Avnet, Inc. (AVT) on Q4 2023 Results - Earnings Call Transcript
Operator: Welcome to the Avnet Fourth Quarter Fiscal Year 2023 Earnings Conference Call. I would now like to turn the floor over to Joe Burke, Vice President, Treasury and Investor Relations for Avnet.
Joe Burke: Thank you, Paul. I'd like to welcome everyone to the Avnet fourth quarter fiscal year 2023 earnings conference call. This afternoon, Avnet released financial results for the fourth quarter of fiscal year 2023 and the release is available on the Investor Relations section of Avnet's website. A copy of the slide presentation that will accompany today's remarks can be found via the link in the earnings release as well as on the IR section of our website. As a reminder, some of the information contained in the news release and on this conference call contain forward-looking statements that involve risks, uncertainties, and assumptions that are difficult to predict. Such forward-looking statements are not the guarantee of performance and the company's actual results could differ materially from those contained in such statements. Several factors that could cause or contribute to such differences are described in detail in Avnet's most recent Form 10-Q and 10-K and subsequent filings with the SEC. These forward-looking statements speak only as of the date of this presentation and the company undertakes no obligation to publicly update any forward-looking statements or supply new information regarding the circumstances after the date of this presentation. Today's call will be led by Phil Gallagher, Avnet's CEO, and Ken Jacobson, Avnet's CFO. With that, let me turn the call over to Phil Gallagher. Phil?
Phil Gallagher: Thank you, Joe, and thank you, everyone, for joining our fourth quarter and fiscal year 2023 earnings conference call. I'm pleased with the execution of our team throughout the year as we continue to drive growth while navigating through market uncertainty. We maintain our momentum from fiscal year 2022 to deliver robust financial results for fiscal 2023, including a record of over $8 of earnings per share. Our sales were up more than 13% year-over-year in constant currency. Operating income grew two times greater than sales. And our business units achieved operating leverage as Electronic Components delivered 4.8% operating margin and Farnell delivered 9.5% operating margin for the fiscal year. As we look ahead with the breadth of our supplier line card, our diversified customer base, and the strength of the end markets they serve, we are well positioned to capitalize on the industry growth expected over the next several years. Now, let's turn to fourth-quarter results. In the quarter, we grew 3% year-over-year in constant currency and we delivered adjusted EPS of $2.06 which is six consecutive quarters of adjusted EPS of $2 or greater. Similar to last quarter, we continue to drive efficiency in our operations, while still making the necessary investments in our business. These efficiencies, coupled with the stronger-than-expected sales in our Americas and EMEA businesses helped us achieve a 5.1% operating margin at Electronic Components in the quarter. It's notable that this is the second consecutive quarter of 5% or greater operating margin at EC and 4.8% adjusted operating margin for Avnet overall, delivering on the margin targets we communicated at our Investor Day in June last year. During the quarter, we saw continued year-over-year sales growth in the Americas and EMEA regions, partially offset by expected sales declines in Asia, which was a continuation of the slowdown in demand in certain Asian end markets. From an overall demand perspective, we experienced continued strength in key verticals, most notably transportation, automotive, and industrial. We also saw continued solid demand in defense and aerospace. Average lead time for many components continue to come down, although lead times are still elevated for certain product categories such as high-end microcontrollers, some power, and many of the components that go into the automotive segment. Lead times for these constrained categories have improved, but more modestly than other categories. As a result of the current demand and lead time conditions, our book-to-bill ratio remains below parity in all regions, similar levels to last quarter. Our backlog remains relatively steady and consistent with last quarter as well. While cancellations are elevated, the impact on our backlog has been minimal to date. The pricing environment also remained stable during the quarter with declines in some standard product pricing. We are hearing from some of our supplier partners that they don't expect input costs to come down anytime soon which was a big driver of price increases over the past few years. As we value our customer relationships, our historical approach in our EC business was to merely pass along price increase to our customers without marking them up. We believe this approach is the reason we've seen stable gross margins in our EC business year-over-year including this past quarter. Turning to our operating group highlights. Electronic Components had a strong year, reaching nearly $25 billion in sales. Sales for the fourth quarter increased 3% year-over-year and were flat sequentially. This marks the 12th consecutive quarter of year-over-year sales growth in our EC business. As I mentioned earlier, EC achieved 5.1% operating margin for the quarter, noting our EMEA region achieved a second consecutive record sales quarter with very strong operating margin and the Americas team delivered another solid quarter of sales and market share gains. From a demand creation standpoint, once again we had a great quarter for design and engineering activity across all regions. High levels of design registrations and wins in prior quarters resulted in yet another quarter of record demand creation in sales and gross profit. Our customers are engaging our FAEs for new designs for the next-generation products as opposed to the redesign activities that were occurring in the past couple of years to overcome some component shortages. Demand creation continues to be an essential capability needed in today's technology in supply chain. Our EC inventory levels were relatively flat on a sequential basis. And as I mentioned on last quarter's earnings call, we expect it will take a couple of quarters for the inventory correction to play out. This quarter, we would characterize our inventory levels as stabilizing and we are optimistic that as we enter calendar 2024, they were more closely aligned with sales. We continue to be confident in the quality of the inventory, and our ability to work down inventory days in the quarters to come. Moving on to Farnell. Following a record sales and margin year in fiscal year '22, Farnell had a solid year in fiscal '23 with sales of $1.7 billion and operating margins of 9.5%. In the fourth quarter, Farnell sales were up 1% year-on-year and down 3% sequentially in constant currency. Operating margins were affected primarily due to an unfavorable sales mix of lower-margin products. As constraints on components related to single-board computers have now eased, Farnell is making strides in filling the backlog for single-board computers, which will help their sales and operating income dollars in coming quarters. As I reflect back on fiscal year '23, I'm very pleased with the progress we've made with the near-term goals we communicated at Investor Day just over a year ago. We've grown our revenues, gained market share, attained our operating margin goals, and achieved a record EPS for the year. I'm especially proud of the commitment of our team to execute and deliver in one of the most dynamic and uncertain markets I've seen in my career. But there is still more to accomplish and the future is really bright for Avnet. As we head into fiscal year 2024, we will continue to make good on our commitments to focus on reducing our inventory levels to be in line with sales, generating cash, and growing operating profit greater than sales. Our supplier partnerships continue to be one of our key strengths, which has helped lead to market share gains for several quarters. We are confident that our supplier partners see the value we bring in helping to increase both our sales and customer accounts. We are extremely well positioned for the industry growth expected over the next several years. Our line card features substantially all of the key technologies our customers need and our high-performance line card is unmatched. The key end markets we serve, which include industrial, transportation, and defense are expected to have high growth rates over the next three to four years. When combined with our supply chain as a service capabilities and the overall market need for customers to have resilient supply chains, we're really excited about our opportunities at the center of the technology and supply chain. So with that, let me turn it over to Ken for a look at the financial results for Q4 and the fiscal year. Ken?
Ken Jacobson: Thank you, Phil. Hello, everyone, and thank you for your interest in Avnet. We believe our fourth quarter and full fiscal year 2023 performance are a positive validation about our strategy over the past couple of years to focus on efficient and effective operations while working closely with our supplier and customer partners at the center of the technology supply chain. This continued focus has helped us gain share and makes us a stronger, more profitable company. Our sales for the fourth quarter were approximately $6.6 billion, exceeding the top end of our guidance range and up 3% year-over-year. On a sequential basis, sales were up slightly in constant currency. Sales growth year-over-year was led by a record quarter for EMEA with nearly 90% growth and the Americas with 7% growth This growth was partially offset by an expected sales decline in Asia of 12%. In constant currency, year-over-year sales grew 17% in EMEA, 7% in the Americas, and declined 11% in Asia. From an operating group perspective, Electronic Component sales grew 3% year-over-year, both as reported and in constant currency. Quarter-over-quarter, Electronic Component sales were 1% higher in constant currency. Farnell sales grew 1% year-over-year both as reported and in constant currency. Farnell sales were 3% lower sequentially in constant currency. For the fourth quarter, gross margin of 12.5% improved 25 basis points year-over-year and was relatively flat quarter-over-quarter. Gross margin improved year-over-year primarily due to a greater mix of sales from our Western regions. Electronic Components' gross margin was up both year-over-year and sequentially primarily due to a greater mix of sales from our Western regions. Farnell gross margin was down both year-over-year and sequentially, primarily due to a combination of the unwinding of pricing premiums as on-the-board component lead times have improved and from unfavorable foreign exchange rate impacts from when products were purchased versus when products were sold. We continue to remain focused on maintaining efficient and effective operations. Our operating expenses continue to be well controlled as we have been able to grow our sales without any significant increase in overall expenses. During the quarter, adjusted operating expenses were $505 million, up 3% year-over-year and up 2% sequentially. Foreign currency negatively impacted operating expenses by $3 million sequentially. As a percentage of gross profit dollars, adjusted operating expenses were 62% in the fourth quarter, 132 basis points lower than a year ago and 53 basis points higher than last quarter. For the fourth quarter, we reported adjusted operating income of $313 million, which increased 9% year-over-year and grew three times faster than sales in constant currency. This is the 10th consecutive quarter of operating income growth exceeding our sales growth by more than two times. Our adjusted operating margin was 4.8% in the fourth quarter, which improved 26 basis points year-over-year and was flat quarter-over-quarter. By operating group, Electronic Components' operating income was $310 million, up 21% year-over-year. EC operating margin was 5.1%, up 77 basis points year-over-year, and essentially flat quarter-over-quarter. The improvement was led by our EC Americas and EC EMEA businesses, which both expanded operating margin year-over-year by more than 80 basis points Farnell operating income was $36 million, down 43% year-over-year. Farnell operating margin was 8.1% in the quarter, down 90 basis points quarter-over-quarter. Farnell operating margin continued to be impacted by the unwinding of pricing premiums, foreign exchange rate impacts, and from an unfavorable sales mix of lower-margin products. Our combined operating groups, when excluding our corporate expenses, delivered on our targeted margin goals by achieving a 5.1% operating income margin for fiscal 2023 with a fourth-quarter exit operating income margin of 5.3%. Turning to expenses below operating income. Fourth quarter interest expense of $75 million increased by $45 million year-over-year and $3 million quarter-over-quarter. The sequential increase was primarily due to increases in market interest rates. Increased interest expense negatively impacted adjusted diluted earnings per share by $0.39 year-over-year. Our adjusted effective income tax rate was 21.6% in the quarter and was 23.9% for the full year. Adjusted diluted earnings per share were $2.06 for the quarter, which decreased $0.01 year-over-year but was $0.06 higher quarter-over-quarter. A better-than-expected effective income tax rate benefited adjusted diluted earnings per share by approximately $0.06 in the quarter. Turning to the balance sheet and liquidity. During the quarter, working capital decreased by $33 million, including an increase in payables of $237 million offset by a $111 million increase in inventories. As a result, our working capital days increased by one day quarter-over-quarter to 97 days. Our inventory days increased by approximately four days and our receivables days decreased by approximately one-day quarter-over-quarter. Our return on working capital continues to be two times our cost of capital. Our inventories increased 2% during the quarter primarily due to increases at Farnell, largely for replenishment and continued investment in inventory breadth. As Phil mentioned, we believe our inventory levels have stabilized. Near term, we expect inventory levels to be generally consistent with the fourth-quarter levels when adjusting for the effects of any strategic initiatives which will create temporary increases in inventory levels. We continue to work collaboratively with customers to purchase the inventory ordered on their behalf. We remain confident in the quality of our inventories and are focused on improving inventory turnover and our related inventory days over the next few quarters. Looking to the first quarter, we expect to see a temporary increase in inventories for our EC business due to a strategic opportunity for which inventories will come in towards the end of the first quarter and are expected to ship out during the second quarter. In the fourth quarter, we generated $235 million of cash flow from operations and we expect to generate cash flow from operations in the first quarter. Our debt decreased by approximately $51 million during the quarter with a gross leverage of 2.2 times, which was a sequential improvement. At quarter end, we had approximately $844 million of available committed borrowing capacity. With regard to our capital allocation, in the near term, we continue to evaluate all opportunities to drive shareholder returns including dividends, share buybacks, and M&A. But the priority remains to support the needs of our business, including working capital and capital expenditures. During the fourth quarter, cash used for capital expenditures was $57 million and as a reminder, our capital expenditures during fiscal 2023 were elevated due to investments in a new warehouse in Europe. In the fourth quarter, we paid our quarterly dividend of $0.29 per share or $27 million. [Technical Difficulty] and share repurchases to increase our shareholder value when we believe our shares are undervalued by the market, which continued to be the case in the fourth quarter. Book value per share improved to approximately $51 a share or a sequential increase of approximately $1 per share. Turning to guidance. For the first quarter of fiscal 2024, we are guiding sales in the range of $6.15 billion to $6.45 billion and adjusted diluted earnings per share in the range of $1.45 to $1.55. Our first-quarter guidance is based on current market conditions and implies a sequential sales growth rate of down 2% to down 6%. This guidance assumes a seasonal mix shift in sales with Western regions declining more and Asia sales increasing less than a typical first quarter. For Farnell, we expect near-term reduced operating margin due to a combination of factors, including seasonal sales declines which includes reduced demand in on-the-board components and gross margin levels continuing to be pressured due to similar factors that impacted fourth-quarter gross margins. In response to the expected decline in Farnell operating margins, we are evaluating the acceleration of previously identified opportunities related to Farnell operating expenses. This guidance also assumes similar interest expense compared to the fourth quarter on effective tax rate of between 22% and 26% and 93 million shares outstanding on a diluted basis. In closing, I would like to take this opportunity to thank the entire Avnet team around the world for their outstanding efforts in the fourth quarter and for their hard work in closing out a record year for the company. With that, I will turn it back over to the operator to open up for questions. Operator?
Operator: Thank you. Ladies and gentlemen, we will now be conducting a question-and-answer session. [Operator Instructions] Thank you. Our first question is from Ruplu Bhattacharya with Bank of America. Please proceed with your question.
Ruplu Bhattacharya: Hi. Thanks for taking my questions. Phil, can you talk about what surprised you in the quarter and led to the revenue outperformance? You beat the high end of the guidance. And part of that, can you talk about the linearity in the quarter, and you had talked about an inventory correction last quarter, is the industry still experiencing that? How long do you think that's going to last and what parts are in excess supply?
Phil Gallagher: Yeah. Thanks, Ruplu. Yeah, let me start with the first part of your question. I would say it was a surprise. I would just say it was just terrific execution in the quarter by the teams. The inventory came in and as we've been saying, we work with the customers to get it back out and I think the team just did a really nice job. We saw continued strength in the markets we're very strong in, industrial, transportation, automotive, and of course defense. So as the quarter went on, it just continued to stay strong. So maybe [indiscernible] But I think it's really execution by the team. And as we've been saying for quite a long time, Ruplu, inventory is not a bad thing, okay, when you have the right inventory, right? So, we are able to get the inventory in and get it back out. On the inventory itself as we touched on in the call, right, last quarter, I had said, I think it's industry inventory correction. I think that's still playing out in a two to three quarter time frame, I think that's basically what we saw as inventory sequentially were up really modestly. So I think that's still playing out. And again, the inventory is healthy. I mean so it's not a bad thing. And I also want to just note, I mean, we talked about inventory. It's not everything, okay? There is a handful of suppliers that tend to be heavier weighted, where we're growing the inventory. There's other areas, trust me, we'd like to have more inventory. So we kind of generalize inventory often is one lump sum. But it's -- not all inventories are the same. So hopefully that answered your question there, Ruplu?
Ruplu Bhattacharya: Yeah, thanks for the details there. Phil, if I can ask you about the Farnell operating margins, you mentioned a couple of things for fiscal 1Q, you said that the single-board computers, they're more available, so that should help sales and operating income dollars, but you also talked about some mix issues that maybe persist. And I think Ken talked about some opportunities to reduce costs. So, net of it, if you can talk a little bit about what opportunities you have to reduce cost in Farnell and how should we think about segment operating margins? Do they remain below 10% over the next couple of quarters or how should we think about this in the medium -- in the near term and medium term?
Phil Gallagher: Yeah, let me work backwards and I'll turn it over to Ken on the expense. Yeah, we're going to take a few quarters to get back over to 10%, Ruplu, in Farnell. Again, we had some -- as we talked about, we had some FX issue in Farnell and some product mix shipments were some of the -- some of the products that we're getting the upside on which we've talked about in previous years, last 18 months is flattening out or coming down from the pricing pressure standpoint where we had some, let's call it non-traditional customers coming in and buying more product from Farnell. So let's say the on-the-board components coming down a little bit with some margin headwind with things like single-board computer, which we've been talking about that were heavily backlogged and that's starting to catch up with the long pole and tent parts that we were looking for there. Yeah, and those shipments are going up and that's good business for us. So make it no mistake. It just tends to be lower calorie margin, okay? Just still drives dollars, just not percent. So yeah, long assured, it's going to take us couple of quarters or so to get back into that double-digit, maybe two or three quarters. Ken, on OpEx?
Ken Jacobson: Yeah. I think, Ruplu, you should think about the OpEx as things that we have to go after. It's not all people, I want to be clear that a lot of it's opportunities, freight savings, and some of those things. And just looking at the operations of the business a little closer that we've had kind of on the radar. But we need to pull in due to the overall demand and margin environment Farnell's experiencing. But I think you can think about it being meaningful to Farnell but not necessarily meaningful to Avnet overall.
Ruplu Bhattacharya: Okay. Okay. And if I can sneak one more in, Ken? Inventory was up I think 2% sequentially. Are we now at a peak for inventory for your -- for Avnet on inventory? I think you said something about EC inventory maybe going up a little bit in the first quarter. So just in terms of your thoughts on cash conversion cycle and working capital requirements over the next couple of quarters and free cash flow?
Ken Jacobson: Yeah. So I think EC inventory was up modestly this quarter compared to last quarter. And we'd like to term the word stabilized, so flattish inventory levels. But what we did comment on is, there are -- there is an opportunity we have where we're getting inventory late in the quarter and ship it out next quarter. So there is likely to be a temporary increase in inventory going into the first quarter, but we still believe stabilizing is the right term. From a cash flow perspective, we are happy to generate over $200 million this quarter. I think the cash flow will continue. You see the sales guidance being down a little bit sequentially, but it's probably still going to take a few quarters to get the cash flow generated out of the inventory is how we look at it with stable inventory levels.
Phil Gallagher: Yeah, I'll add to that, Ruplu, just good pickup and thanks, Ken. [Technical Difficulty] modeling with finance evolve and what's the cash flow impact and return. So they're not -- it's not just something that is happening, it's very strategic, it's positive for the company. It will just drive up the inventory a bit probably neutral to working capital and should be good returns for the company. Outside of that, the inventory should be stable, flat to down a little bit.
Ruplu Bhattacharya: Okay, thanks for all the details. Appreciate it.
Phil Gallagher: Thank you, Ruplu.
Operator: Thank you. Our next question is from Joe Quatrochi with Wells Fargo. Please proceed with your question.
Joe Quatrochi: Yeah, thanks for taking the questions. The comments on some pricing pressure that you saw, is that solely in the Farnell business or are you also seeing that in the Electronics Components business as well?
Phil Gallagher: Yeah, good question, Joe. Predominantly, it's in Farnell. It's just the way that they -- it's pretty complex. I'm trying to explain it, but the way they procure products and sit on it, they have a lower inventory turns, one to two per year So they just got caught upside down a little bit on the FX and then just the natural pricing pressures where they had some, again, as we spoke up before, some additional inflation on a -- in prior 18 months or so with pricing. On the component side, as we said in the script, when we got the pricing passed on to increased pricing from the suppliers, we just [hash] (ph) that on. We didn't mark it up again to the end customer, right? So we made these long-term arrangements. So what we're seeing is actually stabilization in pricing compression there, but always do. It's multi source, that's about how you buy and how you sell. So that's not really -- that's not unusual, but in the higher end products, high micros and whatnot, the input -- as long as the input costs are continuing to stay where they are or go up, we don't believe there's going to be the pricing pressures or ASP erosions that maybe we've seen in the past. I mean, as you know, Joe, the gold, silver, palladium played them down a little bit. Silver, copper, they're still up, okay, and labor costs remain elevated. So as long as they remain elevated and the input costs are up, we don't see the suppliers for the most part, bringing prices down. We'll see, but we don't think so.
Joe Quatrochi: Got it. And maybe as a follow-up to that, I mean, we’re starting to see some reports of just price cuts from some of the foundries in Asia. I mean, I guess, how do you think about the flow-through of that? I assume that probably takes some time to play out to kind of get to where you are in the overall kind of distribution supply chain?
Phil Gallagher: Yes, short term, yeah, we're reading the same things and seeing some of the same talk of the suppliers, but short term, we don't see that have [indiscernible] any major effect on us. Probably a better question for the suppliers.
Joe Quatrochi: Fair enough. And then just maybe as a follow-up, Asia, China weakness continuing, I think last quarter you talked about that lasting for at least the next two quarters. Has anything changed, I guess, from that view from last quarter? Or are you seeing things maybe finding a bottom or getting maybe slightly better just from maybe shipping closer to what in-demand is rather than inventory reduction?
Phil Gallagher: [Technical Difficulty] across all the regions, spend a lot of time in Taiwan with the Taiwan team, but also the regional leaders from China, Southeast Asia and Japan. And as you said, yeah, the demand is definitely down a bit. no question about it. But there's some good signs around optimism over the next, let's say, several quarters, tough to call to call because there’s -- might be more optimism in some industrial applications versus consumer or vice versa. But we did hear a lot about and you're reading a lot about the wind, solar, the energy storage and charging that in China is basically backing and we're well positioned there. So as we position ourselves, we're -- I’m not bullish by any stretch, but I'm not negative either. I think there's some positive signs and China will bounce back. There's no doubt we're well positioned there. But across Asia Pac, overall, again, stable. Japan has been positive for us. But I should add also that we're not overly weighted, Joe. We're not overly weighted to China within Asia or certainly [indiscernible].
Joe Quatrochi: Helpful. Thank you.
Operator: [Operator Instructions] Our next question is from Matt Sheerin with Stifel. Please proceed with your question.
Matt Sheerin: Yes, thank you. And, hello, Phil, and everyone. Just following up on the first question, just regarding the cycle. Obviously, things seem to be holding up better than most people expected, particularly in EMEA, in North America, and particularly compared to your bigger competitor, So as you think about this below seasonal guide for the next quarter, should you expect that to continue into December where that should be below seasonal with this whole correction and downcycle, and would you expect March to be similar or would that be back to seasonality or is the visibility too tough at this point?
Phil Gallagher: Yeah, thanks, Matt. I'll let Ken jump in as well. I appreciate the compliment. Yeah, just to reiterate, Europe just remained -- continues strong. I mean, December, March, June, it’s back to Ruplu's first question, it's been pretty phenomenal. We're just as company and industry, we're well positioned there with the industrial home transportation play. And then the Americas has been terrific under Dana's leadership and the team doing a nice job. As far as seasonality, beyond, we don't typically guide as you know, into December or March because it is tough to call. There's a lot of mixed signals, Matt, out there. Been using that term, no pun intended, but there's so many mixed signals. As I said in the script, I haven't seen this much complexity in our industry in a long time because there's still a lot of really good things happening in transportation, even still in charging, in battery, in industrial that's offsetting some of the other markets. But again, I want to stick to what I said last quarter. I think it's a two to three quarter more of an inventory correction. And I think as we get into 2024, we're going to start seeing some additional growth. December quarter is tough one to call because the East, what's going to happen in Asia with -- starting September, as you know, in October, remember, we start to see an uptick there. And we do think that will happen, that I can say. We do think we'll see an uptick, a modest uptick, but an uptick in Asia Pac in the -- this quarter as well in December.
Matt Sheerin: In December to next -- yeah, go ahead.
Ken Jacobson: I'll just add, we feel pretty good about the $6.3 billion, down 4%. And the good news is there's still seasonal growth in Asia. We talked about that. And in Europe, it's a really big holiday period here in the summertime. So when you get into the December quarter, there's also the Christmas holiday time, and those are maybe going to be more normal than they have been. But still pretty good, pretty healthy about having an outlook of $6 billion per quarter kind of sales levels. We don't see ourselves dipping below there still is kind of what we commented on last quarter.
Phil Gallagher: Yes. Matt, I think let me just jump -- but I think we are going to start seeing some more normal seasonality. Define normal, Matt, in the last three years, right? But I do think we're going to start to see more of a typical summer quarter in Europe, where we hadn't seen that in the last several years due to COVID and whatnot. And I think we'll start seeing more of a typical seasonality coming out of Asia as well.
Matt Sheerin: Got it. Okay. That's helpful. And then just on the margins, backing into -- based on your guide, it looks like gross margin and operating margin will be down sequentially, and it looks like operating margin will be down year-over-year in like the low 4%, 4.1%. And that you talked about some of the headwinds with Farnell and EMEA and North America down. Is there anything else to read into that?
Ken Jacobson: Yeah, Matt, I guess, I’d say that you've captured the things, but I'll kind of frame it for you a little bit more. Think about half of it coming from just the sales decline, right? It's going to create less gross profit dollars, and we're not necessarily doing anything different on the cost side. And then you've got, let's say, another 25% of that approximately is coming from just the normal seasonal shift in mix, higher Asia, lower EMEA and then the other 25% is probably coming from the pressure on Farnell. So that's kind of the right way to size it. There's always puts and takes on the overall gross margin on EC. But the comment I will make is, we still see year-over-year operating margin expansion in EC with the guidance.
Matt Sheerin: Okay. In EC, okay, but not for the company, though. Got it. Okay. And just lastly, on the interest expense, what you said in the presentation, obviously, that's been a big EPS headwind. Is that a priority in terms of your free cash used to bring down those borrowings, particularly if you see margin pressure on mix and continued your correction here as a headwind to operating margin to offset that?
Ken Jacobson: Yeah, I'd say, Matt, I mean, definitely, we will look to deploy some of our cash to pay down some debt, especially just to make sure sales start to go down. We want to make sure we're keeping the balance sheet strong, but then we'll look at other capital allocation priorities as well, right? So we do see the cash flow starting to come in. So feel good about that. And now we've got to make sure we put it to the work in the best way as possible. But clearly, paying down some interest is top of mind just because it's getting so expensive, but we also see great value in the shares right now, as well as continuing to trade below book value.
Matt Sheerin: Right. Okay, thank you very much.
Phil Gallagher: Thanks, Matt.
Operator: Thank you. Our next question is from Melissa Fairbanks with Raymond James. Please proceed with your question.
Melissa Fairbanks: Hi, guys. Thanks very much. Most of my questions have been asked and answered. But so I just had one for you. It's great to hear both Europe and the Americas margins were up really nicely year-on-year. I think Europe is still your highest-margin market. Just wondering if you could give us an update on closing that gap between those markets. And then maybe highlight any opportunities if you have any opportunities to drive margin in Asia closer to the Western market?
Phil Gallagher: Yeah. Hi, Melissa, thanks. Yeah, we're really pleased with the Americas from where we were three, four or five years ago and what we're working doing, we're still at 80% there, probably back to the issues we had with the ERP, which is well behind us. So we're about 80% where we think we need to be. Closing it to Europe, Europe's -- well, always strong message. But really the last 10, 15 years, it's been a higher-margin operating business for us. We tend to get higher gross margins in Europe as well. And so I don't know that we'll close the gap with Europe -- I'm certainly challenging the Americas team to do that. But I want Americas to -- I want to Americas to catch Europe, not Europe catch Americas. But -- that's really it on that. So we're pleased with the progress overall. And Melissa, what was the second part of your question?
Melissa Fairbanks: Just if there's any opportunities, yeah.
Phil Gallagher: Yeah. Asia, a lot of that mix, it's just volume. I mean we're pleased with the returns in Asia. So we measure Asia, both on operating margin as well as return on working capital. So they'll have a higher returns model. So the returns in Asia have come up nicely. We've had particular success as well in Japan, which has been really terrific, and that's getting closer to some of the models in the West. But overall, Asia, I think we're in about the right spot in Asia, based on the volume that that drives for us and the drop-through we get with that. We could shrink Asia and grow the operating margins, right? But that always isn't the most strategic thing to do.
Ken Jacobson: And I'll just comment, Melissa, that there are some opportunities to think about, supply chain as a service type of engagement as well as Farnell. Farnell makes a really healthy margin in Asia, and there's plenty of opportunity to grow there. But the base is so big too, it's hard to move the needle overnight, but we do see some good margin opportunities in some of the markets that Phil mentioned. Japan, for example, that definitely has a better margin than other markets. So there's some opportunity, but it's just -- it's such a big base that it’s hard to move the needle.
Melissa Fairbanks: Okay. Great. Thanks very much guys.
Phil Gallagher: Thanks, Melissa.
Operator: Thank you. There are no further questions at this time. I'd like to hand the floor back over to Phil Gallagher for any closing remarks.
Phil Gallagher: Well, I want to thank everyone for attending today's earnings call, and wish you all a great rest of the summer, and I look forward to speaking to you again at our next fiscal quarter earnings report in November. Thanks a lot.
Operator: Ladies and gentlemen, this does conclude today's conference. You may disconnect your lines at this time. Thank you for your participation.
