Agilent Technologies Earnings Call Cheat Sheet: Communications End Market and RF Component Weakness

On Wednesday, February 15th, Agilent Technologies Inc (NYSE:A) reported its first quarter earnings and discussed the following topics in its earnings conference call. Take a look.

Communications End Market

Nandita Koshal – Barclays Capital: Bill, I was wondering if you could give us a little bit more detail around the communications end market. I think that was a bit of a surprise to us as well. Could you talk about some of the different pieces in there, maybe geographically what might be leading to your belief that this more of a temporary slowdown as opposed to something more structural?

William P. Sullivan – President and CEO: Right. Yeah. It’s a great question. And as you said we were surprised on the reduction in investment for test equipment in both the base station development, as well as the component that go into the radio that eventually ends up into the phone. Our overall one box tester that we use for cell phone testing was fine. So needless to say, Ron and Guy have done a lot of analysis and I am going to turn it over to Ron and Guy to give their color commentary of what they’re seeing and what they’re expecting for the rest of the year. Ron?

Ron Nersesian – EVP and COO: Thanks, Bill. As Bill had mentioned, the first part of the decline was due to the base station infrastructure build-out, and we saw the decline not only in the global suppliers but also in the suppliers that are local manufacturers within China. This we believe is a pause in the marketplace as we have seen rapid growth over the last two years but there has been a pullback during this most recent quarter. The second part of the slowdown is due to RF components which get fed into the whole supply chain, and as you know, Agilent has a very, very strong position in base stations and a very, very strong position in RF components, and both of those – our market positions are stronger in those two segments than they are in handsets. So that is why we believe it is affected our business. As we take a look at the forecast going forward, the deals that we have in the funnel, the discussions we have with our customers and the economic outlook, we’ve gone to a conservative estimate of 2% revenue growth for the rest of the year which correlates with the $3.18 that Didier had mentioned earlier. Guy, would you like to add any other comments?

Guy Sene – SVP, Agilent and President, Electronic Measurement Group: No, thank you, Ron. I would just add that, yes, China has been the base where we’ve been exposed the most with this trend on the base station and the suppliers for base stations. Going forward, we believe that base station and ecosystem for this industry will probably stay slow, while the handset R&D and manufacturing and their suppliers should keep going as planned.

William P. Sullivan – President and CEO: I’ll put one additional comment on this, and again, for us having a quarter that goes from October through January, any time Chinese New Year is part of this quarter; we can have surprises over the decades. Fortunately, Chinese New Year is only every four years, it’s the same quarter as Christmas. So maybe Guy you could comment on what the outlook is like in February since everybody has returned back to work in China and the rest of the Chinese part of Asia Pacific.

Guy Sene – SVP, Agilent and President, Electronic Measurement Group: Yes, Bill. I would just basically restate that we have seen so far February being on track with our expectations, and as I mentioned, base station and the supply chain for base station would probably stay slow for the rest – this for couple of quarters, with the handset part getting back to on track.

Nandita Koshal – Barclays Capital: Maybe Didier just a quick one on the LSG and CAG side. You’ve talked about investing in the Varian business in the past, and at one point you mentioned it was breakeven. When can we start to see some of that leverage come through and maybe come of those investments start to roll off? Thank you very much.

Didier Hirsch – SVP and CFO: Yeah, I mean we – as you know, we don’t anymore present Varian separate from Agilent, we’re just one company, and you’ve seen – you’ve heard like the operating margin improvement significant that both CAG and LSG have demonstrated on a year-over-year basis which were, I would say, spectacular. This is for a good part the impact of the work that has happened in Varian, and we still have some way to go. We talked about generating $100 million of synergies over 3 to 4 years. The first year was mostly around the SG&A. We are now showing the synergies – starting showing the synergy on the cost of sales, and I’m sure we’ll get a chance to talk more about the actions that we are taking.

William P. Sullivan – President and CEO: And again, as we have said, both Mike and Nick, and their teams, were in the process of essentially turning every platform that we received through the Varian acquisition to ensure that we have not only a platform that is highly competitive from a measurement standpoint, but also will be able to be manufactured at a much lower cost. Unfortunately that can take easily two to three years to make that transition.

RF Component Weakness

Jon Wood – Jefferies & Company: Bill or Ron, I should know this, but I’d like some perspective on, if the RF component related weakness, is that a channel phenomenon, meaning sell-in, sell-through, or is that a direct piece of business? I’m just looking for if – we’ve heard a lot about distributor inventory destocking in China, and I wonder if this is part of that, or is this completely separate?

Ron Nersesian – EVP and COO: No. This is typically a direct sell-through, whether they’re RF components that are used for handsets or the RF components that are used for base stations.

William P. Sullivan – President and CEO: But if there is in fact an over-inventory situation in the channel, obviously people are not going to put on additional capacity, and that’s the big wildcard, by definition as you manage through any inventory adjustment people will put in additional capacity on the manufacturing side. How much of it was just the disruption as an artifact to the quarter, how much of it is an oversupply of components in the channel, because not only are we not talking about power amplifiers, we are talking about filters, we are talk about capacitors, we are talking about PC boards. I mean, theirs a whole – all kinds of bits and pieces that go into a radio module, just on the handset, and obviously, there are a lot of similar components that go into the base station.

Jon Wood – Jefferies & Company: Understood. So, Bill, basically this happens when a phone manufacturer takes down their unit forecasts, and therefore they have to work off whatever they – so basically excess versus their prior forecast, is that basically the effect we are talking about?

William P. Sullivan – President and CEO: Well, essentially, absolutely. The overall demand on the end products is going to affect the supply chain. Typically, as you know in the semiconductor industry, the supplies always tend to get ahead of the overall demand. What has been difficult is we’ve had two natural disasters over relatively short recent period, right, between earthquake and flooding. So, I think, my own opinion being an old semiconductor guy, that’s why it’s been so hard to read the semiconductor supply chain right now. As you know, the SIA forecast and some organizations are believing that we are in pause period and we’ll improve in the second half. If that’s the case, then just like we said, everything will be fine. But the signal noise ratio right now is a pretty high.

Jon Wood – Jefferies & Company: My follow-up for Didier, I think, you mentioned, you burned all of the backlog in the first quarter in EMG. But it looks like the difference between bookings and revenue is only about $20 million, and I thought that number was $50 million, so any commentary around or color around that would be great. And just want to make sure, EMG for the second quarter is below 2% growth, is that right? And it basically accelerates in the back half in your guidance?

Didier Hirsch – SVP and CFO: That rate is a little bit in the back half, yeah, right. Yeah, but it’s – yeah, it’s still positive growth in the second quarter as accelerates slightly for the second half because we’re talking about 2% growth for the three quarters, and not an enormous acceleration in our conservative forecast as Bill mentioned. So, on the first question, Jon, I mean if you look at our EMG backlog since – in the last three quarters, it has come down $68 million in the last three quarters, and so we believe that we are now – we have the right level of backlog, there is no more capacity constraints as we have experienced. There is always adjustments. Probably, the hardware component of the backlog will probably come down further, but then the software component will increase. So, net-net, I think that the best assumption is that we are now at a level of backlog that is not hampered by any kind of capacity constraints, and therefore anything that had to be achieved has been achieved.

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