TE Connectivity Earnings: Strong Results Don’t Alter Long-Term Fundamentals; Cloud Weakness Lingers

We maintain our $125 per share fair value estimate for narrow-moat TE Connectivity TEL after it reported strong fiscal second-quarter results. Sales and earnings came in above our expectations, but our long-term forecasts are unchanged. TE benefited from lower-than-expected foreign-currency headwinds and some pockets of demand strength in the quarter that we don’t see as durable fundamental catalysts. Pricing was also a benefit, and we see this as a bright spot going forward. Demand continues to look healthy in the automotive and industrial markets, while the communications market remains challenging. We see shares as fairly valued, and would point investors to the more-discounted, moaty components names.

Fiscal second-quarter sales rose 4% year over year and 8% sequentially to $4.16 billion, well ahead of guidance. Transportation sales are TE’s largest driver, and rose 7% year over year thanks to broad-based strength. TE remains a commanding force in electric vehicle components, which enables it to outperform stagnant vehicle production as EV adoption rises. Industrial sales had a strong quarter with 11% growth year over year, but factory equipment showed some pockets of weakness. Communications sales dropped 21% year over year and 7% sequentially behind continued cloud customer inventory digestion and slower consumer purchases. We see continued weakness for this market through fiscal 2023.

Gross and operating margins were largely flat from the fiscal first quarter, but non-GAAP operating margin declined 240 basis points year over year. TE’s pricing actions to combat inflation are just kicking in, and we see margin improvement through the rest of the year back toward healthier levels.

Fiscal third-quarter guidance calls for sequential sales moderation but margin expansion. A sales midpoint of $4 billion implies modest year-over-year and sequential declines, which management attributes to light inventory digestion in China for transportation customers.