Unidentified Analyst

Thank you very much joining us for third day of the conference. I did notice that outside there is a banner with barcodes of our report. So, if you want to have our primers, we publish plenty of primers on various topics, if you want to have our primer, primers are there. There is a primer coming soon about Cisco’s largest segment, Secure Agile Network, and it’s a bottoms-up look at their revenues and kind of all the trends et cetera, but that’s going to come up soon.

So, thank you very much, Greg, for joining us. Maybe you’ll start with introduction, and you’ll do a better job in introducing yourself than me trying to make it. So, if you can tell us kind of your background at Cisco and what are your areas of responsibility today, et cetera?

Greg Dorai

All, right, thank you. Hey, good morning everybody. I am Greg Dorai. I am the SVP, General Manager for, what we call as Campus Connectivity Business. That is basically our switching business and products like Cisco DNA Center et cetera. That’s core in that Secure Agile Networks portfolio. Peers run wireless and WAN and datacenter, and those three or four is that Secure Agile Networks.

And before I go forward, I’ll just make the Safe Harbor statement. We will be making forward-making statements. You can refer to our 10-K for further details on that.

Unidentified Analyst

Perfect. I promise then I am going to hardly ask you questions about [indiscernible].

Greg Dorai

Yes, it’s perfect.

Question-and-Answer Session

Q – Unidentified Analyst

So, let’s start first of all at the high-level, Secure Agile Network grew last quarter 29% almost, year before was 4.4%, talk about your area of responsibility, what are the trends you are seeing with this kind of great growth we’ve seen?

Greg Dorai

Yes, we saw a pretty significant boom in suddenly our switching wireless businesses that are there, and we had supply chain issues as we all know. So, now finally we have unlocked that, and a lot of the growth frankly is orders that were booked during that boom. So, that’s not a surprise to any of you.

The reason for that demand was as folks went home, the importance of technology of connectivity just hit home with CIOs, and that was an area that they decided to beef up, right? So, some of those investments they are still absorbing, because frankly — combination of supply chain plus, hey, we need to invest to get our corporate offices on — like, I’ll give you an example, if you are on Wi-Fi from two generations ago to now, it was literally 10x better, right, like, so why would as hybrid work, as video conferencing because you kind of need that. You couldn’t rely on something that was built for guest access, and you didn’t refresh. I am not saying all verticals were like that, but there were verticals who were in that. So, we saw that. Now, of course, we are seeing a little bit of recession come on top of those trends, and it’s hard to know what’s what, but those are all acting together.

Unidentified Analyst

So, let’s talk about kind of the current demand — not demand need, the current need for infrastructure build out. So, in the last few years, there was build out at least — not build out, there was demand going up. We are seeing the build out today because of supply constraints. Is there — put it in the historical perspective, if you look at the growth of ’21, ’22, ’23 together, then average between the years where you had supply and years don’t have. Just average it, it seems to me like it’s still way above the growth we’ve seen the previous few years unless — correct me if I am wrong, that it wasn’t. In the sense that it seems like there was acceleration of demand in a campus environment. And the question is, is this acceleration sustainable? If I am totally wrong with my observation, please correct me. It’s not going to be the first one I am wrong.

Greg Dorai

I think that if you just look at ’21 to ’23, you are right, there was an acceleration, but if you look at from ’19 to ’24, ’24 being some of which has not played out, it’s hard to say whether it’s acceleration or there was a little bit of a bump. It all depends on how we see the future order recover, right? So, we are between the period, if you just take the three years that you mentioned, yes, right, like there was [indiscernible] looked like the trajectory was different, but if you then take a five or six-year period, there’re signs that it could normalize.

Now where do I see demand, right, like more than the numbers? I think there are the headwinds and tailwinds, right, which headwinds are there is a strong demand for security, and some of the more modern gear is better to have tighter security, because they have more memory, they can have agents in the infrastructure and tightly coupled with security portfolio. That’s good, right? There’s demand towards sustainability. Modern gear is 20% to 40% more energy-efficient than gear that you got from 10 years ago. And you could go do a lot of good things with it, right. So, that’s good.

There is demand towards smart buildings, which is people are not coming back to offices. So, offices need to be smarter. So, you need to invest in IoT sensors. We see that if, like we have invested in three buildings, Atlanta, [indiscernible], and here in San Francisco, where we made it totally PoE powered et cetera. If you go that route, you need three times more ports than just for connectivity, right. So, those are tailwinds.

The headwind is there’s real estate consolidation going on. Not everyone is coming back to office, so, people are consolidating their real estate assets. And so, if you shutdown, that’s going to be a headwind. It’s difficult yet for us to say if you could net it out, what it would be? It was looking like there was a total uplift, but then as you look out to the next two years with a softer economy, it could normalize to historical.

Unidentified Analyst

So, what are the big buckets of your products? If you look at it on the product basis, what are the big buckets? Campus switching is one. What are the other ones?

Greg Dorai

If you look at it historically, right, I think it’s campus switching, it’s wireless, it’s routing, and SD-WAN, and it’s datacenter. And I think we may include cloud compute, right, [Caroline] (ph)?

Unidentified Analyst

No, but that’s within your responsibility?

Greg Dorai

No. Within my responsibility it is switching, and then, there is management layer, right, like, on top of switching wireless routing. And we call that Cisco DNA Center. That’s one that we have. And then, we have Meraki. That’s not in my responsibility, but can also work on the same gear.

Unidentified Analyst

Got it.

Greg Dorai

A lot of the growth levers are software. When I spoke of before, were hardware, right. So, I do have software assets. One is the Cisco DNA Center. The other is what we call Cisco Spaces for our smart building. And then, there is a security product we call Cisco ISE. So, these are growing parts of our portfolio. They work on top of the hardware [indiscernible].

Unidentified Analyst

Speaking about switching, it’s easy. I’ll keep it to the end. I want to talk about the other products you just mentioned. Can you take us through Spaces, through the ISE, through the other products that are software oriented? And can you talk about it first in terms of what is the problem it is trying to solve? And, second, how is it synergistic to your business? How does it help you sell other things or attract business from new customers?

Greg Dorai

Yes, so let’s start with Spaces. So that’s a smart building offer. The premise in a smart building offer is employees when they want to come into any campus it could be carpet, could be retail, could be hospital, they want a better experience. Part of the data that we have from our Wi-Fi access points or Webex devices that are there is we have very good location data on how people move around.

So, Spaces reads all of it. So, you can start doing things like, hey, this building is occupied at 60% today, so that’s one. You can say which conference rooms are actually empty because lot of times people book conference rooms, they don’t actually sit in the conference room. You can say that. You can do navigation to conference rooms. If you think about maps as an example, outdoor navigation is like brilliant. It solved 10 years ago. We all use it every day. But you look at indoor maps, it’s actually pretty bad relative to outdoor, right, like within a building, you don’t know — even now when came in, Caroline and I was searching for things, right. So, actually Cisco has maps, but it’s IP maps, right, and Spaces can convert it into actually more physical maps. Of course, need the help of the facility owner, but to say like, “Yes, this part,” and then you can start doing navigation seamlessly, if you can do that. So, that’s the premise of Spaces. And then there is an API ecosystem on top of it, which now a vertical specific partner can read and give more sophisticated outcomes.

I’ll give an example of higher ed. You want to actually know students which classes they took, are they — especially there are on a certain scholarship there are requirements that they attend labs. So, you can actually geofence and say, like, “Yes, they have been spending this many hours in campus,” et cetera. Now there are privacy requirements in getting there which is why I don’t think Cisco can get in there. But a partner who is working with that higher ed university may be able to take API from Spaces and deliver that more custom outcome for that vertical. So, that’s Spaces. What is the opportunity in Spaces? There is a rough back of the envelop math. I am not claiming that this is actual TAM. But if you look at a carpeted space today and you put all that that is spent on infra at least in the Cisco domain, it’s probably a $1 per square foot. So, if you look at the facility’s budget, how much they spend on per square foot per employee, it’s a lot higher than that, hundreds of dollars. So, the question is can you give you some outcome both to the employee and frankly to the facility’s owner because now they know how a building is actually utilized. They can shutdown building. Then can we get a $1.50? That’s a significant increase in our software TAM because we cover gosh, I don’t know.

Unidentified Analyst

And that’s a recurring revenue basis?

Greg Dorai

That’s a recurring revenue basis. That’s what I am saying. If you go into that model, today we are not in that model. But, we have — every one of our Wi-Fi access points covers say 1000 square foot. We probably have 20 to 30 million installed Wi-Fi access point. On a square foot basis that’s what we can see. And the question is can we monetize it differently. That’s the Spaces I value for.

Unidentified Analyst

What are the other — [technical difficulty]…

Greg Dorai

That’s the power of network and that’s where Cisco ISE comes in. We actually know — because one of the threats here is everyone wants to go over the top, I going directly to an internet. So, why do I really need horizontal campus information? The reason is because you have actually a lot of unmanaged devices, IoT devices in any campus. And we have that context because of the network and Cisco ISE is a product that knows. So, we actually have context of all those unmanaged devices. We can do AI to profile those devices. We know if a fire alarm behaves like a fire alarm or is there data spike. If we can share all of that to our security products, suddenly the security defense becomes more stronger, because you are getting information from the network and you can make decisions. It’s not perimeter. Security is not just agent-based security. It’s throughout the network. If there is any anomaly in the dataflow, we can do that. And I think that will help our security portfolio grow a lot faster if we get this integration tighter better. And that’s what — there is a lot of Cisco live announcements was about that.

Unidentified Analyst

Got it. So, speaking about the campus switching, I can address it from multiple kind of angles. I want to start from the angle of how do you make money in switching, meaning a few years back — 10 years back, the way to grow in switching was either if you had more people — if you hired more people, so you need more force. Number two, if there was new technology [indiscernible] migration to 1 gig or 10 gig whatever it was, is this still same thing? Are these the two drivers for growth? Meaning technology evolution and more hiring, or were you able to change the switching portfolio to have more software content, more recurring revenue content, and add more features to it that were not included in the past.

Greg Dorai

Yes.

Unidentified Analyst

It’s a long question and a long answer.

Greg Dorai

It’s a long question and a long answer. I think to get back, certainly, ports to people was a driver.

Unidentified Analyst

Yes.

Greg Dorai

It’s becoming less of a driver, and as we discuss, it can even be a headwind, right, like because — but it is still a driver of growth. Why is it, because it’s an amazing insurance policy, right, like it’s $0.60 per port or something like that over 10 years. So, why would you risk not having that? It’s just nothing in the grand scheme of things. And so, we think ports growing at GDP is something that you should — will continue, it’s not going to have like a dramatic strength, right, that’s the first one.

Second is except there’s some actual physical asset consolidation, right. The second is certainly as we look at PoE, and if you look at mobility and video in that, you do need newer gear, like PoE power switches, ambient switches. The penetration of that is small today in the portfolio. So, I think if building gets smarter that then there will be tailwind from that.

But the biggest driver is the third, and we have already seen a lot of benefits from it, right. You have heard Chuck talk of numbers on what percentage of our portfolio is software, how much is ARR, being a very large portfolio that switching is, the number that Chuck speaks about are very close to my numbers as well. So, I will not give the specifics, but it’s almost like you can go see our investor call, that’s kind of exactly where my business will be. But there is a lot of upside even from that. What we have managed things now is we took the dollar value of our customer’s paid, and we said, instead of, at that time, 95% or 98% being hardware and 2% to 5% being software, we have come to where we are, which I think is between 25% and 30%, right, like, give or take, software. But still the customer was saying more or less the same dollar amount. But then if they renew it, there was upside, right? So, that was the first thing, and it’s working really well.

But the second thing that I think that’s more upside as we look forward is, for any infrastructure that a customer buys from us, if they spend a dollar, they spend $4 to $5 operating that infrastructure, right, like either it’s internally or it’s with partners, contractors, and if you can go and simplify, and this is where cloud and unification of the portfolio comes in, right, like because the brilliance of the Cisco of the past was we created this ecosystem of CCIEs, and that was so sticky, but it also was customers have to spend because you really needed those experts to come and set up your switches or power switches. In this new world, I think we need something more nimble and agile, and so, if we can get a certain percentage of that spend as product, and then, we encourage our ecosystem to go from the world of more CCIEs and knobs to the world of APIs and do richer apps on top of it, I think it will be good for them, it will be good for us. So, that’s how — that’s a big driver of growth.

Unidentified Analyst

So, give me an example, if I spend $100 — I understand from you, if I spend $100 on the switch yesterday, or 10 years ago, I still spend $100, but the breakdown of software and hardware is different.

Greg Dorai

Correct.

Unidentified Analyst

What is the — you mentioned 25% to 30% software, so, again, taking this example, I assume that I spend $100 on the switch today, $25 will be the software. Is the software recurring?

Greg Dorai

Yes.

Unidentified Analyst

And the software 10 years ago was not recurring?

Greg Dorai

Ten years ago, it was less software period, and it was not recurring.

Unidentified Analyst

Okay. So, what are the big components of this recurring revenues, meaning — well, you touched on a little bit on it, but what are the big components of this recurring revenue in campus switching? And why are companies willing to pay it, because this is accused to be very hardware-centric, as you mentioned, how do you convince them to start paying every year on the same switch?

Greg Dorai

Because for a lot of our customers just the — what is base automation, which is onboarding the switch are updating to a latest security patch et cetera. In the past world, I will just dumb it down, and you have to up-level it, because it’s easier to explain. In the past, you could go and say, “Hey, Saturday, Sunday, I’m shutting down the network, nobody can access emails.” We all remember this, right? They will get this email saying — it’s impossible — maybe some of these folks are — it’s impossible now, right, you cannot take down your network, you will be more agile. So, it has to be smarter, right? You cannot just say like, “Hey, I’m going to boot down all these boxes, it’s down for 24 hours.” So, the value of software, even for basic upgrade, basic config, lifecycle management, or a security incident, right, like you have to react very, very quickly, if you know there are some vulnerability in it, and these patches have to be pushed really well. So, something like the Meraki suite, our cloud networking suite is just brilliant for that, because all of that’s taking care of you, and it’s automatic. In a more enterprise on-prem suite, it has to be done by these IT teams, and that’s where software like DNA Center really helps. So, that’s one, right, base automation.

The second area is around AI ops. I will give you another simple example, right, like in a building physically you will know — the network knows when the traffic is speaking, and for this hotel, if you observe over 30 days you can actually build patterns of what’s happening. And actually your Wi-Fi onboarding time, so this is like when you connect Wi-Fi, how quickly can you connect to the Internet. This is based on the number of people. This is physics. And so, the network knows that, and so it can actually start doing a baseline for this building, so that the IT person doesn’t freak out if things are slow, because it could be like, yes, things are slow, but there is a thousand people in the room designed for hundred. Don’t worry about it. That’s all that’s happening. Yes, you may need to upgrade to better gear, but it’s not like anything is collapsed, as opposed to, “Wait a minute, there is nobody in the room, and yet this one person who was trying to connect is getting 30 seconds before he is connecting,” something is wrong, right? And we are talking just within the room, right, I was presenting yesterday our collab portfolio, if you do a Zoom call or a Webex call or Microsoft team’s call, and you have an issue in the call, where a few users don’t — are unable to connect, it’s annoying, especially if someone is starting to present, and at the end of the call, in the previous world you would be like, it’s annoying, I don’t know it’s a Webex issue, but you don’t know what it is. It could be the home Wi-Fi, it could be the middleman, it could be the Webex note, or it could be network in your campus, right, but something with thousand eyes, we can actually stitch all this together, right, thousands eyes of the software offering that works on switches, that works on Webex, and you can actually go into any meeting, and any endpoint of that meeting, no matter where they are, right, hotel, homes, and then you can say, “Yes, it’s actually the hotel Wi-Fi,” or it’s “Nope, it’s a Webex note in San Francisco that had the issue.” So, these things people will pay for, right, because it’s actually troubleshooting, and experience well beyond the switch, right. So, I think that’s the second example. And these are the two really driving the base level of software, and recurring.

Unidentified Analyst

That is software. Another aspect of Campus Switching is the relationship with wireless switching. How much Meraki is a complementary, and how much of it is kind of cannibalistic to your business?

Greg Dorai

So, you use wireless switching, wireless and the switching, and then in both we have Meraki and on-prem, okay? So, Meraki is the cloud management layer, and DNA Center is the on-prem management layer. So, I have responsibility for the overall switching business. So, that includes Meraki, even though I don’t own the management platform and on-prem. So, it maybe cannibalistic between each other, but we only look at A+B. So, anything that I said, when I say, “Switching growth,” I’m looking at A+B, which means it is to my benefit to migrate things to a cloud management layer, because it’s actually more sticky, I get more renewals, and I can give more benefits to the user, if I move them to the cloud management layer, right? So, that way it is cannibalistic, if you look at it that way, but we only look at it as A+B.

Unidentified Analyst

Got it.

Greg Dorai

Wireless is very complementary. If there is any growth in wireless because of any trend, then they will need more empty switches, and so, any growth there is a boost to either of these switching portfolios.

Unidentified Analyst

Correct. One of the biggest trends in the industry in the last few years is competition, Arista, Juniper, Campus Switching. And I want to ask the question, but I want to start 10 years back, not now. When we saw competition in datacenters, and suddenly we had Arista, and suddenly we had Broadcom with the chip, that’s enabled Juniper and Arista et cetera. Cisco lost share in the datacenters. And these new players offered something else, you know, first it was feed and speed, and it was latency, and openness, and their method was different at the beginning. How do you make sure, or how did you make sure that you don’t run into the same competitive threat in Campus as you had in datacenters?

Greg Dorai

Yes. I think first of all, if you are a competitor, you do have to find something different. So, I think one thing that I will say from 10 years to now, is that the game is more software, right? And software by definition is more unified experience. It’s now within a domain. What our competitors do is that they spike in a domain, because they focus, and then they figure out some gap, could be speeds and feeds, or could be in that domain I’m going to do software better, and it’s a best of lead approach. And we have to get that right as well, but I think the big opportunity for Cisco to holdback competition is to deliver an experience across domain, right, because we have the market share that none of them have in each of these domains, and our customers frankly look at us as Cisco, and not as Cisco Switching, Cisco Wireless, Cisco Datacenter, right?

So, when we have the share, and if we can simplify and converge and get unified experience, that is the biggest way to do it, because troubleshooting is easier. If you can do automation in one domain it’s more or less the same in another domain. It’s like sort of your Microsoft Office Suite. It’s a platform suite, you get used to one, and you’re not going to use the other. And I think that is — but of course you will need to have best product in each domain, and I think we will do that, but competing within a domain is not recipe for success for Cisco. We need to be really good in the domain, but the competition we need to lift it up to be across domains, and it’s very sticky. I will give you an example, again from a Meraki cloud portfolio, extremely loyal platform, and they switched our wireless, they don’t have datacenter yet today, but if somebody buys wireless, the likelihood that they will buy switching on Meraki is very high. So, I think that’s where we want to get to is to this platform approach with the unified experience. And then, we think — it’s very, very hard, right, like Arista doesn’t have enterprise, a strong wireless footprint at all, right, like Juniper has DRAM, they just acquired, and so, I think there are very early stages in certain domains, but if you look at datacenter Arista does, they’re more mature, if you look at Juniper they’re more matured in wireless and switching. But if you put together five or six domains, I think the gaps are huge, and that’s how we met.

Unidentified Analyst

Do you feel any pricing pressure because we have more competition from these companies?

Greg Dorai

We always feel some pricing pressure, but I don’t think the game is pricing in enterprise segments. Maybe in emerging regions and the lower market it’s pricing, but the competition is different. It’s not the ones you talk about there. I think there we have is it’s the operational simplicity and lower cost pressure was the pricing pressure. So, if it’s simpler, I think at the end of the day, our customers are going to save more, and then they will go with that solution, even if it’s actually slightly more expensive to pay for that.

Unidentified Analyst

So, we have a minute left, and I want to ask, finish with a last question on spending. And do you think if you look at the entire — if you look at all your Cisco’s target markets, right, you have cloud, you have service providers, you have campus, you have datacenters, do you share the views that campus is going to be the most vulnerable to any economic slowdown out of the others, or is it the opposite?

Greg Dorai

I think if you view the campus as how it is today, it could see slowdown. But I don’t think that’s how you should view it. The office of the future is very different than today, right, like you should view the campus as office of the future. So, our next-gen factory is the campus. Next-gen hospital is a campus. A worker who works at branch, a large branch, or comes into a collaboration center comes in is a campus. And so, I think if you broaden this to a discussion around office of the future or a campus of the future, I think the opportunities the tremendous, and the levers that I spoke about, right, actually going slightly up and just the plumping, and then going into PoE powered outcomes, going into experiences, going into security, there’s so much opportunity, because this future is very, very different than today. So, I think that’s how I disclose, that’s how I would say, anybody has to view it — I’ll give you one example to hit this home, are hospitals, right, like if you go into an ER room, historically there was a triaging, were you awaited, because they were just triaging for the stroke patients first, and if you had a luggage and you waited two hours, and then, you went to another room and you waited, some of you, because they will put you hectic.

All that with good network and hybrid experience now in Stanford, here in the Silicon Valley, the triaging stuff little in the parking lot, right, you don’t really need to go into that small room, they can move around, they can do this, and doctors can be hybrid, right, with the Webex Mini Pro, some part of your discussion can go. So, you can actually scale up your staff up and more. And so, this whole ER experiences can be changed if you invest in it with the futuristic view, huge upside for Cisco.

Unidentified Analyst

Got it. Great. Greg, thank you very much. We are running out of time, but it was extremely insightful.

Greg Dorai

Yes.

Michael Yee

Well, thank you, everyone, for joining us on our next session up here. I think our next guest needs no introduction. He’s the President of Moderna, Stephen Hoge. It’s good to be here with you. We just came away from ASCO. So, there’s cancer topics to discuss. I’m sure the audience would love to start off with some respiratory disease updates. So, maybe it would be a great place to start would be sort of your sense or Moderna’s sense of the state of affairs of where we are with COVID. You have guidance for COVID vaccine revenues this year. Market is a bit uncertain about that. You’ve got RSV. Talk about other stuff. And also oncology.

Question-and-Answer Session

Q – Michael Yee

So, why don’t we just start off with COVID. There’s guidance. What is Moderna’s sense of the state of affairs with COVID this year and your confidence around guidance and where we’re going with COVID vaccines.

Stephen Hoge

So, first, again, it’s a privilege to be here. It’s always fun to sit with you. I’m sure the questions are going to be great and challenging. So, let me start with the COVID bit. As you said – so we haven’t actually issued explicit total revenue guidance, as you know. We’ve said that we have approximately $5 billion worth of signed agreements for delivery this year. And we haven’t revised that up or down. We’ve said that pretty consistently since about late last year. And that really represents a floor.

The incremental sales that would come on top of delivering just those pre-purchase agreements would come from the United States, obviously, the largest market, as well as Europe or Japan, other markets. And so, a lot of the focus right now, as you might imagine, is on those additional sales and pushing that number up.

The biggest market, and the one to really talk about, obviously, is United States. I think we, as are our main competitor, continue to believe that’s about 100 million dose market in this country this coming fall.

Michael Yee

Way higher than consensus, by the way.

Stephen Hoge

Higher than consensus, but both Pfizer and us are saying the same. We get there because that’s less than flu. And so, it is less than flu in this country. But still, we think that there’s going to be pretty strong recommendations this coming winter season for people who are protected against COVID. And so, the population of higher risk individuals, whether that’s from cancer or autoimmune disease or other things as well as those over the age of 65 is actually quite sizable in this country

Michael Yee

Can I ask a question on this? So, let’s start with that because – so you have a guidance for – the APA is $5 billion. There’s a contract. So we’ll assume that stays in place. There’s some uncertainty about that. I know Europe sort of revised some of their stuff with Pfizer. But in terms of the upcoming announcements, you guys feel pretty confident that US will engage in purchasing on a commercial basis. So, I don’t think that’s a government contract, per se. So what is your confidence on announcing something with US? How would that work? How would the pricing work? And how does that go into revenue this year? So US…

Stephen Hoge

So great questions all. So, the US is a fully commercial market now at the end of the public health emergency. And so, as you know, there’s a set of contracts that you entered with certain integrated health delivery networks, but the majority of the volume will probably move through traditional channels, like pharmacy. Some extent, doctor’s offices as well. So, we’re out negotiating with groups like the VA or some of the integrated large health networks around supply to those groups. And we’re finding real appetite and demand, obviously, they all want to procure supply of the updated vaccines.

We expect within a week, actually next week at VRPAC that the FDA will recommend that you update the vaccines to the current if they follow the European example just this this week to an SpV containing variant. That’ll mean, just like flu vaccines, that all the existing supply is therefore obsolete, last year’s flu vaccine. And they can’t return that.

Michael Yee

That’s like – so if we do it no XBB, which we’re going to hear about, like in a week or so, Moderna would contract to start shipping X amount of doses of XBB to the United States?

Stephen Hoge

Correct. And the difference here is…

Michael Yee

Which is not in guidance, of course.

Stephen Hoge

That’s correct. With the caveat being that, in United States, that shipment will no longer be just to three CDC government warehouses where they distribute that out, but actually to pharmacists, pharmacies, to health systems. And so, those are the contracts that everybody’s engaging in right now.

If you take the last winter, which is a weird winter, because a lot of people got COVID in the summer going in, and it was a fatigue winter, there was 50 million, 60 million doses that was administered in the United States of the COVID vaccines between us, ourselves and Pfizer.

And so, at a minimum, you need to get some multiple of that into the channel, so that those folks can show up and get a booster again. We do believe there’s going to be strong public health recommendations. We do believe that that will come first from the FDA and then from the CDC, and then from your providers and your provider networks. Because the truth of the matter is, we know – let’s say you’re Medicare or Medicare Advantage plan or a hospital system, we know that you can prevent costs by administering COVID vaccine that year because the health benefits are sufficient. This is still third leading cause of death in this country. It causes a huge amount of hospitalization, causes a huge amount of health care costs. And so, there’s going to be, we believe, a pretty strong, no longer from the central government in the same way, but actually pulling through from payers and providers demand for the vaccine.

Michael Yee

Let me quantify that. So you are estimating 50 million to 60 million jabs in the sort of second half of last year as a proxy for this year.

Stephen Hoge

As a low end. Because that was a time where you’re facing the Omicron surges, BA.4-5, and there were at least that many…

Michael Yee

50 million to 60 million, and how did you guys get to 100 million because the 50 million to 60 million that was done last year…

Stephen Hoge

That was last year.

Michael Yee

There will be 100 million into the system, into the channel.?

Stephen Hoge

Yeah. We think 100 million will get used. So the channel might have a little bit more.

Michael Yee

Does that include what already happened in the first half of the year?

Stephen Hoge

No, that’s seasonal. So, let me give you a sense of how we think about this. So last year was actually a pretty exceptional year because so much infection was happening, and so many people had received the spring booster, right? So, a lot of people received a booster and recommendations in the spring, and they were only a few months out. And then there was a Omicron, BA.4, BA.5 wave, and the updated vaccine. So, actually, we see that 50 million to 60 million dose number in the US market from last year as low ebb.

As you look forward, and you say there’s going to be strong recommendation language, similar to what you see with flu, you might say, well, why not the flu number. That flu number is north of 150 million. And the answer there is, actually, we still think that this will be a little bit less than that, than flu, but not as low as last year. And you kind of get between 50 million and 150 million and you kind of say, well, about 100 million. Now, we’ve done more work than that. But we continue to have pretty high conviction that those high risk populations are going to get stronger – those Medicare populations are going to get strong recommendations. That is substantially…

Michael Yee

So, let’s quantify that and then we’ll move on to the next topic. 50 million to 60 million last season it was jabbed.

Stephen Hoge

US number.

Michael Yee

US. That you think it could be a multiple of that. That’s how you got to 100 million. It’s not formal guidance. It’s just a guess.

Stephen Hoge

Market. By the way, it’s not Moderna. This is market.

Michael Yee

So, 50 million times rough $100 price is $5 billion that would be split between two companies. There was 100 million times $100, that’s $10 billion split between the companies. You think there will be billions, plural, to Moderna for this year.

Stephen Hoge

Absolutely.

Michael Yee

All right.

Stephen Hoge

And it’s now subject to things we don’t control.

Michael Yee

The market thinks it’s subject to demand of jobs. It’s going to be less this year than last year. So even though you said 50 million to 60 million, people feel that the urgency is less.

Stephen Hoge

Yeah. I think that’s completely right. I think we would say, we actually think the number is going to start approaching the flu number over time.

Michael Yee

Yeah. So I think the more relevant question is, rather than just sort of guesstimating this year, which we walked through, 2024, do you think the same math applies to whatever degree that is, in the US alone, 50 million to 100 million for 2024 and beyond every year, and that the numbers outside the US would mirror something around your APA guidance because you think those are something of recurring contracts. I would say the $5 billion is a mix of some deferments. Without getting into complications, it’s a few billion from O-US and a few billion from US. That’s a recurring tale every year.

Stephen Hoge

We have not specifically guided on a recurring revenue number, but I would agree with the logic you laid out.

Michael Yee

The math. Right. Okay, good. Okay. So we will see some of that play out. And the next announcement would be possibly some US progress, would that be the next thing people would hear about.

Stephen Hoge

The market sets up quite differently in the US. There is no longer like the government does a single contract. And so, what you’ll see us doing is we’ll be doing deals with the channels and with the health systems. And I don’t know if we will provide an update in the future on those specific things or we’ll just look to perform financially over the next couple of quarters.

Michael Yee

Here’s an interesting question, the last question, I promise, on COVID. So if you’re going to announce – you’re going to be shipping into the channel, you can be booking that as revenues, for example, in the third quarter, it’s into the channel. What happens if only half of the vaccines into the channel were shipped? Do you have to account for stuff getting shipped back? Or, hey, they purchased it, just a little bit of an accounting thing because I don’t want to see like a – then there’s a negative $1 billion the following year because you have to actually rebate that back.

Stephen Hoge

First of all, you don’t naturally – it depends on the structure of relationship. There are situations where, obviously, we don’t get reimbursed, and therefore it’s not used until somebody gets injected in the arm. And so, I think it’s a more – slightly more nuanced analysis, and I would let you follow up with Lavina. But we’re fully aware of it. And we would not…

Michael Yee

That’s a great question because normally drugs are booked generally as it’s shipped in the channel. There’s some accounting thing for it, but because this is a guesstimate based on the user stockpiling it, that’s more of a guessing…

Stephen Hoge

And so, our financial team and Lavina are fully aware of, but we’re going to try and avoid any surprises in how we report these numbers.

Michael Yee

RSV, so this is something the team here at Jefferies, just a big global report, I saw we have obviously a team covering GSK and Sanofi for the antibodies and Pfizer – another analyst covers Pfizer. And so, here we are here with Moderna with your high end efficacy RSV vaccine, two people are about to launch an RSV vaccine this year, what is your thought around the uptake and then how Moderna will play for that in 2024? Because this could be billions of dollars for you, according to the Jefferies report?

Stephen Hoge

Yeah. Look, I think we’ve come out and said, we see it as a very large market. If you look at the big three, very round numbers, COVID, RSV and flu, they’re all trending towards $10 billion, maybe more, as healthcare burdens, cost burdens.

Don’t forget that when you really want to get to those total addressable markets, you’ve got to CAGR out the ageing of populations, right. And populations are actually aging faster across all of these markets, then population is growing and then economies are growing. It could go up from there, I would just make as a comment.

Now, your question about how do we see that playing out? We see this as a huge opportunity. We’re very proud of our product right now. I think there’s a lot of good news in RSV. We believe there will be three products in short order. And that’s good news because this is a huge burden of disease and a lot of costs can be offset as we play in that market.

Now our own product, we’re very pleased with the efficacy profile. You mentioned, we’re pleased with the safety and tolerability profile, which, to date, we have not seen the acute demyelinating events of concern that have been reported with some of the others. And the tolerability profile is, we think, quite strong.

And then, the last bit is, we like our presentation. We’re moving towards single dosage forms, prefilled syringes. We think that that will also be really important as a larger portion of the product in this country, which is largest market, will likely go through the pharmacy channel. We’ll have to see that as it plays out.

So, the combination of things, we’re actually really pleased with. We still have to file and we’re doing that shortly. And we have to get approved. And we will be one year behind the first two. I think that’s the sort of the part of your question.

Michael Yee

Well, it’s a seasonal thing, not a cure. It’s not a race to get the first year.

Stephen Hoge

We believe it’s a seasonal thing. There is some question out there, in our minds, in everybody’s mind about is it possible that the efficacy lasts two seasons? Don’t know. Like, literally, we don’t, nobody knows. And we’ll follow the data on that. If it is, then maybe it’s an every other year, or maybe people give the vaccine every year anyway, because it’s just easier for people to remember, right. And so, that’ll be a public health decision, not ours.

But either way, to your point, launching a year late, if you believe, as we do, that there’s going to be a regular recurring vaccination boosting of older adults and high risk adults across markets, we want to go and compete and win. We think the product profile is really strong.

Michael Yee

So let’s quantify some of that. So, COVID, you said 50 million to 60 million just for the seasonal COVID.

Stephen Hoge

That was last year in the United States.

Michael Yee

Last year. And you sort of put some numbers around 50 million to 100 million for this year.

Stephen Hoge

We think the market in the US is going to be about 100 million doses.

Michael Yee

Okay.

Stephen Hoge

The market.

Michael Yee

For RSV, we know that the elderly population in the US is roughly 80 million.

Stephen Hoge

That’s right.

Michael Yee

Mostly for elders. So 80 million is sort of the opportunity. If you do half of those people, you probably think it’s more than half, but if it’s half…

Stephen Hoge

We always want to be more than half. I agree that half of 80 million is 40 million.

Michael Yee

But you think it’s more. So there’s your guidance. So more than 40 million. How do you think about price? What is the COVID price ballpark? And what is the RSV price Presumably that’s higher.

Stephen Hoge

So we haven’t announced a list price on RSV. We don’t have one. It’d be premature. We’re also waiting to see what Pfizer and GSK will do because that will obviously be important in the market to understand as well. We’re not the only product there.

In the case of COVID, as we previously said, we’re approximately $130 a dose as the list price. Now, there are discounts, either the channel or individual payers that will happen around that. But I think if you look at what GSK and Pfizer have indicated in some of their health economic analysis and even some of their commentary, they’re seeing prices in that similar sort of range, $150. I’m just taking a rough – somewhere between $100 and $200 of the numbers. And I think we’re fully aware of that. And would expect that – although we have a very – we really like our product profile. We’ll also be cognizant of the competitive environment as much. And so, I think that’s probably as much as I can say because that’s as much as we have at this point. It’s similar.

Michael Yee

So you think it’s more than half, but 40 million to 50 million, then times $100 and $150 is like…

Stephen Hoge

You’re trying to get me the revenue forecast.

Michael Yee

And then split that between three ways is sort of your thinking. Okay.

Stephen Hoge

Okay.

Michael Yee

I’m trying to do the sum of the parts here. So that’s COVID.

Stephen Hoge

We see a very large recurring market.

Michael Yee

Okay.

Stephen Hoge

Yeah. And we want to have a lot of share.

Michael Yee

And then, third is flu and combination. So let me put these three together. Because flu, the market is very confused. The flu data came out, it wasn’t statistically non-inferior. It was very confusing for people on the B strain. People are like, okay, how do we do that? Because it’s a big market. Do you have a flu vaccine? Are you going to file something? And does that lead to a combo?

Stephen Hoge

Yeah. So we are still running – well, actually, we’ve enrolled and hope to read out flu this year. I won’t say more because I don’t think we’ve got more on timing. A final Phase 3 study in flu, an immunogenicity study that we believe, we hope, we expect will answer the B question and resolve it.

Michael Yee

You’re talking about the infection set…

Stephen Hoge

No, this is the P303 study we’ve described it as the – but this is the study that enrolled in the United States in the second quarter to look at immunogenicity in the B strains because…

Michael Yee

With the improved…

Stephen Hoge

With the improved B strains. But just to paint that picture for those who don’t follow it that closely, this is our third Phase 3 study that we’ve run in a program that started two years ago, less than two years ago. So we’re able to move incredibly quickly.

In the first one, where we’re pursuing accelerated approval, we ran into a surprising result on the B strains. Now 99% of the disease is in the A strains. And so, we weren’t as focused on the B strains, but it was a bit of a hiccup. Because at the end of the day, it became a question we were going to have to address.

We had run in parallel an efficacy study, 302, that read out and we shared it at our vaccines day. Actually, we were good on the B strains and we were superior on the As. And in that study, we didn’t – it was in the northern hemisphere, it was much larger, it was the populations we mean principally to commercialize the product, but we didn’t look at the B strains statistically because it was mostly an efficacy study. So, we’re running this P303 study quickly to just plug that question. And then, we would pursue, as we said before, approval out of that combination of those three studies because we have the answer, we hope, which is superiority on the As in terms of neutralizing titers, which is where we want the product to be, non-inferiority on the B or better. We’ll see what comes out of P303.

And our goal is to get that product launched next year. Now, we haven’t got the P303 data. And we haven’t yet therefore been able to sit down with regulators and talk about that plan. But if everything went perfectly, our goal would be to launch that product next year.

Michael Yee

There are combination studies going on right now.

Stephen Hoge

Yes, that’s right. COVID/flu, RSV/COVID…

Stephen Hoge

Five or six combination vaccines in clinical trials. That’s great.

Michael Yee

So, all of those are going on, will Wall Street hear about the results of these combination studies from immunogenicity standpoint and from tolerability standpoint. I think Icosavax just put out some combination data that showed the antibody levels. Are we going to see levels that, say, you can inject COVID and RSV in the same injection, the antibodies are just as high, here it is guys, see we have a combination.

Stephen Hoge

Yeah. So, we have previously shown that we can do combinations – the COVID, flu, RSV, three. And as you pointed out, we have almost every doublet, we’ve got a triplet, and we’ve got multiple generations of products, including our second generation COVID vaccine, which will be refrigerator stable. We’ve got that also in a combo study.

To the question on Wall Street, so the path forward on those, we’re running a bunch of Phase 1, Phase 2 studies to find the optimal combo product, first generation combo product. It’s competitively quite important for us that we don’t share too much as we’re doing that. And so, we’ve been pretty coy about releasing the early clinical results as we kind of identify the one that we want to take into a pivotal study. That pivotal study will be a registrational study for the first generation combo. It’s not an efficacy study. So this is relatively small, maybe 3,000 people for six month kind of study if it falls to previous precedent from an FDA perspective. No specific guidance I’m going to offer on that, again, for competitive reasons. But if that’s the case, that’s a pretty quick studies.

And as we move into a pivotal study with a leading formulation, we would obviously be transparent about that decision.

Michael Yee

2024 pivotal type combination study, immunogenicity to antibody levels, showing that the antibodies are comparable to your approved products, that would be a valid combination.

Stephen Hoge

Yeah. So, we’ve said that we expect to launch the first generation combo in 2025. That requires us to be…

Michael Yee

Finishing and filing in 2024…

Stephen Hoge

And get it out would require…

Michael Yee

And you’re confident because everyone tells me, Mike, the reactogenicity, putting these two things together, they can’t do it, they’re knocked out for three days, no one’s going to do that.

Stephen Hoge

Yeah, we are.

Michael Yee

People think that.

Michael Yee

Well, I understand – I can’t disagree with people’s own thoughts.

Michael Yee

But tell me what you guys…

Stephen Hoge

Look, I think it’s a little bit more nuanced than that, which is that, for different populations, you generally don’t see that reactogenicity, particularly the higher – the older you get, you see much less reactogenicity than you do with younger populations. So, it’s who’s having the thought, what do you think about it? For high risk populations, those that are immunecompromised, that is a large population, highest value. Actually, they really don’t genuinely see as much.

And then the different combination, different things. Our RSV reactogenicity profile was 1% grade 3s above placebo. So just contextually, I don’t know what RSV is going to do to make that more difficult, but it certainly seems like it’s a quite favorite one. So we’re aware of those. One of the things we’re looking at in the Phase 1/2s in the combinations is both can we combine the antigens and we find the optimal formulation for different populations. I do not believe at this point, but we’ll see. We’ll have to prove it to everybody. I do not believe that reactogenicity is going to be limiting for the creation…

Michael Yee

But the interesting thing you said is that – I believe that people who are going to keep getting a lot of these are the older populations. And your point is, not only do they need the highest efficacy stuff, they have the least reactogenicity because of their weakened immune system. So, purveying the average 35 year old for side effects is not the same as purveying a 75 year old who is going to be taking this.

Stephen Hoge

Right, which is where the most of the value is.

Michael Yee

They have lesser side effects.

Stephen Hoge

Most of the value is. And if you’re delivering better efficacy, it’s where that – remember, there is an adjuvanated flu vaccine that actually is in this country that’s actually used for populations recommended preferentially actually.

Michael Yee

One last nuance too about that is, I understand the whole competitive thing, yes, Pfizer is doing flu/COVID combination, their RSV is not mRNA.

Stephen Hoge

Correct.

Michael Yee

And so, even though they talk about combination, the RSV – I don’t know if they can mix that in the same injection. No…

Stephen Hoge

The combination of proteins and lipid nanoparticles in a product, nobody’s released any clinical data on that ever.

Michael Yee

So an RSV combination is really a Moderna thing.

Stephen Hoge

We believe we’re – well, I know – I believe that we’re pretty uniquely positioned, we think, to put RSV in the product.

Michael Yee

I know I’m one minute over. On PCV, we’ve just come out of ASCO, so you’re going to have to summarize in one minute. ASCO had great PCV data in adjuvant melanoma. People, like, that’s great data, awesome, don’t know what to do with it, Merck’s in the other room, they say we’re going to run Phase 3, see you in a couple of years is Wall Street thinking. What is the next step there? Do we have to wait a couple of years or you think we can file?

Stephen Hoge

Look, I think – I’ll try and be consistent. It is an evolving picture. If you saw the ASCO data, we spoke about it there, we are now seeing – I don’t think there’s uncertainty in the in the benefit that’s been seen in the DMFS curves. And again, that’s a primary analysis, the alpha transferred to that secondary endpoint. And the hazard ratio is 0.34, p-value is 0.006. That’s just in metastasis free survival. So if you play the movie forward six months, as we had hoped, the data is maturing and it’s maturing more clearly towards a benefit for the I&T, for the combination.

I think the question is where are we in six months and 12 months. Because if that continues to happen, and as we do, we’re going to do a follow up analysis, as you know, on 51 events, say that’s at a median three years and those hazard ratios continue to mature in that direction and the stats continue to go there, the question is, is there residual equipoise or uncertainty about the benefit?

Now the good news is there’s not much uncertainty about the safety profile. Just as a vaccine like safety profile, like your COVID booster, and as was presented by the folks at ASCO, the investigators and discussing at ASCO, it’s really not adding anything in terms of safety or tolerability concerns over Keytruda. So benefit and risk are clarifying. In the meantime, our job is execute the Phase 3, get the Phase 3 enrolled…

Michael Yee

[Multiple Speakers] agency starting the Phase 3, take the second cut that you will have later just from the 51 events, hazard ratios are getting better, I hope that you and your partner, Merck, can have a great discussion with the agency. Thank you.

Stephen Hoge

We will look forward to it.

Michael Yee

Thank you, guys, very much for the update. Appreciate it.

Stephen Hoge

Thank you.

Michael Yee

Thank you

Mark Marcon

Good morning, everybody. I’m Mark Marcon. I follow Human Capital Technology & Solutions for Baird. Our next presenting company is ADP. As I think, virtually everybody knows, ADP is the largest provider of payroll and HCM solutions, certainly in the U.S. and likely in the world paying one out of every six private sector employees in the U.S. Today, we are very pleased to have Don McGuire, the CFO with us. Don joined the company back in 1998 as the VP of Finance in ADP Canada and was most recently ADP’s President of Employer Services on the international side. Also, in the audience we have, Danny Hussain and Matt Keating, two terrific folks on the IR team.

Don, welcome. I know you’ve got one slide, so we’ll go into some prepared remarks and then we’ll transition over to a fireside chat, which when you were looking at the smoke yesterday, seems quite literal.

Don McGuire

So Mark, thank you for the invitation. Thanks, everyone, for joining us this morning, so eager to get going. And I apologize, even though I am from Toronto, I’ve never experienced that smoke in my life. So other than a couple of weeks in Shanghai in the past, but it’s very unusual and hopefully, it all passes quickly. But good morning, everyone. Just to launch in here to give a bit of an overview on the company. Many of you will know us, we are the leader in human capital management, and we’re very proud of our footprint. We do pay one in six in the U.S., as Mark just said, we also pay in addition to 14 million people outside the United States, and we have people on the ground in – our own people on the ground in well over 30 countries. We can do payroll ourselves on our own platforms in about 45 countries.

And in addition to that, we do have a partner network that enables us to pay most countries in the world that have a population of any significant size. We do have a good offer. We offer from small business to large enterprise, so kind of across the broad spectrum. We do have everything from basic payroll through the full PEO services and the things that come with that, time and attendance, HR services, screening and selection, pension services, insurance, I’m sure Mark will ask me about some of these things as we go on.

We do, of course, as I mentioned, we are in many locations around the world. Our three pillars, so to grow our suite of HCM products, continue the HR outsourcing journey. It’s not getting any easier for companies to find HR professionals, people who want to be HR professionals, payroll professionals, et cetera, so the opportunity to continue more of that of a full suite of outsourcing BPO type activities, either BPO or HRO is still very much in demand.

And to continue to build that global presence, we do – as I said, we pay 14 million people outside the U.S. That’s roughly 40% of the people we pay, it’s only about 16% of our revenue. So you can understand that there’s a number of adjacencies that we have here in the U.S. that we think we’ll be able to extend beyond and continue to have a very, very positive growth story there.

And of course, we are very pleased with our financials. We continue to grow. And of course, very good credit rating, a decent market cap and that 48 years of consecutive dividend increases is something we’re incredibly proud of and I’m sure that – I’m sure we’ll hit 50, and I’m sure we’ll keep going well beyond that as well.

Mark Marcon

That’s a terrific summation. Don, one question that we’re asking virtually every single one of the 22 companies that we’re hosting at this conference is what are the – how would you view the positives and the negatives with regards to AI and these large language models. It seems like you would – you’ve been doing AI at ADP for multiple years now. So you obviously have a very significant head start relative to some competition. But how are you viewing it? What are you looking at?

Don McGuire

Yes. I think certainly, generative AI and large language models are certainly the talk of the day, if you will. Lots of promises. Everybody is trying to get on board. I think a lot of people are making a lot of early claims on things that are still unproven, so we’ll see how it unwinds and how it transpires. But I would say that, I think, generally, I think it’s positive for us. I think that as much as we have made good progress on using AI through chatbots and through learning what our customers ask and trying to make sure that we can serve up answers to questions, et cetera, more easily, there’s no doubt that from what we’ve seen in some of our early testing that this generative AI and using the big pool of data we have from all these people we pay around the world gives us a head start because that data, I think, is the underpinning of the success of generative AI, so I think we’re going to be able to benefit from that significantly.

I also think that there’s – if we break it into a couple of different groups, we certainly, from an operational perspective, we can think about things like understanding why people call, serving up the right answers to our service people to make sure they can answer questions more quickly, more accurately, more consistently, making sure that we can do things that today sounds a little bit mundane, but reporting is still hard. So even though there’s good reporting tools in our products, people want answers, they want answers quickly. If you can do these things in real language, then getting those things more quickly, I think, is a big benefit to everyone.

And then, of course, if you look at the sales side of life and you think about the opportunities to make sure that our sales teams know when to reach out to clients, understand trigger events inside our existing clients and what might be a trigger event to selling an additional module, et cetera, there’s just a myriad of opportunity, I think, that presents itself with generative AI. We’ll see, though. I think that I said to someone the other day, one of the many consultants who’s knocking on my door trying to sell us things that three or four years ago, RPA was going to change the world and yet made some progress, and we all made some progress, but it wasn’t as transformative.

This sounds like it’s got more legs for sure, but I think it’s still early days and trying to make sure that people can take the data models they have and make sure they can use those well is something that still needs to be proven.

Mark Marcon

Got it. And when we think about just some of the financial implications, when we think about your expense base, what percentage of the expense base is actually the service infrastructure just handling calls that are coming in from clients?

Don McGuire

Well, certainly, it’s a significant piece. I think the – for sure, if you look at our costs, like many other companies costs, most of it is labor, so it’s a lot of money. It’s north of $1 billion, so we do have an opportunity to look at that, and see if there’s opportunities there. It is fair to say, though, it’s going to take some time, but I think we all see opportunity. And certainly, I think we don’t want to be – we want to be quick off the mark, and I think we can leverage the data we have and just continue some of the journeys.

The good news is that, as you mentioned, we already have been doing AI in some of our products and some of the interactions we have with our clients, so we’ve already got the plans and we’ve already established and what we were trying to do. Generative AI may just pick up the pace for us, so improve the deployment of those things. So I think we’re already down the road, and if we can move more quickly, that would be good.

Mark Marcon

And you’re already answering a number of requests from clients through your chatbots. What number of questions are you programmed to be able to answer almost automatically?

Don McGuire

I would say – I think I can answer that question by saying not as many as we would like. So I think we’ve made good progress, but we have done some early testing and we’ve run literally hundreds of thousands of customer inbound calls through these tools now and kind of surface the themes, et cetera. So I think we’re pretty excited about the opportunities we see from the results that are coming back from those early stages of investigation.

So we’ll see where it takes us, but I think it’s going to improve things significantly. I would say that there’s a lot of folks out there and it reminds me of a book that was written even before I graduated. The Futurists, Alvin Toffler, I think he’s long dead now, but it was called the Future of Work. And way back in the 70s, he thought none of us would have jobs and everybody will be having a two-day work week, and we’d have all this recreation time, et cetera. So I think it’s a wish that had come true. But I think we’ve gotten through these not enough jobs, not enough people, et cetera. So we’re going through this ebb and flow, if you will, of demand for labor, et cetera, for some time, and I think I expect that’s going to continue. Whether or not generative AI displaces a lot of people are not, people are going to find things to do that are going to be interesting and grow the economies.

Mark Marcon

Great. And then, I mean, one of the other elements that generative AI is potentially speeding up the coding process. When I think about, for example, Next Gen Payroll and you’ve transitioned your workforce now new logos, percentage of them to Next Gen Payroll, but you still have a large legacy base on AutoPay. When we think about that, do you think that will – you could actually implement some of those tools to speed up the transition process?

Don McGuire

Yes. So just to be clear, our current platforms, not our legacy platforms, our current platforms, which are very strong and capable platforms, are out there, and we do have an awful lot of clients still on those platforms. And we are selling in our mid-market, we’re selling about 30% to 40% of our core – the core market onto the Next Gen platforms already, so that’s coming along quickly. But back to the Copilot coding, if you will. I think once again, we’ve been doing some work on that. And once again, people have been trying to sell us lots of things, and they’ve been reading a fair bit of stuff.

And I think the general takeaway from it is that folks who are already relatively good coders, get a lot out of using Copilot because they know what they’re asking, they know what they’re expecting. And so if you’re relatively good at these things and you add this truly as your Copilot as opposed to your coach, if you add this as your Copilot, then you can make good or more progress more quickly.

If you’re relatively new to what you’re doing, coding or the products you’re coding on, et cetera, and you really don’t have the skill set to understand where you’re going or the confidence to understand where you’re going, the Copilot thing can do nothing more than confuse you because you’re not really sure how to assess what’s coming out the other end. So I think there’s kind of two camps, but for sure, we’re looking at that, and we’ve done some early tests. So we’ve had some good results on the early tests as well to help speed things up.

Mark Marcon

Great. And then, I mean, you obviously have an incredible view in terms of what’s occurring in the labor market currently, macro comes up in almost every discussion. It’s been interesting because people have been anticipating a mild recession for multiple quarters at this point. It has yet to come to fruition. Your ADP data is basically showing that job growth continues to be very good, but fragmented. How would you characterize where we are from a macro perspective at this point based on what you see?

Don McGuire

Yes. It’s interesting, Mark. I was actually presenting our 2024 plan to the Board yesterday. And before I started, I said this feels a little bit like Groundhog Day because last year, at this time, we were all talking about the recession that was coming, et cetera, and so here we are. And we’re still looking – it depends on what you read and who you believe. I think Bloomberg has got a survey out there that said 60% of CEOs and CFOs think we’re going to have – we have a 60% chance of recession. I think Morgan Stanley came out with something late last week or early this week that said, it’s a 25% chance there’s going to be a recession. So who knows?

But what I can tell you is that we do see – you saw the BLS report that was very strong, you saw our own National Employment Report that was strong as well. We do continue to see growth. But I do think it’s fair to say that the growth – there’s growth, but the growth is decelerating. So we are seeing continuous growth, we think of positive in a lot of ways, and we’re seeing growth without a recession landing on our doorstep. So I think the growth is here, but I think it’s fair to say, and I think it’s pretty well acknowledged that it’s slow. It’s growth, but at a slowing pace.

Mark Marcon

And when you’re just going through the plan, so it’s very, very fresh. Can you remind us of the growth algorithm and factors that investors should think about with regards to changes? And as an example, virtually all of your competitors are presented at this conference. Some of them mentioned, hey, employment was a fairly significant tailwind basically since June of 2020. Now we’re not seeing that same level of growth, so they went through their steps in terms of thinking about their growth algorithm? How should we think about ADP’s?

Don McGuire

So I think there’s a number of areas for growth that we’re still very excited about. First of all, I think the market is about $150 billion TAM right now. So there’s still lots of opportunities, so there’s lots of market to be gained. There’s still lots of payroll to be had here in the U.S. and certainly internationally, and we continue to grow there.

We also have some offers that I think have lots of legs to them. So if you think about things like retirement services, all the mandates that we’re seeing, it’s interesting that in a number of countries around the world, governments are realizing that the pension plans they have aren’t enough. So they’re downloading the responsibility on to employers to make sure that those – that there are pension plans for folks as they retire. That’s created a bunch of energy for us, and we’ve had great success there. We don’t call that number out specifically yet because generally, we talk about $1 billion for a market before we called it out individually, but I would say that we’re in the hundreds of millions in that segment already.

We have insurance services, which is doing well. We have – we continue to do well with our payroll engines, and we’re going to continue to have good results from client fund interest. So I have called out in our last earnings call, specifically that although client fund interest will continue to grow for us based on two factors, the average daily balance is growing based on the fact that we’re paying more people and the people that we’re paying have higher wages than they did in the past, so that’s going to continue. The rates are high. They have been high.

If we look at the yield curve, there’s some expectation they’ll start to come down. So we’ll continue to get some lift, although not the percentage lift that we had, but that’s going to endure for a number of years. And as you know, our portfolio, our investment strategy, we have a laddered strategy, so we’re locking in new investments at about 3.5%. We’re earning about 2.45% today, so that’s going to have a positive impact as we go forward.

And then, of course, with things like the PEO and HRO, as I mentioned at the outset, trying to find people to be HR professionals, payroll professionals is getting more and more difficult, and more and more companies are happy shifting more of their internal operations in those areas to people like ADP. So I think there’s lots and lots of exciting areas for us to continue to grow.

Mark Marcon

And one part of the algorithm in terms of earnings is you’re a highly scalable business. Any reasons why we shouldn’t continue to see some of the benefits of scale that we’ve experienced?

Don McGuire

Yes, that’s – and for sure, that’s the number one. That’s the number one way for us to improve our margins is just scale. So as the total revenue goes up and the number of people we pay goes up, the scale that we have, it makes a meaningful difference. And I think you’ve seen our margin improvements over the last number of years. And certainly, our commitments, which we’re meeting, they’ve been there, and we’ll continue to be focused on margin improvements as well.

Mark Marcon

So is it fair to say that giving you the opportunity to call things out, it doesn’t sound like there’s any real change in terms of the kind of the steady algorithm that you’ve expressed multiple times before in the past?

Don McGuire

Yes, I think we’re pretty proud of the fact that we are a steady grower and a consistent grower. We don’t have a lot of steps up and more importantly, steps down. So I think you can pretty much look at our trajectory and look at where we’re going and have confidence that we’ll continue the journey, and I think that’s what folks look for. There’s no big yes in one year and then a big oh no’s in the following year. So we’ve been pretty consistent, and I think that is something that’s valued at ADP.

Mark Marcon

Absolutely. Can we delve into some of the specific businesses?

Don McGuire

Sure.

Mark Marcon

So one area that has continued to grow really nicely is within domestic payroll run continues to do really well. Can you talk a little bit for investors who aren’t, you know as in the weeds as I am with regards to ADP? When we think about the small business services, how run has changed things, how you’re continuing to gain share in that market? And basically, small business services is defined as companies with six to 50 employees. You’ve also got role for the micro market.

Don McGuire

Yes. So in that – as we refer to it internally, the small business services market, and you’re right. I mean the sweet spot there is kind of anywhere from two, three up to 25 or although the bulk of them tend to be kind of in the 10, 12 space. It’s a good market for us. It’s a product that we’ve had for some time, and we’ve gone through great efforts to modernize that product and make it more user friendly. And I think that’s showing in our Net Promoter Scores and therefore, our retention.

It’s very successful. The modernization has been very good for us. It’s doing very well. And we have a very strong network of our own sellers and also strong networks through CPAs and brokers and banks to help us distribute that product, and it’s a good product to use. CPAs really like it. It’s something that we have a product, a product we have a tool that we deploy to the CPA community called Accountant Connect, where they can look at the number of companies that they work on behalf of and they can manage all those companies through – with ADP through a dashboard, if you will, so they very much value that product.

And it’s come quite a way and it gets good reviews. We go out of our way on a regular basis to use third parties to survey our clients and other people’s clients around our NPS scores. We’re very happy with the improvement we’ve had on our own surveys, et cetera, but sometimes you got to step away and ask somebody else to do it, including for yourself. And we’re very pleased with what we’re seeing in that space as a result of the improvements that we’ve made and continue to make to that product.

And of course, in the small business space, that’s where we have our roughly 130,000 retirement services clients because that’s very good attach and as state mandates continue to push companies of smaller and smaller sizes into having some sort of a pension plan, that is very good. And of course, the insurance services that is kind of in the 200,000 client space. Most of these clients are in that small business services segment, who want that workman’s compensation, et cetera, that’s something that’s very often sold inside that inside that segment. That segment now for us is north of 800,000 clients, and we expect that it will be – we’re optimistic that it will be north of one million clients and not too distant future.

Mark Marcon

That’s great. And then the nice segue in terms of talking about SECURE Act 2.0 because I think that’s a huge opportunity. For those of you that don’t know, basically, the legislation in the U.S. is basically going to force companies with as few as 10 employees to offer a 401(k) as the default as long as that company is more than three years old, and that’s shortly going into effect. You’ve got this huge retirement services practice. What percentage uplift within your existing client base could you potentially see?

Don McGuire

Well, I think – I think we’d like all one million clients to use something like that, but I think it will take a little bit of time to get there, but it has had good growth for us. And it’s been an interesting approach that some of the states and some of the jurisdictions have used, they very much started out with a carrot approach. So tax breaks and various incentives for employers to deploy these pensions to their employees. And of course, as time goes on and people don’t comply and now the stick is coming out, and they’re starting to penalize companies who don’t actually offer these mandated pension plans to their own employees. It started on the West Coast as many things do, and it’s kind of making its way across the country here, but we think there’s a lot of upside. I mentioned a number of 130,000. We just look at that SBS segment. You can do the math, 130,000 on just over 800,000 clients. And I think it will do nothing but continue to increase, and I’ll be very happy in time to be able to sit on a stage like this and say that it is a $1 billion revenue generator for us.

Mark Marcon

That would be great. We’re looking forward to writing reports about that. So can you talk a little bit about moving a little bit upmarket? Workforce now continues to improve. It’s G2 scores, that’s something that we monitor on a monthly basis just in terms of how things are shifting and that continues to move up. Can you talk a little bit about the progress that’s occurred there? And the increase in the NPS scores in the mid-market, which is your largest segment domestically.

Don McGuire

Yes. So Workforce Now is a good product for us, and you mentioned the mid-market, but just elaborate perhaps a little bit more on Workforce Now. We’re using Workforce Now in our HRO business. We’re using it in our PEO business. We’re using it in our mid-market majors business, and we’re also using it increasingly in the low end, if you will, of the upmarket. So comfortably up to 3,000, 5,000. So it’s really become a workhorse for us internally across multiple segments.

And of course, back to your question earlier about margins and scalability, anytime we can do those types of things, that’s music to my ears in particular, because fewer products and the scalability of existing products and existing development teams, et cetera, is very, very beneficial for us, so it’s been doing incredibly well. I’m glad your G2 is telling you what our G2 is selling, so that’s fantastic.

We are, as I mentioned earlier, in the mid-market itself, so in that core of the mid-market, we have had 30% to 40% of all of our new sales go on to that Workforce Now Next Gen with PI underneath our Next Gen Payroll engine is the internal code name, if you will, for that engine is PI. And so we’re seeing great success there, and we’re optimistic that that’s going to continue. It is taking some time. We do have – as you know, we have a very, very large sales force. We have 8,500 sellers around the world. Most of those, of course, here in the U.S. market, and takes a little bit of time. It’s – when you get that sales force directed and you get them on to the topic and you get them on to the product, and they have great confidence, et cetera, they go hard, and they’re very, very successful. And we’re continuing to see that confidence build and we’re very much looking forward to those – that sales percentage on the new business, 30% to 40% to go well north of 50% in the near future.

Mark Marcon

Great. We’ve only got 5 minutes and 30 seconds left. So I’m going to try to squeeze in a bunch of little questions. PEO had been growing very steadily, decelerated a little bit, partially because of insurance costs and take-ups and things of that nature. How are you thinking about the PEO business long-term?

Don McGuire

Yes. So long-term, I think we’re still very bullish on the PEO business. The challenges that small employers have running their business and running their gardening center or paint shop or the automotive tooling shop they do or their additive manufacturing, et cetera, et cetera. It’s hard enough run your darn business let alone keep up with all these things that you’re needing to do around payroll and compliance and HR compliance, et cetera. So we’re very bullish that companies in a certain size, I think our average size of our PEO client today is kind of 44, 45-ish. And if you think of somebody that size, you really just don’t have the bandwidth to go higher a bunch of HR professionals or payroll professionals, et cetera, or safety professionals to do what you need to do, so coming to a PEO like us is something that works for you. And so we’re still very bullish about the long-term prospects for the PEO business.

Mark Marcon

That’s great. And then one thing I’d love to take advantage of your international experience, when I think about ADP, you pay one out of every six private sector employees in the U.S., but a teeny fraction of the global workforce and you are a global organization. Can you talk a little bit about international and what your aspirations are there?

Don McGuire

Sure. I think that I’m a little bit biased here because I spent the last 15 years in international in the last several years is running the entire international group, so I certainly have a bit of a bias here, but very optimistic. I think I talked earlier about the fact that 40% of the people we pay around the world are outside of the United States, and so I think there’s great opportunity for us.

I mentioned earlier, there’s no doubt that we’re the leader in this space. I mean nobody else has people on the ground in 30 countries and nobody else is definitely number one in France. We’re definitely number one in Brazil. You can argue about whether or not we’re number one in Australia. We definitely have a great distribution in international. Could we do more? Yes. I was recently in India a couple of weeks back, and we acquired – I did an acquisition a number of years ago when I was in the U.K., and we acquired one of our partners. We’re now paying north of one million people in India. Now the challenge is that price points in Southeast Asia, in particular, aren’t that high, but that will come. So we think we’re well placed to make sure that we can continue to expand our footprint, and certainly, as price points come up and whatnot in some of those markets, I think we’re going to see great benefits.

Mark Marcon

One thing that you’ve got going for you is this ADP marketplace, you’ve got a big partner network. Can you describe the advantages of the partner network?

Don McGuire

Sure. So the partner network does two things for us. One, it helps us with some of the partners we have, so I know some of them are presenting here at the conference this week, and we use the marketplace for them to come to us, and we have relationships, referral agreements, et cetera. We work with them and help them distribute their products, and then we have more of an e-commerce side.

And on the e-commerce side, folks out in the market come to us and they have something and they want to connect it into ADP payroll. And so as much as we have a broad offering, there are hundreds, and if you’ve been to the Vegas HR show, there’s hundreds and hundreds and hundreds of vendors in this space, and we don’t have everything. We think we have the important stuff. But if you have something that we don’t have and you want to hook that into your payroll or your HR system, you can do that through our marketplace, and we think that’s a big advantage to us. We have hundreds of vendors who are on the marketplace and so making use of those connectors, if you will, into our payroll engines, et cetera, is very beneficial.

Mark Marcon

Great. It’s been a few quarters that Maria has had the role of CEO. From your perspective, what – on the margin, because you guys are very steady and everybody grows up inside ADP, but on the margin, what’s changed?

Don McGuire

Well, I think you’ve said it. A big organization been around for 73 years. Maria is CEO number seven, so a very consistent, stable company. So I would say on the margins, things haven’t changed. What would change most, I think, is just maybe the profile, if you will. I mean, Carlos our predecessor and Maria are very different people. Maria is very extroverted person grew up in sales and marketing, started selling payroll door-to-door, she tells the story often. Carlos, more of a finance guy, a little bit more reserved, but they both understand the business incredibly well. Carlos is still on our board. He was with us yesterday.

So there’s very much a huge amount of continuity, if you will, and very much Maria, as she says often, Carlos spent 10 years, 11 years, making sure we got fewer platforms, more focused, got out of some of the other business we are in, that we divested, got us more and more focused. And Maria and with the help of the rest of the team are going to continue that journey and make sure we continue to deliver in the future.

Mark Marcon

That’s terrific. Unfortunately, we’re out of time at this point. Fortunately, we’ve got you for a breakout session, so we’re going to be going over to the Rockefeller foyer which is on the mezzanine level. Please join me in thanking Don for a very thoughtful discussion.

Don McGuire

Thanks, everyone.

Question-and-Answer Session

End of Q&A

Operator

P&G would like to remind you that today’s discussion will include a number of forward-looking statements. If you will refer to P&G’s most recent 10-K, 10-Q and 8-K reports, you will see a discussion of factors that could cause the company’s actual results to differ materially from these projections. Additionally, the company has posted on its Investor Relations website, www.pginvestor.com, a full reconciliation of non-GAAP and other financial measures.

Steve Powers

Good morning. Welcome back. Welcome to Day 3 of the Global Consumer Conference. I’m thrilled to kick us off with Procter & Gamble. With us from P&G today are Chairman of the Board, President and Chief Executive Officer, Jon Moeller; as well as Chief Financial Officer, Andre Schulten.

The way that we’re going to structure the next 40 minutes is that Andre and Jon will tag team on a relatively brief presentation. Walk us through current stated affairs at P&G and then set the stage, and then we’ll use the bounce of time for Q&A.

And with that, I will hand it over to Andre.

Andre Schulten

Good morning, everyone. So I want to start today with a review of results, and then Jon will deep dive to our strategies, and we look forward to answering any questions after that.

So starting with results, very strong 3 quarters of the fiscal year and what continues to be still a challenging cost and operational environment for us and the industry. Organic sales up 7%. And within this, we’re seeing improving organic volume trends going from minus 6% in quarter 2 to minus 3% in quarter 3, and we expect the trends to improve in the following quarters.

Core earnings per share were down 1%, offsetting nearly 28 points of cost and foreign exchange headwinds. The organization overcame those headwinds while growing sales, holding share on a global aggregate basis and continuing to invest in innovation and the superiority of our brands with a focus on sustained balanced growth and value creation.

The strong top line results this year are a continuation of the momentum we built well before the COVID crisis. Over the last 4 fiscal years, organic sales are up 6% on average, up 7% through March.

Top line growth is also [Technical Difficulty] portfolio with all 10 categories growing organic sales through quarter 3. Organic sales are also broad-based across regions through March Focus 7 regions are growing or holding organic sales versus prior year. Through March, global aggregate market share is in line with the prior year with 31 of our top 50 category country combinations holding or growing share. Through April, past 3 months, U.S. all-outlet value share is up 20 basis points, with 8 of 10 categories holding or growing value share and 9 of 10 categories holding or growing volume share.

Volume share is up 70 basis points, improving sequentially as we continue to invest and as consumers demonstrate their preference for P&G’s superior products.

We are continuing our strong track record of cash return to shareowners. We’ve paid a dividend for the past 133 years, only 7 U.S. publicly traded companies have paid a dividend more consecutive years in P&G.

In April, we announced a dividend increase, making this the 67th consecutive year we’ve raised the dividend. Only 3 U.S companies have raised the dividend more consecutive years. Over the past 10 years, we’ve averaged 102% adjusted free cash flow productivity, and we returned over $140 billion to shareowners via dividends and share repurchase.

Over the past 2 years, we’ve experienced unprecedented headwinds, nearly $7 billion after tax. In EPS terms, this represents $2.69 per share, nearly half of fiscal ’21 core EPS of $5.66. While we are encouraged to see input costs moderating slightly, they are up still significantly year-on-year. We are confident in our ability to overcome these headwinds via innovation, productivity and pricing behind the superiority of our brands.

We are committed to returning to our balanced growth algorithm across the top and bottom line over the coming quarters. Balance on the top line includes more balanced sales drivers across volume, pricing and mix.

We view reigniting underlying category volume growth in the categories we compete in as a critical enabler for balanced mid- and long-term growth, and catalysts for this growth are available to us even in the most developed markets. We have opportunities to drive incremental household penetration, identify new jobs to be done with our consumers and encourage incremental usage for a better consumer experience.

So a few examples. U.S. Fabric enhancers organic sales have grown double digits on average over the last 7 years. Despite strong sustained growth, there remains significant upside potential in household penetration across all forms, liquid fabric enhancers, scent beads and dryer sheets. And once we’re present in a consumer’s household, significant opportunity exists in low penetration, which is illustrated by the table on the right.

While we frequently use fabric enhancers as a common example, growth opportunities exist in all categories. Taking Baby Care as an example, since launching Ninjamas, the bedwetting segment has grown double digits with P&G driving 40% of the growth on average, nearly 4 times our fair share. Dawn Powerwash and Downy Rinse are incremental products to the dishwashing and laundry regimen that solved previously unmet consumer needs.

Balanced growth on the bottom line is enabled by getting productivity back to pre-COVID levels. We have a lot of opportunity to drive productivity across the full P&L and balance sheet enabled by Supply Chain 3.0, continuing to drive media efficiencies, digital capability and automation. A portion of these savings will be reinvested in the superiority of our brands across the 5 vectors of product, package, brand communication, retail execution and value, especially now when consumers are even more focused on the performance and value of the brands they choose.

Now let me turn it over to Jon to discuss our strategies.

Jon Moeller

Thanks, Andre. Good morning. I’ll begin by reinforcing Andre’s last point, the importance of balanced top and bottom line growth. Many of you have heard me say, top line with no bottom line, a waste of time. Bottom line with no top line, just a matter of time. Our team continues to operate with excellence, executing the integrated strategies that have enabled strong results over the past 4 years and which are the foundation for balanced growth and value creation.

A focused portfolio of daily use products, many providing cleaning, health and hygiene benefits, all our categories, where performance plays a significant role in brand choice. Superiority to win with consumers, we have an ongoing commitment to an investment in irresistible superiority across the 5 vectors of product package, brand communication, retail execution and value.

We’re again raising the bar on our superiority standards to offer even greater delight. The Dawn brand provides a great superiority. Example, Dawn has delivered outstanding results behind innovation that drives product and packaging superiority. We launched Dawn Powerwash in the U.S. in early 2020. If Powerwash were a stand-alone brand, it would now be the third largest in the category.

We’re innovating to extend this margin of advantage. Last year, we launched Dawn EZ-Squeeze in the U.S. and Fairy Max in Europe. Superior products with an upgraded formula across the entire lineup. Superior packaging, the no flip, no-mess cap makes it easy and fast to use from the first squeeze to the last. Superior communication across the lineup.

Let’s watch 2 ads: 1 for Dawn EZ-Squeeze and then Dawn Powerwash.

[Audio/Video Presentation]

Jon Moeller

Superiority across all 5 vectors: product package, brand communication, retail execution and value, drive strong results. Dawn has delivered over 90% of the U.S. Hand Dish category growth over the last 3.5 years, nearly 30% higher than our fair share. During the same time period, Dawn’s value share is up 10 points. Driving category growth with superior innovation, builds market share and builds business for our retail partners.

Safeguard detox body wash in China provides another example of driving category growth with a superior proposition across the 5 vectors. As the number one personal cleansing brand, Safeguard has provided protection to Chinese families for over 30 years. We continue to extend our superiority advantage beyond just cleansing with superior usage experience, packaging that dispenses a luxurious foam 10 times creamier than normal lathering.

Superior communication, where the consumer chooses. Traditional media still plays a role in China, but increasingly, consumers are engaging via Douyin and live streaming. So how we engage with the consumer has to shift as well.

Let’s look at two examples on this brand.

[Audio/Video Presentation]

Jon Moeller

Clear, right. But superiority, again, driving superior results. Safeguard detox body wash grew 80% this fiscal year through March, 8-0. Value share has grown continuously in the past 3 years. And at a selling price 2 times the category average, Safeguard detox body wash is a sweetener for our retail partners.

Here in Europe, Fabric Care is driving product and packaging superiority. Superior products. The new 4-chamber Ariel Platinum PODS are driving strong consumer demand in fabric care, the high-performance formula enables cold water washing, a benefit to the environment and to consumer wallets. Superior cardboard packaging, which is both consumer preferred and more sustainable.

Let’s watch this copy.

[Audio/Video Presentation]

Jon Moeller

Superiority enables innovation-based pricing, which has been critical, as Andre said, given the cost headwinds, and it also delivers a superior consumer value, which is based on a combination of price, product performance, and the usage experience.

These innovations are contributing to mid-single-digit organic sales growth in Europe Fabric Care and double-digit growth in fabric enhancers through March.

Superiority is critical in an inflationary environment. As consumers faced increased pressure on nearly every aspect of their household budgets, we’re investing to deliver truly superior value in all price tiers where we compete to earn their loyalty every day.

The strategic need to continue to strengthen the long-term health and competitiveness of our brands, the short-term need to manage through significant cost headwinds and the ongoing need to drive balanced top and bottom line growth, including margin expansion, underscore the importance of ongoing productivity.

Productivity in marketing. More efficiency and greater effectiveness enable us to reach consumers when and where they’re most receptive to our advertising. This leads to higher quality engagement and when orchestrated across media platforms avoids excessive advertising frequency, which is the best wasteful spending and at worst an annoyance to consumers.

We’ve made very good progress in building and scaling capabilities to drive effectiveness and efficiency of marketing spend, and we have plenty of runway left ahead of us. In cost of goods, productivity is usually a lower cost per case of product delivered to a customer, but lower cost is only one form of productivity. Productivity that improves quality increases supply assurance and yields higher on-shelf availability of our products, all of which improve superiority with consumers and retail partners are huge value creators for our business.

Our success in our competitive industry also requires agility that comes with a mindset of constructive disruption, a willingness to change, adapt and create new trends and technologies that will shape our industry for the future. These capabilities often extend our competitive advantage. Our organization is increasingly more empowered, agile and accountable with little overlap or redundancy flowing to new demands, seamlessly supporting each other to deliver against our priorities around the world.

There are 4 areas we’re driving to further strengthen the execution of these integrated strategies Supply Chain 3.0, digital acumen, environmental sustainability and our employee value equation. These are not new or separate strategies. They are necessary elements in continuing to build superiority, reduce cost to enable investment and value creation and to further strengthen our organization.

With Supply Chain 3.0, we’re creating the next benchmark, a supply chain that provides greater agility, flexibility, scalability, transparency and resilience. We expect Supply Chain 3.0 to enable productivity savings of up to $1.5 billion per year, a portion of which will be reinvested.

Environmental sustainability, our efforts in sustainability are important to create more value while improving our environmental impact, enabling consumers to reduce their footprint and helping society solve some of our most pressing challenges. Irresistible superiority without making trade-offs between performance and sustainability. A few examples, Gillette and Venus replaced their plastic packaging with fully recyclable paper and cardboard boxes. This saves over 1,000 metric tons of plastic, the equivalent of 150 million water bottles every year.

Hair Care Europe has moved to 100% recycled plastic for Head & Shoulders and Pantene. This saves 10,000 tons of virgin plastic annually. We also have superior innovation that helps consumers reduce their footprint, which can often lead to a superior value equation by enabling consumers to save energy and water. Tide and Ariel provides superior cold water performance, that enables energy cost savings for consumers and improves sustainability by reducing the energy required to heat water in the laundry process. And washing it cold improves garment lives.

The superior communication of this benefit is working. In Europe, average watch temperatures are down 2 degrees centigrade over the past 2 years. Our ambition is to lower temperatures 5 degrees Celsius by 2025.

Cascade, using a dishwasher can use less water than washing in the sink, up to 20 gallons per load. The Fairy Max improved formula helps save water by being able to start washing dishes from the first drop of water, no need to wait for the water to warm up. We’re also helping industry reduce its footprint through leading innovation and making innovative technologies available across industries.

P&G invented and patented a recycling technology to produce virgin-like resin from polypropylene plastic. We’ve licensed the technology to PureCycle Technologies, and they’re making it broadly available to other consumer goods manufacturers, the food and beverage industry, furniture industry, and there are additional potential future applications such as for automotive parts.

We recently developed a similar technology to recycle polyethylene waste. We’re working with partners to commercialize this as well. Another example is our leadership in enrolling industry to use digital watermark technology embedded in our packaging. It’s invisible to human eyes but detectable at recyclers to enable accurate and automated plastic sorting. This results in higher quality recycled material and an increase in recycling rates.

Laser labeling technology uses rapid laser marking so that graphics can be printed on bottles during the filling process. This helps recyclability by eliminating adhesive labels. This is at an internal development stage, starting with P&G shampoos and fabric care beads in North America, and we’ll be looking for licensing opportunities across industries in the next couple of years.

So we’re going to continue to innovate and invest to help society solve some of the most pressing environmental challenges.

Next focus area is Digital Acumen. Data and digitization are giving us access to tools we’ve never had before to delight consumers and create shareholder value across our operations. An example, we’re creating new digital tools and capabilities that help us recommend winning shelf sets to our retail partners.

Faster, more accurate at prediction and with fewer resources. On the virtual shelf, we have digital tools that tell our teams exactly where to show up in search, which words to bid on, how much to invest in a campaign and when to run it. These digital technologies drive superior retail execution and provide us with a competitive advantage versus anything else in the marketplace today.

Finally, the employee value proposition, we want to ensure that working at P&G delivers a superior experience and value for all employees. By definition, this must include the quality. To deliver a superior value, employee value equation, there must be something in it for everyone. As mentioned earlier, our focus remains on balanced top and bottom line growth.

In the ever more complex world we live in, though, it’s not just top and bottom line that must be balanced. We must endeavor to balance the needs of an increasing number of constituents or were unlikely to deliver against the needs of any of them. Consumer, customer, employee, society, and shareowner needs must each be met. There is no choice to make here. There is no opt out. Servicing and balancing the needs of each of these constituents will not be easy. But it’s necessary. And those who do it best as I expect we will, should thrive.

Better be balanced top line, bottom line and effective in serving a growing number of constituents. These strategic choices, portfolio, superiority, productivity, constructive disruption and organization structure and culture are not independent strategies. They reinforce and build on each other. When executed well, they grow markets, and in turn, deliver strong sales, share, earnings and cash results leading to balanced growth and value creation.

We continue to believe that the best path forward to deliver sustainable top and bottom line growth is to double down on these integrated strategies, starting with a commitment to deliver irresistibly superior propositions to consumers and retail partners.

Thanks. And with that, I’ll turn it over to Steve.

Question-and-Answer Session

A – Steve Powers

Okay. Well, thank you. Thank you, both. Okay. I’ll ask to kind of dive into here. Maybe I just want to start with Andre, you talked about a desire to get back to balanced top and bottom line growth over the coming quarters and consistent with those long-term targets. And I guess as I was hearing you, I was trying to figure out if that was — if that means it’s a fair way, is the long-term algorithm of fair place to anchor expectations for fiscal ’24? Or is it too premature to do that?

Andre Schulten

Well, we won’t give guidance yet for ’24. But what we intend to do is return over time to that algorithm. Make mid-single-digit top line growth, constructed in a way that includes volume growth as a category driver, mid- to high single digits on core EPS. And that implies margin expansion. So productivity partially reinvested in building more superiority but also helping us to continue to rebuild margin over time, and 90% or higher free cash flow productivity. We believe that’s what’s needed for the company to operate in the top tier of our peer group, and that’s what we want to get back to over time.

Steve Powers

Now there’s been a lot of conversation coming into this week and this week about the deterioration of potential deterioration of consumer demand, mostly focused on the U.S., but also here in Europe. I’d love, a, your perspective on that and how you’re seeing the world evolve. But then I’ve heard you talk about that as times get more difficult, and you mentioned this in the context of inflation, but the importance of superiority goes up, not down. It’s important to double down on superiority — on the superiority model. Maybe you can just talk about that and talk about the implications of that from a cost perspective.

Andre Schulten

I can start with it and then let Jon jump in here. Look, let’s take the U.S. consumer as an indicator. What we’re seeing right now is continued stability. Our categories in the U.S. continue to grow value at around 6% to 7%, fairly consistent past 3, past 6, past 12 months. Volumes are stabilizing more towards the 0, where we want them to be from a category perspective. And from our perspective, our portfolio of brands has been able to continuously win in that environment.

So we continue to grow value share and we continue to grow volume share and it is accelerating. So we feel relatively strong about our U.S. business and the stability of the U.S. market overall. I think the strategy of executing innovation as we took pricing to continue to drive category growth and continue to incent consumption and deliver value to the consumer has worked well. And we’ll continue down that path as we go along. Which leads me to the second part of your question, which is the role of the priority to sustain that momentum, which I think is absolutely critical.

And as we think through the strategies that Jon described, one of the core elements we talk about is to disrupt ourselves and not stand still and avoid inertia in the organization and in our innovation. That’s where the concept of superiority comes in. Because we believe that this concept is dynamic in nature.

So we will have to continue to invest, to drive better product innovation, drive better packaging, drive better go-to-market execution, better shelf sets, increase our copy quality and execution in market and therefore, provide better value to our retail partners and to our consumers. That doesn’t necessarily mean more investment, but it means sustained investment. So what we want to make clear is that we can’t let up and therefore, productivity, as Jon said, is absolutely critical to make sure we keep that balanced approach between top line and bottom line.

Jon Moeller

Do you want to talk just a minute, Andre, about trade down, should it occur within our brands and how we’re positioned too?

Andre Schulten

Yes, we see some of that. In the U.S., it’s really in 2 places. One, I would describe as our portfolio is doing the job we wanted to do, and that will be laundry, where we see some level of trade down from Tide into Gain and Tide Simply, nothing material, but it is there.

And the portfolio is doing exactly what we wanted to do, catching our consumers as they’re looking for a different value equation with a lower cash outlay.

The aggregate of Fabric Care in the U.S. is accelerating volume share growth and will return to value share growth here over the next couple of quarters. So we feel good about the strength of the business, but there is some trend down.

The other categories are the paper categories where we see limited trade down to private label, that tissue would be one, diapers is another. And that, as we talked before, is partially driven by base period dynamics in terms of supply. So again, overall, yes, I acknowledge there is some level of trade down, not broad-based, very surgical, but the overall category remains strong.

Jon Moeller

But as you reflect on that and what it means, don’t forget, 7% top line growth that Andre talked about, broad strength across the categories, that’s the prevailing reality that we’re currently seeing and managing.

Steve Powers

And I think — that gets at maybe a misconception. I mean, it’s too harsh a word, but there’s a misconception sometimes I think, between superiority and premiumization. I think in your view that those are very distinct and different terms. So can you maybe talk about how you — how superior fits into the that?

Jon Moeller

I mean, to put very simply, we want to have superior offerings at every price tier in which we compete. That’s what we aim to do with Tide Simply. That’s what we aim to do with Gain. It’s what we aim to do with the different forms of Tide or Ariel here in Europe. So it’s all pervasive objective, not a premiumization approach.

Andre Schulten

Yes. And then superiority at those different tiers is defined versus the relevant peer group, right? So if you look at, for example, diapers in the U.S., Luvs would be the value tier and the comparisons against private label. So the relevant set of parameters we need to optimize is different versus the premium tiers. As Jon said, it’s really across the value tiers with Gain.

Steve Powers

Another hot topic this week has been changing or not discussions between consumer goods companies and their retail partners. Whether it’s in the U.S. or Europe or otherwise. Maybe you can just frame for us your discussions with retailers and what their objectives are and if they’ve changed at all in the last few months and quarters?

Jon Moeller

So I’m regularly speaking with our retail partner, CEOs, and their leadership teams. 99% of the conversation — well, actually, conversation splits into 2 parts, both of which are very constructive.

The first is supply, supply, supply. There’s more demand for our products than we’ve been able to supply, and they want to work with us to address that opportunity, which will benefit us and will benefit them.

So that characterized as part of the conversation. The balance of the conversation is about innovation and superiority to drive market growth. They don’t really care about our share growth, what they care about is what happens to the market, and therefore, their sales and revenue growth rates. And we’re uniquely positioned to be able to help them with that. We have a specific objective, and I alluded to it a couple of times in the discussion, of contributing disproportionately, so above our market shares to the market growth of the categories that we get in. And when we do that successfully, that’s what they want to talk about. So there hasn’t been a lot of discussion beyond those 2 topics.

Steve Powers

On your April conference call, Jon, you talked about a trip you’ve taken to China in, I believe, March and you’d come back incrementally optimistic. Juxtapose that with the reactions from others about the progress in China, which is a little bit less enthusiastic. So could you compare and contrast that and maybe square that circle for us and what you’re seeing?

Jon Moeller

Sure. So my expectations were pretty low. I haven’t been there in 3 years. I hadn’t seen our organization physically in 3 years. I haven’t been in stores in 3 years. I hadn’t met with our government contacts in 3 years. I didn’t really know what to expect.

And I was — against that backdrop, I was very pleasantly surprised on all levels. And I continue to have very high hopes as it relates to the contribution of that market to our results over time. I think, I’ve said, maybe it wasn’t on the earnings call, and I apologize if I didn’t provide that clarity there that this wasn’t going to be a straight-line recovery.

And that we — there were things that people needed to adjust to. I think, what they’ve been through. So I was spending time in consumer homes along with the rest of the team, understanding how they were faring, how they were thinking about the world. And I would be in conversations where people would say, I don’t really know how to think. I just spent 3 years being told that I should not leave my home. And now I’ve been told, I should. And I’m living in a relatively small environment, often with a multigenerational family. And I don’t know if it’s safe.

And when I went there in March, they’ve just gone through the reopening in the COVID wave that came with that. And 90% of our employees had COVID at the same time. So it’s hard against that backdrop, just to expect, “hey, let’s go.” That’s not what’s happening. But expect the whole ecosystem is in a good place, and we’ll continue to recover barring some other issue over time.

There was also one more thing. There was also a second COVID wave about 4 weeks ago. So those who didn’t get the first time got it then. And so when you hear other companies talking about kind of mixed results, that’s part of the equation as well.

Andre Schulten

And our expectation, I’d just add one point, never was an explosive recovery from Jon’s perspective. We always said China will, over time, in our categories return to mid-single-digit growth. And that’s honestly what we see playing here.

Jon Moeller

Yes. For perspective, in the lockdown months or quarters, our growth — category growth was minus 10%. And as Andre said, it’s now mid-single digits. So there’s significant improvement, but not yet back to where things were before COVID.

Steve Powers

Based on what you’ve seen or otherwise, have your investment priorities and changed in China?

Jon Moeller

No, no.

Steve Powers

We’re coming up on time. And this answer may be quick. It may not be quick. So — but I want to make sure I get a lot of time for it if it’s not.

There are lots of different aspects of the strategy where you aspire to be superior, you aspire to be better. If each of you could pick one of everything that you talked about in the presentation, one dynamic of superiority, one vector where you would like to be better, more superior, which would it be and why and how?

Andre Schulten

All of them. There is no — the interesting thing about the strategy is, it doesn’t work if you pick one. You have to be superior across product, package, communication, go-to-market and value. And the way we validated that is to really look at the past 15 years. And where we are superior in 4 or more of those vectors, we’ve been able to grow markets, grow volume share, grow value share, deliver top line growth, deliver bottom line growth and ultimately, operating TSR. Where we were superior in 3 or less, none of that happened. So it’s critical, and Jon’s favourite answer is and to the organization. We have to ensure that the organization keeps understanding that it has to be across all 5 factors of superiority or it won’t work.

Jon Moeller

And the same thing is true, as I mentioned at the end, with the constituents that we serve. You can’t, in today’s world, pick to serve consumers, but not shareowners. You can’t pick to serve consumers, but not employees. It doesn’t work. You won’t be allowed to be irresponsible with regard to your societal obligations.

And so we’re increasingly in a world where it’s an and world, and in many ways, that’s great. Because it enables us to the extent that we can do that successfully, and I think we can to differentiate ourselves even further as a winning company, as a responsible company, as a company that people want to be associated with and want to work with.

Steve Powers

The vocabulary that you’ve established around superiority, I think — it’s now ingrained in investor communications and in 2-way communications. I think investors feed it back to you and there’s a share vocabulary, internally, share vocabulary. I think, that’s been increasingly clear over the course of time. What about with your retail customers? Did they embrace the same vocabulary, and language and framework? Or is that an evolution?

Jon Moeller

Increasingly . That’s still an opportunity. But I’ll just give you a quick anecdote as this conversation evolves and it comes back to — we were talking about the retail conversation and market growth and supply. And the first time that I met Doug McMillon, the CEO of Walmart, in this role — his leadership team was there, and there were a number of other manufacturers that were in this discussion. And they kept talking about the Walmart’s market share.

And at some point, I couldn’t handle it anymore. So I stood up and said, look, let’s just be straight with each other. I don’t care about your market share, and you don’t care about mine. But there’s one thing that we both care about, and that’s the market. So let’s have our teams work on how together we go to market in a superior way with superior products, the whole list, and we’ll both be happy. We’ll both be very happy.

So that increasingly is the basis of the conversation. We’re probably a little bit less developed in the quality and consistency of that conversation, and for example, Europe. But again, what we can convince somebody to try to hold our hand and let’s see how this works and it works. The world changes. And that’s what’s been happening Domino after Domino.

Steve Powers

All right. And with that, we are right on time. So we’ll leave it there. Thank you, Jon. Thank you, Andre. Thank you all.

Akash Tewari

All right. Good morning, everyone. Thank you for joining us Day Two of the Jefferies Healthcare Conference here in beautiful Times Square. For those who don’t know me, my name is Akash Tewari. I’m a pharma biotech analyst here at Jefferies, and I have the pleasure of hosting Bristol and the new Chief Commercialization Officer, Adam Lenkowsky who is going to join us for a fire-side chat.

I think, Adam, maybe just to start off as we get into Q&A, it’s funny. If you always — I always read pharma transcripts from five years ago or slide decks from companies and whatever seems to be biggest debate that everyone’s convinced is going to drive the stock over the next five years, never ends up actually was important. And you come into this role this is a company where the new product launches are just so critical.

And I feel like the Wall Street looks at everything, it’s so binary, right? How will Sotyktu do in UC or Crohn’s or Carvykti’s data versus Abecma, but you have multiple moving parts in the business that you’re running? So when you think about how Wall Street talks about Bristol and the way that you see the business over the next five years, where do you feel like we’re getting it most wrong right now?

Adam Lenkowsky

Okay. Thanks, Akash. And it’s great to see you, and thanks for having me here. So, I’ve been with the Company now for over two decades. And I can tell you, I think the strength of the Company has been the ability to continue to adapt and grow as the environment changes. And I think over the last five years and even more, we’ve been very consistent in driving our strategy.

I think there are a number of areas that I have been significantly focused on, particularly over the last several years. And that’s really driving our nine new launches in over two decades very few companies have the opportunity to launch nine new products in three years. So, we’ve got strong momentum in our business.

When I think about the disconnect potentially with the investment community versus how we see it. Number one, when look at the nine launches, we feel very good about how these launches are progressing. We launched three first-in-class products last year, starting with Opdualag and Camzyos and then Sotyktu, all of which have the potential to deliver $4 billion plus in growth.

I know we’ll talk more about products like Reblozyl, you and I have just come back from ASCO as well as our cell therapy franchise. So we have said that this year, we’re — and we are on to roughly double those sales to about $4 billion of these nine products and more importantly, by ’25, these products will represent between $10 billion and $13 billion in sales. And at peak, they’ll represent $25 billion plus.

The second area, as CCO I’m focused on, is working closely with our R&D counterparts on, how do we accelerate the pipeline. And the R&D organization has done a phenomenal job in really delivering strong execution against now what we call these next six assets. Another area where I think there may be a disconnect.

So we’ve talked in the past about products like milvexian, which has significant potential, $5 billion-plus potential, and we’ve started all three of those trials. Products like LPA1 and IPF and PPF. So I think those are — and two CELMoD, which are going to be first-in-class in multiple myeloma.

And in my 20-plus years, I could say we have 40 products in our pipeline, I think, all undervalued. Products like our next T CAR-T, where we’re going to actually be putting that into lupus. So we believe with our CAR-T platform, not only do we have a leadership position today in hematologic malignancies, but we have a significant opportunity to expand that business into immunologic disorders.

Products like ARLDD in prostate cancer. And you’ll see this weekend, we’ll have our GPRC5D data which is our next cell therapy that’s delivering 100% response rate in a pre-BCMA patient population and near 80%. So again, we’re incredibly well positioned for future growth.

Question-and-Answer Session

Q – Akash Tewari

Understood. Now I think the other interesting thing about Bristol is you also have these mega blockbuster franchises that are going to go generic over the next, let’s say, three to four years. And there is this kind of question of does Bristol have enough to really push through with these new commercial launches? And that is, A, from a monetary perspective, but, B, from kind of do you have the product mix to do that? So I guess the next question is, are there any areas you feel like you could benefit from getting another product via M&A in order to get better commercial scale when you look at the Bristol portfolio as a whole right now?

Adam Lenkowsky

Yes. Well, let me start by saying, in the short term, from now until 2028, we’re really focused on the nine launches, bringing forward the pipeline and products like Eliquis and Opdivo are also key growth drivers. Opdivo is growing double digits in the first quarter versus same time last year. Eliquis continues to grow linearly as you see. The products that I’ve talked about, these next six products, will all hit in the second half of this decade and will start to really contribute meaningfully in the back end of the 2020s and into the 2030s.

So, we’ve talked about having multiple paths to growth and optionality there. So, we feel with our own pipeline, we’re well positioned, but we’re also always looking for business development opportunities that may complement our current therapy — current therapy areas and adjacent areas. And so a good example of that is the MyoKardia acquisition that complements Eliquis. And so, that product is off to a very good start, tracking with our expectations, and we’ll deliver $4 billion plus at peak.

We are starting to build out our neuroscience or really our neurodegenerative early development team. So, we’re starting to advance those products and we think those are significant opportunities for growth. And so from a BD standpoint, we’re largely size to scale agnostic and we will that complement our portfolio.

Akash Tewari

So fair to say you would be interested in CNS potentially from an M&A perspective to build out your commercial portfolio?

Adam Lenkowsky

We wouldn’t shut down anything, obviously. But as I said, for CNS, but in particular, in CNS, it’s really looking at new degenerative disease like Alzheimer’s, which is a significant focus. We’ve got three assets bringing forward quickly into the clinic. And so, we’ll see how those assets perform in patients, but those are areas that we are looking to grow and develop over the next several years.

Akash Tewari

Understood. Now maybe stepping to Camzyos, and there’s a lot of — and I’ll — I am also, let’s say, a Camzyos skeptic. The question that outside of the scientific question in Cytokinetics and all these moving parts, the one that I think most, if I say to a large-cap PM, they’re going to say, Akash, when is this drug really going to start to take off?

And there is this perception, maybe the Street is mis-modeling numbers and when really commercial scale will kick in, you’ll get enough adherence and you’re going to start seeing it really affect end-user sales.

So is there an inflection in mind that you think we’re going to see in CAMZYOS? Is it this year? Is it next year? And is that really how this market is actually going to work? Or is it more going to be just a slow grind?

Adam Lenkowsky

Akash, I remember where the same questions were being asked around Eliquis. And Eliquis was off to a sluggish launch. It was disappointing. But the truth is that CV products don’t grow like oncology products, okay? And they grow continuously linearly, that’s what I look at for a product like Camzyos. Last year, we built the foundation for Camzyos. And what I look for is week after week, month after month, are we adding patients to the top of the funnel? Are we adding prescribers there?

We talked about in the first quarter we have had 1,500 patients on commercial products, 2,700 patients in our hub. And so those patients, and obviously, we’ve added significantly more out in our earnings, we are going to have those patients on treatment for many years to come, like a typical cardiovascular product. So this product is not going to inflect or it’s continue to grow steadily because there’s such a significant unmet need out there, get the number of patients that are in the market, and we’re going to continue to grow the diagnosis rate which will also help over time.

We do have an important catalyst, though, I think, in the Valor approval that we up in this month, in the middle of June. And what that will do is just continue to strengthen our profile and continue to build credibility and consistency with what we see in the EXPLORER data set.

Akash Tewari

Understood. Now maybe this is one thing that we’re kind of thinking about. We’ve heard reports that the dose that patients get on Camzyos might even actually be lower than what we saw in the clinical trials. And this is where I feel like the — the beauty of this drug would be to be an amazing alternative versus surgery being potent enough to actually do that.

So — but I think the question is if you can’t get patients to a high enough dose, you might not be able to treat the patients who, let’s say, have a baseline LEVF of 80. And then for the less severe patients, it’s a little more difficult to diagnose and find them, right?

So talk to me about those less severe patients. They’re out there. This is going to be a much bigger market over time. How many of these less severe patients have gone on to Camzyos? And what are you doing from a commercial perspective to really identify them and get them on the drug?

Adam Lenkowsky

Yes. So, the first part of your question is exactly right. That’s what the Valor study shows. It shows that by using Camzyos, we’re able to avoid these invasive surgeries like septal ablation, myectomy et cetera. And so when we think about where the dose is today a year out, we have about 2/3 of patients on 5-milligram dose and then about 25% of the patients are on the 2.5 milligram dose. We have a very small percent of patients that are 10 and 15 milligrams. I expect that to shift slightly over time.

Akash Tewari

Okay.

Adam Lenkowsky

But — and then when you look at the patients that we’re treating, we’re treating about 60% of patients who are NYHA-Class III and 40% of the patients were NYHA-Class II. So it’s a pretty good balance of patients between those NYHA-Class II patients who are less severe patients.

We think that the Valor data will continue to enhance the profile, get physicians more comfortable in treating less severe patients. But we feel good about the mix of patients that we’re seeing treated. And again, I think most importantly, whether it’s NYHA-Class II or III patients, the feedback that we received from physicians and patients has been exceptional.

At the 5-milligram dose, three weeks or four weeks into treatment, patients are feeling so much better. They’re functioning better than they have in years. They’re off oxygen. They’re back to daily actives are daily living. So we’re really pleased with what we see. And it’s exactly what we would expect to see in terms of our dose mix.

Akash Tewari

This actually reminds me of something. This is something I don’t think a lot of people appreciate it. I remember looking at your label. And a lot of the benefit was actually in the subset of patients who were not on beta blockers. And I know cytokinetics is running a study where they’re getting patients off of beta blockers and they’re trying to build out that data set.

But I think there is — that is an aspect of your data set that’s not well appreciated because you still had a symptomatic benefit on your secondary endpoints. So can you talk about how your Phase 3 data set versus your real-world use might actually differ? Because I’m suspecting a lot of the patients who actually get on to Camzyos actually are eventually getting off beta blockers and they’re probably seeing a bigger functional benefit?

Adam Lenkowsky

It’s been a mix so far in the year. I mean, we see patients continuing on Camzyos plus a calcium channel blocker or a beta blocker, but there are patients who are not just on Camzyos alone and really feeling great. So again, it’s a mix. The majority of patients are probably still remaining on their beta blockers. And so until, let’s say, a year or two years out, they’ll then likely continue if they’re feeling great. Remember, they also have the option to go back on calcium channel blocker or beta blocker if they…

Akash Tewari

Now just lastly on the REMS. Is there any chance that the FDA may allow you to modify the runs? Because right now, there’s almost this kind of indefinite monitoring that’s occurring, that doesn’t seem tenable over time. So what is the process to go to the FDA and modify REMS? And is there any timelines we can put on something like that happening?

Adam Lenkowsky

So certainly, there’s precedent there, and I can give — I launched Yervoy many years ago in the U.S., and we did see the REMS removed for that product after several years. And so, we are in constant dialogue with the FDA. We’ve actually made some modifications to make it more patient-friendly already.

I can’t speculate on Camzyos specifically if the REMS will be removed. But what I can say is that the REMS program has not been a deterrent to prescribing once physicians have used the REMS program, and we’ve got 500 physicians now that have already been REM certified significant in these roughly 500 accounts. And so, they’re feeling much more comfortable. So once they put a patient on, they’re much more likely to continue to prescribe more patients on Camzyos.

Akash Tewari

Understood. Now moving on to Sotyktu. Obviously, the Crohn’s study was disappointing. And I think there is a fair amount of skepticism on UC. But there is something that you guys look a lot of time. So that $4 billion number didn’t really have a big IBD component, if at all. So, A, if you were to say now that — let’s assume IBD is not a part of your Sotyktu arsenal. How — if you were to say the components of the $4 billion number you gave, how much of that would be psoriasis or psoriatic arthritis and then things like lupus and some of these other indications that you’re exploring? Is there a breakdown you can give us?

Adam Lenkowsky

We haven’t given a breakdown of the $4 billion plus potential for Sotyktu. But you are right. And when you look at the $4 billion guidance that we provided, that does not include either Crohn’s or UC in that. So the composition of the $4 billion is one that’s derisked and that’s our moderate-to-severe psoriasis label today that will bring significant opportunity, as you can imagine. Lupus being really the second largest opportunity there and the PSA being the third opportunity that we have. And both lupus and PSA are already in Phase 3 studies.

Akash Tewari

Understood. And then maybe last, I wanted to hit on this. You have next gen Sotyktu, which are in the clinic right now. If you were to just generally give us — I think you do have patents on this, but if you were to say what those next-gen Sotyktu would be best suited to pursue versus what Sotyktu already does well, any color you can give us there?

Adam Lenkowsky

Yes. I think it’s very common for companies to have backup molecules. We have our MYK-224, for example, which we got from our MyoKardia acquisition as a backup to Camzyos. And so we’re exploring it today in a Phase 2 study in psoriasis. It doesn’t mean that’s where we will develop it, but we want to understand how does it perform in patients? Is it different? What’s the profile look like? And then we’ll make decisions later. It’s looking encouraging, but it’s still very early there.

Akash Tewari

Understood. Now on Sotyktu, the question we get a lot, I think the commentary out of Bristol when that lunch was saying is, we’re going to Otezla’s lunch, right? This is the big oral psoriasis market. You’re going to see switches. But it was almost like the two drugs can’t coexist as much as there’s a binary nature to it. Now early on, if you look at IMS, there, you see Otezla number go down, you see Sotyktu numbers going up, and that is even branded scripts not even the ones you’re sampling. But lately, we’ve seen Otezla is actually kind of settled out and it kind of — I’d like to revisit that framework. If in the next year or two years, we don’t see Otezla scripts continue to go down, but flatten, does that have any read across on how Sotyktu is performing in this market? Are we seeing the oral psoriasis market actually just net increase right now?

Adam Lenkowsky

Yes. So, we’re very, very pleased with what we’re seeing with Sotyktu in the market today. Again, we’re not even a year on the market. And as you know we have two superiority head-to-head studies versus Otezla and showing superior efficacy and a superior safety profile. What we see in our data set, which we look at new-to-brand Rx because that’s all we can — we track right now.

And so a new-to-brand Rx share is around 40% of orals where Otezla represent approximately 60%. When we look at that basket, there are some conventionals in there like methotrexate, cyclosporine, but the majority are comprised of Otezla and Sotyktu. So, we’re poised to pass Otezla certainly by the end of this year, if not sooner, on new-to-brand prescriptions.

Akash Tewari

On new-to-brand prescriptions.

Adam Lenkowsky

Obviously, the TRx is, it will take many years for that to catch up to the new-to-brand. And those patients are going to our bridge program today. That’s where we’re housing those patients. We’re focused on driving demand and pulling forward potentially some market access wins. We’re hopeful to bring in at least one large PBM by the middle of this year. We also help to accelerate the product uptake.

But we think about the total market on new-to-brand, when you look at all the products, whether it’s orals, IL-23s, IL-17s, we’re actually already the number three prescribed product behind only Skyrizi, Otezla. I think that’s pretty impressive just for how early we are in the launch. So, we feel very good about a long-term growth opportunities, and we’re still in the first or second of the launch right now.

Akash Tewari

Now help us out in terms of the size of the new brand market because I’ll tell you, you go to your ADA 2020 presentation. Okay. About 1 million patients are on oral psoriasis drugs, you take 30% of that, you’re already. If you take 30% and you actually annualize that, that’s a $5 billion run rate in just that indication alone. And obviously, that’s very different than, I think the last time you said 30%, now it’s 40% in terms of NBRx. What is the size of the new-to-brand market per year, right?

Adam Lenkowsky

There’s about 10% of patients in the total market who are we call it that dynamic of patients. These are the patients who are up for grabs. And what we see right now is the source of business for Sotyktu coming really in threefold. And it almost breaks up in 1/3, but slightly more in naive. So we’re seeing a little more than 1/3 of patients who are naive to any systemic therapy, whether that’s Otezla or a biologic.

A 1/3 are coming from Otezla switches and 1/3 are coming from biologic switches. So the beauty of Sotyktu and what gives us much confidence is not only our ability to really erode that Otezla business but also to push back biologic use over time. And so, it’s our key focus is number — priority number one, eroding Otezla, part number two is displacing biologics earlier in treatment.

Akash Tewari

Understood. Understood. And just maybe lastly, is there a — so if it’s the new-to-brand market. In terms of absolute switches, from Otezla are there agents. Do we have any idea of the component of switch versus new to brand that we’re seeing for Sotyktu?

Adam Lenkowsky

Yes. So, it’s — I think it’s about 40%, which is new 60% switch at this point.

Akash Tewari

60% switch?

Adam Lenkowsky

And you’d expect that because we think where we are today, in our payer position, we’re generally behind Otezla, we’re behind biologics from an access standpoint. Although with our bridge program, we allow physicians to use any or a switch product. So when you have a new product entry in the market, you expect that to come a little bit later. But we’ll certainly make our way upstream as we move into a much better access position midyear and then into early part of next year.

Akash Tewari

Understood. Now you mentioned ASCO. And I actually wanted to start with multiple myeloma. I think maybe I’m the fraction of people. But I look at the CARTITUDE-4 study, and I think why I was in Kyprolis in the treatment arm, low is there M-protein cutoff, the PFS curves are touching. You look at the real word data that was presented there.

And I always get skeptical when we think about markets in such a binary way when there’s a lot of on ample on how we think about DLBCL and bispecifics and different treatments. I just feel like that the nuance is completely lacking when we think about these BCMA data sets and yet we see more and more data sets coming in.

So, A, talk to me about the importance of the real-world data that is starting to get developed at these treatment centers of excellence, and will that become over time, something that physicians are going to use more than some of these carefully curated Phase 3 studies?

Adam Lenkowsky

First of all, we’re so pleased coming out of ASCO this year. When you think — we talk specifically about cell therapy, whether it be the TRANSCEND data for Breyanzi or the KarMMa-3 data for Abecma. And you’re right. I think the real-world data is absolutely critical. We’ve been sharing this over time. We saw the CARTITUDE real world data. And what are we seeing? We’re seeing now, these, the CARTITUDE data really come back in line with Abecma.

And so they’re really minimal differences between the efficacy profile including response rates that are really around the 80% mark. The CR rate which are roughly the 40% to 50% for both products and the safety profile. And so it’s the reliability of Abecma that physicians are really gravitating to, not to mention, the supply because supply right now is so critical in CAR-T with both Carvykti and Abecma because the demand for these products in multiple myeloma far outstrips the supply. So, we all work to be to continue to increase the supply for these products.

But you’re exactly right. The real-world data is important for physicians because when you’re showing them data that actually validates what they’re seeing in their practice versus if you’re showing data that is completely outside of the norm. If you’re showing here’s a 100% response rate, but they’re actually only seeing 50% response rate, 70% response rates, then you’re only going to let down physicians. So I feel like real-world data is becoming more and more important, and that is what we’re sharing with our customers today. And they are very pleased with we’re seeing around the reliability that Abecma provides in the marketplace.

Akash Tewari

Now, I feel like this position with Juno and Kite and they were taken off, and this whole thing with hospitals that don’t actually make money giving CAR-T. And it’s funny. I think it — you can make an argument the CAR-T should actually be much more expensive than they are, but how has that changed, right? Because these were real issues from a payer perspective on government pay that the bundled discount where it seems like the hotels we losing $200,000 to $300,000 managing the toxicities and actually administering these drugs. That seems to have changed recently. Can you talk about from a commercial perspective, what has changed economically for hospitals that are giving a now versus, let’s say, five years ago?

Adam Lenkowsky

Yes. So, I think it was really important. Back in late 2019, there was a national coverage determination that was out there, CMS. And so, what came out of that in 2020 was a CAR-T-specific DRG, okay? And so that allowed for CAR-T reimbursement in the hospital. So they went from losing money on CAR-T, there to making money and significant money on CAR-T treatment. So, the economics now are very favorable for institutions who do treat patients with, whether it’s CD-19s or BCMA CAR-T at this point. So, really, the access and the reimbursement have not been a significant issue, at this point post in 2020 national coverage termination and the DRG that came out of that.

Akash Tewari

Now maybe just last question because I know we’re out of time. CLL, I mean that’s a massive market for the BTK. You guys have shown very, very encouraging data there, but it doesn’t seem like there’s a lot baked into numbers right now for that — on the CD-19 side. Can you talk about the size of what you think the CLL market will be for CAR-Ts and where they’re really going to get positioned over what is really extremely good standard of care as well?

Adam Lenkowsky

Yes. I mean we’re so pleased with the data from TRANSCEND in CLL. We also showed data in mantle cell lymphoma as well as follicular lymphoma. So when you look at this was in a patient population that was exposed to a BTKi that was exposed to venetoclax, and we still were able to show 18% complete response rate. So, this is going to continue to add to the breadth of indications for Breyanzi and we had share that this product, we believe can certainly deliver $3 billion in peak sales.

I talked about the importance of cell therapy because beyond Abecma and Breyanzi, this market is ripe for significant growth. And there’s projections out there that says, the cell therapy market can grow to close to $30 billion by the end of the decade. It’s not going to get there only through hematologic malignancies. But we have other products in our pipeline right now. So our next T CAR-T agent, which you’ll see data coming soon, we’re putting that into lupus as well. And so that’s another CD-19 directed CAR-T talked about GPRC5D. It has broad applicability in multiple myeloma.

So this is a significant area of leadership for Bristol-Myers Squibb. And it’s not an area I think that many companies, they’re not going to see 10 companies buying for leadership, even though you have hundreds of biotech companies trying to get into cell therapy. It’s too complex. The manufacturing is too difficult. The support is too difficult. And I think there would just be a few companies that are going to emerge as the leaders. And I think we’re poised to be one of the leaders in CAR-T in the near term and into the future.

Akash Tewari

Understood. Thank you so much and I apologize for being a little over, but I think it was worth it. Thank you. We appreciate it.

Adam Lenkowsky

Thanks everyone.

Steve Powers

Thank you for joining us. Thanks especially to The Coca-Cola Company for joining us here back in Paris at the conference. With us today is John Murphy, President and Chief Financial Officer. And thank you for being here.

John Murphy

Pleasure to be here, Steve. Thank you.

Steve Powers

We are going to spend the whole time in a fireside chat of sorts chatting.

John Murphy

Go ahead.

Question-and-Answer Session

Q – Steve Powers

And building, I think, awful a lot of what we talked about a year ago, it’s been a pretty successful year, I think, within The Coca-Cola Company. We spoke a lot about the importance of growth of marketing investments last year and helping to drive that growth. I think we’ll revisit some of the same topics again today and talk about how it evolved.

But maybe just to kick us off and ground us. I described the last year where you are now successful, but your perspective on where you feel the business is, how you would frame current momentum. You had a very strong first quarter that allowed you, in my opinion, to confidently reaffirm the year. But again, how are you feeling about the business overall? What are you most proud of? Where do you see the most opportunity?

John Murphy

Well, First of all, thanks for having me again this year. Always good to be back. And yes, not just the way the year has started, I think coming out of the last 3 years, our company and our broader ecosystem that we play in is stronger today, I think, than it’s ever been, not just with the numbers that we’re posting but also the underlying momentum we have pretty much across the board. So we’re very much pleased with that. We still, as I’m sure you’ve heard throughout the week, we still are operating in a very dynamic environment. There is lots of tensions in the world, whether they’re at the macro level or at the micro level. I think we’re getting better at just dealing with it. In CAGNY, we talked a lot about having an all-weather strategy. We like that expression now. We think it’s – it fits well with the approach and the focus that the company, of course, needs to have. And within that, there’s a few themes that we’re very clear are important for us as a company and working with our bottling partners, having a growth portfolio of brands that are relevant for today. And we talked to a lot of actions throughout COVID to right-size the portfolio and make sure that it’s fit for purpose going forward, and we’ll add to that and take away from it as appropriate. We’ve done a lot and we continue to do a lot of work on the marketing and innovation agenda. We knew over the last 3 or 4 years, we need to step up there, and I think we’re demonstrating that with our actions.

We have a tremendous set of partners around the world. And if anything, I think, we’re working even more cohesively with them. The whole resource allocation theme that we’ve discussed in the past continues to be both an area of strength and opportunity. We’re very clear on where the profit pools are around the world, and we’re very focused on aligning our resources to go after them in the most efficient and effective way. We’ve made a lot of changes in our organization, both with people and with how we’re structured, how we’re doing work. The digitization of the world has, I think, made it just mandatory that you’ve got to look at your businesses end-to-end and not allow traditional silos to get in the way. Culturally, that’s not easy. It takes a lot of focus to drive that end-to-end view. And we’re making progress on that. We feel good about it. Good leadership, both in our own company down through the ranks, great leadership around our bottling system and working well together. So yes, good momentum coming into the year. We feel that, that underlying momentum can continue. And as we look to the next 3 to 5 years, there’s more opportunity out there to look at then I think there are issues, you can get caught up in the issues all day long, but I think the opportunities for sure override them big time.

Steve Powers

And maybe from that perspective, the opportunities as you see them, you talked a lot about the enablers internally of the company and of the system to capture those opportunities. But what are the opportunities that you see that allow you to have confidence in being able to deliver that 4% to 6% top line growth objective, ideally at the upper end of the world – upper end of the range?

John Murphy

So the first place I always look is where we – what industry are we competing in? We have been in the beverage industry for a long, long time. And yet, we continue to push out the addressable market that we see as one that we can play in. So that’s number one. Number two is the industry itself. If you go back to the early ‘90s and look at the growth of the beverage industry, with a handful of exceptions, it performs in a relatively consistent mid-single-digit growth environment, plus or minus. So the reason that’s the case is that underlying the industry, you’ve got predictable demographics. You have people’s disposable income growing. The middle class continues to get bigger around the world even though it’s not as straightforward as perhaps we would have thought 5, 10 years ago. And the access then that we have both physical access and digital access to people has continued to improve pretty dramatically. They are drivers of what ultimately is, I think, benefits our industry.

Secondly, underneath that, when I think about the portfolio that we have we were fortunate that our core business is in the sector that’s the most profitable, sparkling beverages. We continue to see leadership opportunities there. We have – for the many, many years now, we have taken a position to challenge in a number of other categories. And we’ll continue to challenge until we get to leadership. And then with some of the newer stuff we’re doing, we’re exploring, we’re learning, we’re figuring out a way to build up a more material position over time. And then the third area I’d say is that just the overall human to cumulative impact of the work that we, with our bottling partners, have been doing, has – we’re a better system today than we were 3 to 4 years ago. And I would expect us to say the same thing in 3 years’ time about where we are today.

Steve Powers

So When James came in and when you came in and redefined Coca-Cola as a total beverages company, right, you opened up the door to a lot of experimentation and exploration beyond carbonated soft drinks. This may not – so you tell me if this is not fair, somewhat ironically to me, since that time, you have – the thing you’ve been most successful at is dispelling the notion that carbonated soft drinks can’t grow. That, you’ve been very – I bet you don’t even really get that question anymore about why should I believe that Coke can keep growing. On the other hand, a lot of the points of exploration are still points of exploration. They’ve expanded in number. I mean, we see the company and the system exploring alcohol, but they haven’t sort of universally been maybe as successful as hoped. Is that fair? And if so, how can you kind of bolt on more successful expansion on top of the success in the core?

John Murphy

Yes. I think we’ve always been the most optimistic about our core business, and maybe that’s the way it should be. We’ve always believed that the consumer is very open to engaging with us with our core brands. And so I think the starting point, if I go back 5 or 6 years with this phase of the journey that we’re on, is to actually – and I know at the time, it seemed a little bit almost counterintuitive. But it really does start with the consumer. It really starts with making sure that we understand and anticipate what their needs are. And when you take a very close look, those needs are multiple. I’m not going to go into the weeds on need states and why they drink, et cetera, but there are multiple needs out there, many of which are satisfied with sparkling beverages. And it’s, I think it’s been, if anything, a driver of the belief that we’ve had is having that stronger focus on understanding the consumer. And we’ve seen over the last 3 or 4 years that staying relevant, bringing them solutions that are appropriate to the occasions that they’re looking for, there’s tremendous upside still in sparkling beverages. But we also have learned in that greater focus on understanding the consumer that they also – there’s many occasions in times during the day when they want something else.

We have been, I think, not as equipped always to offer that for a variety of reasons, whether it’s through the brands we have or through our supply chain or through our capabilities in other areas. But I think the thrust has been to – you can do 2 things at the one time. You can stay very focused on – lead – continue to lead in the areas that we’re known for, but over time, build stronger and stronger positions in those newer categories. I think underneath that too is this constant tension between scale and, what I would call, intimacy. And ultimately, a business system like ours generates the most value when we’re able to scale solutions. And so one of the – again, one of almost the contradiction in terms of encouraging and empowering an organization to be more entrepreneurial is that, over time, you want that to ultimately become scalable. And if you don’t bring the right discipline and the right mindset, that empowerment can result in a lot of small things not developing. And so part of the changes we’ve been driving over the last 3 years has been managing that tension, driving scale where it makes sense, encouraging a more disciplined approach to experimentation, cutting it when it doesn’t – it’s not working, when it does bring it into more markets.

Steve Powers

So how does that relate to the innovation process and the choices you’re making around marketing, which I think most people in the room probably agree, the core, you need to get that right, right, to build it.

John Murphy

Yes.

Steve Powers

So how does what you just described in being more nuanced and agile yet at scale relate to how you have been able to evolve the innovation process and your marketing?

John Murphy

So I think it’s a theme that this tension that we have between scale and intimacy is the theme that runs through many facets of how we’re running the business today. Manolo was with us last year, and at that time he talked about the work that he’s driving to build a more powerful marketing and innovation engine. And at its heart is this continued focus on the consumer, but then building a set of capabilities with partners, whereby we’re driving both the efficiency and effectiveness needles at the same time. Secondly, I think there is – with the way technology has invaded all of our lives, some for the better and some not, we’ve recognized how important it is to not just incrementally but to considerably shift the investment in engaging and staying relevant with the consumer through technology, through digital as a core enabler, core driver. And that’s – we’re seeing that play out in just about every market in the world and when you look at the overall investment dollars we’re putting into marketing, the shift towards digital has been tremendous.

And I think the third area I would highlight is that there is – and you’ve probably heard it from other companies too, the focus on engaging with people through experiences is something that has grown pretty dramatically over the last 3 or 4 years. If you take music as one vehicle to build an experiential proposition with consumers, like we’re in a much, much different place than we were even 3 years back through the development of Coke Studio, how that’s scaling, just a good example of an asset that grew and started in Pakistan of all places is now growing into an international sort of phenomenon and scaling around the world. And it’s bringing together a combination of the, what I’ve just talked about, big idea, leveraging technology and driving experiences. And I think that’s fast becoming the way in which I think we can better engage with our consumers around the world.

Steve Powers

Yes. I mean, there is an – I think the analogy there to the innovation process, too, where you’ve been able to take maybe as from one spot and scale them.

John Murphy

Yes. We have a – in both marketing and innovation, we have this terminology note, we talked about experimentation at scale in which we – through the kind of organization we have in place now, it’s much easier to, first of all, prioritize what we think is going to have the most impact, go out and try it and if it works, scale it. And you can apply – as I say, you can apply that logic to both the marketing ideas and as well as the innovation stuff.

On the innovation space, I think we have been able to identify common threads, common themes across the world. And then hone in on and invest, I think, more effectively. So the world of sweeteners is a good example. Having a an enterprise view on the direction of travel there and then having the wherewithal to invest intelligently on a sweetener agenda that’s applicable to many, many markets versus allowing each one to go after their own thing is just one example of being able to use scale to move faster.

Steve Powers

Okay. Another topic that you’ve been talking about a lot for a while now, and it’s been, I think, in every conversation I’ve had this week is around revenue growth management.

John Murphy

Yes.

Steve Powers

How much and how can you help us appreciate how much you’ve been able to build that muscle over the last number of years? And where is it list on – where does it rank on your list of things that you have opportunities to improve further on and gaining more value from?

John Murphy

So like many topics in our business, I can give you the good news was a great example and then I can talk about the size of the opportunity ahead with another example. So through the – a lot of the revenue growth management work that we’ve been doing cumulatively with our bottling partners over the last few years, you can measure progress with the impact that we have on value creation for our customers. We have, I think, in ‘22, generated twice as many dollar value as the next four or five of our competitors. Like it’s a humongous number and one that again just brings home the impact over many years of driving this equation. That’s the good news.

On the flipside, when you look at the number of people who actually buy a beverage when they go shopping, it’s still a shockingly low number. I think the last number I saw was somewhere in the 6% to 7% range on average. Now in some markets, it will be higher, in some, it will be lower. So if you think about that as a number, the opportunity ahead to engage even more effectively with shoppers at the point of purchase, whether it’s online or offline, I’m agnostic on either one because there are lots of ways to be more effective. I think the RGM equation has got a long runway ahead of us, and we continue to believe in that. And therefore, it forms – it continues to form a big part of our narrative, and I expect it to do so for a long time to come.

And you can say like, what does that mean? At the end of the day, it ultimately comes down, I think, to understanding better the occasions that people want beverages for, being able to segment the market in a much more granular way. We often talk about countries as if everybody behaves the exact same way in every part of the country. And that’s nothing to be further from the truth. So been very – been able to segment. And then with that understanding, offering a range of price pack propositions that ultimately meet what allocation demands.

Steve Powers

Right. In the early days of revenue growth management conversation, it was almost synonymous with trade spend optimization, right? It was just a way to kind of – another way to realize more price. But you were early, I think, to really expand that definition a lot or put a spotlight that it was more than that. And you’ve been talking about driving affordability. So you’ve been, in some ways, driving negative mix very intentionally. You get people and keep people in the system, in the family while at the same time driving premiumization. And the premiumization work helps fund the affordability work, which helps grow the size of the pie for the long-term. And this is in a nice feedback loop. Just talk – I mean, if I pushed you with that explanation, you can correct me. But talk me through the logic and the scope of how you think about revenue growth management.

John Murphy

Yes. You haven’t quite butchered it, but I think there is been more to it. If I can maybe complement what you just said. I think across one spectrum, you have this affordability premiumization axis, so to speak. But then on the other axis, you also have to have a view of the shopper and the shopper profile and the occasions for which that shopper is looking at stuff. So when you marry those – all those elements together, I think you end up with the ability to – if I think about a given store, you end up with the ability to segment that store so that you’re in a position to, first of all, as a business, optimize the quality of revenue, both the absolute and quality of the revenue in that store, through just better engagement, offering the customer a story that works for him or her. But for the shopper coming in, if you have – if you go to buy your meat and you place, let’s say, 1.25 liter of Coke with a picture of the barbecue, the chances of you engaging with our shopper go all the way up. And if you understand who they are, then they pack your offering if it’s the right one, you generate a greater degree of transaction, one small example. But if you multiply that by many, you get to see, I think, the power behind the whole RGM world. The other piece of the RGM equation which gives me confidence that we can still do a lot more is the world of analytics and all that’s available nowadays and even more brand or – being more specific on patterns that are at play in the marketplace. And I think we’re in the early stages of really fully leveraging that.

Steve Powers

I guess funding and the things we’ve been talking about, right, a lot of the things we talked about require investments. And hopefully, they are self-funding in so far as they generate return and growth.

John Murphy

Yes.

Steve Powers

But talk to – obviously, overcoming cost has been a hurdle. So maybe level set us on what you’re seeing from a cost inflation standpoint as you look across the business. And then also your line of sight to productivity is another fuel source to drive these investments.

John Murphy

So I think on the whole – the resource allocation, I’d start with the comment I made earlier. It’s really important, I think, to understand the profit pools and where one can make – can deliver the most value, and then from there, to drive greater discipline on how do you best – with a global footprint, how do you best go after those profit pools so – and over rotation of investment on the country category combinations that deliver the lion’s share of the profit. And so in recent – in the last year or so, I think for the first time, we’ve gotten a very granular view of what that looks like around the world. And we’re in the process at the moment of working very closely with our bottling partners to deliver against the potential that this picture offers, investing more of your resources against those country category combos that deliver the – not just the current profit pool, but the future profit it’s a no-brainer, Doing it in a disciplined, consistent sustained way is another topic and when you have to build capability around. So that would be my starting point.

The second piece underneath it is there is one thing to put dollars against any initiative. To do it effectively is another topic completely. And so I think honing in on the quality of the investment and that, that investment is, over time, delivering the return is the second big bucket that we are – that we’ve been very focused on. Again, just referring back to some of the work Manolo was doing, I think that’s at the heart of it is, is ultimately getting more output for the dollars that we’re putting in. And on the cost management piece, it’s just a part of doing business. I don’t think there is ever a day will come or we are going to say, we are done. It’s – we continue to take a very close, and at times, a pretty ruthless view on the cost equation. Under the umbrella of The Coca-Cola Company, we have a lot of businesses. As you know, we have got finished goods businesses, we have got our concentrate business, we have got – today, we have got our bottling businesses. And understanding the levers that are available to us in each one of those at a micro level to, over time, be comfortable that we are driving the kind of efficiency that we need to is super important. And it’s a big topic for us to have on an ongoing basis.

Steve Powers

Okay. I guess a lot of the conversation this week has been around slowing consumer demand or the prospects of slowing consumer demand in a general sense. Talked about your momentum. What’s your outlook sort of on the consumer demand? And do you think you can continue to generate – can the system kind of persevere through slowing consumer kind of macro climate and still deliver on the top line results? And if it can’t, is the inclination to take a long-term view and continue to invest through that or to flex more on cost preservation and margin to kind of preserve the algo on the bottom line?

John Murphy

So, just as a backdrop to that, I will reinforce a couple of the comments I already made. When you look at our industry for the last 30 years to 40 years, it’s demonstrated with one or two exception years when the world went really bonkers. It’s a very – I think it’s a very consistent performer. When it comes to what’s going to happen over the next 6 months, 12 months or 18 months, nobody really has that famous crystal ball to say for sure. And I think our approach is to be ready for different futures to come at us and to – if I go back to what I have just said, having been comfortable with what you are doing with your portfolio, being confident in the ability to have nimbleness in the RGM front and been staying very close with our partners, our customers, our suppliers, our bottlers. I feel that the underlying momentum that has been generated over the last few years has got plenty of room to continue.

Steve Powers

Shifting gears, when you came in as CFO, I think it was clear that one area where investors wanted Coke to improve was in free cash flow conversion, the consistency of free cash flow generation and conversion. And you did improve, averaging basically 100% or 100%-plus free cash flow conversion in ‘19 to ‘21. Things slipped to 90% or a little bit below last year and they are expected to drop closer to 80% this year. Now, there are some several discrete items in there, which I am sure you will remind us of. But as you look forward, what’s the confidence that you can build back that free cash flow conversion to where it was prior to this little setback?

John Murphy

So yes, it’s a topic we have discussed it. And there is a few component parts are important, I think to keep top of mind. One is the – just the underlying momentum, the underlying performance of the business is the key driver over time. And if you exclude those discrete items, even this year, our guidance that we gave is, I think pretty strong. For sure, this year, next year and into ‘25, we have got the transition tax years to see out. And over that period, we have got a couple of increments to take care of. Once you get past ‘25 that goes away. And so that’s important to keep that into account.

Steve Powers

Can I throw some numbers at you? So, like 300-ish, 200, 300 kind of step-ups for the next couple of years. And then in ‘26, it’s essentially think like it’s $1 billion, if it comes back to you.

John Murphy

Correct, yes.

Steve Powers

I think those numbers are important.

John Murphy

They are. Thank you. And then we – as we outlined from an accounting perspective, we have got a couple of M&A-related topics that were – that need to go through our cash from operations line this year and into next year. But if you – I would just kind of harp back to the underlying momentum, the underlying performance of the business is within the range when you take out those items. The net where all is you can calculate. But I think we will continue to – I continue to expect that underlying momentum to be there. And then on the other two items that are important for us to keep in mind, our level of capital expenditure going forward and our progress on working capital. We have – on the latter, we have made some decisions in inventory over the last year or so, given the whole supply chain world that we have been dealing that we felt were the right things to do. I still want to come back to those areas over the next 12 months to 24 months. And the – on capital expenditure, a lot is contingent upon the businesses that are in the portfolio. As I have talked in the past, we have a plan to continue to refranchise. That plan is underway, and we will see that having, I think – I would say a, how to say – a downward trend on the capital…

Steve Powers

Reduced the capital intensity of the overall business there?

John Murphy

Yes.

Steve Powers

Okay. A few minutes left. We have spent most time talking about your role as CFO. But since a year ago, you have taken on more responsibility, right? You are now leading platform services, you are now leading Global Ventures and BIG.

John Murphy

Yes.

Steve Powers

I think some other things, too. So, I guess as you have taken on that added responsibility and larger leadership over those organizations, what surprised you most? Where do you see opportunity you didn’t appreciate before?

John Murphy

So, some of it has been making formal, some…

Steve Powers

What you are already doing, yes.

John Murphy

Somewhat was more informal, so some of it is not surprising. I think the bigger change is when you actually are responsible, then your level of attention goes up pretty dramatically. And in a couple of areas, I think there is both a lot of opportunity to get even more granular. So, I take an organization like platform services. It’s something that I believe passionately, and I think it can be a competitive advantage for our company when done and when humming. But it’s not humming yet. And so having the opportunity to work closely with the team who are leading that and helping to – at times to either unlock opportunity or to unblock barriers, whether they are culture or otherwise, has been something that’s been more on my radar screen in the last 12 months than it had been. The digital agenda that we have talked a lot about is one that I really believe needs that end-to-end view. And so unfortunately, in my role, to be able to get, I think the right people around the table to drive one agenda, it’s very easy for everybody’s pet project to feels as if it’s the most important. And to enable an enterprise view on where we should be prioritizing, I think is helping the organization.

Steve Powers

Does that extend outside the legal boundaries of The Coca-Cola Company and into the system itself?

John Murphy

Yes. The short answer is yes. The how is – there is no playbook out there on the how. And so having the opportunity, I guess to create that playbook is pretty exciting. Look, I really see it as a massive enabler for our system to be more efficient. And when I talk to our bottling partners, they do likewise. I think it’s – what we want to do is much easier than how we go about doing it. And – but there is good – I think there is the right mindset and great collaboration and the willingness to look at things differently.

Steve Powers

Okay. Great. We are almost out of time. So, I will leave you with the final word. And just of the things we have talked about today or things we haven’t talked about today, what do you think the key messages are for investors to take away the remainder of this year and looking at long-term?

John Murphy

I think the environment that we are operating is going to continue to be very choppy for different reasons. And therefore, for us, having more energy on what we can do to operate effectively in whatever that environment means is super important, and hence, the idea of an all-weather strategy that we can adapt and pivot with to stay relevant and to continue to create value regardless of what comes at us, I think is number one. Number two, I think we have made a lot of great progress in the last 3 years to 4 years on having a fit-for-purpose portfolio. We are fortunate in that, within that portfolio, we have a range of positions from leadership to exploration. And the cumulative effect of that, I think is very positive for our business as we go forward. The third point I would leave people with is I have been in this business for a long, long time. I don’t remember a more powerful set of partners when I think about our bottling partners around the world working as cohesively together, not always easy, but cohesively and effectively. And I think that’s making a huge difference. And then culturally, I think we are a different company in the way that we have an enterprise view on what’s really important. And yes, allowing people to go off and do what’s really necessary in their local or functional areas of responsibility.

Steve Powers

Perfect timing.

John Murphy

Perfect timing.

Steve Powers

Thank you, John.

John Murphy

Thanks for having us.

Steve Powers

Thank you all for being here.

John Murphy

Thank you.

CorporateParticipants

Nakul Duggal – Senior Vice President & General Manager, Automotive

ConferenceCall Participants

Tal Liani – Bank of America

Tal Liani

I’m good. Thank you. Okay, thank you very much all for joining us, we put the best to the last, as we say, and we wanted to dig very deep into Qualcomm’s auto business. And I’m very pleased to host Nakul Duggal from Qualcomm, I’m going to let — I’m going to ask you to introduce yourself and your background and what you’re doing, because I’m sure you’re going to do a better job than me introducing yourself.

Nakul Duggal

Thank you, Tal. And thank you, everybody for being here. I’ve been with Qualcomm since 95, today’s actually 28 years on the date. And I’ve been doing automotive for about a decade, just over a decade, engineering background moved over to the business about a decade ago. And so, I’ve been involved with building this business for quite some time. And it really is about how do we take our technology, our platforms, our ecosystems, and address, a brand new end market, which it was many years ago, and obviously, very exciting, very compelling market from many different vantage points today.

Tal Liani

Got it. How do you define the automotive business just give us the high level of what are the target markets you’re going after?

Nakul Duggal

So what we started off in the business was to take technologies that we were building for the mobile business and their applicability into automotive. So wireless technologies, cockpit technology that came from Snapdragon, but over the years, we’ve actually moved over to become very focused on driver assistance, automated driving, we made a few acquisitions. And today we look at ourselves really as three major areas, the central compute transition that is going on in automotive, where there is a lot of integration of compute that is getting centralized, we’re going from dozens of microcontroller or smaller application processor type architectures to a few larger ones. And we are right in the middle of that we’ve been moving that forward. Everything that is about connectivity, mostly wireless connectivity, and then really all the software that builds up the plumbing for the vehicle that will be maybe at a high level, how to describe it, which is a pretty large part in terms of where the transition in the market is happening.

Tal Liani

So you’re selling various products, and we’re going to talk about digital cockpit, we’re going to talk about ADAS, is there synergy between one and another, and is there synergy between all of this and smartphones?

Nakul Duggal

So the one big advantage that we have and this is what allowed us to move into the market very quickly is that there is a lot of technology that the car is consuming today. And that technology isn’t necessarily available. Certainly not in the traditional semiconductor players that have served automotive typically. There are only a few companies who are mostly like us, the Samsungs and the MediaTeks of the world who have similar technologies. But it is really about the application of the technology as the car as a platform is evolving.

So the way we started off was, what could you reuse. But very quickly, it became obvious that the platforms are so different, that you actually have to change the technology, and then you have to position it, you have to situate it inside products that are very different from smartphone products. And that’s kind of what’s happened over the last decade or so. And obviously, there is a lot that you have to learn in terms of what the auto business needs. The software is different, the value chain is different. The reliability and quality requirements are different, the scalability, the cost sensitivity. So it has become now a completely dedicated roadmap. But it takes from the underlying technology roadmap that we build, and we are now — we have been influencing the company’s technology roadmap over the last five, six years or so.

Tal Liani

So before we go into the technology and the product — I want to ask a question at the high level, which is, where are we in the deployment? What are the biggest challenges in your growth? And the biggest opportunities you have in your growth? What drives your growth? Can you talk about kind of the next five years what needs to happen for this business to continue and grow?

Nakul Duggal

There are many facets about automotive that I think are not obvious when you look at it from the outside. And first of all, there is today a tremendous amount of competition in this industry, especially with electrification, what you’re seeing is that the barrier to entry to build an EV has actually gone down drastically. And for traditional automakers, that is a bit of a challenge as well, because there are a lot of new entrants, and you have to be able to come up with what your new architecture is going to look like relative to what used to be.

Timelines in a traditional automotive setting, not very aggressive. But if you, for example, go to China, you will see that a lot of newcomers that are coming in don’t really have any background in building cars. But there is a tremendous amount of infrastructure available to be able to get into the market. And they come from the tech space, they come from software. So the barrier to building a software defined vehicle product is actually reduced.

It is a business that requires a tremendous amount of energy, because it is not like a smartphone where you have a very fixed amount of time within which you can launch it and kind of what you’re doing. It is a much more complex product. And so you need to be able to operate the business at scale. We have a large size team that is working on automotive. This is not a team that is amended.

Many years ago, when we were reusing products, it was simpler today, we have large, dedicated teams that are working on this. And that scale is actually — you can’t really be in this business without operating at that scale. So you need enough escape velocity, you have to be able to be very sensitive to every tier of the market because automakers are going through this motion of insourcing a lot of the areas that they were previously dependent upon on tier ones. Everybody’s investing heavily in building software teams. Some are better than others, faster than others, you can imagine kind of what that starts to go look like. But you really have to be able to service and support everyone because the volumes are unpredictable, right? The volumes are very regionally centered, what will happen in the U.S. will not change very likely in terms of the mix, what will happen in China is highly unpredictable. So you have to spread your bets very widely.

And then when it starts to come down to the technology, it really comes down to what is the expanse of your product portfolio? How many different ways can you actually address the customer base that exists because it is actually not straightforward to be able to manage, we will launch in the next six quarters, we will launch 150 programs. That’s the scale at which the business is operating. So this isn’t something that you can enter in and see, okay, let me do you really have to do it at scale.

Tal Liani

How do you define a program?

Nakul Duggal

So for us, a typical program would be from when the business is acquired to launching it, which is between, I would say 18 and 30 months, depending upon the automaker, and it really is to the start of production. So a car is actually in a dealer’s lot available for sale and the complexity of the program. Nowadays, there is very little reuse in terms of the program, from one generation to the next, a lot changes because there’s a lot of competition. Connectivity programs are by definition simpler. But as you go 4G, 5G, there is a lot of change. But if you start to look at the cockpit space, extremely competitive, because everybody wants to be able to do something slightly different there. There is a lot of energy being focused on how does the automaker bring their own brand in the middle of all of it. They also vary depending upon the region you’re deploying in.

And then as you start to move for driver assistance and automated driving that is even more complex, because it comes down to what is the level of automation you’re targeting? What is the budget available for the program, which part of the world you’re launching? And so that would probably be 18 to 30 months, every six months in some cases.

Tal Liani

Are the programs, the launch date? Are they sensitive to economic cycle, meaning what we’re seeing today, does it cause auto companies to push out deployments or push out kind of program dates?

Nakul Duggal

I think it varies depending upon the market and depending upon the automaker. I think one thing that has been an opportunity but also complexity is the transition to EV, which has been pulled in pretty much by every automaker which forces the car architecture to now change. You have to start to move to a different car architecture. And those that are mature or those that have less complexity can embrace that much faster like, you will see for example Volvo is a big customer of ours and they’re launching many different types of vehicles, a lot of shared architecture within GLE, Polestar et cetera. But if you look at something like GM much higher levels of complexity in terms of what all you have to get done.

So this varies quite a bit depending upon the OEM. But I think it also depends upon how familiar you are with software as an automaker, how much capability you have insourced, where you have dependencies, where you are in the learning cycle, some are able to manage certain things very well themselves, other areas they are dependent on other customers. Launching the car is now fairly complex effort from a program perspective, and so we get to see what the struggles and trials and tribulations are of various automakers.

Tal Liani

Got it. Without getting into numbers, I just want to understand how this market is going to evolve over the next few years. Do you envision a J curve kind of growth? Do you envision steady and slow growth in the industry? Is there a critical mass that you need to pass through and then suddenly growth accelerates? How is this industry going to grow?

Nakul Duggal

One thing that is certainly happened is, after Tesla, a lot of other smaller players, especially in China, have actually moved very quickly. BYD is an exception and other larger player that has moved quickly. That is starting to get the attention of the traditional automakers in terms of the need to move to a newer architecture. The change to a newer architecture changes the silicon content in the car completely. So where you might have thought you have time you could push these things out, actually, it’s not possible anymore. Because if you want to have a footprint that is competitive in a market like China, why would you think that you will not need the same thing in other parts of the world. And so a lot of conservatism is being looked at again. And automakers that have actually bitten the bullet and are moving forward are now trying to understand what the execution complexity is.

For us, we’ve been well prepared for this, because we’ve been actually pushing in this direction for five plus years. So our investments, the roadmap that we are building, is all getting ready for bigger chips, more complex software, much higher levels of integration. And then it really is a question of how quickly can the industry absorb that level of complexity.

Tal Liani

Got it. I want to maybe go kind of into segment-by-segment and speak about your growth, and the first one is connectivity. Can you take us through the journey in connectivity? First of all, what is the — it’s obvious what’s the expertise you’re bringing in? But can you talk to us, what is expertise you’re bringing in from smartphones? How much adaptation do you have to make into the car environment? And who are the competitors in the space?

Nakul Duggal

Let me start with the competitors. I think MediaTek is really the only viable competitor when it comes to modems. The one thing that I think has served us very well is that we started to actually do connectivity in cars back in 2002. So we started working with GM with OnStar, when they had a choice between GSM and CDMA, management at that point in time, pushed very hard for them to embrace CDMA and they did. We are now in our 11th generation of modems at GM. And that has actually served us really well because at the end of the day, all things being equal, automakers will choose to go with us.

And the reason is, it’s just a tremendous amount of experience. It is actually one of the businesses where the complexity is much higher than the smartphone because you have to live in your product for a very long period of time globally. And I think, have done a pretty reasonable job in that — you may lose a deal here or there on pricing, et cetera. But it is a business where if you don’t have the scale, it’s actually very difficult to be able to go support this business.

We’ve tried many different things in this business. We have done unique features like dual SIM, dual active, you have to subscription of the car at the same time. We integrated V2X Inside the modem because that’s something we’re pushing for. We’ve now announced the acquisition of AutoX. That is still underway.

So it’s a space where we understand the surface area pretty well. We understand all of the various technologies, products that are required. We understand competition. And we are building a platform that continues to keep getting richer and richer. For example, most recently satellite communications, there has been a lot of interest in that. So we will evolve the platform to be able to go support that. Wi-Fi was the other area that we were not as focused on six, seven years ago. But we have a very broad Wi-Fi portfolio, discrete Wi-Fi products that we now designed to work together with our telematics portfolio said so that also actually gets a lot of lift with the overall solution and the Wi-Fi use case in the car is quite different.

GPS has become a very important use case in the car for a variety of different reasons from precise positioning to ADAS et cetera. That’s integrated. Powerline Communications was a business that we acquired about 10 years ago, actually for the home and back then the team actually started to look into what the application was in the car. We don’t have — we have fairly decent market share for both charging station technology and the in car technology on Powerline. So the connectivity business has actually, there are many independent businesses, they work together, they also work independently. And they are very broadly distributed across the ecosystem, and there is a lot of history with each customer. So I consider that a pretty stable and reliable franchise.

Tal Liani

And how is this segment going to grow? Is it just about penetration, meaning, okay, I got into this car or that car at GM or even once you penetrate, is there an opportunity to grow within the same platform?

Nakul Duggal

So this is an area where we are kind of trying to look for expansion of the SAN itself. So we have efforts around the two-wheeler space and the three wheeler space, because as so when you start to go into an electrified platform, it has to be connected, you cannot have a platform that cannot be connected. So that increases the SAN. And that is something that we’ve kicked off, we’ve had some early success, I think we’ll share more later this year. But from micro-mobility to two wheelers to three wheelers, that’s I think, an expansion.

The other areas services, which is something that we’ve been dabbling in and trying — so we built a services platform. And we are trying to figure out what types of services makes sense where there is always obviously, the complexity where you end up competing sometimes with what your customer is also trying to do. But because we are building a platform versus selling components, we have a very good understanding as to what our customers are doing with that platform. And that’s where we are looking for opportunities, both before market and after market, to actually be able to remain connected to the platform you’re selling over its life. And as you know, because the life of these platforms are 10 to 15 years, and there is a lot of value to be extracted by a variety of different people. So that’s kind of our focus in terms of our human services on top.

Tal Liani

Is the majority of automotive revenues today coming from connectivity?

Nakul Duggal

I wouldn’t say a majority, I’d say probably half and half.

Tal Liani

Got it. Now, another segment that you have is car-to-cloud. What first of all, what is it? And what’s the difference between this and collectivity?

Nakul Duggal

Yes, So car-to-cloud is a services platform. So it serves all of the hardware and software that we deploy in the vehicle is served through the car-to-cloud platform. And think of car-to-cloud really, as a services platform that has API’s that are available in the edge that you can essentially call from the cloud, we can call them directly, we can build our own solutions, we can partner with companies who we can extend those solutions to. So we support everything from fleet management solutions, OTA solutions, we are able to manage the configuration of the hardware. So if you don’t want to buy the fully dimensioned platform, if you want to buy a certain portion now and you want to pay for that later, that is something that car-to-cloud will support. We have announced partnerships with Salesforce, for example, where if you want to actually be able to look into what is going to bring CRM all the way down to the edge, what does that look like? So it’s basically a services platform that gives you a tremendous amount of visibility into the edge.

Tal Liani

Within the context of what we spoke so far, before we continue into the other parts? Is there an opportunity for Qualcomm to have recurring revenues? Or is it still about the old model of smartphones here is a chip put it in it works, or maybe there’s a software piece that goes with it?

Nakul Duggal

So there is always an opportunity for recurring revenue. And I would say, the way that we think about it is, first of all, because the life of the platform is much longer than, say, a typical consumer device. We always look for over dimensioning the platform because we know that the customer is going to need more over the life of the platform.

So for example, we have the ability to be able to sell you 60% of the capability today, knowing that you will come back for more, that is something that is supported. That’s part of the business model. We have the ability to add software capability on top, post the sale of the hardware. So the capability is built in but if it is needed, because some kind of regulation kicks in, or like an ADAS this is fairly common, where you need to be able to meet with a certain level of compliance today. But over time that compliance requirements may increase, I can push more software for you because I have additional hardware capability built in. So those are all software based.

And then the services and recurring revenue, those are very specific. So for example in the two-wheeler space, but actually in those cases we leave with the services model, we will actually package the solution as an end-to-end service where the hardware is built in as part of the service but it depends upon the specific opportunity.

Tal Liani

Every company that buys, every car manufacturer that buys connectivity from you will also buy car-to-cloud or can it be unbundled meaning but to buy from you connectivity and buy from another software company, the ability to provision the car?

Nakul Duggal

It is unbundled, They have the ability to buy any which way. And maybe I’ll be a bit specific there. Car-to-cloud provides a wide variety of capabilities. For example, if you want to be able to control the configuration of our hardware, you obviously have to be able to get car-to-cloud access. But if you want to run your own OTA solution versus ours, you’re free to go do that. So it is highly flexible in terms of what the business model is, which you have to be because this isn’t a space that, this is a space that we’re still building.

Tal Liani

So the question also is, we are saying that in the future, very far future, probably but automakers will make as much money from upselling software and services than making the car. Is Qualcomm benefiting from any upsell, you spoke about, to sell various levels, but or are you now selling the full fledge hardware to the company with the software capabilities to the automaker, they pay full price, and then it’s up to them to price it differently and upsell in the future different software packages. So how do you participate in, if at all, did you participate in the upsell opportunity later on?

Nakul Duggal

So we would participate definitely, first of all, at the hardware level, if I sell you a configuration that has additional room to grow. And for you to be able to get access to that you have to pay, perhaps would be one way to go participate, which we do. So that is a fairly standard configuration. So if you want to, for example, have a standard configuration that you want to deploy across all of your vehicles, but you don’t need the full performance on day one for every single skill. And we can come up with an engagement that allows you to be able to pay for when you actually go use, that allows us to be able to participate.

Tal Liani

Let me define the question a little bit different because I’m referring more to Tesla, for example. Tesla sells you a basic software with a car, but if you want the autonomous driving, whatever, it’s not autonomous, but if you want autonomous, right, it’s another $13,000. The question is you provide the same capabilities to companies? Are they — I want to understand if the car makers put the initial hardware already fully fledged, so they can upgrade the software in the future, or that they put basic hardware today, then you go to the mechanic they upgrade hardware so they can, how does it work from the car manufacturer? And how does it work from a Qualcomm perspective?

Nakul Duggal

From the reset, think of it like this, if we provide a product that is going to go into a premium tier vehicle that is not fully equipped, when it is sold, the hardware has to be made available by the automaker, but not all of the functionality is actually needed to be sold. So we would essentially at that point in time come up with an arrangement that would say you’re buying this kind of capability over a period of time, you will pay when you upgrade.

Tal Liani

That is software, right?

Nakul Duggal

That’s software. So the hardware, so you get paid for a certain amount of hardware. And then the rest of the capability hardware plus software is unlocked over time. Another way to think about the same thing is, automakers do not want to have too many platforms. So they will pick one standard platform and use it across all tiers. Now they know already that for the lower tier for example you don’t need all of that functionality, how do you go pay for that. So there are plenty of opportunities to be able to say the software allows me to be able to unlock more capability that allows me to be able to monetize over the life of the platform.

Tal Liani

We didn’t speak yet about digital cockpit. Can you take us through it, number one and what are the products that are involved in again same question as I asked you before, how did Qualcomm come to this market? Whether what’s the strength that you brought from the other worlds into this market?

Nakul Duggal

So back in 2012, we had — we were focusing on our connectivity business and Audi who had been a customer they were doing 4G with us at that point in time. They asked us to look into explore with them, if we would be interested in getting into the cockpit business and we took them up on it.

Tal Liani

Cockpit, just for those that don’t know cockpit is the –

Nakul Duggal

Cockpit is the instrument cluster and the screen where you have your maps your other controls. So usually today if you think about typical vehicle, you will have four displays. You will have the instrument cluster, you will have your infotainment system maps et cetera. You’ll have a passenger display and you will have an augmented reality heads up display. Those are the four things that you might have in a mid to high-tier vehicle.

So back then, they actually were using Nvidia for, I think there was an Nvidia graphics product that they were using for the infotainment business, and they invited us to say, hey, we would like to start to see what kind of technology you can bring. And it was a great opportunity, because it wasn’t something that we knew really anything about, it was back in 2013 or so. But we learned how to do automotive quality. And we learned how to do automotive software. The realization was that, if we made enough changes to the technology that we are developing in smartphones, the application of the platforms that we build in a car are actually very rich.

If you think about our standard products that we sell, today, we’re driving eight displays off of one SOC, various resolutions for various things, mirrors are going away for various aerodynamic type use cases, and they’re getting converted into displays. You have all kinds of cameras inside and outside, all kinds of visualization is going on. It’s all running off of the same technology foundation that we have created. So there is a tremendous amount of synergy between what we are building for the smartphone space not to a point where what we are doing in the car, especially in the cockpit has far exceeded what we are doing in the high-end of the phone.

And the concurrencies are extremely complex, because you are actually serving three customers, you’re serving the car, you are serving the real-time nature of how you are engaging with the driver, and you are serving an external application ecosystem that is coming in.

So we’ve been at this for now close to a decade and the one big advantage that we had was that we were able to look at our smartphone roadmap, pick the right parts, make the right changes, and make available very quickly, solutions that serve the needs of every tier. And over time, we were able to influence the direction of how do you actually design this cockpit, because it is really about integration, reducing the role of cost of ownership bringing down — bringing more functionality to lower tiers of the vehicle. And that has made us obviously, very strong platform provider.

What we also had to do, because this is not just hardware, there’s a tremendous amount of software that is needed. You have to serve a wide variety of fairly fragmented software ecosystems, which we learned. So we’ve actually invested in the software teams that are needed, we have the ecosystem partnerships. And that allows you to be able to have, a set of customers that are very comfortable with the platform, the teams, the software that they have built, and then you have a lot of repeatability in terms of how you build the business.

Tal Liani

Got it. What I noticed is that some carmakers make an announcement that their rear infotainment system is Qualcomm, the front is someone else. Are we going to — is this market now is being defined so we see multiple vendors in the car, et cetera. And then they’re going to choose one, or we’re going to live with this kind of fragmented environment for many years?

Nakul Duggal

That example is happening less and less. I think, at large automakers who have a very large difference between the tiers of their vehicles, entry tier vehicle that needs something very basic, versus more advanced systems that need something more capable. We are not focused on the entry tier. But I would say that most automakers are centralizing on really one platform that goes across most of their vehicle lines. And then if they have a second one, it is really for an entry tier that is kind of different affordability level. But you don’t see as much of that.

Tal Liani

Got it. Okay. And who are your competitors in digital cockpit?

Nakul Duggal

Many competitors. We have Samsung. We have, MediaTek is now starting to play. We have Renesas at a certain level. Not so much Nvidia anymore.

Tal Liani

They’re busy with Tianjin City.

Nakul Duggal

Yes. That tells you actually everything. We have a number of Chinese competitors that are starting to show up now locally. But it is a market where you need to be able to have a lot of different assets to be able to operate at scale. So I think so far, I think we’ve been able to do a fairly good job in holding.

Tal Liani

So on that I will ask you, what’s your differentiation? What do you bring to the market that the smaller Chinese don’t have? Or the others don’t have?

Nakul Duggal

And I think first of all, I think there’s a lot of experience. We have kind of taken this market in the direction that it is gone. So we control the set point in terms of what the integration is, how do you do a lot of the concurrency, how do you actually define a feature set for the next generation cockpit looks like. There is a lot of software integration you have to do. So you’re running safety software with an Android app side-by-side. You have to be able to support this globally because automakers are all developing their solutions all over the world. So you have to be able to have teams that can actually make that happen.

You have to work with a large number of ecosystem partners because a cockpit is built by between a dozen and two dozen different software providers that come together. You have to build a roadmap that scales. So one of the reasons why we build the roadmap that we did is, you can’t afford any more, in my mind to have a corporate roadmap and an ADAS roadmap separately. That’s just not enough, the size of the opportunity is not big enough. So you have to be able to consolidate those two, that requires you to make choices. So we, in this generation that we are in, we actually spun out the roadmap completely. We no longer use mobile chips. We only use the technology. These are all automotive chips that are built from the ground up just by our business.

So you have to be able to make those kinds of bets. And I think once you go do that, then you’re always going to have competition where somebody is going to want to try to do something on the cheap or experiment, et cetera. But these are systems that are very complex, because you have to be able to keep the software updated over its life. And so you kind of need a customer. So you need a partner, then they automatically going to say, okay, these guys have a lot of the experience, the people, the understanding, what do I need to go do when I’m making my choice? Well, I think that — so it’s a number of different. It’s much more than just a product. We have many other things that come into play.

Tal Liani

Got it. Okay. I touched on three areas so far, where Qualcomm was able to bring expertise in smartphones into the automotive market, very clear synergy between the products. The next area is something you had to make an acquisition, which is Snapdragon, right platform, ADAS, right? Autonomous driving, et cetera for those who don’t know. Take us through the journey, again of Qualcomm in the space. What did you bring in internally? And what did you acquire and where are you today?

Nakul Duggal

Yes. So maybe five years or so ago, it was pretty clear to us that if we had to be relevant in the automotive space, a real strategy take from mobile using auto that got us to where it did, but that was not going to be good enough. If you recall, we were in the middle of the NXP acquisition back then. So the thinking was, we will acquire NXP and XP will bring a lot of the things that we don’t know about automotive, and that will kind of complete the picture. It became clear to us a year or so before we finally parted ways that that was not going to pan out. So we doubled down and we said, we do need to have silicon that will work in the automotive space from a safety perspective.

And at that time, we had to start to think about what kind of roadmap do we need to build for ADAS. So we started to do what you might normally expect. We took the right chips that made sense. And we started to make sure that they were — they had the opportunity to play in the ADAS space. And it was a very good decision because it actually won us the GM business on ADAS. So we won that back in 2019. And we learned a tremendous amount, because really the ADAS use case is about taking a large number of sensors and processing them in a fixed delay budget for a variety of different use cases, whether it is real-time processing, apply AI to it, obviously, based upon the action that you have to go take.

So we had to figure out how we were going to go do this as a roadmap, it was pretty clear that the roadmap we would have to build for silicon would have to be a safety ready roadmap. So that decision we took fairly early on. Then the question was, do we build our own stack? Or do we just support other people’s stack. And the decision we took there was, we had some assets internally that we had been building on the stack side, but nothing that we could get into production with. So we had to go acquire a team that had that experience. And the path that we are now on is, that it’s a flexible roadmap, we can host other people’s stacks, we’re obviously building our own. And what I like about this market is that this is headed towards 100% attach, every single car is going to have safety software and safety hardware. And it really is going to come down to what kind — it is not that different from the cockpit in that to be able to get to where we are, is not going to happen in one or two years, it’s going to take a long time and have to be added.

So the more synergies you can create at the product level and the more you focus on creating software that is very tightly coupled with your hardware, we know how to do those things. We’ve done that for a long time. I think that makes you a very attractive bet for a customer to make. And I think if you spend enough time with automakers, what you will realize is, it really comes down to make versus buy decisions where they’re concerned about handing over what they might think is a very important part of their differentiation to a supplier. But then the very quickly the question is, is this expertise that they can have at scale internally. So if they have to make a choice, would they trust a supplier that is going to give them the flexibility that they need to have. So for us these are all bets that we are making for the long run. But I think so far, I think they are playing out well.

Tal Liani

One of the bigger player in this space is Mobileye. I’m not an expert on Mobileye, I don’t cover them. But I know they have north of 60% market share, if not more. But they do have a very proprietary approach where you have to buy their entire platform from them, everything from soup to nuts. How are you — how do you intend to take market share from Mobileye? How are you different from their approach when it comes to modularity of the product et cetera.

Nakul Duggal

In automotive, once the product goes to 100% attach rate. The only thing that automakers focus on is the cost of ownership and control points, there’s nothing else that they focus on. And one of the big challenges that the Mobileye model has is that the system is not programmable. It is designed for Mobileye software. So that will always have — it’s a target that you can aim at, because you’re always going to get attention.

For us really the starting point is very different, right? We are building heterogeneous SoCs that has been our history. We have proprietary hardware, that is highly accelerated. And then we have, CPUs and GPUs and DSPs that you can program on. And then, we have a very broad ecosystem that can develop on our platform. So the example I gave to you about the skills for example, I can sell you a platform that competes with Mobileye. And then I can open it up and charge you a little bit if you want to run a parking stack on it. And if you want to do something more, I can allow you to do something more as well.

So for us, it really is about what are the areas that we want to differentiate on with a hardware and software solution that is ours and allow the ecosystem to be able to go develop on top. And because the platform is highly programmable and we are going to be — lack of better word opportunistic in terms of how we enter the market. We build platforms that are very broad. We will build certain technology areas that want to excel in. And then, over time, we will figure out which market we want to focus on. But the cost of ownership question is always going to be a better equation with us because it gives the automaker a lot of choices.

Mobileye has done a fantastic job. They are a great company. But I think the kind of the Blackbox, part of the solution does, I think, pose some challenges.

Tal Liani

So the good thing is that we have a great discussion, the bad thing is, I only covered three questions out of 35 questions I prepared. And I know I had a lot of sub questions. I want to stop for a second to see if there is any question from the audience before I continue, we only have two minutes left. But I want to at least have the opportunity of any questions.

Question-and-Answer Session

Q – Unidentified Analyst

I can do that. But over time, how should we think about potential content or vehicle reduction? And kind of what have you seen in terms of changing dynamics over the past few years?

Nakul Duggal

Content per vehicle reduction, could you elaborate.

Unidentified Analyst

Yes. So we’ve heard about vehicles and autos moving from decentralized ECUs to more centralized ECUs. So in that context, how should we think about potential content per vehicle reductions? And obviously on the same side with perhaps lower quality chips and maybe potentially older chips as well?

Nakul Duggal

Yes. I don’t know if I can answer it in terms of dollars and cents, because there isn’t really a way to — you can normalize it. But maybe think of it like this, I think one is the example I like to use is a BMW 7 Series used to have like 150 different ECUs five, six years ago. Today, it probably has more like 10. Obviously, there is a big difference in terms of what the ASPs are but you can imagine all of the peripheral cost of carrying all of those 150 ECUs, obviously starts to go away. So there is certainly a system level savings that a BMW gets benefit from, but the bigger benefit is, you can take those same systems and now scale them down to a 5 Series and the 3 Series. So the overall silicon content across the entire vehicle lineup is going up, because you’re able to bring functionality to lower tiers. Is the total amount of electronics content going down?

I think it probably is, just because you are comparing with something that is fully equipped and perhaps not the norm to something that now becomes the norm. So I do think that the amount of electronics that is going into vehicles is just massively increasing, just because so many more cars are getting access to that capability.

Tal Liani

Correct. Any other question?

Tal Liani

We only have 20 seconds left. I think we better finish it here. Thank you so much.

Nakul Duggal

Thank you. Really appreciate it.

Tal Liani

Thank you.

Vivek Arya

Good afternoon, and welcome to this afternoon session. I’m Vivek Arya from the Bank of America semiconductor semi-cap equipment team. Really delighted and honored to have Sandra Rivera, Executive Vice President of Intel’s Data Center and Artificial Intelligence team, joining us this afternoon.

We will start with an exciting disclosure statement from me that Intel asked me to read. Then I will just turn it over to Sandra for some opening comments, and then we’ll get into Q&A. But please feel free to raise your hands if you have anything that you would like to bring up.

But from an Intel disclosure perspective, please note that today’s discussion may contain forward-looking statements that are subject to various risks and uncertainties; may reference non-GAAP financial measures. And please refer to Intel’s most recent earnings release and annual report on Form 10-K and other filings with the SEC and for more information on the risk factors that could cause actual results to differ materially and additional information on Intel’s non-GAAP financial measures, including reconciliations where appropriate, to the corresponding GAAP financial measures.

So after that exciting introduction, Sandra, maybe over to you, really appreciate you joining us this afternoon.

Sandra Rivera

Thank you, Vivek. Thank you for having me here. So let me just start out with maybe some opening remarks, and then we’ll get into the Q&A.

So I just wanted to maybe give a broad backdrop of the market opportunity that we have in front of us. And first is that we are operating in a large and growing TAM. The amount of data that continues to be generated in the world that needs to be processed, moved, stored and acted upon just continues to grow. And so the amount of computing capability that we need to deliver to the world continues to grow. So it’s wonderful to know that we have a large market opportunity that we are participating in. Of course, we’ll get to AI. AI just, again, is a rising tide that increases the amount of compute required in the world.

We are absolutely focused on, frankly, I’ll just say, doing fewer things better. And so when we have looked at our CPU portfolio, our GPU portfolio and the overall complement of heterogeneous architectures that we have, we have been very focused on execution, execution, execution and ensuring that we make and meet customer commitments. And this is an acknowledgment clearly that, in recent years, we stumbled a bit, had some setbacks. We have recommitted maniacally to ensuring that we make and meet customer commitment. And our road map, certainly on the CPU side, is on track and delivering all key milestones and feel really good about all of our leading indicators moving forward.

And from an overall portfolio perspective, we have, within the Data Center and AI Group, all of the data center technologies required to address what is a very complex set of workloads, clearly, not just AI, but networking, HPC storage, high-performance computing. We have the complement of CPUs and GPUs and AI accelerators, FPGAs and IPU capability in that portfolio, all brought together with software as that homogenizing layer. So we have the hardware and the software required to meet customer demands. And we feel, again, really good about the market opportunity and the expansiveness of the TAM.

And from an AI perspective specifically, that idea that we unlock value through the software and through the rich stack of software tools and the tool chain and the developer enabling that we’ve committed to for decades where we’ve led the market, in many ways, through technology transitions and leading-edge technology capability, that full complement of capabilities being brought to the AI opportunity is something that, again, we see as market expansive and a tailwind in terms of the market opportunity.

So just specifically, looking at what I’ll call the AI continuum, our focus is bringing AI to the masses. It’s making the affordability and the economics work for everybody. And we certainly see a lot of interest in the very largest language models, of course, the GPT-3, GPT-4 types of language models. Clearly, there is a lot of excitement and very real requirements in the market to be able to address that type of capability.

But AI is this complex and vast set of workloads. And we do see that you need to have capabilities in the cloud, in the edge, of course, in the enterprise and then all the way out to the client devices. And the ability for us to continue to integrate AI capabilities in all of our computing platforms is something that we think is highly differentiated and highly valued by customers.

And when you look at that continuum, cloud, enterprise, edge to client, we have heterogeneous architectures to address that market opportunity, starting, of course, with the ubiquity of our CPUs, both in the data center with Xeon but also out to the client. In the data center, we’re on our fourth generation of integrated AI capability. We started years ago with AVX2, then enhanced that to AVX-512, then moved to VNNI with our third-gen Xeon and then, most recently, with the Advanced Matrix Extensions, AMX, integrated accelerator into 4th Gen Xeon.

On the client side, we had the integrated VPU that provides really a market-leading capability and we believe will be the most pervasively deployed PC computing device with integrated acceleration once that product ramps later this year.

From an overall perspective, after you get past the front end of data management, data processing, data cleaning, you move on to, of course, the training phase. And in that training phase, you have small- to medium-sized models that the CPU is actually well suited to address. When I say small to medium, it’s 10 billion parameters and less. And so you have the CPU on the front end, doing all of that data prep work. Xeon really does a great job there and even the market leader in GPUs has selected 4th Gen Xeon as their platform for the CPU head node. But when you get to the model training, some of those small- to medium-sized models, and typically the ones you see in the enterprise, the CPU does actually a very good job there.

But for the larger models, you need a much more parallelized architecture, the domain of GPUs and AI accelerators. And this is where we have our own GPUs, GPU Max as well as Gaudi accelerators to address that large language model capability for model training as well as inference. And that, I would say, is the $100 billion-plus size of parameters.

On the edge, this is where, again, in the enterprise and deployment of those models, you do fine-tuning, retraining, all of that distributed inference, again, large footprint for us to address with CPUs. But increasingly, we see an opportunity there with GPUs. We have GPU Flex there. That’s a smaller-footprint, lower-power edge inference device that does media processing, that does cloud gaming, other types of VDI, types of workloads on-prem, where our GPU Flex is well suited. And then out to the client devices. Of course, we have not only the integrated AI with our CPUs but also Discrete Graphics with the Arc brand.

So a complete portfolio from the cloud, to the enterprise, edge and out to the client, and all of that brought together by the software. The software really is the unlock of the hardware, and we can get into a lot more discussion in terms of the richness of the software stack and how we unlock value with developers and deliver fast time to productivity through the software stack.

Question-and-Answer Session

Q – Vivek Arya

Excellent. Thank you, Sandra. Very comprehensive. Just maybe one kind of near-term question, and then we’ll go through the industry structure. So near term, Intel, I think, recently said that you expect Q2 to be at the high end of guidance. And I think data center is part of that. So could you give us some more color, right, what in the data set is doing better than you thought and just kind of a general state of the union on what you see from a demand environment perspective?

Sandra Rivera

Yes. So the year is shaping up to be pretty much as we expected coming into it. We launched 4th Gen Xeon at the beginning of the year, in January. Actually, our customers helped us launch that platform where we see clear leadership vis-à-vis competition is in those high-growth areas of AI, networking, HPC security, storage applications. And so lots of opportunity there. And so when Dave talked about the health of the business, it was both in the server data center side as well as the client side and just being more optimistic that we could be in the top half of the range that he gave. And the linearity of the business is also healthy from a cash flow perspective and what we’re seeing in terms of customer demand.

So we feel good about the way that the first half of the year has panned out and have been cautiously optimistic about the second half because we clearly over index on enterprise workloads where we have a very strong market segment share position and on China where, again, we have a strong brand, a strong market segment share position. And so as the customers are perhaps looking at their second half and balancing what they feel comfortable committing to in terms of both on-prem deployments — and on-prem could be cloud infrastructure as well. I mean, typically, you have cloud on-prem as well as in public clouds and what they’re moving to the public cloud.

We have reasons to be still cautiously optimistic about that second half. But right now, we’ve been working through a lot of the inventory burn issues, particularly in the enterprise side. And we think that we start to see a little bit more movement in the second half, probably more in Q4. But first half has played out the way we expected it and feel good about our position there. Again, server and enterprise and client second half, seeing some reasons to think that things might come in a bit healthier but still being cautious just because we’ve had some inventory burn issues to get through. And I think that some customers are still being a little bit tentative in trying to decide where they make their big CapEx investments.

Vivek Arya

Got it. So the near-term excitement, is it kind of cloud? Is it enterprise? Is it China? Like, was there one factor that stood out to give you a little more optimism about Q2 data center?

Sandra Rivera

Well, I’m not saying anything more than what Dave said. But the performance of the business in the first half was as we expected it. We have a very strong position in enterprise. But they were burning through more inventory, so that was a bit depressed in the first half than what we had planned for. Our position in the hyperscalers is actually quite strong. We continue to see our CSP customers deploying with 4th Gen Xeon. In fact, just last week or the week before, Google launched their C3 Sapphire Rapids 4th Gen Xeon instance with our IPU. So that was a product that we codeveloped, codesigned with them. And we will continue to see the hyperscalers rollout 4th Gen Xeon-based instances throughout the year.

And actually, the pipeline for 4th Gen Xeon is quite healthy. We have over 600 designs won. We have 400 that are already shipping. And every single large cloud service partner in the world is going to be deploying on 4th Gen Xeon. And so we’ll see that continue to play out throughout the year.

Vivek Arya

Got it. Now kind of the big picture question, Sandra, is that there seems to be this kind of zero-sum game between the CPU and pick your choice of accelerator. And of course, Intel has many accelerator options also. Is it as black and white as that? Like, if the accelerators then — sorry, does the CPU just have to lose and disappear and go away?

Sandra Rivera

Yes. It’s a great question, and we don’t actually see it as an either/or. So we see AI as more of a rising tide than a balloon squeeze. And I think in the near term, certainly, the growth rate for GPUs is outpacing the growth rate for CPUs, and we expect to see that throughout ’23. But as I was describing earlier, when you look at who are the purveyors of the very largest language models and who can afford tens of millions, over 100 million, to train a unique large language model, there’s not that many companies in the world that can actually afford to do that or want to do that. We see so much of the growth opportunity happening when you actually get to deployments.

And typically, enterprises want to train on their own data. They want to do that in their own secure data perimeter. They want to contextualize the queries around, again, their data sets, their acronyms, their unique domain-specific types of capabilities. And this is where an example recently with Boston Consulting Group, we were able to work with them to train on certainly, large language models, open source models, the BLOOM 176-billion parameter model using Gaudi. But when we went to deploy on-prem and they had 50 years’ worth of data, they wanted to do that in their contextualized environment with their own data set in their secure perimeter, and we were able to do that in less than 12 weeks. And they just see so much value in that time to productivity and the security of again having their data set trained in a way that isn’t putting things up in a public model or in a public forum.

So I think there’s just so many examples like that, Vivek, where the AI tailwind, I think, really will be market expansive for everybody. And it’s a big market. We’re in the early innings, right? There is so much opportunity out there, and we want to be the company that customers trust for their broad scale deployments, particularly as we move into that inference and fine-tuning and retraining stage of where we are with that continuum.

Vivek Arya

Got it. How is the outlook on Sapphire Rapids? Because I think you mentioned that it’s being really targeted at the fastest growth, right, workloads. Obviously, AI is one of them. So if we kind of fast forward and we are having this fireside a year from now, how do you think Intel would have done in the AI CPU side versus your competition with Sapphire Rapids?

Sandra Rivera

We are holding our own. We feel really good about where we’re performing with 4th Gen Xeon. So we had projected that we would be shipping about that 1 million unit mark by the middle of this year. We’re still on track for that. And while we over index on those high-growth workloads in terms of performance leadership and power efficiency and per TCO vis-à-vis competition, we still address a broad range of workloads beyond just those highest-growth ones with a highly performing, highly versatile CPU platform.

And a lot of the capability really comes from the software optimization. I mean there’s so much that we do, investing in our software resources and engaging directly with customers and doing that optimization work, that gets you significant improvement not just from an overall performance perspective but a performance per TCO perspective. We had one example recently. When a customer was doing database compression, Microsoft SQL Server 2022 database compression, with integrated QuickAssist Technology, we were able to demonstrate that you can go from having 50 servers running that workload to 29 servers because it’s much more efficient. And that was a direct comparison of one of our 32-core 4th Gen Xeons to the competition’s latest 4th Gen 32-core systems.

So we do see that the approach that we’ve taken with Sapphire Rapids, with 4th Gen Xeon, integrating those accelerators not just for AI but their networking capabilities, is bringing real value to customers. And so we’re tracking to our goals for the year. And a year from now, I think that we’ll have demonstrated that 4th Gen Xeon is a very competitive product, that the platform differentiation we’ve had with the health and the quality of being able to drive those memory transitions, DDR4 to DDR5, the interconnect PCIe Gen 4, PCIe Gen 5, the CXL capabilities, that having the quality of the platform and the deployability from day 1 when we launched 4th Gen Xeon really will have proven to be a big differentiator.

But in terms of where I’ll be sitting a year from now, I will have delivered 5th Gen Xeon at the end of this year on time, on spec. And customers are pretty excited about that drop in performance boost they get to the existing platform in addition to or expanding from 4th Gen Xeon. And then I will also have delivered Sierra Forest, our efficiency core product; and then I guess, 6th Gen Xeon; Granite Rapids will be shortly after. So I will be in a much, much better position in terms of real strong leadership across the breadth of the portfolio.

And customers are leaning into that. Today, they have samples. They’re doing the volume validation with us on not just 5th Gen Xeon but the Sierra Forest and Granite Rapids for next year. And the health of the product is great. And so all the leading indicators are really, really strong. And so I’m looking forward to a year from now because I know I’ll be even stronger here than I am today.

Vivek Arya

Sandra, what do you think is that piece where Intel is kind of putting the most focus? Is it maybe the answer is all of the above? Like process, is it architecture? Is it features? Is it just that, once you’re kind of knocked off as the incumbent, it just takes some time to get back? So which of those things do you think Intel is working on the hardest? And what does it need to do so that a year from now, right, or whatever, 2 years from now, that you will be in a place where we are not seeing those kind of market share changes, right, against your CPU competitor?

Sandra Rivera

Yes. Well, process technology, for sure, is a huge focus. And if we look at what constitutes product leadership, it is a combination of process technology as well as architecture and engineering. And on the process technology side, we are absolutely executing to Pat’s vision of 5 nodes in 4 years. And if you look at Intel 7, Intel 4, Intel 3, Intel 20A and Intel 18A, those are the 5 nodes.

Intel 7 is done, right? That’s what’s delivered with 4th Gen Xeon. Intel 4 is being delivered now with Meteor Lake, the high-volume client product. The sister node to Intel 4 is Intel 3, which we are delivering next year with both Sierra Forest and Granite Rapids. And so the health of 4 and 3 is really, really good. And Intel 3 is really just a more optimized, more dense library. So it’s higher performing for data center and server implementations, but it’s very similar to Intel 4, which means that the process is healthy, and we feel really good about, again, all the power ons happening now and all the volume validation going on with customers.

So by next year, 3 of those nodes, check, check, check. And then when we get to ’25, really next year, we’ll have, in ’24, 20A with a client product, again, being the pipe cleaner for that process. 18A is the sister node. And that’s when we plan the Clearwater Forest, which is the follow-on to our Sierra Forest E-core product that we’re delivering in the first half of next year. And with 20A, we’re going to get RibbonFET technology gate-all-around on the transistor. With 18A, we get the backside power delivery to the transistor. And so both of those innovations coming together in 18A is really exciting for us.

So process is hugely important. Both Intel 3 and 18A are the foundry nodes, so we, of course, are going to drive a lot of volume on both 3 and 18A with our own products, but the Intel foundry goal is to ensure that if we have a volume of customer on Intel 3. We are working hard to close a volume customer on 18A, and so that’s crucial.

The second big area of innovation and product leadership comes from architecture and engineering. And for us, I think that we have to own the fact that we lost a bit of our engineering discipline over recent years. But in the last, certainly, 2 years since I’ve been leading this organization, our focus has been execution, execution, execution; rationalizing the road map, which were painful decisions and trade-offs that we made. But we wanted to go to our customers and say, “When we make a commitment, we’re going to meet the commitment.” And again, I’m happy to say that we are so much healthier today. All the leading indicators look great.

And so that focus on our priorities, doing fewer things better and executing for our customers and coming to market with a predictable cadence of high-quality products, is what our customers had counted on us for decades and they can count on us again in terms of product leadership, process leadership and being on time when we say we’re going to be.

Vivek Arya

Got it. One new and interesting development is kind of this emergence of these combination CPU/GPU platform, right, whether it’s Grace/Hopper from NVIDIA or MI300 from AMD. How do you look at that? Is that a big deal? Is it a small deal? Do you think it’s going to cannibalize the current market structure, which is kind of discrete CPUs and discrete accelerators? Or do you think it’s kind of a niche thing? It handles certain workload, but it’s not really going to be a big deal over time.

Sandra Rivera

It’s a bit of an unknown right now. I mean, clearly, we are delivering to customers, everyone is delivering to customers, products that, from a platform perspective, deliver both CPU and GPU integrated capability, again, at the platform level. And the thing that, that gives customers, which they like, is that flexibility in the system architecture and in addressing the workload requirements. So that model works very well. Typically, especially the hyperscalers, they don’t deploy a node or a rack. They deploy very large-scale clusters, and they have very sophisticated software that lands the workload on the optimum hardware architecture underneath. And so that model is really the way that the market consumes compute today and particularly for AI.

How the co-packaged approach will play out, honestly, I don’t think anybody knows yet. It is predefining a certain ratio that you have to know or think you can project where those workloads are going to land. AI is moving so quickly, I’m not sure that anybody can truly say, 6 months from now, what it’s going to look like necessarily. But it’s something that clearly we’re keeping an eye on. We have our own plans as well in terms of some of the future GPU innovations that we’re driving forward, again, looking at what does it mean to share memory, to share power; are you really optimizing or suboptimizing any one of those proponents. But in the near term, Vivek, I mean, the market is big and wide and growing for discrete CPUs and GPUs and, at the platform level, bringing those together.

Vivek Arya

Got it. Now in late June, I believe Intel has announced, right, the day when you will describe how you have separate reporting for the design. And how does it really change your business on a day-to-day basis? How does it win you more share with customers? Like, how does it change what you do in the data center side?

Sandra Rivera

Yes. So that entire IDM model or IDM 2.0 model is actually quite helpful in the decisions that we’re making in our own product execution. And so some examples of that are we do use a lot of hot lots. And typically, as a GM, I don’t always think as hard about that as I probably should in terms of the cost of hot lots — not just the cost but the disruption to the factory in terms of their utilization and efficiency. We also have a lot of test time that we drive in our products that, again, might — overshooting a bit in terms of the complexity and the content in those test scripts.

And clearly, another area is just the decision to step a particular piece of silicon, one of our products. If or as we are getting much more transparency on the real cost to do that, not just the cost in terms of how expensive that is for the organization but the opportunity cost in underutilization or inefficiencies in the fab, I think it certainly is very helpful to me as the GM of the business and the other GMs at Intel but also to our process and manufacturing partners where they need to charge us more for maybe being less predictable and more demanding customers sometimes. And we need to probably think through where the optimization points are in terms of our internal costing.

So for us, it’s actually a very welcome change in how we look at the business. I feel I have way more data make more informed decisions and better decisions that will play through in the P&L. And similarly, for the manufacturing and the fabrication side of the business, they need to ensure that they have an efficient and compelling value proposition as they are attracting customers to foundry, which is health of the PDKs and costing that’s competitive and defect densities and yields and all of those factors that really become their set of issues to work through. And I don’t — I just buy a wafer at a predetermined cost. And then I know what my costs are if I want to expedite some of that capability.

Vivek Arya

Got it, more transparency. And then just the last thing. What is that trade-off between having a lot of accelerator options that you can customize to many kinds of customers and workloads, right, versus having the focus on one? Because Intel has the programmable systems business, right? You have the Gaudi accelerator and your CPUs do acceleration. You have the GPU Max you mentioned. So how do you make sure that you have the right resource allocation and don’t have too much fragmentation of where these resources are being allocated?

Sandra Rivera

Yes. Well, I think that it’s pretty clear that it is not a one size fits all, right? It’s not just AI, but workloads are so diverse and so expansive that we do need different architectures, scaler architectures and vector architectures and matrix architectures and spatial architectures, and so that full complement of CPU, GPU, AI accelerators and FPGAs and IPU is another scale-out tool that we have in the tool chest. All of these are required to meet the diversities of our customers’ workloads.

The key for us is having a consistent software stack. And I think that this is the thing that we clearly see, that developer productivity and time to an outcome is the biggest measure of value for customers. And particularly when you get into large scale-out clusters, it really isn’t just the device. You have to think about the networking, the fabric, the system architecture, the platform capability, the cooling technology, in some cases, memory pooling, how you’re addressing those capabilities. And so it is not like a one-size-fits-all approach. We have to invest in innovations across that portfolio.

But our focus is really on addressing customer workloads. And that comes in through the software. And a lot of that optimization work, frankly, does happen in software. So process technology always gets you a performance boost, anywhere from 15%, 20%, 25%, 30%. Architecture and design gets you another performance boost, again, another 20%, 25%, 30%. But software is the multiplier. So you can get 5x, 10x, 20x performance boost through software. So we really do believe you need that rich set of underlying heterogeneous architectures, but it’s the software that is the most critical, and that’s where the biggest area of investment is going to be for us going forward.

Vivek Arya

Perfect. Great. Thank you, Sandra. Really appreciate your time. Appreciate your insights. Thank you all.

Sandra Rivera

Thanks, Vivek. Yes, good to see you.

Bradley Sills

Thanks so much for joining us here. Delighted to be welcoming Salesforce to the Conference. Very fortunate to have Bill Patterson here, Executive Vice President and GM of Customer 360 Applications. Bill, thanks for joining us.

Bill Patterson

Thank you for having me.

Bradley Sills

Great to have you here. And I’ve got some questions. We will kind of go through and look forward to the discussion.

Bill Patterson

Wonderful.

Bradley Sills

Awesome.

Bill Patterson

Thank you.

Bradley Sills

So Bill, why don’t we just start with your – a little bit of background on yourself and your role at Salesforce?

Bill Patterson

Okay. So hello, everybody. Thank you for having me here today. I’m Bill Patterson. I’m the Executive Vice President and General Manager of our CRM Applications at Salesforce. So I’m responsible for some of our largest cloud businesses, our Sales Cloud, our Service Cloud. Our emerging businesses like our field service offering, our commerce businesses. So really been at the organization now six years. And prior to that, we had a shared background, we spent time at Microsoft.

Bradley Sills

That’s right. Yes.

Bill Patterson

We just learned that a moment ago.

Question-and-Answer Session

Q – Bradley Sills

Absolutely, yes. Great. Well, awesome. Well, why don’t we just start with the concept of Customer 360? Could you perhaps illustrate how the platform enables that with Salesforce? So give us an idea of the platform, underlying all the different clouds and applications, whether it’s Service Cloud, Sales Cloud and Marketing Cloud, Tableau, Slack. I mean, there’s lot of offerings here. What are the kind of underpinnings if you will, that enable that 360 view?

Bill Patterson

Yes. First off, in sort of the raw sense or most primitive sense, what Customer 360 is, is the world’s most sort of popular customer relationship management platform. So it really provides line of business computing for sales teams to drive growth, service teams to drive retention and sort of drive customer satisfaction. Marketing teams to really drive and amplify the brand of your offerings, commerce teams to drive digital transactions. And those are really the four big sort of application workloads that we run. Across those applications, it’s built on a platform that really is a cloud-based declarative software technology that allows the solution to be adapted to different sizes of business, styles of business, industries of business for use across our organization.

And Customer 360 also encompasses some of our technologies like our integration with MuleSoft, our Slack technologies for collaboration and engagement and productivity as well as our Tableau technologies for driving analytics and intelligence for enterprises at large.

Bradley Sills

Great. And maybe some examples of a customer who has really embraced Customer 360, maybe a use case, if you will, a cohort of a customer that – or a customer or two that have been with Salesforce for a longer period of time and really embraced that 360 in the technology? And what does that footprint look like? How are they generating ROI?

Bill Patterson

What makes Salesforce unique is really the diversity of the customers that sort of run on this platform to power their operations and their business. And I think everything from big companies and small companies are really use this technology at scale to run their operation. I’ll give you three examples. Companies that are sort of in the physical business like Siemens, use our technology for driving not only kind of frontline sales operations, working with their selling partners, their distributors, their suppliers, kind of keeping everyone on the same page. But they also use our technology for service to maintain all of their buildings, their building management software kind of connected through their offering. So an organization like Siemens is very much kind of in the physical domain. That’s a kind of one example.

A company like DocuSign uses our technology also to not only drive online service and support, they use us for helping to sort of configure and optimize their solutions when they’re actually selling to customers. So they’re a good company that’s sort of in the digital domain. And then you think about a company like Marriott, who kind of operates in the experiential domain, they’re another organization who runs our technology for powering all their guest relations, guest services, et cetera.

So I think, again, what makes Salesforce very unique is it’s not dominated by one industry. It’s not dominated by one company size. It’s not dominated by sort of one geography. We’re incredibly global. We are incredibly diverse in terms of the customers that we sort of operate with and have the elasticity to sort of scale and stretch to different styles of business based on sort of their needs.

Bradley Sills

Wonderful. No, that’s great to hear. And when we think about the Salesforce stack and Customer 360, I think of the big three sales, service and marketing, that those three really need to be integrated. Then you have these other kind of horizontal categories like Slack for Communications and Tableau for Visualization. How well integrated are the big three, if you will? Is the work – is the heavy lifting done there such that you really have that single source of the truth on a common data platform? And are these other ones, there’s incremental effort to integrate these. I mentioned those two with Commerce Cloud as well.

Bill Patterson

Right. Well, first off, sales and service were organically built inside of Salesforce based on our platform that we kind of underpin that technology with. We acquired Marketing Cloud, I think, in around 2016 with the acquisition of a company called ExactTarget. And one of the things that we’ve been doing since that time is really embedding that technology really into the core of how sales and service operate because what we really find is that sales teams and marketing teams turns out they actually want to be on the same page and have the same kind of level of data.

So our technology platform that we’ve created, which now we call our Data Cloud, underpins all of those technologies and allows the data to seamlessly run and feed all the departments that run on the Salesforce platform in that clear and consistent manner. And that’s ultimately what has led to that product, which we call Customer 360, single source of truth to utilize in every line of business that kind of offers that information through.

Bradley Sills

Wonderful. Thank you. And then maybe some perspective on R&D. What are the key investment priorities? I imagine one of them is going to start with an AI.

Bill Patterson

Well, first off, I’ll start with data actually because data is the foundation. That’s the lifeblood of what turns into great AI kind of innovation. So our innovation strategy is pretty much threefold. First off, it’s about data and unlocking data in a clear and consistent manner, so it really works across an organization and even intra organization, so you can share that with your trading partners, et cetera. AI is sort of the next horizon. And I think once you ground that data specifically with the customer data, the customer intelligence, the business policy, the business brand, tone of voice, the unlocking the specialness of what makes up the CRM data structures applied with great technology like generative technology really makes it special and powerful. And then lastly, it’s still – we have a lot of room to run in the CRM category.

And so as we kind of think about how to help businesses, either save money or drive growth or sort of resuscitate their business in this post-pandemic era, there’s a lot of innovation going in the CRM domain, that’s also really about helping companies sort of thrive in today’s macroeconomic environment.

Bradley Sills

Great. Why don’t we shift to AI while we’re on the topic of R&D priorities? How does Salesforce think about the AI opportunity? What is the company doing to build AI into the offering? I know there’s already some available today, but just love to get your perspective on kind of the state of the stack with AI and where it’s heading?

Bill Patterson

Yes. Generative AI is really the most profound opportunity of our lifetime, I think, around sort of enterprise software, around business services, et cetera. And so we, like many, are really accelerating kind of our innovation efforts around the AI domain. What I’ll tell you is we do things a little bit differently at Salesforce than maybe some other technology companies do.

First off, one of our core company sort of values is running a trusted operation for our data and our policies around company’s data because customer information is really the lifeblood of an organization. And so one of the things we really set out when we – before we even wrote a single line of code, it said was we are going to continue to operate on this foundation and this platform of trust to really run this operation with. And we’ve seen a lot of stumbling already in the early days of generative AI about people using public models or publicly available consumer services really in the wrong and appropriate way, sharing information with these models that now becomes part of the model for the future even if it’s sensitive information, if you will. So first off and foremost, it is about a platform of trust for us around how we think about AI as a foundational service across our applications.

Second, the reality of most enterprises today, it’s a very large and diverse landscape of technology that often makes up the way in which an organization operationalize its customer experiences. I take customer service, for example. Oftentimes, the service organization has 20, 30, 40 different systems in use that manifest that customer experience or that operations like a contact center. It is not sustainable for an organization to have 30, 40 different AI strategies to try and kind of manifest a consistent experience for their customers.

And so our approach starting with the trusted foundation said, okay, first and foremost, we want to make sure that the data stays resident and secure and safe. Second, we really want to help organizations leap into this AI era by not trying to have all of these different diverse of landscape of models that are just flying around inside of the organization, I want to make that more cogent, more coherent, more simple to utilize across every center of interaction the company does.

And finally, I think the last horizon of sort of AI really becomes, how do you think about the application of AI, specifically in how you serve, how you sell, how you market, how you digitally transact with organizations? And that’s really kind of the last horizon we’re thinking about is how do we really think about fundamental new ways to break through the marketing domain or the service domain or the selling domain with those areas. So three horizons of how we think about AI. And I think Salesforce is taking, one, a very responsible way of bringing this forward. And two, a real focus on applying AI for the purpose of transforming customer experiences.

Bradley Sills

Wonderful. And there’s a debate across software categories as to where is AI additive, where could it potentially be deflationary? I would love to get your perspective when you think about the Salesforce end market, what’s your take on that?

Bill Patterson

Yes. Yesterday, I was in Chicago talking with 130 service leaders of the same question because I think what’s been fascinating is for service teams, customer service is one of those domains and disciplines that I think a lot of people are forecasting will have a large amount of labor disruption associated with kind of the use of generative AI and generative AI practices.

And so I was there in a meeting just like this, talking to customer service leaders. And the question came up, like, okay, so does that mean that we’re going to have less people working in the service center? The reality is that what – for software companies and for software technologies like what Salesforce offers, it means the software actually gets more valuable because we can make the users of that domain more productive, more sort of intelligent around how they drive interactions and actually drive more scale that’s there.

So I think first off and the foremost, while there may be less labor employed, the value of the software actually gets more a premium value associated with that. Second horizon of that is, I think that we still cannot keep up with the demands of what consumers are generating in terms of brand expectations for sales, marketing service interactions. And so AI and an always-on kind of experience actually gives new ways to drive growth for companies like Salesforce because what we’re going to do is build technology that’s in an always running, always on manner, even when your employees are not at work. So I think that gives another kind of horizon.

And then last, when you think about sort of kind of value creation, what companies are actually looking today to companies like Salesforce for is help to drive growth or savings. And the opportunity to use the software to participate in the growth and savings of how the sort of business revolutionizes itself, I think just becomes another growth lever for a company like Salesforce. So I think our energy is very much at an all-time high. I think there’s a lot of excitement around the innovation in this category at large.

Bradley Sills

Wonderful. Great. And when you think about the defensive competitive mode, if you will that Salesforce has against potential LLMs taking on more of sales and service functions. What are those in your opinion?

Bill Patterson

Number one, it’s the data. That’s why I started there from an innovation kind of standpoint. Today, if you can go out to a large language model like ChatGPT and get a really great compelling sort of narrative written for you or a trip plan for you online. But what you don’t get is a personalized sort of response. You don’t get something tailored to you as an individual or to your needs or to your kind of unique circumstances.

And so first and foremost, the data that sits inside of the CRM system, not only about customer profile, customer history, but also around your policies as a business, your operational policies, the way in which you communicate in your brand and your sentiment or what you allow to happen in a regulatory environment that sits inside the CRM kind of core today. So the ability to combine the CRM data structure and do it in a safe and secure way along with this generative technology, it ultimately creates this incredible flywheel of innovation, but also a longevity of value for a platform like Salesforce to keep serving companies into the future with a more AI-first manner of how they interact with their customers.

Bradley Sills

Wonderful. And Marc, on the earnings call, last week, he alluded to some AI features coming with Slack and Tableau. Would love to get some color on that and what he was referring to?

Bill Patterson

Well, we do have an event next week. So I sort of will, don’t steal all that thunder that was coming. But really, I think around Tableau specifically, the way in which what has been so beautiful about use of large language models. And I think we’ve been really deeply inspired by is the way in which kind of users can interoperate with data or information has never been kind of more simple than it is today.

And so we really took a lot of inspiration from what we’ve seen around these use of large language models and now applying it to Tableau are really allowing sort of an information worker to be able to talk to data like never before and allowing the data that sits inside of a Tableau kind of visualization technology to really be queried and questioned and even asked more data to – more clarification to all in that conversational language. So that’s sort of on the Tableau side.

Slack is another opportunity for us and really it’s a gold mine of opportunity for enterprises because a lot of unstructured policy or unstructured decision or unstructured resolution to common problems actually sits in the Slack platform today. And so when you actually think about the opportunity to utilize a Slack GPT to summarize conversations going on across your organization or summarize kind of commonly maybe resolutions to big problems that occur, these are really where I think we can help bring organizations forward to work faster really with the combination of generative intelligence working alongside those platforms.

Bradley Sills

Great. And lately, we’re seeing Salesforce take on a much more open approach to data. Genie was launched last year at Dreamforce integration with AWS, SageMaker, Snowflake. Let’s just bring more data into Salesforce. How significant is that in kind of your road map towards data and AI?

Bill Patterson

Yes, we today announced a partnership with Google on Vertex AI as a good another testament to this validation of sort of opening up our platform and our ecosystem. The reality is, as you go into the enterprise or you travel around the world, the only thing that’s consistent when you work with the organizations of size and scale is they’re very diverse in terms of their technology landscape. And what makes it very difficult is, if you say, okay, in order to access only the Salesforce AI, you have to move all of your legacy investment over to this platform. That’s just not a reality for people. And so what we’ve done is really, really over the last, I’d say, five, 10 years, is start to open up the Salesforce platform for more diverse landscape of technology and also more deeper ecosystem partnerships with the likes of Amazon, Google, even Microsoft, really to think about ways to kind of remix this innovation together.

And again, what we want to do always is listen to our customers. Our customers have these kind of unique needs and the ability for us to sort of open up our technology so it fits into the environment that our customers have really kind of makes it even more enduring proposition for us.

Bradley Sills

Great. And then maybe we could touch on Einstein GPT. What data are feeding that? I think there’s open AI in there. There’s Salesforce own models in there. There’s third-party data sources. So that’s a lot. But it’s consuming potentially. So if you could just help us understand kind of data feeds from Einstein…

Bill Patterson

Yes, first off, as we looked at kind of in building on the last question you just asked around kind of a diverse technology landscape, when we approach the generative AI world, what we’ve realized is there will not be a future where kind of a one-size-fits-all model is going to be perfect for everything.

In fact, what we’ve seen now really in as sort of time has progressed is there are great models for general purpose needs, but there’s also now these industry-specific needs or vertical-specific or even customer-specific models that are starting to be created to really kind of even go further acute into the value that they provide.

And so what we built with Salesforce’s Einstein GPT technology is what we call a gateway to really access multiple models or the model of choice for a customer to really register alongside their customer data and customer intelligence activities. And so the foundation of what Einstein GPT is, is really an open gateway for people to participate in the CRM kind of use cases with the models that they’ve served.

And so we have great partnerships with OpenAI. We have great partnerships with Anthropic, Cohere, You.com, a whole ecosystem of providers really that specialize in different types of models can work with the Salesforce ecosystem. We also asked a question about our own models. We’re also building our own models for really generating workflow or business process, things that really comprise the enterprise application, we can make enterprise software easier through a lot of the models that we’ve created, and that’s definitely kind of on our horizon is to actually help companies just get more from the technology they have from us.

Bradley Sills

Wonderful. Why don’t we pivot to multi-cloud deals? It’s a

Bill Patterson

That’s a great pivot, by the way.

Bradley Sills

Yes. Since we went from AI, let’s just go to multi-cloud.

Bill Patterson

Yes. Multi-cloud.

Bradley Sills

It’s been an ongoing driver in the business. We’re seeing this trend where customers are committing to more clouds, both new and existing customers adding more. What are some of the combinations that you’re seeing resonate more, sales plus service plus marketing in the core three? Or are you starting to see some of these other solutions like Commerce and Tableau and Slack coming in increasingly onto that, yes, layering on top there?

Bill Patterson

Yes. I think increasingly so, organizations really care more about getting better business outcomes than they care necessarily about sort of the line of business department that enabled the outcome to happen. And so as a trend really originating from the Customer 360 strategy, it’s more companies that use more Salesforce software get better results because they actually can drive more cohesion around the way in which you market or sell or serve or digitally transact all from that one platform. And it allows organizations to save time, save money and actually work in a much more agile manner.

So definitely, the trend is for more organizations to combine more of these line of business sort of offerings together. But you’re also now starting to see with technologies like Slack and Tableau reaching into more user communities inside of an organization by bringing the power of our data to more information workers by bringing the power of engagement into more professionals.

And so I think that as sort of as your question was getting at, you’re going to see more multi-cloud. And in fact, maybe live in a future where they’re not even call multi-cloud. It’s just we really run more of the front-office computing platform for organizations because they’re all working now in service of customer, customer demand, customer needs and our technology just facilitates that opportunity to make that happen.

Bradley Sills

Wonderful. Thanks for that, Bill. Why don’t we go to industry clouds? 13 of them. Salesforce offers an out-of-the-box solution for a number of verticals. Which ones are you seeing traction in where is the incremental traction from here?

Bill Patterson

Yes. Well, first off, the strategy on industry computing is all about providing a clear and opinionated set of technology that builds upon the special uniqueness of how companies market or sell or serve or digitally transact kind of into the industries that they operate within. And the kind of transactions you do in banking are very different than transactions you do in healthcare or in retail consumer goods, for example.

And so our industry technology layer is about kind of going that last mile of time-to-value acceleration for companies to find a purpose-built or fit-for-purpose technology to really speak to their unique needs. And what we experienced with our industry cloud is a higher premium in terms of the value that we arrive at for users who use those clouds. We see a greatly accelerated time to value for companies who deploy those clouds.

And finally, when you think about this world of AI, we see even more acute and value-driven intelligence that we can keep because we have industry demand understanding really into the technology layer that’s there. The question you asked about what industry is kind of we’re seeing a lot of growth from – well, in our first quarter, you saw a lot of sort of kind of vulnerability around technology and financial services, just due to macro sort of environment situations. But you saw a lot of kind of resurgence around the retail consumer goods kind of area. Travel and hospitality starting to invest their way back to growth. And so those become the areas that we’re really excited about continuing down more of our industry strategy around Automotive is another good example, this whole kind of move towards electrification. A lot of companies doing that on the Salesforce platform, which is really cool.

Bradley Sills

That is very cool. Maybe back to AI. I mean, just if we kind of step back a little bit and you think about the opportunity to monetize AI, philosophically, how does the company think about AI? Is this – are these features that are embedded into the clouds the core offerings? Or are these different – these premium SKUs, where there’s added functionality here, how are you thinking about that?

Bill Patterson

Yes. When we talk about multi-cloud, we talked about the more companies that use more Salesforce software, they run better. When we talk about AI, the more AI that we can bring into the world of our users, the more productive and more sort of efficient or effective they can become in their jobs. And so our strategy for monetization on AI is really still emerging, but really starts to look at the following.

One, we want to bring AI to every information worker in the world. That’s very clear. Two, we want to use AI to drive a transformational way to engage with brands even in a self-service manner that maybe aren’t necessarily human-driven or human labor-driven kind of interactions. And then finally, I think AI is going to create even new value-driving opportunities like, hey, if I can become – if I can get a higher margin on these transactions than I do, maybe there’s a participatory economic model that actually can be arise there, sort of like our commerce business runs today.

So I think there are a lot of horizons of growth that AI sort of represents. We’re in such early innings of what this kind of world is starting to look like. But I feel very confident that it starts always with the foundation of bringing more AI into our applications because ultimately, we want to help our companies achieve more with the software that they use from us.

Bradley Sills

Absolutely. A big effort for the company is sales efficiency. And from your perspective, how is that effort? Where is the focus? There’s obviously go-to-market efficiencies, but there’s also product efficiencies in order to enable an efficient go-to-market product needs to be integrated. So to the extent you have visibility into kind of the go-to-market from your observation, where is the incremental effort there to drive that sales efficiency?

Bill Patterson

Yes. So in my role as a product leader inside the organization, I have deep accountability to helping ensure that our products find the right routes to market, find the right sort of sales blueprints to market as well as ensure that our products and our packaging are optimized for a sort of more lean and higher productive kind of selling force, if you will.

So the first and foremost, kind of from my vantage point, deep focus around product prioritization, deep focus on packaging simplicity and deep focusing on sort of pricing optimization. That’s sort of horizon one that we’ve been thinking about around sort of our restructuring opportunities and activities.

As you’ve kind of all seen, we also completed a relatively sizable meaningful restructuring to our go-to-market sort of organizations, which really was about less about sort of micro businesses and more about maximizing for the whole of the Customer 360 strategy. And so a lot of growth that we’ve seen with Salesforce over the past had come through acquisitions, had come through sort of areas where teams where maybe we’re operating kind of in an individualized basis.

What we’ve done is restructuring a way to really focus on the buyers and the roles that really matter most to our future. And that allows us to become more efficient, allows us to become more agile, allows us to actually deliver higher value for our customers because we’re focusing now on really taking Customer 360 to every industry as opposed to necessarily maybe some of the legacy businesses that we would have acquired.

Bradley Sills

Great. And if you could help us understand a little bit kind of what stage you are in that effort? Is this a multi-year effort? Obviously, the reduction, those aren’t easy I’m sure. But where kind of are you on that journey, if you will?

Bill Patterson

Yes. First off, any restructuring of size is difficult. So thank you for sort of recognizing that. And there are a lot of great people that kind of love their time at Salesforce. And obviously, we see them onto their next horizon there. But where we are, we’ve completed our initial restructuring around sort of the activities that we have. But we now are really – our energy is focused on higher performance, higher productivity, higher sort of efficiency within the organization that we’ve created. And that’s still an ongoing process that we’ve been working through. I think Marc has really brought back an incredible culture of performance into Salesforce. And I think that we’ll continue to optimize, especially as the new world of AI-driven CRM start to emerge.

Bradley Sills

Wonderful. We’ve got a couple more minutes here. Maybe just to and the conversation on the core business. Sales and service have been nice, steady growers. What’s driving that? I mean it’s been, when it’s…

Bill Patterson

I do manage those businesses. So I don’t want to say me.

Bradley Sills

Yes. I’m sure it’s all you. But yes – just curious to get your perspective. Normally, you see the core business lagging the overall growth rate of the – but in this case, that’s not

Bill Patterson

No. I think, well, first and foremost, that turns out, companies still want to drive growth. And they want to drive growth more efficiently, more durably and also with higher economic yield back to their shareholders. And so Sales Cloud, really, our original cloud has continued to outperform a lot of expectations because we now have really kind of expanded into new market categories, things like sales enablement, things like configure price quote technologies, things like higher revenue intelligence, pricing optimization, really to help companies continue to beat that growth from around their organization.

Same thing on service. I think service technologies today – the reality of the service centers, as I mentioned earlier, is it is – there’s way too much technology that is all bespoke in the service center that your poor customer service agent has to deal with to try and kind of perform a routine interaction. The inventor of Alt Tab actually never spend a day working in customer service because it just is not efficient for them to try and kind of manifest a clear and easy interaction that way. And yet, so service has the same opportunity to keep growing by making smart adjacency expansion around the technology landscape that we’re sort of providing to expand into higher units of productivity for customers that we serve. And so while kind of these two little engines that could keep growing, it’s because customers need our help really to keep growing and thriving in this area of where they find themselves in the lifespan of our relationship.

Bradley Sills

Wonderful. Well, Bill, on that, we’re going to end it. This is a great discussion. Thanks for coming. Great to have you here.

Bill Patterson

Thank you so much. I appreciate it.

Vivek Arya

Welcome to this session. Really delighted to have the team from Applied Materials, Senior Vice President and CFO, Brice Hill joining us this afternoon. I’ll go through a list of my questions. But if you have anything you’d like to bring up, please feel free to raise your hand. And I’ll be sure to get you in.

Brice Hill

Thanks for hosting, Vivek.

Question-and-Answer Session

Q – Vivek Arya

Welcome, Brice. Really happy to have you here. So, maybe let’s start at the top. Maybe give us a State of the Union, what’s going well, what’s different than what your assumptions were at the start of the year?

Brice Hill

Well, I see a lot of familiar faces. So, maybe people know some of the story already. But this year for Applied, it really emphasized the strength of a broad portfolio for the Company. So, people have known our services business in the past, helps give us breadth, our wide portfolio selling to both memory segments, selling the leading logic. The other thing that’s been driving this year is our exposure to what we call the ICAPS business. So the mature process technologies that power IoT, communications, auto, power, sensors. And that business has been so strong this year that it’s been able to help the company offset the weakness we’ve seen in the memory market and the leading logic market.

So, when we think about the dynamics, even looking forward, we expect that ICAPS business to still be strong and we can talk more about that. It’s a global phenomenon. A lot of people have asked us whether it’s just a China customer phenomenon. It’s global, it’s public companies that are having to invest in technologies. There’s multiple geographies that are growing faster than China.

So that business we feel has real durability and it matches to underlying demand trends in the market that we think are stable and long-term. But that’s been the story of the year, Vivek. It’s really since there is a good portfolio coverage across broad markets, where we’ve had weakness we’ve seen some offsetting strength and that’s been good for the Company.

Vivek Arya

Makes sense. One thing on just this one metric that we all kind of relate to Wafer Fab Equipment, WFE. Some of your peers have given very specific numerical, I guess, kind of a range, one said low-70s, one said kind of mid-70s. Applied has been hesitant in giving a specific point estimate. What is the reason for that?

Brice Hill

Yes. I think there’s two dynamics that make our business this year look different than any of the peers. I mean, every company has a different perspective on the market. But for us, the strength in ICAPS may have been different from other companies are seeing, as the Company four years ago set up that division has been sort of focused in selling into those markets.

The second thing is, it’s sort of bad news, good news. The bad news is we’re still trying to catch up to orders from last year. And so, we’ve had the tailwind this year, if you will, is still servicing business, because our catching up the supply chain, where we had orders for last year. So, those two things sort of distort what we’re seeing as revenue for the year versus maybe what other people are seeing. So, the strength of ICAPS and the tailwinds of last year’s business.

If you annualize our first half, I think you’ll get something in the high-80s. We’re not saying that’s representative of what the market is. You kind of have to sort out those impacts. And, so we haven’t sorted that out. And when we think about the full year, and even into next year, we feel ICAPS will continue to be strong. We feel display will get better. We feel the services business will continue to grow. What we can’t really call is leading logic and memory, because that’s more exposed to macro factors and inventory digestion in those markets. So, we just haven’t put a number on it.

Vivek Arya

Got it. So, you mentioned ICAPS a few times, right? That’s certainly a very important part of Applied’s portfolio. Talk to us about what makes your portfolio more unique? Is it just that as a percentage of sales it’s a higher mix, or is it something more unique to your portfolio versus — because many people sell right trailing edge tools. So, what’s so special about Applied’s portfolio?

Brice Hill

Well, I think for the Company, they started the business group four years ago, ICAPS, and we’ve invented more than 20 tools, new tools in the space in the course of those four years. So, I don’t know if there’s anything that’s uniquely beneficial for Applied, other than focus. We’ve been focused on the market, we have focused sales teams. We have focused development plans across the different business units. And that’s allowed us to, A, understand that this market should be growing and B, develop solutions, specifically for the market. And we do think it’s accretive for us on a share perspective, as that market grows.

Vivek Arya

Got it. Now, this is also the place where you’re capturing the need of the market extremely well, because these were the places where there were the most shortages. But how are you making sure that there is the right level of utilization of these tools that some customers are not just buying and holding them and not actually putting them in use? Because I’ve heard of some scattered examples where, they ordered tool, because there were shortages. Now they have them, but they just haven’t put them in operation yet.

Brice Hill

So, that’s a good question, and we’ve had the question, are customers warehousing those tools, are they preordering them too far in advance. And what I can tell you is because we differ the install revenue for those tools and then we help with install, we track that for our equipment. And we do not see that across our tool set. We see it being installed in a reasonable amount of time. And we’re not aware of any pools of equipment or warehousing of equipment that isn’t being utilized.

Vivek, one thing that we think — and this is more intuitive than data, but we think that the equipment being installed in China is likely operating at a lower yield. It takes a while to get up to world class foundry yields for anybody that’s putting in new process technology. So, we think part of what’s happening is, there’s a long list of customers in China, in some cases, they’re new to the business, it’s going to take a while for them to get those yields up to world class levels. And so, there’s probably some inefficiencies there in the equipment base. But going back, we don’t see the hoarding or inventory of the equipment.

Vivek Arya

That’s a very good point that you can track, right, to as much real time as possible.

Brice Hill

We do.

Vivek Arya

Do you have the same install kind of attach in China also, or is it only in the west that you have the same…

Brice Hill

No. We have the same.

Vivek Arya

So, you have the same insight?

Brice Hill

Same insight. Correct.

Vivek Arya

Okay. That makes no sense. And then the second part of ICAPS you mentioned is that you see this trend as being sustainable, right, over the next few years. So, what are kind of the leading indicators, what what’s giving you the confidence that it can sustain/ Because this is one of the biggest push backs, right, against this part of the business.

Brice Hill

Well, this is one part we’re not surprised. We were surprised by the magnitude last year and this year, but we’re not surprised by the trend. Because we think power — I think, one of our estimates is by — if we have a $1 trillion market in 2030, we think 9% or 10% of the semiconductor chips are going to be powered chips. So, that’s a significant market. Electric vehicles, electrification in general, green power solutions, all of these, plus analog, plus the build out of IoT, which in a lot of cases is video sensors and video processors, that’s one of the largest runners, we understand how those are being deployed. We see the end markets growing. We know from public company documentation of why they’re building factories and why they’re investing. Basically, all those things fit together for us. So, we do not think — can always be surprised, but we do not think what we see in ‘22 and ‘23 is a cliff of some sort and unrepresentative of the end market.

Vivek Arya

So, you would not be surprised to see the trailing edge market opportunity grow next year?

Brice Hill

Next year is a question, we’ve said we think it’s stable, because it’s grown a lot the last two years. So, what we’ve said is relatively stable next year, in terms of it’s still that size. But if you stretch that horizon out to 10 years, all of the device types that we just talked about and that are in the ICAPS space, the forecasted CAGRs for those device types are 6%, 7%, 8%, 9%, depending on the device type, by third-party estimates. And what’s happened is, the reality is there’s just no longer, companies have run out of brownfield space that they’ve had that’s been expandable. They’ve run out of used equipment to buy, so they’re having to put new equipment in place to serve greater and greater demand as that semi demand continues to grow.

And we think, where does that money come from. Because you can have semiconductor business grow faster than GDP forever, but we still think is providing productivity. And so it’s shifting real resources from other areas to semiconductors.

Vivek Arya

Got it. One thing you mentioned on the last call was some push-outs on the leading edge side. And then a few days later we saw, right, a large foundry mention that CapEx would be at the lower. So from that perspective, I guess, it wasn’t that big of a surprise, right, because you have already kind of baked that in. But given all the excitement around AI, do you think that leading edge from this point onwards is a little more sustainable, or you still think that AI is a lot more hype and it’s as accretive to the business in the near to medium term?

Brice Hill

Well, we definitely think it’s a tailwind, for sure. I was recounting with a few people here today. I mean, it’s come upon the consciousness pretty recently. I think it was February, Meta put out their model, and then March, the OpenAI announcement was made. And then there’s been tons of innovation and experimentation since then. So, I think the industry is still digesting what is this going to mean from a system perspective, from the individual chips that scale into these systems. But we absolutely think it’s a complex workload, it runs on leading edge, it’ll drive cloud and data center. It’ll drive new solutions in terms of accelerators and GPUs and CPUs. There’ll be a lot of innovation to optimize these workloads. So it’s a positive. As far as you know, what’s the net effect over a long period of time, it’s hard to say, because it’s a positive by itself, but it also adds a lot of productivity to semiconductors. And so, in a good way, it can help make semiconductors more efficient and more productive, and basically improve the benefit and lower the cost of semiconductors, if that makes sense.

Vivek Arya

Got it. No, absolutely. We had the team from Synopsis and Cadence yesterday, and I think they kind of — they made the same point that — but does it mean that money gets taken out of the WFE by — and goes more into the upfront design side, because it’s more effective to do it there or it’s too early…?

Brice Hill

It’s a good question. It’s way too early to call. And so, then the question would be, well, if you make the — by definition, if you make the leading edge semis and cloud more efficient and more productive, then do you use more of it or less? I don’t know the answer to that. But I just — I think we have to be cognizant that it’s doing both things. And I would just say it’s exciting. It’ll be a whole new path of innovation. I sort of believe in some of the end user models where you’re going to get — we’re personally going to get more productivity from some of these solutions. And so, you’ll be willing to pay more for the software that includes those things. So, I think it’ll be a real driver. And then, whether we eventually change our $1 trillion into 2030, up or down, I don’t know.

Vivek Arya

On the memory side, that’s been the real, I think, problem area for your customers this year. What’s the visibility right now in terms of when memory utilization can start to improve? You think that’s even possible in ’23, or one should defer that to ‘24?

Brice Hill

Well, it’s certainly possible in ‘23. Since we work with memory customers, we track utilization, we track inventory levels, we track prices, as they — spot market prices and other things. And one thing we would say is looking back into our last quarter that we just reported, all those trends are still moving in the wrong direction. So, if we’re at the bottom or if it’s turning, at least it wasn’t turning last month. We didn’t see that yet.

Now, having said that, we said in our earnings call, when we look forward multiple years and we think about the WFE market, we think the WFE market will be two-thirds foundry and logic and one-third memory. And it’s less than that right now. So by definition, we do think memory should come back up to get into balance with foundry and logic. And we do think what will drive that even in the medium-term is company’s customers will continue to upgrade their nodes in order to get the bit growth that’s required.

One of the things we recently looked at is just the wafer starts across memory over the last number of years, say five to seven years. Wafer starts have increased at a very low rate, maybe 1% or 2% per year. So the way there’s more bit growth is those companies upgrade their processes, the processes deliver more bit density and that’s what provides enough bits in order to service the increasing — the ever-increasing demand. And so, then you say, well, if they don’t need any wafer starts, then what is Applied doing? Well, what — the way they’re getting that bit growth is they’re upgrading their process technologies to the next node. And that does take a reasonable amount of capital investment and equipment investment to make those upgrades.

So, we think actually, that dynamic has been in play for a number of years. And so, we’re expecting — I guess, at the end of the day, we’re expecting that market to improve. Calling the moment, it’s hard to call the moment.

Vivek Arya

What’s historically been the nature of the memory industry? Does it give enough of an early warning? Like, let’s say conceptually, if it were to turn, three months from now, would you know it now, or you find out that, oh, it’s just going to turn up in the next month? Like, does it give you that kind of early…?

Brice Hill

I personally don’t think so. And I don’t have as much exposure to memory as I do to logic. But I — what I do know is the people in a company that are thinking about building factories and buying equipment, they have a two to three to four year horizon in making those decisions. You — of course, it’s a factor what your current utilization is and what your current market is, but you really have to be looking down the road. And so I think it’s relevant but it’s not definitive as to how they’re going to make their equipment purchase decisions.

Vivek Arya

And just the last one on memory DRAM versus NAND, do you see any differences? Because you’re more indexed to DRAM, which, by the way, has better correlation with AI and compute, than NAND does.

Brice Hill

I guess, I would say, no. I just looked at the pricing curves, I just looked at the utilization. It’s hard to point — in fact, the only difference that I can talk about or recognize is that the NAND market seems to be much more depressed than DRAM. And so, I don’t really understand that. I don’t think there’s a system architecture change or something that’s really driven out. So, it must be unique to the business in terms of inventory or something that happened. So, we would expect it to improve and get back into balance, but hard to call the time.

Vivek Arya

Understood. Applied also got approvals to ship incrementally more to China. Can you give us more color on what those approvals were for? And, importantly, is this now the new baseline of that China engagement? So whatever China WFE is, you can then grow with that, or are these like one-off type of rules?

Brice Hill

Okay. So, there’s been a clarification on what process you’re allowed to ship to in terms of DRAM. And that’s really what that changes. And so, we should have some business in the second half of the year that has been held up. So, like I talked about, in the first half of the year for us, we had 22 orders that we’re still trying to ship and catch up to. This will sort of, I think, be the last part of this where we had some DRAM business that we couldn’t ship that now we’ll be able to ship. It’ll take us, again, a little time to catch up to that. But that’s a clarification.

Then, as far as the overall process with rules, we have a number of licenses pending, we have a number of places where we’re working to clarify specific factories or specific companies, whether we can ship to them. So, I think this is an ongoing process with the government. When we started the year, we said there was a $2.5 billion impact to Applied from the change in trade rules in October. We’ve probably got that down to a $1.5 billion now by clearing customers and putting — taking them off the block list, if you will. We do that by our own diligence. We get assurance letters from the customers. We compare notes with our peers. We share that information with the government. So, it’s a whole process to get there. But there’s been a lot of action and a lot of improvements since it started. But I would say it’s still work to do.

Vivek Arya

Now, backlog levels are still quite elevated, right, for Applied and some of your peers as well. What’s driving this behavior? Because I would have assumed that your lead times would have come down as there’s been this push and pull in demand. So, what’s keeping backlog levels still quite elevated?

Brice Hill

Well, I think it’s really important to separate those two things. So lead times have come down. I think if customers call us now, for most of our business units and ask us to order a tool fast, then we’ve got a shorter lead time, it’s almost back to normal from that perspective. So that’s a good thing. And we expected that, because of that, when we were talking last quarter and the quarter before, we expected our backlog to come down based on that dynamic. It really hasn’t come down, it’s remained elevated. And so, what’s happening is, customers are giving us a longer view of their demand than they gave before. So, we have visibility and we have orders that are extending longer in time period, up to two years in some cases. So, it’s kind of a declining order pattern, if you will, as you roll forward each quarter visibility into that.

And we think it’s just — I don’t know, if that’s permanent, it’s probably a consequence of when we were constrained. It would — customers were concerned whether they were going to be able to get their equipment shipped to them. And so, that is sort of leaked over into now. So, it’s still elevated. It’s one of the reasons we don’t provide it in our calls. We don’t think that the backlog is the best indicator of the next quarter or the next business. We’ll report it at the end of the year, you’ll see the number but it’s just still elevated.

Vivek Arya

Applied Global Services, right, I think you — the last I recall, you mentioned that you still expect that to grow this year? That has a 200 millimeter tools part, right, and then what is — what one would describe as more kind of services and spares in support of tools? So, are both those growing year-on-year, or is it one growing…?

Brice Hill

Well, the services business, we removed a significant amount of that business, because of the China trade rule change in October. So, we said $400 million came out of that business by tools that were actually taken offline, that we can’t serve us anymore, and then we can’t sell spares et cetera into that. So I think under the covers, for sure the 200 millimeter business has grown year-over-year and it’s grown pretty significantly year-over-year, I think the services business is just short of growth year-over-year. Together its year-over-year growth as a whole. And then, now as we move forward, we’ll expect the services business to move into year-over-year growth. So, basically, it’s overcome the removal, its growth has overcome the removal of that business, and the fact that we’ve been able to clear some of those customers and get them off the block list has also helped cure some of that situation. But in general, what I would just say for people that aren’t that close to the services business, it runs — its driver is the installed base. So, every day we ship a tool, even if we’re having a down quarter in semi, every day we ship a tool, it grows the installed base. We have an opportunity to sell spares and subscription agreements against those tools, offer insights as to how that customer can get it at high yields. So that drives on a different driver, if you will, then the equipment WFE.

And when we raised our dividend, just this cycle, we raised, the Board approved a 23% dividend increase. One of the things we were thinking about back was our services business is much more stable growth than the WFE because of that dynamic because the installed base is constantly growing. And so, we said, you know what, that can afford the entire dividend. Not only that, we could probably double the dividend over a period of years, which is our intent. And so, we kind of looked at it that way. And then, the WFE business is a little bit more volatile. So we said that will be primarily a buyback return model.

We didn’t tie them mathematically that way. But that’s conceptually how we’re thinking about it. And so, that services business is a really good anchor for the Company from a stability and profit returns.

Vivek Arya

No, I’m glad you brought that up. Very strong dividend announcement. I think it’ll help to kind of walk through why, because that’s even a faster growth than dividend growth, than I assume what your services business is going at?

Brice Hill

That’s right. We got a lot of feedback that some investors couldn’t invest in Applied because the dividend was lower than a certain level. And so — and we think with that services business and the solidity of it, that we should have a larger dividend for it. So, we try to — moving those things into alignment.

Vivek Arya

Are you targeting a certain yield or certain range of yield…?

Brice Hill

We haven’t said that. But I would just say — what we said is, we should — it’s an intent, barring any unforeseen circumstances. But we should do three more increases, at least in a similar range and get us to doubling the previous dividend that we add. And then, we’ll — other information will come later.

Vivek Arya

Three more on a monthly basis or…?

Brice Hill

No, no, no. Each year, each year. Yes.

Vivek Arya

Then on gross margins, 46 to 47, they have actually been better than, right, some of your peers. So what’s helped maintain the gross margin? Is it something in the mix? And then what takes you to the target of 48.5?

Brice Hill

So first thing is, we had a glide path — or I shouldn’t say it a glide path. We had a path to find to 48, 48.5. We’ve got hundreds of engineers working on cost improvements, for the things that we can control on the supply chain. We expect in some of our inflators, like chip price premiums, like expedite fees, because the supply chain challenges, those sorts of things, we expected them to recede.

And then we’re — for the things that we couldn’t drive back, permanent inflation, if you will, those are the things we’re working on price adjustments on our products for to sort of share that with the customers. And those things all take time, the engineering programs, if you will, it takes time to design a new solution, then it takes time to qualify that solution with a customer. So that takes some time to do the price increases, that takes some time, and then actually to just beat back the inflation that can be beat back. So those three elements are kind of what I would focus on.

And then when we lost that China business, that China business was accretive. So that put us basically 100 basis points behind where we thought we were right. Now some of that has come back, which has helped us sort of be ahead of where we thought we would be. But if you’re modeling that, I think it’s going to be a slow improvement where that’s still our target 48 to 48.5 in the medium term. We think we can get there. It’s going to be reengineering products and it’s going to be price adjustments as we go.

Vivek Arya

And then Applied announces really interesting tool earlier, the Sculpta, pattern shaping tool. Can you give us an update on the traction with customers, so that there is one early adopter customer? When you see the largest foundries kind of adopt it also?

Brice Hill

So, we are shipping that tool for revenue. We do expect it to be at least $1 billion product for Applied. We think it’ll be in the years that it ships, in the next few years, we think it’ll be hundreds of millions. That’s what we said. So that’s really all the detail that we can offer. And for people that may not know, that is a tool that offers a litho like solution. And it can be an alternative for customers to define specific design shapes in a product. And so, a customer could literally decide whether using that tool or using EUV layer is the best solution for them. And so if they decide that they can use the Sculpta tool, then they can save a significant amount of money from not using an EUV tool on that particular layer. So, it’s a cost advantage. And it’s designed to give — and its effect on the transistor design, it’s designed to give exactly the same output or result that EUV tool would, at least for that part of the project.

Vivek Arya

Can Applied achieve those kinds of growth targets, if the largest foundry is not yet involved in the tool?

Brice Hill

It’s a good question. I don’t think we’ve provided information. What we have said is we expect all of the customers to look at that as an opportunity and evaluate it. So, that’s as much as we’ve said.

Vivek Arya

Then on the chip side, it wasn’t interesting that — Gary mentioned that when you look at the overall benefit, right, it’s going to be somewhat more modest than I think many, which I think is like the practical view. So, it would help to understand how Applied came out with some of those assumptions. Because when we look at the large customers announcing tens to hundreds of billions of project, why won’t a lot more of that flow through into WFE?

Brice Hill

Good. We think it’s location, it’s — so our internal estimates are that those CHIPS Act monies and all the monies across the world, $400 billion right now of subsidies, they’re really deciding the location that customers will put their factories. We don’t think anybody’s going to build a factory like in advance, or just in case. We just think that if they had it on the roadmap, instead of building it in place A, they’ll build it in place B and take advantage of some of the subsidies. We do think the fact that there’s 3% to 7% of sort of lost economies of scale, because it’s in a different location than they wanted to put it. So, there will be certain types of equipment where they’ll have to have — they won’t be at a perfect matched set, and they’ll need to have an extra tool. And we think that will drive some uplift, but not significant.

A place that’s slightly different where we could see some benefits is on the services side. To the extent that companies are putting factories in places that they’re not familiar with, or they don’t have an established workforce, they’re more likely to look at Applied services and have us help with getting the tools up to yield and help with all the transactional activities to keep that equipment running.

Vivek Arya

And then lastly, Brice, Applied has also announced R&D centers, materials innovation centers. How will they start to impact? I assume it’s — these are longer term investments. But can you take advantage of some of the other provisions of the CHIPS Act, whether it’s on the investment tax credit side or other grant side?

Brice Hill

Absolutely. Thanks for bringing that up. It’s a big investment for the Company, that EPIC design center. We had a lot of customers with us at that announcement. It’s designed to accelerate development activity across the ecosystem. And so customers that previously might wait to get a tool from us before they have access to it and before they can experiment, now they’ll be able to be in the facility with us getting access to the tool and collaborating faster than what we would normally do. And so, that’s why there’s so much excitement about it. The numbers that we quoted, $3 billion to $4 billion, those are gross numbers. We will be applying for CHIPS Act funding. You saw the Vice President at the event. We think we’re very much aligned with what the government has in mind for CHIPS Act funding. So, we’re going to go through that process. And we expect to be able to get some benefits from that process.

And the other thing I would say is, from investor perspective, it will be a couple of years before you see any impact on the P&L. It’s a capital project, it’ll be capitalized as we go, and it won’t start depreciating until we put it into commission. So, it’ll be a while before you see that impact. Other than the CapEx, whatever we end up with as net CapEx that’ll, of course, be our investment. But the Company has grown a lot. If you look at our CapEx versus depreciation the last 10 years, you’ll see that — I think depreciation might actually be a little bit higher than the CapEx. And so, it’s time we have to expand our lab space, we have to modernize some of it. So this is going to be a great investment for the Company and I think it will set us up for the next 20 years of growth.

Vivek Arya

Makes sense. Perfect. Thank you so much, Brice. Really appreciate your time. Thanks.

Brice Hill

Thank you. Very nice. I appreciate it. Thank you.