Because they are by a wide margin the largest glass supplier to the display industry, Corning’s earnings are closely followed by many in the business, and not just investors. Corning issued results of an improved business today, and in this article I’ll cut through some of the issues.
The first issue with Corning earnings is sorting through the GAAP results vs. “Core” results reported by the company. Many news outlets and many automated sites will report only the GAAP results, which is intended to avoid manipulation by creative corporate accounting. In Corning’s case, though, the GAAP results have lately been overwhelmed by special factors: in Q2 there was a $2.7 billion gain ($2.50 / share) related to the sale of the Dow-Corning JV, and a $791 million loss ($0.73 / share) related to the change in value of ¥/$ hedges that Corning uses to stabilize their LCD business results. These two factors dominate the GAAP result compared to the Core earnings of $434 million ($0.37 / share). So while the GAAP reporting is useful to keep all corporations on a level playing field, Core results give a better insight to the health of the business.
When looking at the Core Net Income on a year-over-year basis, there is a striking difference between the corporate total, down 17% from $522 million, and the EPS down only 3% from $0.38. This testifies to the heavy share buybacks Corning has conducted in the last 12 months. Display core earnings of $237M represented 55% of corporate core profit (down only slightly from 56% a year ago), but down 18% compared to Q2 2015, illustrating the key problem in the industry: insufficient growth to offset the price declines. In their detailed 10-Q statement Corning reported that glass volume increased in the low single digits in Q2 compared to 2015, while prices declined “slightly higher than 10%”.
For the full year 2016, Corning held to their outlook of 8-10% area growth at retail, and mid-single digit growth in glass demand. This would imply a very strong 2nd half, up 10% or more from 2015. Q3 is expected to be up mid-single digits in volume QoQ, which would be +9% YoY by my reckoning, and would imply Q4 at least flat with Q3. Although some might consider that “normal” seasonality should mean that glass demand would peak in Q3 to prepare the value chain for the Q4 holiday demand surge, in most years Q4 glass demand exceeds Q3: since 2005, only two years have seen Q4 market declines, 2008 and 2015.
Corning CFO Tony Tripeny cited strong TV demand in North America and Europe as drivers of the rebound; this is consistent with my thesis about TV (see my article “Can 4K Drive Replacement Cycle Growth in TV?” from 7/24). Tony specifically cited strong screen size growth, greater than 1.5” average screen size, as an area driver, and this too is consistent with my outlook.
On glass pricing, Corning continues to use the word “moderate” and strains to apply superlatives like “more moderate” and “even more moderate”. The YoY price decline reported in the 10-Q implies “slightly higher” than 2.6% per quarter on a compounded basis, and Tripeny later described it as “low-single-digits”. As one caller pointed out, this means that in dollar terms panel maker costs for glass have actually been increasing in the first half of 2016, since the yen has strengthened from about 120 in January to 105 today.
Nevertheless, Tripeny did not expect additional price pressure; in his outlook section he described the Corning outlook as indicating that “glass supply should remain tight for the balance of the year, especially in the large gen sizes, as a result of strong TV demand.” (emphasis added). I find it highly significant that Corning used the word “tight” in their outlook. In my time at Corning, from 2012-2015 I worked every quarter on the material for the earnings call, including the script and Q&A. Corning has a very rigorous review process for the script, involving all the leadership of the business and the corporation. I cannot remember when Corning ever described tight supply; in April 2016 and for many quarters prior to that they stated “we believe that glass supply and demand will remain balanced”. So a change in this language is a clear signal to the industry that LCD growth may be constrained by glass supply. If this bears out, based on history (the last glass supply shortage was 2009-2010) we can expect panel prices, and panel maker profits, to increase in the coming quarters.