DuPont de Nemours, Inc. (NYSE:DD) Q4 2022 Earnings Call Transcript

DuPont de Nemours, Inc. (NYSE:DD) Q4 2022 Earnings Call Transcript February 7, 2023

Operator: Good morning. My name is Rob and I will be your conference operator today. At this time, I would like to welcome everyone to the DuPont Fourth Quarter 2022 Earnings Conference Call. After the speakers’ remarks, there will be a question-and-answer session. Thank you. Chris Mecray, Vice President, Investor Relations. You may begin your conference.

Chris Mecray: Good morning and thank you for joining us for DuPont’s fourth quarter and full year 2022 financial results conference call. Joining me today are Ed Breen, Chief Executive Officer; and Lori Koch, Chief Financial Officer. We have prepared slides to supplement our remarks, which are posted on DuPont’s website under the Investor Relations tab and through the webcast link. Please read the forward-looking statement disclaimer contained in the slides. During this call, we will make forward-looking statements regarding our expectations or predictions about the future. Because these statements are based on current assumptions and factors that involve risks and uncertainties, our actual performance and results may differ materially from our forward-looking statements.

Our Form 10-K, as updated by our current and periodic reports, includes detailed discussion of principal risks and uncertainties which may cause such differences. Unless otherwise specified, all historical financial measures presented today exclude significant items. We will also refer to non-GAAP measures. A reconciliation to the most directly comparable GAAP financial measures included in our press release and has been posted to DuPont’s Investor Relations website. I will now turn the call over to Ed.

Ed Breen: Good morning and thank you for joining our fourth quarter and full year 2022 financial review. We posted strong quarterly top and bottom line results in line with our previously communicated guidance in an uneven global economy. Fourth quarter revenue included a 5% organic growth versus the year ago period, strong volume in water and auto adhesives, as well as ongoing strength in industrial end markets such as healthcare and aerospace, helped mitigate volume declines in consumer electronics end markets and softening conditions in North American construction markets. Strong pricing growth in the quarter reflects actions taken largely prior to the fourth quarter to offset persistent inflationary pressures in raw materials, logistics and energy.

We sold over $800 million in year-over-year inflation headwinds for full year 2022. We delivered year-over-year operating EBITDA growth in the fourth quarter despite a slight volume decline, currency headwinds and the impact of portfolio divestitures. We also saw a margin improvement of 120 basis points, demonstrating solid operational execution and focus on items we can control within the highly diverse end markets where we participate. The closing of the M&M sale was a milestone event in the fourth quarter and our last contemplated large-scale divestiture. The transaction further transforms our portfolio to concentrate in more stable, secular, higher growth and higher margin end markets. As you can see on Slide 4, our transformation actions have significantly strengthened our balance sheet, increased our financial flexibility and positioned the company to continue to generate shareholder value through disciplined capital allocation.

Following the M&M sale, we acted quickly in accelerating return of capital to shareholders. We authorized a new $5 billion share repurchase program in November and launched an accelerated share repurchase transaction for $3.25 billion of common stock, allowing the retirement of about 39 million common shares in the fourth quarter. We anticipate completing this ASR in the third quarter of 2023 and plan to execute share repurchases under the planned remaining authorization as soon as we can. In the quarter, we also retired $2.5 billion of long-term debt, which is due to mature in November 2023 and reduced our commercial paper balance to zero as of year end. The long-term debt retirement reduced refinancing risk and generated pre-tax annualized interest expense savings of approximately $100 million.

We also announced today an increase in our quarterly dividend of $0.36 per share or a 9% increase versus last year. Going forward, we continue to target a dividend payout ratio of between 35% and 45% and expect to increase our dividend annually alongside earnings growth. In total, we deployed more than $7.5 billion of capital in 2022 through significant share repurchases, deleveraging and dividend payments, which reflects our overall balanced capital allocation strategy. We exited the year in a favorable balance sheet and liquidity position and we look to further allocate excess capital over time to max on value creation through both opportunistic M&A and incremental share repurchases. Our M&A focus remains on targets that fit within our growth pillars and are aligned with key secular growth trends that we have highlighted.

Further, our disciplined approach to portfolio management will ensure that DuPont focuses on growing businesses where we are the best strategic owner. Regarding the Delrin sale process, we continue to advance our internal work required to divest the business. We are being prudent with the deal process to ensure suitable market conditions and still expect to have a completed sale in 2023. Finally, we also continue to invest internally in innovation and incremental operating capacity to fuel and support our organic growth. In 2023, we expect to allocate CapEx at about 5% of sales as we wrap up some larger scale projects this year and we target R&D spending at about 4% of sales on a consolidated basis longer term, investing differentially within our business lines based on growth potential.

Turning to Slide 5 before I hand it over to Lori, I want to thank our teams who remain focused on operational execution in a difficult environment, which allowed us to produce solid revenue and earnings growth this fish year. I also want to thank our teams for their continued efforts made during 2022 in transforming our portfolio. We are excited about the longer term growth potential of our business in its newly constituted form, centered around the secular high-growth pillars of electronics, water, protection, industrial technologies and next-generation automotive. Our end market mix is notably tilted towards electronics at about one-third of our portfolio. Within electronics, we have a key presence in consumer-based end markets, namely chips, films, displays and printed circuit board materials used in smartphones, PCs and tablets.

The bulk of our remaining electronics exposure is in areas such as data centers and telecommunications as well as industrial and automotive applications, primarily consumables used in the semiconductor chip manufacturing process. Despite short-term volume pressure, we are pleased with our electronics market position and confident this exposure will help generate strong growth over time. Our presence in electronics is enviable, with higher margins versus the company average and a solid competitive position across the key products we supply. Likewise, our water business at 12% of our portfolio operates in markets that are expected to grow mid to high single-digits, driven by the global response to concerns such as water scarcity and circularity.

Additionally, our participation in the auto market at about 13% of sales is much more connected to high-growth advanced technologies, enabling long-term secular trends like hybrid and electric vehicles for items such as battery applications. A solid portion of our auto exposure is aligned to EVs, which are growing at a significant pace. Given these and our equally strong market positions in many other end markets, including within our protection and industrial technologies pillars, we believe that our financial results over time will bear out the view that the new DuPont will grow and generate returns on par with the best industrial assets in the public markets. In response to near-term short-cycle end market slowing expected in the first half of 2023, we have been doing scenario planning for some time now and are proactively taking actions within our control to minimize volume impacts on margins.

As a result, we expect to be able to show the resiliency of the new DuPont portfolio this year. I look forward to providing you with updates as we progress through 2023. With that, let me turn it over to Lori to review our financial performance and outlook.

Lori Koch: Thanks, Ed and good morning. The quality of our portfolio was highlighted this quarter as strong top line results across the majority of our business lines offset weaker conditions in consumer electronics and construction. The global economy remains challenging, but our team’s focus on execution drove solid fourth quarter earnings growth and operating EBITDA margin expansion against the prior year period. Turning to our financial highlights on Slide 6, fourth quarter net sales of $3.1 billion decreased 4% as reported and increased 5% on an organic basis versus the year ago period. Global currency volatility resulted in a 5% headwind from U.S. dollar strength against key currencies, most notably the yen, yuan and euro.

We also saw a 4% portfolio headwind driven by the impact of non-core divestitures. Breaking down the 5% organic sales growth, 7% pricing gains were partially offset by 2% volume declines. Continued strength in water solutions and over 20% volume gains in auto adhesives were more than offset by further softening in smartphones and personal computing within interconnect solutions, a slowdown in semiconductor and construction market, as well as continued lower year-over-year volume from Tyvek protective garments within safety solutions. As we exited the year, we saw lower volumes in areas we have highlighted with total December organic sales up 2% year-over-year, including down high single-digits in China, driven by acceleration of COVID disruptions and low single-digit organic sales growth in the U.S. and Canada due to muted demand in construction and destocking by customers.

From an earnings perspective, operating EBITDA of $758 million increased 1% versus the year ago period despite currency headwinds and the impact of portfolio. Organic earnings growth was driven by pricing and disciplined cost control, which more than offset inflationary cost pressure and lower volumes, including the impact of production rates. Operating EBITDA margin during the quarter of 24.4% increased 120 basis points versus the year ago period. Adjusted EPS in the quarter of $0.89 per share increased 16%, which I will detail shortly. Cash used in operations during the quarter of $126 million, less capital expenditures of $185 million and transaction-related adjustments totaling $213 million resulted in a free cash outflow of $98 million.

The transaction-related adjustments consist of $163 million termination fee related to the intended Rogers acquisition, with the remainder from a tax prepayment for the M&M divestiture. Further headwinds to free cash flow during the quarter included transaction costs related to closing the M&M deal of about $200 million and an approximately $100 million cash outflow related to prepaid accounts payable in advance of the M&M deal closing, which was subsequently reimbursed to us at closing and reported as an inflow within investing activities. I call out these items to provide visibility into our underlying cash flow performance. Additionally, free cash flow included a working capital benefit during the quarter of about $120 million related to inventory reductions resulting both from our productivity efforts and from our decision to slow production in certain lines of business given the lower volume environment.

Turning to Slide 7, adjusted EPS for the quarter of $0.89 per share increased 16% compared to $0.77 per share in the year ago period. The strong EPS growth came primarily from below-the-line items as organic earnings from our ongoing businesses were mostly offset by the absence of earnings from non-core divestitures as well as currency headwinds. Ongoing share repurchase continues to drive earnings per share growth, providing a $0.07 benefit to adjusted EPS. Lower net interest expense provided a $0.05 benefit to adjusted EPS, driven by both interest income resulting from additional cash on hand from the M&M divestiture and also lower interest expense resulting from the pay-down of $2.5 billion of senior notes during the quarter. Our tax rate for the quarter was 22.2%, up notably from 18.6% in the year ago period, resulting in a $0.06 tax headwind to adjusted EPS driven primarily by geographic mix of earnings and currency.

Our full year base tax rate for 2022 was 23.2% and our 2023 outlook assumes a base tax rate in the range of 23% to 24%. Turning to Slide 8. Just to note a few metrics on a full year basis, net sales of $13 billion in 2022 increased 4% for the full year. On an organic basis, full year sales increased 8% due to a 7% increase in price and a 1% increase in volume. W&T and E&I delivered organic sales growth of 11% and 5% respectively and net sales in all four regions increased organically. Further, we delivered high single-digits or better organic sales growth in 5 of our 6 lines of business as well as in the retained businesses within corporate led by auto adhesives. Interconnect Solutions was the only business line down organically due to the slowdown in smartphones and personal computing since last summer.

Full year operating EBITDA of $3.26 billion increased 3% due primarily to volume gains as pricing gains were mostly offset by continued pressure associated with higher raw material, logistics and energy costs. Operating EBITDA margin was flat at 25.1%, inclusive of price cost headwind of about 150 basis points. Full year adjusted EPS of $3.41 per share increased 12% versus 2021. The increase was driven by a lower share count from share repurchases, higher segment earnings and lower net interest expense, which was partially offset by a higher tax rate. Cash flow from operations for the year of $588 million, less capital expenditures of $743 million and transaction-related adjustments totaling $328 million for items that I mentioned earlier, resulted in free cash flow for the year of $173 million.

Full year discrete headwinds included in free cash flow totaled about $650 million, which mainly reflect transaction costs. Turning to segment results, beginning with E&I on Slide 9. E&I fourth quarter net sales decreased 8% as organic sales declined 2%, along with currency and portfolio headwinds of 5% and 1% respectively. The organic sales decline reflects a 5% decrease in volumes, partially offset by a 3% increase in average price. The organic sales decrease for E&I was led by a 10% decline in Interconnect Solutions driven by volume linked with further weakening in smartphone, PC and tablet demand, along with channel inventory destocking and the negative impact of COVID-related disruptions in China. In Semiconductor Technologies, lower volumes resulted from reduced semi fab utilization rates due to weaker end market demand along with channel inventory destocking.

End market weakness was seen mainly in smartphones and personal computing. In Industrial Solutions, volumes were muted as lower demand in consumer printing and weakness in LED silicones for conventional lighting in China more than offset ongoing strength in broad-based industrial end markets, including Best Bell product lines in aerospace and for applications in healthcare markets. Operating EBITDA for E&I of $407 million decreased 4% in the quarter as volume declines were partially offset by disciplined cost control with operating EBITDA margin up 150 basis points from the year ago period. For the full year, E&I net sales of $5.9 billion increased 7% versus 2021, up 5% on an organic basis as the portfolio benefit from last year’s Laird acquisition was partially offset by currency headwinds.

Organic sales growth for the year of 5% consisted of a 3% increase in volume and a 2% increase in price. From a line of business view, organic sales growth was led by Semi Tech, up low double-digits and Industrial Solutions up high single-digits, partially offset by mid single-digit declines in Interconnect Solutions related to weakness in smartphones and personal computing end markets during the second half of 2022. Full year operating EBITDA of $1.8 billion increased 4% as volume gains, a full year of earnings associated with the Laird acquisition and higher pricing more than offset inflationary cost pressure and weaker mix in interconnect. Turning to Slide 10, W&P fourth quarter net sales increased 6% as organic sales growth of 12% was partially offset by a 6% currency headwind.

Organic growth reflects broad-based pricing actions taken across the segment to offset cost inflation as WP volumes were flat. Organic sales growth was led by Water Solutions, which increased over 20% on strong global demand for water technologies, led by reverse osmosis membrane as well as capacity increases and pricing gains. Water continues to be an area of consistent strength with long-term top line growth expectations in the mid to high single digits. Sales for Safety Solutions were up high single digits on an organic basis as pricing actions were somewhat offset by lower Tyvek volumes given the demand shift from garments to other applications and the resulting impact of line changeovers on production efficiency. Excluding the year-over-year garment headwind, total W&P volumes increased approximately 2% in the quarter.

In Shelter Solutions, sales were up high single digits on an organic basis as pricing gains were partially offset by volume declines primarily in North America construction. Operating EBITDA for W&P of $360 million increased 11% as pricing actions and disciplined cost control more than offset inflationary cost pressures and currency headwinds with operating EBITDA margin up 100 basis points from the year ago period. For the full year, W&P net sales of $6 billion increased 7% versus 2021 as organic growth of 11%, partially offset by a 4% currency headwind. Organic sales growth for the year consisted of a 12% increase in price, slightly offset by a 1% volume decline. Excluding the year-over-year garment headwinds, total W&P volumes increased 2% for the year.

From a line of business view, organic sales growth was driven by mid-teens growth in Shelter Solutions, low teens growth in Water Solutions and high single-digit growth in Safety Solutions. Full year operating EBITDA of $1.4 billion increased 3% as higher pricing and disciplined cost more than offset inflationary cost pressure as well as currency headwinds. I’ll close with a few comments on our financial outlook and guidance for 2023 on Slide 11. We expect solid top line growth trends to continue into 2023 in businesses such as water and auto adhesives as well as stable demand across diversified industrial end markets, including aerospace and healthcare. We do, however, anticipate lower volumes during the first half of 2023 in consumer electronics and semiconductors, resulting from decreased consumer spending, inventory destocking and COVID-related impacts in China, largely within E&I.

We also expect ongoing softness in construction end markets within W&T during 2023. For the first quarter of 2023, we anticipate continued weakness in these consumer-driven short-cycle end markets, resulting in a first quarter net sales expectation of about $2.9 billion or down mid-single digits on an organic basis versus the year ago period. As 2023 progresses, we assume stabilization of consumer electronics demand, normalization of customer inventory levels and improved China demand to drive sequential quarterly improvement in operating results, most notably in the second half of the year. Within the Interconnect Solutions business, where the printed circuit board market has been down since mid-2022. We anticipate that channel destocking and customer production rates begin to improve during the second quarter.

Within semiconductor technologies, fab utilization rates are also expected to bottom during the first half of this year and improve around midyear. As a result of these assumptions, coupled with expectation of improvement in China across our product lines, we expect full year 2023 net sales to be between $12.3 billion and $12.9 billion. In response to the expected lower volume environment, we are focused on minimizing decremental margin impacts. To achieve this, we are focused on the operational levers within our control, including appropriate actions to increase productivity at our plant sites, reduce discretionary spending and realization of savings enabled by cost actions initiated during the fourth quarter. For first quarter 2023, we expect operating EBITDA of about $710 million.

For full year 2023, we expect operating EBITDA to be between $3 billion and $3.3 billion, expecting to hold full year operating EBITDA margin flat at the midpoint of the ranges provided compared to last year. These same midpoints imply a decremental margin of 27% for the full year despite a mixed headwind resulting from volume pressure in our higher-margin business, mainly semi. Our first quarter adjusted EPS expectation of about $0.80 per share and full year adjusted EPS guidance range of between $3.50 and $4 per share assumes continued growth from below-the-line benefits related to a lower share count and lower interest expense. The midpoint of our full year adjusted EPS guidance implies growth of 10% versus last year, driven by these benefits from our ongoing capital allocation strategy.

With that, we are pleased to take your questions, let me turn it back to the operator to open the Q&A.

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Q&A Session

Operator: Your first question comes from the line of Scott Davis from Melius Research. Your line is open.

Scott Davis: Hi, good morning, everybody.

Ed Breen: Good morning, Scott.

Scott Davis: Let’s €“ if you don’t mind, I’d love to get a little bit more color on the inventory levels. When you think about, I mean, two different businesses really with the interconnect and the semiconductor side. But how high did inventories get? Meaning kind of how above normal were they? And where would you characterize them today versus where perhaps they were maybe a quarter ago?

Ed Breen: Yes. So on ICS, as Lori just mentioned, Scott, that started its downturn actually middle of 2022. So that’s been going through a downturn. It’s obviously lower demand. And a lot of that lower demand, by the way, is China related lower demand because of COVID and lockdowns and all that. And so we have talked to our 10 largest PCP customers mainly in China, and it looks like they are going to begin their ramp in the second quarter. We’re thinking more in the middle of the second quarter. And maybe to give you a couple of numbers behind it, their PCB fabs usually run in the high 70% utilization rate. They have been €“ they are all a little bit different, but they have been running kind of between 40% and 60% and they expect the second half of the second quarter to be kind of up to 60% to 65% and then ramp up from there.

So that’s what we’re getting granularly on the ground. And of course, smartphones are supposed to pick up in 2023 from last year. And remember, the smartphones in China were down 20% last year. So it was just a big down. I mean nobody €“ none of the consumers were shopping. So I think just China coming back on its own from kind of this artificial COVID thing alone is going to help with demand. And remember, we’re high on electronics in that market in general. So I think we will see a boost there. And then if we’re right with our customers on the PCB side, we will start seeing that in the middle of the second quarter. And then on the semi side, I think that’s pretty public knowledge. But those fabs were all running high, kind of 95%. They are now running in the low 80s.

Now remember, a lot of that is destocking going on. Most of the chip guys are saying the biggest down quarter is the first quarter. We think it’s the first and second quarter. So in our planning, as Lori mentioned, that’s what we planned that we start seeing our ramp towards the end of the second quarter. And if you look at the MSI data, it’s kind of minus 10 and then minus 12 versus the second quarter, and then it improves and gets actually positive in the fourth quarter. And then, of course, we will €“ our demand will happen slightly before that MSI number. So I think we €“ the way we laid it out, we’re sequencing it properly. And by the way, maybe just to give you the rest of the landscape the way we put €˜23 together. We plan that the construction markets will be down all of 2023.

And then pretty much every other business, we have all the industrial businesses will be stable in 2023 and the water business will grow mid to high single digits. So that’s kind of a lay of the land of how we put it together.