News Q2 2023 Earnings Call Transcript

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August 2, 2023

There are 11 speakers on the call.

Operator

You for standing by. My name is Bhavesh, and I'll be your conference operator today. At this time, I would like to welcome everyone to the Garmin Limited Second Quarter 2023 Earnings Conference Call. All lines have been placed on mute to prevent any background noise. After the speakers' remarks, there will be a question and answer session.

Operator

Thank you. I will now hand the call over to Teri Seck, Director of Investor Relations. You may begin your conference.

Speaker 1

Good morning. We would like to welcome you to the Garmin Limited Second Quarter 2023 Earnings Call. Please note that the earnings press release and related slides are available at Garmin's Investor Relations site at www.garmin.com/stock. An archive of the webcast and related transcript will also be available on our website. This earnings call includes projections and other forward looking statements regarding Garmin Limited and its business.

Speaker 1

Any statements regarding our future financial position, revenues, segment growth rates, earnings, gross margins, operating margins, Future dividends or share repurchases, market shares, product introductions, future demand for our products and plans and objectives are forward looking statements. The forward looking events and circumstances discussed in this earnings call may not occur and actual results could differ materially as a result of risk factors affecting Garmin. Information concerning these risk factors is contained in our Form 10 ks filed with the Securities and Exchange Commission. Presenting on behalf of Garmin Limited this morning are Cliff Pemble, President and Chief Executive Officer and Doug Besson, Chief Financial Officer and Treasurer. At this time, I would like to turn the call over to Cliff Pemble.

Speaker 2

Thank you, Terry, and good morning, everyone. As announced earlier today, Garmin reported 2nd quarter consolidated revenue of $1,320,000,000 up 6% over the prior year, driven by growth in 3 of our 5 business segments. Gross and operating margins were 57.5% and 21.5%, respectively, And we generated $284,000,000 of operating income in the quarter. GAAP EPS was $1.50 and pro form a EPS came in at $1.45 up 1% over the prior year. We feel positive about our results for the first half of the year and are updating our full year 2023 guidance accordingly.

Speaker 2

We now expect revenue of approximately $5,050,000,000 and EPS of $5.15 for the year. Before turning the call over to Doug, I'll provide highlights by segment and an outlook of what we see ahead. Starting with the fitness segment, revenue increased 23% to $335,000,000 driven by broad based growth across all product categories. Gross and operating margins were 52% 16%, respectively, resulting in improved year over year operating income of $54,000,000 During the quarter, we launched the Edge 540 and 840 cycling computers featuring dynamic performance insights, advanced mapping capabilities and solar charging to help cyclists ride longer, smarter and train more effectively. Given the year to date performance and current trends, we now expect fitness revenue to grow approximately 10% for the year.

Speaker 2

Moving to outdoor, revenue decreased 3% to $448,000,000 as growth in adventure watches was more than offset by declines in other categories. Gross and operating margins were 63% 31%, respectively, resulting in operating income of $138,000,000 During the quarter, we launched our next generation Fenix 7 Pro Series with enhanced performance insights, built in LED flashlights and additional mapping capabilities. We also launched the Epix Pro Series in 3 sizes, all with bright AMOLED displays and a built in LED flashlight. Also during the quarter, we launched the Approach S70 Premium Golf Smartwatch, available in 2 sizes, featuring bright AMOLED display and with a built in barometer for a more accurate reading on how each shot is playing. We expected the first half of the year to be challenging in comparison to the outstanding performance of the prior year.

Speaker 2

Given our year to date performance and the timing of the Adventure Watch launches, we now expect outdoor revenue to be approximately flat compared to the prior year. Looking next at the Aviation segment, revenue increased 6% to $217,000,000 with growth driven by OEM product categories. Gross and operating margins were strong at 74% 29%, respectively, resulting in operating income of $63,000,000 We recently announced the imminent certification of our revolutionary autoland and autothrottle systems and select Beechcraft King Air Models, marking the first time we have offered these highly important safety technologies to the retrofit market, as well as the first time we have certified our autoland system in a twin engine aircraft. Our smart flight system was recently selected for a FLY Magazine Editor's Choice Award, the 15th time we received this prestigious award. As you can see, our focus on aviation safety technology is unwavering, and I'm proud of what the aviation team has accomplished.

Speaker 2

We are pleased with how our Aviation segment has performed so far this year. Given the year to date performance and the stronger comparable from the back half of twenty twenty two. We are maintaining our 5% growth estimate for 2023. Turning next to the Marine segment, revenue decreased 11% to $216,000,000 primarily due to the timing of promotions, which benefited Q1 and contributed to the lower revenue from Chartplotters in Q2. Gross and operating margins were 56% 21%, respectively, resulting in operating income of $46,000,000 During the quarter, we expanded our trolling motor series to a wider range of boats with the launch of the Force Kraken.

Speaker 2

This powerful new trolling motor features a pivot style mount for easy installation on a wider range of boats. The marine market has experienced significant growth in recent years due to increased interest in boating and fishing, driven primarily by the pandemic. The pandemic drivers of this growth have mostly normalized and we now believe the market faces increasing headwinds caused by higher interest rates and greater economic uncertainty. While our first half performance was essentially flat to that of the prior year, We see signs that the market is softening, which impacts our revenue outlook for the remainder of the year. With this in mind, we believe the Marine segment revenue will be down approximately 7% in 2023.

Speaker 2

Moving finally to the auto OEM segment, revenue exceeded $100,000,000 quarterly sales for the first time in our history, increasing 77%, primarily driven by shipments of domain controllers to BMW. Gross margin was 24%, and we recorded an operating loss of $18,000,000 driven by ongoing investments as new programs move into production. During the quarter, we received production approval for a new domain controller for safety critical instrument cluster functions, which will be incorporated into multiple BMW models throughout the remainder of the year. Given the year to date performance, we now expect auto OEM revenue to grow approximately 35% for the year. That concludes my remarks.

Speaker 2

Next, Doug will walk you through additional details on our financial results. Doug?

Speaker 3

Thanks, Cliff. Good morning, everyone. I begin by reviewing our Q2 financial results by comments on the balance sheet, cash flow statement, taxes updated guidance. We posted revenue of $1,321,000,000 for the 2nd quarter, representing 6% increase year over year. Gross margin was 57.5%, 120 basis point decrease prior quarter.

Speaker 3

Decrease was primarily due to segment mix. Operating expense, percentage sales was 36%, 90 basis point increase. Operating income was $284,000,000 3 percent decrease. Operating margin was 21.5 percent, 2 10 basis point decrease. Our GAAP EPS was $1.50 pro form a EPS of $1.45 Next, look at our 2nd quarter revenue by segment and geography.

Speaker 3

In the Q2, we achieved growth in 3 of our 5 segments, double digit growth in both the fitness and OEM segments. Geography. Americas region declined 1%, while the EMEA and APAC regions achieved double digit growth of 11% and 22%, respectively. Looking next to operating expenses. 2nd quarter operating expenses increased by $39,000,000 or 9%.

Speaker 3

Research and Development increased $22,000,000 year over year, primarily due to engineering personnel costs. SG and A increased $13,000,000 compared to the prior year quarter, primarily due to increases personnel related expenses, information technology costs. Advertising expense increased approximately $3,000,000 primarily due to higher media spend. Few highlights on the balance sheet, cash flow statement and taxes. We ended the quarter with cash and marketable securities of approximately $2,800,000,000 Accounts receivable increased both year over year sequentially to $770,000,000 following this seasonally stronger second quarter.

Speaker 3

Inventory balance decreased both year over year and sequentially to approximately $1,400,000,000 We're executing on our strategy to optimize inventory, the reductions in our consumer inventory increase associated with our auto OEM business. For the Q2 of 2023, we generated free cash flow of $221,000,000 $216,000,000 increase in the prior year quarter, primarily due to a lower use of cash and purchases of inventory. Capital expenditures for the Q2 were $53,000,000 We expect full year 2023 free cash flow to be approximately $750,000,000 CapEx expenditures approximately $250,000,000 For the Q2, we paid dividends of approximately $140,000,000 Also, we purchased $26,000,000 of company stock Approximately $27,000,000 remaining at quarter end in the share repurchase program, which authorized through December of 2023. Reported effective tax rate 8.9 percent compared to 7.6% prior year quarter. Year over year increase in effective tax rate is primarily due to a larger amount of reserve releases in the prior year.

Speaker 3

Turning next to our full year guidance. We estimate revenue of approximately $5,050,000,000 compared to our previous guidance of $5,000,000,000 We expect gross margin to be approximately 57.2%, which is lower than our previous guidance of 57.5%, primarily due to anticipated full year segment mix. We expect an operating margin of approximately 20%. Also expect our pro form a effective tax rate 8.5% is higher than our previous guidance 8% due to projected full year income mix by tax jurisdiction. This results in expected pro form a earnings per share of approximately $5.15 This concludes our formal remarks.

Speaker 3

Havesh, could you please open the line for Q and A?

Operator

Thank

Speaker 3

you.

Operator

Our first question comes from the line of Joseph Cardoso from JPMorgan.

Speaker 4

Good morning and thanks for the question. If I take a look at your full year guide for outdoor and fitness, is the implication or the assumption we should make is that we should see typical seasonality heading into the back half. And if so, what's driving your confidence tracking to the seasonal level of demand, just given concerns around overall consumer spending? And then I have a follow-up. Thanks.

Speaker 2

Yes. I think, Joseph, this is Cliff. I think Fitness Outdoor probably should be looked at differently, because there's different dynamics in each one of those in the fitness segment. We had a very strong first half because of the selling of new products, which of course won't repeat as much in the second half. In outdoor, we were comping against a very strong first half in the prior year.

Speaker 2

And moving into the back half, we see stronger results comping with our new products. So each one is different. I think so far, I would say that we don't see signs of the kind of consumer behaviors that are present in some other segments. Each segment probably has

Speaker 4

And then maybe just as a quick follow-up, can you just touch on how much of a benefit you're seeing in your gross margins from moderating headwinds from components and freight and Some of these elevated costs that we had seen over the past couple of years, here in 2Q. And then how much of that is still remaining as you enter the back half of the year? And then I guess just quickly, is the largest offset to those tailwinds from easing component costs coming from the increasing mix of auto? Or are there other variables that I should be appreciating here? Thanks for the questions guys.

Speaker 3

Hey, Joseph, this is Doug. I'll give you Kind of a perspective on gross margins. First, the year over year decrease on a consolidated basis was due to a segment mix. And that is based upon where you see fitness in auto EM, which have a lower gross margin than the consolidated average Coming a larger percentage of the total year over year. As you know, some of the other components, there's a lot of different moving parts within gross margin, But you mentioned freight.

Speaker 3

Yes, we are seeing some favorable freight. And that Favorable freight is due to 2 pieces, one of which is its lower year over rates as well as we're shipping a larger percentage of our products Ocean versus Air. So that's offset by other factors, including product mix within the segments. So with each one of the segments, each one of the products has a different gross margin or so depending upon how that mix is No, one quarter versus the other quarter that does impact that in there. So a lot of different moving parts in there.

Speaker 3

And also as it relates to freight, I think you mentioned a question about for the future. So we've seen some good benefits In freight, year over year, we would expect that year over year benefit to decrease just because we saw Some of the freights come down toward the back half of the year, but we should we're not expecting the overall rates to Change that much, but the year over year favorability in the year over year gross margins will decrease.

Operator

Thank you. Our next question comes from the line of Ben Bollin from Cleveland Research. Please go ahead with your question.

Speaker 5

Good morning, everyone. Thanks for taking the question. Cliff, I was hoping you could talk through how we should think about the profitability glide path within the auto OEM business. You've got really remarkable year over year growth and really not much movement on the EBIT line. So at what point does that start to scale?

Speaker 5

And then I have a follow-up.

Speaker 2

Hey, good morning, Ben. I would definitely say the results in auto OEM are getting better. I think The operating loss was cut by a third this last quarter on a year over year basis. So we're seeing improvements. I think there's According to their business conditions, but in general, I would say we're on the path that we expected.

Operator

Okay.

Speaker 5

If you look at there's been some headlines out there, Perhaps for Doug on what's happening in Switzerland with the global minimum tax. Could you share Any ways we should think about this, how enactment or when the federal council may do something, how this could influence potential tax rate into the future?

Speaker 3

Yes, Ben. Yes, we don't give future guidance on our ETR beside the current year. But you're correct. There are some global minimum tax legislation out there. And with that, it's stating basically a minimum tax of 15%.

Speaker 3

So if that gets enacted, that would basically have Our tax rate at least 15%. Now I should say that there's a lot of moving parts in our effective tax rate that may impact that also Relating to income by mix, reserve for lease and such. But yes, depending on what how that legislation and when it's The situation is that our effective tax rate would be at 15% or possibly even higher.

Speaker 5

That's great. And then my last question, looking at the Marine business, Cliff, could you talk to how You talked about softer expectations since back half, but any thoughts on how aftermarket versus new boat delivery play Are they both softening or one worse than another? Just any thoughts there. And that's it for me. Thank you.

Speaker 2

Yes. I think there's quite a few moving pieces in what's going on in marine. I would say that From the midrange on up in terms of both sizes, the market is still very healthy and both from the OEM and aftermarket perspective. It seems like the weakness is more from the lower mid range to lower end. And of course, new boat buying activity generates both refits and equipment added to the boat at the time of purchase.

Speaker 2

So these are the things that are just all coming into play. And another factor really is the seasonality that we're seeing return that we haven't seen over the course of nearly 4 years now. So I think there's a lot of dynamics. I believe the market is still a very, very good market. It's one of the last ones to really show this normalization that we've seen in every other market And we expected that it would come, but it's with us now.

Speaker 2

And I think going forward, we'll concentrate on new products and driving growth through innovation. Thanks, guys.

Operator

Thank you. Our next question comes from the line of George Wang from Barclays.

Speaker 6

Firstly, can you comment on the buyback prospects, just given incremental higher free cash flow kind of healthy business profile. Just curious if The strategy in terms of capital return has changed. I noticed kind of buyback ticked lower in 2Q. Just curious if so any color on that.

Speaker 3

So is the question going to buybacks? Yes. Yes. We'll evaluate our share repurchase just based upon the business End market conditions. The situation is we have a $300,000,000 authorization through the end of 2023.

Speaker 3

We have $26,000,000 $27,000,000 of that remaining. So it's really just based upon the business conditions and market conditions.

Speaker 6

Okay, great. Just if I can squeeze in quick follow-up. Just can you comment on the backlog and the channel inventory, Really 2 parts kind of on the industrial business, kind of marine and aviation, incrementally weaker. You mentioned that it's more seasonal for the marine. Can you comment on the backlog across marine and aviation?

Speaker 6

Also, any thoughts on the channel inventory on the fitness and kind of wearable side of the business?

Speaker 2

Yes, I think backlogs have come down a lot and most of that is due to the easing supply chains that we've seen allowing us to fill the orders much faster than we were last year for both aviation and marine. I think some of those dealers across Aviation Marine in the past year were interested in keeping more safety stock on their shelves because they wanted to make sure they could serve customers coming into the shops. And as lead times have come down, They have relaxed a little bit their concern over being able to serve their customers. So that's also part of the moving pieces that we're seeing As things normalize in both aviation marine, I would say that the channel inventory is mostly healthy. And as we go forward, it will be replenishment type of activity that goes on.

Speaker 6

Okay, great. Thanks.

Operator

Thank you. Our next question comes from the line of David MacGregor from Longbow Research. Please go ahead with your question.

Speaker 7

Yes. Good morning, everyone. Thanks for taking my questions. Cliff, just a question on the automotive OEM and just go back to a previous Just trying to think about profitability and trying to understand the economics around this business, but is there any way to separate The start up costs and kind of the one times and the ramp up costs from the profitability of the volume that you are shipping?

Speaker 2

Yes. I mean, we also look at that. That really relates to building scale in the business as revenues increase. We haven't really talked about those kinds of numbers externally because we're a company that focuses Untrue GAAP Financials. So, we include all of our costs as they're expensed and we all try to make our all of our businesses profitable and perform well on that basis.

Speaker 7

Okay. How are you thinking about second half revenues for the automotive OEM in your annual guidance?

Speaker 2

Yes. I mean, I think we raised our guidance outlook for the full year reflecting strength that we've scene in the business and acceleration into the back half. So that reflects our current view of the business.

Speaker 7

Okay. You mentioned that you'd added another controller program. I'm just wondering if it's possible that we'll continue to see program additions Or do you just ship under the programs that you have now?

Speaker 2

Well, I think these devices are being incorporated across model lines. And so that takes some time and it's dependent on BMW's own engineering work and scheduling into production. So we're basing our forecast on what we have been told for their production plan for cars containing our devices.

Speaker 7

Okay. Thanks for that. And then my follow-up question is really around the discussion of promotional expectations for the rest of the year. And Obviously, there's a seasonal pattern at play here, but I'm just wondering how you're thinking about your required spending on promotional programs and promotional support into the second half of the year versus second half of last year.

Speaker 2

Yes, I think we expect it to be more like normal than ever before in recent memory. We've seen this trend in recent quarters where the markets are returning to the level of promotions and discounting and sales that we saw in the past. So We're expecting that. It will probably be very similar to what we've seen over the past year. Honestly, it kind of more normalized even last year.

Speaker 2

So that's what we expect going forward is really a normal cadence.

Speaker 7

Okay. Thanks very much. Good luck.

Speaker 8

Thank you.

Operator

Thank you. Our next question comes from the line of Ivan Feinseth from Tigress Financial. Please go ahead with your question.

Speaker 9

Hi, thank you for taking my questions and congratulations on the great automotive OEM progress.

Speaker 10

Thank you.

Speaker 9

Can you go into a little detail about the opening of the Firstbeat Analytics Lab and like what your expectations are and what do you think you can gain And also since everybody's talking about AI, what are your thoughts on how AI can help product that your product development and product functionality?

Speaker 2

I think the First Speed lab reflects our commitment to ongoing research and innovation in the area of biometrics and performance for athletes as well as wellness features in our products. So We continue to invest in that area and it's something that's important to us to differentiate our products from others. In terms of AI, we've been using AI techniques in our products and in our algorithms on both cloud based applications as well as on our devices for quite a while. We continue to see this trend and we continue to develop our capabilities in that area as well. I think in terms of how we deploy that in the company that There's probably a mixed bag of responses there that I would say.

Speaker 2

Some of it is good and can be helpful to us in productivity and other applications of AI that have been broadly discussed in the media, may not be for us. But in general, we're approaching it with prudence.

Speaker 9

Then one last question. A lot of your new products that you've introduced like the recent golf watch have come with a delineation on the application for an upgrade at a subscription. Can you give me your views or outlook on as far as creating subscription revenue and tiering the functionality and pricing for some of your apps.

Speaker 2

Yes, I think what you're seeing reflects our intentional strategy to increase revenues from subscription based sources. And so the Gulf apps, our tax trainers, inReach, aviation databases, outdoor maps, all of these things are playing into our desire to increase revenues from recurring sources.

Speaker 9

All right. Thanks again. Thanks.

Speaker 2

Thanks, Ivan.

Operator

Thank you. Our next question comes from Eric Woodring from Morgan Stanley. Please go ahead with your question.

Speaker 8

Hey, good morning guys. Thank you for taking my questions. A few if I may. The first one, I know it's early, but can you maybe just give us some color on customer reception to the new FX Pro and the new Phoenix 7 Pro Series launched in the quarter. And I would just love if you can kind of weave that into your sense of What the health of the consumer is?

Speaker 8

Are you seeing demand stabilize? Are you seeing demand from Existing upgrades versus new customers, any difference there? And then any pricing sensitivity you're hearing from the customer. So just an overall read How is impacting some of these new product launches? And then I have a follow-up.

Speaker 8

Thank you.

Speaker 2

Okay. Yes. So the launch of those 2 new families, the Epix Pro and the Phoenix 7 Pro, I think went very well. We feel like the The sell through as indicated through our registrations is going exactly as we had planned. And I think we're seeing very similar trends as what we've seen in the past in terms of mix of new customers and existing customers upgrade.

Speaker 2

So I think I would say that all is pretty much as we would expect and has what What we've seen in the past on those two product lines really no sensitivity from the consumer in terms of softness there relative to any economic issues. I think the question of the consumer health is really depends on the product line that you're talking about and those products Definitely higher end products that target more affluent customers. So we feel like everything there is going as we had planned.

Speaker 8

Okay. That's helpful. Thank you. And then maybe just to follow-up on your comments on the Marine business, Cliff. I kind of understand the dynamics that you walked us through between the strong Q1 and a bit weaker Q2.

Speaker 8

But Can you maybe just elaborate on exactly what's going on in the market? And the only reason I say that is, I know you called out interest rates and macro concerns as headwinds, but neither of those dynamics are necessarily new. And so just curious from your perspective, What are you seeing over the last 90 days that has really changed your view from this market growing to this market declining? Thanks so much.

Speaker 2

Yes, I think our view is really based on all of the latest data that we see and also Talking to all of our retailers and distributors, there's definitely pockets of strength in the market. But increasingly we're seeing Some feedback that there is some hesitancy on the part of some customers who in the past felt like they had much more money to spend, Maybe now don't or are faced with very high interest rates if they're financing a purchase and can't buy with cash. So these are the kind of the initial signs that we're seeing that just want to cause us to be a little bit more cautious for the back half.

Speaker 8

And maybe if I could just ask one follow-up to that. After just kind of talking about the higher end products on the Consumer side being okay. As it relates to the comments that you just made about hesitancy from customers and what you said earlier in Q and A, Am I correct that that's largely at the lower end where there might be more economic sensitivity versus the higher end that might be a bit more resilient, specifically marine?

Speaker 2

Yes, that's true.

Speaker 8

Okay, perfect. That's it for me. Thanks so much.

Speaker 2

Awesome. Thank you.

Operator

Our next question comes from the line of Jordan Liannis from Bank of America. Please go ahead with your question.

Speaker 10

Hey, good morning. So I just had a quick question. For like in the macro environment for Europe and Asia, I know sales were up year over year for both, but how are you guys thinking about the demand When data is coming out that the macro environment is not improving, I don't know how are you guys looking at that for the full year?

Speaker 2

I think each geography has its own particular situation. Asia is a big place. So some countries are doing very well and doing well with our new releases, while In other cases, maybe the economies aren't so good, specifically China. We're not completely dependent on one country in Asia for our results. So the diversity of our markets there allow us to show the results that we have.

Speaker 2

Similarly in EMEA, I think they're probably on a different time line when it comes to their economic progress. And So, when they were a little softer early on, they've been a little stronger, especially as we've introduced some of these new products.

Speaker 10

Okay. And then the other question I had too was on the increase in advertising spend. Is it just actually running more promotions or it's stronger discounts?

Speaker 3

Yes. This is relating to media spend, primarily relating to the new product launch that we had. So a lot of that media spend is really tied to we have new products, making sure that we get the message out to our consumers.

Operator

Got it.

Speaker 2

And advertising is really advertising is an item related to the specific promotion, As Doug said, of awareness of the product, not necessarily the discounting of the product itself.

Speaker 10

Got it. Thank you.

Speaker 2

Thank

Speaker 6

you.

Operator

There are no further questions at this time. Ms. Teri Seck, I'll turn the call back over to you.

Speaker 1

Thanks for your time today. And Doug and I are available for a callback. Have a great day. Bye.

Operator

Thank you. This concludes today's conference call. Thank you for participating. You may now

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