Avnet, Inc. (AVT) Earnings Call Transcript

Welcome to the Avnet Fourth Quarter Fiscal Year 2026 Earnings Call. I would now like to turn the floor over to Lisa Mueller, Director of Investor Relations for Avnet. Please go ahead.

Thank you operator. I'd like to welcome everyone to Avnet's Fourth Quarter Fiscal Year 2026 Earnings Conference Call. This morning, Avnet released financial results for the fourth quarter of fiscal year 2026 and the release is available on the Investor Relations section of Avnet's website, along with a slide presentation which you may access at your convenience. . As a reminder, some of the information contained in the news release and on this conference call contain forward-looking statements that involve risks, uncertainties and assumptions that are difficult to predict. Such forward-looking statements are not a guarantee of performance, and the company's actual results could differ materially from those contained in such statements. Several factors that could cause or contribute to such differences are described in detail in Avnet's most recent Form 10-Q and 10-K and subsequent filings with the SEC. These forward-looking statements speak only as of the date of this presentation, and the company undertakes no obligation to publicly update any forward-looking statements or supply new information regarding the circumstances after the date of this presentation. Please note, unless otherwise stated, all results provided will be non-GAAP measures. The full non-GAAP to GAAP reconciliation can be found in the press release issued today as well as in the appendix slides of today's presentation and posted on the Investor Relations website. Today's call will be led by Phil Gallagher, Avnet's CEO; and Ken Jacobson, Avnet's CFO. With that, let me turn the call over to Phil Gallagher. Phil?

Thank you, Lisa, and thank you, everyone, for joining us on our fourth quarter and fiscal year 2026 earnings call. I'm very pleased to report an exceptional finish to fiscal 2026. The fourth quarter results came in well above our expectations and capped a year of strong performance and meaningful progress for Avnet. We delivered a record quarter across all key metrics in both our Electronic Components and Farnell businesses. supported by improving demand across all of our core markets, strong execution by our teams and expanded margins from the operating leverage inherent in our business model. For the full fiscal year, Avnet delivered substantial revenue, margin and earnings growth as market conditions improved, and our team remained focused on execution in areas we can control. Looking back, fiscal 2026 was a year when many of the indicators we have been discussing for several quarters began to translate into stronger results. Book-to-bills improved, backlog grew, customer demand visibility and ordering patterns strengthened, lead times extended in most product categories and demand creation activity remained healthy. Just as important, we stay disciplined in working capital, operating expenses and capital allocation while continuing to invest in capabilities that differentiate Avnet in the market. Throughout the year, we continue to demonstrate the value we bring at the center of the technology supply chain. We strengthened supplier relationships supported customers through a more complex demand environment and expanded our technical and digital capabilities. We also ensured that we are well positioned to participate in several end markets that are demonstrating high growth potential or already showing high growth in electronic components demand. I'm going to thank our employees around the world for their hard work and commitment. These results reflect the experience of resilience and dedication of our team. Now turning to the recently completed fourth quarter. It was a record quarter for Avnet that exceeded our sales and EPS guidance. We achieved record sales of $8.3 billion and an adjusted operating margin of 3.8%, highlighted by an electronic components operating margin of 4% and a 9% operating margin at Farnell. We also improved inventory days to 71, the lowest level in nearly 4 years and believe we have the capacity to continue improving in fiscal 2027. The sales improvement we saw was broad-based. We are excited not only by the magnitude of the growth, but the breadth of the recovery across all regions and end markets. This gives us confidence that the improvement in demand is not tied to a single end market or trend but reflects a broader demand recovery across the diverse applications that require electronic components. The supply environment continued to tighten during the quarter, with lead times moving higher across most of the component categories we track for both semiconductors, interconnect, passive and electromechanical or IP&E products. What initially appear to be demand concentrated around AI and data center-related appointments has broadened considerably with extended lead times now evident across a wider range of applications and end markets. As the quarter progressed, pricing increases became more prevalent beyond memory. We expect additional price increases from a number of semiconductor and IPD suppliers in the months ahead. Artificial intelligence continues to be an important catalyst for the industry and for Avnet. But we believe the improving demand environment is broader than AI alone. While we benefit from sales into data certifications and technologies that support AI infrastructure, we are also seeing positive effects across our diversified end markets. Investments are being made to support AI are accelerating demand for power management, connectivity, automation and other enabling technologies across a wide range of applications. That impact is increasing semi-doctor and component content across the broader markets we serve. We also see new demand from customers that are deploying AI at the edge. These customers are in our industrial sweet spot, which we are well positioned to serve. Robotics, drones and autonomous systems are still in the early stages of adoption, but each application requires a combination of sensing connectivity, embedded computing, power and thermal management. These are areas where our supplier line card engineering resources, global scale and supply chain expertise to create meaningful value. Now with that, let me turn to the highlights for our businesses. Our Electronic Components business delivered another record sales quarter. All 3 regions grew double digits year-over-year and sequentially. Sales growth was the highest in the Americas, marking its fourth consecutive quarter of year-on-year growth. All end markets showed sequential growth. Year-on-year, aerospace and defense, networking and data center with the strongest end markets. In Asia, sales reached another record high of $3.9 billion, marking our eighth consecutive quarter of year-on-year sales growth in the region. Similar to last quarter, demand increased across all the geographies and end markets we serve, led by data center, transportation, networking and industrial. In EMEA, sales grew both sequentially and year-on-year for the third consecutive quarter. We are seeing improvement with a mix of higher performing end markets such as data center and industrial alongside markets with a somewhat slower growth like transportation. We continue to see positive signs, including improved book-to-bills and our expectations that the region will see continued growth in the second half of calendar year 2026. Within Europe, we also continue to see steady improvement in our embedded business, which creates higher customer relationships and better margins. Customers continue to see the value embedded boards and display bring as a part of our total solutions offering, helping them solve for their product design requirements. Now turning to Farnell. We were pleased with the continued progress in the business. Farnell benefit from improving demand, continued execution against its strategy and the benefits of leveraging Farnell's digital platform and high-service distribution model within Avnet's global relationships and scale. Our PowerOne initiatives continue to create opportunities for both organizations and we are excited by Farnell's trajectory as market conditions improve, particularly in Europe. This quarter demonstrated that our model is designed to generate significant profit expansion as we grow the top line. We delivered meaningful margin expansion and earnings growth while managing our operating expenses. We still have ample capacity in our sales, engineering, digital and distribution infrastructure, and that capacity becomes more valuable as demand improves and market conditions tighten. Our higher-margin IPD business is another example of how we benefit from complexity and the fourth quarter was another record quarter for IPD sales. For the full fiscal year, IPD sales are approaching $5 billion. As AI infrastructure, industrial automation, robotics, drones and edge applications expand, customers need more complete technology solutions. Our ability to bring semiconductor and IPD products together through demand creation, technical support supply chain expertise is an important part of our value proposition. Our Supply Chain Solutions business continues to build momentum as large OEM customers increasingly turn to us to help navigate complex and evolving supply chains. We are expanding our engagement with a growing number of leading OEMs, particularly in markets such as data center infrastructure, networking and transportation where demand trends remain favorable. The strength of our capabilities was recently recognized by General Motors, which named Avnet a 2025 Creative Supplier of the Year, recognizing our relationship, innovation and supply chain support. This award reinforces the value we bring to customers through our global reach, deep industry expertise and ability to deliver creative supply chain solutions. Another good example of the differentiated capabilities within our company is Avnet Integrated Solutions, which helps customers bring complete technology solutions to market by providing system assembly, rack integration, configuration, testing and deployment services globally. One of its larger customers sells directly into the data center market, and we support that growth through a combination of technology solutions, physical integration, supply chain coronation and fulfillment capabilities. While this is only one example, it highlights how Avnet creates value beyond traditional component distribution and participates in high-growth areas where complexity is increasing. As I reflect on fiscal 2026, I am proud of what our team accomplished. But I'm also mindful that success in our industry has earned everything. It is earned through reliability, execution, technical expertise and trusted relationships. That responsibility is something we take very seriously. It is also why I believe our culture matters so much. We have experienced teams who understand the market, stakeholders to customers and suppliers and move quickly when conditions change. That consistency is a real advantage for Avnet. Looking ahead, we remain optimistic but around. Market conditions and demand trends continue to improve. Our book-to-bills in all regions are solidly above 1. Our backlog is healthy and extending, giving us better visibility well into fiscal year 2027. And our diversified go-to-market strategies, end markets and supplier technologies, ensure we are well positioned to benefit from the many of the long-term growth trends shaping the electronics industry. At the center of the technology supply chain, Avnet has never been more relevant. Our capabilities, relationships and global reach position us to support customers and suppliers as demand strengthens across the markets we serve. We are proud of the progress we made in fiscal 2026 and are focused on continuing to execute with discipline as we move into fiscal year 2027. With that, I'll turn it over to Ken to dive deeper into our fourth quarter results. Ken?

Thank you, Phil, and good morning, everyone. We appreciate your interest in Avnet. Our sales for the fourth quarter were a record $8.3 billion, above the high end of our guidance range and up 48% year-over-year. On a sequential basis, sales were higher by 17%. Foreign currency did not have a meaningful impact on our sales growth this quarter. Regionally, on a year-over-year basis, sales increased 55% in the Americas, 46% in Asia and 44% in EMEA. During the fourth quarter, sales from Asia were 47% of total sales compared to approximately 48% of sales in the year ago quarter. From an operating group perspective, Electronic components had record sales during the quarter as sales increased 49% year-over-year and increased 17% sequentially. Farnell also had record sales during the quarter as sales increased 29% year-over-year and 10% sequentially. Similar to last quarter, memory prices increased during the quarter. As a result, approximately 1/3 of both the sequential and year-over-year sales growth was attributable to pricing increases in the memory product category. For the fourth quarter, gross profit dollar grew at approximately the same rate as sales growth or 46% year-over-year. Gross profit margin of 10.4% was up 5 basis points sequentially and was down 14 basis points year-over-year. Electronic Components gross profit margin was flat sequentially and down 25 basis points year-over-year. Farnell gross profit margin was up nearly 400 basis points year-over-year and was up over 200 basis points sequentially, primarily due to a better mix of higher margin on the board component. SG&A expenses were $548 million in the quarter, up $96 million year-over-year and $29 million sequentially. The sequential increase in SG&A is primarily from higher incentive compensation, freight and logistics costs due to higher sales volumes. Our expense discipline continues to drive our operating leverage as a percentage of gross profit dollars, SG&A expenses were 63% in the fourth quarter compared to 70% last quarter and 76% a year ago. SG&A expense as a percentage of gross profit dollars was even lower for our EC business at 56% compared to 62% last quarter and 68% a year ago. We expect that our SG&A expenses as a percentage of gross profit will continue to improve to below 60% before the end of fiscal 2027. For the fourth quarter, we reported adjusted operating income of $318 million and the Avnet adjusted operating margin was 3.8%, an increase of over 70 basis points from last quarter. This represents the fourth consecutive quarter of adjusted operating income margin expansion. Adjusted operating income also grew approximately 2.6x greater than sales compared to last quarter and last year. We expect to continue to drive operating income growth at approximately twice the rate of sales growth supported by our disciplined expense management. By operating group, Electronic Components operating income was $317 million and EC operating margin was 4.1% in the fourth quarter. The 54 basis point sequential increase in EC operating margin was led by the Americas with all regions improving their operating margin sequentially and year-over-year. This is EC's third consecutive quarter of operating margin expansion and is the highest EC operating margin in more than 2 years. Farnell operating income was $45 million, and their operating income margin was 9%, which was up nearly 400 basis points from last quarter. This is the highest Farnell operating margin in over 3 years and is our seventh consecutive quarter of operating margin expansion. Farnell continues to be on track to reach double-digit operating margins before the end of 2027. Turning to expenses below operating income. Fourth quarter interest expense was $66 million, and our adjusted effective income tax rate was 23%, both consistent with expectations. Adjusted diluted earnings per share of $2.28 was a quarterly record for our company and was well above the high end of our guidance. Adjusted diluted earnings per share grew 3.8x greater than sales compared to last year and grew 3.3x greater than sales compared to last quarter. Near term, we expect EPS to continue growing at approximately 3x as fast as sales driven by sales growth and expanded operating margins. Turning to the balance sheet and liquidity. During the quarter, working capital increased $559 million sequentially, primarily due to an increase in accounts receivable driven by the $1.2 billion growth in sales, Working capital days decreased 7 days quarter-over-quarter to 69 days. From an inventory perspective, inventory days improved to 71 days from 77 days last quarter. Our EC inventory days improved below 65 days and Farnell inventory days improved to below 200 days. We expect inventory days to continue to improve for EC, but we expect Farnell inventory to remain around 200 days, reflecting the business' typical inventory turn profile of 2 turns per year. Inventory dollars grew 11% or $600 million, similar to the impact pricing had on sales, more than 50% of the inventory increase was driven by pricing and substantially all of that was memory-related. Inventory net of accounts payable decreased by $821 million compared to last quarter. Inventory remains a fundamental driver of our business. We will continue to focus on making necessary inventory investments to position us to capture the growth opportunities we see in the markets we serve. We ended the quarter with a return on working capital of 19%, exceeding our near-term target of 16%. Continually improving our return on working capital remain a key priority for us coming into the new fiscal year. In the fourth quarter, we used $291 million of cash flow from operations to support $1.2 billion of sequential sales growth. We anticipate using cash in the first quarter to continue supporting sales growth, primarily in the form of accounts receivable. With regards to our capital allocation, in the near term, we expect to prioritize funding our accelerating growth and supporting our dividend. Cash used for capital expenditures was $17 million during the quarter. We are making progress towards our leverage target of approximately 3x, which we expect to achieve by the end of the calendar year. We ended the fourth quarter with a gross leverage of 3.2x, down from 3.6x in the third quarter and with approximately $1.2 billion of available committed borrowing capacity. For the fiscal year, we returned $138 million to shareholders from share repurchases, representing 3.2% of shares outstanding. We also returned $114 million to shareholders in dividends, including $29 million for the quarter. Turning to the first quarter guidance. We're guiding sales in the range of $9 billion to $9.3 billion and adjusted diluted earnings per share in the range of $2.80 to $2.90. Our first quarter guidance assumes current market conditions persist and implies a sequential sales increase of approximately 10% at the midpoint. This guidance also assumes similar interest expense compared to the previous quarter, an effective tax rate of between 21% and 25% and 85 million shares outstanding on a diluted basis. I want to thank our team for driving a solid quarter and fiscal year of improved financial results. We have great momentum coming into the new fiscal year, and we continue to position ourselves to be able to capitalize on the growth opportunities ahead and to continue to achieve new records for both sales as well as earnings in the coming quarters. With that, I will turn it over to operator to open it up for questions. Operator?

[Operator Instructions] Our first question is from Joe Quatrochi with Wells Fargo.

Yes. I was wondering if you could just talk a little bit more about the pricing dynamics that you're seeing. What's kind of embedded in the guide for a memory pricing change perspective? And then on the reported results, can you help us just understand what was the impact on the memory pricing from an EBIT perspective on a sequential year-over-year basis relative to, I think you said it was about 1/3 of the revenue growth?

Yes. Thanks, Joe. I'll start and then turn it over to Ken for some of the percentages as well. So thanks. Well, as a general statement, even outside of memory, we're starting to see a broader expansion of price increases across other commodities. So we mentioned that last quarter is the lead times continue to extend our forecast to extend we'll start seeing some ASP inflation. And it's a -- it's pretty broad, not across the board everywhere, but it's pretty broad. And then time of the question, does it impact our margins or impact our GP dollars. A lot of times, we passed the pricing through to the customer. We don't typically mark it up beyond that price increase. So we get some ASP upside and maybe some GP dollar upside but not necessarily in the percent, if you will. But to date, most of it has really been in memory. But starting this quarter -- end of last quarter, this quarter will start to hit other areas. And then there's other parts of the portfolio, Joe, you got to remember that are still price negotiations, we've got some deflation there, too. So it's not all inflation. So there is some deflation happening as well. Ken, do you want to...

Yes. I would say just to ramp at that Phil said, I think we would see that there's other price increases happening or being announced, but they're much more modest than what we saw in memory. I would say then the guide assumed modest or minor price increases going into next quarter, we'll continue to monitor the situation and give clarity there. From a -- how much the impact EBIT or operating income we would say about 1/3 of that GP dollar growth also came from pricing. So there wasn't any meaningful difference between the sales impact and the GP dollar impact. And I think just in general, I think our operating income dollars, our GP dollars dropped through about 2.6x. So think about it as the operating leverage benefited not only from the volume growth but also from the pricing in roughly the same mix as what we saw in the GP dollars.

Okay. And then maybe I think you -- I think I heard you say greater than 50% of the increase in inventory was more or less related to kind of pricing of the inventory or pricing of the mix. Can you talk about just like the unit increase of inventory? And then how do we think about the unit increase of inventory as we start to look into fiscal '27 or into the September quarter?

Yes, that's right. About half of the increase came from pricing specifically in memory. And again, some of that's just timing differences, right, in terms of when we got product and things of that nature. I think, in general, you're going to need more units to support the higher volumes, but we're turning it faster. So I think our commentary was you expect to continue to see some improvement at least in the EC business on the inventory days. as we continue to increase our working capital velocity. But I think the inventories as healthy as it's been no real problems in terms of even some of the stuff that was kind of excess is kind of freed up. So we're in really good shape, I think, from a quality of inventory and continue to see things get tighter, right? So as things get tighter, we want to make sure we've got inventory on the shelf to take advantage of that opportunity to lead times extend.

Joe, just additional. We work with all of our customers. As you know, in the forecasting as well as obviously balancing that with our suppliers' needs and bounce that back and forth. So from a unit standpoint, we're in good shape from an inventory standpoint to Ken's point, the inventory is healthy. But we're constantly though meeting with our suppliers to be sure we got the right positioning of their inventory of the top runners as well, and we're backing with [indiscernible] supplier in the weeks of inventory, okay? So we're still investing in inventory, big time, as a matter of fact, is very critical. And and booking that balance with the suppliers. And I do know in Farnell, where we said the inventory's base improved as well. The SKU count actually year-on-year is up somewhere around 2% to 3%. So we'll continue to add inventory there. So this might be a different mission and broader, which is what we want for the high service business.

Our next question is from William Stein with Truist Securities.

Great. Congrats on the very good results on the huge guidance you're providing Phil, I'm hoping you can talk to us a little bit about sort of the positioning in the cycle, right? You just post posted revenue up, I don't know, about 34% year-over-year. It's the fourth quarter of year-over-year growth. What inning would you say we're in?

Thanks, Will, for the comments, first off. [indiscernible] is off on the call. It's -- yes, we're going to fourth quarter. It's actually almost 50% year-on-year this quarter. It was 34% last quarter growth. And by the way, for Asia, it's 8 quarters, Will, which is extended already, right, and still looking very bright. So it's tough to call. I'd say we're end of the spire you talk to, but for most part or the customers, it feels like maybe in the third or fourth inning, maybe something on those lines are going to put it in baseball terms. For sure, not the eighth inning. So I probably say front 1/3 of the baseball game to third within [indiscernible]. Sort of a analogy. So I'm hoping exactly what the need, but I think it's a little bit of what we're seeing from a backlog bookings, et cetera, just -- it seems like it's going to last for a little while.

Okay. Maybe the other thing I'd like to look at is the margin performance. I think you explained why gross margins make -- I mean, they were up sequentially, but maybe a little bit disappointing considering the magnitude of the upside, why that wouldn't have sort of flowed through the better result. I think what you've said is that price increases have sort of deflationary effect on that. But as we progress through the cycle, where should we anticipate gross and operating margins traveling to and maybe settling out. I think historically, you've talked about a 5% or greater than 5% operating margin target. You're still nowhere near that really you've gotten closed before. How should we think about expansion over the next few quarters?

Well, I guess the short answer to your question would be continued steady progress. I think if you look at the past 4 quarters, 30 basis points this quarter was about 60 basis points expansion, specifically on EC. In general, I think we expect to continue to see some modest uptick in Farnell's gross margins as they get a higher mix of on-the-board components. For EC, that answer partially depends on where the growth is coming from. We've seen good progress on operating margin because of the West, Europe and the Americas has recovered, but Asia is still growing really strong. So that regional mix still has an impact on gross margin. So I would temper any expectations for expansion of gross margin on EC, but continued steady progress in that historical range we've seen over the past year. And I think the guidance would imply that progress.

But obviously that's the -- the target is contingent improvement working towards [ 5 ]. And we'll -- as we've been saying, we need a west to get stronger, and that's starting to happen, which is great. So the Americas, we're seeing improvement in top line and bottom line as well as in Europe, which is really good. That's our most profitable region. So Europe is definitely rebound good backlog and positive book-to-bills as well. And then, of course, as Ken mentioned, Farnell really accelerated to 9% operating margin. They get that to 10%, 11%, 12% that - that should happen and we'll see where it plays out.

By the way, I want to correct myself. I think you corrected me though, Phil. I was looking at my old model to look at year-over-year growth, you're right, 47 you just posted and maybe the fifth quarter of expansion and you're guiding to even better. So that's great. But I want to see if I can ask one more, please. In December, I think total company revenue growth is typically down a couple of percentage points. I know you're not guiding more than a quarter out. But as we think about where we are in the cycle, and as we think about price increases, is it reasonable for us to think December comes in at seasonal above or -- or is there a concern that maybe there's double ordering or customers trying to get ahead and that there could be a pause in December. What's your current thinking as to what might drive a variance between typical and this December?

Yes. Yes. Thanks, Will. I would never correct, you will. But first, the word typical is -- that's what we talked about internally too. It's our typical seasonality and go back and look at it. It's kind of everything has been somewhat thrown out the door on typical anymore because of -- even it's COVID. But looking at the numbers now, even last year, December quarter was rather strong for us. You are right. Historically, December quarter will be stronger in Asia, weaker in the west, and you have a mix issue. But -- so that's first off. So yes, just like Chinese New Year as our Lunar New Year in March quarter, we grew in Asia Pac for the first time significantly in the market. So this whole historical typical is really, really tough to call it. As you see it right now, as you look at the out guiding, but if we look at the backlog and the book-to-bills and what we're talking to the teams about in December is actually looking pretty healthy but without giving an exact guide, it's actually looking pretty good.

I'd say better than seasonal, but probably not double-digit sequential growth. .

Yes.