Celestica Inc (CLS) 2008 Q2 法說會逐字稿

Welcome to Celestica's Second Quarter 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.

(OPERATOR INSTRUCTIONS.) I would like to remind everyone that this conference call is being recorded on Thursday, July 24, 2008, at 4:30 p.m.

Eastern time.

I will now turn the conference over to Mr.

Paul Carpino, Vice President of Investor Relations.

Please go ahead, sir.

Thanks, Yvonne.

Good afternoon, everyone, and thank you for joining us on Celestica's Second Quarter Conference Call.

On our conference call today will be Craig Muhlhauser, President and Chief Executive Officer, and Paul Nicoletti, Chief Financial Officer.

Craig and Paul will provide some brief comments on the quarter, and then we'll open up the call for Q&A.

Copies of the supporting slides from this webcast can be viewed at celestica.com during this conference call.

This call will last approximately 45 minutes, and we can be reached for follow-up questions after the call as well.

During the Q&A of this call, please limit yourself to one question and one follow-up to ensure everyone on the call who would like to ask a question has the opportunity do so.

You are welcome to get back in the queue after you ask your question.

Before we begin, I would like to remind everyone that during this call, we will make forward-looking statements related to our future growth, trends in our industry, and our financial and operational results and performance that are based on current expectations, forecasts and assumptions involving risks and uncertainties that could cause actual outcomes and results to differ materially.

We refer you to the risk factors and uncertainties discussed in the Company's various public filings, which contain and identify important factors that could cause actual results to differ materially from those contained in our projections or forward-looking statements.

These filings include our Form 20-F and subsequent reports on Form 6-K filed with the Securities and Exchange Commission, which can be accessed at cdar.com and sec.gov.

Please note that we will refer to certain non-GAAP financial measures during this call.

The corresponding GAAP information and reconciliation to the non-GAAP measures are included in our press release, which is available at celestica.com.

I'll now turn the call over to Craig Muhlhauser.

Thanks, Paul, and good afternoon, everyone.

Last year when we reported our second quarter results, Celestica was in the early stages of a recovery plan that has now shown solid results.

We still needed to show through our financial results that we were making progress on our five key priorities--rebuilding customer loyalty, improving our operating and financial performance in Mexico, returning Europe to profitability, increasing inventory turns and asset utilization, and driving speed and efficiency through simplicity and the elimination of waste.

In fact, our second quarter results in 2007 reflected a company that wasn't making satisfactory progress on these priorities.

GAAP losses were $19 million, our operating margins were 1.1% with gross margins of 4.7%.

Operating losses in Mexico and Europe for the quarter were $32 million, inventory turnover was 7.3 times turns, and we had 50 days of inventory.

We had cash balances of $747 million and were generating a return on invested capital of 3.8%.

On top of these challenges, customer satisfaction was not at where it needed to be, and new business wins, though improving, were still inconsistent.

I'm pleased to report that not only have we improved in virtually all of our key priorities from one year ago, but we have also delivered our third consecutive quarter of improving financial results, including some of our best operating performance in six years.

Let me highlight some of our achievements this quarter.

We achieved a 3% operating margin in the second quarter of 2008, the first time this level has been achieved since 2002.

This represents the low end of our near-term operating margin targets of 3.0% to 3.5%, one quarter ahead of schedule.

We are very encouraged with our progress, as we've taken the Company from breakeven operating margins in the first quarter of 2007 to 3% margins on flat revenue, a higher consumer mix, and approximately 60% utilization for the quarter.

This is a significant accomplishment for us.

By improving our operational execution and quality, cycle time and delivery, and focusing our resources on higher quality revenue opportunities, we're now delivering our near-term operating margin target performance with the opportunity for additional improvements in the future.

Revenue in the second quarter was down 3.0% on a year-over-year basis and up 2.0% sequentially.

We are now focusing on profitable revenue growth with the same discipline and intensity that we have implemented to drive our improvements in our operating margins and asset utilization.

We are winning new business across all of our key target market segments, and despite limited end market visibility, we believe the impact of this business should occur over the next 12 to 18 months.

We continue to lead our major North American EMS competitors for the third quarter in a row in inventory turns.

We delivered another solid performance in the second quarter with 8.7 turns.

This compares to 7.3 turns in the second quarter of last year.

Our megasite strategy, which reduces complexity and offers flexibility and the lowest total cost of ownership for our customers, is a key factor in our improvements and is providing continued improvements in our operational and cost performance throughout our global supply chain network.

We are targeting to achieve higher levels of inventory turnover throughout this year, and we believe we will approach double-digit turnover by the end of 2008.

This achievement would be our best performance ever and will support our goal to maintain our leadership position in inventory velocity as compared to our North American peers.

With the combination of improving operating margins and continued improvements in working capital management, our cash cycle has also shown significant improvement, having been cut in half--from 26 days one year ago to 13 days this quarter.

Our return on invested capital, including intangibles, has also strengthened this quarter, climbing to 11.8% in the second quarter this year compared to 3.8% one year ago.

So the third consecutive quarter of double-digit returns on invested capital, and we expect continued improvement over the balance of 2008.

It's also significant in that when compared to the 11.9% returns achieved in the fourth quarter of 2007, as we have been to achieve this return despite approximately $300 million less revenue.

Our game plan over the past 12 months was to achieve improvements in operational performance and financial results.

With improved operating margins and asset utilization, we have now earned the right to grow.

We will continue to focus on delivering improvements in operating margins and free cash flow while making new investments in our key target market segments and customers to drive profitable growth.

We've been transforming our customer base and markets to focus on the areas of growth and profitability where Celestica can leverage its strong global engineering, supply chain and process capability for a total cost of ownership advantage for our customers.

We fundamentally believe in the principle of earning the right to grow, and the key to this underpinning our business with an efficient cost structure and world-class global execution engine.

By delivering this first objective, we will be able to show operating leverage as we secure and invest in our current customers, our new customers, our new markets, and our core competencies.

We've been winning profitable new programs that are consistent with this objective and expect the benefits of these programs and new customer engagements to commence in the coming months.

From a financial position, we continue to focus on the fundamentals of improving operating margins and asset velocity.

We generated free cash flow for the fifth consecutive quarter, and our cash position ended the second quarter was $1.2 billion.

We continue to lead the industry with the best net cash position among our North American peers, giving us significant financial strength and flexibility going forward.

We're looking at various ways to deploy this cash most effectively.

And with our return on invested capital now getting into the double digits, deploying the capital back into our business in a very disciplined and sound manner remains our top priority.

In the area of operational execution, we continue to perform well for our customers and are focused on successfully ramping several new programs in the second half of this year.

Over the past year, customer satisfaction has continued to improve across our global customer base and throughout our operating network.

The Company is now poised to pursue benchmarks in every key operating metric on a global basis with the same standards worldwide.

Overall, the second quarter was very encouraging for our Company as we continued to deliver improvements in virtually every one of our focus areas, building revenue momentum, operational execution, and financial performance.

Although I'm very pleased with our progress to date, we are targeting additional improvements over the next 12 to 18 months in every area of our business as we raise the bar for Celestica.

We think it's realistic to expect improvements in all key areas and are continuing our focused, disciplined process to deliver predictable and sustainable financial performance in both the short term and over the long term.

As we look ahead to the third quarter, the demand environment for our base business is slightly more negative for some programs in our communications and IT segments compared to the sentiment we saw from our customers going into the second quarter.

However, each of our segments are still expected to grow or remain flat, and new program ramps, primarily in the consumer segment, are helping to offset some of these weaknesses.

Despite the end market uncertainty, I am very encouraged with our near-term prospects and our position in the industry.

Our operating margins should continue to improve each quarter this year.

Our working capital performance, particularly inventory turns, will continue to go higher, and free cash flow should continue to improve for the balance of the year.

Today we are in the best operational and financial position we have been since 2002.

Over the coming 18 months, we are targeting continued financial improvements beyond the near-term goals we set initially for our Company, as well as delivering consistent and profitable revenue growth.

We have made excellent progress over the past 18 months, and we expect to deliver continued improvements in the future.

We're in a challenging industry, and we believe that quality, speed, and flexibility are the cornerstone of thriving during these turbulent times.

We continue to focus Celestica on building the business model, the processes, and competencies to deliver value to our customers and returns to our shareholders that are sustainable and predictable, and with the expectations of continuing improvements in everything that we do.

That concludes my remarks, so let me now turn the call over to Paul Nicoletti.

Paul?

Thanks, Craig, and good afternoon to everyone.

Revenue for the second quarter was $1.88 billion, down 3% from the second quarter last year.

This year-over-year decrease was driven by lower revenue from our server segment, as well as the flow-through impacts of program transitions which occurred during 2007, offset by strength in our consumer and telecommunication end markets.

Looking at our revenues by end markets, enterprise communications represented 27% of total sales.

The consumer segment was 23%.

The server segment represented 17%.

Telecom was 15%.

Storage was 10%.

And finally, industrial, aerospace, and defense came in at 8% of sales.

Moving to our customer concentrations, our top 10 customers represented 62% of sales for the quarter, our top five were 39% of sales, and no customers were greater than 10% of total sales in the quarter.

GAAP net earnings for the second quarter were $39.8 million, or $0.17 per share, compared to a GAAP net loss of $19.2 million, or a loss of $0.08 per share for the same period last year.

The increase in GAAP earnings is predominantly due to higher operating earnings and lower year-over-year tax expense.

The results for the second quarter of 2008 include restructuring charges of $3.6 million.

Adjusted net earnings for the quarter were $38.9 million, or $0.17 per share, compared to adjusted net earning of $4.9 million, or $0.02 per share, for the same period last year.

The stronger earnings were driven primarily by year-over-year improvements in our Mexican and European operations.

Last year, our Mexican and European operations reported combined operating losses for the second quarter of $32 million.

Today, the combined operations are slightly below breakeven, as we are ramping new business in both regions, and we expect both sites to be positive in the second half of 2008.

Gross margins this quarter were 6.7% of revenue compared to 4.7% for the same period in 2007.

This was the Company's highest quarterly gross margin since 2002.

This increase was primarily due to operating improvements in Mexico and Europe, as well as a continued benefit from cost reductions, restructuring actions, the impact of renegotiating or exiting unprofitable accounts, and the streamlining of processes throughout the Company.

SG&A, excluding option expenses, in the second quarter was $70.2 million, or 3.0% of revenue, compared to $70.5 million, or 3.6% last year.

With the significantly stronger gross margin and stable SG&A, our operating margins came in at 3.0%, and as Craig noted, we have reached the lower end of our near-term operating margin goal of 3.0% to 3.5%, with more improvement to come this year.

Finally, net interest costs decreased on a year-over-year basis by $5 million due to lower interest rates and lower fees associated with the amount of dollars in our AR sale program.

We have made exceptional progress on all of our key financial metrics during the past year, particularly on the back of slightly lower revenues as we continue to fine-tune our revenue portfolio.

In terms of a restructuring update as of June 30, year to date we have recorded charges of $6.9 million of our anticipated $50 million to $75 million restructuring program that we announced at the beginning of this year and expect to complete this program during the second half of 2009.

Working capital, cash flow, and balance sheet metrics also continued to perform well this quarter.

We have now delivered five straight quarters of free cash flow, generating approximately $500 million of cash, including $54 million this quarter.

The cash cycle for the quarter was 13 days, unchanged from the first quarter, but is one-half of the 26-day cash cycle for the second quarter of last year.

As Craig noted, inventory turns also remain very strong at 8.7 turns.

Finally, with our strong operating margin and working capital performance, our returns on net invested capital--where net invested capital consists of total assets less cash and current liabilities--was 11.8% for the quarter.

During the quarter, we sold approximately $125 million in accounts receivable, down $75 million from the first quarter of this year.

Rounding out the balance sheet, our debt to capital was 26% and our credit facility of $300 million remains undrawn and is fully available.

In summary, we are certain to establish a track record for solid returns and profitability at Celestica, and we believe this momentum will continue in 2008.

Finally, in terms of outlook for the third quarter, we are expecting revenue to be in the range of $1.9 billion to $2.1 billion and adjusted earnings per share to be in the range of $0.17 to $0.23.

At the midpoint of our revenue and EPS guidance, we would generate operating margins of 3.2%.

That concludes our remarks, and I now ask the operator to start the question-and-answer session.

Thank you.

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

(OPERATOR INSTRUCTIONS.) Your first question comes from William Stein of Credit Suisse.

Go ahead.

Thanks.

Can you comment on the amount of customer restructuring that's left?

In other words, you've talked in the past about some, going back to customers to raise prices.

In some cases, they leave; in some cases, they stay at more reasonable margins.

Is there any of that left to go?

And then as a follow-up, can you talk about whether the ongoing restructuring is going to be helping the gross or the operating--gross profit or SG&A?

Well, William, the ongoing portfolio or customer, I'll say "alignment," is a continuous process, so we're constantly working on the portfolio.

Roughly, on a year-on-year basis in the second quarter, we had about a $100 million decline related to customer disengagements, but it's very selective.

And obviously, that will continue as part of the ordinary course of operations as we go forward, and the impact of the third quarter is obviously included in our guidance.

Will, as far as where you'll see the impact of the restructuring as it flows through, I'd characterize that 80% of it would be in gross profit, and the balance would hit the SG&A line.

Great.

And then can you comment on the long-term operating margin goal of the Company?

Are we still looking for 3.0% to 3.5% for the--is that for the combined second half of the year?

Is that by December?

And then can you give us an idea for what you think 2009 feels like from an operating margin perspective?

Will, I'll answer the question.

I think, as you know, certainly mix of business is a factor on margins.

I'd say for the mix we have today, we see our model being between 3.5% and 4.0%.

Certainly that's somewhat predicated by how revenue unfolds and specifically on the growth side.

Our near-term objective in the revenue envelope that we see today is to get to the higher end of that objective that we had laid out previously between 3.0% and 3.5%.

But certainly, as we see a little bit of revenue growth come back, we'd expect our model to be between 3.5% and 4.0%.

Great.

Thank you.

Thank you.

Your next question comes from Jim Suva of Citigroup.

Please go ahead.

Great.

Thanks very much.

Previously you were talking about growth in the second half of the year, I believe 4.0% to 5.0% for the full year, and now it looks like, with given your guidance of relatively flat to down growth next quarter, that no longer holds true.

Can you talk just about growth and what you're now expecting for '08?

Well, as we look at, as I mentioned, from the April quarter, the assumptions we made relative to the band environment are more negative in the telecom and the IT segments.

And based on our guidance, we're guiding down for full year on the growth that we laid out at that time.

And what is that down?

You're guiding for the full year now?

We're not issuing full year guidance.

I mean, in the third quarter, you can see the relative reduction on a quarter-over-quarter basis as compared to last year.

But we're not guiding full year, just based on the lack of visibility at this time.

And a quick follow-up to that is I would assume September you start to see some consumer ramp.

Is it just that consumer ramp is offset by the much bigger-than-expected telecom slowdown?

Yes, Jim, I think the consumer ramps will unfold as we've--on our current expectation as we've seen in previous years.

So I think the short answer to your question is yes, as Craig mentioned.

We're just generally seeing some weakness in some of our large kind of enterprise IT customers, so that you'll see us offset that with growth in consumer.

Okay.

Thank you very much.

Thanks, Jim.

Thank you.

Your next question comes from Louis Miscioscia of Cowen.

Please go ahead.

Okay, thank you.

I want to ask about the net cash position.

Obviously, it seems like you all are doing well from a cash flow standpoint.

And I don't know if you saw Flex's press release, but they did announce repurchasing up to 10% of their shares, and I would venture to guess that you would also say that your shares are undervalued, too.

Any thoughts on using some of that excess cash to repurchase shares?

So hi, Lou.

It's Paul.

First, as Craig mentioned, our priority is to want to invest back into the business, and we see some near-term opportunities that look interesting.

As far as a stock buyback, and I'm sure you're aware, having gone through the composition of our notes, given the losses we've had in the early days of restructuring, there's some pretty significant limitations around our ability to buy back stock.

So to embark on something like that would be a problem right now.

So our focus is on investing that into the business and growing both the top line and the bottom line.

Okay.

I'll just herd your comment to the question about revenue growth.

But maybe if you could just give us a state of state in the EMS land.

Do you see a decent amount of new programs coming in that you will have the opportunity to win, or is it mostly trying to take share away from the other competitors that are out there?

Hi, Lou.

This is Craig.

We see steady new business coming in across all of our segments, and we see opportunities across the market.

There is the combination of new customers and new programs, the combination of taking share from our competitors, and obviously, we're pursuing both those ranges of opportunities, as well as expanding the share of our business with our existing clients.

Okay.

Thank you.

Thank you.

Your next question comes from Kevin Kessel of JPMorgan.

Please go ahead.

Hi there, guys.

I guess the question here on your consumer business.

You had mentioned, Craig, earlier that the consumer is expected to ramp in the third quarter and be somewhat of an opposite, again, to some of the softness that you're seeing in telecom and IT.

Are these new consumer programs that are contributing outside of your two core customers there?

Yes.

They are both the existing programs we have, and then we have a number of new programs that we expect to launch and ramp during that period.

Are you able to explain at a high level what sort of products these are?

Because, obviously, consumer can either mean handset, it could mean so many different things, TVs, of course.

Well, I think without commenting on the specific customer or the specific program, the message is we pursue a very disciplined approach to making sure we pursue business only where we can add value, so these are customers that are looking for a unique supply chain solution, and in these two cases, they've chosen Celestica.

Okay.

And any thought at all relative to a strategy around at some point looking to verticalize, selectively verticalize the consumer operation as it continues to grow in scale as a percentage of Celestica's overall?

Well, we're continuing to look at all of our options, and one of those is whether or not some level of vertical integration would make sense.

But at this time, our horizontal model still has, as Paul mentioned, we believe some continued margin growth opportunities.

So unless that would represent a margin expansion where we could establish a unique advantage, we're happy with the horizontal model.

Okay, and then, Paul, lastly, housekeeping.

The last couple of quarters you've been breaking out in Mexico and Europe, and I believe last quarter is when Mexico broke even.

Can you give us a similar breakdown in terms of how those two performed independently?

Yes, so I think, Kevin, when we last spoke, I think going back we talked about once those things became stabilized, we would stop breaking them out.

And they are stable, so we're not going to give any further color.

As I said in my script, the combined combination is slightly below breakeven as we're ramping some new programs there.

We really want to focus the attention on the performance of the total Company given that those things really have stabilized.

But we should at least interpret that Mexico is breaking or better at this point?

Yes, so as I just said, the sum of the two is slightly less than breakeven.

Okay.

Okay.

Thanks, Kevin.

Your next question comes from Steven Fox of Merrill Lynch.

Please go ahead.

Hi.

First just a clarification.

You mentioned the accounts, just off balance sheet accounts receivables.

Can you go through that again and the impact on the cash flow statement, please?

Sure.

So we were just clarifying that, as I'm sure you know, when you sell accounts receivable, that ends up becoming a contributor to positive free cash flow from operations.

So what we have been doing, given our strong cash balance in order to create a bit of value in the interest line, we've been selling last accounts receivable.

So last quarter we sold $200 million; this quarter we sold $125 million.

And so what that ends up doing is that $75 million de facto becomes a negative cash from operations during the period.

So while we posted $54 million of free cash flow, in theory, you're purely operational at $75 million higher.

Right, okay.

I just wanted to make sure I heard the $75 million correctly.

And then just, Craig, if you could talk a little bit more about the consumer side of the business?

Obviously, the Company's a lot more disciplined in the type of business they're bringing on.

What does that mean in terms of margins and returns on capital for the consumer wins you have?

How would you think of those metrics?

And just to push the button one more time, is there any more color you can give around the consumer wins and what exactly you're doing in consumer over the next few quarters?

Well, I'll answer the last question first, and the answer is no, unfortunately.

Okay, thanks.

But the reality is, Steven, we're approaching this on an overall portfolio basis, and we're sticking with the things that we do well, and what we're trying to encourage you is to look at the performance of the overall Company.

It's going to be an important contributor.

There are some key customers that we feel we can add significant value to, so the overall mix of the business.

And even as consumer grows, it's demonstrating the ability of this operating model to deliver above our targeted returns, and we expect that to continue.

So that's why we're encouraged.

I will say, just as an add-on, in the past we've talked about the different segments having very similar return on capital profile and different margin profiles.

Given the strong performance we've had on the asset management side, we're actually seeing some of these consumer programs have even higher return on capital than what we would have expected since, frankly, we've been able to deploy the solutions we've put in place in the supply chain and drive higher return on capital.

So it's been a pleasant surprise.

Okay, that's helpful.

Just one quick follow-up on that.

So just to be clear, it seems like, based on your other comments about end demand, that the mix is going to be a little less richer when you look at the margins, putting the returns on capital aside for a second.

Does that mean that the 3.5% margin goal for the fourth quarter is harder to achieve, or do you still have confidence in that?

As I just said, I think our near-term objective is to get us to between 3.0% and 3.5%, and I think with a stable demand profile with our current mix, even--and when I say "current mix," I'm obviously taking into account the ramp here that we're going up in Q3--.

Okay.

You know, we see it.

So again, obviously a lot of moving pieces in the end market.

I think that will have more to do with us getting to the higher end of that range, but that's what we're driving towards.

Okay.

Your next question comes from Amit Daryanani of RBC Capital Markets.

Please go ahead.

Thanks.

Good afternoon, guys.

Good afternoon.

Just a quick question on the SG&A line.

How much did FX contribute, possibly, to that line?

Sure.

We had about a $3 million benefit this quarter on FX.

And then just excuse me for a minute.

Is it reasonable to keep thinking of the SG&A line around the low 70s, $70 million to $72 million kind of run rate, or--?

Yes, I think that's, we're managing it in that range, exactly right.

Fair enough.

And then just tell me, I mean, it sounds like you're ramping up quite a few consumer programs in the back half of this year.

Ever (inaudible) listened from a lot of US companies when they ramp programs, there tend to be a lot of inefficiencies and costs associated with that.

Is there any of those costs that's built into your expectation?

And if not, how do you expect a slight step-down?

So, Amit, you're right.

People in the past have talked about ramp-up costs, and that's for us to manage, so the margin profiles we're talking about take into account whatever inefficiencies we may have on a ramp-up.

So are we experiencing some ramp-up inefficiencies?

Yes, absolutely, we are.

And those are within the margins that we posted for second quarter and within our guidance for third.

And just I still wanted to try and find out something.

I think only when someone asked about your cash position and what you intend to do with it, you talked about seeing a couple of compelling options.

Are we talking of some smaller tuck-in acquisitions there, or are we talking about internal investments?

Amit, it's both.

I think that, as Craig mentioned, we keep a close eye on what's going on in the marketplace, and if there are some small tuck-in acquisitions where we think they add to the capabilities we have and something compelling for our customers, we'll pursue those.

And then certainly the internal or the organic investment is somewhat predicated on what we're seeing overall from the top line.

Clearly, we have capacity to be able to grow the Company without any significant investment.

So what we are doing, however, is making investments where we see our ability to further leverage our technical capability on the engineering side, and we'll invest in people where we think, again, we can offer more value to our customers.

Thanks a lot, guys.

Thank you.

Your next question comes from Joe Wittine of Longbow Research.

Please go ahead.

Hi.

My question was around the servers market.

We saw, I guess, a slight sequential decline during the quarter.

Joe, could you speak up a bit?

It was hard to hear you there.

Yeah, sure.

I'm talking about the servers market.

We saw a slight sequential decline during the quarter.

I want to say in the March quarter that there were some customer push-outs that maybe impacted sales, and so I was maybe expecting to see a little bit of a pickup in the June quarter.

So could you comment on if anything occurred in that market that was unexpected, or how should we think about that market going forward?

There were really three factors, Joe.

The first factor was demand.

The second factor was related to program cancellations, and the other one was related to a program delay due to a technical issue with us with the end customer.

Okay, so kind of some additional delays and then, I mean, any additional cancellations predicted going forward?

Well, it's difficult for us to predict that, but obviously, the impact of what happened to us this quarter, frankly.

So it gives you some color on the nature of the challenge that we face.

Okay.

And then just a real quick follow-up.

On the interest expense line, there was a slight jump during the quarter.

I'm wondering what happened there, and again, how we should think about that going forward?

Sure, Joe.

If you go through--once you get a chance, go through the notes--that had more to do just with the mark to market on the swap, and last quarter we actually had a slight benefit to net interest, and this quarter we had a slight hit, given the change in long-term interest rates during the quarter.

I would say, kind of the net cash interest has been relatively stable.

It's more to do just with the accounting right now.

Okay.

Thank you very much.

Thanks, Joe.

Thank you.

Your next question comes from Gus Papageorgiou of Scotia Capital.

Please go ahead.

Thank you.

So last quarter you said that you had $700 million of customer disengagements.

Two questions on that.

One, can you just explain, is that a normal level of disengagements, about 9% of your revenue last year?

And two, you commented that you're seeing some pretty good wins this quarter.

When do you think the momentum in your new wins will offset that $700 million in customer disengagements?

In other words, when does the momentum kind of go positive on that?

So first, on the "normal," whatever that might be in this industry.

You know, clearly, as we've discussed over the last year, we had some disengagements in 2007 that related to the operational issues that we had in 2006.

So those are well behind us, so I would characterize it, that $700 million is abnormally high, is the way I'd characterize it.

I will say that there are programs moving in and out of competitors on an ongoing basis in this industry, so there is a certain level, but that $700 million I'd characterize as being high.

As far as when do we see the impact of new wins offsetting it all and seeing growth, again, we're encouraged by the new wins we're seeing across each segment with existing customers and with new customers.

The bottom line revenue envelope has more to do with how the base business and how those end markets are doing in the short term than it has to do with how our new programs are unfolding.

Again, we're encouraged by the new programs; it's broad-based across each sector.

But at the same time, and I think Craig and I have been relatively consistent here, we're only going to chase programs where we think there's return, and we're staying disciplined along that line.

And if that means more tepid growth, then so be it, on the top line, and we'll focus on driving more on the bottom line.

Great.

Thank you very much.

Thanks, Gus.

(OPERATOR INSTRUCTIONS.) Your next question is a follow-up question from Louis Miscioscia of Cowen.

Please go ahead.

Okay, thanks.

I just wanted to touch on the guidance going forward with the comp space in enterprise.

Would you say that it's more the big macro conditions, or do you think it's more Company-specific issues with products?

When you look at, I guess, at earnings reports from maybe EMC and IBM--public data--they seem to have pretty much hit most of their numbers and are maintaining guidance.

And I think Ericsson and Nortel were sort of the same kind of thing.

So obviously, we all know how ugly the macro environment looks, but then most companies have sort of stuck to that.

I'm just trying to understand a little bit, maybe, what's happening under the covers.

Lou, I think from my perspective, I think it tends to be Company-specific in terms of the fluctuations that we would see and the impacts or what you see in the guidance and our current results here.

Okay, that's helpful.

And from an inventory turns perspective, which obviously seems to be continuously improving, which obviously is great, is there anything else that you're doing other than just managing it better in the sense of using more distribution or more vendor-managed inventory to--any kind of programs maybe you could point to us just to try to understand how you're getting the improvements?

We'd like to point to the elegant simplicity of our network and the ability for us to customize the supply chain for every customer unique to their requirements.

We're employing a very disciplined process around six core processes, which I'd like not to divulge to the open market here, but yes, we're managing it with more discipline.

We're doing it using new investments in information technology to be able to connect on a real-time basis.

And we're doing it with consistency across the world.

Okay.

The last question will be, is this a new IT system, or are you installing a major--?

Because I know that years ago you were running on, I think Mapix or Copix, one of the IBM internal systems from years back, and I think you were deploying a new one.

I'm just curious as to which one you're deploying and how that's going?

Well, we've leveraged, we're leveraging our investment in SAP, and we're investing selectively, then, in software and technology that supports that platform, and that's different types of tools for different types of requirements.

But the bulk of the Company is operating on an SAP platform.

And the objective is to add, I'll say, competencies and capabilities to that to allow us to manage on a real-time basis, from the shop floor all the way up to the command signals.

Okay.

Good luck on the second half.

Thank you very much.

Your next question comes from Kevin Kessel of JPMorgan.

Please go ahead.

Yes, hi there.

In terms of the disengagements, again, that were spoken about earlier, is there any way to give us a sense on a sequential basis how that might have affected the Company, or at least maybe some of the segments?

You know, as we look at the performance of those segments, were any maybe disproportionately affected in a negative way?

No, I don't think so, Kevin.

I think the year-on-year impact is the one that you would be most interested in, but no, not on a sequential basis.

Obviously, the operating performance is underpinning a tremendous improvement in customer satisfaction, so the disengagements would be related to a mutual agreement that we cannot work out the terms and conditions under which we would continue to perform, and that's the basic message.

Right, I understand.

I was just looking at, like, for example, enterprise communications up 2% on a sequential basis.

I was wondering if it would have been more robust had there potentially not been disengagements.

It's not clear if the disengagements are affecting that segments or other segments or--.

Okay, it's probably an important point to come back.

I want to make sure everyone's clear on the $100 million we discussed.

It's a year-on-year impact, so it's not a sequential impact from Q1.

So when we talked in Q1, we were basically saying, "Hey, listen.

The lion's share of disengagement activity is behind us." It obviously is impacting our year-to-year numbers, but our sequential numbers are more just the customers we have and how they're performing in their particular markets.

But as I said, there's always some level of activity of business coming in and out of this industry, and that is a normal part of it, so I won't say that there aren't any customers coming in or out.

But obviously, I'm saying that the lion's share of kind of the events, so to speak, is behind us.

That was an '07 event.

It's impacting the year-to-year numbers but not impacting our sequentials.

Okay.

That helps a lot.

And then the other thing is on the communications and IT weaknesses you guys have mentioned.

Is there any way at all you could help by parsing it out?

Is one different than the other in terms of maybe the magnitude, and at the same time, is this something that's--that you noticed emerging more so, or let's just say getting worse as the quarter progressed?

Or has it been essentially the same throughout, or--?

Well, as Craig mentioned, certainly when we spoke about our expectation for growth 90 days ago, we were seeing a different set of numbers than we're seeing today.

And so over 90 days, things certainly did get worse.

I would be--I think if you look at our server line, I think that's where we're seeing the bulk of the impact going forward, and as Craig mentioned, I characterized that as very customer-specific.

And as you know, we don't get into any particular customer.

But as you are aware, as our customer mix on the server side, some of them are being more successful than others, and we're feeling the impact of that.

And when you say "servers," you're not, definitely not referring at all to the storage segment?

Then that was down one of the most, I think the most in the segment.

No, I'm referring to the server segment.

Very different.

Okay.

Thank you very much.

Okay, thank you.

Your next question is a follow-up question from Jim Suva of Citigroup.

Please go ahead.

Great.

Thanks.

I remember a while ago, you guys had done some closures of some operations like inventory warehousing in Mexico because you had too many of them, and then you closed a few other sites around the world, resulting in a much lower depreciation in the March quarter, say, than what had been a typical run rate.

Are there some more physical assets that you're looking at closing?

And what we're trying to get at is this depreciation line--is it somewhat stable, or is there another chance for it to step down in the future quarters ahead?

So I think it's relatively stable, so you saw it come up a little bit here in second quarter, just based on some of the CapEx we've made in support of the new programs.

Giving full effect to that restructuring, I think we said in the past, over 90% of that charge would be a cash charge.

It will be a very minor impact of asset write-offs.

I think around the low 20s is where I would expect to see depreciation for the coming quarters.

Okay.

Thank you.

Hey, Yvonne, if we can take just one more question, please?

Your last question comes from Sundar Varadarajan of Scotia Capital.

Please go ahead.

Hello.

Thanks.

I'm from Deutsche Bank.

A couple of questions.

One, in response to a question of the stock buyback, you talked about some restrictions that you had.

Are you referring to the bonds that restrict your ability to buy back stock?

And could you kind of just tell us what those restrictions are?

I am referring to the bonds, and again, many of those have to do with cumulative net income since the notes have been issued.

And clearly, in the early years, so back in the mid-2000s, we had some significant write-offs which have impacted our flexibility there.

So basically, the (inaudible) limit your ability to do anything significant?

Yes.

So again, you can, it's laid out pretty clearly.

That's fine.

I can figure that out.

Just as a follow-up on the flip side, you guys are sitting with a significant net cash position.

I know you're talking about reinvesting in the business, but any plans to reduce any debt in the near term?

Especially given the huge negative carrier you're carrying by carrying this debt balance when you have a significantly bigger cash balance?

Yes, so no immediate plans.

I will say that in the short term we will continue to reduce our AR sales, but as far as buyback of the notes, no plans at this time.

All right.

Thank you.

Okay.

Thanks, everyone.

We are available for follow-up calls as well.

I appreciate you joining the call, and we'll talk to you soon.

Thank you.

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

Thank you for participating, and please disconnect your lines.