Fitch Affirms Jabil’s Ratings at ‘BBB-‘; Revises Outlook to Positive
By Business Wire News
By Business Wire News
Fitch Ratings has affirmed the Long-Term Issuer Default Rating (IDR) and senior unsecured ratings on Jabil Circuit, Inc. (Nasdaq: JBL; Jabil) at ‘BBB-‘. The Rating Outlook has been revised to Positive from Stable. The affirmation affects $2.3 billion of total debt outstanding as of Feb. 29, 2016. A complete list of rating actions follows at the end of this release.
The affirmation reflects Jabil’s substantial scale and scope in the electronic manufacturing services (EMS) sector, growing non-technology segments and resulting effect on margins, strong FCF generation and commitment to a conservative leverage profile. Fitch believes the negative effect of a slowdown from Jabil’s largest customer is a temporary event that will be overshadowed by several positive long-term trends emerging in the EMS sector. These trends – electronification of everything, product-agnostic strategies and design collaboration – form the basis of Fitch’s revision of Jabil’s Outlook to Positive despite near-term performance headwinds, as they address the cyclicality, customer concentration and low margins that have long been the primary credit risks relevant to Jabil and other EMS providers.
Fitch believes growth in non-traditional electronics markets (i.e. medical, healthcare, aerospace & defense) will continue to improve Jabil’s end-market and customer revenue diversification and increase exposure to products with longer lifecycles and higher margins. Jabil’s willingness to leverage its supply chain and design and manufacturing expertise to products without electronic content such as packaging can compound these benefits, and provide access to large new addressable markets and blue chip customers. Although Jabil does not quantify its design-related revenue, Fitch believes the company is increasingly involved in the strategic elements of the manufacturing process, which should benefit margins and customer stickiness.
KEY RATING DRIVERS
Substantial Scale and Scope: Jabil is the third-largest electronic manufacturing services (EMS) provider with a balanced global manufacturing footprint and full suite of increasingly complex EMS product offerings, including design, engineering, and product lifecycle management. Fitch believes Jabil’s scale and scope create high barriers to entry and are key factors driving a blue chip customer base spanning a variety of industries.
Growing Non-Traditional Segments: Fitch expects growing non-traditional businesses such as healthcare and packaging will help diversify Jabil’s exposure to mobility and support mid-single-digit revenue growth through the cycle. Nonetheless, mobility remains a core focus for Jabil and a significant volume and revenue contributor, and will continue to comprise a material portion of the business, alongside growing non-technology segments.
Customer Concentration: Like most EMS companies, Jabil derives a significant portion of its revenue from a small number of customers (FY2015 top five accounted for 50%). Its largest customer (Apple, Inc.) comprises 24% of total revenue, which can increase performance volatility, as evidenced by recent results. Fitch views the reduction over time in the number of customers contributing to at least 10% of Jabil’s annual revenue as a positive trend. Customer concentration risk is partially offset by the multitude of products and programs per customer and an increasing mix of revenue from non-traditional segments.
Increasing Margins, FCF: Fitch expects Jabil’s diversified manufacturing segment (DMS) to outgrow its EMS (assuming no material disengagements) over the intermediate term. DMS typically operates at a higher margin than EMS, implying that faster growth in DMS should drive a gradual increase in overall company margin. Fitch expects Jabil’s mid-cycle EBITDA margin to average in the mid- to high-single digits over the rating horizon. Increasing margins, combined with a reversion to normalized capital expenditure levels following two years of elevated investment underpin Fitch’s expectations for about $500 million in mid-cycle annual FCF over the rating horizon. Annual volatility around this figure may result from working capital swings.
Modest Leverage: Fitch expects credit protection measures will remain solid and provide Jabil headroom for short-term operational shortfalls and incremental debt issuance. We expect total leverage (total debt-to-operating EBITDA) to remain below 2.5x longer-term, versus 1.8x for the LTM period ended Feb. 29, 2016. Total leverage adjusted for rent expense and off-balance-sheet accounts receivable sales was a Fitch-estimated 2.5x for LTM ended Feb. 29, 2016.
Capital Allocation: Fitch expects Jabil to continue to pursue acquisitions in plastics and other non-traditional segments, with a focus on smaller deals more likely due to valuation concerns for targets of scale. Jabil recently announced plans to allocate 40% of cash from operations to share buybacks (versus a previous target of 20%) over the next two years, subject to a maximum of $1 billion in aggregate repurchases over that timeframe. Fitch assumes Jabil will manage liquidity such that it will be able to partially offset incremental borrowings to fund its upsized repurchase plan.
Fitch’s key assumptions within the rating case for Jabil include:
–Revenue mix shifts towards the higher-margin DMS segment over the long term (about 46% of total revenue by the end of FY2019 from about 40% today). Annual EMS revenue growth will continue to approximate GDP-like levels, while DMS grows in the high single- – to low-double digits (except for FY2016). Concentration in one large customer creates risk for short-term volatility around long-term trends in DMS;
–EBIT margin (under Fitch’s calculation) approaches 4% over the rating horizon based on increasing mix of higher-margin DMS segment;
–Mid-cycle FCF exceeds $500 million annually through the rating cycle (with annual fluctuations around that figure likely);
–Capital expenditures decline to about $850 million in FY2016 (from $963 million in FY2015) and normalize around 2.5%-3% of revenue over the next several years as expansion investment winds down;
–Ongoing dividends of approximately $60 million-$70 million per year; share repurchases between $800 million and $1 billion in aggregate from FY2017 to FY2018, representing 40% of cash from operations. Fitch assumes Jabil executes its share repurchases in the context of investment-grade metrics.
Positive Rating Action: Fitch’s expectations for Jabil’s leverage to sustain below 2.5x and annual mid-cycle FCF to exceed $500 million, potentially due to margin expansion from growth in non-traditional markets.
Negative Rating Action: Expectations for sustained total leverage above 3x, likely due to margin compression following loss of significant customer(s) or secular shifts; a lack of further end-market diversification over the longer term, leaving the company susceptible to significant operational shortfalls from lower than expected volumes for a limited number of products; the inability to generate positive annual FCF through the cycle.
Fitch believes liquidity as of Feb. 29, 2016 was solid based on $883 million in cash ($636 million located overseas), $1.31 billion of availability under Jabil’s $1.5 billion senior unsecured revolving credit facility (RCF) expiring July 2020, and Fitch’s expectations for mid-cycle FCF of about $500 million annually beginning FY2017. Jabil also uses two accounts receivable securitization facilities for additional liquidity purposes, both of which are located off balance sheet: a $175 million committed European/Asian receivables facility and a $200 million committed North American receivables securitization, which are set to expire on May 1, 2018 and Oct. 20, 2017, respectively.
Total funded debt as of Feb. 29, 2016 pro forma for the July 2016 $300 million senior notes issuance and subsequent refinancing is $2.3 billion and consists of:
–$28.7 million of capital leases;
–$1.5 billion senior unsecured RCF due 2020 ($190 million drawn);
–$519 million in term loans due July 2020;
–$400 million 8.250% senior unsecured notes due March 2018;
–$400 million 5.625% senior unsecured notes due December 2020;
–$500 million 4.700% senior unsecured notes due September 2022;
–$300 million 4.9% senior unsecured notes due July 2023.
FULL LIST OF RATING ACTIONS
Fitch has affirmed the following ratings:
Jabil Circuit, Inc.
–Long-term IDR at ‘BBB-‘;
–Senior unsecured debt rating at ‘BBB-‘;
The Rating Outlook is Positive.
Date of Relevant Rating Committee: June 24, 2016
Additional information is available on www.fitchratings.com.
Corporate Rating Methodology – Including Short-Term Ratings and Parent and Subsidiary Linkage (pub. 17 Aug 2015)
Dodd-Frank Rating Information Disclosure Form
Matt Hankin, CFA
Fitch Ratings, Inc.
33 Whitehall Street
New York, NY 10004
Alyssa Castelli, +1 212-908-0540