Business context and reporting period
Benchmark Electronics, Inc. provides product design, engineering, technology solutions and manufacturing services to aerospace and defense, medical, industrial, test and instrumentation, computing, and telecommunications customers. This unaudited Form 10-Q covers the quarter and nine months ended September 30, 2018; comparative 2017 figures are adjusted for the company’s retrospective adoption of ASC 606 revenue accounting.
Key financial metrics
| Metric | Q3 2018 | Q3 2017 | Nine months 2018 | Nine months 2017 |
|---|---|---|---|---|
| Sales | $640.7 million | $610.9 million | $1,909.4 million | $1,788.4 million |
| Gross profit / margin | $52.8 million / 8.2% | $58.2 million / 9.5% | $165.4 million / 8.7% | $165.3 million / 9.2% |
| Operating income / margin | $11.0 million / 1.7% | $20.9 million / 3.4% | $43.3 million / 2.3% | $54.9 million / 3.1% |
| Net income (loss) | $7.8 million | $17.8 million | $(4.9) million | $44.5 million |
| Diluted EPS | $0.17 | $0.35 | $(0.10) | $0.88 |
| Operating cash flow | Not separately presented for the quarter | $(17.3) million | $89.9 million |
At September 30, cash and cash equivalents were $475.7 million, versus $742.5 million at year-end 2017. Total debt and capital lease obligations were approximately $154.2 million ($150.0 million term loan); cash therefore exceeded these obligations by about $321.5 million. Working capital was approximately $1.0 billion. The company had $497.2 million available on its revolving facility, net of letters of credit, and reported covenant compliance.
Material changes versus prior comparable periods
- Q3 sales grew 5%; nine-month sales grew 7%. Q3 growth was led by Computing (+16%), Telecommunications (+23%) and Aerospace and Defense (+9%). Medical (-6%) and Test and Instrumentation (-14%) declined in the quarter. Nine-month sales increased in most sectors, with Industrials approximately flat.
- Profitability weakened despite revenue growth: Q3 gross margin fell 1.3 percentage points and operating margin fell 1.7 points year over year. Management cited a sales mix shift toward lower-margin Computing and away from higher-margin Test and Instrumentation, Medical program transitions, engineering investment and new-program ramp costs.
- Nine-month net loss principally reflected $40.1 million of tax expense recorded in Q1 after the company changed its assertion on reinvestment of prior foreign earnings: $30.7 million for foreign withholding taxes and $9.4 million of U.S. state taxes. The reported nine-month effective tax rate was 112%; excluding the identified tax items, management said it would have been 13.7%.
- Operating cash flow moved from $89.9 million provided in the first nine months of 2017 to $17.3 million used in 2018. Inventory increased $54.3 million, primarily raw materials supporting production; receivables also used cash.
- Cash declined as the company repatriated $522.0 million of foreign earnings and used cash for debt repayment, $122.1 million of share repurchases, $14.2 million of dividends and capital investment. Capital expenditures were $50.4 million for the nine months.
Outlook, commentary, risks and unusual items
- Management forecast $40–$50 million of capital expenditures over the next 12 months, principally for machinery, equipment and expansion. It expected an additional $2.0–$2.5 million of restructuring charges in Q4 2018. No revenue or earnings guidance was provided in the supplied filing text.
- Management believed existing cash and operating cash generation would meet liquidity needs over the next 12 months; future significant acquisitions could increase capital needs. The company entered a new $650 million credit agreement in July 2018, including a $150 million term loan and $500 million revolving facility, both maturing in 2023.
- Q3 included a $3.4 million charge related to a customer insolvency: $1.7 million in cost of sales and $1.7 million in SG&A. Restructuring charges were $3.5 million in the first nine months; the company also incurred $2.3 million in headquarters-transition costs and $2.0 million to write off deferred financing charges related to refinancing.
- Sales to the 10 largest customers represented 44% of sales in both nine-month periods. Risks discussed include customer concentration and insolvency, component shortages and shipment delays, foreign operations and currency exposure, margin pressure, and changing customer demand. Tax holidays in China, Malaysia and Thailand reduce tax expense but have expiration dates; the China incentive extended through 2018 and was being renewed.
- The board intended to continue quarterly dividends, but payments are not guaranteed and are subject to debt restrictions and other factors. It authorized an additional $100 million of repurchases in October; remaining authorization was reported as $253 million as of November 7, 2018. Management said ordinary-course legal matters were not expected to have a material adverse effect; no material risk-factor changes were reported.
- ASC 606 adoption changed the timing of revenue recognition for many manufacturing contracts, with 93% of revenue recognized over time in both nine-month periods. The filing also says adoption increased 2017 Q3 sales by $7.4 million, while nine-month 2017 sales rose by $1.5 million; comparisons are presented as adjusted.
Most important facts for investors to verify
- Whether the margin deterioration and weaker operating cash flow persist, including the effects of inventory growth, program transitions and sector mix.
- The extent to which future earnings remain affected by tax repatriation decisions, GILTI, tax incentives and any additional tax charges.
- Customer concentration and the financial or operational effects of customer insolvencies, component shortages, or delayed shipments.
- Capital allocation and liquidity after repurchases, dividends and investment, including compliance with credit-agreement covenants and the planned capital expenditure range.
- The timing and cost of restructuring and headquarters-transition activities, and the final purchase-price allocation for the 2018 acquisition.