Flex Ltd. — Form 10-Q Summary
Reporting period: Third quarter and first nine months of fiscal 2020, ended December 31, 2019. Comparisons are with the periods ended December 31, 2018, unless otherwise stated. Flex provides design, engineering, manufacturing, and supply-chain services across four segments: High Reliability Solutions (HRS), Industrial & Emerging Industries (IEI), Communications & Enterprise Compute (CEC), and Consumer Technologies Group (CTG). Financial amounts below are U.S. dollars.
Financial performance
| Metric | Quarter ended Dec. 31, 2019 | Prior-year quarter | Nine months ended Dec. 31, 2019 | Prior-year nine months |
|---|---|---|---|---|
| Net sales | $6.461 billion | $6.923 billion | $18.725 billion | $19.984 billion |
| Gross profit | $430 million | $357 million | $972 million | $1.137 billion |
| Gross margin | 6.7% | 5.1% | 5.2% | 5.7% |
| Income (loss) before tax | $145 million | $(32) million | $114 million | $219 million |
| Net income (loss) | $111 million | $(45) million | $39 million | $158 million |
| Diluted EPS | $0.22 | $(0.09) | $0.08 | $0.30 |
- Quarterly sales declined about 7%; nine-month sales declined about 6%. The quarter’s gross margin improved 160 basis points, while the nine-month margin fell 50 basis points.
- Quarterly segment sales: HRS $1.245 billion, IEI $1.989 billion, CEC $1.881 billion, and CTG $1.346 billion. IEI grew substantially; CEC and CTG contracted.
- Nine-month segment income was $253 million for HRS, $331 million for IEI, $111 million for CEC, and $82 million for CTG. IEI’s margin improved on favorable mix and execution; HRS and CEC margins declined year over year.
- SG&A was $218 million for the quarter and $633 million for the nine months, down from $238 million and $723 million, respectively. Management cited cost discipline and benefits from prior restructuring.
Cash flow, balance sheet and capital
- At December 31, 2019, cash and equivalents were $1.789 billion, total assets $14.135 billion, and shareholders’ equity $2.899 billion. Current assets were $9.361 billion and current liabilities $7.551 billion.
- Debt carrying amount was approximately $2.790 billion, compared with $3.055 billion at March 31, 2019; cash exceeded $1.7 billion. Management described net debt reduction of about $200 million from refinancing. No borrowings were outstanding under the $1.75 billion revolving credit facility, and Flex reported compliance with debt covenants.
- For the nine months, GAAP operating cash flow was a use of $1.699 billion, investing cash flow provided $2.261 billion, and financing cash flow used $462 million. Cash increased $93 million to $1.789 billion.
- Operating cash use was principally driven by accounts receivable and working-capital movements. Investing cash flow included $2.511 billion of collections on deferred purchase price receivables from the prior receivables-securitization structure. Management’s non-GAAP adjusted free cash flow was positive $538 million, versus negative $126 million a year earlier; it includes those collections and is not a GAAP measure.
- Capital expenditures were $376 million, partly offset by $102 million of property-disposition proceeds. Flex repurchased 16.2 million shares for $173 million during the nine months; $402 million remained authorized under the current repurchase plan.
- Adoption of lease accounting on April 1, 2019 added operating lease liabilities and right-of-use assets. At December 31, operating lease liabilities totaled $661 million and right-of-use assets $615 million.
Material changes, outlook and risks
- Quarterly sales declines in CTG and CEC reflected Flex’s reduction of higher-volatility, lower-margin products and customers, including a customer disengagement primarily in China and India, and slower 5G rollout. IEI growth was led by solar energy and home-and-lifestyle products. For the nine months, CTG sales fell $1.1 billion and CEC sales fell $0.9 billion year over year; IEI sales rose $0.7 billion.
- Flex recorded $199 million of restructuring charges in the first nine months, including approximately $143 million of cash charges, predominantly severance, and $56 million of non-cash charges, primarily asset impairments. Management expected further charges in fiscal Q4 and said most activities were planned for completion by fiscal year-end.
- Management gave no specific financial guidance in the supplied filing text. It stated that cash, expected operating cash flows, and available credit were expected to fund operations for at least the next 12 months. It targets working capital of 6%–8% of annualized revenue; the reported measure was 5.8% at quarter-end.
- Current-period unusual items included a $15.8 million impairment of an investment and restructuring/customer-related charges. Prior-year comparisons included a $70.1 million investment impairment and an $87.3 million gain from deconsolidating Bright Machines. These items affect comparability.
- Key risks include geopolitical and trade uncertainty, tariffs and restrictions affecting China-related business, customer demand and program concentration, slower 5G deployment, supply-chain and labor constraints, and foreign-exchange and international operating risks. Flex also disclosed possible effects of the coronavirus outbreak on its and its customers’ and suppliers’ operations.
- Contingencies include a disputed patent-royalty claim for which a material loss was described as reasonably possible but not estimable; an ongoing OFAC voluntary disclosure investigation concerning possible sanctions noncompliance; Brazilian tax assessments totaling approximately $84 million before successful administrative defeat of one assessment that remained subject to appeal; and foreign tax assessments of approximately $94 million that Flex is contesting. The company also faces a securities class action; a motion to dismiss was scheduled for hearing in April 2020. Accruals for legal matters were described as not material.
- Management reported effective disclosure controls. Deloitte’s interim review found no material modifications needed; this was a review, not an audit opinion on the interim statements.
Important facts for investors to verify
- Whether the quarter’s gross-margin recovery persists despite lower sales and the ongoing portfolio transition, especially in CEC and CTG.
- How much of reported adjusted free cash flow depends on receivables-securitization collections, and whether working-capital cash use normalizes under the amended ABS programs.
- Remaining restructuring costs, realized savings, customer disengagement effects, and potential CTG goodwill impairment; management planned its next annual impairment test for January 1, 2020.
- Progress and potential financial exposure from the OFAC investigation, patent-royalty dispute, tax assessments, and securities litigation.
- Effects of trade restrictions and the coronavirus outbreak on manufacturing sites, customers, suppliers, and demand; the filing does not quantify any coronavirus-related impact.
- The filing states that prior-year sales were corrected downward by $22 million for the quarter and $95 million for the nine months, with no impact on gross profit, segment income, or net income; confirm comparisons use the corrected figures.