Zebra Technologies Corporation (ZBRA) Earnings Call Transcript & Summary

All right. Okay. I'm going to go ahead with the research disclosure first. For research disclosures, please see the Morgan Stanley research disclosure website at morganstanley.com/research disclosers. If you have any questions, please feel free to reach out to your Morgan Stanley sales representative. Very pleased to have Zebra here today. We have Bill Burns, CEO; and Mike Steele, Head of Investor Relations. I'm Meta Marshall. I cover the networking space here at Morgan Stanley along with a lot of other stuff.

Maybe just to remind everybody, if you wanted to give just a brief overview of kind of the key markets that Zebra serves just as a -- just to kick off.

Yes, sure. Zebra empowers the frontline of business. We think of it as making every worker and asset fully visible and optimally utilized within our customers' business through rugged mobile devices, scanners, printers, RFID solutions, automation solutions such as robotics, retail software and machine vision and fixed industrial scanning solutions for our customers.

Got it. And you've recently kind of stepped into the CEO role. What was it that attracted you most to the Zebra opportunity? And just what do you think that investors kind of miss in that story today?

Yes. I mean I joined Zebra 7 years ago. So that was really the -- the attraction was the enterprise acquisition. So specialty printing, industrial printing business buys, Motorola Enterprise business back in November of 2014, I joined in June of 15. I'm just excited about the business today as I was back then. I would say that the excitement really is around the idea that we continue to have growth opportunities in our core markets. We've got strong adjacent markets and other markets that we're entering, as I said earlier, around that are attractive to us around machine vision and robotics and others, I would say. What's misunderstood about us, probably that we're just not an e-commerce or a COVID story that ultimately we believe we can deliver 5% to 7% long-term growth through cycle. As we've said for some time, prior to 2022, we've talked about 4% to 5% growth. We exceeded that for the 8 years after the acquisition to more like 7% growth. Certainly challenging macroeconomic environment at the moment, but we see an opportunity to continue to deliver profitable growth.

Got it. I mean as you were kind of talking about all the different markets where you can bring digital transformation, whether that's retail, manufacturing, transportation, healthcare. Just where do you think is that greatest opportunity to increase the penetration of devices? Is it still retail? Where -- what markets do you feel like are most underpenetrated?

I mean I think we think of it in terms of served hands. So about 1/3 of frontline workers today are using mobile devices, they use these as an example. I think we've seen the trend initially within retail where you've seen more retail workers within the store having devices, equipping every worker in some larger retailers. That's a good example of that. I think the reason for that is things like our retail software offerings, where retail associates want to be able to communicate and collaborate to each other. The manager wants to collaborate with the employees. Otherwise, they've got to work through the store and walk through the store and find the associate or the number one question asked across the walkie-talkie is where are you? So a manager can have a conversation, a private conversation with a worker within retail. Think of it as task management. How do you send task down to a worker inside a retail store and how do you have it interrupt driven, meaning our customers here to pick up an order, they ordered online, they need to pick up on store, unless they have a mobile device on their hand. How can they check inventory or price or allow them to order something for somebody that has another store or tell them it's at the store within a mile away if you want to go there and pick it up or have it delivered to your home. So I think retail is the example of that, but I think we're seeing it in other places even healthcare where you move beyond nurses and doctors into janitorial staff that's cleaning rooms or cafeteria staff. Healthcare, you're seeing one step even beyond the healthcare worker into the patient's hands. So we're seeing home healthcare where they're sending devices to patients home that are already software on them, already interconnected to medical diagnosis devices and then diagnostic devices and then ultimately give the connectivity back to telehealth. So it's one step beyond the worker in that case, they're front-line workers. So we think there's lots of opportunity across each of the verticals. We're seeing it retail first, seeing in healthcare, but others will follow.

Got it. And obviously just talked about penetration of devices, but where do we -- where are the next phases of technology adoption? You're watching across some of these key verticals?

Yes. I think it is the underserved hands. I think it is the technology in the hands of more workers. I think you're seeing more opportunities to digitize and automate customers' environments beyond what we're doing today. So RFID is a good example of that, where we're seeing retail -- RFID has been around in retail for a long time. The primary use case over the last couple of years has been in a fast fashion where people control their entire supply chain. They control their manufacturing all the way through point of sale, and they were using RFID tags in that environment. I think now you're seeing big box retailers basically demand at certain categories are actually tagged with RFID and a big step forward from an RFID perspective. We're also seeing RFID use throughout the entire supply chain. So we're seeing segments of the supply chain tag every parcel through their supply chain to make sure that they get efficiencies through the supply chain, make sure at the end when they're basically doing last mile delivery, to get the right box on the right truck to deliver to the right customer because customer service is so important today and the expectation of the customer has never been higher to get it when somebody says they're going to get it. So I think we're seeing opportunities to digitize and automate just not with our core portfolio, but also the expansion portfolio as well. Inside manufacturing, I think we're seeing things like machine vision utilized more and more within the manufacturing environment. Fixed industrial scanning used more inside our T&L customers. So technology adoption across the entire portfolio, it's more than just -- more served hands. It's really into automating and digitizing the environments of customers really.

Got it. So I think people or investors get the competitive landscape within the devices landscape. And maybe in some of these more expansion areas, I mean -- I'm just saying new pattern RFID portfolio for a very long time. But in some of these areas that are taking route, whether they be machine vision or RFID, just what helps -- what -- how different is the competitive landscape and how strong is that kind of Zebra portfolio sale in those markets?

Yes. And I think there's competitors in every market and -- in large and small. So I would say, in our new vertical markets, robotics and warehouse automation, machine vision, retail software, we're competing against different competitors than we had in our traditional portfolio. I think the positive for us is the customers many times remain the same. So 80-plus percent of the Fortune 500 customers or our customers today in some way. So it's leveraging those relationships and bringing them new solutions into their environments. Ultimately, they're looking for outcomes. They're not looking for -- which vendor provides a solution as much as are you delivering the outcome I'm looking for within my environment. It's not always the same persona, only the same person buying within the organization, but we can find our way to that buyer. So we've got strong enough relationships and partnership with our end customers. Our partner community as well. So many times we're leveraging the same partners. About 80% of our business goes through our partner channel ecosystem. We've been building new channel partners into these new areas. But also leveraging our existing ones. So it's those relationships with end customers that help us, and it's also relationships with our channel partners around the globe.

Got it. What is the sales cycle for some of these newer technologies like those in the SmartDEX portfolio? Do you see potential for it to accelerate as more have adopted? Or is like do you just have to prove the ROI with each customer?

Yes. I think that early on in any technology life cycle, think of robotics today, our robotic solutions inside the warehouse do 2 primary applications today. One is goods transport. So think of a line-side fulfillment within manufacturing or picking for e-commerce. So leveraging a worker and a robot together to pick e-commerce orders. I think those applications are still fairly early days, and there's a lot of proving in of the solution, showing the ROI to the customer, a fair amount of customization on the front end until you get where the solutions are more repeatable. Once you integrate into one warehouse management system, then you have that same leverage to go into the next customer. So I think early days you always see elongated sales cycle, elongated proof of ROI to the end customer. But I think over time, those sales cycles shorten, people see the ROI from other customers. You can prove those to and explain those to new customers, and there's less integration to be done. So I think on the newer technologies, longer sales cycles today, longer proof points, but that comes down over time.

The flywheel -- there will be a flywheel effect. We're just kind of in earlier days on that. Okay. Focusing on retail, aside from some of the largest retailers with robust deployments. What are you seeing from your more run rate business in retail? And is there still this urgency and investment of needing to kind of catch up with some of their e-commerce?

Yes. I think the news is primarily about the largest North America e-commerce provider slowing down, and I think that's the case. But despite that e-commerce continues to grow. So I think that off of certainly pandemic levels of growth. The growth has moderated back to more normal levels of e-commerce, but e-commerce continues to grow. So it's an important investment for many of our retail customers. So is things like omnichannel, buy online, pick up a store, buy in store, where -- do I have the goods that ultimately somebody wants to buy online and pick up a store in the store. So when they show up, I actually have them there to deliver to them. So inventory visibility within the store, inventory back and visibility back into the supply chain is ever more important. So I think that those are the places that we continue to see investment by small and large customers today and we continue to see it across e-commerce as well as in brick-and-mortar. We're also seeing the continued demand across T&L. So one of the -- we've just won our largest RFID wins ever in a T&L provider, who's really doing parcel delivery. And in that case, still driven by e-commerce demand and wanting to have more visibility across their supply chain. So I think we see continued opportunity in brick-and-mortar and in e-commerce just at a slower rate than it was during COVID.

Got it. You've just kind of spoken like the traction or pick up you were seeing in P&L. Obviously, there's been -- everybody in this room has ordered far more delivery products than they ever thought they could over the past couple of years. So is that market -- should we think of that as the driver being a number of drivers? Is it number of packages? Just what kind of helps determine how we should think about the transportation market growing?

Yes. I think the investment in technology clearly is driven by things like number of drivers that need a mobile device in the last mile. It's also driven by a number of parcels through any facility or a network of facility. I think it's also driven by increased expectation to get it right. So in this large RFID order, it was really about getting the right parcel on the right truck was the primary first use case in the last mile delivery because trucks are meeting every day to switch parcels, which is totally inefficient [indiscernible] customers on when it was supposed to be there. Now they're saying, what are the rest of the use cases we can use because we justify the technology solution just on customer satisfaction. So I think that there are drivers like number of parcels and numbers of drivers, but there's also other applications that ultimately -- things like better customer service are driving technology the option in T&L and across our customers.

Got it. Manufacturing, obviously, seems like the most obvious application for machine vision. Now that you have just more assets within that space, kind of what opportunity do you see? And is it primarily expanding within your existing customers. You just spoke to the footprint? Or can that bring broader customer footprint and opportunity for you guys?

Yes, the synergies we see with the Matrox acquisition in Machine Vision is really diversifying the customer base. So being a private business, they didn't make the same type of investments we can certainly in the go-to-market. It's leveraging our channel partners today and growing their channel ecosystem as well as calling on those Fortune 500 customers that are our customers today to introduce the Matrox solutions to them. So we see it as really about an expansion of their existing customer base. We've also made an organic investment prior to the Matrox acquisition. And many times, we do this, we make an organic investment first and then look to see what's in the marketplace from an M&A perspective or even venture. Our investment was really more at the lower end of the market around fixed industrial scanning, which plays not just the manufacturing but also T&L. So we see an opportunity across our customer base with a broader portfolio of fixed industrial scanning and machine vision opportunities with both the Matrox acquisition and our organic investment to expand with our current customers and our current channel partners, but expand beyond that into new personas within our customer and to attract new channel partner program -- or channel partners to our program.

I mean were there clearly, you guys have a deeper customer base and a deeper go-to-market than Matrox had. But were they more maybe -- since there is a different buyer -- were they more familiar with maybe who you needed to find within those organizations, just maybe the synergy of kind of those 2 organizations coming together.

Yes. There's no doubt that the Matrox knowledge of the industry and how respected they were gives Zebra credibility within the market, right? So I think that -- at the lower end of the market around fixed industrial scanning, we already had credibility because of our handheld scanning portfolio, but we really didn't have that at the high-end vision system area, and they know that market well. So -- they know the partners, they know the integrators, they know what's required in that marketplace. They're doing very high-end work inside the semiconductor industry, which is very sophisticated vision systems. So that gives Zebra credibility in the marketplace today. So yes, it was beyond customers and channel, it really was giving Zebra credibility in the market.

Okay. Got it. Healthcare has obviously been an area where you guys have talked a lot about as a key vertical over the past couple of years. I think we can all think of the ways in which our hospital experiences could be more productive with a little bit more technology. But what is the willingness to kind of spend or trial some of these new technologies just because it is a slower moving market maybe to adopt technology?

I think that the challenge of healthcare probably for us is just reaching the full opportunity across it because it is fairly fragmented. We haven't seen a lack of technology adoption, whether it's our mobile devices, printers, scanning, tablets, RFID solutions inside healthcare. And now, as I said earlier, we're really seeing move -- that move to telehealth, all the way to the actual patient and technology. So we haven't seen any challenge around technology adoption. I think it's more -- how do you reach the broadest set of customers with a limited sales team and leverage our partners in that space to get more -- to win more customers and more opportunities. But I don't think technology adoption has been a challenge. I think, in fact, it's been more embraced and as I said, ever more embraced with the idea of telehealth.

Okay. Got it. You guided to a negative 3% to 1% growth for 2023. This was honestly better than a lot of their given concerns just kind of about large customer, large e-tailers and kind of commentary around them. Can you give us a sense of just how you thought about the guidance balance and just comfort level that large customer orders are derisked?

Yes. I mean we saw in fourth quarter, some customers slowed down their buying ultimately a bit longer, elongated sales cycles, some orders pushing out to future quarters. We're seeing that continue in the first quarter. No surprise to us. Budgets are being approved later in the first quarter, like they typically are in a tougher macro environment. Budgets, the customers are coming back saying they're a bit smaller than they anticipated. So we kind of rethink where they're going to spend their money in 2023. All this is what we anticipated in the guide. So we feel good about the guide overall. Our run rate business continues to remain strong. We continue to work closely with our channel partners, our distributors and partners around the world to really understand end user demand. And we're seeing that there's plenty of opportunities. There's new opportunities we've won large and small. But we're just seeing, clearly, as you see from the guide, a slowing of the business, driven really by the macroeconomic conditions. We feel good about our 5% to 7% long-term growth rate through cycle. We still feel good about that guide. But I think in 2023, it's really all about macro.

Got it. And so the kind of lower end of that range to the higher end of that range, is that when budgets get approved in the quarter, is that sales cycle -- extending out your sales cycle? Just how do we think about what kind of informs the balance of that?

Yes. I think tougher comparison first half year, I would say, is how we think about it. So the guide is a bit lower in the first quarter. Cycling through some larger customers in the second half. FX gets a bit better for us in second half compares from a year ago. So I think we'll see our guide reflects a lower guide for Q1 and then getting a bit better based on conditions around what happened last year in the second half of the year.

Got it. You've seen $200 million in elevated freight and component costs over the last year. You've mitigated a lot of these costs on adjusted pricing. Just how should we think about kind of some of the gross margin headwinds that you've faced over the last year kind of becoming tailwinds?

Yes. So I think the biggest opportunity for us from a supply chain perspective and bringing those costs down is really getting our printer products back on to ocean. So really, ocean freight rates have come down considerably, air rates are still fairly high from Asia. We haven't seen the travel come back to China. So I think that's the biggest opportunity we have. You will see that, and we've put that into our guide for the year is that we move shipments of our printer products back to ocean. I think that we also see elevated component prices coming down a bit. There's still some components out there that are still constrained and we're still paying higher prices for. But I think we see that coming down through the year. So we should see positive momentum in gross margin. That's offset by FX, especially in the first half of the year. So you're not seeing it quite come through as much as you would like in the first half. But we'll see through the year, those costs modulate from where their high was. And then ultimately, FX impacts diminish as well. And we'll get a lot of those printing products back on ocean, which will help us.

Got it. You've invested a lot in your software offerings over the past few years. Where do you see the opportunities to sell more software? And how can that drive incremental margin beyond what you've delivered historically?

Yes. I mean, across all of our solutions, really software is the key, whether it's printing, scanning, mobile computing, our machine vision solutions or robotics and other software is really the key to everything we do. We have -- our customers have come to expect world-class hardware and world-class software from Zebra. The majority of our engineers are software engineers today. Specifically on our retail software, I think we see the -- what we've talked about at the National Retail Show in January was really about enabling the customer associate being able to manage their inventory and engage customers in a different way across retail. So our software offerings really go across those inside the retail associate. It's really around collaboration between the associates, as I've talked about before. It's really around task management and sending tasks to the associate. It's around workforce management, planning the workforce within a retail store. It's around leveraging AI around planning and closing the loop and execution. So we think about empowering the retail work or the front line of business using that mobile device. In inventory management, we think that things like RFID and our -- other solutions around tracking inventory, so barcode-reading, printing, scanning to be able to make sure we know what's in the store, what's in the supply chain visibility around that. And then really, it's engaging customers around things like payment and leveraging our mobile devices around payment, freeing up our associates to be able to engage more with the customer, and that's the framework we've talked about at the National Retail show. But our software assets today, while we're looking to expand upon that are really focused around enabling the retail associate.

Okay. Because I guess one of the questions that comes out of that is just, where does it make sense for Zebra to act as the software provider? Where does it make sense to partner? And where does it make sense or your kind of extensive partner network and reseller network to provide that software?

Yes, we leverage third-party software vendors as a key part of our partner program each and every day. So our solutions really aren't deployed without some type of software solution around those. So we're used to that large and small, anyone who's a software vendor within retail or T&L or manufacturing or healthcare, inside government applications that we're leveraging software partners along with our own. So our first primary focus around Software as a Service really is around the retail associate. We've got lots of other software offerings around RFID, around a robotic solution and others, but we've talked about it being more retail focus today. But leveraging partners inside software is something we've always done.

Got it. Turning to OpEx. Zebra has always had a fairly flexible operating model. Can you just kind of give a better sense of kind of fixed versus variable costs on the OpEx side?

Yes. I think that especially with the macroeconomic environment we're in today, we're going to be cautious around spending. We have a variable cost model within the business. And you've seen in the past, we've been able to manage our cost structure in a tougher economic times. We've typically exited that environment by gaining share and being able to continue to invest thoughtfully within the business across our go-to-market resources and across R&D despite the variable cost structure to make sure that when things turn around from a macroeconomic perspective, we're in a position to continue to take share. And we've been able to prove that, we've been able to do that. So I think the variable cost structure will serve us well in a tougher environment, I think that -- but we'll be continuing to make thoughtful investments across the business.

Got it. We've talked about opportunities to grow, the software portfolio and organic investments have been a key part of the Zebra growth story for a number of years. Just what would you say is your appetite today for larger acquisitions? Or just kind of how flexible are you willing to be on the capital structure of the company?

Yes. As I said, gave you an example before around machine vision. Our first choice is really organic investment. We get very high returns. We work closely with our customers and our organic investment is really our first choice to bring product and solutions to market. We've leveraged M&A in areas where we wanted to advance our Enterprise Asset Intelligence portfolio. So really entering new markets or leveraging time to market that made sense for us. The Fetch acquisition in robotics, we really like because they had a platform of robotic solutions in a software suite above that to be able to do multiple applications within the warehouse, and that's what we thought customers wanted over time. So we felt it would take longer for us to get there than we wanted. We could build 1 point application, but we liked what they had as a portfolio solution. So we chose to do an acquisition really around time to market. So we think of M&A really in time to market space. We also think a venture. So Fetch was a venture investment for us prior to the acquisition. So we like to use venture to really understand more about an end market before stepping into it. So we also leverage venture. I would say right now, we don't have any holes in the portfolio. We're going to have to acquire something. We're certainly continuing to be inquisitive out there about what's out there from an M&A perspective. And -- and our target debt levels, we've kind of said is between 1.5x and 2.5x, and we'd like to keep it around that place.

Got it. Any questions from the audience?

RFID and Barcode that are [Audio Gap] to stabilize Barcode, how do you kind of think that in client profile?

We basically have seen our customers that deployed RFID to deploy both. Ultimately, of RFID tag, you don't have RFID readers everywhere. You also have tags to get damaged and others. You still need the barcode, take of kind of point of sale in retail, you still use a barcode to check someone out, right? There's instances in which you can use RFID, but it's not 100% today. So I think that ultimately, we see them being complementary. We don't see anyone saying, I'm going to deploy an RFID tag and I'm not going to deploy a label. Also the RFID tag is basically has a printed barcode on it. So there's no added expense to that label or that tag to put an RFID a barcode on it. So we don't see it replacing the barcode.

[Audio Gap] to add more functionality?

No, I think that the lowest cost way to be able to track something like inventory is just to read the barcode, but it's more labor involved than an automated solution inside using RFID. So I think it's really about efficiency within the operation. There's times in which I ultimately want to be able to read a lot of RFID tags at one time. And other times, I want to read an individual barcode per item.

Got it. And just for those listening online, that question was just about RFID and whether it's cannibalizing to barcodes? Or just would it impact the price. But -- you've probably got that from the answer, but just to repeat for those at home. And then just maybe in our last minute here, just what are your kind of capital allocation priorities throughout the year?

Yes. Again, I think we see it as being organic investment first, as I said earlier, right? We continue to be inquisitive about M&A if there's opportunities out there to acquire businesses that are closely adjacent to what we do today. We'll continue to make venture investments into markets in which we want to learn more about. We think that's an interesting opportunity. I think from a share buyback, their perspective, as I said, we're targeting kind of 1.5x to 2.5x debt ratio. We'll continue to look to acquire shares where that makes sense, and we'll continue to be acquisitive on the M&A side.

Got it. All right. Well, perfect. With that, we're out of time. Bill and Mike, thanks so much for being here today.

Thank you.

Thank you.