Mike McNamara - CEO Christopher Collier - CFO Kevin Kessel - VP, IR.

Amit Daryanani - RBC Capital Markets Brian Alexander - Raymond James Peter Christiansen - UBS Andrew Huang - B. Riley & Co. Mark Delaney - Goldman Sachs Jim Suva - Citigroup Sean Hannan - Needham & Company Matt Sheerin - Stifel, Nicolaus & Co. Osten Bernardez - Cross Research.

Good afternoon, and welcome to the Flex Second Quarter Fiscal Year 2016 Earnings Conference Call. Today's call is being recorded, and all lines have been placed on mute to prevent any background noise. After the speakers' remarks, there will be a question-and-answer session.

At this time, for opening remarks and introductions, I would like to turn the call over to Mr. Kevin Kessel, Flex Vice President of Investor Relations. Sir, you may begin..

Thank you and welcome to Flex' conference call to discuss the results of our fiscal 2016 second quarter ended September 25, 2015. We have published slides for today's discussion that can be found on the Investor Relations section of our Web site.

Joining me today is our Chief Executive Officer, Mike McNamara; and our Chief Financial Officer, Chris Collier. Today's call is being webcast live and recorded and contains forward-looking statements, which are based on current expectations and assumptions that are subject to risks and uncertainties and actual results could materially differ.

Such information is subject to change and we undertake no obligation to update these forward-looking statements. For a discussion of the risks and uncertainties, see our most recent filings with the Securities and Exchange Commission, including our current, annual and quarterly reports.

If this call references non-GAAP financial measures, these measures are located on the Investor Relations section of our Web site, along with the required reconciliation to the most-comparable GAAP financial measures. With that, I will pass the call to Chris.

Chris?.

Thank you, Kevin, and thank you everyone for joining us today. We appreciate your time and interest. Our second quarter income statement highlights begin on Slide 3. We remain focused on fulfilling our financial commitments and our second quarter financial performance reflects the sound progress we are making.

Revenue grew 751 million or 13% quarter-over-quarter to 6.3 billion, which was above the midpoint of our guidance range, as every one of our business groups grew sequentially. Year-over-year, our revenue declined 212 million or 3% largely due to reduced demand with our largest customer as expected.

Later, Mike will expand further on our business segment revenue and performance. Despite the modest decline in quarterly revenue from the prior year, our second quarter adjusted operating income increased 7% year-over-year to 196 million, and was above the midpoint of our guidance range.

Adjusted net income totaled 153 million reflecting a less than proportional 2.5% decline year-over-year. Our adjusted earnings per diluted share for our second quarter was $0.27, which represented a 4% year-over-year improvement and was towards the high-end of our adjusted EPS guidance range of $0.22 to $0.28.

Turning to Slide 4, you will see our quarterly financial highlights. Our second quarter adjusted gross profit increased 5% year-over-year and 13% sequentially to 399 million. Our gross margin expanded 50 basis points from prior year to 6.3%. As we have consistently stated, our margin is fundamentally a function of our business mix.

It has been our strategic objective to move our long-term portfolio towards a greater mix of businesses that have longer product lifecycles and higher margins, and our improved gross margin reflects these efforts. This quarter, our adjusted operating income increased by 13 million or 7% year-over-year to 196 million.

Our adjusted operating margin expanded 30 basis points year-over-year to 3.1%. Our operating profit and operating margin expansion continues to benefit from a richer business mix and maintaining strong discipline over our operational expenses.

Second quarter SG&A expense was 203 million, which grew by 8 million sequentially primarily as a result of the incremental R&D and SG&A associated with our Mirror Controls acquisition.

While we continue to drive greater innovation, design efforts and strategic initiatives that further expand and enhance our platform, we remain very conscious of our spend levels. We are internally focused on leveraging productivity and efficiency gains to subsidize our strategic initiatives.

Return on invested capital is a key metric that supports and guides our financial decision making and our capital allocation. Our return on invested capital is 22.7% in the quarter. Overall, our return on invested capital remains well above our cost of capital and above our targeted level of 20%.

Please turn to Slide 5 for our operating performance by business group. Presently, we have three of our four business segments operating at or exceeding our target operating margin ranges.

In the second quarter, our integrated network solutions or INS segment generated 66 million in operating profit and its operating margin increased to 3%, which moved it into the targeted range of 3% to 4%. This expansion was aided by solid sequential top line growth and improved utilization levels.

Our consumer technologies group or CTG business generated 41 million in operating profit, which resulted in an operating margin of 2%.

This was within our targeted range of 2% to 3% but was negatively impacted by our China smartphone business declines and measures we implemented to align our cost structure with its current and prospective business demand, and to a lesser extent we incurred some charges associated with a distressed customer.

We want to update our view as to the potential exposure from downsizing our China smartphone operations. Our view of being able to manage and mitigate any material risk remains unchanged and intact.

Giving actions already undertaken, we believe that as we move forward we will manage this dynamic situation to a potential exposure of a $0.01 to $0.02 EPS impact, which comes down from the prior risk profile of $0.02 to $0.03.

We also would like to reiterate that it is our intent to continue to drive a deeper engagement model with our CTG customers where we are providing more meaningful design and innovation, which will result in capturing a richer margin.

Our industrial and emerging industries or IEI segment produced 32 million in operating profit and a 2.8% operating margin, which was below our targeted range of 4% to 6% for the segment and below our expectations for sequential improvement.

While it modestly improved from last quarter, our operational execution continues to be hampered on a couple of significant ramps and its revenue growth has also been more muted due to macro factors.

Management remains confident in our ability to operate this segment within its target margin range and believes that over the next couple of quarters it will improve towards that range. Lastly, our high reliability solutions or HRS business generated 71 million in operating profit, which equates to a 7.5% operating margin.

This exceeded our target operating margin range of 5% to 7% reflecting the meaningful contribution from our MCi acquisition and the solid execution of this segment while managing numerous new program and product ramps. Let us turn to Slide 6 for some insight around other income statement elements.

Net interest and other expense was approximately 24 million in this quarter, which is slightly better than our guidance of 25 million. For our December quarter, we continue to believe that modeling quarterly net interest and other expense at 25 million is appropriate.

The adjusted income tax expense for the second quarter was 20 million reflecting an adjusted income tax rate of approximately 11.4%, which exceeded our targeted tax rate range of 8% to 10%.

Our tax rate will fluctuate quarter-to-quarter due to various factors such as our earnings mix between tax and jurisdiction, changes in our tax reserves and valuation allowances for deferred tax assets, current period acquisitions and even foreign currency.

The increase this past quarter was primarily due to the MCi acquisition and impact from foreign currency. However, our estimated annual fiscal 2016 effective tax rate remains between 8% to 10%.

Now when reconciling between our quarterly GAAP and adjusted EPS, you see a $0.05 impact from the stock-based compensation expense and intangible amortization expense net of tax benefit. This increase from the prior quarter due to additional intangible amortization expense related to the Mirror Controls acquisition.

Turning to Slide 7, I’ll review our cash flows related elements. We generated 300 million in cash flow from operations this quarter and have pushed our year-to-date cash flow from operations to 662 million as we continue to operate with discipline.

Despite the strong 13% sequential growth in our business, our net working capital increased by only 7% or 128 million sequentially, as we efficiently managed our supply chain and our operations.

Net working capital as a percentage of sales declined sequentially from 7.8% to 7.4% and continues to remain within our targeted net working capital to sales range of 6% to 8%. Taking a closer look at net working capital, most notable was our reduction in inventory days, which we brought down by six days to 54 days reflecting inventory turns of 6.8x.

Our cash conversion cycle totaled 25 days, which decreased three days sequentially and two days from a year ago. Given our current and prospective mix of business, we continue to believe that our net working capital as a percentage of sales will remain in the range of 6% to 8% of our net sales.

This quarter, our net capital expenditures was 157 million, which was above our quarterly depreciation level. We continued to make investments in additional capability and capacity expansions to support our automotive, medical and energy businesses where we are ramping many new programs.

We believe our global system has been thoughtfully built and we are well positioned in terms of technologies and capacities to support future growth. This will allow us to manage our CapEx investment levels to be at or below our depreciation levels for the remainder of fiscal 2016.

We generated over 368 million of free cash flow during the first half of fiscal 2016 and over the last 12 months, our free cash flow generation was 754 million.

Clearly, as evidenced again this quarter with our performance, cost remains fundamentally structured, disciplined and on pace to achieve our commitments to generate free cash flow of 3 billion to 4 billion for the five-year period ending in fiscal 2017.

Lastly, we continue to use our strong cash flow generation to consistently return value to shareholders through repurchasing of our shares. This quarter, we invested 142 million to repurchase almost 13 million shares or over 2% of our ordinary shares during the quarter.

Our actions this quarter reflect our unwavering commitment to return over 50% of our annual free cash flow to our shareholders. Now turning to Slide 8, let’s review of our balance capital structure.

Our financial condition remains strong with no debt maturities until calendar 2018 with $3.2 billion in liquidity and a total cash of approximately 1.7 billion. Our debt to EBITDA ratio is 2.2x. Our capital structure is sound and provides us with ample flexibility to support our business.

That concludes the recap of our financial performance for the second quarter. Before I turn the call over to Mike, I’d like to summarize.

Flex continues to be focused on improving its execution, operating with discipline and working hard to drive a richer engagement model with our customers while consistently delivering on our commitment admit a dynamic macro environment. Now, I’ll turn the call over to Mike..

Thanks, Chris. Please turn to Slide 9 for our second quarter FY 2016 highlights and key trends. Our second quarter of fiscal 2016 represented sequential growth across all four of our business groups resulting from new programs and improving engagement models.

We continue to effectively manage the control of elements of our business and deploy capital intelligently both of which are not impacted by macroeconomic crosscurrents.

We are operating and managing our business with discipline thus enabling us to be better positioned to expand our relationship with existing customers while concurrently adding new relationships. Improving growth with a richer engagement model is paramount to our business strategy. NIKE’s recent announcement is a testament to exactly that.

Last week, during NIKE’s Investor Day, NIKE announced a partnership with Flex to accelerate the introduction of advanced innovation to NIKE’s manufacturing supply chain. Working together, NIKE and Flex will deliver innovation that enables product to reach consumers more quickly with customized solutions and increased performance innovations.

This new relationship is a perfect example of how we go sketch-to-scale and are able to leverage our world-class expertise in design, engineering, supply chain, automation, sustainability and advanced manufacturing for wide-ranging product categories moving and beyond electronics.

Our business will continue to evolve past the boundaries and confines of electronics alone, yet it is our expertise around complex electronic supply chain that form the foundation of our value proposition to expand our offerings into any supply chain regardless of product category.

We are very cost disciplined and are continuing to stay focused on driving the return on invested capital above our cost capital. This effort drives free cash flow, which is off to a good start in the first half of fiscal 2016 at $368 million.

Our consistent free cash flow generation affords us the ability to grow our business through smart capital investments or acquisitions like the recently closed NEXTracker acquisition while still continuing to enable the return of meaningful capital to shareholders.

Our capital return to shareholders continued this quarter as we invested $142 million to repurchase nearly 13 million shares. Since beginning our current capital return program in fiscal 2011, we have repurchased approximately 318 million shares for over $2.4 billion and reduced our net shares outstanding by 32%.

Please turn to Slide 10 for a look at revenue by business groups. We had revenue upside relative to our guidance midpoint for the September quarter as a result of better than expected performance in INS and CTG, in line performance at HRS and a weaker IEI. INS increased 12% sequentially and was above our expectations for a high single digit increase.

Revenue was $2.2 billion reflecting a $239 million increase from last quarter. In the quarter, our telecom and networking businesses were both above forecast and exhibited strong sequential growth due to new program ramps that more than offset weak end markets. Converged infrastructure continued to perform well with solid sequential growth.

The only weak spot in INS was our server and storage business, which declined single digits. We are expecting sustained INS revenue growth this quarter driven by the continued ramp up of multiple new bookings during the past 12 to 24 months.

This bookings are offsetting the consistent sluggishness in the end markets as we see little recovery in these markets through year end. However, for next quarter, we expect INS revenue to be up mid to high single digits entirely driven by new business wins in the midst of a challenging macro.

CTG’s revenue rose 28% sequentially above our expectation for a 15% to 25% sequential increase. This resulted in revenues of $2.0 billion, up $446 million sequentially. The revenue beat in CTG was due to strong demand for wearables, connected home, gaming and other CTG product categories.

In addition, our smartphone business sequentially in the quarter above our expectations for stable demand. We are guiding CTG to deliver in the low single digits sequentially with most products exhibiting normal seasonality but being offset by weakness from our largest smartphone customer.

IEI increased 1% sequentially to $1.15 billion and was up 4% year-over-year. The bottom macro pressures were most evident across IEI’s diverse customer base and have accelerated over the last few months. We just closed on our acquisition of NEXTracker, a global market leader in smart solar tracking solution.

We are thrilled to have the NEXTracker team on board and look forward to NEXTracker further complementing our existing $1 billion plus energy business. Like the MCi acquisition before it, this acquisition is also expected to be accretive to our gross margin, EPS and cash flow generation in its first quarter.

As we look to the December quarter, we still see the macro pressures weighing in on our IEI business but we still expect IEI to be up mid to high single digits sequentially as new ramps and contribution from our recent NEXTracker acquisition aides us in overcoming these headwinds.

Our HRS group performed essentially in line with our expectations and grew 6% sequentially to $955 million. This marked HRS’ 23rd straight quarter of year-over-year revenue growth. Our automotive business was strong on the back of MCi’s performance while our medical business was stable.

Next quarter, we expect HRS to be up low single digits sequentially driven mostly by strength in automotive. Now turning to our December quarter guidance on Slide 11, for the December quarter or Q3 fiscal 2016, revenue is expected to be $6.2 billion to $6.8 billion.

This range reflects a sequential increase of 3% to the midpoint in line with our historic seasonality for the December quarter, as growth driven by the ramp up of multiple new programs across all four of our business groups are partially offset by macro pressures.

Our adjusted operating income is forecasted to be in the range of $195 million to $235 million. This equates to an adjusted EPS guidance range of $0.28 to $0.34 per share based on weighted average shares outstanding of 563 million.

The adjusted EPS guidance is approximately $0.06 per share higher than the quarterly GAAP earnings per diluted share due to intangible amortization and stock-based compensation. Before I open the call up for Q&A, I’d like to reiterate my thanks to all our employees worldwide for their hard work and dedication during the second quarter.

We operated as a unified team and delivered improving results while keeping a strong focus on our customers and returning value to shareholders. With that, I would like to open up for Q&A.

Operator?.

[Operator Instructions]. Your first question comes from the line of Amit Daryanani with RBC. Your line is open..

Thanks a lot. Good afternoon, guys. Two questions from me.

First, Chris, could you just talk about – given the two sort of larger deals you’ve done in the last few months with Mirror and NEXTracker, how do you think of capital allocation as we move forward and what sort of debt levers or debt coverage ratio that you’re comfortable with at this point?.

Thanks for the question, Amit. We’re pretty excited about the deals that we’ve been executing upon. And if you think about capital allocation for us, the underlying premise is just to continue to create shareholder value with a long-term commitment.

We have a stated objective of returning over 50% of our free cash flow to shareholder returns and you saw this quarter remains and will continue to be the key feature in returning value to shareholders.

But as you think about the ability for us to do M&A transactions to expand the portfolio, capture more technologies and enhance that piece of the business that has longer product lifecycles, higher margins and the like, we have capability in terms of the balance sheet and the existing framework that we’re operating in today.

In all these targets are bringing with it higher margins, cash flow and strong EBITDA, so it allows for us to even support those deals with leverage as we move forward. So, I think we have a very flexible position right now in terms of the balance sheet and capability to get after M&A as we see fit. We’ve been very selective.

If you look over the last three years, we’ve only done roughly 10 transactions and just because we’ve had a couple larger ones in the recent two quarters doesn’t depart from our very thoughtful approach to M&A balancing that with the unwavering commitment to increasing shareholder value, returning it through the share repurchase program..

Got it.

And I apologize if I missed this but could you talk about how much – in your December quarter guide, what contribution are you assuming from NEXTracker and how does that margin profile for this asset stack up versus the 4% to 6% rate you have talked about for IEI?.

Certainly. So we just closed that transaction and if you go back in September, we tried to size up what that transaction looks like for us. Really excited about bringing that new technology into the fold. It greatly complements the $1 billion energy business we have today.

We saw that coming into the quarter in a range of $80 million to $120 million of contribution. You can probably expect that in the middle of that range. And one of the things we tried to highlight earlier was the margin contribution for that business is hopefully above the IEI target margin range.

So as we get that into the fold and start driving, you should see that above the top end of that 6%..

Perfect. Thanks and congrats on the quarter, guys..

Thank you..

Thanks..

Your next question comes from the line of Brian Alexander with Raymond James. Your line is open..

So just following up to Amit’s question, is all the growth in IEI sequentially coming from NEXTracker? Just want to put into context your comments about overall demand. Obviously, there’s been a lot of industrial OEMs that has seen weakness in recent weeks.

So if we take that acquisition out, are you basically expecting IEI to be kind of flattish on a sequential basis?.

Hi, Brian. Yes, you are correct and we tried to provide that lens when we had the prepared remarks. We’ve been seeing a really accelerated impact in the last – even today in terms of our broad customer base that exists within IEI and we’ve seen that macro pressure really weigh in.

Underneath that – we probably would have been down but underneath that we’re ramping several new programs, so that kind of neutralizes at the core. Think of the growth in IEI for the next quarter, the December quarter to be based on NEXTracker..

Okay. And then just a follow up on the smartphone business. Thanks for the update on the financial impact being somewhat mitigated from the last time you updated it.

Can you just elaborate on the timing and the magnitude of the revenue attrition that we should expect in that business, and are you still assuming it’s basically China that gets impacted or is it broader than that? I’m just curious. What prompted you to kind of reiterate that on this call? Thanks..

Hi, Brian. We’ve been talking about it now for almost a year and a half ever since the transaction with Lenovo actually first occurred where we thought that the risk profile in the business would end up being around the China factory. So we just thought it’s appropriate to continue to update you.

We had a little bit of weakness in the CTG margins this last quarter and part of that was as we had some weakness in the China factory demand, we’re taking headcount down and they’re absorbed into our operating results. So basically what we’re doing is we’re taking these – we’re just recognizing these reductions as we go.

We still believe that the rest of the business is intact. We expect to remain a key partner in Brazil and we’re already ramping up India for Lenovo. So, rest of the world, we’re actually pretty bullish on.

We continue to understand that there’s going to be a risk in terms of there’s too much capacity in China and that we have to recognize that’s a real risk, and we’ll continue to update you. But as you can see, I mean we’re taking that risk profile down pretty substantially.

And I think at the same time you’re seeing some of the revenue coming out of the system as evidenced by some of the comments we’ve made over the last five or six quarters..

Great, okay. Thanks, Mike..

You’re welcome..

Your next question comes from the line of Steven Milunovich with UBS. Your line is open..

Thank you. This is Peter in for Steve. As it relates to the NEXTracker acquisition, I mean we know that there’s a lot of demand being pulled forward as we approach the decline in the ITC in 2017.

How are you positioning that asset and ramping up as macro demand is very favorable over the short term and then potentially setting up for boom and bust longer term, how are you positioning that and how do you intend to navigate around those margin dynamics?.

Well, NEXTracker is increasingly global, it’s already global as is most of a lot of our solar business. We think that the ITC affects the U.S. demand, that’s one part of the total demand. And as we get into '17 we’ll just have to see how much of a bust it will really be.

So we think it might have a pause in overall worldwide demand but then we think it will start heading up. We continue to have very, very positive improvements in the cost structures of the solar systems. They continue to come down 5% to 10% a year.

The NEXTracker system itself creates a situation where actually have an improved efficiency that’s upwards of 10% out of the system by using NEXTracker technology. So we just think it’s a – the ITC is a U.S.-only thing. The demand worldwide continues to be extremely strong. The macro trend over the next 10 years is probably going to be double digit up.

We think the world is still going to find ways to partnership and create ways of funding these systems and we think the technology is going to keep getting better where there’s going to be more and more efficiency. So, we think the broader macro is extremely positive and the only thing we see going forward is maybe a pause in the U.S. demand in 2017..

Great, thanks.

And then as it relates to the decline in the inventory days, was that more of a result of the downsizing of the China smartphone business? Are you seeing improvements in other areas?.

Hi, Peter. The improvements sequentially to the 6.8 turns was not at all based on any of the China smartphone demand profile. It in fact was just through our broader efforts as we get after our inventory. As we mentioned last quarter where we actually had some stalled inventory in the system, we actually have line of sight in activities underway.

There’s many levers for us to drive back to getting a 7 handle in terms of our inventory turns. It’s going to be through better load planning, through different supplier managed inventory positions and that should take a harder look into our finished goods reductions and adjusting buffers and so forth.

So we feel a lot of levers in place for us to get back into a 7 handle and that puts us back down into a 50-day inventory structure. And again, for us each day of inventory is roughly $60 million of cash flow, so we’re pretty internally focused on driving further and further improvement as we move throughout this year..

Great. Thanks, Mike and Chris..

Welcome..

Your next question comes from the line of Andrew Huang with B. Riley. Your line is open..

Thanks and congratulations to you and your team..

Thank you..

Clearly a lot of things went well in the quarter but I was wondering if you could give us a little bit more color on how IEI performed relative to your expectations internally? And then some color on how you see those margins progressing going forward and I guess you have to kind of make those comments excluding the impact of NEXTracker?.

Yes, so if we look at IEI we probably looked at a continuing erosion in end macro demand and IEI is probably the broadest portfolio in our entire company, so it’s probably a better place to see some of that broad macro softening.

And I think the revenue downside from that was somewhat offset by some of the new program ramps that we’re bringing in, but it’s more costly to bring on new programs than it is to just run existing programs harder. So we actually anticipated greater upside in terms of margin. They actually went from 2.6% to 2.8%.

That was a little bit disappointing to us. So I’d say more of the revenue was created by new programs as opposed to existing programs. So the revenue put a little pressure and a little bit less revenue. So that’s kind of how we see it going forward as well.

If we think about taking on NEXTracker, the core business is down but offset by a lot of new program wins that we had over the last 12 or 18 months. So as a result we’ll get growth going into these next quarters on the back of NEXTracker but we’ll be able to offset any of the macro implications with new program wins.

And additionally as these new program wins come on, we do expect margins to increase sequentially. We saw them go from 2.6 to 2.8 this quarter. We would expect them to increase again ex-NEXTracker next quarter. So we’re on a track towards increasing margins but revenue is harder due to the macro headwinds..

Andrew, just to get a little more granular, we actually had anticipated seeing a 3 handle on that business this quarter. We still remain hampered by some of these larger significant ramps as we’re moving to drive further yield improvements and reduce expedite fees and other ancillary costs. We improved our workforce planning.

We have evidence in this past quarter that we’re on the right path and that’s why we came out and want to make statements that we see that core business operating in its target margin range and we’re putting focused efforts to get there over the next several quarters..

Okay, great. Thank you. And then on NIKE, just a couple of questions there.

Is it shoes only or apparel as well? And maybe you could comment on when we could start to see some revenue contribution from this relationship? And then for those of us who aren’t as familiar with NIKE, do you have an idea of how many pairs of shoes they make every year?.

Listen, I’m going to stay away from the details of how many shoes we’re going to sell but we’re pretty excited about the relationship. And it’s a real evidence of our whole sketch-to-scale business model that we’re driving.

We want to be able to influence whole supply chains, worldwide supply chains that have a lot of different technologies in them and a lot of different innovations as it relates to how they go to market, how do they bring product to their customer. So it’s a really exciting relationship for us.

And is it only shoes, well, we started with NIKE probably two and a half maybe three years ago with the NIKE fuel band and we’ve been continuing to work with NIKE on manufacturing ever since that period. So we don’t know what’s going to come next and we started with fuel bands.

There’s obviously talk around shoes and some of the Flyknit technology that they’re coming out with.

But I think they’re a very advanced company in terms of thinking about their supply chain in terms of what kind of products they want to bring to market in terms of how many products you want to bring to market that are connected and which areas they want to go in.

And it’s just an exciting partner for us to be aligned with that kind of intelligent, innovative, strategic thinking kind of company. So we’re pretty excited. We work with them today in our Milpitas innovation center with some shoes. We’ll be doing some customization as well in the United States.

And where it goes from there is we think there’s just a lot of possibilities and they drive towards their goal of 50 billion..

Thanks a lot..

You’re welcome..

Your next question comes from the line of Mark Delaney with Goldman Sachs..

Good afternoon, and thanks so much for taking the questions. First question was on the EBIT margin guidance for next quarter. By my math the implied margin guidance is about 3.3% and I think maybe mix is some of that, but it seems like there’s some margin improvement even within the different segments.

And I know you already talked a little bit about industrial, are there any other segments that you’re expecting to see margin improvement that’s getting you to that 3.3% guide for next quarter?.

Hi, Mark. It’s Chris. Thanks for the question. Certainly, the guide at the midpoint puts you at around a 3.3%. We’re actually really pleased with the continued discipline the company’s been operating in. You see some improving operating execution. We’ll get some contributions from the acquisitions.

You see a richer mix forming and the improvements that we anticipated within IEI are also going to help step in there. You also see some improvements in margin in our CTG group as we move forward. That core business continues to drive a richer mix and continues to see seasonal strength.

So overall, even with a midpoint of revenue sequentially up 3%, we’re seeing operating profit midpoint up 10% hitting a 3.3, again, just meaningfully showing our progress that we’re making as a company. So for us it’s going to be about managing that portfolio.

That mix truly does have a benefit there but in terms of operating profit dollars, we’re going up to the midpoint of 215 million off of 196 million this past quarter..

That’s helpful. And related to that, HRS is running above your target margins.

Is there some sort of potential headwind in HRS that we should have in mind going forward that maybe brings margins back into that 5% to 7% range or is there a potential for the HRS margins to sustain themselves above 7%?.

We’re not going to get too far out in front here but we’re definitely pleased with the execution and performance from that broad team across medical, across automotive. We’re perfectly positioned in terms of strategic assets and capabilities. We’re ramping numerous new programs and numerous new products.

And amidst that, they continue to execute very well. Solid execution coupled that with the strong contribution from MCi puts you at that type of a margin profile and we’ll look to continuously update you each quarter as we migrate along with that business..

Okay. And just lastly from me on revenue growth specifically on IEI and HRS, excluding NEXTracker, both those segments are running at sub-10% year-over-year revenue growth in the December quarter and I know 10% I think have been the goal for the full year and now kind of running below those levels.

Can you just talk about on an organic basis what sorts of things need to happen to get back into that 10% plus range and when maybe you think you can achieve it?.

Yes, we have an objective on a year-on-year basis to grow this about 10% a year as we’ve had for the last couple of years. We had some pretty strong growth particularly in IEI last year, which was over 17% and HRS was pretty close to the double digits.

I think some years are going to be a little bit slower as a result of some macro, which might cause to be below 10% in some years and I think some years it’s going to be a little bit higher. So I think it’s going to depend a little bit in terms of the mix of business, the macro headwinds that we’re hitting or the macro tailwinds from that standpoint.

But we remain quite committed and believe that we’ve got an organic system and we also favor putting our resources and M&A dollars into these areas as well to make sure that we have a long-term sustainable growth model at about 10%. So we still think we’re going to – we’re in those long-term trajectory.

This year, we’re seeing a lot of headwinds come in particularly in IEI from the macro and I think it’s pushing us back a little bit. So I think it remains our long-term target. On a year-on-year basis, it maybe a little bit up, it maybe a little bit down but we continue to be pretty focused on being able to achieve those numbers.

And the thing I will remind you is that when we book these kind of businesses in IEI and HRS, they tend not to be perishable revenue. So they might go down a little bit just because of what’s going on in the economy but a lot of times they come back and they don’t disappear. They are all long product lifecycles.

So you get some shifting in some of the programs but they don’t go away much and they’re actually pretty stable. So we still feel that we’re going to end up bouncing around the mean over these multiyear periods of 10% growth..

Thank you..

You’re welcome..

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

Thanks very much and congrats. Shifting gears a little bit to the INS or integrated network solutions segment, can you help us a little bit with that? I mean, the profitability was strong as far as within your goal range and quarter-over-quarter an improvement, but year-over-year it was still down and the outlook still looks a little challenged.

Is this some customer transitions, ends of life there? Why is that segment seeing so much top line challenges in the INS segment?.

Well, Jim, if you look at carrier spending, if you look at overall network spending, I think on average you’re going to find that you have negative growth for this year projected. I think Gartner just recently came out with a report looking at this industry coming out with about a minus 7% forecast.

So I think just in general, it’s challenged and I think to have revenue growth in a challenged market is very, very difficult. We’re up over 10% this last quarter but not with any help from the macro. In fact, the macro was more of a headwind but all on the back of new programs.

And if you look going forward, we got another sequential quarter of mid to high digit growth. So in light of the fact that you’ve probably got a macro that’s going down about 5% to 7% and the fact that we’re growing the last couple of quarters pretty significantly all on the back of new programs is a challenge.

And as long as the macro doesn’t yield positive trajectory in that business, it’s going to be difficult to have anything more significant than that..

Jim, I’d just highlight as well that INS for us, it’s an important piece of the portfolio. It provides great capital efficiency. And if you think back to this past quarter, we beat our expectations for that segment growing at 12% and then the guide for next quarters mid high single digits up.

And so if you just pick a midpoint of wherever that could be, that’s going to be put it roughly flat year-over-year in the December quarter.

And even more important is if you look at that profitability element that you had highlighted, it moved up into this target margin range but even greater was that it has grown sequentially operating dollars greater than 10% and then year-over-year greater than 10%.

So it’s operating very well amidst a very challenging backdrop and you think back to how we’re positioned across that space, I think we have a really nice footprint that will accrue to us meaningful wins across the different areas that we serve and we’re operating it pretty well..

Great, thank you. And then just a quick follow up.

Am I correct, like for the NIKE relationship, it’s more like currently going to be custom shoes like the McNamara special limited edition shoes or is it like broad-line shoes across everything just so we can kind of bracket our revenue expectations for this? I know long term, it can change but just kind of getting a feel, because I know they do custom stuff as well as more broad-line apparel, wearables..

Yes, I think it’s a little bit too early to tell and I think maybe both those. You should think about them as possibilities.

So on a volume basis, there may be a need for more and more automation in region that can get to customers quickly so that you can hit those product cycles or those consumer cycles at the right time with the right shoe with the right color even if it’s volume.

And I think innovating around go-to-market, new go-to-market strategies with the consumer is a result of the relationship with Flex and NIKE are also possibilities.

So I think you ought to think that both are within scope and that we’re going to need a lot more time to work through the whole strategy with NIKE before we know exactly where we’re going to participate in. Over time, we may be participating in those two places and in others. So we’ll just have to see how it happens over time..

Great. Congratulations, guys..

Thank you..

Your next question comes from the line of Sean Hannan with Needham & Company. Your line is open..

Yes, thanks for taking my question here folks. So just want to see if I can get back to IEI for a moment. So there were some ramp challenges in the quarter. There was some macro weakness.

Can you provide a little bit more color in terms of how much were the ramp challenges and the extent to which those are continuing to be a headwind versus the macro? So that’s kind of part A. And then part B, just want to see if we can get some perspective.

I think that IEI as a general segment, you folks should have a better line of sight into the business than, say, arguably something like INS or consumer and thus perhaps the ability to manage margin performance there.

So that being said, can you share some thoughts on this, the challenges that you had in the quarter and that are continuing, whether these results could cause any new considerations to managing the IEI portfolio? Thanks..

Hi, Sean. There’s a lot there, so let me try to address that in each of those parts and you can come back in and clarify if I didn’t address it. Part A, regarding the component piece is of the underperformance of IEI. In the prepared remarks, we tried to isolate it to demonstrate there’s two pieces.

One, more significantly is then the hampering underperformance around the operational execution around a couple of our large ramps that we were under and that’s been evidenced for a couple of quarters now. We had gone out last quarter and it indicated that we would be able to get that under control and pushed up into the 3% range.

We had some modest improvement on the core business. It went from 2.6 to 2.8 if we didn’t have the 3 handle on and above that we were anticipating. So if you think about it, it probably cost us anywhere from $6 million to $8 million in underperformance operationally driven during the period.

What we also wanted to note was that we were anticipating some strength in terms of some revenue accretion that didn’t produce itself. It goes back to your part B of light of sight. And while there is line of sight, we do have longer product lifecycles.

These are still susceptible to demand shifts while we’re ramping, while it differs ramps and so forth.

So there’s been a lot of moving parts here and the last forecast cycle we went through, we saw incrementally greater erosion than what we had seen to-date and we’ve been managing that because we understood we have other ramps that would complement where we were going.

So we just wanted to indicate that the macro is definitely weighing heavier there and that our operational execution is going to be improving to drive us higher in that space.

It goes back to working aggressively on action plans that I highlighted earlier some granular elements around improving workforce planning, different yield improvements, lowering expedite fees and alike, all of which have put pressure on us here. So it feels like a two-sided coin for us.

It’s a negative as we sit today and we’re not pleased with having the performance where it’s at. We’re very focused and we see that as being a meaningful lever to contribute to margin and operating profit expansion as we move forward. Hopefully that helps..

Okay. So it doesn’t sound like there necessarily are specific concerns or scenarios to, hey, look, we have some incremental challenges here that cause us to look at a new perspective of how we’re approaching the IEI scenario. It doesn’t sound like that’s the big picture case at least at this time..

Actually I think it’s just the reverse. What we’ve seen is we’ve seen margin expansion this last quarter. We expect margin expansion ex-NEXTracker this next quarter. We’ve doubled down into a place where we believe has a very positive macro trend of double digit growth for the next 10 years.

Part of the reason we’re having some challenges in our margin targets because of the amount of ramps. When the amount of ramps are hitting simultaneously with a reduction in the core business, it makes it more challenging from a margin standpoint.

But even given all that, we end up with and we’re talking what’s up to like 100 different ramps because to grow this IEI business, you grow it little by little. It doesn’t happen in real big lumps. But in spite of all that, we’ve got margin improvement, we’ve got operating profit increase.

We would expect to see the same operating profit and margin increase next quarter. We would expect the NEXTracker acquisition to layer onto it a strong position, number one market position potentially in a growing market. So we actually feel the reverse. It’s got some macro headwinds right now.

They won’t last forever and even if they do, we’ll get up to speed in our ramps and we’ll turn it into growth. So the overall – we don’t feel uncomfortable with the margin range that we have stated there, which we expect to get into the 4% range. We have line of sight to that. So it’s just the opposite.

We continue to see IEI as a good business model, one that we’re performing very well and we’ve got a lot of opportunities with a lot of new customers. We’re in the right markets. We’re actually – and like Chris said, from an investor standpoint, it gives us a place for margin expansion going forward..

Sure. There was a devil’s advocate question to that, so thanks very much. Great perspective..

Thank you..

Welcome..

Your next question comes from the line of Matt Sheerin with Stifel, Nicolaus. Your line is open..

Thanks. Just a couple of follow ups from earlier questions. First on the Lenovo-Motorola relationship, I understand why you’re bringing down production and cutting costs there in China. It seems like that’s mostly commensurate with the lower demand trends that you’re seeing.

But is it more than that? Are you basically trying to phase that down and have you had conversations with Lenovo about either moving that business out to their own operations or just bringing that down, because it’s really not meeting your returns and margin goals at this point?.

Yes, it’s just going to evolve, Matt. It’s one of those things where we work with the customer all the time. There are certain product cycles that we have to respect, that they have to respect. You can’t just pull business out and move it somewhere else when it’s in the midst of a product cycle. There’s a lot of competence in that operation.

So at this point in time, we’re just taking the size of the down. The overall cumulative capacity in China is probably too much. If I think about Lenovo operations and Flex operations, this is what we’ve talked about now for many, many – not many, many but two years. And I just think it’s playing its way out.

And we continue to make money as it continues to downside and we’re absolving any kind of cost associated with it, which includes moving equipment to other factories. We’re doing all that simultaneously as this thing ramps down. So believe it or not, it’s not a death by a thousand cuts. We’re managing the business extremely well.

As it moves down, we’ve got a great partnership with Lenovo and while we’re doing that simultaneously, we’re ramping onto places like India. So we’re actually pleased with the relationship. It continues to move and evolve as it should as there’s new considerations with Lenovo being the owner.

And over time we expect to be a very strong business partner for them and them a customer for us..

Okay, great. And on INS, regarding your commentary just on sort of lackluster demand across the board there. I know we’ve been hearing from you folks and other suppliers for two or three quarters about telecom infrastructure spending, specifically the LTE build out in China coming back after a pause.

It doesn’t look like we’ve really seen signs of that. What are you seeing? Obviously, you have a lot of exposure there.

What are you seeing in the China telecom market and then other geographies there as well?.

Yes, so we see the ramp in telecom to be below expectations of where we would have been six months ago. So I think it’s a more negative growth demand environment if I look at the total market. So we’d say it’s below expectations. So we’re actually expecting recovery in this back half and we don’t think we’ll see it..

And any signs that it might turn in the March quarter?.

Sorry, say again..

Just any signs that you might see that turn in the March quarter get pushed out a quarter?.

No, we don’t think so and we’re just going to assume that that demands were made muted for the time being and we’re just pretty happy and pretty pleased that we’ve had enough bookings in the pipeline, because it takes a long time to get these things going but we’re pleased that we’ve had enough bookings in the pipeline to show positive growth for both Q2 and Q3.

So we’ll continue to work that and luckily we have a strong book of business. So we’ll rely on that to offset some of the tough macro..

Okay. Thanks a lot..

Operator, it looks like we have time for one more final question..

Your final question comes from the line of Osten Bernardez with Cross Research. Your line is open..

Hi. Good afternoon. Thanks for taking my questions. I guess one question could touch back on the IEI business. Can you sort of point to any specific types of end markets? I understand it sounds like it was broad based, but can you point to any specific examples of what were mostly impacted by the macro pressures..

That’s a really tough question. These guys have about 400 customers and they’re in about everything. A lot of the other business units were able to have very specific cause and effects, so like in the carrier demand come back in the U.S.

We can be very causal about what’s creating the downturn or maybe gaming didn’t sell through this year or maybe the cycle was wrong. So we have a lot of business where you can directly affect a cause. When you have 400 customers, you have – I sensed almost a 100 ramps going on right now, we can’t pick it on any one thing.

But if we think about what represents the broad macro better than anything else, we think it’s our IEI business. And we can say if we just look across like everything, it’s just a general softness all the way through..

Okay.

And just the last question from me is just with respect to the NIKE program on a broader basis, what’s your aim in attracting similar customers or customers that are not outside of the electronics or technology realm going forward?.

Yes, so one thing that the amount of electrification in the world, the amount of smart products in the world that are going into what’s not typically electronic products that are now moving forward, whether it’s anything from a shoe to a shirt to a door lock is tremendous. So you’re getting a tremendous amount of this electrification of the business.

And as we look forward, the value to us is if we can create more value for these customers whether it’s automation or engineering or making a non-connected product connected or providing electrification where they’re more traditionally a mechanical type company, all these create situations where we’re adding more value to the company and if we add more value to the company, we will end up with a richer margin profile, a richer customer engagement.

We got a great lens across – we have 12 different areas, 12 different industries where we have $1 billion of business or more and we see a tremendous amount of convergence of technologies across – very similar technologies across all those 12 different industries, whether it’s the car going into the consumer or like the door lock like I said.

So, it puts us in a fabulous position where we have almost 3,000 design engineers that can actually help engineer solutions and leverage the geographic footprint and leverage all the technologies we have everything from mechanical all the way to automation technologies.

So between all that, it just puts us in a great position to be a real value-added supplier. And what we like about that is we like creating value for our customers but we also like having a richer experience so we can create more margins for our investors..

Thank you..

Welcome..

Great. We wanted to thank everybody for joining us. We know there are multiple other companies also reporting today, so we appreciate your time and interest. This concludes the conference call..

This concludes today’s conference call. You may now disconnect..