Sanmina Corporation
Q4 2019 Earnings Call Transcript

Published: 29 Oct 2019

[Operator:]

Ladies and gentlemen, thank you for standing by, and welcome to the Sanmina Corporation's Fourth Quarter and Fiscal Year-End 2019 Earnings Conference Call. [Operator Instructions] Please be advised that today's conference is being recorded. [Operator Instructions]I would now like to hand the conference over to your speaker for today, Ms. Paige Melching, Vice President of Investor Relations. Thank you, ma'am. Please go ahead.

[Paige Melching:]

Thank you, Catherine. Good afternoon, ladies and gentlemen, and welcome to Sanmina's Fourth Quarter and Fiscal Year 2019 Earnings Call. A copy of our press release and slides for today's discussion are available on our website at sanmina.com in the Investor Relations section. Let me remind everyone that today's call is being webcasted and recorded and will be available on our website. You can follow along with our prepared remarks in the slides provided on our website.During this conference call, we may make projections or other forward-looking statements regarding future events or the future financial performance of the company. We caution you that such statements are just projections. The company's actual results of operations may differ significantly as a result of various factors including adverse changes to the key markets we target, significant uncertainties that can cause our future sales and net income to be variable, reliance on a small number of customers for a substantial portion of our sales, risks arising from our international operations, the amount of restructuring charges related to the company-wide rightsizing plan actually recorded in the first quarter and other factors set forth in the company's annual and quarterly reports filed with the Securities and Exchange Commission.You'll note in our press release and slides issued today that we have provided you with statements of operations for the quarter and fiscal year ended September 28, 2019, on a GAAP basis as well as certain non-GAAP financial information.A reconciliation between the GAAP and non-GAAP financial information is also provided in the press release and slides posted on our website. In general, our non-GAAP information excludes restructuring costs, acquisition and integration costs, noncash stock-based compensation expense, amortization expense and certain other infrequent or unusual items to the extent material.Any comments we make on this call as it relates to the income statement measures will be directed at our non-GAAP financial results. Accordingly, unless otherwise stated in this conference call, when we refer to gross profit, gross margin, operating income, operating margin, taxes, net income and earnings per share, we are referring to our non-GAAP information.I would now like to turn the call over to Jure Sola, Executive Chairman. Jure?

[Jure Sola:]

Thanks, Paige. Good afternoon, ladies and gentlemen. Welcome, and thank you all for being here with us on this call. Also on this call today, we have Hartmut Leibel, our Chief Executive Officer.

[Hartmut Liebel:]

Good afternoon.

[Jure Sola:]

Also Kurt Adzema, our new Chief Financial Officer.

[Kurt Adzema:]

Good afternoon.

[Jure Sola:]

And David Anderson, our former Chief Financial Officer.

[David Anderson:]

Good afternoon, everyone.

[Jure Sola:]

Before we talk about our financial results, I would like to provide you with some background on two new members of Sanmina's executive team. Hartmut Liebel joined Sanmina in July of 2019 as the Chief Operating Officer and was promoted to Chief Executive Officer on October 1. I've known Hartmut for over 10 years. I believe he is the right person for the job and has a strong knowledge of our markets and our industry.The Board of Directors and I are excited for Hartmut to lead the Sanmina as our Chief Executive Officer. Kurt Adzema joined Sanmina only few weeks ago on October 14 as our Chief Financial Officer. Kurt will succeed David Anderson who announced his plans to retire. Kurt brings over 20 years of strong financial experience.He will be a great fit into our team, and he understands Sanmina's markets well. Kurt will work closely with David Anderson to ensure smooth transition. David Anderson, as I mentioned, announced his retirement in January of this year.On this call, I would like to really take this opportunity, David, to say thank you for being a great team player for many years and most importantly, our financial leader for last 17.

[David Anderson:]

Thank you, Jure.

[Jure Sola:]

We're going to miss you. I would like to also say that I'm very proud of Sanmina's management team, and with the addition of Kurt Adzema and Hartmut Leibel, Sanmina has a strong leadership team in place to lead our company for a better future. And now I would like to turn this call over to Kurt. Kurt?

[Kurt Adzema:]

Thank you, Jure. I'm very excited to have joined Sanmina. Sanmina's keen focus on profitable growth, cash generation fits well with my business philosophy and what it takes to create and maintain a successful company. I'm looking forward to working with Jure and Hartmut in the coming years. I'm also fortunate to have Dave Anderson remain as an adviser over the coming months to effect an orderly transition. Since I joined the company just 2 weeks ago, I'll ask David to provide the results for fourth quarter and fiscal 2019.I'll now turn the call over to David.

[David Anderson:]

Thanks, Kurt, and welcome to Sanmina. As Jure said, we're excited to have Hartmut and Kurt as part of the Sanmina team. With their depth of knowledge of our customer base, markets and overall industry, we are confident that they will lead Sanmina to the next level of operational and financial performance. Please turn to slide three.Overall, our fourth quarter revenue and non-GAAP diluted earnings per share were in line with our outlook. While revenue was at the low end of our outlook at $1.9 billion, non-GAAP diluted earnings per share at $0.84 exceeded the top end of our outlook by $0.01. Revenue was down 6.6% sequentially or $134.8 million and up 0.8% or $15.9 million from the fourth quarter of last year.Fiscal 2019 revenue ended at $8.23 billion, up 15.8% from fiscal 2018 and in line with the full year revenue outlook we provided on our prior earnings call. Revenue was up on a full year basis across all of our end markets. I will discuss our end market performance in more detail in a few minutes.Please turn to slide four. From a GAAP perspective, in the fourth quarter, we reported net income of $19.8 million, which resulted in diluted earnings per share of $0.27. This was down $0.32 sequentially and up $0.26 from Q4 of last year.The sequential drop in GAAP diluted earnings per share was largely driven by the contribution margin impact on gross profit, resulting from the sequential drop in revenue as well as the increase in the GAAP tax provision that resulted from a tax restructuring transaction that required us to remeasure certain deferred tax liabilities.The increase in GAAP diluted earnings per share over Q4 of fiscal 2018 was largely driven by certain items that were included in Q4 of 2018's financial results

[Jure Sola:]

Thanks, David. Thanks for those compliments. Of course, you're going to be missed, but you're not going away very easy. I know you're going to be around to help us get to the next level. I appreciate your comments. Anyway, ladies and gentlemen, let me add a few more comments about business environment for the fourth quarter and fiscal year 2019 and I'll talk about outlook for fiscal year 2020.As David mentioned, we delivered good financial results for the fourth quarter, exiting fourth quarter with operating margin 4.2%. It shows us that even with a low revenue, with the improvements that we're making, efficiencies that we're driving, we can improve the margins.With that, we delivered the non-GAAP EPS of $0.84. For fiscal year 2019, I will rate as a solid year. We really focused on few things. Number one was our customer satisfaction. Number two, margin improvements as I promised you a year ago that we will get back to that operating margin of 4-plus percent.Number three, we're focused on cash flow, cash flow from operations was strong of $383 million and free cash flow of $256 million, this should continue. Number four, we recovered very well from supply environment constraints that we experienced during the year and delivered a non-GAAP EPS growth of 60% to $3.40 per share.Please turn to slide 16. Let me summarize our end markets and give you my outlook. Sanmina end markets were strong in fiscal year 2019. 80% of revenue growth was driven by high complexity, heavy regulated markets, driven by industrial, medical, defense and automotive segments.For fiscal year 2019, we delivered a great growth in these markets at 24.2%. Industrial, medical, defense and automotive markets continued to expand, in last year was 50% of our revenue. Industrial, medical, defense, automotive market should continue to be solid in fiscal year 2020.For the first quarter, we are forecasting some softness in demand, but we expect first quarter to be flat. But for defense market, we are seeing a strong trend to continue. Long term, we expect to continue to see growth in this market. Communications networks was 35% of our revenue. It grew 8.3% last year. Communications networks for Sanmina is very important market, and we do have a very strong customer base in place.We are involved with the key existing programs. Also we have a good pipeline of new opportunities, and we're working on adding new projects and new customers in this segment. For the first quarter, we are seeing softer demand in communications segment, and we are focusing a slower demand and we are forecasting a slower demand during the first quarter.Also, short term, we see some extra inventory in channels that needs to be worked out. Long term, we see communications networks improving. Sanmina is well positioned with the right customers and projects including deployment of 5G infrastructure. For cloud solutions, that was about 9% of our revenue last year, that also grew 1.6%.In this segment, we also eliminated a lot of the lower technology products, such as set-top box business, so that we are strictly focused on high end cloud solution products itself. For the first quarter, we are forecasting slower demand in this segment, but we're working at some good opportunities in this segment.We do expect to expand customer base this year, and we think long term, this will be a good segment for Sanmina. In summary, for end markets, in short term, we see some inventory that needs to be flushed out, but longer term, I believe Sanmina is focused on right market and right customer opportunities.Global economy is very hard to predict, but I believe based on our customer inputs, fiscal year 2020 will be a good year. Most important for us is that Sanmina is a strong company, that I will say stronger than a year ago. We have a strong management in place, solid structure in place to drive profitable growth, a strong balance sheet as David mentioned, and we are well positioned for any economic environment.We will continue to drive operational discipline, margin improvements and cash generation in fiscal year 2020. We know this will yield continued improvements in operating model and drive shareholder value. I can tell you Sanmina strategy is working. Sanmina is well aligned with the key end markets as we're focused on high complexity and heavily regulated markets.And for these markets, Sanmina has competitive advantage. Sanmina provides industry-leading end-to-end solutions for our customers. Sanmina is also continuing to invest in talent, right technologies and services for the future. Simply put, we remain focused on the quality of the growth. That's our model. Our customer base is still positive about the future and Sanmina has a lot of leverage in its business model. Now ladies and gentlemen, I would like to thank you all for your support.Now I will turn this call over to Hartmut. Hartmut?

[Hartmut Liebel:]

Sure. Thank you, Jure. Very glad to be here, and I look forward to working with our excellent management team to continue building a great company. It's been a couple of months since I joined Sanmina. So I thought you might be interested in my initial observations.First and foremost, we enjoy an exceptional reputation among our customers. Many of our key accounts have been with us more than 10 years, and we continue to win next generation programs with them. Second, we own the right technical capabilities, operational and financial discipline that are so important to be successful in our end markets. That is really a great asset to have.Third, our global teams will coax to earn our customers' trust every day to execute flawlessly and to win the next program. Over many years, our management team has profitably grown this business and successfully diversified Sanmina's revenue stream. So after the first couple of months, all this gives me great confidence that we are well positioned, and I believe the best years for Sanmina are still ahead of us.With that, let me now turn to my priorities for this upcoming year. They fall into three main categories. First, the company enjoyed solid margin expansion in 2019. I believe we are taking the right steps to continue this trend in pursuit of our long-term goal, which as you know remains a 4% plus operating margin.At the same time, we will continue to be relentless in our effort on cash flow generation. Second, we will continue to focus on key customers in high-complexity, mission-critical end markets, there we'll drive initiatives to further improve efficiencies and reach even higher level of customer satisfaction through a variety of programs, such as market-leading onboarding processes for new programs and customer wins.And third, the rightsizing of the outline today further reinforces our strategy for our target markets. Lean dedicated teams in right locations can execute even faster for our regional and global customers and together with continued focus on the quality of our revenue will support our cash generation objectives. I have communicated these priorities clearly to our company, and the management team is excited about this strategy.With that, I would like to draw your attention to Page 18 and summarize what we covered in today's call. We're pleased with the results for the fourth quarter. Revenue at $1.9 billion was lower than expected, however, operating margin increased 20 basis points sequentially.We enjoyed full year revenue growth of 16% while the operating margin of 4.1% was in line with our 4% plus margin objective. Non-GAAP EPS increased by a strong 60%, and we generated $383 million in cash flow from operations.In terms of outlook for Q1, we expect demand to be soft in the first half of the fiscal year for the reasons outlined earlier. That said, I'm confident that our efforts in operational excellence, as highlighted before, will support our margin targets in Q1 of 2020 and beyond, all while our sales team is mobilized to return Sanmina to future growth. I anticipate to share more details on the measures we are taking in our next call.Let me express my appreciation to David. Since I joined Sanmina, he has been a great help to get me up to speed. Thank you, David, and yes, we will definitely miss you. And of course, a big thank you goes to all of our employees for a solid 2019 as well as our vendor partners, customers and investors around the globe for their support and confidence in Sanmina. I'm glad to be part of this team and look forward to working with all of you to building a great company.Catherine, with that, we can open the call for Q&A session.

[Operator:]

[Operator Instructions] Your first question comes from the line of Ruplu Bhattacharya with Bank of America.

[Ruplu Bhattacharya:]

Hi, thank you for taking my questions I'll also start by congratulating Dave for job well done, and we're certainly going to miss you as well. So please keep in touch. Maybe a question for Jure and Hartmut. You've talked about maintaining margins and possibly growing margins going forward.As a general overview, are you happy with the portfolio as it is? And how do you see that mix evolving over time? Are you going to drive a better mix? Or do think there are more operational efficiencies that you need to concentrate on to get the margins? Just your thoughts on how to improve margins going forward.

[Jure Sola:]

Yes, Ruplu, we already started at, I'll say, in fiscal year 2019, to really focus driving efficiencies. We still believe we have more room to drive efficiencies, and we're going to continue to do that. Back to the markets, we were able to grow our industrial, medical, defense and automotive industry very well. I think the customer base is there to continue to grow.So we expect to improve the quality of revenue and the quality of the revenue in combination with improvement in operating margin should drive better margins. Even with a lower revenue, we expect to drive better margins in the short term. Communication networks to us, even there, it's about timing. We are well positioned with the key programs there.We have some good opportunities in our pipeline, both with existing and some new opportunities. So to us, it's about timing. The 5G deployment is going to be is going to happen. It's just, when? So I think overall, we don't control the market, but we control what we do internally.We are very aggressively driving expansion of our customers in new markets, the markets that we're not around maybe a few years ago, and with our capabilities, we're able to attract and enter those relationships with some key customers. So a combination of all of these things and with our new CEO right now, I definitely believe we should be able to increase. Hartmut, any other comments you...

[Hartmut Liebel:]

Yes. I think the position that we have with our customers and with the existing programs are strong. We have the right initiative in terms of cost containment and rightsizing the company in place. So I'm optimistic that we are positioned well irrespective of how the markets will drive it up or down in the next few quarters.

[Ruplu Bhattacharya:]

Okay. That's helpful. And Jure, you mentioned the communications segment. I think you said the first half is going to be weak. Maybe any color you can provide on what you saw in optical versus networking and wireless? And do you think that this is really a 2-quarter problem? And do you think that the inventory gets better situation gets better in the second half?

[Jure Sola:]

Yes. I mean we don't see everything our customers share so much and even some of the stuff they share we can't talk about it. But we definitely feel like it's going to be a 1- to 2-quarter scenario here. But we are really taking 1 quarter a time and then that's why we are taking this rightsizing, making sure that our construction meets our present demand.We are well positioned on the networking and wireless part of the business. We believe that 5G deployment will happen. It's just the timing. On optical side, again, we're well positioned there. There's some softness on that side of the business. But as we are talking to the customer, I had a few weeks ago a nice meeting and a dinner with one of our customers, and basically, they see that overall year-over-year will be a growth year for them.It's just about timing. So I'm optimistic that this is just a temporary combination of soft demand and inventory because I definitely see a little bit of extra inventory in the pipeline that needs to be flushed out.

[Ruplu Bhattacharya:]

Okay. And the last one from me. I mean you've talked about a weak first half, but maybe a stronger second half. Any thoughts for the overall year? Do you think, I mean, given the first quarter is down, the revenue guidance is about down 19% year-on-year at the midpoint. Do you think that fiscal '20 can be a year where you grow revenues? Or do you think that at this point, it's too unclear to comment on that?

[Jure Sola:]

Yes, I think for us, let's wait for that. Right now, I mean, we're going to drive our business. If the opportunity is there, structure is there, we can deliver a lot more. But in the meantime, we're going to just focus in what we have and focus on quality.So it's a time really to tune things tune things up, and also we have a fair amount of new programs that we need to bring to the market. So overall, I'm optimistic about next 12, 18 months, but it's a short term, it's really hard to say we're going to do X, Y and Z because it's hard to see it today. But I know that we will drive what we control, and we will continue to make big improvements there. That's my promise to you.

[Ruplu Bhattacharya:]

Okay, thank you for all the details.

[Jure Sola:]

Thank you.

[Operator:]

Your next question comes from the line of Jim Suva with Citi.

[Jim Suva:]

I want to say congratulations for just a job well done of running the entity, and big shoes to fill, a lot of muscle to put behind what's going on and keep it going, so we're looking forward to that.

[Jure Sola:]

Hey, Jim, Kurt brought the big shoes, so he's going to he's starting to walk them around here at offices. He will do well.

[Jim Suva:]

Quick question. On the excess inventory in the channel, are you referring to kind of specifically the 5G communications end market or was a broader-based.

[Jure Sola:]

Jim, my comment is more broad-based. 5G is still in what I would call in the development. I will say other parts of the business, I think that's where we have some inventory.

[Jim Suva:]

And your thoughts on the reason for this is because the component shortage of this exasperated the need to maybe double order or hope to get the product through the supply chain in time, do you think that's what the issue was or a big slowdown in demand?

[Jure Sola:]

I think Jim, you've been around long time and that one is always hard to figure out 100%, but any time when you have shortages, there's a little bit panicking goes on where our customers do double order and buy more than they need. And I that's kind of what I see today. I think we need to flush that out first, and I'm hoping that, that demand will continue to be okay after that.

[Jim Suva:]

Okay. My last question. The restructuring, seems like you're doing this pretty proactively, which is great. But it also sounds like that the demand pause is going to be a little bit longer than a couple of quarters because a couple of quarters you could probably keep your employees not happy and announce such meaningful I mean restructuring is hard to do because people lives are impacted. So any commentary, it sounds like that there will be more than couple of quarters slowdown?

[Jure Sola:]

Yes, well, Jim, let me make it clear. There's 2 questions there and I want to break those up. I don't know how long we're going to see some of the slower demand. Is it 1 quarter or 2 quarters, I'm really not smart enough to forecast it today, and I don't think my new management is ready to forecast on that either. But when it comes to the people, Jim, we are very sensitive to that.Our strength has always been our management and our employees, but in nature of our business, you constantly have to tune things up. As we experienced growth last year around the world, customers moved the product around and sometimes, you have to time comes that you need to tune things up.And I will say that's kind of what we're doing right now, tuning things up to make sure, for a lot of reasons, is to be really ready for upside and when things come back to the demand that we're looking for that we can deliver better margins. But in the meantime, the key here is that even at the lower level that we continue to deliver the respectable numbers.

[Jim Suva:]

Thank you so much, and we're looking forward to working with your management

[Jure Sola:]

Thank you, Jim. Thanks for your support.

[Hartmut Liebel:]

Catherine, operator, we have time for one more question at this point.

[Operator:]

Your last question comes from line of Christian Schwab with Craig-Hallum Group.

[Christian Schwab:]

Hey congratulations to the new management team and congratulations on retirement. And Jure, congratulations on coming back for another conference call. So if I could, just a little bit further elaboration on Jim's earlier question on the excess inventory. If you look at your top 10 customers, does everybody have excess inventory?

[Jure Sola:]

I don't think, Craig Christian, I can't really comment on that, but I will say this is broad-based. And what happens when you have a shortage is basically for almost 1.5 years, two years, if you look at historically, unfortunately, there's always people buy more than they need and it's kind of that's what we see today. I hope we're right. And that's but in the meantime, we're just continuing to do what is in our control, and we will continue to make better Sanmina.

[Christian Schwab:]

Right, right. So kind of a textbook semiconductor correction might be happening, right, now that MLCCs are no longer an allocation; MCUs, MPUs lead times gone from 26 weeks to 8 weeks, maybe 10 weeks in some parts. So what you're saying is maybe we're just seeing an inventory drawdown by customers to generate cash, not the type of demand destruction that maybe your year-over-year guidance would suggest, is that fair?

[Jure Sola:]

Yes. We're not really at this moment, I would say, we don't really not ready to guide year-over-year. I mean we're optimistic from our capabilities point of view and what we're working on from that point of view. But I think in short term, I definitely believe there is some correction in inventory for those reasons because of shortages.

[Christian Schwab:]

Right. Okay. And then, my last question, again, following up on the rightsizing, can you elaborate on who exactly is being rightsized? Is that should we be assuming quarterly operating expenses change or is a bunch of that in COGs?

[David Anderson:]

No. Christian, it's going to be a combination. The rightsizing is not we haven't finalized it totally, but in terms of the bulk of it, as I mentioned, is going to be severance costs, it would be across both COGs and OpEx.

[Christian Schwab:]

Great. I don't have any other questions. Thank you,

[Hartmut Liebel:]

Well, with that, thank you, everybody, for joining today's call, and we look forward to providing an update on the business on our next earnings call. Again, thank you so much for your support and speak to you next time.

[Operator:]

Ladies and gentlemen, this concludes today's conference call. You may now disconnect. Thank you for your participation.