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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
(X) Quarterly Report Under Section 13 or 15 (d) of the Securities Exchange Act
of 1934
For the Quarter ended January 1, 2005
or
( ) Transition Report Pursuant to Section 13 or 15(d) of the Securities
Exchange Act of 1934
Commission File Number 000-14824
PLEXUS CORP.
(Exact name of registrant as specified in charter)
Wisconsin 39-1344447
(State of Incorporation) (IRS Employer Identification No.)
55 Jewelers Park Drive
Neenah, Wisconsin 54957-0156
(Address of principal executive offices)(Zip Code)
Telephone Number (920) 722-3451
(Registrant's telephone number, including Area Code)
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such reports), and (2) has been
subject to such filing requirements for the past 90 days.
Yes [X] No [ ]
Indicate by check mark whether the registrant is an accelerated filer (as
defined in rule 12b-2 under the Exchange Act).
Yes [X] No [ ]
As of February 1, 2005 there were 43,311,296 shares of Common Stock of the
Company outstanding.
1
PLEXUS CORP.
TABLE OF CONTENTS
January 1, 2005
PART I. FINANCIAL INFORMATION............................................................. 3
Item 1. Consolidated Financial Statements........................................... 3
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS AND COMPREHENSIVE
INCOME (LOSS)............................................................... 3
CONDENSED CONSOLIDATED BALANCE SHEETS....................................... 4
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS............................. 5
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS........................ 6
Item 2. Management's Discussion and Analysis of Financial Condition and Results
of Operations............................................................... 12
"SAFE HARBOR" CAUTIONARY STATEMENT.......................................... 12
OVERVIEW.................................................................... 12
EXECUTIVE SUMMARY........................................................... 12
RESULTS OF OPERATIONS....................................................... 14
LIQUIDITY AND CAPITAL RESOURCES............................................. 17
CONTRACTUAL OBLIGATIONS AND COMMITMENTS..................................... 18
DISCLOSURE ABOUT CRITICAL ACCOUNTING POLICIES............................... 18
NEW ACCOUNTING PRONOUNCEMENTS............................................... 20
RISK FACTORS................................................................ 21
Item 3. Quantitative and Qualitative Disclosures about Market Risk.................. 28
Item 4. Controls and Procedures..................................................... 29
PART II - OTHER INFORMATION................................................................ 30
Item 6. Exhibits.................................................................... 30
SIGNATURE.................................................................................. 30
2
PART I. FINANCIAL INFORMATION
ITEM 1. CONSOLIDATED FINANCIAL STATEMENTS
PLEXUS CORP.
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
AND COMPREHENSIVE INCOME (LOSS)
(in thousands, except per share data)
Unaudited
Three Months Ended
---------- ------------
January 1, December 31,
2005 2003
---------- ------------
Net sales $ 287,480 $ 238,464
Cost of sales 265,185 218,837
--------- -----------
Gross profit 22,295 19,627
Operating expenses:
Selling and administrative expenses 18,074 16,356
Restructuring and impairment costs 884 -
--------- -----------
18,958 16,356
--------- -----------
Operating income 3,337 3,271
Other income (expense):
Interest expense (871) (663)
Miscellaneous 819 516
--------- -----------
Income before income taxes 3,285 3,124
Income tax expense 263 625
--------- -----------
Net income $ 3,022 $ 2,499
========= ===========
Earnings per share:
Basic $ 0.07 $ 0.06
========= ===========
Diluted $ 0.07 $ 0.06
========= ===========
Weighted average shares outstanding:
Basic 43,191 42,651
========= ===========
Diluted 43,753 43,738
========= ===========
Comprehensive income:
Net income $ 3,022 $ 2,499
Foreign currency translation adjustments 4,296 4,823
--------- -----------
Comprehensive income $ 7,318 $ 7,322
========= ===========
See notes to condensed consolidated financial statements.
3
PLEXUS CORP.
CONDENSED CONSOLIDATED BALANCE SHEETS
(in thousands, except per share data)
Unaudited
January 1, September 30,
2005 2004
----------- -------------
ASSETS
Current assets:
Cash and cash equivalents $ 43,614 $ 40,924
Short-term investments - 4,005
Accounts receivable, net of allowance of $2,162
and $2,000, respectively 153,499 148,301
Inventories 198,809 173,518
Deferred income taxes 655 1,727
Prepaid expenses and other 9,749 5,972
----------- -----------
Total current assets 406,326 374,447
Property, plant and equipment, net 128,044 129,586
Goodwill 35,601 34,179
Deferred income taxes 1,223 -
Other 8,103 7,496
----------- -----------
Total assets $ 579,297 $ 545,708
=========== ===========
LIABILITIES AND SHAREHOLDERS' EQUITY
Current liabilities:
Current portion of long-term debt and capital lease
obligations $ 2,744 $ 811
Accounts payable 123,308 100,588
Customer deposits 13,872 11,952
Accrued liabilities:
Salaries and wages 20,475 26,050
Other 18,984 19,686
----------- -----------
Total current liabilities 179,383 159,087
Long-term debt and capital lease obligations, net of current portion 29,912 23,160
Other liabilities 11,183 12,048
Commitments and contingencies - -
Shareholders' equity:
Preferred stock, $.01 par value, 5,000 shares authorized,
none issued or outstanding - -
Common stock, $.01 par value, 200,000 shares authorized,
43,199 and 43,184 shares issued and outstanding, respectively 432 432
Additional paid-in capital 268,013 267,925
Retained earnings 74,282 71,260
Accumulated other comprehensive income 16,092 11,796
----------- -----------
358,819 351,413
----------- -----------
Total liabilities and shareholders' equity $ 579,297 $ 545,708
=========== ===========
See notes to condensed consolidated financial statements.
4
PLEXUS CORP.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(in thousands)
Unaudited
Three Months Ended
January 1, December 31,
---------- ------------
2005 2003
---------- ------------
CASH FLOWS FROM OPERATING ACTIVITIES
Net income $ 3,022 $ 2,499
Adjustments to reconcile net income to net cash
flows from operating activities:
Depreciation and amortization 6,444 6,444
Non-cash asset impairments 432 -
Deferred income taxes (41) (2,294)
Income tax benefit of stock option exercises - 189
Changes in assets and liabilities:
Accounts receivable (4,097) (5,438)
Inventories (23,984) (25,238)
Prepaid expenses and other (2,593) (467)
Accounts payable 22,112 4,985
Customer deposits 1,882 1,581
Accrued liabilities and other (7,696) 791
-------- --------
Cash flows used in operating activities (4,519) (16,948)
-------- --------
CASH FLOWS FROM INVESTING ACTIVITIES
Sales and maturities of short-term investments 4,005 1,212
Payments for property, plant and equipment (4,074) (3,612)
-------- --------
Cash flows used in investing activities (69) (2,400)
-------- --------
CASH FLOWS FROM FINANCING ACTIVITIES
Proceeds from debt 12,000 -
Payments on debt (5,545) -
Payments on capital lease obligations (255) (223)
Proceeds from exercise of stock options 88 619
-------- --------
Cash flows provided by financing activities 6,288 396
-------- --------
Effect of foreign currency translation on cash and cash
equivalents 990 1,135
-------- --------
Net increase (decrease) in cash and cash equivalents 2,690 (17,817)
Cash and cash equivalents:
Beginning of period 40,924 58,993
-------- --------
End of period $ 43,614 $ 41,176
======== ========
See notes to condensed consolidated financial statements.
5
PLEXUS CORP.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
FOR THE THREE MONTHS ENDED JANUARY 1, 2005 AND DECEMBER 31, 2003
UNAUDITED
NOTE 1 - BASIS OF PRESENTATION
The condensed consolidated financial statements included herein have been
prepared by Plexus Corp. ("Plexus" or the "Company") without audit and pursuant
to the rules and regulations of the United States Securities and Exchange
Commission. In the opinion of the Company, the financial statements reflect all
adjustments, which include normal recurring adjustments necessary to present
fairly the financial position of the Company as of January 1, 2005, and the
results of operations for the three months ended January 1, 2005 and December
31, 2003, and the cash flows for the same three-month periods.
Certain information and footnote disclosures normally included in
financial statements prepared in accordance with generally accepted accounting
principles have been condensed or omitted pursuant to the SEC rules and
regulations dealing with interim financial statements. However, the Company
believes that the disclosures made in the condensed consolidated financial
statements included herein are adequate to make the information presented not
misleading. It is suggested that these condensed consolidated financial
statements be read in conjunction with the financial statements and notes
thereto included in the Company's 2004 Annual Report on Form 10-K.
Effective October 1, 2004, the Company's fiscal year now ends on the
Saturday closest to September 30 rather than on September 30, as was the case
prior to fiscal 2005. In connection with the change to a fiscal year ending on
the Saturday nearest September 30, the Company also changed the accounting for
its interim periods to adopt a "4-4-5" accounting system for the "monthly"
periods in each quarter. Each quarter will therefore end on a Saturday at the
end of the 4-4-5 period. The accounting periods for the first quarter of fiscal
2005 and 2004 included 93 days and 92 days, respectively.
Certain amounts in prior years' consolidated financial statements have
been reclassified to conform to the 2005 presentation.
NOTE 2 - INVENTORIES
The major classes of inventories are as follows (in thousands):
January 1, September 30,
2005 2004
---------- -------------
Raw materials $ 129,401 $ 115,094
Work-in-process 37,613 32,898
Finished goods 31,795 25,526
--------- ----------
$ 198,809 $ 173,518
========= ==========
NOTE 3 - LONG-TERM DEBT AND CAPITAL LEASE OBLIGATIONS
The Company is a party to a secured revolving credit facility (as amended,
the "Secured Credit Facility") with a group of banks that allows the Company to
borrow up to $150 million and expires on October 31, 2007. Borrowings under the
Secured Credit Facility may be either through revolving or swing loans or letter
of credit obligations. As of January 1, 2005, borrowings outstanding totaled
$7.0 million. The Secured Credit Facility is secured by substantially all of the
Company's domestic working capital assets and a pledge of 65 percent of the
stock of the Company's foreign subsidiaries. The Secured Credit Facility
contains certain financial covenants, which include certain minimum adjusted
EBITDA amounts, a maximum total leverage ratio (not to exceed 2.5 times the
adjusted EBITDA) and a minimum tangible net worth, all as defined in the amended
agreement. Interest on borrowings varies depending upon the Company's
then-current total leverage ratio and begins at the Prime rate, as defined, or
LIBOR plus 1.5 percent. The Company is also required to pay an annual commitment
fee of 0.5 percent of the unused credit commitment. Origination fees and
expenses totaled approximately $1.3 million, which have been deferred and are
being amortized to interest expense over the term of the Secured Credit
Facility. Interest
6
expense related to the commitment fee, amortization of deferred origination fees
and borrowings totaled approximately $0.3 million and $0.1 million for the three
months ended January 1, 2005 and December 31, 2003, respectively.
NOTE 4 - EARNINGS PER SHARE
The following is a reconciliation of the amounts utilized in the
computation of basic and diluted earnings per share (in thousands, except per
share amounts):
Three Months Ended
---------------------------
January 1, December 31,
2005 2003
---------- ------------
Basic and Diluted Earnings Per Share:
Net income $ 3,022 $ 2,499
======= ========
Basic weighted average common shares outstanding 43,191 42,651
Dilutive effect of stock options 562 1,087
------- --------
Diluted weighted average shares outstanding 43,753 43,738
======= ========
Earnings per share:
Basic $ 0.07 $ 0.06
======= ========
Diluted $ 0.07 $ 0.06
======= ========
For the three months ended January 1, 2005 and December 31, 2003, stock
options to purchase approximately 3.4 million and 2.0 million shares of common
stock, respectively, were outstanding but not included in the computation of
diluted earnings per share because the options' exercise prices were greater
than the average market price of the common shares and therefore their effect
would be anti-dilutive.
NOTE 5 - STOCK-BASED COMPENSATION
The Company accounts for its stock option plans under the guidelines of
Accounting Principles Board Opinion ("APB") No. 25. Accordingly, no compensation
expense related to the stock option plans has been recognized in the Condensed
Consolidated Statements of Operations and Comprehensive Income. The Company
utilizes the Black-Scholes option valuation model to value stock options for pro
forma presentation of income and per share data as if the fair value based
method in Statement of Financial Accounting Standards ("SFAS") No. 148,
"Accounting for Stock-Based Compensation-Transition and Disclosure-an amendment
of SFAS No. 123" had been used to account for stock-based compensation. The
following presents pro forma net income and per share data as if a fair value
based method had been used to account for stock-based compensation (in
thousands, except per share amounts):
Three Months Ended
----------------------------
January 1, December 31,
2005 2003
---------- ------------
Net income as reported $ 3,022 $ 2,499
Add: stock-based employee compensation expense included
in reported net loss, net of related income tax effect - -
Deduct: total stock-based employee compensation expense
determined under fair value based method, net of related
tax effects (2,159) (1,952)
-------- ----------
Proforma net income $ 863 $ 547
======== ==========
Earnings per share:
Basic, as reported $ 0.07 $ 0.06
======== ==========
Basic, proforma $ 0.02 $ 0.01
======== ==========
7
Three Months Ended
----------------------------
January 1, December 31,
2005 2003
---------- ------------
Earnings per share (continued):
Diluted, as reported $ 0.07 $ 0.06
======== =========
Diluted, proforma $ 0.02 $ 0.01
======== =========
Weighted average shares:
Basic 43,191 42,651
======== =========
Diluted 43,191 43,067
======== =========
NOTE 6 - GOODWILL AND PURCHASED INTANGIBLE ASSETS
The changes in the carrying amount of goodwill for the three months ended
January 1, 2005 and for the fiscal year ended September 30, 2004 are as follows
(amounts in thousands):
Balance as of October 1, 2003 $ 32,269
Foreign currency translation adjustments 1,910
----------
Balance as of September 30, 2004 34,179
Foreign currency translation adjustments 1,422
----------
Balance as of January 1, 2005 $ 35,601
==========
NOTE 7 - BUSINESS SEGMENT, GEOGRAPHIC AND MAJOR CUSTOMER INFORMATION
The Company operates in one business segment. The Company provides product
realization services to electronic original equipment manufacturers ("OEMs").
The Company has three reportable geographic regions: North America, Europe and
Asia. As of January 1, 2005, the Company had 19 active manufacturing and/or
engineering facilities in North America, Europe and Asia to serve these OEMs.
The Company uses an internal management reporting system, which provides
important financial data to evaluate performance and allocate the Company's
resources on a geographic basis. Interregion transactions are generally recorded
at amounts that approximate arm's length transactions. Certain corporate
expenses are allocated to these regions and are included for performance
evaluation. The accounting policies for the regions are the same as for the
Company taken as a whole. The table below presents geographic net sales
information reflecting the origin of the product shipped and asset information
based on the physical location of the assets (in thousands):
Three months ended
-------------------------------
January 1, December 31,
2005 2003
---------- ------------
Net sales:
North America $231,018 $ 193,696
Asia 32,842 17,615
Europe 23,620 27,153
--------- ---------
$ 287,480 $ 238,464
========= =========
January 1, September 30,
2005 2004
---------- -------------
Long-lived assets:
North America $ 106,856 $ 108,697
Asia 18,590 19,231
Europe 38,199 35,837
--------- ---------
$ 163,645 $ 163,765
========= =========
Long-lived assets as of January 1, 2005 and September 30, 2004 exclude
other non-operating long-term assets totaling $9.3 million and $7.5 million,
respectively.
8
Juniper Networks, Inc. ("Juniper") and General Electric Corp. accounted
for 20 percent and 11 percent of net sales, respectively, for the three months
ended January 1, 2005. Juniper accounted for 13 percent of net sales for the
three months ended December 31, 2003. No other customers accounted for 10
percent or more of net sales in either period.
NOTE 8 - GUARANTEES
The Company offers certain indemnifications under its customer
manufacturing agreements. In the normal course of business, the Company may from
time to time be obligated to indemnify its customers or its customers' customers
against damages or liabilities arising out of the Company's negligence, breach
of contract, or infringement of third party intellectual property rights
relating to its manufacturing processes. Certain of the manufacturing agreements
have extended broader indemnification and while most agreements have contractual
limits, some do not. However, the Company generally excludes from such
indemnities, and seeks indemnification from its customers for, damages or
liabilities arising out of the Company's adherence to customers' specifications
or designs or use of materials furnished, or directed to be used, by its
customers. The Company does not believe its obligations under such indemnities
are material.
In the normal course of business, the Company also provides its customers
a limited warranty covering workmanship, and in some cases materials, on
products manufactured by the Company for them. Such warranty generally provides
that products will be free from defects in the Company's workmanship and meet
mutually agreed upon testing criteria for periods generally ranging from 12
months to 24 months. If a product fails to comply with the Company's warranty,
the Company's obligation is generally limited to correcting, at its expense, any
defect by repairing or replacing such defective product. The Company's warranty
generally excludes defects resulting from faulty customer-supplied components,
design defects or damage caused by any party other than the Company.
The Company provides for an estimate of costs that may be incurred under
its limited warranty at the time product revenue is recognized and includes
reserves for specifically identified product issues. These costs primarily
include labor and materials, as necessary, associated with repair or
replacement. The primary factors that affect the Company's warranty liability
include the number of shipped units and historical and anticipated rates of
warranty claims. As these factors are impacted by actual experience and future
expectations, the Company assesses the adequacy of its recorded warranty
liabilities and adjusts the amounts as necessary.
The table below summarizes the warranty activity for the three months
ended January 1, 2005 and fiscal 2004 (in thousands):
Limited warranty liability, as of October 1, 2003 $ 985
Accruals for warranties issued during the period 148
Settlements (in cash or in kind) during the period (200)
--------
Limited warranty liability, as of September 30, 2004 933
Accruals for warranties issued during the period 26
Accruals related to pre-existing warranties -
Settlements (in cash or in kind) during the period (19)
--------
Limited warranty liability, as of January 1, 2005 $ 940
========
NOTE 9 - CONTINGENCIES
The Company (along with many other companies) has been sued by the
Lemelson Medical, Education & Research Foundation Limited Partnership
("Lemelson") related to alleged possible infringement of certain Lemelson
patents. The complaint, which is one of a series of complaints by Lemelson
against hundreds of companies, seeks injunctive relief, treble damages (amount
unspecified) and attorneys' fees. The Company has obtained a stay of action
pending developments in other related litigation. On January 23, 2004, the judge
in the other related litigation ruled against Lemelson, thereby declaring the
Lemelson patents unenforceable and invalid. Lemelson has appealed this ruling.
The lawsuit against the Company remains stayed pending the outcome of that
appeal. The Company believes the vendors from which the alleged
patent-infringing equipment was purchased may
9
be required to contractually indemnify the Company. However, based upon the
Company's observation of Lemelson's actions in other parallel cases, it appears
that the primary objective of Lemelson is to cause other parties to enter into
license agreements. If a judgment is rendered and/or a license fee required, it
is the opinion of management of the Company that such judgment or fee would not
be material to the Company's financial position, results of operations or cash
flows.
In addition, the Company is party to other certain lawsuits in the
ordinary course of business. Management does not believe that these proceedings,
individually or in the aggregate, will have a material adverse effect on the
Company's financial position, results of operations or cash flows.
NOTE 10 - RESTRUCTURING AND IMPAIRMENT COSTS
In the first quarter of fiscal 2005, the Company recorded pre-tax
restructuring and impairment costs totaling $0.9 million of which $0.8 million
was primarily associated with additional severance related to the planned
closure of the Company's Bothell, Washington ("Bothell") engineering and
manufacturing facility and $0.4 million represented additional impairment on the
Company's closed San Diego facility, partially offset by a $0.3 million
reduction in lease obligations for one of the Company's other closed facilities
near Seattle, Washington ("Seattle").
The planned closure of the Bothell facility was announced in September
2004. As part of the Company's efforts to align its service offering with the
evolving preferences of its customers, the Company is in the process of
replicating the focused capabilities of its Bothell facility at other Plexus
design and manufacturing locations that have higher productivity. The Company
currently anticipates transferring key customer programs from the Bothell
facility to other Plexus locations primarily in the United States. This
restructuring will reduce the Company's capacity by 97,000 square feet and
affect approximately 160 employees. The Company currently expects the
consolidation efforts will be substantially completed by mid fiscal 2005,
subject to customer timelines. The Company anticipates total restructuring and
impairment costs associated with the Bothell facility closure of approximately
$9.3 million, of which $1.8 million was recorded in the fourth quarter of fiscal
2004, $0.8 million was recorded in the first quarter of fiscal 2005 and $6.7
million is expected to be recorded over the remainder of fiscal 2005. The fiscal
2004 restructuring and impairment costs consisted of $1.5 million for employee
terminations and $0.3 million for fixed asset impairments. The first quarter
fiscal 2005 restructuring costs of $0.8 million primarily represent additional
severance in the form of one-time retention bonuses for key individuals to
assist in an orderly transition of programs to other sites. The estimated
remaining fiscal year 2005 restructuring costs of $6.7 million consist of
approximately $0.5 million for employee terminations, $5.8 million for facility
lease and $0.4 million for other closure costs.
The Company closed its San Diego facility in fiscal 2003; however, part of
that facility was subleased prior to its closing. The San Diego facility was an
asset acquired under a capital lease. Accordingly, the subleased portion of the
facility was recorded at the net present value of actual future sublease income.
The remainder of the facility that was available for subleasing was recorded at
the net present value of estimated sublease income. During the first quarter of
fiscal 2005, the Company subleased the remaining part of the San Diego facility,
which resulted in an additional $0.4 million impairment to adjust the carrying
value of the remaining part of the San Diego facility to its net present value
of actual future sublease income.
Finally, in the first quarter of fiscal 2005, the Company was able to
sublease one of its two closed Seattle facilities, both of which are held under
operating leases. Lease-related restructuring costs for the Seattle facilities
were initially recorded in previous periods based on future lease payments
subsequent to abandonment, less estimated sublease income. As a result of the
new sublease, the Company reduced its lease obligation for these facilities by
$0.3 million. EITF Issue No. 94-3 "Liability Recognition for Certain Employee
Termination Benefits and Other Costs to Exit an Activity (including Certain
Costs Incurred in a Restructuring)" is applicable to restructuring activities
initiated prior to January 1, 2003, including subsequent restructuring cost
adjustments related to such activities.
Fiscal year 2004 restructuring activities that occurred subsequent to
December 31, 2003 and remaining fiscal year 2003 restructuring activities for
which a liability remained at September 30, 2004, included severance costs
associated with the closure of the Company's Bothell facility, lease obligations
associated with the Company's Seattle facilities, and other costs associated
with refocusing the Company's PCB design group.
10
The table below summarizes the Company's restructuring obligations as of
January 1, 2005 (in thousands):
EMPLOYEE LEASE OBLIGATIONS
TERMINATION AND AND OTHER EXIT NON-CASH ASSET
SEVERANCE COSTS COSTS WRITE-DOWNS TOTAL
--------------- ----------------- -------------- --------
Accrued balance, $ 2,019 $ 9,760 $ - $ 11,779
September 30, 2004
Restructuring costs 732 28 - 760
Adjustment to provisions - (308) 432 124
Amounts utilized (569) (963) (432) (1,964)
---------- -------- -------- --------
Accrued balance,
January 1, 2005 $ 2,182 $ 8,517 $ - $ 10,699
========== ======== ======== ========
As of January 1, 2005, all of the accrued severance costs and $3.3 million
of the lease obligations and other exit costs are expected to be paid in the
next twelve months. The remaining liability for lease payments is expected to be
paid through June 2008.
NOTE 11 - NEW ACCOUNTING PRONOUNCEMENTS
In December 2004, the Financial Accounting Standards Board ("FASB") issued
FASB Staff Position ("FSP") FAS 109-2, "Accounting and Disclosure Guidance for
the Foreign Earnings Repatriation Provision within the American Jobs Creation
Act of 2004," (the "Jobs Act"). The Jobs Act became law in the U.S. in October
2004. This legislation provides for a number of changes in U.S. tax laws. FSP
SFAS No. 109-2 requires recognition of a deferred tax liability for the tax
effect of the excess of book over tax basis of an investment in a foreign
corporate venture that is permanent in duration, unless a company firmly asserts
that such amounts are indefinitely reinvested outside the company's home
jurisdiction. However, due to the lack of clarification of certain provisions
within the Jobs Act, FSP SFAS No. 109-2 provides companies additional time
beyond the financial reporting period of enactment to evaluate the effect of the
Jobs Act on its plan for reinvestment or repatriation of foreign earnings for
purposes of applying SFAS No. 109. Management is presently reviewing this new
legislation to determine the impacts on the Company's consolidated results of
operations and financial position.
In December 2004, the FASB issued SFAS No. 123R, "Share-Based Payment: An
Amendment of FASB Statements No. 123 and 95." This statement requires a public
entity to measure the cost of employee services received in exchange for an
award of equity instruments based on the fair value of the award at the grant
date (with limited exceptions) and recognize the compensation cost over the
period during which an employee is required to provide service in exchange for
the award. This statement is effective as of the beginning of the first interim
or annual reporting period that begins after June 15, 2005. Accordingly, the
Company will implement the revised standard in its fourth quarter of fiscal year
2005. Currently, the Company accounts for its stock option awards under the
provisions of APB No. 25, which to date has not resulted in compensation expense
in the Company's consolidated results of operations. At the time of adoption,
companies can select from three transition methods, two of which would allow for
restatement of certain prior periods. Management anticipates selecting the
transition method in which prior period financial statements would not be
restated. The adoption of SFAS No. 123R is not expected to have a significant
effect on the Company's financial condition and will not affect consolidated
cash flows, but it is expected to have a significant adverse effect on its
consolidated results of operations.
11
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
"SAFE HARBOR" CAUTIONARY STATEMENT UNDER THE PRIVATE SECURITIES LITIGATION
REFORM ACT OF 1995:
The statements contained in the Form 10-Q that are not historical facts
(such as statements in the future tense and statements including "believe,"
"expect," "intend," "anticipate" and similar words and concepts) are
forward-looking statements that involve risks and uncertainties, including, but
not limited to:
- - the continued uncertain economic outlook for the electronics and
technology industries
- - the risk of customer delays, changes or cancellations in both ongoing and
new programs
- - our ability to secure new customers and maintain our current customer base
- - the results of cost reduction efforts
- - the impact of capacity utilization and our ability to manage fixed and
variable costs
- - the effects of facilities closures and restructurings
- - material cost fluctuations and the adequate availability of components and
related parts for production
- - the effect of changes in average selling prices
- - the effect of start-up costs of new programs and facilities
- - the effect of general economic conditions and world events
- - the effect of the impact of increased competition
- - other risks detailed below, especially in "Risk Factors" and otherwise
herein, and in our Securities and Exchange Commission filings.
OVERVIEW
Plexus Corp. and its subsidiaries (together "Plexus," the "Company," or
"we") is a participant in the Electronic Manufacturing Services ("EMS")
industry. We provide product realization services to original equipment
manufacturers, or OEMs, in the wireline/networking, wireless infrastructure,
medical, industrial/commercial and defense/security/aerospace industries. We
provide advanced electronics design, manufacturing and testing services to our
customers with a focus on complex, high technology and high reliability
products. We offer our customers the ability to outsource all stages of product
realization, including: development and design, materials procurement and
management, prototyping and new product introduction, testing, manufacturing,
product configuration, logistics and test/repair. The following information
should be read in conjunction with our condensed consolidated financial
statements included herein and the "Risk Factors" section beginning on page 21.
EXECUTIVE SUMMARY
Overall revenues in the first quarter of fiscal 2005 increased
approximately $49 million, or 21 percent, over the comparable prior year period.
Although all end-markets showed an increase, the largest gains were in the
wireless infrastructure and wireline/networking industries. (See below for a
description of our revised industry analysis.) Our largest customer remains
Juniper Networks Inc. ("Juniper"), which represented 20 percent of our overall
net sales in the first quarter of fiscal 2005. This was a significant increase
from the 13 percent of the company's revenues that Juniper represented in the
comparable prior year period. Much of this growth stemmed from new programs
related to an acquisition made by Juniper. In addition, General Electric Corp.
("GE") accounted for 11 percent of net sales during the quarter. However, in
spite of the increases for these two large customers, the percentage of sales
represented by our ten largest customers remained constant in the first quarter
of fiscal 2005 compared to the first quarter of fiscal 2004.
We believe that the high level of growth enjoyed in the first quarter of
fiscal 2005 demonstrates the continuing success of our industry, or
sector-based, approach to sales and business development. We recently realigned
our sector analysis to better reflect our business development focus.
Consequently, our comparative net sales by industry, as shown in the Results of
Operations section herein, have been reclassified to reflect the new sector
categorization as described below:
12
- the previously reported networking/data communications sector
has been disaggregated into two sub-sectors:
- wireline/networking - technology to transmit and store
voice, data and video electronically using wire
conductors and/or optical fibers. Examples include
routers, switches, servers, storage devices, gateways,
bridges, and hubs, internet service and optimization
gear.
- wireless infrastructure - Technology to support the
management and delivery of wireless voice, data and
video communications. Examples include cellular base
stations, wireless and radio access, Broadband wireless
access, networking gateways and devices.
- sales previously reported as computing have been grouped into
wireline/networking, although a relatively few accounts that
were only peripheral to the computer industry have been
included in industrial/commercial.
- medical remains as previously identified and defined.
- industrial/commercial remains as previously defined, other
than the minor additions discussed above.
- transportation/other has been re-characterized as
defense/security/aerospace to more accurately depict the types
of product manufactured for this sector and to indicate the
marketing focus for future business development efforts.
Although net sales were substantially ahead of the comparable prior year
period, growth of profits in the first quarter of fiscal 2005 was moderated by
three factors:
- a net inventory adjustment of $0.9 million was recorded to
recognize the loss of inventory due to theft and other causes
at our site in Juarez, Mexico.
- start-up costs of $0.5 million were incurred related to a new
facility in Penang, Malaysia, which commenced manufacturing
activities in the first quarter of fiscal 2005.
- the closure of our Bothell, WA ("Bothell") manufacturing and
engineering facility, which was announced in the fourth
quarter of fiscal 2004, progressed, but as expected resulted
in $0.3 million of manufacturing inefficiencies and higher
costs to transition programs to other Plexus sites.
During the first quarter of fiscal 2005, we also incurred $0.9 million of
restructuring and impairment costs, the largest element of which was $0.8
million of additional severance costs related to the closure of the Bothell
facility. In addition, although we were able to sublease a closed facility in
San Diego during the first quarter of fiscal 2005, we recorded an additional
impairment charge of $0.4 million on that facility as a result of the actual
sublease income being less than our original estimate. The San Diego facility
impairment charge was partially offset by a favorable restructuring cost
adjustment of $0.3 million for the sub-lease of one of our other closed
facilities.
The income tax rate in the current quarter was only 8 percent, which
compared favorably to the 20 percent effective tax rate in the comparable period
of the prior year. The low tax rate in the current quarter reflects tax holidays
in Malaysia and China, as well as our utilization of net operating loss carry
forwards in the U.S.
During fiscal 2005, our primary objective is to improve profitability. We
will remain intensely focused on working capital utilization and return on
capital employed. Based on customer indications of expected demand and
management estimates of new program wins, we are increasingly confident about
achieving the high-end of our previously announced net sales growth target for
full fiscal 2005 of approximately 15 percent to 18 percent over fiscal 2004. We
currently expect second quarter of fiscal 2005 sales to be in the range of $280
million to $290 million; however, our results will ultimately depend on actual
levels of customer orders. These future orders may be less than we expect due to
many factors, including those that we discuss under "Risk Factors" below. We
anticipate that the initial stages of production in the new facility in Penang
will impair our overall profitability through at least the second quarter fiscal
2005 and possibly the third quarter. Additionally, manufacturing inefficiencies
and incremental costs associated with transitioning programs from our phase-out
of the Bothell facility and continued near-term weakness at a couple of our
sites will also impair our overall profitability in the first half of fiscal
2005.
13
RESULTS OF OPERATIONS
Net sales. Net sales for the indicated periods were as follows (dollars in
millions):
Three months ended
-----------------------------
January 1, December 31,
2005 2003 Increase
---------- ------------- ---------------
Net Sales $ 287.5 $ 238.5 $ 49.0 21%
Our net sales increase of 21 percent reflected increased end-market demand
in all sectors, but particularly in the wireless infrastructure and
wireline/networking sectors, as well as new program wins from both new and
existing customers. The net sales growth in the wireless infrastructure sector
was broadly based, while the net sales growth in the wireline/networking sector
was primarily associated with Juniper, our largest customer, and another key
customer of one of our Asian facilities.
The percentages of net sales to customers representing 10 percent or more
of net sales and net sales to our ten largest customers for the first fiscal
quarter of 2005 and 2004 were as follows:
Three months ended
--------------------------
January 1, December 31,
2005 2003
---------- ------------
Juniper 20% 13%
GE Electric Corp. 11% *
Top 10 customers 60% 60%
* Represented less than 10 percent of net sales
As with sales to most of our customers, sales to our largest customers may
vary from time to time depending on the size and timing of customer program
commencement, termination, delays, modifications and transitions. We remain
dependent on continued sales to our significant customers, and we generally do
not obtain firm, long-term purchase commitments from our customers. Customers'
forecasts can and do change as a result of their end-market demand and other
factors. Any material change in orders from these major accounts, or other
customers, could materially affect our results of operations. In addition, as
our percentage of net sales to customers in a specific sector becomes larger
relative to other sectors, we will become increasingly dependent upon economic
and business conditions affecting that sector.
As noted in the Executive Summary section above, we recently realigned our
sector analysis and business development focus. Utilizing the revised sectors,
our percentages of net sales by sector for the first fiscal quarter of 2005 and
2004 were as follows:
Three months ended
----------------------------
January 1, December 31,
Sector 2005 2003
- ------ ----------- ------------
Wireline/Networking 39% 41%
Wireless Infrastructure 11% 5%
Medical 31% 33%
Industrial/Commercial 14% 16%
Defense/Security/Aerospace 5% 5%
14
Gross profit. Gross profit and gross margins for the indicated periods
were as follows (dollars in millions):
Three months ended
--------------------------
January 1, December 31,
2005 2003 Increase
------------ ------------- ----------------
Gross Profit $ 22.3 $ 19.6 $ 2.7 14%
Gross Margin 7.8% 8.2%
The improvement in gross profit was primarily due to higher net sales. The
gross profit improvements were moderated and gross margins declined, however, as
a result of $0.9 million in net inventory adjustments at our Juarez, Mexico
facility due to the loss of inventory from theft and other causes, $0.5 million
of start-up costs at a new facility in Penang, Malaysia, and $0.3 million of
transition expenses and manufacturing inefficiencies related to the phase-out of
our Bothell facility.
Gross margins reflect a number of factors that can vary from period to
period, including product and service mix, the level of new facility start-up
costs, inefficiencies attendant the transition of new programs, product life
cycles, sales volumes, price erosion within the electronics industry, overall
capacity utilization, labor costs and efficiencies, the management of
inventories, component pricing and shortages, the mix of turnkey and consignment
business, fluctuations and timing of customer orders, changing demand for our
customers' products and competition within the electronics industry.
Additionally, turnkey manufacturing involves the risk of inventory management,
and a change in component costs can directly impact average selling prices,
gross margins and net sales. Although we focus on expanding gross margins, there
can be no assurance that gross margins will not decrease in future periods.
Most of the research and development we conduct is paid for by our
customers and is, therefore, included in both sales and cost of sales. We
conduct our own research and development, but that research and development is
not specifically identified, and we believe such expenses are less than one
percent of our net sales.
Operating expenses. Selling and administrative expenses for the indicated
periods were as follows (dollars in millions):
Three months ended
--------------------------
January 1, December 31,
2005 2003 Increase
------------ ------------- -------------------
Selling and administrative
expense (S&A) $ 18.1 $ 16.4 $ 1.7 11%
Percent of sales 6.3% 6.9%
The dollar increase in S&A was due to a combination of factors including;
increased spending for information technology systems support related to the
implementation of our ERP platform, internal and external resources to comply
with Section 404 of the Sarbanes Oxley Act of 2002, additional personnel and
other administrative expenses to support the revenue growth in Asia. The
significant decrease in S&A as a percent of net sales was due primarily to the
21 percent increase in net sales over the comparable prior year period.
Our common ERP platform is intended to augment our management information
systems and includes various software systems to enhance and standardize our
ability to globally translate information from production facilities into
operational and financial information and create a consistent set of core
business applications at our worldwide facilities. For the first quarter of
fiscal 2005, a majority of our net sales were being managed on the ERP platform.
We anticipate converting at least one more facility to the common ERP platform
in fiscal 2005. Training and implementation costs are expected to continue over
the next few quarters as we make system enhancements and convert an additional
facility to the common ERP platform. The conversion timetable and project scope
remain subject to change based upon our evolving needs and sales levels. In
addition to S&A expenses associated with the common ERP platform, we continue to
incur capital expenditures for hardware, software and certain other costs for
testing and installation. As of January 1, 2005, net property, plant and
equipment includes $26.5 million related
15
to the ERP platform, including $0.6 million capitalized in the first quarter of
fiscal 2005. We anticipate incurring at least an additional $4.0 million of
capital expenditures for the ERP platform through fiscal 2005.
Restructuring Actions: In the first quarter of fiscal 2005, we recorded
pre-tax restructuring and impairment costs totaling $0.9 million of which $0.8
million was for additional severance related to the planned closure of the
Bothell engineering and manufacturing facility and $0.4 million represented
additional impairment on our San Diego facility, which was partially offset by a
$0.3 million reduction in a lease obligation for one of our closed facilities
near Seattle.
The planned closure of the Bothell facility was announced in September
2004. As part of our efforts to align our service offering with the evolving
preferences of our customers, we are in the process of replicating the focused
capabilities of the Bothell facility at other Plexus design and manufacturing
locations that have higher productivity. We currently anticipate transferring
key customer programs from the Bothell facility to other Plexus locations
primarily in the United States. This restructuring will reduce our capacity by
97,000 square feet and affect approximately 160 employees. We currently expect
the consolidation efforts will be substantially completed by mid fiscal 2005,
subject to customer timelines. We anticipate total restructuring and impairment
costs associated with the Bothell facility closure of approximately $9.3
million, of which $1.8 million was recorded in the fourth quarter of fiscal
2004, $0.8 million was recorded in the first quarter of fiscal 2005 and $6.7
million is expected to be recorded over the remainder of fiscal 2005. The fiscal
2004 restructuring and impairment costs consisted of $1.5 million for employee
terminations and $0.3 million for fixed asset impairments. The first quarter
fiscal 2005 restructuring costs of $0.8 million primarily represent additional
severance in the form of one-time retention bonuses for key individuals to
assist in an orderly transition of programs to other sites. The remaining fiscal
year 2005 estimated restructuring costs of $6.7 million consist of approximately
$0.5 million for employee terminations, $5.8 million for the facility lease and
$0.4 million for other closure costs.
The San Diego facility, which was closed in fiscal 2003, is an asset
financed by a capital lease. Part of that facility was subleased prior to its
closing and was recorded at the net present value of its future sublease income.
The remainder of the facility that was available for subleasing was recorded at
the net present value of estimated sublease income. During the first quarter of
fiscal 2005, we subleased the remaining part of the San Diego facility, which
resulted in an additional $0.4 million impairment to adjust the carrying value
of the remaining part of the San Diego facility to its net present value of
actual future sublease income.
Finally, in the first quarter of fiscal 2005, we were able to obtain a
small sublease for one of two Seattle facilities held under operating leases.
Lease-related restructuring costs for the Seattle facilities were initially
recorded in previous periods based on future lease payments subsequent to
abandonment, less estimated sublease income. As a result of this new sublease,
we reduced a lease obligation for these facilities by $0.3 million.
Pre-tax restructuring charges for the indicated periods are summarized as
follows (in millions):
Three months ended
---------------------------
January 1, December 31,
2005 2003
------------ -------------
Severance costs $ 732 $ -
Lease exit costs and other 28 -
Adjustment to asset impairment
arising from the sublease of a
closed facility 432 -
Adjustment to lease exit costs
arising from a sublease of a closed facility (308) -
----- ------
Total restructuring costs $ 884 $ -
===== ======
As of January 1, 2005, we have a remaining restructuring liability of
approximately $10.7 million, of which $2.2 million represents a liability for
severance costs primarily associated with the planned closure of our Bothell
facility and $8.5 million represents a liability for lease obligations and other
exit costs primarily associated with our Seattle facilities. This restructuring
liability does not include the additional restructuring costs that we expect to
record over the remainder of fiscal 2005. As of January 1, 2005, the $2.2
million liability for accrued severance costs and $3.3 million of the liability
for lease obligations and other exit costs are expected to be paid in the next
twelve months. The remaining liability for lease payments is expected to be paid
through June 2008.
16
Income taxes. Income taxes for the indicated periods were as follows
(dollars in millions):
Three months ended
-------------------------
January 1, December 31,
2005 2003
----------- ------------
Income tax expense (benefit) $ 0.3 $ 0.6
Effective tax rate 8% 20%
The decrease in the effective tax rate is due primarily to our use of net
operating loss carryforwards in the U.S. Although we established a full
valuation allowance on our U.S. deferred income tax assets in the fourth quarter
of fiscal 2004, we are able to utilize our net operating loss carry forwards to
offset taxable income in the U.S., thereby contributing to the lower effective
tax rate in the current quarter. Expanding operations in Asia, where we benefit
from tax holidays, also contributed to the lower effective tax rate in the
current quarter. During the first quarter of fiscal 2005, we were advised by the
Malaysian government that our tax-free status in that country had been extended
until December 31, 2014.
LIQUIDITY AND CAPITAL RESOURCES
Operating Activities. Cash flows used in operating activities were $4.5
million for the three months ended January 1, 2005, compared to cash flows used
in operating activities of $16.9 million for the three months ended December 31,
2003. During the three months ended January 1, 2005, cash used in operating
activities was primarily driven by increased accounts receivable and inventory
and decreased accrued liabilities, offset, in part, by earnings, after adjusting
for the non-cash effect of depreciation and amortization, and increased accounts
payable.
As of January 1, 2005, days sales outstanding in accounts receivable
decreased slightly to 49 days from 52 days at the prior year-end. Annualized
inventory turns declined to 5.7 turns for the three months ended January 1, 2005
from 6.2 turns for the prior year-end. Inventories increased $25.3 million from
September 30, 2004, primarily for the purchase of raw materials to support new
programs and new customers, as well as the establishment of certain buffer stock
to support a transition to new supply chain programs that we are putting in
place. In addition, finished goods inventory increased as a result of certain
new customer programs that required us to maintain finished products. These
inventory increases were offset, in part, by lower levels of work-in-process,
which resulted from lean manufacturing initiatives.
Investing Activities. Cash flows used in investing activities totaled $0.1
million for the three months ended January 1, 2005. The primary uses were for
additions to property, plant and equipment (principally software), offset, in
part, by sales and maturities of short-term investments.
We utilized available cash and our revolving credit facility as the
primary means of financings our operating requirements. We utilize operating
leases primarily in situations where concerns about technical obsolescence
outweigh the benefits of direct ownership. We currently estimate capital
expenditures for fiscal 2005 to be in the range of $25 million to $28 million,
of which $4.1 million was made during the first quarter of fiscal 2005.
Financing Activities. Cash flows provided by financing activities totaled
$6.3 million for the three months ended January 1, 2005, and primarily
represented the net proceeds from borrowings and repayments on our revolving
credit facility.
Our secured revolving credit facility, as amended (the "Secured Credit
Facility"), allows us to borrow up to $150 million from a group of banks.
Borrowing under the Secured Credit Facility may be either through revolving or
swing loans or letters of credit. The Secured Credit Facility is secured by
substantially all of our domestic working capital assets and a pledge of 65
percent of the stock of each of our foreign subsidiaries. Interest on borrowings
varies with our total leverage ratio, as defined in our credit agreement, and
begins at the Prime rate (as defined) or LIBOR plus 1.5 percent. We also are
required to pay an annual commitment fee of 0.5 percent of the unused credit
commitment. The Secured Credit Facility matures on October 31, 2007 and includes
certain financial covenants customary in agreements of this type. These
covenants include a minimum adjusted EBITDA, a
17
maximum total leverage ratio (not to exceed 2.5 times adjusted EBITDA) and a
minimum tangible net worth, all as defined in the agreement.
We believe that our Secured Credit Facility, leasing capabilities and cash
and short-term investments should be sufficient to meet our working capital and
fixed capital requirements, as noted above, through fiscal 2005. However, the
growth anticipated for fiscal 2005 may increase our working capital needs. As
those needs increase, we may need to arrange additional debt or equity
financing. We therefore evaluate and consider from time to time various
financing alternatives to supplement our capital resources. However, we cannot
be sure that we will be able to make any such arrangements on acceptable terms.
We have not paid cash dividends in the past and do not anticipate paying
them in the foreseeable future. We anticipate using any earnings to support our
business.
CONTRACTUAL OBLIGATIONS AND COMMITMENTS
Our disclosures regarding contractual obligations and commercial
commitments are located in various parts of our regulatory filings. Information
in the following table provides a summary of our contractual obligations and
commercial commitments as of January 1, 2005 (in thousands):
Payments Due by Fiscal Period
-------------------------------------------------------------
Remaining in 2010 and
Contractual Obligations Total 2005 2006-2007 2008-2009 thereafter
------------------------ -------------------------------------------------------------
Long-Term Debt Obligations $ 7,000 $ - $ - $ 7,000 $ -
Capital Lease Obligations 41,410 2,617 6,140 6,363 26,290
Operating Lease Obligations* 74,409 11,069 23,448 15,291 24,601
Purchase Obligations** 178,850 178,850 - - -
Other Long-Term Liabilities on the
Balance Sheet*** 15,680 4,637 4,897 1,165 4,981
Other Long-Term Liabilities not on the
Balance Sheet**** 1,500 375 1,000 125 -
--------- ------------ --------- --------- ----------
Total Contractual Cash Obligations $ 318,849 $ 197,548 $ 35,485 $ 29,944 $ 55,872
========= ============ ========= ========= ==========
* - As of January 1, 2005, operating lease obligations include future payments
totaling $5.3 million related to lease exit costs that are included in other
long-term liabilities on the balance sheet. The lease exit costs were accrued as
a restructuring cost.
** - As of January 1, 2005, purchase obligations consist of purchases of
inventory and equipment in the ordinary course of business.
*** - As of January 1, 2005, other long-term obligations on the balance sheet
include: deferred compensation obligations to certain of our former executives,
executive officers and other key employees and restructuring obligations for
lease exit costs.
**** - As of January 1, 2005, other long-term obligations not on the balance
sheet consist of a salary commitment to an officer of the Company under an
employment agreement. We did not have, and were not subject to, any lines of
credit, standby letters of credit, guarantees, standby repurchase obligations,
or other commercial commitments.
DISCLOSURE ABOUT CRITICAL ACCOUNTING POLICIES
Our accounting policies are disclosed in our 2004 Report on Form 10-K.
During the first quarter of fiscal 2005, there were no material changes to these
policies. Our more critical accounting policies are as follows:
Impairment of Long-Lived Assets - We review property, plant and equipment
for impairment whenever events or changes in circumstances indicate that the
carrying amount of an asset may not be recoverable. Recoverability of property,
plant and equipment is measured by comparing its carrying value to the projected
cash
18
flows that the property, plant and equipment are expected to generate. If such
assets are considered to be impaired, the impairment to be recognized is
measured as the amount by which the carrying value of the property exceeds its
fair market value. The impairment analysis is based on significant assumptions
of future results made by management, including sales and cash flow projections.
Circumstances that may lead to impairment of property, plant and equipment
include reductions in anticipated future performance of the asset, or industry
demand, and the restructuring of our operations. See Note 10 in Notes to
Condensed Consolidated Financial Statements for discussion of additional
impairment recorded in the first quarter of fiscal 2005 on our closed San Diego
facility.
Intangible Assets - Under SFAS No. 142, "Goodwill and Other Intangible
Assets," beginning October 1, 2002, we no longer amortize goodwill and
intangible assets with indefinite useful lives, but, instead, test those assets
for impairment at least annually with any related losses recognized in earnings
when incurred. We perform goodwill impairment tests annually during the third
quarter of each fiscal year and more frequently if an event or circumstance
indicates that an impairment loss has occurred.
We measure the recoverability of goodwill under the annual impairment test
by comparing a reporting unit's carrying amount, including goodwill, to the
estimated fair market value of the reporting unit based on projected discounted
future cash flows. If the carrying amount of the reporting unit exceeds its fair
value, goodwill is considered impaired and a second test is performed to measure
the amount of impairment loss, if any.
Revenue - Net sales from manufacturing services is generally recognized
upon shipment of the manufactured product to our customers, under contractual
terms, which are generally FOB shipping point. Upon shipment, title transfers
and the customer assumes risks and rewards of ownership of the product.
Generally, there are no formal customer acceptance requirements or further
obligations related to manufacturing services; if such requirements or
obligations exist, then a sale is recognized at the time when such requirements
are completed and such obligations fulfilled.
Net sales from engineering design and development services, which are
generally performed under contracts of twelve months or less in duration, are
recognized as costs are incurred utilizing the percentage-of-completion method;
any losses are recognized when anticipated.
Sales are recorded net of estimated returns of manufactured product based
on management's analysis of historical returns, current economic trends and
changes in customer demand. Net sales also include amounts billed to customers
for shipping and handling, if applicable. The corresponding shipping and
handling costs are included in cost of sales.
Restructuring Costs - From fiscal 2002 through the first quarter of fiscal
2005, we have recorded restructuring costs in response to reductions in sales
and/or reduced capacity utilization. These restructuring costs included employee
severance and benefit costs, and costs related to plant closings, including
leased facilities that will be abandoned (and subleased, as applicable). Prior
to January 1, 2003, severance and benefit costs were recorded in accordance with
Emerging Issues Task Force ("EITF") 94-3 and for leased facilities that were
abandoned and subleased, the estimated lease loss was accrued for future
remaining lease payments subsequent to abandonment, less any estimated sublease
income. As of January 1, 2005, we have one significant Seattle facility
remaining which has not yet been subleased; In fiscal 2004, based on the
remaining term available to lease two of our Seattle facilities and the weaker
than expected conditions in the local real estate market, the Company determined
that it would most likely not be able to sublease the Seattle facilities.
Accordingly, additional lease-related restructuring costs were recorded in
fiscal 2004. If we were able to sublease the remaining Seattle facility, we
would record a favorable adjustment to restructuring costs, as was the case in
the first quarter of fiscal 2005, when we recorded a $0.3 million favorable
adjustment to restructuring costs as a result of entering into a small sublease
for one of the Seattle facilities. See Note 10 in Notes to Condensed
Consolidated Financial Statements.
Subsequent to December 31, 2002, costs associated with a restructuring
activity are recorded in compliance with SFAS No. 146, "Accounting for Costs
Associated with Exit or Disposal Activities." The timing and related recognition
of recording severance and benefit costs that are not presumed to be an ongoing
benefit as defined in SFAS No. 146, depends on whether employees are required to
render service until they are terminated in order to receive the termination
benefits and, if so, whether employees will be retained to render service beyond
a minimum retention period. During fiscal 2003, we concluded that we had a
substantive severance plan based upon our past severance practices; therefore,
we recorded certain severance and benefit costs in accordance with SFAS No. 112,
19
"Employer's Accounting for Postemployment Benefits," which resulted in the
recognition of a liability as the severance and benefit costs arose from an
existing condition or situation and the payment was both probable and reasonably
estimated.
For leased facilities being abandoned and subleased, a liability is
recognized and measured at fair value for the future remaining lease payments
subsequent to abandonment, less any estimated sublease income that could be
reasonably obtained for the property. For contract termination costs, including
costs that will continue to be incurred under a contract for its remaining term
without economic benefit to the entity, a liability for future remaining
payments under the contract is recognized and measured at its fair value. See
Note 10 in the Notes to Condensed Consolidated Financial Statements.
The recognition of restructuring costs requires that we make certain
judgments and estimates regarding the nature, timing and amount of costs
associated with the planned exit activity. If our actual results in exiting
these facilities differ from our estimates and assumptions, we may be required
to revise the estimates of future liabilities, requiring the recording of
additional restructuring costs or the reduction of liabilities already recorded.
At the end of each reporting period, we evaluate the remaining accrued balances
to ensure that no excess accruals are retained, no additional accruals are
required and the utilization of the provisions are for their intended purpose in
accordance with developed exit plans.
Income Taxes - Deferred income taxes are provided for differences between
the bases of assets and liabilities for financial and income tax reporting
purposes. We record a valuation allowance against deferred income tax assets
when management believes it is more likely than not that some portion or all of
the deferred income tax assets will not be realized. Realization of deferred
income tax assets is dependent on our ability to generate sufficient future
taxable income. Although we recorded a $36.8 million valuation allowance against
all U.S. deferred income tax assets in the fourth quarter of fiscal 2004, we are
able to utilize our net operating loss carryforwards to offset taxable income in
the U.S.
NEW ACCOUNTING PRONOUNCEMENTS
In December 2004, the Financial Accounting Standards Board ("FASB") issued
FASB Staff Position ("FSP") FAS 109-2, "Accounting and Disclosure Guidance for
the Foreign Earnings Repatriation Provision within the American Jobs Creation
Act of 2004." The American Jobs Creation Act of 2004 (the "Act") became law in
the U.S. in October 2004. This legislation provides for a number of changes in
U.S. tax laws. FSP SFAS No. 109-2 requires recognition of a deferred tax
liability for the tax effect of the excess of book over tax basis of an
investment in a foreign corporate venture that is permanent in duration, unless
a company firmly asserts that such amounts are indefinitely reinvested outside
the company's home jurisdiction. However, due to the lack of clarification of
certain provisions within the Act, FSP SFAS No. 109-2 provides companies
additional time beyond the financial reporting period of enactment to evaluate
the effect of the Act on its plan for reinvestment or repatriation of foreign
earnings for purposes of applying SFAS No. 109. Management is presently
reviewing this new legislation to determine the impacts on the Company's
consolidated results of operations and financial position.
In December 2004, the FASB issued SFAS No. 123R, "Share-Based Payment: An
Amendment of FASB Statements No. 123 and 95." This statement requires a public
entity to measure the cost of employee services received in exchange for an
award of equity instruments based on the fair value of the award at the grant
date (with limited exceptions) and recognize the compensation cost over the
period during which an employee is required to provide service in exchange for
the award. This statement is effective as of the beginning of the first interim
or annual reporting period that begins after June 15, 2005. Accordingly, the
Company will implement the revised standard in its fourth quarter of fiscal year
2005. Currently, the Company accounts for its stock option awards under the
provisions of APB No. 25, which to date has not resulted in compensation expense
in the Company's consolidated results of operations. At the time of adoption,
companies can select from three transition methods, two of which would allow for
restatement of certain prior periods. Management anticipates selecting the
transition method in which prior period financial statements would not be
restated. The adoption of SFAS No. 123R is not expected to have a significant
effect on the Company's financial condition and will not affect consolidated
cash flows, but it is expected to have a significant adverse effect on its
consolidated results of operations.
20
RISK FACTORS
OUR CUSTOMER REQUIREMENTS AND OPERATING RESULTS VARY SIGNIFICANTLY FROM QUARTER
TO QUARTER, WHICH COULD NEGATIVELY IMPACT THE PRICE OF OUR COMMON STOCK.
Our quarterly and annual results may vary significantly depending on
various factors, many of which are beyond our control. These factors include:
- the volume of customer orders relative to our capacity
- the level and timing of customer orders, particularly in light of
the fact that some of our customers release a significant percentage
of their orders during the last few weeks of a quarter
- the typical short life cycle of our customers' products
- market acceptance of and demand for our customers' products
- customer announcements of operating results and business conditions
- changes in our sales mix to our customers
- business conditions in our customers' industries
- the timing of our expenditures in anticipation of future orders
- our effectiveness in managing manufacturing processes
- changes in cost and availability of labor and components
- local events, such as holidays, that may affect our production
volume
- credit ratings and securities analysts' reports and
- changes in economic conditions and world events.
The EMS industry is impacted by the state of the U.S. and global economies
and world events. A slow down or flat performance in the U.S. or global
economies, or in particular in the industries served by us, may result in our
customers reducing their forecasts. The demand for our services could weaken or
decrease, which in turn would impact our sales, capacity utilization, margins
and results. Historically, we have seen periods, such as in fiscal 2003 and
2002, that our sales were adversely affected by a slowdown in the
wireline/networking and wireless infrastructure sectors, as a result of reduced
end-market demand and reduced availability of venture capital to fund existing
and emerging technologies. These factors substantially influenced our net sales
and margins.
Net sales to customers in the wireline/networking sector have increased
significantly in recent quarters. When an increasing percentage of our net sales
is made to customers in a particular sector, we become more dependent upon the
performance of that industry and the economic and business conditions that
affect it.
Our quarterly and annual results are affected by the level and timing of
customer orders, fluctuations in material costs and availabilities, and the
degree of capacity utilization in the manufacturing process.
THE MAJORITY OF OUR SALES COME FROM A RELATIVELY SMALL NUMBER OF CUSTOMERS, AND
IF WE LOSE ANY OF THESE CUSTOMERS, OUR SALES AND OPERATING RESULTS COULD DECLINE
SIGNIFICANTLY.
Sales to our two largest customers represented 20 percent and 11 percent,
respectively, of our net sales in first quarter of fiscal 2005. Our largest
customer in the first quarter of fiscal 2005 represented 13 percent of our net
sales in the first quarter of fiscal 2004. We had no other customers that
represented 10 percent or more of net sales in either period. Sales to our ten
largest customers have represented a majority of our net sales in recent
periods. Our ten largest customers accounted for approximately 60 percent of our
net sales in each of the three month periods ended January 1, 2005 and December
31, 2003. Our principal customers have varied from year to year, and our
principal customers may not continue to purchase services from us at current
levels, if at all. Significant reductions in sales to any of these customers, or
the loss of major customers, could seriously harm our business. If we are not
able to replace expired, canceled or reduced contracts with new business on a
timely basis, our sales will decrease.
OUR CUSTOMERS MAY CANCEL THEIR ORDERS, CHANGE PRODUCTION QUANTITIES OR DELAY
PRODUCTION.
EMS companies must provide rapid product turnaround for their customers.
We generally do not obtain firm, long-term purchase commitments from our
customers. Customers may cancel their orders, change production
21
quantities or delay production for a number of reasons that are beyond our
control. The success of our customers' products in the market and the strength
of the markets themselves affect our business. Cancellations, reductions or
delays by a significant customer or by a group of customers could seriously harm
our operating results. Such cancellations, reductions or delays have occurred
and may continue to occur.
In addition, we make significant decisions, including determining the
levels of business that we will seek and accept, production schedules, component
procurement commitments, facility requirements, personnel needs and other
resource requirements, based on our estimates of customer requirements. The
short-term nature of our customers' commitments and the possibility of rapid
changes in demand for their products reduce our ability to accurately estimate
the future requirements of those customers. Because many of our costs and
operating expenses are relatively fixed, a reduction in customer demand can harm
our gross margins and operating results.
Customers may require rapid increases in production, which can stress our
resources and reduce operating margins. We may not have sufficient capacity at
any given time to meet all of our customers' demands or to meet the requirements
of a specific program.
FAILURE TO MANAGE CONTRACTION AND GROWTH, IF ANY, MAY SERIOUSLY HARM OUR
BUSINESS.
Periods of contraction or reduced sales, such as the periods that occurred
from fiscal 2001 through 2003, create tensions and challenges. We must determine
whether all facilities remain productive, determine whether staffing levels need
to be reduced, and determine how to respond to changing levels of customer
demand. While maintaining multiple facilities or higher levels of employment
increases short-term costs, reductions in employment could impair our ability to
respond to later market improvements or to maintain customer relationships. Our
decisions to reduce costs and capacity, such as the recent announcement to close
the Bothell facility in fiscal 2005, and the related reduction in the number of
employees can affect our expenses and, therefore, our short-term and long-term
results.
We intend to be completed with the closure of our Bothell facility by mid
fiscal 2005. The exact timing of that closure will depend upon the arrangements
for transitioning customer programs. Although we work to minimize the potential
effects of any such transition, there are inherent risks that such a transition
can result in the disruption of programs and customer relationships.
We are involved in a multi-year project to install a common ERP platform
and associated information systems at most of our manufacturing sites. Our ERP
platform is intended to augment our management information systems and includes
various software systems to enhance and standardize our ability to globally
translate information from production facilities into operational and financial
information and create a consistent set of core business applications at our
worldwide facilities. As of January 1, 2005, facilities representing the
majority of our net sales are currently managed on the common ERP platform. We
anticipate converting at least one more facility to the common ERP platform in
fiscal 2005. The conversion timetable and project scope remain subject to change
based upon our evolving needs and sales levels. During fiscal 2004, we recorded
a $1.7 million impairment of certain components of our ERP platform, which
primarily resulted from a change in our deployment strategy for a shop floor
data-collection system. Some elements of the shop-floor data-collection system
will not be deployed because the originally anticipated business benefits could
not be realized. The remaining elements of the shop floor data-collection system
are still under evaluation. As of January 1, 2005, the capitalized costs of the
remaining elements of the shop floor data system total approximately $3.8
million. A change in the scope of this project could result in impairment of the
remaining elements of the shop floor data-collection system. As of January 1,
2005, overall ERP investments included in net property, plant and equipment
totaled $26.5 million and we anticipate incurring at least an additional $4.0
million in capital expenditures for the ERP platform through fiscal 2005;
changes in the scope of the ERP platform could result in impairment of these
capitalized costs.
Due to the rapid sales growth in fiscal 2004, we experienced a significant
need for additional employees and facilities. We added many employees around the
world, and we are currently expanding our operations in Penang, Malaysia. Our
response to these changes in business conditions in fiscal 2004, compared to the
two previous fiscal years, resulted in additional costs to support our growth.
If we are unable to effectively manage the growth anticipated for fiscal 2005,
our operating results could be adversely affected.
22
In addition, to meet our customers' needs or to achieve increased
efficiencies, we sometimes require additional capacity in one location while
reducing capacity in another. Since customers' needs and market conditions can
vary and change rapidly, we may find ourselves in a situation (such as occurred
in the first quarter of fiscal 2005) where we simultaneously experience the
effects of contraction in one location while incurring the costs of expansion in
another.
OPERATING IN FOREIGN COUNTRIES EXPOSES US TO INCREASED RISKS.
We have operations in China, Malaysia, Mexico and the United Kingdom. As
noted above, we expanded our operations in Malaysia, and we may in the future
expand in these and/or into other international regions. We have limited
experience in managing geographically dispersed operations in these countries.
We also purchase a significant number of components manufactured in foreign
countries. Because of these international aspects of our operations, we are
subject to the following risks that could materially impact our operating
results:
- economic or political instability
- transportation delays or interruptions and other effects of less
developed infrastructure in many countries
- foreign exchange rate fluctuations
- utilization of different systems and equipment
- difficulties in staffing and managing foreign personnel and diverse
cultures and
- the effects of international political developments.
In addition, changes in policies by the U.S. or foreign governments could
negatively affect our operating results due to changes in duties, tariffs, taxes
or limitations on currency or fund transfers. For example, our Mexican-based
operation utilizes the Maquiladora program, which provides reduced tariffs and
eases import regulations, and we could be adversely affected by changes in that
program. Also, the Malaysian and Chinese subsidiaries currently receive
favorable tax treatment from these governments for approximately 10 years and 9
years, respectively, which may or may not be renewed.
WE MAY NOT BE ABLE TO MAINTAIN OUR ENGINEERING, TECHNOLOGICAL AND MANUFACTURING
PROCESS EXPERTISE.
The markets for our manufacturing and engineering services are
characterized by rapidly changing technology and evolving process development.
The continued success of our business will depend upon our ability to:
- retain our qualified engineering and technical personnel
- maintain and enhance our technological capabilities
- develop and market manufacturing services which meet changing
customer needs
- successfully anticipate or respond to technological changes in
manufacturing processes on a cost-effective and timely basis.
Although we believe that our operations utilize the assembly and testing
technologies, equipment and processes that are currently required by our
customers, we cannot be certain that we will develop the capabilities required
by our customers in the future. The emergence of new technology industry
standards or customer requirements may render our equipment, inventory or
processes obsolete or noncompetitive. In addition, we may have to acquire new
assembly and testing technologies and equipment to remain competitive. The
acquisition and implementation of new technologies and equipment may require
significant expense or capital investment that could reduce our operating
margins and our operating results. Our failure to anticipate and adapt to our
customers' changing technological needs and requirements could have an adverse
effect on our business.
OUR MANUFACTURING SERVICES INVOLVE INVENTORY RISK.
Most of our contract manufacturing services are provided on a turnkey
basis, where we purchase some or all of the required materials. These services
involve greater resource investment and inventory risk than consignment
services, where the customer provides these materials. Accordingly, component
price increases and inventory obsolescence could adversely affect our selling
price, gross margins and operating results.
23
In our turnkey operations, we need to order parts and supplies based on
customer forecasts, which may be for a larger quantity of product than is
included in the firm orders ultimately received from those customers. For
example, fiscal 2004, as well as the first quarter of fiscal 2005, saw a
significant increase in inventories to support increased sales and expected
growth in customer programs. Customers' cancellation or reduction of orders can
result in additional expense to us. While most of our customer agreements
include provisions that require customers to reimburse us for excess inventory
specifically ordered to meet their forecasts, we may not actually be reimbursed
or be able to collect on these obligations. In that case, we could have excess
inventory and/or cancellation or return charges from our suppliers.
In addition, we provide a managed inventory program under which we hold
and manage finished goods inventory for some of our key customers. The managed
inventory program may result in higher finished goods inventory levels, further
reduce our inventory turns and increase our financial risk with such customers,
even though our customers will have contractual obligations to purchase the
inventory from us.
WE MAY NOT BE ABLE TO OBTAIN RAW MATERIALS OR COMPONENTS FOR OUR ASSEMBLIES ON A
TIMELY BASIS OR AT ALL.
We rely on a limited number of suppliers for many components used in the
assembly process. We do not have any long-term supply agreements. At various
times, there have been shortages of some of the electronic components that we
use, and suppliers of some components have lacked sufficient capacity to meet
the demand for these components. At times, component shortages have been
prevalent in our industry, and in certain areas recur from time to time. In some
cases, supply shortages and delays in deliveries of particular components have
resulted in curtailed production, or delays in production, of assemblies using
that component, which contributed to an increase in our inventory levels. We
expect that shortages and delays in deliveries of some components will continue
from time to time, especially as demand for those components increases. An
increase in economic activity could result in shortages, if manufacturers of
components do not adequately anticipate the increased orders and/or have
previously excessively cut back their production capability in view of reduced
activity in recent years. World events, such as terrorism, armed conflict and
epidemics, also could affect supply chains. If we are unable to obtain
sufficient components on a timely basis, we may experience manufacturing and
shipping delays, which could harm our relationships with customers and reduce
our sales.
A significant portion of our sales is derived from turnkey manufacturing
in which we provide materials procurement. While most of our customer contracts
permit quarterly or other periodic adjustments to pricing based on decreases and
increases in component prices and other factors, we typically bear the risk of
component price increases that occur between any such repricings or, if such
repricing is not permitted, during the balance of the term of the particular
customer contract. Accordingly, component price increases could adversely affect
our operating results.
START-UP COSTS AND INEFFICIENCIES RELATED TO NEW OR TRANSFERRED PROGRAMS CAN
ADVERSELY AFFECT OUR OPERATING RESULTS.
Start-up costs, the management of labor and equipment resources in
connection with the establishment of new programs and new customer
relationships, and the need to estimate required resources in advance can
adversely affect our gross margins and operating results. These factors are
particularly evident in the early stages of the life cycle of new products and
new programs or program transfers. The effects of these start-up costs and
inefficiencies can also occur when we open new facilities, such as our
additional facility in Penang, Malaysia, which began production in the first
quarter of fiscal 2005. These factors also affect our ability to efficiently use
labor and equipment. Due to the improved economy and our increased marketing
efforts, we are currently managing a number of new programs. Consequently, our
exposure to these factors has increased. In addition, if any of these new
programs or new customer relationships were terminated, our operating results
could be harmed, particularly in the short term.
WE ARE SUBJECT TO EXTENSIVE GOVERNMENT REGULATIONS.
We are also subject to environmental regulations relating to the use,
storage, discharge, recycling and disposal of hazardous chemicals used in our
manufacturing process. If we fail to comply with present and future regulations,
we could be subject to future liabilities or the suspension of business. These
regulations could restrict
24
our ability to expand our facilities or require us to acquire costly equipment
or incur significant expense. While we are not currently aware of any material
violations, we may have to spend funds to comply with present and future
regulations or be required to perform site remediation.
In addition, our medical device business, which represented approximately
31 percent of our net sales in the first quarter of fiscal 2005, is subject to
substantial government regulation, primarily from the federal FDA and similar
regulatory bodies in other countries. We must comply with statutes and
regulations covering the design, development, testing, manufacturing and
labeling of medical devices and the reporting of certain information regarding
their safety. Failure to comply with these rules can result in, among other
things, our and our customers being subject to fines, injunctions, civil
penalties, criminal prosecution, recall or seizure of devices, or total or
partial suspension of production. The FDA also has the authority to require
repair or replacement of equipment, or refund of the cost of a device
manufactured or distributed by our customers. Violations may lead to penalties
or shutdowns of a program or a facility. In addition, failure or noncompliance
could have an adverse effect on our reputation.
In recent periods, our sales related to the defense/security/aerospace
sector have begun to increase. Companies that design and manufacture for this
sector face governmental and other requirements that could materially affect
their financial condition and results of operations.
PRODUCTS WE MANUFACTURE MAY CONTAIN DESIGN OR MANUFACTURING DEFECTS THAT COULD
RESULT IN REDUCED DEMAND FOR OUR SERVICES AND LIABILITY CLAIMS AGAINST US.
We manufacture products to our customers' specifications that are highly
complex and may at times contain design or manufacturing defects. Defects have
been discovered in products we manufactured in the past and, despite our quality
control and quality assurance efforts, defects may occur in the future. Defects
in the products we manufacture, whether caused by a design, manufacturing or
component defects, may result in delayed shipments to customers or reduced or
cancelled customer orders. If these defects occur in large quantities or too
frequently, our business reputation may also be tarnished. In addition, these
defects may result in liability claims against us. Even if customers are
responsible for the defects, they may or may not be able to assume
responsibility for any costs or payments.
OUR PRODUCTS ARE FOR THE ELECTRONICS INDUSTRY, WHICH PRODUCES TECHNOLOGICALLY
ADVANCED PRODUCTS WITH SHORT LIFE CYCLES.
Factors affecting the electronics industry, in particular the short life
cycle of products, could seriously harm our customers and, as a result, us.
These factors include:
- the inability of our customers to adapt to rapidly changing
technology and evolving industry standards that result in short
product life cycles
- the inability of our customers to develop and market their products,
some of which are new and untested
- the potential that our customers' products may become obsolete or
the failure of our customers' products to gain widespread commercial
acceptance.
OUR BUSINESS IN THE WIRELINE/NETWORKING AND WIRELESS INFRASTRUCTURE SECTORS
COULD BE SLOWED BY FURTHER GOVERNMENT REGULATION OF THE COMMUNICATIONS INDUSTRY.
The end-markets for most of our customers in the wireline/networking and
wireless infrastructure sectors are subject to extensive regulation by the
Federal Communications Commission, as well as by various state and foreign
government agencies. The policies of these agencies can directly affect both the
near-term and long-term consumer demand and profitability of the sector and
therefore directly impact the demand for products that we manufacture.
INCREASED COMPETITION MAY RESULT IN DECREASED DEMAND OR PRICES FOR OUR SERVICES.
The electronics manufacturing services industry is highly competitive and
has become more so as a result of excess capacity in the industry. We compete
against numerous U.S. and foreign electronics manufacturing
25
services providers with global operations, as well as those who operate on a
local or regional basis. In addition, current and prospective customers
continually evaluate the merits of manufacturing products internally.
Consolidations and other changes in the electronics manufacturing services
industry result in a continually changing competitive landscape. The
consolidation trend in the industry also results in larger and more
geographically diverse competitors that may have significantly greater resources
with which to compete against us.
Some of our competitors have substantially greater managerial,
manufacturing, engineering, technical, financial, systems, sales and marketing
resources than we do. These competitors may:
- respond more quickly to new or emerging technologies
- have greater name recognition, critical mass and geographic and
market presence
- be better able to take advantage of acquisition opportunities
- adapt more quickly to changes in customer requirements
- devote greater resources to the development, promotion and sale of
their services
- be better positioned to compete on price for their services.
We may be operating at a cost disadvantage compared to manufacturers who
have greater direct buying power from component suppliers, distributors and raw
material suppliers or who have lower cost structures. As a result, competitors
may have a competitive advantage and obtain business from our customers. Our
manufacturing processes are generally not subject to significant proprietary
protection, and companies with greater resources or a greater market presence
may enter our market or increase their competition with us. Increased
competition could result in price reductions, reduced sales and margins or loss
of market share.
WE DEPEND ON CERTAIN KEY PERSONNEL, AND THE LOSS OF KEY PERSONNEL MAY HARM OUR
BUSINESS.
Our success depends in large part on the continued service of our key
technical and management personnel, and on our ability to attract and retain
qualified employees, particularly those highly skilled design, process and test
engineers involved in the development of new products and processes and the
manufacture of existing products. The competition for these individuals is
significant, and the loss of key employees could harm our business.
WE MAY FAIL TO SUCCESSFULLY COMPLETE FUTURE ACQUISITIONS AND MAY NOT
SUCCESSFULLY INTEGRATE ACQUIRED BUSINESSES, WHICH COULD ADVERSELY AFFECT OUR
OPERATING RESULTS.
Although we have previously grown through acquisitions, our current focus
is on pursuing organic growth opportunities. If we were to pursue future growth
through acquisitions, however, this would involve significant risks that could
have a material adverse effect on us. These risks include:
Operating risks, such as the:
- inability to integrate successfully our acquired operations'
businesses and personnel
- inability to realize anticipated synergies, economies of scale or
other value
- difficulties in scaling up production and coordinating management of
operations at new sites
- strain placed on our personnel, systems and resources
- possible modification or termination of an acquired business's
customer programs, including cancellation of current or anticipated
programs
- loss of key employees of acquired businesses.
Financial risks, such as the:
- use of cash resources, or incurrence of additional debt and related
interest expenses
- dilutive effect of the issuance of additional equity securities
- inability to achieve expected operating margins to offset the
increased fixed costs associated with acquisitions, and/or inability
to increase margins at acquired entities to Plexus' desired levels
- incurrence of large write-offs or write-downs
- impairment of goodwill and other intangible assets
- unforeseen liabilities of the acquired businesses.
26
EXPANSION OF OUR BUSINESS AND OPERATIONS MAY NEGATIVELY IMPACT OUR BUSINESS.
We have expanded our presence in Malaysia and may further expand our
operations by establishing or acquiring other facilities or by expanding
capacity in our current facilities. We may expand both in geographical areas in
which we currently operate and in new geographical areas within the United
States and internationally. We may not be able to find suitable facilities on a
timely basis or on terms satisfactory to us. Expansion of our business and
operations involves numerous business risks, including:
- the inability to successfully integrate additional facilities or
capacity and to realize anticipated synergies, economies of scale or
other value
- additional fixed costs which may not be fully absorbed by the new
business
- difficulties in the timing of expansions, including delays in the
implementation of construction and manufacturing plans
- creation of excess capacity, and the need to reduce capacity
elsewhere if anticipated sales or opportunities do not materialize
- diversion of management's attention from other business areas during
the planning and implementation of expansions
- strain placed on our operational, financial, management, technical
and information systems and resources
- disruption in manufacturing operations
- incurrence of significant costs and expenses
- inability to locate sufficient customers or employees to support the
expansion.
WE MAY FAIL TO SECURE NECESSARY FINANCING.
We maintain a Secured Credit Facility with a group of banks, which allows
us to borrow up to $150 million. However, we cannot be sure that the Secured
Credit Facility will provide all of the financing capacity that we will need in
the future.
Our future success may depend on our ability to obtain additional
financing and capital to support increased sales and our possible future growth.
We may seek to raise capital by:
- issuing additional common stock or other equity securities
- issuing debt securities
- modifying existing credit facilities or obtaining new credit
facilities
- a combination of these methods.
We may not be able to obtain capital when we want or need it, and capital
may not be available on satisfactory terms. If we issue additional equity
securities or convertible debt to raise capital, it may be dilutive to
shareholders' ownership interests. Furthermore, any additional financing may
have terms and conditions that adversely affect our business, such as
restrictive financial or operating covenants, and our ability to meet any
financing covenants will largely depend on our financial performance, which in
turn will be subject to general economic conditions and financial, business and
other factors.
RECENTLY ENACTED CHANGES IN THE SECURITIES LAWS AND REGULATIONS ARE LIKELY TO
INCREASE COSTS.
The Sarbanes-Oxley Act of 2002 (the "Sarbanes-Oxley Act") has required
changes in some of our corporate governance, securities disclosure and
compliance practices. In response to the requirements of the Sarbanes-Oxley Act,
the SEC and the NASDAQ Stock Market have promulgated new rules in a variety of
subjects. Compliance with these new rules has increased our legal and accounting
costs, and we expect these increased costs to continue indefinitely. These
developments may also make it more difficult for us to attract and retain
qualified members of our board of directors or qualified executive officers.
27
IF WE REACH OTHER THAN AN AFFIRMATIVE CONCLUSION ON THE ADEQUACY OF OUR INTERNAL
CONTROL OVER FINANCIAL REPORTING AS OF SEPTEMBER 30, 2005 AND FUTURE YEAR-ENDS
AS REQUIRED BY THE SECTION 404 OF THE SARBANES-OXLEY ACT, INVESTORS COULD LOSE
CONFIDENCE IN THE RELIABILITY OF OUR FINANCIAL STATEMENTS, WHICH COULD RESULT IN
A DECREASE IN THE VALUE OF THE OUR COMMON STOCK.
As required by Section 404 of the Sarbanes-Oxley Act, the SEC adopted
rules requiring public companies to include a report of management on the
company's internal control over financial reporting in their annual reports on
Form 10-K that contains an assessment by management of the effectiveness of the
company's internal control over financial reporting. In addition, the public
accounting firm auditing a company's financial statements must attest to and
report on both management's assessment as to whether the company maintained
effective internal control over financial reporting and on the effectiveness of
the company's internal control over financial reporting.
We are currently undergoing a comprehensive effort to comply with Section
404 of the Sarbanes-Oxley Act. If we are unable to complete our assessment in a
timely manner or if we and/or our independent auditors determine that there are
material weaknesses regarding the design or operating effectiveness of our
internal control over financial reporting, this could result in an adverse
reaction in the financial markets due to a loss of confidence in the reliability
of our financial statements, which could cause the market price of our shares to
decline. A weakness in our stock price could mean that investors will not be
able to sell their shares at or above the prices that they paid. A weakness in
stock price could also impair our ability in the future to offer common stock or
convertible securities as a source of additional capital and/or as consideration
in the acquisition of other businesses.
THE PRICE OF OUR COMMON STOCK HAS BEEN AND MAY CONTINUE TO BE VOLATILE.
Our stock price has fluctuated significantly in recent periods. The price
of our common stock may fluctuate significantly in response to a number of
events and factors relating to us, our competitors and the market for our
services, many of which are beyond our control.
In addition, the stock market in general, and especially the NASDAQ Stock
Market, along with share prices for technology companies in particular, have
experienced extreme volatility, including weakness, that sometimes has been
unrelated to the operating performance of these companies. These broad market
and industry fluctuations may adversely affect the market price of our common
stock, regardless of our operating results. Our stock price and the stock price
of many other technology companies remain below their peaks.
Among other things, volatility and weakness in Plexus' stock price could
mean that investors will not be able to sell their shares at or above the prices
that they paid. Volatility and weakness could also impair Plexus' ability in the
future to offer common stock or convertible securities as a source of additional
capital and/or as consideration in the acquisition of other businesses.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
We are exposed to market risk from changes in foreign exchange and
interest rates. To reduce such risks, we selectively use financial instruments.
FOREIGN CURRENCY RISK
We do not use derivative financial instruments for speculative purposes.
Our policy is to selectively hedge our foreign currency denominated transactions
in a manner that substantially offsets the effects of changes in foreign
currency exchange rates. Presently, we use foreign currency contracts to hedge
only those currency exposures associated with certain assets and liabilities
denominated in non-functional currencies. Corresponding gains and losses on the
underlying transaction generally offset the gains and losses on these foreign
currency hedges. Our international operations create potential foreign exchange
risk. As of January 1, 2005, we had no foreign currency contracts outstanding.
In the first quarter of fiscal 2005 and 2004, we had net sales of
approximately 8 percent and 11 percent, respectively, denominated in currencies
other than the U.S. dollar. In the first quarter of fiscal 2005 and 2004, we had
total costs of approximately 13 percent and 14 percent, respectively,
denominated in currencies other than the U.S. dollar. During the first quarter
of fiscal 2005, we benefited from approximately $0.3 million of foreign
28
exchange gains due to the strengthening of the Pound Sterling in the United
Kingdom. We do not expect this gain to recur unless the Pound continues to
strengthen against the U.S. Dollar.
INTEREST RATE RISK
We have financial instruments, including cash equivalents and short-term
investments, which are sensitive to changes in interest rates. We consider the
use of interest-rate swaps based on existing market conditions. We currently do
not use any interest-rate swaps or other types of derivative financial
instruments to hedge interest rate risk.
The primary objective of our investment activities is to preserve
principal, while maximizing yields without significantly increasing market risk.
To achieve this, we maintain our portfolio of cash equivalents and short-term
investments in a variety of highly rated securities, money market funds and
certificates of deposit and limit the amount of principal exposure to any one
issuer.
Our only material interest rate risk is associated with our secured credit
facility. A 10 percent change in our weighted average interest rate on our
average long-term borrowings would have had only a nominal impact on net
interest expense in the three months ended January 1, 2005 and December 31,
2003.
ITEM 4. CONTROLS AND PROCEDURES
Disclosure Controls and Procedures: The Company maintains disclosure
controls and procedures designed to ensure that the information the Company must
disclose in its filings with the Securities and Exchange Commission is recorded,
processed, summarized and reported on a timely basis. The Company's principal
executive officer and principal financial officer have reviewed and evaluated,
with the participation of the Company's management, the Company's disclosure
controls and procedures as defined in Rules 13a-15(e) and 15d-15(e) under the
Securities Exchange Act of 1934, as amended (the "Exchange Act") as of the end
of the period covered by this report (the "Evaluation Date"). Based on such
evaluation, such officers have concluded that, as of the Evaluation Date, the
Company's disclosure controls and procedures are effective in bringing to their
attention on a timely basis material information relating to the Company
required to be included in the Company's periodic filings under the Exchange
Act.
Internal Control Over Financial Reporting: During the first quarter of
fiscal 2005, the Company's internal controls identified inventory shortages at
its Juarez, Mexico ("Juarez") facility that were attributed to a combination of
theft and lack of adherence to certain inventory control procedures. To improve
physical security of the inventory in Juarez, the Company has segregated
high-dollar inventory parts into a more secure area within the facility, limited
access into secured inventory locations and increased the utilization of its El
Paso, Texas ("El Paso") warehouse for storage of components. Management is also
evaluating other enhancements to general security at its Juarez facility. To
modify/strengthen inventory control procedures, the Company is increasing the
extent of its cycle counting, kitting more inventory from the El Paso warehouse
rather than in the Juarez facility, reducing the number of physical locations
where inventory is stored in the facility, limiting access to physical inventory
locations and limiting system access to certain types of inventory transactions.
There have been no other significant changes in the Company's internal control
over financial reporting that occurred during the Company's most recent fiscal
quarter that have materially affected, or are reasonably likely to materially
affect, the Company's internal control over financial reporting.
The Company is currently undergoing a comprehensive effort to comply with
Section 404 of the Sarbanes-Oxley Act of 2002. Compliance is required for our
fiscal year-end September 30, 2005. This effort includes documenting and testing
of internal controls. During the course of these activities, the Company has
identified certain other internal control issues which management believes
should be improved. The Company is making improvements to its internal controls
over financial reporting as a result of its review efforts. These planned
improvements include additional information technology system controls, further
formalization of policies and procedures, improved segregation of duties and
additional monitoring controls.
The matters noted herein have been discussed with the Company's Audit
Committee. The Company believes that it is taking the necessary steps to monitor
and maintain appropriate internal control during periods of change.
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PART II - OTHER INFORMATION
ITEM 6. EXHIBITS
31.1 Certification of Chief Executive Officer pursuant
to Section 302(a) of the Sarbanes Oxley Act of
2002.
31.2 Certification of Chief Financial Officer pursuant
to section 302(a) of the Sarbanes Oxley Act of
2002.
32.1 Certification of the CEO pursuant to 18 U.S.C.
Section 1350, as adopted pursuant to Section 906
of the Sarbanes-Oxley Act of 2002.
32.2 Certification of the CFO pursuant to 18 U.S.C.
Section 1350, as adopted pursuant to Section 906
of the Sarbanes-Oxley Act of 2002.
SIGNATURE
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant had duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
2/10/05 /s/ Dean A. Foate
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Date Dean A. Foate
President and Chief Executive Officer
2/10/05 /s/ F. Gordon Bitter
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Date F. Gordon Bitter
Vice President and
Chief Financial Officer
30