Sanmina Corporation — Q1 FY2018 10-Q
Business context and period. The quarter ended December 30, 2017; comparisons are with the quarter ended December 31, 2016. Sanmina provides electronics manufacturing, components, products and related services. Integrated Manufacturing Solutions (IMS) generated about 80% of revenue; Components, Products and Services (CPS) comprises the other businesses.
Financial performance
| Metric | Q1 FY2018 | Q1 FY2017 |
|---|---|---|
| Net sales | $1.745 billion | $1.720 billion |
| Gross profit / margin | $109.5 million / 6.3% | $132.2 million / 7.7% |
| Operating income | $13.8 million | $58.7 million |
| Income before taxes | $11.1 million | $54.8 million |
| Income tax provision | $166.0 million | $10.0 million |
| Net income (loss) | $(154.9) million; $(2.16) per diluted share | $44.9 million; $0.58 per diluted share |
| Cash from operating activities | $8.4 million | $53.9 million |
| Capital expenditures | $48.5 million | $21.7 million |
Cash and cash equivalents were $404.9 million at quarter-end. Working capital was approximately $1 billion. Current assets were $2.653 billion and current liabilities $1.663 billion. Debt totaled approximately $561.6 million, including $166 million drawn on the revolver and $375 million of senior secured notes due June 1, 2019. The company reported covenant compliance.
IMS gross margin fell to 5.8% from 7.3%; CPS gross margin fell to 8.4% from 9.5%. The filing attributes pressure to unfavorable program and revenue mix, parts shortages, lower-than-expected production, customer push-outs and cancellations, new-program ramp issues, operational inefficiencies and customer transfer costs.
Material changes and management commentary
- Revenue increased 1.4%. Industrial, medical and defense sales rose 2.3%, communications networks rose 5.6%, and embedded computing and storage declined 9.9%, primarily due to reduced demand from a storage customer.
- Net sales increased, but gross profit and operating income declined substantially. Management cited parts shortages and customer order changes, including late-quarter cancellations and push-outs, as factors affecting production and fixed-cost absorption.
- The $166 million tax provision included an approximately $162 million provisional, non-cash net charge from the U.S. Tax Cuts and Jobs Act, principally reflecting remeasurement of U.S. deferred tax assets. The estimate remains subject to further analysis.
- Operating cash flow declined to $8.4 million. Inventory and receivables used cash; receivables also reflected a late customer payment received early in Q2. DSO increased to 58 days from 55 days at fiscal year-end.
- On February 1, 2018, after quarter-end, Sanmina amended its revolver, increasing commitments from $375 million to $500 million and extending its term to February 2023, subject to stated conditions. The company said $304 million was available, net of borrowings and letters of credit, at closing.
Outlook, risks and unusual items
- No quantified revenue or earnings guidance is provided. Management expects gross margins to fluctuate with volumes, product mix, utilization, component availability and other operating factors. It expects incremental CPS cost savings from a facility closure beginning in Q4 FY2018.
- A restructuring plan covers closure and/or relocation of three manufacturing facilities and approximately 2,900 employees. Estimated costs are $35 million, of which $23.5 million was recorded in Q1; actions and related cash payments are expected to continue through Q1 FY2020.
- Management believes cash, available credit and operating cash generation will be sufficient for at least 12 months, while noting that demand changes or slower customer collections could reduce operating cash flow. The $375 million notes mature in June 2019, and revolver extension conditions include a liquidity requirement near that maturity.
- Customer concentration is significant: the ten largest customers represented 54% of sales, and two customers each contributed at least 10%. Customer cancellations, order delays, credit problems and customer inventory exposure are identified risks.
- In January 2018, a foreign government agency gave notice of intent to seek up to $23 million related to alleged goods-and-services-tax exemption noncompliance. No formal claim had been brought; Sanmina recorded no reserve and said the outcome could not yet be determined. Existing reserves for environmental, warranty, litigation and other contingencies were $37 million.
- Other disclosed exposures include environmental proceedings, including the remanded Orange County groundwater case, Brazilian tax proceedings, and up to $14 million of potential acquisition-related payments tied to future earnings targets.
- Revenue-recognition guidance effective in FY2019 is expected to change the timing of recognition for a significant portion of revenue from point-in-time to over-time recognition. Sanmina said the standard could materially affect the financial statements upon adoption, but does not expect a material effect on revenue or gross profit on a rollover basis in later periods.
Important facts for investors to verify
- Whether the provisional tax charge changes as the company completes its Tax Act analysis, and how deferred tax assets and future cash taxes are affected.
- Whether sales, customer order patterns and gross margins recover, particularly in IMS and CPS, and whether parts shortages and new-program ramp issues persist.
- Whether the restructuring meets its cost and timing expectations, including the projected CPS savings and cash costs through FY2020.
- Progress toward refinancing or repaying the $375 million notes due June 2019, and compliance with the amended revolver’s liquidity and financial covenants.
- Developments in the potential $23 million tax claim, environmental litigation and other contingencies, and any resulting change in reserves or cash exposure.