The Discipline of Market Leaders by Michael Treacy and Fred Wiersema holds that successful companies must focus their expertise in one of three areas (1) Operational Excellence, (2) Product Leadership, or (3) Customer Intimacy. Naturally a company doesn’t forgo the other two, but the thesis is it must focus on and master one to be a successful leader. Corning’s (NYSE:GLW) focus is definitely Product Leadership. This article acknowledges its commitment to long-term innovation and will discuss shorter-term financial impacts.
Corning Gorilla Glass: One of Many Glass-Related Products
Corning, Inc.’s Gorilla Glass has been included in over 5 billion devices such as smartphones, tablets, laptops and wearables like smartwatches designed and sold by over 40 different Original Equipment Manufacturers (OEMs). These include leading brands like Samsung (OTC:SSNLF), Acer, Sharp (OTCPK:SHCAY), Sony (NYSE:SNE) and many less-known brands. Apple (NASDAQ:AAPL) is not listed on the Corning website as an OEM using Gorilla Glass and little or no public information is available about its use. However, Corning has recently received $200M from Apple’s new manufacturing investment fund.
While Gorilla Glass is a high-profile Corning product, it contributed less than 9% of total 2016 revenues of $9.390B (GAAP revenue).
Corning does business through five product segments which have different customers and different competitors (Gorilla Glass is in the Specialty Materials segment).
Source: Corning 2017 Proxy Statement
Corning, with revenue of close to $10B annually and a market cap of $28B, can be classified as a large cap company. It is 298th of 500 on the Fortune 500 list based on revenue. While it is an innovator in glass-related products, it is normally classified in the Industrial Sector and Electronics and Electrical Equipment Industry due to its diversification of glass-related products noted above.
Corning has produced world-class inventions and has a robust innovation program which will result in new products for the 21st century. A short summary of the premier innovation program is provided in a section below. The focus of this article is the short-term – the next one to two years.
Let’s start with a summary of competitors. From the 2016 Corning 10-K:
“Corning competes with many large and varied manufacturers, both domestic and foreign. Some of these competitors are larger than Corning, and some have broader product lines. Corning strives to maintain and improve its market position through technology and product innovation. For the future, Corning believes its competitive advantage lies in its commitment to research and development, its commitment to reliability of supply and product quality and technical specification of its products.”
I would classify Corning as having an R&D, innovation and product culture vs. a marketing culture (The Discipline of Market Leaders). This is all fine, but the top line in the income statement is revenue led by marketing.
With five diverse segments, the competitors range from small unique companies to large multinationals. Many of the competitors are based in Asia and are a holding of a larger parent company. A sample list of competitors follows.
Display Technologies competition includes large Asian LCD manufacturers:
Samsung Electronics/Samsung Display, Ltd. Sharp Corp. LG/LG Display, Ltd. (NYSE:LPL) Japan Display, Inc. (OTCPK:JPDYY) Nippon Electric Glass (OTC:NPPEY)
As an example, Nippon Electric Glass, known as NEG, is a $2.4B revenue company with 20% of the world’s LCD market share.
Optical Communications competitors are many and diverse. Ten cable making groups have 63% of the world market. The primary competing producers of the Optical Communications segment are CommScope (NASDAQ:COMM) and Prysmian Group (OTCPK:PRYMF), which is headquartered in Milan, Italy.
Gorilla Glass competitors include:
Asahi Glass of Japan (OTCPK:ASBRF) Schott AG of Germany Nippon Electric Glass
So what this means is that Corning has many competitors throughout the world which have an impact on the Sales, Marketing and Business Development organization structure and effectiveness. These costs are generally rolled up into the selling, general and administrative (SG&A) line in the income statement. Corning’s SG&A is 16% of revenue. SG&A normally includes sales, marketing, finance, HR, compliance, etc. The sales and marketing component is not specifically identified. SG&A/revenue varies widely depending upon the business and industry. It can range from 5% to 30%. Details of Corning’s Sales, Marketing and Business Development organization and approach are not publically available.
Business Segment Near-Term Growth Prospects
From Morningstar’s (Premium Membership Content):
“We think the company is well-positioned for growth in the optical fiber business, as carriers and data center operators seek to improve network capacity. However, heavy customer concentration along with stiff competition in the optical communications space has resulted in weaker profitability than in the display glass business. Beyond optical, we think Corning’s environmental technologies business stands to benefit from increasingly stringent emissions regulations in the U.S. and European markets, resulting in renewed demand for its filter products. Further, we are optimistic of the growth in Corning’s specialty materials segment as the company expands its leadership position in protective coverings via Gorilla Glass for smartphones and PCs while also extending its presence into adjacent markets such as wearables.”
An Argus Analyst report available to Fidelity Investments private clients notes that while Display Technologies is the largest segment, near-term growth is expected to come from Optical Communication – fiber optics and 5G utilization for smartphones and other connectivity. It also notes that Specialty Materials (Gorilla Glass) is showing signs of growth.
Recent financial data has been mixed. Let’s start with the income statement and then look at the balance sheet.
Overall growth rates have not been stellar and 2015 was a dip from 2014. A three-year revenue growth rate of 20% is 6-7% per year, mid-single digits – good, not great.
However, the last six quarters have resulted in the earnings beating the analyst consensus.
Source: Thomson Reuters
A one-month stock chart:
Source: Yahoo Finance
The balance sheet is generally good. Long-term debt is $4B (Sept. 30, 2016).
Cash and cash flow has been well regarded to cover dividend, dividend growth and stock buybacks (The current dividend yield is 1.9%).
Source: Jefferson Research
Corning updated its Strategic Plan (Framework) in June 2016:
“The Strategic and Capital Allocation Framework consists of two primary actions:
Return more than $12.5 billion to shareholders through share repurchases and increased dividends. As part of this plan, Corning intends to target an adjusted debt-to-EBITDA ratio of two times, and to reduce its global cash to approximately $2 billion. Invest approximately $10 billion in Corning’s focused portfolio. Over the four years, Corning will concentrate its RD&E investment, capital spending, and strategic M&A on a cohesive set of 3 core technologies, 4 manufacturing & engineering platforms, and 5 market-access platforms. Corning, already a leader in these areas, believes its focused-portfolio approach will allow it to generate substantial growth and returns for investors.”
80% of its focus is on the three core technologies, four manufacturing & engineering platforms, and five market-access platforms. This will have a positive impact on sales focus and cost effectiveness.
Weeks also stated that the company expects to increase dividends by 10%/year in 2018 and 2019.
Other financial data of note:
Stock buybacks have decreased outstanding shares by 29%. Dividend coverage of 3.8. Free cash flow of $980M is near the top of its industry. Gross margin (TTM) is at the 80% projectile of its industry – very good. Long-term debt/equity is at the 38% projectile of its industry. The revenue/employee of $235,000 is a respectable figure. Debt-to-equity ratio is 27%, indicating the debt is at an acceptable level. Interest coverage by earnings is 16x. Corning’s profitability recently improved as the current return on capital of 15.5% exceeds the 8.8% average return over the past three years (Source: EVA Dimensions).
Dividends have increased during the past six years.
So all in all 2016 resulted in a very good financial state.
But an unknown and worrisome activity is that in the last 90 days, insiders and officers have sold shares.
Source: Thomson Reuters
So why did they sell? Were they locking in profits from the stock price rise? Do they know something we don’t about future earnings? Did they use the money to buy Christmas gifts? It’s most interesting Wendell Weeks sold $7.8M worth. By the way he has serviced as the chairman, CEO and president (all three roles together) since 2007. He joined Corning in 1983.
Corning is committed to growth through innovation and has a track record of 165 years. It typically invests more in R&D per revenue than its competitors.
Research and development costs totaled $637 million in 2016, about 7% of revenue. That’s a healthy portion. It will invest $10 billion in R&D, capital expenditure, and M&A through 2019. In addition to R&D, Corning has been in a focused acquisition mode.
The Innovation Model
There are 17 Global Labs in the US, Russia, China, India, France, Taiwan, Korea and Germany.
What it Takes for the Stock to Appreciate
Corning has little if any aftermarket service business like General Electric (NYSE:GE) which has a stream of revenue servicing jet engines after the sale. In Corning’s case, it is pretty much “one and done”.
However, Corning is fed by innovation. New products such as automotive windows and screens, architectural glass, and pharmaceutical packaging will fuel the growth. In the short term, earnings growth can be driven by a combination of the individual business segment growth (e.g. fiber optics), increase in market shares, product price appreciation and cost reduction. Demand for Gorilla Glass 5 and fiber should be a near-term benefit. Perhaps the Valor Pharmaceutical glass packaging will add revenue in the near term.
Corning has more upside potential than downside risk. It can be a long-term holding based upon the innovation thesis. In the short term, it can possibly obtain increased revenue. The CEO has promised dividend increases and stock buybacks. This is a buy, watch and hold story. The fourth-quarter 2017 earnings conference call and webcast is on January 30, 2018. Stay tuned.
Disclosure: I/we have no positions in any stocks mentioned, but may initiate a long position in GLW over the next 72 hours.
I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.
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