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Sanmina-SCI Corp. (NASDAQ:SANM)

F3Q10 (Qtr End 07/03/2010) Earnings Call

July 26, 2010 5:00 pm ET

Executives

Paige Bombino - Director, IR

Jure Sola - Chairman and CEO

Hari Pillai - President and COO

Bob Eulau - EVP and CFO

Analysts

Louis Miscioscia - Collins Stewart.

Jim Suva - Citi

William Stein - Credit Suisse

Amit Daryanani - RBC Capital Markets

Shawn Harrison - Longbow Research

Sherri Scribner - Deutsche Bank

Brian Alexander - Raymond James

Alex Blanton - Ingalls & Snyder

Lou Miscioscia - Collins Stewart

Operator

Good afternoon, ladies and gentlemen. At this time, I would like to welcome everyone to the Sanmina-SCI third quarter fiscal 2010 conference call. (Operator instructions)

Ms. Bombino, you may begin your conference.

Paige Bombino

Good afternoon, ladies and gentlemen and welcome to Sanmina-SCI's third quarter fiscal 2010 earnings call. Today's call is being recorded and is posted along with a copy of our earnings release and a slide presentation on the quarter at www.sanmina-sci.com in the Investor Relations section. You can follow along with our prepared remarks in the slides posted on our website.

Please turn to slide two, the Safe Harbor statement. During this conference call, we may make projections or other forward-looking statements regarding the future events or the future financial performance of the company. We caution you that such statements are just projections. The company's actual results of operations may differ significantly as a result of various factors, including the state of the economy, economic conditions in electronics industry, changes in customer requirements and sales volume, competition, and technological change.

We refer you to our documents the company files from time to time with the Securities & Exchange Commission. These documents contain and identify important factors that could cause actual results to differ materially from our projections or forward-looking statements. You'll note in our press release issued today that we have provided you with a statement of operations for the three months ending July 3, 2010, on a GAAP basis, as well as certain non-GAAP financial information.

A reconciliation between the GAAP and non-GAAP financial information is also provided in the press release and is posted on our website. In general, our non-GAAP information excludes restructuring costs, acquisition and integration costs, impairment charges, gains or losses on extinguishment of debt, non-cash stock-based compensation expense, amortization expense and other infrequent or unusual items to the extent material.

Any comments we make on this call as they relate to the income statement measures will be directed at our non-GAAP financial results. Accordingly, unless otherwise stated in this conference call, when we refer to gross profit, gross margin, operating income, operating margin, net income and earnings per share, we are referring to our non-GAAP information.

I would now like to turn the call over to Jure Sola, Chairman and Chief Executive Officer.

Jure Sola

Thanks, Paige. Good afternoon, ladies and gentlemen. Welcome. Thank you all for being here today. Joining me on this conference today is Hari Pillai, our President and Chief Operating Officer; and also Bob Eulau, our Executive Vice President and CFO.

Our agenda today we have is Bob Eulau will review our financial results for the third quarter of fiscal year 2010. Then I will follow up with traditional comments relative to Sanmina-SCI's results and future goals. Then Bob, Hari and I will open for Q&A.

And now, I would like to turn this call over to Bob.

Bob Eulau

Thanks, Jure. If you could turn to slide three, overall this was our fifth consecutive quarter of growth and improved profitability. Revenue $1.63 billion was up 6% on a sequential basis and up 34% over the third quarter last year. This was at the high end of our guidance of $1.55 billion to $1.65 billion.

Gross margin was also in the range we expected with a 10 basis point sequential increase to 7.9% on a non-GAAP basis. This is also the fifth consecutive quarter of gross margin improvement. This implies a contribution margin of 9.6% on the incremental revenue, which was a little lower than the 10% to 15% we had expected. This was primarily driven by the business mix for the quarter.

As an aside, while there has been some variability by quarter, our contribution margin over the last 12 months has been 12.5%. Accordingly, we believe that a 10% to 15% contribution margin over the next few quarters continues to be very achievable.

One of the highlights for the quarter was that for the first time in several years, the gross margin for the components business exceeded our corporate average gross margin for the quarter. Non-GAAP EPS was at $0.32 per share. While this is in the range of our previous guidance, our plan was to do better than this and we were hit by several unusual items during the quarter. Specifically, our non-GAAP EPS includes total reserves for a small telecom customer based in Europe of $3.2 million and losses on foreign exchange of $1.5 million.

We have filed to recover the bad debt, which we're confident we will win, but it may take several quarters to recover the bad debt. One of the items that we anticipated was our acquisition of BreconRidge, which we announced in our call last quarter and completed on May 28. The integration process has begun and we continue to expect the transaction to be accretive within a year.

In aggregate, the various usual items negatively impacted our EPS by over $0.06 per share. Taxes are always difficult to project, but the fact that our quarterly rate came in at 26% rather than our 21% expectation reduced EPS by another $0.02. This was based on 83.7 million shares outstanding on a fully diluted basis.

Please turn to slide four. I'll start by making a few comments on the GAAP numbers. For the third quarter, we reported a GAAP net income of approximately $21.6 million which is $0.26 per share. There were several one-time events affecting the GAAP numbers in addition to the items I mentioned above.

On the positive side, we recognized the gain of $13.8 million on the sale of real estate. The most disappointing event of the quarter was an embezzlement of $3 million in Asia, which appears to have occurred over the course of several years. We have accrued for this exposure, although we expect that all but $500,000 of this will ultimately be covered by insurance.

Additionally, we had one customer enter bankruptcy at the end of the quarter, and we accrued $1.9 million for this exposure until the situation becomes more clear. This company was sold earlier this month, and we are hopeful that we will ultimately get paid.

Finally, as we anticipated, we had restructuring costs for the BreconRidge acquisition in addition to the normal run rate of restructuring costs that we book as incurred for previously closed plants. Restructuring costs, coupled with the acquisition costs related to BreconRidge totaled $7.4 million.

With the acquisition of BreconRidge, we will see some increased restructuring costs over the next three quarters. We expect total restructuring costs for BreconRidge to be $16 million to $18 million. When restructuring is complete, we expect cost savings to be about $20 million per year.

For Q4, the ongoing restructuring related to real estate for previously closed plants and BreconRidge will total $70 million.

My remaining comments will focus on the non-GAAP financials for the third quarter. At $129 million, gross profit was up 8% over the prior quarter. Gross margin came in at 7.9%, which was up 10 basis points from the previous quarter. While we are pleased that the components businesses have a gross margin above the corporate average, we expect to see continued improvement as we drive these margins to appropriate benchmarks.

Operating expenses were relatively flat for the quarter at $64.8 million in spite of $2.6 million in bad debt expense that was booked during the quarter for the customer I mentioned before. At $64.2 million, operating income improved by 15% over the prior quarter. Operating margin was 3.9%, which was a 20 basis point sequential improvement.

The tax rate for the quarter came in higher than planned at 26% of pretax income. The tax rate reflects more profit from higher tax jurisdictions than we had previously forecasted. The tax rate for FY '10 is now expected to be 23% plus or minus a couple points.

Based on our current profit mix assumptions for FY '11, we continue to believe our FY '11 rate will be in the 18% to 20% range. On a non-GAAP basis, we earned $26.6 million in net income.

For modeling purposes, I want to mention that depreciation was $21 million, and EBITDA for the quarter was $85 million. This is the highest EBITDA since the fourth quarter of FY '07.

On slide 5 we are showing you some of our key non-GAAP P&L metrics. The revenue trend has been very strong for the last four quarters as we moved out of the recession. Revenue has climbed 34% since the third quarter of last year. Gross profit has shown strong improvement since Q3 of last year, with growth of 67%.

Compared to Q3 of FY '09, gross margin has improved from 6.4% to 7.9%. While revenue and gross profit have grown significantly over the last year, our operating expenses have remained well-controlled. With relatively flat operating expenses and strong gross profit growth, operating profit has grown even faster since Q3 of FY '09. In fact, it has almost quadrupled over the third quarter last year. During this period, operating margin improved from 1.4% to 3.9%.

I'd like to turn your attention to the balance sheet on slide 6. Our cash and cash equivalents were $665 million. Cash was down slightly from the previous quarter for several reasons. As planned, we competed the acquisition of BreconRidge on May 28, which resulted in cash usage from both an acquisition standpoint and a working capital perspective.

In aggregate, we estimate that BreconRidge consumed a total of $47 million in cash during the quarter, which includes the cash acquisition cost, the debt redemption and working capital. Moving on to accounts receivable, we had strong shipments in the second half of the quarter, which was the major factor in the increase in accounts receivable.

The other factors in the increase in AR included the addition of $24 million in BreconRidge accounts receivable and a $15 million decline in the use of our AR facility.

Cash flow from operations was negative at $25 million. Cash flow would have been positive, had it not been for the reduction in accounts receivable factoring and the BreconRidge cash flow from operations. I should also note that free cash flow was just slightly negative at $5 million after the real estate sales.

I'll talk more about inventory and accounts payable in a moment.

We have property on the balance sheet which is listed for sale. The list value of this property is over $130 million. This quarter, we sold three properties which brought in $28.3 million of cash. Year-to-date, we have generated about $29 million in cash from the sale of real estate.

We made several minor adjustments to our capital structure during the quarter, including the redemption of $20 million in long-term debt. We also began to use our local working capital alliance during the quarter. Specifically, we drew down $30 million in China and $21 million in India.

Finally, we've made the decision not to renew our accounts receivable facility. While this will reduce our cash flow from operations for the year, our other facilities make more economic sense at this time. We sold $15 million less in receivables this quarter, and we will sell $22 million less in the fourth quarter as the program has already terminated.

Capital expenditures were unusually low at $8.5 million for the quarter. We received a significant amount of capital equipment at the end of the quarter, and we expect that capital expenditures will be up significantly in Q4.

Let's turn to slide seven to discuss some of the balance sheet metrics. I've already discussed our cash position, which remains strong, given our potential cash needs. In our business, inventory is a key focus. Our inventory turns improved slightly to 7.2, but frankly we'd expected more improvement. We still have room to improve, and our goal is to get up to at least eight turns within a few quarters.

In the lower left quadrant, we are showing you cash cycle days, which combine our cycle time for inventory, accounts receivable, and accounts payable.

Inventory days had a positive impact as they moved from 51.7 days last quarter to 50.9 days this quarter. We saw an increase in accounts receivable, day sales outstanding from 46.2 days to 48.3 days. This was primarily a reflection of more shipments later in the quarter than in the prior quarter.

Accounts payable was favorable, as it increased from 55.5 days to 56.1 days. Overall, cash cycle time increased from 42.4 days last quarter to 43.1 days.

Finally, we've made outstanding strides in return on invested capital over the last four quarters. We believe this is the most important measure in demonstrating our ability to add value to our shareholders. While we're pleased with our ROIC of 15.6%, we believe there is still room for improvement through both margin expansion and better asset velocity.

At this point, I will turn the discussion back over to Jure for more comments on the business and our guidance for next quarter.

Jure Sola

Thanks, Bob. Good afternoon again, ladies and gentlemen. As you heard from Bob, it was a good quarter. I am pleased with the progress our company is making, and we continue to benefit from our strategic confirmation to our new strategy and improved operational efficiency.

Things are moving in the right direction. From a strategy point, as we expected from the beginning of our fiscal year 2010, business demand is improving and remains stable at this time. We cannot forecast economy in the short-term and the long-term, but I can tell you that as of now the forecast are trending in the right direction. As we are finalizing the budget for our fiscal year 2011, the forecast are coming in positive. Again, forecast look good at this time.

Now could you please turn to slide 8? Here I would like to talk to you about our third quarter revenue mix. As you can see, our top 10 customers consists of 50%. So we'll be working in diversifying the customer base pretty well. The biggest piece of our revenue came from our communication business, and that involved networking, wireline and wireless infrastructure.

That business was very strong, especially networking and wireless infrastructure, it was up 28%. As we look in our next quarter, our fourth quarter fiscal year 2010, we expect communication and infrastructure to continue to move in the right direction.

Enterprise computing and storage, which includes high-end enterprise service and storage was 15.7%. That group was down approximately 8%. Mainly what's going on there is approximization. Last quarter we had one major customer that moved (inaudible) I mean, the last quarter, second quarter. But things have started going to stabilize here, and we expect next quarter really to be flat and hopefully up, as we have a lot of new products that go into transition there.

Industrial, defense and medical was flat. Industrial was strong, medical and defense were slightly down. As we look at the fourth quarter, industrial should be continue to be up, medical with a new program there coming up, we should also see some movements in the right direction. Defense, we expect it to be flat next quarter.

Multimedia consists of 17.6% of revenues. As you can see that's down 9%. If you really look at the last three or four quarters, multimedia was very strong for us. It still is. I think here, it's certainly timing issue. So we expect next quarter to be flat slightly up.

Now please turn to slide nine. What I'd like to do is talk to you now about our market opportunities. Our customer base is very solid, and we're continuing to expand our customer base nicely this year. Our new win should allow us to improve product mix which should help us drive margin expansion.

We are focused on quality of our customers, because the whole year the focus is to really create the better mix of the customer, so we can again focus on the right products, and this should help us drive our growth and future margin expansion.

So if you look at the bookings for current quarter, they came in pretty strong. Book to bill was 1.1 to 1. Also most important, a lot of these new businesses that I'm talking about should be ramped in the first half of fiscal year 2011.

Now, let me talk to you about fourth quarter outlook. We're continuing to forecast fourth quarter bookings to go up. So outlook from the revenue point of view is 1.65 to 1.7. We expect the gross margin to improve and go in the right direction and we're guiding 7.9 to 8.2. Operating expenses should be coming around $66 million per quarter. There is about $1 million worth of SG&A because of acquisition of BreconRidge, but we believe that's going to go away end of the fourth quarter.

Operating margins will continue to also improve and we're guiding 3.9% to 4.2%. Interest expense and other should be around $27 million to $28 million; depreciation and amortization about $22 million. CapEx, if you look at the first three quarters, we spent about $44 million. As Bob mentioned, the third quarter was very low, about $9 million. So we're estimating that the fourth quarter will be around $40-plus million. But for the year, it's going to stay as per our plan at about $80 million to $90 million.

Again, most of these things or expansion were really focusing expanding our technology and also acquiring certain equipments that we need for our future growth. Tax rate should be around 23% and hopefully longer term should come down, and diluted shares outstanding we're approximating today about 84 million shares. Non-GAAP EPS we're estimating $0.35 to $0.41.

Now what I'd like to do is talk to you a little bit about our operations. We've been spending a lot of time really focusing on improvements here as we are positioning ourselves for 2011. So we're driving efficiencies and really focusing on lowering our costs.

We remain market focused as we focus on higher end, higher mix type of products. So we'll continue to invest in technology, in people and bring innovating solutions to our customers. By doing this, we're really providing leading technology solution to our customers, which is very important in order for us to grow in the future.

Now, I'd like to make a few comments on our latest acquisition. The latest acquisition is called BreconRidge. As Bob mentioned, it was completed on May 28, 2010. This was a very strategic move on our part where we're complementing optical capabilities that we have internally. And with this capability that we've got, we really can provide one of the best end-to-end optical solutions in our industry.

This division will focus on products developing optical electronics and RF/microwave. The market that we're going to serve from this division will be high-end communication, mainly into the networking side of the business, defense, industrial and some medical.

Just some additional highlights on our acquisition is that this operation has two major factories, one in Canada and one in China. We also had one of our new product introductions back there in Canada very close to BreconRidge. So we're going to combine these two factories in one. And also, there is a major operation in China which will be combined into Sanmina's operation in China. So I can tell you that the transition so far is moving per plan and we expect to get all this done in next few quarters.

Based on this acquisition, we expect a new revenue potential with this operation in the next four months to be in the range of $250 million to $300 million and eventually deliver higher margin than our corporate margin. Again, this will be accretive in the first year.

Now, I'd also like to make a few comments around our component business. We are pleased to report our component business delivered margin above the corporate average. It's been a long time, but it's starting to create the dividends. So we made a considerable progress improving the mix of this product, focusing efficiencies. I think our component businesses is going in the right direction. And this is just one of the first steps, and we expect these businesses again to continue to be improved.

However, there is still a lot of work to be done to accomplish our internal goals, but it looks good. Also, demand for component business is that bookings continue to be very strong for all our component businesses as of now.

So in summary, as Bob mentioned, this is our fifth consecutive quarter of revenue growth and margin improvements and most importantly that we are very optimistic this will continue in the future.

Revenue growth for fiscal year 2010 will be approximately 20%-plus. We are focused on expanding customer base and developing new opportunities. We'll be investing a fair amount of money here and will continue to do that, focusing both on existing and new customers. And we expect to improve our business mix, which should help us drive margin improvements. And as I look at the new products that we've own, it's really all focused about better mix type of product that will help us improve the margins.

So the bottom-line, we'll continue to invest in the key new technologies and the products for our customers, because if you look at what our customers are looking for, it's all about providing the enhanced solutions for them and having a better experience for our customers. We also believe that our strategy and long-term objectives are on target.

Now, I would like to say thank you all for all your time that you are spending with us today. I would like to also say thanks to our employees for their hard work and dedication and support to this company.

Operator, now we're ready to open the lines for questions and answers.

Question-and-Answer Session

Operator

(Operator Instructions) Our first question comes from the line of Louis Miscioscia with Collins Stewart.

Louis Miscioscia - Collins Stewart.

Maybe you could go into the tax situation a little bit more. You came obviously close to your earnings. Even though it sounds like there were a lot of one-time events, would you actually lower profit in some of the other areas, as it sounds like you had higher profit and higher tax jurisdictions?

Bob Eulau

It's awfully hard to forecast which jurisdictions are going to have of impact on our profitably in a given quarter. And you're right; the mix came in different than we had expected this quarter, which influenced the way we forecast the rest of the year.

Taxes are pretty unique. You actually try each quarter to set a tax rate for the year, and then you have to make a year-to-date true-up in a given quarter. So we now think the tax rate for FY '10 is going to be 23%. But because we've been accruing at a lower level, we had to bump up the Q3 rate.

Louis Miscioscia - Collins Stewart.

Then let's go into the couple of different areas. I guess last quarter, I thought you said that computing and storage would be up actually quarter-to-quarter. And obviously it was down about 8%. Maybe just going a little bit more of an explanation, did program move away from you or it is coming back or just what's happening?

Jure Sola

Basically, in the second quarter, we actually had a one major customer that some moving the products out. That was all normalized in the third quarter. What we had in the second quarter is really what I call a product transition loop. There was really no change in our customer base or products (identity). We have a lot more new opportunities here.

It's a timing issue. And as I mentioned, if you look at the enterprise computing so far, year-to-date it grew 23%. So we expect it to stabilize and hopefully move in the right direction in the fourth quarter

Louis Miscioscia - Collins Stewart.

Final quick questions on the component business. Congratulations you're getting above corporate average. Any obstacles coming in or let's just go back to what you had said in the past that it's just really driven by more revenue growth there?

Jure Sola

On the positive side, our bookings have been coming in very strongly for all our component businesses. So that is very critical for our future success. Right now, it's really lowering these operations and focusing on efficiency and bringing them more to the bottom-line. So we expect to make small positive movements, small but positive, in each quarter and our still long-term goal is to get these businesses to be delivering operating margin, as we as always said, in 8% to 10%.

Operator

Our next line comes from the line of Jim Suva with Citi.

Jim Suva - Citi

I have a couple of questions. One is just a quick clarification on the detailed press release that you gave, which is quite useful. There was a $3 million contingency item expected to reverse in the future period. Is that the one that revolved or hooks up to the embezzlement or is that two separate things?

Bob Eulau

You are right, it is the $3 million embezzlement that we uncovered. And as you remember, in my comments, I said that we expect that all of that $500,000 of that will be covered by insurance, but it's going to take several quarters for that to play out.

Jure Sola

I think, Jim, you also had a question regarding that $3.2 million?

Jim Suva - Citi

Yes, and I was just wondering, given Sarbanes Oxley rules that we're in today and stuff, do you think you'll be able to file for audited non-qualified financial statements and just put those like in a footnote or something, or does this have to be fully resolved to be issuing financial statements?

Bob Eulau

We believe we'll have no problem filing our financial statements. We understand this issue. It's still under investigation right now, but it's an isolated situation and we're putting additional controls in place.

Jim Suva - Citi

Thanks for the details on that. And then maybe a more interesting question for Jure. Jure, going forward, it looks like a lot of your heavy restructuring is finished. And I would assume the company is going to start to generate pretty consistent stable cash flow.

Seeing how you've kind of restructured and I assume you have a fair amount of utilization available, can you talk about your uses of cash flow? Would it be to grow the business organically or looking more accretive acquisitions such as BreconRidge? Or should we think about your uses of cash as you have also delevered the balance sheet a fair amount compared to years past?

Jure Sola

Well, first of all, we need to start continuing to generate positive cash flow. That's the goal. And we expect as we look at our capital structure, as our inventory turns improve and we minimize the shortages in industry, I believe our inventory turns should go up and we should generate more cash.

But in the meantime, we want the operating margins to drive the profits up. Once we get there, we're going to run this business, we want to deleverage the company, but we're going to continue to look for the right opportunities.

As I talked to you in a conference about almost a year ago, our model is how do we get to 10% gross margin and 6% operating margin. Step one was obviously to get our gross margin 8% and operating margin over 4%. I think we're knocking on the door there and then go from there.

We will be opportunistic, but the most important is the quality of the earnings, because as I said in my prepared statements, we're really focused this year on quality of the customers and making sure that we pick up the partners that we can build a long-term relationship with, number one, and also, the partners that we can make a little bit of money with.

And as we are going after these new wins and going after these new emerging markets, we're really looking at the customers that will help us improve the margins, because as we go to these more industrial, medical, defense and some of the advanced unique stuff, we can deliver the better margin.

Back to the BreconRidge, that was one of the main reasons we went after the BreconRidge, because internally we had a fair amount of technology, but I believe that the BreconRidge can help us get there. And if you look at the companies that are in optical business even today, they are delivering operating margin between 8% and 10%. So those type of strategic acquisitions that we are interested in because it's the quality of the earnings that we are going to be focused on.

Operator

Our next question comes from the line of William Stein with Credit Suisse.

William Stein - Credit Suisse

I'm hoping you can help us understand what the contribution margin and long term margin goals are today? Previously you've discussed 10% to 15% contribution, getting to 6% op margin and I believe $1.9 billion in revenue. And today it would seem that you need to be at the very high end of that contribution margin to get to that 6%. Any comments?

Jure Sola

As we said before, as we get to the revenue between $1.8 billion to $2 billion per quarter in that range, we believe that our model should work to get to those margins. And William, it's all about the mix. As we drive our component businesses higher to higher margin, and some of these other unique products that we're getting involved, those are the ones that should help us drive the higher margin.

But we feel very comfortable that we can get there. And I'll turn it over to Bob to talk a little bit more about the margin. Bob?

Bob Eulau

As I said, the contribution margin was a little below 10%. This quarter was a unusual quarter we think in terms of the business mix, and we should be back in that range for the next few quarters. And if you go back over the last four quarters, we've been at about 12.5%. So we think we'll still have a strong contribution margin. And as Jure said, everything is very dependent on mix. So we're making good improvements across the board.

In fact, every single one of the components area has showed gross margin improvement this quarter. And we believe we'll continue to make progress there, and then it's a function of mix.

Jure Sola

And I would just add to that William. I think if you look at our new bookings, I believe that they are a lot more profitable than some of the old stuff that we have here.

William Stein - Credit Suisse

And then a more strategic question Jure, if I can. You've I think partnered with JDS Uniphase in the past. I assume that's still an important customer, and now you've done the BreconRidge acquisition that's more optical products. These two, are they related at all? Is JDS buying products that are related to the BreconRidge deal? Can you clarify your strategy in optical?

Jure Sola

Yes. First of all, this complements our relationship that we started with JDSU. Even before JDSU, we acquired some assets years ago, and we've been doing a lot of research and development in Texas and then a little bit in Asia, and a little bit here in California.

And then we've partnered with JDSU and we've built on it. What BreconRidge brings too is really a lot of design capabilities. It really helps JDSU to win the customers, because together now we can go with a better solution and really create the win, both for JDSU and Sanmina.

Operator

Our next question comes from the line of Amit Daryanani with RBC Capital Markets.

Amit Daryanani - RBC Capital Markets

Just had a question on the communication segment, was up 28% sequentially, and I'm sorry if I missed this. Can you just talk about how much was it up ex the BreconRidge because it seems like a fairly strong sequential growth versus what most of the OEMs are seeing there?

Jure Sola

BreconRidge was really a small number in there, because we only had BreconRidge for a month. No, it was the strength of our communication business, because if you look at that for a year that business year-to-date only grew 10%. We had a strong quarter, and was again, mainly driven by the networking and wireless infrastructure.

Our customer base is pretty solid there. Our partnership with some key players in that area I would say is the best in the industry, and I think we are gaining there based on our performance. And we expect to continue to gain in that market share. That's the strength of this company. We offer a lot of technology there. I think we have a best end-to-end solution there. And we can go against anybody in that business.

Amit Daryanani - RBC Capital Markets

And then just on the component side of things, it obviously is becoming a key and a big part of Sanmina's story right now. Any desire or any way you can quantify how big the component business is for you today? Where the margins are, and what do they need to get to for you eventually to the 10% gross margin target?

Jure Sola

We stopped the kind of separating our business for last two years, when we decided to exit the PC business, because it's really hard to break these things apart, because they not run under just one organization. You have optical components in one group, you've got printed circuit boards, you've got metal fabrication, you've got machining, you've got plastics, you've got cards to memory module. So these are the different areas.

First of all, this business as we always said is running a little bit over 20% of our revenue. We think that as I mentioned earlier, that we should be able to continue to improve the margins here based on just a pure new structure that we have in place. And also the bookings that we got in last six months have been very strong.

So we are gaining back our customer base that we used to have. And we did a restructuring in our component businesses. Unfortunately we lost some big customers. And I will say this year so far, were able to go back into those key customers that we used to have, and we had been up. I'd like to leave it at there.

Operator

Our next question comes from the line of Shawn Harrison with Longbow Research.

Shawn Harrison - Longbow Research

First just a clarification on the guidance for OpEx, including both SG&A and R&D, the $66 million range, correct?

Bob Eulau

That's correct.

Shawn Harrison - Longbow Research

Okay. And then just maybe to follow up to an extent on Amit's question. The components business, since it's doing better right now, can you kind of give a range and maybe capacity utilization rates across the different businesses that you mentioned?

Jure Sola

Well, first of all, based on people across all our businesses put together, we believe that we are running, and this is not very scientific, I want to make sure it's clear, it's probably 85% to 90%. Based on equipment, we are still around 75%, and based on space we are about 60%. So we got a lot of room for expansion. If you look at our component businesses, so I just gave an example, printed circuit boards. Our Asian factories are running 85% to 90% right now, but we have one North America plant in circuit boards that is running over 90%, where we got another one that is running at 55% to 60%.

So we still have extra capacity here, and our goal here is to fill it up. As we start filling it up, it should drive the margin. But to us, we are not chasing any business. I think that is the most important part of our new strategy is that we go out and go after the customers that we can add lot of value to, and that we can compete based on technology, not just selling labor.

Shawn Harrison - Longbow Research

That was helpful. And were all six businesses above the corporate gross margin average in the quarter or was just the components business in aggregate?

Jure Sola

The components in aggregate, we have some component businesses that are really beating corporate average by a lot, and then we had still too few left that are still below.

Shawn Harrison - Longbow Research

Okay. And then just one final question. In terms of the mix shift this quarter, I'm a little bit confused by just what happened. Given the strength within the communications business, I would have expected with the relationship in the components business and that business in general being typically high technology for you that you said you witnessed a little bit of a negative mix shift. Could you elaborate on that?

Jure Sola

We had a fair amount of new programs that we brought on. We had especially a one line (inaudible) not going to mention one plant around the world that was all brand new business and it was a great business. The problem is that we couldn't have maximized the margin in it because of our short drop-off.

Operator

Our next question is from the line of Sherri Scribner with Deutsche Bank.

Sherri Scribner - Deutsche Bank

So some nice revenue growth based on the guidance that you're giving for fiscal '11, somewhere around 20% or more. I wanted to get a sense based on the new deal wins and the business that you're ramping in fiscal '11 what you're thinking about in terms of revenue growth next year?

Jure Sola

Let me correct you if I understood you there. I said fiscal year 2010 we'll expect to grow over 20%. I did not give a forecast for 2011.

Sherri Scribner - Deutsche Bank

Well, that's what I'm trying to understand. And I apologize I don't know if I missed it.

Jure Sola

We're taking one quarter at a time. It's all when these programs gear up. If all the forecast that I see today move in all the right direction, I would expect 2011 to be growing in the double digits. I don't know what percentage in double digits, but that's what it should be. But I like to really leave that maybe to answer that 90 days from now.

We're just finishing the budget for 2011. As I said earlier, the forecast is coming in per plan. They look good. They're positive. But I think we need another 90 days just to make sure we understand where is this economy going. But I am pretty optimistic personally.

Sherri Scribner - Deutsche Bank

Are there any particular segments that you expect to be growing more? I mean it looks like communications continued to do very well. Industrial sounds like is doing very well, but medical and defense maybe were a little bit weaker.

Jure Sola

First of all, I think overall if you just kind of look at 2010, year-to-date we're growing 21%. Multimedia was up so far year-to-date. 29% industrial, medical 37%, enterprise computing 23% and communication 10%.

I think going forward, the medical, for example, if you look at the last couple of quarter, and defense being flat or down, now we have some new programs and especially in the medical side of the business where these programs are going to take some time to ramp up. So we expect those to be up in 2011. We expect all of our markets today to move in that direction. In order to grow double digits, they have to all move in the right direction. And that's expectation right now. But I'll give you more details, like I said, in 90 days from now.

Sherri Scribner - Deutsche Bank

In terms of the guidance for next quarter and talking about the contribution margin, I mean I just did some rough math and it looks like your guidance is suggesting a contribution margin kind of at the low end of that 10% to 15% range. I'm trying to understand how much more improvement do you think you can get out of the components business next quarter, how much of that is factored in and how much of the margin improvement is factored in as the revenue growth? Just trying to get a little more detail around that.

Jure Sola

Well, first of all, every time we factor a dollar, hopefully we'll make an extra buck or extra penny, I should say. We expect our components to continue to improve on the margin. So as Bob mentioned earlier and I'll have Bob add to this, we do expect contribution margins to be 10% to 15%.

As our component business is starting to grow at faster rate and they start generating margin where they should be generating, then that number should be close up to that 15%-plus. But definitely we do expect the contribution to improve in the fourth quarter.

Bob Eulau

I have a lot of add. I mean you're right. The plan is about the midpoint of that range is what the guidance implies. And unfortunately it was a little low this quarter. The previous four quarters, it had actually been above the 10% to 15% range. So I think planning in the middle and hopefully some things will go our way and we'll be at the high end.

Sherri Scribner - Deutsche Bank

Does that suggest that you really expect more improvement in the components business in fiscal '11 versus for the fourth quarter?

Jure Sola

Yes. I mean 2011 should be a lot better year for us from 2010, because 2010 for us was a year where we basically were pulling together, finished the restructuring and started to loading these plants and fixing some of the issues we had. I think we made a nice progress in 2010, and I expect to have lot more to the bottom-line in 2011.

Operator

Our next question comes from the line of Brian Alexander with Raymond James.

Brian Alexander - Raymond James

Just a clarification. When you guys talk about contribution margins, are you referring to incremental gross profit or incremental operating profit, because I thought you said earlier 9.6% sequentially which would be the incremental gross profit, not the incremental operating profit?

Bob Eulau

Right, that's correct. We're measuring incremental gross profit divided by the change in revenue.

Brian Alexander - Raymond James

So when you talk about 10% to 15% as your goal, that's in the context of gross profit, not operating profit.

Jure Sola

But if anything, Brian, we believe that our SG&A will stay pretty flat. So hopefully the gross margin will grow at a faster rate.

Brian Alexander - Raymond James

So there should be a pretty healthy drop through from the gross margin line?

Bob Eulau

Yes. Actually in the historical data, you really see that over the last four quarters.

Brian Alexander - Raymond James

And if I did the math right from where we are in September, at least implied by the guidance, to where you are hoping to get to, doesn't that suggest you actually need to get close to the 20% incremental margins. It seems like you have to get about $45 million of incremental operating profit on $225 million of incremental revenue, am I doing something wrong there?

Bob Eulau

Well, you're talking about how do you get to the 10% gross margin?

Brian Alexander - Raymond James

Just bridging from the operating margin implied in your September guidance to the 6% goal that you would hope to achieve on $1.9 billion revenue.

Jure Sola

First of all, as we improve the component mix, Brian, those contributions should be higher. For example, a circuit board can give you a contribution margin of, let's say, 35% to 40%. Some of our other businesses that we have are high 20s. So as we drive other businesses up, their contribution margin should be a lot better than the traditional EMS.

Brian Alexander - Raymond James

It sounds like this is mostly going to be mix-driven.

Jure Sola

I think it's a combination of both. I think you're going to see from us as you've seen us so far. As I said earlier, for us, it's step one, step two. Step one is to get this gross margin over 8% and get operating margin over 4% and then go from there. But I think you're going to see it on both sides, because as we are right now starting to load all our plants more evenly, a lot of that profit should fall down to the bottom-line, especially as the component business is starting to improve the margin.

Brian Alexander - Raymond James

But is this the components business that you think ultimately could be 35% to 40% of the revenue, or is it not going to be that much of a mix shift? I'm just trying to get a sense.

Jure Sola

No, we're driving to get our component businesses well over $2 billion, which they are not there today. But yes, there will be a substantial amount.

Brian Alexander - Raymond James

And just shifting gears just on wage inflation in China, I think your footprint is a little north of 20% of your total footprint there. Just how are you responding in terms of passing through rising costs or potentially relocating to lower cost regions. How significant is that footprint in China for the overall components business?

Jure Sola

We are a global company. So China is going to play a major growth for us in future. The way we have structured the company is to really focus on the long-term sustainable global company. Our Chinese operation today they export 80% and we ship internally only less than 20% less.

The goal long-term I think would become reverse where most of the stuff that we build in China we'll probably ship to China and maybe 20%, 30% will go outside. So we're really setting up the operations to meet the long-term growth for China.

When it comes to the costs, those costs we did expect them to come in. Unfortunately they came a little faster than we thought they would. We expect the labor to go up 25%, 30%-plus percent this year. We are reviewing that with our customers. As you know, we have to pass that on. But at the same time, we're making sure that we're efficient enough everywhere.

We have no other choice, but to pass it on to our customers in a lot of cases. But that's part of the plan. This is done all gradually. I mean we talk to our customers on daily basis. We look at these things, but it's something that's just a part of running the business around the world.

So we are not planning to move out of China. We think we have a right infrastructure to build on and we'll see what happens couple of years from now.

Operator

Our next question comes from the line of Alex Blanton with Ingalls & Snyder.

Alex Blanton - Ingalls & Snyder

I might have missed this, but did you discuss component storages.

Jure Sola

No we did not.

Alex Blanton - Ingalls & Snyder

Did you have any and could you elaborate on that?

Jure Sola

Let me turn it over to Hari. He's a lot more familiar with our material organization. Hari?

Hari Pillai

Good afternoon, Alex. We did continue to experience component shortages that I would describe as choppy supply conditions, which in turn affected our asset management metrics. But overall I think the hard work that our supply management teams have been putting in, in working with our suppliers are beginning to pay off, and qualitatively we seem to see less issues and we expect continued improvement over the next couple of quarters.

Alex Blanton - Ingalls & Snyder

Do you have what your sales were lost because of the shortages at all?

Hari Pillai

Yes, Alex, I think we'd really like to just focus in on the guidance because we factor all of those things and then we put the guidance on there. So that has already got all those assumed, built in.

Alex Blanton - Ingalls & Snyder

I know that, but how much more could you have shipped, had you not had shortages?

Jure Sola

To me I think this shortage has been going on now for a year. I don't want it to sound like an excuse, but because those are challenges, I think our material team did a good job making sure. And we are delivering all the critical components that our customer needs, we find a way to get it done.

Maybe we could have given a little bit more, but it's just the nature of this business Alex right now. I mean, we can go to your number but doesn't really mean anything. I think for us, most important right now is, we believe that the shortages will get better and hopefully by end of this summer we'll see (all).

Bob Eulau

Yes, we have people working very hard, who work with our customers and make sure that we do the best possible job to support them.

Alex Blanton - Ingalls & Snyder

I know you are doing a good job on SG&A. How low can the percent go before it has to go up significantly? How low can you get SG&A as a percent of sales?

Bob Eulau

We think that SG&A, as based on our modeling, as we get our revenue $1.9 to $2 billion run rate, we expect our SG&A not to be over 70 to 75. So we think goes fair amount, and most of that investment is really more in technical, engineering and customer service is going to go in there.

So I think our SG&A, for what we shipping today, as far as I'm concerned Alex, is too high, but we are positioning the company for lot bigger number than what we are shipping today.

Alex Blanton - Ingalls & Snyder

And finally, the labor cost increase in China is showing minor part of the overall for many kinds of products. What is it for you? I mean, your labor cost in China, what percent is your total?

Jure Sola

Well, it's just small percentage, depends on the job. I mean it can be, for a fraction of a percent it can be couple of percent. Typically that's what it runs in that range. But it still adds up. Even on a high end product that we billed, our customer still wants to get at lowest possible cost. So they do matter, but again we have to communicate with our customers and work with our customers, work with our suppliers. It's just an edge of the business.

I mean, this stuff goes up and down everywhere, and still China is one of the cheapest places in the world. I mean, maybe after India, at least not might be after too. So what are you going to do with it? The nature that we have to deal with, you can't run away from it. Our customer is most important. They do understand the situation and it's just balancing the world supply chain. And I think this is what's going on.

Alex Blanton - Ingalls & Snyder

Well, just one more comment. Can you react to this? Your labor costs go up 25% to 30%, but since it's only 2% of the total, it doesn't affect your overall cost that much. But you buy a lot of material, so it go into the product. And the labor costs to make those materials, if they're made in China, will be going up by a considerable amount too it would seem to me.

So the overall price, and I realize you can pass along these material costs, but from the standpoint of the customer, won't he ultimately be hit by a significant increase in price or cost to him because of the material that's being passed through so that there is a danger that China gets, not priced out of the market, but there's an incentive to move to lower cost regions.

Jure Sola

Alex, I mean you analyze this thing better than I do, and so you're correct there. But I think it's just the nature of the environment that we are involved in. And we've seen these types of price increases all around the world in the last 25 years. So this is just one of those things that we have to deal with.

And we got to work together with our suppliers and making sure that we have a minimal impact on our customers. I mean, that's all we can do today.

Operator

Our last question comes from the line of Lou Miscioscia with Collins Stewart.

Lou Miscioscia - Collins Stewart

So let's just look at SG&A again. I guess it was up, even after you factor out some of the one-time events in the quarter. And I guess I was modeling it to be much more flattish. So maybe you can just explain why was it up in this quarter? And also maybe just give me back the guidance that you had given me. And it sounds like it was going to be up again next quarter. I know you mentioned BreconRidge, but is there other things going on in there?

Jure Sola

Let me make a comment, and I'll turn it over to Bob. I said $66 million for next quarter. There'd be $1 million that should go away next quarter, so you're not going to see that in our first quarter, but let me turn it over to Bob.

Bob Eulau

First of all, to clarify Q3, and embedded in the SG&A is $2.6 million of bad debt. So if you factor that out, then we're $59 million. And then in Q4, we've got obviously the BreconRidge business coming online, and a few other factors including some adjustments and accruals that we know about in Q4. So I don't know if that helps or not.

Lou Miscioscia - Collins Stewart

On your slide deck in the supplemental section, where your reconciliation to GAAP, so the $2.6 million to bad debt, you actually did not pull back out?

Bob Eulau

That's correct. There's still $2.6 million in bad debt in the non-GAAP SG&A.

Lou Miscioscia - Collins Stewart

Okay, so that would definitely explain it. And are you expecting more of that again in next quarter, because then still, it sounds to be going up pretty considerably quarter to quarter.

Bob Eulau

We're definitely still expecting SG&A to go up from Q3 to Q4. There are a couple of factors in there, one of which we mentioned, which is BreconRidge, and others would be accrual related. I don't know, there is a lot more color we can put on that.

Jure Sola

Just if you look at BreconRidge alone approximately next quarter is about $2 million; $1 million will go away, $1 million will stay for long term.

Lou Miscioscia - Collins Stewart

Okay, that's helpful. And then can you just comment on FX in the sense that whichever currencies matter the most for you? At least the euro has gotten back up a bit in comparison. Does that help you next quarter, because I think Jure sort of made the quick comment it might have hit you about a penny this past quarter?

Bob Eulau

Yes, it probably actually affects us by close to $0.02. But in reality the FX is a very complex area, and I think the team did a very good job overall. Had we not had our hedging program, we would have had very significant exposure. So it's unpredictable what will happen next quarter. It's unlikely you'll see currency movements.

You won't see as drastic currency movement in such a short timeframe as you saw this past quarter in Q4, but you never know for sure.

Jure Sola

But Lou, just to add to that. So if you take the $2.6 million that we took reserves against this bad debt which we hope we're going to collect. And then FX, you know 1.3, approximately $3.9 million that really affect this non-GAAP earnings here, less tax.

Lou Miscioscia - Collins Stewart

Okay, that's definitely helpful.

Jure Sola

So if this thing didn't happen, our numbers would be lot better than what we expected it.

Lou Miscioscia - Collins Stewart

And I guess as a clarify to bad debt, how does that compare I guess to prior quarters? That number was much higher than in prior periods because I'm sure you have a little bit of an allowance every quarter for it?

Bob Eulau

Yes, there is some bad debt, but this was much higher than what we've seen in prior quarters.

Jure Sola

All right. Ladies and gentlemen, if you any more questions, please give us a call. Otherwise, thank you very much, and looking forward to talking to you three months from now. Have a nice day.

Operator

This concludes today's conference call. You may now disconnect.

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