Q2 2024 Summary
Published Jan 10, 2025, 5:10 PM UTC- Strong growth in wireline business driven by AI demand: For the first time in six quarters, Keysight's commercial communications orders grew, with the wireline business experiencing strong double-digit growth due to increased demand from AI data center applications. This indicates Keysight is benefiting from the rise of AI and is well-positioned to capitalize on this trend.
- Strategic acquisitions enhancing growth opportunities: The acquisition of Spirent Communications is expected to be accretive to gross and operating margins post-integration and expands Keysight's served addressable market in network analytics. Additionally, the ESI acquisition has exceeded initial plans, providing differentiated capabilities in simulation and emulation, and is poised to accelerate revenue growth.
- Confidence in long-term growth strategy and effective cost management: Management remains confident in their long-term growth expectations, focusing on investing in R&D and increasing their software and services segment, which now accounts for roughly 40% of the company. They are also managing operating expenses effectively by reducing headcount and streamlining operations while maintaining R&D investments to position the company for future growth.
- Prolonged declines in certain business segments: The Electronic Industrial Solutions Group (ISG) has experienced four consecutive quarters of declines, indicating ongoing weakness in key markets.
- Delays in achieving long-term revenue targets: Management acknowledges that their longer-term revenue growth targets may be pushed out due to declines in fiscal 2024, with recovery dependent on uncertain market timing.
- Increased inventory levels and cash flow impacts: The company has significantly increased inventory over the past couple of years due to supply chain issues, and reducing inventory levels will be challenging without a market recovery. Additionally, free cash flows are impacted by restructuring and M&A integration costs, posing short-term drains on cash flow conversion.
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Order Growth Confidence
Q: What gives confidence in second-half order growth?
A: Management expects modest order growth in the second half, driven by stabilizing demand and seasonal upticks, particularly in Q4 due to aerospace defense business and semiconductor spend. They see signs of stability with Wireline inflections and sequential growth in the ISG business. Their pipeline supports this expectation. -
Spirent Acquisition Rationale
Q: Why acquire Spirent now?
A: The Spirent deal offers a strategic fit and SAM expansion opportunity, enhancing their portfolio in service assurance and network analytics. It's expected to create value for customers and shareholders, being accretive to gross and operating margins post-integration. -
Managing OpEx
Q: How are you managing OpEx amid market volatility?
A: They expect total OpEx spending, excluding acquisitions, to be down about 3% year-over-year, with savings coming from SG&A. They've reduced headcount by about 5%, focusing on streamlining operations and maintaining R&D investments to position the business for future growth. -
EISG Segment Outlook
Q: When will the semiconductor business improve?
A: The semiconductor business, about 10% of total Keysight, is expected to show improvement towards the end of the calendar year as delayed fab expansions begin to see CapEx spending. Meanwhile, interconnect technologies present growth opportunities due to increasing data center demands, and Keysight's portfolio is well-positioned to capitalize on this. -
AI Data Center Opportunity
Q: How does the AI data center opportunity compare to 5G?
A: It's still very early days for the AI opportunity. While difficult to compare to 5G, Keysight is engaging in collaborations across silicon, real-time training clusters, and interconnects. They see the ecosystem of customers expanding over time and are booking some business today. -
ESI Acquisition Performance
Q: How is the ESI acquisition performing?
A: The ESI acquisition has exceeded initial plans, with strong culture fit and seamless teamwork. The focus is on revenue acceleration by leveraging Keysight's reach in aerospace defense and the Asian automotive market. Teams are working together, and progress is being made in the sales funnel. -
Free Cash Flow and Working Capital
Q: What drove softness in operating cash flow?
A: Seasonal higher tax payments and timing of revenue affected collections, leading to softer cash flow this quarter. Increased inventory due to supply chain investments has also impacted working capital, but there's a path to reducing inventory over time, tied to market recovery. -
EISG Margins and Revenue
Q: Will EISG margins improve in the back half?
A: Operating margins in EISG may remain range-bound due to revenue declines and the impact of ESI's seasonality. Even as orders improve, revenue may face headwinds because some business in EISG has a higher percentage of long-dated backlog items. -
Restructuring Costs
Q: Did you take expanded restructuring actions?
A: No expanded actions were taken. The higher restructuring cost included a modest legal settlement within the quarter, which skewed the number higher. -
Long-Term Growth and M&A Strategy
Q: How will you achieve long-term revenue targets?
A: Management remains confident in long-term growth expectations but acknowledges that timelines may push out due to the decline in '24. They focus on investing in R&D, increasing software and services (now 40% of the company), and are selective in M&A, prioritizing organic growth.