Flex Ltd (FLEX) 2004 Q3 法說會逐字稿

Welcome to the Flextronics third-quarter earnings release conference call.

All lines will be on a listen-only mode until the question-and-answer session of today's conference call.

The call was also being recorded.

If anyone has any objections you may disconnect at this time.

I would now like to turn the call over to Mr. Michael Marks, CEO of Flextronics.

Ladies and gentlemen, thank you for joining the conference call to discuss the results of Flextronics third-quarter ended December 31, 2003.

On the call with me today are Bob Dykes and Tom Smach.

To help communicate the data in this call you can also view a presentation on the Internet.

Go to the investor section of our Website and select earnings presentation.

You will need to click through the slides so I will give you the slide number I'm referring to.

If you haven't done this before, I would encourage you to do so as we have included a number of valuable trend charts.

Slide 2.

Please note that this conference call contains forward-looking statements within the meaning of the federal securities laws including statements related to trends in our industry and end markets, including changes in customer demand, future growth, increased utilization rates, improved pricing, new customer activities, improved general economic conditions, seasonality, ODM activity, industry capacity, anticipated revenues, earnings leverage, operating margins and results, cash flow, profitability, benefits and level of future restructuring charges, and the expected impact of potential new programs on our anticipated revenues and earnings.

These statements are subject to attendant risks that can cause actual results to differ materially.

Information about these risks is noted in the earnings press release and in our SEC filings.

The term pro forma used throughout today's discussion excludes amortization, restructuring and other charges as set forth in the accompanying slides.

Reconciliations of pro forma results to GAAP results are included in the schedules, attached to the earnings release, and in the investor section of our Website.

Slide 3.

Revenue in the quarter reached a record $4.15 billion, which represents a sequential increase of $649 million or 19 percent over the September quarter and an increase of $301 million or 8 percent over the year ago December quarter.

Pro forma net income for the quarter was $94 million or 17 cents per diluted share which represents a sequential increase of $46 million or 98 percent over the September quarter and an increase of $28 million or 42 percent over the year ago December quarter.

Including after-tax amortization expense of $9 million, previously announced restructuring costs of $49 million and litigation settlement costs of $14 million, net income was $21 million on a GAAP basis or 4 cents per diluted share as compared to a net loss of $6 million or a 1 cent loss per share in the year ago quarter.

Slide 4.

On a sequential pro forma basis gross margin increased 60 basis points to 5.8 percent, SG&A decreased 20 basis points to 2.9 percent of sales, and operating margin increased 70 basis points to 2.8 percent.

The SG&A expense as a percent of sales is at a record low.

And finally, return on invested tangible capital also increased substantially reaching a respectable 21.6 percent in the quarter.

We think it is important to emphasize that this is the most important financial metric in this company as margins can be misleading due to differing product mix and related levels of investment in our various businesses.

From an statement standpoint, these are exactly the improving results we have been expecting as we emerge from the downturn.

On a year-over-year basis, revenues increased 8 percent while pro forma net income increased 42 percent.

On a sequential basis, revenues increased 19 percent while pro forma net income nearly doubled.

And return on invested tangible capital is approaching a more normal level.

This is the operating leverage we expected as a result of our substantial restructuring and of the cost saving initiatives.

Slide 5.

Our balance sheet management has substantially exceeded our most optimistic internal projections.

Inventory turns hit another record at 13 and for the first time exceeded our long-term objective of 12 turns.

Cash cycle days also hit a new record at just 14 days.

As a result, quarter ending cash of $830 million was better than expected.

Our leveraged ratio was 26 percent at quarter end with liquidity in excess of $1.7 billion, which is one of the strongest in our sector after adjusting for near-term maturities.

In a few minutes I will address again a number of these important metrics by looking at some longer-term trends.

Slide 6.

We continue to deliver an industry-leading cash conversion cycle which came in at 14 days for the quarter.

This is another milestone for Flextronics.

In addition to excellent inventory turns, DSO was only 39 days while accounts payable decreased sequentially by two days to 53 days.

Slide 7.

Depreciation and amortization was approximately $86 million and net capital expenditures were approximately $30 million in the quarter.

Pro forma cash flow from operations was $356 million, which excludes approximately $68 million of payments for restructuring and other charges.

Slide 8.

There were to kinds of charges in the quarter.

The first relates to the after-tax restructuring charge of $49.5 million of which relate to the restructuring plan we previously announced.

Some activities are costing us a little less than expected, and in some instances we are cutting a little deeper than expected.

But all in all, I would character our initiatives as pretty much on track.

Our updated estimate of remaining restructuring charges to be incurred -- our updated estimate of remaining restructuring charges to be incurred during the remainder of our current fiscal year is in the $35 million range which approximates 6 cents of GAAP earnings per share.

The second charge relates to the $23 million Beckman Coulter lawsuit settlement.

We recognized an after-tax charge of $14 million in the December quarter relating to this previously discussed matter.

Slide 9.

Production by continent.

The trend that we saw during the downturn, which was a significant move by customers to production in lower-cost countries, is slowing down.

As you can see from the slide, the Americas declined a bit to 13 percent of global production, Europe increased to 42 percent, and Asia decreased to 45 percent.

As the economy and the industry pick up, we believe that the emphasis on proximity will again increase and that these trends will tend to reverse slightly as they did during the December quarter.

Slide 10.

For the current quarter, Sony Ericsson represented approximately 11 percent of revenues and Hewlett Packard represented approximately 13 percent of revenues.

Our top 10 customers accounted for approximately 64 percent of revenues in the quarter.

Before commenting on the quarter, I thought it might be helpful to look at the quarterly trends of six financial metrics over the past 11 quarters beginning with the June, 2001 quarter and ending with the most recent quarter.

I believe that looking at these trends provides a pretty clear picture of what has taken place at Flextronics during the approximately three-year downturn.

Slide 11.

As expected, operating margins trended down from 4 percent in the June, 2001 quarter to a low of 1.6 percent and is now improving as we reached 2.8 percent in the most recent quarter.

It would be normal to expect this development in a severe downturn.

As it is difficult to maintain revenue and profits in this type of environment, we made a very conscious effort to focus on operating metrics we could control.

Slide 12, which is trended SG&A.

In this slide you can see that SG&A as a percent of sales was 3.5 percent as we entered the downturn, and we ended the most recent quarter at 2.9 percent.

But because this percentage varies considerably by quarter due to seasonal variances in sales, it is helpful to look at the last three December quarters.

In 2001 the figure was 3.2 percent, in 2002 it was 3.0 percent, and in the December quarter of 2003 it was a record low of 2.9 percent.

Slide 13.

Even more dramatically the improvements in asset utilization.

We entered the downturn with seven inventory turns and ended with a record 13 turns.

As you can see from this chart, the trend has been pretty steady and was accomplished by literally hundreds of initiatives; from the use of central hubs to the use of Six Sigma approaches on a number of processes.

The results are obvious and important.

Slide 14.

Like inventory turns, the cash conversion cycle has improved beyond our company targets.

We entered the period at 55 days and ended with the most recent quarter at a record low of 14 days.

Slide 15.

The result of course is that pro forma net income, which was $91 million going into this period, bounced back to $94 million in the most recent quarter.

Slide 16, trended ROITC.

And the most important metric, return on invested tangible capital, which was 14.5 percent entering the downturn was a quite robust 21.6 percent in the most recent quarter.

I would like to point out that this figure is a culmination of increasing revenues, decreasing costs, better utilization of current assets, and better use of fixed assets.

The latter characteristic, which is the better use of fixed assets, results from the massive restructuring efforts we have undertaken.

We are now generating more revenues with fewer assets than ever before, and this trend is expected to continue.

Slide 17.

Comments on the quarter.

In the standard EMS business, Asia and Europe continued to do extremely well with some slight negative impacts from the upward revaluation of the euro because many of our sales contracts are in US dollars while a portion of our costs are in Euros.

We continue to maintain and build our industry-leading market share in both Asia and Europe.

North American operations struggled tremendously during the downturn, but they are now slowly improving.

Hopefully we will return to normal margins in this important geography by the end of the year.

While we are making great strides in the manufacturing and logistics part of our business, more meaningful increases in margins and profits will come from other aspects of the business.

Let me take each of these in turn.

On the printed circuitboard front, Multek is improving nicely.

As we had hoped we were profitable for the full December quarter.

While the profits are still less than what we can expect, we think the business will return to more normal leadtimes and profits over the course of the next three or four quarters as the entire industry improves.

Our design services business, which lost money for nine quarters in a row, has also returned to modest profitability.

We continue to expand our offering and work diligently to lower costs.

As a consequence, we believe that both revenue and profits will increase over the next few quarters and years and at much higher margins than in the EMS business.

Network services, which suffered during the decline of the telecom sector, is once again showing some small signs of growth.

As with the other sectors, we continue to lower costs and add customers and this business should also be an important contributor to improving margins over the next year.

The ODM business continues to be a surprising success story, not in terms of it but in terms of when.

The December quarter was the first quarter of significant deliveries and we were profitable at least two quarters ahead of our original plan.

Demand is strong and our designs are fully engaged across -- and our designers are fully engaged across a wide variety of product segments.

We believe that for our next fiscal year, beginning April 1st, revenue should exceed $1 billion and quarterly margins should be around 8 percent as projected by the end of that year.

Now let me address our pipeline which continues to be very robust.

We are continuing to win new business in the hand-held category both from existing and new customers.

This is clearly an area of strength for the Company and with the design activities under way we should remain competitive in this category for years to come.

In addition to last week's Nortel announcement, which I will discuss in more depth in a minute, we are also winning new business from existing customers and from new customers in the telecom datacom infrastructure category.

In fact, the strength of our company in this product category, including dedicated manufacturing complexes in Mexico, Poland, Shanghai and Brazil as well as robust enclosures and rapidly expanding design capabilities, was instrumental in leading to the Nortel and other similar discussions.

As we have stated on numerous occasions during the downturn, we intend to increase this part of our business to offset the dependence we had developed in consumer products.

We are clearly well on our way to accomplishing this important goal.

The product segment in which Flextronics has been traditionally weak, the PC segment, is also finally becoming an area of accomplishment for our company.

For the first time we are building level 6 PCs for a major customer and are in discussions about substantial motherboard production in Eastern Europe for a second important customer.

We hope to build on these successes to add this category of products to our areas of expertise.

Finally, we continue to find opportunities in the industrial, medical and automotive companies which also typically have higher margins.

Overall the pipeline is quite robust.

Slide 18.

As you're all aware by now, last Thursday we announced that we are in discussions with Nortel Networks whereby Flextronics could assume all the systems integration activities, including the final assembly, testing and repair operations along with related activities, including the management of the supply chain and related suppliers for nearly all of Nortel's optical wireless and enterprise businesses.

If successful this program will be a major transformational event for Flextronics as it has the potential to be the largest annual program award in the history of the EMS industry with annual revenues exceeding $2 billion for Flextronics.

Additionally, the discussions contemplate using all of our end to end supply chain services.

We would also have a significant and immediate impact on diversifying our product mix as well as making Flextronics the undisputed leading EMS provider for high end telecom infrastructure products.

These discussions include the utilization of Flextronics' vertical activities, vertical capabilities in providing Nortel with printed circuitboard assembly, fabrication of printed circuitboards and enclosures along with logistics and repair services from existing Flextronics industrial parks on four different continents.

If this transaction successfully closes it would include appropriate downsize protections in the event of future changes in advance.

We should emphasize however, that the factors we are discussing taking over are high competency operations that we believe would have both a long-term strategic value in providing systems integration activities including the final assembly, testing and repair operations to Nortel.

These are not circuitboard assembly and fabrication operations that need to be transitioned to low-cost geographies.

We will provide those types of services from our existing low-cost global network of industrial parts.

We're not at liberty to provide any additional information concerning Nortel discussions at this time.

The transaction is not concluded and is therefore not assumed in the guidance provided at the end of this conference call.

If and when a definitive agreement is signed we will give a more detailed update including revised guidance.

I will say however, that the very fact of Nortel's disclosure of this important discussion is an indication that Flextronics continues to be regarded among our customers as the company most able to offer assistance with large-scale divestitures.

I would like to briefly revisit the other two transactions of this type we have previously concluded.

The first was Ericsson where we took over responsibility in early 2001 for virtually all of their cellphone manufacturing and logistics.

A business that was in a substantial loss position for Ericsson at the time and which represented a significant amount of revenue for Flextronics.

Through hard work on both our part and the part of Sony Ericsson, the owner of this business, the activities have been successfully streamlined and Sony Ericsson is now profitable.

We are making money with that business and have recently been awarded a number of new programs which should ensure that the business grows again this year.

The second previous program was in late 2001 with Xerox which in a single transaction outsourced to Flextronics all of their desktop copier assembly business along with much of their logistics management; a business worth approximately $1 billion in Flextronics revenue.

Again, through a lot of effort at both companies -- that business is now profitable for Flextronics while having generated considerable cash and cost savings to Xerox, a company whose stock is now approximately triple what it was when we completed the transaction.

We obviously are expecting substantial success with Nortel if we complete the transaction, and we think that there will continue to be many more of these partnerships because of the benefits to both parties.

We think that Flextronics will be a clear benefactor of this very important trend.

Slide 19.

Now let me address our outlook.

Clearly we exceeded expectations during the December quarter.

If I have discussed, orders are strong and our pipeline is robust, so we believe it is appropriate to increase guidance at this time.

We think the seasonal decline will be slightly less severe than the March quarter of last year when revenues declined by more than 20 percent and pro forma earnings declined by over 60 percent.

With the improving market conditions we don't think the sequential revenue decline should exceed 15 percent and are expecting sales in a range of $3.4 to $3.6 billion with pro forma EPS in the range of 9 to 11 cents, which is more than a 10 percent increase in revenues in a 20 percent increase in earnings over our prior guidance.

With regard to quarterly estimates in the June, September and December, 2004 quarters, we think we should exceed current First Call consensus estimates by approximately 10 percent for both revenues and pro forma EPS.

I should note again that this guidance is exclusive of any potential transaction with Nortel or any other additional ongoing discussions that could add materially to our outlook.

As those programs are concluded, we will update you on the impact that they could have to revenues and earnings.

Slide 20.

That's about it.

It is the view of the management of Flextronics that next year will be much improved over this year in a number of important ways.

The industry will be nearly finished with major restructurings, excess capacity will be substantially reduced, and demand will be better.

With the expected increase in profits from ODM, logistics, design services and network services combined with a significant amount of new program wins, we believe that Flextronics is well positioned for significant growth in revenue and profits.

In this slide I have shown once again the long-term financial model that we have been discussing for approximately the past two years.

It shows revenue of $21.5 billion, an operating profit of 6 percent and earnings per share of $1.80.

We are making good progress toward this objective and continue to believe that this model is achievable within the next few years.

Slide 21.

There are real risks of operating this business that investors should appreciate and we have laid out some examples here.

Please pay particular attention to this slide in light of current market conditions.

With that, let me turn the conference over to the operator to poll for questions.

Please limit yourself to one question and one follow-up.

Operator.

(OPERATOR INSTRUCTIONS) Alex Blanton.

Ingalls & Snyder.

Congratulations, Michael, on a terrific quarter.

You said you expect to return to normal margins by year end in North America?

That's right.

Actually the business pipeline is quite robust in North America at the moment.

And what's that level in North America?

Well, basically for the EMS business overall we model about 4 percent operating profit.

And when you say year end you're talking about March?

No, I'm talking about next year.

Oh, next year's year end.

No, we won't get those figures in the current quarter.

I just wanted to clear that up.

You know, how quickly we reach that partly depends on how quickly the customer is growing, but right now we have quite a good pipeline, as I indicated, and that should solve most of the issues.

One issue that's come up recently has been the fact that you are now proposing to make a very large asset purchase after saying that -- or after the industry has really said they're not interested in such things any more.

But it strikes me that this is quite a strategic win, is it not?

Doesn't it get you into the high end of the Telecom business in a much bigger way?

Let me address both parts of that.

I don't believe that it ever came out of anybody's mouth at Flextronics to suggest that we were not interested in additional asset acquisitions.

As I pointed out in my remarks, I mean the Ericsson transaction which was huge, the Xerox transaction which was huge -- these have been very successful activities for our company.

We go to do lots more of these over time.

The issue around the industry that I think you're referring to is the concern about taking on facilities that have lots of restructuring charges and so on that the EMS company has to bear.

I think I would point out that times are different on this.

We've all learned a lot of lessons, both us and the customers, and I think that at the appropriate -- as I indicated, the appropriate downside protections now get built-in.

The other thing to understand here as I pointed out in the remarks is these Nortel operations are high competency operations.

They are not PCBA and fabrication enclosure fabrications as has typically been the case and have been moved around.

It's nothing like that.

The asset purchases we're talking about here are primarily related to inventory as asset.

That's a perfectly liquid asset, we buy inventory all the time, certainly happy to buy it from Nortel.

So, whether or not we conclude the Nortel transaction, as you know that it is not concluded yet, we have made a pretty clear statement I think over the last year that we felt we were getting unbalanced in the consumer part of our business despite the fact that we have billions of dollars of business in the Datacom/Telecom arena, and we have been, as we have been doing as a company, and we set certain objectives and we go after then.

We've been pretty successful at meeting those objectives.

In this case not only are we in discussions with Nortel, we're in discussion with a number of companies to increase our penetration into that product category.

Obviously if we complete the Nortel transaction is a huge shift in the balance for us.

But even if we don't improve that we're going to continue to add business in that space.

And the inventory that you're buying; you can reduce that and get some of the money back, can you not?

Absolutely.

You can see from the -- if you look at what we've done on Xerox and Ericsson and, for that matter, lots of customers, you look at running our business at 13 times inventory turns instead of seven, and if you drilled down into those particular programs we took over, there's no question that we've increased the asset utilization for those businesses, and it's one of the big drivers for these things.

I mean, we at Flextronics are typically better at managing assets in the manufacturing business than the OEM customers, and that's one of the reasons these big transactions are win-win.

I mean, everybody wins.

We take asset of the business and we take that cost reduction and pass it on to the customers and everybody wins.

And one final thing on this.

On the downside protection, I'm not asking you to tell us what you're negotiating with Nortel, but there are typical kinds of downside protection.

For example, in the case where Celesta-Lucent planned for a couple of years ago.

When they downsized the plant in Columbus, Lucent picked up the severance cost.

When they closed that plant Lucent bought it back.

Are you thinking of things like that?

It that what you mean by downside protection?

Yes, I can't give you any specifics on the Nortel transaction but I think you've pointed out some examples and Sable Marconi was another example.

These transactions -- and we're in conversations regularly with lots of customers about this.

And I think customers understand that the EMS industry is not taking on, it's not planning to in the future take on factories and live with whatever happens.

I think we've all learned that we're in this stuff together and there have to be appropriate protections.

And that's how we're going negotiate our contracts going forward.

Thank you.

Stephen Fox (ph).

First a question related to the Microcell acquisition.

Are we still on track to acquire that company and, if so, what's the timing look like?

Yes, it's complete.

It's complete and it's in your forecast?

Yes, that's right.

Okay.

But that's no change to revenue outlook; it's more a profitability issue?

No, it's no change to -- I mean, it's just built into the numbers.

We already were manufacturing the phones (ph) for Microcell, so it doesn't change the revenue.

So it's really not an additive to revenue but it probably helps your profit line going forward?

It's a preeminent hand-held product design company.

And as I've mentioned, we are expanding the design activities in that space, so over time that will build the ODM business.

And then just a quick question on Nortel I'm hoping you might be able to answer.

Is there going to be any union issues involved with the facilities you're acquiring?

Can you comment on that yet?

No, I really can't comment on that.

I understand.

Thank you.

Thomas Hopkins.

Bear Stearns.

Nice quarter.

Michael, on this operating margin kind of guidance or maybe your goal anyway, of the North American operations possibly 12 months from now I believe is how you're looking at it, getting back to 4 percent.

Is that right, you're saying a year from now, March of '05?

Yes, something like that.

That's a single point estimate.

Of course it depend on mix and stuff but that's what we would expect, yes.

So the question is, that's probably ahead of -- I mean the big question everyone is trying to figure out right now is what's Flextronics' earning power, what kind of earnings power do the EMS companies have?

And I think more people are looking at ending calendar '05 at kind of a 4 or 5 percent operating margin.

Could you comment on maybe why you think you could get there by early '05 rather than later '05?

Yes.

I mean, look, I'm not giving specific guidance along those lines.

What I'm trying to give everybody a feel for here is what the business looks like.

We have a very, very weak snapshot of what the third and fourth quarter of our next fiscal year looks like.

What I'm trying to suggest -- I mean, this isn't (indiscernible) build models, it's to say that all categories of our business today are improving and we don't -- as I've said many times in conference calls, we don't think that the fundamentals of the EMS business for the successful companies are changed.

That we were in a downturn, things were pretty rough, we had to do a bunch of restructuring, margins went down and all that kind of stuff.

I am continually asked the question when I'm on the road and talking to investors and on these calls about whether or not our margins will get back to an area that we used to see before the downturn?

And my answer has consistently been yes.

And what I'm saying today is all the right things are in place.

So is that three quarters out or six quarters out?

We're not nearly good enough to forecast that far out.

But what I am saying is we've restructured our business in the Americas.

We have the appropriate footprint; we have a very good pipeline.

We believe that as these factories that we have fill up that we will return to normal operating profits.

And I think we generally see that taking place in the next four to six quarters, that kind of trend.

Okay, great.

As a follow-up, the ODM handset business, I believe you talked about again on a full year basis, by the end of the year a billion in revenue and you're still targeting 8 percent operating margin.

And then combining that with the less seasonality in March.

Just wrapping that all up altogether, what's your sense of customer inventories or sell through?

Are you comfortable with what you're seeing, and you're probably getting a closer picture because you're doing it on an ODM basis and not just on an EMS basis.

What do you see out there in terms of inventory?

I think that from what we can see the December quarter was a better quarter for handhelds than it was a year ago in terms of sell through, which is part of the reason that we've said that we don't expect the March decline to be as great as it was a year ago.

We don't have that close a look at the sell through, but that's basically what we see from talking to the customer.

I always remind everybody about this, if we don't build handsets for Nokia, and given that they have 40 percent of the market that's a pretty important indicator and we don't have that.

So we have a -- we have a somewhat valuable snapshot, but not an entirely valuable one.

And then just housekeeping.

Maybe Tom or Bob has a number, but can you tell us if the 3Com outsourcing, I think this was the first quarter of the incremental 3Com outsourcing hitting, if it added any to revenue in December and a rough estimate?

We don't break down the numbers for individual customers unless they're 10 percent customers, so we can't give you anymore color on that.

Okay, thanks.

Lou Miscioscia.

Lehman Brothers.

Michael, if you can go into the areas that you started to talk about for the PC business that you're doing out in China where I think you're being able to offer a complete end to end vertical model almost completely building a PC and shipping it out right to a customer, obviously if you can mention that customer and maybe how big that is?

Yes, I really can't.

I mean, you guys are asking a lot of specific questions which you know that I can't answer.

Here's what I'll tell you, level 6 PCs which I mentioned, that is where you build the motherboard, you put it in an enclosure, it's got a power supply, it's got all the connection, may or may not have a disk drive and what the OEM ads to that is the particular processor, the particular memory configuration and sometimes the disk drive.

So it's a standard industry term, level 6 PCs.

We have not been seen historically as a provider of that service which we now are.

That's a nice business for us and, as I indicated, we're also adding some motherboard business now in Eastern Europe.

We are not an ODM in this category, so we are not designing our own products.

We have not made any decisions to enter that business on an ODM basis, but it's certainly not out of the realm of possibility.

And we're very pleased to have some reasonable revenue coming now in this category.

It's a very big segment, as you know; it's probably a $50 billion market segment.

It's not one we played in historically.

And so we're delighted to be making some inroads there.

My follow-up is that is looks like your European business actually did pretty well as a percent of total.

Could you maybe go in and talk a little bit about that?

I know that a couple of quarters ago you started ramping up a big cellphone win over there.

Was that it or was it a couple of other things too?

Yes, it's pretty much across the board.

We're a very dominant player in Europe.

I think we're actually going to try and do some marketshare numbers.

Marketshare isn't something that we track.

But we have operations, of course very strong operations, in Eastern Europe.

Hungary continues to be a stunning performer.

I think we have 13,000 or 14,000 employees; they're now one of the largest employers in Hungary.

Our Poland infrastructure site is ramping up nicely, but our work in Sweden, Germany, France, Ireland are also -- and other facilities that we have in the more expensive locations, Western Europe, are also improving nicely.

Lots of -- I mean cellphone stuff is good.

Consumer products stuff is good.

But we have a much more robust product -- split of customers, distribution of customers in Europe than we have in North America and Asia.

We have Avionics, we have a bunch of industrial controls, our Altobe (ph) in Austria, factories doing all kinds of work for high-end audiovisual, for military and so on.

So we have a very broad customer base in Europe and we just continue to take market share there and think we're going to continue to take marketshare there.

Nice to see a breakout quarter.

Joseph Wolf.

Banc of America.

Two questions.

Let me start with the ODM.

You talked about being profitable already in the December quarter and I guess raising expectations.

I think it was a $500 million number in the past and now it's $1 billion.

Can you give us a little bit more color on where that is and, I guess, in that billion dollars what kind of mix you expect besides the handset start?

Most of the ODM business is in the handset category.

There are a lot of categories around handsets.

I mean, there's regular cell phones, there's smart cell phones, there's PDAs, there are smart PDAs, there are a fair number of derivatives, some global positioning devices and so on, so it's a pretty robust category.

And that is primarily the category that will generate the revenue.

We are doing some residential gateways and some stuff in the data communications area and some other things.

We showed -- at our conference we showed some flat-panel TV displays.

There's a number of categories that we're working on, but truly in the next year the great majority, I'd say 90 percent plus, of our revenue in that category is going to be built around the handset segment where we're doing very well, have lots of programs under development, great receptivity from the customers.

And so, that's going to continue to grow.

If you look at our long-term plan, we're talking about a $4 billion business which is what we're striving to so $1 billion is a good start, but we've got much more to do there.

And we're going to do that by moving into some other product segments.

But for right now we're real busy in the hand-held segment and that'll be primarily the revenue source.

What was the switch during the quarter where you were talking late in December that you might not be profitable based on demand and the actual turn of events where you became profitable at a certain revenue run rate?

I think that we actually at the analyst meeting we said we had hoped to be profitable in the December quarter and we were quite certain we would be profitable in the March quarter and we just managed to ship more stuff than we had anticipated and it worked out fine.

We're very modestly profitable; this is essentially breakeven in the December quarter.

We made a few bucks, but it was not a margin contributor although it certainly improved the drag on margins from the losses.

But going forward we hope to start making some money in this business.

And as I indicated, hopefully another four or five quarters be at about an 8 percent operating profit which will drive the margins of the Company up no question.

One quick follow-on.

There were some great charts on seasonality and the trends in the businesses.

Should we be looking at each quarter based on the seasonality in your business before Nortel as where you should be showing signs of improvement as you showed on the SG&A side and the turns side, or are you at certain levels in turns and SG&A that will be maintained no matter what the mix is?

I think that, no, I mean mix certainly has an impact.

Again, we're not going to model anything around Nortel because we're not far enough along to do it.

So I think that with the trends you can see what the business looks like today.

But clearly -- because independent of Nortel we are intending to add to our datacom and telecom sectors.

And those businesses do have different characteristics than the consumer business.

They tend to have lower inventory turns so as we grow that business inventory turns will drop a little bit.

They tend to have higher margins; they tend to be more complex, more value add.

So clearly mix has an impact on our numbers.

At the moment, since we're not modeling in any major changes, I think you can use the seasonal trends that we've shown you to model the business assuming some increases in revenue.

And when we have a meaningful mix change we'll help you model that but we're not there yet.

Great, thank you.

Michael Morris.

Smith Barney City group.

Michael, I want to talk generally about the Nortel announcement without getting into the specifics.

I'm looking at your press release that talks about assuming the system integration and related activities, but there's a line in there that says "including management of the supply chain and related suppliers for the locations".

To me that's the transformational part potentially, and I just wondered if you could expand on what those lines mean in terms of the bill of material control and the vendor list control and maybe compare and contrast that which is anticipated by this agreement with the system integration that's currently going on in EMS?

Yes, if you'll bear with me and let me answer this question on a generic basis as opposed to with Nortel specifically because I just cannot say more about Nortel today.

But you've picked up on something that's important and we have talked about it in the past.

And I think that it's important for the investors on this call to understand that there is a difference in the EMS companies and we have a very specific strategy around this, it's not by accident.

We're in the printed circuitboard business, we're in the backplane (ph) business, we're in the enclosure manufacturing business with plastics and sheet metal, we're in the logistics business.

And we are building these businesses as vertical capabilities to allow us to be in a position to capture more of the value in the manufacturing chain.

And we are having a lot of success at convincing customers that this is real.

That these initiatives and putting these things together in our industrial parks and so on, are initiatives that will save the customers money if they will let us utilize our vertical integration capabilities.

And that's increasingly what they're allowing us to do.

And it's really where we believe that Flextronics has a long-term competitive advantage.

We are much stronger in this vertical chain, including logistics which is the management of where the stuff comes from and where it gets to and what stuff goes through distribution centers and what stuff ships directly from factories to the -- into the end customer site.

And in these bigger partnerships, when we get talking about bigger partnerships whether it's with Sony Ericsson or whether it's with Xerox or with Hewlett-Packard or with Motorola or Seimens or any of the major customers we have, we're all looking to evolve the business.

I mean everybody understands that the EMS companies have come through a party rough period as have the OEMs.

And these downturns have led everybody to think differently about their business.

It's led up to do a lot of restructuring and take factories out of places that we didn't need them long-term and led us to make bigger investments in low-cost countries.

But it's also led us to make more investments in these vertical chains and sort of higher levels of value.

From the OEM perspective, as I pointed out, when Ericsson outsourced all of their business to us we also took over a majority of their logistics management, even from ODM products that they have many of those come through our hubs and we're increasingly doing Reverse Logistics, managing the repair chains and so on.

And they've been very successful as a company.

Xerox has been very successful as a company, and we think that whether it's Nortel or others here, these large customers -- and I have to be honest, a lot of small customers see this as well -- see that giving us more control of that supply chain and utilizing our strength allows us to make more money, but it also allows them to have higher inventory turns, shorter management cycles.

It allows them to reduce their own cost of managing the supply chains and all that.

And these are characteristics that Flextronics is driving for in all the major transactions that we are discussions about, and Nortel is certainly one of them.

It's a bit of a generic answer but it is working what we're trying to do.

That's very helpful.

And Michael, my follow-up is just pertaining to the vertical activities.

I mean in a perfect world would all of your internal output be consumed internally, or do you need to be a viable merchant of those products to sort of retain your chops, if you will, to really stay on the edge competitively and operationally?

How do you look at that?

Yes, I think that we wouldn't want to consume 100 percent internally because you want to drive technology roadmaps in each of these businesses for example, and we may not be using a particular technology for example in sheet metal stamping, we may not have an internal need for something that's changing out there in the world, and if we don't have a wide variety of customers we wouldn't be able to drive those technologies.

We do have an advantage.

As I've said in the past, our vertical integration is not like vertical integration of old where a company is just its own customer because our customers, when they allow us to use our vertical capabilities, they still approve them.

In other words, they don't say fine, use whatever you want.

What's happening as we're getting more companies like Sony Ericsson, Xerox, Nortel and others to be interested in us, it they're increasingly looking at the vertical capabilities and seeing how good we are at it at a bunch of these?

And one of the reasons we're so good at it is because we have other customers and we drive that.

And so they look at it and they say gee, we're really world-class in these various categories.

It certainly makes sense to allow us to use them and reduce the logistics cost and so on.

So that's more or less the way it's working.

I think it would be impractical to ever imagine a situation where we could use 100 percent.

I just think that's a nonissue.

Thanks very much.

Steve Savas.

Goldman Sachs.

Just one question, not specifically related to the Nortel deal, but something on investors minds is if that deal goes through given that you're talking about a bunch of other things in the pipeline, some just organic natural wins, presumably some of them might also be OEM divestitures.

Looking at the balance sheet, there's the potential that you might need some additional cash.

Just wondering if you can give some guidelines or principles that you might think about if that need should arise debt versus equity versus convert or how you might think about that?

It's a perfectly legitimate question.

I have, again, a fairly generic answer.

We don't have plans to raise additional capital today.

We're delighted with the cash management that we've got.

As I indicated in my remarks, it's a little better than we had expected or I guess in some areas it's a lot better than we expected.

We have access to the capital markets in each of the kinds of instruments that you just mentioned.

Since we don't have any plans what we have typically done when we felt that it was appropriate to raise additional capital and the time to do that is when we have faster growth and we can manage with the capital internally is to take a look at what those markets are like at the time and make the appropriate decision then.

As a CEO I personally favor equity in general more than I favor debt, particularly we just went through a period, got reminded about what can happen to capital markets.

But we do have a portfolio of management terms of our various financial instruments and we'll just see what the appropriate thing is at the time.

But again, I would stress that we don't have any plans at the moment to raise additional capital.

Fair enough.

And then kind of a quickie question on -- obviously you had some really strong operating and balance sheet metrics somewhat aided by seasonality.

What do you see as kind of sustainability?

You guys have just -- it kept improving on targets that you thought you had set and you've consistently done better than that.

Can they get better?

Are we seeing kind of a ceiling that we're hitting on things like cash cycle inventory turns?

No, I actually think inventory turns could still get a little bit better, but clearly we're getting (indiscernible).

We're not going to do 25 inventory turns.

And so, but as I indicated, we have a lot of activities in this company to manage inventory well, and it was kind of a personal -- this was a personal issue with me.

Four or five years ago actually I said we just need to be the best in the industry in turning inventory.

And our operating guys have just done a fabulous job really of taking charge of that.

We set a long-term objective of 12 times, we've hit 13.

With the existing mix we can probably get that to be a bit better yet, maybe 14 or 15.

As we add to the datacom and telecom part of the business that will tend to bring it down a little bit.

So I think you're looking at about the proper range, maybe a little bit worse sometimes, a little bit better other times, that's probably about the right range.

DSO is in good shape and vendor payments we brought down a couple of days, we may want to bring that down a couple more days.

We want to make sure that we have very good customer relationships.

So I don't think we're going to do much better than 14 days, but I think in this range, depending on mix and so on and what happens out there in the industry, I think we can continue to manage in this sort of 12 to 18 days which I just think is stunningly good for our business.

And as long as we can stay in that range we'll be worried more about driving margins higher than we will be about dramatic improvements in the balance sheet.

Sure, that's great, thank you.

Scott Craig.

Morgan Stanley.

Michael, can you quickly provide a little bit more flavor around the printed circuitboard fabrication business?

A number of your competitors in the industry have been talking about pretty good growth in the fourth-quarter -- in this December quarter, sorry, and still seeing good growth going forward in what's typically a weaker March quarter?

And can you talk around the probability a little bit?

Was it just on the margin being profitable or were we a few million dollars profitable in the operating line?

Thanks.

Our business is -- the circuitboard business for us is a function of two types of boards.

One is a fair amount of production in the high-volume consumer space, and that drops in the March quarter as we expect it to do.

And then a very high-end, very good space which is in Germany and that part of our business while robust in demand is being hurt.

That's the one part of our business that's being hurt from a profitability standpoint because it's in Germany and the Euro/dollar exchange rate has gone against us.

So what that looks like at Flextronics, and you should model this differently for different companies for the reasons that I just indicated, is we're a few million dollars profitable, I mean December, which is not great.

I mean it's obviously way better than the kinds of losses we've had in the past, but it's modest profitability.

And in the March quarter we expect that to be down a little bit and that's primarily a utilization issue around the consumer stuff.

Over the next year -- but again, better than March a year ago.

So that business for us is one that, I mean it's clearly out of trouble, it's generating cash.

Our capabilities are extremely good.

We ran it at capacity in the handset space in the December quarter.

We expect that to improve over the next year to get to more like normal, but I think we still -- I think we still have some things to see here.

I mean everybody got pretty excited in the December quarter and we've had a pretty good quarter in a lot of ways.

But I think we want to see more to predict normal profitability.

But it will continue to be profitable for us in the next year, and we'll just have to see some more cards.

And just one quick follow-up, Michael.

In the individual end market segments, you beat our numbers in every segment except in the consumer group which was flat quarter-on-quarter, a little surprise there.

Can you provide some details there?

And that's it, thanks.

Yes.

I think that that's probably a video game program where prices have declined a fair amount, not a problem for us but revenue is down in that segment for us, even though the units have been quite good.

And that's probably the major play there.

Last year the December quarter particularly was very strong in that category so -- and the rest is pretty straightforward.

Okay, thanks.

Todd Coupland.

CIBC World Markets.

Just talk a little bit about the pipeline for asset deals.

You said it's picked up a bit.

Can you just give us a flavor for the size, number of deals, and how competitive is it, and are you seeing any Asian players step up on that as well?

Thanks.

So there's a bunch of things in there.

I will address these and this will be my final question.

We'll have the usual follow-up after the call.

First of all, I didn't say that asset deals were improving, I just said that we're working on a number of them, which has always been the case now for years.

I mean, and as I indicated in my prepared remarks, we are known for being able to do this and so we are constantly in discussions with companies.

We also, as I've said previously, these things take a very long time and we've been having discussions with Nortel along with other customers for a long time.

It's sort of a general part of the relationships we have with customers, always be talking about what else is possible out there.

It is my belief that there will be more large transactions.

It is my belief that the industry is fundamentally changing permanently to where there are going to be more and more of these divestitures, companies' products are becoming more -- more commodity like in general.

It requires much more effort on the customers' parts to differentiate their offering and they're working to do that by putting more of their dollars into design activities and less dollars into the manufacturing.

So I actually think the long-term trend in the EMS business toward these kind of transactions continues to be favorable and will for many years to come.

With respect to Asian entrants, Foxconn, you may know, took over a facility from Motorola.

There are occasionally -- there have occasionally been Asian company asset deals but there have not been any multiple facility, multiple continent logistics kinds of things that we do.

We think we have very little competition in that space.

When you ask about what's pricing like.

We're not doing these deals if we make reasonable returns.

Forget that.

We get asked about it a lot; we are not trying to drive revenue per se.

We are a very good partner.

We run our business very well and very tightly.

And we're not entering into any kinds of discussions that don't have fair returns on capital to our company.

And so there's always people out there willing to do whatever they're willing to do, but clearly you've seen over the years we've been able to do these transactions, we're making fair returns on the deals we've done and we'll do more as we can.

And I think there will be more so I think we're in pretty good shape there.

So thank you, everybody, for tuning in.

We're obviously very pleased about the quarter.

We think that we fundamentally believe, as I think most investors do, that downturns happen and when you go through a downturn the good companies come out of those downturns in better shape than they went in.

I think that the -- we tried to give you a flavor for what we think that looks like at Flextronics.

We do think we're in quite a bit better shape from an operating metrics standpoint than we entered into the downturn.

And now that we're seeing business improve we think that we can continue to improve margins going forward and get this to be the best business from an earnings standpoint in the industry.

So we'll talk to you mid quarter, thanks.

Bye.