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FLEX > SEC Filings for FLEX > Form 10-Q on 26-Oct-2012All Recent SEC Filings

Show all filings for FLEXTRONICS INTERNATIONAL LTD.

Form 10-Q for FLEXTRONICS INTERNATIONAL LTD.


26-Oct-2012

Quarterly Report


ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

Unless otherwise specifically stated, references in this report to "Flextronics," "the Company," "we," "us," "our" and similar terms mean Flextronics International Ltd. and its subsidiaries.

This report on Form 10-Q contains forward-looking statements within the meaning of Section 21E of the Securities Exchange Act of 1934, as amended, and
Section 27A of the Securities Act of 1933, as amended. The words "expects," "anticipates," "believes," "intends," "plans" and similar expressions identify forward-looking statements. In addition, any statements which refer to expectations, projections or other characterizations of future events or circumstances are forward-looking statements. We undertake no obligation to publicly disclose any revisions to these forward-looking statements to reflect events or circumstances occurring subsequent to filing this Form 10-Q with the Securities and Exchange Commission. These forward-looking statements are subject to risks and uncertainties, including, without limitation, those risks and uncertainties discussed in this section, as well as any risks and uncertainties discussed in Part II, Item 1A, "Risk Factors" of this report on Form 10-Q, and in Part I, Item 1A, "Risk Factors" and in Part II, Item 7, "Management's Discussion and Analysis of Financial Condition and Results of Operations" in our Annual Report on Form 10-K for the year ended March 31, 2012. In addition, new risks emerge from time to time and it is not possible for management to predict all such risk factors or to assess the impact of such risk factors on our business. Accordingly, our future results may differ materially from historical results or from those discussed or implied by these forward-looking statements. Given these risks and uncertainties, the reader should not place undue reliance on these forward-looking statements.

OVERVIEW

We are a leading global provider of vertically-integrated advanced design, manufacturing and services to OEMs of a broad range of electronics products in the following markets: HRS, which is comprised of our medical, automotive, and defense and aerospace businesses; HVS, which includes our mobile devices business, including smart phones, consumer electronics, including game consoles, high-volume computing business, including notebook PC, tablets, printers, and our ODM PC business which we exited in fiscal 2012; IEI, which is comprised of our white goods, equipment, and emerging industries businesses; and INS, which includes our telecommunications infrastructure, data networking, connected home, and server and storage businesses.

We provide a full range of vertically-integrated global supply chain services through which we can design, build, ship and service a complete packaged product for our customers. Customers leverage our services to meet their product requirements throughout the entire product life cycle. Our vertically-integrated service offerings include: design services; rigid printed circuit board and flexible circuit board fabrication; systems assembly and manufacturing; logistics; after-sales services; supply chain management software solutions and component product offerings such as power supplies for computing and other electronic devices.

We use a portfolio management approach to manage our extensive service offering. As our OEM customers change in the way they go to market, we reorganize and rebalance our business portfolio in order to align with our customers and to optimize our operating results. As part of our portfolio management strategy, we have decreased the percentage of our revenue from our HVS businesses, which has lower margins with our exit from our ODM PC business and a reduction of concentration of business with a well known smart phone OEM, and increased the percentage of our revenue from our more complex and higher margin non-HVS businesses. For the six-month period ended September 28, 2012, the impact from our exit of our ODM PC business and the reduction of business with our largest smart phone OEM has resulted in shifting the mix of our revenue to comprise a greater proportion of non-HVS businesses, which has resulted in expanded margins.

During fiscal 2013, we have launched multiple new programs broadly across our portfolio of services, and, in some instances, we are deploying new technologies. These new programs continue to increase in complexity in order to provide competitive advantages to our customers. We anticipate these programs ramping to an increase in volume production in early fiscal 2014. Until we achieve higher levels of revenue, we expect that our gross margin and operating margin may be negatively impacted as profitability normally lags revenue growth due to incremental start-up costs, operational inefficiencies, under-absorbed overhead costs and lower manufacturing program volumes while in the ramp phase. We expect that our margins will improve over time as the revenue increases due to increased volumes for these programs.

In October 2012, the Company entered into an agreement to sell a non-core business, which is expected to close in fiscal 2013. We expect to receive approximately $8.4 million in total proceeds from the sale. Additionally, in the first quarter of fiscal 2013, the Company finalized the sale of certain assets of its Vista Point Technologies camera modules business, including intellectual property and the China-based manufacturing operations to Tessera Technologies, and DigitalOptics Corporation, a wholly-owned subsidiary of Tessera Technologies. The total proceeds received on the sale of this business amounted to $16.5 million.

The Company has reported the results of operations and financial position of these non-core businesses as discontinued operations within the condensed consolidated statements of operations and the condensed consolidated balance sheets for all periods presented as applicable. Loss from discontinued operations, net of tax, was $9.9 million and $18.2 million during the three-month and six-month


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periods ended September 28, 2012. The loss from discontinued operations for the second quarter of fiscal 2013 includes $10.0 million for impairment of customer-related intangible assets for the non-core business that will be divested in fiscal 2013 based on the carrying value of net assets and the expected sale proceeds of $8.4 million. The results of operations for the six-month period ended September 28, 2012 include $4.7 million for the loss on the sale of the camera modules business during the first quarter of fiscal 2013, which was primarily in connection with the value of fixed assets sold compared to the gross proceeds received from the sale. The data below, and discussion that follows, represent our results from continuing operations.

We are one of the world's largest EMS providers, with revenues of $12.2 billion during the six-month period ended September 28, 2012, and $29.4 billion in fiscal year 2012. As of March 31, 2012, our total manufacturing capacity was approximately 26.7 million square feet. We design, build, ship and service electronics products for our customers through a network of facilities in over 30 countries across four continents. The following tables set forth net sales and net property and equipment, by country, based on the location of our manufacturing sites:

                      Three-Month Periods Ended                       Six-Month Periods Ended
Net sales:    September 28, 2012      September 30, 2011     September 28, 2012     September 30, 2011
                                                   (In thousands)
China        $          2,120,278    $          3,363,599   $          4,038,941   $          6,526,388
Mexico                    883,852               1,022,940              1,810,001              1,890,712
U.S                       656,243                 779,341              1,295,772              1,510,964
Malaysia                  657,756                 669,271              1,344,423              1,311,313
Hungary                   379,981                 571,794                716,953              1,147,677
Other                   1,476,731               1,601,483              2,944,746              3,116,662
             $          6,174,841    $          8,008,428   $         12,150,836   $         15,503,716




                                      As of                As of
Property and equipment, net:    September 28, 2012     March 31, 2012
                                           (In thousands)
China                          $            862,152   $        840,032
Mexico                                      307,433            309,325
Malaysia                                    208,034            170,990
U.S                                         157,752            132,944
Hungary                                     121,033            130,458
Other                                       522,893            492,693
                               $          2,179,297   $      2,076,442

We believe that the combination of our extensive design and engineering services, significant scale and global presence, vertically-integrated end-to-end services, advanced supply chain management, industrial campuses in low-cost geographic areas and operational track record provide us with a competitive advantage in the market for designing, manufacturing and servicing electronics products for leading multinational and regional OEMs. Through these services and facilities, we offer our OEM customers the ability to simplify their global product development, manufacturing processes, and after sales services, and enable them to achieve meaningful time to market and cost savings.

Our operating results are affected by a number of factors, including the following:

changes in the macro-economic environment and related changes in consumer demand;

the mix of the manufacturing services we are providing, the number and size of new manufacturing programs, the degree to which we utilize our manufacturing capacity, seasonal demand, shortages of components and other factors;

the effects on our business when our customers are not successful in marketing their products, or when their products do not gain widespread commercial acceptance;

our components offerings which have required that we make substantial investments in the resources necessary to design and develop these products;

our ability to achieve commercially viable production yields and to manufacture components in commercial quantities to the performance specifications demanded by our OEM customers;

the effects on our business due to our customers' products having short product life cycles;


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our customers' ability to cancel or delay orders or change production quantities;

our customers' decision to choose internal manufacturing instead of outsourcing for their product requirements;

our exposure to financially troubled customers; and

integration of acquired businesses and facilities.

Our business has been subject to seasonality primarily due to our HVS market, which includes our mobile and consumer devices businesses which historically exhibit particular strength during our second and third fiscal quarters in connection with the holiday season.

CRITICAL ACCOUNTING POLICIES AND ESTIMATES

The preparation of financial statements in conformity with U.S. GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities, the disclosure of contingent assets and liabilities at the date of the financial statements, and the reported amounts of revenues and expenses during the reporting period. Actual results may differ from those estimates and assumptions.

Refer to the accounting policies under Item 7, "Management's Discussion and Analysis of Financial Condition and Results of Operations" in our Annual Report on Form 10-K for the fiscal year ended March 31, 2012, where we discuss our more significant judgments and estimates used in the preparation of the condensed consolidated financial statements.

RESULTS OF OPERATIONS

The following table sets forth, for the periods indicated, certain statements of operations data expressed as a percentage of net sales. The financial information and the discussion below should be read in conjunction with the condensed consolidated financial statements and notes thereto included in this document. In addition, reference should be made to our audited consolidated financial statements and notes thereto and related Management's Discussion and Analysis of Financial Condition and Results of Operations included in our 2012 Annual Report on Form 10-K.

                                             Three-Month Periods Ended          Six-Month Periods Ended
                                           September 28,    September 30,    September 28,    September 30,
                                               2012             2011             2012             2011
Net sales                                          100.0 %          100.0 %          100.0 %          100.0 %
Cost of sales                                       94.1             95.4             94.0             95.0
Gross profit                                         5.9              4.6              6.0              5.0
Selling, general and administrative
expenses                                             3.1              2.6              3.2              2.7
Intangible amortization                              0.1              0.1              0.1              0.2
Interest and other expense (income),
net                                                 (0.2 )              -              0.2              0.2
Income from continuing operations
before income taxes                                  2.9              1.9              2.5              1.9
Provision for income taxes                           0.3              0.2              0.2              0.2
Income from continuing operations                    2.6              1.7              2.3              1.7
Loss from discontinued operations, net
of tax                                              (0.2 )           (0.1 )           (0.2 )           (0.1 )
Net income                                           2.4 %            1.6 %            2.1 %            1.6 %

Net sales

The following table sets forth net sales by market:

                                               Three-Month Periods Ended                        Six-Month Periods Ended
Market:                                September 28, 2012      September 30, 2011      September 28, 2012      September 30, 2011
                                                                             (In thousands)
Integrated Network Solutions          $          2,725,825    $          2,986,584    $          5,494,596    $          5,826,523
High Velocity Solutions                          1,798,722               3,489,822               3,338,423               6,474,960
Industrial & Emerging Industries                   993,119                 965,892               1,990,759               2,080,156
High Reliability Solutions                         657,175                 566,130               1,327,058               1,122,077
                                      $          6,174,841    $          8,008,428    $         12,150,836    $         15,503,716


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Net sales during the three-month period ended September 28, 2012 totaled $6.2 billion, representing a decrease of approximately $1.8 billion, or 22.9%, from $8.0 billion during the three-month period ended September 30, 2011. The decline in net sales was primarily due to a $1.7 billion decrease in the HVS market, directly as a result of our strategy to rebalance our portfolio mix. As a part of this strategy, we exited the ODM PC business during fiscal 2012, which resulted in approximately $0.8 billion reduction of sales, and reduced our concentration of business with a well known smart phone OEM, which resulted in approximately $0.5 billion reduction of sales as compared with the three-month period ended September 30, 2011. The remainder of the decrease in net sales is driven by reduced revenue broadly across our top customers, primarily those in our Integrated Network Solutions business, due to the weakened macro-economic environment and market conditions that has led to weak demand. Net sales decreased by $1.3 billion in Asia, $0.3 billion in the Americas, and $0.2 billion in Europe.

Net sales during the six-month period ended September 28, 2012 totaled $12.2 billion, representing a decrease of approximately $3.3 billion, or 21.6%, from $15.5 billion during the six-month period ended September 30, 2011. The decline in net sales was primarily due to a $3.1 billion decrease in the HVS market. Our exit from the ODM PC business during fiscal 2012 resulted in a $1.4 billion reduction of sales. Further, the decrease in our concentration of business with a well known smart phone OEM resulted in an approximately $0.8 billion reduction of sales in the HVS market as compared with the six-month period ended September 30, 2011. The remainder of the decrease in net sales was due to a weakened macro-economic environment that has led to a decrease in demand. Net sales decreased by $2.5 billion in Asia and $0.4 billion each in the Americas and Europe.

Our ten largest customers during the three-month and six-month periods ended September 28, 2012 accounted for approximately 49% and 48% of net sales, respectively. No customer accounted for greater than 10% of our net sales during the three-month and six-month periods ended September 28, 2012 as a direct result of our portfolio rebalance activities. Our ten largest customers during the three-month and six-month periods ended September 30, 2011 accounted for approximately 59% and 57% of net sales, respectively. Hewlett Packard accounted for greater than 10% of our net sales in both periods, and Research In Motion accounted for greater than 10% of our net sales during the three-month period ended September 30, 2011.

Gross profit

Gross profit is affected by a number of factors, including the number and size of new manufacturing programs, product mix, component costs and availability, product life cycles, unit volumes, pricing, competition, new product introductions, capacity utilization and the expansion and consolidation of manufacturing facilities. The flexible design of our manufacturing processes allows us to build a broad range of products in our facilities, which allows us to better utilize our manufacturing capacity. In the cases of new programs, profitability normally lags revenue growth due to product start-up costs, lower manufacturing program volumes in the start-up phase, operational inefficiencies, and under-absorbed overhead. Gross margin often improves over time as manufacturing program volumes increase, as our utilization rates and overhead absorption improves, and as we increase the level of vertically-integrated manufacturing services content. As a result of these various factors, our gross margin varies from period to period.

Gross profit during the three-month period ended September 28, 2012 decreased $5.7 million to $366.8 million, or 5.9% of net sales from $372.5 million, or 4.6% of net sales, during the three-month period ended September 30, 2011. Gross profit during the six-month period ended September 28, 2012 decreased $49.2 million to $ 724.1 million, or 6.0% of net sales from $773.3 million, or 5.0% of net sales, during the six-month period ended September 30, 2011. Despite the lower gross profit, the Company has experienced increases in its gross margin primarily attributable to a more favorable product mix. During the three-month and six-month periods ended September 28, 2012, our sales of products in the HVS market were significantly lower and comprised of a lower percentage of our total revenues, thereby increasing our gross margin as HVS products carry lower margins than the overall margins on the non-HVS business. In addition, the prior year three-month and six-month periods reflected the absorption of unfavorable manufacturing period costs and costs incurred for right-sizing activities associated with certain product transitions that had negatively impacted the gross margins.

Selling, general and administrative expenses

Selling, general and administrative expenses ("SG&A") amounted to $192.2 million, or 3.1% of net sales, during the three-month period ended September 28, 2012, decreasing $18.2 million from $210.4 million, or 2.6% of net sales, during the three-month period ended September 30, 2011. SG&A was $382.5 million, or 3.2% of net sales, during the six-month period ended September 28, 2012, decreasing $39.7 million from $422.2 million, or 2.7% of net sales, during the six-month period ended September 30, 2011. The decrease in SG&A in dollars for the three-month and six-month periods ended September 28, 2012 was primarily due to elimination of costs relating to our ODM PC business which we fully exited during fiscal year 2012. SG&A expenses as a percentage of net sales increased primarily due to the combination of the lower revenues and the fixed nature of some of our SG&A expenses that are not directly driven by revenue generating activities.


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Intangible amortization

Amortization of intangible assets decreased by $4.2 million during the three-month period ended September 28, 2012 to $7.3 million from $11.5 million for the three-month period ended September 30, 2011, and decreased by $8.5 million during the six-month period ended September 28, 2012 to $15.1 million from $23.6 million for the six-month period ended September 30, 2011. The decrease for both periods was primarily due to the use of the accelerated method of amortization for certain customer-related intangibles, which results in decreasing expense over time and for intangible assets that became fully amortized during the 2012 fiscal year.

Interest and other expense (income), net

We recognized a $23.0 million gain as a component of interest and other expense (income), net in the three-month period ended September 28, 2012 for the fair value adjustment of the Company's warrants to purchase common shares of a supplier. These fully-vested warrants, which are derivative instruments, are to be fair valued at each reporting date with gains or losses from changes in fair value recognized in the statements of operations. The gain from changes in fair value recognized in the three-month period ended September 28, 2012 includes an out-of-period adjustment of $12.8 million and the six-month period ended September 28, 2012 includes an out-of-period adjustment of $5.7 million. Management believes the impact of the error is not material to current or prior fiscal periods. The Company's interest and other expense (income), net in future periods could be significantly impacted by adjustments to the fair value of these warrants.

Interest and other expense (income), net was $10.5 million of income during the three-month period ended September 28, 2012 compared to $1.4 million of expense during the three-month period ended September 28, 2011, a change of $11.9 million that was primarily due to the fair value adjustment of $23.0 million discussed above and a decrease in interest expense amounting to $1.1 million, off-set by a decrease in gains on foreign exchange transactions amounting to $13.3 million. The decrease in gains on foreign exchange transactions is attributable to our cross-border foreign currency transactions and the revaluation of RMB denominated net asset positions of our U.S. functional currency sites based in China. The decrease in interest costs is a result of lower interest on our debt facilities we entered into in the third quarter of fiscal 2012 and lower average debt balances in the second quarter of fiscal 2013.

Interest and other expense (income), net was $0.3 million of expense during the six-month period ended September 28, 2012 compared to $23.7 million of expense during the six-month period ended September 28, 2011, a decrease of $23.4 million primarily due to the fair value adjustment of $23.0 million discussed above.

Income taxes

Certain of our subsidiaries have, at various times, been granted tax relief in their respective countries, resulting in lower income taxes than would otherwise be the case under ordinary tax rates. Refer to note 11, "Income Taxes," of the notes to the consolidated financial statements in our Annual Report on Form 10-K for the fiscal year ended March 31, 2012 for further discussion.

We have tax loss carryforwards attributable to operations for which we have recognized deferred tax assets. Our policy is to provide a reserve against those deferred tax assets that in our estimate are not more likely than not to be realized.

The consolidated effective tax rate was 8.9% and 10.7% for the six-month periods ended September 28, 2012 and September 30, 2011, respectively, and varies from the Singapore statutory rate of 17.0% as a result of the amount of earnings from different jurisdictions, operating loss carryforwards, income tax credits, changes in previously established valuation allowances for deferred tax assets based upon our current analysis of the realizability of these deferred tax assets, changes in liabilities for uncertain tax positions, as well as certain tax holidays and incentives granted to our subsidiaries primarily in China, Malaysia, Israel, Poland and Singapore. We generate most of our revenues and profits from operations outside of Singapore. We currently do not anticipate a significant impact to our fiscal 2013 year effective rate as a result of changes to the mix in revenues and operating profits between taxing jurisdictions. The effective tax rate for the six-month period ended September 28, 2012 is lower than the effective rate for the six-month period ended September 30, 2011 primarily as a result of changes in the mix of revenues and operating profits between taxing jurisdictions, reversals of valuation allowances and reductions in liabilities for uncertain tax positions which are recorded on a discrete basis in the quarter in which circumstances change and indicate an adjustment to income tax assets or liabilities as required.

LIQUIDITY AND CAPITAL RESOURCES

As of September 28, 2012, we had cash and cash equivalents of approximately $1.6 billion and bank and other borrowings of approximately $2.1 billion. We also have a $1.5 billion revolving credit facility that expires in October 2016 under which there were no borrowings outstanding as of the end of the quarter. As of September 28, 2012, we were in compliance with the covenants under each of our existing credit facilities.


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Cash provided by operating activities was $527.8 million during the six-month period ended September 28, 2012. This resulted primarily from $279.0 million of net income for the period as adjusted to exclude approximately $229.7 million of net non-cash expenses for depreciation, amortization and other impairment charges, and $19.1 million from changes in our operating assets and liabilities.

For the quarterly periods indicated, certain key liquidity metrics were as follows:

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