Corning on the Cutting Edge

Corning (NYSE: GLW  ) is a $30 billion firm with 150 years of history, including supplying the glass for Thomas Edison's lightbulb. Originally known as Corning Glass Works (that's where the ticker symbol comes from), today it operates in four segments: display technologies, environmental technologies, telecommunications, and life sciences. As you'll read below, the fastest-growing area is display technologies, the division that manufactures the glass substrates used in LCD televisions. Its main competitors are large conglomerates such as 3M (NYSE: MMM  ) and Tyco (NYSE: TYC  ) , although many smaller companies compete with the individual segments.

Rich Smith: Yahoo! Finance considers your company to be part of the "Communication Equipment" industry. But Corning also produces the really thin glass used in manufacturing flat-panel televisions. In your view, what will Wall Street consider Corning in five years -- a telecom equipment maker or a TV parts supplier?

Corning CEO Wendell Weeks: Actually, Corning has never been an easy company to categorize. Even during the explosive growth of our telecommunications business in the late 1990s, we were about more than communications equipment. While display is our fastest-growing and most significant segment today, we are not narrowly defined as a TV parts supplier.

Simply put, Corning is a diversified technology company with a unique history of innovation. We combine our materials and process expertise to solve difficult systems problems for customers. We develop unique products -- keystone components -- that enable new complex systems. We don't play in one market or industry. We invent technologies such as optical fiber, which revolutionized telecommunications networks. We invented and perfected the glass-fusion manufacturing process that enabled our leading position in the production of liquid crystal display glass substrates for desktop monitors, laptop computers, PDAs, and now, flat-screen televisions. We invented the ceramic substrate that is the centerpiece of emissions control systems on gasoline-powered automobiles and diesel engines, and we are heavily involved in the life sciences field. So, Corning doesn't fit neatly into Wall Street's industry categories.

RS: Clarify something for us. Flat-panel TVs currently come in several forms, with the most popular being plasmas and LCD. Does Corning make the glass used in both, or just in LCD flat-panel TVs?

WW: Corning manufactures the glass for LCD panels. Recently, LCD monitors surpassed the 50% penetration threshold for desktop monitors and it is the glass technology used in all laptop computers. LCD technology is just beginning in entertainment TV and should capture about 10% of the global television market this year. We believe it will be the technology of choice for TVs in the future, growing to about 21% of the more than 200 million televisions sold annually by 2007.

RS: Many industry watchers think there is a capacity glut building among the producers of panels used in flat-panel TVs. Assume for the sake of argument that they're correct and that the panel makers and the TV makers will continue losing pricing power as supply outpaces demand -- how might this affect Corning's business?

WW: We watch the retail market very closely and we plan our capacity expansions in line with our view of market growth, rather than simply responding to our customers' individual expansion plans. If we see evidence of an emerging supply/demand imbalance, we will adjust our expansion plans accordingly. That said, the market data we have today indicates that the fledgling LCD TV market will continue to grow rapidly for the next several years. LCD TVs represented only 5% of the global television market in 2004. We expect this penetration rate to double to 10% this year and grow to more than 21% by 2007. Another important market trend is the increasing size of LCD TV screens, driving significantly more glass demand for the industry. The overwhelming majority of our new capacity is for larger generation size glass substrates to meet the growing demand for LCD TVs. If this market does not grow as rapidly as forecasted, we will slow the pace of our manufacturing expansions to match the market. Our manufacturing facilities are modular and our expansion cycle is shorter than our customers'. It only takes us six months or so to add more glass-melting tanks if required to meet an increased market demand.

RS: On the plus side, overcapacity seems to be driving down the cost of -- and increasing the demand for -- larger flat-panel TVs. Prices at retailers such as Best Buy (NYSE: BBY  ) and Circuit City (NYSE: CC  ) are rapidly approaching the psychological $1,000 barrier, with online discounts from Amazon.com (Nasdaq: AMZN  ) and Overstock.com (Nasdaq: OSTK  ) adding fuel to the fire. How do Corning's investments in factories capable of building larger "mother glass" sheets position it to capitalize on this trend?

WW: We have been adding capacity for the past several years and we plan to continue investing in capacity to meet the growing demand for larger-size LCD glass substrates. We currently are manufacturing generation six and seven size substrates and are in the development phase for generation eight. These larger panels are used almost exclusively to meet the expanding needs of the LCD TV market. We are the only LCD manufacturer today that has been able to consistently deliver commercial quantities of high-quality glass at these larger generation sizes, which provide significant economies of scale for our customers. Our manufacturing and technology innovations, therefore, are helping to enable the retail price declines required to drive market growth. We also realize that as a technology innovator, we must constantly improve our manufacturing efficiency in order to maintain our margins as prices decline. We also believe that our consistent quality and ability to be first to market with the larger generation sizes enables us to maintain and expand our market share.

RS: How have your competitors been reacting to these same trends?

WW: Well, I can't speak for our competitors, but we believe that Corning has the world's most efficient manufacturing process for LCD glass substrates. Also, we have been first to market with all of the larger generation sizes and we remain the only supplier of commercial quantities of generation seven substrates.

RS: Your gross margins have been increasing for a couple years now, if not always sequentially, then at least as compared to their year-ago equivalents.Is that more a function of your raw materials costs declining, or your gaining pricing power?

WW: We are focused on cost and operating excellence across all of our businesses and this has contributed significantly to our gross margin improvements. As a technology innovator, we understand that price declines are an important factor in technology substitution curves. Our manufacturing strategy is to strive for continuous improvement and cost reduction such that our efficiency gains more than offset year-over-year pricing declines.

RS: Expenditures on research and development have risen in absolute terms in recent quarters, but are declining as a percentage of total revenues. Considering Corning's history of innovation, its pioneering of new products only to pioneer even newer products when margins contract in the old, why isn't your R&D spending keeping pace with revenue growth?

WW: Actually our total R&D spending is keeping pace with our revenue growth. We are committed to spending about 10% of our total revenues on research, development, and engineering. We must invest in the future in order to grow through global innovation and create a sustainable stream of earnings from new products and processes.

Stay tuned for part 2 of Rich's discussion with Corning CEO Wendell Weeks on Monday.

Overstock is aMotley Fool Rule Breakersselection. To find out more about companies that are shaking up their industries, take a free, 30-day trial and get all of David Gardner's past and present picks.

Fool contributor Rich Smith does not own shares in any company mentioned. 3M is an Inside Value recommendation; Best Buy and Amazon are Stock Advisor picks. The Motley Fool has a disclosure policy.


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