Littelfuse Inc (LFUS) 2019 Q4 法說會逐字稿

Ladies and gentlemen, thank you for standing by, and welcome to the Littelfuse, Inc.

Fourth Quarter Fiscal 2019 Conference Call.

(Operator Instructions) Please be advised that today's conference is recorded.

(Operator Instructions)

I would now like to hand the conference over to your speaker today, Trisha Tuntland, Head of Investor Relations.

Thank you.

Please go ahead, ma'am.

Good morning, and welcome to the Littelfuse Fourth Quarter 2019 Earnings Conference Call.

With me today are Dave Heinzmann, President and CEO; and Meenal Sethna, Executive Vice President and CFO.

This morning, we reported results for our fourth quarter and fiscal year 2019 and a copy of our earnings release is available in the Investor Relations section of our website.

A webcast of today's conference call will also be available on our website.

Our discussion today will include forward-looking statements.

These forward-looking statements may involve significant risks and uncertainties.

Please review today's press release and our Forms 10-K and 10-Q for more detail about important risks that could cause actual results to differ materially from our expectations.

We assume no obligation to update any of this forward-looking information.

Also, our remarks may refer to non-GAAP financial measures.

A reconciliation of these non-GAAP financial measures to the most comparable GAAP measure is provided in our earnings release available in the Investor Relations section of our website.

I will now turn the call over to Dave.

Thank you, Trisha.

Good morning, and thanks for joining us today.

Before continuing, I'd like to first mention the top of mind for us is -- for our company is the safety, health and well-being of our global associates, their families and communities, given the coronavirus outbreak in China.

Our first priority is to our people.

We've taken proactive measures to protect our people and will continue to take necessary actions.

In addition, our global business continuity teams are closely monitoring the situation to limit disruption to customers.

Now I will provide an update on the performance of our company.

Littelfuse navigated a challenging macro environment in 2019, while our global teams remain focused on driving long-term growth, profitability and cash generation.

We actively manage cost to align to business conditions while advancing several strategic initiatives across transportation, industrial and electronics end markets we serve, demonstrating our ability to balance short-term cost containment with long-term strategic investments.

Our fourth quarter performance was consistent with our expectations.

We recorded fourth quarter sales of $339 million, and we delivered adjusted EPS of $1.17 at the high end of our guidance.

For the full year, we recorded sales of $1.5 billion and achieved an adjusted EBITDA margin of 20%.

Our disciplined cost management actions helped mitigate the impact of the soft demand and channel inventory corrections to deliver adjusted EPS of $6.82.

We generated $183 million of free cash flow, representing a 132% conversion from net income, exceeding our 100% target.

We returned $140 million of our free cash to shareholders through dividends and share repurchases.

This deployment of capital during a period of soft demand reinforces the strength of our balance sheet, confirms our commitment to deliver ongoing value to our stakeholders.

Since late in 2018, we have seen a volatile global economic environment impacting the end markets that we serve.

In response to uncertain demand, electronics channel partners and end customers have been rebalancing inventory and automotive manufacturers have lowered production.

These conditions impacted volumes within our electronics and automotive segments during 2019.

Across our electronics product segment, our fourth quarter sales were generally in line with our expectations.

During the quarter, we continue to see inventory destocking with distribution, EMS and OEM partners as end market demand appeared to bottom.

As a result, inventory levels in the electronics channel dropped meaningfully and are now approaching the midpoint of the normal range, and our electronics book-to-bill exiting the fourth quarter was above 1.0.

These improvements suggest that sell-in to distribution should begin to align with sell-through by the end of the first quarter, and we expect modest sequential recovery through 2020.

Our deep strategic relationships with our channel partners remain a significant factor in our long-term best across our electronics product segment.

And we view our distribution partners as an extension of our global sales teams.

While this exposes us to greater sales volatility given more than 75% of sales in this segment are fulfilled through distribution, these valuable relationships jointly drive demand, end customer partnerships and profitable growth as we execute our strategy and serve more than 100,000 end customers every quarter.

Fourth quarter sales from our Automotive Products segment were also generally in line with our expectations.

Sales levels continue to reflect an ongoing global car build decline, which was down mid-single digits compared to last year.

Our passenger car fuse business, which was impacted by the GM strike, outperformed global car build due to increasing content related to the electrification of vehicles.

This growth was offset by customer program delays in our sensor business and softness in our commercial vehicle business.

As we work through this period of soft end market demand, we continue to focus on profitability improvement for the Automotive Products segment.

We made significant progress this year and achieved double-digit operating margins during the quarter and for the full year.

Later, Meenal will provide an update on our momentum.

We expect fourth -- first quarter global car production to be down low single digits and for the full year 2020, we expect global car production to be modestly down.

Our Industrial Products segment continues to deliver strong performance.

In the fourth quarter, we exceeded end market growth and achieved organic growth of 7%.

We also achieved an operating margin of 22%, above recent performance.

These results were driven by our continued operational execution and strength across a broad range of industrial applications, including renewable energy and power conversion.

We are confident this business will continue to drive long-term profitable growth.

During 2019, we executed several strategic initiatives.

We secured key design wins in electric vehicles, solar, energy storage, motor drives, telecom and data centers across our target end markets.

We continued integration activities across our semiconductor business and broke ground on a new facility that will expand our capabilities.

As a testament to our global execution-oriented culture, we earned the Association for Manufacturing Excellence Award for the fourth consecutive year.

Operational excellence remains the foundation of our strong business fundamentals.

When developing our 5-year growth strategy, we contemplated and expected a period of soft demand and experienced this in 2019.

We are confident that the secular themes of safety, resource efficiency and the ever-increasing connected world remain key long-term drivers of our above-market growth targets.

Strategic M&A remains a key enabler of our growth strategy.

We remain disciplined, closely examining fit to ensure opportunities align with our M&A criteria of core consolidation, technology or platform building, geographic expansion and in-market access.

During this past year, we undertook several actions to optimize our cost structure and made investments to expand our worldwide capabilities and embark -- and are embarking on others during 2020.

These actions will position our company for profitable growth through the course of 2020 and thereafter.

Our leading technologies, global footprint, close customer relationships and talented associates against the backdrop of strong secular trends will help drive the long-term growth of our business.

With that introduction, I will turn the call over to Meenal to provide additional color on the financial results.

Thanks, Dave.

Now some highlights from our fourth quarter of 2019.

We finished the year with fourth quarter sales of $339 million, down 16% on a reported basis over last year and down 14% organically.

Sales were in line with our guidance, reflecting ongoing end market challenges.

Across our electronics product segment, our sales decline continued to reflect ongoing channel and end customer inventory reductions.

As expected, automotive product sales were impacted by continued global auto production declines, delay in auto sensor programs and softness in commercial vehicle end markets.

Our Industrial Products segment grew 7%, continuing its above-market growth trajectory.

Foreign exchange also reduced our sales growth of 1% over last year due to the weaker euro.

Fourth quarter GAAP diluted EPS was $0.92.

Adjusted diluted EPS of $1.17 for the quarter was at the high end of our guidance range.

Benefits from a lower-than-expected tax rate contributed $0.11 of EPS, partially offset by $0.06 of unfavorability from foreign exchange.

Outside of these, we essentially finished at the midpoint of our guidance range.

GAAP operating margins were 9.5%, with adjusted operating margins of 10.7%.

Adjusted margins finished slightly below our expectations as foreign exchange was a 50 basis point headwind versus our guidance.

Lower volumes and associated leverage across the electronics product segment had the biggest impact to margins, both year-over-year and sequentially as sales in the quarter were the lowest we've seen in 2 years.

For the full year 2019, sales finished at $1.5 billion, declining 13% overall and down 11% organically.

This was our first sales decline in 10 years, led by numerous macro factors impacting end market demand, coupled with inventory destocking across our channels and end customers.

GAAP diluted EPS finished at $5.60, and adjusted diluted EPS was $6.82 for the year.

GAAP operating margins were 12.8% and adjusted operating margins finished at 14.3%.

We mitigated our margin decline versus 2018 with $50 million in cost reductions during the year, split between reductions in variable and ongoing operating expenses.

For the year, our GAAP effective tax rate was 16.2%, and our adjusted rate was 16.7%.

Our tax rate favorability versus our forecast was largely due to certain discrete items and adjustments related to additional regulatory updates in the U.S. Tax Act.

Now let me provide some additional highlights by segment for the fourth quarter and full year.

Electronics Products segment operating margins for the quarter were 8.8% and 15.1% for the year.

As we've discussed through the year, the sales decline, coupled with associated volume leverage was the main driver of margin reduction versus last year.

We moderated the impact of top line decline with both cost restructuring and synergies from our IXYS acquisition across both gross margin and operating expenses.

As we start to see a return in sales growth, we expect to see a commensurate improvement in our segment operating margin.

Automotive product segment operating margins finished at 11.5% and 10.9% for the quarter and the year, respectively.

We are seeing the benefits of the cost reduction activities we undertook in the past several quarters as margins continue to improve through the year.

This improvement more than offset foreign exchange headwinds, which reduced 2019 operating margins by 200 basis points versus last year.

We've initiated additional activities that will drive further cost reductions with savings starting in the back half of this year.

This will continue our path back to target operating margins in the mid-teens for the segment.

Our Industrial Products segment achieved a 22.4% and 19.6% operating margin for the quarter and full year, respectively.

Above-market organic growth coupled with cost reduction activities we've undertaken over the past few years have led to best-in-class margins for the segment.

Moving on to cash flow.

We generated $61 million during the quarter and $183 million in free cash flow for the year, resulting in a free cash conversion of 132%.

Our strong finish was a combination of our ongoing focus on working capital optimization and deferral of certain capital earmarked for capacity expansion in light of the 2019 demand environment.

We maintain the strength of our capital structure and remain well positioned to achieve our dual strategy of accelerated organic growth, coupled with strategic acquisitions.

During the year, we repatriated over $200 million in cash back to the U.S. We finished the year with $531 million of cash on hand, with net debt leverage well under 1.0x.

We took advantage of the market volatility, buying back $95 million in shares this year at an average price of $164 per share.

For the year, we returned $140 million to our shareholders via share repurchases and dividends.

And with that, I'll turn it back to Dave for more color on business performance and end market trends.

Thanks, Meenal.

Now I will provide commentary on the key end markets we serve, beginning with transportation.

Development of Advanced Driver Assistance Systems or ADAS continues to outpace expectations.

Enhancements beyond Level 2 are on the near-term horizon, bring significant upside for content opportunities.

Increasing global safety, efficiency and connectivity requirements are propelling an electrical architecture, revolution and cockpit transformation, key factors for growth in automotive electronics and electrical systems.

In the fourth quarter, we had strategic design wins across a wide range of applications in all regions.

In the electric vehicle space, we won new business to protect battery systems and on vehicle chargers for manufacturers in Europe and Japan.

The planned launch of nearly 30 new electric vehicle models in 2020, with a broad range of automotive manufacturers where we are designed in, remains a positive for our content opportunities.

Our product quality and strong customer relationships helped secure new circuit protection wins in Japan and Korea, including design wins to protect window lift motors and power seat motors.

We won new power semiconductor business in India for ignition systems for 2 and 3 wheeled vehicles.

With our excellent engineering support, customer responsiveness and reputation for quality and reliability, we had several key wins in China and Europe across our automotive sensor portfolio from solar, speed and position sensors to fluid level sensors.

Turning to commercial vehicles.

During the fourth quarter, we continued to see soft demand across most of our end markets and geographies versus last year.

We expect these conditions to persist through the majority of 2020 as the North America heavy-duty truck market continues to come off of peak revenue and build rates slow in agriculture and construction.

Our commercial vehicle business continues its push to expand beyond North America, with key design wins in all 3 regions and across diverse end markets.

Our product performance and durability helped win business with a European truck maker; in China, strong customer relationship helped us secure new volume with a manufacturer of buses; and in North America, we continued our recent success with vehicle upfitters.

This time providing our configurable off-the-shelf solution.

We're a manufacturer of walk-in vans and truck bodies used in packaged delivery operations.

With our ongoing strategic execution and strong funnel of global opportunities, we are well positioned for long-term content growth across transportation end markets.

Across the majority of our industrial end markets, we are seeing an increased demand for industrial protection and safety, an evolution that requires higher power electrical protection and power conversion.

This transformation affords us the opportunity to deliver differentiated value by positioning our application engineers in front of customers, leveraging our technical expertise to meet the evolving specifications of these applications.

During the quarter, we continued to see good design win activity for solar projects with wins in North America and Europe.

Energy storage continues to deliver growth as we secured new design wins in Korea.

We secured wins in North America for temperature sensor assemblies for use in a factory automation application as well as automated industrial HVAC systems.

In addition, we captured new business in North America and Asia with a manufacturer of commercial test and measurement equipment.

We won new power semiconductor business with a key European manufacturer of industrial motor drives for pumps and compressors, conveyors and manufacturing tool positioning systems.

We also increased our power semiconductor footprint and other industrial motor drive applications by winning additional business on a number of platforms with existing leading industrial manufacturers.

Looking ahead, this year, we expect U.S. nonresidential construction to be flat; oil and gas, precious metal mining, motor drive and power conversion markets to grow low single digits; and renewable energy markets to grow double digits.

As a trusted partner to our customers, we see the expanded need for a full range of product technologies increasing across the industrial end markets.

As a result, the business opportunity funnel is robust, and we continue to invest to expand our addressable market to gain share with new and existing customers.

Lastly, across electronics end markets, we continue to see good design win activity for a range of applications.

Our circuit protection, power control and sensing products are found in many electronics end markets.

Applications are becoming increasingly connected and generate more and more data that require faster speeds and greater data storage, providing great opportunities in telecom and cloud infrastructure ecosystems.

During the fourth quarter, we saw strong wins for our circuit protection offerings as well as our power semiconductor products across data center applications as well as 4G and 5G base stations.

We won battery protection business for consumer electronics in Korea, and we secured new design wins in building and home automation, driven by our close customer relationships and the responsiveness of our field engineering teams.

We also delivered sensor solutions for use in smart connected home security systems in North America as well as a smart meter application in China.

The continued secular themes of smarter and more connected devices are driving demand for our products.

Design activity is robust with programs launching on time.

We introduced a number of new products during 2018 and 2019, which were designed into new programs with our customers.

With stabilizing end market demand, we are seeing a pickup of these programs in 2020, which we expect to bring additional growth.

Our electronics business fundamentals are solid, we look forward to capitalizing on improving demand by leveraging our broad product offerings and our strategic distributor relationships with far-reaching access into diverse end markets.

With that, I'll turn the call over to Meenal to talk about guidance.

Thanks, Dave.

Now let me start with impacts that we are currently seeing from the coronavirus outbreak.

We are closely monitoring updates from local authorities as the potential business interruption impacts are still evolving.

Local China authorities have extended the New Year holidays 1 week at our production site.

Additional impacts could include extended production stoppages, staffing shortages as well as supplier and customer implications.

We have incorporated the cost impact of the longer New Year holiday within our guidance.

Outside of this, both our first quarter and our full year forecast assume business as usual.

As this is a fluid situation, we are not able to quantify further potential impacts to our forecast at this time.

Now moving on to the first quarter of 2020, we expect sales of $352 million to $364 million.

Versus last year, the midpoint reflects a 12% decline in total sales and an 11% organic sales decline.

We estimate foreign exchange to be about a 1% headwind versus last year.

First quarter adjusted diluted EPS is expected to be in the range of $1.21 to $1.35.

This assumes an adjusted effective tax rate in the range of 18.5% to 19.5% for the quarter.

Notably, our guidance midpoint reflects sequential improvement with 6% sales growth, 9% EPS growth and adjusted operating margin expansion.

Our growth has dampened by an EPS headwind of about $0.15, stemming from both foreign exchange and a higher tax rate.

Excluding these items, sequential EPS growth would be 23%.

For the quarter, we are estimating global car builds to be down in the low single digits.

Across our Electronics Products segment, our book-to-bill is running above 1.0.

We believe the majority of excess channel and OEM inventory has been depleted and expect the remaining to burn through over the next few months.

Now let me provide some additional guidance for the full year.

Based on the current macroeconomic conditions, we are forecasting to grow 2020 sales in the low single digits over last year.

Our phasing assumes a sales decline in the first half of 2020, with growth returning in the back half of 2020.

I'll add some color on our end market assumptions.

We expect channel and OEM inventories will align to normalized levels over the next quarter.

We anticipate global car builds to be down low single digits for the year and commercial vehicle end markets to be soft for most of this year.

However, we do expect content growth to enable us to outperform the weaker transportation end markets.

We expect to see year-over-year operating margin expansion and leveraged EPS growth that dampened versus our typical levels due to a few items.

We have additional manufacturing and supply chain footprint actions slated for 2020, and we will communicate these new programs during the year.

Overall, we expect transition costs to reduce our EPS by $0.30 to $0.35 this year, with savings from these projects as well as the prior IXYS footprint and synergy projects we discussed to begin in 2021.

The combination of a higher tax rate and stronger currencies versus the U.S. dollar generate a year-over-year EPS headwind of approximately $0.20.

We are projecting a 2020 tax rate range of 17% to 19%.

We are estimating $22 million in interest expense and amortization expense of $40 million for the year, and we've assumed $24.7 million for our full year share count.

We expect to spend $80 million to $85 million in capital expenditures for the year.

This elevated level of investment incorporates the footprint programs I mentioned and a resurrection of some of the capacity expansion programs we deferred last year.

Looking ahead, we continue to closely monitor our cost structure and spending levels, proactively adjusting our activities to align with market dynamics.

Amidst an evolving macro environment, we remain focused on executing our long-term growth strategy, delivering additional value for all stakeholders.

And with that, I'll turn it over to Dave for some final comments.

Thanks, Meenal.

In summary, during 2019, we made significant progress across our business segments as we continued to execute our growth strategy in a challenging market.

Looking ahead, we are confident that our strong business fundamentals and operational excellence position our company for profitable growth through the course of 2020.

The evolution of our company continues to highlight the importance and value of our Board of Directors.

And consistent with this, I'm pleased that Maria Green, retired Senior Vice President and General Counsel of Ingersoll Rand, will join our board effective February 1. Maria brings a wealth of global public company leadership experience and will be a great addition to the Littelfuse board.

On that note, I want to thank our Littelfuse associates around the globe.

For the commitment in 2019, and I look forward to their contributions in 2020 and beyond as we create additional value for all Littelfuse stakeholders.

With that, we'll open the call for questions.

(Operator Instructions) Our first question comes from Shawn Harrison from Longbow Research.

I wanted to delve in more to the operating profit margin in the electronics business.

I have to go back to 2011 to find something this low.

And I understand volume and the incremental margins associated with that are high, but it was surprisingly low and it seems like at least the lift implied in the March quarter guidance is going to be a little bit less than typical.

So if you could kind of walk me through the drags there and kind of how we should expect that margin to rebound as you progress through 2020 as distribution demand normalizes?

Sure, Shawn.

So just stepping back, the level of decline that we've seen in our sales across electronics, right?

We haven't seen this type of decline in 10 years.

So the combination of the macro factors that we've seen plus the inventory destocking, not just channel, but also with end customers, like EMSs and OEMs, that's had a significant impact from an absorption perspective.

And just the variable margin that we see across electronics is fairly strong.

The other thing I would point out is that our margins have been running a little bit lower already with IXYS coming into the fold, and there's -- while we've recognized a fair amount of the synergies that we've committed to, there's still that last batch that we said that we've got to work on, that's really primarily going to impact gross margin.

So we also expect to see a gross margin uplift over the next 12 to 24 months as those programs get into place, and we start to see those efficiencies as well.

I guess as you ramp here into the first half of the year, it feels as if the leverage off the bottom is less than we would anticipate.

Is there something incrementally from a cost perspective that's pushing down profitability, be it some of the cost take out actions or something else that's limiting leverage off the bottom?

Right.

I would say, I mean, if I just look at the overall company, the other piece I would also talk about is foreign exchange.

That's also been a drag where if I go back to 2018 and '17 where foreign exchange, we've talked about it, had been a nice tailwind for us.

We saw some better pricing when there were shortages in the market, but now we've got foreign exchange that's now a headwind for us, a big headwind in '19, but even in '20, going into the year.

And we've seen pricing come back to more normalized levels across electronics.

Okay.

And then, I guess, just a quick follow-up.

Dave, in kind of the full year view, would you expect either your distributors or OEM or EMS customers to begin destocking?

It's really the baseline view for the year that the destocking headwind you've seen stops and you just get back to consumption, sell-in versus sell-through kind of being normal versus anything else?

Yes.

As we talked a little bit in the prepared remarks, certainly, fourth quarter was pretty challenging.

We took a significant amount of inventory out of the channels, which needs to happen, of course, to kind of reach that equilibrium point.

There's still a bit more to go during the first quarter, but we're reasonably confident that when we get through the first quarter, we're kind of done with destocking sorts of work.

And just a matter of fact, that as you get past first quarter, so you can't look at fourth quarter, first quarter is kind of the bottom of that momentum on inventory correction.

You get an uplift just out of the matching of sell-in and sell-through, but we also believe that we'll begin to see, in the back half of the year, some end market improvement as well, with some penetration into some higher growth end markets.

So first half of the year is still going to be quite kind of challenging, if you will, but begin to show that improvement as we kind of move out of the first quarter and into the back half of the year, we'll see stronger growth.

Our next question comes from Christopher Glynn from Oppenheimer.

Meenal, Dave, and -- so nice operating margin at automotive, good momentum there in the back half last year.

And that's still with organic headwinds fairly pronounced.

This suggests you get back to the mid-teens margin pretty quickly if you get top line and potentially even approach that in the back half of this year?

What we're expecting for 2020, we're expecting to see continued margin expansion in automotive.

I'd say a couple of things.

I mentioned part of the way through my full year commentary that we're working on some footprint programs, some of which we've talked about as they relate to semiconductor and our IXYS acquisition, but some of which are also as part of our automotive business as well.

So that's going to take us a little time as most programs do.

I'd say the second piece is, with foreign exchange, we tend to see the biggest impact, the outsized impact coming through automotive and so some of that is also going to depend on what happens with foreign exchange in a whole host of different countries from a year-over-year basis.

So we absolutely expect to make progress this year.

And I would say it's probably going to be more like 2021 before we see that mid-teens improvement.

Okay.

And then just on the M&A pipeline.

Curious if you could comment on, first, the breadth of properties, sizes, sectors, actionability, those dynamics as well as your operational capacity to be active there because you have a lot going on with the footprint and all.

Sure.

Sure.

And yes, of course, M&A, we've talked about for the last several years being critical for our strategy to drive fundamentally organic growth improvements, that has not changed.

And from an ability to take on acquisitions, we think we're in a position to be able to do that.

And if you look back in the last year, in 2019, where we didn't complete an acquisition, what you have visibility to, of course, are the things that -- the fact that we didn't close any, but you don't have visibility is to the work that's going on and potentially areas where we stepped away kind of final stages.

So we were quite active during 2019, but also created a discipline to make sure we stepped away when things weren't quite where we wanted them to be.

So we certainly expect to continue to be active.

I still think prototypical types of deals for us are in that $40 million to $100 million sort of range is kind of the prototypical sweet spot for us.

We obviously will stretch larger if the right opportunity comes along.

And if it's highly strategic, we'll also do smaller deals that might bring in the technology or market access.

The good news is we have good optionality because there are many of the end markets that we see opportunities for.

So continue to be quite active, certainly expect to continue to use that as a growth driver as we move forward.

Next question comes from Karl Ackerman from Cowen.

Dave and Meenal, I appreciate -- hey, I appreciate the color for the full year.

I did want to go back to gross margins for a minute.

Clearly, the inventory overhang at distributor partners has caused elevated inventory across the channel.

Meenal, but I think several of your peers have reported stability in order bookings.

And you actually made some comments in your prepared remarks on that in electronics.

So first, are you seeing stability in industrial and auto markets yet, like what seems to be happening in electronics?

Second, of the weakness in electronics, may you juxtapose demand dynamics between passives and power semis?

And third, when should we expect inventory headwinds across all product lines to abate that I think would certainly enable you to improve factory loadings and margins from here?

And believe it or not, I have a follow-up.

Let me start a little bit to kind of talk about the market conditions and things like that.

Meenal can speak to how that translates to gross margins.

Our industrial business, we've been growing well above market.

We don't see that changing.

We continue to have good momentum in the industrial segments.

So we don't have an inventory overhang there.

That's really not been an issue for us in 2019.

We don't see that in 2020.

We continue to see that reasonably stable.

So although industrial markets are not robust globally right now, we've been able to grow nicely with our efforts to design and win beyond North America and in specific growth areas.

So you can see that certainly continue in 2020.

On the automotive side, and candidly, all these comments are really -- I put an astros as to we just don't understand the potential impact of the coronavirus, both in China and globally.

So I'll make these comments kind of based upon what we know today in regards to that.

Automotive, we certainly do not see car build growth in 2020.

However, we see a little more stability.

So the level of drop is reducing and slowing.

The good news is we had some challenges and made some decisions to step away from some pieces of business in the sensor side of the business in 2019 and specific applications.

We're through a big part of that, have a little bit more to go.

But we remain highly confident in the passenger car side, that we are seeing content growth beyond car build.

So we do expect growth out of automotive in 2020.

Commercial vehicle, which falls in that segment is a bit more challenging.

And although we'll have good growth with design wins and some share gains in 2020, clearly, the end markets are not moving in our direction, so that will kind of weigh down a little bit on the automotive segment.

Electronics, talked about it in the previous comment.

We think we're through the course of the first quarter through the inventory corrections largely.

And we really begin to reach that stability level, and we're really looking for improvements that come from just matching sell-in and sell-through, but also would look to see end market improvements kind of in the back half of the year.

So that's kind of our view on where inventories are and how we kind of see the demand patterns looking.

Meenal, maybe you can talk a little bit about how we see that translating into gross margins.

Sure.

The -- another point I wanted to add to Dave's comments on electronics.

So versus our peers, that we've mentioned in the past, about 75% of the sales in our electronics segment go through distribution and through our channel partners.

And that's larger than most of the peer companies that I expect you're looking at and then we look at as well.

So we tend to have some higher peaks and lower valleys compared to our peers, and that's why the monitoring of the inventory and inventory correction and even just some of the stabilization in the channel becomes more critical for us versus some of our peers.

So having said all that, what we've talked about is we have strong variable margins, definitely across electronics, across industrial, and you can see that come through when we have growth.

You typically will see the gross margins improve fairly rapidly and that drops down very well, leveraging operating margin.

So that's what we expect to see a little of that in the first quarter.

But as Dave mentioned earlier as we start to see some of the growth come back in the second half, we'll definitely see some stronger improvements in gross margins commensurate with that.

Very helpful.

If I may squeeze in one more.

Your industrial business was a bright spot in the quarter.

I know in the past, you have mentioned that IXYS has acted as a beachhead for your industrial business opportunity.

And the sales teams, that being IXYS or your industrial sales teams, are -- I think, are tightly integrated.

With IXYS less than halfway integrated, like, why wouldn't we see these growth rates in industrial sustaining for the next several quarters, given these synergies across your product lines?

Yes.

Well, first of all, I think we're well beyond halfway integrated of IXYS.

We're kind of nearing the final stages of that -- of the integration activities.

The footprint work we have to do is certainly getting approvals from customers and things like that take longer in the footprint work on IXYS, but sales integration, systems integration, those things were kind of in the back end of those activities.

We have seen improvements in our core industrial segment, so our traditional products, that have been helped by access to industrial customers from IXYS.

So we have seen some of that synergy, if you will, from a sales perspective in those areas.

That's part of the help for us to grow beyond what the markets are doing in industrial.

And just one other thing, Karl, I might add is, I just wanted to make sure I clarify, our IXYS products and semiconductor products are in our electronics segment.

So as Dave was talking about the Industrial Products segment, IXYS is in the electronics segment.

And so some of the channel issues that we just talked about, we experienced with IXYS, less so than maybe some of our legacy business because we've got more direct sales there, but we've also seen inventory destocking with end customers like OEMs, so that's also affected our IXYS business as well within the electronics segment.

Our next question comes from Steven Fox from Cross Research.

It's tough to follow on that one, but I'll try.

So in terms of pricing, I guess pricing has been returning to normal for your fuses and power semis over the last couple of quarters.

Like, where are we versus a year ago comps?

Are we -- when does sort of pricing equalize on a year-over-year basis?

And I guess, that would be a decent margin help as you think about the year.

Yes.

So I think when we've talked about pricing conditions, 2018 was the anomaly, not 2019, right?

So we probably had pricing conditions in 2018 that were maybe half of what we normally would see.

So through the course of 2019, we certainly saw a return to more normalized electronics pricing pressures, which can be in that 4%, 5%, 6% range, and that's what we're seeing today in the electronics side of our business.

That's consistent with what we've seen in history.

And certainly, our teams work hard to make sure all of our cost improvements and volume increases helped to offset those challenges.

So really, it's been a return to normal there.

And that -- we saw that happening kind of in the early stages of 2019.

So we expect that to continue in kind of its normal pattern.

Got it.

That's helpful.

And then secondly, Dave, you guys were early and accurate in sort of calling the inventory in the channel.

You're now going forward to sort of normalized by the end of this quarter, which is consistent with what you guys were saying.

But the recovery that you mentioned sounded sort of a slow, steady type recovery, not any kind -- anything dramatic, which, depending on who you talk to is a little more conservative than other guys.

Is there anything you're contemplating in that comment relative to industry-specific fuses and power semis or anything else in terms of puts and takes with content?

Or do you think it's just a general market outlook that you're talking about there?

Yes.

No, I don't -- there's nothing specific we're contemplating on that.

I mean we get a bit of a step function improvement when the inventory destocking is done, right?

Because you just -- you're no longer reducing sell-in to take inventories down.

So you get that step function improvement that takes place, which we kind of expect to see that after the first quarter, we'll see that improvement.

Beyond that, we are expecting improvement but the improvements will really be driven out of fundamental end market improvements.

And I think our visibility as of today would say that, yes, it will begin to show that end market improvement in the back half of the year, but our visibility to that is not great.

So we don't want to overcommit in our kind of view on how the end markets are going to behave in the back half of the year.

So some might think we're being conservative, but I think our view would be -- unless we see specific things that are going to drive that in the back half of the year, we're not going to call it out that much.

So we hope there's some upside to that in the back half of the year.

And as visibility improves, we'll certainly talk about that.

Our next question comes from David Leiker from Baird.

This is Erin Welcenbach on for David.

So the -- my first question, just -- I want to dig into your automotive segment organic growth a little bit, given the 8% organic sales decline.

So at least based on my math, it looks like commercial vehicle could be maybe as much as half of the organic sales decline within this segment.

I'm wondering if you can help further contextualize your outgrowth or content growth in passenger car fuse versus commercial vehicle and then the sensor headwinds you had talked about as well.

Yes.

So when we talk about the sensor headwinds, and we've been talking about that for the last couple of quarters, sensor headwinds end up creating a bit of a, let's call it, about a 1% drag on organic growth to the automotive segment.

Certainly, commercial vehicle has an impact on it as well as a drag.

What we're seeing today, as we look forward, we clearly are comfortable in the passenger car segment -- by the way, inclusive of our sensor business at this stage.

Looking forward, we clearly are seeing content growth that's in that 3% to 4% range beyond car build.

Obviously, car builds in 2020 are -- we're not projecting to show growth.

But the content story continues to hold water as we look forward, that looks still pretty solid for us.

And so we remain pretty confident in that.

Okay.

Great.

And then my second question is just, can you to the extent possible detail the assumptions you have surrounding the coronavirus that's currently embedded in your guidance?

Yes.

What I would say is the impacts we have on that today is we know that in all of our factory locations in China, and in a good part of our customers' locations, not all, of course, there has been a mandatory extension of the Chinese New Year holiday through an extra week.

Our understanding of that, that allows kind of that gestation period of 2 to 14 days to get -- for the Chinese government to get better visibility of what's going to take place there.

So what's embedded right now is the fact that we have embedded the one additional week of shutdown in China.

We haven't embedded in our forecasting changes beyond that at this stage because it's just too fluid.

It's hard to predict exactly what that's going to be.

It certainly has the potential of getting worse.

But right now, we don't have that visibility.

Our next question comes from Matt Sheerin from Stifel.

Yes.

I just wanted to get back to your revenue guidance for the year for up modestly, which shows a stronger back half.

In terms of -- by segment, are you expecting each of the segments to be up as well?

Or would it be more slanted towards the auto and industrial, given that the correction is still playing out in electronics?

And then also relative to margin -- where margins shake out this year, are you expecting to grow operating margin and operating profits this year despite the fact that you're still looking at some headwinds in terms of costs and transition costs and other things like that?

Yes, Matt, let me talk a little bit about the revenue growth and Meenal can talk about kind of the bottom line growth associated with that.

Our current view today is that we expect growth in all 3 of the segments in 2020, now to varying degrees.

We're not giving guidance on each one of those segments, but we are expecting growth in all 3 of those areas.

Certainly, we know with the dynamics I talked about earlier in electronics and the comps, so if you look at electronics, it was falling steeply through the first half of 2018.

So from a comp perspective, yes, we're not going to have growth in electronics in the first half, but we certainly expect to kind of return to growth in the back half.

And for that to outpace the level of decline in the first half, so that showing growth in electronics.

And we expect with the content growth story in automotive, even with kind of an end market challenge of car build, we'll have growth there.

In industrial, we continue to see good success we've had in the last year.

From an operating margin perspective, Meenal, why don't you talk to that?

Sure.

So Matt, as part of my prepared remarks, what I mentioned is with the low-single-digit sales growth that we guided for, for the full year, we said that we would have year-over-year operating margin expansion and that we would see leverage in our EPS growth but it would be lower than typical levels or lower than normal.

So as an example, low-single-digits growth, we might -- in a typical year, we might see mid-single-digit EPS growth.

It'd be on the -- a little bit on the lighter end of that because of the couple of things I mentioned.

One being the footprint, the footprint activities that we're undertaking, but also really, I'll call them, general market dynamics around foreign exchange remains a headwind for us for 2020 today.

And then we have -- with our lower tax rate in '19, we have a little bit of a tax rate headwind as well.

So that's why it's more of a diminished leverage, but we absolutely expect to grow EPS and operating margin expansion.

Sure.

So we certainly expect to get bottom line leverage.

Just maybe dampened a little bit more than what we would like to see because of strategic investments we're making to set up for the long term.

Okay.

And then, Meenal, you did talk about transition costs relative to some further integration of IXYS and other things.

Is there anything incremental there, that impacts the margins this year and that looking next year, you'll have even more favorable comps?

Yes.

So as part of those remarks, what I mentioned is we've got footprint actions slated.

So some of these are these IXYS footprint activities that we've been talking about the past few quarters.

Others are ones that we are going to embark on, but we've not shared yet, and we will in future quarters.

The combination of all those projects, we expect to have transition costs of about $0.30 to $0.35 related to EPS this year.

And just the question is, "Well, hey, can you help me a little bit on the segments?" By far, the bulk of that is going to be impacting the electronics segment from a year-over-year perspective because a lot of that is related to the IXYS work.

And when I talk about transition costs, it means we have to do some pre-hiring in new locations, and we've got product qualification costs and some transfer costs.

That's all part of our adjusted operating margin and adjusted EPS.

So you're going to run that through the P&L then?

Yes.

These are costs that we run through.

Again, it ends up being duplicate staff, for example, maybe in locations, things like that.

Our last question comes from David Kelley from Jefferies.

Maybe starting with an auto's pricing question from me.

I think you referenced an uptick last quarter.

Just curious if that's persistent or maybe even subsided now that the market seems a bit more stable?

Or is pricing at this point more a function of the competitive landscape you're seeing at the moment?

Yes, I would say, pricing in the automotive segment for us, we had talked about it being a little more challenging than we've seen in the past.

I would say today, our view would be pricing year-to-year kind of has this range.

Maybe we're on the higher end of the range.

We're certainly not out of kind of a normal range in the automotive segment.

So we're not seeing kind of outsized pressures there at the current state.

Okay.

Got it.

And then maybe if you could provide a bit more color on the sensor program delays you referenced and also, is that light vehicle or commercial vehicle customer specific?

Yes.

Most of the delays in the programs we're talking about are in the passenger car light vehicle world.

And the issues, these are customer delays, not Littelfuse delays.

And they vary -- there's a handful of them, and they vary everything from -- there's one big program where actually they're delayed because another supplier can't supply components they need for their system.

So it's pushed out the introduction of the new system.

And in other cases, OEMs have delayed the launch of changes to some of their systems.

So there's a variety of reasons there.

They're not long term.

They're not issues that are going to extend materially, but they are delays that certainly impacted our fourth quarter a bit.

Okay.

Great.

Last one for me and maybe ending on kind of a high-level question.

You referenced the ADAS opportunity kind of outpacing expectations.

I guess how do you think about or how should we think about your addressable market in advanced data?

So like the Level 2, what's called Level 2+ content.

And maybe if you could just kind of high-level discuss some of your content opportunities you see as the adoption of the more advanced ADAS content grows?

Yes.

The first thing I would remind you and others is that those revenues show up actually in our electronics segments because they are our electronic technologies that are being designed into those automotive applications.

So it's not in the electrical infrastructure of the vehicle, if you will.

So it shows up in the electronics segment of our business.

And what I would say is these are traditional circuit protection types of products, whether they're over voltage protection, over current protection, over temperature protection, those sorts of things, where we are designing in our electronic products with kind of automotive qualifications.

And there are slightly different designs and manufacturing processes that we use to support automotive requirements.

What I would say is the content growth in the electronic systems continues to grow in the vehicle.

Our share in that space still allows for us to go after further share potential as well.

So it's really kind of -- they aren't particularly unique technologies for our portfolio, they're kind of our core technologies focused in the automotive areas.

So we just see that lift in content and the opportunity for us continuing to drive growth in the electronics part of our business.

And thanks for joining us on today's call and your interest in Littelfuse.

We look forward to talking with you again soon.

Have a great day.

Ladies and gentlemen, this concludes today's conference call.

Thank you for participating.

You may now disconnect.