really close. And we've done very well there. And that's something that if we get more A&D focus and bring that as a bigger percentage of our business, we might be able to say the credit rating agencies. But right now, in our technology space, we're kind of blocked from that at that point. There's a glass ceiling for us as to how high we could get. So I'm not sure it's worth going there at this point in our corporate life.

Okay. We've got a few seconds left. Is there anything important that we haven't touched on or key takeaway you'd like to leave the audience with?

I'd just like to remind people that we're on the road. I think I use that expression. We have started a journey. We're transforming the company. We've made some great first steps, but we still have more that we aspire to do. And generating cash and then being a strong financial company is key to our success, and that's where our commitment and focus is. So thank you for.

Thank you very much. It's a great story. Thanks for sharing and joining us.