Zebra Technologies Corp

NASDAQ:ZBRA

Earnings Call Transcript 2018-Q1

[Operator]

Good morning, everyone, and welcome to the Q1 2018 Zebra Technologies Earnings Release Conference Call. All participants will be in a listen-only mode. After today's presentation, there will be an opportunity to ask questions. Please also note today's event is being recorded.

At this time, I'd like to turn the conference call over to Mr. Mike Steele, Vice President of Investor Relations Please go ahead.

[Michael A. Steele, Zebra Technologies Corp.]

Good morning and thank you for joining us. Before we begin, I need to inform you that certain statements made on this call include forward-looking statements which are subject to the safe harbor provisions of the Private Securities Litigation Reform Act of 1995. These statements reflect the company's current expectations concerning future events and are subject to a number of factors and uncertainties that could cause actual results to differ materially. A detailed discussion of these factors and uncertainties is contained in the company's filings with the Securities and Exchange Commission.

During this call, we will make reference to non-GAAP financial measures as we describe business performance. You can find reconciliations of our GAAP to non-GAAP results in today's earnings press release and at the end of this slide presentation.

This presentation will include prepared remarks from Anders Gustafsson, our Chief Executive Officer; and Olivier Leonetti, our Chief Financial Officer. Anders will begin by discussing our first quarter 2018 highlights. Olivier will then provide more detail on the financials and discuss our second quarter and full-year 2018 outlook. Anders will conclude with progress made on Zebra's strategic priorities. Following the prepared remarks, Joe Heel, our Senior Vice President of Global Sales, will join us as we take your questions.

Also, throughout this presentation, unless otherwise indicated, our references to sales growth are year-over-year and on a constant currency basis. This presentation is being simulcast on our website at investors.zebra.com and will be archived there for at least one year.

Now, we'll turn the call over to Anders.

[Anders Gustafsson, Zebra Technologies Corp.]

Thank you, Mike. Good morning, everyone, and thank you for joining us. Our first quarter results were driven by strong performance across the business. As you can see on slide 4, for the quarter, we reported net sales growth of 13% or 10% on a constant currency basis, an adjusted EBITDA margin of 20.9%, a 370 basis point year-over-year improvement, non-GAAP diluted EPS of $2.56, an 87% increase from the prior year and $116 million of cash flow from operations.

Q1 was a great start to the year. Our team executed well in a solid global macroeconomic environment. Our industry leadership is driving robust broad-based market demand for our solutions. We achieved growth across all regions, with particularly strong performance in EMEA and North America. We also saw exceptional growth in mobile computing, led by our Android-powered devices and solid performance across our printing portfolio, which we have continued to enhance with smarter software and security features.

Our operational discipline and focus on a lean cost structure enabled us to significantly expand profit margins and achieve a record earnings per share. Our strong Q1 results and solid order backlog gives us the confidence to raise our full-year outlook for sales, margin and free cash flow.

With that, I'll now turn the call over to Olivier to review our financial results and to provide the details of our revised 2018 outlook.

[Olivier Leonetti, Zebra Technologies Corp.]

Thank you, Anders. Let us begin with the walk through the P&L. As you can see on slide 6, sales grew 9.8% in the first quarter, driven by solid results in each of our reporting segments and growth across all four regions.

Enterprise Visibility & Mobility segment sales increased 11.1%, led by robust demand in mobile computing. Asset Intelligence & Tracking segment sales increased 6.4%, driven by strong growth in printing. Sales of services were higher, with continued strength in our Visibility Services applications and Zebra Retail Solutions.

Turning to our regions, sales growth in North America was 9%, driven by demand for our mobile computing devices, due to the ongoing conversion to Android, particularly in the retail sector, as well as solid printer sales to the channel.

EMEA sales increased 13%, with broad-based strength and exceptionally strong mobile computing sales. Sales in Asia-Pacific were up 5%, driven by strength in the manufacturing sector and solid growth in printing products. Sales grew throughout most of the region. Our business in China has been recovering nicely and we are seeing increased end market demand for our tailored product offering.

Latin America sales increased 7%, attributable to exceptionally strong sales in mobile computing and data capture products. Consolidated gross profit increased $64 million or 16% from the prior period on higher sales volume. Adjusted gross margin increased 130 basis point, primarily driven by improved go-to-market execution, favorable business mix shift in both operating segments and the appreciation of the euro over the past year. Adjusted operating expenses increased $10 million from the prior period, primarily reflecting growth in the business and higher incentive compensation expense due to improved business performance.

First quarter 2018 adjusted EBITDA margin was 20.9%, a 370 basis point increase from the prior period. This was driven by higher gross margin and operating expense leverage on higher sales due to our disciplined approach to profitable growth. In addition to EBITDA margin expansion, lower interest cost and the decreased tax rate drove non-GAAP earnings per diluted share to $2.56, or 87% increase year-over-year.

Turning now to the balance sheet and cash flow highlight on slide 7. At quarter end, we had $2.1 billion of variable rate debt on the balance sheet, of which more than $500 million is hedged with interest rate swaps for 2018. As a reminder, in late 2017, we locked in an incremental $800 million of floating to fixed rate swaps that would become effective in December 2018, for an overall notional swap value of $1.3 billion. Due to the favorable timing of this transaction, we realized a $12 million non-cash gain in Q1, which we have excluded from our non-GAAP results. In Q1, we paid down $95 million of debt principal supported by strong free cash flow of $98 million.

Slide 8 shows our path to financial deleveraging. Continued debt pay down and strong EBITDA growth enabled us to achieve a 2.8 times net debt-to-adjusted EBITDA ratio as of the end of the first quarter. We're targeting a range of between 2 and 2.5 times, which we expect to achieve by the third quarter.

Let us turn to our outlook on slide 9. We had another strong backlog entering the second quarter and we expect second quarter 2018 net sales growth to be between 9% and 12%, which assumes an approximately 3 percentage point favorable impact from foreign currency translation. Second quarter 2018 adjusted EBITDA margin is expected to be between 18.5% and 19%, an increase from the prior period, primarily due to slightly higher gross margin and operating expense leverage. Non-GAAP diluted EPS is expected to be in the range of $2.10 to $2.30.

For the full year, we are raising our outlook and now expect net sales growth to be between 6% and 9%. This includes an anticipated 2-percentage point favorable impact from foreign currency translation. Full-year 2018 adjusted EBITDA margin is now expected to be approximately 20% and assumes higher gross margin and operating expense leverage as compared to the prior year.

For the full-year 2018, we now expect to exceed $500 million of free cash flow. This increase is primarily due to higher expected EBITDA. Additionally, although we aim to improve our cash conversion cycle, we're assuming that working capital will be a use of cash as we grow the business. You can see other full-year 2018 modeling assumptions on slide 9. Note that we have made modest adjustments to our assumptions for interest and stock-based compensation expense.

With that, I will turn the call back to Anders to discuss progress on our strategic priorities.

[Anders Gustafsson, Zebra Technologies Corp.]

Thank you, Olivier. We are pleased with the progress made in the first quarter of 2018 and our improved outlook for the year. As you see on slide 11, we remain focused on our key priorities to build upon our industry leadership and drive shareholder value.

First, we are extending our leadership in the core business through our innovation, unmatched scale and strong relationships with customers and partners. Our product offerings are resonating well in the market and have enabled us to expand our relationships with our Enterprise customers, both direct and in the channel. Several devices that have recently been driving solid growth across our core include our TC51 and TC70 families of Android mobile computers, our Ultra-Rugged scanners and our mobile and RFID printers, which are now equipped with our latest software applications and utilities and the industry's most advanced data security tools.

Second, we are focused on driving growth in attractive markets that leverage Zebra's strength in our core. We continually evaluate opportunities in near adjacencies where we are underpenetrated including specialty supplies, as well as emerging areas such as our Visibility Services.

Third, we are advancing our Enterprise Asset Intelligence or EAI vision by leveraging Zebra's deep knowledge of workflows and capitalizing on key technology trends. EAI is integral to our vision and makes our solutions unique in the marketplace. Our aspiration is to enable every asset and frontline worker to be visible, connected and optimally utilized.

Additionally, we continue to enhance Zebra's financial strength and flexibility by increasing cash flow and optimizing our capital structure. As Olivia mentioned, we have made tremendous progress in this area and we expect to soon achieve our net debt leverage target.

I would like to spend a few moments on slide 12 to highlight why more customers are choosing Zebra. We offer a unique value proposition to the enterprise market and we deliver a performance edge to those on the frontline of business.

Zebra's global reach and scale allows us to dedicate the resources needed to create the industry-leading solutions our customers are demanding. The size and scope of our operations, including our investment in product development, the breadth of our portfolio, strategic customer relationships and ability to serve our customers globally are key competitive advantages.

We have a track record of innovation and it is embedded in our culture. We create products and solutions with purpose-driven design that are tailor-made for frontline users in their particular workflows. Our leading portfolio of products and solutions are rugged and reliable, intuitive to use and easily integrated with other Zebra products to create a scalable platform. They also have enterprise-grade security and are fully supported by Zebra through their lifecycle.

We are experts in the vertical markets we serve. We understand the business landscape in these markets and provide the solutions necessary to enable our customers to do their best work. I'll elaborate more on this in a minute.

Lastly, our global partner ecosystem consists of more than 10,000 specialized partners, distributors, integrators, independent software vendors and various service providers who all play a critical role in implementing our solutions. This ecosystem is stronger than ever and augments our own capabilities, enabling us to serve more end users and drive sales growth through the channel.

We have seen sharp increases in partners selling our entire product portfolio. Over the past year, the number of partners selling more than one Zebra core technology has increased by 40% and 1,600 new resellers have signed on to our partner program. Ultimately, we enable our Enterprise customers to perform better, improve customer service, enhance productivity, comply with regulations and even save lives. This summer, we will introduce our new brand positioning, which will further highlight Zebra's differentiation in the marketplace and why we are chosen most often to help our customers gain a performance edge.

Slide 13 highlights the primary vertical markets that we serve, which currently account for the vast majority of our sales volume. Zebra has an intimate understanding of operational workflows in each of these verticals. Our expertise enables us to help our customers operate more efficiently and successfully navigate the challenges in their business.

The pace of change is accelerating and businesses that intend to stay ahead of the curve need to invest in the type of solutions that Zebra provides. Through our research, we estimate that 64% of manufacturers expect fully connected factories by 2022, an increase of more than 20 points. 97% of nurses and physicians will use mobile devices at the bedside by 2022, an increase of more than 30 points. 72% of retailers are planning to reinvent their supply chain through automation, sensors and analytics over the next three years. And 70% of Transportation & Logistics field operations are increasing their IT budgets for Mobility through 2020.

Let me further expand on Transportation & Logistics. In April, at the MODEX tradeshow in Atlanta, we showcased solutions for the warehouse and field mobility. Our solutions have resonated very well with our customers and partners. We understand that complex consumer needs and progress towards an on-demand economy are driving dramatic changes in the industry. Because of this, our customers are looking to maximize their operational efficiency, achieve a connected supply chain and deliver flawlessly. In order to execute successfully on these criteria, our customers must have superior visibility of assets, people, workflows and inventory throughout their supply chain to make smarter, more informed decisions and actions.

For example, a leading European express delivery specialist has made a significant investment in optimizing their last-mile delivery process. They recently purchased our TC56 Android-powered mobile computers to arm their drivers with tools to improve the end user experience. A customized suite of applications has been loaded on the device to improve navigation, parcel delivery and connectivity to the company's centralized information system, among other benefits. There are many similar success stories in each of the vertical markets that we serve and it is translating into strong sales results.

In closing, I want to thank the Zebra team for driving a strong quarter and enabling us to erase our outlook for the full year.

And with that, I'll hand the call back to Mike.

[Michael A. Steele, Zebra Technologies Corp.]

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

[Operator]

Ladies and gentlemen, at this time, we will begin the question-and-answer session. And our first quarter today comes from Jim Ricchiuti from Needham & Company. Please go ahead with your question.

[James Ricchiuti, Needham & Company, LLC]

Thank you, good morning. So, you've shown several consecutive quarters of very strong results in mobile computing. And this appears to be more than just an upgrade cycle. But I wonder if you could just give us a little bit of color in terms of where we might be in the upgrade cycle. But clearly, there's some other demand drivers that appears that are fueling this business. Thanks.

[Anders Gustafsson, Zebra Technologies Corp.]

First, I'd just like to put it in context, all the product categories that we have. We drove nice growth across all the lines of business that we had. And I think we did that largely through the innovation that we've introduced into the portfolio and making sure we have a very deep understanding of our customers' workflows and be able to take the data from that and reapply it into those workflows to reduce friction in those workflows.

So, I think, we have a very strong value proposition and a strong portfolio across the board. Specifically to mobile computing, that was obviously the standout performance in the quarter. We had a great revenue quarter, particularly driven by Latin America, EMEA and North America. We started to see now strong strength in the channel. If you remember a few years back, it was mostly our large direct deals.

Now, we've expanded this into the rest of the channel portfolio. So, we're seeing more mid-sized and smaller run-rate deals. The depth and breadth of our portfolio I think is a great differentiator. We have by far the largest or broadest portfolio of anybody in the industry, particularly around Android devices. And we're also putting a lot of emphasis on innovating, say, on top of the device. So a lot of software innovations like security with our LifeGuard service, manageability with OBS or a number of different types of applications and services through our Mobility DNA suite.

But Android is the key to the growth at the moment. We have well over 50% market share for Android. So we've executed very well there. I think we feel good about the continued momentum in the Android migration. Our estimate is that there's at least another 10 million legacy Windows devices out there that needs to be upgraded. And if you look a little bit further out, I think we have some new growth drivers in that the – in North America specifically, the 3G cellular service is going to be turned down in 2021. And so all devices, Zebra or other suppliers, all our 3G devices will need to be upgraded to LTE or maybe 5G at that point also, which will be a new growth driver for us.

[James Ricchiuti, Needham & Company, LLC]

Anders, is there any color you could give on the verticals? Did any one area stand out either geographically or just globally in terms of retail, e-commerce, logistics, industrial?

[Anders Gustafsson, Zebra Technologies Corp.]

Yeah again, we had a strong performance across our four main verticals. Our solutions have become much more foundational and strategic to our customers executing on their business strategies.

So we tended to be perceived maybe historically as a bit more of a tactical productivity tool. I think today, many of our customers think of us as an integral part of being able to execute on their strategies if that's omni-channel or e-commerce or what that might be. We can really drive – help them drive much greater visibility into their workflows and translate the data we get there into real actions that drive sales performance, efficiencies, customer service improvements and really provide a performance edge to frontline employees.

Retail was a very strong market for us in Q1 here also. Retail is our largest vertical as you know. I think a couple of quarters ago, we talked about a retail study that we had done and I think that continues to validate the growth opportunity that we see. But retail is transforming and growing, particularly on the kind of the brick-and-mortar part of retailers. They're capitalizing on the shift to having to build those types of capabilities and I think they see us as a critical part of doing that.

So, I think we've been executing very well on working with them to ensure we have the right solutions for our retail customers. But we are also seeing some new solutions that are starting to take – get – show traction in retail. So RFID will be one, SmartLens, our Personal Shopper, our flatbed scenic (25:13) scanners, the bioptic scanners and I think those are all essential parts to building out an omni-channel strategy also.

[James Ricchiuti, Needham & Company, LLC]

Thank you.

[Operator]

Our next question comes from Paul Coster from JPMorgan. Please go ahead with your question.

[Paul J. Chung, JPMorgan Securities LLC]

Great. Thanks. Hi. This is Paul Chung on for Coster. Thanks for talking my question. So first question is on gross margins. You had some scale this quarter, FX benefits and margins looked like they're kind of moving in the pre-MSI range. So question is, are they sustainable at these levels on a structural change and how should we think about them long term here?

[Olivier Leonetti, Zebra Technologies Corp.]

So you're right. We had a very good, strong gross margin rate in Q1. The G&A of the company is based upon multiple variables, margin is one of them. We have been focusing on gross margin, particularly over the last two quarters. Our level of intensity behind this initiative has been doubling and that paid out.

A few factors maybe I would highlight, so operational discipline. We played well with our mix from a product channel, vertical standpoint. Also, our Zebra Retail Solution business was very strong in the quarter and explained about 50 basis point of the margin rate improvement we had quarter-on-quarter. We saw also improvement in our sevices margin. And last, we had also some benefits from FX. I would also mention to be complete, initiatives in the COGS area playing out. So you see from my answer a series of levers, not one in particular.

Now to answer to your question on sustainability, we believe that we have the ability to improve margin year-over-year. Our guide is implying this. However, we want to remain prudent and balanced and hence the guide we provided. But we see that we have, again, I repeat it, margin improvement leverage in the P&L.

[Paul J. Chung, JPMorgan Securities LLC]

Great. Thanks. And then, my second question is on the fiscal year 2018 guidance. So, is it safe to assume, kind of, a sequential bump in 3Q similar to previous years and then possibly a weaker 4Q given the tough comp? Thank you.

[Olivier Leonetti, Zebra Technologies Corp.]

So, we are planning indeed for the year to grow at 6% to 9% on a nominal basis. We have increased our guide for the year by about 2 percentage point. This is going to translate for the second half into a growth profile, although low-single-digit growth. This is a balanced view, a prudent view based upon the visibility we have of the business. We're not, at this point – and I mention at this point, we're not relying on as many large orders as last year. We're investing in the run rate generation. Now, we will be nimble if needed and able to adapt to higher demand if this higher demand was to happen, yeah.

[Paul J. Chung, JPMorgan Securities LLC]

Great. Thanks. Great quarter.

[Olivier Leonetti, Zebra Technologies Corp.]

Thank you.

[Anders Gustafsson, Zebra Technologies Corp.]

Thanks.

[Operator]

Our next question comes from Brian Drab from William Blair. Please go ahead with your question.

[Brian P. Drab, William Blair & Co. LLC]

Hi. Thanks for taking the questions. Congratulations on a great start to the year. I guess I wanted – Olivier, if you can just elaborate on the guidance for the – the implied guidance for the second half of the year. It really looks like you'd have to maybe even take a sequential step down from the second quarter to the third quarter, that would be unusual. Is that – do you have that much visibility to where we would expect a sequential step-down?

[Olivier Leonetti, Zebra Technologies Corp.]

That's a fair point. We have today good visibility into Q2. And the visibility is decreasing as we go into the second half of the year. And as indicated, this is a balanced view to guide at this stage. Run rate is going to be what we're going to push for now. And if large deals were to materialize, we'd be prepared to compete and fulfill those. But we think it's the most appropriate way to guide at this stage with the visibility we have.

[Anders Gustafsson, Zebra Technologies Corp.]

If you look at historically, our Q3 numbers tends to be flat or at times slightly down compared to Q2. Europe usually has a bit of a step back as there's more vacation time in Europe. But it's modestly changing from Q2.

[Olivier Leonetti, Zebra Technologies Corp.]

Let me put another color. There was nothing fundamentally different either in the end market or macroeconomic events as well in the – reflected in the guide.

[Brian P. Drab, William Blair & Co. LLC]

Okay. Thanks. I don't know if I'm – we're talking about different time periods but I'm looking at the third quarter last couple of years, up 3% in 2016, up 4% in 2017. I guess over a longer – over longer time period, I guess, I understand why there could be weakness in the third quarter. And can I just ask my second question though? I want to understand a little bit better on the EBITDA margin guidance just – outstanding 20.9% result in the first quarter and the guidance for the second quarter is down 200 to 250 basis points sequentially. Can you just talk a little bit more about the margin dynamics that we should expect in the second quarter for the balance of the year?

[Olivier Leonetti, Zebra Technologies Corp.]

Of course. So if you look at the guide for EBITDA margin, it's good to be an improvement year-on-year directionally by about a point and we will expect gross margin to be up year-on-year and OpEx to be up year-on-year.

If you look at the full year, the guide at about 20% EBITDA margin would translate into about a point of a gain. Now, we have said that in other calls, we're not going to stop that, but at this stage, we believe it's a balanced way to manage the company and the P&L. We're looking at short-term performance, but also as on long-term performance. We want to invest in the business and to generate a good return and you see that this is paying out in the Q1 performance. So that's the way we want to approach the management of the P&L.

[Brian P. Drab, William Blair & Co. LLC]

Do you have lower margin work in the backlog for the second quarter though and it's a big step down sequentially, which I'm sorry, but I didn't really – I'm not sure you addressed that, that's a big step down sequentially.

[Olivier Leonetti, Zebra Technologies Corp.]

It is a step down sequentially. You have two elements on this. One, I will look at the year-on-year, point number one. And point number two, sequentially Zebra Retail Solution, which is a seasonal business, is – generated about 50 basis point of margin in Q1 and that will not obviously be present in Q2. So that would be part of the bridge.

[Brian P. Drab, William Blair & Co. LLC]

Okay. I appreciate it. I'll follow-up more later. Thank you.

[Olivier Leonetti, Zebra Technologies Corp.]

Thank you.

[Operator]

Our next question comes from Jason Rodgers from Great Lakes Review. Please go ahead with your question.

[Jason A. Rodgers, Great Lakes Review]

Yes. The 10 million devices still out there that you mentioned, is it possible to estimate how much of those devices belong to large versus medium and small – smaller customers?

[Anders Gustafsson, Zebra Technologies Corp.]

I'll start and I'll see if Joe might have some insights here also. I think it's hard to – for us to have a real detailed view of the mix of where those are. You could certainly see that the largest companies are the ones that have been generally the earliest to adopt Android. But that being said, we have some very large, frankly (34:27) T&L companies that are still working on Windows devices and I would expect that they would be upgraded in the next couple of years. So, I think it's a mix between them, but you'd certainly get more into the smaller accounts as you dig into that pile.

[Joachim Heel, Zebra Technologies Corp.]

Yeah. I would echo that. I think the majority of the remaining devices are likely to be in smaller end user customers and one indicator that we have for this is that the channel part of the conversion was slower to start in the early days of Android adoption, but now, we're seeing strong adoption in the channel and our channel partners driving Android conversion with their customers who tend to be smaller. So that's one indicator of it. The other indicator that we have is if we look by vertical, the vertical that still has the highest penetration of legacy Windows devices is in manufacturing, and many of the smaller manufacturers, again, have not yet made the conversion to Android, and that's where we expect a big portion of those additional 10 million – or remaining 10 million, I should say, to come from.

[Jason A. Rodgers, Great Lakes Review]

And margin profile on the smaller deals is higher for Zebra than the larger, correct?

[Anders Gustafsson, Zebra Technologies Corp.]

Yeah. It tends to be that when we deal with our largest direct customers, there's very sophisticated buyers and obviously they have a lot of power in the negotiations when they talk about such large deals. Our more run rate-oriented business tends to be executed much more around our list pricing.

[Jason A. Rodgers, Great Lakes Review]

And then finally, just if I could squeeze one more in. Just wondering if you're seeing anything material on the way of higher raw material costs?

[Anders Gustafsson, Zebra Technologies Corp.]

So, that's something we have seen for probably nine months or something now. It started mid last year with memory and batteries. So, we've been working very closely with our suppliers to make sure we have the right forecast in because lead times have also extended. And that's part of why we have put so much more emphasis on gross margin improvement plans that Olivier talked about to make sure we can offset any potential price increase that we would see from the supply chain. But this is, I think, a fairly broad-based experience now by people in the technology industries. But we feel we are in a good place and that we have secured supplies for – certainly for the next quarter or quarters and we're working closely with our partners to make sure we have adequate supply going forward and obviously negotiating hard to make sure we get the right pricing and qualify new vendors when we need to, to make sure we get the best possible price.

[Jason A. Rodgers, Great Lakes Review]

Thank you.

[Operator]

Our next question comes from Richard Eastman from Baird. Please go ahead with your question.

[Richard Eastman, Robert W. Baird & Co., Inc.]

Yes. Good morning. Anders, I take from your comments earlier that your best-performing vertical was retail. Could you just provide a little bit of color around the products that go into that market, I mean, if you're leading there with mobile computing or other? And then also, what is the composition of your retail business? Is it slanting towards more in-store with things like SmartLens or are you still basically kind of the back warehouse and fulfillment piece of retail? Maybe just talk to where – directionally, where the business has grown faster?

[Anders Gustafsson, Zebra Technologies Corp.]

Yeah. I'll start with that. And then I think Joe can provide some further color here also, but – yeah, historically, we started off in, kind of, the back of the store doing more inventory-type applications and we've migrated now to be much more in the store. So lot of sales associates now in many large retailers are carrying our devices as one of their work tools that they use all the time to make sure they can engage with customers, to answer questions and be helpful to them, even if somebody goes out and can't find a piece of merchandise they're looking for, that the sales associates can then engage with them, understand what they're looking for, see if the neighboring store has it and have them ring up the sale and ship it from the other store.

So that will be a great example of how our customers now are using our devices in the store. But they also do other things in the store around price checking and inventory checking and so forth. So I would say our products are prevalent across the warehouse, the back of the retail store and the front of the retail store. Our Android mobile devices, the TC51 and TC70, are probably the mainstay on the mobile computing side now. But if you get to the warehouse side, you'll see lot more wearables and other products, the MC9000 Series products come out there.

We have a lot of printing in retail, both in the back of the store and in the front of stores for price markdowns. If you do e-commerce and you buy online, pick up in store, you got to label all those bags in some ways to associate the bag with the actual consumer. So that's new applications for our printers. And also for scanners of course, we have our new flatbed scanners which are doing very well in some of the largest accounts. And we think – see that as a great growth driver for us also.

So retail really does utilize the vast majority of our products. And if you look forward, I guess the last comment, we've looked forward, there are some newer technologies that are also developed for retail. So like SmartLens, that would be one example that we can take you all the way up to kind of frictionless checkout technologies.

[Joachim Heel, Zebra Technologies Corp.]

Okay. Maybe two – one additional thought. As you think about front of store and back of store, the other part that we're excited about is, as Anders mentioned earlier, retail is transforming and the omni-channel experience and the blurring of e-commerce and brick and mortar is a hotbed of where our products are being used in new and innovative ways. For example, as retailers introduce click and collect type of schemes, you'll find our products being used to both gather the products in the store as well as then deliver them into the trunk of a car or at a special counter.

Our PSS products are being used to start a shopping experience online, prepare a shopping list and then, in the store, retrieve that shopping list, interact with customers while they're on their shopping journey and then check out. So, those are examples of where the technologies and products are used in innovative ways to blur the lines between the front and the back of the store and we're really excited about those.

[Richard Eastman, Robert W. Baird & Co., Inc.]

Understood. And then also, a quick question for Olivier. If you just look at the consolidated gross margin improvement, could you just, in basis points, just break out what FX, how FX benefited you? So, of the 130 basis points improvement in gross margin, adjusted gross margin, I'm just curious, just segmenting FX, was it – how many basis points did FX benefit that line?

[Olivier Leonetti, Zebra Technologies Corp.]

So, the margin improvement year-on-year was due to a series of factors. I wouldn't single out one in particular. Operational discipline was a driver. Service improvement margin was a driver and FX was one. But I wouldn't single one in particular. I think its broad-based improvement.

[Richard Eastman, Robert W. Baird & Co., Inc.]

Just from the standpoint of what does or does not reoccur, I was trying to just segment out FX. I mean, the others seem much more sustainable. I just want to – that was the thought behind the question. But I can follow-up as well. Thank you.

[Operator]

Our next question comes from James Faucette from Morgan Stanley. Please go ahead with your question.

[James E. Faucette, Morgan Stanley & Co. LLC]

Great. Thank you very much. Had a couple of follow-up questions to those that have been asked. I guess my first is, can you talk a little bit about what's happening in Europe? It looks like that number was like 13% organic growth or thereabouts, if my math is correct. And I mean, is – do you think there's any forward stocking that was going on while the dollar was weak or other things that can make that a bit more of anomalous or – yeah, just a little color on what you see happening in Europe?

[Anders Gustafsson, Zebra Technologies Corp.]

Yeah. Europe was very strong, right. But we saw great broad-based strength across virtually all the sub-regions. Mobile computing led the charge, but retail and T&L were strong. From a – so why is Europe growing so much faster today? I would put a lot of that down to execution. I think we have gotten our channel programs to be in very good shape and we're recruiting a lot of new partners into our program.

We executed very well on the larger deals in the region also. And if there's any kind of anomaly to it, I would say maybe Europe had underinvested in our technologies a couple of years when they were going through some more difficult economic issues. And so, there could be some catch-up in that case, but we haven't really seen any evidence of that. So, it feels just like there's been good confidence in the business community in Europe and they have approved budgets and investments and I think they feel – Europe kind of feels that they're coming back and they want to compete.

[James E. Faucette, Morgan Stanley & Co. LLC]

Great. And then just on capital and balance sheet, as your debt levels come down, et cetera, how should we think about the uses of cash – should we still anticipate primarily more debt pay down or does it make sense for you to start to look more at acquisitions, particularly those that could continue to enhance the product portfolio? Just trying to get a sense for how we should think about uses of cashes as you hit kind of targeted debt levels.

[Olivier Leonetti, Zebra Technologies Corp.]

Right. So, we have been focusing on free cash flow generation and debt pay-down now for a period of time and the team has executed very well. We believe we're going to be within our range of leverage ratio mid-year this year. After that, we're going to look at options to deploy this capital. We believe that nevertheless, we have many opportunities to invest in the business to deliver attractive return for our shareholders. We're very excited by our end markets and by our ability to compete on those. So investing in the business would be an element where we will focus on.

[James E. Faucette, Morgan Stanley & Co. LLC]

Great. Thank you very much.

[Operator]

And our final question today comes from Jeff Kessler from Imperial Capital. Please go ahead with your question.

[Jeffrey Ted Kessler, Imperial Capital LLC]

Thank you. Can you describe what improvements integrate – what improvements the new platform that you'd set up a year, a year and a half ago such as Savanna began – how they began to affect your ability to gain better margin?

[Anders Gustafsson, Zebra Technologies Corp.]

So, first, if you talk about kind of the broader picture about EAI, I think...

[Jeffrey Ted Kessler, Imperial Capital LLC]

Yeah.

[Anders Gustafsson, Zebra Technologies Corp.]

...for us, EAI is something that we are very excited about and that's really enabling our devices and other intelligent infrastructures to be able to sense the data, information about assets, products and processes, what it is, where it is, how it is and this information is then analyzed to provide actionable insights to frontline employees in real time to help them reduce friction in workflows and improve productivity and enable greater insights overall to the business operations.

Savanna is a critical part of this. It is a data platform that helps to easily integrate data from all these devices, mobile devices or fixed infrastructure that now is generating more insights and do some analytics of that and enable some actionable insights to be drawn, but also to work with northbound applications so that we can hand off some form of analyzed data stream to other applications that can do further analysis and draw additional insights from that.

So this is a way for us to – so Savanna, you can say is the way for us to provide kind of the glue across the portfolio. We use Savanna internally as a foundational building block in OVS or in SmartLens and other things to help analyze the data, to manage the data. But we also expose this to our partners. So this is a great way for us to engage our partners to be part of our EAI strategy and offer them growth opportunities in this.

And we had a partner conference in Europe, a couple of weeks back, and we had some of our more advanced partners show up on the big stage, show what they had done with Savanna and I think that went a long ways to help our other partners to understand what Savanna our data – and our services strategy is and how they can compete in it. It made EAI much less abstract, I think, further (49:05) much more real.

[Jeffrey Ted Kessler, Imperial Capital LLC]

So what you're saying is for your larger partners, there is a level of confidence in their use already of the platform.

[Anders Gustafsson, Zebra Technologies Corp.]

Yeah. We – you might remember in the fall, we started something we call the Savanna incubation...

[Olivier Leonetti, Zebra Technologies Corp.]

Early adopter...

[Anders Gustafsson, Zebra Technologies Corp.]

...early adopter program where we brought in five or six partners to work with us on kind of highlighting certain use cases where they would take data from our devices and analyze that and then kind of give it back to our customers in a way which could be more value-add. I think that's gone very well. We're now looking to expand that with a second phase of another 5, 10 partners before we can open it up and say we now have hardened Savanna enough that we can have any and all of our partners write applications to it.

[Joachim Heel, Zebra Technologies Corp.]

Maybe one connection I'll draw for you to your question about margins right.

[Jeffrey Ted Kessler, Imperial Capital LLC]

Okay.

[Joachim Heel, Zebra Technologies Corp.]

If you look at the solutions that we have been developing and are piloting with customers and some of which are already commercially rolled out like Location Solutions, the SmartLens and SmartPack Solutions, they have the added feature relative to our products that they are directly linked to a business problem that a customer is trying to solve. And as such, we price these types of solutions in such a way that they deliver a great ROI for the customer. But in the process of doing that, they also deliver great margins, typically higher than our average to us as a company.

So, when we do that, we can accelerate our margins by selling these solutions. The platform, Savanna, is a common platform on which we then base all of these different solutions so they give us a way to accelerate these solutions coming to market and they broaden our reach because now our partners have access to these same solutions on a faster and more accessible platform. So it has sort of a double benefit, right? On the one hand, as a platform-based development, it lowers the cost to develop; and then it acts as an accelerant to get it into the market faster for both our partners and for us.

[Anders Gustafsson, Zebra Technologies Corp.]

Maybe one last point will be the data we have is something that's very hard to get access to. So if you are say an IoT company sitting in a data center, you don't have data about what's happening at the frontline of business. That's the data we can capture with our mobile computers and printers and scanners and other – some of our fixed infrastructure.

And then, the combination of us, also then knowing the vertical workflows of our customers very well, I think we're uniquely well positioned to be able to take that data to improve efficiency, other things for our customers' workflows, really we call it (52:05) reduced friction in those workflows. So that's something that really is resonating very well with our customers.

[Jeffrey Ted Kessler, Imperial Capital LLC]

Okay. One quick follow-up question. You've talked about the pipeline a bit in generalities and you talked about your, obviously, the leading vertical markets you have. Can you describe what is in the pipeline right now? I mean, not – obviously not product by product, but can you describe the nature of where that pipeline is going as you see it over the course of 2018, that may have been a little bit different from the fourth quarter moving on into the first quarter?

[Joachim Heel, Zebra Technologies Corp.]

So, this is Joe Heel speaking. I can maybe talk a little bit about the nature of what we're seeing. Just to reiterate, the success that we've had in the past is also mirrored in our pipeline going forward in that it is broad-based across all of our lines of business and we see the pipeline strong across all the different business units, mobile computing, scanning, printing and including our services business as well. So, we have a broad-based strength there.

What we do see is that if you were to compare to last year, we do not have visibility to as many large deals in the second half as we had last year, but we see a very strong presence in the pipeline of what we would say are more mid-sized deals. And this is related to the question earlier about how we see the Android adoption and the technology conversion there occurring, right, where the – many of the large customers have done their adoption, and now many of the mid-sized and channel customers are following. So that may give you a little bit of color on the movement in the pipeline.

[Jeffrey Ted Kessler, Imperial Capital LLC]

Okay. Great. Thank you very much.

[Anders Gustafsson, Zebra Technologies Corp.]

Thank you.

[Operator]

Ladies and gentlemen, that will conclude our question-and-answer session. At this time, I'd like to turn the conference call over to Anders Gustafsson for any closing remarks.

[Anders Gustafsson, Zebra Technologies Corp.]

Yeah. Thank you. Just as we wrap up, I just wanted to mention that I am very grateful to have the best team in the industry and a highly supportive partner community to help serve our valued customers. We could not have delivered these results without their help. Have a great day, everyone.

[Operator]

Ladies and gentlemen, the conference has now concluded. We do thank you for attending today's presentation. You may now disconnect your lines.