泰科電子 (TEL) 2018 Q1 法說會逐字稿

Ladies and gentlemen, thank you for standing by. Welcome to the TE Connectivity First Quarter 2018 Earnings Conference Call. (Operator Instructions) As a reminder, this conference is being recorded. I'd now like to turn the conference over to Vice President, Investor Relations, Sujal Shah. Please go ahead.

Good morning. And thank you for joining our conference call to discuss TE Connectivity's first quarter 2018 results. With me today are our Chief Executive Officer, Terrence Curtin; Chief Financial Officer, Heath Mitts.

During this call, we will be providing certain forward-looking information. So we ask you to review the forward-looking cautionary statement included in today's press release. In addition, we will use certain non-GAAP measures in our discussion this morning. We ask you to review the sections of our press release and accompanying slide presentation that address the use of these items. Press release and related tables, along with the slide presentation, can be found on the Investor Relations portion of our website at te.com.

(Operator Instructions) Now let me turn the call over to Terrence for opening comments.

Thank you, Sujal, and thank you, everyone, for joining us today. Before I get into our first quarter results and our guidance for the year, I want to spend a little time recapping the key messages from the Investor Day we held last month in New York, and I really want to thank those of you that joined us. As you know, during that Investor Day we laid out the strategic direction of TE as well as our position as an industrial technology leader. And in that sense, the key messages we highlighted during Investor Day, which are shown on Slide 3 of the slide deck we posted this morning, really were around, first, we've built a portfolio with clear competitive advantages, and we are positioned to deliver above-market growth.

Secondly, the markets we serve have attractive secular trends and are benefiting from the content growth across all of our segments.

Thirdly, when we create value, it's through the work we do with our customers through strong differentiation, very much engineering intimacy through where we design with them in their architecture and the scale on our leading global presence.

And lastly, we have a strong business model that has not only the growth leverage about the 3 I just talked about, but also leverage to expand profitability while when we use the cash from our attracted business model and how we maintain an attractive return on capital.

And when we talked about the strong business model, we also laid out targets for you. Targets where we believe the annual organic growth of our business model can be 4% to 6%. We continue to drive annual margin expansion of 30 to 80 basis points per year as well as double-digit EPS growth. We also highlighted for you our M&A strategy, which indicated that we can add over 100 basis points per year, which adds to our organic growth through acquisition because of the breadth of the markets we play in. And as Heath and I are going to highlight over the next 20 minutes or so, what I'm very pleased about, not only with our strong results in the quarter and updated guidance for the fiscal year, I believe the performance you're seeing demonstrates the key messages that we laid out at Investor Day and strong execution by our teams that are consistent with that business model we laid out.

So if you could, let's please turn to Slide 4, and let's get into the results for the quarter. We again delivered performance above guidance, with double-digit growth in revenue and adjusted earnings per share.

Sales during the quarter were $3.5 billion, and this represented 14% reported growth and 8% organic growth year-over-year.

In our Transportation segment, we grew 13% organically, with double-digit growth across all 3 of our businesses.

Industrial Solutions grew 6% organically, driven primarily by continued strength in our industrial equipment, applications and our Communication segment declined 6% organically year-over-year due to a decline in SubCom, but we did see 10% combined organic growth in our Data and Devices and Appliances businesses in the quarter.

When I think about last year, we talked about performance across our portfolio, with operating margin expansion across all 3 segments.

In our first quarter, we delivered record profitability with adjusted operating margins of 17.9%, driven by margin expansion in the Industrial segment, which was one of the key levers we laid out for you at Investor Day. Adjusted earnings per share grew a very strong 22% to $1.40 per share and this is a record on a quarterly basis for our company.

Based upon this very strong start for the full year, we are raising our annual sales and adjusted earnings per share guidance. Our organic growth expectations, we are raising from 4% to 5% for the year, reflecting stronger first half momentum and the second half of our fiscal year that is in line with our prior view.

We are raising our outlook for reported sales from 6% to 8%, reflecting 100 basis points of the organic growth increase and the remaining 100 basis points from the impact of currency exchange rates.

On an adjusted EPS perspective, our expectations, we are raising $0.22 to $5.45 per share, and that represents 13% growth year-over-year, and I'll add more color towards the end of the call around our guidance.

The other thing I want to highlight that we're excited to see is the continued strong momentum in our orders with organic orders were up 22% year-over-year, excluding SubCom, which had a very strong order quarter, orders were up 11% with growth across all regions.

So if you can please turn to Slide 5 and let me get into orders in more detail and the trends that we're seeing across orders.

We continue to see broad-based strength in orders across all 3 of our segments, which reinforces our growth outlook.

Total orders, excluding SubCom, exceeded $3.5 billion, with a book-to-bill of 1.06. Orders were up 17% year-over-year on a reported basis and up 11% organically. We also continue to see broad-based strength globally. And once again, excluding SubCom, our orders organically grew 16% in Europe, 15% in the Americas and 3% in Asia.

Turning to segment. Orders by segment and Transportation orders increased 13% organically, with growth in all regions and strength especially in Europe where we saw order growth of 17%. We also saw a year-over-year order growth in each of our 3 businesses in Transportation.

Industrial orders grew 8% organically year-over-year, with growth across all regions and continued strength in our industrial equipment business.

In Communications, and excluding SubCom, we saw year-over-year organic growth of 7% in orders with growth across all regions.

And then for SubCom, which we parked out up till now, we have a very strong booking quarter. Year-to-date, we booked project orders of $400 million and this has raised our total backlog above $1 billion in SubCom and reinforces the health of the current SubCom market cycle.

So if you could, let me turn from orders and start getting into our segment results. And as always, we'll start with Transportation.

Transportation sales grew 13% organically year-over-year. Segment revenue exceeded expectations due to strong auto sales across regions, growth across all submarkets and Commercial Transportation and 11% organic growth in sensors. Operating margins were 21%, and this was above our expectations, and up 330 basis points sequentially and back to our normalized margin levels of 20% plus or minus a point. And although specifically our sales were up 10% organically, significantly above auto production trends that are in the low single digits.

We are not only benefiting from content growth but are also benefiting from our leading global position.

We had growth in the teens in Europe as well as in the Americas and mid-single growth in Asia. We also continue to benefit from new program ramps, which contribute to our outperformance versus vehicle production levels. And also, as we highlighted during Investor Day, while the hybrid, electric and EV market is still a small percentage of overall vehicle production, we continue to be extremely well positioned with leading-edge solution and wins across all major global OEMs across that technology.

Turning to our Commercial Transportation business. We continue to outperform the market with organic revenue growth of 34% year-over-year, with balance growth across all regions and growth within each submarket. While last year we got the benefit of the trend we saw in heavy trucks, this year we're seeing continued momentum in heavy truck as well as we're experiencing growth in agriculture, mining and construction markets globally.

In our Sensors business, we grew 11% organically year-on-year with growth across all markets, including Auto, Commercial Transportation and industrial end markets. As we highlighted for you on Investor Day, we continue to see strong design win momentum, particularly in auto application where we've generated $1.2 billion of new design wins over the past 2 years across many different sensor applications as well as technologies.

So now let me turn to the Industrial segment. And if you can please to the Slide 7, we'll get into it by business.

On an overall segment basis, sales grew 11% on a reported basis and 6% organically. Operating margins were 14% and expanded 270 basis points year-over-year, driven by strong operating leverage on higher volumes.

By business in this segment, in industrial equipment, organic order growth was 17% with growth across all regions and strength in factory automation and medical applications. As we mentioned last month, we are focused on high-growth applications, such as robotics and interventional medicine. Our strong position in high-growth markets, coupled with the acquisitions in these areas, are driving strong growth ahead of market. In our Aerospace, Defense and Marine business, we saw a slight organic decline of 2%, which was driven by commercial Aerospace. While sales have been impacted by us, by project timing over the past couple of quarters, we do expect this business to grow this year with the strong content wins that we highlighted to you during Investor Day.

And in our Energy business, it declined 6% organically, and this is really driven by the weakness in the overall European power market.

So if you could please turn to Slide 8, and let me cover Communications Solutions. The segment declined 6% organically due to the ramp-up delays in the new SubCom program that I mentioned. This impact more than offset continued growth momentum in our Data and Devices and Appliance businesses, which had a 10% combined organic growth in the quarter.

In Data and Devices, we grew 2% organically, driven by strength in Asia and continued growth in high-speed connectivity in data center applications. As we highlighted to you during Investor Day, we've shifted our portfolio to growing high-speed applications that have complex and technological challenges to meet the high-speed requirements. We continue also to benefit from our position with our hyperscale customers, and we continue to drive margin growth through optimized operations in this business.

In our Appliance business, we had another strong quarter with 22% organic growth and double-digit growth in all regions as we continue to benefit from the trends in this area including safety, efficiency and miniaturization. Over the past several quarters, our performance in Appliances was driven by share gains and product cycles in China. What was really nice about the first quarter and our guidance for the year is it's really being driven by our leading global position and we're seeing higher demands in the Americas and Europe contributing to the growth for our solutions. So the growth is becoming much more balanced in Appliances for this year.

And then lastly, in SubCom, revenue margins were impacted by the ramp-up delay in the new program, which we have resolved. We do expect a couple of quarters of margin impact due to the project accounting nature of this business, but the SubCom market cycle remains very healthy. And these programs we just announced are with Google and Facebook and it brought our backlog to over $1 billion, as I previously mentioned.

From a margin perspective, segment adjusted operating margins declined to 11.8% in the quarter, reflecting the SubCom ramp-up delay. We expect this segment to run below our expected mid-teen operating margins for the next couple of quarters and then expand as we close the year.

Now let me turn it over to Heath who will cover the financials.

Thank you, Terrence, and good morning, everyone. Please turn to Slide 9, where I will provide more details on Q1 financials.

Adjusted operating income was $623 million with an adjusted operating margin of 17.9%, leveraging the strong organic growth of 8%.

GAAP operating income was $581 million and included $35 million of restructuring charges and $7 million of acquisition charges.

For the full year, I continue to expect restructuring charges of approximately $150 million, driven primarily by activity in our Industrial Solutions segment as we optimize the footprint and make structural improvements across our TE cost structure.

Adjusted EPS was $1.40, up a very strong 22% year-over-year, primarily driven by sales growth in operating margin improvement.

For the quarter, our adjusted EPS performance was $0.15 above our prior guidance midpoint due to the strong revenue performance in operating income followed.

GAAP EPS was a loss of $0.11 for the quarter and included a onetime tax-related charge of $1.42 of EPS, primarily due to the recently passed U.S. tax legislation and restructuring and acquisition-related charges of $0.09. Because of the reduction in the U.S. corporate tax rate, we recorded a charge to income tax expense of approximately $500 million to write down our U.S. deferred income tax assets.

In Q1, our adjusted effective tax rate was 17.3%. As we said in our last call, we expect the full year tax rate in the 19% to 20% range, and we now expect taxes to come in at the lower end of that range.

For Q2, we expect our adjusted effective tax rate to be approximately 19%.

Now if you'll turn to Slide 10, please. As a reminder, the first quarter 2017 was exceptionally strong, so we have some tough compares on a year-over-year basis. However, if you look at our performance sequentially, we continue to demonstrate the consistent progress we are making as a company. Our strong Q1 results demonstrate that we are performing well against our business model and executing upon multiple levers to drive earnings growth, including organic growth, a consistent capital deployment strategy of M&A, and return of capital to our owners and margin expansion through our TEOA and cost reduction efforts.

Adjusted gross margin in the quarter was 34%, down from prior year, but up 100 basis points sequentially.

Adjusted operating margins were up 10 basis points year-over-year to 17.9%, a record for the company. Adjusted operating margins were up 160 basis points sequentially, with organic growth driving leverage in the operating structure of the company. Adjusted EBITDA margins in Q1 were 22.7%, down slightly from prior year, up 150 basis points sequentially.

During our Investor Day last month, I discussed return on invested capital and our focus on balancing between growth and returns. We are targeting midteens adjusted ROIC through focused investing to support organic growth while enabling long-term growth opportunities through acquisitions. Our business continues to generate solid free cash flow. In the quarter, cash from operations was $350 million and free cash flow was $127 million, in line with our expectations. We returned $355 million to shareholders through dividends and share repurchases in the quarter. We also increased our investments in the business to capitalize on growth opportunities where we consistently demonstrated high returns.

We've included a balance sheet and cash flow summary in the appendix for the additional details. With that, I'll turn the call back over to Terrence.

Thanks, Steve. And let me get into guidance, and let's start with the second quarter that is on Slide 11 of your deck. So for the second quarter, we expect revenue of $3.55 billion to $3.65 billion, and adjusted earnings per share of $1.33 to $1.37.

At the midpoint, this represents reported sales growth of 12%, organic sales growth of 6% and adjusted earnings per share growth of 13%.

By segment, we expect Transportation Solutions to grow midteens on a reported basis, which includes the acquisition of Hirschmann, which is a leading provider of antenna technology and products that we acquired late into our fiscal 2017.

From an organic basis, we expect high single-digit growth in Transportation. We expect auto to be up high single digits. And the global auto production environment, we estimate it to be up 2% year-over-year in the quarter, once again demonstrating outperformance due to content growth.

We also expect, in transportation, strong growth in Commercial Transportation and continued growth in Sensors. In the Industrial Solutions segment, we expect growth of mid-single digits organically and that growth will be driven by the continued strength of industrial equipment and medical applications. And in Communication Solutions, we expect low single-digit growth in the quarter, driven by continued momentum in Data and Devices and Appliances.

Now let's turn to Slide 12 and I'll cover the full year guidance for 2018. We expect full year revenue of $14.1 billion to $14.3 billion. This is up $300 million from our prior guidance at midpoint, and we expect adjusted earnings per share of $5.40 to $5.50, and this is a $0.22 increase versus our prior guidance.

At the midpoint, this represents reported sales growth of 8% and organic sales growth of 5%.

You should think about the $300 million increase in revenue guidance as $200 million due to organic growth increase in the first half of our fiscal year and the remaining increase due to currency translation. And bridging between our total growth and our organic growth between that 8% and that 5% of our new guidance, we expect acquisitions to add about 100 basis points and currency exchange effects to add the remainder, about 200 basis points to the growth in 2018 above organic.

Adjusted earnings per share growth is expected to be 13% at midpoint, driven by our growth and operating income expansion.

While we have a positive impact from EPS currency exchange effects of $0.11, this is offset entirely by the negative year-over-year impact of $0.12 from a higher adjusted tax rate when we compare it to last year.

So really, the 13% is driven by operations.

So let me provide more color on our segments and our full year guidance. We expect Transportation Solutions to be up in the low teens on a reported basis and up high single digits organically, representing an improvement from our prior guidance. We expect our auto business to be up high single digits organically on 2% auto production growth, reflecting continued content growth and share gains. Commercial Transportation is expected to continue outperformance, end market benefiting from content expansion and share gains, and we expect continued growth momentum in Sensors.

In Industrial Solutions, our guidance is essentially unchanged from our prior guidance from last quarter and is expected to grow mid-single digits on both a reported and organic basis, with the primary growth drivers being industrial equipment and medical application.

And in the Communications segment, we expect to be flat on both a reported and organic basis, with our growth in Data and Devices and Appliances being offset by the declines in SubCom that we highlighted to you already. In Data and Devices, we expect to benefit from high-speed ramps in cloud infrastructure customers as well as new design ramps for server OEMs.

In Appliances, we expect strong growth above market due to the share gains in all regions. And in SubCom, we expect revenue to be towards the lower end of our $800 million to $900 million range that we told you about last quarter.

So in summary, I continue to feel very good about our performance and execution, especially when I think about what we highlighted to you at Investor Day, it really came through during our results in the quarter as well as in this guidance.

We have built a portfolio with clear competitive advantages and you're seeing the benefit of our leading positions and content growth driving growth above markets as well as driving margin expansion. We continue to perform well against our business model as demonstrated by our strong quarter 1 results, which included 14% sales growth, record 17.9% operating margins and 22% EPS growth. And lastly, we are well positioned in large markets with favorable, secular trends and our guidance for 2018 indicates further growth above those markets and EPS expansion driven by the levers that we highlighted to you around expanding profitability.

So lastly, before we open it up for questions, I do want to thank our global teams for their strong performance in the quarter and ensuring that we bring our technology to our customers to further our leading positions around the world. So now let's open up for questions. So Sujal, I'll hand it back over to you.

Yes. Thank you. Stacey, could you please give the instructions for the Q&A session?

(Operator Instructions) Now we'll go to Amit Daryanani with RBC Capital.

I guess 2 questions for me. Maybe you can start off with -- Heath, could you just talk about the Industrial segment? Operating margins were fairly strong earlier in the quarter. Just trying to understand/if you're already starting to see some benefits from the cost optimization initiative that you guys have laid out in the past or is that -- or the improvement you're seeing is more organic and those benefits from cost takeout are more ahead of you? Because I think historically, Q1 tends to be a trough for OP margins in industrial, then you see a nice steady ramp up throughout the year. Just trying to get a sense of if that still transpires?

Amit, thank you for the question. I would say this, the industrial team has been hyper-focused on not just their growth opportunities but also improving their margin structure here, that didn't just start when we started talking about it a little bit more publicly during the Investor Day and some of our pre calls. However, I would tell you that the benefit that we saw in the quarter was largely around the leverage from that organic revenue growth. We have, as we've talked pretty extensively about, some significant footprint optimization things that we're working on. We'll see more of the benefit of that either later this year, but more pointedly, into 2019 as that's a multi-year journey to get to those numbers. So I know the 14% we're proud of, and I think the teams have worked hard to get there, but did not receive a huge benefit from some of the footprint pieces that we've talked about that will be forthcoming, and we'll continue to keep you posted over the next several quarters in a couple of years.

That's really helpful, and if I can just follow up. I guess, Terrence, for you maybe, but I want to better understand the back half expectations that you guys have right now for your fiscal year. You clearly have a very strong beat in Q1. Looks like there's some upside to Q2, but is it fair to think you're really not raising your back half expectations a whole lot right now? And if that's fair, I'm curious, what gives you the pause for back half or it tells you're just being conservative to hopefully enable performance like Q1 sustaining throughout the year?

No, I -- Yes, as I said in my comments -- thank you for the question, Amit. When you look at the guide, when we think about the year, certainly we had a strong first quarter and we're teed up for a strong second quarter, and we did leave our back half unchanged. I think when you look at the markets, and let's start with the markets first off, we see on auto environment that we think production has gotten a little stronger than we guided last quarter. Last quarter, we talked about 1% production growth for the year. We view the year is going to be more than 2%, but we do think that production growth is first-half loaded and it's mainly around Asia and Europe. North America has not changed. Industrial markets are sort of as we saw them, so we didn't really change our guidance on the year. And then Communications, what's really nice in Communications, the growth that we have in Communications while the year is going to be flat, is really driven by Appliances and D&D. And we thought SubCom would cycle down, and that's cycling down a little bit more due to this ramp program. So the second half is unchanged, it's really our view of the markets. And we updated you for what we believe we see in front of us, and we'll continue to update you as we go forward. But I think it is fair to say, it's the same guidance we gave you 3 months ago on the second half.

We'll go to Wamsi Mohan with Bank of America.

Terrace, great to see the overall results and transport margins come back so strongly. Your Transport segment is really decoupling pretty strongly from global production. You noted a few things, content, your market position and new wins. I was wondering, can you give us some sense on how much of this growth is coming from new wins? And regionally, where do you expect the biggest outperformance relative to production over the next few quarters? And I have a follow-up for Heath.

Well, thank you for the question. And let me take the second half of your question first, Wamsi. And it's one of the things that I think -- our auto position, we've always talked about how proud we are of that position and what we've accomplished there. But I do believe, when you think about our global position, you're really seeing it this year. So last year when we talked about -- we grew double digit on a 3% production environment, and a lot of that growth last year was we had a very strong China cycle, we had a nice European production environment and North America was flat. So when you look at this year, North America is going to continue to be flat, production is going to be down a little bit, and like I said in my guidance, it's going to be high single digit. So you're still seeing that content and that content is broad based of all the things we talked about during Investor Day to you, whether that be electric vehicle, whether that be the connected car, and also, just the core electronification of the car as well. We can't lose sight of that, how electronics, just in other applications like safety, play a big part. When you look at this year, though, geographically, Europe is going to have the strongest production growth this year. So it is going to be probably the largest driver from a rate perspective of production growth followed by Asia, North America flat, and with our very strong European position and our engagements we have with our customers, we're going to continue to be talking about Europe, I think, for the rest of the year, which it's going to be a little bit different than last year where we talked a lot about China and Asia. So it just proves our great global position and the content growth is global. I mentioned in my comments, we grew double in North America and in a flat environment. We feel pretty comfortable we can grow mid-single digits. In North America, that market has been flat for multiple years now. And it just shows what we're bringing to our customers.

Heath, can you comment on how you're thinking about potentially any changes to capital allocation in light of the tax changes? And do you anticipate making any changes operationally in terms of site relocations, et cetera, and realties changes?

It's an obviously timely question, Wamsi, and I appreciate it. It doesn't -- the change in the U.S. tax regulations that went into effect first part of this year signed into legislation late calendar '17 don't have a tremendous impact in terms of how we think about capital allocation. And being a Swiss-based company, we don't have a repatriation issue in terms of where we -- our cash is located. And the most important thing is, although some of the changes in the tax regulations both here as well as some of the things that are going on in the other parts of the world, probably put a little bit of pressure on our tax rate, our effective tax rate over the next couple 3 or 4 years. I can see us moving up 100 to 200 basis points, maybe into that 21% to 22% range, if you look out over the next 3 or 4 years. The most important thing to go back to, though, on that is our cash tax rate, which is the true economics is still in the mid- to high teens. And that doesn't get dramatically impacted by the change in the policy. So as we think about payback and returns and return on invested capital in terms of operational decisions and capital allocation, it doesn't have a tremendous impact on us. And obviously, we're playing around this and while the U.S. is an important piece, the North America is only 1/3 of our business. We have 2/3 of our business outside the U.S. and we have to pay attention to those things as well.

We'll go to Joe Giordano with Cowen.

Just a question, kind of a specific question, I guess, on EV, and there's been talk from some of the sensor guys about trying to adapt like a lot more wireless sensing into some of the bigger applications on the electric powertrain. And there is debate whether or not that's the right choice of technology or not, but just curious as to how -- what are you seeing in that kind of market? Is that something you're trying to even look at on your own sensor portfolio? But more like what does that mean for connectors in EV power trains if something like that is to kind of move forward?

Joe, that's a great question and it's just one of those things, when you look at electric vehicles, everybody's looking because it's so new. It is only about 4 million units when you take EV and plug-in hybrid and hybrids, it's still a small part of the market. So you're seeing a lot of experimentation around what is the best way not only to get connection and power, but also in the most affordable way into the system. So I think when you look at things like you talked about, there are lots of things that are happening around EV architecture, battery, what is great for us, we wouldn't only play in that, but as I think those of you that joined us on Investor Day, the breadth of our portfolio isn't just about one thing, it's about many things. It's about the inlets, it's about what happens around the battery as well as the sensors around it. So when you look at something like that, that's both an opportunity for us as well as things that may influence our product. Our fact said that when we think about content per vehicle in an EV, because of the breadth not just in sensors but what we do as we share it with you, we have some programs that are up to $500 a vehicle to add content. And what's great is we're exposed to those trends and our product breadth is so broad, we're going to benefit whether it's a wireless or a connected solution.

And then I just -- Sorry, I jumped on late with a couple of companies here today, but relative to Data and Devices, I feel like every day I come in and you're seeing articles about who is spending more on data centers this year, and it seems like a universally good story, and I'm just curious of how your discussions, and particularly with some of hyperscale guys when you talk about like Facebook and what they're planning on doing, are you starting to see initial indications of a real acceleration in that market?

Well, I would say twofold. We get benefits in 2 areas from those trends. You heard us highlight the wins we had in SubCom, which clearly are the high-speed backbone to really make those data centers work from that data traffic and especially with video. We're seeing that in our -- circling in our SubCom order book that we highlighted. The other thing I would say, no different than last year, the amount of growth momentum we have on the cloud in our D&D business is almost entirely our growth driver in our Data and Devices business. So while we'll talk about growth rate that might be low single digits, but that cloud activity, it was absorbing where there were some slower activity and sort of telco spending and things like that and wireless is still sort of slow. But net-net, the cloud activity we have in our Data and Device businesses drove the growth last year that you saw all for our repositioning in the portfolio and it's also the primary driver of growth today in the business when we look at the guidance we gave you for the year and some of our excitement about it is all around the cloud and the hyperscale engagements we have.

And how big is that part of your D&D right now?

From a rate perspective, it's about 30%. Hopefully in the revenue, roughly, Joe, off of the top of our head.

We'll go to Shawn Harrison with Longbow Research.

Two questions, if I may. Just auto -- or the transportation margins rebounded nicely in the quarter. Are there any lingering issues within that business in terms of getting lead terms normalized or getting subcomponents in the door, anything like that, that could affect the remainder of the fiscal year that you see at this point in time?

Shawn, I think that's a fair question given how the last couple of quarters of our fiscal '17, we were down in the 18%-ish range. For Transportation, and we had talked some about some of these supply chain issues, largely those issues are behind us. The team has done a nice job working through, even at these higher volumes some of those issues. And I think as we guided, we'd be up into the 19% range for that Transportation segment numbers, we certainly exceeded our own expectations and the team executed very well in the quarter. I would tell you, as you think about the remaining 3 quarters of the year, given the volume that we foresee and so forth, you should probably expect that to be more back to its normalized margins around that 20%-ish range, but you got to know that any given quarter, a 90-day period, you could have mix within a quarter that can swing it around a little bit too. But we're proud of the team working through a lot of the operational matters that had kind of plagued us a little bit in the final part of 2017. We feel good about our position as we work our way through 2018.

That's good to hear. As my follow-up, just thinking about the margin impact on SubCom, and maybe what happens in a couple of quarters out. Looks like year-over-year it maybe cost you 150, 200 basis points given the program delays. Do you get an outsized margin benefit because of program completion accounting, maybe say, in the fourth fiscal quarter? Or does it just normalize out by whatever drag you saw this quarter. Trying to think of how maybe we model it, late '18 or early '19 in terms of the benefit as the accounting works in your favor.

Well, we don't have enough time on this call to take everyone through our purchase price -- our project accounting in terms of percentage of completion. And it has its own levels of complexity that we can certainly take off why. What I would tell you is that you should expect the next couple of quarters to look somewhat like this last quarter from a margin perspective, now in that low double digits, as the issue albeit behind us operationally does bleed over the elements of the contract. It won't surprise us as we get towards the end of some of the things as well as new contracts that kick in, if you would see a quarter that would be at the other side of that, that would be higher than what we would have expected, sometimes Terrence will refer to the SubCom margins as DKG machine because it can flip around relative to how the purchase -- I'm sorry, the percentage completion of accounting orders. Having said that, the true economics of the business are still quite solid, cash flow coming out of SubCom this year is quite good. We had a great Q1 at a cash flow for SubCom and we expect the remainder of the year. So we could take some of the dynamics of the project accounting offline, but I would tell you that you could see some swings late this year or into the early part of next year for sure.

And we go to David Leiker with Baird.

So if we take a look at the orders, 11% increase in orders, 13% organically, 13% in Transportation. It seems like there are a couple of things at play here, because of the portfolio and the global nature you're getting more opportunities to bid on things. I'm guessing your win rate is probably a little bit better and the programs are a little bit larger. Are there some examples you can give us that help flesh that out a little bit?

David, certainly, when you take our business it's a lot of small projects, so there isn't any one big program. I think when you look at to some of your comments, we're seeing, like I think a lot of companies, synchronous global growth, which is benefiting the orders. And -- but it's really our global position, I wouldn't say there was any one big order outside of SubCom to highlight. When you look at it, what's nice is it's across all the trends and the bets we've been making on the portfolio, where to position this portfolio. So the wins that we're seeing are along those applications that we laid out at Investor Day. So whether they're auto, whether it's Commercial Transportation, what we do in sensors, all of them grew double digit. It's not one big program. What we're doing around factory automation, we continue to see those trends. We also -- medical continues the momentum that we've had. And then in Appliances and Data and Devices, like Joe asked, we're getting the benefit of the cloud and we're also getting the benefit of miniaturization in efficiency and appliances. So it is extremely broad based, and you're seeing that in the new orders. It is not one thing and it is not one market, it's really nice around the secular trends we talked about.

What about as it relates to the win rate and the size of the opportunities that you're pursuing or winning?

I would say the size of the opportunities are changing dramatically. I would say the take-up rates are a little bit heavier as we're seeing volumes stronger. So the opportunities are similar to what we framed out when we sink it down, and we think about opportunities as content per application. But we are seeing some of the volumes, the underlying volumes being stronger from positions we won. And even if we won a program in the first quarter, it wouldn't be in my orders. If I won an automotive program, it isn't until the customer starts placing orders, which could be 2, 3 years out. So when you look at those orders, there are programs that were run 3, 4, 5 years ago, not as current other than SubCom. SubCom is the only exception.

Okay. And then just, Heath, just one thing to follow up on the taxes. Are there any high-level views? I know it's pretty complicated, but puts and takes on the taxes in your view of 2018 versus -- under the new rules versus the old law?

Well, I think, as I said in my prepared remarks, we had guided a tax rate, an effective tax rate of 19% to 20% here at the beginning of the year. I would say we're trending towards the bottom end of that. Some element of that would be attributable to some of the changes in the U.S. policy and some of it is just jurisdictional mixes where we have things coming in from. So not a tremendous impact -- versus other companies we already start with a pretty low rate. And again, I continue to scare people back that we would expect our cash tax for the year to be in the mid- to high teens. So pretty good numbers.

Yes. It seems like there’s something there on intercompany transactions that is at play here?

Certainly that has an impact. And as I discussed, we had about a -- there's multiple elements to it, but we had about a $500 million write down in our U.S. deferred tax assets in the quarter. That's a non-cash charge that we took, and I think you'll see a lot of other companies discussing similar type of adjustments to their balance sheet.

Largely, that had to do with write-downs to our assets on our balance sheet for the new tax rate relative to both our carryforward net operating losses as well as our carryforward, what they call 163(j), which is some of the intercompany or just general debt interest-rate deductibility. And that's part of that $500 million that we wrote down.

We'll go to Craig Hettenbach with Morgan Stanley.

Terrence, just wanted to follow up your comments on EVs, and appreciate the context it's still a small unit market today. At the same time, you've seen just a swell of investment from OEMs permitting capital for that market. So just trying to gauge from you as you look out over the next 1, 2, 3 years, how you're seeing that play out in terms of kind of a linear progression or a potential step function up in EVs?

What we get excited about is where we're positioned. When we sit there and we talked to many of you about our view on EV, plug-in hybrid, hybrid, we sort of put all of those together. We sort of view that it's about 4 million units today that, over the next 5 years, you're going to get up to about 16 million units. I don't think that will be linear, you get into how do governments support it? What social adoption? And things like that. But clearly, when you take what's happened with diesel, EV has come much more to a forefront, you see it with all our global OEM customers that really the 2 things that they're all focused on is both the autonomous trends and the electric vehicle trends, and what's great is both those trends impact us and we're positioned to capitalize on them. So I feel very good about the momentum we have, the wins we shared with you. And when you sit there, while it's still a small part of our business, when he talk about the content going from $62 up to well over $80, that's going to be a big trend that drives that and that's part of the growth momentum we've talked to you about and we're investing. Heath talked about the investments they were making around growth. Certainly you can see it in the capital. It's really to make sure we capitalize on the EV trends globally, not with one customer, not in one region and we're really well positioned and it's still small today but it's going to be a big growth driver as we go forward.

Got it. And then just as my follow-up, maybe taking the other side on the order strength and understanding the global growth and then the backdrop supports that. At this point in the cycle, there's also rumblings of just things are tight and some lead times could extend. So just your sense from a customer inventory perspective and distribution inventory and how you're seeing customers behave relative to other cycles?

I think, Craig, it's a great question. When you look at clearly having global synchronous growth, that creates tightness in itself. And I do think some of our businesses, whether it be things like commercial transportation, you see the growth rate we have there as the ag and the construction are strengthening. I think you see a little bit of it in our industrial equipment business as well as in our appliance businesses as you're getting it. We're getting some of the benefit as supply chains are catching up. So that's where we see it. We're around those markets. And we do expect in our guidance some of those markets will moderate as we get into the second half of the year with a view of some of that tightness will work out. But across the portfolio, when you look at the growth rates, our growth is very broad. And I think you could see where the areas that there were some places that it does feel hot and it could moderate as we get into the second half. When we look at our channel partners, our channel partners' inventory have been staying pretty stable and our -- theirs sell out and ours sell in, their point of sale and our point of purchase pretty much in line. So it's been nice to see that, that inventory in the channel is not going up. It's staying pretty much in line point of sale out and point of purchase in, and that's something we look at and it sort of seems pretty stable there and balanced. We don't see it getting ahead of itself.

We'll go to Deepa Raghavan with Wells Fargo.

This is Deepa Raghavan, Wells Fargo Securities. Pretty strong automotive trends. Looks like especially you're benefiting from trend acceleration across the board. Could you talk about if some of the trends, example, like the safety or EVs or fully autonomous applications that OEM seem to be adopting much faster than expected? Will any of these trends benefit you more than the others or is the content kind of similar across these new trends?

I believe, some -- number one, I do believe, as we highlighted at Investor Day, both those trends will impact us. Autonomous, when you think about autonomous in TE, you think about high speed, it's really the high speed that we always talked about that you need with connectivity, getting into the car, that's why we did Hirschmann. So that we view is going to be something very important to us as well as just what Craig asked in EV. When you get around the power dynamics that need to happen and how do you make power movement of car going from a 12 volt to a full EV vehicle really plays into what we do. So we look at the content. Historically, we probably would've told you a full price. Content, we grow 4% for us above underlying production. We basically, as Steve highlighted on Investor Day, we sort of view that's moved up to more like a 6% due to those key trends. So I think the way we're positioned, and also our global position, not just the technology we bring to our customers, I think we're very unique that how we cover the world and our leading position is equal globally, we will get the benefit no matter where the trends take hold.

Got it. Sensors pretty strong among others, obviously. Are some of these new automotive or commercial truck wins coming in slightly earlier than you would've expected?

No, they're not. When you think of automotive or commercial truck programs, when you win those programs, and especially in automotive, because [mesh] didn't really have an automotive position. They come in with the program launches. So it isn't like automotive's OEMs are moving up their launches. They are very methodical about program launches and how they make sure the vehicle quality is out there. So when you look at the growth we had, it's in line with the timing we thought.

Okay. My final question, Communications. Again, would your Data and Devices division benefit from 5G or FirstNet roll out? If they do, would you talk about timing benefit? It looks like it will be more towards 2019-driven but curious.

So on 5G, if you take the past couple of years, Deepa, we have been talking a lot about data center and cloud. And the wireless, the next big step function in there is 5G, I do believe your timing is right on there. We like our position with 5G, just the market trend hasn't kicked in yet to benefit us, for us to talk about. But clearly, it's a trend that will benefit us starting in '19 and beyond in our D&D business.

And we'll go to Matt Sheerin with Stifel.

So Terrence, you were talking about the growth in the Commercial Transportation and seeing some upcoming catalysts including agriculture and other markets. You're looking at 5 or 6 quarters of double-digit growth year-over-year here. What is your sense of the cycle here on production side of the equation? And are you seeing, just as you are in automotive, just a multiyear content growth story within that sector?

So first off, yes, the content growth story, the same content trends we have gotten in automotive because of our strong position, we're able to take them over to Industrial Transportation. And the other thing that's very nice about our Industrial Transportation business, it's pretty globally balanced as well. So last year when we spoke a lot, we spoke a lot about China and what we were able to do around the China heavy truck cycle, certainly they had some regulation changes around the loading of trucks and we had the benefit of the strong heavy truck market in China as well as the content. As we came into this year, we thought the heavy truck market will slow down in China. It is, as we thought, but what's been really nice is some of the other areas that were not contributing as strong, the construction, the agriculture is starting to kick in, which is also driving both market trend and content growth wins that we've had is creating this really strong cycle. So we feel good that it's better than we thought it was going to be due to some of these other markets kicking in, ag and construction specifically. It just shows the strength of our global position and the trends we tied off around, where we had content with our customers and it's been good to see and our team has done a tremendous job not only getting the content win, also making sure they're satisfying the customers, having 30% growth in the business and delivering to our global customer base that's quite a few.

That's helpful. Is that sensor growth that you're seeing also sort of dovetailing off of the commercial side of things? Because I know that there is a decent exposure to that market in the sensor side.

Yes, we did. We actually, as I said, we had double-digit growth in the commercial transportation piece of our sensor business in the quarter. So we had a lot of commercial transportation as well as the industrial end markets, all 3 had double-digit growth in sensors. So we're actually seeing the benefit of that as well.

We'll go to Steven Fox with Cross Research.

One question and one confirmation. Just wanted to clarify on the sensor business. You're still looking at sort of a second half book of business that starts to ramp maybe more so that you're seeing in the last year or so? Is that correct?

In automotive, definitely. So the automotive programs will get stronger through the year. When you look at fourth quarter versus where they are, the double digit we had in the first quarter was slow. But that's in the automotive piece of sensors, Steve.

Okay. And then my question is on the industrial side. You got about a $2 billion rough number revenue business in industrials and the organic growth is up 17%. I was wondering, do you decompose that? And how much you would attribute to maybe just better trends in the cycle versus content? Any more color on that would be really helpful.

Well, when you sit there, there's a couple of things. You have both medical in there and industrial in there. So when you look at those 2, and both of them, really what we're seeing in factory automation as well as medical continues. Certainly, in the industrial piece of it, it is around the factory automation element and it is similar to some of the comments I made around automotive, it is global. We're seeing strength in Europe, we're seeing strength in the Americas, and certainly continuing in China around factory automation. So I would say, we've seen the benefit of global strength that has lifted that up. There is content gained in there as well, Steve. That is also a big driver, which is important. The piece that we're just watching back to a little bit of Craig's question is, I do think there is some supply chain elements that we would expect that business to moderate a little bit in the second half just due to people who are trying to secure supply. But that's the one piece that I would say, we need a little bit more wait and see on as we get through the second half.

And we'll go to Jim Suva with Citi.

I have 2 pretty short questions, so I'll ask them at the same time. On the automotive content growth, it's now at the higher end of historical, given the long lead times in models and visibility you have, is it fair to say that we're probably at a stage where it's at that high end or even higher for the foreseeable future? And then my follow-up question is on the undersea telecom. We continue to see more and more contracts being awarded and deployed, yet you had challenges in that. Was that due to, whether or not being able to get the component? Because it seems like a lot of the backlogs are taking longer than expected, and do you have visibility into that being rightsized about where it should be?

Let me take the second one. It's not whether it was not -- it had nothing to do with component. It's a new project ramp that took us a little bit longer to get out and manufacture it, and it was within our shop. So when you sit there, it's a big complicated product -- project with new technology and it took us longer to get the system up and running, and that's impacted us. Like you said, the cycle is very strong and when you look at the backlog that we booked and these orders year-to-date at a $400 million. Last year, we did $500 million for the year. We just did $400 million in the first 4 months of this year. So the cycle is healthy and I think it's similar to what we highlighted last month, is we like the cycle, it's elongated. Even some of the programs we won are out in 2021. They are programs that we could even start today. So we do feel it's the cycle that's add -- highlighted to you during Investor Day, and this is just a new project ramp that we did resolve. We're going to take -- we'll get the benefit, but to Sean's question, project accounting is not always the most intuitive and it'll have to work through over the life of the project. That will create a little lumpiness in the CS market. On your first question on content, it does come back to the program launches, it does also come back into mix a little bit. I think we feel very good about that 6% content growth that Steve talked about. In some cases, it will be is there more EV adoption versus combustion engine adoption? I can't say, we're in a new norm. What I can tell you is we're very well positioned against all those trends that are colliding in a positive way in the automotive space, and what I feel very good about how both last year and this year, we're proving to you consistently of our content story versus the production environment that last year was 3%, this year is 2%, and we're consistently outgrowing it. And it is due to that content position and how we bring value to customers. So I can tell you we feel very good on what we told you last month, and I don't think one quarter changes it.

And we'll go to William Stein with SunTrust.

The one question I have relates to your more robust view on auto production for the year. As we all know, China is becoming a more important factor in that forecast. And there were some tax incentives that were in place, and I think half of it rolled off about a year ago or thereabouts to maybe more of it rolling off now. Can you bring us up to date as to what's happening with the incentives in China and how that is affecting your business, and maybe whether it's been a surprise or not?

Actually the incentives, we spent a lot of time last year talking about the incentives where the incentives probably hung on a little bit later -- longer last year, but the incentives are over in China. And what's really great, like I laid out earlier, it's a global position. The only thing we've seen in China a little bit is we've actually seen the car OEMs get a little bit more aggressive in pricing than actually waiting for government incentive, probably more traditional behavior that we would see here and the western world than what we've seen in China versus governments. And the government incentives are over and when we think about auto production globally this year, Asia including China, which China is the biggest piece, we expect to be about 3% for the year and we expect the globe to be 3% for the year. So instead of China and Asia having an outperformance versus global auto production, we sort of view it to be an average, and our increase in the auto production from 1% to 2% was as much due to Europe as it was due to Asia. Both contributed and both of that's pretty much in the first half of our year. So production in the first quarter was a little stronger. We expect it a little bit stronger due to Europe and Asia here in the second quarter. Second half auto production, as some of its buyers are essentially unchanged.

And we'll go to Sherri Scribner with Deutsche Bank.

I just have a big picture question about margin. If you look at the first quarter, very strong margin performance helped by the automotive, the transportation segment and the industrial segments. But it seems like if you look at the full year guidance, you're suggesting there is some moderation. I think there is some commentary about that as well. So somewhere in the middle of your 30 to 80 basis point improvement is where I think the full year numbers are coming out. I guess my question is, is that right? You are expecting some moderation in margins that we sort of had a better-than-expected margin performance this quarter versus where you're expecting going forward? And then as part of that, do you think that maybe some of your second half assumptions for margins are conservative?

Well, Sherri, this is Heath. I'll take the question. I would say that certainly we came out of the year on all cylinders from a margin perspective, and we feel good about the performance. We would expect the margins in Transportation segment to moderate back closer to their more normalized number, closer to 20%-ish, albeit we'll still show nice year-over-year margin expansion within that segment. Same with the industrial side, I would say, industrial is probably a little rich in the quarter, but still a lot of positive trends there. Within communication, as I indicated earlier, we would expect because of some of the project accounting timing with SubCom it would still stay in their low double digits, maybe just inside of where we are today. So conservatism on the second half of the year is for others to discern, not me. But I would say that we're taking a cautious view and we feel good about the organic growth and we feel good about the orders and there's nothing in our guidance assumption that assumes there is some big cost inflow or major mix change that's different, but we're taking as normal a really cautionary approach and we'll update it to everybody every 90 days.

And we'll go to Mark Delaney with Goldman Sachs.

I'll keep it to one question on SG&A. I think the SG&A percentage of 10.9% in the quarter, I was just looking at my model, I think it was the lowest in about 10 years. So very nice job on the SG&A line. How should we think about that item going forward, I think it was 12.1% in 2017. So are these SG&A savings, is that something that's sustained or should we see an increase? And any sort of color on the ratio for fiscal '18 would be helpful.

Sure. Mark, this is Heath. I think -- again, similar to Sherri's question, we had some -- there was some normal seasonality with that as well. So I think that's a little bit low from a modeling perspective for fiscal '18, that 10.9%. But certainly, as we discussed at the Investor Day back in December, we do have a goal of moving our operating expenses, inclusive of SG&A, closer to 16%, while protecting our R&D and overall engineering spend within that. So you'll see progress towards that. I would think if you're modeling it that low for the rest of the year, it's probably a little aggressive though.

Looks like we have no further questions, so I'd like to thank everybody for joining us on the call this morning. If you have any follow-up questions, please contact Investor Relations at TE. Thank you, and have a nice day.

Thank you, everybody.

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