Capital Allocation Update

Aug 2, 2021

Slides

Good afternoon. My name is Valerie, and I will be your conference facilitator today. At this time, I would like to welcome everyone to Micron's Investor Update. All lines have been placed on mute to prevent any background noise. After the speakers' remarks, there will be a question and answer period. It is now my pleasure to turn the floor over to your host, Farrah Ahmad, Vice President of Investor Relations. You may begin your conference. Hello. Thanks for joining us today. On the call with me today are Micron's Chief Executive So, Sanjay Mehrotra and Micron's Chief Financial Officer, Dave Zinsner. Today's call will include a presentation followed by a brief Q and A session. We ask that you limit your questions to the topics covered in today's presentation. We will not be answering any questions that aren't related to the topics covered in today's call. As a reminder, the matters we will be discussing today include forward looking statements. These forward looking statements are subject to risks and uncertainties that may cause actual results to differ materially from the statements made today. We refer you to the documents we filed with the SEC, specifically our most recent Form 10 ks and Form 10 Q for a discussion of risks that may affect our future results. Although we believe that the expectations reflected in the forward looking statements are reasonable, we cannot guarantee future results, levels of activity, performance or achievements. We are under no duty to update any of the forward looking statements after today's date to conform these statements to actual results. I'll now pass it off to Sanjay. Thank you, Farhan. Good afternoon, everyone. A short time ago, we issued an 8 ks and press release Excluding Micron's decision to adjust our capital allocation plan and to introduce a quarterly dividend of $0.10 per share. Today, I would like to share how we arrived at this major milestone. I will start with a quick recap of the incredible transformation Micron has undergone over the last few years, and then Dave will discuss our financial strength and how it enables our updated capital allocation strategy and dividend policy. So starting with Micron's transformation. The new Micron is stronger than ever before. Our industry is benefiting from strong secular demand across end markets and slowing supply growth. Meanwhile, Micron has established ourselves as a technology leader, strengthened our product portfolio and greatly enhance our fab network and our competitive position. Moreover, the Micron team is focused on delivering innovation for all with a focus on sustainability. All of this provides us the confidence to initiate a dividend. The demand for memory and storage has evolved dramatically from the PC era in the early 2000s. Today, demand has diversified across end markets from the data center to the intelligent edge to feature rich devices. $38,000,000,000 of annual industry revenues during the PC era grew to $62,000,000,000 in the mobile era And the strong growth of the cloud and the data economy has propelled this figure to $120,000,000,000 in calendar 2020. Additionally, within end markets, growing memory and storage content per device has created an opening for the DRAM and NAND industry to capture a greater portion of the end unit bill of materials. As a result, DRAM and NAND revenue growth is outpacing the growth of the semiconductor industry. 20 years ago, the DRAM and NAND TAM used to be around 10% of the semiconductor industry TAM And this figure is now approximately 30%. Looking ahead, we expect DRAM and NAND TAM growth to continue and reach $183,000,000,000 in 2024. Turning to supply. Over the last decade, the memory and storage industry has seen structural changes that have improved the industry's supply dynamics. These changes include the slowing of Moore's Law, industry consolidation and a greater focus industry wide on ROIC and capital return. Within this context, Micron has exercised supply discipline by targeting stable bit share and aligning our CapEx spend with long term industry bit demand growth, while taking action to manage occasional short term oversupply. These actions include adjustments to utilization, capacity shifts between end markets and a willingness to walk away from unsatisfactory pricing and to instead hold higher levels of inventory. The supply demand dynamics have completely changed since the PC era and these new dynamics add to our confidence in the sustainability of our transformation. Against the backdrop of strong industry dynamics, Micron has also transformed our technology position. Whereas Micron historically lagged competitors on the leading edge, As a result of our efforts to close the competitive gap, Micron has not only caught up, we have emerged as a technology leader. We were the first to introduce 1 Alpha DRAM, the industry's most advanced DRAM node, which utilizes our leadership in multi patterning. We were also the first to introduce 176 layer NAND, the industry's most advanced NAND node, Combining the 5th generation of our CMOS under array design with replacement gate. Additionally, we have improved our cost position by driving faster yield ramps, faster transitions of our production mix to leading edge nodes and faster customer qualifications. Despite the increasing process complexity, we were able to ramp use on our 1 alpha DRAM and 176 layer NAND at a 25% to 30% faster pace than the previous node. We have also made significant improvements in our product portfolio. We have enhanced Our product portfolio through greater customer collaboration and our approach to vertical integration and product development allows us to innovate and create the best solutions for each segment of the market. Our portfolio leads the industry in quality and includes products with the highest bandwidth, lowest power consumption and highest performance. And our roadmap includes Exciting CXL enabled DRAM products. We are also turning our process technology leadership into product leadership. Our 1 Alpha DRAM is being used in various products across PC, server and mobile, while our 176 layer NAND It's featured in a broad set of SSDs, managed NAND products for mobile and products targeting automotive and industrial segments. Micron is the only major U. S.-based memory and storage company and our global manufacturing operations offered our customers a diversified source of supply. The investments we have made to enhance our fab and assembly and test network over the last few years Put Micron in an excellent position to meet customer demand with resiliency and to do so more cost effectively. First, we have enhanced our fab network. We have made significant investments in cleanroom space and facility infrastructure to increase our flexibility to implement new technology nodes at scale. We are building on our leadership in lithography and have invested in EUV Ready Clean Rooms. We recently placed volume purchase orders for the industry's most advanced EUV tools, which will help us ramp our 1 gamma technology and beyond. We have also invested heavily in smart manufacturing applications, which has helped us increase productivity, ramp our yields faster and improve product quality. 2nd, recognizing that our DRAM manufacturing network has grown via acquisition and has disparate equipment, We have been driving towards greater equipment matching between fabs with each successive node migration. This has enabled us to ramp technologies rapidly across our manufacturing footprint with high yields and high quality. And finally, we have increased our captive assembly footprint, which increases our cost competitiveness, agility and resiliency. At the end of fiscal year 2020, more than 60% of our assembly was captive, up from about 45% in fiscal year 2018. We have increased redundancy in capacity across all product manufacturing lines and have added sites in Malaysia and Taiwan. These investments in back end capacity also provide strong ROI, while providing business continuity, which our customers appreciate. The Micron transformation Would not be possible without the fundamental transformation of our culture and how we do business. This culture is defined by a vision to deliver innovation for all. We have a commitment to leadership in DEI and ESG and to serve the communities in which we operate. Today, we attract outstanding talent to Micron And we are confident that our diverse global talent is a significant competitive advantage fueling our innovation. Micron now has more than 44,000 granted patents globally and we rank among the top 25 companies in U. S. Patents held. Our efforts to drive diversity, equality and inclusion throughout the organization are strengthening our culture and resulting in numerous Best Placed TO Work awards across the global locations where we operate. And we have made significant progress and ambitious commitments on the sustainability front. Micron has committed to investing $1,000,000,000 towards environmental sustainability over a period of several years, and we have adopted Specific long term goals in 4 areas: emissions, energy, water and waste. Our results are being recognized. Micron has been added to the Dow Jones Sustainability Index and a prominent ESG rating firm Scored Micron in the top 10% amongst our semiconductor peers. I'm exceptionally proud not only of what we have accomplished strategically and financially, but of how we are doing it. In summary, we have a strong foundation and we continue to get stronger. Thanks to the brilliant motivated team at Micron, who remain intensely focused on driving our success. Today's dividend initiation announcement is an important milestone that reflects the structural transformation Micron has undergone over the last several years, And it is a signal of confidence in the sustainability of our financial strength. And now here is Dave, who will provide more detail on our financials. Thanks, Sanjay. Micron's financial strength Starting with our enhanced profitability, as Sanjay mentioned, Micron has closed the technology gap and we now are a technology leader in both DRAM and NAND With a stronger, more vertically integrated fab network. This has contributed to an improvement in our profitability, both on an absolute basis and relative to the industry. From our trough in FY 2016 to the most recent trough in FY 2020, there has been a more than 1600 basis point EBITDA margin improvement. Over time, we have also seen higher cross cycle lows as a result of Micron's improved competitive position and the improved supply demand dynamics of our industry. Looking at 4 year average metrics, reveal the sustained cross cycle performance of our business. Revenue has trended up and to the right And as Sanjay mentioned, has outpaced the broader semiconductor industry. Furthermore, our business generates sufficient operating cash flow, both to fund strong growth and to deliver meaningful free cash flow. Our asset base has grown steadily each year as we continue to invest in the growth of our business. We believe there is an opportunity for multiple expansion as investors appreciate these characteristics. Notably, the cash generation power of our business has enabled us to invest for growth and concurrently strengthen our balance sheet. We have significantly reduced debt and are in a comfortable net cash position. There has also been a dramatic transformation of the debt structure From one relying on secured debt to one materially made up of unsecured debt. Additionally, we have been reducing convertible debt And the remaining converts will be repaid in FQ4. We have investment grade ratings from all three rating agencies and in the last few months Fitch and Standard and Poor's both raised their outlook from stable to positive for Micron's debt. These upgrades to the outlook for our debt ratings are further evidence of Micron's And we're committed to maintaining our investment grade ratings, net cash positive position and low leverage ratio. Now on to our capital allocation strategy. At our last Analyst Day event in May of 2018, we introduced capital allocation targets and a $10,000,000,000 share repurchase authorization. Our net CapEx was above our targets during the period of fiscal of FY 2019 to FQ321 as revenue was impacted by the memory cycle. Net CapEx was approximately 38% of revenue, But we maintained strong liquidity at around 50% of revenue. During this period, we remained net cash positive. And as I mentioned, we achieved investment grade ratings from all 3 major rating agencies. And even through the pandemic, We maintained a strong balance sheet. In fiscal 2019 2020, we also met our cash return target to return more than 50% of our annual free cash flow to shareholders via share repurchases. In fact, from FY 2019 to our most recently reported quarter, We returned approximately $4,000,000,000 or 69% of our total free cash flow when combining share repurchases and convert equity premiums. All in all, we retired 90,000,000 shares, representing 7% of our total shares at an average price of $42 a considerable discount to today's price and our view of Micron's intrinsic value. As we have mentioned before, we expect FQ4 to be a strong quarter for share repurchases. Going forward, we've modified our capital allocation targets. I'll start with our liquidity and net CapEx targets, which are interrelated. Maintaining liquidity that equals our net CapEx expectations enables us to fund investments in all market conditions. Looking ahead over the next few years, given the slowing of Moore's Law and increased capital intensity including EUV, We expect higher net CapEx and therefore higher liquidity and so we are updating both targets to mid-30s as a percent of revenue. Our cash and debt targets remain unchanged and we intend to remain net cash positive. Our first priority is to fund the business and maintain solid liquidity. We then plan to return excess cash to shareholders. There are 2 components of our cash return program moving forward. First, we're introducing a $0.10 quarterly dividend with a goal of growing this dividend over time, reflecting our confidence in the cash flow generation of our business. Based on today's diluted share count, A $0.10 quarterly dividend equates to approximately $450,000,000 on an annualized basis. The 1st quarterly dividend We're changing our buyback approach to be more opportunistic and we are modifying the timeframe for our cash return target from annual to cross cycle. This gives us greater flexibility to conserve cash and buy back stock at larger discounts to intrinsic value. I would note that while the size of the repurchases might vary each year, we do expect to repurchase shares every year. If Micron stock appreciates significantly, we will scale down the buyback activity. And if the stock depreciates significantly, We expect to be aggressive in our buyback activity. We still expect to return at least 50% of cash flow cross cycle with a combination of buybacks and dividends. But with this new opportunistic approach, we should retire more shares over time. Ultimately, We expect the share repurchase program to drive strong earnings per share accretion and create shareholder value. In summary, Micron has undergone an incredible transformation. The introduction of a dividend is a milestone event And a signal of Micron's firm competitive position, our industry's improved supply demand dynamics and Micron's significant improvement and our financial profile. It is an achievement that the entire Micron team can be proud of. We'll now open the call up for questions. Thank you. One moment please. Our first question comes from C. J. Muse of Evercore. Your line is open. Yes, good afternoon. Thank you for taking my question. I think the opportunistic focus makes a lot of sense. I guess, Dave, Perhaps you can share with us how you think about intrinsic value and so we can kind of gauge, I guess, where we should think about you guys being very aggressive? Good question. Okay. So first of all, I would say, just want to remind you that we do expect to be aggressive in the 4th quarter. So we will be aggressively buying back stock this quarter. I think over the long term, there have been periods where the stock has been Meaningfully below the intrinsic value and intrinsic value measured by any number of factors including the discounted free cash flow of the business. And it's in those periods where we want to be very aggressive in the buybacks. We think we can take out more shares and Create more shareholder value in those circumstances. I don't want to give an exact number because obviously it might change over time. But I think If the stock goes to a level that has gone in the past relative to the discounted free cash flow of the business, you can expect us to be aggressive. Thank you. Thank you. Our next question comes from Srini Pajjuri of SMBC Nikko Securities. Your line is open. Thank you, and congrats on the dividend. Sanjay, Just a longer term question. I'm just curious about the timing. I understand the balance sheet is in a much better shape. Do you think going forward the industry cyclicality is declining? Is that what's prompting you to take this decision? Because One of your peers actually had a dividend and they had to actually cut back on their dividend. Obviously, their situation was a little different, but I'm just curious as What prompted you to kind of start the dividend now? And what does that mean for your cyclicality going forward? So we have often talked about when we have had discussions with investors that we will be looking at dividend. And our decision with respect to the timing on the dividend announcement today, certainly tied to the overall industry Health, Industry Fundamentals. As we have highlighted that memory and storage has become an increasingly important part of the semiconductor industry. And certainly, markets are diverse and there are secular growth trends in our markets. And then, very importantly, Micron's The transformation that we highlighted today from technology to product portfolio to manufacturing footprint and strengthened balance sheet, customer engagement And really, a strong product roadmap. And when we look at how we have come through the pandemic and the resilience that we have demonstrated Through this period and the strong results that we have continued to produce, this is what really led the management to focus on greater shareholder return and enduring shareholder return in the long term value creation. So combination of the industry demand supply fundamentals as well as long term outlook and Micron's transformation And our confidence in our ability to drive for the best combination of business growth and profitability really positions us to share with you this new approach toward capital return consisting of opportunistic buybacks as well as Dividend. So we really are pleased with this announcement today. Our Board is Highly supportive once the management proposed to it, and we definitely plan to be aggressive With buybacks in the future when the opportunities present themselves, while continuing to demonstrate our confidence with growing dividend in the future as well. Thank you. If I can have a quick follow-up, maybe you can talk about what this might mean for or might not mean for M and A going forward And how you think about M and A? And then, Sandy, you also mentioned dividend growth. I know it's early days. It's you just initiated this. How should we think about your potential dividend growth going forward. Thank you. So I'll certainly have Dave comment on any aspect of dividend growth in the future. But With respect to M and A, we are not going to speculate obviously on any M and A matters. But as I noted, we really feel that Micron's position in the industry with the results we have demonstrated as well as the roadmap that we have ahead of us for technology and products And our confidence in the secular nature of the demand trends really leads us to drive for the best combination of growth and profitability. That means that it positions us well to make the necessary investments and prioritizing the necessary investments In driving the growth of the business, including investments in R and D as well as necessary investments in manufacturing, Staying in line with our strategy of growing our supply in line with the industry demand. So of course, we will always prioritize our business growth, And I really believe that we are well positioned to address any aspects of that business growth going forward and making the necessary investments while, of course, Continuing to provide strong longer term value to our shareholders as well. So on the dividend growth side, we I think it's important to remind everyone that our first and foremost approach to cash return to shareholders will be the buyback. We think we can generate very good shareholder return by timing the buyback to aggressively repurchase During periods where we are deeply discounted to intrinsic value. So that will be the primary. Of course, this augments that. I would say that we expect as free cash flow increases, we'll keep the dividend as some Within a range some percentage of that free cash flow. And so as free cash flow grows, the dividend will grow. Got it. Thanks, Dave. Sure. Thank you. Our next question comes from Ambrish Srivastava of BMO. Your line is open. Hi, thank you very much. Dave, you ended the question with an important topic on free cash flow. I like how you framed everything with a cross cycle perspective, so recognizing the cyclicality of the industry. Could you just talk a little bit about free cash flow? Your free cash flow has also gone up by a lot if I look at it on a normalized basis or trough to trough. So how should we be thinking about normalized free cash flow and probably better to put it in In terms of free cash flow margin, Dave? Thank you. Yes. So, you make a good Point Ambrish. I mean, if you look back over the last 5 years, we generated positive free cash flow in every year. Obviously, certain years were more significant than others. But in every year, We generated good free cash flow. And I think this is really the Result of all the transformation that Sanjay mentioned in his prepared remarks, our ability to Transformed the business in so many ways around technology and products and the operations has resulted in That's good profitability and we've been able to generate good free cash flow and we expect that to continue. I think as we look forward, Certainly, there will be this aspect of capital intensity going up, which is something we have to factor. But we believe that Given all the growth drivers within the industry across all the different markets that we are now addressing, Given the better supply demand dynamics that I talked about in the industry and our execution both in terms of process and products, We feel like we can generate very good free cash flow over the course of The next decade or more, I think ultimately free cash flow will be a function of how we drive the growth The top line of the business, as we drive that growth, I think free cash flow will drive in lockstep with that. Thank you. Thank you. Our next question comes from Aaron Rakers Pune, El Farber, your line is open. Yes. Thank you for taking the question. A couple of times during the conversation or your You alluded to just driving improved efficiencies in the business and driving like equipment across across your fab operations within DRAM and then also I think you touched on some metrics with regard to back end assembly. I'm just curious as we look forward, how much have you done? How much is remaining as far as operational continued improvement? Or how should we think about that as we move forward? We certainly, with respect to continuing to Improve our tool matching that we talked about here. We continue to focus on that and certainly more opportunities ahead in that regard. Applying smart manufacturing techniques, this is still early times for that and a lot happening in this space. Examples that What's happening today is with respect to really reducing our variability in manufacturing, leveraging smart manufacturing techniques, particularly as you look at Tool to tool matching with advanced tool set and of course relying on techniques such as Applying analytics to image, many images that we create during our manufacturing and leveraging those For faster yield ramps and defect density reductions. So these are just a couple of examples, but again, these are examples in the very early stages of deploying smart manufacturing techniques to our manufacturing production and similarly back end assembly and test capabilities, We remain extremely focused. So in all of these areas, we have made strong strides, but the remaining opportunities ahead as well. Not quantifying it for you at this point, but Fine, it's for you at this point, but in terms of continuing to make our operations more efficient and continuing to focus on faster deployment of our technologies into Production with respect to yield ramps, with respect to quality ramps, with respect to customer qualifications, These are all areas we always find opportunities for improvement and our team stays focused on delivering strength and execution on an ongoing basis. Thank you. Thank you. And our next question comes from Toshiya Hari of Goldman Sachs. Your line is open. Hi, good afternoon and thank you Thanks for taking the question. Sanjay, you talked about improving metrics, profitability on a cross cycle basis for your business, which makes a ton of sense. And I think many investors would certainly agree with you on the DRAM side of the business. However, on the NAND side of the business, I think there is still worry that peak to peak, the industry is in a bit of a difficult position, if you will, just given the competitive landscape. How are you thinking about the NAND market and your NAND business specifically going forward over the next Couple of years and to the extent you do expect fundamentals to improve on a cross cycle basis, what do you think drives that over the next Restructure and DRAM is more consolidated industry versus NAND. However, NAND also He is experiencing similar fundamental as in terms of slowing Moore's Law. And in recent times, when the industry switched From 2 d NAND to 3 d NAND, of course, that was a big disruption and resulted in Added supply, a strong supply growth in the industry. But as we really look ahead with respect to the future Transitions of technology, same kind of fundamentals that bit growth per technology transition on a per wafer basis We'll also continuing to moderate out and certainly more layers on the wafer in the future for DRAM, 3 d NAND, will also mean continuing greater capital intensity, which all ultimately translates to the slowing supply growth rates in the industry in the future. But of course, industry will have to remain focused on CapEx deployment and prudently managing supply growth. And that, as you know, from Micron, that, of course, remains completely our focus. However, we have to look at the opportunities on the NAND side. And on the NAND side, HDD replacement continues to be a strong growth opportunity. And for Micron, we have delivered strong track record of QLC See, SSDs and we are leading the industry with QLC SSDs and QLC SSD leadership translating to greater gains With respect to HDD replacement is an opportunity. Second thing I would like to say is having a combination of DRAM and NAND is certainly a plus. It's an advantage for Micron as we have demonstrated with our MCP growth in the mobile part of the business. So our strategy really is to continue to lead with technology, Invest prudently to manage the supply bit growth to be in line with demand growth and continue to differentiate our portfolio Toward higher value solutions such as SSDs that we talked about like QLC SSDs, such as Solutions for mobile applications that use DRAM as well as NAND and also Continue to expand our opportunities with strengthened portfolio on data center SSD side. So I think we have a lot of opportunity ahead in terms of continuing to strengthen Micron's position on the NAND side of the industry with our focus on technology and strengthened product portfolio roadmap. Thank you. Congrats. Thank you. Thank you. Ladies and gentlemen, this does conclude today's conference. Thank you all for participating. You may all disconnect. Have a great day.