TE Connectivity Ltd. (TEL) Q2 2013 Earnings Report, Transcript and Summary

Ladies and gentlemen, thank you for standing by. Welcome to the TE Connectivity Second Quarter Earnings Conference Call. [Operator Instructions] As a reminder, this call is being recorded. I would now like to turn the conference over to our host, Mr. Keith Kolstrom, Vice President of Investor Relations. Please go ahead.

Good morning, and thank you for joining our conference call to discuss TE Connectivity's second quarter 2013 results. With me today are Chairman and Chief Executive Officer, Tom Lynch; and Chief Financial Officer, Bob Hau. During the course of this call, we will be providing certain forward-looking information, and we ask you to review the forward-looking cautionary statements included in today's press release. In addition, we will use certain non-GAAP measures in our discussion this morning, and we ask you to review the sections of our press release and the accompanying slide presentation that address the use of these items. The press release and related tables, along with the slide presentation, can be found on the Investor Relations portion of our website at te.com. [Operator Instructions] Now let me turn the call over to Tom for some opening comments.

Thanks, Keith, and good morning, everyone. Please turn to Slide 3. I'm pleased with our overall performance in this quarter. Adjusted earnings per share of $0.76 was a record for the second quarter and $0.06 above the midpoint of our guidance. Sales of $3.27 billion were in line with expectations. Adjusted OI margin of 13.6% was up 60 basis points versus the prior year and up 120 basis points sequentially. We generated $353 million of free cash flow and during the quarter returned $319 million of capital to shareholders through dividends of $88 million and share repurchases of $231 million, giving us a total share repurchase of about $409 million in the first half. The strong OI performance -- OI margin performance is another step towards delivering 15% margins at the $15 billion revenue level. Our favorable earnings performance was due to higher revenue and strong margin results in our Transportation segment and continued productivity and momentum across the company. Orders were $3.4 billion in the quarter, up 4% versus the prior year and up 9% sequentially. Book-to-bill, excluding SubCom, was 1.06 and was above 1 in all 4 of our segments. This is a reference point, book-to-bill in our first quarter was 1.02. The economy does continue to send mixed signals, but based on our order trends, we continue to expect a strong second half due to the normal seasonal pickup, improvements in the industrial and telecom markets and strong productivity performance. For the full year, we expect adjusted earnings per share of $3.10 to $3.22 on sales of $13.075 billion to $13.375 billion. Earnings per share was up slightly from our guidance last quarter. The outlook in our Transportation segment has strengthened. It's more than offsetting foreign exchange headwinds and a reduced outlook in our networks business in the second half compared to the prior forecast. Please turn to Slide 4. Total company sales of $3.27 billion were in line with our expectations, as I previously mentioned. On a geographic basis, sales in the Americas were up 5%, excluding SubCom, due to another quarter of strong U.S. automotive demand and the Deutsche acquisition. This more than offset continued softness in networks and industrial. In Europe, sales were up 2%, again due to the Deutsche acquisition, which more than offset the weakness in those markets in our industrial networks markets. Our automotive sales in Europe were down about 1% versus the prior year on a decline in European auto production. Asia sales were down slightly in the quarter. Growth in China and Korea was more than offset by weakness in Japan. Strong performance in our Transportation segment and the addition of Deutsche more than offset weaker networks revenue and foreign exchange headwind. Please turn to Slide 5, and I'll provide some highlights of our segment performance. We had another very strong quarter in our Transportation segment. Sales were up 9% and adjusted operating income was up 31% due to increased organic revenue, the addition of Deutsche and very strong operating performance. The strong performance was in spite of a slight decline in global vehicle production around the world. On a regional basis, vehicle production remained strong in North America and it's picking up again in China. This offset weakness in Europe and Japan. Another important development was an increase in demand for industrial and commercial vehicles, primarily driven by demand for heavy trucks in the U.S. and China. The Deutsche acquisition is serving us very well in these markets. We expect continued strong results in the second half, with quarterly results similar to the Q2 levels. Please turn to Slide 6. Results on our network segment were down 11% versus the prior year, down 8% excluding the SubCom business, which is very soft right now. This resulted in about a $30 million decline in operating income. Demand across our networks businesses continues to be slower than we anticipated. We are seeing additional project activity in our telecom and SubCom businesses and feel we are well positioned to capitalize on these when these projects come into force. We have reduced our second half outlook in this segment, but do expect to improve our adjusted operating margin to the high single digit range exiting the year. Please turn to Slide 7. Revenue in the industrial segment was up 4%, in line with expectations, as the addition of Deutsche and continued strength in commercial aerospace and oil and gas markets offset weak demand in the industrial equipment and energy market. Organically, sales were down 7%, as expected. Adjusted operating margins were up 170 basis points sequentially, but below prior levels due to the decline in organic sales. Orders were up 10% sequentially, and we continue to expect sequential sales and margin improvement over the balance of the year. Now please turn to Slide 8. Sales on our consumer segment were down 7% from the prior year, largely in line with our outlook. Weakness in the PC market, still our largest devices market and a slow but gradually improving appliance market more than offset our improving position in tablets and smartphones. We do continue to be very selective about the projects we are going after in the consumer markets. In addition, we are seeing some delays in customer programs, and as result, we have reduced our second half outlook in this segment. Despite the sales decline, we continue to improve profitability in this segment and expect adjusted operating margins to be around 10% as we exit the fiscal year. Now I'll turn it over to Bob, who will cover the financials in more detail.

Thanks, Tom. Good morning, everyone. Let me discuss earnings, which start on Slide 9. Our GAAP operating income for the quarter was $359 million, which includes restructuring charges of $78 million and Deutsche acquisition-related charges of $6 million. We now expect a total of approximately $275 million of restructuring charges for the full year, an increase of about $50 million versus prior guidance. We are increasing our restructuring spending in 2013 and expect a substantial reduction on our level of restructuring actions next year. Our adjusted operating income was $443 million, with an adjusted operating margin of 13.6%, up 60 basis points from Q2 last year. Our adjusted EPS was $0.76 and GAAP EPS were $0.66 for the quarter. GAAP EPS included $0.13 of restructuring and other charges and $0.01 of acquisition-related charges, partially offset by $0.03 of income-related tax items. The tax income was primarily associated with the expiration of statutes of limitations related to non-U.S. tax audit periods. Turning to Slide 10. Our adjusted gross margin for the quarter was 32.2%. This is an 80-basis-point increase versus the prior year on relatively flat sales as a result of continued progress on our TEOA programs that's driving increased productivity and cost reductions. As you know, TEOA is our version of lean and is delivering results across the business. Total OpEx spending was $609 million in the quarter, up slightly versus the prior year. Increased expenses related to the addition of Deutsche were mostly offset by cost reduction and productivity initiatives. The right side of the slide details items on the P&L below the operating line. Net interest expense was $30 million in the second quarter, and I expect approximately $32 million of expense per quarter for the remainder of the year. Adjusted other income, which relates to our tax-sharing agreement, was $8 million, in line with guidance. The adjusted effective tax rate was 23%, which was at the low end of our guidance of 23% to 24%. And for the remainder of the year, I expect other income of about $8 million per quarter and the tax rate to be 23% to 24%. Turning to Slide 11, I'll discuss our balance sheet and free cash flow. Cash flow from continuing operations was $446 million, and our free cash flow in Q2 was $353 million. We continue to expect free cash flow to approximate net income going forward. Capital spending during the quarter was $125 million or about 4% of sales. This is consistent with our anticipated spending rate of approximately 4% to 5% of sales going forward. Receivable days outstanding were 61 days and inventory days on hand were 71 days. We work to reduce working capital levels following the Deutsche acquisition, and they are now in line with our expectations. Now let me discuss sources and uses of cash outside of free cash flow shown on the right side of the slide. We began the quarter with $1 billion of cash and ended the quarter with about $1.1 billion. During the quarter, we returned a total of $319 million to shareholders, we paid dividends of $88 million and repurchased about 5.7 million shares for $231 million. The cash flow statement shows a lower dollar amount for share repurchases due to a timing of difference on actual payment of funds. Beginning in the June quarter, dividend paid increased by approximately 19% to an annualized rate of $1 per share. We continue to expect additional share repurchases of $150 million to $250 million per quarter for the remainder of fiscal 2013. Outstanding debt was $3 billion at the end of the quarter, and we expect similar levels for the remainder of the fiscal year 2013. Now I'll turn it back to Tom.

Thanks, Bob. Please turn to Slide 12. Orders were up 9% versus the first quarter, and our book to bill was 1.06, excluding Subsea. All segments had a positive book to bill, as I mentioned earlier. And in the Transportation, industrial and network segments, orders were all up about 10% sequentially or more. Although, as I mentioned, networks -- the increase in networks was lower than expected. Orders were down slightly in Consumer. Please turn to Slide 13. Based on our order trends, we expect revenue in Q3 to be in the $3.325 billion to $3.425 billion range, and adjusted EPS in the $0.80 to $0.84 range. We expect adjusted EPS to be up approximately 4% versus the prior year due to improved productivity, cost reduction and our share repurchase program. Revenue is expected to be up sequentially, with growth in all segments. Versus the prior year, revenue will be down about 4% as weaker demand in networks and Consumer, coupled with the weaker euro and yen more than offsets growth in our Transportation segment. Please turn to Slide 14. For the full year, we expect sales in the range of $13.075 billion to $13.375 billion, and adjusted EPS of $3.10 to $3.22. As I mentioned earlier, our adjusted EPS outlook is up slightly at the midpoint compared to what we guided last quarter, primarily due to our strong Q2 performance. This, coupled with continued strong performance in our Transportation business, is more than offsetting foreign exchange headwinds to about $0.05 per share in the second half and a reduced outlook in our networks and Consumer businesses. This full year outlook represents a strong improvement sequentially in the second half, as adjusted EPS versus the first half will be up in the range of 28% -- 20% to 28%. This is driven due to the sales increase of 4% to 9%, improved productivity and reduced share count. Let me make a few comments about the range and put it in perspective. The midpoint scenario assumes revenue about flat with the prior year, with a modest economic pickup beginning in the second half and adjusted EPS growth of approximately 10% overall. The high end of the range would be a 1% sales increase, driven largely by a stronger recovery in the second half, particularly in our industrial and networks business. Adjusted EPS growth would then be about 13%. At the low end, revenue would be down about 2%, and we would expect to generate about 8% adjusted EPS growth for the year as a result of productivity improvements and the benefit of share repurchases. In summary, we had a strong Q2 and expect to deliver a strong second half, with second half adjusted operating margins above 14%. And for the year, we expect to deliver adjusted EPS up 10% versus the prior year. Our key assumptions for the second half: Global auto production expected to be up slightly in the second half, and Industrial Transportation demand increasing, particularly in the heavy truck area, the trend we're already seeing. Networks and Industrial demand -- Industrial Equipment demand is improving versus the first half level, but it still does remain slightly below last year's second half. SubCom revenue is expected to be up about 100 -- up to $100 million in Q3, that's an absolute level of $100 million in Q3 and return to about $125 million in Q4. In Q2, we ran $80 million, which is a low point in many years. And we expect continued margin improvement to our -- due to our lean programs and the acceleration of our cost improvement actions. And as I mentioned, we expect to deliver 14% plus operating margin in the second half. For the full year, we expect free cash flow of about $1.3 billion. And as we pointed out last quarter, we expect to return in excess of $1 billion of capital to shareholders. So with that, can we please open it up for questions?

[Operator Instructions] And we'll go to Wamsi Mohan with Bank of America Merrill Lynch.

This is Ruplu filling in for Wamsi today. Just wanted to start by asking you about the Transportation segment margins, very good performance. Just wondering, was that more seasonal, maybe because of commercial vehicle market picking up? And how do you see that progressing as we go forward in the second half of the year?

Thanks, Ruplu, a couple of things. Not so much seasonal, but I would say the pickup in commercial vehicles, that which, as you recall, really was soft last year, especially in the second half, has nice leverage on the margins. And the Deutsche business that we brought in has very strong margins. They're very highly engineered products that operate in very difficult environments, and they do command nice margins. So that's the biggest thing, as well as just continued strong execution. And with the 3% organic growth in the light vehicle, bringing that flow through to the bottom line.

Okay. And just looking at the book-to-bill numbers, I mean, they're again very strong. How have they trended so far in this quarter, in the third quarter?

The trend is continuing to be about that level through the first 3 weeks of April. So continuing what we saw build through the second quarter so far.

And the last one for me, Bob, I think you mentioned the $50 million more in restructuring. I was just wondering if you could give some more details on which segments that this is targeting and when do you expect to see the benefits from that?

Yes, the -- as far as the targeted segment, consistent with what we've seen really in the first half of the year, networks in particular, but also industrial and commercial -- or excuse me, Consumer, a little bit less obviously in our Transportation segment. In terms of benefit, we had indicated about $85 million of run rate benefit in 2015 from the $225 million. That number is now closer to about $100 million given the increased activity in that this year.

And we'll go to Amit Daryanani with RBC Capital Markets.

Just 2 questions for me. One, maybe just from a back to the Transportation side, the margin performance you guys had this quarter was at an all-time high, I believe. Maybe could you just talk about how sustainable that level is if revenues remain flattish? And then in addition, if you look at the European production data, it's been a lot more robust or declining at least less than what the registration numbers have suggested. So do you think that, that could end up in resulting in a more severe back half than what you guys are forecasting, assumptions being there might be an inventory build there? So just any thoughts on that would be helpful as well.

Sure. Regarding the Transportation margin, the Industrial and Commercial vehicle, because of the Deutsche acquisition, is a bigger part of that business now. So we basically doubled the size of our industrial commercial business with that acquisition, and those margins are higher than the segment average. So that's giving us nice leverage, which we expected. And we've improved those margins. We're actually running them slightly ahead on the cost synergies that were the goals that we set out when we did that acquisition. So that's helping. Regarding the European registration, a significant part of the Northern European auto production is exported. So the strength in the U.S. and China, you're going to look at those OEMs and their revenues aren't going to track exactly to the European registration for that reason. And most of the decline -- the severe decline is in the South. So we think we've got this all reflected in our outlook. And our second half is really -- I think I touched on, we continue to expect the U.S. market to be solid. China, after a slowdown last year, is picking up, we saw that in the first 2 quarters. And we continue to expect Europe to be soft.

Got it. That's really helpful. And then if I just look at the fiscal year guidance, I want to just make sure I understand this, you're basically lowering your full year revenues by $275 million or so, which you had 90 days ago. But it looks like about $165 million of that is really FX driven. Should we be talking about what the rest of that $110 million downtick is driven by? And then if my math is right, versus the 90-day guide that you had, that $165 million is a $0.04, $0.05 EPS hit, which means had you not had FX, you actually could have raised the midpoint by $0.06 rather than $0.01, is that accurate?

Yes, yes and yes. I think you got the numbers right quickly. And as far as of the rest of the revenue decline, it's mostly in networks. SubCom continues to be slow. We are seeing -- we're seeing the seasonal pickup but we're not seeing it as much as we expected, I would say, in any of our networks businesses. So second half will be better than first half. Orders picked up, as I mentioned, in the second quarter versus the first quarter, but not as robust as we had originally. I think when you dig inside things, both SubCom and telecom have a lot of project activity, which is encouraging. I'd be a little more concerned if the project activity was light. But we are seeing activity, so we think that bodes well although it's been hard to call the timing.

We have a question from the line of Shawn Harrison with Longbow Research.

Just quick clarifications and 2 actual questions. First off, on the $100 million of savings, is that a '15 run rate as you said, or is that '14?

That's a 2015 run rate.

Okay, perfect. And then the 2 questions. Just on distribution, I guess, are you seeing acceleration in that business? And is it accelerating at the same rate as kind of the overall orders or a little bit better? And then second on the networks business, typically when you see project activity build, how long does it take before you actually see that turn into actual revenues?

Yes, so on the distribution, we are seeing the book-to-bill is pretty consistent with our overall book-to-bill of 1.06 in the quarter, so we've seen that pickup pretty broad based across the world, which is encouraging, knock on wood. On the networks project business, it is hard to call. In SubCom, it's really hard to call because you can -- especially in the last 1.5 years, we've been selected for projects. We haven't -- it's not in our backlog, because until you actually sign up and signed the contract, but we've been selected, but in many cases, the projects haven't started yet. So they can take longer. I'd say, typically in the telecom business, the majority of these are accelerated builds. There are some -- there are -- the encouraging thing as well is there's some new fiber-to-the-home builds throughout the world. So I'd expect those to start showing up in revenue early next year.

Is it broadly geographic or is it Euro-centric or U.S.-centric?

I'd say, in the U.S., it's kind of continuation of fiber is pretty well established, although it's not -- still not that deep in the network other than one of the carriers. So it's, I'd say, add-on business in the U.S. In Latin America, Middle East and Asia, it's new projects. And in Europe, it's continuation of all projects. But it's pretty sporadic in Europe. I would say Europe is still soft. There's a few carriers that are accelerating, but overall, it's soft.

We have a question from the line of Mark Delaney with Goldman Sachs.

I was hoping maybe you could start just more broadly on inventory levels across the supply chain. I know you touched a little bit on automotive and distribution, but just maybe holistically, how do you feel about customer inventory levels?

Generally, pretty good. Again, I think after what happened 3 or 4 years ago to everybody in the supply chain, everybody has been more cautious and gotten better at this. I know we feel like we have. Our connections with the customer, our planning processes, our double checking, triple checking is much more rigorous than it was before. So in general, and I've spent a lot of time in the last quarter on the road with our customers and our distribution partners, and that's one of the first questions we talk about. I would say it doesn't feel like there's any kind of inventory issues.

That's helpful. As a follow-up question, can you help us understand or remind us, what it was that you guys did that enabled you to increase your design win activity in the mobile segment as some of the larger OEMs, and then what the new outlook is on timing for some of those new programs to ramp?

I would say a couple of things. One, we're starting from a low base, to be frank, so winning a few more awards is better than we were. The big thing is we put new focus and new leadership in the business about 18 months ago that had a lot of experience in that space. And that's helped us on our speed-to-market. I felt -- I feel like we've always had good products, but we haven't always been great in the speed side of it, so that's improved. As I mentioned, we are being selective there, we're trying to really focus where we bring some technology to the customer and not focusing on the more commoditized side of the business.

Maybe just to follow up a little bit on that. I mean, how much of the full year change to your revenue were some of these new programs outside of the FX part? And then do you guys have good visibility on when some of these new programs could ramp?

It's a couple of programs. It's really no more than that and one that we didn't do and one that pushed out. So there's no -- there's not really a substantial change, it's not like a dramatic change in the number of programs in our pipeline. It's really a couple.

Mark, we do get a typical seasonal lift into the second half of the year, particularly around the consumer devices element of the Consumer segment, which we have baked into our guidance.

We have a question from the line of Matt Sheerin with Stifel, Nicolaus. Matthew Sheerin - Stifel, Nicolaus & Co., Inc., Research Division: Just a question on the full year guidance. Looking at your guidance for the June quarter and then full year on a revenue basis, it looks like September is going to be sort of flattish to up a little bit sequentially, which is seasonal. Yet to get to your full year EPS guidance, it looks like you're going to see fairly significant margin expansion with strong EPS growth on a sequential basis. So where is that coming from? Is that a mix issue, do you expect cost to come out through this cost-cutting program. Just trying to reconcile the difference there.

Sure. No, I think it's really 4 main areas. You could call it mix, I'd say it's strength of our Transportation business, particularly in this commercial vehicle, which is one of our strongest margin businesses, so that's one. It is continued productivity. And Bob mentioned the program that we call TEOA, which is our version of lean, is really, really starting to deliver results for us. You'll see it in the P&L and in productivity, but it's on-time delivery, it's quality. So that, our productivity levels are up nicely from where they were even 1 year ago. There are the benefits of the early stages of the restructuring just starting to kick in. And as Bob mentioned, we're doing it faster, we're trying to get it behind us and doing it faster. And then the benefits of the strong cash flow that we're primarily using for -- in return of capital to shareholders and shows up in the lower share count. Matthew Sheerin - Stifel, Nicolaus & Co., Inc., Research Division: Okay. And what's the assumption on share count for the June quarter with your guidance?

We're planning roughly $150 million to $250 million per quarter on share repurchase. We did a little more than that in Q2. We closed out the quarter on an average fully diluted at, what, about 4.25 million shares, it will go down 2 million or 3 million per quarter for the balance of the year. Matthew Sheerin - Stifel, Nicolaus & Co., Inc., Research Division: Okay, great. And just lastly, we've seen gold come down and copper has been down in terms of pricing, when do you expect to see that favorably impact your margins?

We'll see a little bit of a tailwind in the second half. But as you know, we hedge quite a bit, so we won't get the full benefit if it stays down until -- you really won't start to see that until next year. But year-over-year, we've got a little benefit. It's not a lot.

We have a question for the line of Sherri Scribner with Deutsche Bank.

This is Kevin LaBuz on behalf of Sherri. Taking a step back and looking at last year, you're expecting to see demand improve in the back half of the year and it turns out that didn't materialize. Just now fast forwarding to this year, wondering what gives you more confidence in seeing that growth come about or the improved demand in the back half of the year?

Sure. Well, we usually get a little bit of a lift sequentially. So we feel pretty confident about that. I'd say the main thing is the order rates in Q1 and Q2. So we're 4% year-over-year, and as I mentioned, that's continuing and even a little bit better than that in the first 3 weeks of April. So that gives us a lot of confidence around Q3 and early to Q4. I think the question, it's really a kind of a Q4 question in a way. If this order rate continues where we are, things will be good. And to your point, the economy, I think, in general, kind of plateau-ed and softened a little bit in the summer last year and that's affected our fourth quarter. So we feel more confident at this point because of the way the order rates are running year-over-year and what our channel partners are saying, what our customers are saying. But we've got to see it continue this way through this quarter. The order rates continue strong through this quarter and into the early -- the very beginning of the fourth quarter.

All right, that's helpful. And just looking at the distribution channel, have you seen any signs of restocking there?

I don't know but -- maybe a little bit. I think it's really tracking demand, though. Frankly, because I think everybody is being careful about restocking in advance in light of the last 2 or 3 years where strong Q2, early Q3 momentum and then things petered out a bit. So I would say a little bit of restocking, but nothing else significant. It just feels like responding to customer and demand more than anything else.

We have a question from the line of Jim Suva with Citi.

Can you just take a step back and think about, as you run the business, kind of longer-term, help us understand kind of the organic true company in a normal environment sales growth opportunities for TE Connectivity? Maybe break it down into some of the major material components, such as content growth, what we -- you think over the long term will happen, unit growth maybe from automobiles. And then are ASP declines embedded in your content growth or then do we kind of deduct some type of ASP declines? And really how we should think about organically growing the company and maybe hopefully someday we get back to a more normalized environment.

Great question. Yes we think about this all the time. It's -- thinking ways in the last 5 years, it's hard to call any kind of trend, but if you look over the long historical trend around our connector business, which is about 75% of our business, you -- that's in the 5% to 6% range over a long trend, that hasn't been that high over the last 5 years. So of that -- so I would say 5% to 6% is probably the long-term trend when we look at the continued growth of electronics. And that really is about probably 8% volume, unit volume growth on average -- or maybe, yes, 6% unit volume growth rather, 2% price erosion, 2% to 3% content growth, in those ranges, plus or minus 1%. And it really is kind of market by market as well. That's the way we would build it up. So -- but historically, the industry has grown in that 5% to 6% range.

We have a question from the line of Amitabh Passi with UBS.

This is Jim Hillier for Amitabh. In the Network Solutions business, if I look at this on a sequential basis, it looks like the operating margin showed a sequential drop with only a modest change in revenues quarter-over-quarter. Could you discuss the factors behind the margin softness and what's giving you the confidence that operating margins can improve to the high single-digit range exiting the year?

Yes, the slight margin erosion -- well, the margin is really low. I mean -- and it's primarily due to overall compared to where we've run in prior years, the volume being way down. SubCom is essentially breakeven right now, a little bit above that. So we believe that's at the low end of the cycle. So the improvement from the rate we're at, picking up 200 to 300 basis point over the next 2 quarters is first and foremost volume driven, most of which I would say is seasonal related, a little bit of project related. And secondly, the actions that Bob described, the actions we've been doing to -- in light of it being down longer than we thought, taking additional costs out to sure up sort of the baseline margin level. So it's a combination of those 2 things.

Okay, got it. And then as a follow-up on Networking Solutions, if you could talk about your broader expectations for telecom and IT spending in the back half of the fiscal year, that would be helpful as well.

For the back half -- well, for the back half of our year, which would -- is the -- ends in September 30, I think we feel more -- a little bit of a pickup on SubCom because of projects coming into force. So $80 million in the second quarter and getting back to the $100 million to $125 million kind of run rate at the end of the year. Telecom picking up, mostly seasonal, but a few projects ticking in. And then I'd say our enterprise and datacomm business flattish over the next 2 quarters. So it's really driven more by telecom and SubCom. So spending in those areas.

And our final question comes from the line of Mike Wood with Macquarie Capital.

You'd previously talked about the National Broadband Network contribution to the network segment growth this year. Has that also gotten pushed out or can you give us an update there?

NBN ramped up in the quarter. In fact I was down there about 1.5 months ago and they're going aggressively. So I would say we're kind of at the run rate we expect to be over the next few quarters. So the big nice jump up in Q1 and Q2, and it's probably going to continue to run at that level for a couple of quarters as really just deploying the resources to accelerate that. So yes, we're well positioned there, we're shipping product, it's materializing. It's been -- it's taking a little longer than I think the original plan, but not unusual with a project of this magnitude. But it's real and we're shipping. It's one of the largest projects we have done.

Okay. And of the roughly, I think you said $2.2 billion is China sales you had last year. Can you talk about how much of that is related to automotive and what you saw there in the quarter and what you're outlook is? I think China luxury vehicles are pretty strong in the first quarter.

Yes, we had a 20% growth in our China automotive business in the first quarter. We have a real strong position across every level of the market in China. And automotive is about 1/3 of our total revenue that we do in China, and we're pretty well spread out across our other businesses in China as well. It's the biggest local business per se, meaning that the products are all consumed in China, there's really no export in that. About 2/3 of our other business ends up in products that get exported. Well thanks, everyone, appreciate your time today. Just kind of just to reiterate, we really do feel good about this quarter. I think the operating leverage of the company continues to get better. The cash flow continues to be strong. The integration of Deutsche has gone very well. We're really pleased with the people mostly and the products. And I think we're adding a lot to the value proposition that Deutsch already had. We are looking for a nice pickup in the second half of the year, the current order rates are right in line with that. And I think importantly, at those revenue levels, expect to generate around 14%. And as I mentioned, we're definitely on track to do between dividend and share repurchase about $1 billion of capital return to shareholders. So thank you very much, and talk to in a quarter or if not before.

That does conclude our conference for today. Thank you for your participation and using AT&T Executive TeleConference service. You may now disconnect.