Corning Incorporated (NYSE:GLW) Morgan Stanley 2022 Technology, Media and Telecom Conference March8, 2022 11:00 AM ET
Company Participants
Jeff Evenson - Executive Vice President & Chief Strategy Officer
Edward Schlesinger - Executive Vice President & Chief Financial Officer
Conference Call Participants
Meta Marshall - Morgan Stanley
Meta Marshall
[Call Starts Abruptly] The networking space here at Morgan Stanley. I'm going to start with a small disclosure. If you have any questions on research disclosures, checkout morganstanley.com/researchdisclosures or talk to your sales representative. We are very happy to have Corning here with us today. We have Edward Schlesinger, CFO; and Jeff Evenson, CSO. Welcome.
Edward Schlesinger
Thank you.
Question-and-Answer Session
Q - Meta Marshall
And then the most common investor question that I get is still looking at Corning through the lens of the display business and really trying to track what's going on with the display business. I guess I just want to get a sense of you guys have a lot of growth drivers. And the display business certainly is kind of the support. But like what gets you guys excited about Corning over the next couple of years? And what do you think just focusing on the display market misses?
Edward Schlesinger
I'm sorry, the last part?
Meta Marshall
Just what does -- just focusing on displaying this about kind of the tm opportunity?
Edward Schlesinger
Yes. I would say what gets us most excited about growth is, first of all, we're much more balanced today than we were five years ago. Display, although really significant and important is a much smaller percentage of the Company than it was five years ago. We're growing in all of our maps, all of our market access platforms or segments.
The growth drivers that we shared back in 2019 when we laid out a growth plan really are all intact. So if you think about maybe mobile consumer electronics, as an example, we've grown every year since 2016. The market for smartphones is sort of flattish over that time period.
Environmental Technology is another really good example where the automotive market is actually down since maybe 2016, 2017. We've grown 40% over that time period. We're adding content in all of our maps, and that is what's driving the growth and why these other segments are becoming a larger part of Corning.
Jeff Evenson
And I think what you missed by focusing on display is the relevance of our three core technology capabilities and four manufacturing and engineering platforms. And really, internally, we have a display business, but we really think of it as being long our fusion assets, which is the proprietary manufacturing technique that we use for flat glass.
We're making pieces of glass more than twice as big as a king-sized bed, thinner than your business card and locally flat to less than 200 atoms without polishing. It has many applications outside of the display industry. The Gorilla Glass is the biggest one we use today. We have a growing business in automotive glass. We're looking at various architectural applications, and the assets that we're using are fungible among those.
So I think a great example would be to look back to the mid-2000s, where we only had a display business doing it. As we became more efficient in that business, we were able to repurpose some of those assets for entering the Gorilla market, saved over $1 billion in capital. And then we were able to go after that business in a very capital efficient way. And I think we can repeat that model over and over again.
Meta Marshall
Got it. That's helpful. One of the areas that I think has garnered a lot of focus is the optical business, just given all of the discussion of fiber deployment. That business grew 22% in 2021, and you're very positive on it as a growth driver going forward. Just how do you think about some of the timing of those deployments? And do you think that it's going to be lumpy deployments? Just how do you think about the growth in that market over the next couple of years, fueled by some of these government builds?
Jeff Evenson
I think, first and foremost, we exited the year a much bigger business than we started the year, and we have a significant backlog coming into 2022. So I think that's probably where we have the most confidence in why optical is going to grow. It will be a pretty significant driver of our '22 growth.
Secondly, as you mentioned, there's a lot of infrastructure money out there. It is $40 billion, $45 billion or so for optical broadband infrastructure, maybe $4 billion or $5 billion or so of that is for passive optical, we will take a significant portion of that over the next coming years, and that will also drive growth.
A lot of the carriers have announced plans in the U.S. to spend. And then you also have government programs in Germany, in the U.K. and Canada as well. So I think there's a nice long opportunity -- a nice long period of time in the future for us to be able to grow in that space. And the good news is we have a good amount of backlog.
You mentioned lumpiness, I would say, for sure, in any infrastructure sort of an environment, there could be a quarter that's stronger than another quarter. But I think over the course of a year, I don't expect it to necessarily be lumpy year-to-year.
Meta Marshall
Got it. Optical has traditionally been maybe a below-average margin segment, but you guys have talked about improving the profitability of that segment. Just how do you think about optical as a profit driver of the business or improving the profitability of that business?
Jeff Evenson
A couple of things, one, we sell solutions, which we have an opportunity to sell at a much higher margin than where we've sold in the past in optical. I think a lot of the opportunity for 5G and cloud and the data center space allows us to sell solutions at a much higher margin. So I think you'll see that -- our optical margin improve over time.
Additionally, optical happens to be one of the businesses where we've been impacted by inflation, supply chain impacts in 2021. And as we've mentioned, we're raising price and we expect that to take hold in '22, and you should see their profitability improving as those price increases take hold.
Edward Schlesinger
Yes. Just a bit on the benefits of the solution to the customer is, it is a speed of deployment and a massive reduction in labor and likely in the data center, a big reduction in carbon footprint. So, a simple example would be that if a data center operator wanted to connect a rack of servers to the end of rose switch, you would buy a bunch of cables and start hooking them all together and run them. It takes a lot of labor.
You're forced to buy whatever lengths come out of a catalog. If you're using a solution like our valve or our edge systems, where you can get preconnectorized solutions, it can be much faster to do it, because we can give you custom lengths. There's much less waste involved. That helps reduce the carbon footprint, et cetera.
Meta Marshall
Okay. That's helpful. I mean you announced a $150 million investment kind of late last year to expand capacity in the optical business. Do you think that, that's kind of sufficient to meet some of these demands? Do you envision having to kind of invest further?
Edward Schlesinger
Yes. So we'll have capacity coming online in the back half of '22 and into '23. And I would expect if the growth that we see out there continues, we will need more capacity over time to meet that demand. And we'll talk about that as we go forward, but I think in the current state for what we see in 2022, we're in a pretty good state.
Meta Marshall
Got it.
Edward Schlesinger
And we'll continue, obviously, to get strong customer commitments. We do that. We're increasingly talking about those externally. We've done that in recent history, both with Verizon and AT&T, as well as Apple in the mobile consumer electronics space. So, I think you should look for those announcements as well.
Meta Marshall
Got it. A question that we get often is, does it matter on some of these infrastructure bills, if it ends up being the Tier 1s to build out these networks or some of the smaller kind of Tier 2, Tier three players. Does that matter to you guys in terms of either attractiveness of the opportunity or just sales intensity of that opportunity?
Jeff Evenson
Go ahead.
Edward Schlesinger
I was going to say, no. I think we have an opportunity to win in either case. I don't know if you want to add anything, Jeff.
Jeff Evenson
Yes. And I think that historically, we've certainly focused on some of the Tier 1s. I think we're expanding our sales efforts to the Tier 2, because they're using more optical solutions. Like if you look at the recent bids for rural deployments that are subsidized by the government. Over 90% of the dollars spent on those goes to optical. That's obviously a great thing for us. And that's a much higher percentage than they were doing in the past.
And I think some of the preconnectorized solutions that we've been doing and developing for various players are going to be very applicable to these deployments as well. So, I think it's -- we can definitely win in that space. And I think that we bring a lot of capabilities that are going to help Tier 2 and Tier 3 customers succeed as they go to do these deployments.
Meta Marshall
Got it. Maybe moving on to the Life Sciences opportunity. You recently introduced Velocity Vials. And then I just want to get a sense of how does this round out kind of the pharma packaging portfolio and just how large of an opportunity can that be?
Jeff Evenson
Sure. The way I think of it is the benchmark technology is Valor, and it's a suite of underlying technologies. That it's the glass formulation itself. It's how we form the glass into a vial, the coatings that we put on the outside. And what we've learned as we've engaged with various pharmaceutical players through COVID and their drug trials is that different players have different requirements.
There are some modern drugs where the delamination of type 1 glass is a big problem that lamilla observed in the drug product. There are drugs that haven't been able to go forward in the FDA approval process because of that. They need Valor. It's the full solution. There are other drugs that have been around for a long time that they're going to -- the shelf lives are adequate despite interactions with the side of the glass that may occur. It's just not a big deal and type 1 is fine.
For those, Valor offers a way for you to get a manufacturing speed increase without changing the glass type. So it saves the customer money, because they can use -- get more vials out the door in a shorter period of time. And it avoids a regulatory requirement that's needed when you use a new type of glass like Valor. So that's a benefit of that. But there are other benefits that you could have.
There are the thermal benefits that you have. There are other form factors that you can use, which you see us pursuing with West Pharmaceuticals. So I think over time, that you can see us unpack the Valor technology stack in a way that makes it the right product for a broad array of customers.
Meta Marshall
Okay. So Valor glass as kind of we would think of it through the vaccine that's totally different glass, it's different interaction capabilities. Velocity vials...
Jeff Evenson
Lack of interaction.
Meta Marshall
Lack of interaction, yes. And then the Velocity Vials is more just the same glass, but using a lot of the Valor process in terms of manufacturing.
Jeff Evenson
You could use the Valor process performing absolutely and then for coating it as well, yes. So I think that's a reasonable way to think about it.
Meta Marshall
Okay. We won't go into the nightmares of all of the -- when you guys tell the tales of normal glass interacting on the vaccines. Doesn't make...
Jeff Evenson
It's not an issue. It's very well controlled. And the drugs that it is an issue for are increasingly using Valor. So it's good news.
Meta Marshall
Perfect. This makes everybody sleep better at night. You noted -- moving on to Environmental. You guys have kind of been very public with this $100 per car opportunity, with a lot of that already being opportunity that you addressed today. Can you just kind of refresh people on what that opportunity is today and the areas in which it's expanding or the areas in which you're already addressing it today?
Edward Schlesinger
Yes. So I think today, you can think of us -- or not today, but sort of back in time, maybe $15 a car opportunity moving to $100 a car. The first part is actually just automakers looking for better emissions control, hybrid vehicles. That actually affords us an opportunity of about 3x a vehicle on the filtration side. So $15 to go into something like $45 an opportunity.
And then there are really two other categories to think of. You have interior glass, which is today more and more used in luxury vehicles, and you'll see that taking place sort of down the auto chain, and you see large form factors. We have technology that enables that at a really good cost position for manufacturers. That's probably about a $25 per car opportunity for us.
And then technical glass -- exterior glass and other technical other needs for cars that require a very technical glass is probably about a $30 opportunity. So that sort of gets us to roughly the $100 per car opportunity.
Jeff Evenson
Yes. A couple of examples of the other glass needs because we're just entering the market for those would be the curve mirrors for head-up displays. We're in the new ionic with that technology in the market. And this year, we will be in the market for commercially available vehicles with a LiDAR cover, which is a pretty specialized piece of glass that's both durable and has the optics optimized for that system.
Meta Marshall
Got it. Maybe as we move on to Specialty. That business has continued to grow, even though -- as you guys have noted, even though the smartphone market is not what you would consider the highest growth market. How much of -- as you think of Specialty going forward, is just more glass per device or better generations of glass per device versus extending it into new devices or areas of the market that you haven't addressed previously?
Jeff Evenson
I think both possibilities are absolutely available to us. And I think if you look over the last five or six years, you've seen us deliver a fairly consistent and significant growth in that business despite the smartphone market being relatively flat. The way we've done that is higher value glass and more of it.
In 2021, the biggest example of more of it came from our entry into the camera stack where our DX solution or a variant of it is being used to protect the cameras on the back of some Samsung phones at the high end of their lineup. It has great optics. It's better than either Gorilla Glass and way better than Sapphire, and it's highly durable to scratch resistance as well.
So that's a new category for us. And if that goes to other vendors, that could become a significant business. Then there's just the better durability and design features that we can offer to customers that has helped us increase price for existing glass.
I think those levers continue to be in front of us. And then obviously, if augmented reality and virtual reality take off, a lot of the technology is about moving light in precise ways over short distances. And we think that precision glass is going to play a big role. But we need those devices to take off before we see that.
Meta Marshall
Got it. That's helpful. We've circled around a lot of the growth categories of the business. Maybe circling back to the Display business. There's been kind of caution around the panel inventory reset that's happened over the last couple of quarters. However, your outlook on earnings was much better than expected, looking for a pretty tight market to remain for most of 2022. Can you just walk investors through what you're seeing around pricing and supply conditions and what gives you more confidence kind of on a more positive outlook than people were expecting for 2022 in Display?
Jeff Evenson
Sure. So pricing remains good, we projected flattish pricing in Q1. I think the pricing environment should stay pretty solid for 2022. Supply/demand remains tight and we expect that to be tight to balanced for the majority of the year. Panel maker utilization is still relatively high. If you think about sort of the end market or glass market, we expect there to be growth in units as well as growth in screen size, and that will drive overall growth in the market, and we expect that to sort of continue to keep this supply/demand tight for the remainder of the year.
Meta Marshall
I mean I think there's been this caution that, particularly with a lot of consumer electronics that people bought what they needed over the past couple of years. Just what kind of gives you guys confidence in units still being a growth area this year?
Jeff Evenson
Well, I think we'll have to sort of see how it plays out, but our perspective is that we will see the unit sort of level of units go back to sort of the trend line. So if you go back to 2020, we were above the trend line, maybe 235 million units. And 2021 was well below the trend line, and we expect growth primarily just to get back to sort of normalization in 2022.
Edward Schlesinger
And remember, regardless of the change in units, volume as screen size goes up, that adds to our demand. So screen size goes up by 1.5 inch, which has been pretty typical historically, that increases the diagonal size by about 3%, which would increase the area demand by about 6%. So even if you're flat on units, you can get 6% growth in the demand for glass at retail.
Meta Marshall
Got it. Another investor question often tends to be the shift from LCD or LED or LCD to OLED. You guys have continued to say that OLED doesn't necessarily make sense for kind of the large screen market. But just as -- how are you guys thinking about that transition or planning for that transition?
Edward Schlesinger
I think we would continue to think OLED TVs occupy a really small percentage of overall demand. We don't see that getting above a few percent any time on our planning horizon. We think that the advances in LCD technology with quantum dots, et cetera, really continue to drive picture quality in the LCD space. And as we look at the panel capacity going in over a one- to two-year period, the vast majority continues to be around LCD. Now OLED for handheld is a different story and we are a very active supplier of glass for making the flexible OLEDs that go into a lot of the top smartphones and tablets.
Meta Marshall
Okay. Perfect. Maybe moving to supply chain constraints. It hasn't necessarily been as big of a problem for you guys as it has been for your customers. And so, I guess the question becomes how much of a lag is there between when their supply chains recover to when you would start to see demand again?
Jeff Evenson
So, I think if I think about the automotive space, which is probably where we see it may be the most dramatic, we don't expect a significant improvement in chip availability until the second half. We're ready to supply. So to the extent it comes back earlier, that's an opportunity for us, but we're not expecting it to be a significant improvement until at least the second half of '22.
I would say that we have seen impacts in terms of freight, time. So it impacts us on both the supply side as well as on the customer side and, of course, in terms of cost of raw materials and availability of raw materials, and we continue to see that. And we've raised prices to offset those costs, and we expect that to take hold as we sort of start to see that in 2022 and Q1.
Meta Marshall
Got it. The Hemlock ownership transition over the past couple of years. What was kind of the strategic rationale to you guys becoming a majority holder? And then that business has been doing much better than kind of most people expected. And so just walking people through that transition and then the opportunity that you guys are seeing there?
Jeff Evenson
Yes. So if you go back in time, Hemlock was actually part of Dow Corning. So, we've been an owner in Hemlock at some level of percent for quite some time. Through a various number of transactions, we wound up being a 40% owner in Hemlock with DuPont being a 40% owner, and then another minority partner.
And DuPont was a very willing seller. They were looking to exit. I think they made that very public. So for us, it was to some extent, opportunistic, to gain that other 40% Hemlock, redeem DuPont shares, and they also purchased some assets that were owned by DuPont that were part of the feedstock to make polysilicon.
So, as we see it today, we think -- well, actually, maybe just to go back again at that time, it was primarily making semiconductor-grade polysilicon. That was the business that in 2020 when we acquired majority stake. What's since happened is the solar market has really grown much faster than I think people expected. 2020 was up maybe 20%, 21%, similar in terms of panels and therefore, polysilicon going in there.
And in addition to that, you have the humanitarian issue of a lot of the Chinese polysilicon and Indian wafer makers, making their product in an area in China where they can't really sell it into the U.S. and other Western countries. So they've moved production out and they're looking for non-Chinese polysilicon. So many customers came to Corning, came to Hemlock, and asked them to restart capacity and make solar product.
And so, that's what we've seen happen throughout 2021. And we see it as an opportunity. I mean, me personally, I would be cautiously optimistic about it, and we think it could potentially be a good growth driver for us, but we'll see sort of how things play out globally, whether there's infrastructure spending in the U.S. and how the solar sort of supply chain builds out outside of China.
Edward Schlesinger
And I think that if you think of two categories of a transaction, it's financial attractiveness and strategic attractiveness. We've definitely already convinced ourselves that it was financially a really attractive transaction. We paid back the loans by the end of last year, so less than 1.5 years or Hemlock paid back the loans, because they were the ones who took it.
So it's great and the extra growth, we were really viewing solar as an option that appears to be paying off. I think whether it's a great strategic transaction, will come down to the role of our other capabilities in solar. If as we interact with more of the solar players, we understand the need for lightweight glass, extra durability in the glass.
I think there's been a lot of evolution in the thinking on how you want to build the lifetime of a solar cell that are favorable for precision glass. If that works out, and then it's a great strategic transaction for us. But I think it's a little too early to call the ball on that one, although we're really encouraged about some of the engagement we're getting. And when we do that, that's another way that we use the fusion assets that lease for display Gorilla and Autoglass.
Meta Marshall
Three, four, five is going to we're going to extend it to solar for Corning. Okay. All right. Perfect. As you may mention that on Q4 earnings that gross margins weren't exactly where you wanted them to be. Can you just dig into some of the headwinds on the gross margin line currently? You just alluded to some of them with some of the cost pressures you guys are seeing and what levers the Company has to improve those in 2022?
Jeff Evenson
Yes. I mean, we started to see the impact sort of in the beginning of '21, and it accelerated through the year. Freight and logistics was probably the beginning for us where we started to see both cost and availability of freight, having to expedite to be able to meet customer demand. So that impacted us.
And then raw materials, we've sort of seen the gamut. I mean, you probably read yesterday about a lot of the Russian commodities and so on. We've sort of seen that rip through various different parts of the supply chain. So that accelerated throughout 2021. And as we shared, had about 150 basis point or so impact on our gross margin, so clearly not what we want.
We've raised prices in the segments that are impacted the most, Life Sciences, Optical Communications, to some extent, Environmental. It impacts us really across the board, but those are the places where we saw it. Resin is a good example in some of our segments. So, we've raised prices.
And because we have a lot of long-term contracts, it takes a while for those price increases to take hold. They start at the beginning of 2022, and they kind of accelerate through the year. So we expect Q1 to really be our lowest gross margin quarter for the year and for gross margin to expand from there.
Meta Marshall
Got it. I've got a couple more questions, but are there any questions from the audience?
Unidentified Analyst
[Indiscernible] can you talk about question with respect to the fiber rollout at the companies, and can you talk about the visibility they have in that? Are you expecting that type group is a [indiscernible] is that a comfortable where one customer may end in another ramping and the offsets are net positive, whether cable is jumping into the mix as well, too, because there's some talk about cable start to more five-year intent.
Edward Schlesinger
Yes. I think we talked a little bit about it being lumpy in the sense of there being infrastructure build. So I think we expect it to be -- in the United States, if I focus on the U.S., I think we expect the carriers sort of across the board to be investing. Data center owners as well to be investing throughout the year and forward.
In any given quarter, you may see one carrier doing a lot more than another. But certainly, I think we see it really across the board. And in other places as well, I think the United States is probably the most pronounced. And then the infrastructure bill will take hold in 2023, which adds a little more juice to that.
Unidentified Analyst
And do you see the cable companies as shifting gears and starting to raise some more fiber-oriented approach? Or is there security...
Jeff Evenson
Wendell, our CEO was invited to give the keynote at the Cable Tech Conference in the fall. I think that talk is available online. And I think they invited him because of the increasing role that optical will play in their goal to significantly expand the bandwidth rates and capacities that they can give their customers. So, I think that's great news for us.
Meta Marshall
Perfect. Maybe circling up on free cash flow. You nearly doubled the year-over-year cash flow in 2021 and expect to have another strong year in 2022. Can you just walk investors through priorities, either on capital return or organic and inorganic investments?
Edward Schlesinger
Yes. So definitely a strong year in free cash flow and expect that to continue. We will certainly prioritize our investments on organic growth opportunities. We have a number of them really across all of our maps, and that will remain a priority for us.
And then we will certainly return cash to shareholders. We repurchased about 5% of our outstanding shares in 2021. We'll continue to be opportunistic in 2022 in terms of buying back shares. We increased our dividend both in '21 and '22, cumulatively over 10% for those two years CAGR.
Meta Marshall
Got it. And then maybe just the last question we're circling up with a lot of people on is just Russia Ukraine impact, any impact worth calling out to the business?
Edward Schlesinger
Not really for us at this point. I think the impact could be just how it impacts the global economy. But I think directly, I don't think we'll see any impact.
Meta Marshall
Okay. Perfect. Ed and Jeff, thank you so much for being here today. I appreciate it.
Jeff Evenson
You're welcome. Thank you.
Edward Schlesinger
Thank you.