Conference Transcript - ADI 2026-09-22

Operator

Please welcome Rich Puccio, Chief Financial Officer of Analog Devices, interviewed by Harlan Sir at J.P. Morgan.

Harlan L. Sur, Analyst — J.P. Morgan

All right, good afternoon, everyone, and welcome to J.P. Morgan's 2026 U.S. All-Stars Conference here in London. Again, my name is Harlan Saram, the semiconductor and semiconductor capital equipment analyst in the U.S. for the firm. Again, very pleased to have Rich Puccio, Executive Vice President and Chief Financial Officer at Analog Devices here with us today. So for those of you that don't know the Analog Devices team, leader in high performance, mixed signal, RF, analog semiconductor solutions, strong position in power management, very strong position in signal chain processing, which is both analog and digital, which is a technology that bridges the real world to the physical world. Best in class, gross operating free cash flow margin, strong capital return program, and a very diversified business, industrial, automotive, data center, comms infrastructure, greater than 85% of the company's total revenues. So Rich, thank you very much for joining us today. Thanks for having me, Harlan. So I think the best place to start off with is sort of where we are in the current upcycle and the resilience in the business, right? So as the industry and analog devices emerged from a cyclical downturn in 2023, 2024, your business bottomed in April of 24. You were driving about 34% year-over-year revenue declines, but did start to drive positive sequential growth trends, which continued all the way into this year, right? You've drove the positive year-over-year inflection in the April quarter of last year. You've driven seven consecutive quarters of accelerating year-over-year trends, anticipating 41% year-over-year growth this quarter. Take us through the dynamics over the past 12 months since we last had you here. And more importantly, your view on the idiosyncratic and cyclical dynamics in your business going forward.

Rich Puccio, CFO

A lot of questions. so I guess a little bit of it starts where Harlan started um you know as we as we started to exit uh 24 we had started to signal and started to see some sort of what I would call idiosyncratic drivers that were areas in our business that were holding up better than others and starting to show growth and early on we started talking about our our ATE business and our aerospace and defense business and then as we looked forward at that point we were anticipating and we would start to see growth there. And sequentially, with continued improvement, the broader cycle upside would come into play. And what happened as we progressed, two things happened. One, we did start to see that cycle improvement. But I would say it was not as early as some of our idiosyncratic pieces. And I'll go back to some of the key signals and things that we were talking about as we evaluated this change but you know if you if you look if you just look at where the the sort of we'll talk about this more as we go i'm sure the the areas where we're we're calling it sort of the super cycle part of the business um aerospace and defense obviously you can see everything going on and around the world and the increased demand and and that was very resilient and that was growing ate was starting to see significant benefit from the increased infrastructure spend So this is early sort of the indirect impact of the data center infrastructure buildup. Because of the increase in high bandwidth memory, high performance compute, you need more complex testers, which meant you needed more ADI content in the testers to be able to do the complicated test. So those two businesses were really strong. And then as we continue to move forward throughout the year, what we started to see was obviously the acceleration in our data center business that we were seeing as part of that build up. We'll talk more about that. But that is a business where we've been a very strong player in power and the optical side. So that started to grow. And then as the broader cycle markers started to show, one of the things we talked about paying attention to to determine where we were in the cycle was when did our broad market industrial come back? We are, at our core, a 50% industrial products company. And for a long time, we weren't seeing any of that mass market high volume product coming back to historical volume levels. Well, we started to see that come back. And then what you started to see was the real acceleration on our growth because we had our idiosyncratic drivers adding the third, which was now a data center, and also the cyclical drivers. And we had a couple of businesses within end markets that were slower to recover. But by the time we get exiting 25 and into 26, we are now in growth across pretty much all of the end markets, all of the sub parts of the end markets. So a good one, a big chunk of our industrial business that was slower to recover was our automation business. Of course, we started to see automation grow. And now for the last almost year, automation has become a big growth business. And that's a pretty good slug of our industrial. But if you think of, you know, essentially 30% of our business is in ATE, aerospace and defense and data center, and those have been growing at very high rates. Then to have the broader recovery, you start to see that come through. The other area for us, which we've talked a bunch about, is automotive, right? Despite what has been a relatively soft SAR units environment in auto, we've continued to outgrow units pretty significantly. You know, if you look over the last five years, we've outgrown units by about 15%. And that's largely because we've got share and content gains, right? We made investments early in the products that support, you know, automated driving systems and the immersive cabin experience. And so those have been really strong growers for us. And so then you start to step back and look at it. You know, we feel very good with the demand signals we're seeing, where we are from a booking and backlog perspective. you know that we've got an opportunity for sustained growth you know in the double digits even into 27 yeah you know look there's a lot of uncertainty in the macro environment so we always have to be cautious about that but with what we see today you know we i don't think we've ever been more confident in where we're positioned in the market uh and and looking out at the opportunity next year no that's great and um to your point i think last quarter q2 uh the team drove double digits year-over-year growth in all four of your segments, right?

Harlan L. Sur, Analyst — J.P. Morgan

Talking about a synchronized sort of recovery across all of your different end markets. Yeah.

Rich Puccio, CFO

Like I said, we've had an early signal for this, as we've been talking about since 24, we continue to see really strong results from a design win perspective. And if you look at the growth in 25 in design wins and 26, that's another good indicator for where we'll head medium term. So, you know, and in addition to our end markets, the other thing that has happened is we've seen growth return in all of our geographies. So it's very broad based at this point, you know, across all of our end markets and across all of our geographies.

Harlan L. Sur, Analyst — J.P. Morgan

Well, maybe more from just a near term perspective, right back last year when we hosted you at this conference, the team had already driven sequential bookings growth in six out of the last seven quarters. That's now 10 out of the past 11 quarters of sequential bookings growth, right? You're about midway through this quarter. January quarter, next quarter, typically does tend to be seasonally weaker sequentially. But do the current order trends imply a return to seasonal trends in January? And how are you seeing sort of current order activity by end market or geography?

Rich Puccio, CFO

So I'll go backwards. um we we do we i don't any do any mid-quarter updates on on our bookings uh and i also don't guide to q1 however you are 100 correct typically for us q1 is a down market but what i will say and i think i might have said this on the in my uh my q a on the earnest call is with what we see today i do expect that we can deliver an above seasonal q1 got it and normally q1 would be down in sort of the mid-single digits for us. So I do think we can do better than that, given what we've seen. You know, one of the things we've seen, and I think you probably, talking to other semis, you're seeing a little bit of this. We're getting a little bit more visibility than we probably would have had six months ago. Harlan, where, you know, I'd be very confident in what my one quarter out visibility looked like. We're starting to get a bit more bookings coming in out into the second quarter, which just has given us a little bit more visibility, which is helpful for us, given, you know, we're making wafer starts six months in advance of when we're actually delivering wafers. So that visibility is helpful for us.

Harlan L. Sur, Analyst — J.P. Morgan

The team has done a good job of shipping below your customer and channel consumption levels over the past 10 to 11 quarters. You exited July with 156 days of inventory on your balance sheet. That's down sequentially. Channel inventories continue to be below your target of six to seven weeks. How do you anticipate the trend on your inventory this quarter? are any signs that customers are starting to replenish inventories, or are they still conservatively ordering to their consumption trends?

Rich Puccio, CFO

So from an overall strategy perspective, we've talked about this going on almost two years. We've been consciously adding inventory back on our balance sheet and actually have started to ship into the channel to add inventory. But the competing dynamic is the revenue growth rates and the sell-through activity is accelerating at a faster race than probably any faster rate than folks anticipated. So despite adding to our, I think we'll, you know, we ended Q3 with record gross inventory levels. We will add more, expect to add more inventory in Q4, but I still expect days to even likely stay flat. And on the channel, same thing. We talked about in the quarter call that we added inventory into the channel, But the sell-through is accelerating so fast, we're also still keeping below our sort of 67-week target range. Again, we will, as we've planned, add more inventory into the channel. But I expect we'll still end up in around that, you know, slightly below six weeks. And that a little bit is an indicator of how much in-quarter business is being generated, given the steep demand we're seeing across the end markets. So we will continue to try to optimize, just given where we are in the cycle and demand. But I don't expect that we'll see an increase in days or weeks, despite our efforts. That said, I think we're pretty well positioned from a supply perspective.

Harlan L. Sur, Analyst — J.P. Morgan

And, you know, typically, as we move from the bottom of the cycle to the positive parts of the cycle the first phase of goodness is customers depleting excess inventories and then they start ordering your products in line with their consumption trends which is kind of where i think you guys are now the next phase of growth is when your customers feel comfortable about their demand signals and keeping higher levels of inventories on their balance sheet right we call now at a pace where you're shipping into your customers' consumption trends, but are you already starting to see that second phase of growth where customers are starting to replenish inventories, or is that still in front of the ADI?

Rich Puccio, CFO

So I think it's actually a bifurcated story because I don't think we're actually shipping into consumption across our full customer portfolio. You know, if you'd look at the three super cycle areas I mentioned before, ATE, ADEF, and data center, if you look probably where we are today, I would say we've already gotten to what would have been that historical consumption line and are probably above it okay but for the for the rest of our business yes we are still either at or double digits below so in industrial for instance greater than 50 percent of our industrial sub-segments are still double digits below that consumption line so that's why i say and and when i look at that and i try to i get asked this question all the time where are we in the cycle when i look at it one of the things that's important is for the three super cycles where we're clearly above the consumption line That's right. That is visible end demand. We can see data centers being built. We can see what's going on in aerospace and defense world. And ATE, although indirect, is directly tied to the amount of testing required for the new hyperscaler build outs. so those three despite being above consumption i do not believe our inventory building period they are trying to get as much as they can to build their building today so i i don't think we've even finished getting back to consumption broadly because so much of our business is below that level and then i would agree at some point you'll get the um and the oems and then customers their memories will jump back and say hey we we couldn't ship product because we didn't keep enough inventory in our books and we will want to put some safety stuff we have not really seen any of that behavior i would say that's not been a primary or even a secondary driver of our growth yet um and you see if we we can't keep inventory in our channel and we're not seeing it on our customers and we do you know my team looks at like 250 customers and we track their inventory levels and their revenue levels against ours and you know the signals are usually pretty clear when they're starting to put inventory on their balance sheet or depleted and we only got to depleting inventory in sort of where we feel like we don't have any other inventory challenges you know in the last sort of three to four three quarters that's right right and that's right and one of those cycle signals was we saw the broad market come back as i mentioned well i also think part of the dynamic was the broad market may have been the last ones to get some of their late allocations from the prior shortages so it took them a bit longer to work it off you know a year ago we were talking about automation struggling we think that inventory has been worked off and then in the last year and a half we've been seeing a work off of inventory and our vms piece of our auto business and we actually think that that business will come back to growth in the current year so both from an idiosyncratic adi we think we've got a tailwind and and also from where we are in cycle, which again is why you heard Vince talk about on an earnings call, you know, a level of confidence that we can continue to grow in double digits and into 27. Yeah.

Harlan L. Sur, Analyst — J.P. Morgan

So let's take a step back and let's actually look into longer term. You talked about the potential, Vince talked about the potential for double digits growth profile in fiscal 27. But if I look back at the analog devices team over the past 20 years, you've grown your revenues at a 10 to 11% CAGR, about 30 percent faster than the semiconductor industry earnings and free cash flow per share growth at a 12 to 15 percent kegger over that period of time yeah some of the growth has been inorganic but majority has been organic right i know your prior revenue the team's prior revenue growth targets was like the seven to ten percent revenue kegger fifteen dollars of of of per share of earnings power in fiscal 27 which by the way you guys are going to blow past that if i look at ours in consensus estimates. Given the leverage to the data center, the idiosyncratic data center, aerospace and defense, we'll talk about energy infrastructure a little bit, continued content gains in automotive, physical AI. How does the team think about the forward revenue growth and earnings power profile of the company? Not just fiscal 27, but how should we think about that over the next few years?

Rich Puccio, CFO

Certainly, we have had pretty significant growth well above our model for the last several years, and we expect that in this upcoming year we'll have double-digit growth again. Now, if you go back and look at our business back to, say, 2018-19, we have essentially run at a CAGR about that 10, 10, 10.5%, and that has outperformed. Do we think with what we see from bookings, backlog, design wins that we can continue to outgrow the market? I do. The other thing that's important in there, and you talked about the leverage is we have been super disciplined from an execution perspective. We talked about coming out of the downturn that we would be very judicious in how we deployed capital. We've made those decisions in a smart way. Obviously, first call for us has been an R&D. It will continue to be R&D in which are the most important high leverage projects. And we've been very disciplined adding expense elsewhere. So you've seen that in the EPS and cash flow numbers coming through. And I think the resiliency of our model will continue. So I think we're very well positioned. Again, I worry a little bit just because the macro continues to be uncertain. We are under a ton of cost pressure and inflation pressure. And I do think one of the things that has helped us has been discipline execution. Obviously, we've maintained, we were maintaining price better than most of our peers. And in fact, we've had two price increases. And then the third thing that's really important, and I love to highlight this because we, you know, we did a very large acquisition a few years ago and promised the world that we would achieve a billion dollars of synergies by 2027. Well, I'm happy to say I expect we will exceed the billion dollars and I think we will close out 26 with near 700 million dollars worth of synergies. So those things give us confidence that we can continue to be, you know, a double digit brower.

Harlan L. Sur, Analyst — J.P. Morgan

When we look at our companies and we think about the growth profile, the potential growth profile, right? The one thing that we always look at is your design wind pipeline, right? It's a strong, I think it's a strong forward indicator of the revenue growth potential. The analog devices team, you guys grew your design wind pipeline by double digit percentage in fiscal 23, fiscal 24 across all end markets, right? 20% growth in your design win pipeline last year, fiscal 25. How is fiscal 26 tracking so far? And what areas of your portfolio and market exposure are you seeing the strongest expansion and design win momentum?

Rich Puccio, CFO

So I agree with your sentiment. Best way to think about where we're headed in the next three to five years is what design win looks like. And we're on track in 26 to exceed the growth rates we saw in design wins in 25. You know, I would say, as you'd expect, we're seeing outsized growth numbers in data center and aerospace and defense. But I would also say broadly across our portfolio, design wins will be up over the levels we saw in 25.

Harlan L. Sur, Analyst — J.P. Morgan

So we feel really good about what we're doing from an engineering perspective and how we're deploying our capital, given what we're seeing from a design win perspective. let's uh let's talk about some of your end markets and i'm going to start off with your largest end market which is industrial it's about 50 of your total revenues i love industrial because it's this diverse set of different businesses factory automation healthcare automated tests instrumentation and tests energy infrastructure aerospace and defense right and as you've pointed out several times one of the strong dynamics among several um which separates adi from its peers is your strong exposure to aerospace and defense, strong mixed signal, RF, millimeter wave, DSP, compound semiconductor products, right? This was a growth area for ADI during the last downturn, continues to drive a strong growth profile. Last year, this business, when we were at this conference, I think was just about breaking through a billion dollar sort of annualized revenue run rate. Where is A&D currently trending on an annualized run rate basis? And what types of programs is the team leveraged to? Is it SATCOM? Is it radar, missile systems, et cetera? And then what's the growth outlook look like over the next sort of few years?

Rich Puccio, CFO

So, as you said, a year ago, we were talking about that business getting to a billion. If we look at the Q3 exit rate for that business, it's nearing $2 billion. So, obviously, substantial amount of growth. And the important thing to think about is a couple of things. One is our airspace and defense business, you know, that includes what we're doing both from government contracts as well as our commercial self-products where we're engaged in satellites, both, you know, whether it's the LEO satellites or the geosynchronous satellites, it's in drones, it's in missile defense systems. So it is a pretty broad portfolio, and it obviously leverages a lot of the technologies that we've built and technologies we've acquired that you mentioned. I don't need to relist them. And we feel very strongly that that business can continue to grow double digits for the next decade. And, you know, when we look at the external signals, you know, the U.S. is asking for a 50 percent increase in their defense spending. You know, the Europeans are going to all spend some percentage of their GDP. So I think the opportunity is real, and we're very well positioned across our portfolio in aerospace and defense.

Harlan L. Sur, Analyst — J.P. Morgan

And then with industrial, the other sort of idiosyncratic driver has been automated test equipment, what you call ATE, right? Another strong segment, as you mentioned, right? You're benefiting from demand of these automated test equipment systems that test NVIDIA GPUs, Broadcom XPUs, Intel, AMD CPUs. your components go into automated test equipment that test these new high-speed memory architectures, right? Like high-bandwidth memory DRAM that supports, let's say, an NVIDIA-based or AMD-based GPUs, right? Here, the team leads with its leadership position in high-speed data converters and high-speed precision amplifiers. It's trending up strongly year over year. What's the annualized revenue run rate of this franchise right now?

Rich Puccio, CFO

So exiting Q3, our ATE business's annualized run rate was just about a billion dollars. You know, as we've talked about in the past, we have an incredibly strong share position in ATE. And one of the outcomes of this increase in high bandwidth memory and high performance compute is the complexity of the testers increases. So each generation of more complex testers tends to drive more ADI content. So, you know, a little bit similar to the auto story where in addition to getting share, we're also getting increased content as the complexity of the testers increase. So I think that that's an area, another area, given what we see in the forecasts from an infrastructure, AI slash data infrastructure build. That is another business we think that has tailwinds, right, and gives us an opportunity for that above market growth.

Harlan L. Sur, Analyst — J.P. Morgan

And then sticking with industrial and again, the diversity of the business that I talked about before, an emerging end market segment within industrial is your energy infrastructure and energy systems business. And again, this has tiebacks to data center and all of this AI build out, right? The team has, I think, sized the energy infrastructure slash systems market is on a 500 million sort of annualized run rate for this year. Energy storage systems management and monitoring, right? Extremely important for data center infrastructure. You leverage here your expertise in battery management solutions. Like, what other building blocks in the portfolio do you leverage to target this fast and emerging segment within industrial?

Rich Puccio, CFO

Yeah, so obviously it is a really important sector, the energy management, because back to the infrastructure, everything seems to circle back to the infrastructure. You know, the power constraints are going to continue to be one of the challenges for that world. So the ability to manage energy, including, you know, energy storage systems is going to be critical to the ability to get renewables under the grid to manage that distribution. So our ability to work with the energy businesses is critical. BMS, obviously, you know, our reputation is we have the best BMS systems in the world. So not just in cars, but if you're building batteries for that structure. But then if you look at our broader signal chain, one of the things that the energy companies need from us is our ability to sense how power is being used, what's happening in the infrastructure, and give them telemetry and data so that they can enhance the efficiency of their operations. So that is the broad part of our sensing and signal chain, where we're leveraging our core franchise products in conjunction with our intelligence and algorithms to be able to provide the energy, to be able to help the energy providers manage and deliver power efficiently. because there are finite places to build and get more energy. So, you know, the Holy Grail is getting more efficient in how we use the power that is available, which is why we feel really good about where we're positioned there. It also gives us a lot of insight in the power from essentially, you heard Vince talk about this on the call, going from power coming out of the grids all the way to the power going into the GPU slash XPU. And that's really helpful for us when we're working with the large data center customers.

Harlan L. Sur, Analyst — J.P. Morgan

Yeah, and that's a good segue into my next focus area, which would be your core, what I call your core data center and accelerating compute segment, right? You've articulated your data center exposure, power delivery, power management products, optical networking control products. At around 80% of your total comes infrastructure business. This data center portion of it is up 100% year over year. It's about a $2 billion annualized run rate, split 50% power, 50% optical. On power, obviously, a strong position in power delivery. Like, help us understand the breadth of the team's portfolio here, right? You talked about, you and Vince have talked about grid, power delivery from grid to chip, Help us understand the diversity of products and solutions that you attack this particular segment of the market with.

Rich Puccio, CFO

So on the power side, if you think about my comment earlier on the energy management, so this is getting power from the power distribution companies into the data center. So we obviously are helping get the power to the wall of the data center. And then as you go into the data center, the three ways I think about it is there's the power management piece, which is think about our hot swap capabilities and our products that do that. The other piece of it is power conversion, right? because you've got high voltages coming into the data center that you've got to step down through intermediate, and then you've got to get to that stage too, which is sort of delivering the chip power to the chip. So I think we have historically been strong in the first two pieces of that. And an area we're very focused on is that last sort of micron, which is the power delivery into the chip. And that's actually where the Empower acquisition we did is really important because that gives us an opportunity to have a product in the IVR that is a vertical power solution, which improves the efficiency and effectiveness and helps solve some of the complicated challenges with power delivery that is lateral because that chain from the lateral power into the chip, you have a lot of power loss. You're a little bit better when you build underneath. But that's also very complex because of the dimensions and the science. You've got thermal dynamics and noise and diffusion issues you have to address that IVR addresses. So we think that's a really important piece for us to be able to play and it helps sort of close our loop all the way from grid to the chip and from a hyperscaler perspective ai whichever however you want to describe this ai bill if you can and our in our analysis would say we can save you know 15 plus percent power loss if you start looking at the size and scale as we move to gigawatts worth of additional data centers that's a lot of power savings so we think that's a really big opportunity for us and And actually, I think that, you know, when you look at the long-term opportunity in the data center, probably for us, the biggest growth opportunity is in that stage two power delivery. And then the second piece for us in the data center is really what we're doing in the optical space, right? And here, you know, our primary position is in the optical control system, right? Controlling the lasers. And we have held a leading position there for years, and we've tended to set the standard. So like the power, which we're seeing increases in voltages, you know, as we think about the transition to 800 volt and what that means, we're very well positioned. What's also happening is in the data center, the speed with which data has to move across the data centers and across servers continues to accelerate. So we've had very strong positions in 400 and 800. Yes. We're already shipping into a 1.6 terabyte solution into the market. but we're also and i think we may have even talked about this last year you know we've been working and our customers are already working on what is the 3.2 speed yeah right and so each generation of the increase in speed also gives us opportunities to gain share and to get some more content so that control and and then the other piece that is a growing area and i think vince talked about this on the call is in the optical control systems so i think there's a number of those areas where our core products continue to advance to be able to handle the faster speeds just like we're handling the higher power consumption. So we feel like we're very well positioned there again at a $2 billion run rate business. This is really significant for our growth going forward.

Harlan L. Sur, Analyst — J.P. Morgan

The team has talked about on the last earnings call one to one and a half billion dollars in analog SAM opportunity per gigawatt of data center build out. How do we think about this sort of split between, what is the split between optical and power?

Rich Puccio, CFO

I'm not sure. I don't know if I have an exact split, but I would say right now those two businesses for us continue to grow at pretty similar rates, right? We've been talking about continued growth 100%. I do think, just given the nature of the power growth for us, the growth rates in power for us will exceed the growth rates in optical, because we're going to have an opportunity to get a power position in vertical power that is significantly better than the power position we have today in lateral power. So over time, I think that shift moves away from the 50-50, but I do think, given our strength in both positions, they're both very solid long-term growth opportunities.

Harlan L. Sur, Analyst — J.P. Morgan

Andy, you know, we talked about the energy systems. I don't think you guys actually lumped this into your data center, your definition of data center. But, you know, there's so much focus on energy, energy systems, the capabilities that are needed that you deliver from your battery management and monitoring systems. And so I would assume this doesn't add to the data center, but it sort of biases more the analog team more, again, towards that sort of power part of the market opportunity relative to maybe, let's say, optical. Yeah.

Rich Puccio, CFO

So it does, as you said, the energy management rolls up into our currently into our externally reported industrial. That's right. However, it is the knowledge that we've gained in having those relationships that helps us fully understand the power tree coming from grid into the chip, which obviously helps our data center team. And look, there are a lot of challenges at higher voltages, whether it's thermal and or otherwise. And I think that's a really strong opportunity for us, which is why I said I think the longer term growth for us is bigger in the stage two power.

Harlan L. Sur, Analyst — J.P. Morgan

One of the things in my mind that has always sort of differentiated the analog devices team is you've always approached things from a systems level approach. And one of the things I feel like the market doesn't appreciate is you actually do have, we all tend to think about analog devices as high-performance mixed signal analog and power, but you have a very strong franchise in digital signal processing. You have a very strong franchise in software and firmware development and systems development, right? So how is the team leveraging your software, your digital signal processing, your DSP capabilities, your systems level integration capabilities to gain even further traction in the data center and market? Great question.

Rich Puccio, CFO

And so I would say what we're trying to do, and I think we're doing a pretty good job, is drive a very similar strategy to what we drive in the broader part of our business, which is leverage all of those components to be able to deliver system level solutions. Because what we find, and we're in conversations directly with the large players here, is they come with a really complex problem. They don't want to solve these problems across a bunch of suppliers. They want help in one supplier to bring them an integrated solution that solves their problem. So our ability to leverage what we've built from a core analog, but also from our digital signal processing, and now adding into it software and our own algorithms gives us an ability to provide a broader end-to-end solution into the data center. So I, you know, I think that strategy is what will help us sell more solutions. And that has proven to be a really successful strategy across the rest of our business. And I think our teams are leaning in real hard there.

Harlan L. Sur, Analyst — J.P. Morgan

And maybe as a part of that, you know, two weeks ago, the team announced its acquisition of Alif Semiconductor. That's a company that makes specialized, low power microcontroller, compute focused chip solutions for AI edge use cases across industrial consumer and markets. What does the acquisition enable the analog team to do that it couldn't have achieved organically or through partnership? And can you just give us a sense of Alif's annualized revenue run rate and gross profitability profile? Sure.

Rich Puccio, CFO

So for us, Alif obviously brings us an AI native platform of heterogeneous compute. And what that does for us is it gives us a product immediately and a platform to bring out that integrated solutions that we want to have for our customers. You know, one of the things that's really important is, you know, having that core product allows us to bring a lot more of our broader analog portfolio into our solutions, gives us a significant upside. And I think this was a technology that probably over time we could have developed, but where they were, this was a really important time accelerator for us. And what we've learned is being in early in these new product situations gives us a significant advantage from a learning cycle perspective. but thinking about what it what does it mean right we've we talked about a lot how we were going to benefit from the infrastructure build as a company but i think if you go back geez when i right when i started maybe one of my first earnings calls um vince talked about the bigger opportunity for adi was going to be ai at the ai at the edge that's right small language models decision making out at the physical edge this helps enable that so you know this i i try to use examples i can understand so you know you think about robotics is a great example right we we already have the best capabilities in the world that mes tracking measuring and sensing physical data so you're able to take that data bring it into the bring it into the through the signal chain to a compute which then can make a decision and drive a local action and that ability to sense compute and act out at the edge in this physical intelligence world is a significant next generation of AI because it covers a bunch of things. One, think about what are some of the biggest challenges power. Having to compute with small language models out where the data is collected, lower power consumption. Lower latency, which obviously if you're dealing with certain kinds of robots, latency is super important. You have the signals all happening inside small spaces, not going back and forth to the cloud. And third, security, because you're also not transporting the valuable data you're collecting away. So we think that this gives us a significant step forward in speed to be able to start delivering those kinds of products. And, you know, our teams have been working with the Al of technology and some of our algorithms to see that they're going to be able to do that. And we feel very good. So I think this is an accelerator for us in a place we knew we needed to get to as part of our long term strategy. and we feel really good about the products they have and, by the way, where they are with customers on their products. From our financial implications, obviously we haven't closed the deal yet, but we don't expect this to be near-term material from either a revenue or a cost perspective. As we start to look out, this probably is a part of our business that ramps more in the 28 kind of timeframe.

Harlan L. Sur, Analyst — J.P. Morgan

I see. Yeah, we know the management team from Alif, right? Syed Ali, who comes from the Cavium. You know, he was the founder of Cavium, leader in compute. And look at their solutions that they provide. I was perusing the Alif portfolio of products. And it's microcontrollers, it's microprocessors, it's standards arms-based. But they have this unique sort of AI acceleration capability built into every one of the MCUs and MPUs. And to your point, it sounds like they have a very strong design wind profile across industrial, IoT, consumer, wearables types applications.

Rich Puccio, CFO

And the other piece of their business that's important also as we look out of the edge is their ability to do sensor fusion.

Harlan L. Sur, Analyst — J.P. Morgan

Yes, that's right. Let's talk about pricing. Pricing has been an important dynamic in the analog sector this year, right? From what we've gathered, I think, as you mentioned, the analog team has rolled out two pricing adjustment actions this year, one in February, another this month. Can you just help us better understand the actions taken year to date, whether they were applied broadly across the portfolio or concentrated in specific product families or in different end markets?

Rich Puccio, CFO

Sure. Just a level set from a pricing philosophy perspective. And Vince and I have talked about this before. Our goal with the pricing, and it includes the last two we did, is really to offset the sustained inflation we've been experiencing. We have worked very hard over a number of years to try to absorb as much of that inflation through efficiency to maintain our margins, but it has just persisted too long. So the first price increase that we did was largely targeted at our channel. And again, our price increases, our cost recovery, there's no margin stacking. we're not doing this to increase margins we're just doing it to try to keep our margins stable at the existing levels this most recent increase we've continued to see you know early on you know that the inflation was in some obvious places whether it was transportation costs or gold costs that has continued to broaden we're seeing inflation in wafer costs we're seeing inflation in assembly pricing pretty much across the supply chain which drove the second price increase uh that one was broadly across all customers uh and so we're we're that as you described was rolled out in uh mid-september and you know we'll continue to monitor market the dynamics look the inflationary pressure is not receding uh i know there's been a at least in the states there's a rate increase that hopefully will drive some moderation but we'll continue to watch that we'll also continue to try to be as efficient as we can to absorb some of that cost um but again our philosophy going forward will be to to recover costs when we need to to maintain margin yeah because to your point you know and we cover we cover guys like global foundries our asia team covers companies like tsmc and umc and smic and it does feel like things are supply wise capability wise aren't getting better as we step into 2027 it looks like a lot of these

Harlan L. Sur, Analyst — J.P. Morgan

Some of your foundry partners are getting set to potentially increase wafer pricing further. And so based on what you said, if input costs, one of which includes wafer pricing, continues to increase, there's potentially maybe a likelihood that ADI will have to take some more pricing actions as a result of that, potentially.

Rich Puccio, CFO

Yeah, we do not have any incremental pricing in actions planned. But as I mentioned, our approach will be consistent. We'll monitor and track. And if it looks like it's going to materially have an impact, we would consider an incremental price increase. But obviously, that's not our preferred path. We'd like to see the inflation come down.

Harlan L. Sur, Analyst — J.P. Morgan

As you continue to move through this upcycle, could you just discuss some of the key gross margin numbers that will allow the team to maintain your, now your near record 70% gross margins into next year? Sure.

Rich Puccio, CFO

And we actually, one of the interesting things is we have guided to a record, for Q4, we've guided to a record margin. And what's interesting about that is the last time we had a record margin, we were a 53% industrial business. We're guiding to this record margin at a 50%. So one of the areas where there's an opportunity to continue to maintain in the face of some of these pressures, or maybe even increase, is mixed change, right? If we see a further shift to industrial, which tends to be our overall higher margin business, we could see some upside. Obviously, the revenue curve will be a big indicator. If we see this continued acceleration on the revenue curve, then we will just see better fixed cost absorption, which could give us some benefit. And then the third piece, as you mentioned, would be any potential future price increase. But, you know, obviously our preference would be to have cost moderate. But those are the things that will help us stay at that level. the mix within mix has some impact but broadly it's that shift to in broader industrial that gives us the uplift we look where i think i talked about this in the last call i'm not expecting utilizations to be a driver that's further upside because we're we're running the factories pretty hot in fact we're adding we're adding new capacity every day into the factories adding equipment to available clean rooms adding test test capabilities uh and actually getting more capabilities externally, just given the continued growth ramp that we're experiencing.

Harlan L. Sur, Analyst — J.P. Morgan

The team had previously targeted best-in-class free cash flow margins, 34% to 40%. You just drove 36% free cash flow margins, trailing 12 months, with greater than 100% free cash flow return via dividends and repurchase. Is that still the right sort of range to think about free cash flow generation on a go-forward basis as a percent of revenues in that sort of 34 to 40 percent range on a go-forward basis?

Rich Puccio, CFO

Short version, yeah, 34 to 40 still is the right model. And obviously, if you look across our peer set, we tend to be in the sort of top part of that. That's right. And look, one of the things I think that's important about our free cash flow model and the result is it's really a reinforcer of the operating model we're running, right? We're continuing to generate significant operating margins and we're translating that into cash highly effectively and our ability to use that to return cash to shareholders through dividends, which have increased for 20 something plus years and stock buybacks has been, you know, critical for us as we look at the overall. And I look, there'll be some variations, you know, if you saw at the bottom, you know, at the bottom, we were still very strong free cash flow. We had a record free cash flow 25 this year.

Harlan L. Sur, Analyst — J.P. Morgan

We've talked about um you know we had some incremental payments for some capacity obviously we've got some incremental tax payments things but still feel very good about where we are in that 34 to 40 range and our goal is going to need to continue to drive into the high end of that we're just about out of time but i wanted to see if there are any questions from the audience if you have any questions jeff you don't get to ask questions uh raise your hand i did want to ask a question about your mass markets business, because you referred to it broad markets, mass market, I tend to view it as sort of your catalog set of products, right? These are products where they can be used in multiple different applications, multiple different end markets, very high performance, and it gets sold to this very long tail of small to medium-sized customers. And to your point, This category of customers oftentimes end up being sort of the leading indicator from a sort of cyclical perspective, because they typically tend to move first as it relates to pulling back or starting to add more purchasing capabilities. Can you just help us understand roughly the sizing of the mass market, broad market, business, and the gross profitability profile? Because my sense is gross profitability for mass market is actually quite rich. And I'm going to give an answer, and then Jeff will correct me if I'm wrong.

Rich Puccio, CFO

I think the broad market is probably about 15% of industrial. And I would say on average, it's above the corporate gross margin average. But I would tell you just one point before we stop on this. Our broad market, many of our large customers also buy through the broad market. Because we don't dictate where people make their purchases from us. So sometimes fulfilling it through the distribution channel for them is a preferred choice. And we're fine with that. So some of our big customers that we have direct agreements also buy through what would show up in the channel business.

Harlan L. Sur, Analyst — J.P. Morgan

I see. And so back to our discussion on the potential gross margin and the potential for maybe gross margins to continue to inch its way higher, broad markets falls under industrial, which is one of those categories, non-AI focus, right, that is probably still sitting below where you were back in the peak of, I don't know, 21 or 22, right? So as that broad markets business comes back, higher growth profitability profile, that is a potential for maybe driving slightly higher.

Rich Puccio, CFO

And it's interesting because I think we talked about if we get through Q4 where we expect, I think it'll be four quarters of where we've seen broad market growth.

Harlan L. Sur, Analyst — J.P. Morgan

So still much shorter than what would be a typical cycle before we'd see a turn, which is another one of those data points we look at to decide where we are relative to the cycle. that's great strong setup for 26 strong uh set up for 27 look forward to continuing to monitor the execution of the team rich thank you very much for having me appreciate it very much thank you