About Flex Limited
Rae Sremmurd be darned, I am officially declaring this to be a “flex zone.”
Hopefully Swae Lee doesn’t view this as a sort of protest, but come on, when an opportunity such as this one reveals itself, it is imperative that it not be taken for granted.
In getting down to brass tacks, headquartered in my neck of the woods of Austin, Texas, Flex Limited is a company that specializes in designing, manufacturing and selling end-to-end supply chain solutions for a host of industries, many of which have seen strain on their respective supply chains, including automotive, cloud, industrial, healthcare, data centers and a few others. An initial positive here is that clearly with strain usually begs the need for solutions, and Flex Limited is the talk of the town when it comes to solutions-driven enterprises helping uphold national and global supply chains.
As a more specific example, let’s consider how Flex plays a part in the context of a current hot topic, data centers.
The company puts together and sells power products and manufacturing services in data centers, including key components like power shelves, remote power panels (RPP), power distribution units (PDUs), optical transceivers, liquid-cooled nodes and racks, you know, data center components that you casually discuss in your free time with your friends.
Remember, this is just one (obviously growing) category that Flex supplies.
I also think it is useful to briefly note that in terms of annual revenues, the company derives the vast majority of its sales through product sales, generating a much smaller portion of revenues through service contracts (i.e., providing ongoing maintenance services), as well as ever so slightly padding its top-line through licensing fees (i.e., licensing out its intellectual property), and on occasion offering custom manufacturing services and after-sales support.
I point this out because I like that even though the company’s mass bulk of revenues come from selling products, it has strategically hedged itself by growing its services division, specifically with management mentioning during a recent earnings call that their global services business continues emerging as a critically important aspect of its cloud solutions segment, also uncovering through research that Flex’s global services business is already operating 25 sites spanning across 18 countries. This is a positive because it allows the company to not be as subjected to supply and demand fluctuations across the multitude of industries and customers it serves. Also, in briefly offering more insight into some of the companies that Flex Limited works with, some of its larger clients include Ford Motor Company, Cisco Systems, Microsoft, Johnson & Johnson, Motorola Solutions and troves of others.
Speaking of inherent hedges, one of the reasons I felt the urge to specifically name some of the company’s clients stems from my brief mention of the supply and demand waves. Primarily, the company has struck a great balance in that it is focused on being a key supplier of new and innovative technologies, but diversified in the best way possible through selling products and offering services to a bunch of different industries (many of which are growing rapidly, by the way), ensuring that even if a handful of the categories it serves are experiencing temporary demand softening, revenues are still, to a degree, going to be protected by the stability found in other segments.
In terms of catalysts and not mere sales buffers, Flex’s executives have also made it clear that they are intent on shifting the company’s product and service offerings towards higher-margin and longer-cycle businesses, including automotive, industrial and health solutions.
Still, a general sensible concern for many lies within the company being deeply rooted in the global supply chain, and just because it is the answer for many, doesn’t mean that it still isn’t subjected to breakdowns in the supply chain itself. This is worth noting since persistent supply chain issues can lead to Flex bearing higher costs (hurting margins in the short and intermediate-terms), its ability to meet its clients demands in an efficient manner as well as hurts them when trying to effectively manage inventory, which can be a whole other cost in and of itself.
.png/1200px-Supply_and_demand_network_(en).png)
In expanding my own investment viewpoint a bit, I’d also like to highlight the company’s current and most probable future performance under the umbrellas of macroeconomic factors, including interest rates, the strength of the USD, Fed policy and overall economic liquidity.
Sounds fun?
I agree.
On the basis of the company and the current interest rate environment, rates have been slowly coming down towards the Fed’s 2% hellbent target, but whether or not one actually thinks this sort of staunch mandate is appropriate in the current market environment is another story.
Before diving into this, I think it is critical to preface it by mentioning that I drafted this stock analysis article on 11/2/2024, days prior to the 2024 Presidential Election, and I’ve developed a general interest rate framework for both sides of the aisle, whoever the victor ends up being. Thankfully, by the time this article is published you’ll already know the results.
Regardless of victor, I don’t deem current Fed policy as being all too sensible, as inflation is still a persistent and biting issue plaguing the United States, and it seems like many hold fast to the false and frankly ridiculous narrative that just because inflation across the board is decelerating doesn’t mean that it ceases to exist.
This being said, I think a sensible victor should put (or keep) in place a Reserve team not afraid to deviate from the 2% target, and with that, concentrate heavily on taming inflation, perhaps through the monetary tool of raising rates or even implementing some quantitative tightening (QT) if necessary.
But hardly anyone ever asked me, but hey, at least you probably listened.
Still, I believe that if Trump were to receive a second term (which, by the way, the market seems to pricing in, with the value of the Peso coming down with the USD showing strength in recent weeks, not to mention with the stock market at all-time highs, among other factors), the Fed would take a much more hawkish tone and subsequently not hesitate too long with bringing rates back up in order to tame inflation. In the event of a Harris victory, I think it would be reasonable to expect not much in terms of deviation from current Fed policy, with the 2% target remaining in place and rates continuing to float down.
In the context of Flex Limited, the general framework is fairly straightforward, the fact(s) being that if the Fed continues to bring down rates, borrowing costs for the company (among others, of course) will go down and also stimulate spending from its customer base, at least in the short-term. As it relates to higher rates, or a more hawkish Federal Reserve stance, borrowing costs would come up and be a less optical outcome in the short-term, but in the grand scheme, I wouldn’t mind a more hawkish, inflation-killing Fed.
With respect to the home currency, a strong USD (which historically occurs as a result of higher interest rates) typically means negative impacts on a company operating in the United States and having to bring back revenues from abroad, especially in the case of Flex and it being a business that a serves a lot of international enterprises, as once Flex has to repatriate its international revenues back into USD, the company actually ends up receiving less (or fewer earned USD) due to unfavorable exchange rates. Also, the company’s products might also become too expensive for international clients when priced in their local currencies, perhaps acting as another blow, as demand for the company’s products would almost certainly be brought down in certain regions as a result of a stronger USD.
Lastly, on the basis of overall economic liquidity, with many global central banks tightening their respective monetary policy, market activities tend to slow and liquidity becomes reduced, and with that, consumer and enterprise spending, which, for better or worse, I think is what we need before we light the fire back up again through lowering rates.
While nobody has a crystal ball nor knows exactly where these measures are absolutely going to end up, this is the current landscape that we find ourselves in and they are important considerations to ponder and thoroughly account for prior to making any investment decisions, particularly with a company with as large a global footprint as this one.
Flex’s stock financials
In getting more familiar with the company on a standalone financial basis, Flex Limited’s executives are the helm of a $14.09 billion company (according to its most recent market capitalization), the company’s stock (NASDAQ: FLEX) maintaining an associated price of $35.48, the company not presently offering its shareholders a regular quarterly or annual dividend all while hosting a price-to-earnings (P/E) ratio of 15.86.
It is my opinion that the only primary figure of substance here lies in the price-to-earnings ratio, mainly given that it is commonly held that a price-to-earnings ratio of less than 20 indicates that a stock is trading below its fair value, whereas 20 on the dot indicates that a stock is trading at exactly its fair value, and it isn’t exactly tough to deduct that above 20 implies that a stock is said to be overvalued. Not only is the company’s current ratio below 20, but on a more comparable basis, a few of publicly traded competitors are trading at more elevated, demanding valuations, with, for example, Fabrinet and Plexus Corporation maintaining P/Es of much loftier 29.97 and 35.25, respectively, at the time of this draft.
Also, I don’t mind this company’s management opting to not pay out an annual dividend, as given all of the moving parts (pun absolutely intended) within this company’s operations as well as the many different cycles it has to contend with, and, I, like Flex’s management team would rather not be as flippant with cash burn in the form of a dividend, especially given what we’ve seen out of the supply chain shocks during and following the brunt of COVID.
In looking more into the company’s financial wellbeing, Flex’s executives are at the helm of $18.2 billion in terms of total assets along with $12.9 billion in terms of total liabilities, generally setting the stage for a healthy balance sheet, with cumulative assets outweighing aggregate liabilities by a comforting margin, especially when incorporating the company’s size, scale, and breadth of operations globally. In doing some more technical digging on my part within Flex’s balance sheet and associated metrics, I’m glad to find that it has a net debt-EBITDA ratio of 0.35 along with an interest coverage ratio of 8.8, both suggesting that the company is far from being overly levered and it is also, more importantly in my opinion in the context of this company, can more than sufficiently pay the interest payments associated with its outstanding debt(s).
Regarding the company’s income statement, Flex’s revenues stemming off of 2020 have been fairly flat, standing at $24 billion in 2020, 2021 and 2022, being pushed up a bit in ‘23 to $28.5 billion, largely boiling down to robust demand for its products and services, particularly in the realm of successfully acquiring new customers, plus the company’s longer-term strategic initiatives such as “Flex Forward” have really begun paying off. In offering a little more detail, Flex Forward is an internal initiative highlighting the company’s commitment towards capitalizing on secular industry trends, allowing the company to stay ahead of the demand and subsequent supply curve through its offerings.
Almost every single company ever has at one point or another asserted that they were “forward-looking,” but this isn’t mere corporate jargon on Flex Limited’s part, as this company has indeed been putting its money where its mouth is and investing aggressively in innovation and doing a lot to solidify itself as a mission critical supplier for growing industries.
The biggest boon in this respect was the increased demand in Cloud and AI, but it is also worth noting that the company’s automotive and medical segments (medical devices, specifically) retained solid demand during this year as well, which was encouraging.
As it stands with its most recently inked annual revenue figure (reported March 2024), there was a bit of softening, dribbling down a bit to $26.4 billion, and upon digging more into why this occurred, it appears as though it experienced some softened demand across some of its segments, particularly as supply chains around the world continue becoming better stabilized, leading to customers buying less urgently (frequently is the better word). It is also more important to recognize that its slight revenue slowdown can also be attributed to its spin-off during the Q4 ‘24 of Nextracker, as a result, now being classified on Flex’s books as discontinued operations. Spin-offs almost always lead to a reduction in revenues for the original parent company (sensibly so), and in this context, I am looking past the trees and actually like the value-accretive and future-focused measures this company has been quick to engage in, including spinning off a division that allows Flex to better align its operational focuses and better streamline financial efficiencies in the process.
Still, even though revenues trailed down incrementally between 2023 and 2024, I still take a bit of solace in the apparent buffer as a result of this company’s (more intentional and focused now) industry diversification, going back to one of my original points in that if one segment is dragging on a little due to a cyclical softening in demand, it has an inherently higher chance of recouping these losses through yet another growing segment, and at the moment, Cloud and AI alone are picking up much of the slack.
With respect to Flex’s cash flow statement, its total cash from operations have had a strong relative delta with one another during the same 2020-2024 timeframe. Namely, the company reported a resoundingly negative total cash from operations figure of -$1.5 billion, then rising to $144 million in 2021, just north of $1 billion in 2022, $950 million in 2023, and $1.3 billion in 2024.
Context matters, and when throwing some necessary context into the mix, Flex recently elected to take its foot off the gas in China and India, aiming to reduce its net exposure to the volatile products and markets in the regions at the time, an example being one of Flex’s larger Chinese clients being impacted by geopolitical issues, leading to a reduction in demand in assembled products for said company. Additionally, on a more nuanced note, in the first quarter of 2020, $899 million in receivables were sold under the company’s asset-backed securities program, which was ultimately reported as investing activities as opposed to operating activities, with this accounting treatment adding to the 2020 bleed.
Things got a little easier following 2020 in this respect, with cash from operations significantly rising throughout the rest of the reported years, increasingly padding its balance sheet and growth prospects for the long-term.
Flex’s stock fundamentals
For the final course of today’s meal, according to Charles Schwab’s platform, Flex Limited’s net profit margin is (expectedly, given what we’ve seen in the company’s total cash from operations) shown to be 3.45%, with the vast majority of reasons for this being the case being quite understandable for such a company.
Primarily, Flex Limited has a very strong presence in the electronics manufacturing services (EMS) industry, itself being all too known for thin margins, even though it’s also categorized as being a high-revenue division for this company. Also, for as large and important as a company this one undeniably is, it admittedly has relatively low pricing power, being that as a contract manufacturer, pricing power lies more within its customers, rather than suppliers.
In many respects, it’s an unfortunate race to the bottom.
In tying this together with the company’s competition, the average net profit margin for the outsourced manufacturing industry floats between 4% and 8%, and while Flex’s is less than the lower end (albeit not by a wide margin), I deem this as being a mere byproduct of its ongoing business transformation, mainly with its executives actively working on optimizing its manufacturing footprint as well as general costs associated with restructuring such a large business operation.
As a prospective, forward-looking shareholder, I am fine with the costs of these transformations cutting a little into the company’s current margins, and I sympathize with the cost(s) of achieving and maintaining global scale.
Should you buy Flex stock?
As I’ve learned more and more about investing, I’ve grown increasingly fond of companies that are in transformative phases, as these periods usually involve skeptical shareholders jumping ship and general market sentiment not being as hot as it usually is, which makes general sense being that perceived risk has gone up by virtue of an enterprise like this one looking to shake things up and allocate capital in different ways and areas.
Nevertheless, after trudging through various reports, earnings calls and presentations coming out of Flex Limited, while also acknowledging the widespread falsehood that the best time to invest is when a company or a market is hot, it seems to be doing the right things, plus it also has a great base of financials and fine relevant metrics and ratios, enabling the good company to become a great one in the future.
In summarizing what I’ve seen through this company through a financial lens, Flex Ltd. has a solid balance sheet that can feasibly afford future growth, stable-to-generally growing annual revenues (which I presume in the intermediate-to-long-term will grow at a more defined rate due to continued growth in AI and Cloud), with its cash flows from operations also nicely building on top of each other in more recent history, and when it comes to its current net profit margin, it’s low, but it’s low for all of the right reasons.
All things considered, I think it makes the most sense to lend this company’s stock (NASDAQ: FLEX) a “buy” rating.
DISCLAIMER: This analysis of the aforementioned stock security is in no way to be construed, understood, or seen as formal, professional, or any other form of investment advice. We are simply expressing our opinions regarding a publicly traded entity.
© 2024 MacroHint.com. All rights reserved.