National Instruments Corp

F:NI1

Earnings Call Transcript 2022-Q4

[Operator]

Thank you for standing by, and welcome to the NI Q4 2022 Earnings Conference Call. [Operator Instructions] As a reminder, today's conference call is being recorded.

I would now like to turn the conference to your host, Ms. Marissa Vidaurri, Vice President of Investor Relations. Please go ahead.

[Marissa Vidaurri, VP, IR]

Thank you. Good afternoon. Thank you for joining our Q4 2022 earnings call. I'm joined today by Eric Starkloff, President and Chief Executive Officer; Daniel Berenbaum, Chief Financial Officer; and Karen Rapp, Strategic Adviser to the CEO.

We will start with an update on our performance in the quarter before opening it up for your questions. Our discussion today will include forward-looking statements, including, without limitation, those regarding the company's expectations of meeting or exceeding financial targets, its capital allocation, financing and investment plans, the payment of its quarterly dividend and its future business outlook and guidance, including demand for its products, ability to realize revenue from backlog, future results of acquired companies, execution of growth strategies and the outcome of the company's restructuring activities and strategic alternatives process.

We wish to caution you that such statements are just predictions and that actual events or results may differ materially and could be negatively impacted by numerous factors. We refer you to the documents that the company files regularly with the Securities and Exchange Commission including the company's annual report on Form 10-K filed on February 22, 2022, and the subsequent quarterly reports on Form 10-Q. These documents contain and identify important factors that could cause our actual results to differ materially from those contained in our forward-looking statements. We assume no duty to update any forward-looking statements to conform the statement to actual results or changes in our expectations.

A reconciliation of our non-GAAP financial measures disclosed in this call to the most directly comparable GAAP financial measures or related disclosures are contained in our quarterly presentation deck on ni.com/nati. You can find the press release and quarterly presentation to supplement today's discussion on our website at ni.com/nati.

Management will also be hosting meetings at the Susquehanna conference in New York on March 2 and the Morgan Stanley Conference in San Francisco on March 7. We look forward to seeing you there.

I will now turn the call over to Chief Executive Officer, Eric Starkloff.

[Eric Starkloff, President and CEO]

Thank you, Marissa. Good afternoon, and we appreciate you joining us today.

So first, I want to take a moment to introduce Dan Berenbaum, our new CFO, who joined us on January 9. Dan has extensive experience leading financial operations of various technology businesses, and he's already had an immediate impact as we execute our growth strategy and focus to achieve our operating margin expansion targets for 2023 and beyond. Karen is going to close out 2022 on the call today. And I want to once again take the opportunity to recognize and thank Karen for her significant contributions to our success over the past six years. After Karen speaks, Dan will provide outlook for Q1 2023.

And I'll start by kicking things off with an update on the business in the fourth quarter and for the full year of 2022. The key messages you'll hear today are, we closed out a record year in 2022 with a strong fourth quarter. We achieved record non-GAAP quarterly revenue of $449 million, up 7% year-over-year and in line with our guidance. And we delivered non-GAAP operating margin of 25% in fourth quarter which is an all-time record for a quarter.

2022 is a strong year as we continue to make strides in tricks forming NI into a higher growth, more profitable and more resilient company. Despite ongoing global macroeconomic uncertainty, we delivered on the 2022 targets that we shared at our September investor conference with record revenue of $1.7 billion, up 13% year-over-year and non-GAAP operating margin of 20%, up 130 basis points compared to 2021.

As we head into 2023, we are planning towards the recessionary growth scenario in line with what we shared in September. And even in a wide range of downturn scenarios, we now expect to exceed our 300 basis point non-GAAP margin expansion target.

Our results are due to the transformation of our business that started in 2017. We have successfully executed on a set of transformational initiatives over the past five years, including we transformed our go-to-market into a tier channel strategy based on customer potential and stood up a non-direct channel in 2021. These changes have driven growth in our top accounts and significant cost leverage in SG&A.

We formed industry specific business units and have hired experts in those industries to lead them. We have shifted our road maps to focus on application-specific systems at software aligned to fast growing subsegments, including electric and autonomous vehicles, wireless communication, and new space technology.

We've expanded our software portfolio, building on our leadership position in automated test through LabVIEW and adding additional development tools, application software and also expanding into growing adjacencies to systems management and product analytics. We've accelerated our strategic transformation with a number of important bolt-on acquisitions including multiple companies enabling us to deliver complete offerings in electric vehicle testing, now the fastest-growing part of our business. And we have been keenly focused on our cost structure to increase our leverage and our flexibility of spending.

As a case in point, in 2022, we saw an unanticipated headwind to gross margin of 420 basis points, largely due to ongoing supply chain constraints and yet managed our operating expense to still hit our commitment of 100 basis point improvement to operating margin. We continue to focus on the efficiency of our operating expenses and expect a strong uptick in operating margin again this year. We have made shifts in our organization to consolidate our operational core and enable a leaner SG&A org. In Q1, we are also implementing a targeted restructuring of approximately 4% of our global headcount. Our high confidence in 2023 is directly correlated to the strategic shifts we've made, which we believe have created a stronger trajectory for growth.

Now on to results by industry. The areas of intentional focus are delivering to our expectations. I believe this is a proof point that we're focused on the right areas to accelerate our long-term growth. Semiconductor and Electronics reported 2022 revenue of $433 million, up 10% year-over-year, with Q4 orders down 10% year-over-year, in line with our expectations for the quarter. While slower semi cycle has been anticipated, we believe the combination of our exposure to R&D tests and our ongoing progress in delivering software across the semiconductor workflow will soften the impact that the semiconductor downturn will have on our business.

Last quarter, we won several large analytics software contracts in semiconductor, including our largest software contract ever, which will add predictable revenue over the next three to five year period of those contracts. Transportation reported 2022 revenue of $302 million, up 40% year-over-year, with Q4 orders up 35% year-over-year. Our strategic shift to focus in EV and ADAS where our customers are making significant investments has changed the trajectory of this business, and we expect that will continue to deliver market-leading growth rates in 2023.

As we expected, EV and ADAS now represent more than 50% of our transportation business. The recent acquisitions of Kratzer NH Research and Heinzinger, accounted for approximately 24% of transportation revenue in the fourth quarter. Through these acquisitions, we believe we now have the most competitive portfolio of end-to-end battery test capabilities in the market today, and we expect these investments to drive long-term growth for NI.

Our recent success was winning a large battery lab deployment, resulting in $22 million in revenue that will be recognized over the course of 2023. Aerospace, defense and government delivered strong results with 2022 revenue of $412 million, up 9% year-over-year, with Q4 orders down 12% year-over-year. As a reminder, and as we noted in our Q3 call, in Q4 2021, we closed a large program win in ADG, so the decline in year-over-year orders was expected. We expect to see order strength in this business in 2023, driven by robust defense spending. We also continue to see strong opportunities in commercial space technologies like launch vehicles and satellites.

In our portfolio business, which serves the majority of our broad-based customers, achieved revenue for the year of $511 million, up 5% year-over-year, with Q4 orders down 10% year-over-year. This is the area that has historically been most susceptible to a softening macro environment, and we have been taking steps to make this business more resilient. Our focus on utilizing global distribution to better position our offerings and optimizing our digital channel to this broad customer base to gain traction, further providing leverage and scale in this portion of our business. We expect revenue from distribution and digital channels to grow to approximately 22% of our total revenue in 2023, up from 9% of our total revenue in 2020.

We also expect our transition to software subscription will improve the resiliency and the growth opportunity for this business. As we mentioned previously, starting in January of 2022, we transitioned our single seat licenses to subscription, which resulted in a 2% headwind to revenue for the full year. We were pleased to exceed our internal targets on this transition in 2022. And going forward, the vast majority of our software portfolio is now recurring revenue.

In summary, we believe the company is in a strong position. We plan to head and took action in anticipation of softening in the semiconductor cycle and a weaker overall macro economy. We are planning towards the recessionary growth scenario in line with what we shared in September. And even in a wide range of downturn scenarios, we now expect to exceed our 300 basis point non-GAAP margin expansion target.

With that, I'll turn it over to Karen to discuss our Q4 and year end results in more detail. Karen?

[Karen Rapp, Strategic Adviser to the CEO]

Thanks, Eric.

Q4 was a record quarter with GAAP revenue of $448 million, up 7% year-over-year. 2022 was a record year for revenue at $1.7 billion and 13% growth year-over-year. Our Q4 orders were down 3% year-over-year as we expected. We started to see a decline in the semi market and the macro economy at the end of September, and we plan for that to continue in Q4.

As Eric mentioned, we had a strong Q4 last year with a large ADG order that we knew would not repeat in 2022. By region, fourth quarter orders were down 7% year-over-year in the Americas, up 7% year-over-year in EMEA and down 9% year-over-year in Asia Pacific. We ended the quarter with delinquent backlog of approximately $230 million, which is approximately 7 weeks of revenue. We're confident in the resiliency of our backlog and in our ability to realize this revenue as supply chain constraints continue to ease because our solutions are off in a capital expense and provide unique capabilities for our customers, we don't typically incur any double ordering risk, and we haven't seen anything that would indicate a change in that historic pattern. We also continue to see minimal cancellations due to lead times at less than 1%.

Non-GAAP gross margin for both Q4 and full year 2022 was 70%. 2022 non-GAAP gross margin was down 420 basis points year-over-year, driven primarily by broker fees, paid for components that were in short supply. We continue to see supply constraints easing, while there are still some key golden components, especially in legacy semi technology, we expect the supply chain constraints to ease in the first half of 2023 and the reduction in broker purchases to positively impact our 2023 operating margin.

In Q4, we generated $60 million of GAAP operating income and $112 million of non-GAAP operating income, a non-GAAP record for a fourth quarter. We delivered non-GAAP operating margin of 25% in Q4. For the full year, GAAP operating margin was 12%. Non-GAAP operating margin was 20%, a record for NI had an increase of 130 basis points year-over-year, demonstrating the continued focus we have had on driving variability and efficiency in our cost structure.

We reported Q4 GAAP net income of $40 million and diluted earnings per share of $0.30. We reported record Q4 non-GAAP net income of $83 million and record diluted non-GAAP earnings per share of $0.63, an increase of 5% year-over-year. For the full year 2022, GAAP net income was $140 million. We delivered record non-GAAP net income of $255 million, up 14% year-over-year. In summary, Q4 results were in line with our expectations, and 2022 was another strong year of growth on both the top line and bottom line for NI. I'm proud of the results we're delivering.

Finally, as many of you know, this will be my last earnings call, although I'll be here through May to help ensure a smooth transition. I'm excited to have Dan here. His background and skill set is a great addition to NI, and his experience will help us continue to grow in all areas. I've enjoyed getting many of you over the past six years, and I appreciate your time, interest and commitment to understanding our business. I'm confident in the trajectory of NI and excited about the company's future prospects.

Now I'll turn it over to Dan to discuss our outlook for Q1.

[Daniel Berenbaum, CFO]

Thank you, Karen, and thank you, Eric, for the warm welcome to NI. I'm very happy to be here and to be participating in this call as we look ahead to 2023.

As you can imagine, I spent my first few weeks in NI immersing myself in the business. It won't surprise those of you who have followed NI for a long time that I've been deeply impressed with the high level of talent across the organization, a testament to NI's strong culture of engineering and commitment to customers.

It's also very clear that the transformation of NI continues to gain momentum. As I continue to learn more about our customers, products and operations I'll focus on continuing those operational efficiency improvements to achieve our short- and long-term margin expansion targets as well as on improving our working capital management and cash flow generation, and building investor confidence in our ability to execute on a quarterly basis as well as over the long term.

As Eric mentioned, we remain committed to our target of delivering at least 300 basis points of non-GAAP operating margin improvement in 2023. We have a number of initiatives in flight, which underpin our confidence including supply chain planning improvements, tight control of discretionary spending and the restructuring, which Eric mentioned earlier.

Specific to gross margin, as we enter 2023, we expect a tailwind from lower purchase price variance as we see our supply chain constraints ease. We also expect to see the benefit of pricing actions, which have been taken over the past several quarters.

For Q1, we expect to deliver a more than 100 basis point sequential improvement in non-GAAP gross margin compared to Q4. With respect to operating expenses, we anticipate that Q1 OpEx will rise slightly from Q4 levels as we made targeted investments to ensure our future growth, while maintaining discipline around discretionary spending. The restructuring actions that Eric mentioned previously will result in a reduction of approximately 4% of our headcount, primarily in SG&A. We anticipate that most of the benefits from this reduction will start in Q2.

After declining significantly as a percentage of revenue over the past few years, we expect OpEx to increase gradually in absolute terms as we go through 2023. But to remain flattish or decline as a percent of revenue in relation to Q1.

Now let me comment on capital management. Our balance sheet remains strong with $140 million of cash at the end of the fourth quarter. Cash flow from operations was $52 million in the fourth quarter. In Q4, we continued to invest in inventory to enable us to meet customer delivery commitments in the face of ongoing supply chain challenges.

As supply constraints ease, we expect inventory to return to more normal levels, along with a renewed focus on working capital management, we expect to be able to convert non-GAAP net income to cash at levels more aligned with our historic performance and at a meaningful improvement over 2022.

Our capital allocation strategy remains balanced and disciplined. We will continue to invest in organic capabilities to ensure we stay ahead of the technology needs of our customers and prioritize inorganic investments that strategically align to the business in order to drive profitable growth.

In the fourth quarter, we returned $37 million to shareholders through our dividend. And the NI Board of Directors has approved a quarterly dividend of $0.28 per share, payable on March 6, 2023, to stockholders of record as of the close of business on February 13, 2023. We've elected to continue our dividend at current levels, given the already very strong return of cash to shareholders.

We did not repurchase shares in Q4. I would note that our Q4 22 weighted average share count was the lowest since Q4 '20. With some normal fluctuations, NI share count has remained roughly flat over the past five years as we have successfully used our repurchase program to offset dilution.

With that, let's shift to guidance for Q1. For the first quarter, revenue is expected to be in the range of $415 million to $445 million. At the midpoint, this represents 12% revenue growth year-over-year. Our guidance assumes currency impact similar to Q4. We expect GAAP diluted earnings per share in the range of $0.14 to $0.28 for Q1 with non-GAAP diluted earnings per share expected to be in the range of $0.48 to $0.62, an increase of 35% year-over-year at the midpoint.

Our Q1 non-GAAP earnings forecast excludes $20 million related to the restructuring we have discussed today, $18.5 million for stock-based compensation and $15 million for amortization of acquired intangible assets, acquisition-related expenses and other items. We anticipate a full year 2023 GAAP and non-GAAP tax rate of between 17% and 18%, assuming no changes to tax laws. In Q1, we will also incur an additional approximate $1 million tax expense related to changes in the R&D tax credit.

In summary, we continue to see benefits from NI's multiyear transformation journey. We are laser-focused on making efficient investments in our growth while improving our expense control and working capital management. As Eric mentioned, we are planning for continued recessionary environment in the first half of 2023. Even against the slower macro backdrop, we are confident in our ability to deliver on our commitment to increase our non-GAAP operating margin by at least 300 basis points in 2023.

I'll now turn it back over to Eric for some closing comments.

[Eric Starkloff, President and CEO]

Thank you, Dan, and Karen.

We are confident in the actions we have taken to better position the company to perform, including in a weaker macro environment. We expect revenue growth even in a headwind environment and remain committed to meeting or exceeding our target of 300 basis point margin expansion. I believe our strong performance in 2022 is proof that we have the right strategy in place.

We've done a lot of hard work over the past five years to fundamentally transform the company and change the trajectory of our performance, and we're not done yet. The key elements of the strategy have gained traction and demonstrate the success in driving a higher level of growth. Now we're focused on executing the strategy and achieving the return on these investments with a focus on top line growth, and strong leverage and earnings growth on the bottom line.

I want to set a big thank you to all of our employees who have driven our strategy and committed to a significant expense management actions throughout this past year. I know it's not been easy. Employees in manufacturing and operations in particular have worked incredibly hard to navigate continued and unprecedented challenges in our supply chain. And I sincerely appreciate everyone's hard work and determination of perseverance.

Before we take your questions, I do want to comment on the strategic review process. As you all know, NI issued a press release on January 13 announcing that our Board of Directors has initiated a review and evaluation of strategic options for NI. A comprehensive review will include consideration of a full range of available strategic business and financial alternatives. We know some of you have questions regarding the strategic review, but I'd like to note that we are not planning on answering questions regarding this topic on the call today. We appreciate your cooperation in advance.

And with that, we will now take your questions.

[Operator]

Thank you. [Operator Instructions] Our first question comes from Samik Chatterjee of JPMorgan. Your line is open.

[Angela Jin, JPMorgan]

Hi, this is Angela Jin for Samik. On your 2023 guide, I know a few months ago, you sort of were guiding towards mid-teens growth in 2023. How is that path to that level of growth narrowed just given sort of the macro backdrop that we're seeing? The semi down cycle seems more severe than initially expected. And sort of what are your initial thoughts on 2023 revenue growth?

[Eric Starkloff, President and CEO]

So Angela, I'll take that. Yes, I commented that we're seeing an environment that's consistent with what we anticipated in the September conference, and we laid out a set of scenarios and recessionary scenario in particular. That's still our point of view. We didn't guide on revenue for the full year. We obviously guided for Q1 at 12% revenue growth. And we're really focused on driving the growth of the company as we continue to achieve this, growth expectations.

And then the areas we can control. And you heard certainly in the call a commitment to the bottom line performance sort of well within our control and managing that for a wide range of outcomes.

[Daniel Berenbaum, CFO]

I can add a little bit of color and just say again, we guide one quarter at a time. So we're not going to make your comments specifically on the full year. As Eric said, there obviously is that macro headwinds, and we are planning for that macro headwind. But against that backdrop, I think there's some sort of well-known tailwinds as well. We have the acquisitions that are helping us we have some backlog in place that will help us specifically in Q1.

If you look at our patterns exiting 2022 Q4 revenue was a little bit below what you would consider our normal seasonality. We're guiding Q1 a little bit better than what we would consider our normal seasonality. We have some tailwinds there from training what we would consider to be our delinquent backlog, meeting backlog that customers would have liked to see and ship in Q4 that for one reason or another, we weren't able to ship in Q4.

So we have some of those tailwinds going into Q1. I will also comment that we have historically talked about backlog as a measure of orders that customers wanted in prior quarters, but we haven't really talked about our scheduled backlog. Our scheduled backlog is - would add another roughly $220 million to that $230 million worth of delinquent backlog that Karen talked about. Now part of that is really tied to the transformation of the company.

It's tied to the different strategy of the company. NI if you look back over the years, really to be much more of a turns business with very little long-term backlog. Now with the shift to product solutions and the EV acquisitions, we're starting to see more of that backlog, scheduled backlog built up. So we have some tailwinds. Again, we're not guiding for the full year.

We're really only guiding for Q1. We have some of those specific delinquent backlog tailwinds in Q1 that are going to help us, which give us confidence in that a better than seasonal guide for Q1. But just to give you a sense of how we think about the puts and takes for the full year, if that's helpful.

[Angela Jin, JPMorgan]

Yes, that's really helpful. And then on the operating margin expansion target of 300 basis points are exceeding that sort of between your gross margin improvement, your restructuring and other sort of cost control. Where - what is driving that $300 million like is that mostly the gross margin improvement? Is it mostly the headcount reduction? Could you maybe walk through sort of the input into that target?

[Daniel Berenbaum, CFO]

Yes again, we're not really going to talk about guidance for the full year. I sort of pointed you for Q1 that we expect a little bit more than 100 basis points of gross margin improvement guide, the OpEx for Q1, given some commentary around that increasing in dollar terms from Q4. So that should sort of give you a feel for the profile might shake out for Q1. Again, just to give you the thoughts on the full year.

And we do have some tailwinds from some of the price increases and some of the purchase price variances rolling off. So, we definitely have some tailwinds there, offset by continued headwinds in supply chain, it won't vanish entirely and the mix of our business, as the mix of our business changes.

So again, just to give you some thoughts on how we think about gross margin internally. And as I said, the OpEx will gradually increase in dollar terms over the course of the year, but we're not going to guide specifically beyond Q1.

[Angela Jin, JPMorgan]

All right, thank you for taking my questions.

[Eric Starkloff, President and CEO]

Thanks Angela.

[Karen Rapp, Strategic Adviser to the CEO]

Thank you.

[Operator]

Thank you, for a moment please. Our next question comes from the line of Rob Mason of R W. Baird. Your line is open.

[Rob Mason, R W. Baird]

Yes, good afternoon. And hi Dan, the price that you're expecting is built into the first quarter guidance, and what you were able to capture price realization, price increase in the fourth quarter. What was that first quarter and fourth quarter?

[Daniel Berenbaum, CFO]

Looking through the number…

[Karen Rapp, Strategic Adviser to the CEO]

This is Karen hey. Pricing in Q4, we saw probably 8% lift in revenue, and we've built into Q1, some of our expectations in line with what Dan guided.

[Eric Starkloff, President and CEO]

Yes. Rob, I'll just comment for you to follow-up. We've been really pleased, as we've shared with you before, our ability to kind of capture price. We've been, I think, more and more sophisticated about how we've gone about those changes the ability to capture it has been strong in our expectations as we come into 2023 are predicated on changes we've already made on pricing.

[Rob Mason, R W. Baird]

And Eric, as the price capture price realization, has that been even across your various SBUs or has it favored one area or the other? I'm just curious how that's plays down?

[Eric Starkloff, President and CEO]

Yes. No, it's a good question. And it's not necessarily that it varies so much by BU, but I will characterize we are surgical about it, right? So we're - there's a couple of factors that contribute. One is, as we deliver more and more systems capability, it's - we're delivering value that's greater than the sum of the parts. And so that's definitely been favorable. The second factor is we've just gotten is more sophisticated ourselves, and how we've done this is our efficacy of targeting price changes, selling the value through our channel, credit to our teams.

We've got more and more effective at that. And then I'd say the last element I've been quite pleased with is that we've been able to maintain that also through the channel as we introduce distribution channel, our ability to get good pricing to the channel has been strong. And so those factors together have led to the results that we saw, which were very, very good in 2022 and an expectation of continued efficacy in that area in '23.

[Rob Mason, R W. Baird]

I see. Just as a follow-up, can you walk through the sequential decline in your adjusted operating expenses, I mean, your operating expenses came in but down sequentially and frankly, better than I was expecting. And I'm just - I'm curious where the source of that was given that revenue was actually higher sequentially.

[Eric Starkloff, President and CEO]

Yes, Karen, take this question?

[Karen Rapp, Strategic Adviser to the CEO]

Yes, so we continue doing - as you know, we've been early on in the year in 2022. We took some actions to get ahead of what we saw coming from a macro environment and knowing that the semi cycle doesn't always stay up. So we got ahead of that early in 2022, continued that in - all the way through Q4 because, as you know, at the end of Q3, we started seeing that come on even stronger.

So we stayed incredibly disciplined in Q4, the entire team just stepped up. And as you know, we've also been increasing the percent of our costs that are variable as we go through the year and as we continue to move forward, we continue to drive that flexibility and variability, and we pulled that lever in Q4 as we saw the macro -- the PMI is below 50% now and the semi cycle really take a hit in Q4.

So really - just the whole point of aligning expenses with revenue has become something that we live on a regular basis and taking that forward and we demonstrated that, I thought pretty clearly in Q4.

[Rob Mason, R W. Baird]

And the, yes…?

[Eric Starkloff, President and CEO]

Yes sorry you bring up a good point, and I just wanted to point out, build all the things Karen said. That's one thing we're really proud of our ability to hit that, the 25% non-GAAP operating income and Q4 is a record, as you know. And then as we come into -- you've heard the guy from Dan in Q1, that's approximately 23% operating income. So that's about 500 basis points above Q1 of '22. So again, we're really seeing the leverage of the changes that we've made and the transformation that we've done and the work we've done on cost structure and variability, we're seeing that really starting to come through. You saw in Q4, we're expecting it in Q1. So we think that sets us up in a real strong position. Go ahead, to get a little more follow-up.

[Rob Mason, R W. Baird]

Just around the restructuring that you announced $20 million charge, what would you expect in terms of savings to fall from that?

[Eric Starkloff, President and CEO]

So we're not being specific about what the savings are. We just said that we'll see a positive impact from that starting really in Q2. And a little of that is, we're going to be selective about areas for investment as well. So I wouldn't necessarily try to draw a straight line from just the restructuring.

[Rob Mason, R W. Baird]

I see. I'll hop back in queue. Thank you.

[Eric Starkloff, President and CEO]

Thanks Rob.

[Operator]

Thank you. One moment please. Our next question comes from the line of Meta Marshall of Morgan Stanley. Your line is open.

[Meta Marshall, Morgan Stanley]

Great, thanks. Maybe first question, just on noting that some of the headcount reduction was due to SG&A or what's going to be -- SG&A was going to be most impacted. Does that change kind of how you think about more going through the channel? Or is it just kind of trimming around the edges? Just trying to get a sense of if there's any change to the sales cycle or to the sales structure? And then maybe as a second question, it did look like transportation was obviously very strong this quarter after a strong year, is that primarily coming from acquired businesses or existing businesses, just a little bit more context, that would be helpful. Thanks.

[Eric Starkloff, President and CEO]

Yes, I can take that. Yes, no problem. So on the restructuring, first of all, just as Dan said, like we're super mindful as we went through this process. On balancing our ability to achieve efficiency and scale, but also making some of the right investments for growth. I'll just say at the highest level, it's very consistent with some of the structural changes that we announced at the end of last year, which were about strengthening to be used, consolidating our core operations, and then this leaner sort of leaner sales and marketing team. And as you noted, they are primarily in SG&A.

To your specific question, yes, it's got multiple factors. I mean there's just some areas for us to be a bit more efficient. There's areas that are really about the transformation. As I've said before, as we've gone to this tiered model, we achieve efficiency at both ends of the model. So at the top end of our account structure, we're getting really tremendous growth at average order size and account size in those large accounts. And so we're able to scale that revenue certainly faster than our expenses. And so we're realizing efficiency and scale there.

At the Tier 3 level, the move to distribution of digital has been effective. It's exceeded our expectations as we've gone through the year. I gave some quantification of how much we go through the channel. So yes, as that grows, that also gives us an opportunity for some more efficiency there in the way that we're serving our accounts.

So I think when you take those together, along with just some natural continuous improvement in the way that we sort of run the business, that's how I'd characterize those, but highly consistent with the strategy that we have.

To your second question about transportation. First of all, we're really excited about that business. I mean 40% growth for the year. It's been a really, really good performance. And it really is good performance across the board. So you take, first of all, on electrification, which has been the primary area where we've done the acquisitions, those companies added critical capability that was highly complementary to existing software and measurement capability that NI already had organically. And what we've seen is that those businesses were growing and they've continued to grow part of our business that serves electric vehicles that was organic, has been pulled off to a very high growth rate as well. And then we're seeing reasonably good growth in the other parts of the business, certainly in active safety, which is a focus area, but we're actually seeing an uptick in the rest of the vehicle as well where we're testing all of the electronics of a vehicle.

And part of that is just we've really grown our account relationships and the value that we can deliver to these automotive accounts, the shift to EV and autonomy has created a lot more opportunity in the OEMs in addition to the Tier 1s, which were our primary customers prior to our focus in that area.

So I think things are -- to use the automotive analogy, things are hitting on all cylinders in that area. I guess that's a bad analogies. These vehicles don't have cylinders as much anymore, but you get to get the point. So all three of those factors are contributing to a high degree of growth and an optimism in our outlook and the pipeline that we have in those accounts.

[Meta Marshall, Morgan Stanley]

Great, thanks.

[Operator]

Thank you. One moment please. Our next question comes from the line of Mark Delaney of Goldman Sachs. Your line is open.

[Mark Delaney, Goldman Sachs]

Yes, thank you very much for taking the question. And Dan, congratulations on the new role. Starting with orders, even though orders were down 3% year-on-year, I think book-to-bill may have still been near or even a little bit above one based on my math. So could you perhaps level set us on where total orders came in? And then sticking with the order topic, could you also comment on the linearity of orders in the fourth quarter and perhaps how orders have trended into January?

[Daniel Berenbaum, CFO]

So we're not talking specifically about our level of orders or level of bookings. We can talk about maybe patterns a little bit.

[Eric Starkloff, President and CEO]

Yes, I can talk about patterns. I mean I'll just say, Mark, the minus three was, first of all, it's consistent with what we expected and coming into the quarter get commentary on the different business units, but I would just characterize that as sort of in line with sort of where we expected some headwinds as the things that we talked about in September, for example, and even in the October call. But so consistent with what we expected and sort of a similar level is built into our guidance for Q1. So both in the overall order rate and the order rate by business units. So that's what our expectation is built on coming into Q1.

[Daniel Berenbaum, CFO]

And Mark, let me comment a little bit further, want you to go back to the commentary, how of backlog earlier to maybe help you understand how again, how the business has transformed a little bit and how we're thinking about this moving forward. Obviously, as we go into Q1, we have that tailwind from draining a little bit of that delinquent backlog that Karen talked about, the orders that customers would have liked to have shipped previously that we had been able to ship.

The business is also very focused as we have transformed as we've gone towards those system solutions, both organically and through the acquisitions in building longer-term backlog. So you're -- we're not going to talk specifically about book-to-bill and part of that is that I would start to get you focused a little bit more on thinking about our backlog and how that backlog will start to look as we drain the delinquent backlog tailwind for revenue early in the year. And then as we continue to drain that throughout the year and then as we build backlog for longer-term scheduled backlog as those pieces of our business grow.

[Mark Delaney, Goldman Sachs]

That's very helpful. And one more, if I could, please, for you, Dan. Maybe you could elaborate on what led you to take the CFO role and talk about how analogous the margin expansion opportunity at NI is with some of the other experiences you've encountered in your career? Thank you.

[Daniel Berenbaum, CFO]

Thanks, Mark. So listen, I mean, I'm obviously extremely excited about NI and the route goes back to when I was an engineer, and I was a lab user, NI is just a foundational technology company that is critically important to all parts of the technology industry, the technology supply chain. That's an incredibly exciting opportunity to be able to join a company like that with a long history of engineering and customer support like that.

And of course, I've seen the transition that the transformation that NI has been on over the past five years. And the opportunity that still exists for that improvement in operating margin, the opportunity that exists for improvement in working capital. These are very exciting opportunities commensurate with that transformation into more of a systems and solutions business. So that's why I'm here.

[Mark Delaney, Goldman Sachs]

Thank you.

[Eric Starkloff, President and CEO]

Thank you, Mark

[Operator]

Thank you. One moment please, our next question comes from the line of David Kelley of Jefferies. Your line is open.

[David Kelley, Jefferies]

Hey good afternoon. Thanks for taking my questions. Maybe following up on the margin discussion, it sounds like we're seeing some supply chain visibility improvement. Can you give us some color on the broker pricing impact on Q4, and if that improved into year end? And maybe if you can give us a sense on how you're baking in - broker pricing into 1Q guidance that will be helpful?

[Eric Starkloff, President and CEO]

Yes, so again, we're not going to be specific about the numbers in there. We do still have some of that inventory on our balance sheet, obviously, that we paid higher prices for. We expect most of that inventory to flush through as we move through 2023 and as supply chain conditions ease, we expect not to, be having to pay those broker pricing, but we're not going to be specific about how much we still have, and at what point it will flush through. Again, we said it will be a tailwind in Q1 and as we go through 2023.

[Daniel Berenbaum, CFO]

I'll add just a qualitative view of that Dave. We definitely have seen - we talked about improving supply chain. And certainly, this broker market issue has improved quite a bit. So it really peaked, I think, in Q3. And so, we started to see less necessity of using those broker markets to procure the very hard, to procure components. Again, as Karen said in her remarks there's, still some golden screws.

And we're still working with that, and it's not like it's an unconstrained environment, but it's gotten quite a bit better and - the necessity of us doing additional broker purchases has gone down quite a bit. And that's what's led to - this thing going from a headwind to a tailwind to the expectation we set of a 100 basis point improvement in gross margin is based on that improvement that we're seeing and kind of - that we've seen over the last quarter.

[David Kelley, Jefferies]

Got it, that's helpful. And maybe, go ahead?

[Karen Rapp, Strategic Adviser to the CEO]

Yes just that, this is Karen. There's, some slides that we've posted on NATI, on our website that you can look at to get some color on some of that bridge for year-over-year as well.

[Eric Starkloff, President and CEO]

Yes increase, the gross margin line, I believe.

[David Kelley, Jefferies]

Got it, and thank you, really appreciate it. And maybe one quick follow-up on the automotive traction you referenced, your EV acquisitions clearly been a meaningful contributor to that. So can you talk about the margin trajectory of those acquisitions and maybe how those are trending versus your core transport business?

[Eric Starkloff, President and CEO]

Yes, I can take that. So we actually also - actually on the same slide that Karen pointed you to it's in the investor deck, you can see that the coming in those EV acquisitions had a headwind on gross margin. So some of the system components come in at a lower gross margin and that's an area of focus. We think there's significant improvement that can happen over time, given our own capabilities and scale as a company that our pricing leverage that we had in the company and will ultimately, improve those gross margins, and they will trend up.

And then - and that's also built into our expectations, of course. And then ultimately, the strategy here is, as I mentioned in one of the previous answers to previous question is pulling the rest of our platform. And that's a big part of the strategy is selling these complete solutions that include these battery cyclers and things that we've got through these acquisitions, but also include very high margin software, include very high margin measurement components. So that the blended margin of the whole thing, ultimately meets the expectations that we have as a company.

[David Kelley, Jefferies]

Got it. Thanks for the color.

[Eric Starkloff, President and CEO]

Thanks Dave.

[Operator]

Thank you. Our next question comes from the line of Damian Karas of UBS. Your line is open.

[Damian Karas, UBS]

Hi, good evening, everyone. And Karen, thanks for all your help, best of luck in life with NATI.

[Karen Rapp, Strategic Adviser to the CEO]

Thanks, Damian.

[Damian Karas, UBS]

So, I just wanted to kind of follow-up on some of the comments regarding order trends. You spoke a little bit on semiconductor slowing and then talked about your longer-term view on transportation. But maybe you could just provide a little bit more detailed kind of outlook for your order trajectory over the coming quarters, across all your verticals just kind of based on what you're hearing from your customers and distribution partners?

[Eric Starkloff, President and CEO]

Yes, I'll just give overall kind of color on that, Damian. And a lot of it is - we shared the specific quarter numbers in Q4, and I think that's a pretty good guide other than I mentioned the ADG one was a little bit of an outlier, because we had this big compare with a big order in the previous year-over-year quarter in Q1, 2021. So in general, it's similar to what we expected. So semiconductor, it is our expectation that we'll see a near-term headwind in orders.

We're seeing that and saw in Q4, for sure and that, that will persist for some time. We're still booked by the way very bullish on the long-term opportunity within semiconductor and the opportunities we're pursuing and the parts in the market that we're pursuing. We think are all very favorable, but we fully expect some near-term pressure on those orders that kind of consistent with what we've seen.

Also in that kind of category, we said portfolio business unit is historically correlated more to the macro. Orders were down about 10% in Q4. And so again, that's an area where we're expecting to look at indexes like PMI. We would expect some kind of correlation and acts like a PMI with our portfolio business unit. And of course, as I mentioned in the script, we're talking about things, and we're certainly actioning things that will help that be more resilient over time.

And then on the other side, transportation, we expect continued strong growth and that's on a steep growth trajectory. It continues to be on a steep growth trajectory that has correlated much more with the new model entrants and electric vehicles, the investment that OEMs and others in their supply chain are making in electrification and autonomy.

We think those investments continue to be robust yes - may have seen GM's print, and they're still bullish on the market and their electric vehicle programs and so forth. And so, I expect that to continue to be high growth. Our expectations are high. And then ADG is continued to be a robust business for us.

It's performed well and pretty steadily in different macro environment scenarios in 2020, it was sort of high single-digits even in a pretty tough macro in 2020. And so, we think it's a fairly favorable environment, and we expect that to continue to have a similar growth trajectory as it's had. And so that's our perspective on the overall color by business unit.

[Damian Karas, UBS]

Appreciate all that color, Eric. And then on - regarding distribution, you had spoken and previously about kind of your partner, your newer partners building out NI inventory as a tailwind this year?

Just curious if that's more or less playing out as you are - had expected or perhaps given some of the broader destocking trends across markets or maybe any of these partners paring back or deferring their inventory buildup of NI products. I guess any number that you could share around that tailwind would be helpful? Thanks.

[Eric Starkloff, President and CEO]

Yes. Yes, so it's - they've built a small amount of stock in 2022, about $20 million, I believe. And then there is still their desire to build initial stock, but it's still absolutely the desire of those partners. The reason we haven't is because of supply, we've been constrained in our ability to do so. So it is still our expectation as we go through this year.

That supply will ease up as we go through the year, and we will be able to provide additional stock into those partners, and that's another one of the tailwinds when we think of the year overall that Dan referred to.

[Damian Karas, UBS]

Great, thank you.

[Eric Starkloff, President and CEO]

Thank you, Damian.

[Operator]

Thank you. I'm showing no further questions at this time. I'd like to turn the call back over to Eric Starkloff for any closing remarks.

[Eric Starkloff, President and CEO]

Okay. I really appreciate everyone's interest and your questions today. Thank you all, and have a great afternoon.

[Operator]

Thank you. Ladies and gentlemen, this does conclude today's conference. Thank you all for participating. You may now disconnect. Have a great day.