There shouldn't be much margin difference between JBIL/FLEXF.
Sorry I took so long to get back to you; I have a busy schedule this summer.
You asked: How do you think about margin expansion for Flextronics analytically? Why should gross margins go up?
My Response: Gross margins should go up because there is fundamentally no difference on much of the recent business that Flextronics is bringing in and the business that other companies in this sector does. The other business brings AT Profit margins for these companies of 5-6% currently, up from 4-5% a year ago. The whole ECM sector seems to be seeing some margin expansion. Why should FLEXF be different?
It is true that Flextronics has probably one of the lowest cost manufacturing sites in the world at Doumen, China, and that this site manufactures large quantities of low margin consumer products like Microsoft mice etc. But the new site expansion in San Jose is aimed at high margin business, and I understand this site will be filled quickly. And several high margin, high stock price players like Jabil and Solectron are building in the Guadalajara market, where Flextronics is starting their facility up next month to "take advantage of a new business opportunity". Why should Flextronics business here have a lower margin than Solectron or Jabil? There is competition in this marketplace, even in today's hot market.
You asked: Jabil will be about a 12.5% GM business for FY 8/31/97. Flextronics is ballpark 3% lower.
Why is Jabil so different from FLextronics? Why will Flextronics improve? What is your target GM% and EBITA%?
My Response: Jabil used to have a low margin. Essentially Jabil's stock has increased 500% (96 avg to latest price) on only a 15-20% increase in sales. But Jabil's margin has expanded since weaning themselves off the low margin Quantum business and moving into a lot of networking and telecom business. The stock has run-up based on the margin increase. I think the same thing will happen to Flextronics. Their new businesses should eventually generate 12% GM and we could see a repeat of the Jabil market story.
You asked: My hypothesis is that more margin is made on value-added (assembly, testing, packaging, distribution) especially on more complex products. I think Jabil has both a higher component of value-added and a more complex product mix. Making a Pilot for US Robotics is good, but it is not as complex a product as a high-end
router for Cisco.
My Response: Flextronics alone among the big 5 public ECM companies, has targeted the miniaturization trend in electronics. Marks seems to believe that China will assume the mantle of the miniature electronics manufacturing center of the world, taking it from Japan. The USR Palm computer, the purchase of Astron(muniature boards) and naChip(bare chip on boards), the retention of Stephen Rees,the Astron executive experienced in this marketplace, have all paved the way for Flextronics to be the undisputed leader among ECM companies in this marketplace.
It is true that Flextronics uses their low cost China plant to capture some large volume low margin business (mice). But this isn't the whole company anymore.
Interesting that you should note about Cisco routers, you know, of course, that Flextronics is manufacturing Ascend's Max TNT, the current state of the art ISP access equipment? I understand from the January conference call, that this is a sole source contract. Again, why should there be a big difference in margins?
The Ericsson business could be one reason. I think the margins here will be low for the next year or so, but then I expect margin expansion in that business as well. If Flextronics gets more customer business into the Karlskrona plant, then we could see big margin expansion.
As for the higher margins from the more service related manufacturing in US electronic centers, I believe the San Jose plant starting now gives Flextronics the second largest PCB assembly capability in San Jose, behind only Solectron, who in turn has captured a large Japanese company contract here recently. Margins in San Jose ECM are excellent, in spite of the high costs here. Capacity is full.
Marks has several excellent long term strategies in place, and seems to be executing them well. He just isn't focused on making the Q numbers look good. He buys Astron for about $76M in a punk Hong Kong market in Feb 96. Today this operation could be worth $50M more based on the run-up in the value of HK stocks and businesses. Yet our market punishes FLEXF because of the $5M write-off associated with the purchase and confusion over how to report the numbers associated with the purchase.
I also think that Marks bought the Ericsson and FICO Plastics businesses for less than they would be worth in today's market. I think the growth in revenues will come first, the stock will climb, and then the margins will increase, and the stock will soar. It will take 2-3 years, but I'm in at the giveaway prices this spring, and I'm holding for at least that time span.
I really believe in Marks ability to grow this company. He has a strong management team in place, a tribute to his ability to lead people. And he will have grown this company revenues almost 1000% in 4 1/2 years by the time 4th Q 98 revenues are reported next spring.
Paul |
