JABIL INC quarterly report, Q2 FY2012

Business Context and Reporting Period

Jabil Circuit, Inc. and subsidiaries is a global electronic manufacturing services provider offering design, production, supply-chain and aftermarket services across aerospace, automotive, computing, consumer, defense, industrial, medical, networking, peripherals, solar, storage and telecommunications markets. The Form 10-Q covers the fiscal quarter and six months ended February 29, 2012, compared with the corresponding periods ended February 28, 2011. The company operated in 27 countries, and foreign revenue represented 86.1% of quarterly revenue and 86.4% of six-month revenue.

Financial Performance and Position

Metric	Three months ended Feb. 29, 2012	Prior comparable period	Six months ended Feb. 29, 2012	Prior comparable period
Net revenue	$4.236 billion	$3.929 billion	$8.563 billion	$8.011 billion
Gross profit	$322.2 million	$296.4 million	$662.2 million	$607.0 million
Gross margin	7.6%	7.5%	7.7%	7.6%
Operating income	$150.2 million	$104.6 million	$321.1 million	$260.6 million
Operating margin	3.5%	2.7%	3.8%	3.3%
Net income attributable to Jabil	$97.7 million	$55.4 million	$210.6 million	$162.1 million
Diluted EPS	$0.46	$0.25	$1.00	$0.74

Six-month core operating income, a non-U.S. GAAP measure, was $370.7 million versus $350.3 million, and core earnings were $259.4 million versus $250.9 million. Core results exclude amortization, stock-based compensation and related charges, restructuring and impairment charges, settlement-related charges and losses on disposed subsidiaries.

• Quarterly revenue increased 7.8%; six-month revenue increased 6.9%.
• Diversified Manufacturing Services revenue increased substantially, including a 61% six-month increase in specialized services products. Enterprise and Infrastructure revenue increased 1% for the six months, while High Velocity Systems revenue declined 12%.
• Gross margin improved primarily because of increased DMS activity, favorable capacity utilization and cost and productivity improvements.
• The effective tax rate was 19.6% for the quarter and 20.1% for the six months, compared with 29.3% and 23.6%, respectively, in the prior-year periods.
• Cash and cash equivalents were $707.4 million at February 29, 2012, down from $888.6 million at August 31, 2011. Total assets were $7.167 billion and total equity was $2.019 billion.
• Inventory was $2.351 billion, up from $2.227 billion at fiscal year-end. Management reported 54 days of inventory and seven annualized inventory turns.

Cash Flow, Debt and Liquidity

• Six-month operating cash flow was $5.2 million, compared with $367.6 million in the prior-year period. Net income and noncash depreciation and amortization were largely offset by a $259.0 million decrease in accounts payable and accrued expenses and a $119.8 million inventory increase.
• Investing cash flow was negative $298.8 million, including $180.5 million of capital expenditures and $128.5 million paid for the Telmar acquisition.
• Financing cash flow was positive $119.6 million, reflecting approximately $4.633 billion of borrowings and $4.426 billion of repayments, plus dividends, share repurchases and employee tax-withholding payments.
• Total debt was $1.394 billion at February 29, 2012, including $1.102 billion of senior notes, $280.0 million of credit-facility borrowings and $281.6 million classified as current debt and other current obligations. The filing separately reports a $10.4 million fair-value adjustment related to terminated interest-rate swaps.
• On March 19, 2012, Jabil entered into a five-year amended and restated unsecured revolving credit facility initially providing $1.3 billion, with potential expansion to $1.6 billion, expiring March 19, 2017. The company reported compliance with applicable debt and securitization covenants.
• Receivables-sale programs provided significant working-capital liquidity. At February 29, 2012, $734.7 million of receivables had been sold under asset-backed programs, with $271.5 million of cash proceeds and a $463.2 million deferred purchase-price receivable.
• Management expected $500 million to $600 million of capital expenditures during the following 12 months and believed available cash, borrowings, receivables programs and operating cash flow were sufficient to fund planned needs, dividends, repurchases and working capital.

Material Changes and Unusual Items

• Jabil acquired Telmar Network Technology on December 1, 2011 for approximately $132.2 million in cash. The preliminary accounting included $60.7 million of goodwill and $49.9 million of definite-lived intangible assets, all goodwill assigned to DMS.
• The company repurchased 1.758 million common shares for approximately $40.0 million during the six months, with approximately $60.1 million remaining under the authorized repurchase program at February 29, 2012.
• Quarterly and six-month dividends declared increased to $0.08 per share from $0.07 per share in the prior-year periods.
• Prior-year results included $13.6 million of receivables settlement charges and $23.9 million of losses on subsidiary disposals; no comparable charges were recorded in fiscal 2012 through the second quarter.
• The filing corrected the presentation of prior-year debt borrowings and repayments from net to gross in the cash-flow statement. The revision increased both lines by $1.0 billion but did not affect net financing cash flow, earnings, balance sheets or EPS.
• The company recorded $39.7 million of stock-based compensation during the first six months of fiscal 2012 and had $98.3 million of unrecognized restricted-stock compensation expected to be recognized over approximately 1.5 years.

Outlook, Risks and Contingencies

Management expected foreign revenue as a percentage of total revenue to decline slightly over the following 12 months and expected regular quarterly dividends at amounts similar to prior declarations, subject to board approval. The filing did not provide a specific revenue or earnings forecast.

• Key operating risks include customer concentration, uncertain customer production schedules, pricing pressure, end-market weakness, seasonality, excess or obsolete inventory, component shortages and dependence on single-source suppliers.
• The five largest customers represented approximately 49% of six-month revenue, and 51 customers represented approximately 90%. DMS and consumer-related demand were important drivers of growth, while telecommunications, networking, mobility handset and television display exposure affected weaker segments.
• International operations and foreign-currency exposure are significant. The company uses forward contracts and reported designated and non-designated foreign-exchange notional amounts of $217.4 million and $751.0 million, respectively.
• A commercial dispute involving product warranty obligations with a former industrial and CleanTech customer was in binding arbitration. No reserve was recorded because a loss was not considered probable and no reasonably possible loss range could be determined.
• The IRS proposed additional taxes of approximately $69.3 million, before subsequent tax attributes, for fiscal years 2003 through 2005, plus potential interest and penalties. Jabil is contesting the matter and stated that it believes the ultimate resolution will not materially affect liquidity, although an unfavorable outcome or similar claims for later years could materially affect results.
• The company identified expiration and renewal risk for the $200 million foreign asset-backed securitization program in May 2012 and noted that uncommitted receivables-sale programs may be cancelled or may not provide funding when needed.
• Credit ratings on the senior notes were below investment grade from Moody’s and Standard & Poor’s, creating potential refinancing and interest-cost risk.
• Management concluded that disclosure controls were effective as of February 29, 2012. The internal-control assessment excluded Telmar during its first year after acquisition.

Important Facts for Investors to Verify

• Whether low operating cash flow persists as inventory and working-capital requirements increase.
• Customer concentration, DMS growth and continued weakness in HVS and telecommunications-related demand.
• Telmar’s finalized purchase-accounting values, integration progress and profitability contribution.
• Availability, renewal terms and accounting treatment of receivables securitization and sale programs.
• Debt maturities, revolving-credit availability, covenant headroom and sensitivity to interest-rate or credit-rating changes.
• Resolution and potential later-year implications of the IRS examination and the outstanding warranty arbitration.
• Expiration of tax incentives, component availability, foreign-exchange movements and risks from the company’s highly international operations.