Zebra Technologies Corp Q1 FY2023 Earnings Call

Good day, and welcome to the Zebra Technologies First Quarter 2023 Earnings Conference Call. Today, all participants will be in a listen-only mode. After today’s presentation, there will be opportunity to ask questions. Please note, this event is being recorded. And at this time, I would now like to turn the conference over to Mike Steele, Vice President of Investor Relations. Please go ahead.

Good morning, and welcome to Zebra's first quarter conference call. This presentation is being simulcast on our website at investors.zebra.com and will be archived there for at least one year. Our forward-looking statements are based on current expectations and assumptions and are subject to risks and uncertainties. Actual results could differ materially due to factors discussed in our SEC filings. During this call, we will reference non-GAAP financial measures as we describe our business performance. You can find reconciliations at the end of the slide presentation and in today's earnings press release. Throughout this presentation, unless otherwise indicated, our references to sales growth are year-over-year on a constant currency basis and exclude results from recently acquired businesses for the 12 months following each acquisition. This presentation will include prepared remarks from Bill Burns, our Chief Executive Officer; and Nathan Winters, our Chief Financial Officer. Bill will begin with our first quarter highlights. Then Nathan will provide additional detail on the Q1 results and discuss our revised 2023 outlook. Bill will conclude with progress made on advancing our Enterprise Asset Intelligence vision. Following the prepared remarks, Joe Heel, our Chief Revenue Officer, will join us as we take your questions. Now, let's turn to slide 4 as I hand it over to Bill.

Thank you, Mike. Good morning, and thank you for joining us. Our team executed well in a challenging macroeconomic environment, delivering first quarter sales and earnings results above the midpoint of our outlook. For the quarter, we realized sales of $1.4 billion, approximately in line with the prior year; and adjusted EBITDA margin of 21.4%, a 150 basis point increase; and non-GAAP diluted earnings per share of $3.94, a 2% decrease from the prior year. Regional sales performance was mixed with growth in Asia Pacific and North America mostly offsetting declines in EMEA and Latin America. From a solutions perspective, printing, data capture, and RFID were bright spots, while sales of mobile computers declined. We continue to see cautious spending behavior by enterprise customers, with a decline in large orders and growth in small to midsized orders. From a profitability perspective, improved gross margin drove our EBITDA margin increase. Higher interest and tax expenses resulted in a slight earnings decline. I would now like to spend a moment on our sales outlook. As the risk of broader softening industry demand has materialized, we have reduced our full year outlook. Late in Q1 and into Q2, demand trends softened across our end markets, particularly for mobile computers in EMEA and North America, as customers' CapEx budgets tightened and IT device spending contracts. We are mitigating the impact of softer sales with targeted go-to-market actions to drive additional demand and incremental cost actions. We will continue to take an agile approach to managing throughout this uncertain near-term environment. I will now turn the call over to Nathan to review our Q1 financial results and provide additional details on our revised 2023 outlook.

Thank you, Bill. Let's start with the P&L on slide 6. In Q1, net sales decreased 1.9%, including the impact of currency and acquisitions and were 0.3% lower on an organic basis. Our Asset Intelligence and Tracking segment increased 28.4%, led by strength in printing as we lapped significant supply constraints in the prior year period. Enterprise Visibility & Mobility segment sales declined 11.2%, with mixed performance among our offerings. We realized strong growth in data capture solutions and RFID. Mobile computing sales declined, primarily due to large customer order deferrals and slowing demand through distribution, along with the impact of ceasing sales to Russia in March of 2022. Additionally, we also drove growth across Service and Software, with strong service attach rates. Performance was mixed across our regions. North America sales increased 1%, due to strength in printing and data capture, helped by the recovery from supply chain challenges. EMEA sales declined 4%, primarily due to a 350 basis point impact of our suspension of sales into Russia. Asia Pacific sales grew 6%, driven by strong mobile computing growth in Japan. And Latin America sales decreased 1%, with relative outperformance in Brazil and Mexico. Adjusted gross margin increased 290 basis points to 47.5%, primarily due to lower premium supply chain costs, partially offset by FX and lower service margin. Adjusted operating expenses increased 130 basis points as a percent of sales, primarily due to a return to normalized sales and marketing activity and strategic investments in the business, partially offset by a reduction in G&A expense. First quarter adjusted EBITDA margin was 21.4%, a 150 basis point increase driven by gross margin expansion. Non-GAAP diluted earnings per share was $3.94, a 1.7% year-over-year decrease due to increased interest expense and a higher tax rate, partially offset by fewer shares outstanding. Turning now to the balance sheet and cash flow on slide 7, in Q1, we had negative free cash flow of $92 million, which was unfavorable to the prior year period primarily due to the timing of inventory payments, higher interest costs and cash taxes, and $45 million of previously announced quarterly settlement payments, which are scheduled to conclude in Q1 of 2024, all of which was partially offset by favorability in the timing of customer collections and lower incentive compensation payments. In Q1, we also made $15 million of share repurchases and invested $1 million in our venture portfolio. We ended the quarter at a comfortable 1.6 times net debt to adjusted EBITDA leverage ratio, which is well below the top of our target range of 2.5 times and had approximately $1.3 billion of capacity on our revolving credit facility. On slide 8, we highlight premium supply chain costs, which have continued to improve from peak levels. The actions we have taken to redesign products, along with the improving freight rates and capacity, have enabled us to reduce component purchases on the spot market and reduce freight cost impact. In Q1, we incurred premium supply chain costs of $15 million, as compared to the pre-pandemic baseline, and $53 million lower than the prior year. We are expecting these premium supply chain costs to continue to decline. Let's now turn to our outlook. We continue to see enterprise customers defer large orders and are also realizing lower sales into the channel as distributors adjust to softer demand trends as well as our improved product lead times and their higher cost of capital. For the second quarter, our sales are expected to decline between 9% and 11% compared to the prior year. Our outlook assumes a two-point negative impact from foreign currency changes and a one-point additive impact from recent acquisitions. We anticipate Q2 adjusted EBITDA margin to be approximately 20%, driven by expense deleveraging from lower sales volume, partially offset by higher expected gross margin from improved supply chain costs. We expect premium supply chain costs to be approximately $15 million in Q2, with more than $40 million in year-on-year reductions. Non-GAAP diluted EPS is expected to be in the range of $3.20 to $3.40. We are reducing our full year 2023 sales outlook by three points. We now anticipate net sales to decline between 2% and 6%. This outlook assumes an approximately 50 basis point net negative impact from foreign currency changes and acquisitions. Second half sales are expected to benefit from easier year-on-year comparisons, our recently announced price increase, and abating FX headwinds. We have a solid pipeline of opportunities that gets us to the high end of the sales range but are embedding caution in our outlook, given recent demand trends in the uncertain macro environment. We expect a full year adjusted EBITDA margin of approximately 22%, which is the low end of our previous outlook. We now expect premium supply chain costs of approximately $40 million for the year, as we are seeing faster-than-expected supply chain recovery. We have been proactively managing operating expenses through targeted restructuring actions and discretionary cost controls, and we expect sequentially lower operating expenses in the second half of the year. We now expect our free cash flow to be between $450 million and $550 million for the year, which reflects increased caution in our revised full year outlook. As a reminder, cash flow is impacted by increased cash taxes and $180 million of previously announced settlement payments. We continue to be focused on rightsizing elevated inventory on our balance sheet as component lead times have normalized. Working capital variability over the past year has been significantly impacted by global supply chain dynamics. Our fundamental business model is unchanged and we believe the actions we are taking will enable us to deliver greater than 100% free cash flow conversion as we normalize inventory levels. We are focused on achieving a 100% conversion over a cycle, which is now included in our long-term executive incentive compensation plan. Please reference additional modeling assumptions shown on slide nine. With that, I will turn the call to Bill to discuss how we are advancing our Enterprise Asset Intelligence vision.

Thank you, Nathan. While customer spending is pressured near-term, our solutions are essential to our customers' operations, and we are well-positioned to benefit from secular trends to digitize and automate workflows across our served markets. Slide 11 illustrates how we digitize the front line of business by leveraging our industry-leading portfolio of products, software, and services. By transforming workflows with our proven solutions, Zebra's customers can effectively address their complex operational challenges, including labor scarcity and improving productivity in challenging times. We empower the workforce to execute tasks more efficiently by navigating constant change in near real time, utilizing insights driven by advanced software capabilities, such as artificial intelligence, machine learning, and prescriptive analytics. Now, turning to slide 12. We are focused on advancing our Enterprise Asset Intelligence vision by continuing to elevate Zebra as a premier solutions provider through our compelling portfolio. In March, at the ProMat manufacturing and supply chain trade show, Zebra, along with our partners, showcased the depth and breadth of our innovative solutions for manufacturing, logistics, and the broader supply chain. Our industrial automation solutions, including autonomous mobile robots, machine vision, and fixed industrial scanning, are synergistic with technology-equipped frontline workers. At the show, we featured Zebra solutions at each stage of warehouse operations, including receiving, storage, and fulfillment. It demonstrated how we improve key outcomes for our customers, such as enhancing supply chain agility, improving production quality, and maximizing utilization and productivity. As you can see on slide 13, Zebra powers the front line of business across retail and e-commerce, transportation logistics, manufacturing, healthcare, and other markets. Businesses partnered with Zebra to optimize their end-to-end workflows as they strive to meet the increasing demands of customers across a variety of vertical end markets. The business challenges we are solving have expanded through our investment in complementary offerings that enable us to further penetrate customer accounts. I would like to highlight several wins across our end markets. We are beginning to deploy the record RFID win we mentioned on our last call. This global transportation logistics provider plans to tag every package that enters their facilities with RFID and coated labels to enhance tracking visibility. Zebra solutions improve productivity, enable faster error detection, driving cost savings and increased customer satisfaction. In addition to our RFID offerings, this customer is also deploying our mobile computers as an integral part of the overall solution. A major e-commerce provider in Europe recently expanded their use case of Zebra's fixed industrial scanners at several thousand packing stations. This enables the customer to continue to significantly reduce scan time and increase throughput, particularly for their more complex packing needs. The support and collaboration with Zebra and our partner was a key differentiator among our competition. A large Australian supermarket chain has replaced consumer-grade devices with our Zebra rugged tablets and scanners to enable faster and more accurate buy online, pick up in store, and home delivery fulfillment. Zebra's enterprise-grade solution, along with our commitment to sustainability, including our recycling program and eco-friendly packaging, were competitive differentiators in securing this win. A Latin American manufacturing company recently selected Zebra mobile computers and mobile printers to help streamline delivery and warehouse operations. Delivery personnel will benefit from synergies between these products, while warehouse employees realize similar efficiencies with Zebra scanners and desktop printers. This manufacturer shows our products for reliability and durability and considers us a strategic partner in their technology journey. A regional bank recently selected our workforce management software for all branch locations, displacing a competitor. Our solution is expected to drive cost savings through more efficient scheduling and allocation of people resources. We are pleased about the benefits our solutions are delivering in our customers' mission-critical operations. Slide 14 reiterates challenges that have materialized since our last guide. We believe the actions we are taking, which include working closely with our customers as they look to deploy solutions to drive efficiency within their businesses, increasing our focus on accelerating growth in under-penetrated markets, and driving incremental cost actions within our business will allow us to exit 2023 stronger, positioning us to deliver profitable growth, increased market share, and improved free cash flow. In closing, we are facing near-term headwinds and have taken actions to drive a stronger second half. Our long-term conviction in our business is unchanged. Moving forward, we are focused on driving profitable growth in our core and expansion markets, collaborating closely with our customers and partners to continue to elevate Zebra as a premier solutions provider in attracting, developing, and retaining top global talent to drive innovation. I will now hand it back to Mike.

Thanks, Bill. We'll now open the call to Q&A. We ask that you limit yourself to one question and one follow-up, so that we can get to as many of you as possible.

We will now begin the question-and-answer session. Today's first question comes from Tommy Moll with Stephens. Please proceed.

Yes. Thanks for taking my questions.

Good morning.

Good morning, Tommy.

Bill, I wanted to start on the topic of run rate versus large customer demand. It sounds like the run rate business might have been a little bit stronger in Q1, but maybe also got a little weaker towards the end. So any commentary you could give us on one versus the other would be appreciated. And specifically, when you're talking about the potential for channel destocking, is that more a run rate driven phenomenon, or is that not the right way to think about it? Thank you.

Hey, Tommy, I would say that in the first quarter, our sales growth in run rate or non-large deals saw sales growth that moderated towards the end of the quarter. If we characterize where we're at today, through most of Q1, we saw that our sales opportunities were developing as we had expected, which allowed us to deliver on our first quarter guide. As we got later into the quarter towards the end of Q1 and into April, while our run rate continued to be strong in the first quarter, we saw that begin to moderate. However, the real challenge has been around large customers tightening their CapEx budgets further as we got to the end of Q1 and into Q2. New projects did not receive the funding that our sales teams had expected in the near-term. We have a number of projects that were planned for Q2 and early Q3 that have really been deferred, especially in retail and specifically in North America and EMEA. This slowing demand for larger deals, combined with moderating run rate, has impacted our distributors who are looking to adjust their working capital levels in light of the slowing demand. Overall, these pressures led us to decrease our Q2 guidance and ultimately look at the full year, despite run rate being strong in Q1.

Just to continue with that theme, Bill, as you mentioned, some of the incremental weakness that drove your revision to the full year outlook really didn't manifest until late first quarter into the second quarter, it sounds like. Nonetheless, the outlook does imply a fairly healthy improvement in terms of revenue in the second half versus the first half. At this point, though, how much visibility do you have there? It feels like some of these conversations, particularly on a large customer side, may still be early with a lot of question marks. But if I'm wrong in that characterization, please let me know. Thank you.

Tommy, this is Nathan. Just to give you a little color on the full year guide: If you look at the full year down 3.5% on organic sales in the midpoint, as we said in the prepared remarks, we do have a pipeline of opportunities and actions to get to the high end of the range. However, we are being cautious in our assumptions due to the uncertain macro environment. As for the second half, we have easier year-on-year comparisons, particularly in Q3, as well as recently announced price increases that will benefit in the second half, helping to offset some of the macro headwinds.

Thank you both. I’ll turn it back.

The next question comes from Damian Karas with UBS. Please proceed.

Hey, good morning, everyone. I have a follow-up...

Good morning.

Good morning, Damian.

Morning. Just a follow-up question on your comments, Bill, about some of these project deferrals. Just for clarification, right, are we talking about the same kind of select handful of large customers, North America retail, and EMEA retail, or are there additional large customers that are mimicking this behavior or just kind of a combination of both of those factors? I'm curious if thinking about future execution and delivery, do you have any kind of sense on timeline on that, or are they just kind of on pause for the moment?

Yeah. I think it might be worth covering the vertical markets and what we saw in Q1. Predominantly, retail saw project deferrals. However, from a T&L perspective, we continue to see customers invest in visibility and productivity solutions. T&L was up in Q1. We saw strong growth across manufacturing as they continue to invest in industrial automation and productivity. Healthcare also continued to show strength. It was mainly retail, as a significant number of customers across EMEA and North America had pushed out projects that were in our sales funnel for Q2 and Q3. Nathan mentioned earlier we took a more conservative view of the funnel and pipeline for the second half. Perhaps Joe wants to comment more on that.

Sure. So Damian, I wanted to underline one thing first and then maybe I'll give you some examples because I thought you might appreciate this. I'd like to underscore that by and large, we're not seeing cancellations from these large customers. We're seeing deferrals of decisions and, in some cases, deferrals of deployment. The majority of those deferrals are to the second half of this year, to Q3 and Q4. One of our large US retail customers had ordered about $3 million from us. They indicated that by the end of Q2, they would order an additional $20 million. Since then, they took $6 million and said they're still going to order that in Q2, but we still don't have the purchase order yet. They're still trying to secure the budget for it. They have $10 million that they moved to Q3 and another $4 million that they moved to Q4. Another larger US retailer had ordered $5 million last year and had indicated that they were planning to buy $35 million by the end of Q2. Since then, they have said that $11 million will be ordered in Q3, and that $24 million will not have budget for this year but are planning to order it in 2024. This gives you an idea of how these projects are moving and how these deferrals are happening.

I think just one thing to add: While these two examples highlight the decline for the overall year and the full year guide, we have a pipeline and actions that are above towards the high end of the range but we're being conservative about assuming that all those deals won't be pushed further. So there's a balance there, taking into account what we're hearing from our customers and the level of visibility we have.

Understood. Appreciate that color. I also wanted to ask you about your margin guidance. It seems you’re expecting higher gross margins than previously; is that the case? And could you maybe walk through the changes underlying your margin guidance for the year? Thank you.

Yes. Our full year EBITDA guide of 22% is at the low end of our prior range. We are seeing favorable gross margin trends, but that's being offset by the lower volume. If you look at an aggregate, nearly one point higher than last year, primarily due to the supply chain improvements. We're reducing those premium supply chain costs for the year from $50 million to $40 million as both freight rates improved and we're having to buy less components on the spot market. Those two points of improvement are being offset by about one point of FX. Despite the improvements in FX with our hedging program, there's still a headwind for the year on FX. Also, the pricing actions we've taken over the past 1.5 years are offsetting the material and labor cost inflation or recovering some of that degradation over the past year. We have actions identified to adjust our cost structure with the lower volume.

The next question comes from Jim Ricchiuti with Needham & Company. Please proceed.

Hi. Thank you. I just wanted to drill down a little bit more, if I can, on the deferrals. Are the deferrals that you're seeing skewed more in North America, or are you seeing that same kind of level of deferrals in EMEA?

Yes. I would say, Jim, it's really both and is centered predominantly around retail. We've seen some moderation in demand in the other vertical markets, T&L and manufacturing, but it's predominantly retail across North America and EMEA. It's important to note that these projects haven't been canceled; our customers still have conviction about the value we deliver in improving productivity, increasing visibility across supply chains, and more effective operations within retail. They're making tough CapEx decisions in the short term to adjust to the macroeconomic environment, but they expect to move ahead with these projects as their CapEx loosens. The challenge in retail is we've seen them continue to push projects out, so we've had to take a conservative view of the outlook. Some of these projects have moved into 2024.

Got it. And I wanted to just follow up with a question because you mentioned it several times: the strength in RFID. Is that mainly from this large North American logistics customer, or are you seeing the strength in other areas of logistics as well? And is that also a function of what we're hearing and seeing in retail? Is that sustainable as we go through the year?

Yes, I would say that we're seeing broad-based demand for RFID across supply chains in general. From retail through transportation logistics and back into manufacturing, so it is broad-based. We have the broadest and deepest RFID portfolio of solutions of fixed readers, handheld readers, mobile printers, software and solutions, as well as our labels. We expect that we'll continue to benefit from the strength in RFID. Joe, do you want to add anything?

We do see the broad-based nature of this demand. We're observing it in healthcare and T&L, where entire package operations that were previously barcode-based are now being driven by RFID for greater efficiency and fewer errors. This is a broad-based movement, particularly strong in Asia-Pacific and Europe, where labor costs are high, and RFID can have an outsized impact.

Thank you.

Our next question comes from Keith Housum with Northcoast Research. Please go ahead.

Good morning, guys. In terms of looking at the guidance for the full year, can you kind of help me with some context in terms of how you're thinking about the overall macro economy and how changes in the macro economy may affect your guidance, both the good and the bad?

I'd start by saying that we're clearly seeing a softer macroeconomic environment that is having our customers take a more conservative view of their CapEx budgets in the first half of the year, with less certainty in those budgets for the second half. The majority of the unknown is particularly noticeable in retail in North America and EMEA, where we see the most pronounced effects. This results in elongated sales cycles and opportunities that we thought would close in Q2 and be deployed in early Q3 now moving out. While some portion of business is moving out, there's also a portion that is moving into Q3 and Q4, with some being deferred into 2024. We think we've taken a more conservative view of our pipeline and the opportunities expected to close in the second half. Overall, we feel good about our business and the value we bring to customers, but it comes down to the macro environment, especially for retail in North America and EMEA.

Does your guidance include a soft or hard landing in the US and Europe, or do you approach that context differently?

We've had a tough Q1 from a mobile computing perspective, with double-digit declines in Q1. We see Q2 continuing to be challenged from a mobile computing perspective. However, we saw strong growth in other parts of the portfolio like data capture and print. Overall, mobile computing remains challenged in the first half, but we expect to see some recovery in the second half as these projects move forward into 2024.

Great. Thank you.

The next question comes from Joe Giordano with TD Cowen. You may proceed.

Hey. Good morning, guys. I'm curious, coming out of COVID, you put in a ton of assets. What are your thoughts on the replacement cycle of that? So as we go into a soft patch here, what’s the ability of customers to extend their refresh cycle? Just curious given the deferrals that Joe mentioned if those were new expansions or refreshes of old products that are getting pushed out. Thank you.

The investments we've made over the last few years in customer success have given us good insights into our installed base and how our customers are using it. Generally, this has revealed to us that usage cycles have shortened, and that the replacements being contemplated now are things that have gone in approximately three years ago or even less. We just launched a brand-new set of our mid-range and high-end mobile computers, and the value tier was released last year. These are right on the refresh cycle that we're seeing from those customers. While customers are deferring decisions and deployments as we speak, they will have to purchase shortly. We have confidence in that; it's just the timing that's uncertain.

If things get cyclically worse here, how should we think about the risk of inventory obsolescence on things that you have on hand, considering the tough channel? Thank you.

There’s always a risk in a technology business of excess and obsolescence. That's something the team actively manages in terms of when we put something in – a lot of that's in our control in terms of the lifecycle of a product, when we end the life of a component or our finished good. Today, we look and say there’s still demand for what we have in inventory on a component level. The team has a series of actions, working with our suppliers to reduce purchase commitments where we can, and drive programs where we have available stock with the commercial team. Today, I don’t feel – I mean, there’s always risk given our business model, but I would say nothing more than we’ve had in other times.

The next question is from Meta Marshall with Morgan Stanley. Please proceed.

Great. Thanks. You noted the benefit of price increases in the second half. I just wondered, given the macro environment, if there's been any pushback to that, or kind of shrinking of the amount of units to keep with the same dollar amount that you've seen in response to that? And then as a second question, you noted backlog was a benefit to printing in Q1. Is there any meaningful backlog or pent-up orders across the space that we should be mindful of for the year? Thanks.

Joe, do you want to take the price increases?

Sure. We increased prices last year outside of North America towards the end of the year, and we have increased them in North America here in the first quarter. We have a very analytical approach to this where we analyze by product and by region where we stand competitively and the economics we can afford for our channel partners because we want them to thrive. As a result, we looked at that and we said we have additional headroom in North America and we implemented those. We have generally seen good traction with those, and they're going to have a meaningful impact on helping us mitigate the challenges outlined earlier.

Looking at the overall backlog position, I'd say it has normalized from where we were the last few years, in line with what we need to deliver for the second quarter. The positive news is that we've largely worked through our delinquent or aged backlog as supply has improved. We still have some backlog to work through for both printing and DCS businesses, but in aggregate, we're back to more normalized levels, if not a little higher than pre-pandemic, enough to definitely support our Q2 guide.

The next question comes from Rob Mason with Baird. Please proceed.

Yes. Good morning. I had a question just around your thought process on the channel distribution level, I guess, destocking. Is that a process that you think can be completed this quarter, or does that extend into the second half as well?

There are a few things I can address. Our overall inventory remains healthy. However, as we highlighted, there is realigning occurring as distributors adjust their days on hand to match the moderating demand, as well as the improved lead times and the higher cost of capital. So we're working closely with all the distributors to ensure they maintain the appropriate levels, and this is recalibrating to the slower demand. You will see variations across distributors or regions due to various dynamics, which is why we look at it as a range in aggregate. Overall, we believe those levels are in line with where we were pre-pandemic, but we think there is an outsized impact in Q2 relative to the rest of the year due to the softened demand the past month or two.

Does your guide at the midpoint take down 4%? Does that assume that the run rate business would be down this year also?

We’ve seen moderation in the run-rate business. In Q1, small to medium deals continued to grow. However, as we progressed later into the first quarter, we saw some moderating of the run-rate business. The real challenge is around larger customer orders and larger deals, as run rate continues to see growth across our printing business.

Understood. Maybe just as a last question to follow up on that. How do you view, in a situation like this with deals being pushed and conservative outlooks on IT budgets, the performance of adjacent expansion areas relative to your core business? Are those at the same level of risk or how do you view those differently given different growth dynamics?

As previously mentioned, we saw growth in services and software in the first quarter. We're confident that our software value proposition to our retail customers, especially across Reflexis offerings, Prescriptive Analytics, and our Antuit offerings, have value in retail. Additionally, we're seeing a strong interest in our fixed industrial scanning and machine vision solutions. Manufacturing customers are continuing to invest in industrial automation, so we're seeing opportunities in those areas. We believe we have many growth opportunities in T&L and know there is demand continuing to grow in that sector.

To add on, we have seen that near adjacencies have been strong contributors recently. Tablets, for example, have become our fastest-growing mobile computing category, and we now have a number one market share position in tablets. This has been a terrific contributor and we see those use cases expanding in areas like healthcare and manufacturing. RFID and bioptic scanning have also contributed strongly. The adjacencies near our core have performed nicely.

The next question comes from Brian Drab with William Blair. You may proceed.

Hi. Good morning. This is Blake Keating on for Brian. Just wanting to dive a little bit into the second half implied guidance. I know it's already been asked a little bit, but I was curious just to hear outside of retail, what's driving your confidence in that second half revenue guide, if there are any end markets that are really growing or if you can provide any color there? And then how we should think about that in volume versus price?

Across T&L, our customers continue to struggle with labor constraints and are looking to add visibility across the supply chain. We’ve seen some positives where T&L customers are continuing to make investments despite some challenges. We have strong projects continuing outside of retail as well. For example, our postal win in Japan and the RFID win in North America show that some large projects continue. T&L manufacturing is another area where we're seeing investment.

We have not seen deferrals of either project decisions or deployments in T&L, manufacturing, or healthcare to the same degree as retail. They've shown steady demand, although we expect some moderation due to the strong Q1 growth. Additionally, we see potential in the government sector, where we see some strong demand emerging.

For the second half, we expect around 1.5 points of benefits in pricing. Given the second half is viewed against easier comps, and the trajectory of the business as well as favorable FX impacts help provide a favorable context going from first to second half.

Got it. Thank you. And then just lastly, on the Matrox acquisition, I was curious as to how the business is trending and how we should think about it moving forward?

Overall, with the Matrox acquisition and Adaptive Vision, we've created a comprehensive portfolio of solutions across fixed industrial scanning and machine vision. Integrating our organic investments plus the acquisition provides what our customers and partners have been looking for, whether they begin their automation journey or have complex use cases. We’re seeing strong interest from our customer base, and we feel good about where we are. Our integration is proceeding as planned.

Got it. Thank you. I’ll pass it along.

Today's last question comes from Guy Hardwick with Credit Suisse. Please proceed.

Hi. Good morning. I think three months ago, you said on the Q4 call that channel inventories were only a few days higher than pre-pandemic levels. But it sounds like, Nathan, you said that channel inventories are back to pre-pandemic levels? Did I hear that correctly? And it sounds like your Q2 guidance in particular assumes further destocking. Based on your Q2 guidance, can you quantify what the difference could be between sell-in and sell-out in Q2?

Yes, I think just to clarify the comment: We look at this in terms of an absolute range. We’re still in that same range we were in from a pre-pandemic perspective, no different from Q4, maybe just a little bit on the higher end. We do not have sales out to sales in reconciliation. Historically, when the velocity of the channel slows, we can see an outsized impact as distributors moderate and manage their days. If sales out of the channel slow, they need less inventory to support it, implying they won’t make the same type of stocking orders. This has an outsized impact on sales ends. The opposite is true when the macro improves, leading to even stronger recovery. However, that is not included in our full year.

So there is an assumption of destocking in Q2, suggesting that underlying demand is better than your sales guidance?

That's right. As you would expect, if you have lower sales out of the channel that requires less inventory in the channel to support that business.

So Nathan, last question from me: What is your FX rate assumption for the full year?

We take the spot market when we put together the guidance, sitting around approximately $1.09 to $1.10 to the euro.

This concludes today's question-and-answer session. I would now like to turn the conference back over to Mr. Burns for any closing remarks.

Yes, I'd like to thank our partners, customers, and employees for their support and dedication in this challenging and uncertain environment. It's an honor to serve as CEO, and I'm excited about the opportunities ahead of us. Thank you. Have a great day.

The conference has now concluded. Thank you for attending today's presentation. And you may now disconnect.