TE Connectivity’s Strong Q3 Outweighs Macro Uncertainty; $125 Fair Value Estimate

Business Strategy & Outlook

TE Connectivity is a designer and manufacturer of connectors and sensors, supplying custom and semi custom solutions to a bevy of end markets in the transportation, industrial, and communications verticals. TE has maintained a leading share of the global connector market for the last decade, specifically dominating the automotive connector market, from which it derives almost half of revenue. While the firm’s entire business benefits from trends toward efficiency and connectivity, these are especially notable in cars, where shifts toward electric and autonomous vehicles provide lucrative opportunities for TE to sell into new vehicle sockets, like an onboard charger or advanced driver-assist system. TE’s products offer high performance and reliability for mission-critical applications in harsh environments. As such, its customer relationships tend to be very sticky, with customers facing high financial and opportunity costs from switching to another component supplier, as well as the risk of component failure in new products.

TE’s customers also rely on the firm supplying cutting-edge products to power new capabilities in end applications. As older products become commoditized, the firm is able to maintain high prices with new innovations. As a result of these switching costs and pricing power, the TE Connectivity possesses a narrow economic moat. In the future, TE Connectivity will focus on increasing its dollar content in end applications across its end markets. TE’s products pave the way for greater electrification and connectivity in vehicles, planes, and factories, which allows the firm to occupy a greater portion of these end products’ electrical architectures. The TE will remain a serial acquirer, bolting on smaller components players to expand its geographic and technological reach. Finally, the TE to continue expanding its midcycle gross and operating margins via footprint consolidation, as it streamlines the fixed-asset portfolio it has gained over a decade of acquisitions.

Financial Strengths

The TE Connectivity to remain leveraged, using strong free cash flow to invest organically and inorganically, and to send capital back to shareholders. As of Sept. 24, 2021, the firm carried $4.1 billion in total debt and $1.2 billion in cash on hand. While the firm is leveraged, its cash flow generation will be more than able to fulfill its obligations. TE has less than $700 million a year in payments due through fiscal 2026, and to generate more than $2 billion in free cash flow annually over the next five years. Even in a severely soft macro environment in 2020, the firm generated $1.4 billion in free cash flow. After fulfilling its obligations, the TE to use the remainder of its cash to maintain its dividend and conduct share repurchases. The firm will remain leveraged, using extra capital for opportunistic acquisitions while using its heady cash flow to pay off its principal and interest.

Bulls Say

TE Connectivity is a leader in the automotive connector and sensor market, enabling OEMs to build more advanced and efficient electric and autonomous vehicles.
TE’s products are specialized for mission-critical applications in harsh environments, where reliable performance creates sticky customer relationships.
TE’s ongoing footprint consolidation should allow it to expand its midcycle operating margins and improve its cash flow.

Company Description

TE Connectivity is the largest electrical connector supplier in the world, supplying interconnect and sensor solutions to the transportation, industrial, and communications markets. With operations in 150 countries and over 500,000 stock-keeping units, TE Connectivity has a broad portfolio that forms the electrical architecture of its end customers’ cutting-edge innovations.

(Source: Morningstar)

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