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SANM > SEC Filings for SANM > Form 10-K on 21-Nov-2012All Recent SEC Filings

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Form 10-K for SANMINA CORP


21-Nov-2012

Annual Report


Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations

This report contains forward-looking statements within the meaning of
Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934. These statements relate to our expectations for future events and time periods. All statements other than statements of historical fact are statements that could be deemed to be forward-looking statements, including any statements regarding the expected amounts of future restructuring charges, future expansion plans, plans to sell or expand certain of our facilities, trends in future sales or results of operations, gross margin or operating margin, expenses, earnings or losses from operations, cash flow, inventory turns, synergies or other financial items; any statements of the plans, strategies and objectives of management for future operations; any statements concerning developments, performance or industry ranking; any statements regarding future economic conditions or performance; any statements regarding pending investigations, claims or disputes; any statements of expectation or belief; and any statements of assumptions underlying any of the foregoing. Generally, the words "anticipate," "believe," "continue," "could," "estimate," "expect," "future," "intend," "may," "plan," "potential," "predict," "should," "will," and similar expressions identify forward-looking statements. Our forward-looking statements are based on current expectations, forecasts and assumptions and are subject to risks, uncertainties and changes in condition, significance, value and effect. As a result of the factors described herein, and in the documents incorporated herein by reference, including, in particular, those factors described under "Item1A. Risk Factors" we undertake no obligation to publicly disclose any revisions to these forward-looking statements to reflect events or circumstances occurring subsequent to filing this report with the Securities and Exchange Commission.

Overview

We are a leading independent global provider of integrated manufacturing solutions, components, products and repair, logistics and after-market services. Our revenue is generated from sales of our services primarily to original equipment manufacturers (OEMs) in the communications networks; computing and storage; multimedia; industrial and semiconductor capital equipment; defense and aerospace; medical; clean technology and automotive industries.

Prior to the fourth quarter of 2012, our operations were managed as a single business - Electronic Manufacturing Services. Effective in the fourth quarter of 2012, we decided to change the way we managed the business in order to place more emphasis on components, products and services requiring advanced technologies and / or addressing mission-critical applications. As a result, our operations are managed as two businesses:

1) Integrated Manufacturing Solutions (IMS), which is a reportable segment consisting of printed circuit board assembly and test, optical and RF (Radio Frequency) modules, final system assembly and test, and direct order fulfillment.

2) Components, Products and Services (CPS), consisting of Components, which includes interconnect systems (printed circuit board fabrication and backplane and cable assemblies) and mechanical systems (enclosures, precision machining and plastic injection molding); Products, which includes memory and SSD products from Viking Technology; products from SCI Technology for use in the defense and aerospace industry and storage products from Newisys; and Services, which includes design, engineering, logistics and repair services.

In accordance with the accounting rules for segment reporting, our only reportable segment is IMS, which represented 81% of our total revenue in 2012. Our CPS business consists of multiple operating segments which do not meet the quantitative thresholds for being presented as reportable segments. Therefore, financial information for these operating segments will be presented in a single category entitled "Components, Products and Services".

All references in this section to years refer to our fiscal years ending on the last Saturday of each year closest to September 30th. Fiscal 2012, 2011 and 2010 are each 52 weeks.

Our strategy is to leverage our comprehensive service offering, advanced technologies, and global capabilities to further penetrate diverse end markets that we believe offer significant growth opportunities and have complex products that require higher value-added services. We believe this strategy differentiates us from our competitors and will drive more sustainable revenue growth and provide opportunities for us to ultimately achieve operating margins that exceed industry standards.

There are many challenges to successfully executing our strategy. For example, we compete with a number of companies in each of our key end markets. These include companies that are much larger than we are and smaller companies that focus on a particular niche. Although we believe we are well-positioned in each of our key end markets and are continuing to differentiate ourselves from our competitors, competition remains intense. Additionally, growing and leveraging our


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components to drive vertical integration and improve our operating margins continues to be challenging. Revenue from our components decreased in 2012, which creates pressure on our operating margins since these products typically have a higher contribution margin than that generated by our IMS business. We continue to address these challenges on both a short-term and long-term basis. For example, we recently announced the closure of a foreign components plant and made changes to the components operations management team.

In late 2008, the business environment became challenging due to adverse global economic conditions. These conditions slowed global economic growth and resulted in recessions in many locations, including the U.S., Europe and certain countries in Asia. These conditions materially and adversely impacted our financial condition and results of operations for 2009. Global economic conditions improved throughout 2010, contributing to a substantial increase in our business volume. As a result of this increase in business volume and the realization of benefits from our previous restructuring actions, our net sales and gross profit increased significantly during 2010 and we had our first profitable year since 2001. We were also profitable in 2011 and 2012. The economic environment, however, became more challenging in 2012 due to high levels of unemployment, concerns about debt levels and possible recessions in certain countries, and other factors. These conditions have resulted in reduced demand for many of our customers' products, causing these customers to reduce or reschedule their orders with us. We have experienced fluctuations in our results of operations in the past and may continue to experience such fluctuations in the future.

During 2012, we reduced our net long-term debt obligations by $360.0 million, which is expected to result in significant interest expense savings in future periods primarily due to our redemption of $400.0 million of notes due in 2016 which carried a fixed interest rate of 8.125%.

A relatively small number of customers have historically generated a significant portion of our net sales. Sales to our ten largest customers represented approximately 50% of our net sales for 2012, 2011 and 2010. For 2012, 2011 and 2010, one customer represented more than 10% of our net sales in each period.

We typically generate a significant portion of our net sales from international operations. Net sales generated from non-U.S. operations were approximately 80% of our total net sales for 2012, 2011 and 2010. The concentration of international operations has resulted primarily from a desire on the part of many of our customers to move production to lower cost locations in regions such as Asia, Latin America and Eastern Europe. We expect this trend to continue.

Historically, we have had substantial recurring sales from existing customers. We typically enter into supply agreements with our major OEM customers. These agreements generally have terms ranging from three to five years and cover the manufacture of a range of products. Under these agreements, a customer typically agrees to purchase its requirements for specific products in particular geographic areas from us. These agreements generally do not obligate the customer to purchase minimum quantities of products. In some circumstances, our supply agreements with customers provide for cost reduction objectives during the term of the agreement.


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Critical Accounting Policies and Estimates

Management's discussion and analysis of our financial condition and results of operations are based upon our consolidated financial statements which have been prepared in accordance with accounting principles generally accepted in the United States. We review the accounting policies used in reporting our financial results on a regular basis. The preparation of these financial statements requires us to make estimates and judgments that affect the reported amounts of assets, liabilities, net sales and expenses and related disclosure of contingent liabilities. On an ongoing basis, we evaluate the process used to develop estimates for certain reserves and contingent liabilities, including those related to product returns, accounts receivable, inventories, income taxes, warranty obligations, environmental matters, restructuring, and contingencies and litigation. We base our estimates on historical experience and on various other assumptions that are believed to be reasonable for making judgments about the carrying value of assets and liabilities that are not readily apparent from other sources. Our actual results may differ materially from these estimates.

We believe the following critical accounting policies reflect the more significant judgments and estimates used by us in preparing our consolidated financial statements:

Accounts Receivable and Other Related Allowances- We estimate uncollectible accounts, product returns and other adjustments related to current period net sales to establish related allowances. In making these estimates, we analyze the creditworthiness of our customers, past experience, changes in customer demand, and the overall economic climate in the industries we serve. If actual uncollectible accounts, product returns or other adjustments differ significantly from our estimates, the amount of sales or operating expenses we report would be affected. One of our most significant credit risks is the ultimate realization of our accounts receivable. This risk is mitigated by (i) a significant portion of sales to financially sound companies, (ii) ongoing credit evaluation of our customers, (iii) frequent contact with our customers, especially our most significant customers, which enables us to monitor changes in their business operations and to respond accordingly and (iv) obtaining, in certain cases, a guaranty from the customer's parent entity. To establish our allowance for doubtful accounts, we evaluate credit risk related to specific customers based on their financial condition and the current economic environment; however, we are not able to predict the inability of our customers to meet their financial obligations to us. We believe the allowances we have established are adequate under the circumstances; however, a change in the economic environment or a customer's financial condition could cause our estimates of allowances, and consequently the provision for doubtful accounts, to change, which could have a significant adverse impact on our financial position and/or results of operations. To establish the allowance for product returns and other adjustments, we primarily utilize historical data.

Inventories- We state inventories at the lower of cost (first-in, first-out method) or market value. Cost includes raw materials, labor and manufacturing overhead. We regularly evaluate the carrying value of our inventories and make provisions to reduce excess and obsolete inventories to their estimated net realizable values. The ultimate realization of inventory carrying amounts is affected by changes in customer demand for inventory that customers are not contractually obligated to purchase and inventory held for specific customers who are experiencing financial difficulties. Inventory write-downs are recorded based on forecasted demand, past experience with specific customers, the ability to redistribute inventory to other programs or back to our suppliers, and whether customers are contractually obligated and have the ability to pay for the related inventory. Certain payments received from customers for inventories that have not been shipped to customers or otherwise disposed of are netted against inventory.

We procure inventory based on specific customer orders and forecasts. Customers have limited rights of modification (for example, cancellations) with respect to these orders. Customer modifications of orders affecting inventory previously procured by us and our purchases of inventory beyond customer needs may result in excess and obsolete inventory. Although we may be able to use some excess inventory for other products we manufacture, a portion of the cost of this excess inventory may not be returned to the vendors or recovered from customers. Write-offs or write-downs of inventory could relate to:

declines in the market value of inventory;

         inventory held for specific customers who are experiencing financial
          difficulties; and


         changes in customer demand for inventory, such as cancellation of
          orders, and our purchases of inventory beyond customer needs that
          result in excess quantities on hand that we are not able to return to
          the vendor, use to fulfill orders from other customers or charge back
          to the customer.

Our practice is to dispose of excess and obsolete inventory as soon as practicable after such inventory has been identified as having no value to us.

Property, Plant and Equipment-We review property, plant and equipment for impairment whenever events or changes in circumstances indicate that the carrying amount of an asset or asset group may not be recoverable. An asset or asset


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group is considered impaired if its carrying amount exceeds the undiscounted future net cash flows the asset or asset group is expected to generate. If an asset or asset group is considered impaired, the impairment to be recognized is measured by the amount by which the carrying amount of the asset or asset group exceeds its fair value. An asset group is the unit of accounting for a long-lived asset or assets to be held and used, which represents the lowest level for which identifiable cash flows are largely independent of the cash flows of other groups of assets. For vertically integrated plants, each individual plant, together with the other plants with which it is vertically integrated, is an asset group. For all other plants, each individual plant is an asset group. For asset groups for which a building is the primary asset, we estimate fair value primarily based on data provided by commercial real estate brokers. For other assets, we estimate fair value based on projected discounted future net cash flows. Management applies significant judgment in estimating future cash flows.

Income Taxes- We estimate our income tax provision or benefit in each of the jurisdictions in which we operate, including estimating exposures related to examinations by taxing authorities. We believe our accruals for tax liabilities are adequate for all open years, based on our assessment of many factors including past experience and interpretations of tax law applied to the facts of each matter. Although we believe our accruals for tax liabilities are adequate, tax regulations are subject to interpretation and the tax controversy process is inherently lengthy and uncertain; therefore, our assessments can involve a series of complex judgments about future events and rely heavily on estimates and assumptions. To the extent the probable tax outcome of these matters changes, such changes in estimates will impact our income tax provision in the period in which such determination is made.

We must also make judgments regarding the realizability of deferred tax assets. The carrying value of our net deferred tax assets is based on our belief that it is more likely than not that we will generate sufficient future taxable income in certain jurisdictions to realize these deferred tax assets. We evaluate positive and negative evidence each reporting period when assessing the need for a valuation allowance. A valuation allowance is established for deferred tax assets when we believe realization of such assets is not more likely than not. Our judgments regarding future taxable income may change due to changes in market conditions, new or modified tax laws, tax planning strategies or other factors. If our assumptions, and consequently our estimates, change in the future, the valuation allowances we have established may be increased or decreased, resulting in a respective increase or decrease in income tax expense. As a result of our analysis of the positive and negative evidence available at the end of 2012, we released $158.7 million of our valuation allowance against our U.S. deferred tax assets. We will continue to evaluate all evidence in future periods to determine if further release of the valuation allowance is warranted.

Our effective tax rate is highly dependent upon the amount and geographic distribution of our worldwide income or losses, the tax regulations and tax holidays in each geographic region, the utilization of net operating losses, the availability of tax credits and carryforwards, and the effectiveness of our tax planning strategies.

We only recognize or continue to recognize tax positions that meet a "more likely than not" threshold of being upheld. Interest and penalties related to unrecognized tax benefits are recognized as a component of income tax expense.


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Results of Operations

Years Ended September 29, 2012, October 1, 2011 and October 2, 2010.

The following table presents our key operating results.

                                   Year Ended
                  September 29,      October 1,     October 2,
                       2012             2011           2010
                                 (In thousands)
Net sales        $     6,093,334    $ 6,602,411    $ 6,318,691
Gross profit     $       435,782    $   510,351    $   482,990
Operating income $       137,490    $   211,997    $   204,799
Net income       $       180,234    $    68,917    $   122,435

The following table presents certain statements of operations data expressed as a percentage of net sales.

                                                                          Year Ended
                                                  September 29, 2012    October 1, 2011     October 2, 2010
Net sales                                                      100.0             100.0               100.0
Cost of sales                                                   92.8              92.3                92.4
Gross margin                                                     7.2               7.7                 7.6

Operating expenses:
Selling, general and administrative                              4.0               3.7                 4.0
Research and development                                         0.4               0.3                 0.2
Other                                                            0.5               0.5                 0.2
Total operating expenses                                         4.9               4.5                 4.4

Net Sales

Net sales decreased from $6.6 billion for 2011 to $6.1 billion for 2012, a
decrease of 7.7%. Net sales increased from $6.3 billion for 2010 to $6.6 billion
for 2011, an increase of 4.5%. Sales by end market were as follows:

                                                             Year Ended                                     2012 vs. 2011               2011 vs. 2010
                                   September 29, 2012       October 1, 2011       October 2, 2010        Increase/(Decrease)         Increase/(Decrease)
                                                                                   (Dollars in thousands)
Communications                   $          2,858,827     $       3,134,550     $       2,483,935     $  (275,723 )     (8.8 )%   $   650,615       26.2  %
Industrial, Defense and Medical             1,547,127             1,609,370             1,614,233         (62,243 )     (3.9 )%        (4,863 )     (0.3 )%
Enterprise Computing and Storage              966,851               913,062             1,072,376          53,789        5.9  %      (159,314 )    (14.9 )%
Multimedia                                    720,529               945,429             1,148,147        (224,900 )    (23.8 )%      (202,718 )    (17.7 )%
Total                            $          6,093,334     $       6,602,411     $       6,318,691     $  (509,077 )     (7.7 )%   $   283,720        4.5  %

Sales to customers in our communications end market decreased from 2011 to 2012 primarily as a result of reduced demand from existing customers, particularly for wireless communications products. Sales in the multimedia market decreased from 2011 to 2012 primarily as a result of reduced demand for set-top boxes. Sales in our industrial, defense and medical end market decreased from 2011 to 2012 primarily due to weaker demand for semiconductor capital equipment. The increase from 2011 to 2012 in our enterprise computing and storage end market was primarily attributable to increased demand from existing customers, both for established programs and new program wins for new technologies introduced by our customers.


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The increase from 2010 to 2011 in our communications end market is primarily attributable to increased demand from existing customers, both for established programs and new program wins for new technologies introduced by our customers. Despite a significant decrease in demand from defense customers resulting primarily from reduced U.S. defense budget spending, sales in our industrial defense and medical end market were relatively flat from 2010 to 2011 due to stronger demand from industrial and medical customers. Sales to customers in our enterprise computing and storage end market decreased from 2010 to 2011 as a result of certain customer programs going end-of-life, the effect of which was not completely offset by new programs. Sales to customers in our multimedia market decreased from 2010 to 2011 primarily as a result of reduced demand from one program.

Gross Margin

Gross margin was 7.2%, 7.7% and 7.6% in 2012, 2011 and 2010, respectively. The decrease from 2011 to 2012 was primarily attributable to decreased sales, especially for our components which typically have higher contribution margins than our integrated manufacturing solutions. The increase from 2010 to 2011 was primarily a result of the profit contribution from increased business volume and improved operational performance in our components operations. We have experienced fluctuations in gross margin in the past and may continue to do so in the future. Fluctuations in our gross margins may be caused by a number of factors, including:

Changes in customer demand and sales volumes for our vertically integrated system components and subassemblies;

Changes in the overall volume of our business;

Changes in the mix of high and low margin products demanded by our customers;

Parts shortages and operational disruption caused by natural disasters;

Greater competition in the EMS industry and pricing pressures from OEMs due to greater focus on cost reduction;

Provisions for excess and obsolete inventory;

Level of operational efficiency;

         Pricing pressure in the electronics industry resulting from economic
          conditions , with EMS companies competing more aggressively on cost to
          obtain new or maintain existing business;

Wage inflation and rising materials costs; and

Our ability to transition manufacturing and assembly operations to lower cost regions in an efficient manner.

Selling, General and Administrative

Selling, general and administrative expenses were $240.9 million, $247.1 million and $252.5 million in 2012, 2011 and 2010, respectively. As a percentage of net sales, selling, general and administrative expenses were 4.0% for 2012, 3.7% for 2011 and 4.0% for 2010. The decrease in absolute dollars from 2011 to 2012 was primarily attributable to lower personnel-related costs.

The decrease in absolute dollars from 2010 to 2011 was primarily attributable to reduced incentive compensation and bad debt expense, offset partially by higher personnel costs resulting from increased headcount.

Research and Development

Research and development expenses were $21.9 million, $20.8 million and $13.0 million in 2012, 2011 and 2010, respectively. As a percentage of net sales, research and development expenses were 0.4% for 2012, 0.3% for 2011 and 0.2% for 2010. The increase from 2011 to 2012 was primarily attributable to new projects in our enterprise computing and storage end market. The increase in absolute dollars from 2010 to 2011 was primarily attributable to investments in new projects in multiple business units.

Restructuring

Restructuring Plans - 2012

In 2012, we initiated restructuring plans related to plant closures and business reorganizations. Costs associated with


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these plans are expected to be $23.4 million and to include employee severance, costs related to leased facilities, asset impairment charges and other exit costs. In connection with actions taken to date under these plans, we recorded employee termination benefits of $11.6 million for approximately 2,150 employees, $0.5 million of costs related to leased facilities and $3.5 million of asset impairment charges. These plans are expected to be completed within the next year. As of September 29, 2012, $10.3 million of severance remains payable and is expected to be paid in 2013.

Below is a summary of restructuring costs associated with facility closures and other consolidation efforts that were implemented in 2012:

                                                      Employee
                                                    Termination /      Leases and Facility
                                                    Severance and          Shutdown and
                                                  Related Benefits     Consolidation Costs       Total
                                                                      (In thousands)
. . .
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