All right. Good afternoon. My name is Paul Chung. I'm the Applied Tech Analyst here at JP Morgan. I'm pleased to have with me Flex CFO, Paul Lundstrom. Welcome, Paul.
Thank you, Paul. Good to be here.
Yeah.
Thanks for hosting.
To get us started, maybe if you could provide like a brief overview of the firm, maybe evolution of the business.
Flex is a large contract manufacturing company. We'll probably do, I don't know, north of $30 billion in revenue this year. Contract manufacturing, we can build just about anything, focused primarily on electronics. We're in 30 countries around the world. We've got 130 plus facilities around the world. Been in this business since EMS started, I would say the business has evolved a lot over the years. We've particularly over the last few years, we've focused the business on a handful of core areas, done our best to attach ourselves to emerging trends that should give us nice top-line growth over the next several years. Three of which we talked about at our Investor Day about a year ago, a year and a half ago.
We talked about growth in cloud, we talked about growth in the Health Solutions industry as more health, you know, I'd say medtech companies outsource their manufacturing. Another important growth area for is next gen mobility, which think of, you know, the increasing electronics content in a vehicle and also EV.
Great. Thanks for that. Lots of change this year. Expand on kind of the Nextracker IPO spin, kind of the rationale behind it, intentions for kinda capital unlock and timing and, you know, some of the tools the firms will use.
Yeah, a lot of changes this year, very happy to have the IPO behind us. We started talking about that about two years ago, actually. We first talked about it, I think, in late 2020, when another big solar tracker company went public or filed their S-1 rather, you know, reviewed, you know, announced review of strategic alternatives, the winter of 2021, and it took that long to get this thing out. Unfortunately, you know, we sort of made the announcement into weakening IPO markets, and I think everybody knows the last two years, the IPO markets have essentially been dead. We took a first step by selling a small stake to the private equity company, TPG.
That was about $500 million a year ago, January timeframe. This past February, we were able to get a sizable chunk out into the public markets. Nextracker is now a publicly traded company. I think our investors and the Nextracker investors are very happy and nice to see that get done. What that means is now we have a meaningful amount of cash on the-
Yeah
On the Flex balance sheet that we will deploy with discipline, as you've seen us do over the last several years.
Right. You, you did raise a chunk of cash, from the initial spin, and then talk about kind of how you're thinking about monetizing that position over time. Then, you know, any I guess the remaining part as well and any kind of tax implications we should be thinking about.
Well, maybe first on the tax, because that's an easy one. You know, on the IPO and on the sale to the TPG, we pay state tax, but not federal. There's a significant number of NOLs that Flex still has, that there's no federal tax paid, a fairly tax-efficient way to monetize that. In terms of options going forward, we haven't been super prescriptive on what exactly we intend to do and when. I'll tell you, there are a few different options. We still own 61%.
Yep.
We could conceivably do a follow-on at some point. Right now, we're in the middle of a six month lockup, there's, you know, no announcements on that. If we did do a follow-on, what you can see in the, in the S-1 or the prospectus for Nextracker was we created what's called an Up-C structure, which allows us, provided we don't go below 51%, to tax-free spin the rest to the-
Okay
Existing shareholders. I think that's been fairly well telegraphed, you know, just based on what you can find in that S-1, what our, what our intentions are. Again, no announcement right now.
Okay. Thanks for that. I mean, you were pretty patient with the IPO spin, so I assume you'll take a measured kind of stance on how you monetize that over time.
Yeah. I mean, we wanna do the right thing.
Yeah.
We wanna do the right thing for investors long term. I think taking a pause and waiting for the, excuse me, the public markets to be constructive was absolutely the right thing to do. The window opened just a crack here this winter, we just squeezed through it as best we could. I have to say, I'm very happy with the execution on that. I think we threaded the needle.
Yeah, I think investors are as well. Let's just jump into the business. Let's start with Agility. You have, you know, 3 sub-segments there, CEC, Lifestyle, and Consumer Devices. Where are you seeing some relative strength? We can kind of dig deeper into each.
Maybe just replay a little bit what happened in 2023. The Agility business overall had strong growth in 2023, driven by one of the three BUs. The CEC business, CEC stands for Communications, Enterprise and Cloud. That business was up 30% last year. Our Lifestyle business was up 2%. When I say Lifestyle, think high-end consumer appliances. The Consumer Devices business was down double-digit. If you look at the end markets in both the Consumer Devices business, when I say Consumer Devices, think lower-end commoditized electronics, and also the consumer appliance markets, those end markets were both down double-digit as we went through our fiscal 2023. We grew the Lifestyle business because we gained share. The CEC business was just going gangbusters.
Significant growth in comms, Enterprise and Cloud. Cloud was actually up triple-digit for us with nice share gains. I'm not expecting another 30% year out of CEC. I think it'll be more like flat. If you look at those consumer end markets, both the higher end appliance side and then the more, you know, commoditized consumer products businesses, those will both be down again as we move through our fiscal 2024 here, which just started in April. The guidance we gave for the quarter was down mid-single-digit to low-double-digit, and we expect mostly the same as we move through our fiscal 2024. Maybe a little bit of improvement in the back half.
Mm-hmm.
Driven by two things. One, we have known cloud share gains that we're expecting in the second half. As we ramp for that should give that business a little bit of tailwind. The other thing I'll say is I'm not sure you're gonna see, you know, high-end consumer appliance and Consumer Devices down at the same rate again as we move through 2024. That would be two years in a row of down double-digit. I think at some point we start to lap the comps and things get a little bit easier. Probably a little bit, a little bit better for Agility in the second half, but we'll see.
Can we dig deeper into the cloud trends and how you're kind of gaining share and how to think about, you know, AI, compute demand and things like that?
Sure. cloud has been a great business for us. whether you're a bull or a bear on the end markets, at the end of the day, if you're picking up share, it's gonna help the P&L. that's what we saw last year. You know, cloud might have been a little softer, particularly at, you know, the exit rate for us, but, you know, that business more than doubled in 2023 on share gain. Why are we gaining share? Well, it's our capabilities. we can do everything from bend metal for racks to very sophisticated, you know, circuit boards and what you put into the server. Now this isn't CEC, but we also have data center power.
Anord Mardix.
Anord Mardix. Correct. You know, the acquisition we made in, let's see, would have been December, January of 2021, 2022. We have a lot of capabilities that support those cloud customers, and the ability to sort of customize modules and, you know, assemble at low cost at high rate, the ability to sort of bespoke, you know, server stacks is unique. I think it's a high value add, and so we've been doing pretty well in that space.
Talk about the Anord Mardix acquisition. You hadn't done, kind of a big acquisition like that in the past, but how the success of it is making you maybe think about how to complement the portfolio across other segments.
Yeah. Anord Mardix is, just the end market. It provides power for data centers.
Yeah.
Very specialty business. A business that my boss, the Flex CEO, Revathi, she was intimately familiar with that end market. You know, she was in that industry when she worked at Eaton running a number of P&Ls. That was a nice little advantage for our team in that she could go in and immediately evaluate, you know, do we like this or not. I think that was helpful. That was one of those deals that, you know, we like the space, we like the growth in cloud, you know, all the secular tailwinds that I think, you know, everyone, particularly over the long term, continues to be pretty bullish on. We liked the look. It was just a question of the company. You know, we want to peek under the hood. We like the financials.
We like the potential returns. We like the leadership team. You know, they planned to stay on board, which they have. Liked everything about that, about that deal, and we got it done. Coincidentally, financially, about a $500 million deal happened about the same time we got a $500 million for the sale of a stake in Nextracker from TPG. What a coincidence.
What a coincidence.
It just happened to work out, magically for us.
Decent margins as well.
Really nice margins.
Okay, let's switch to Reliability. Talk about some of the key emerging trends you're seeing in healthcare, auto, and in industrial?
Sure. I just told you that Agility this year will be down mid-single to low double digits, likely for the year. Opposite is true for the reliability business, which we think will be up mid-single to low double for the year. All three businesses have nice tailwinds right now. Just maybe peel the onion a little bit. You mentioned Health Solutions. Health Solutions continues to work on a number of ramps. We expect that business to do nicely yet again in 2024. We continue to see this trend, you know, out of med tech device company OEMs into contract manufacturing. We think that's a trend that will continue. Manufacturing is hard, you know, particularly at very high rate, very high quality. You know, FDA requirements adds complexity.
If they can have a high-end manufacturing partner to help them with that, it's almost a no-brainer. We like the tailwinds that we see in that particular industry, and we have known ramps, which gives us confidence in 2024. If I look at automotive-
Yeah
A utomotive looks quite good. Even if you saw a pullback in global vehicle production, I still think the automotive business would grow because we've attached ourselves to EV. If I look at electric vehicles as a percentage of the total vehicle fleet produced, that mix is gonna continue to go up. We have content specific to EV. We do not have content, or at least electronics specific to internal combustion. If EV cannibalizes internal combustion, which we think it will, net, it's a positive for us. Plus, we have all this other electronics, you know, around a vehicle: mirror controls, lighting controls, and console, and all sorts of stuff. Love the tailwinds that we're seeing right now in EV.
Just generally, if I think about, you know, high-end electronics in a vehicle, particularly as safety requirements become more standard. You know, little things like that little light that comes up in your rearview mirror as another car comes into your blind spot. That used to be something you would find in a Porsche. Now it's in everything.
Now it's standard. Yeah
And it's just standard because the safety features are becoming more commonplace. That's a net tailwind if you do electronics for the automotive industry, which we do. I love where we are there. That's another business that will grow in 2024. On the industrial side, there's one business in particular in industrial that has nice ramps, and that's gonna be a meaningful tailwind for the business. That would be renewable energy. We do inverters for a number of customers. You know, a few of them are more public. Not to name the name, but you can figure that out pretty quickly.
I think we know the name.
We also do EV charging stations. That renewable space we think has nice tailwinds. We just talked about EV. You know, EV charging is gonna be a tailwind. Certainly as solar continues to roll out, I think that's gonna be nice for us as well. That renewable energy business, by the way, it doubled last year. More than doubled. Now it's north of $1 billion in revenue. Love where we are there, we feel pretty confident in the reliability growth wedge.
Okay, great. Just on the competitive environment, talk about how pricing is holding up, you know, where you're seeing some competitive pressures and how the firm is winning deals.
Well, I mean, pricing is always gonna be competitive. You know, it's a competitive space. I would say I haven't seen any meaningful change over the last few years. We're not a chip company. You know, I think the, during this component shortage, there were some customers that sort of had pricing power. I wouldn't say that we did. Nothing in particular. It's not like we were raising prices through the pandemic or the component shortages. I wouldn't say pricing has eroded either. You know, it's, I think we're hanging in there. Where we can add value is things like tremendous vertical integration capabilities, that would be one.
The other one would be we have the size and scale and the geographic footprint to support production just about anywhere in the world. What's interesting to me is the last few years, you know, I came into the company in 2020, there was lots of talk about regionalization.
Yeah.
At that point, I would say it was a bit of conjecture. You know, it came from the trade disputes and then the stops and starts of COVID, and it was like, okay, we need to get product manufacturing closer to customers so there's less supply chain disruption and lots of chatter. Now we're actually seeing it. That's, you know. You say pricing, I'm not sure pricing is.
Yeah
Y ou know, helps. What helps to grow our share of wallet or our, or just sales in general with new customer wins is our ability to produce just about anywhere is definitely an advantage.
Definitely you've been hearing from, you know, a lot of clients and feedback about, you know, made in America, maybe in North America, including Mexico and things like that. Onshoring, kind of CHIPS Act, lots of tailwinds here. Talk about if you can expand on that whole regionalization theme and, you know, this used to be chatter maybe two, three years ago, but you're actually starting to see customers move. Do you wanna talk about that?
Well, I'm not sure I can comment on CHIPS Act other than to say it'll be interesting to watch. I think there's a lot of strings. I'm not sure what the take rate will be, but regionalization is real. You know, you mentioned, you know, made in America or maybe made in the Americas. Interestingly, sales in the U.S. grew more than sales in Mexico last year. Sales in the U.S. were up 36% for Flex. Just put it in perspective, sales for the company were up 17%. U.S. grew at 2x the growth rate for the overall company. That's interesting.
Very.
If you had asked me three years ago if I would have expected that, I think I would have said no. That's an interesting one. To your point, Mexico, lots of growth in Mexico. Mexico was up 30% last year. This regionalization theme isn't just stuff moving out of Asia into the Americas. You see it regionally as well. Here's another one. Sales growth in China last year, up 6. Sales growth in Malaysia last year, up 31. That's interesting. You know, it's, I wouldn't say China is shrinking, but I think with some customers perhaps being de-emphasized a little bit, and that doesn't necessarily mean it's moving from, you know, China to Mexico. It could be moving from China to Malaysia.
Okay. Just expand a bit on your global footprint, relative to other kind of American companies as well. You know, how is that kind of a competitive advantage for you?
Well, I wouldn't say we're equally dispersed. If, you know, I were to rank order by square footage, Asia is still the largest at just under 20 million sq ft. The Americas is number two, not far behind Asia, actually. About 16 million, you know, square feet, maybe a little under. It's not that far behind. The smallest region for us in terms of square footage is Europe. If I look at where the growth is coming, and so now I'm talking specifically about CapEx and PP&E going into a region, Malaysia's growing fast. Mexico's growing very fast, and so is Hungary, actually.
Yeah.
You know, Eastern Europe. Back to the regionalization, it's not just, you know, it's not You can't say it's out of China. It's into low cost in the regions, Eastern Europe, Southeast Asia, Mexico.
Right. It used to be kind of a labor arbitrage thing where you move to China and whatnot. Now, as you've evolved and kind of spread out more of the footprint, where are you investing in terms of automation and things to make more efficient manufacturing facility?
Everywhere on automation. you know, a dollar of labor is a dollar of labor, and if you can automate and you can have higher quality and long term, if there's a viable payback on a program, then we're gonna make the investment. I wouldn't say it's automation investment is regional specific. I will point out something kind of interesting. This I used to work in China and, you know, China, you know, labor arbitrage was definitely a big deal and it has been for 30 years. The difference now between Mexico and China, I would say it's insignificant. That's an interesting one. Labor content, if you look at our total bill of materials, our labor content is quite small.
You know, it's not so much trade anymore on, "Hey, well, let's push it into China because there's gonna be this huge, quote, you know, employment cost difference." It's not as big as what you'd think.
Okay. Interesting. State of the supply chain, where are we on components, inflation, freight,
Freight's back in the box, thankfully. I think we were fairly well-protected at Flex. Nextracker, less so. Not an issue for Nextracker anymore. You've seen
Right
The backlog roll out. margin rates come up significantly as, you know, they've got out of the lower priced contracts, that's great to see that that's in the rearview mirror. component shortages for the more modern technologies definitely has loosened up a little bit. That's a positive. We continue to struggle in the larger nodes. the industrial still has some headwinds. Automotive still has some in-headwinds. I'm not sure when that's gonna free up. I think if you were to ask our supply chain folks, you know, 18 months ago, if they thought we'd still be talking about it today, they probably would've said no. it'll be a gradual improvement, but it does seem like things are improving a little bit.
Gotcha. You know, as we think about maybe a potential downturn in the overall market, you know, how does the business perform in somewhat of a recessionary scenario historically? You know, how will it be kinda different this time since you're indexed to some of these secular trends?
Well, protecting the top line, by insulating it a bit is definitely gonna help. You know, if we see a larger macroeconomic pullback, I think we'll have a little bit more, you know, hedge, so to speak, because we're in growthier end markets. The going way back, business profiles change dramatically. I mean, you go back to the financial crisis, and 60% of Flex was Consumer Devices. I mean, we were making everything. Flat screen TVs and all sorts of stuff.
No jokes.
That was extremely sensitive to the pullback. We have a whole lot less exposure to that today, and so I'm not nearly as concerned. I'll also say that we've been dealing with soft consumer end markets for a year now. You know, Revathi and I started seeing things soften up about this time last year, and we made sure that the recession playbook was up to date and ready. We've sort of been treading water now 'cause things haven't really slowed significantly yet. Now that we're starting to see it, we're just gonna make sure that we're being disciplined on cost, as we always are. Manage the decrementals, as we always do, you know, should that be necessary, and just protect the business.
I think we've demonstrated now through the cycle, you know, COVID was a big dip, that this business can outperform in the ups and in the downs, and that's our plan.
Gotcha. Let's move to margins. Agility margins are, you know, moving kind of in the upward trajectory. Expand on some of the levers there to kind of drive that steady expansion.
Yeah, those guys have been killing it. You know, I'm very happy with their performance over the last few years. They've done a really nice job. They've been managing their mix. I think that's helped a lot. They've done a nice job managing their cost structure. We've been able to get volume through the factories, which helps with absorption, particularly as component shortages free up a little bit. You know, you don't have stranded costs. So that's been great. You know, really nice job with Agility, whether it's managing the mix and the contracts or it's the cost or it's just getting output. That's been fantastic. The Reliability business, we're working on a number of things. You know, one, we have a number of ramps.
I talked about that, you know, when I mentioned that mid-single to low double-digit growth we're expecting this year. You know, we all know the economy is softening up a little bit. We have a number of known ramps. Now we need to make sure we've facilitized for that. Some of that's fixed, you know, fixed asset investment, and some of that's staff, quality, DL, indirect, making sure that we're appropriately staffed to manage the ramps as we're coming up to rate, dealing with learning curves. That's put a little bit of pressure on the business here in the short term. It's pressure that I'll happily take because I know what the longer-term path looks like. That's put a little bit of pressure on the business.
As I mentioned, I think components have been slower to improve, in particular in auto and industrial. What that means is you've got stranded cost that just sort of sits there on the balance sheet if you just can't get the output.
Yeah.
That's put some pressure on the business. I think the long-term thesis is that reliability margins are better than agility margins. The reliability growth rate will be higher than the agility growth rate, and that mix is what's gonna take us to nice margin expansion over the next several years.
You're about to hit five or very close there. What's kind of as we think about fiscal year 2025 targets and reading into both kind of top line and margins, how should we think about both those dynamics?
What we talked about at our Investor Day a year ago was 2025, our fiscal 2025 goal was high single-digit top line growth, organic, 5% Core Flex margins. You said we're getting towards 5%. Yep, absolutely true. That includes Nextracker. We think Core Flex margins will be 5% by the time we get to 2025, which would be, you know, over half a point of improvement between now and then.
Basis point matters, yeah.
Absolutely. Absolutely. It takes a lot of peanuts to feed an elephant. Yeah, we see that, continue to see that path. The other target we threw out there was EPS of $2.65 excluding Nextracker, so Core Flex. I still think that's the case.
Let's talk about cash. Free cash flow conversion is around 50% this year. You have some of that inventory, you know, kind of a drag. Talk about your goal for conversion and when we should start to expect some normalization.
If you deconstruct our cash flow guide this year, you have net income, you have depreciation and amortization. You can just take the run rate. We told you what our CapEx is gonna be. We said it's gonna be about 2% of sales. You can just back into the other balance sheet changes. What it implies is a little pressure on working capital. That's how you get to the $600 million. Is there a little bit of conservatism in there? Yeah, probably. What I expect to see with inventory is. You know, we saw a nice reduction in inventory this last quarter. It was down about $300 million before you think about working capital advances, which also improved in the quarter. That was very nice to see.
What will happen over the next several quarters is, as inventory levels come down, you'll see working capital advance levels also come down. Customers have been helping us to finance the inventory over the last 18 months with.
Right
Support, you know, cash support. As inventory levels come down, they're gonna want that cash back, much to my chagrin. That's kinda how it's gonna work. You're gonna see both sides of the balance sheet unwind as we get through this, the craziness of the component shortage.
Okay. I guess I'll open up the floor for questions if anybody has some. I guess as we wait for the mic, you know, where are you investing that CapEx to kind of support growth? Where is that capital going?
You saw a lot of that in the K this past year. You know, we're investing in Hungary, we're investing in Mexico, we're investing in Malaysia. We're investing in the reliability side of the business to support ramps. We're investing in the agility side of the business also to support ramps. You know, cloud is one area where I mentioned we'll have back half share gain in cloud. We're gonna have to make sure that we're adequately facilitized for all that. I would say from a business perspective, reliability, larger reliability, cloud, and then regionally in the low-cost areas, you know, Malaysia, Mexico, Hungary.
Gotcha.
Thanks for being here, Paul, and talking to us. Why not make a commitment to a large debt pay down with the cash that you got from the Nextracker IPO? I guess, you know, one argument would be that it can make the business more robust over the long term and improve free cash flow conversion. Take us through your thoughts on that, on that, please. Thanks.
Sure. Just to make perfectly clear that everyone heard that, it was why not announce like a big debt pay down? Well, we did pay down debt on the IPO. You saw that last quarter. We paid down a euro loan. You didn't see a significant change in the total debt for Flex because we still consolidate Nextracker. At the same time we were paying down variable rate debt, by the way, which I think is the right thing to do. At the same time we were paying down variable rate debt, we actually took out some variable rate debt and put it on Nextracker. The mechanics, the way that will work is, as assuming Nextracker fully separates from Flex, the cash will stay with Flex and the debt will go with Nextracker.
In essence, on some other transaction, that's a little bit more deleveraging, about $150 million more to be precise. What are we gonna do over the next couple of quarters? I don't know. Haven't really telegraphed that quite yet. You know, for the most part, we're fairly termed out. We do have some variable rate debt still. Could we pay down some of that stuff? Yes. You know, that's an option. Our interest rates certainly are up. That would give us a little bit of net income tailwind that, you know, might be worth it, but we just gotta carefully evaluate all the trades. It's a good question.
Any other questions? Okay. I guess, if there's anything kind of misunderstood about this story or, you know, some final comments on the story and leave us with.
Yeah, no, happy to do that. First of all, you know, thanks, Paul, again, for hosting.
Yeah.
Always good to see you guys. Look, it's a bright future despite what might be an uncertain macro. I think a lot of chatter on recession right now, and I'm very happy with the way we've insulated ourselves against that over the last few years. We've won a lot of new work, and we've got a lot of ramps in the hopper right now in the Reliability business, in particular. You know, that's tend to be longer term, stickier contracts.
Yep.
You know, we've attached ourselves to, you know, my-- I've used the word twice now, growthier segments, love where we are there. We're seeing the same thing in cloud. Whether you're a bull or a bear on the end market, share gain is share gain. That's gonna be a nice tailwind for us in the back half of this year. As we look, you know, beyond into 2025, I think this-- the thesis still stands. You know, it's we're gonna have nice top-line growth because of the long-term secular tailwinds we believe will remain intact. We have a nice path to continuing to grow the margin rate, which you've seen us do over the last few years. You know, we target out there of $2.65 a share for Flex core.
By the way, we have a nice, strong balance sheet right now. We've got a lot of deployable cash that we can use for internal investment, share repo, or if we want to, M&A. Although I would say at this juncture, that's probably our third of three priorities.
Gotcha. Well, thank you for your time today.
Thanks, Paul. Appreciate it.