Fabrinet — Form 10-Q Summary
Reporting period: First quarter of fiscal 2016, the three months ended September 25, 2015 (13 weeks). The filing compares results with the three months ended September 26, 2014. Amounts below are U.S. dollars.
Business context
Fabrinet provides advanced optical, electro-mechanical, and electronic manufacturing services, primarily for low-volume, high-mix products. Its end markets include optical communications, industrial lasers, medical devices, automotive, and sensors. It reports one operating segment; virtually all revenue is produced at facilities in Asia-Pacific.
Financial results
| Metric | Q1 FY2016 | Prior-year quarter |
|---|---|---|
| Revenue | $216.4 million | $189.3 million |
| Gross profit / margin | $26.0 million / 12.0% | $20.5 million / 10.8% |
| Operating income / margin | $13.2 million / 6.1% | $11.8 million / 6.2% |
| Foreign exchange loss, net | $10.5 million | $0.1 million |
| Income before taxes | $2.9 million | $12.0 million |
| Net income / net margin | $1.6 million / 0.7% | $11.0 million / 5.8% |
| Basic / diluted EPS | $0.05 / $0.04 | $0.31 / $0.31 |
| Operating cash flow | $4.5 million | $15.8 million |
Revenue increased 14.3%, reflecting higher customer demand for optical and non-optical communications manufacturing and the prior-year quarter’s inability to recognize $13.2 million of consignment revenue because of previously disclosed recognition issues. Optical communications accounted for 71.5% of current-quarter revenue, versus 71.4% a year earlier.
Gross margin improved mainly because of a more favorable product mix. SG&A rose 36.2% to $11.9 million, or 5.5% of revenue, from $8.7 million, or 4.6%; the company cited $2.7 million of costs related to its new U.S. manufacturing facility, higher sales and marketing costs, and increased executive compensation. Operating margin edged down despite higher operating income. The sharp net-income decline was principally associated with the foreign-exchange loss, which management attributed to unrealized changes in derivative fair values; the filing says derivative losses generally offset gains or losses on economically hedged exposures.
Cash, liquidity, and debt
- At September 25, cash and cash equivalents were $95.5 million and marketable securities were $152.1 million, totaling $247.6 million. Total assets were $688.2 million; current assets were $536.4 million and current liabilities $193.1 million.
- Cash and cash equivalents declined from $113.0 million at June 26. Operating activities provided $4.5 million; investing activities used $20.4 million and financing activities used $1.2 million.
- Operating cash flow was pressured by inventory investment: inventory increased $13.2 million in the operating cash-flow reconciliation. Capital spending was $8.5 million, and the company deposited $2.4 million toward a Thailand land purchase.
- Total borrowings were $39.0 million: $30.0 million under the revolving facility and $9.0 million of long-term borrowing. The company reported $170.0 million of available credit facilities and compliance with its facility covenants. The revolving borrowing’s maturity was extended to November 23, 2015, after quarter-end.
- The credit facility requires at least $40.0 million of cash, cash equivalents, and/or marketable securities in qualifying U.S. accounts. Management said current liquidity, operating cash flow, and available credit should be sufficient for working capital and capital expenditure needs for the next 12 months.
Material changes, outlook, and unusual items
- Foreign exchange exposure: The $10.5 million quarterly foreign-exchange loss was associated with changes in derivative fair values. Derivatives were not designated for hedge accounting; the company had $169.5 million of forward contracts and $11.0 million of put options on Thai baht payables at quarter-end.
- Flooding: Typhoon Soudelor flooding temporarily halted the company’s China subsidiary’s production during August; operations resumed August 15. Fabrinet recorded $0.9 million of losses, including equipment repair, inventory loss, and protection and salvage costs. It submitted insurance claims, expects to recover a majority based on information available, but noted policy exclusions and limits may reduce recovery. No recovery was yet recognized.
- Expansion and commitments: Fabrinet agreed to buy land in Chonburi, Thailand, for approximately $11.8 million, with closing expected by December 22, 2015. In October it entered a construction contract for a new manufacturing building there for approximately $30.4 million. The company also cited U.S. facility start-up costs and expects fiscal 2016 SG&A to increase in dollars and as a percentage of revenue. It expects incremental costs from diversification and geographic expansion, and rising employee costs in Thailand and China.
- Outlook: Management said existing manufacturing capacity, including the new U.S. facility, should meet anticipated production needs for at least 12 months. It expects to continue investing in manufacturing capacity and diversification. The filing contains inconsistent statements about whether the future share of revenue from customers outside North America will rise or fall compared with the quarter; the direction is therefore unclear from the filing text.
- Other subsequent event: An executive officer’s separation agreement is expected to result in approximately $0.7 million of severance expense in fiscal 2016’s second quarter.
- Risks highlighted: Customer concentration and nonbinding forecasts; sole-source supply and inventory obsolescence; foreign-currency movements, especially the Thai baht; natural disasters and insurance limitations; competition and market cyclicality; expansion execution and capacity utilization; political, regulatory, and tax uncertainty in Thailand and China; and debt covenant requirements. One customer represented at least 10% of revenue in the quarter; customers meeting that threshold together represented 18% of revenue, compared with 33% in the prior-year quarter.
Important facts for investors to verify
- How much of the derivative-related foreign-exchange loss is unrealized and how effectively future derivative gains or losses offset operating currency exposure.
- Whether the China flood insurance claims are accepted, the amount recoverable, and any further interruption or repair costs.
- Actual U.S. and Thailand expansion spending, construction timing, utilization, and resulting incremental SG&A and operating costs.
- Revenue and margin trends excluding the $13.2 million prior-year consignment-revenue comparison issue, and the extent to which favorable product mix persists.
- Customer concentration, inventory levels, cash conversion, and covenant headroom, including the revolving facility’s short-term renewal terms and the required U.S. liquidity balance.