Fitch Rates Flextronics’ $500MM Senior Notes Offering ‘BBB-‘
June 3, 2015 | By Business Wire News
Fitch Ratings has assigned a ‘BBB-‘ rating to Flextronics International Ltd.’s (Flextronics) senior notes offering. Pro forma for the issuance, Fitch’s action affects $4.2 billion of debt, including the undrawn $1.5 billion revolving credit facility (RCF) but excluding the senior notes offering. The Rating Outlook is Stable. A full list of ratings follows at the end of this release.
Flextronics will use net proceeds from the senior notes issuance for general corporate purposes and to fund the EUR457 million ($494 million) acquisition of automotive mirror electronics supplier, MCi. The target adds EUR200 million ($216 million) of annual revenues with high visibility, given solid market share with all the top 10 original equipment manufacturers (OEMs) and long product life cycles.
Flextronics also will leverage MCi’s capabilities across all business groups and over its strong global supply chain platform, providing opportunities for increased penetration and cost savings. Flextronics expects the acquisition to close in the second half of fiscal 2016.
The ratings and Outlook reflect Fitch’s expectations for stable profitability and solid annual free cash flow (FCF) through the intermediate term, despite capital spending returning to normalized levels beginning in the current fiscal year.
Fitch expects slightly positive organic revenue growth for fiscal 2016, driven by new program ramps more than offsetting lower sales from Motorola Mobility following its acquisition by Lenovo Group Ltd.
Nonetheless, Fitch expects low-single-digit revenue growth through the cycle, driven by strong customer relationships and share in mature traditional end-markets. Fitch believes faster growing end-markets, including medical, automotive, and industrial automation, will drive positive mid-cycle revenue growth.
Fitch expects profitability will gradually strengthen over the longer term from a richer sales mix of non-traditional markets and lower exposure to high-velocity markets, particularly handsets. Fitch expects operating EBITDA will trough at $1.2 billion in the near term and expand through intermediate term.
Fitch expects more than $500 million of annual FCF through the cycle, driven by strengthening profitability and cash flow from the liquidation of inventory during a downturn. Additionally, Fitch believes Flextronics’ increasing ability to moderate capital spending in the face of lower demand supports the industry’s maturity and strengthened FCF profile.
Fitch expects Flextronics will use annual FCF for acquisitions and share repurchases. Fitch expects acquisitions will be smaller and focused on access to technologies and customers in faster-growing markets. At the same time, Flextronics is targeting 50% of FCF to be distributed to shareholders through stock buybacks.
Credit protection measure should remain sound for the rating. Fitch expects total leverage (total debt to operating EBITDA) below 3x and debt adjusted for off-balance-sheet accounts receivable securitization and operating leases below 4x. Fitch estimates total leverage was 2.1x, pro forma for the senior notes offering.
KEY RATING DRIVERS
Rating strengths include the following:
–Significant advantage in scale and scope of operations as the second largest provider of electronics manufacturing services (EMS) in the world;
–Favorable industry trends toward increased outsourcing of manufacturing, particularly in non-traditional end-markets such as industrial and medical, where Flextronics shares a leading position;
–Strategic positioning in increasingly complex EMS product offerings including product design, engineering, and product lifecycle management which enhance the value of EMS partnerships for customers;
–Positive annual FCF through the cycle, driven by higher profitability in expansionary periods and cash from the lower inventory requirements during a downturn.
Ratings concerns include the following:
–Vulnerability to execution missteps, inherent to the EMS industry’s low profit-margin business profile;
–A highly competitive environment which pressures profitability across the industry;
–Customer concentration risk, with its top 10 customers accounting for roughly half of revenue in fiscal 2015;
–Exposure to the cyclicality of the IT industry and the broader macro economy through a high proportion of consumer and networking infrastructure business.
–Low single-digit revenue growth for fiscal 2016, despite expectations for lower demand from Motorola Mobility.
–Low- to mid-single-digit revenue growth beyond the near term, driven by new product ramps, particularly in new growth markets.
–Revenue concentration remains substantial but is reduced over time, driven by faster growth in non-traditional markets.
–Operating EBIT near 3% in the near term but modest expansion through the intermediate term from a richer sales mix and lower exposure to high velocity products, including cell phones.
–Capital spending continues below depreciation, supporting annual FCF.
–50% of annual FCF will be returned to shareholders via stock buybacks.
Future developments that may, individually or collectively, lead to negative rating action include:
–Secular shifts or a large customer loss resulting in margin compression with limited visibility on the potential to return profit margins to historical levels.
–Long-term, sustained leverage above 2.5x (or 3.5x on an adjusted debt basis) as a result of debt-financed acquisition(s) or shareholder-friendly activities, or structurally lower EBITDA.
–Upside movement in the ratings is limited given Flextronics’ thin operating margin profile and capital intensive business model. This is exacerbated by significant volatility driven by product concentration, product iteration cycles, and potential volatility in the demand for consumer electronics. Fitch views these factors as a limit on the company’s ability to achieve higher ratings in the near term.
–Greater diversification into markets with significantly lower cyclicality would strengthen the credit profile; however, this may not result in a positive rating action by itself. Fitch believes a positive rating action would also require sustainably and structurally lower leverage through the cycle (below 1.5x debt-to-EBITDA, or below 2.5x on an adjusted debt basis).
Liquidity as of March 31, 2015 was solid and consisted of:
–$1.6 billion in cash;
–An undrawn $1.5 billion senior unsecured revolving credit facility expiring March 2019.
More than $500 million of annual FCF also supports liquidity.
Flextronics also utilizes asset-backed securitization programs and an accounts receivable factoring program for additional liquidity purposes. These programs are located off balance sheet:
–$550 million Global ABS program;
–$225 million committed North American ABS program.
Total securitization funding at March 31, 2015 was $741 million, and receivables not yet collected under the accounts receivable sale program were $486 million. These amounts are included in Fitch’s adjusted debt calculation.
Total debt as of March 31, 2015 was $2.1 billion and consisted of:
–$593 million in senior unsecured term loan debt due August 2018;
–$475 million in senior unsecured term loan debt due March 2019;
–$500 million in 4.625% senior unsecured notes due February 2020;
–$500 million in 5.0% senior unsecured notes due February 2023.
FULL LIST OF RATING ACTIONS
Fitch currently rates Flextronics as follows:
–Long-term Issuer Default Rating at ‘BBB-‘;
–Senior unsecured debt at ‘BBB-‘.
The Rating Outlook is Stable.
Date of Relevant Committee: June. 23, 2014.
Additional information is available on www.fitchratings.com
Corporate Rating Methodology – Including Short-Term Ratings and Parent and Subsidiary Linkage (pub. 28 May 2014)
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