Corning Incorporated

Welcome to the Corning Incorporated Quarter 2 2021 Earnings Call. To place yourself in the Q&A queue, please press star 1. It is my pleasure to introduce you to Ann Nicholson, Vice President of Investor Relations.

Thank you, Catherine, and good morning. Welcome to Corning's Quarter 2 2021 Earnings Call. With me today are Wendell Weeks, Chairman and Chief Executive Officer, Tony Trippany, Executive Vice President and Chief Financial Officer, and Jeff Evenson, Executive Vice President and Chief Strategy Officer. I'd like to remind you that today's remarks contain forward-looking statements that fall within the meaning of the Private Securities Litigation Reform Act of 1995. These statements involve risks, uncertainties, and other factors that could cause actual results to differ materially. These factors are detailed in the company's financial reports. You should also note that we'll be discussing our consolidated results using core performance measures, unless we specifically indicate our comments relate to GAAP data. Our core performance measures are non-GAAP measures used by management to analyze the business. In the second quarter, GAAP net income was $449 million. However, GAAP EPS was a loss of 42 cents due to the GAAP accounting treatment required for the transaction entered into with Samsung Display. Let me take you through why this was the case. As a reminder, on April 5th, 2021, Corning entered into a share repurchase agreement with Samsung Display. As part of the agreement, Samsung converted preferred stock into common stock, and Corning immediately repurchased 35 million shares of that common stock from Samsung. The common shares were traded on the open exchange, so GAAP requires a special accounting treatment of the repurchase as an extinguishment of the original preferred shares. The accounting treatment for an extinguishment of preferred shares is to record the difference between the repurchase price and the original book value in retained earnings. This adjustment to retained earnings is also removed from net income available to common shareholders when calculating GAAP earnings per share. Excluding this, US GAAP EPS would have been 52 cents. Differences between our GAAP and core results can also stem from non-cash mark-to-market gains or losses associated with hedging contracts. They were de minimis this quarter. Our reconciliation of core results to the comparable gap values can be found in the investor relations section of our website at Corning.com. You may also access core results on our website with downloadable financials in the interactive analyst center. Supporting slides are being shown live on our webcast. We encourage you to follow along, and they're also available on our website for downloading. And now, I'll turn the call over to Wendell.

Thank you, and good morning, everyone. Today we reported outstanding second quarter results, and we're on track for a strong year. Versus second quarter 2020, sales grew 35% to $3.5 billion. EPS grew 112%. to 53 cents on the higher sales and expanding margins. Free cash flow grew 65% to $471 million, with first half cash generation of $843 million. No question, we're in great shape. And we see a clear growth story playing out across our businesses, Each of our five segments grew sales by a double-digit percentage year over year, ranging from 16 percent for specialty materials to 80 percent for environmental technologies. Now, of course, 2020 was an easy compare, so I think it's worth noting that even versus second quarter of 2019, We grew total company sales and EPS 17% and 18% respectively. Since the second quarter of 2019, we've added more than half a billion dollars in quarterly sales. About $200 million is from Hemlock, and more than $300 million is organic growth. with about 70% of that coming from success of our more corning content strategy and outperforming the competition. The other 30% of organic growth is from rising with the market. In each of our market access platforms, we're addressing significant and transformational trends. We seek to drive content and expand our total addressable market by combining capabilities from our focused portfolio and prioritizing opportunities for more Corning. Our long-term strategy is built on a complementary set of three core technologies, four proprietary manufacturing and engineering platforms, and five market access platforms. We are leaders in each. And the synergies among them allow us to create distinctive benefits for our customers, improve the return on our investments in R&D, and reduce our capital intensity. We create breakthrough products and processes by leveraging the synergies among our core capabilities. capitalizing on insights we gain through close collaboration with our customers, and taking advantage of our existing plants and pilot facilities for early-stage production. For example, over the past few years, we have created new-to-the-world products, including Ceramic Shield, Tupper Gorilla Glasses, AutoGrade Glass, Valor Drug Packaging, Gen 10 1⁄2 display glass, and innovative passive optical solutions that are dramatically increasing the ease and cost efficiency of network deployments. But we're not just creators. We're also builders. We do the manufacturing ourselves using processes that we invent. and proprietary equipment that we design and build. When growth opportunities arise and demand exceeds our existing capacity, we build state-of-the-art plants to manufacture products at scale, and we locate these plants in close proximity to our customers, a strategy that is likely to continue to pay off in a post-pandemic world. We de-risk these investments by requiring meaningful commitments from customers, often including funding, before beginning construction. We last detailed our build investments with you in 2019 when we described our focus, create, build, extend value creation cycle. We pointed out how our built projects were directly responding to customer needs and commitments. We knew that carriers like AT&T and Verizon would need more fiber to densify their networks for 5G. We knew that BOE would need glass for its Gen 10.5 panels. That car companies would need gasoline particulate filters to meet new regulations. That biotech companies would need high-density cell culture to support gene therapy. And that smartphone OEMs would need increasingly durable, scratch-resistant cover glass as they design thinner phones and bigger cameras. We told you these build projects would increase our capacity to meet committed demand and that as we delivered on that demand, they would increase our revenue and generate excellent returns. We are delivering. Today, the build projects we undertook from 2016 to 2019 are collectively delivering return on invested capital above 20%. They've helped us increase our sales run rate from $10 billion in 2015 and 2016 to our current run rate of $14 billion. And they've helped us improve total company ROIC by three percentage points. Importantly, each time we build, we increase our scale and we enhance the opportunity to extend our leadership and create new innovations. And because we're constantly improving our productivity and capabilities, we can often manufacture these innovations and drive revenue growth without building new facilities. We actually spend most of our time in this extend part of the cycle. It's where we are today. In this phase, we keep creating and extending until we're so successful that demand exceeds our capacity. As we reapply our insights and repurpose our assets, our best-in-the-world capabilities just keep getting better. Every time we pursue an adjacent opportunity, we explore new combinations of capabilities. We push the boundaries in areas where we already lead, and we cross train our people in deep and important ways. In other words, we've created a positive feedback loop that expands our knowledge, increases the relevance of our capabilities, and enhances our value to customers. And this directly fuels our content strategy. We aren't exclusively relying on people buying more stuff. We're putting more corning into the products that people are already buying. With that in mind, Let's look at some of the initiatives we're advancing across our market access platforms. In mobile consumer electronics, we continue to help transform the way people interact with and use their devices. We capture growth by increasing the value we offer on each of those devices in the quarter. Consistent with our strategy to obtain customer commitments in support of build initiatives, Apple awarded Corning an additional $45 million from its advanced manufacturing fund to help expand our manufacturing capacity in the United States and to support our R&D. To date, we've received $495 million in total from Apple's fund. We've also launched another chapter in our More According strategy with an important application of our capabilities to enhance the optics of smartphone cameras, which is a new category for us. The social media experience is centered around photos. Device designers are adding cameras and increasing lens sizes. They're also integrating more advanced capabilities such as telephoto, wide-angle lenses, and infrared sensors. These features naturally increase the prominence of the lens surface area, which in turn increases the likelihood of scratches and damage. Enter Corning. Just last week, we announced Gorilla Glass with DX and DX Plus for mobile phone cameras. Our DX family increases image quality and camera durability by providing a composite glass material that combines low reflection with scratch resistance approaching sapphire. Samsung is the first adopter. Turn it to automotive. ODMs are designing cleaner and safer vehicles with technology that enhances the driving experience. We're uniquely suited to address these trends. We're pursuing $100 per car content opportunity across emissions, precision glass products, and auto glass solutions. And we recently entered a new product category in automotive, curved mirror solutions. Our solutions are enabling the augmented reality head-up display in Hyundai's new electric crossover, the IONIQ 5. The system essentially turns the windshield into a display screen, letting drivers keep their eyes on the road, while assessing navigation and speed information directly in their line of sight. Additionally, a new generation of gasoline particulate filters is helping us on our way to surpassing $500 million in annual GPF sales well ahead of our original timeframe. Turning to life sciences. We're delivering growth on multiple fronts. We're seeing ongoing demand in support of the global pandemic response. Our inventions are helping advance the transition to cell and gene therapies. And we're making significant strides toward building a Valor glass franchise, addressing a multi-billion dollar content opportunity in the pharmaceutical packaging market. In the second quarter, we further increased valid production capacity and secured additional customer wins. We worked with Thermo Fisher and Optima Pharma to demonstrate solutions that increase vial filling speed by nearly 70%. thereby alleviating a critical bottleneck in the medical supply chain. Our collaboration features a combination of Corning's ValorVials and Optima's ultra-high-speed fill-and-finish solutions. Thermo Fisher called the results, quote, a game-changer in their ability to serve patients, end quote. turning to display. We're experienced the most favorable pricing environment in more than a decade. And we announced a second moderate increase to our display glass substrate prices. Stepping back, we're the lowest cost producer of display glass. which makes us significantly more profitable than our competitors. Our superior products, innovation capabilities, and deep customer relationships enable us to enhance our leadership position. Meanwhile, the emergence of Gen 10.5 has given us a unique opportunity. The market for large-sized TVs is expected and projected to grow at a double-digit CAGR through 2024. and Gen 10.5 glass provides the most economical approach for larger sets. We recently hosted the official opening ceremony for our Gen 10.5 facility in the city of Wuhan. This site is co-located with a large BOE plant, allowing Corning to deliver Gen 10.5 glass substrates more efficiently to our customer for its production in of large-sized display panels. Gen 10.5 provides strong economics for our shareholders while creating options to use earlier generation fusion tanks for new applications, such as automotive and cover glass. To illustrate, remember that we launched our Gorilla Glass business back in 2007 by repurposing some of our existing Fusion assets. Over time, repurposing has resulted in us avoiding more than a billion dollars in capital spending. Finally, let's look at optical communications. We're energized by the momentum that is building in this business. we see that momentum confirmed by multiple sources. First is network need. Demand on the network has only been increasing. Broadband usage for June was up 33% versus pre-pandemic levels, and up 10% versus June 2020, which was a peak quarantine period. Global 5G subscriptions have grown to almost 300 million, and they're on track to double that by the end of 2021, according to industry projections. The second confirmation is customer commitments. And many of our customers are actually being quite public about their plans. we believe we're in the early innings of a large capital deployment cycle across 5G, fiber to the home, and hyperscale data centers. On AT&T's earnings call last week, their CEO said that by year end, they expect to have expanded their fiber footprint by 3 million locations, including both business, and consumer customers. Deutsche Telekom's managing director recently shared that by 2024, they're planning to have about 10 million homes passed and 97% 5G coverage. He said, quote, the expansion of high-performance networks is our top priority, whether with 5G and mobile communications or or fiber optic broadband expansion. To achieve this, we are massively increasing the investments in our network, end quote. And Microsoft's CEO recently shared his perspective on expanding data center capacity to meet cloud demand. He said, quote, digital adoption curves aren't slowing down. In fact, they're accelerating growth. and it's just the beginning, end quote. Of course, the third confirmation is our order book, which is perhaps the most important indicator of growth over the next few quarters. Here, we're seeing year over year growth in double digit percentages in both carrier and enterprise networks. During the quarter, We extended our technology and market leadership in optical communications by introducing new solutions that speed network deployment. We launched Corning SM28 contour fiber, which offers an industry-first combination of superior bendability, compatibility with other fibers, and low signal loss. We also launched EDGE rapid connect solutions that increase fiber density and reduce customer installation time by up to 70%. Across our markets, you can see that our value creation model is driving growth and that key trends are converging around our capabilities. We're helping our customers move toward a world with nearly infinite and ubiquitous bandwidth, with large, lifelike displays, where cars are cleaner, autonomous, and connected, where medicines are individualized, effective, and safe, and where you can do more from your mobile device, protected by cover materials that are more and more capable. Now I'll wrap up my remarks today with one final point. I've always said that how we do things is as important as what we accomplish. So I'd like to take a moment to emphasize that we're committed to making a difference wherever we can. We're building on more than a century of honest, respectful, and fair behavior. And such behavior must continuously characterize all our actions, including progress toward improving our environmental, social, and governance programs. To share insight into our approach, We recently issued our annual report on diversity, equity, and inclusion, and we published our first sustainability report. On all dimensions, Corning is operating exceptionally well, focused on providing value for all our stakeholders. I want to thank are incredibly dedicated employees around the world for their continued hard work. And I look forward to updating you on our progress as we build on our momentum in the second half of the year. Now I'll turn the call over to Tony so he can give you some more insight on the quarter.

Thank you, Wendell, and good morning, everyone. As Wendell said, we are on track for a strong year. Second quarter results were outstanding. We added almost $1 billion in sales year over year, a half a billion in sales over pre-pandemic levels, and we generated significant operating and free cash flow. We also improved margins both sequentially and year over year, which contributed to our strong EPS. Across the board, our progress has been very positive. In particular, pre-pandemic comparisons highlight our strength. We are confident this momentum will continue. In all our markets, Corning's unique capabilities put us at the center of a substantial growth trend, while our content strategy drives outperformance. And we have a highly effective value creation model in place to deliver profitable growth and create shareholder value. Now let me walk you through the key metrics and drivers of our second quarter performance. Sales increased 35% year-over-year to $3.5 billion, a strong run rate. Net income was $459 million, up 111%, and EPS was 53 cents, up 112% year-over-year. we saw continued strength across our business segments. Optical Communications delivered its third consecutive quarter of year-over-year growth, and we expect to see that trend continue. Display Technologies was up sequentially and year-over-year and continues to experience the most favorable pricing environment in more than a decade. Life sciences and environmental outperformed their markets and grew significantly versus last year's pandemic lows. Our margins expanded. Sequentially, gross margin improved 200 basis points to 37.8%, and operating margin improved 120 basis points to 18.3%. On a year-over-year basis, gross margin expanded 450 basis points and operating margin expanded 710 basis points. Now, during the quarter, we continued to face supply chain disruptions and inflationary headwinds. Planning and increased output allowed us to reduce costly air freight, but the sequential improvement was offset by increases in shipping rates and the cost of certain raw materials, such as resin, a key component in our optical and life sciences businesses. In total, we felt about the same 150 basis points drag on margins as in Q1. Now, while we don't expect significant improvement on these supply chain costs in the short term, we do expect them to normalize over time. And we're taking mitigating actions, including raising prices in selected product lines. Now, as is usual in the second quarter, operating expenses in dollars increased sequentially. The increase was greater than in prior years because of larger variable compensation accruals consistent with our rising outlook. Free cash flow was $471 million, up $186 million year-over-year. Cumulative free cash flow for the first half of 2021 was $843 million. We expect to generate significant free cash flow in the second half of the year and to surpass our 2020 total by a wide margin. Now let's take a closer look at the performance of each of our businesses. In display technology, second quarter sales were $939 million, up 9 percent sequentially, and 25 percent versus 2020. Net income was $248 million, up 16 percent sequentially, and 63 percent year over year. And Q2 sequential prices increased moderately as we implemented a price increase during the quarter. For the third quarter, we are moderately increasing glass prices once again. We believe the pricing environment will remain favorable going forward. Three factors will continue to drive this. First, we expect glass supply to remain short to tight in the upcoming quarters. Second, our competitors continue to face profitability challenges at current pricing levels. And third, display glass manufacturing requires periodic investments in existing capacity to maintain operations. Now, we receive a lot of questions on how the pandemic has impacted the display industry. For example, will there be fewer TVs sold in 2021 or in 2022? And what's the impact on the glass market? So let me take a moment to explain our view. I'll focus on televisions since they represent about 70% of the glass market. Since LCD TVs emerged as mainstream technology in 2004, LCD television units have only been down three times and never two years in a row. And annual glass demand has never declined. Now, since 2014, television sell-through units are typically range-bound between 225 and 235 million, while average screen size grows about an inch and a half a year. In 2020, global TV units increased 4 percent above the trend line to about 242 million. Screen size growth was about 1.2 inches, about 20% below trend. A lot of smaller TVs sold, probably to accommodate more people living, working, and studying from home. In total, glass demand was up mid-single digits. Now, entering the year, we expected and continue to expect the market to revert the trend, implying a decrease in TV units, especially smaller TVs, and for normal growth of 1.5 inches in screen size to return. We now have retail data through the first half of 2021, and it is largely confirmatory. TV units declined by a mid-single-digit percentage year-over-year, while average screen size growth returned to the 1.5 inches per year trend. Unit volume for TVs 65 inches and larger increased over 20%, and smaller televisions were down by a high single-digit percentage. Now, consistent with math and history, the glass market grew. So halfway through the year, our expectations for TV units being down year over year and screen size growing approximately one and a half inches are playing out. Looking ahead to 2022, we think TV units and screen size will continue to follow historical trends. That means TV units will be within the typical range, and average screen size will grow about one and a half inches. Now, we have yet to see how the current holiday retail season plays out, so we don't have enough information to definitively comment too much on next year. But it is worth noting that TV units, which are declining this year, have never declined two years in a row. And next year is a World Cup year, and TV units have never declined in a World Cup year. And finally, the biggest driver of retail glass growth in most years is the increase in screen size. We would expect the average screen size to once again grow one and a half inches next year. Now, we'll refine our views based on this year's holiday retail season, which is still in front of us, and we will keep you updated. Let's move to optical communications, which continues its growth with sales surpassing a billion dollars of 21 percent year-over-year and 15 percent sequentially. Sales increased by a double-digit percentage in both carrier and enterprise networks sequentially and year-over-year. Net income was $148 million, up 83% year-over-year and 33% sequentially. Higher volume and better operational performance drove the improvement. The environment is extremely favorable. Demand on networks is at an all-time high. In response, operators are expanding network capacity, capabilities, and access. The pace of data centers built is accelerating, and capital spending by our customers is increasing. Governments around the world are announcing and initiating plans to extend the reach of broadband. All these points to the start of a strong, sustained investment phase across the industry. We are the market leaders, and we're well-positioned to capture significant growth as network investment increases. Our solutions improve the speed and capital efficiency of net investments. Additionally, Corning is the only large-scale Indian manufacturer of optical solutions, which allows us to innovate on important dimensions not available to competitors. Our broad customer base and unquestioned technology leadership puts us squarely at the center of customer investments for fiber to the home, rural broadband, 5G, and hyperscale data centers. In environmental technology, second quarter results were $407 million, up 81 percent year-over-year, but down 8 percent sequentially. Net income improved year-over-year to $81 million and also grew sequentially, partly due to improved freight and logistics costs versus Q1. Car-related sales increased 68% year-over-year as vehicle production improved from pandemic lows and GPF adoption continued in Europe and China. Auto markets continue to be constrained by chip shortages, which impacted our automotive sales sequentially in the second quarter. We are monitoring in-market demand and supply chain activity as we go through the second half of the year. We remain on track to build a $500 million gasoline particulate filter business ahead of our original timeframe. We continue to innovate to solve our customers' most challenging problems and have recently begun to ship next-generation GPS to help OEMs achieve even lower levels of emissions. In diesel, sales grew 101% year-over-year driven by continued customer adoption of advanced after-treatment in China and continued strength in the North American heavy-duty truck market. Specialty materials delivered another outstanding quarter. Following first quarter year-over-year growth of 28%, the second quarter was up 16% year-over-year with sales of $483 million. Demand remains strong for our premium cover glass materials and IT products. During the quarter, our premium glasses and surfaces supported multiple new phone and IT launches, including 16 smartphones along with six laptops and tablets featuring Gorilla Glass. Demand also remains strong for advanced optics content used in semiconductor manufacturing, which are essential for deep ultraviolet and extreme ultraviolet, or EUV, lithography. Now, investments in innovations that are moving towards commercialization resulted in lower net income than in 2020. As we've noted before, newer innovations can face high costs as we develop and scale our manufacturing processes. We anticipate that profitability will improve as we come up the learning curve and improve utilization. Life Sciences' second quarter sales were $312 million, up 28% year-over-year and 4% sequentially, driven by ongoing recovery in academic and pharmaceutical research labs and continued strong demand for bioproduction vessels and diagnostic-related consumables. Net income was $52 million, up 68 percent year-over-year and 8 percent sequentially, driven by the higher sales and solid operating performance. So, our businesses performed very well, and our markets are strong. That said, let me take a moment to reiterate our commitment to financial stewardship and capital allocation. Our fundamental approach remains the same. We will continue to focus our portfolio and utilize our financial strength. We generate very strong operating cash flow, and we expect that to continue going forward. We will continue to use our cash to grow, extend our leadership, and reward shareholders. Our first priority for use of cash is to invest in our growth and extend our leadership. We do this through RD&E investments, capital spending, and strategic acquisitions. Our next priority is to return excess cash to shareholders in the form of dividends and opportunistic share repurchases. This year, we increased our quarterly dividend by 9 percent and resumed share buybacks by repurchasing and retiring 4% of our outstanding common shares from Samsung Display. In closing, we had an excellent quarter. Our performance relative to both 2020 and 2019 adds to our confidence that we are on track for an outstanding year. For the third quarter, we expect core sales in the range of $3.5 to $3.7 billion, and we expect earnings per share in the range of $0.54 to $0.59. Our value creation model is working. We are pursuing opportunities that utilize capabilities from our focused and cohesive portfolio to drive growth. By repurposing and reapplying capabilities, we're increasing our probability of success, lowering our cost of innovation, and becoming more capital efficient. I look forward to sharing our progress with you as the year goes on. With that, let's move to Q&A. Ann?

Thanks, Tony and Catherine. We're ready for our first question, and I ask that you analysts please limit to one question so we can get through everybody.

Thank you. As a reminder, it's star one to ask a question, and your first question comes from Tim Long with Barclays. Your line is open.

Thank you. I'll just ask kind of a two-parter on optical comms. It sounds like a lot of positives in the industry there. Could you talk a little bit about how you see kind of the cadence of growth for that vertical as you see these positives emerge in both the service provider and the hyperscale industry? markets. And Tony, if you could just follow up and talk a little bit about operating margin leverage in that business. It looked like it was solid in the quarter. How much more room is there on the margin front for optical comms? Thank you.

So first on the cadence for growth. At this time, we're in a place where what is that if we could make more we could sell more. And that's where our attention is. So our cadence is going to relate more to that than normal seasonality that you'd see in optical communications. And so we expect that cadence to continue to be strong and aim primarily at our productivity.

And, Tim, I think you're right. I mean, we certainly do have operating leverage that will come from this business as it continues to grow. We do have some headwinds that we're facing. I mentioned the inflationary headwinds with resin costs, and we're, you know, working to mitigate those. So, you know, in terms of the actual pace of how that leverage happens is, you know, we need to play out over the next couple of quarters. But there's definitely operating leverage there.

Okay, thank you.

Thank you. Our next question comes from Wamsi Mohan with Bank of America. Your line is open.

Yes, thank you so much. Thanks for all the details on the display side of the business, dissecting TV unit growth and screen size growth here in this year and potentially next. Now, you had very strong pricing performance as well in Glass in 2021. So how sustainable do you view the current pricing environment? Do you see a normalized outlook on display in 22 also translating to a reversal to low-to-mid single-digit price declines, or can pricing remain better given the supply-demand dynamics in glass? Thank you.

Thanks for the question, Wamsi. I think it's a little early for us to be able to give you some guidance on how we feel about pricing next year. Without doubt, our very long-term strategy that we have been pursuing here continues to bear fruit. And we're seeing pricing stabilization continue to improve throughout the time period of that effort. And there's many things that are going on technically and with our strategic moves that lower the pricing intensity of the environment. So we would expect all those factors to continue to be in place. But one quarter out right now is probably about as far as we'd like to guide at this time on pricing. I'm sorry to pause.

Next question. Our next question comes from Asia Merchant with Citigroup. Your line is open. Great. Thank you.

Some of the investors have cited caution as it relates to end device demand. I know Tony talked a lot about TVs, but maybe if you can talk about notebooks and smartphones and how you think about your components as they go into those two end markets and if there's any risk of excess inventory in the channel, maybe due to supply constraints, which are, in the end, resulting in demand push-outs. Thank you.

Thanks, Asiya. So let's start with the first part. So in general, remember, our outperformance in the market is driven by our more corning strategy. There's a number of great examples, but one, of course, is smartphone demand where over the last number of years, smartphone demand has been pretty constant, right? It really hasn't grown. Meanwhile, our revenues have grown in excess of 40%. And so that content story really plays out across really all the different device categories. So there's always a degree of mitigation of, of what's going on with consumer behavior at any given point in time. So that's first to put in context. Rolling forward, what we've tried to do is place that range of outcomes of consumer behavior into our guides and into the way in which we're thinking about and planning our business in the near term. We invest, though, in the long term. So we're really behind those technology trends and the more coining strategy. So for us, being able to call one quarter for the other doesn't really impact our core investment strategies. But we get a ton of information because we serve those markets so broadly. We try to integrate that into the points of view that we give to you. So I guess short version is in there. Our point of view is that all that is in there, and we'll update the point of view as we learn more.

Great. And then on the auto glass opportunity, I know at one point I think you guys had talked about being able to provide more color on that, you know, to a point where it reaches a certain run rate where you can then call out auto glass. Is that something still in the works for 2021, or just given all the bottlenecks in automotive production, should we expect that to come later in 2022? Thank you.

A great question. So things are going great for us right now in Autoglass, and we should get around to figuring out the right way to update you guys on that progress. So everything's going fine with the innovations. Everything's going fine with the industry. We just have to get our act together to decide how do we best help our investors understand our trajectory in that business. So thank you for the reminder. That's on our to-do list.

Thank you. Thank you. As a reminder, if you would like to ask a question, press star 1. Our next question comes from John Roberts with UBS. Your line is open.

Thank you. Nice quarter. When do you think gross margins will be back to pre-pandemic levels?

Right now, we're clearly facing a lot of supply chain disruptions and inflationary pressure. What we saw in the first quarter was, of course, a lot of that relative to freight and logistics We had plans to mitigate that. We actually did those mitigations. But then there were other things that occurred, you know, particularly around increased resident costs. So as, you know, we think about the guide in particular, the guide for the third quarter, you know, we thought it was prudent to assume that that 150 basis points drag that's, you know, coming from those inflationary and supply chain logistics costs would continue. And, you know, we're going to, again, do the same thing. We've got lots of things to mitigate those, including, in some cases, raising prices on certain product lines. But at least we think for the next couple of quarters, we'll continue to see that drag. We do believe it will mitigate over time, but exactly how long it takes to mitigate that, you know, we just need to let it play out.

Next question?

Our next question comes from Steven Fox with Fox Advisors. Your line is open.

Thanks. Good morning. Just one more on margins. The investment spending on the specialty materials that you called out, can you give us a sense for how big that was in terms of a drag on the operating margins and how it subsides? And then just a clarification on what you just said, Tony. So going forward on the inflation pressures, 150 basis points, quarter over quarter, those aren't changing, right? So it's the same amount in dollars that you saw in Q2. Is that how we should think about it?

Yeah, that's how we should think about it. I mean, as I said, we do have some plans to mitigate some of that. We've actually actually implemented those plans. We just thought as we were, you know, thinking about the guidance, you know, what happened to us in Q2, you know, it could happen to us again in Q3 where we have new areas where we have inflationary pressure. So that's how we're thinking about it. It's not that we're not taking actions, but we just think from a guidance standpoint that's about right. And then in terms of the impact on the projects and specialty materials, I mean, they did have an impact on our gross margin and on our operating margin, and you especially saw that impact when you look at the specialty materials results.

And when you think about scaling that, Steve, you have a pretty good model, I think, of what the incrementals should play out at. And the bulk of that delta is... our investment in this felt innovation. So I think if you think about it that way, you've got the right sort of boxcar. And as to how quickly it goes away, as fast as we can make it so, right? We're just coming up the production cycle here, and it's progressing. But like often with innovations, You know, it's what you don't know that surprises you as opposed to what you know. So we should be humble in predicting the exact end of the drag.

Understood. That's very helpful. Thank you.

Thank you. Our next question comes from Mehdi Hosseini with SIG. Your line is open.

Thanks for taking my question. Tony, I want to go back to your comment about the TV and glass market, and thanks for the detail. What I want to ask you is, what are your key assumptions for the panels that are in the channel? And I'm asking that because I'm under impression that this year we have had to refill the channel, given the strong demand in the second half. And I'm just curious, we'd like to know how that channel refill would impact next year.

Yeah, you know, Maddy, the way we always think about this is what really matters over time is what happens in the in-consumer demand. And, you know, where the channels, you know, go in any given quarter will, of course, you know, make a difference in any quarterly number. But what we're really focused on is the longer-term trend there. And as I, you know, pointed out is that, you know, we expected coming into the year for TV units to be down and for screen size to grow the inch and a half and at least halfway through the year. That's what we're seeing. As we look out to next year, we'd expect to be back on the trend line that we had previously been on. And, you know, just a reminder that, you know, TV units haven't been down two years in a row, haven't been down in a World Cup year. And what really drives the growth is the screen size growth. and we expect that to be up an inch and a half. So what we need to do is actually get through the big selling season, and then we'll have more insights once we do that.

Good. Thank you.

Thank you. Our next question comes from Rod Hall with Goldman Sachs. Your line is open.

Yeah, hi. Thanks for fitting me in. I just wanted to come back to the input inflation question. I guess, Tony, you called out the resin question, I'm curious whether you guys are seeing other commodity inputs inflate and how temporal you think this is. Do you think it's short term or do you think that this is an ongoing theme that we'll still be talking about next year? I'm just kind of wondering how inflation is likely to impact the model over the next, let's say, 12 months. Thanks.

So we are seeing it in other raw material. areas, but the biggest one that we saw in the second quarter was really in the resins. And shipping. And shipping freight, areas like that. We do think in the shipping and freight areas, we saw some improvement in the second quarter, and we'd expect that to continue. I think that exactly how this is going to play out over the next several quarters is certainly hard to predict. We think it's prudent to think it is going to be there, and we thought it in, you know, our guidance was based on the assumption that that would, you know, continue into the third quarter. We do believe this will all normalize. Our mitigating actions will, you know, have an impact. So I'm not worried about it in the longer term, but certainly in the nearer term, I'm more concerned about it. So, Rod, I think it's an excellent question, and

We don't know the exact answer right now. And I think anybody who says they do know the exact answer is probably being prideful. So that's why we're approaching it the way that we are, which is to say, because we look to our guide, we're going to account for those things that we don't know yet that could arise from an inflationary standpoint. And also on our mitigation actions, you see us begin to take pricing action to more equitably share some of these supply chain pressures and shipping pressures that we feel. I think all of us will learn more here in the coming quarters. And then as we do, we'll be able to give you, I think, a much better point of view on what happens with those cost structures. But as well, what our plans are, make sure that we're doing the right things around pricing, around cost mitigation, to make sure those don't unfairly burden our shareholders.

Great. Okay, thank you.

Thank you. Our next question comes from Sameek Chatterjee with JP Morgan. Your line is open.

Hi, good morning. Thanks for taking my question. I guess I had one more on TV and kind of display segment. Tony, thanks for the color about the kind of what you're seeing in retail data. I know you talked previously about China retail probably recovering and self-correcting to some extent. Just wanted to get kind of what you're seeing in the retail data relative to that market. And then display margins, 26.4 that you reported is the highest it's been for a while. So as we think kind of about the next couple of quarters, given that you're getting price increases, is that the primary driver of improvement that we should be thinking about in the display margins? Thank you.

So I think from a display margin standpoint, I mean, clearly what has happened is we've been doing a lot of build investments. And as we've talked about before, and as Wendell talked about, you know, when those build investments come online, you know, we have outstanding operating performance. And that's what you're really seeing in display. For sure, the pricing is also helping, but it is really what's happening from an operating performance standpoint. In terms of the China market, it's actually been kind of exactly where it was We haven't really seen much of a change there, and we're obviously monitoring it closely to see if something changes. Great.

Thank you.

Next question. Our next question comes from Martin Yang with Oppenheimer & Company. Your line is open.

Thank you for taking my question. Good morning, everyone. The Gorilla Glass, for smartphone camera coverless seems to be a pretty big opportunity, and the market seems to be able to adopt the solution fairly quickly. Can you maybe give us more context around the supply chain, whether or not your solution can fit well into existing manufacturing process, and how are the customer feedback so far on the new products?

Thanks, Martin. We're quite excited about this opportunity as well. So thanks for calling it out. The way the supply chain works is we will literally provide that part, that cover part. So both the underlying structure, the glass structures, as well as the material we use to drive the composite to be able to improve the optics and durability of those cameras. So we have built the supply chain to be able to have that roll into really the same plants that ultimately glass parts go to to build phones. So we feel pretty good that we have the capability, that we've built the capability to serve the market. And so now it will be how quickly will the technology be adopted because it is new. It is a new feature for phones. It does improve camera performance pretty darn significantly. So we're hoping that that becomes pretty rapidly adopted. One thing that's going to impact pacing, though, is when you change the light capturing capabilities of a camera. Remember that cameras are pretty complex devices, right? So you have a whole lens system, and you have different chipsets to deal with that imaging, and they're built around an optical chain that is a certain amount of light that's available. So we're actually improving that. And so as you improve that, to take full advantage of it, you probably need to optimize some other components. So we do think that though it is relatively easy and adoptable, there are things that you would need to do differently to take full advantage of this to deliver an advantage and customer experience.

That's really helpful. Thank you.

Next question comes from Shannon Cross with Cross Research. Your line is open.

Thank you very much. I have a big picture question. During the script, you noted build projects you've undertaken from 2016 to 2019 have an ROIC of over 20%, and you're kind of, this is my word, but in a harvesting mode on some of those. How should we think about the case of the investments you've made over the last few years, just in terms of thinking about how you maintain sort of the continued benefit from from, I don't know, where you're investing in so that in four years you can say that, you know, the ones you've done, you know, right now are yielding sort of a similar growth rate. I'm just trying to understand, you know, the building blocks that get us to future strong revenue growth given what you've done in the past four years. Thank you.

So, sure, Shannon, that's a great question. I mean, the first thing I would say is that, you know, our focus right now is on what we call our extend capital. And that extend capital is, you know, how we continue to grow in our businesses. And a lot of the growth that, you know, we're experiencing right now really comes from the investments we've made the last couple of years from the extend capital in addition to the build capital. And we'd expect that, you know, we've got a lot of extend capital that we're putting in place right now, and that's going to continue to support our growth going forward. You know, given our more corning trends and, you know, Our innovation model and the opportunities that we see out there that really gives us a chance to perform much better than the underlying market, I'm sure at some point we will be back at looking at build capital. And when we do that, we'll do that with real customer commitments, including financing. So we think this is a great model to run our business with. It's really improved our capital efficiencies. It's improved our return on invested capitals and You know, I think from a shareholder standpoint, this is a great way to run our businesses.

Great. Thank you. Let's take one more question before we close.

Okay. And that comes from Metta Marshall with Morgan Stanley. Your line is open.

Great. Thanks. And maybe following up on the last question, you know, Wendell, you guys mentioned kind of supply constraints on the optical side. You know, you've also mentioned kind of increased ROIC costs. You've been pretty reserved on kind of CapEx, rightfully so, kind of during a lower cash flow generation period. But as that picks up, you know, just what should we consider for CapEx for the remainder of the year? You know, would you step up some of the investments to increase product availability? Thanks.

Yeah, you know, I think our underlying view on what capital spending is going to be this year is, you know, roughly the same as it's been since the beginning of the year, but You know, we, you know, knew we were going to have a good year, a strong year with growth. It's a little bit, you know, growing faster than maybe what we originally projected. So, maybe capital will go up a little bit more than our original projections. But our original outlook would be pretty similar to what we did in 2020. So, maybe it'll be a little bit higher than that, but not a lot higher than that.

Great. Thanks.

Great. All right. Thanks, everybody, for joining us. Before we close, I wanted to let you know that we're going to be attending the Jefferies Virtual Conference on September 1st and the Citi Virtual Conference on September 14th. You can find a replay of today's call on our site starting later this morning. Once again, thank you for joining us. And, Catherine, you can disconnect all lines.

Thank you. This concludes today's conference call.

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