Celestica Inc (CLS) 2003 Q2 法說會逐字稿

Good morning ladies and gentlemen.

Thank you for standing by.

Welcome to the Celestica second quarter financial results conference call.

At this time, all participants are in a listen-only mode.

Following the presentation, we will conduct a question and answer session.

Instructions will be provided at that time for you to queue up for questions.

If any one has any difficulties hearing the conference, please press the star key followed by zero for operator assistance at any time.

I would like to remind everyone that this conference call is being recorded and then I will turn the conference over to Mr. Eugene Polistuk, Chairman and Chief Executive Officer of Celestica.

Please go ahead sir.

Good morning and thank you for joining us on Celestica second quarter 2003 conference call.

Anthony Puppi, our CFO will briefly summarize our second quarter results, and then I will provide a few comments before we go to the questions.

Also joining Anthony and I today is Marv MaGee, our President and COO.

Tony?

Thanks Eugene.

Before we begin, let me express to you that any statements that are made today which may be forward-looking and non-historical fact may involve risks and uncertainties which could cause actual results to differ materially from those expressed in the forward-looking statements.

We will refer to certain non-GAAP financial measures during our presentation.

The corresponding GAAP information and a reconciliation for the non-GAAP measures is included in our press release, which is available at our website www.celestica.com.

For the second quarter, revenue was $1.6b, down 29% from $2.25b in the second quarter of 2002 and up sequentially 1% from the first quarter.

The momentum behind some of our new program wins was muted by lower than expected volumes in base infrastructure products primarily in Europe, where we had previously expected to see seasonal strength versus the first quarter.

Sales in the Americas represented 47% of total revenues, Europe at 21%, and Asia at 32%.

Revenue by end market included enterprise communications at 26%, telecom was 22%, server was flat at 22%, storage at 11%, other 10% in workstations and PCs came in at 9%.

During the quarter, IBM, Lucent, Sun and CISCO were each over 10% of revenue.

Our top five customers represented 54% of revenue, and our top 10 represented 77%, which was down slightly from last quarter.

Net loss on a GAAP basis for the second quarter was 39.6m or $0.18 per share compared to net earnings of 40.4m or $0.15 per share for the same period last year.

Included in the quarterly loss was a pre-tax restructuring charge of 21.6m.

Adjusted net earnings or loss, defined as net earnings or loss before amortization of intangible assets, gains or losses on the repurchase of shares and debt, integration cost related to acquisitions and other charges net of tax was a loss of 12.1m or a loss of $0.07 per share compared to adjusted net earnings of 69.4m or $0.28 per share for the same period last year.

This is the first quarterly adjusted earnings loss in our history as a public company.

These results compare with our guidance for the second quarter for revenue of 1.55b to 1.75b, and adjusted net earnings or loss per share of minus $0.10 per share to positive $0.02 per share.

In terms of our profitability, our operating margins were minus 1%, down 0.7% from the prior quarter or down from 0.7% in the prior quarter.

Gross margins were 3.1% compared to 4.8% in the first quarter.

As we noted in our first quarter call, the second quarter will be impacted by the various business transitions we have underway.

These include significant transfer activity associated with the shifting of numerous programs to low cost geographies, start up cost for new programs, product mix and overall pricing pressure.

SG&A remained flat from the first quarter at just under 60m and down 20% from a year ago.

Let me talk about of our operating performance by geography, starting with our European operation.

In Europe our operating profit came in at a loss of $34m, although revenues were roughly flat quarter-to-quarter, they did fall short of our expectations.

This shortfall in high-end system shipments limited our ability to offset the expected quarter-to-quarter effects of program transfers and pricing challenges.

I would like to point out that our restructuring in Europe was and is essentially on track, and we continue to target to break-even in the second half of 2003.

Our performance in the Americas and Asia came in as expected with margins adversely affected by business mix, program transfers and ramp costs.

Overall, we believe that our operating margins have bottomed to the company this quarter.

We believe margins will begin moving up in the third quarter and beyond as Europe approaches break-even as the restructuring benefits accelerate and from the operating leverage we expect from additional reprogram revenues.

Let me now summarize our restructuring.

In the quarter we incurred $22m in restructuring charges, while $16m of this relates to estimate updates on charges taken in 2002.

We continue to expect cumulative charges, those taken to date and still to come in 2003 to be consistent with our prior guidance albeit at the high-end.

While we have announced all plan, plant site shutdowns at the end of the second quarter, our work force still needs to be reduced by about 3000 in the second half of this year, driving an acceleration in the benefits of restructuring in the third and fourth quarter.

We need to keep at the forefront that our business is going through a significant transition.

There's restructuring, program transfers, new customers and programs ramps, and changes in product mix, all while operating in an extremely difficult pricing environment.

Although, we are disappointed in our operating performance through this period, we are confident we have reduced the number of variables and the volatility of those that remain.

Moving to the balance sheet, we continue to expect positive trends in our working capital management, while preserving our very conservative and highly liquid capital structure.

Debt-to-cap was a healthy 18% and cash was $1.45b.

During the quarter, we used $120m to buy back stock, and essentially completed our first 10% share repurchase plan.

We also spent $61m to buy back additional convertible debt in the quarter.

As you saw on our press release today, we have announced a second 10% share buy-back program.

We view these buybacks as a very effective way to deploy our strong cash position for sustainable earnings per share benefits (Audio Gap) in the future.

Since the company began its share and the debt repurchase activities in the third quarter of 2002, Celestica spent $607m to buy back stock, our entire debt.

Cash cycle defined as inventory days plus receivable days, less days of trade pick (ph) .

Inventory turns also remained unchanged at 7.6 turns.

Our cash flow from operations was a negative $100m in the quarter, due to lower operating earnings, restructuring payoffs and the timing of working capital flows in the quarter.

Let me now move to our forward guidance.

While we continue to operate in an environment of constrained hardware spending in tech demand with the limited visibility from our customers, we are encouraged by our expected new program contributions and feel that stability has increased.

We are expecting revenues to land in the range of $1.55b to $1.7b for the third quarter, a tighter range than our second quarter guidance.

On the back of accelerating restructuring benefits, particular in Europe, we see an adjusted EPS range of between positive $0.02 per share and a loss of $0.05 per share.

Again a tighter range, while we continued to operate around our break-even point.

Let me now turn it back to Eugene.

Thanks Tony.

As we have highlighted, we believe that we have now hit the bottom in both revenue and margins and expect that the trend for both these numbers will improve as we move forward.

Our priorities are clear.

First, we must complete the re-engineering of our cost space to align it to the current market conditions.

This means completing our planned restructuring, getting Europe to break-even, and shifting production to low cost geographies.

All of these are on track for the end of this year.

Combined, the earnings leverage from these actions is significant and no invention is required to achieve our plans.

Second, we will continue to put energy into our initiatives to optimize the business beyond the re-structuring activities, for example, pursuing zero cash cycle or lower and 2% SG&A are some of the key elements of this strategy.

Third, we are focused on diversified growth that is sustainable and profitable.

You saw a modest up-tick in revenue in the second quarter, and I believe the upward trend will continue in the second half of this year as programs ramp and as we continue to add new customers.

We added 15 new customers this quarter, and the funnel of opportunities is growing.

Of course any up-tick in IT and communications spending would enhance this growth further.

In addition, we continue to look at acquisitions but are only looking for transactions that survive sustainable, economic returns.

These are our priorities.

They are clear.

They are achievable and they are concurrent, and they are all under way and they are all tracking.

Overall, I feel that we are trending positively with our business.

And despite the low we hit with our results this quarter as predicted, you know, I feel positive about how the company will look after as we go forward into the future.

Our revenue diversification is improving.

Our revenue is increasing despite some end market disappointments with our largest customers.

We have not burdened ourselves or over paid for acquisitions to achieve near term revenue growth.

Our mix, the 70% of our production sites being low cost geographies is on track.

Our European operations have bottomed, and you know, we expect to break-even this year.

We our reducing our future share count, not adding to it, nor are we adding debt.

Our capabilities continue to grow, for example our initiatives in 64-bit computing phase.

Our efficiency drive in the areas of cash cycle networking capital and SG&A spending have good traction.

In that, methodically rebuilding the company for the downstream growth and value generation in an environment where we see and expect the outsourcing trend to significantly grow in size and to expand in scope.

So there is, in spite of a very, very difficult quarter, even though a predictable end result.

You know, we are building for the future and I think all the building blocks are falling in place, and you know, we look forward to seeing that reflected in our results as we go forward.

That concludes our remarks and now I'll ask the operator to open the lines up for questions.

Thank you.

Ladies and gentlemen, we will now conduct the question and answer session.

If you have a question, please press the star key, followed by the 1 on your touch-tone phone.

You will hear a three-tone prompt acknowledging your request.

Your questions will be called in the order they are received.

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One moment please, for the first question.

The first question comes from Mr. Todd Coupland from CIBC.

Please go ahead with your question.

Yeah, good morning everyone.

Two questions.

First of all, if you could just give us a little bit more of color on the types of programs or end-markets that were weak in Europe and what kind of recovery we should expect in Europe from an end-market or new program perspective.

And secondly, it sounds a little bit like the restructuring in Europe while on track might be, the real benefit might be slipping and straddling between Q3 and Q4.

Am I reading your commentary correct along those lines.

Thank you.

I think on the latter point, Todd, you are reading us correctly.

I think what we've lost is a little wind behind our sails in terms of the level of revenues we did anticipate, and that put us off on this particular quarter to see the loss grow.

So that loss was volume dependent and driven off essentially high [Inaudible] and primarily the IT space that were half what we had expected.

Within the high insistence, are you able to give us which end-market segments that weakness was in?

I would say it's mostly in the area of IT.

Okay, great.

Thanks very much.

The next question comes from Scott Craig from Morgan Stanley.

Please go ahead with your question.

Thanks.

Tony, can you quote where the margins on a sequential basis and just discuss how much each of these three major categories are contributing to the decline?

When you talk about the transfers that started up costs and then pricing pressure and then in coordination with that, is the start up cost going to still be there to go forward, given that you are winning new programs in ramping - ramping those over the next few quarters?

That's a good question.

The difficulty with breaking out the various components of the costs is the fact that they are all happening in a concurrent manner.

So, the program transfers and the added costs of supporting that were pretty significant and as we complete our restructuring, we expect obviously that would subside.

In addition, when you look at handling program transfers and at the same time dealing with customer ramp ups, new customer additions, you're basically carrying more people than you need.

And so as again as you stabilize your operations as you complete your restructuring and program transfers, all of those elements will subside.

I think when you look at overall sequential margin dynamics, obviously volumes quarter-to-quarter weren't that far off, but mix was a big play and probably contributed the most in there, but a very meaningful portion of the additional cost and therefore more profitability was in program transfers and ramp ups.

Great, thanks.

To make a new color to that.

When you look at the statistics of moving from 19% in low cost geographies, 70 sounds fairly trivial, although it sounds it is a big thing to do, but when you unlayer it, then you start thinking in terms of hundreds and thousands of programs moving through a six-quarter period in many cases.

That's where we tend to get this overlapping effect, while we are also ramping up new programs.

The positive thing about it is it ends.

We have a couple more quarters of things that are in transfer going to low cost geographies look our geographies, but after that, we are just left with ramping up of new programs, which I look characterize as a business with usual environment.

And so it really - we are really sort of going through the latter stage of an environment that stops clouding things for us.

Thank you.

The next question comes from Alex Blanton from Ingalls & Snyder.

Please go ahead with your question.

Good morning.

Could you update us on when you will be looking at the goodwill and evaluating that for possible impairment?

It's over 1.1b if you include the other intangibles.

And also could you comment on whether or not you have significant deferred tax assets included in other assets?

Now, the answer to the goodwill impairment testing is, in the fourth quarter, we do that and most of it is goodwill for other than intangible Alex.

And your second question was on, the deferred tax asset is a significant part of the other tax assets, and again we evaluate those assets on an ongoing basis.

So, apparently you haven't seen fit in view of the losses you are sustaining now to do that test at this time?

We are constantly evaluating the deferred tax asset.

Okay.

Secondly, on the new program wins.

Could you give us an idea of what market categories those were in for the quarter and possibly characterize their size, and also tell us what do you think greatest potential for revenue growth in the next twelve months is from a market segment standpoint?

To answer the first question, it's broad based, the costs, all the spaces we are playing in.

These are the new customers.

So they are [Inaudible] , they are in communication and also they are in the new areas that we are now addressing such as consumer, industrial, Telematics and others.

So, as we have been saying in previous quarters, we've been building up a tremendous momentum adding significantly new customers, if you go back over the previous quarters, I have probably been announcing 10, 12, 15 new customers every quarter and they are broad base.

Our goal is to increase our diversification, both by the number of customers we have, the sectors we play in and to avoid the thing that I think hurt us a lot where we had very high concentration with very limited number of customers and that is a goal that we are playing in; and I think a lot of our competitors are working to, and I think it's just something that we'll continue to do as we go forward.

There is another question, I unfortunately forgot it.

potential for revenue growth by segments in the next year?

You know that's hard to say.

I mean, I read all the reports from the analyst too and there is a lot of different opinions.

I think the - we are certainly adding a lot of revenue opportunities from new sectors.

The area that will give the most leverage for us and most of our competitors will be a general upswing on the IT and communications because it's such a big significant sector in the EMS space and in tech space.

So, we will all benefit by that space taking - taking off.

When we talk about upward traction, we are not yet building in any big upside and we certainly would benefit from it But, that's what I think will have to happen to have a significant movement up, over time.

Here again, depending on what you mean by significant.

Going over the last few quarters, [Inaudible] 2%, 3% is significant, but I am talking about something more on the inflow.

Okay, thank you.

Your next question comes from Paras Bhargava from BMO Nesbitt Burns.

Please go ahead with your questions.

Good morning.

Just a big picture question, you are saying that right now you are incurring a bunch of ramp up costs from new programs and program transfer costs and there is lot of pricing pressure and I am assuming that they are about around the same size in terms of impacting margins.

When the - when you moved to look out geography then the ramp up cost sort of subsides, does the pricing pressure continue and do we see a blip in margins then back down to these levels of margins?

How are you sort of planning your business not just for the next quarter but say for the next five or six quarters?

We remove a lot of downward things that have been impacting us relative to the restructuring that hasn't flowed through.

Relative to the re-sourcing into low cost geographies, and that certainly has significantly been clouding our results, so those things do end.

The relative pressures in the market place from things like pricing pressures, you know will still linger around.

But we'll have made significant improvement in spite of that because of those first two things being completed.

So would it be sort of one-third, one-third, one-third, of the impact if you look at those three items that you mentioned?

I am not going to dodge the question as it varies as you go through time based on our projections.

Thanks.

The next question comes Tom Astle from National Banc Financial.

Please go ahead with your question.

Yeah.

Good morning.

On the Sanmina call they said that they saw about 4% sequential pricing pressure, and they also gave us some capacity utilization numbers, I think they said that - on an equipment basis was about 80% utilization maybe bit lower and labor much lower about 50%.

Tell me that was the other way round, do you have similar numbers.

The only number we talk about is sort of a general utilization.

And now it is about 50% a quarter Tom.

That has some improvement as the restructuring flows through.

I don't remember the exact comments, that were said here, but please remember they do have a vertical model and other assets and so I don’t know what they are referring to specifically and whether that's directly comparable to ours.

Okay, there is the high utilization when based on labor versus plant I guess.

Well, that's an interest though, everybody is measuring it differently.

Okay.

I always caution all the analysts to be very wary of those numbers.

What I can say with certainty is with, we are getting tractions and improving from where we were going back a few quarters as the restructuring flows through.

Okay.

And just a more general question, what percent of your business would be under long-term supply agreements when you signed when you purchased manufacturing facilities.

[Missing Text/Audio]

It's interesting about the shift to low cost geographies.

An incredibly large percentage of our production, say PCBAs is in high cost geographies now, its low production runs in the 50 to 100 or less kind of runs.

So, it's within this model has changed and it's just a little bit more to do and that will [Inaudible] through in the next couple of quarters.

Okay, great thanks.

The next question comes from Matt Sheerin from Thomas Weisel Partners.

Please go ahead with your question.

Yes thanks, good morning.

The first question relates to Eugene, your comment about pointing to a goal of 2% SG&A.

If you could just give us an idea of what, sort of, revenue run rate will you being looking at there?

And then also with the restructuring program in place, how much of that, when it's totally down and how much will impact the SG&A versus the COGS?

So, we started on this a couple years ago, and at our peak period, our SG&A was about a $100m in the quarter.

We are now down to 59m, just under 60m in the quarter.

We expect to continue to work on that and drive it down further.

So, at what point would - for there are two dimensions here, one is your bringing down the expense and we brought it down I think, quite significantly while maintaining our capabilities and on the other side, we need our revenue up draft.

I would say, probably the cross over for 2% is in $10b, $11b in around that range, depending on how fast it happens.

Okay great.

And then also just regarding your new program wins in addition to geography, which you talked about, how will that impact your 10% or more exposure to certain customers and then also your end market mix.

Well, as I had mentioned before like we think that when it's fully deployed and the programs are all starting to reach their peak.

We don't expect those new sectors to represent more than 15% of our overall business.

And it's just our desire to have a mix more representative of the overall EMS market to give us the maximum amount of diversity and then we're on track for that.

Okay, thank you.

The next question comes from Steven Fox of Merrill Lynch.

Please go ahead with your question.

Good morning.

Just to be clear on your comments about bottoming, are you seeing, are you saying that your seeing your end markets show signs of improving with existing customers or you are just kind of closer to seeing the new programs ramp up?

Well, a lot of the growth is coming from the new programs that we're winning, some of that dampened by the fact that some of our larger customers have had some probably, fairly visible disappointments in the near term Well that's kind of masking it, but we are getting more and more attraction on this.

Thank you very much.

The next question comes from Michael Morris from Smith Barney Citigroup.

Please go ahead with your question.

Thank you.

Good morning gentlemen.

I just would like to pick up the thread of the shift in production to low cost geographies, I'm using Tony's phrase of maybe losing a bit of wind in your sails, this quarter from existing programs there.

I just want to ask if any of the assumptions that you've made in terms of your restructuring in Europe have changed or was there anything in the sales trends in the quarter that made you think that you might have to do more and if you would, could you tell us about how much production will you have remaining in high cost locations in Europe, when you're done with your announced restructuring?

Thanks.

We are still on the track of not announcing any more restructuring, I think, as Tony had mentioned, there's still significant staffing that has yet to leave of our payroll through the second half, the call basically announced and in motion.

When we are finished in Europe, a very significant portion of our manufacturing capacity will be in the lower cost region of Europe and I think that - so you are actually getting in two dimensions, you are getting it in to the - within the geography plus the ever increasing capacity we have in the Asian footprint.

Okay.

Does that answer your question?

It does.

I guess, let me just - one quick follow-up on that.

Would you be willing to say that it's still important to have production however, in higher cost locations in Europe just because of the high-end nature of your mix?

Absolutely.

From a fulfillment point of view being closer - close to the end customer, dealing with the high mix kind of environment or dealing with the technology complexity.

So the, I've always reacted poorly on what I call the binary view sometimes.

The classic example seven months ago would have been everything is going to China and a little virus goes out there and people realize that is not really that realistic.

Another one that is out there was that everything is going to low cost geography.

It's a significant discontinuity relative to the amount of percentage of business that's moving to low cost geographies, and certainly the low to medium complexity and high volume is very fundamentally moving into low cost geographies.

But there is a lot of other of our price points, a lot of other technology points, there is a lot of different mixed points that will continue to be in high cost geography, that said they have to be structured for that.

So that whereas a few years ago, we would have had high volume factories in Europe or in high cost locations or in places like the US.

Nearly all those factories have been or are in the process of being configured into high mix and they said we are already running around 85%, pretty well high mix, in the high cost geographies and I think that trend will continue.

So, it's a very long way to say you are absolutely correct.

There is a very real role to play, but you have to structure the cost and the capability to match that role.

That's what we are going through.

That's what we will have out of the way in the next two quarters, and that will remove a lot of that mist that's reflected in our results.

But it happens once.

It is a one-time correction.

It was a discontinuity.

I think we all under realize how profound and complex that a transfer is.

We are really dealing - nearly all our customers and all our programs ended up somewhere else, as we went through this transformation, driven by the economic difficulties of our customers.

Right?

Eugene, you have a very formidable capital structure [Inaudible] if you will.

Our understanding of the evolution of EMS, partly aided by your own view of the ways of outsourcing is it there will be a lot of full system integration and configuration and fulfillment plans available on the market from your OEM customers.

Given your status of utilization, how do you view those kinds of opportunities?

Are you willing to consider fairly large scale acquisitions of the configure and fulfillment of variety?

We are capable and willing and eager to find opportunities that are sustainable and make sense.

And I have given this example before, but I think it is worth mentioning.

When an OEM comes to you and says we want you to pick up this large factory, even if it's in sort of back end kind of processes, and then says but I want to not utilize that factory within 12 months, because we think it's not competitive, and we want you to make it in the Czech Republic, or we want you to make it in Mexico, or we want you to make it in somewhere in Asia, that's where we have a lot of difficulty.

We want something that's sustainable.

So, we are willing to do it, if we find things that are sustainable because of their complexity or what other consideration, we are ready to do it.

But, if it's something that only lasts for a short period of time and then you have to write-off hard earned profit dollars in restructuring of something that isn't sustainable, we are just not going to go down that path.

Okay.

I just want to ask one last question, please.

In the - I think it was last quarter, you talked about the makeshift that's ongoing within Celestica, and obviously we have some continued weakness at the high end in the IT, and you mentioned today that you think the entire industry needs really that IT sector to recover for the leverage to recover in the industry.

Do you still feel that Celestica's change in product mix is more short term in nature versus long term?

And do you agree that there are structural changes occurring in Enterprise, for example, the shift away from closed proprietary architecture to open architecture?

Are you factoring those kinds of evolutionary changes in the Enterprise into your thinking and your assumptions?

Well, first of all we - because IT and communications represented such significant portion, we thought for our people to have a significant leverage, we would all need to have to both sectors start to have an up-tick.

If all we are going to do is grow by adding, sort of, specialty sectors that we expect will not add more than 15% - to be of more than 15% of our revenue downstream, I don't think that's enough to get the kind of value generation, I think is possible.

So, as your question is so long, I didn't break down....

I apologize, shifting business.

The shifting business.

It's one of those things about, everybody thinks - everybody acknowledges, including, by the way our competitors are mid-to-high end capability and in some cases very highly differentiated, but some times that comes with the prices that people think we don't do high volume and we don't do a lot of other stuffs, we do both.

And we will participate in both sectors and will do it in a balanced way, but we don't want to hear again.

This is another one of these binary things that start to become popular, sort of like.

Well, everybody is going down the low end, everybody is going to commoditize every thing and it is going to be a lot to make consumer electronics.

There still will be infrastructure, there is still going to be high-end IT, there is still going high-end communications and they will be no other price points in between.

We will participate in that, we are happy to gain share in that.

We will also participate in the others, and our mantra will be to have the maximum amount of diversity in the most sustainable and profitable way.

Thanks very much.

Mike, another way to look at is, if you look at our target of 70% in low cost geographies that implies that we are anticipating to some extent that shift to be, as you say, something that will last a lot longer.

And we are doing that in advance of our revenues having that kind of mix by the fourth quarter.

So it is obvious that we are adjusting to that reality.

Creditors and bonders, we want both.

Great, thanks gentlemen.

Operator, next call please.

Your next question comes from Thomas Hopkins from Bear Stearns, please go ahead with your question.

Yes, good morning.

Want to talk about the use of cash, you obviously are doing quite well with the cash here, I mean you have done some share repurchases, what are you saying to investors with share repurchase, say, versus acquisitions of other EMS companies or even ODMs that would substantially diversify the mix very quickly and obviously add some incremental revenue growth?

So I am not taking about OEM divestitures, I am taking about other acquisitions out there given the cash?

You know, we are not precluding those things, I think they can happen in the complementary way.

And, you know, you have to look at the - what are you buying, how much is going to cost you, what currency will you use to buy it, even if we use shares in participating in that still doesn't preclude us buying shares when we feel they are under valued [Inaudible] it doesn't in any way preclude.

It will be a case of opportunity.

Our intention is to maintain a very strong balance sheet, though we have infinite flexibility for the things that make sense and whereas we would like to say we have done more, we also take a certain pride that we haven't wasted our balance sheet on things that weren't sustainable.

Right.

So presumably if we are [Inaudible] here in terms of hardware and may be in some point next year, we get a little recovery in 2004, valuations for potential companies that may be acquired are probably are going to be as low as they are going to be some time here and in the next quarter or so.

So would that imply that you would be more interested or increasing your [Inaudible] in looking at, if there is anything out there?

We are looking all the time with high intensity and have been for the last five years.

The opportunities are there, it's finding ones that we know fits into the category that we say is sustainable.

If it's looking at companies that are losing their business anyway that might not, they may have other ways to deal with us.

If you find areas where is good relationships, good economics, nor disproportionate amount of high geography assets and that's to be restructured, you know, we are always interested.

If it's purely hardnosed economic decision, you know, they benefit our shareholders for the long run and as I said we take a certain pride that we haven't lost their faith, in how we behave through an environment where there are lots of opportunities for those that have the balance sheet strength.

Great and then lastly, Q4 the December quarter, a lot of the corporate IT budgets are obviously flushed and given all the server and mainframe and some of the storage business you have, I think Tony has talked about this in the past, how important is Q4 and what are your - it's may be too early because you've still got September in there and before then, how do you see Q4 in terms of corporate IT spending as it relates to IBM for you and SUN and EMC and some of these other customers?

Would you like to ask the step to each one?

I would rather, but that's going to happen, but-

As we said there is a little bit of visibility in the markets.

We don't talk to customers.

Our view that if things are indeed stabilizing, which they think they are that we would expect under previous trends that there's being a pick up in the seasonality factor at a minimum and I think that we feel that way. but is it a step away from historical path, I don't know.

But we have to look at is, yes, we expect that seasonal path, but more importantly focus on- of manning our topline with the new programs and additional customers that we've been adding.

That's where our focus has been.

Okay, great.

Thanks.

The next question comes from Mr. Chris Whitmore from Deutsche Bank, please go ahead with your question.

Good morning guys.

I wanted to explore gross margin a little bit and maybe try to understand the impact from pricing pressure, maybe, year-over-year or sequentially would be helpful.

And then secondly, if we look out three quarters, four quarters once the restructuring and the transfer costs are behind the company, what kind of gross margin on this revenue level do you think the company can generate?

Our long-term models, we think, we've stated before 7% gross, 2% SG&A.

Obviously that's going to be a mix of different products and price points and different services.

Some will be lower and some will be higher.

Some of our competitors have modeled that out for themselves, we don't basically disagree with those characterizations.

The restructuring and things we talked about, most of that flows through, as we said, by the end of the year, that basically all concludes.

So, to get to that 7%, there are other things that we are doing, such as optimizing our business, driving down the SG&A.

There are other things that happen over time.

So, what we are not saying is exactly when that crosses over.

And you know in light of the last ten quarters that we've all gone through, how predictive, would you want us to be?

Then a second addition to that is, totally industry deals with the over capacity situation.

It's going to be hard to predict the pricing pressures or the relative pricing pressures in the marketplace.

Clearly we are seeing that pricing has, in many cases, over rotated as, many either smaller tier players or players that are struggling with their capacity, or pricing at variable costs and that is happening.

And that's what having a better environment around the capacity utilizations as an industry will certainly change that picture and that's something that's hard to predict at this stage.

We can for ourselves can only do what we can control.

Are you seeing that type of aggressive pricing on the OEM acquisitions as well as the organic business or is it primarily just on the organic business?

On the OEM acquisitions I would say overall, and I said this before, prices had dropped drastically from the peak.

People are a lot more realistic.

Every now and then people are, one party might be, or another party might be willing to take a higher risk relative to that sustainability issue.

Some may want to pay a little bit more and pay premiums because they have a big gap in their revenues, but general behavior has been pretty good.

Prices have dropped, premiums have disappeared, and people are behaving rationally.

But, you always have a few rouges out there.

Thanks a lot.

The next question comes from Michael Walker from Credit Suisse First Boston.

Please go ahead with your question.

Thanks a lot, good morning guys.

Question on the restructuring, you said that you expect it to be at the high-end of guidance.

I think you had said 50m spread over three quarters.

So, is it still kind of going to be 49 with the charges of the two quarters?

Sorry, you were faint, can you repeat the last portion.

Sorry, you said that restructuring charges going forward will be at high-end of guidance.

I'm wondering if you could quantify that?

Well, I think when we looked at the total, take the total charge as restructuring, we had last year I think was about 383m plus the range we said 50m to 70m were for the high-end of the 2003 range, just add to in total to that period time.

We still feel that, that's where we are going to end up.

Okay.

To be at 70m around that level for this year.

Okay.

And then second question is in the storage and market, looks like that, that was down a little bit sequentially, obviously made up by the PP workstation area.

EMC source tagged couple of the, couple of larger customer there, but pretty good results and I'm just wondering if you could give a little bit more color there at all?

Well, I think we are talking about any specific customers per se, I think that was result that was not indicative of any program losses whatsoever and I think it was a transition between quarters for some of our customers.

Okay and then one final follow up to the last question.

You'd said that the 2% SG&A target was dependent on $10b to $11b run rate on the top line.

I'm wondering if the same thing is the case for the 7% growth margin target you talked about?

Well as I mentioned in the previous question there, we are not saying exactly when on the 7% relative to the SG&A that, that's totally in our control other then the revenue element of it.

The 7% gross profit has more dynamics and so we haven't made any consistent, we don't like to make and shouldn't make forward projections and so we are locked in.

Right, thanks a lot.

The next question comes from Susan Streeter, who is a private analyst.

Please go ahead with your question.

It's Susan Streeter, Sprott Securities actually.

Thank you.

Just wondering if you can comment, you talked a lot about the issues relating to the margin pressure on both Europe and the US as well.

Can you just comment as, do all of those reasons hold true for the Asian geography as well or is there any one factor that's more dominant there?

I think in Asia, the pricing dynamics are pretty clear and a factor, I would say relative to program transfer, there is a lot of activity going into the region.

I would say that that is a secondary factor, and most importantly though is the ramp-up cost.

So, we are staffing up in the geography in anticipation of more significant growth in the region.

So I would say that those are what is driving the numbers in Asia.

Okay.

Thank you, and Tony can you comment at all on the capacity utilization in that region versus sort of the business as a whole?

Well I think, I characterize it this way; our overall average is about 50%, which it was in the quarter.

I'd say Asia is north of that, the Americas is slightly lower than the 50%, and Europe the lowest.

Until we get the full effects of the restructuring in North America, and Asia where those things have not become [Inaudible] .

Okay.

Thank you.

You're welcome.

We have about time for probably about two more questions.

Okay, the next question comes from Steve [Inaudible] from Goldman Sachs & Co. Please go ahead with your question.

Thanks good morning.

There's probably not too many questions left at this point.

I guess on cash flows, you noted a couple of reasons for weakness in the quarter on cash flows.

I was just wondering how that tracked with what you are expecting for the quarter, and what you might think we would do, are we seeing cash flow for the September quarter?

Well, it didn't track with what we expected, because we expected some of our customers would pull some more finished goods at the end of the quarter or in the last month of the quarter, and we have a better performance particularly in Europe.

So as we brought inventory early in the quarter, we had to settle it, I paid for it through the quarter.

We have that imbalance that we talked about.

In addition to that, if you look at things on a sequential basis, obviously our operating earnings are down, the cash from earnings has dropped, and in addition to that, we do have the ongoing cash commitments on the restructuring program that we incurred this quarter, and that are spelled out in our cash flow.

Yeah I understand.

It is also the drivers, I'd say the real thing that didn't map up with our expectations was the working capital account.

Which shows up in our turnover, and the turnover certainly isn't where, it isn't our end-point.

Yeah.

Right.

Okay and then, I will let somebody ask another other question.

Thank you.

Yeah Okay.

Last question please.

And this question comes from Mr. Mark Lucey from TD Newcrest.

Please go ahead with your question.

[Inaudible] clarification of previous questions.

First of all on SG&A, you were basically sequentially flatten-ups and weak dollars here, I wonder if there is any dynamic that is going on there, that is either delaying or causing the ability to get that number down faster, that we should be aware of.

And if I heard you correctly, I think the terminal position in absolute dollars sort of, the math would work out to the sort of low 50's in terms of absolute dollars spent on SG&A, and therefore the leverage would come from keeping that number relatively flat as your sales grow, am I hearing that correctly?

Yes.

Yes.

And I think in the quarter, there - as we are again driving for more top line growth and new customers, their trade offset we were prepared to make and further cuts that we think are still possible in that line and we will pursue them aggressively and as you saw on a year-to-year basis, we had a pretty good record of cost reduction.

Okay.

But, I would say there is nothing finished during the quarterly report.

Yeah.

As a matter of fact, you know, the way to look at it standing back at a macro view, as we've made that as [Inaudible] , nearly totally variable on a downside and you are very perceptive in saying what we are going to try and do is make it very fixed on the upside.

And that's where you get your leverage on a relative basis.

Okay.

I think that concludes our questions.

We are getting pretty closer to the opening of the market.

And I guess, I'm just wanted to thank everyone for calling in.

Hopefully, we have answered your questions, if there are follow-ups, I'm sure we will be talking to you.

Thanks for calling in, and we certainly look forward to moving out of from our bottom spot here relative to the quarter's results, and I think all of them are in place.

Thank you very much.

Ladies and gentlemen, this concludes the conference call for today.

Thanks for participating.

You may now disconnect your lines.