Business context and reporting period
Benchmark Electronics, Inc. (NYSE: BHE) filed its Form 10-K for the fiscal year ended December 31, 2018. The company provides product design, engineering, technology and advanced manufacturing services to OEMs, including electronics assembly and precision machining. It serves aerospace and defense, medical, industrial, test and instrumentation, computing, and telecommunications markets.
Results are annual, not solely fourth-quarter results. The company adopted ASC 606 revenue recognition retrospectively in 2018, and 2017 and 2016 comparisons shown in the filing are adjusted under that standard. Most manufacturing revenue is now recognized over time as products are built.
Financial performance and liquidity
| Metric | FY 2018 | FY 2017 | Change / context |
|---|---|---|---|
| Sales | $2,566.5 million | $2,454.5 million | Up 5% |
| Gross profit / margin | $220.6 million / 8.6% | $225.9 million / 9.2% | Profit down 2%; margin down 0.6 percentage points |
| Operating income / margin | $58.5 million / 2.3% | $76.8 million / 3.1% | Down 24% |
| Net income (loss) | $22.8 million | $(31.9) million | Improved largely because 2017 included a major U.S. tax-reform charge |
| Diluted EPS | $0.49 | $(0.64) | Improved; affected by tax items and share repurchases |
| Operating cash flow | $76.7 million | $145.8 million | Down 47% |
| Capital expenditures | $62.8 million | $50.8 million | Cash flow less capital expenditures was about $13.9 million, versus $95.1 million in 2017 |
Sales growth reflected gains in telecommunications (+10%), computing (+7%), medical (+5%), aerospace and defense (+4%), and test and instrumentation (+2%); industrial sales declined 1%. Higher-value markets represented 64% of sales, down from 65% in 2017. Management’s long-term goal is to generate more than 75% of sales from higher-value markets.
Cash and cash equivalents were $458.1 million at year-end, down from $742.5 million. Working capital was $866.4 million, compared with $1,152.3 million. Current assets were $1,403.6 million and current liabilities $537.2 million. Operating cash flow was pressured by increases in accounts receivable and inventory and lower income-tax liabilities, partly offset by higher accounts payable.
Year-end borrowings under the term loan were $150.0 million; the balance-sheet total for debt and capital lease obligations, net of issuance costs, was $154.1 million. The company had $497.2 million available on its revolving facility and reported covenant compliance. The $150 million term loan matures in 2023; an interest-rate swap fixed the rate on that amount at 2.928% under the swap terms.
Financing activities used $291.0 million, including $211.9 million for share repurchases, $21.0 million of dividends and net principal payments on debt and leases. The company repurchased 8.2 million shares during 2018. It began paying quarterly dividends of $0.15 per share in 2018; continuation is not guaranteed.
Material changes and unusual items
- SG&A rose to $143.2 million from $130.4 million, driven mainly by variable and stock-based compensation and investment in sales and marketing.
- 2018 income-tax expense was $32.7 million, a 58.9% effective rate; 2017 expense was $102.9 million, a 144.9% rate. The 2017 result included a $97.7 million estimated net charge from U.S. tax reform. The 2018 rate also reflected a $21.6 million net charge related to the changed foreign-earnings repatriation assertion and $3.2 million of GILTI tax expense. Excluding specified tax items, management reported effective rates of 13.1% for 2018 and 9.6% for 2017.
- The company repatriated $560.6 million of foreign earnings in 2018. Its remaining U.S. transition-tax liability was approximately $63.8 million, payable over the statutory seven-year period.
- Restructuring charges were $5.2 million, primarily for workforce reductions; the company reported 490 involuntary terminations. It also incurred $2.8 million of headquarters relocation and transition costs and recorded a $1.4 million arbitration-related charge.
- A customer insolvency led to $3.4 million of inventory and receivable charges in 2018. IBM accounted for 13% of annual sales; the ten largest customers together accounted for 44%. The company said it would not renew in its current form a long-standing computing customer contract expiring at the end of 2019.
- Fourth-quarter sales were $657.1 million versus $666.0 million a year earlier. Fourth-quarter net income was $27.7 million versus a $76.4 million loss, with the prior-year quarter heavily affected by tax-reform accounting.
Outlook, risks and contingencies
Management expected 2019 capital expenditures of approximately $40–$50 million and stated that cash, operating cash flow and available credit should meet liquidity needs for at least the next 12 months. Year-end backlog was approximately $2.1 billion versus $2.0 billion in 2017. Management expected to fill substantially all of it during 2019 but cautioned that orders and forecasts can be changed, canceled or delayed and that backlog is not a meaningful indicator of future results. The filing provides no specific revenue or earnings guidance.
Key risks include customer and market concentration, volatile and short-term customer schedules, component shortages and price increases, customer insolvency, competitive pricing, start-up program costs, and international exposure to tariffs, currency, political and regulatory changes. Other risks include government-contract funding and compliance, cybersecurity, environmental and product-liability claims, natural disasters and limited flood insurance for Thailand facilities. The company reported occasional attempted cyberattacks during the year, all detected and remediated, with no known data leakage or material impact.
The company had an $80 million accounts-receivable sale program and sold $160 million of receivables during 2018, receiving $159.5 million net of discounts. It reported no significant off-balance-sheet arrangements. For 2019 lease accounting adoption, management expected to recognize approximately $85–$90 million of additional operating lease liabilities and corresponding right-of-use assets.
An arbitrator awarded a former employee $1.4 million on January 3, 2019; the company had reserved the full amount in 2018 and filed to vacate the award. Management stated that other ordinary-course legal matters were not expected to materially affect consolidated financial position or results. The auditor gave an unqualified opinion on the financial statements and internal controls; management also concluded internal controls were effective at year-end.
Important facts for investors to verify
- Whether 2019 revenue and margins can sustain growth despite 2018 gross-margin and operating-income declines, and the planned exit or renegotiation of the computing contract.
- How much reported earnings reflect recurring operations versus tax-reform, repatriation and other discrete tax effects.
- Cash conversion and working-capital trends, particularly receivables and inventory, alongside the scale of buybacks and dividends.
- Customer concentration and exposure to IBM, the top ten customers, and the insolvent customer; confirm any further contract, collection or reserve developments.
- Progress toward the greater-than-75% higher-value-market sales goal and the profitability of newer programs.
- Available revolver capacity, debt maturities and covenants, the transition-tax payment schedule, and the balance-sheet effect of lease adoption.
- Outcome of the arbitration challenge and any material changes in litigation, supply constraints, tariffs or other disclosed risks.