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Morningstar | China and Autos May Give TE Connectivity a Bumpy 2019; Lowering FVE to $87 from $92

TE Connectivity announced first-quarter fiscal 2019 results that were roughly in line with our expectations as revenue and earnings from continuing operations were near management’s prior guidance. However, management signaled that the market softness presaged in the previous quarter’s call was not subsiding and now expects China and the automotive market will experience headwinds throughout the year. After incorporating the guidance for the second quarter and the remainder of the fiscal year, we are lowering our fair value estimate to $87 from $92. Shares traded down 3% after the update and are currently trading in 4-star territory after our update. We do not yet have reason to alter our long-term view of the narrow-moat company and its prospects, though we acknowledge that a trade war may yet take a greater toll in the near term.

Revenue in the quarter was $3.35 billion, roughly flat with the year-ago quarter as sales from industrials and communications helped to offset greater-than-expected weakness from the automotive market. Transportation sales decreased by 2% year over year as as both China and European automotive markets lagged in the quarter. That said, content growth remained strong, helping to mitigate a 7% decline in total automotive unit production to a 3% decline in TE Connectivity’s automotive sales (and 1% organic decline) year over year.

Industrials grew steadily at 5% year over year and will likely continue to be the saving grace segment throughout the year due to its limited exposure to China. The firm’s ongoing strength in medical, aerospace, and defense helped to mitigate exposure to reduced investment in factory automation during the quarter. While book-to-bill for the company as whole was less than 0.99, demand remains strong in this segment with a book-to-bill of 1.07. If this demand starts to decline due to an even greater reduction in factory automation, it may signal longer-term weakness in the firm’s key automotive market.

Management expects total revenue to be flat sequentially in the second quarter, which would represent a year-over-year decline of 6% with currency headwinds of roughly $155 million. Sales from the transportation segment will remain a sore spot, with management currently forecasting Chinese automotive production to decline by 10% during the quarter. Similarly, sales from data center, devices, and appliances are also expected to be negatively impacted by China. Finally, $1.27 in adjusted earnings per share are expected in the upcoming quarter, which would be roughly flat sequentially but a 10% decline year over year.