Paul - Doug did a great update on SFLX - as you say, I think that this is the last chance to get on board for awhile, at least at a reasonable price:
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Smartflex Systems Inc. (SFLX) Update
By Doug Fant
Smartflex Systems Inc. (Symbol SFLX) is a final assembler of flexible interconnect systems for producers of electronic components. that includes assembly of flexible circuit substrates (Chip-On-Flex, and the newest Flip-Chip-On-Flex techniques) for more dense packaging of electrical components - i.e smaller products such as cellular phones, disk drives, or pagers.
SFLX resides in the "Electronics/Electric/Component, Control" Industry Group (ECC Group). Particularly Smartflex is a final assembler of flexible interconnect components for disk drive makers and chip makers - i.e. an Electronics Contract Manufacturer or ECM.
Recently Smartflex released 2d quarter earnings of $.09/share which were below expectations "because of a substantial revenue shortfall from a major customer." So how stands Smartflex and what are its future prospects? They are good indeed very good for a number of reasons.
ECM SECTOR STRONG
First we consider the strategic position of Electronic Contract Manufacturers in general. In an article previously posted August 4th on the Lonestar Growth Investor Homepage Reporter Gabriella Jonas of the Electronic Buyers' News reported that many ECM's "reported banner second quarter, including record sales, earnings, and operating incomes." Quoting Electronics Analyst Steve Ossad at UBS Securities, New York he noted that "[I]n general I've never seen the industry quite so strong."
Mr. Ossad attributes the growth to both strategic and immediate events. Demand for ECM's services continues to strengthen and is expanding beyond the computer industry services, particularly into the telecom and datacom sectors, thereby making the ECM's less susceptible to cyclical variation. Also OEM's are consolidating business from regional ECM's to globally - based ("multiple geographies") ECM's.
These factors are important because per Ossad "There's lot's of operating leverage in these companies' that has to be covered, once it's covered you're looking at real profitability". That is, these are high fixed cost manufacturers. Once those fixed costs are covered, profit margins expand rapidly.
Indeed growth in the industry is far beyond the average annual 7.7% average growth forecast for S&P 500 Stocks. Per Ossad, "We think that the overall industry forecast of 25% to 30% (annual) growth could be conservative, but it certainly is achievable... And the major companies... should register at least 20% year-over-year gains."
Similarly Pam Gordon, President of Technology Forecasters, Alameda, Calif. sees "evidence of the global compound annual growth rate of 31% that her company predicted for the second half of the 1990's." Major reasons for that growth spurt include "continued outsourcing by OEM's who previously manufactured in-house, as well as further vertical integration of ECM services from design through build and final delivery."
Interestingly if one reviews the stock price action of the EC Group's Index, the stocks are still far from challenging their former 52-week high reached in September 1996. In September 1996 the ECC Group Index peaked at 1170. A long decline then followed bottoming in April 1997 (like many other tech stocks) at about 800. Then a turnabout commenced. The ECC group Index peaked at 1045 in early August 1997 and has since tailed off to 980, or about 20% below its September 1996 peak. This divergence of price/growth action suggests that the stocks in this ECC Secot have far to run, including SFLX.
SFLX CASH RICH, DEBT FREE, AND READY TO UTILIZE CAPACITY
Turning to SFLX specifically we see a lot of good news hiding behind the facade of last quarter's poor earnings. First SFLX has no debt. Smartflex's Long-Term Debt to Total Capitalization Ratio is only 4%.
Next SFLX's capital expansion and upgrade of its worldwide manufacturing capacity has been completed. Thus capital expansion will not drain dollars from the profit side of the balance sheet in future quarters (In its Second Quarter Release SFLX specifically stated that "Earnings declined due to cost increases associated with the significant expansion of the Company's manufacturing capacity").
SFLX is cash rich carrying almost $23 MM cash on its balance sheet - even after the capital expansion projects have been completed. That gives SFLX much flexibility in business planning moving forward.
Finally SFLX was still profitable last quarter while its factories operated at only 55% percent of capacity. That suggests that as orders pick up, that SFLX will put much cash quickly to the bottom line and profit margins will expand nicely.
Turning to Smartflex's major customers, we find that SFLX is in pretty good shape. It manufactures Quantum's tape and optical drives, and all of Iomega's Zip drives, etc., both very healthy disk drive companies. Next it manufactures most of Seagate's high end network drives. Although Seagate was the "culprit" who suspended high-end drive parts orders from all of its suppliers including SFLX, in reality SEG is still owns the biggest portion (60%) of the high end drive market. Thus SEG's orders to suppliers including SFLX should recommence soon and be a strong source of revenue for much time to come.
Next SFLX manufactures components for Hewlett Packard's Scanner Division. Turning to new business sources, SFLX this quarter streamed a new high volume order for mid-range drives from an Asian Customer, likely Maxtor. Finally, SFLX used its first to market commercial technique known as "Flip-Chip-On-Flex" to commence and qualify a program for Western Digital Corporation.
Indeed the ground is "moving" beneath SFLX in a positive fashion too. Flip Chip Technologies, a Joint venture between Delco and Kulicke & Sofa just commenced production from a new large flip chip wafer bumper plant in Phoenix, Arizona (wafer bumps are little bumps which go on the ceramic substrates which help guide final flex assemblers in aligning and putting together flex chips). Flip Chip will serve as a parts supplier to the final flex assembly manufacturers such as Adflex and Smartflex.
Similarly as reported in the July 21, 1997 Electronic News, Polymer Flip Chip Corporation has now invented a competing solderless wafer bumping technology too. Since SFLX's non-disk drive business has been hindered for the last three quarters due to the lack of qualified components, then these components manufacturers' plant openings should be happy news to the final assembly flex manufacturers. (Indeed SFLX's non-disk drive business has shrunk as a percentage of its total business for the last three quarters. However the trend toward smaller and slimmer electronics products should reverse those fortunes).
In addition serious competition for SFLX and AFLX will not grow substantially. To my knowledge only one other major flex assembly plant is under construction by Innovex Corporation in Minnesota and plant completion (let alone final testing) is still 15 months away.
Finally SFLX's stock looks good from a technical and fundamental perspective. First looking at the Intraday Trading Charts for Smartflex for the Month of August, one sees that 70% of all large block trades have been on an uptick, while only about 30% of such block trades have been on a downtick.
Next for most of 1997 SFLX stock has been in a downward trading pattern. However as of August 17th, SFLX is currently located dat $11.625/share directly upon its 50-day Moving Average, and the stock appears to be in a bottoming process.
Fundamentally SFLX is trading at the lower end of both its historical Price to Book (currently 1.3 in a historical range of 1-2.9) and Price to Sales (currently 0.5 in a historical range of 0.3 to 1.1) Ratios. With a small float of only 6.428 MM shares, there appears to be much upside should anyone begin buying these shares for institutional accounts (currently SFLX institutions own only 31% of the Company's stock).
If SFLX fails to regain SEG high-end orders, or gain new WDC orders or expand into and gain business in the telecom or datacom markets, note that SFLX carries a solid book value of over $8.00/share, not far from its $11.625/share closing price as of August 15th. So the downside risk on this stock should be minimal.
A couple of points to make from Smartflex's Second Quarter Report: (1) Revenues from non- hard disk drive business doubled when compared to the first quarter this year; including scanner business and arrays. (2) Smartflex spent $7.6 MM on expansion this year with $5.9mm of the spending occurring in the just completed quarter. All customers have qualified the Monterrey, Mexico Facility, and customer qualification of the expanded SMT (extra line added) and new COF production lines will commence at the Cebu, Philippines Facility shortly too. (3) Finally three of the ten new programs commenced in the last quarter involved the new Flip-Chip-On-Flex technology.
In closing as Gil Olachea Amkor's Vice President Corporate Marketing noted in the July 21, 1997 Electronic News Article "Gear Firms Gird for Chip-Scale Flip Chip", "The miniaturization market is booming - everything that's thin and slim is sold out." That trend should bolster the future of flex assemblers such as Smartflex |
