Flex Ltd. (NASDAQ:FLEX) Q3 2024 Earnings Call Transcript

Flex Ltd. (NASDAQ:FLEX) Q3 2024 Earnings Call Transcript January 31, 2024

Flex Ltd. beats earnings expectations. Reported EPS is $0.71, expectations were $0.62. FLEX isn’t one of the 30 most popular stocks among hedge funds at the end of the third quarter (see the details here).

Operator: Good afternoon, and thank you for standing by. Welcome to Flex’s Third Quarter Fiscal 2024 Earnings Conference Call. Presently all participants are in a listen-only mode. After the speakers’ remarks, there will be a question-and-answer session. [Operator Instructions] As a reminder, this call is being recorded. I will now turn the call over to Mr. David Rubin. You may begin.

David Rubin: Thank you, Diego. Good afternoon, and welcome to Flex’s third quarter of fiscal 2024 earnings conference call. With me today is our Chief Executive Officer, Revathi Advaithi; and our Chief Financial Officer, Paul Lundstrom. Both will give brief remarks followed by a Q&A. Slides for today’s call as well as a copy of the earnings press release and summary financials are available on the Investor Relations section at flex.com. This call is being recorded and will be available for replay on our corporate website. As a reminder, today’s call contains forward-looking statements which are based on our current expectations and assumptions. These statements involve risks and uncertainties that could cause actual results to differ materially.

For a full discussion of these risks and uncertainties, please see the cautionary statements in our presentation, press release, or in the Risk Factors section in our most recent filings with the SEC. Note, this information is subject to change and we undertake no obligation to update these forward-looking statements. Please note, unless otherwise stated, our results provided will be non-GAAP measures and all growth metrics will be on a year-over-year basis. The full non-GAAP to GAAP reconciliations can be found in the appendix slides of today’s presentation as well as in the summary financials posted on the Investor Relations website. As previously announced on January 2nd, 2024, Flex completed the spin-off of all of its remaining interest in Nextracker to Flex shareholders.

As a result of the completion of the spin-off, Nextracker became a fully independent public company. Flex no longer directly or indirectly holds any shares of Nextracker common stock and Flex will no longer consolidate Nextracker into its financial results. Please note, our guidance for fourth quarter of fiscal 2024 excludes any economic interest in Nextracker, and for fiscal year 2024, full-year guidance includes Flex economic interest in Nextracker for Q1 through Q3. However, it also excludes it from Q4 fiscal 2024. Lastly, the historical results of Nextracker and certain assets and liabilities included in the spin-off will be reported in Flex’s consolidated financial statements as discontinued operations beginning in Flex’s fourth quarter ending in March 31st, 2024.

With all that, now I’d like to turn the call over to our CEO, Revathi.

Revathi Advaithi: [Technical Difficulty] the tax-free spin that occurred in early January, making Nextracker a fully independent company. We wish them great success in the future and look forward to watching their continued growth. Through this process, we unlock tremendous value and the approach reflects in our continued focus on creating long-term shareholder value. Of course, Flex remains committed to enabling the transition to renewable energy in our core business. We serve a wide variety of customers and applications, generating over $1 billion in revenue for this market. I should also mention that we continue to expand the use of renewable energy in our own factories as part of our net zero journey. Now moving to our results on Slide 4.

Overall fiscal Q3 was another quarter of strong execution. For total Flex, revenue was $7.1 billion. Adjusted operating margin came in at 6.7%, and we delivered $0.71 of adjusted EPS. Looking at results for Core Flex, which exclude Nextracker, we continue to execute very well with this dynamic environment. Revenue was $6.4 billion. Core Flex operating margin came in at a record 4.9%, up both sequentially and year-over-year, and we delivered $0.54 of EPS. Again this was solid execution in the quarter. Now, the takeaway should be clear. Our results continue to show the resiliency of the Flex model and fundamental changes to the industry. Despite significant macro-driven volume fluctuations, we have continued to deliver on our margin and EPS commitments.

We remain very well positioned across the markets we serve, and this comes from our deep relationships with our customers and our ability to provide world-class quality and value in the products we manufacture. I want to share a couple of highlights from the quarter that demonstrate our strong market position. AI is driving changes in data movement, both through the data center and across the network. Our strength in hyperscale data center and networking infrastructure are key enablers of our customer success in delivering these products at scale. We’ve talked before about our strong positioning with multiple hyperscale customers. We’re the only EMS provider with a comprehensive offering including bespoke fully-integrated rack systems and power solutions ranging from embedded, discrete and all the way up to data center critical power.

In addition, we offer value-added services in design, metal, components, supply chain management integration, and aftermarket services, including circular economy. As a result of our comprehensive offerings, we continue to see very strong growth in our cloud business. On the networking side, a good example is our partnership with Cisco. Recently, we were honored to receive their 2023 Electronic Manufacturing Services Partner of the Year Award. We’re also building on our 20-year partnership with Ciena, another world-class networking company to provide US-based manufacturing capabilities and supply chain services, enabling Ciena to ramp high volume production of its innovative pluggable optical technologies in support of the BEAD, the Broadband Equity, Access, and Deployment programs, and the Build America Buy America requirements.

Now looking at automotive. Next-gen mobility, including EV onboard electronics, charging infrastructure, advanced compute systems for the software-defined vehicle remain very important long-term growth drivers. And Flex plays a key role across these ecosystems to support the OEMs, including designing our co-designing content, while bringing world-class manufacturing and supply chain leadership. We have built a well-diversified portfolio of solutions for ICE, hybrid, full EV, and across the spectrum of driver assistance and safety. For example, our advanced compute platform technology that powers software-defined vehicles is agnostic across ICE, hybrid and EVs. We also have established relationships with many of the upstream semiconductor providers as evidenced by our previously announced partnership with Nvidia for ADAS and autonomous applications, and we recently showcased our next-gen EV power electronics full design capability with STMicroelectronics, utilizing the latest in silicon carbide MOSFET technology.

So you can see, Flex is well-positioned for every stage of this long-term technology transition. It is also very important to remember as a platform we are experts in complex computing power, which gives us a competitive advantage across the multiple markets. Our technology and vertical integration capabilities serve many applications, including hyperscale data centers, renewables and next-generation mobility. Our customers look to us to help them navigate the complexity and implement these integrated capabilities to give them a competitive advantage. Now the current environment remains highly dynamic and we’re already seeing the impact from elevated interest rates in some markets and excess inventory in others. We have made it through the supply chain crisis.

However, we carefully watch the situation in the Red Sea and how that could impact supply lines. We continue to execute through the cycle and we are very well-positioned in markets with strong long-term secular drivers. The greater stability in margins and EPS validates the change we made to our business and the evolution of the top-tier EMS industry. We are very optimistic about our future. With that, I’ll pass the call over to Paul to take you through our financials. Paul?

Paul Lundstrom: Okay. Thank you, Revathi. I would also like to start by wishing Nextracker great success on the new path and reiterate something that Revathi said. This separation is a great example of our commitment to create strong shareholder value. As you may recall, we executed on multiple value-creating transactions over this whole process with the private equity investment, the IPO, the follow-on, and finally the investor-friendly and tax-efficient spin of the remaining Nextracker shares. Jumping to our third quarter performance on Slide 7. It was another solid quarter. Third quarter revenue was $7.1 billion. Gross profit improved to $712 million and gross margin increased 10%, an increase of over 200 basis points. Operating income was $477 million with operating margin at 6.7%, up from 4.8% in the prior year period.

And earnings per share came in at $0.71 for the quarter, increasing 15%, which includes $0.10 of Nextracker non-controlling interest. Looking at Core Flex results, which excludes Nextracker, results were stronger than initially expected with Core Flex revenue down — excuse me Core Flex revenue up $6.4 billion, down 11%, but against a tough year-over-year compare. Core Flex operating margin came in at a record 4.9%, up 60 basis points with another quarter of sequential margin expansion, up 20 basis points from Q2. This is reflective of our strong execution, including cost actions and continued mix improvements. The Flex Core business delivered $0.54 of EPS, up 10%. Turning to our quarterly segment results on the next slide. Reliability revenue was $3 billion with solid demand in auto and medical devices, while we saw further macro-driven weakness in commercial industrial solutions and continued headwinds in residential solar.

Operating income came in at $159 million and operating margin for this segment improved sequentially and year-over-year to 5.4%. In Agility, revenue came in at $3.5 billion as we executed on very strong AI-driven cloud demand. Operating income came in at $174 million. The team delivered a record 5% operating margin, reflective of favorable mix, continuing value-added services adoption and strong operational cost management. Finally, Nextracker delivered revenue of $710 million, up 38%. Operating income at Nextracker was $162 million, delivering 23% operating margin. Moving to cash flow on Slide 9. We made further progress on our inventory improvement goals, reducing net inventory again by 5% sequentially and 13% year-over-year. In general, the semiconductor shortages that punctuated the previous supply chain challenges are largely back to normal, and we expect continued reductions in inventory and working capital advances.

However, the Red Sea situation could temporarily impact the pace of those reductions if supply chains are adversely affected by increasing transit times. Q3 net CapEx came in at $128 million, on target at 2% of revenue. We expect to maintain a similar total investment level in Q4. Free cash flow in the quarter was $156 million. We expect free cash flow in Q4 to be between $300 million and $400 million for Core Flex. So given where we are today, that would put us in line with our original FY 2024 free cash flow guidance of $600 million that had assumed a combined Flex and Nextracker for the full year, despite the absence of Nextracker in Q4. In the quarter, we returned $275 million to shareholders through share repurchases ahead of the full Nextracker separation.

Fiscal year-to-date, we have returned approximately $780 million. Please turn to the next slide for our segment outlook for the fiscal fourth quarter. For Reliability Solutions, we expect the revenue will be down mid-single-digit to low-teens. As we expect continued strength in cloud power solutions, stable demand in automotive and medical devices, and continued mixed demand in medical equipment and life sciences. We also expect further macro-related weakness in core industrial and also residential solar. Revenue in Agility is expected to be down low-teens to low-20s percent. We continue to see strong AI-driven cloud spending with weakness in communications, enterprise, IT and consumer-related end-markets. Q4 is also typically our seasonally weakest quarter across Agility.

On to Slide 11 for our quarterly guidance. With the Nextracker separation completed on January 2nd, Q4 guidance is now based only on Core Flex financials and is not comparable to previous consensus. For Q4, we expect revenue in the range of $5.8 billion to $6.4 billion with operating income between $305 million and $355 million. Interest and other is estimated to be around $53 million. We expect the tax rate to be around 15% in the quarter. All of that translates to adjusted EPS between $0.50 and $0.60 based on approximately $425 million weighted-average shares outstanding. And looking at our GAAP guidance, recall for Q3, we expected approximately $100 million in restructuring charges. We implemented about $70 million of that in Q3 so we expect at least another $30 million of those charges will then shift into Q4.

Looking at our full-year guidance on the following slide. Note that FY 2024 total Flex guidance still includes the impact from Nextracker in the prior three quarters. Please note, total Flex full-year guidance is not comparable to our previous guidance or consensus due to the January separation of Nextracker. So for total Flex, we expect full-year revenue between $27.7 billion and $28.3 billion, adjusted operating margin now between 5.7% and 5.9%, and adjusted EPS between $2.47 and $2.57 a share. As with last quarter, for additional visibility, we are providing our expectations for Core Flex only for the full year and this guidance is comparable to Core Flex guidance that we gave last quarter. So for Core Flex, our guidance is essentially unchanged from last quarter.

We expect full-year revenue between $26 billion and $26.6 billion. We expect adjusted operating margin to be between 4.8% and 4.9%, and we expect adjusted EPS of between $2.07 and $2.17 a share. As we enter into the final quarter of the year, our team continues to execute very well in a challenging environment. As Revathi pointed out, the results we are delivering validate that Flex is a more resilient and efficient company. Strong long-term trends remain intact, and we continue to have ample opportunity to build on our diversified portfolio and customer base through new wins and increasing wallet share, and we’ll continue to drive margin expansion and ultimately create shareholder value. Lastly, this year we will hold our virtual investor event in conjunction with our fiscal Q4 earnings call where we will provide full fiscal 2025 guidance and also update our longer-term outlook.

So please stay tuned for that. I’ll now turn the call back over to you, Diego, to start the Q&A.

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Q&A Session

Operator: Thank you. We will now begin the question-and-answer session portion of today’s call. [Operator Instructions] Our first question comes from Samik Chatterjee with J.P. Morgan. Please state your question.

Unidentified Analyst: Hi. This is [MP] (ph) on for Samik Chatterjee. I wanted to ask regarding like with the updated visibility regarding end markets. Can you please revisit the $2.65 Core Flex EPS target for FY 2025, and let us know both drivers regarding the same versus — with respect to top line expansion versus operating margins and buyback support? And I have one follow-up.

Revathi Advaithi: Okay. So I’ll start off and Paul jump in here wherever he want to. I’ll first start by saying is that our fiscal year ends in March, and as Paul pointed out, we’ll be doing our Investor Day in April. So that’s kind of when we’ll be really talking about guidance for fiscal 2025 and long-term. But the first is I’ll just start by saying if I go back to 2022 long-term targets that we set, we talked about a few things, right? We talked about 5% Core Flex operating margin. We talked about mid-teens EPS growth. And we still think those targets are in the right ballpark. I’ll just say that the market is very dynamic. You know that as well as we do so we’ll have to wait a little bit like I said in the beginning for next quarter to give the exact number when we give the full FY 2025 guidance.

But I want to take a minute and just take a step back and look at what we’ve done right in the last four years to complete the transformation that we started. So that includes major portfolio alignment, operational transitions and a lot of shareholder-friendly corporate development actions. This quarter, we hit Core Flex operating margin of 4.9%, which was a record and we expect that to improve again next quarter. So, clearly delivering on the commitment. We have a more agile and a more efficient company that’s focused on higher-value business. But the goal of all this transformation was also to make Flex a more investable company so we also focus on the quality of earnings and that means that if you look at the primary drivers of our fundamentals, it’s about strong growth in end-markets with long-term trends, increasing that wallet share with our customers, so it’s good growth, right?

And then on top of that, we’re adding things like value-added services and executing well operationally. So going back to the things we said, good margin expansion in 2022, we said this EPS growth in the mid-teens. Despite all the macro and the corporate development work we have done with [indiscernible] and Nextracker, we have done good work on capital return. So I would say we remain a strong agile resilient company, a lot of macro uncertainties, and we’ll use the next few months to figure it out. But we feel good about the fundamentals of what we talked about in 2022. Paul anything you’d add?

Paul Lundstrom: Yeah. I think you said it well. I mean, we told you that we think we can do margins of 5%, down the road, and like you said, we just hit 4.9% and expect to do more. We also have talked about mid-teens EPS growth. As I look ahead to next year, I think that’s reasonable, low-teens, mid-teens, and we’re buying back stock. So I think the hard part for us at the moment is what’s revenue growth really going to be based on the macro. We’re listening to all the same earnings calls that all of you guys are too and I can kind of go down the list for FY — calendar 2024. We look at telecommunications CapEx looks down and enterprise spending continues to be a bit weak, and industrial capital equipment seems to continue to be slowing a bit. So I would rather just hold off a quarter. We’ll talk about it in more detail at the Investor Day here in May. But I think you have a pretty good framework for how we’re thinking about it.

Unidentified Analyst: A follow-up I have is regarding the M&A landscape like what are the sort of activity that you’re currently seeing in this space and which is the target area for you in terms of end-markets for M&A? Thank you.

Paul Lundstrom: Sure. So I would say our posture really hasn’t changed on M&A, and I guess just kind of broadly talk about capital allocation. But we continue to have a pretty robust process and I would say a pretty robust pipeline. We’re always looking at the landscape of opportunities. There’s nothing large-scale that I would say is in the hopper. We’re talking about technology acquisitions and other tuck-ins that we can make to sort of improve the capability of the enterprise, but not large-scale M&A. And if I think about how I would sort of prioritize M&A frankly, it’s probably last unless we can get a really good deal. Continuing to focus on internal investment and make sure the business is well-funded for all the organic growth opportunities we think we have over the next several years, and that’s a key priority for us. And the stock continues in our view to be a great opportunity to create more shareholder value. So we’re going to continue to buy back stock.