GLW - Corning: Supportive Megatrends Coupled With A Recovery Story

2023-10-17 03:37:23 ET

Summary

• Margin leverage potential exists due to right-sizing staffing and price actions in the Display segment.
• Corning has an underappreciated product portfolio with a recovery story supported by client destocking activities.
• A solid balance sheet, best-in-class R&D team, supportive valuation, and tasty yield make GLW a clear buy.

Given Corning's recent stock price underperformance, we decided to deep-dive into the company's latest news ( GLW ). First of all , " For more than 170 years, Corning has combined its unparalleled expertise in glass science, ceramics science, and optical physics with deep manufacturing and engineering capabilities to develop life-changing innovations and products. " Driving innovation for a two-century-old company is never easy; however, we positively report how Corning is consistently advancing in new technology solutions across its diversified product portfolio. For this reason, we remain overweight as we see the company very well-positioned to strive in mega-trends in the medium-long term horizon. As a reminder, in our initiation of coverage , we emphasized how the company was an IRA beneficiary given Hemlock's positive growth trajectory, and we also detailed the electric vehicles' upside as well as the 5G roll-out. To support our investment thesis, we should also include the management comments that reported how 50% of the company's business is at recessionary levels.

There are three themes to mention today:

1. Firstly, Wall Street has a short memory. In May 2023, Corning announced a 20% price increase in the display glass segment. The global cost pass-through " will impact all regions, compositions, and glass Gen sizes beginning " and will start in Q3 2023. Our internal team is forecasting flattish sales sequentially quarterly as well as compared to last year; however, with lower volumes and a higher price, we derived a quarter EPS of $0.47. As a reminder, the company's Q2 core EPS was $0.45. Here at the Lab, we are modeling price actions in the Display segment in Q3 but also in Q4; as margins start to roll out, Corning's 40% gross margins might be now achievable; however, in the short-term horizon, we are still forecasting a gross margin base case scenario in the range between 38% and 39%. Looking ahead, we believe Wall Street is not considering a margin uplift potential. Aside from a lower inflationary pressure, a few growth drivers should support top-line sales and margin returns for an additional 150-200 basis points. As mentioned, much of this operating leverage will come from gross margin development as Corning has right-size its staff during COVID-19. During the pandemic outbreaks, to keep production in place, the company was overstaffed. According to our research, this evidence started to be displayed in the Q2 results, with the company reporting the following : " core gross margin of 36.2% and core operating margin of 17.5% increased sequentially by 100 basis points and 200 basis points, respectively, reflecting pricing and productivity improvement actions ".
2. Aside from the positive outlook in EV and Hemlock polysilicon business, here at the Lab, we believe that Corning has an upside potential on Artificial Intelligence. In detail, regarding AI, we positively report that data centers are 3-5x more fiber-rich. In addition, data centers are also made of glass. The company is also addressing pharma supply needs with sustainable products. We are not playing the ESG upside; however, it is essential to consider the latest announcement that Viridian Vials, CO2, and glass are reduced by 30% and 20%, respectively. Again, the company disclosed its latest GORILLA glass. " Smartphones are the center of our digital lives " and require higher resistance. In a survey , Corning communicated that 84% of consumers cite durability as the first purchasing consideration. As a reminder, Corning Gorilla Glass is into more than 8 billion devices. With the new update, we believe that Corning will likely increase its market share penetration, and once again, the company's internal R&D lab proved to be an internal engine of innovation and product development;
3. On a negative note, in Q3, the company will note growth as previously expected. Orders in the optical segment need to pick up, and a few clients reported that before moving forward, they need to complete full destock activities. Therefore, part of Corning's growth anticipated for H2 now passes to 2024. Even if the market is not favorable, pricing a few Corning end-markets, we should remember the company's past track record :

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