Flex Ltd. (FLEX) Earnings Call Transcript & Summary

Okay. Thanks, everyone, for joining us. My name is Mark Delaney, and I cover Flex at Goldman Sachs. I'm very pleased to have with us today from Flex, the CEO, Revathi Advaithi. Thanks for joining us.

Thanks for having me, Mark.

[Operator Instructions] Jumping right into the Q&A, Revathi. It's been almost exactly 2 years since you joined Flex as CEO. What's something that you're particularly proud of the company having accomplished so far? And what would you most still like to change?

Well, Mark, it's actually exactly 2 years today. So I started on February 11, 2 years ago. So it is my second year anniversary, and it has gone by pretty fast, I would say, what with trade issues, tariff issues, COVID, all of that, it's been a kind of super exciting 2 years, if you can call it that. I would say the -- Mark, I think of almost any business as you first have to establish, is your core business working well. And is that executing on all cylinders. And are you pleased with how that is doing before you can really go into strategy, and how you rethink your strategy if you need to. So I think I've used that principle for every business I've run and for Flex was the same thing, right? My first year was all about just figuring out how do you get the fundamentals to be solid, how do you really execute well. How do you have the discipline to really grow in the right markets. So the first year really was driven by, I think, what is just a sound business principle, no matter what business you run. And then in the second year, we really focused on figuring out what our end market should look like, which are the 6 segments we want to participate in. How do you really go into our go-to-market strategy and get that right. So we've spent -- even despite COVID, spent a lot of time really focusing on which end markets we want to grow on. And then executing what I call our operational model, which is all about, is it delivering the right type of operational model for what our customers want. So I think what I'm most pleased about is the fact that our 165,000 employees have come together in 2 years through the challenges of trade, through the challenges of COVID and have delivered an exceptional, I would say, set of results for our customers, for ourselves and for our shareholders. We just closed our Q3 earning with record margins in a very challenging time. So there's a lot to be proud of. And in the middle of that, Mark, we rethought our vision, our mission. We have redeployed the cultural tenets of what makes up our organization. We have redone our incentive plan. So this has been a holistic rethinking end-to-end in the organization. And where we are set for moving forward, what I'm most excited about moving forward is how we envision this journey when we launched the Flex strategy last year to investors in the middle of the COVID pandemic is that moving forward, it's going to be all about continuing to tweak our portfolio. And for me, any business has to find ways to go up the value chain. And doesn't matter which industry you're on, what margin levels you're on, it's all about moving up the value chain, finding that next customer who's going to give more value for what you did yesterday. And so for us, that's the most important part of our transformation moving forward. And that's what really drives us to thinking about which end markets do we want to grow faster in, how do we set up to do that. How do we continue to transform into a product technology company. How do we bring investments into the reliability side of the business while making the agility side of the business more robust in terms of generating margins in cash. So I'd say the portfolio transformation of going from a contract manufacturing company to what I call a diversified manufacturing company is really where I'm most excited about, and that's the transformation that we're going through in the next phase of our lives. So it's been an exciting 2 years, but I think it will be an even more exciting 2 years looking forward.

That's great. Thanks for those introductory comments. And you touched on this already about operational discipline. It's something that's been a big focus for you and your time at Flex. Can you elaborate more, please, on what types of things Flex is doing operationally? I mean, certainly, we're seeing it in the EBIT margins of the company, but a lot goes into that. So talk a little bit more about what Flex is doing in order to achieve that operational discipline.

Yes, absolutely, Mark. And the first thing I'd say about operational discipline. I hear they said sometimes about me is that I focus a lot on getting kind of operational discipline right, and that's kind of my history and heritage. And I say that because every company, doesn't matter which organization you're in, whether it's a financial sector or whether it's a manufacturing sector or the tech sector, that is the core of every business. You can't have chaos and how you operate, right? So for me, when coming into Flex, getting the operational execution and discipline right, it was a no-brainer because that's the first place to start. You don't start with the portfolio transformation. When you're not executing on all cylinders, right? So -- and for us, the beauty of it was, we're a manufacturing company with a 50-year heritage, we know how to execute well. But I think we had just taken a few missteps, right, in terms of the decisions we had made, and how we had executed. So just getting us back on track in terms of making sure that the first is the decisions you made, the contracts you took were the right ones. And once you have the contracts, how you execute on them, everything from getting the program right to then once the program is mature, then executing on all cylinders was important. So thinking about it, end-to-end was really important for us. And so I'd say we have examples across the board, right? How we're rethinking contracts to how we're actually taking and tracking programs that are executed in the factory floor and our programs are getting more complex. So getting that right is important. And then lastly, once it is implemented, then how to really managing the costs associated with it. And how do you scale your kind of fixed cost, variable cost with your customers and their volume going up and down to which is executing on the operational model. I like to think of companies like Danaher and Honeywell and people like that who have executed operationally so well for decades, right? And this is not kind of you do it for 1 year, you do it for 2 years and you declare victory, right? You have to do it year after year because technology is changing, right? So operational discipline for me is something that you just live and breathe every day. And we see it in all aspects of our business. And the way we have solidified all of that is by -- I hate to use this word because it's overused, is implementing the Flex business system, similar to what has been done by some fantastic industrial manufacturing companies. But the way we have done it is a little different, right? Instead of making it this complex playbook. We have said, we use the Flex entrepreneurial culture that we have and our fast-paced culture and we have kind of implemented the Flex business system in key areas where we feel like it gives us the most impact. So for example, using intelligence in managing our contracts, using intelligence in managing our supply chain and making that consistent across the board. So like in a time like a semiconductor crisis, it comes into play, right? Because if you have end-to-end discipline in managing your supply chain, then you're using all that data and intelligence to really drive decisions. So we've executed that. So that's a more sustainable practice for me in the long term. So this has happened across the board, and I feel like operational discipline, whether it's in the HR field or finance, or how you run your factories, they all line up to what makes a great organization. And I'd say that's the path we're on. But even in that, I'd say our journey is just starting. I think we have a lot more to do in this. And I keep reminding my team, good companies find ways to do this constantly for years and years to come.

That's really helpful. You mentioned the types of contracts and programs the company has taken on. You need to be thoughtful about which businesses the company is engaging with. What in particular are you looking for when you're choosing what kind of business to pursue? And perhaps as a follow-on question, I think it may dovetail a little bit on the types of programs you're taking on is, what's pricing its business differently now than it used to?

Yes. So I'd first start by saying that it -- I think contract discipline and understanding your end target markets and really bringing it down to where you can win with customers, I think, is very, very important, right? My first job right out of school was, I was a salesperson, selling Xerox machines in India, right? So I knew what it meant to sell things to people, who had no value coming out of it, and how they treated you as a salesperson. So it's so important to get to our target markets right, so you can really focus on then creating a win-win relationship for customers that then will lead to good contract discipline. It's only when we're just competing for price, right, which the contract manufacturing industry has a track record of doing, then it becomes a very difficult proposition. So for us, the first thing we have done in all our segments is define the end markets we want to win in, which means that a lot of our end markets have shrunk in size for us, right? And these are large available end markets. But we're saying, well, we have tons of opportunities in smaller places where customers will really give us value. That then leads to, are you then able to structure a relationship that works for both the customer and for us. Customers, Mark, are willing to pay a premium for things like -- we're a manufacturing company that's leading in ESG, right? And today, customers are willing to pay a premium for it, right? We're a manufacturing company that they can sleep well at night because we have the best ethics practice across the world. So they're willing to pay a premium for it. We just have to do a good job telling the story and make sure that we're building a relationship that is mutually acceptable for our customers and us. So we're getting better at doing things like that. Our salespeople understand it better. We're positioning that story better. So I think that's our overall business model itself is narrowing your end markets and really being able to put a story that the customers are willing to pay for. I would say the second part of it is, I truly appreciate that the industry is becoming more disciplined, right? And I do appreciate that from across the board. I think it's great to see our competitors, also become more disciplined. I think somebody had to get that started. And it's nice to see that people are following that methodology and really focused on the right kind of growth. I'd say that itself is a big change in this industry, and we appreciate that change happening. So I'd say across the board, we're reducing risks in our contracts. We're executing better in what we have. But most importantly for me is finding the right customers who are willing to make this a long-term relationship. That is based on not just price, but on everything else that we offer, which I'd say is more than just a pricing relationship.

Maybe we can stick with that ESG topic, and it's fantastic to hear that some of your customers value that and will pay a premium for ESG. And that, of course, encompasses a lot of different things, one of which though is clean energy. And I'm just trying to understand a little bit more about to what extent Flex can offer clean energy in its factory to some of your customers. Is that something that you could offer on a pretty typical basis? If a customer came to Flex and said, "Hey, I only want my product to be manufactured with clean energy." Is that something that Flex could do and then how would that factor into the pricing and margins for Flex?

So how we are thinking about this, Mark, is that the -- an ESG strategy has to be holistic, right? It can't be only, hey, I'm going to have a carbon-neutral footprint, and I'll reduce my CO2 emissions. That is one way of thinking about it. What most mature customers are asking for today is, how are you setting holistic science-based targets, right? Not just in 1 area, but across the board in every spectrum of ESG. That could include the safety practices in your factory. That could include CO2 emission. That could be -- that could include use of water. And so it is very holistic in terms of what customers are looking for us -- from us. And what -- how we're looking at ESG is we want this executed across our factories, not just in one area of the world, right? So the commitments we are going to make on ESG is going to be across our footprint, not just in one factory or the other. So the customers don't have to pick and choose that I want to be in a carbon-neutral factory. We want this to be consistent in every factory across the world. So that's the way we are going about it. Thankfully, our company is already, in terms of leading-edge, in terms of ESG practices, within this industry, but that's not where we want to be. We want to be leading practice in ESG across all industries with the manufacturing footprint like ours, and that's not easy to implement. So everything from, like I said, CO2 emissions to water, to safety, to setting science-based targets, we're kind of looking at it holistically. And I think that's what mature customers really want to see.

Okay. That's very helpful. Maybe we could talk about the component shortages and semiconductor issue. And I think Flex is probably one of the best companies in the world to speak to on this topic. I mean you have thousands -- about tens of thousands -- I'm sure, tens of thousands of things you're procuring and you have billions of dollars of revenue. So a really impressive war room that tracks every component and supplier and sub supplier. And would love to get your perspective on what's going on with some of these challenges that the industry is dealing with. We spoke about it a bit on the earnings call a few weeks ago. Maybe you could update us on what Flex has seen in terms of the semiconductor and component shortages. Is it getting worse? Is it at least stable compared to when we spoke a few weeks ago? And I think a lot of us are looking for some sort of a time line as to when you think these supply chain challenges may start to abate?

Yes. So Mark, let me start with the fact that how do we get to where we are today, right? And the combination of things that happened last year in, I would say, in kind of late Q1, late Q2, when the automotive industry shut down, but we had significant escalation in volume and demand and consumer electronics. And the issues associated with trade in China, which led to a real demand push from China in the semiconductor industry. All of that has led to kind of where we are today, right? So automotive cut demand, consumer electronics escalated demand, which we saw across the board. And China put in a lot of extra semiconductor orders because they were worried about the trade and tariff issues. And so all that led to this big storm we are in today, which is use of the capacity that's existing in the semiconductor industry is used up by the consumer electronics industry, right, more phones, more headphones, more computers, all of that. And the automotive capacity, as you know, in semiconductors is somewhere in the 5% to 7% range. So it's pretty small in the grand scheme of things. And so replacing that capacity and bringing it back on has been somewhat difficult for the semiconductor industry. Now you add to that the fact that the recovery in the automotive industry has been faster, that has not helped the situation. And when things like this happen, this bullwhip effect happens. Lead times move out, people put in more orders than they want, and it really creates chaos in the supply chain because you don't know what demand is real, and what isn't. And that's the exact spot that we're in. We've all seen this in our lifetime. We've all seen it every time it happens. And unfortunately, technology and all the data in the world hasn't helped make this any better. So where we are today I would say is, I think we're in the peak of this. I'm not saying -- I'm not calling this gone. I'm saying that we're in the peak of these escalations. What we're getting better at is finding alternates, right? And that's what we're getting better at. Giving other solutions to our customers for replacement, and those things we're getting better at. But is the capacity itself getting better. And this is not just an automotive story. We're seeing this in our CEC business. We're seeing this in our industrial business. I would say that, that recovery, we were calling it -- if it is just assembly and test capacity issue then we're saying, that should get better in Q2. But if it's a chip issue, then that will take a little longer, right? Because we are seeing capacity getting added or getting shifted in the semiconductor industry, but we think that plays out into the second half of this year because that's not easy to invest that kind of money and get it up and running as fast as we would like. So I'd say we're in the peak of the situation, and I am fortunate to be in this company because I'm seeing the power of our procurement organization and the scale of it, and how they know how to manage this situation and very appreciative of what we are doing. We're on calls with customers all the time, trying to prevent line downs and things like that. But it is a tough situation. It's been created by all these factors that I talked about and bringing it back to stability is going to require extra capacity, I'd say, all the way through the supply chain for this to happen. So we're calling parts of it to get better in Q2, calendar year Q2, but we expect that traditional -- the base semiconductor capacity issue will take and play into the second half of the calendar year.

That's very helpful. Thank you for all of those thoughts and perspective. I want to talk about supply chain a little bit more holistically, and there's been a lot of events that have been occurring in the last 1 to 2 years and really, I know creating a lot of challenges for you in the 2 years, you've been CEO of Flex and all sorts of different things. You had to deal with them and there's been geopolitical tensions, COVID, semiconductor shortages. So as you think about managing the Flex supply chain and global network, are there any changes you would like to implement going forward to make your supply chain more resilient, things like where are you setting our factories? Is there any more domestic or onshore manufacturing, different inventory management strategy, anything like that, that you would like to change in the future?

Absolutely, Mark. I'd say, first is, I see this as an opportunity for almost every company in the world. And the reason I say that is, throughout our history, we have seen all the trends occur, right? We have seen jobs move across the world as labor arbitrage was used as a reason for where you manufacture and how you manufacture. You saw the complexities of logistics and total cost change decisions, right? Then you saw the trade and tariff issues starting to play into how you decide where you're going to manufacture and why. Then you saw pandemic come into it that really drove conversations about supply chain resiliency. So I would say that I view this as an opportunity because I'd say the last, if you think about the last 3 decades of manufacturing, we've seen all aspects of what has happened, right, onshoring, now reshoring, real questions around supply chain resiliency. And I'd say data says that when the C-suite is thinking about supply chain resiliency today, a lot of them are thinking about kind of -- I just want to make sure I've dual source of parts, right? And I'd say 50% of the solutions tends to be -- I'm going to also have a factory somewhere else, right, to make sure it's closer to the end customer or it is about adding extra inventory to the system and which I would say are very traditional ways of thinking about things, right? And so -- but then there are customers, who are really saying, "I want to look at this end-to-end," so I minimize the impact end-to-end. So let me give you 2 simple examples. If you think about medical devices, as an example. Medical devices has been going through this onshoring strategy for a few years. So a lot of complex medical devices we make are manufactured close to the customer and a large percent of the bill of material comes from close to the end customer. So some of the devices we make in the U.S., more than 50% of the bill of materials is sourced in the U.S. So there's a little bit of opportunity. But then it's places like the tech sector. It's places like industrial, where the real conversation exists on how can you not just move the end manufacturing, but how can you move large quantities of the bill of material outside of certain regions of the world to create a lower risk profile, right? And I would say that's where we can truly have an impact. And I'd say industrial will happen sooner than tech. It's very, very difficult, I would say, in the traditional tech sector because the productivity and the efficiencies of the electronics industry is so significant. And then automotive, I think, has some amazing characteristics building around autonomous and EV and the value of the semiconductor and electronics is going to be so significant that that's going to lead to some pretty big onshoring trends that we'll all take advantage of. So I'd say supply chain resiliency is really driving some very exciting manufacturing trends, which I'm just excited to see this at this phase in my career because you get to really build that strategy in a way that I think is sustainable over the next few decades. So we see this as a positive. We're excited to be influencing and participating with customers on this, including helping governments think about how they should support the strategy.