Okay, good morning everyone. We are kicking it off bright and early with Flex. I am Melissa Fairbanks. I'm the analog semis and IT supply chain analyst here at Raymond James. We are thrilled once again to have Paul Lundstrom, the CFO of Flex, and David Rubin, Treasury and IR or IR, sorry. Don't mean to give you too many extra responsibilities today. So I think Paul is going to kick us off with a brief overview of the company, and then we'll launch into Q&A.
Okay, very good. So I'll be brief on a couple opening comments. First of all, nice to see a full room. We haven't seen that in a little while. And I think that's one of the reasons that I want to just walk through a couple quick slides, and that would just be that we have a number of investors who are relatively new to the name. Now that the Nextracker spin is complete, we've had a lot of interest, and so let me just give you a very quick overview before we jump into the fireside chat part. So first, Flex, for those unfamiliar with the name, one of the largest contract manufacturing companies in the world. We have a large global footprint, and we specialize in the complexities of supply chain logistics and complicated high-technology manufacturing, again, with a very broad, globally dispersed geographic footprint.
Our capabilities, end-to-end manufacturing, supply chain resiliency, again, it's across a large global footprint. We are getting tailwind right now from a number of megatrends. In particular, it would be the digitization and increasing technology in just about every product on the planet. We see it in the automotive space with our next-gen mobility platforms. That would be more electronics and more safety standards in vehicles. It would be more infotainment and compute. And in particular, as we get closer and closer to autonomy in vehicles, that's a tailwind for the company. We see it in digital healthcare. We see it in high-end consumer products. And of course, we see it in the technology sector. Right now, I would say especially, given the demand for high-technology, power-hungry, AI-capable data centers and servers. That's an area that we support as well. Our capabilities, broad manufacturing excellence.
We've been in the industry for a long time, so high technology at very high rate, at low cost is what we do. Again, we have a broad geographic reach. That's been nice for our company and I would say generally for the industry over the last few years, given pressures on supply chain continuity and resilience. Trade wars, pandemic, chip shortages all have put pressure on global supply chains, and that's been a boon for our company because our customers need help with all that complexity. That's what we do. I would say increasingly, we're an end-to-end capability company. We deal with plastics. We deal with metals. We deal with chips and boards. We put it all together. We can help with front-end design. We can help with redesign.
Increasingly, we can help with the circular economy, which would be deconstruction of product at the end of its life, which helps with ESG and sustainability goals for us, but also for our customers. We were organized into two large segments: agility and reliability. We have six business units that support those two large segments, which are focused on end markets. We talked about a couple of those end markets at our investor day a year or two back. We talked about cloud. We talked about digital health. We talked about the automotive sector and next-generation mobility. But there's a number of others as well that we'll embellish on as we head to our next investor day, which is coming up in a couple of months. But just to name a few, IoT, Internet of Things, of course. I just mentioned the digitization of just about everything.
Renewables, including energy storage. Of course, AI, an area where.
The magic word.
The magic word, I know. But it's the reality. We support the hyperscale space in our CEC business. That would be with boards and server racks and enclosures. But we also have a large power business. And increasingly, the power-hungry AI-supportable servers are a big part of our business now. So let me just talk about that, just very briefly. So historically, if you looked at Flex, you would think server support, which would be big servers going into server racks, would traditionally be our CEC business. CEC stands for Communications Enterprise Compute or Cloud. We've seen cloud as a rapidly growing piece of our CEC portfolio. But if you recall a couple years back, we made an acquisition, a company called Anord Mardix, which does data center critical power. And so you look at the capabilities that we have today, we can do the racks. We do the enclosures.
We populate the boards. We can do that all in a very bespoke fashion at very high volume. We also have critical power. We have power on the board. We have power coming into the rack. And we have power coming into the data center. And so you add all that up, it's a lot of capability, and it's the only EMS Flex is, the only EMS company that has that broad aligned card, specifically in the power space. So a lot of capability there and a lot of tailwind right now. One quick housekeeping item before we get into the Q&A here with Melissa. As you probably heard on our earnings call, David Rubin, our head of IR, talked about our plan to discontinue ops, discontinue operations for Nextracker. That'll happen with the filing of our 10-K.
You'll see that in the full-year results here as we file here in another couple of months, the end of our fiscal year, which ends March. So I just wanted to remind everyone what the guidance looks like. No change here from what we talked about on the earnings call. But you can see at the bottom of the page, you can also find on the IR section of the Flex website, I just pointed out so that there's no confusion with consensus or models or anything else. We don't want to confuse the bots. So with that, Melissa, I think we can just jump right into the Q&A.
Yeah. Great. Great. So I do want to focus more on the longer-term model, but I think it's important, you know, based on when we were here a year ago, we were still kind of trying to emerge from some of these supply chain shortages, some of the supply chain disruption. I think things have eased now. Maybe if you could just give a quick overview of what you saw in December, what you're guiding for March. March is their fiscal year-end, so we've got fiscal 2024 coming up. Just in terms of demand dynamics, are you still under-shipping demand? What are the different areas where you're seeing some pockets of weakness?
Well, I would say, you know, we strong Q3. Our Q3 ended in December.
For sure.
I think the whole industry has seen some fits and starts with volume to a certain extent. But our focus has been on holding the bottom line and continuing our focus on margin expansion and mixing up in those higher margin areas. And I think that you saw that in the December quarter with, you know, I can't remember the number, 60 basis points of margin expansion.
I should have that up my tongue.
I have it too. I have it too. But 60 basis points of margin expansion in the quarter, you know, and that's in a quarter that had significantly lower volume. And so I think sort of the proof is now in the pudding that not only Flex, but also the industry is a much more resilient industry than what you saw 10 years ago. We've now managed through multiple cycles. You saw it in the COVID cycle. You're seeing it right now where despite weaker volume, we continue to deliver on the bottom line. You asked about what are we seeing things right now? No change Q4. We still feel quite comfortable that we're going to have more margin expansion here again in this March quarter. And the outlook for 2025 and beyond looks pretty good.
Well, that leads me to my next question. So, you know, for fiscal 2025, you've set out some targets. When those targets were initially set out, there was some confusion about when Nextracker spin would actually happen. But maybe if we can outline where you've been and then where the fiscal 2025 targets are taking us, just in terms of that margin expansion. I mean, it may sound crazy to people that don't know EMS, but 60 basis points margin improvement is pretty significant. So if you can kind of go into the long-term model and.
Yeah, happy to do that. And so two years ago, we talked about 5% operating margins for the core EMS business, which would exclude Nextracker. Nextracker is the business that we spun on the January 2nd. So 5% operating margin targets seemed like a lofty goal because if you look at the 20 years prior for the entire EMS industry, it was a business that ran at 3%. So that's 200 basis points of margin expansion. And now we're crossing through 5% and feel comfortable that that's the more medium-term outlook. And if you look at what other EMS companies in the space are starting to talk about now, now they're starting to talk about 6%. And so, you know, or I'm not going to.
I won't make you commit to it. We're not going to have an 8-K.
No, we're not going to do that. And we have an investor day coming up in a couple of months. But I think it's reasonable to assume that we're going to be in the same vicinity of that 6%. And why is that the case? Well, I think there's been a lot more discipline in the industry over the last several years. I think that's one. Gone are the days where the EMS sector is run by cowboys and all volume is good volume and you go after everything and it's all about scale and growing revenue as fast as you can. Well, all these big contract manufacturing companies, they already have scale. Now it's about mix. And it's about shareholder value creation, not just, you know, I want to show a bigger top line.
I think that discipline has sort of trickled down into the industry, and that's a good thing. Of course, it's the case at Flex. Both my boss and I are very focused on driving continued profit growth and margin expansion and making sure that we're participating in the lines of the business that generate the most value for, one, for our customers and two, for our shareholders.
I think it would be helpful to maybe dig into. You had the slide that kind of laid out the difference between reliability and agility. So when you and Revathi, the CEO, joined the company, you kind of repositioned the way that you report your segments. Reliability is considered to be some of this higher value, where your driving margin agility is maybe a little bit higher velocity. But maybe if you could dig in a little bit to the difference between the two segments, I think that would be helpful.
Yeah. Well, you said it well.
Okay. Well, then.
Next question. No, you said it well. The agility sector tends to be a little shorter cycle, perhaps a little less regulation. If you look at the reliability sector, it tends to be a little longer cycle, tend to have different industry dynamics, including some barriers to entry. You think about digital health, for example, particularly on devices that are implantable. Now you're talking FDA. And so that's a unique requirement. You look at parts of the automotive sector also, maybe not regulated, but if it's things like vehicle safety, especially things like autonomy, you really got to be tight on quality. And so it's just a little different dynamic. But the way I would characterize it is long cycle versus short cycle and probably a little bit more barrier to entry on the reliability side.
We're obviously seeing some mix-up in both of the businesses just because of where you're competing today. Is there a difference in the margin targets between reliability and agility? Or do you kind of view it as being just an overall corporate mix-up?
The way we approach mix is not just at the corporate level, but it's at the business unit level. So specifically within the CEC business, for example, we ask those teams to manage their mix and continue to focus on, again, those areas where we think we can drive the most value creation. We're mixing up right now in CEC based on what's happening with cloud. That's a unique capability that we have. Not many other companies in the world can do the amount of volume in a bespoke fashion. Oh, by the way, we also have proprietary designs coming into that. In the cloud space, for example, our capabilities include liquid cooling, where we have our own reference designs. And so that's proprietary. Our power solutions, that's also intellectual property. And so that's value add, value add, value add.
And so as we see growth in the cloud space, by the way, last quarter, triple-digit growth. Literally, triple-digit.
Right.
In the backdrop of a whole bunch of end markets that are down. So triple-digit growth with better margins helps that CEC business unit mix up. So it's not something we address at the corporate level. It's something we push all the way down to the lowest levels of the BU, even to a customer level. Managing mix is really important to the margin expansion story.
Yeah. I don't want to jump around too much, but I think the Anord Mardix acquisition is turning out to be one of the best acquisitions in the history of EMS.
Yeah, that was.
Perfectly timed in terms of critical power. Yeah.
That was a good deal. We're seeing big top-line growth in that. That helps us to mix up too because that's another area where it's IP and the margin rate in that Anord Mardix business is significantly higher than the overall corporate average.
Excellent. So I know one of the questions that I get quite a bit through the pandemic specifically, but then over the longer term, this trend toward nearshoring or onshoring in terms of manufacturing capabilities. And then, of course, if you get into highly regulated areas, like that needs to be more controlled. You need to keep that a little bit more nearshoring, onshoring. What have you seen in terms of trends? It's kind of been happening for quite a long time, but have you seen any sort of acceleration toward this?
So I've been with the company now for about four years. When I came into the company, there was a lot of chatter about regionalization. I think my job is to be sort of the quiet skeptic. But I have to say, it's absolutely true. We've talked about it before. It started with trade and all the saber rattling there. Then it was the pandemic. Then it was chip shortages. You had overseas logistics bottlenecks. All that stuff put so much pressure on global supply chains. I can't imagine there's a product company on the planet that hasn't had boardroom conversations about supply chain resiliency because they got so banged up during all those disruptions. You got global conflicts now too. I mean, it's just everything. Red Sea, there's another one that people are starting to see impact from.
It's like, "God, this is unbelievable." So the regionalization thing is real. We're seeing it with contracts. I mean, here's an interesting one. This is old data too. Look at our external filings last year for our 10-K. You look at growth in China for us. In a year, where Flex grew 17%, China grew 6%. Mexico grew 26%. Was that the number? 26%? Unbelievable. So yeah, we're definitely seeing it. And what I think is a boon for a company like Flex is because we have such a broad geographic reach, our ability to sort of lift and shift is huge. And we can do it in a low-risk, professional fashion that is expeditious and helps to de-risk our OEMs' supply chains. So I think it's a big opportunity.
Yeah. And so I'm curious, have you seen a change in the way that you're dealing with your customers or suppliers directly? Because I think there's kind of a misconception about EMS that you're just simply build to print. But now you're providing so much more value within the supply chain. And then is this changing your discussions with your customers? And that's what's helping you to drive the mix up?
Well, it has to make sense for us both. I don't want to be just purely a build to print, you can kick me around sort of supplier. That's not partnership. And so it has to be a win-win. And so we have those conversations. Absolutely. I don't want to pull something out of China and lose 4 points of margin like that. That's a non-starter. It has to be a win-win.
Okay. I'm going to stop really quickly before I go on to my next questions. Does anyone have any Q&A? Okay.
In the last time, you said you have adjustments of EPS numbers. It's indexed to GAAP numbers. It was quite a difference. Can you explain a little bit where it's different?
So we will have four, excuse me, three quarters of Nextracker, sorry, just because there wasn't a microphone. Somebody was asking about the difference between the GAAP and non-GAAP. So there's three quarters of Nextracker, which is the segment that we will disc ops here in this upcoming quarter. And that's a double-digit operating margin business with so all that comes out. So that's going to be the biggest singular difference.
Anyone else? Okay. I can keep talking. So I think it would be interesting to explore what some of your competitive advantages are in terms of either highly regulated industries. How do you go to market and compete? Our prior discussion, it's not just build to print. It's not just we can manufacture this at scale. You're adding value. But is there, outside of Anord Mardix, which we've already talked about, but are there areas where you can kind of differentiate yourselves from some of the peers?
Yeah, absolutely. It's a great question. I think about all the differentiators. One we talked about, and that would just be the large geographic reach. If you want us to build in Eastern Europe, got it. No problem. You want us to build in Mexico, got it. You want us to build in Malaysia, no problem. We can do that very rapidly. So I would say that's one. Just having the scale and the reach is an advantage and something only a couple big EMS companies really have. So that would be one. Two, this is not a printed circuit board building company anymore. We still do it. But you look at the complexity of product today and the ability to really, how much of the line card do you have? How much of the customer requirements can you fulfill all in one shop?
So we can build the boards. Take the server example. We can populate the rack in a bespoke fashion. We work specifically with the chip companies and configure as you need. Populate the rack. Build the rack. Do the racks, the enclosures. We can do the power. We can do the power coming into the server. We can do the power coming into the data center. It's just how many features on your line card can you offer? We do high-end injection molding. We do metals. Now we do circular economy. So if you take a data center, for example, if it's going to be a data center retrofit, not a build, you have a whole bunch of equipment potentially coming out. We can help to deconstruct that. That helps with ESG.
So if we can reuse, recycle, dispose of in a safe way, that's more value because now the customer doesn't have to mess around with it. So we're just trying to have as many capabilities as possible to create stickiness and just more value.
Maybe that would be a good discussion. Historically, EMS was very high velocity, short lifecycles. As you're moving into some of these higher value, higher complexity areas, that extends the lifecycle of some of these programs that you're involved in. And so does that help you with your longer-term planning, your longer-term predictability of the margins, maybe some sustainability of the margins?
Well, I certainly love the longer-term contracts.
Of course.
There's a wide range. I would say, to your point on the shorter-term contracts, we've de-emphasized that part of the portfolio over the last several years. You look at our consumer devices business unit within Agility, that's the smallest of the business units. It's a business that we haven't really focused on growing. It's a business that, at the moment, it's pretty high ROIC. It's lower margin, but it's higher ROIC, but it's not an area that we've put a whole lot of capital into. That's a short-cycle business. That's cell phones and laptops. And those can be two, three-year contracts. Contrast that with some of these automotive contracts or some of these health solution contracts that can be five, seven , 10-year jobs. That's great. That's a much stickier top line.
And then even on the technology side, if we can just continue to add these capabilities and make switching costs high, it's going to help the margins, and it's going to be more top-line stability. So yeah, absolutely.
I think that's a good segue into in terms of where you're focusing your investment for the longer term. Obviously, ROIC is a very important target for you. Outside of Anord Mardix, you've done a couple small acquisitions that have turned out to be very additive. Looking forward, are there areas where it makes sense for you to explore an outside acquisition? Or are you focused more on internal R&D investment on some of these longer-term growth areas?
Yeah. I would say a mixture of both. I think there's probably a capital allocation question coming next, so I might ask you to answer it kind of the same way. We're never going to underfund internal programs. Organic growth is our highest confidence investment. When you see the contract in front of you and you know what the industry dynamics are and you have the relationship with the customer, that's the lowest risk, highest IRR investment that we can make. We're never going to underfund that. Are there certain technologies that could help the company? Yeah, probably. Are there things in the automotive space that would be good? Maybe. Are there things in the healthcare space that would be helpful? Maybe. Again, certain technologies. I'll tell you what I love right now, and probably because there's just so much growth entailing, is power specifically. It's amazing.
I mean, you look at the power requirements on these next-gen AI-capable servers. It's unreal. A rack in the past could be 10 KW capability or requirements. Excuse me. Now it's like 60. Like a six exchange in power requirements, which means you have to change everything. And so is there more in the power space that's helpful? Perhaps. All things we're looking at, Anord Mardix was a good example. Anord Mardix was unique. We got that for a fairly reasonable price. Valuations today, it would be much, much, much higher. So it'd be harder to do it for what we paid for. But another good investment for us at the moment, I would just say, is Flex stock. If you look at where we trade, I think we're a discount to the sector. Part of that's because people are still confused from the Nextracker transition and.
We're trying to help fix that.
That'll settle out with time. People just are waking up to the story. I mean, look at the room. We have a packed room. So that's good. But I would say Flex stock is right now. That's one of our capital allocation priorities.
So you read my mind. You could read my notes, probably. But yeah, the capital return.
Yeah, I know. The capital return strategy.
You did have a pretty sizable influx of cash with the Nextracker spin. You have been buying back stock aggressively to the extent that you've been able to, obviously, with the Nextracker deals that limited your ability. Maybe talk about longer-term what is your shareholder return policy in terms of balancing between either we've seen across the space and even in my semiconductor coverage, a big investment. Interest rates are high. And so to the extent that you have to invest in your working capital, your interest expense is coming up. And so it's a pretty big mover on the bottom line. But maybe talk about the balance between buybacks, internal investment, M&A, potentially paying down some of the revolver and bringing down the interest expense.
Yeah. So first of all, not planning a de-lever. So that we can just take that off the table with the separation of.
In the business.
Yeah, exactly. I mean, with the separation of Nextracker, you saw a little bit of debt come off the balance sheet. There were a couple of things that you saw sort of come down over the last couple of years. But we're not going to continue to de-lever. That's not in the near-term plan at all. You look at how we use the proceeds from the Nextracker transactions because there were multiple. First, we sold a stake to TPG. Then we did the IPO. Then we had a follow-up. You think about the use of all that cash. Well, the first $500 million, we used to fund Anord Mardix. And so that was a to your point, that was a brilliant acquisition. That was a great one.
It really was.
That thing is growing double-digit right now with nice operating margins. I would do that 10 times out of 10. The next sort of $1 billion or $2 billion, we've spent it on buyback. That's the plan.
$780 million in the last 12 months, I think, if I have the number correct. David is saying yes.
When you look at March, it will be more than that. It'll be well north of $1 billion. So probably closer to $1.3 billion. So absolutely. $500 million the quarter is what we're thinking. So we've used the cash proceeds to buy back stock. As I think about the future priorities, it depends on valuations and M&A. We're going to be opportunistic. We're not going to go on some M&A spree. That's just not how we behave. It's all about protecting long-term returns for investors and not getting cocky with an M&A strategy. Revathi, she's frugal. So am I. Look, if it's strong ROIC, if we have a clear path to a strong return, absolutely, we'll do it. But it's tough to get the moons to align on really good, accretive M&A. And so we'll be judicious. But we have a pipeline. We continually look at it.
I would love to do some if it fit and I was confident in the financial returns. Nothing to talk about there right now.
Okay. We only have a couple. I can't believe it. There's only a couple more minutes left. Question in the back? Yeah.
Can you talk a little bit about potential opportunities and further opportunities in supply chain management? Are you seeing coming out of COVID, are there further opportunities to kind of grow in that space at kind of a margin ROC?
So there was a question in the back without the microphone. Further opportunities in the supply chain and what do we see? What are the opportunities for growth? Here's how I look at one way of looking at the opportunity set. Before I was at Flex, I worked for a very large multi-industrial company. As I think about regionalization in the context of that big mega-cap stock, the way we would have approached supply chain regionalization decisions would be make-buy. If I looked at, "Hey, I want to move facilities out of one geography, maybe somewhere in Asia into somewhere in North America," it all comes down to make-buy. What's the investment return?
If I'm that big OEM and it's going to cost me, make up a number, $100 million to move out of Asia and into somewhere in North America just to greenfield brick and mortar, I'm not sure that's a trade I want to make. That's a direct hit to my free cash flow. If you look at an EMS company like Flex that's a whole lot more than just electronics now, boy, if we have a pre-existing infrastructure with brick and mortar that already exists and a supply chain that's already been hardwired, it seems to me like you'd be a fool to drop $100 million on something that's going to be fraught with risk and startup costs. It's almost a no-brainer if you have the pre-existing network. That's how I think industry is going to look at it over the next several years.
We're seeing it now. It's certainly been a tailwind for us over the last couple of years. That's how I think it'll play out. If you have the network already, people are going to go to you.
I think that's it for us. We are at our time limit. I think we're over the time limit. So we have a breakout session downstairs. If you've got any follow-up questions, happy to see you guys. Thank you very much for allowing us.
Thank you. Thank you. Thank you. Appreciate it.