Benchmark Electronics, Inc. — Q2 2016 Form 10-Q
Reporting period: Three and six months ended June 30, 2016. Benchmark provides global electronics manufacturing, engineering, and related services, with operations in the Americas, Asia, and Europe. Its strategy is to grow higher-value Industrials, Medical, and Test & Instrumentation markets. The Secure Technology acquisition, completed in November 2015 for approximately $230 million, expanded engineering capabilities and exposure to regulated industrial markets.
Financial performance
Amounts are in millions except per-share data and margins. Comparisons are with the corresponding 2015 period.
| Metric | Q2 2016 | Q2 2015 | H1 2016 | H1 2015 |
|---|---|---|---|---|
| Sales | $579.3 | $664.0 | $1,128.6 | $1,285.0 |
| Gross profit | $52.7 | $55.7 | $103.0 | $107.5 |
| Gross margin | 9.1% | 8.4% | 9.1% | 8.4% |
| Operating income | $17.7 | $26.2 | $34.0 | $44.9 |
| Operating margin | 3.1% | 3.9% | 3.0% | 3.5% |
| Net income | $12.7 | $21.2 | $23.7 | $35.4 |
| Diluted EPS | $0.26 | $0.40 | $0.47 | $0.67 |
| Operating cash flow | Not provided for quarter | Not provided for quarter | $157.6 | $41.1 |
- Q2 sales fell 13%; H1 sales fell 12%. Q2 gross profit declined 5%, while the gross margin improved 0.7 percentage points. Management attributed the margin improvement to the larger higher-value-market mix and operational initiatives, partly offset by lower utilization.
- H1 SG&A rose 12% to $62.6 million, primarily due to Secure Technology and investment in sales and marketing. H1 restructuring and other costs were $6.4 million; this included $3.8 million of proxy-contest costs and approximately $2.5 million of restructuring charges.
- H1 interest expense increased to $4.6 million from $0.9 million, mainly because of debt used to fund the acquisition. The effective tax rate was 20.4%, versus 20.0%.
- H1 operating cash flow was $157.6 million, compared with $41.1 million. It included cash benefits from a $57.0 million decrease in receivables, a $37.0 million decrease in inventory, and a $23.1 million increase in accounts payable; lower sales contributed to the receivables and inventory reductions. Investing cash outflow was $15.9 million, chiefly capital spending; financing cash outflow was $34.5 million, including $29.3 million of share repurchases and $6.1 million of debt and lease principal payments.
Business mix and material changes
- Q2 sales by industry: Industrials increased 6%, Medical 2%, and Test & Instrumentation 1%; Computing decreased 12% and Telecommunications decreased 47%. H1 trends were similar: Industrials +7%, Medical +2%, Test & Instrumentation -1%, Computing -15%, and Telecommunications -43%.
- Management cited a major telecommunications customer’s product-life-cycle transitions and broader weakness in infrastructure spending, as well as lower demand among computing customers. Higher-value markets represented 63% of Q2 sales and 64% of H1 sales, versus 53% in each 2015 comparison period.
- Sales to the 10 largest customers were 43% of H1 sales, down from 48%; no customer represented 10% or more of sales in either H1 period. International operations generated 48% of H1 sales, versus 52% a year earlier.
Financial position, outlook, and risks
- At June 30, cash and cash equivalents were $573.2 million, versus $466.0 million at year-end 2015; working capital was approximately $1.1 billion. Of the cash, $534.7 million was held outside the United States and was generally intended to remain invested abroad; repatriation could trigger additional U.S. and foreign taxes.
- Balance-sheet long-term debt and capital lease obligations totaled $229.4 million, including $12.3 million current; the company reported $224.3 million outstanding under its term loan. It had $197.9 million available on its revolving facility after $2.1 million of letters of credit. The term loan and revolver mature in November 2020. The company was in compliance with credit-agreement covenants.
- Management expected approximately $40 million of capital expenditures over the next 12 months and an additional $4–$5 million of restructuring-related spending in H2 2016 to improve manufacturing utilization. Management believed available cash and operating cash flows would meet liquidity needs for at least the next 12 months. No revenue or earnings guidance was provided.
- Potential risks include customer concentration and demand volatility, technology and product-life-cycle changes, lower production utilization, component shortages and shipment delays, international and foreign-exchange exposure, and tax or regulatory matters. The company had $16.5 million reserved for uncertain tax benefits, interest, and penalties; approximately $8.3 million of the reserve could be released within 12 months as statutes of limitations expire.
- The company reported ordinary-course legal matters that management did not expect to have a material adverse effect. No material change to the 2015 Form 10-K risk factors was reported. Disclosure controls were assessed as effective, and no material change in internal control over financial reporting was reported.
Important facts for investors to verify
- Whether higher-value-market growth and improved gross margin can offset continued weakness in telecommunications and computing, and the related utilization effects.
- How much of H1 operating cash flow reflects sustainable earnings versus working-capital movements, and whether cash conversion remains strong.
- The pace and cost of the announced H2 restructuring and the expected $40 million capital expenditure program.
- Debt repayment, interest-rate exposure, and the effect of the $168.2 million interest-rate swap; the swap had a $4.7 million liability at June 30.
- The final Secure Technology purchase-price allocation, expected by September 30, 2016, and ongoing acquisition-related amortization.
- Tax-incentive renewals and uncertain-tax-position settlements, including the possible reserve reduction; verify the effects of cash held overseas and potential repatriation taxes.