Earnings Call Transcript - FLEX Q1 2021

Operator, Operator

Good afternoon, and welcome to the Flex First 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.

David Rubin, Vice President of Investor Relations

Thank you Sunny. And welcome to Flex’s first quarter fiscal 2021 conference call. Joining me today’s our Chief Executive Officer, Revathi Advaithi, and our Chief Financial Officer, Chris Collier. This call is being webcast and recorded, and slides for today's presentation are available on the investor relations section of our flex.com website. Please note, 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 results could materially differ. Such information is subject to change, and we undertake no obligation to update these forward-looking statements. For all discussions of the risks and uncertainties, please see our most recent filings with the SEC, including our most recent 10-K. Lastly, this call references non-GAAP financial measures for the current period, and GAAP reconciliations can be found in the appendix slide in today's presentation, as well as the Investor Relations section of our website. With that, I would like to turn the call over to our CEO. Revathi.

Revathi Advaithi, CEO

Thank you, David. Good afternoon everybody, and thank you for joining us today. As we continue through these unprecedented times, I hope you and your families are safe and healthy. It has been an eventful few months for the whole world, and our Flex colleagues have worked tirelessly to support our customers and our communities. I can't thank them enough for their continued support and dedication. Because of these efforts, we have made real progress through a very difficult quarter and delivered better than expected results. I will start first by providing an update on how we are operating in the COVID-19 environment. Navigating the COVID-19 pandemic remains top of mind for all of us. The safety and well-being of our employees is our highest priority and to provide that protection, we have deployed extensive safety measures such as enhanced sanitation, temperature checks, and safe distancing in production environments. The associated costs of these measures will continue to impact our business. However, we are getting more efficient at putting in place the safest possible conditions, and we will continue to improve our productivity. Personal protective equipment remains a keystone to our safety efforts. Our mass production project that we talked about last quarter continues to be on track with over 20 million masks that we have produced to date at seven locations across the globe. While most of the production is used to keep our colleagues and their families safe, we are also supporting our communities by continuing to donate masks to hospitals and first responders. Working from home remains effective for many employees and we will continue to have non-manufacturing employees work remotely as long as it is prudent. However, I do believe that human interaction is an important part of building and maintaining a healthy culture. Thus, we are planning for an eventual return to work in some form, but it will be a measured approach only at the appropriate time. From an operational standpoint, all of our production sites around the globe are up and running. We have also seen dramatic improvements in the supply chain since the early days of the crisis. However, a few component constraints and elevated lead times still exist, causing increased inventories in some areas. Let me talk about managing costs. Last quarter, when uncertainty was greatest, we instituted austerity measures, including temporary pay cuts and bonus reductions to mitigate elevated levels of manufacturing costs. We have used this time to plan how we will operate with the most optimal manufacturing efficiency and overhead cost structure in a sustainable fashion in the current environment. We still remain on track to reach our long-term financial goals. As a result, we are now implementing a systematic and disciplined restructuring effort that will be executed in fiscal Q2. This effort will enable us to further solidify our focus on improving margins and driving the right kind of growth. Lastly, we continue to have a strong liquidity position and we will be prudent in our use and deployment of cash throughout this time period. Now, let’s talk about fiscal Q1. Let’s turn to Slide 4. We have executed very well despite the difficult environment. Let me highlight several of the financial metrics for our first quarter, and then Chris will take you through the numbers in detail. Revenue for the quarter was $5.15 billion, which was down 6% sequentially and 17% year-over-year. Please note that this sequential drop was mostly due to the impact of the automotive shutdowns and a slow ramp in the quarter. Our adjusted operating margin was 2.2% despite absorbing significant COVID-related costs as well as negative mix impacts from the automotive shutdowns. Our adjusted EPS is $0.23, down from $0.27 in Q1 of last year. Our adjusted free cash flow came in at negative $74 million, as we anticipated fluctuations in operating free cash flow due to managing through working capital requirements during this unusual period, as well as the timing of payments in the quarter. However, we expect to quickly return to achieving our adjusted free cash flow targets starting in the September quarter. Moving on to Slide five, as we described last quarter, we knew that Q1 would be challenging as the impact from the COVID-19 outbreak continued to affect production and demand. However, we did see strength in several of our end markets, which is a testament to our diversification strategy and our ability to execute and deliver. Let me start with our reliability segment, where house solutions were extremely strong. The team executed very well on projects supporting the fight against COVID-19, such as our recent production of ventilators and testing equipment, as well as expansions in critical care products such as oxygen concentrators, infusion pumps, patient monitors, and ICU beds. We also saw continued strength in industrial areas such as power products. However, we faced a major challenge in our automotive segment. Most of our North American and European auto production sites remained essentially shut down in line with our OEM customers. New production would restart after the quarantine period, greatly limiting our options and our ability to cut costs in line with anticipated demand levels for the quarter. In May, we were excited to have Mike Stoney join Flex to lead the automotive group. Mike has a long history in the industry and brings extensive experience and deep domain expertise to the team. Mike hit the ground running, and the entire group has worked very hard to ramp production and get the wheels turning again. I am very pleased to announce that all of our automotive production sites are now up and running. In our Agility Solutions business, CEC experienced a very strong rebound this quarter, as they ramped aggressively to meet customer demands for networking and compute equipment to support the increased workload from work-and-learn-from-home. This upside was offset by lower demand in our Lifestyle and Consumer Device segments. Initially, Lifestyle was impacted by both retail shutdowns and the initial shift in e-commerce to essential purchases only. However, we have started to see strong demand in areas like floor care, coffee machines, and audio products. As I discussed in March during our Analyst Presentation, we have reorganized our market-facing segments to be agile and have end-to-end ownership to drive the right growth strategy. Despite the current situation, we have not wavered from our growth mindset. Across the company, our teams have been very productive, finding new ways to operate and continuing to win new business. Given that COVID-19 made it impossible for customers to tour prospective manufacturing sites, we launched our new virtual customer platform to provide them with high-quality video tours of our global factories. This has been a huge hit with our customers. When it comes to growth, we are focused on targeting and winning new businesses that align with our strategic priorities, and our customer engagements continue to reinforce our belief that we are perfectly positioned with the right combination of technology and domain expertise. We continue to see strong new program wins in our targeted markets, whether it's the next generation medical monitoring device, autonomous compute modules, auto electrification systems, or advanced industrial-grade robotics and new beverage appliances. Executing our growth strategy is going well. We are also moving forward and deploying our operational model customized for our two groups and combining that with being world-class in manufacturing technologies. Along with that, we continue to drive disciplined execution and take rapid tactical actions as challenges arise. I believe we have a good balance between moving on our strategic agenda while executing really well in the near term. Now I would like to turn the call over to Chris, who will walk you through our quarterly financial results in more detail, and then I will come back at the end to share some closing remarks.

Christopher Collier, CFO

Thank you, Revathi. Please turn to Slide 7 for our first quarter income statement summary. Our first quarter revenue totaled $5.2 billion, which was down 6% quarter-over-quarter and 17% year-over-year. Our results reflect COVID-19 related demand and production pressures, as well as the effect of an unfavorable year-over-year comparison given our targeted disengagement from high-volatility, short-cycle businesses initiated in our second quarter last year. Our Q1 adjusted operating income was $163 million, which includes the impact of pandemic-related expenses. As a result, our adjusted net income was $116 million and our adjusted earnings per share was $0.23, down 13% year-over-year. First quarter GAAP net income of $52 million was lower than our adjusted net income, primarily due to $13 million of stock-based compensation, $13 million in net intangible amortization, and $38 million in net restructuring and other charges, which included $10 million of restructuring costs and $28 million of legal and other costs not related to ongoing or core businesses, which includes various loss contingencies for certain historical legal matters. I would like to expand briefly on our reorganization and optimization activities. We have deliberately and thoughtfully evaluated each part of our business to see if there are opportunities to better align with a long-term strategy and, more recently, with the current economic environment. Accordingly, we will be taking actions to phase out certain non-core functions, streamline our organizational structure, and sharpen our focus on key markets where we have competitive advantages and deep domain expertise. We expect to recognize associated restructuring charges of approximately $100 million for the remainder of fiscal 2021, primarily related to severance and benefits costs. Anticipated cost savings in fiscal 2022 is approximately $60 million related to these activities. As we anticipated, our production productivity was affected by the ongoing pandemic. In the first quarter, our COVID-19 related costs roughly doubled sequentially from the March quarter, which was in line with our expectations. Note that most of our COVID cost impacts our cost of goods sold and gross margin, which include our enhanced health and safety infrastructure costs, incremental supply chain costs, labor incentives, and the largest component being forced under absorption of labor and overhead from lost production and lower productivity. While these costs will persist, they will be significantly lower in the second quarter as we expect improvements in our absorption of overhead and labor costs as production levels rise and project productivity improves. Our first quarter adjusted gross profit was $318 million, which was down 21% year-over-year, and our adjusted gross margin declined 30 basis points year-over-year to 6.2%, primarily as a consequence of COVID-19 pressures in the closure of our automotive sites for nearly half of the June quarter. As Revathi highlighted earlier, all of our sites are now operational, and our teams have done a stellar job rolling out our new delivery models while navigating network demand and production environments. Looking ahead, we are optimistic that we will return to consistent gross margin expansion as our operating sites remain open and disruptions lessen. Our adjusted SG&A expenses decreased 21% year-over-year to $155 million this quarter, marking the lowest quarterly level we've operated at in over 10 years. We benefited from aggressively reducing discretionary spending as well as from temporary reductions in compensation levels. We will maintain our cost discipline as we realign the company to not only weather the pandemic, but also to execute on our strategic strategy more efficiently in the long term. We are confident in sustaining SG&A as a percentage of revenue in our targeted range of 3% to 3.2%, creating meaningful earnings leverage. Lastly, our year-over-year adjusted operating margin contracted by 20 basis points to 3.2%, which we believe was a strong performance in the context of the COVID-19 challenges. Now turn to Slide 9 for our first quarter business segment performance. As we communicated at Investor Day in March and on our last earnings call in May, we are operating with two reporting segments: Flex Reliability Solutions and Flex Agility Solutions. Flex Reliability revenue was $2.2 billion, down 12% quarter-over-quarter and down 1% year-over-year. Cloud solutions were a standout performer during the first quarter and were up high double-digit sequentially. Our core business is performing well, and demand for critical procedures products like ventilators, oxygenators, and hospital beds more than offset demand softness for elective medical procedure products. Industrial was down high single digits quarter-over-quarter, with strength from our power products offset by anticipated declines for renewable energy in core industrial products. We remain well-positioned in this key business group and believe that its fundamentals are intact given its broad diversified portfolio and numerous ramping programs. Our automotive business quoted just over half its pre-COVID quarterly run rate in the first quarter. Our factories are now online, and we have moved past the large scale OEM plant shutdowns that were in place for a significant portion of our June quarter. We expect automotive revenue to continue recovering from the trough levels experienced in the first quarter, but expect that our revenue run rate will trail historical performance in the near-term. Flex Agility revenue of $2.9 billion was down 1% quarter-over-quarter and 25% year-over-year. This segment includes products from our communications and consumer end markets, which underwent targeted reductions of over a billion dollars in revenues starting from the second quarter of fiscal 2020. We will begin to lap the unfavorable year-over-year comparisons for these products beginning next quarter. Within Agility, CEC was up low double-digits quarter-over-quarter, benefiting from critical infrastructure demand from our networking and cloud customers, while also managing through production capacity challenges as we moved throughout the quarter. Lifestyle was down high single digits quarter-over-quarter, experiencing soft overall demand due to consumer spending and lower retail sales. Lastly, consumer devices were down 21% quarter-over-quarter due to prolonged production constraints in certain geographies and depressed demand due to COVID-19. Turning to profitability, Flex Reliability Solutions generated $115 million of adjusted operating profits and a 5.1% adjusted operating margin. Our industrial and health solutions groups performed well, while ramping multiple programs in key end markets, such as semiconductor capital equipment and diabetes care. However, the protracted automotive site closures and resulting under absorption and efficiency impacts were a headwind in the quarter. Flex Agility Solutions generated $72 million of adjusted operating profit and a 2.5% adjusted operating margin. Both CEC and lifestyle performed in line with expectations, but major geographic disruptions for consumer devices resulted in elevated under absorption challenges. We continue to actively manage the cost structure in this group to align with volume fluctuations. Turning to Slide 10. Let’s review our cash flow generation highlights. As anticipated, our cash flow generation was pressured in the quarter due to production restarts, clearing finished goods, and timing shifts in payables affecting our quarterly cadence of cash flows. For the quarter, our adjusted operating cash flow was modestly positive, and we generated negative adjusted free cash flow of $74 million, which had been anticipated due to the timing of working capital management. We closed the quarter with inventory of $3.5 billion, down 8% sequentially, resulting in inventory turns of 5.3 times. We have mitigated most of our supplier constraints and component shortages, and we will continue to drive further inventory improvements while operating in this dynamic environment. A noteworthy action undertaken this quarter was to proactively and strategically utilize the proceeds of our May debt issuance to reduce the outstanding balance of our ABS program. We reduced the balance on this short-term financing product by $655 million sequentially, which had the accounting effect of reducing our cash flow from operations. Our net capital expenditures for the quarter totaled $102 million, remaining lower than our depreciation. We are confident in our ability to manage CapEx to be at or below depreciation levels in the near term while simultaneously funding core areas of our growth. In summary, while our adjusted free cash flow was negative for the quarter, we remain fundamentally structured to return to our objective of 80% or greater adjusted free cash flow conversion in our second quarter. Please turn to Slide 11 for liquidity and cash updates. We continue to operate with a balanced and flexible capital structure that has staggered debt maturities, no meaningful near-term maturities, and no maturities that exceed our expected annual adjusted free cash flow. Many of the steps we previously implemented to enhance our liquidity position remain in place. We continue to prudently manage cash and ensure we have ample liquidity, which includes access to our $1.75 billion undrawn revolver. During the quarter, we took advantage of favorable market conditions to issue roughly $750 million of long-term debt in May, extending our weighted-average maturity to over five years while remaining leveraged neutral. In summary, we have worked diligently to maintain a sound and flexible capital structure that gives us confidence in our ability to meet our current and future business needs, and we remain committed to maintaining our investment grade rating. Please turn to Slide 12 for our second quarter fiscal 2021 update. Over the last six months, we have gained tremendous experience and knowledge that is now guiding us through a very dynamic and highly fluid production environment. Our ability to safely run our factories remains subject to local conditions and government actions. However, we have improved our near-term visibility and execution in response to our learnings. As such, we have elected to provide quarterly guidance for the September quarter, and we will continue to give qualitative insight into how we view each of our end markets to provide investors with as much transparency as possible during this period. Let me start with the Flex Agility Solution segment, which we expect will be up 5% to 10% quarter-over-quarter. Our lifestyle groups should see quarter-over-quarter growth, as improving demand for durable goods that support working-from-home and schooling partially offsets reduced consumer spending on non-essential products. Our TEC business will benefit from increased critical infrastructure demand due to heightened telework, streaming, gaming, and other online usage. Coupled with a slight pick-up in our telecom infrastructure business, TEC should grow modestly quarter-over-quarter. Our Flex Reliability Solution segment is expected to see revenues up 5% to 10% quarter-over-quarter. Second-quarter automotive revenue will improve sequentially but will remain below pre-COVID-19 levels. China auto demand appears strong, and we see EMEA showing signs of recovery coming out of the June quarter. North American outlook is also improving, although uncertainty related to potential future lockdowns remains. In House Solutions, positive growth on a quarter-over-quarter basis should continue with strong demand for critical care and chronic illness products offsetting weak demand related to elective procedures. Lastly, our industrial business is expected to be modestly up quarter-over-quarter driven by renewable energy and power, while we continue to anticipate moderate near-term CapEx reductions. Given these outlooks, we expect our quarterly enterprise revenue to be in the range of $5.4 to $5.7 billion. Our adjusted operating income is expected to be in the range of $180 million to $220 million, reflecting adjusted operating margin expansion while remaining burdened by COVID-19 costs associated with operational production and productivity constraints. Our interest and other expenses are estimated to be between $35 million to $40 million. We expect our tax rate for the quarter to remain at the higher end of our targeted range of 10% to 15%. Adjusted EPS guidance is in a range of $0.25 to $0.31 per share based on a weighted average of 502 million shares outstanding. Our adjusted EPS guidance excludes the impact of stock-based compensation expense, net-intangible amortization, and impacts from restructuring or other charges. As a result, we expect GAAP EPS in the range of $0.05 to $0.11. With that, let me turn it back over to Revathi.

Revathi Advaithi, CEO

Thank you, Chris. As always, you can see from Chris' comments that we had solid execution in Q1, and because of that, we are confident in giving you more detailed quarterly guidance. However, I would reiterate, as you already know, that there is continued uncertainty with the COVID-19 pandemic, and because of that, we will hold off on giving any full-year guidance. What we can assure you is that we will continue to operate with discipline while serving our customers well and focusing on key growth areas for our business groups. We are well positioned for the new demands of adaptive supply chains and production. I remain confident that we will emerge from this global crisis stronger, even better positioned for the future. Again, I want to thank all our employees for their continued commitment, our customers for their trust and partnerships during this challenging time, and our shareholders for their continued support.

Operator, Operator

Your first question comes from Steven Fox with Fox Advisors. You may proceed.

Steven Fox, Analyst

Good afternoon. Two questions if I could. First on the restructuring announcement, you have obviously pared down some emphasis on things that were of lesser value. Can you talk about maybe some more specifics about what you are doing now? And it also sounds like what markets you are targeting to sort of emphasize where you may be doubling down a little bit more with some added skillsets. As a follow-up from a big picture standpoint, a lot of companies, including yourselves, have seen a surge in certain areas, healthcare, bandwidth related work from home. How would you describe the opportunity going forward since it has been such a big pickup? Do you expect sort of a normalization or is it just a new normal? Any color there would be great. Thank you.

Revathi Advaithi, CEO

Okay. I will get started. From a restructuring standpoint, if you recall, when I spoke to all of you at the Investor Day in March, we talked about streamlining our organizational structure and rethinking our delivery model for our two major business groups. As a result, we had identified many avenues for efficiency and optimization in our overall headcount but had decided to pause implementation as we were trying to understand the COVID-19 pandemic's impact in Q1. What we are looking at here is a combination of things. One is of course any effects we see from COVID-19, but also the fact that we have made significant efforts to streamline our organizational structure. Given our end market end-to-end control, we see a lot of room for efficiency from our corporate overhead structure and segment overhead structure, which is supporting our overall restructuring efforts. The markets where I see tremendous opportunities include our health solutions business, which, even before the pandemic, had great booking trajectories and continues to solidify that position moving forward. Even at a time like this, while the automotive end markets seem to be really challenged, I see opportunities in areas of autonomy, connectivity, and electrification, which drive greater electronic content in vehicles. So the growth we expect in these areas exceeds the overall markets and we are continuing to win many platforms there. Our industrial business remains extremely solid over the last few years, and we continue to have many avenues for growth. On the Agility side, outside of our core CEC business, I am excited about our lifestyle business as we have redefined it. As we defined our available market at the Investor Day, that was over $150 billion. We are finding good opportunities for growth in that business, which is highly profitable, and while we are not externally sharing all our bookings numbers, our bookings trajectory in that segment has shown solid opportunities for growth with higher operating margins than we had in the past. So overall, we feel good about the areas we have identified. Our available markets are significant, and we are doubling down on sub-segments where we believe we can show our capabilities to win. Regarding your question on the commentary around work-from-home and the gaming surge, our initial view was that the near-term needs of this business would continue to grow due to demand far outstripping the current capacity. That is clearly evident across all end data center and cloud customers who are projecting that today. Our view aligns with that perspective.

Steven Fox, Analyst

Great. Thank you so much.

Operator, Operator

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

Tim Yang, Analyst

Hi. This is Tim Yang calling on behalf of Jim. Thank you for taking the questions. Your Agility group seems to generate better margins in the quarter, despite lower revenue on a sequential basis. Can you maybe just talk about what is driving that and how sustainable it is? And then I have a follow-up.

Revathi Advaithi, CEO

Yes. So I will start and then maybe Chris can jump in here. I have seen a couple of important factors driving this. One is of course CEC is seeing good incremental growth, which helps our overall margin portfolio. We are focused on driving the right type of bookings and improving our overall margin profile. Additionally, our operational delivery model, where we align variable and fixed costs in Agility with volume, has also contributed positively in managing our costs appropriately. Furthermore, the Lifestyle segment saw demand growth in areas like floor care and coffee machines, which supports our overall margin portfolio. These factors together explain why I would say Agility is performing very well. As long as we maintain our focus on securing bookings in the right categories with optimal operating margins, we should continue to realize strong margins across Agility.

Christopher Collier, CFO

Tim, you were also picking up on a comparison to Reliability. Overall, Reliability's performance is very strong, especially across health solutions. However, automotive, which was shut down for more than half of last quarter, has pressed the overall margins down in that segment. So, the sequential margin erosion you are seeing in Reliability is influenced by that. But overall, we are pleased with our positioning and see prospects for improvement as we extend into the next quarter and beyond.

Tim Yang, Analyst

Thanks. Just on your Reliability guidance, I think you noted significant impacts in the automotive segment due to factory shutdowns, and now all your factories are running. So, my question is, why wouldn’t your Reliability group growth for the September quarter be higher sequentially, given auto production is expected to rebound roughly 40%?

Revathi Advaithi, CEO

Yes. I would say that even with automotive rebounding significantly, we also anticipate solid sequential growth for health solutions. However, we are being more cautious with our projections in industrial due to expected constraints in CapEx. Thus, we have taken a more conservative approach with industrial forecasts, while automotive and health solutions are showing strong prospects for sequential growth.

Tim Yang, Analyst

Great. Thanks for the color.

Operator, Operator

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

Paul Coster, Analyst

Yes, thanks for taking my question. Revathi, could you provide a multi-quarter or multi-year scenario for how the auto business may develop? Obviously, you are initially filling up spare capacity, but how do the traditional products factor in, and do we directly move to EBs, will they kick in when? Which regions are first? Could you talk through the areas of electronics you participate in and the expected sequence?

Revathi Advaithi, CEO

This is a big question, Paul, and I will share my perspective. From a macro level in terms of annual expectations, we are aligned with IHS, which suggests that automotive will be down 20% year-over-year. Beyond that, on a multi-year basis, the growth we are seeing in connectivity, electrification, and autonomy driven by increased electronic content in vehicles will surpass overall market growth. Our view is that the growth in connectivity will be consistent across all regions, whether North America, Europe, or Asia. We expect strong growth in electrification in China, followed by North America and Europe. Additionally, we believe we are strongly positioned in autonomous technology development. While this is a more extended trend, we are developing solid design capabilities and partnerships with both OEMs and tier ones. In summary, while this year poses challenges due to COVID-19, we expect to see significant growth in autonomy, connectivity, and electrification categories over multiple years and plan to invest more in electrification as we believe our capabilities will accelerate overall growth.

Paul Coster, Analyst

That was good. Thank you for that perspective. I appreciate it, and maybe a quick question for Chris. You mentioned improved visibility. Is this something you've implemented, or are customers expressing more comfort in sharing insights?

Christopher Collier, CFO

Visibility comes from our enhanced consistent operations. We’ve gained a clearer perspective on balancing load planning, allowing us to manage demand effectively. We have also been aggressive in terms of rigor and management of our supply chain and operations, instilling confidence amidst a challenging environment.

Revathi Advaithi, CEO

Last quarter, we focused on understanding end market demands and utilizing our intelligence to make informed predictions. We have become better at anticipating demand, moving us beyond the uncertainties from previous quarters.

Paul Coster, Analyst

Awesome. Thanks very much.

Revathi Advaithi, CEO

Thank you.

Christopher Collier, CFO

Thank you.

Operator, Operator

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

Ruplu Bhattacharya, Analyst

Hi, thank you for taking my questions and congrats on the strong execution. My question relates to your CapEx spend in fiscal 2021. Given the economic environment, how should we think about your CapEx spend and the split between your Reliability Solution segment versus Agility Solutions? Looking at a broader picture, are you seeing customers asking for product line moves from one region to another to establish redundancy or move out of China, and do you have the capacity to support that?

Revathi Advaithi, CEO

We are committed to investing in CapEx in line with depreciation levels as stated last year, focusing heavily on critical growth areas. Currently, a significant portion of our CapEx is directed toward our Reliability business, focusing on substantial investments in medical segments, which represent essential expenditures. Concerning customer requests for regional shifts, our overall PPE has shifted over time between regions, notably reducing reliance on China, which now represents 17% of our production, whereas Mexico is at 25%. Customers are certainly pushing for regionalization strategies for a variety of reasons, including trade and COVID, and we are well-positioned globally, including in China, to adapt to these trends.

Ruplu Bhattacharya, Analyst

Okay. Thanks for the detailed answer, Revathi. One follow-up on margins in the Reliability Solution segment. They came in at 5.1% this quarter. Looking ahead, could you give us insight into the key drivers? On one hand, automotive is weak, but you also have the healthcare solutions segment ramping. In which segments do you see margin improvements possible over the next few quarters?

Revathi Advaithi, CEO

Yes, I would certainly expect margins to improve. Our margin performance has been strong for industrial and healthcare solutions. However, we faced significant challenges in automotive with production halts and declines affecting margins. As automotive ramps back up, we anticipate substantial improvements in upcoming quarters.

Ruplu Bhattacharya, Analyst

Okay, great. Thanks for all the details. I appreciate it.

Operator, Operator

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

Shannon Cross, Analyst

Thank you very much. I was curious about the ongoing need for PPE and medical devices, particularly regarding ventilators. Is there any way to quantify how long ventilators will still be needed for production or at least how that opportunity might trend around testing equipment, given the pandemic? Understanding that within healthcare how this bridges the gap until elective surgeries can resume would be helpful.

Revathi Advaithi, CEO

Yes, Shannon. Based on our discussions with customers, we expect that Q2 and Q3 will see continued demand for ventilators, and it's possible additional production timelines may extend due to COVID realities. In the coming quarters, we believe we will see returns to elective procedures, which will offset some of that demand, though overall trends might shift based on COVID developments.

Shannon Cross, Analyst

Okay, thank you. For Chris, working capital was a use of $180 million this quarter. How should we think about working capital management through the rest of the year? What key levers do you have to improve cash generation?

Christopher Collier, CFO

This past quarter, our working capital usage was affected by several moving parts, including reduced production flows and inventory levels from the shutdown. While we anticipate some fluctuations, we believe we can leverage improved inventory management to drive greater cash generation going forward.

Shannon Cross, Analyst

Thank you.

Operator, Operator

Your last question comes from the line of Adam Tindle with Raymond James. Your line is open.

Adam Tindle, Analyst

Okay, thanks. Good afternoon. Revathi, I wanted to start - as you think about your restructuring playbook, how did you weigh the trade-offs between cultural sentiment and future company growth against cost considerations, especially when you are beginning to see improvements in demand? What would you say to investors that might worry this could impair growth?

Revathi Advaithi, CEO

Yes, Adam, I have no concerns at all. As I was clear in our March discussion, we are focusing on organizational alignment to drive growth. Growth isn't merely about resource allocation; it's about strategic alignment and effective delivery. Our segments are designed to enhance our pipeline and growth trajectory. I'm very pleased with our competitive pipeline even in challenging times.

Adam Tindle, Analyst

Good. Thank you. As a follow-up, Chris, how do you think about seasonality with new segments? Specifically, looking ahead to December—while I know you aren't providing guidance, is there something fundamentally different in how businesses operate today?

Christopher Collier, CFO

At this time, we are hesitant to project too far out due to the unpredictability of the environment. We did restructure our portfolio significantly and have less exposure to consumer-related products, potentially impacting traditional seasonality. We're focused on managing our segments effectively as we move forward, especially into Q3.

Adam Tindle, Analyst

Got it. Is the restructuring effort expected to be completed by September, or will it roll into December as well?

Christopher Collier, CFO

The restructuring we discussed today will be enacted during this period, and we aim to complete the majority of it in our second quarter.

Adam Tindle, Analyst

Okay, that is helpful. Thank you very much.

Revathi Advaithi, CEO

Great. Thank you all for joining us today. Even in these unprecedented times, I am as confident as ever in the future of Flex. I wish all of you continued safety and good health. I look forward to speaking with you all next quarter. Thank you.

Operator, Operator

Ladies and gentlemen, this concludes today's conference call. You may now disconnect. Goodbye.