Flex Ltd. (formerly Flextronics International Ltd.) — FY2016 Form 10-K
Reporting period: Fiscal year ended March 31, 2016; the filing also provides unaudited fourth-quarter results. The request metadata says “2015 Q4,” but this filing covers FY2016. Amounts below are U.S. dollars.
Business context
Flex provides product design, engineering, manufacturing, supply-chain, logistics and after-market services to OEMs. Its four segments are Communications & Enterprise Compute (CEC), Consumer Technologies Group (CTG), Industrial & Emerging Industries (IEI), and High Reliability Solutions (HRS). Operations span more than 100 facilities in approximately 30 countries. Management described a strategic shift toward longer-life-cycle, higher-margin HRS and IEI businesses.
Financial performance and liquidity
| Metric | FY2016 | FY2015 |
|---|---|---|
| Net sales | $24.419 billion | $26.148 billion |
| Gross profit / gross margin | $1.608 billion / 6.6% | $1.545 billion / 5.9% |
| Net income / diluted EPS | $444.1 million / $0.79 | $600.8 million / $1.02 |
| Cash from operations | $1.136 billion | $794.0 million |
| Free cash flow* | $639.5 million | $554.3 million |
| Cash and cash equivalents at year-end | $1.608 billion | $1.628 billion |
| Long-term debt, excluding current portion | $2.709 billion | $2.026 billion |
| Working capital | $1.743 billion | $1.986 billion |
*Company-defined measure: operating cash flow less net purchases of property and equipment.
- Sales fell 6.6%, while gross profit rose 4.1% and gross margin expanded 70 basis points. Net income declined 26.1%.
- Net sales by segment: CEC $8.842 billion; CTG $6.998 billion; IEI $4.681 billion; HRS $3.899 billion. Segment operating margins were 3.0%, 2.3%, 3.4%, and 7.6%, respectively.
- CTG sales fell 21.7%, primarily on lower demand from the largest mobile customer; CEC declined 3.8%, mainly in server and storage. HRS grew 9.6% and IEI 5.0%, with acquisitions contributing to growth and margin improvement.
- Year-end debt was approximately $2.8 billion including current maturities; cash was $1.6 billion. The $1.5 billion revolving facility had no balance outstanding, and the company reported compliance with debt covenants. More than half of cash was held by foreign subsidiaries; approximately $916 million of foreign earnings was considered indefinitely reinvested.
- Operating cash flow improved from the prior year, while investing outflows rose to $1.396 billion, principally reflecting acquisitions and $510.6 million of gross capital expenditures. The company repurchased approximately $420 million of shares during FY2016.
- Fourth-quarter FY2016 sales were $5.773 billion, gross profit $406.3 million, and net income $61.3 million, compared with $5.952 billion, $378.8 million, and $135.1 million, respectively, in fourth-quarter FY2015.
Material changes, outlook and risks
- FY2016 included 11 acquisitions; notable transactions were MCi for approximately $555 million net of cash acquired, NEXTracker for approximately $241 million net cash consideration plus contingent consideration, and an Alcatel-Lucent optical transport facility for approximately $67.5 million. Acquisitions increased goodwill and intangible assets and contributed to higher amortization and expenses.
- Profit was pressured by higher stock-based compensation, acquisition-related costs, increased research and design spending, and a $61.0 million SunEdison receivable provision. A separate distressed customer receivable charge of $10.5 million was also recorded. SunEdison filed for bankruptcy on April 21, 2016, after the fiscal year-end; management said further charges could arise if relevant facts change.
- Other unusual FY2016 items included a $26.8 million loss on disposition of a Western European facility and a $21.8 million impairment of a non-core investment. There were no material restructuring activities in FY2016 or FY2015.
- Management said existing cash, expected operating cash flows and available borrowing capacity should fund operations for at least 12 months. No quantified revenue or earnings guidance is provided in the supplied filing text.
- Management expects adoption of new revenue-recognition guidance in FY2019 to change manufacturing revenue recognition from point-in-time to over-time and to have a material effect on the consolidated financial statements. New lease guidance is expected to materially affect the balance sheet when adopted.
- Key risks include customer concentration and order volatility, short product cycles and seasonality, competition, dependence on the largest mobile customer, component availability, customer credit exposure, acquisition integration and execution, foreign exchange and international operations, debt and interest-rate exposure, taxes, environmental obligations, product liability, intellectual-property disputes, cybersecurity, and litigation. The ten largest customers generated approximately 46% of sales; one customer exceeded 10%.
- Two Brazilian tax assessments remain contested: one alleged sales/import tax assessment of about $13.8 million plus interest, and another assessment of approximately $100 million related to income and social-contribution taxes, interest and penalties. The company disputes both; it could not reasonably estimate a loss range for the former and considered losses remote for the latter.
- The company has never paid cash dividends and reported no plan to pay dividends in FY2017. Deloitte issued unqualified opinions on the financial statements and internal control over financial reporting; the controls assessment excluded eight FY2016 acquisitions, which represented 5% of assets and 3% of sales.
Important facts for investors to verify
- Whether the improved gross margin and HRS/IEI growth can offset continuing CTG and CEC sales declines, particularly after the largest mobile customer’s demand contraction.
- The recoverability of SunEdison and other customer receivables, and whether additional bankruptcy-related charges or working-capital needs arise.
- Acquisition performance, contingent consideration, integration costs, and whether acquired businesses deliver the expected margins and cash returns.
- Debt maturities, refinancing needs, covenant headroom, and the availability and ongoing economics of receivables-sale programs; $1.2 billion of receivables sold remained outstanding at year-end.
- The assumptions behind the very low 2.3% FY2016 effective tax rate, tax incentives and tax-loss asset realizability, as well as the status of disputed tax assessments.
- The effect and timing of future accounting-standard adoption, particularly the expected material revenue-recognition change and balance-sheet impact of lease accounting.