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MULTI FINELINE ELECTRONIX INC - 10-Q - Management's Discussion and Analysis of Financial Condition and Results of Operations(Edgar Glimpses Via Acquire Media NewsEdge) This Quarterly Report on Form 10-Q ("Quarterly Report") contains forward-looking statements that involve a number of risks and uncertainties. These forward-looking statements include, but are not limited to, statements and predictions as to our expectations regarding our revenues, sales, sales growth, net income, inventory levels, production build plans, operating expenses, research and development expenses, earnings, operations, gross margins, including without limitation, our targeted gross margin range, achievement of margins within or outside of such range and factors that could affect gross margins, yields, anticipated cash needs and uses of cash, capital requirements and capital expenditures, payment terms, expected tax rates, results of audits of us in China and the U.S., needs for additional financing, use of working capital, the benefits and risks of our China operations, anticipated growth strategies, ability to attract customers and diversify our customer base, our sources of net sales, anticipated trends and challenges in our business and the markets in which we operate, trends regarding the use of flex in smartphones, tablets and other consumer electronic devices, the adequacy and expansion of our facilities, capability, capacity and equipment, the impact of economic and industry conditions on our customers and our business, current and upcoming programs and product mix and the learning curves associated with our programs, market opportunities and the utilizations of flex and flex assemblies, customer demand, our competitive position, labor issues in the jurisdictions in which we operate, the commercial success of our customers and their products, critical accounting policies and the impact of recent accounting pronouncements. Additional forward-looking statements include, but are not limited to, statements pertaining to other financial items, plans, strategies or objectives of management for future operations, our financial condition or prospects, and any other statement that is not historical fact, including any statement which is preceded by the word "may," "might," "will," "intend," "should," "could," "can," "would," "expect," "believe," "anticipate," "estimate," "predict," "aim," "potential," "plan," or similar words. For all of the foregoing forward-looking statements, we claim the protection of the Private Securities Litigation Reform Act of 1995. Actual events or results may differ materially from our expectations. Important factors that could cause actual results to differ materially from those stated or implied by our forward-looking statements include, but are not limited to, the impact of changes in demand for our products, our success with new and current customers, our ability to maintain or grow our market share, our ability to diversify our customer base, the success of our customers and their products in the marketplace, our effectiveness in managing manufacturing processes, inventory levels and costs and expansion of our operations, the degree to which we are able to utilize available manufacturing capacity, achieve expected yields and obtain expected gross margins, the impact of competition, the economy and technological advances, and the other risks set forth below under "Part II, Item 1A. - Risk Factors." These forward-looking statements represent our judgment as of the date hereof. We disclaim any intent or obligation to update these forward-looking statements. Overview We are a global provider of high-quality, technologically advanced flexible printed circuits and value-added component assembly solutions to the electronics industry. We believe that we are one of a limited number of manufacturers that provide a seamless, integrated flexible printed circuit and assembly solution from design and application engineering and prototyping through high-volume fabrication, component assembly and testing. We target our solutions within the electronics market and, in particular, our solutions enable our customers to achieve a desired size, shape, weight or functionality of the device. Current examples of applications for our products include mobile phones, smartphones, tablets, consumer products, portable bar code scanners, computer/data storage and medical devices. We provide our solutions to original equipment manufacturers ("OEMs") such as Apple Inc. and to electronic manufacturing services ("EMS") providers such as Foxconn Electronics, Inc., Jabil Circuit, Inc., and Flextronics International Ltd. Our business model, and the way we approach the markets which we serve, is based on value added engineering and providing technology solutions to our customers facilitating the miniaturization of portable electronics. We currently rely on a core mobility end-market for nearly all of our revenue. We believe this dynamic market offers fewer, but larger, opportunities than other electronic markets do, and changes in market leadership can occur with little to no warning. Through early supplier involvement with customers, we look to assist in the development of new designs and processes for the manufacturing of their products and, through value added component assembly of components on flex, seek to provide a higher level of product within their supply chain structure. This approach is relatively unique and may or may not always fit with the operating practices of all OEMs. Our ability to add to our customer base may have a direct impact on the relative percentage of each customer's revenue to total revenues during any reporting period. 15 -------------------------------------------------------------------------------- Table of Contents We typically have numerous programs in production at any particular time, the life cycle for which is typically around one year. The programs' prices are subject to intense negotiation and are determined on a program by program basis, dependent on a wide variety of factors, including without limitation, expected volumes, assumed yields, material costs, and the amount of third party components within the program. Our profitability is dependent upon how we perform against our targets and the assumptions on which we base our prices for each particular program. Our volumes, margins and yields also vary from program to program and, given various factors and assumptions on which we base our prices, are not necessarily indicative of our profitability. In fact, some lower-priced programs have higher margins while other higher-priced programs have lower margins. Given that the programs in production vary from period to period and the pricing and margins between programs vary widely, volumes are not necessarily indicative of our performance. For example, we could experience an increase in volumes for a particular program during a particular period, but depending on that program's margins and yields and the other programs in production during that period, those higher volumes may or may not result in an increase in overall profitability. Critical Accounting Policies Information with respect to our critical accounting policies which we believe have the most significant effect on our reported results and require subjective or complex judgments of management are contained on pages 32 to 35 in "Management's Discussion and Analysis of Financial Condition and Results of Operations" of our Annual Report on Form 10-K for the year ended September 30, 2012. Comparison of the Three Months Ended March 31, 2013 and 2012 The following table sets forth our Statement of Operations data expressed as a percentage of net sales for the periods indicated: Three Months Ended March 31, 2013 2012 Net sales 100.0 % 100.0 % Cost of sales 108.9 87.5 Gross (loss) profit (8.9 ) 12.5 Operating expenses: Research and development 1.0 1.1 Sales and marketing 2.7 3.1 General and administrative 2.5 2.6 Impairment and restructuring - (0.6 ) Total operating expenses 6.2 6.2 Operating (loss) income (15.1 ) 6.3 Other income (expense), net: Interest income 0.0 0.2 Interest expense (0.1 ) 0.0 Other income (expense), net 0.1 0.5 (Loss) income before income taxes (15.1 ) 7.0 Benefit from (provision for) income taxes 1.3 (1.2 ) Net (loss) income (13.8 )% 5.8 % Net Sales. Net sales decreased to $173.7 million for the three months ended March 31, 2013, from $208.0 million for the three months ended March 31, 2012. The decrease of $34.3 million, or 16.5%, was primarily due to decreased sales into our smartphones and tablets sectors, partially offset by increased sales into our consumer electronics sector, as further quantified below. Net sales into our smartphones sector decreased to $113.2 million for the three months ended March 31, 2013, from $147.0 million for the three months ended March 31, 2012. The decrease of $33.8 million, or 23.0%, was primarily due to decreased sales volumes as a result of product mix to one major customer in this sector by 16.4%. For the three months ended March 31, 2013 and 2012, our smartphones sector accounted for approximately 65% and 71% of total net sales, respectively. 16 -------------------------------------------------------------------------------- Table of Contents Net sales into our tablets sector decreased to $49.0 million for the three months ended March 31, 2013, from $54.3 million for the three months ended March 31, 2012. The decrease of $5.3 million in sales into the tablets sector was due primarily to decreased sales volumes to one major customer in this sector of $14.1 million, or 26.0%, partially offset by additional sales of $8.8 million to a new customer in this sector. For the three months ended March 31, 2013, and 2012, the tablets sector accounted for approximately 28% and 26% of total net sales, respectively. Net sales into our consumer electronics sector (which excludes net sales into our tablets sector) increased to $8.3 million for the three months ended March 31, 2013, from $0.5 million for the three months ended March 31, 2012. The increase of $7.8 million in sales into the consumer electronics sector was due to new program ramps for one of our key customers in this sector. Shipments into the consumer electronics sector accounted for approximately 5% and 0% of total net sales for the three months ended March 31, 2013 and 2012, respectively. Cost of Sales and Gross Profit. Cost of sales as a percentage of net sales increased to 108.9% for the three months ended March 31, 2013 versus 87.5% for the three months ended March 31, 2012. The increase in cost of sales as a percentage of net sales of from 87.5% to 108.9% was primarily attributable to lower overhead absorption due to reduced production levels. Production levels were reduced due to the lower demand as well as to decrease inventory. In addition, cost of sales for the three months ended March 31, 2013 includes a $10.9 million write-down of inventory as a result of unusable components, including $1.7 million that was written-down as a result of uncertainty in near-term demand forecasts. Gross profit decreased to gross loss of $15.5 million for the three months ended March 31, 2013, versus gross profit of $26.1 million for the three months ended March 31, 2012, or 159.4%. As a percentage of net sales, gross profit decreased to (8.9%) for the three months ended March 31, 2013 from 12.5% for the three months ended March 31, 2012. Research and Development. Research and development expense decreased by $0.4 million to $1.8 million for the three months ended March 31, 2013, from $2.2 million for the three months ended March 31, 2012. The decrease is primarily related to a reduction in facility costs as part of our continued effort to move research and development costs to China, where overall costs are lower. As a percentage of net sales, research and development expense decreased to 1.0% versus 1.1% in the comparable period of the prior year. Sales and Marketing. Sales and marketing expense decreased by $1.8 million to $4.7 million for the three months ended March 31, 2013, from $6.5 million in the comparable period of the prior year, a decrease of 27.7%. The decrease is primarily the result of lower negotiated commission rates, coupled with lower sales volumes in the comparable periods. As a percentage of net sales, sales and marketing expense decreased to 2.7% versus 3.1% in the comparable period of the prior year. General and Administrative. General and administrative expense decreased by $1.2 million to $4.3 million for the three months ended March 31, 2013 from $5.5 million in the comparable period of the prior year, which is a decrease of 21.8%. This decrease is primarily the result of reduced discretionary spending in order to reduce total operating expenses in periods of lower utilization. As a percentage of net sales, general and administrative expense decreased to 2.5% versus 2.6% in the comparable period of the prior year. Impairment and Restructuring. No impairment and restructuring charges or recoveries were recorded during the three months ended March 31, 2013. For the three months ended March 31, 2012, impairment and restructuring consisted of recoveries of $1.2 million which was the result of a gain on sale of our former corporate headquarters building and certain of our previously impaired machinery and equipment in California. Goodwill. We evaluate the carrying value of goodwill during the fourth quarter of each fiscal year and between annual evaluations if events occur or circumstances change that would more likely than not reduce the fair value of the reporting unit below its carrying amount. In the early portion of our second fiscal quarter of 2013, our market capitalization began to decline significantly, driven by a reduction in the trading price of our common stock, which we believe is principally a result of weaker than expected guidance for our second fiscal quarter of 2013. However, while our operating results in the second fiscal quarter of 2013 were weaker than expected, the majority of our net sales for fiscal 2013 are expected in the second half of the year. Management does not believe there were any impairment triggering events during the quarter ended March 31, 2013. If the market outlook and our operating performance does not recover to expected levels in future quarters, a triggering of a goodwill impairment assessment and a potential goodwill impairment charge may be warranted. At March 31, 2013, the carrying value of our goodwill was approximately $7.5 million. If forecasts and assumptions used to support the realizability of our long-lived assets change in the future, significant impairment charges could result that would adversely affect our results of operations and financial condition. Other Income (Expense), Net. Other income, net decreased to $0.2 million for the three months ended March 31, 2013, from other income, net of $1.3 million for the three months ended March 31, 2012. This decrease was primarily the result of foreign exchange due to the movement of the U.S. dollar versus the RMB and other foreign currencies. 17 -------------------------------------------------------------------------------- Table of Contents Income Taxes. The effective tax rate for three months ended March 31, 2013 and 2012 was a benefit of 8.9% and a provision of 17.3%, respectively. The variance in our effective tax rate is primarily the net result of our income and tax expense distribution by region. We expect future tax rates to vary if current tax regulations change. 18 -------------------------------------------------------------------------------- Table of Contents Comparison of the Six Months Ended March 31, 2013 and 2012 The following table sets forth our Statement of Operations data expressed as a percentage of net sales for the periods indicated: Six Months Ended March 31, 2013 2012 Net sales 100.0 % 100.0 % Cost of sales 98.0 87.6 Gross profit 2.0 12.4 Operating expenses: Research and development 0.8 1.0 Sales and marketing 2.4 2.9 General and administrative 2.2 2.5 Impairment and restructuring - (0.4 ) Total operating expenses 5.4 6.0 Operating (loss) income (3.4 ) 6.4 Other income (expense), net: Interest income 0.0 0.1 Interest expense (0.1 ) (0.1 ) Other income (expense), net 0.1 0.5 (Loss) income before income taxes (3.4 ) 6.9 Benefit from (provision for) income taxes 0.1 (1.2 ) Net (loss) income (3.3 )% 5.7 % Net Sales. Net sales increased to $463.3 million for the six months ended March 31, 2013, from $447.3 million for the six months ended March 31, 2012. The increase of $16.0 million, or 3.6%, was primarily due to increased sales into our tablets and consumer electronics sectors, partially offset by decreased sales into our smartphone sector, as further quantified below. Net sales into our smartphones sector decreased to $310.0 million for the six months ended March 31, 2013, from $341.3 million for the six months ended March 31, 2012. The decrease of $31.3 million, or 9.2%, was primarily due to decreased sales volumes to one major customer in this sector of 55.6%, partially offset by increased sales volumes to another major customer in this sector of 12.6%. For the six months ended March 31, 2013 and 2012, our smartphones sector accounted for approximately 67% and 71% of total net sales, respectively. Net sales into our tablets sector increased to $119.7 million for the six months ended March 31, 2013, from $94.9 million for the six months ended March 31, 2012. The increase of $24.8 million in sales into the tablets sector was due primarily to higher sales volumes to two major customers in this sector, one of which is a new customer in fiscal 2013. For the six months ended March 31, 2013, and 2012, the tablets sector accounted for approximately 26% of total net sales. Net sales into our consumer electronics sector (which excludes net sales into our tablets sector) increased to $29.4 million for the six months ended March 31, 2013, from $0.6 million for the six months ended March 31, 2012. The increase in sales into the consumer electronics sector was due to new program ramps for one of our key customers in this sector. Shipments into the consumer electronics sector accounted for approximately 6% and 0% of total net sales for the six months ended March 31, 2013 and 2012, respectively. Cost of Sales and Gross Profit. Cost of sales as a percentage of net sales increased to 98.0% for the six months ended March 31, 2013 versus 87.6% for the six months ended March 31, 2012. The increase in cost of sales as a percentage of net sales from 87.6% to 98.0% was primarily attributable to lower overhead absorption due to reduced production levels. Production levels were reduced due to the lower demand as well as to decrease inventory. In addition, cost of sales for the six months ended March 31, 2013 includes a $10.9 million write-down of inventory as a result of unusable components, including $1.7 million that was written-down as a result of uncertainty in near-term demand forecasts. Gross profit decreased to $9.2 million for the six months ended March 31, 2013, versus $55.2 million for the six months ended March 31, 2012, or 83.3%. As a percentage of net sales, gross profit decreased to 2.0% for the six months ended March 31, 2013 from 12.4% for the six months ended March 31, 2012. 19 -------------------------------------------------------------------------------- Table of Contents Research and Development. Research and development expense decreased by $0.5 million to $3.8 million for the six months ended March 31, 2013, from $4.3 million for the six months ended March 31, 2012. The decrease is primarily related to a reduction in facility costs as part of our continued effort to move research and development costs to China, where overall costs are lower. As a percentage of net sales, research and development expense decreased to 0.8% versus 1.0% in the comparable period of the prior year. Sales and Marketing. Sales and marketing expense decreased by $1.7 million to $11.2 million for the six months ended March 31, 2013, from $12.9 million in the comparable period of the prior year, a decrease of 13.2%. The decrease is primarily the result of lower negotiated commission rates, coupled with lower sales volumes in the comparable periods. As a percentage of net sales, sales and marketing expense decreased to 2.4% versus 2.9% in the comparable period of the prior year. General and Administrative. General and administrative expense decreased by $1.1 million to $10.0 million for the six months ended March 31, 2013 from $11.1 million in the comparable period of the prior year, which is a decrease of 9.9%. This decrease is primarily the result of reduced discretionary spending in order to reduce total operating expenses in periods of lower utilization. As a percentage of net sales, general and administrative expense decreased to 2.2% versus 2.5% in the comparable period of the prior year. Impairment and Restructuring. No impairment and restructuring charges or recoveries were recorded during the six months ended March 31, 2013. Impairment and restructuring consisted of recoveries of $1.7 million for the six months ended March 31, 2012, which was the result of a gain on sale of our former corporate headquarters building and certain of our previously impaired machinery and equipment in California. Other Income (Expense), Net. Other income, net decreased to $0.2 million for the six months ended March 31, 2013, from other income, net of $1.8 million for the six months ended March 31, 2012. This decrease was primarily due to foreign exchange due to the movement of the U.S. dollar versus the RMB and other foreign currencies. Income Taxes. The effective tax rate for six months ended March 31, 2013 and 2012 was a benefit of 1.7% and a provision of 17.0%, respectively. The variance in our effective tax rate is the net result of having taxable income in some foreign jurisdictions and losses in others. We expect future tax rates to vary if current tax regulations change. Guidance Net Sales. For our third quarter of fiscal 2013, we expect net sales to range between $155 and $185 million. Cost of Sales and Gross Profit. For our third quarter of fiscal 2013, we expect gross margin to be approximately breakeven based on production build plans, projected sales volumes and anticipated product mix. Operating Expenses. We expect operating expenses to be between approximately $10 million and $11 million during the third fiscal quarter of 2013. Income Taxes. We expect the effective tax rate, on average, to be approximately 2% for fiscal 2013. We expect to return to a more normalized tax rate of approximately 20% in fiscal 2014. Capital Expenditures. For fiscal 2013, we are anticipating approximately $40 to $45 million in capital expenditures. These projections are based on several business assumptions and are therefore subject to uncertainty. See Item 1A of Part II, "Risk Factors." Liquidity and Capital Resources Our principal sources of liquidity have been cash provided by operations and our ability to borrow under our various credit facilities. Our principal uses of cash have been to finance working capital, facility expansions, stock repurchases and other capital expenditures. We anticipate these uses will continue to be our principal uses of cash in the future. Global financial and credit markets have been volatile in recent years, and future adverse conditions of these markets could negatively affect our ability to secure funds or raise capital at a reasonable cost, if needed. It is our policy to carefully monitor the state of our business, cash requirements and capital structure. We believe that funds generated from our operations and available from our borrowing facilities will be sufficient to fund current business operations as well as anticipated growth over at least the next twelve months, without the need to repatriate earnings. 20 -------------------------------------------------------------------------------- Table of Contents Changes in the principal components of operating cash flows during the six months ended March 31, 2013 were as follows: • Our net accounts receivable balance decreased to $101.6 million as of March 31, 2013 from $165.4 million as of September 30, 2012, or 38.6%. Days sales outstanding on a quarterly basis decreased 21 days from September 30, 2012 to 53 days at March 31, 2013, primarily as the result of decreased sales coupled with improved collections. Our net inventory balance decreased to $55.1 million as of March 31, 2013 from $124.8 million as of September 30, 2012, a decrease of 55.8%. Days in inventory on a quarterly basis decreased 33 days from September 30, 2012 to 26 days at March 31, 2013 as a result of our planned scaled-back production to reduce inventory-on-hand at March 31, 2013. Our accounts payable balance decreased to $119.1 million as of March 31, 2013 from $199.7 million as of September 30, 2012, a decrease of 40.4% due to the lower production volume in our second fiscal quarter of 2013 as previously mentioned. Days payable on a quarterly basis decreased 38 days to 57 days, primarily as a result of the timing of inventory purchases and more favorable vendor payment terms. • Depreciation and amortization expense was $29.2 million for the six month ended March 31, 2013, versus $26.7 million for the comparable period of the prior year, primarily due to new machinery and equipment placed into service for production on new programs. Our principal investing and financing activities during the six months ended March 31, 2013 were as follows: • Net cash used in investing activities was $26.7 million for the six months ended March 31, 2013 and consisted of cash purchases of capital equipment and other assets, which were primarily related to our manufacturing capacity expansion in China. • Net cash used in financing activities was approximately $1.6 million for the six months ended March 31, 2013 and consisted of repurchases of common stock of $1.4 million and tax withholdings for net share settlements of equity awards to employees of $0.8 million, partially offset by $0.6 million of proceeds from exercise of stock options. Our loans payable and borrowings outstanding against credit facilities were zero at March 31, 2013 and September 30, 2012. |