Fabrinet (FN) — Form 10-Q summary
Business and period: Fabrinet provides optical, electro-mechanical and electronic manufacturing services, primarily for complex, low-volume, high-mix products. This unaudited report covers the 13 weeks ended September 27, 2019, the first quarter of fiscal 2020, and compares results with the 13 weeks ended September 28, 2018. Amounts below are U.S. dollars.
Financial performance
| Metric | Quarter ended Sep. 27, 2019 | Prior-year quarter | Change |
|---|---|---|---|
| Revenue | $399.3 million | $377.2 million | +5.9% |
| Gross profit / margin | $46.0 million / 11.5% | $40.3 million / 10.7% | Margin +0.8 percentage points |
| Operating income / margin | $30.0 million / 7.5% | $25.8 million / 6.9% | Higher |
| Net income / margin | $26.0 million / 6.5% | $27.9 million / 7.4% | Down 6.8% |
| Diluted EPS | $0.69 | $0.75 | Down $0.06 |
| Cash from operations | $2.6 million | $34.6 million | Down $31.9 million |
- Revenue growth was driven mainly by optical communications, up 7.7% to $302.4 million; lasers, sensors and other revenue was nearly flat at $96.9 million. Optical communications represented 75.7% of revenue.
- Management attributed improved gross margin primarily to a more favorable product mix. SG&A rose 10.8% to $16.0 million, including higher share-based compensation and severance liabilities.
- Net income declined despite higher gross profit, primarily reflecting a $5.0 million year-over-year swing in foreign-exchange results, higher SG&A, and higher net interest expense. The quarter included a $2.0 million net foreign-exchange loss and $2.4 million interest expense; the latter included a $1.7 million unrealized interest-rate-swap loss.
- Operating cash flow was $2.6 million, versus $34.6 million a year earlier. The filing attributes the decline mainly to increased payments to trade accounts payable. Inventory rose $27.6 million in operating cash-flow changes during the quarter.
- Capital expenditures were $6.3 million. Investing cash flow was $11.7 million provided, including net cash from short-term investment transactions; financing cash flow used $4.4 million. Cash, cash equivalents and restricted cash ended at $198.1 million.
Balance sheet, debt and liquidity
- At September 27, 2019, cash and cash equivalents were $168.5 million, short-term investments $238.3 million, and restricted cash $29.6 million. Cash, cash equivalents and short-term investments totaled $406.8 million.
- Total borrowings were $60.9 million, compared with $60.9 million at June 28, 2019. Fabrinet replaced its Bank of America term loan with a $60.9 million Bank of Ayudhya term loan, maturing June 2024. The new loan bears a floating LIBOR-based rate, with swaps intended to fix the effective rate at 4.36%. The company reported covenant compliance at quarter-end.
- Current assets were $1.051 billion and current liabilities $323.4 million. Restricted cash includes $22.2 million pledged against customer-related standby letters of credit, in addition to $7.4 million in long-term restricted cash.
- Management said available cash, investments, operating cash flow and credit-facility funds should meet working-capital and capital-expenditure needs for at least 12 months. It also said existing manufacturing capacity should be sufficient for anticipated production over the next few quarters.
Changes, outlook and risks
- Revenue increased 5.9% year over year, while gross and operating margins improved. Net income and diluted EPS declined, and operating cash generation was substantially lower.
- North America revenue rose to 50.3% of total revenue from 47.7%; Asia-Pacific fell to 29.7% from 40.3%; Europe rose to 20.0% from 12.0%. Management expects the share of revenue from outside North America for the rest of fiscal 2020 to be in line with this quarter.
- No specific full-year revenue or earnings guidance is provided in the supplied filing text. Management expects fiscal 2020 SG&A to rise as a percentage of revenue, employee costs to increase in Thailand and China, and incremental cost of revenue from geographic expansion. It expects to maintain favorable service pricing through product mix, productivity, quality and cost improvements.
- Key risks include customer concentration (one customer accounted for 18% of revenue in each comparative quarter), short-term and nonbinding customer forecasts, dependence on optical communications, pricing pressure, supplier constraints, inventory exposure, foreign-exchange movements, and political, trade and operating risks in Thailand and China. Management said the Huawei-related export restrictions had affected customer orders in fiscal 2019’s fourth quarter and were expected to continue affecting orders for the foreseeable future.
- On October 1, 2019, Fabrinet advanced $24.3 million to a customer to support a transfer of manufacturing operations from Berlin to Thailand; the advance is due to be repaid by September 30, 2020. The company also adopted operating-lease accounting in the quarter, recognizing $6.2 million of lease liabilities at September 27, 2019.
- The filing reports no material pending or threatened legal claims. Disclosure controls and procedures were judged effective; no material change in internal control was reported apart from changes related to lease-standard adoption.
Important facts for investors to verify
- Customer concentration, including the identity and order outlook of the customer contributing 18% of quarterly revenue and the two customers representing at least 10% of receivables.
- Whether the sharp operating-cash-flow decline is temporary and how receivables, inventory and supplier payments evolve.
- The size and persistence of foreign-exchange and swap-related earnings volatility, and the effective borrowing rate and covenant headroom under the new loan.
- Exposure to Huawei-related restrictions, U.S.-China trade measures, sole-source suppliers, and planned geographic expansion costs.
- The filing contains inconsistent effective-tax-rate disclosures: the financial-statement tax expense and pretax income imply a rate different from the MD&A’s stated 5.6% and the note’s stated 5.0%. The precise reported rate is therefore unclear from the filing text and should be checked against the filed financial statements.