Zebra Technologies Corporation (ZBRA) Earnings Call Transcript & Summary

[Audio Gap] TMT Conference. We appreciate everyone joining us. We are starting bright and early with Zebra Technologies. We have got Nathan Winters, who is the CFO. Welcome, Nathan.

Thanks. It's great to be here.

So this is a tech conference. So let's start with the role Zebra plays in the technology ecosystem. there is a growing focus on physical AI and the next wave of automation investment. From your perspective, how do you view the investment cycle? And what does physical AI mean for Zebra specifically? Where do you see any creating the most value as customers deploy more intelligent robots, automation systems and connected assets across their operations.

And just to start, we look at physical AI and intelligent automation is a strong multiyear tailwind for the company. Because in any one of those environments, what they ultimately require is accurate, real-time information to help guide those systems and provide the intelligence they need. And that's exactly what our portfolio solutions performs today. If you look at asset visibility at its core, it's giving an asset of digital voice, so you can track it across the supply chain, whether that's a barcode, an RFID tag or with a machine vision camera. . And then we have the tool to help automate those workflows along the way. Again, whether that's enhancing how you scan a package, whether with RFID or doing visual inspection and now in things with machine vision where we can be the sensing an intelligence for robotic solution. We have that with our Photoneo portfolio that is the eyes to a vision-guided robotic picker, right? So again, those are the -- and then translating that data back to the hands of a frontline worker with our mobile computing and now Elo portfolio kind of completes the flywheel of giving all the tools our customers need to help increase their ability to get that physical AI capabilities in the hands of their frontline workers. And so again, we're really excited about the opportunity that presents for us over the next couple of years.

Understood. Zebra continues to introduce AI-enabled applications across this portfolio, as you mentioned, can you talk about the feedback you are getting from customers? Are customers seeing enough value from these solutions to give Zebra more pricing power in a competitive edge versus your peers. How would you characterize the adoption curve for some of the newer AI-enabled products that you are bringing to the market?

We're really encouraged by the momentum and the progress we've seen today around the AI suite of solutions. I think like many customers are trying to figure out what's the right place, how do they deploy that technology. So it kind of -- it starts with do you have the right technology in the hands of those frontline workers to introduce those capabilities. In order to do that, you need the next generation of mobile computers. So as customers are thinking about refreshing their portfolio, there's now a real trade-off on going to a lower end device versus our now premium devices that have AI capabilities embedded on the device, RFID embedded. So now those are trade-offs you're thinking over the next 3, 5, 7 years, I want those capabilities, so I can deploy the technology out in the front line. So I think that's where we're seeing the most value today is around those trade-offs around the upgrade and go into the more premium device in their deployments. But if we look at the AI suite, I think about in the 3 layers, enablers are just -- they come with the device. So this is the APIs that allow our customers, independent third-party software providers to easily create applications or agents on their own. You can go up the stack to a blueprint, which puts some of those enablers together and package that in a way that we can monetize. So think of picture proof of delivery for last mile delivery. So now you have the lens of the camera, the optics on that dialed in, so you can take a great picture of a door and a package. We've given the lighting around that, using optical character recognition to not only have a good picture from a did the package get delivered and help reduce the claims on the back end, but also completing some of those initial workflows that saves valuable seconds to that last mile delivery driver. To the full-blown companion of whether this is sales enablement, product development or product enablement on the retail floor. So again, customers are at varying stages of those deployments. But I think what everyone is looking at is do I have the right technology and capabilities so that I could continue to advance that along that journey and we're helping our customers at various stages along the way. So again, we're excited about what that can bring and really thinking about how we can be that frontline AI leader for our customers.

Understood. And like Zebra has a very diverse portfolio, and you mentioned a few things, machine vision, RFID, mobile computers, touchscreens in the frontline AI suit. As you look across your end markets today, which technologies are you most excited about based on the demand signals and trends you are seeing from customers. As a CEO how are you prioritizing internal investments in your current portfolio?

And the good thing is we've seen strong demand across the portfolio today. You can see that in our results quarter to date. Again, I think the entire portfolio is benefiting from some of the mega trends we see across the industries we serve. But I think a couple of technologies where you have the workflow with AI and our capabilities coming together that I think really are differentiated and are exciting. Machine vision in RFID are both, I think, 2 great examples of that. Again, closely adjacent technologies that really allow us to help automate different workflows that just weren't possible before in previous technologies in terms of understanding what's fresh in a produce section with RFID. I mean that's a new capability and use case that quite frankly didn't exist a couple of years ago. So continuing to invest in both those portfolios, expanding our go-to-market capabilities around both of those as a priority for the company. Also looking at our next-generation mobile computer, obviously, with the opportunity we have in front of us with enabling more frontline workers with technology so they can take advantage of communication, collaboration and now the benefits of AI is another top priority. And then the other one with the Elo acquisition around touchscreen self-service point-of-sale. Again, we're seeing a lot of momentum there. The acquisition has been a great add to the portfolio and has been really performing well. Again, think about that just another form of automating a frontline workflow just in a different form factor. So -- those were -- that's where we prioritize our investments. Last year, we exited the Robotics business. And I think this is an example of reallocating capital focus around those technologies where we see real differentiation and market opportunities over the next several years, along with just improving profitability by removing the loss leader.

And while we are on the topic of capital deployment, Zebra has historically been active on both M&A and strategic investments. Can you give us a sense of where you are focused today and what types of opportunities are most interesting to you? Are there specific technologies, capabilities or adjacencies where you see a need to invest to further strengthen the portfolio and support the next phase of growth?

Let's start with saying our capital deployment strategy has been consistent, at least for the last 5 or so years, which is continue to invest organically. Just over 9% of our sales in R&D from an organic investment to continue to again accelerate our market leadership across the portfolio. And then being balanced between M&A opportunities and returning capital to shareholders. And I think the last 12 to 18 months have been a great example of that. . While maintaining -- keeping our balance sheet at under 2x debt leverage and generating $1 billion of cash flow, so giving us plenty of flexibility to continue to invest here as we move forward. But we really like the 2 acquisitions over the last year for different reasons. One, Elo acquisition with size, scale, immediately accretive to earnings and the opportunity to really drive meaningful synergies over the next couple of years. So again, that's a great addition to the portfolio and has really been performing well. We also like Photoneo bringing in a niche smaller company that can quickly attach to a larger business and machine vision, but brings unique capabilities around 3D machine vision, which again gives us unique capabilities in the market, but easy to integrate on a relatively small scale. And like I said, the priority now over the last 9 months has been burning capital. So we've repurchased just under $900 million over the last 3 quarters to take advantage of what we feel is a dislocated stock price and we're continuing to be active in the market today. So again, we think that's been the right balance of adding to the portfolio where it makes sense and if not continuing to return that capital to shareholders.

And then on AI, how are you internalizing it across Zebra zone operations, R&D, as you mentioned, is like a significant investment area. So are you seeing opportunities to drive greater efficiency and productivity through AI. It would be helpful if you could share some examples of how you're using AI internally. And on the last earnings call, Bill talked about enhancing the go-to-market model. Can you elaborate on what you're doing there and how AI is helping improve sales and commercial execution.

So we think about it in the 3 areas. One is, how do you -- from an internal AI perspective, how do you accelerate innovation? How do you drive efficiency across it in the last -- how do you unlock new opportunities particularly from a go-to-market and sales perspective. So I think around the accelerating innovation and driving efficiency at the same time. We're seeing some pretty good progress from an R&D perspective around software development. So like many companies, we have a series of tools we're using across different aspects of the software development platform and some nice momentum there. It's one of the reasons we're getting R&D as a percent of sales, down closer to 9% as we go into 2027 without giving up any of the innovation in terms of time to market. And then I'd say on the operating and driving efficiency front, our service and repair teams have been using AI for a long time in terms of getting the right tools to our technical support folks driving that efficiency across the repair operations and the response time to our customers. We're seeing great benefits on just internal IT development and being able to quickly respond to needs of the business and turn those around from an IT perspective. And then on the go-to-market, a couple of things. One, using analytics around propensity to buy. So what customers have a more likely opportunity to buy based on the profile, the type of customer, the region partnering that with what we see from usage on our website. And that's been a really effective tool to help enable our sales team just basically marketing collateral. So again, turn around the time, language translation, those things have been a real game changer with AI technology. And then from a coverage perspective, a couple of things we've really invested to highlight. One, a couple of years ago, we started to invest in inside sales, which is really a new capability for the company to give us breadth along with they're able to go deep in certain customers, particularly large manufacturers who tend to have a distributed buying behavior. So again you need to be relationships at the local manufacturing leader. And so again, using inside sales to go deeper and broader within accounts. And we're seeing that benefit now with resurgence of manufacturing of having the coverage there to take advantage of that coverage now that the market's turned around. And then the other is, we've continued to invest in direct sales capabilities for machine vision, RFID and now AI. So again, coupling those overlay teams with our account managers where you need differentiated sales motion different technical expertise to bring to market and take advantage of those opportunities.

Helpful. And going back to physical AI team, there are some concerns around the handheld category in warehouse environment. As AMRs, robotics and potentially humanoid become more prevalent, some investors question whether the need for handheld devices could decline over time. Has that been an area of concern internally? And how are you thinking about the long-term role of handhelds in a more automated warehouse. More broadly, how does Zebra position itself and continue to create value as warehouses move more towards higher level of automation.

I think it's important to start with what do we actually see in the market and what's happening from -- across the warehouse space today. Because we see physical AI and the role of automation in the warehouse is an opportunity for the company. So I think -- we think about the opposite of a concern, it's an opportunity and if you look at the legacy of the company, the legacy of the company is driving automation, driving efficiency. So that's not a -- that's a new area for the company to invest in. But if you look today, despite the automation that's been invested in warehouses over the past 5 years, if you look at the amount of labor in the warehouse has continued to increase at a rate of 2% to 3% per year, and that's expected over the next several coming years. If you look at just warehouse capacity, that overall warehouse capacity and utilization has increased and is expected to grow at high single digits over the next several years. And if you look, we've had external studies that look and said about 75% of warehouses today have very little form of automation. And what customers are looking for is automation that's modular, flexible has a quick ROI as their needs change and adapt within the warehouse, and that's exactly what our solutions provide. Again, whether that's how you use RFID, machine vision or a ring scanner across those environments. That's the type of, again, quick immediate return you can get with our technologies versus some of the others that you mentioned. So again, that's how we look at the opportunity. I think the other one, which is always is important to note even in the worst-case scenario, mobile computers in a warehouse environment represents 10% to 15% of the company's revenue today, right? And that doesn't account for in the world where there is fewer mobile computers. The offset of that is more vision systems that enable those robotic and automation systems to work that we're going to benefit from. And the example of Photoneo is a great example of that. So Again, that's how we look at it and say there's such a huge opportunity to drive automation in the warehouse that our technology is. That's where we're immediately focused along with how do we, again, continue to be the sensing technologies around those automation systems so that we can take advantage of both of those opportunities over the coming years.

And I'll ask one more question and then pause if there's any audience questions. So let's shift gears a bit. Can you give us your perspective on the assumptions that go into your guidance framework, you have previously described the current backdrop as more of a supply constraint than demand-constrained environment. Do you have sufficient visibility into memory availability? And if that gets you to the high end of your guidance range in '26? And longer term, do you see upside to your 5% to 7% growth algo, given the demand you see across your business today?

Yes. So we're encouraged with the demand we see across the business. We have strong Q2 results that enabled us to raise our full year guide for the year by 3 points and be able to work through the supply constraints and meet the underlying demand of our customers. So we feel good about the underlying performance of the business. Along with that, we raised our profitability, both in terms of EBITDA rate and EPS by 0.5 point once you exclude the IEEPA refund that we recovered in the second quarter. So again strong results across the business. We're on track to fully mitigate the memory headwind from a dollar perspective. A bit ahead of pace in terms of what we're seeing in terms of price realization. So I think the business is really executing well. And as we said on the call, the midpoint of our guide really reflects a constrained view around demand, the high end of our guidance range which is a point higher, reflects what we see as kind of really the underlying momentum and demand of the business if you look at our pipeline, backlog conversion rates, et cetera. So -- and that's what the team is actively working on, which is not only securing that demand and continuing to try to grow it, but also working with our suppliers, adding new suppliers from memory to increase the available capacity, not just in the fourth quarter as we exit the year, but more importantly, as we go into 2027 so that we can continue to meet the underlying growth in the market.

Any questions from the audience?

Nathan, maybe what are you doing differently to mitigate the memory chip headwinds versus the past because you obviously have done a much better job, I think, this time around. So what are you doing differently? And maybe second question is just competitive environment. If you look, obviously, like one of your major competitors has sort of changed hands and stuff. So does that give you an advantage? Or how are you looking at that sort of change in the environment?

On the memory front, I'd say 3 things. One, there's just a muscle you build up. Unfortunately, as you go through the first and second round of tariffs, some of the semiconductor challenges back a few years ago. So I think the muscle memory of the company just continues to improve in terms of how and our ability to respond and the capabilities we've built out over the last 5 years has put us in a better position. On the pricing front, one of the things we did differently this year is we announced the price increase that went into effect at the end of March. But we started pricing bids at the beginning of the year. So we didn't wait for the price increase to take action. We were bidding projects well in advance of that. I'd say the announcement and the timing of the pricing back in the first half of the year it was important to notify the market but we weren't waiting for that moment to start getting ahead of it, which has allowed us to realize a higher -- raised our guidance from $60 million to $90 million in terms of price realization for the year because of, I think, the actions we took. And I think the other is the team has done a great job of working proactively with the memory suppliers. We have direct relationships with the top 3 vendors. So we're not buying on the spot market actively working with them. They've [indiscernible] the price, but I'd say they've delivered on their commitments in terms of when they guaranteed but giving us capacity commitments for the upcoming time periods, they've delivered on that, right? And that's what you can ask for from a partner. While actively going out and qualifying multiple new suppliers and just to give you a data point, historically, we may have had 2 to 3 different memory types per product. The goal by early part of next year is to have 5-plus for every product. So again, just much more optionality. And as capacity comes available in different pockets, we can take advantage of that with having multiple sources of memory available as we go into 2027. So I think those are kind of the big 3 I think about. But that underlying one is, I think, just the muscle and the resiliency we've built out over the last few years enable us to help navigate this current environment. And then as I say, from a competitive standpoint, we haven't seen very much change in the market day to day in terms of competitive perspective. Our focus has been and will continue to be controlling what we can, making sure that we deliver value to our customers, that we stay close to them around their strategy, their challenges, and that's what has enabled us to grow our market share over the past 5 to 10 years, and that's what we really stayed focused on versus kind of what's changed in terms of ownership structure of any of our competitors.