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Jabil Circuit (NYSE:JBL)

F3Q12 Earnings Call

June 19, 2012 4:30 p.m. ET

Executives

Timothy Main - President and CEO

Forbes Alexander - CFO

Beth Walters - SVP, IR & Communications

Analysts

Amit Daryanani - RBC Capital Markets

Brian Alexander - Raymond James

Steven Fox - Cross Research

Amitabh Passi - UBS Investment Research

Craig Hettenbach - Goldman, Sachs & Co.

Sean Hannan - Needham & Company

Matt Sheerin - Stifel Nicolaus & Company, Inc.

Shawn Harrison - Longbow Research

Jim Suva - Citigroup

Sherri Scribner - Deutsche Bank

Operator

Good afternoon. At this time, I would like to welcome everyone to the Jabil third quarter earnings conference call. [Operator instructions.] I would now like to turn the call over to your host, Beth Walters. Ma’am, you may begin.

Beth Walters

Thank you very much. Welcome everyone to our third quarter of 2012 earnings call. Joining me today are President and CEO Timothy Main and Chief Financial Officer Forbes Alexander. This call is being recorded and will be posted for audio playback on the Jabil website, jabil.com, in the Investor section.

Our third quarter press release and corresponding webcast and slides are also available on our website. In these slides, you will find the financial information that we cover during this call. We ask that you follow our presentation with the slides on the website, beginning with slide two, our forward-looking statements.

During this call, we will be making forward-looking statements, including those regarding the anticipated outlook for our business, our currently expected fourth quarter of fiscal 2012 net revenue and earnings results, our long-term outlook for our company, and improvements in our operational efficiencies and financial performance. These statements are based on current expectations, forecasts, and assumptions involving risks and uncertainties that could cause actual outcomes and results to differ materially.

An extensive list of these risks and uncertainties are identified in our annual report on Form 10-K for the fiscal year ended August 31, 2011, on subsequent reports on Form 10-Q and Form 8-K, and our other securities filings. Jabil disclaims any intention or obligation to update or revise any forward-looking statements, whether as a result of new information, future events, or otherwise.

Today's call will begin with our third quarter results, highlights and comments from Forbes Alexander, as well as guidance on our fourth fiscal quarter of 2012. Tim Main will follow with macro environment and Jabil’s specific comments about our performance, our model, and our current outlook. We will then open it up to questions from call attendees. I will now turn the call over to Forbes.

Forbes Alexander

Thank you Beth. Hello everyone. I ask you to refer to slide 3. Our net revenue for the third quarter was $4.25 billion, an increase of 0.5% on a year over year basis. GAAP operating income was $156.6 million, or 3.7% of revenue, which compares to $152.5 million of GAAP operating income on revenues of $4.28 billion, or 3.6% in the same period the prior year.

Core operating income, excluding the amortization of intangibles, stock based compensation, and a distressed customer charge, increased 7.1% to $190.3 million, and represents 4.5% of revenue. This compares to $177.8 million, or 4.2%, for the same period in the prior year.

GAAP diluted earnings per share for the third quarter were $0.48, an increase of 2.1% over the prior year. Core diluted earnings per share was $0.64, an increase of 10.3% over the prior year. Please note that our GAAP operating results were negatively impacted by $10.1 million during the quarter, as a result of a distressed customer charge taken associated with the solar industry.

The solar industry today operates in a difficult environment, with much uncertainty and continuing trade disputes with China. We are at significantly lower levels of production than we were in fiscal ’11. We anticipate volumes in fiscal ’13 to be somewhat similar, and although the demand environment is not robust, we do not anticipate any further charges.

Now I would ask you to refer to slide four, for a discussion of our segments. In the third quarter, our diversified manufacturing services segment grew 22% on a year over year basis, driven largely by strength in our specialized services sector. Revenue was approximately $1.9 billion, representing 44% of total company revenue. Core operating income expanded 70 basis points to 6.5% of revenue.

Revenue in the enterprise and infrastructure segment decreased 4% on a year over year basis, while exceeding our expectations in the quarter. The quarter saw strength in storage, due to a large program ramp as a result of customer consolidation activity in our favor. Revenue was approximately $1.3 billion, representing 31% of total company revenue. Core operating income for this segment expanded by 50 basis points sequentially, to 2.2% of revenue.

The high velocity segment decreased 20% on a year over year basis, driven by continued weakness in handset volumes. Revenue was $1.1 billion, representing 25% of total company revenue in the quarter. Excluding our handset business, high velocity is performing very well, as evidenced by year over year gains in set-top box, point of sale, printing, and automotive. As a result of this mix, core operating income for the segment remained above our long term expectations at 3.7% of revenue.

During the quarter, there was only one 10% customer, residing in our diversified manufacturing services segment, while our top ten customers comprised 60.2%. I now ask you to refer to slide five, while I review some of our balance sheet and cash metrics.

We are pleased with our working capital and operating cash flow performance in the quarter. Sales cycle improved by 3 days sequentially, in which returns remained at 7, while cash flow generated from operations was $186 million. We ended the quarter with cash balances of $742 million.

During the quarter, we repurchased some 1.5 million shares, with a value of approximately $30 million. There was no impact to reported EPS in the quarter as a result of these repurchases, and $30 million remains outstanding on our current stock repurchase program.

EBITDA in the quarter expanded to $275 million, or 6.5% of revenue, the highest level since the fourth fiscal quarter of 2005. Our net capital expenditures during the quarter were approximately $108 million. As I indicated on our March earnings call, we continue to expect capital expenditure levels for the second half of this fiscal year to be approximately $320 million.

The majority of these expenditures are targeted within our diversified manufacturing services segment, specifically associated with rapidly expanding capacity in our specialized services sector. As we exit the year, we shall have doubled our square footage in Wuxi, China, and have recently signed an agreement to establish a site in Chengdu, China with the ultimate available capacity, up to the size of our Wuxi operations. The first phase of this expansion is scheduled to be completed during our first fiscal quarter of 2013.

I now ask you to turn to slide six for a summary of the quarter’s performance. We are pleased with the operating performance in our third fiscal quarter. Core operating margin performance was 4.5%, the midpoint of our guidance, while revenues were below the midpoint of the range provided.

Core operating income expanded 30 basis points on both a sequential and year over year basis, while EBITDA expanded 30 basis points sequentially and 50 basis points on a year over year basis. Our return on invested capital, calculated on a GAAP net income basis, was 19%, or 24% on a core basis.

Finally, I’d ask you to refer to slides eight and nine, where I’d like to discuss our fourth quarter guidance. We expect revenue in our fourth fiscal quarter to be in the range of $4.1 billion to $4.35 billion. Core operating income is estimated to be in the range of $170 million to $200 million, and core operating margin in the range of 4.1% to 4.6%.

Our core earnings per share are expected to be in the range of $0.54 to $0.66 per diluted share, and GAAP earnings per share are expected to be in the range of $0.43 to $0.55 per diluted share. This is based upon a diluted share count of approximately 212 million shares.

Based upon the current estimates of production, the tax rate on core operating income is expected to be in the low to mid 20% range for the fourth fiscal quarter, reflecting a higher proportion of anticipated income from higher tax rate geographies.

Turning to our segments, and year over year performance, the diversified manufacturing services segment is expected to increase 17%. The enterprise and infrastructure segment is expected to decline 5%. And finally, our high-velocity segment is expected to decline 22% on a year over year basis.

Thank you. And I’d now like to hand the call over to Tim Main.

Tim Main

Thanks Forbes. I’ll make a few comments on present conditions, and then longer term perspective. In the short term, we are managing through a period with many changes happening simultaneously. It is well documented that our mobility customer in the high-velocity sector has been under duress as they have grappled with the declining sales and leadership changes, while making preparations for a critical launch of an important new product platform.

This customer has publicly articulated their intent to drive higher performance and derive greater efficiency in their supply chain through consolidation, with fewer high capability suppliers. Jabil has been selected as a go forward partner, and we expect to consolidate production regionally in Mexico and Hungary over the course of the next quarter or two.

Future levels of production will be highly dependent on a number of factors within, and outside of, our control. However, we expect our total revenue with this customer will remain below the 10% level in our fourth fiscal quarter of 2012, and throughout fiscal 2013.

In order to support a number of new customers and rising demand, we are in the midst of a large-scale capacity expansion for diversified manufacturing services. In addition to expanding existing sites, we have also broken ground on a new site in Chengdu, China. This new site is capable of supporting up to 2 million square feet of manufacturing capacity intended for our specialized services and other EMS business areas. Production from the new site is expected to commence by the end of this calendar year.

Margins in our enterprise infrastructure sector expanded 50 basis points sequentially as revenue increased 8%. While we expect revenue to be stable to slightly higher sequentially for the next several quarters, our expectations for growth are more muted now than 90 days ago.

Counterbalancing lackluster end markets, we have earned additional market share with several customers, and experienced inefficiencies ramping production on incoming transfers over the course of our third fiscal quarter. These inefficiencies are expected to continue through at least part of FQ4 before we attain mature production efficiencies in FQ1 of ’13. In addition to ramping up new programs, we will look to take an appropriate level of cost reduction actions in order to return margins to our long term targeted range.

Excluding our mobility customer in high-velocity, the balance of our high velocity business is actually growing at acceptable return levels. Excluding the aforementioned mobility customer, we expect the balance of high velocity revenue as income to increase over 15% in FY12 over FY11.

While high velocity is not a target growth area for Jabil, it does underscore that Jabil continues to be a cost-effective, trustworthy name for attractive customers in this business area. We are fast, flexible, and competitive, and we have the ability to compete in more ways and in more theaters than most of our competitors.

Integration of our Telmar acquisition continues in our aftermarket services business. Additionally, AMS is innovating a number of new multi-country, multilayer service strategies that are generating solid organic growth. The Telmar integration, and the launch of these new service offerings for specific customers has had a negative impact on profit levels in FQ3, and is expected to show modest improvement in FQ4 of 2012. We look for AMS to lead the industry in innovation and service, and for Jabil AMS to continue to widen its lead over the competition.

Moving from the present to the future, we believe 2012 will be our third consecutive record year, even though it will close on a more subdued note than we anticipated earlier this year. Jabil is building and grooming the business for strong income growth for years to come. Investments in specialized services, healthcare, and industrial, along with a sustained competitive position in traditional markets, should lead to continuing high-quality growth and revenue and earnings for years to come.

In reality, superior long term performance should be expected of Jabil. For example, as of 2011, there were 163 Fortune 500 companies with revenue over $16 billion a year. Not a single one of them posted higher growth in revenue, EBITDA, and GAAP EPS than Jabil over the 17-year period since we went public in 1994. And, since 2008, only five have reported higher growth than Jabil: Apple, Intel, and three financial institutions, JP Morgan, Wells Fargo, and Prudential.

Finally, for the 10-year period from fiscal 2001 through fiscal 2011, Jabil has posted a GAAP EPS compound annual growth rate of 11.5%. There is always room for improvement, but that’s not a bad track record considering all the convulsive changes that have occurred over the past 10 years.

Thank you for listening, and we are now prepared to take your questions.

Question-and-Answer Session

Operator

[Operator instructions.] And you do have a question from the line of Amit Daryanani.

Amit Daryanani - RBC Capital Markets

What do you guys perceive normal seasonality to be? I gather it to be about plus 3%. And if I look at the delta to a normal seasonality, which is what you guided, which is down one, how much of that do you think is driven by the macro issues versus a pause ahead of a big ramp you have in the DMS segment?

Tim Main

I think we’re in a period where, just to make things simple, of our ten largest customers we’ve had two customers this year with revenue year over year that’s down about a billion dollars. We have a customer with revenue that’s up about a billion dollars. And the rest of the business is doing pretty well, growing at 5-10% depending on the business area.

So I’d say that the revenue headwinds have a lot to do with a couple of customer-specific issues, lack of a macro tailwind. But I think end markets are relatively stable. But there isn’t much of a tailwind. And in light of the circumstances that we’re in today, and the overall demand environment, I’d feel pretty good about having a flattish quarter this quarter with great springloading of opportunity for outstanding growth in FY13.

Amit Daryanani - RBC Capital Markets

Could you just talk about the RIM relationship? And given the fact that you’re actually picking up incremental share with them, in fiscal ’13 it sounds like, how do we think about the fiscal ’13 objectives you laid out at the analyst day, which I think assumed [HVS] would essentially be flat next year. Do we have to [unintelligible] a higher number in that segment? And also, on the margin line, how do you think the 2-2.5% margin target shakes out in the segment?

Tim Main

I think it’s premature for us to handicap what the mobility customer’s consolidation will mean to us in terms of prospective growth in FY13. Having said that, we have reviewed in detail our FY13 plans and still feel confident with what was presented at the analyst meeting, which was growth of 25% in MTG, 15% in other diversified manufacturing services areas, 10% in enterprise infrastructure, and zero in high velocity.

I think in terms of how you should look at this going forward, I think the granularity on revenue will be more difficult, particularly in short term time horizons. But we have an increasing level of confidence around our ability to deliver consistency and earnings on long term basis, and certainly in annual buckets.

So while the revenues may shift around a bit from what we presented at the analyst meeting, we feel very good about what that implies in terms of earnings for FY13.

Operator

Your next question comes from the line of Brian Alexander.

Brian Alexander - Raymond James

In terms of the Q4 guidance for DMS revenue, I think it implies up 6% sequentially. Could you just give us a little bit more granularity in terms of how you’re thinking about specialized services growth sequentially given the major product transition you have and all the capacity you’re adding versus what you’re seeing in industrial and healthcare on a sequential basis?

Tim Main

That’s not something we can discuss. I’m not trying to be unhelpful. I’d love to help you out, but there’s always sensitive customers’ issues within those three areas. And I don’t think it’s actually that meaningful, looking at it from an investor’s perspective, because the margin structure, the health of the customers, all that kind of stuff, is just not that meaningful.

We’re delighted that even in a period where there’s such macro uncertainty and lack of end market tailwinds, that we’ve got diversified manufacturing services, which we intend to rely on for our primary growth engine for the next four or five years, growing within our targeted range of 20-30%. And I think the estimate would be at 25% for the full year based on where we’ve guided. So I think that’s pretty good.

What we talked about at the analyst meeting might be useful to reiterate a little bit. Healthcare and industrial grew at a slower rate this year. I think we previewed that, actually at the beginning of the year, that we think this would be a year in which we’d grow 7-8%. It may not be exactly that, based on Q4. It will be a slower growth year. But with the pipeline of new product development opportunities, particularly in healthcare - we highlighted 20-22 important new programs in healthcare, along with industrial - I think the sag in solar demand has attenuated the growth in industrial.

We have actually had some very important new customer wins, and program transfers, in industrial. So when I look forward in FY13, I think you’ll see industrial and healthcare grow at a much healthier clip, much closer to the low end of the 20-30% range. And we may choose to supplement that in certain areas with an acquisition sometime in the close of this fiscal year or early next year.

Brian Alexander - Raymond James

And just to follow up on the bridge back to 4% E&I margins versus what you outlined last quarter, given the slower environment, any update there? How many quarters has that been pushed out? Do you think you could get there in FY13?

Tim Main

Well, we’re 20 basis points light this quarter. Revenue growth is not quite as robust. And we’ve had some inefficiencies in product ramps, as I said. I think the revenue levels there will be sequentially positive, which gives us an opportunity to drive margin, particularly if we can get after the cost side of it. You know, we may need an extra quarter to get back to the targeted range, but I think we’ll maintain a positive trajectory.

Operator

Your next question comes from the line of Steven Fox.

Steven Fox - Cross Research

First quarter on the enterprise outlook. Can you just talk a little bit more granularly on what changed over the last 90 days in the end market, and if any of the markets are still growing relative to your previous expectations? And then secondly, just on the expansion you mentioned in Chengdu, can you talk a little bit more about exactly what’s going in there? I think you arranged it around a couple of businesses, but what’s driving it? And if I heard right, I think you said by the end of this calendar year it’s going to be in production? And can you just sort of detail that a little bit more?

Tim Main

On the enterprise infrastructure, not a dramatic slowdown. In fact, some customers are actually expecting some revenue growth. I’d say earlier this year we were thinking that this second half of calendar 2012 would be a little bit more robust for enterprise infrastructure customers, just because the spending levels have been so low. And typically what we see is a pattern of underinvestment and in a macro environment that has at least some growth, that spending tends to bounce back, and there’s a catch up period.

I think that’s going to happen again. Enterprise infrastructure spending is necessary, strategic, important. I think the fiscal constraints that governments are in all around the world has resulted in very low levels of federal spending, government spending, and big corporations are risk averse right now. So I think spend rates have slowed down a little bit. But eventually that will bottom, and rebound. And man, are we chock full of great customers in that area. So we will we definitely outperform when that bounces back.

It’s really on the margin a little bit. Again, we expect sequential revenue growth. We have won some new business in the enterprise infrastructure area. Had a little bit of difficulty transferring them into our facilities, but we’ll get through that over the course of Q4.

I’d say in terms of any other helpful color, storage has been a great business area for us, and continues to be. In terms of being a robust business area for Jabil, that continues to be a good area for us. But we have great customers in networking and the telecom area as well.

You mentioned Chengdu. I need to tread softly there, because I can’t highlight customers. That would preview individual customers’ supply chain strategies, and we’re not at liberty to do that. And that’s consistent with the company’s long term policy. So I’m not doing anything that’s out of character for us. But you can bet there are sizable customers with significant requirements, and we intend to be in production by the end of this current year.

But we can put traditional business in Chengdu. We can put specialized services, AMS business, MTG business, all kinds of businesses in Chengdu. It has the secondary benefit of being a cost hedge against coastal China. And we may be able to use it in future periods, but it’s really being put in place to support rising demand with multiple customers.

Operator

[unintelligible], your line is open.

Unidentified Caller

Your guidance range around operating margins is rather wide for the next quarter. Is that driven by the uncertain macro environment? And maybe you could give us some thoughts around what are the parameters that would move it toward the low or the high end of that range. It seems you could have the yield in DMS, or maybe it’s the revenue mix. If you could shed some color on that, that would be helpful.

Tim Main

It goes without saying that we’re in an uncertain macro environment. I think we’re influenced partly by that environment. There’s no reason for us to be overly aggressive with our confidence about the macro environment. That’s outside of our control. We did highlight a number of changes occurring simultaneously in the high velocity, in diversified manufacturing services, and aftermarket services. A lot of things for us to focus on this quarter.

If we execute very well, I think we’ll do well in a macro environment that doesn’t tip over. If the macro situation weakens significantly, and we fail to execute, that would drive us to the low end. But I think it’s a period where a little bit wider range is very appropriate given the number of changes and the highly dynamic environment that we’re in today.

Unidentified Caller

And just as a quick follow up, your comments about consolidation of supply chain at RIM, were you saying that you would be moving production into sites in Mexico and Hungary? Did I hear that correctly? And then the Chengdu and Wuxi expansions, are they also to support this mobility customer?

Tim Main

We did say Mexico, our mobility customer in high velocity would be consolidating production in Mexico and Hungary for our portion of their requirements. So you did hear that correctly. And given that, the Chengdu and Wuxi operations we don’t build any requirements in those sites for that particular customer. That particular customer, that mobility customer, is supported from other sites.

Operator

And your next question comes from the line of Amitabh Passi.

Amitabh Passi - UBS Investment Research

Can you remind us how much is left in your existing share buyback plan? And when do you go back to the board for additional authorization?

Forbes Alexander

There’s $30 million still available to us, so that would take it to $100 million. And we continue to discuss uses of capital on a quarterly basis with our board, so that’s pretty routine. So we will be having those continuing discussions at our next board meeting.

Amitabh Passi - UBS Investment Research

And Tim, if you don’t mind, I just wanted to follow up on the last question, with our margin guidance. I think the last time we saw 4.1% was in the August 2010 quarter. You were getting something like [$3.86] billion. So just trying to understand. Maybe you could help elaborate, what exactly gets you to the low end outside of macro?

Tim Main

I’m glad you highlighted it, Amitabh, that it’s been over two years since we’ve had [unintelligible] of our operating margin. That’s very helpful. I appreciate that. [laughter] And I might as well just mention again that 6.5% EBITDA is the highest level since the fourth quarter of 2005.

In any case, really it’s just a matter of if revenue is far less than we thought, and we struggle with some of the operational challenges that we have this quarter. It could drive it to that lower level. We have not been at the low end of our operating margin guidance, in my flawed memory, for a long time. Even this quarter, where our EPS revenue levels were a little bit mixed, our margins were outstanding.

And as diversified manufacturing services continues to grow as a percentage of overall business, I think our margin profile will continue to be attractive. But there is a 4.1% at the low end, and it’s tough to kind of handicap, then, what downside scenarios could happen over the course of a quarter. But it would require quite a few of those downside risks to align together and that’s possible. Nothing in particular though. If you’re worried about a particular event, there’s no particular event that we’re trying to handicap in.

Operator

Your next question comes from the line of Craig Hettenbach.

Craig Hettenbach - Goldman, Sachs & Co.

Forbes, two-year competitors, talked about taking charges with RIM. Can you discuss your thoughts for Jabil, if there’s any anticipation through some of these changes of having to take any charges?

Forbes Alexander

No. Certainly no anticipation there.

Craig Hettenbach - Goldman, Sachs & Co.

And if I can follow up with Tim, in the materials technology group, can you talk about the impact of available capacity in that group? Obviously there’s a lot of focus on one big customer, but outside of that, are you capacity constrained such that as you look to diversify or win new business with other customers, would that impact you in the coming quarters? Or if you could frame that, that would be helpful.

Tim Main

We’re at high levels of capacity utilization in our MTG group. We have a wide range of sites, especially from Shenzhen to Suzhou and Nanjing, Yantai, Tianjin, Wuxi, Taichung and soon to be Chengdu. So we have a lot of options. The management team in that group tries to keep the capacity insulated, customer to customer, so that customers don’t need to worry about a lack of resource or focus on their production areas. So I think they do a very good job of managing that.

That’s clearly a growth area for us, and we’re adding resources and capacity to support a number of customers. But we try and keep them insulated as well as we can. Jabil’s got a long history of the [workstyle] business unit model and keeping operational teams separate, so that each customer can rely on us to focus completely on their production requirements and support their needs through the ups and downs of schedule changes. I don’t know if that’s helpful or not, but it’s probably about the extent of what I can say on it.

Craig Hettenbach - Goldman, Sachs & Co.

A quick follow up with Forbes on the buyback program. If you look at it today versus a year ago, when you guys bought back, I think, 200 million last summer. Any constraints on the balance sheet, or anything to think about in terms of cap allocation into the back half that would constraint ability to buy back more stock?

Forbes Alexander

No, no constraints from a capital perspective. Our balance sheet is in really terrific shape. Should we wish to do anything more, our debt to EBITDA this quarter, as we exit this year, will be around about 1.5x. So the debt level’s about $1.7 billion. Essentially what that means is we’ve got somewhere between $1.5 billion and $2 billion of debt capacity available to us. So certainly no constraints in that perspective.

I would point out we’re continuing to invest for growth. I referenced $320 million of capital expenditures in the back half of the fiscal year, and we have talked about $500 million of capex for next fiscal year. So even with those levels and the cash we’re producing, we certainly have real comfort with how our balance sheet looks.

Operator

Your next question comes from the line of Sean Hannan.

Sean Hannan - Needham & Company

Realizing that RIM really represents most of your handset business there, the consolidation of the factories that you’ve already mentioned, is this also going to pertain to all of your handset business or is this just customer specific?

Tim Main

In my prepared remarks, I mentioned a single mobility customer in our high velocity sector intends to consolidate to fewer high capability suppliers. Jabil’s been selected as one of those go-forward partners. And that production will be consolidated regionally in Mexico and Hungary, where we are already in production for that customer.

Sean Hannan - Needham & Company

Okay, so on the assembly side, we’re just talking that action. Okay. And then separately, I didn’t quite get all the comments around the Telmar. Did I hear that there were some customer issues? I was looking to see if I can get a little bit more clarity around what happened with Telmar in the quarter and how to think of that business as we progress into Q4 and moving forward.

Tim Main

What I had mentioned is the integration of the Telmar acquisition continues in AMS. And there are some expenses associated with that. There’s also a number of new service offerings that are multi-country and multi-layer that AMS has introduced for specific customers, and that’s been a drag on earnings in FQ3. Then we’ll start to improve in FQ4.

On Telmar, I’d say that we’re delighted with the acquisition overall. It is contributing to our service offering for telecommunications customers in a very deep and meaningful way, and I would expect FY13 to be much improved in terms of AMS’s outlook and their ability to grow in a new vertical, in an exciting new area. And so we’re really delighted with it.

Short term, we’re going through the integration process. And so the accretion levels aren’t what they’ll be in a quarter or two. But we are absolutely delighted with that acquisition and already seeing synergies develop between Telmar and our AMS group.

Sean Hannan - Needham & Company

And once you’re into that period where you’re fully integrated and you’re able to actually capitalize on the efficiencies you’re hoping for, from either a top line growth perspective or from a margin standpoint, does that look to be materializing a few quarters out to the degree that you anticipated in doing the deal? Or is there actually some stronger benefits that you may actually capitalize on?

Tim Main

Honestly, I’d say that it’s been a little bit lighter than expected in the first couple quarters of ownership, but that prospectively, it will exceed its original business plan. So we are starting to realize the revenue synergies that we expected. So it’s been slower getting out of the gate that we expected, but we actually think it could be bigger than expected in FY13.

Operator

And your next question comes from the line of Matt Sheerin.

Matt Sheerin - Stifel Nicolaus & Company, Inc.

Tim, you talked about the growth rates for FY13, sticking to comments you made at your analyst day. And as you look at that pipeline and understanding certainly visibility for end demand is limited here, do you see some of those new business opportunities kicking in in the November quarter? Or is that going to be more back end loaded toward the back half of your FY13?

Tim Main

We’ll look at quarterly guidance on our September call, but I would imagine we’ll start to see benefit in our first fiscal quarter. That’s fair to say, in a year that we provided a framework for thinking about FY13 that we have a good start in the first fiscal quarter. The only caveat to that is we premised that on GDP growth that’s positive, and low single digit, but if the world tips over from a macro standpoint, it’s probably not going to be deliverable. But based on what we see today, and what we have in our hands, FY13 should get off to a pretty good start.

Matt Sheerin - Stifel Nicolaus & Company, Inc.

Okay, and same thing on the margin headwinds that you talked about. Some of the new program ramps, customer transitions, Telmar, etc. Do you also see some margin headwinds on program ramps in the materials group as you’re ramping new products for customers in the next quarter?

Tim Main

We don’t provide any margin guidance or color on MTG. That’s within specialized services, within DMS, and all that we publish is the DMS area. But anytime you’re ramping new production, you’re less efficient on the front end of that ramp up, and as you get to more mature levels of production you expect to hit targeted rates of return. And that’s pretty much true across the board. Manufacturing is manufacturing, regardless of the activity.

Matt Sheerin - Stifel Nicolaus & Company, Inc.

And just the last question, if I may, just regarding the mobility customer. Some of your competitors have walked away from that business, have talked about returns in profitability goals below their targets. Have you talked to that customer? Do you have new contracts in place to ensure that you’re going to meet profitability and returns goals?

Tim Main

Well, it’s an existing customer. It’s not a customer that I deal with every day, but our executive staff and key people on our executive staff are in very close contact. We’re kind of appalled at the way people walk away from customers. We believe that if you do business with a customer, and they rely on you for a set of services, you should continue to do that through good times and bad.

It’s a fundamental premise of being in our business. Our customers rely on us to provide, in many cases, 100% of their manufacturing supply chain infrastructure. They cannot deliver products without us.

So to the extent that you have a rational economic model and rational risk-reward embedded in contractual agreements and the rest of that kind of stuff, there’s no reason ever to walk away from a customer. And so I think that people think about stocks and how they trade sometimes more than they think about what makes up a good customer and what doesn’t.

And we’ll see where this goes, but we think that continuing to be a supplier in this regard and enjoy the benefit of that relationship, and the investment that’s been made in the relationship, and the opportunity to continue in production and have adequate returns and a balance between risk and reward, is much better for our company, and much better for our shareholders, than walking away from it.

Operator

And your next question comes from the line of Shawn Harrison.

Shawn Harrison - Longbow Research

Just wanted to follow up on some earlier comments regarding the margin structure in E&I. I know last quarter there was within the presentation maybe about a point of cost reduction or improved overhead absorption type of dynamics. Has that changed given some of the fluctuations here? Or are you still kind of targeting that type of cost reduction within E&I as we look over the next, say, two to three quarters?

Forbes Alexander

I think certainly we’ve commented in prepared remarks that we’re not seeing the revenue growth that perhaps we saw 90 days ago. So we still believe that 4% target is within our range over the next couple to three quarters here. So if we don’t see those benefits from a revenue list, we’ll appropriately shift the cost structure. So certainly it will be around about those levels, perhaps a little bit higher depending upon the revenue stream we see as we move through the next 90-120 days or so.

Shawn Harrison - Longbow Research

Just looking, again, at the three business units moving into the fourth quarter, is there anything happening in terms of individual EBIT margins that would push them down beyond volumes, because it seems as if just the low end of the guidance, maybe to paraphrase from earlier, is just kind of worst case scenario that you’d be making, and otherwise it would be kind of normal incremental margins on any type of volume dynamic.

Forbes Alexander

There’s nothing specific that we’re baking in. I stand by Tim’s comments to an earlier question. That lower end of the range there is predicated on some macroeconomic headwinds, perhaps, that might be out there, but we’re certainly not handicapping any particular segments in any particular way. We think it’s an appropriate range of guidance provided, and I think as we said earlier, I don’t recall the last time that our earnings came in those low end of ranges. We’ve got a really strong operating business model in place now, and we’ve been in a situation this past quarter with a number of activities going on, and still putting up 4.5 points. So certainly feel pretty good about the opportunity ahead of us here in the next 90 days.

Shawn Harrison - Longbow Research

And then just finally on the Chengdu site, the decision to make it as large as Wuxi, was that something that you had been planning for a while? Or was that something just as demand’s risen you felt the need that you needed to expand the capacity to that size?

Tim Main

We’ve been exploring western China sites now for two years, and have pulled the trigger earlier this year after very diligent site selection and a negotiation process, so it’s the result of some longer term thinking. And we’ll accommodate growth in the business. We’re not starting with 2 million square feet. It has the ability to ramp up to that level.

Operator

Your next question comes from the line of Jim Suva.

Jim Suva - Citigroup

First, a question for Tim, and then a follow up one for Forbes. Tim, when you mentioned and referred back to your investor day, you talked about you still see the same guidance there. I just wanted to clarify. Were you meaning the percent growth by each segment? Or on the slide after that you talked about a revenue level of $19 plus billion. And I think since then you’ve clarified it at some conferences to kind of $19.3billion to $19.4 billion. I’m just trying to figure out, are all of those still consistent? Or is it more let’s focus on the growth, because it seems like this year the macro levels have us coming out of the gate just a little bit slower?

And then for Forbes, you mentioned the higher tax rate. Can you help us understand kind of what geographic areas this is? And is it reoccurring at these higher levels? Or is there some seasonality to the tax rate as we start to look ahead and build kind of beyond one quarter for the tax rate?

Tim Main

Fair question. Are we talking about the absolute [unintelligible] level, or the growth rate? And I think we’re still very comfortable with the growth rates that we outlined. If you’re starting at a lower base, that will drive a somewhat lower top line, but I think more in terms of implicitly what that drives for earnings and EPS in FY13, because we could be off on the revenue mix to a modest degree, and still deliver outstanding EPS results that would be consistent with what we talked about at the analyst meeting. So fair question. If you were modeling it, I would model using the growth rates, and if you have a lower base, use a lower base. I think from an EPS standpoint, though, we’re still really excited about what we can deliver in FY13, and the next four or five years.

Forbes Alexander

And Jim, with regard to the tax rates, what we’re seeing is a higher proportion of our forward looking income coming from geographies such as China, where there is a tax rate of 25%, and our Indian facility is performing very well, actually, where those rates are in the mid-30s. A little bit north of mid-30%. So we are seeing a little bit of a structural shift in terms of our income in the fourth quarter, and certainly as we move into the first couple of quarters of next fiscal year. So for modeling purposes, I’d encourage a rate in the 22% range, something of that nature. And we’ll see how that shifts or plays out as we move through the balance of ’13, as we bring on capacity and as we bring on additional income streams in other parts of the globe.

Operator

And your next question comes from the line of Sherri Scribner.

Sherri Scribner - Deutsche Bank

I just had two questions. One on the solar customer. I think you gave some detail in the prepared remarks, but wanted to get a sense of if you feel there’s any risk to additional customers in the solar business, and how much a percentage of your business that is now.

Forbes Alexander

To your first point, no, we don’t believe we have any other risk in that particular industry. We’ve got a limited exposure there. Last year our revenue stream was considerably more. So just with the natural shift in the solar industry, our exposures have come down, and I suggest they’ll be at those levels in ’13. So really not material in terms of overall revenue stream. It’s pretty small, actually, now, and exposure in that regard. So I certainly don’t expect and you further charges associated with our activity in this area.

Sherri Scribner - Deutsche Bank

And then just turning back to the operating margin, and thinking about the different segments. If I sort of try to model it out based on the revenue growth, and I assume flat margins for DMS and E&I, it suggests that HVS gets back to sort of your historical target range of 2-2.5%, which you haven’t been at in quite some time. So is there an expectation that HVS falls back into the past historical target range? And would you expect that moving forward?

Tim Main

We currently don’t expect high velocity to retrograde back to the 2-2.5% range. What we have said is that we will address the long term targets for sectors on the September call. And we would address a more reasonable high velocity margin at that time. We have also said at conferences and other instances that we think it’s acceptable to think about high velocity being a 3% plus business for the foreseeable future.

Beth Walters

Okay. Operator, thank you very much, and thank you to everyone for joining us on the call today. We’re available for follow up to any questions you have on the third quarter performance or our fourth quarter outlook as usual. So thank you very much.

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