TE Connectivity Ltd

Ladies and gentlemen, thank you for standing by and welcome to the TE Connectivity first quarter 2023 earnings call. At this time, all lines are in a listen only mode. Later, we will conduct a question and answer session. If you would like to ask a question during this time, please press star one on your telephone keypad. If you would like to withdraw your question, again, press star one on your telephone keypad. As a reminder, today's call is being recorded. I would now like to turn the conference over to our host, Vice President of Investor Relations, Sujil Shah. Please go ahead.

Good morning, and thank you for joining our conference call to discuss TE Connectivity's first quarter 2023 results. With me today are Chief Executive Officer Terrence Curtin and Chief Financial Officer Heath Mitz. During this call, we will be providing certain forward-looking information and we ask you to review the forward-looking cautionary statements included in today's press release. In addition, we will use certain non-GAAP measures in our discussion this morning and we ask you to review the sections of our press release and the accompanying slide presentation that address the use of these items. The press release and related tables, along with the slide presentation, can be found on the investor relations portion of our website at te.com. Finally, during the Q&A portion of today's call, we are asking everyone to limit themselves to one question, and you may rejoin the queue if you have a second question. Now let me turn the call over to Terrence for opening comments.

Thanks, Sujol. And thank you, everyone, for joining us today to cover our results for our first fiscal quarter along with our outlook for our second quarter. Before Heath and I take you through the details on the slides, I do want to take a moment to discuss our performance within the backdrop of the current environment, along with what we're seeing since our call 90 days ago. Clearly, we're all experiencing a lot of moving pieces in the global macro environment. While this volatility is creating cyclicality in specific end markets, we continue to benefit from secular trends leading to outperformance across many of the markets we serve. The strategic positioning of our portfolio and our team's execution enabled us to deliver sales and adjusted earnings per share that exceeded our guidance, and we also delivered strong free cash flow in the quarter. We generated high single-digit organic growth year over year with organic growth in all businesses in our transportation and industrial solution segments. The growth in these two segments offset incremental weakness in our communications segment. and while we can't control the macro environment or the headwinds from currency exchange effects we are taking actions on the elements of our business model that we can control our industrial segment continues on its journey to expand margins towards its high teens margin target and we'll talk through that in the call as well as we continue to implement price increases to offset inflation in our transportation segment in addition We continue to drive cost reduction and footprint consolidation efforts and are now implementing additional structural reductions in communications to ensure we stay in line with the target margins of that segment as we go forward. So let me provide some additional color on our markets and other updates since our call 90 days ago. Our view of the transportation and markets remain unchanged. Our growth will continue to be driven by content outperformance from our global leading position in electric vehicles and electronification trends, even in an environment where auto production we expect to remain flat this year. Our view of the industrial end markets is also consistent with our prior view. We are seeing continued strong recovery in the commercial air and medical markets, as well as continued momentum in renewable applications in our energy business. In our communication segments, this is where we're seeing changes versus our prior view. Last fall, we highlighted that we were expecting moderation in cloud demand in our data and devices business, and we're now seeing incremental weakness in enterprise and telecom applications, along with inventory adjustments across the broader supply chain that serves the data and device market. And as typical, our expectation is that the asymmetry adjustment will last a few quarters. Turning to orders, from a company perspective, our book-to-bill level remained below one as we expected due to the strong backlog coverage from our customers and increased stability in the broader supply chain. And I do want to highlight that our backlog remains near record levels and is almost 2x higher than we were in pre-COVID. Lastly, I do want to comment on the inflationary environment and just want to stress that we continue to be in an inflationary environment, and we've negotiated additional price increases with our customers in transportation, which will take effect as we move through this year. These increases will partially offset these inflationary costs, and we expect to have positive contributions to the transportation margins later in 2023 from the price-cost dynamic. So with that as a quick overview, let me now get into the slides and discuss additional highlights, and we'll start on slide three. Our first quarter sales were $3.8 billion, and this is up 8% organically year over year. We saw market outperformance in transportation and continued growth and recovery in the industrial segment, which offset the sales decline in our communications segment. Our sales were up 1% year-over-year on a reported basis and was impacted by approximately $300 million of currency exchange headwinds. Order and backlog trends continue to reflect a strong demand environment in both the transportation and industrial segments. And I'll get into more details about order trend dynamics by segment on the next slide. Adjusted earnings per share was ahead of our guidance at $1.53. and included 25 cents of currency exchange and tax headwinds versus our prior year. Adjusted operating margins came in as expected at 16.2 percent. Our free cash flow was strong at $400 million, and we returned approximately $410 million to shareholders. And we'll continue to be aggressive with share buybacks, taking advantage of market dislocations in our share price. As we look forward, we are expecting second quarter sales to be approximately $3.9 billion and adjusted earnings per share to be around $1.57. Our guidance represents sequential growth in sales driven by the transportation and industrial solution segments, and this will offset a sequential decline in our communications segment. Our teams remain focused on how we innovate with customers around the key secular trends that we position TE around, such as electric vehicles, renewable energy, and data centers, just to name a few. Now, I would like to move away from the financials just for a moment, and I'm pleased that TE was named to the Dow Jones Sustainability Index for the 11th consecutive year. This recognizes our positive environmental, social, and governance policies and puts TE in the top 10 percent of the largest 2,500 companies in the S&P Broad Market Index. based upon long-term ESG criteria. So, let me get into the order trends and markets, and I would appreciate if you could turn to slide four. For the first quarter, our orders were $3.6 billion, and I think the key takeaway by segment is that we're seeing stability in transportation, strength in the industrial solution segment, and we've seen incremental weakness in communications. I also want to highlight that as you look at this slide and you compare orders versus the prior year, there are some key moving pieces I want to highlight. First off is while currency impacts sales, they also do impact orders. And so we're comparing different currency rates year on year. And the prior year also has higher than normal order levels due to the broad supply chain challenges we were all dealing with. I do also want to highlight, as I stressed earlier, that our backlog remains at near record levels. So let me get into orders by segment. Our transportation book to build was 0.95, reflecting ongoing stable environment and strong backlog levels. On an organic basis, our transportation orders grew 9% year over year, and it reinforces our ongoing strong content growth momentum in what is essentially a flat production environment. In our industrial segment, the book-to-bill of 1.02 reflects strong demand across most of the served end markets we're in. We continue to see momentum around renewable applications in energy and are also continuing to see improving order trends in commercial air and medical as those markets continue to recover. Turning to communications, the orders reflect the incremental weakness in data and devices that I talked about And the other thing I want to highlight on the orders is the appliance market is moderating as we expected and we've been talking to you about. As we continue to move through this year and continue to see supply chain improvements and a reduction of backlog levels, we expect book to bill levels to remain below one, which is consistent with what we've been talking to you about. So with that as a brief overview of orders, Let me now briefly discuss year-over-year segment results in the quarter that are laid out on slides five through seven, and you can see the details on each of those slides. Starting with transportation, sales growth was strong. It was up 14% organically year-over-year with organic growth across all businesses. Our auto business grew 20% organically versus auto production that was roughly flat versus the prior year. The outperformance was driven by our global leading position in electric vehicles. We're benefiting from electronification trends in the vehicle, as well as some benefits from our pricing actions. While overall auto production is expected to be flat for this fiscal year, we expect production of hybrid and electric vehicles to grow approximately 25% of the total global auto production in 2023. And as you know, we generate 2X the content in EV platforms versus combustion engine vehicles. So we expect our content for vehicles to continue to expand as we move through the year. In the commercial transportation business, we saw 3% organic growth driven by growth in North America and Europe. And this growth was partially offset by declines driven by a continued China market that's weak. And in our sensors business, we grew 3 percent organically, and that was driven by our growth in automotive applications. At the transportation segment level, adjusted operating margins were 15.8 percent as expected, reflecting the lag in the timing of price actions to offset inflation. Over the past three to four months, we took incremental cost actions and are implementing additional price increases to improve margin performance. We expect adjusted operating margins to improve sequentially into quarter two and get back to the high teens in the second half of this year, as we mentioned last quarter. Now let me turn to the industrial segment. In this segment, sales increased 7% organically year over year, with organic growth across all businesses. Our industrial equipment business was up 3% organically, driven by continued benefits from automation applications. Our AD&M business was up 14% organically, with growth driven primarily by ongoing improvement in the commercial air market. In energy, we saw 8% organic growth with continued momentum in renewable applications. And our medical sales were up 5% organically and were benefiting from the recovery in interventional procedures. As you can see on the slide, from a margin perspective, We expanded adjusted operating margins by almost 200 basis points, and we continue to make progress towards our high teams margin target for this segment. Now let me turn to communications. And in this segment, our sales were down 11% organic. The appliance market is down as we expected, and as you would expect with the benefit we got during COVID, as it turns, we saw declines across all regions in this business. Our data and device business was down 6% organically, and this was driven by broad market weakness, which I already discussed. In the communications segment, adjusted operating margins were 17%, driven by lower volume, including declines in higher margin distribution sales. We are taking additional cost actions to improve margin performance in this segment as we go forward. We will balance these actions with investments for growth, as we continue to see strong design wind momentum in next-generation platforms serving the cloud data center market. So with that as a quick overview of our performance by segment, let me turn it over to Heath, and he'll get into more details on the financials, as well as our expectations going forward.

Thank you, Terrence, and good morning, everyone. Please turn to slide 8, where I will provide more details on the Q1 financials. Adjusted operating income was $622 million with an adjusted operating margin of 16.2%. GAAP operating income was $502 million and included $111 million of restructuring and other charges and $9 million of acquisition related charges. You'll note that we have taken nearly $200 million of restructuring charges over the last two quarters as we aggressively optimize our manufacturing footprint and improve the cost structure of the organization. We now expect full-year restructuring charges to increase versus last year, and as we mentioned last quarter, with the charges being more heavily weighted towards the first half of our fiscal year. We will provide further updates to the restructuring expectations as we move through the year. Adjusted EPS was $1.53 and GAAP EPS was $1.25 for the quarter and included restructuring acquisition and other charges of 28 cents. The adjusted effective tax rate was approximately 20% in Q1. And for the second quarter and for the full year, we expect our adjusted effective tax rate to be approximately 21%. And as always, importantly, we continue to expect our cash tax rate to stay well below our adjusted ETR for the full year. Now let's turn to slide 9. Sales of $3.8 billion were up 1% reported and up 8% on an organic basis year over year. Currency exchange rates negatively impacted sales by approximately $300 million and adjusted EPS by 21 cents versus the prior year. In the second quarter, We expect currency exchange rates to be a headwind of approximately 165 million year-over-year. And last quarter, we indicated that foreign exchange would negatively impact full-year sales by approximately $1 billion year-over-year. We now expect the full-year impact to be roughly half of this number at the current exchange rates. Adjusted EPS was $1.53, and adjusted operating margins were 16.2. as we expected. Now turning to cash flow, in the quarter we once again demonstrated the cash generation model of our business with cash from operations of $581 million. Free cash flow was approximately $400 million and we returned over 100% of our free cash flow to shareholders through share buybacks and dividends. We continue to remain disciplined in our use of capital and our long-term strategy remains consistent. And as you know, that is to return two-thirds of our free cash flow to shareholders and use one-third for acquisitions over time. Before I turn it over to questions, let me provide a quick recap. The strategic positioning of our portfolio enabled us to deliver Q1 sales and adjusted EPS that exceeded our guidance. From a market perspective, the transportation and industrial segments are consistent with our view 90 days ago. We continue to benefit from content growth and transportation and continued market recovery and growth in the industrial segment. However, some of this was offset with cyclical weakness and communication in markets and the inventory adjustments that come with that. We continue to execute on our margin journey, and you can see that progression in the industrial segment. We remain focused on the actions that we can control, implementing price increases to offset inflation, and driving additional structural cost reductions to improve our margin performance as we go forward. We continue to demonstrate our strong cash generation model with strong balance sheet that can support investments for growth. We will balance the short-term pressures with long-term opportunities, and I'm very excited about the opportunities we have to drive long-term growth, margin expansion, and value creation for our customers, employees, and shareholders. Let's now open up for questions.

Thank you, Heath. Abby, can you please give the instructions for the Q&A session?

At this time, I would like to remind everyone, in order to ask a question, press star 1 on your telephone keypad. In order to have time for all questions, each participant is limited to one question. If you would like to ask a follow-up question, please press star 1 to return to the queue. Your first question comes from the line of Mark Delaney from Goldman Sachs. Your line is open.

Yes, Mark. Good morning, and thank you very much for taking my question. Could you please provide more detail on orders, specifically the linearity of how orders tracked over the course of the quarter and into January, and any differences in order trends by the market?

Sure. Thanks, Mark. Thanks for the question. First off, how orders trended during the quarter and even into January is have been pretty stable outside except for our communication segment. So when you think about orders linearity or orders, we're stable except for the one area that we highlighted. And what's interesting is, and you see it on the orders chart, our backlog in both TS and IS are up year over year. We have seen our backlog being worked down in CS, and it reflects the demand dynamics that we see. So from a demand I think you've got to look at both orders and the backlog together to really get a picture. If you break it apart by segment, as I said on the call, transportation, if you remove currency effects, our orders were up 9% year over year. And production has been running around this 20 million units per quarter. So relatively, it's gotten more stable, and the supply chain has improved. And really, that growth really comes into the context that you see the strong outperformance and that we've, I think, proven to you about our content opportunity. In industrial, we continue to benefit from some markets that are recovering. You see that Comair, while single aisles back to pre-COVID levels, dual aisle aircraft, which are bigger content opportunities for us, are starting to improve. So we still see recovery there. Also in medical, we see it. And in those two markets, we still see some broader supply chain challenges, but we see our orders continuing to accelerate there and renewables I talked about as well. The only place in industrial I would highlight, you know, we had multiple years of very strong growth in our industrial equipment business. We probably see that plateauing would probably be how I would phrase it because that growth is just off a very high base and we're going to have tough compares. And in communications where we really saw the weakness, I would say, you know, we always highlighted to you that the appliance business that we had was going to benefit and cycle due to the COVID benefit it got. It's playing out as we expected. Where it got worse was in communications where we were expecting moderation in cloud CapEx spend. We saw it got weaker, both in enterprise and telecom type applications. And that supply chain is shared. You know, let's face it, whether it's distributors selling into EMSs or lower tier players or the ODMs and EMSs, they all make the same. And what we are experiencing is we do see inventory burn happening there. So, you know, I think it's more of a cyclical element we're dealing with. And as you go through inventory burns, as I said on the call, that's going to be with us for at least a couple quarters, that that's going to have a cyclical pressure with us in communications.

Okay, thank you, Mark. Can we have the next question, please?

Your next question comes from the line of David Kelly from Jefferies. Your line is open.

Hey, good morning, and thanks for taking my question. I wanted to follow up on the communication solutions segment discussion. I was hoping you could provide a bit more color on the progression of comms demand throughout the quarter and And then can you give us a view or sense into how you're thinking about sequential 2Q sales and margin trajectory for the segment? Thank you.

Sure, David. Thanks for the question. And I'm not going to repeat what I said in the last question on the demand side. But as you think about our comm segment, you know, last year pretty much every quarter it ran in excess of $600 million and really showed the momentum we have in those applications. In the first quarter, it's down to $520 million. When we look at where we see the demand levels, we think that we're probably going to be around $450 to $500 million in revenue in the second quarter. So we do expect an incremental step down with what we're seeing in demand patterns and this inventory workoff. And then right now, with the best we can tell, that's probably where we're going to stay for a couple of quarters. So that's how I think you should think about it. I do think what you'll see from a margin perspective is, you know, I think we've done a great job proving to you what we've done with the cost base of this segment when you saw the margin outperformance last year. But I do think you'll see this in the mid-teens as we work through this and working it way back up as the inventory works up into the higher teens as we work through the year.

Okay. Thank you, David. We have the next question, please.

Your next question comes from Bank of America. Your line is open.

Yes, thank you. Good morning. Terrence, can you just help us with some color on margins in your other segments as well, particularly your stress confidence in moving industrial back to high teens and also recovery in transport margins? How much of that is predicated on some of these restructuring actions versus You know, the pricing initiatives that you've taken in transport and how contractual are those or is there a lot of cyclicality or uncertainty associated with accomplishing those?

Wamsi, this is Heath, and I'll take the question. You know, first of all, if you just take a step back for a second, our margin targets for each of the segments is unchanged. I mean, we will react to... different types of market conditions in terms of the demand environment, as you would expect us to. But in terms of how we focus some of the cost reduction and footprint consolidation efforts, those strategically are unchanged. Now, we've accelerated some things, and you've seen that more recently in some of the charges that we've taken. And some of that is in response to a quicker decline in the communications business than than what we had originally anticipated. But if you just break it down by the three segments, and they each have a little bit different story, you know, the transportation margins we've talked to you about, there's been a lag from, you know, when we felt the inflationary pressures and continue to, and we feel those real time versus when we can get the negotiated price increases in effect. And those are meaningful price increases. And we're confident that we are in the price as we implement those real time. that those are going to have a nice benefit for us as we work our way through the year and would expect the transportation segment margins to be in the high teens during the second half of fiscal 23. The industrial business, we're pleased with the performance. As you see in the quarter, it was nice not just year-over-year expansion, but as we continue to move forward, we've been committed to a high teens margin growth. trajectory for the industrial segment. That has been a balance of both restructuring and growth. And you'll continue to see us move our way through that and hopefully appreciate the progress that you see reflected in our Q1 results accordingly. And then communications is a bit of the wild card right now. Obviously, the prior couple of years, you saw the types of margins that can kick out at the types of volume levels that we were seeing. And as Terrance mentioned, you know, if you go back and look over the last year plus, you know, our communications business was running well north of $600 million a quarter in revenue. And as we, you know, go into a period here, as there's some inventory corrections and so forth, where we see the revenue being somewhere in that $450 to $500 million range for the communications segment, as Terrance mentioned, you know, there will be a deleveraging impact. We will get after the cost structure, as you would expect. Our long-term margin for this business is still around 20%, but, you know, we're not going to be able to react in one quarter to be able to preserve that. So, you know, I think Terrence just mentioned it, and I'll mention it again. If you're modeling it, I'd say the communications segment will be in the mid to high teens from a margin perspective this year as we deal with the the decline, but importantly, all the areas that we are focused in and all the platforms that we've won relative to the areas that we're excited about have very good margin opportunities as we move forward, so we are confident in the overall margin projection there.

Okay, thank you, Wamsi. We have the next question, please.

Your next question comes from the line of Chris Snyder from UBS. Your line is open.

Thank you. I know the company is only guiding for the March quarter, but I wanted to ask a little bit about the outlook for the various end markets into the back half of the year. And then specifically for auto, I know the company said last quarter that there was agreed to price coming into effect in January. Is that not really having an impact until the back half? Or are you going to start to see that in Q2? Thank you.

Thanks, Chris. Thanks, Chris. Sorry about that. And let me talk about the first part before I get to your price question. Like you said, I'll give you some insights that I think I said in the script around how we think markets could develop. We are only guiding for one quarter. And so in transportation, while I think there's a couple key points as we think about these markets, I think we've said very clearly that we expect production to be flat. I also think it's important to highlight we're still well below pre-pandemic levels on auto production. So while it might be around 80 million units a share in flat, versus 2019, there were 88 million cars made in the planet. So we're still in below pre-pandemic levels by about 10% on production. When you look at this year, it's all going to be about our penetration and our global leading position in electric vehicles. And what we get excited about is, you know, That position I said on there, if electric vehicles and plug-in hybrids get up to about 25% of that 80 million units, our revenue, our auto revenue this year, the amount around electric vehicles and plug-in hybrids will be well in excess of $2 billion of our revenue in automotive. And I think we proved the content story there. We continue to prove it, and you see it in the outperformance. Looking at outside of automotive and transportation, You know, in commercial transportation, you know, last year was a negative market for those submarkets. This year is probably going to be flattish with anything going on in North America and Europe being offset by China weakness, and we'll slightly outgrow that due to our content momentum. In industrial, you know, I already covered, you know, Comair medical are recovering markets, so we expect that you're going to continue to see further growth on these markets because it's how we're catching up. And then there's also levers of further growth potential, especially when you get into calm air on dual aisle aircraft, which are only at 50% of pre-pandemic levels. And renewables, that momentum continues. So I really don't view that's going to slow. And that's up to 25% of our energy revenues relate to renewables. And in communications, I think we spent a lot of time on already about how you should think about that market from here, as well as maybe where the revenue can be. On the second part of your question around pricing, in the first quarter, we were with our customers, and our pricing in automotive, it does lag. When we get inflationary pressures, inflation doesn't stop. We have negotiations with our customers, and we did an additional round in the December quarter, which were negotiated, and they are starting to come in. They do phase in into the early part of calendar year, and we will get margin improvement in transportation this quarter. in the second quarter from the first quarter, and then it will continue to increase as we go through the year. So those have been negotiated, and we're going to start seeing the benefits of those as they come in as we work through this year.

Okay, thank you, Chris. Can we have the next question, please?

Your next question comes from the line of Matt Sheeran from Spiegel. Your line is open.

Yes, thanks, and good morning. I wanted to just ask about your inventory levels. I know last quarter you talked about some margin headwinds due to reduction in your own inventory within transportation. It looks like your actual inventory dollars were up quarter on quarter. So could you walk us through that inventory picture? Thanks.

Yeah, sure, Matt. Thanks for the question. And, you know, honestly, it's fairly straightforward. And we normally grow inventory – in our fiscal Q1 that we're talking about today in anticipation of some things specifically related to activities in China in anticipation of the Chinese New Year. So if you think about the increase we had from sequentially within the quarter, about half of that was just the revaluation due to foreign exchange. And the other half was the planned inventory build that we anticipate. As you think about it, for the year, you know, we'll continue to be aggressive. I do not anticipate, and when we sit back and look at this at the end of the year, that we're going to have a material inventory inflation. Obviously, we'll do what we need to do on the communications side as we deal with everything Terrence has talked about already. And then the other two segments are well on plan for that. Okay. Hopefully that answers your question. Thank you, Matt. Can we have the next question, please?

Your next question comes from the line of Jim Suva from Citi. Your line is open.

Thank you. Your transportation content story is very positive and compelling, so congratulations on that. One concern we get, though, is given a recession or slowdown in the economy concern, is there any signs of auto unit demand You mentioned flat outlook, but a potential inventory correction there or slow down there as we progress through 2023?

Thanks, Jim, for the question. And, you know, what we continually monitor with our customers is really how's inventory to the consumer. And when we look at that inventory, Jim, North America is still in the mid-30 days, which is well below the 60 days, which is more traditional. Europe is pretty much in line and China is in line. So we continue to monitor that. What's also nice, you continue to see the supply chain improving across the world, that anything that would be out there in the supply chain is being worked off. So I'll be honest with you, we got to watch it because certainly we're in a slowing macro economy. But I do want to also stress again, auto production is still 10% below pre-pandemic. So I don't think we've overshot But I think we have to keep an eye on it. And I think flat is the way we're seeing it is a prudent way that we've been planning our business right now.

All right. Thank you, Jim. We have the next question, please.

Your next question comes from the line of Amit Daryanand from Evercore. Your line is open.

Thanks for taking my question. Terrence, I'd love to kind of have you spend a bit more time on the price increases that you're expecting on the transportation side, how that flows into the model in 23. So if you could just quantify what the price increases are that you expect this year. And then secondly, I think the fear I would have is can you really raise prices on customers The auto OEMs were actually lowering the price of their own cars by 15%, 20% at this point. Or do you end up with more sizable pushback if not for this year than likely for next year? So I'd love to just get your perspective and your confidence that these price increases will flow through. And what sort of benefit are you embedding from that into your guide for 2023?

Yeah, so a couple of things, Ahmed. You were breaking up a little bit, so I hope I get every element of your question. First off being, our pricing with our customers are contractual. So no different than you've seen us have a lag in transportation. I do want to make sure it is around transportation. You know, these are negotiated elements that came in, and we have been over the past three to four months doing another round, which does give us the confidence around the pricing. And, you know, those global agreements are in check. Now, certainly each one's a little bit different, and they will be coming in. So we will see the benefit of them starting this quarter that we're in, and it will accelerate as we go through the year. And the other element is we're still dealing with inflation. So when you look at it, we are still in an inflationary environment. Things that are oil-based, how utilities and conversion costs that come out of some of the materials we use, we're still in an inflationary period, even though it might be a lower rate than last year. And we're still dealing with that transportation as these prices come in. So as I said on our pre-recorded message, We do expect our margin to get up in the high teens in the flat environment later in the year. And that will benefit from the pricing that we put in. And, you know, what we do with our customers, you know, we aren't commodity business. You know, we are key to their EV launches. You know, we aren't making commodity products here. And, you know, that's the contractual nature of what we do with them. So certainly they may have some price pressure. Certainly, we've had price pressure, and that's what we had to go through some of the negotiations, and we do have confidence around them.

Okay. Thank you, Ahmed. We have the next question, please.

Your next question comes from the line of Scott Davin from Milius. Your line is open.

Hey, good morning, guys. Hey, Scott. There's been a lot of talk already on inventories and price and inflation, but Can you disaggregate inflation a little bit for us and help us understand kind of, you know, are you seeing material moderation and things like labor inflation? I mean, we can follow the materials ourselves, but labor is something that I think is a little bit harder to track.

Yeah, Scott, you know, I think it's important when you look through that in our world, material is the biggest part of our spend when you look through it. Labor is incrementally higher, but the bigger pressure that we have is really around the base materials we use. And during this period, and you cover it well, you really have not only the base materials, but then you also have where do utilities and conversion costs come in. And where I would say we're still seeing inflation, metals have come off. I would say it's more neutral year over year. In resin-based things and chemicals where you use a lot of energy to make those, and let's face it, some of that does come out of Europe. Continuing to see inflation there. Utilities around the world. Certainly the cost to run factories is inflationary. And the other area that I would say we talked about but actually has retreated is around how do you move things around the planet from a freight and logistics perspective. So last year you would have had everything inflationary. You're seeing freight logistics come down. You're seeing metals be more neutral, but you're still seeing resins and oil-based things that are energy intensive still have an inflation around it. Labor for us is incrementally inflationary, but I wouldn't say it's the biggest headwind we have, and that may be different for other companies.

Okay, thank you, Scott. We have the next question, please.

your next question comes from the line of christopher glenn from oppenheimer your line is open hey thanks uh good morning just um shifting gears a little bit i was curious about the industrial segment margins um you know incrementals were a few hundred uh percentage points and uh you held margins on lower sales versus the second half of last year so i'm curious if you're hitting more of a culmination of the cost structure program that you've been talking about for a while?

Hey, Chris. Steve. You know, it's a good question. It feels like we're always on this journey with industrial. I would say that certainly we're pleased with the results in the quarter, and as we look through the year in our internal viewpoint, certainly there's progress being made. Now, the other thing, and again, There's a lot of good reasons, but this does tend to be the segment that we are the most acquisitive in. And we have done enough acquisitions in the last couple of years where we feel at least 100 basis points of margin pressure just from those acquisitions. But that's part of the value creation journey, right? We bring something in, we know it's lower margin, we get the cost structure right, we integrate as appropriate, and then we start to see the returns increase. from the overall. So, you know, absent, you know, that impact, I feel very good about where we are from the restructuring journey we've been on, which is really a rooftop consolidation journey that we've been talking pretty publicly about for the last five years. We have made a ton of progress on those rooftop consolidations. And then just the acquisitions are the things that are kind of the wild card in here in terms of the pressure relative to the opportunity. You know, sometimes we don't get into that as much, but since it was pertinent to your question, I thought I'd highlight that, Chris. Okay, thank you, Chris.

We have the next question, please.

Your next question comes from the line of William Stein from Truist. Your line is open.

Great. Thanks for taking my question. You just... answered a bit of this, but I'd like to dig a little bit more into the M&A opportunity. You highlighted that the company plans to spend over time about a third of its free cash flow on acquisitions. I think it's been significantly below that level for several years. So I'm hoping you can maybe refresh our memories as to both the strategic and tactical approach to M&A and and whether we might expect that to accelerate in the next couple of years, given the spend has been, I think, quite a bit below that third of free cash flow number. Thank you.

I appreciate the question. And certainly the two-thirds, one-third ratio that we talked about and have talked about for years is through a cycle, right? You're going to have periods of time when you do acquisitions and it's heavier or a size of a deal tends to swing you a particular direction. I would tell you that there's been times over the last couple of years where we have not spent that third. At the same time, that doesn't mean we're not active in the space. I think so far this fiscal year, we've spent about $100 million on our transactions. I don't know what that is in terms of our ratio, but you can't look at it in really a quarter by quarter or even in a one-year off basis. We do have a pipeline of activity, and as you imagine, besides the stuff that we keep track of and we monitor and cultivate on our own, we obviously are involved in a lot of processes that are out there as well. However, our approach to this is unchanged. That means the deal has to be strategically important for us, number one. Number two, where do we add value as the owner of that company? And then number three, obviously, the financial profile of the acquisition and how it relates to what's good use of cash for our owners. So we're going to continue to be disciplined in that process. We're going to continue to make sure that we're making smart acquisitions. and in spaces that we feel very good about. So there is some fragmentation out there, and it just depends on which of our business units, and we'll continue to be aggressive in those areas, and we'll see where it all adds up here as we track it over time. All right, thank you, Will.

Can we have the next question, please?

Your next question comes from the line of Joe Giordano from Cowan. Your line is open.

Good morning. This is Michael on for Joe. Hey, Michael. Earlier you mentioned elevator restructuring costs in the first half of the year, which are more in line with 2020 levels. Can you disaggregate the drivers behind that? I know you had mentioned a little bit earlier, but any additional color would be super helpful.

Yeah, and Michael, I appreciate the question. As you think about it, when we went into the year, we said restructuring would be roughly flattered down from The prior year, FY21 number was around, I'm sorry, FY22 number was around $150 million. Certainly that was our plan going into the year. With the incremental downturn, particularly in the communications segment, we have elected to accelerate some things in order to react more aggressively to that, which will push our FY23 number higher. I'm not at a point right now where I want to quantify exactly how much higher it is. We'll have a better view when we're back online here in April. But I would say that we took a charge in Q1 of north of $100 million, so we've already spent a good chunk of that, and that was really to aggressively get after a few things here. You know, longer term, certainly after we react to that, we would anticipate bringing this number down. And our hope was to do some of that in 23, but with the market conditions, that's not going to happen. Okay. Thank you, Michael.

We have the next question, please.

Your next question comes from the line of Sameek Chatterjee from J.P. Morgan. Your line is open.

Hi. Thanks for taking my question. I guess I wanted to see if I can dig into the industrial equipment sub-segment a bit and get some more color there. You talked about the recovery that you're seeing in medical, Comair, and also the strength in renewables. But when I look at the industrial equipment, the broader sort of industrial group there, what are you seeing in terms of the impact of the micro and takes there and any sort of color on book-to-bill, what that sort of sub-segment is tracking at?

Yeah, so first off, when you look at it, I would tell you I do think we have to keep in the context. Our industrial equipment business grew 25% each of the last two years, so very strong growth. And I think what we're seeing is we continue to see the backlog around CapEx, whether it's around what you see around automotive, electric vehicle, those types of things, that backlog is very strong. We are also seeing supply chain improvements. So in that space, you're seeing supply chain improving. So, you know, that will impact order levels a little bit, but not to the extent we're seeing in communications. The other things that I think we're watching is, you know, it's not lost on us what's happening in consumer electronics. Consumer electronics is a big user of factory automation, you know, and that certainly has been a weakened market. What happens around warehousing could be a weaker environment as well. So when we look at that, there are areas, but there are strength areas when you think about the infrastructure investment as well that our products go into. And you're also seeing strength in process automation. So I would tell you it's not all in one direction. I think it's also, you know, we have tough compares that we're going to be going up against, and it feels like we've seen a peak and plateauing is how we would see it both from an orders as well as the supply chain improves.

Okay, thank you, Samik. Can we have the next question, please?

Your next question comes from the line of Steve Fox from Fox. Your line is open.

Hi. Good morning. Just one broad question on China. There's been a lot of news flow out of there and questions around how companies' manufacturing footprint should look for the long term or even shorter term, given all the changes in terms of government policies, et cetera. Can you just sort of sum up your current situation in China and And then how you look at sort of your global footprint, especially as you do some restructuring down the road here. Thanks.

Sure. Thanks, Steve. And, you know, a couple of things. I mean, you follow us for quite some time now. And, you know, we've always been one that how do we produce, engineer where we make if we can. And our China footprint is very much for China. You know, we are not a big exporter out of China and anywhere we even do have that. We do continue to look at where do we have China plus one within region where we might be doing some things for Japanese or Korean customers in China. They may want an option. So I view it much more as a modification and an evolution than a wholesale change because we don't import a lot of things back to places like the United States. We're also, you know, when you think through our growth opportunity, we talk a lot about electric vehicles. China is the largest electric vehicle market. So we continue to look at how do we expand capacity in China to support those local OEMs as they continue to make up the lion's share of electric vehicles. So net-net, our strategy to move back again to the big picture, we want to manufacture in-region. It's the best for the supply chain. Certainly we have to mirror what our customer supply chains are, and you're going to continue to see us modify so that we make within regions. And, you know, even some of the things he talked about restructuring is, you know, in some cases, we're still exporting out of places like Europe into China. We want to make sure we're more localized in China. So, you know, we're continuing to invest in China around these key verticals that we expect to be there long term and, you know, drive our growth.

Okay. Thank you, Steve. Can we have the next question, please?

Your next question comes from the line of Guy Hardwick from Credit Suisse. Your line is open.

Hi, good morning. I just want to understand, sorry if this has been covered already, but I want to understand the transportation margins just a little bit better. So I think you guided to, at the last quarter, at least 100 basis points of impact on the transportation margins for the inventory reduction. At the same time, you also benefited in this quarter from, I believe, very strong pricing as well as strong outgrowth driven by mix. And even if I take out that 100 basis points of impact, inventory reduction impact, you're still like 100, 140 basis points decline in the margin despite the pricing. So does the pricing get even stronger as the year progresses? Is that kind of what you're communicating? Can you help me understand that a little better?

Sure. Guy, this is Heath. You know, We covered some of this a little bit earlier, but our price increases largely are a little more calendar focused, if you think about it, and go into effect really as we sit here today. So January-ish timeframe, they're obviously not all aligned on the same date, but more or less, we didn't see much help in our first quarter results in transportation or otherwise from pricing. So it pretty well laid out as you would have thought in terms of that. Now, as we work our way through the year, both in the quarter, as Terrence mentioned earlier, both in the quarter, the second quarter that we're sitting in today, as well as our second half of our fiscal year, we do expect a significant help from those pricing increases. And you'll see those, I'm confident you'll see those in both our our second quarter results as well as the back half of the year. Okay, thank you, Guy. Can we have the next question, please?

Your next question comes from the line of Luke Junk from Baird. Your line is open.

Good morning. Thanks for taking the question, modeling question for me. He's just wondering if you can help us understand the moving pieces around your updated FX guidance, specifically how that translates from revenue to earnings, Wondering what is change versus 90 days ago in terms of how it works through the plumbing, if you will, especially thinking about the back half of the year and the earnings impact as the top line impact starts to moderate.

Sure, Luke. And listen, it's been a moving piece for us as well over the past 90 days. You know, the top line piece is really just we snap a line in the sand in terms of where things are relative to the dollar. And we did see the dollar weaken in the quarter, particularly towards the end of the quarter. And obviously that's impacting most all companies who are global. That's the translation impact. The transactional impact is a little bit harder because that starts getting into where we denominate currency versus where we have costs and those types of things. and where we move things across border, across currencies. And so that piece of it has more of an impact to the EPS element of it. Now, you know, we talked last quarter about a billion dollars, and most of that first half, billion dollars year over year, and most of that in the first half weighted. Now it's about half of that at today's rates, and that's still largely in the first half of the year. And you see the numbers we talked about, the 300 million year over year impact, in the first quarter and 165 that we just guided for the second quarter in terms of that, and I think we provided in the bridges the EPS elements of that. Now, at today's rates, if you work your way through the back half of the year, it balances itself out. You don't have much of an impact in the back half of the year. A little bit of headwind, I think, in the third quarter, and then it swings around to a little bit of tailwind in the fourth quarter, but we're getting into much smaller numbers at that point. So the back half, you know, again, at today's rates, we don't know what's going to go from there. That's kind of how it looks.

Okay, thank you, Luke. Can we have the next question, please?

Your next question comes from the line of Shreyas Patil from Wolf Research. Your line is open.

Hey, thanks so much for taking my question. Just coming back to communication, so maybe thinking a little bit beyond This year, you've talked about the ability to sustain low 20% margins in that segment. Obviously, we're going to be dipping below that for the next few quarters, but I'm just trying to get a sense of the bridge to get back to that low 20s level. I mean, how much of that is really dependent on the end markets versus some of the internal cost actions that you're talking about taking out?

Sure. I'll take this. It's really, I mean, you know, listen, I think if you look at your models, first of all, it's our smallest segment, right? So there is a little bit of law of small numbers here on a relative basis for TE when you start getting into margin rates. And we were always very careful about, you know, not jumping up and down to, you know, when we had the real high margins the last two years because we knew what the leverage was in those factories when you have that kind of output. and when you see it flip around. So when you go from a $600 to $650 million per quarter run rate at that segment down to sub $500 million here for the next few quarters, it does have a meaningful impact. And I think part of it also is the amount of inventory bleed off and the margins that we know exist in that channel inventory. That's just the reality of the cyclical nature of this. Now, our confidence in terms of being able to get back to closer to a 20%, A margin number for the segment really resides in the fact that we see this as more than a $2 billion segment annually. We do see this continuing to grow. We know the markets where they are. We know where our customers' capital needs are and the things and the platforms that we've been specced in on that are incremental growth to us going forward. for the next several years. We feel good about that, and we know what the margins are going to look like, but we're going through a bit of an air pocket here for the rest of 23 or for at least the next couple quarters of 23. Okay, thank you.

We'd like to thank everybody for joining our call this morning, and if you do have additional questions, please contact Investor Relations at TE. Thank you, and have a nice day.

Ladies and gentlemen, today's conference call will be... for replay beginning at 11.30 a.m. Eastern Time today, January 25th, on the Investor Relations portion of TE Connectivity's website. That will conclude the conference for today.