Flex Ltd. — Form 10-Q Summary
Business context and reporting period. Flex provides product design, engineering, manufacturing and supply-chain services across High Reliability Solutions (HRS), Industrial & Emerging Industries (IEI), Communications & Enterprise Compute (CEC), and Consumer Technologies Group (CTG). This filing covers the second quarter and first six months of fiscal 2020, ended September 27, 2019; comparisons are to the corresponding periods ended September 28, 2018. Amounts below are U.S. dollars.
Financial performance and liquidity
- Revenue: Second-quarter net sales were $6.09 billion, down 9% year over year. First-half sales were $12.26 billion, down 6%.
- Profit and margins: Second-quarter net loss was $116.9 million, or $0.23 per share, versus net income of $86.9 million, or $0.16 per share, a year earlier. First-half net loss was $72.1 million, or $0.14 per share, versus income of $202.9 million, or $0.38 per share. Gross margin fell to 3.1% from 6.0% in the quarter and to 4.4% from 5.9% for the half. First-half segment income was $435 million, up from $411 million, but it excludes significant reconciling costs.
- Cash flow: First-half cash used in operating activities was $1.65 billion; investing activities provided $1.64 billion and financing activities provided $132 million. Cash increased $119 million to $1.82 billion. Management reported adjusted free cash flow, a non-GAAP measure, of $301 million versus a $245 million use in the prior-year half; this included cash collections of deferred receivables and other adjustments.
- Debt and liquidity: At quarter-end, debt was approximately $3.0 billion and cash was $1.82 billion. No amounts were drawn on the $1.75 billion revolving credit facility, which expires in June 2022. Flex said it complied with debt covenants and expects cash, operating flows and available borrowing capacity to fund operations for at least 12 months. First-half net working capital was 6.0% of annualized quarterly sales, within its stated 6%–8% target range.
- Balance sheet: Total assets were $14.28 billion and shareholders’ equity was $2.81 billion. Adoption of lease accounting added operating lease liabilities and right-of-use assets; reported operating lease liabilities were $631.7 million at quarter-end.
Material changes and management commentary
- Sales declined across HRS, CEC and CTG, while IEI grew. In the quarter, IEI sales rose $220 million; CEC fell $412 million and CTG fell $363 million. Flex attributed weakness to customer-specific demand reductions, active pruning of lower-performing business, and slower 5G deployment. IEI benefited from home and lifestyle and solar-energy demand.
- Gross profit and margin were pressured by restructuring charges and inventory write-downs tied to lower expected customer demand and reduced exposure to higher-volatility businesses. The quarter included $128 million of restructuring charges and $91 million of customer-related asset impairments. First-half restructuring charges totaled $185 million, including cash severance and non-cash impairments.
- Flex expects additional restructuring charges during the remainder of fiscal 2020 and expects the activities to be completed by fiscal year-end. It described its strategy as shifting toward higher-margin, less-volatile businesses; the filing gives no numerical revenue or earnings guidance.
- Debt was refinanced in part through a JPY-denominated term loan due 2024 and issuance of $450 million of 4.875% notes due 2029. Proceeds, together with cash, were used to repay the $500 million notes due 2020 and prepay $250 million of a 2021 term loan.
- Flex adopted ASC 842 on April 1, 2019. The adoption materially affected the balance sheet but did not materially affect income or cash flow. Prior-year sales were corrected downward by $48 million for the quarter and $73 million for the half; Flex said the corrections were immaterial and did not affect gross profit, segment income or net income.
Risks, contingencies and unusual items
- Flex cited geopolitical and trade-policy uncertainty, tariffs and sanctions, customer demand and order changes, customer financial distress, component and labor constraints, foreign-exchange exposure, and global economic weakness as business risks.
- CTG had recently underperformed. Its fair value exceeded carrying value by 22% at the latest annual impairment test; management did not perform an interim test but said a future test could result in a material impairment charge.
- Contingencies include a disputed patent-royalty claim for which a material loss is reasonably possible but not estimable; an ongoing OFAC voluntary disclosure and investigation with potential penalties that cannot be predicted; Brazilian tax assessments totaling about $86 million (one assessment was defeated but remained appealable); and a foreign tax authority assessment of about $94 million that Flex is contesting. A shareholder securities class action was also pending. Flex said accrued legal loss contingencies were not material.
- First-half operating cash use was substantially affected by working-capital movements and the classification of deferred-purchase-price collections from receivables programs as investing cash flows. A $336 million receivables transaction was recorded as financing-related assets and liabilities at quarter-end because required registration was not completed until October; it was subsequently registered.
Investor verification points
- Track whether restructuring, customer-related impairments and inventory exposure continue, and whether the planned portfolio shift improves gross margins.
- Check demand recovery in CEC and CTG, IEI growth and the effects of slower 5G rollout and customer disengagements.
- Reconcile reported operating cash flow and management’s adjusted free cash flow, including receivables sales, deferred-purchase-price collections and supplier-financing arrangements.
- Monitor debt maturities, interest costs, covenant compliance, cash availability across jurisdictions and any share repurchases.
- Follow CTG goodwill impairment indicators and developments in the patent, OFAC, tax and securities-litigation matters.