Flextronics International Ltd. — Q3 FY2015 Form 10-Q
Reporting period: Quarter and nine months ended December 31, 2014. The company provides global design, manufacturing, supply-chain and after-sales services to OEMs across High Reliability Solutions, Consumer Technology Group, Industrial and Emerging Industries, and Integrated Network Solutions. Financial statements are unaudited; Deloitte & Touche performed an interim review, not an audit. Dollar amounts below are U.S. dollars.
Key financial metrics
| Metric | Three months ended Dec. 31, 2014 | Three months ended Dec. 31, 2013 | Nine months ended Dec. 31, 2014 | Nine months ended Dec. 31, 2013 |
|---|---|---|---|---|
| Net sales | $7,025.1 million | $7,183.4 million | $20,196.3 million | $19,384.7 million |
| Gross profit / margin | $408.7 million / 5.8% | $398.6 million / 5.5% | $1,166.5 million / 5.8% | $1,078.1 million / 5.6% |
| Income before taxes | $170.5 million | $153.7 million | $514.8 million | $341.9 million |
| Net income | $152.9 million | $145.2 million | $465.7 million | $322.6 million |
| Diluted EPS | $0.26 | $0.23 | $0.78 | $0.51 |
- For the quarter, SG&A was $216.0 million (3.1% of sales); for nine months, $629.9 million (3.1%). The effective tax rate was 10.3% for the quarter and 9.5% year to date.
- Nine-month operating cash flow was $669.4 million, versus $1,118.3 million. Capital expenditures were $255.0 million gross, partly offset by $90.6 million of property-sale proceeds; reported free cash flow was $505.0 million, versus $657.2 million.
- At December 31, cash and cash equivalents were $1,707.2 million; current assets were $9,133.2 million and current liabilities $7,208.7 million. Debt, including current maturities, was approximately $2,090.7 million. The $1.5 billion revolving facility had no borrowings outstanding.
- Total assets were $12,090.5 million and shareholders’ equity $2,388.8 million. Nine-month share repurchases used $290.8 million of cash; the company reported $373.4 million of authorization remaining at quarter-end.
Material changes versus the prior comparable period
- Quarterly sales declined 2.2%, primarily reflecting softness in computing, mobile devices and telecommunications, and targeted customer exits in connected home. IEI and HRS growth partly offset declines in CTG and INS.
- Nine-month sales rose 4.2%. Growth in CTG included the ramp of Motorola manufacturing operations acquired in fiscal 2014; IEI and HRS also grew, while INS sales fell about $0.4 billion.
- Gross margin improved 30 basis points for the quarter and 20 basis points year to date. Management attributed the improvement to the prior-year restructuring, higher revenue and a favorable mix toward IEI and HRS. SG&A declined year over year, including as a share of sales for the nine-month period.
- Nine-month operating cash flow and free cash flow fell despite higher net income. Management cited a $200.5 million cash outflow from working-capital changes, mainly reductions in customer deposits received in prior periods; the prior-year period had a $450.6 million working-capital and other cash inflow.
Outlook, commentary, risks and unusual items
- Management expects new programs launched across its portfolio to ramp in fiscal 2015 and beyond. It cautioned that margins may be pressured during ramps by start-up costs, inefficiencies, under-absorbed overhead and low initial volumes, with improvement expected as volumes rise and cost measures take effect.
- Management said existing cash, expected operating cash flows and available credit should fund operations for at least 12 months. Cash is held globally; more than half was outside Singapore, and repatriation of some foreign funds could incur withholding taxes. Management intends to keep certain foreign earnings permanently reinvested abroad.
- Nine-month other income, net was $41.5 million, principally reflecting reversal of a $55.0 million customer contractual obligation after a contract amendment. This was partly offset by an $11.0 million loss on disposal of a Western European facility. These items benefited reported year-to-date pretax results.
- A Brazilian non-operating subsidiary received an approximately $100 million tax, interest and penalty assessment; the company said it believes the assessment lacks legal basis, considers losses remote and plans to contest it. In the Xilinx lawsuit, damages sought are unspecified; management said any probable or reasonably possible losses beyond accrued amounts were not expected to be material. Outcomes remain uncertain.
- Customer concentration remains notable: the ten largest customers represented about 51% of sales in both the quarter and nine-month period; Motorola-related sales exceeded 10%. The company also uses receivables-sale programs; about $1.2 billion of receivables sold for cash was excluded from the balance sheet at quarter-end across its programs.
- Other risks cited include changes in demand and product mix, customer cancellations or insourcing, product acceptance and short life cycles, component availability, capacity utilization, labor costs, acquisition integration, foreign exchange and tax changes. The filing reported no material change in market-risk exposure and effective disclosure controls.
Important facts for investors to verify
- Whether the expected program ramps translate into sustained revenue and margin improvement, particularly in light of quarterly sales declines and start-up cost risks.
- Drivers of weaker operating cash flow and free cash flow, including customer-deposit reductions, working-capital requirements and continued use of receivables sales.
- The durability of earnings excluding the $55.0 million obligation reversal and other unusual items, and the effect of the higher year-to-date effective tax rate.
- Progress and financial exposure in the Brazilian tax assessment and Xilinx litigation, including any developments after the filing date.
- Customer concentration, Motorola-related sales, debt obligations, liquidity access and the pace and price of further share repurchases.