THE HEDGEYE EDGE
Our review of Corning (GLW) yields multiple growth drivers across its various business segments, setting up our view of a large cap stock that can grow m-s-d% with a fair bit of consistency in the coming years, whereas the Street sees it as a declining or 0% growth asset.
The bear case revolves entirely around the TV exposure, which makes up ~80% of the Display segment. That division generates 37% of revenue, and last year generated north of 50% of net income.
In our view, there is a natural economic pricing medium for the industry to stimulate growth, and the last five years have seen price declines well in excess of that medium due to the overcapitalization of the display glass industry in the 2008-2012 period. We believe this hangover is behind the company, as our analysis demonstrates that invested capacity generates less than half of the incremental area growth of the peak in 2011, while TV glass size shipments have only grown, and unit growth may be nearing a tipping point in the long term replacement cycle, setting up for much tighter glass pricing conditions in 2017-2019.
The long term erosion of Display margins has had an overwhelming impact on the company, as it created a multi-year correction in OCF margins. If we are right on seeing flat-up margins in Display in the coming 1-3 years, OCF margins will produce OCF at the high end (or above) the company’s long term guidance range setting up for ~$2+ per share in FCF for an innovative technology company growing nicely in the m-s-d% range. We see this as attractive, even factoring the recent run in the stock since we began writing about Corning.
In the interim, data points in the Optical segment continue to ameliorate, and there appears to be a groundswell of activity at the carrier level to take the next leap in terms of deepening the concentration of fiber in their networks and for ultimately accelerating the replacement of copper. Corning is the #1 leader in the market, with the best technology, the #1 customer relationships, and customers see Corning more and more as a strategic partner rather than as a vendor, as can be seen by Verizon and Corning’s recent announcement.
We continue to think there is a lot to like in this unwanted large cap stock that faces ambivalent – at best – sentiment from both the buy and sellside.
INTERMEDIATE TERM (TREND)
The upside will come from better than anticipated Optical revenue in 2H17, re-accelerating Gorilla Glass revenue exiting 2017 and into 2018, and better than expected pricing and margins in Display in 4Q17-2Q18. As models get revised higher, the $2+ FCF per share estimate will come into view driving re-valuation of the equity as a growth + FCF generative company.
In the meantime, we are paid to wait given buyback plus dividend in the $2.7b range, in the range of 10% of the market cap returned to us in cash, AND, with the Street estimates still not correctly factoring EPS growth in 2017 given an 8-11% growth factor just from reduced share count.
LONG TERM (TAIL)
The long term question is whether or not Corning is still a growth company after all these years. The answer to the question lies in understanding both its market positions, as well as its underlying innovation engine. In Display the company is exposed to the TV market, and the long term direction of the TV market will likely be dictated by the TV innovation and replacement cycles over the long run. But Corning is the #1 leader in that segment, with an early lock on major new glass size transitions, and dominating in major value capture opportunities.
Corning is also #1 in Optical with a 5-6 year growth trend likely ahead, at least, and in Gorilla Glass they are virtually alone in the market. We don’t have a lot of granularity on the Life Sciences business, which was built mostly inorganically, nor the Environmental business, which is driven by regulatory changes, but we think both add some degree of long term optionality to the story.
Bottom line, with better revenue growth now, better cash flow ahead, and ongoing massive cash return to investors, we think the long term sets up well to benefit from a revaluation of the stock from pure cyclical to cyclical growth.
ONE-YEAR TRAILING CHART
