Flex Ltd. (FLEX) Q2 2021 Earnings Call Transcript

Good afternoon and welcome to the Flex Second Quarter Fiscal Year 2021 Earnings Conference Call. Today’s call is being recorded and all lines have been placed on mute to prevent any background noise. After the speakers’ remarks, there will be a question-and-answer session. At this time, for opening remarks, I would like to turn the call over to Mr. David Rubin, Flex’s Vice President of Investor Relations. Sir, you may begin.

Thank you, Rob. Welcome to Flex’s second quarter fiscal 2021 conference call. Joining me today is our Chief Executive Officer, Revathi Advaithi; and our Chief Financial Officer, Paul Lundstrom. This call is being webcast and recorded, and if you’ve not already received the slides for today’s presentation, they are available on the Investor Relations section of our flex.com website. As a reminder, today’s call contains forward-looking statements, which are based on current expectations and assumptions that are subject to risks and uncertainties, including the impact of the COVID-19 pandemic, and actual events or results could differ materially. Also, such information is subject to change and we undertake no obligation to update these forward-looking statements. For a full discussion of the risks and uncertainties, please see our most recent filings with the SEC. Lastly, this call references non-GAAP financial measures for the current period. GAAP reconciliations can be found in the appendix slide of today’s presentation, as well as in the Investor Relations section of our website. With that, I’d like to turn the call over to our CEO. Revathi?

Thank you, David. Good afternoon and thank you for joining us today. I hope you and your families remain well through these challenging times. I want to start off by thanking all of my Flex colleagues for their commitment and perseverance through these unprecedented times. I believe it is often in these toughest situations that we find what we’re truly made of. And these past months are an example of that. On behalf of the entire leadership team, our sincere thanks to the global Flex family for all that you have accomplished; our strong fiscal Q2 results are a testament to your efforts. Now let's turn to slide 3. Let me start off with a few highlights in our financial metrics for the quarter: our revenue was over $5.9 billion, up 16% sequentially, and down 1.7% year-over-year. Our adjusted operating margin was strong at 4.1%. This includes continued COVID-19 related costs, as well as some lingering demand weakness, partially offset by austerity measures that ended with Q2. Our adjusted EPS was $0.36, up from $0.31 in Q2 of last year. Our adjusted free cash flow came in at $326 million. I will point out that this is the strongest quarterly adjusted free cash flow in 15 quarters and maintains our objective of 80% adjusted free cash flow conversion. Moving on to the next slide, we executed really well in fiscal Q2, taking advantage of improved market dynamics that resulted in sequential improvements in all our end markets. Our Reliability segment grew both sequentially and year-over-year. These results were driven by a continuation of the strength we have seen in Health Solutions, as well as a stronger than anticipated rebound in automotive after a very difficult Q1. Despite continued macro challenges in Automotive, we are running new businesses and expanding our presence in key long-term markets such as autonomous and electrification. For example, this quarter, we launched a collaborative partnership with LeddarTech to combine their sensing platform, and our automotive sensor design and manufacturing expertise to deliver an optimized solution to customers working on all levels of autonomy. Additionally, within our renewables group, our Nextracker team had some strong wins with its market leading solution in Australia’s largest solar farm in Queensland, and also the Mohammed Bin Rashid Solar Park, which happens to be the largest solar park in the Middle East. In fact, our Reliability segment revenue and profit dollars were both up on a year-over-year basis for the first half of fiscal 2021. Even with the fiscal Q1 shutdowns and a slower recovery in automotive, these results come from consistent, disciplined execution, as well as longer term purposeful diversification. Our Agility segment improved revenue sequentially from work and learn from home trends, as well as general improvement in consumer spending that remains down year-over-year due to a much slower recovery in emerging markets. We continue to stay disciplined and manage costs and mix, which help the Agility segment improve profit margin year-over-year and sequentially. In the Agility segment, we remain focused on the right business aligned to our strategy, regardless of whether growth takes a little longer in this environment. Looking at these results from a higher level, I would say our strategy is working. As we outlined at our investor day back in March, our strategies to migrate towards higher value opportunities. We have re-engineered the structural foundation and delivery platforms for the company; we approach our targeted markets with six diversified businesses, each with unique vertical offerings and supported by a resilient global supply chain and unified technology excellence. This market strategy enables us to provide domain-specific, sustainable value and drive profitable growth across each of the markets we serve. We are underway now on a multi-year transformation journey. COVID-19 has presented real challenges, as well as opportunities. But by remaining steadfast in our strategic approach, I am confident that we'll continue to overcome these challenges, as well as find new creative opportunities that play to our strengths. Our strategy is about changing the way we operate, the value we create and internally building the right growth mindset. This approach is how we move away from the historical fits and starts of the legacy EMF business. Following the strategy, I believe you'll find in the years to come that our company will look much more like diversified manufacturing businesses than traditional EMF. This will happen by changing our mix within segments and by making the right technology and portfolio investments, along with our four strategic pillars of market, technology, operations, and systems. Our focus on people and culture, our new values and purpose, have been invaluable guides, as we have navigated the pandemic and are foundational to the culture we are building. We are fostering a contemporary, high-performing, inclusive, and diverse workplace, and we're ensuring we have the right talent to implement and carry out our strategy. As you've seen over the last few years, we've made it a priority to increase our domain expertise across the company. As you all know, most recently, Chris Collier stepped down as our CFO. Chris is staying on as a senior advisor to work with me on some critical projects we have going on as part of our transformation. Chris has been a fantastic partner for me in the last year and a half, both educating me and supporting me in this transformation plan. I want to take this opportunity to thank Chris for his incredible service to this company and his hard work in helping with a planned and disciplined CFO transition. With that, I'm excited to introduce our new CFO, Paul Lundstrom. Paul brings very strong financial experience in manufacturing and industrial sectors, as well as international markets to help execute our strategy. He joined us just about two months ago and hit the ground running; I’m sure you all think he is an expert on Flex by now, so I will have him handle all of today’s Q&A. Now I'll turn the call over to Paul, who will walk you through our results in more detail. I'll then come back at the end to share some closing remarks. Paul?

All right. I don’t remember that part being in the script, but thank you, Revathi. So, if you could please turn to slide 6. Flex revenue was just under $6 billion a quarter, and that was up 16% quarter-over-quarter, and down 2% year-over-year, although we are pleased that both the Agility and Reliability segments experienced sequential growth. COVID-19 related demand pressures still remain uncertain in end markets, we’ll spend more time detailing those factors later in the call. Despite a roughly $100 million revenue headwind, adjusted operating income of $247 million was up $20 million compared to last year, showing that our mix, productivity, and austerity measures were tailwinds in the quarter and more than offset COVID-19 related costs. As a result, our adjusted net income was $180 million, and our adjusted earnings per share was $0.36, up 16% year-over-year. Second quarter GAAP net income of $113 million was lower than our adjusted net income, due in part to $24 million of stock-based compensation and $14 million in net intangible amortization. In addition, net restructuring and other charges were roughly $30 million. As we move through the balance of fiscal 2021, we will proceed with remaining restructuring activities in a measured and prudent way to minimize impacts to our operations. We still expect approximately $100 million of costs between Q2 and Q4. Please turn to slide 7. Our second quarter adjusted gross profit was $423 million, and despite more than $100 million of top line pressure, it was up year-over-year with margin rates up 30 basis points to 7.1%. Since March, our teams have navigated the dynamic demand and production environment exceptionally well, and we are pleased that our global sites operated with minimal production disruptions in the quarter. We did, however, have cost headwinds related to the ongoing pandemic; continued spending on enhanced health and safety, incremental supply chain costs, and the under absorption of labor and overhead were present in the quarter, but declined meaningfully from what we experienced in Q1. Maybe a comment or two here on G&A, adjusted SGA expense decreased 5% year-over-year to $177 million, which was down 10 basis points to 3% of sales. Over the last year, the company has worked diligently to cut expenses and fundamentally reposition the cost structure. Those actions should provide meaningful earnings leverage as we execute our long-term growth strategy and as volumes return. So if you add all up, adjusted operating income of $247 million was up 9% in the quarter, with a year-on-year margin rate improvement of 40 basis points to a new high of 4.1%. On slide 8. Flex Reliability revenue was $2.7 billion in the quarter and snapped back from a soft Q1. Overall, reliability was up 19% compared to the first quarter and up 6% year-over-year. The main driver of sequential growth for the reliability segment came from the recovery in our automotive business, following the prolonged OEM plant closures earlier this year. Although the Q2 rebound was strong compared to Q1, automotive revenue was still down high single digits year-on-year. So, while much better than what we saw in Q1, at least in the near term, we expect automotive revenue to run below pre-COVID levels. Our solutions remain strong, with sales up more than 30% year-over-year, driven by continued demand for critical care products and strength in existing diagnostics and patient monitoring programs. Lastly, Industrial was up low single digits compared to the prior year with strong growth in renewables and power solutions, partially offset by continued pressure in capital equipment. Turning to profitability, Flex Reliability Solutions generated $179 million of adjusted operating profit, and a 6.7% adjusted operating margin. We had some pressure in automotive, given the softer volumes, but it was a marked improvement from Q1, resulting in nice growth in both profit dollars and margin rate for overall reliability. Flex Agility revenue of $3.3 billion was up 14% quarter-over-quarter, and down 7% year-over-year. Within Agility, particularly against the backdrop, CEC and Lifestyle were solid, both with revenue up low single digits year-over-year. CEC benefited from critical infrastructure demand from our networking and cloud customers, though enterprise IT spending has not recovered in the current environment. As I mentioned, lifestyle revenue was up year-on-year and saw a meaningful recovery compared to Q1, as consumer spending picked up in areas like floor care, small appliances, and high-end audio solutions. Lastly, consumer devices were up sequentially, but on a year-on-year basis, down roughly 30%, primarily driven by continued soft demand in various emerging markets. Turning to profitability, Flex Agility Solutions generated $88 million of adjusted operating profit and a 2.7% adjusted operating margin. Both CEC and Lifestyle performed well from better sequential volumes, but as I mentioned, we did have some headwinds in consumer devices. Turning to slide nine on cash flow. For the quarter, stronger earnings and favorable working capital drove sequential growth in both operating cash flow; adjusted free cash flow of $326 million benefited from disciplined CapEx. We remain fundamentally structured to achieve 80% or greater adjusted free cash flow conversion in the coming quarters. We closed Q2 with inventory of $3.6 billion, which was up 4% sequentially, but down 3% year-over-year and resulted in inventory turns of 6.3 times, that's up a full turn from a quarter ago. At this point, many of our supplier constraints and component shortages have abated, but we continue to monitor this landscape closely. Our net capital expenditures for the quarter totaled $69 million. Our prior year’s investments are enabling us to support our current technologies, products, and programs, but we certainly won't hesitate to invest in compelling areas of growth as those opportunities arise. We will continue to manage cutbacks to be at or below depreciation in the near term, while simultaneously funding those core areas of growth. Now turning to our share repurchase program, I want to give you an update on our thinking in terms of returning capital to shareholders. Our repurchase program has been on pause since March, as we focus instead on preserving our strong cash and liquidity positions during the most volatile periods of the ongoing pandemic, but we are still faced with an elevated degree of uncertainty in some parts of our business. We believe that visibility has improved enough to resume closer to normal operations, such as rolling back austerity measures and also reinstating share buybacks. Discipline and prudent buybacks are a key feature of our capital allocation strategy, and we will proceed in a measured, thoughtful way as we get back into the market here in Q3 and in Q4. On slide 10. We continue to operate with a balanced and flexible capital structure that has staggered debt maturities with nothing meaningful due in the near term and no maturities that exceed our expected annual adjusted free cash flow. During the quarter, we took advantage of favorable market conditions, and issued $575 million of long-term debt in August, which extended our weighted average maturity to almost six years while being leveraged neutral. We used some of these proceeds to further work down the outstanding balance of our ABS program, which at the end of Q2 was negligible. The proceeds were also used to pay off $433 million of term loans due in 2022, which had the effect of extending maturity as I mentioned before. Our cash and liquidity position remains strong and is further supported by our $1.75 billion undrawn revolver. In short, our flexible capital structure gives us confidence in our ability to meet our current and future business needs while simultaneously and importantly remaining investment grade rated. On slide 11, maybe a couple of thoughts on the upcoming quarter. But before we get into the guidance, just a reminder that although we've gained a tremendous amount of experience and knowledge since the beginning of this pandemic, we're still operating in a very dynamic and highly fluid environment. Our first priority, of course, is the safety of our workforce, and we're keeping a close eye on our sites around the world as local conditions change in real-time; our guidance is therefore based on our current visibility and information that is available today, unexpected COVID-19 related impacts to our business. So let me start with our Flex Agility Solution segment. I would love to say Agility reupped mid-single digits, but frankly, given the environment, we're going to arrange it a little wider than that, and call it somewhere between low and high single-digit growth quarter-over-quarter. Both our lifestyle and CEC businesses should be roughly flat sequentially in Q3. We expect to see sustained demand for products that support remote work and school and critical infrastructure demand should persist, along with positioning ahead of 5G ramps. Lastly, Consumer Device will continue to rebound quarter-over-quarter, as mobile demand and production recover. Turning to our Flex Reliability Solutions segment, we expect revenue to be up low to mid single digits quarter-over-quarter. Third quarter automotive revenue will be up low to mid single digits sequentially, but as I mentioned before, remain below pre-COVID levels. All major geographies are recovering, though our assumption remains that overall global automotive production will be down high teens for the year. Although we continue to see robust year-on-year growth in Health Solutions, compared to Q2, Health Solutions will be down low to mid single digits sequentially as we move into Q3. In the back half of the year, we expect to see a roll-off of demand for certain critical care products, such as ventilators. Our expectation is that elective procedure demand will recover to offset the slowdown in COVID-related products, though it appears this recovery is still in its very early stages. Lastly, our industrial business will be up low to mid single digits quarter-over-quarter, driven by renewable energy and core industrial, both of which are offset by a customer-specific headwind within power solutions. Now on slide 12, given the sum of all those outlooks we would expect our quarterly enterprise revenue to be in the range of $6 billion to $6.4 billion. Our adjusted operating income is expected to be in the range of $235 million to $275 million with operating margin expansion. COVID-19 costs continue to remain a headwind, and as a reminder, benefits from austerity measures will also be rolling off in the third quarter as we restore full compensation and reinstate our incentive plan for affected employees, among other actions. Interest in other is estimated to be between $40 million and $45 million. We expect a tax rate in the quarter of between 10% and 15%, and overall adjusted EPS guidance should be in a range of $0.34 to $0.40 per share based on a weighted average shares outstanding of $504 million. Our adjusted EPS guidance excludes the impact of stock-based compensation, intangible amortization and the impacts from restructuring and other charges; as a result, we expect a GAAP earnings per share in the range of $0.21 to $0.27. With that, I'll turn it back over to Revathi.

Thanks, Paul. So as you can see our fiscal Q2 execution was really strong and you can also see from Paul's comments that we expect that improvement to continue into fiscal Q3. So as I think about the second half of the fiscal year, there are a few elements I would like to highlight. Firstly in Health Solutions, COVID-related episodic and acute care product demand may likely roll off in late Q3; we fully expect elective related medical products to return. Concerns about increasing COVID levels in multiple geographies appear to be slowing recovery. So we don't expect to see the electromedical market rebound until early in our next fiscal year. In the other end markets, I also anticipate some catch-up demand could begin to normalize. As I think about Q4, I would anticipate trends roughly in line with typical seasonal declines. While I would certainly like to provide as much visibility as we can given the continued uncertainty from the pandemic and the geopolitical concerns, we will refrain from providing complete Q4 or full year fiscal 2021 guidance at this time. Now I want to talk about our solar space. There's been a lot of excitement lately around this space. I will say that it's been great to see the opportunity in the solar market being recognized, which is validating our investments and building out our Nextracker business. I've also said many times that it is our job to continuously evaluate our portfolio positioning, improving the mix, finding and investing in great opportunities, and taking a disciplined approach to finding the right way to monetize each of these businesses to maximize long-term shareholder value. I’ll finish by saying, I remain extremely confident that we have the right strategy to reach our longer-term goals, and that we will emerge from this global crisis stronger and better positioned for the future. Again, I want to say thank you to all our employees for their ongoing commitment to our customers for their trust and partnership, and to our shareholders for your continued support.

Thank you. Your first question comes from Michael Murray from RBC Capital Markets. Your line is open.

Hi, this is Michael Murray on for Robert Mueller. So you touched on this in your comments briefly. A competitor of Nextracker recently went public and is being valued very highly right now. So with the overall run-up with solar companies, it's pretty apparent that the value isn't being properly reflected in Flex's share price. So, first, could you give us a sense of the size and margin profile of Nextracker? And then, just a quick follow up? Are you considering steps to unlock value of this either, with further financial disclosure or a potential spinoff?

Thank you, Michael. I was curious to see if this would be the first question. Let me start by providing an overview of the Nextracker business. I have a long history in the solar industry from my previous role in leading Ethan's electrical business, with over a decade of experience in the solar market. Our Nextracker business currently holds the top position in global market share for solar trackers, which has been consistent for the last five years. We have installed over 40 gigawatts of smart solar trackers across five continents, demonstrating our global presence. Along with our tracker product, we have an excellent software called True Capture that focuses on smart monitoring and serves as a control platform for solar fields. The Nextracker business has experienced substantial growth, expanding from a few hundred million in revenue to over a billion dollars today. Our operating margins are in line with industry peers and are in the double-digit range, showcasing a strong business with a healthy growth profile and impressive margin performance. I have great confidence in Nextracker's market-leading technology, and we are heavily investing in the business to support its growth. We aim to remain focused and not be distracted by external factors. Over the past couple of years, we have made strategic portfolio decisions when necessary, which I believe reflects both my and Paul's commitment to managing the businesses effectively. Our objective is to manage our portfolio continuously, adjust our mix, and seek new investment opportunities. We are determined to find the best ways to monetize assets that will maximize long-term shareholder value. It's been just two years on this journey, yet we've achieved a lot through disciplined execution, portfolio management, and realigning our segments for organic growth. Today, we are well-positioned to optimize asset monetization while also investing in long-term growth opportunities within our portfolio. It's a positive challenge to have, and we are excited about our current position.

All right, thank you.

Your next question comes from a line of Ruplu Bhattacharya from Bank of America. Your line is open.

Thanks for taking my questions. And Revathi, thanks for the details you gave on Nextracker. I was wondering if you can give a little bit more detail in terms of you said you're making investments to grow the business? Is this a capital-intensive business? Can you give us any sense of the debt on the balance sheet of Nextracker, and what type of CapEx is required to grow that over the next couple of years?

Ruplu, I’m not going to go a whole lot beyond what I already said, which is in terms of revenue and margin performance. I would say in terms of what's needed to grow solar businesses in general, and the capital intensity of the business, I think you can read that from any industry reports. In general, it's an asset-light business, but I think there are enough industry reports on tracker businesses themselves, and I'd say we're very much in line with that.

Okay. And then you've been pruning the portfolio and the other side of the business on the CTG, the former CPG and the CEC, and now in the Agility Solutions part of the business? Is that pruning done, or is there still more pruning to be done on that side of the business?

Ruplu, I have said this before: in our six segments, they have been clearly defined and set up, including the three within Agility. How we manage our Agility businesses within the portfolio will always involve looking to improve our mix to target higher value customers and manage customers where we don't think there’s long-term value for us. That’s how we are managing it. I’ve said that I don't see any large-scale pruning left to do. But managing within that is always our job. I think you'll all expect us to do that constantly.

Right. And just for my last question, if you can just clarify this: from a strategy standpoint, are we hearing correctly that, from a product portfolio standpoint, you would be open to looking at both assets in the Reliability Solutions segment as well as Agility Solutions segments to unlock shareholder value? So if it makes sense to divest those assets, you will be open to doing that? I mean, depending on how things go. So from a strategy standpoint, is that the correct way to look at it?

From a strategy standpoint, Ruplu, I think I made it clear in my comments. If we need to monetize assets that hold better value somewhere else, we will always be open to doing that. But I've also said that from a long-term shareholder value perspective, we're also focused on investing in our Reliability business within healthcare, automotive and industrial. We think that, long-term, the best value for our shareholders comes from investing in those businesses and driving growth and profitability in those businesses. So you have to look at the strategy holistically; you need to understand that there are two parts to execute on.

Thank you for all the details and congrats on the quarter.

Thanks, Ruplu.

Your next question comes from a line of Mark Delaney from Goldman Sachs. Your line is open.

Yes, good afternoon. Thanks for taking the questions and congratulations on the strong results. So going to start with a question on Nextracker and Remedii. You mentioned looking to be open to best monetize and create shareholder value. Can you give us any more details on how such plans are formulated? How do you gauge whether or not you think Flex is receiving fair value for the Nextracker business?

Yes, I'd say, Mark, how I would say is that we feel that Nextracker is a great asset. We're managing that business within our portfolio diligently. We also measure the value of each of our businesses, not just Nextracker, based on independent businesses that exist in their space and the valuations assigned for those businesses. So I think that's the only big picture answer I can give you, Mark. But I just want to make sure I go back to the question off, there are many assets that we think are great, and we are really pleased that people are recognizing the power of those assets. Our valuation should reflect those assets. We are super excited about that. There will be assets that we will monetize, but there will also be other places that we will invest. And that's how we should think about this story.

That's really helpful. And thanks for all the other comments you made on that business. I think it's helpful for investors. My second question that I wanted to touch on is your comment about seasonality in fiscal Q4. When I look back historically, the range has been approximately down 5% to down about 15% quarter-on-quarter. Is that what you're alluding to when you're talking about seasonality? And I do ask to clarify, just because as the company has been evolving its mix of businesses, there's been a bit less consumer exposure, which that's one of the businesses in particular that has historically created that seasonality in the March quarter. So I'm curious; is that the sort of historical numbers? Is that the right way to think about it? Or is there some sort of new seasonality we should have in mind for the March quarter?

Yes, Mark, this is Paul. I do think that's the right way to think about it. I think over the last several quarters, the company has done some pruning that in theory down the road should have an effect on seasonality. But if you go back in time and just look at the history, it's been a 10%, 11%, 12% sort of a sequential decline from seasonality as we've moved from our fiscal Q3 into fiscal Q4. I don't think you'll see a significant change to that as we move ahead into this upcoming fiscal Q4. There's a lot of moving pieces with this, as you can imagine, the comps are interesting as you come into the year-on-years in Q4. But given the snapback effect and what may or may not happen in healthcare, we certainly are expecting some quarter-on-quarter top line contraction as we move into Q4.

And Mark, the only thing I'll add is that we’ve definitely reduced the seasonality effects in Q4 from what we’ve historically had, just because of how our mix has shifted. There's definitely some improvement because of that. But we do think that there will be some seasonality because it's post-holiday season and things like that. COVID really adds some confusion to all those stories in terms of how we see these quarters play out. So, I think there’s some unpredictability issues because of that.

Thank you very much.

Thanks, Mark.

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

Thank you. Yes, thank you. I wanted to ask about the Datacom part of the Agility Solutions business, specifically the telecom, the cloud business, which seems to still have some fairly good traction, and then also the infrastructure products and networking, servers, storage where we are seeing weakness. Are you seeing any signs from your customers that they're expecting a turnaround at all in that business anytime soon?

Yes, what we have said is that we're not seeing an immediate turnaround in that business. And that’s reflected in our script. I think we're hearing consistently from our customers too that our overall view is seeing critical infrastructure investments continuing, reflected in cloud. But we do see that enterprise spending will continue to be weak in that space. That’s how we think overall our CEC business will operate.

Yes, I'll just add that I can't imagine there are many CFOs out there who want to invest heavily in enterprise right now, given the pandemic. So that will probably, like Revathi said, continue to be a bit soft. I also have read some external commentary about cloud that suggests there may be a little bit of digestion coming into the calendar year Q4 that might be a bit of a watch item. But as we mentioned in the prepared remarks, we are expecting about flat CEC moving from Q2 to Q3.

Yes.

Okay, great. That's helpful. And then, Paul, just a question on the OpEx line. You did talk about some of the austerity measures going away. So I guess there are some expenses coming back. So what should we be thinking about SG&A over the next quarter or two?

Yes, regarding SG&A, looking back six to eight months, we mentioned it would be around 3% to 3.2%. That's how I would approach it moving forward. We might experience some pressure with the rollback of austerity measures. We still have COVID-related costs as well. While most questions have focused on Nextracker, COVID will continue to be a challenge for us in the third and fourth quarters, which may add some pressure. If I consider the margin shift from Q3 to Q4, the volume isn't significantly higher, increasing by about $200 million, and I don't anticipate much drop-through on that. COVID is likely neutral from one quarter to the next, but we are facing headwinds from austerity measures and possibly some challenges in productivity. However, we will remain disciplined as we have stated before and strive to keep the controllables managed.

Got it. Okay. Thanks a lot.

Your next question comes from the line of Paul Coster from JPMorgan. Your line is open.

Yes, thanks for taking my question. First off, any sort of puts or takes that you can think of that might arise from the composition of the next Congress and presidency post the elections? For instance, greenish tinge to the infrastructure spends, is that good or bad for you?

Yes, I'd say two things. One is I'll first start with trade, even though your question was on green spending. On trade, we expect the overall kind of context to remain the same regardless of whether President Trump continues or we have a new government. We think the focus on China continues to some extent. We believe that the focus on regionalization will continue to be a conversation across our customer base, both to derisk due to geopolitical issues or health pandemic issues. We think the green investment is a plus for us. We have a fairly large energy business that will benefit from that. So, we're bullish on the investments that have been laid out in the Green Energy program and if that pans out, we view that as a plus.

Unfortunately over the next track, a couple of quick questions. Can you give us any sense of how much higher than $1 billion your app in terms of revenues there? And then you mentioned twice long-term shareholder value and of course pullback but in this particular case that even if you're approaching synergies and adding value in the running of that business, you just can't get that kind of valuation inside a larger company. So it feels like short-term and long-term basically are conflicting and you have to kind of go with where the market valuation is telling you to close the asset.

Yes, Paul, maybe you missed the first part of our comments; we did say that the business size in terms of revenue is a little north of $1 billion. The operating margin is in line with industry peers in terms of double-digit operating margin. In terms of the comments about valuation, I made a holistic comment that we will look at ways that we can identify and monetize any opportunities we think would provide better value externally. However, our goal and focus, obviously, is to create long-term shareholder value. So in terms of monetizing assets and investing in assets, they all factor into the picture in how we make these decisions. That long-term shareholder value is an important theme for us and our long-term shareholders have been very clear about that as well, so you have to think about both sides of this equation.

Okay. Thank you.

Thank you, Paul.

Your next question comes from the line of Steven Fox from Fox Advisors. Your line is open.

Thank you. Good afternoon. A couple of questions on the Reliability Solutions business. The margins under the new structure are the best you've had in the six quarters we're looking at. The incremental margins are 12% year-over-year, 15% quarter-over-quarter. Can you sort of explain how much of that improvement is from mix versus just natural operating leverage versus better cost? And then secondly, on the auto piece of the business you’re saying that it’s going to be down year-over-year for the rest of this fiscal year. I guess, what are the external factors on that? I mean is it just because of global production or is there any customer-specific, geographic models specific things going on there? Thank you.

Yes. Thanks, Steven. So in terms of reliability margin, I'd say it's a combination of things. One is obviously the Health Solutions business having a strong performance in the quarter, with all the kind of work they have done for COVID-related work, definitely helps in terms of improving the overall business performance. I'd say industrial was pretty much in line with what we have typically seen from the industrial businesses, and automotive while it had a good snap back from Q1 is still down year-over-year. So I’d say, if I think about all of that holistically, we have a combination of strong growth contributing to our margin performance, alongside our disciplined execution, which is a huge plus. We have gotten benefits from COVID upside that help, and our automotive recovery, which was also a plus. Overall, the performance across the board has been strong, and a combination of factors has contributed to that.

Great. That's very helpful. Thank you.

Thank you, Steven.

Your next question comes from the line of Tim Yang from Citi. Your line is open.

Hey. This is Tim Yang calling on behalf of Jim Suva. The follow-up question on automotive: I think you've guided the December quarter automotive to be up low single digits. I think this is below auto production growth forecasts from IHS of approximately 9% to 10% sequentially for the quarter. So maybe can you just elaborate on why your sequential growth is a little bit below the production forecasts, like inventory or customer-specific issues or something else?

So Tim, do me a favor. Can you repeat the first part of that question?

So your December quarter guidance for automotive is like low to mid single-digit quarter-over-quarter. I think, for auto production forecasts for the December quarter from third-party agencies, they're forecasting 9% to 10%. So, can you elaborate on why your sequential growth is below the forecast?

Yes, certainly. If we look back to our previous position, in Q1 we faced a significant decline that hadn't occurred in a long time, with automotive down approximately 50% compared to the previous year. However, that rebounded remarkably in Q2, and as you've heard, we saw an increase of high single digits in automotive. Looking forward to Q3, on a sequential basis, we anticipate growth in the range of low to mid single digits. This suggests a continued recovery, although we are still down. In response to Steven's earlier question, IHS continues to predict that auto rates will remain below pre-COVID levels and will decrease by high teens year-on-year. If we can achieve mid to high single digits down year-on-year, I would consider that a success, particularly given the trends in which we are involved in the automotive sector. We are significantly focused on electronics, and we believe this positioning will allow us to outperform the overall direction of the automotive industry.

And I think, from a sequential perspective, Tim, the way I think about it is that we could be more conservative, and one of the reasons could be that we're trying to manage the timing of orders, supply constraints, and things like that. We're trying to manage the automotive business because it's had a pretty big snapback from where it was. So, I think you'd say that could be the difference between where we're at and what you're saying the projections are at of 9 to 10, but the constraints are better, and we’re able to get all our shipments out; it could be better than what we have in here.

Got it. This is very helpful. In the past, I think Flex benefited from the major gaming console ramping in the holiday season. Would that be the case for Flex this year or has your exposure to that market actually changed?

No, I really don't even know what our exposure to that is. So I’m assuming it's not that significant for us.

Got you. Okay, great. Thank you.

Okay. Thanks.

Your next question comes from the line of Shannon Cross from Cross Research. Your line is open.

Thank you very much. Revathi, you did well across the board to a large extent this quarter. But I'm wondering, what areas had sort of the most outperformance or surprised you relative to where you were forecasting for the quarter? I don't know, maybe auto, but I'm curious as to sort of where you saw the most upside? And then perhaps where you see the most upside in the current quarter that we're in, and then I have a follow-up for Paul. Thank you.

Yes, thanks, Shannon. We did well across the board on all metrics. You nailed the most important one that was much better than what we expected, which was automotive, but frankly we had upside in quite a few segments. Our lifestyle business performed very well and that came from continued strength in appliances and floor care. That was pretty strong, so that was a positive, from where we thought things were. We already mentioned that we expect to see C2B strong because of the infrastructure investment, and we were able to make a lot of those shipments, so that helped us a lot. I would say, on the Consumer Devices side, it did rebound from a low, but it was lesser than what we expected, primarily due to the slower recovery in emerging markets. So that’s how overall Q2 played out. Looking forward, what we're hoping for is that automotive continues to snap back; if we can manage the supply constraints coming from China and at the same time with all the noise around COVID in Europe and continued shutdowns around the world, we're kind of watching that very closely.

Yes, I think that's a good caution.

Great. And then, Paul, granted you’ve only been there a few weeks, but I’m just curious, where you're seeing perhaps the most opportunity, as you sort of balanced what you've seen in the last few weeks with what you did prior?

Certainly. After visiting various factories, whether in person or online, I’ve observed that the company possesses remarkable capabilities. We produce highly engineered products at an impressive speed. Our ability to relocate operations globally is noteworthy. However, I was surprised that in some instances we operate with low single-digit margins. I see potential for margin growth across our businesses, which will be my focus in the coming quarters and years.

Great. Thank you very much.

Thanks Shannon.

Your final question comes from the line of Christian Schwab from Craig-Hallum. Your line is open.

Hey. Congratulations guys on a great quarter in this environment. My question has to do with the prepared comments where we talked about all of the changes and product repositioning that we're doing. I think of yourself more as a diversified manufacturing business, not just an EMS business. And I assume that's because you think the multiples that you historically have gotten are too low. I'm wondering if you could give us an idea of some of the companies that you have in mind that you think your business is more similar to than just being considered a contract manufacturer.

Yes, Christian. Thanks for that question. You have to think about our business in two parts. The reason we have gone to this two business segment model, which is the Reliability and the Agility segment, is that the Agility segment functions more like the traditional EMS or contract manufacturing business. And at the same time, when you think about the Reliability business—high value businesses like Health Solutions, automotive, and industrial—that functions like any of the diversified industrials. So, I would say that for the Reliability business, we believe our multiple should be a lot higher than what we're currently getting attributed. The market gets assigned a diversified industrial multiple, and you can pick any of them. You should be able to assign that multiple for our Reliability business. The Agility segment, on the other hand, is more in line with traditional EMS multiples; but as we continue to manage that business and improve its operations, we aim to shift that narrative over time. That's how I look at the two parts.

20 times EBITDA sounds pretty good to me, Christian.

I appreciate that. I don't have any other questions. Thanks.

Great, thank you Christian. As I wrap up, I'd just say thank you all for joining us today. And, even though these are unprecedented times, I'm sure this quarter gives you a tremendous amount of confidence in the future of Flex, and it gives us that confidence too. Please remain safe and healthy and we look forward to talking to you again next quarter. Thank you.

Ladies and gentlemen, this concludes today's conference call. Thank you for participating. You may now disconnect.