Celestica Reports Q3 2018 Financial Results
Celestica Inc. published its financial results for the quarter ended September 30, 2018, and its intention to launch a new normal course issuer bid. During the first quarter of 2018, Celestica completed a reorganization of its business into two operating and reportable segments — advanced technology solutions (ATS) and connectivity and cloud solutions (CCS). Celestica also adopted new accounting standards effective January 1, 2018, and prior period comparatives have been restated. See “Adoption of IFRS 15” below.
Third Quarter 2018 Highlights
- Revenue: $1.71 billion, compared to our previously provided guidance range of $1.65 to $1.75 billion, increased 12% compared to the third quarter of 2017; Operating margin (non-IFRS): 3.3%, consistent with the mid-point of our revenue and non-IFRS adjusted EPS guidance ranges for the quarter, and 3.6% for the third quarter of 2017
- Revenue dollars from our ATS segment increased 17% compared to the third quarter of 2017, and represented 33% of total revenue, compared to 31% of total revenue for the third quarter of 2017; ATS segment margin was 4.6% compared to 5.1% for the third quarter of 2017
- Revenue dollars from our CCS segment increased 9% compared to the third quarter of 2017, and represented 67% of total revenue, compared to 69% of total revenue for the third quarter of 2017; CCS segment margin was 2.7% compared to 3.0% for the third quarter of 2017
- IFRS EPS: $0.06 per share, compared to $0.24 per share for the third quarter of 2017
- Adjusted EPS (non-IFRS): $0.26 per share, compared to our previously provided guidance range of $0.26 to $0.32 per share, and $0.31 per share for the third quarter of 2017; Adjusted EPS for the third quarter of 2018 included a $0.03 per share negative impact resulting primarily from taxable foreign exchange (see below)
- Adjusted ROIC (non-IFRS): 16.2%, compared to 19.1% for the third quarter of 2017
- Free cash flow (non-IFRS): $24.6 million, compared to $(44.1) million for the third quarter of 2017
- Entered into a definitive agreement to acquire Impakt Holdings, LLC (Impakt)
- Repurchased and cancelled 1.9 million subordinate voting shares for $23.3 million (including transaction fees) under our current normal course issuer bid
“Celestica delivered solid revenue growth in both our ATS and CCS segments in the third quarter, as well as continued sequential expansion of our consolidated margin,” said Rob Mionis, president and CEO, Celestica. “We were particularly pleased with the performance of our CCS business, which delivered steady margin improvements each quarter this year.”
“As we finish 2018, we are excited with the progress we are making on our strategy launched three years ago to diversify our revenue mix and deliver better overall financial performance. While we recognize there is still more work to do, we believe that our progress to date is encouraging, and positions us to enter 2019 with improving financial results, a more efficient global network, and resources that are focused on end market opportunities better aligned to our strengths and strategy.”
*Our ATS segment consists of our ATS end market, and is comprised of our aerospace and defense, industrial, smart energy, healthtech, and capital equipment businesses. Capital equipment includes semiconductor capital equipment, and has been renamed to reflect the expanding nature of our business in this market. Our CCS segment consists of our Communications and Enterprise end markets, and is comprised of our enterprise communications, telecommunications, servers and storage businesses.
International Financial Reporting Standards (IFRS) earnings per share (EPS) for the third quarter of 2018 included an aggregate charge of $0.19 (pre-tax) per share for employee stock-based compensation expense, amortization of intangible assets (excluding computer software), Toronto transition costs (described on Schedule 1 attached hereto), and restructuring charges (see the tables in Schedule 1 and note 13 to the Q3 2018 Interim Financial Statements for per-item charges). This aggregate charge is within the range we provided on July 31, 2018 of between $0.17 to $0.23 per share for these items.
IFRS EPS for the third quarter of 2018 included an aggregate $0.13 per share negative impact attributable to other charges, most significantly restructuring charges (a $0.09 per share negative impact) incurred in connection with our cost efficiency initiative discussed under “Restructuring Update” below, and an aggregate $0.03 per share negative tax impact arising from taxable foreign exchange (Currency Impacts), primarily from the weakening of the Chinese renminbi relative to the U.S. dollar, as well as an increased proportion of profits earned in higher tax rate jurisdictions (Mix Impacts). IFRS EPS for the first nine months of 2018 included an aggregate $0.31 per share negative impact attributable to other charges, most significantly restructuring charges (a $0.20 per share negative impact), a $0.01 per share negative impact resulting from the recognition of a $1.6 million fair value adjustment in cost of sales in the second quarter of 2018 due to the write-up in the value of the inventory of Atrenne Integrated Solutions, Inc. (Atrenne) on the date of acquisition (Atrenne FVA), and an aggregate $0.07 per share negative tax impact due to Currency Impacts ($0.02 per share) and Mix Impacts, offset by a $0.03 per share tax benefit resulting from the recognition of deferred tax assets attributable to our acquisition of Atrenne (Atrenne DTA) and a $0.04 per share tax benefit arising from the reversal of previously-accrued Mexican taxes (Mexican Tax Reversal). See notes 5, 13 and 14 to our Q3 2018 Interim Financial Statements for further detail.
Non-IFRS adjusted EPS for the third quarter and first nine months of 2018 excluded, among other items noted on Schedule 1 hereto, the impact of other charges, but included the negative Currency Impacts and Mix Impacts (see above) for the applicable periods. Non-IFRS adjusted EPS for the first nine months of 2018 also excluded the Atrenne FVA and the Atrenne DTA (see Schedule 1 for further details), but included the impact of the Mexican Tax Reversal (which pertains to our core operations).
IFRS EPS for the first nine months of 2017 was favorably impacted by a $0.03 per share deferred income tax benefit related to the write-downs and impairments we recorded for our solar assets in the second quarter of 2017 and prior quarters (Solar Benefit). See notes 13 and 14 to our Q3 2018 Interim Financial Statements for further detail. Non-IFRS adjusted EPS for the first nine months of 2017 excluded, among other items noted on Schedule 1 hereto, the impact of the Solar Benefit.
Non-IFRS operating margin for the third quarter of 2018 was negatively impacted primarily by changes in overall mix and pricing pressures, most significantly in our CCS segment, as well as lower utilization in our capital equipment business. In addition to these items, non-IFRS operating margin for the first nine months of 2018 was negatively impacted by the additional inventory provisions we recorded in such period compared to the prior year period.
Non-IFRS measures do not have any standardized meaning prescribed by IFRS and therefore may not be comparable to similar measures presented by other public companies that use IFRS or other generally accepted accounting principles (GAAP). See “Non-IFRS Supplementary Information” below for information on our rationale for the use of non-IFRS measures, and Schedule 1 for, among other items, non-IFRS measures included in this press release, as well as their definitions, uses, and a reconciliation of non-IFRS measures to the most directly comparable IFRS measures.
During the first quarter of 2018, we completed a reorganization of our reporting structure, including our sales, operations and management systems, into two operating and reportable segments: ATS and CCS. Prior to this reorganization, we operated in one reportable segment (Electronic Manufacturing Services), which was comprised of multiple end markets (ATS, Communications and Enterprise during 2017). Our prior period financial information has been reclassified to reflect the reorganized segment structure. Additional information regarding our reportable segments is included in note 4 to our Q3 2018 Interim Financial Statements.
As part of our strategy to continue to diversify our business and improve shareholder returns, we commenced a comprehensive review of our CCS business in the second half of 2018, with the intention of addressing under-performing programs. As a result of this review, we intend to disengage from certain customer programs that do not meet our strategic objectives. This review is currently expected to result in a decline in our CCS segment revenue of approximately $500 million over the next 12 to 18 months (subject to change based on the growth or contraction of CCS programs not subject to the review). In addition, while we are not providing revenue guidance for 2019, we currently anticipate (if all other factors remain constant), a corresponding overall revenue decline, as a percentage of annual revenue, in the single digit range. This review is intended to improve our CCS segment margin, and contemplates certain restructuring actions (which have been built into our cost efficiency initiative described below), as well as changes to our manufacturing network. Although we expect reduced revenue in our CCS business as a result of this review, we intend to maintain a large portion of our CCS business, and continue to invest in areas we believe are key to the long-term success of our CCS segment, including our JDM offering, to help drive improved CCS financial performance in future periods.
In the fourth quarter of 2017, we commenced the implementation of additional restructuring actions under a new cost efficiency initiative. We have recorded $37.0 million in restructuring charges from the commencement of this initiative through the end of the third quarter of 2018, including the $13.3 million of restructuring charges recorded in the third quarter of 2018. We currently estimate that we will incur aggregate restructuring charges of between $50 million and $75 million under this initiative, and that the remainder of the charges will be recorded in the fourth quarter of 2018 through mid-2019.
Toronto Real Property and Related Transactions Update
In September 2018, the agreement governing the sale of our Toronto real property, which includes our corporate headquarters and Toronto manufacturing operations, was assigned to a new purchaser (unrelated to us and the previous purchaser). In connection with such assignment, the agreement was amended to provide for the remaining proceeds of $122 million Canadian dollars (approximately $94 million at period-end exchange rates) to be paid in one lump sum cash payment at closing. Previously, we were to receive one-half of the purchase price in the form of an interest-free, first-ranking mortgage having a term of two-years from the closing date. In addition, although we expect to receive certain additional cash amounts at closing, if consummated, the quantification of such amounts has not yet been finalized. Other terms of the agreement remain unchanged. We currently anticipate that the sale of our Toronto real property will close no later than the end of the first quarter of 2019. However, there can be no assurance that this transaction will be completed when anticipated, or at all.
The cash proceeds from the sale of this property (if consummated) are expected to more than offset the building improvements and other capitalized costs, as well as transition costs, associated with the relocation activities resulting from the anticipated property sale. We have incurred aggregate capitalized costs of approximately $13 million, as well as transition costs of approximately $10 million (since October 2017) in connection with our relocations and the preparation of our new facilities. We expect to incur total capitalized costs of $17 million, and total transition costs of up to $15 million, in each case through the end of the first quarter of 2019.
Adoption of IFRS 15
We adopted IFRS 15, Revenue from Contracts with Customers, effective January 1, 2018. We elected to apply the retrospective approach and as a result, have restated each of the required comparative reporting periods presented herein and in our Q3 2018 Interim Financial Statements. A description of the impact of our transition to IFRS 15 is included in notes 2 and 3 to our Q3 2018 Interim Financial Statements.
Anticipated Acquisition Expected to Broaden Capabilities in the Capital Equipment Market
We entered into a definitive agreement, dated as of October 9, 2018, to acquire U.S.- based Impakt, a highly-specialized, vertically integrated company, providing manufacturing solutions for leading OEMs in the semiconductor and display (including LCD and Organic Light Emitting Diode (OLED)) industries, as well as other markets requiring complex fabrication services, with operations in California and South Korea. Through this acquisition, we expect to gain significant, new capabilities in large-format, complex, high-mix manufacturing solutions for multiple industries within our ATS segment, and broaden our precision component manufacturing, full system assembly, integration and machining capabilities. In addition, we expect to benefit from Impakt’s full spectrum of specialized vertical services, including its South Korea-based machining and manufacturing expertise. The purchase price is approximately $329 million (subject to specific adjustments as set forth in the definitive agreement). We intend to pursue the use of the accordion feature under our new credit facility to increase our term loan to finance the acquisition. However, since the accordion feature is on an uncommitted basis, there can be no assurance that any current and/or potential member of our financing syndicate will agree to its use, in the amounts we wish to borrow or at all, or that we will meet the required conditions. In the event that use of the accordion feature is unavailable (in whole or in part), we intend to finance required amounts for the acquisition with cash on hand and/or additional borrowings under our current revolver. The transaction is currently expected to close in the fourth quarter of 2018, subject to receipt of applicable regulatory approvals and satisfaction of other customary closing conditions. There can be no assurance that this acquisition will be financed in the intended manner, or that it will be consummated when anticipated, or at all.
Intention to Launch New Normal Course Issuer Bid (NCIB)
We intend to file with the Toronto Stock Exchange (TSX) a notice of intention to commence a new NCIB during the fourth quarter of 2018. If this notice is accepted by the TSX, the Company expects to be permitted to repurchase for cancellation, at its discretion during the 12 months following such acceptance, up to 10% of the "public float" (calculated in accordance with the rules of the TSX) of the Company's issued and outstanding subordinate voting shares. Purchases under the NCIB, if accepted, will be conducted in the open market or as otherwise permitted, subject to the terms and limitations to be applicable to such NCIB, and will be made through the facilities of the TSX. The Company believes that an NCIB is in the interest of the Company and constitutes a desirable use of its funds.
Fourth Quarter 2018 Outlook
For the quarter ending December 31, 2018, we anticipate revenue to be in the range of $1.70 billion to $1.80 billion, non-IFRS selling, general and administrative expenses (SG&A) to be in the range of $49.0 million to $51.0 million, non-IFRS operating margin to be 3.5% at the mid-point of our revenue and non-IFRS adjusted EPS guidance ranges for the quarter, and non-IFRS adjusted EPS to be in the range of $0.27 to $0.33. We expect a negative $0.14 to $0.20 per share (pre-tax) aggregate impact on net earnings on an IFRS basis for employee stock-based compensation expense, amortization of intangible assets (excluding computer software), Toronto transition costs (described on Schedule 1 hereto), and restructuring charges. We anticipate our non-IFRS adjusted effective tax rate for the fourth quarter of 2018 to be in the range of 17% to 19%, excluding any impacts from taxable foreign exchange. We cannot predict changes in currency exchange rates, the impact of such changes on our operating results, or the degree to which we will be able to manage such impacts.
See “Non-IFRS Supplementary Information” below for information on our rationale for the use of non-IFRS measures, and Schedule 1 for, among other items, non-IFRS measures included in this press release, as well as their definitions, uses, and a reconciliation of non-IFRS measures to the most directly comparable IFRS measures.
Non-IFRS Operating Margin Goal
In July 2018, we disclosed our goal of achieving non-IFRS operating margin in a target range of 3.5% to 4.0% over the next 1 to 3 year period. We have increased and accelerated this target range to 3.75% to 4.5% over the next 12 to 18 months, as we anticipate additional benefits from several previously announced strategic initiatives associated with: (i) the review of our CCS revenue portfolio, intended to improve financial performance in this segment, (ii) our $50 to $75 million cost efficiency initiative, and (iii) continued expansion of our ATS segment revenue portfolio, both organically, as well as through strategy-aligned acquisitions such as Atrenne and our anticipated acquisition of Impakt. The foregoing target range represents our objectives and goals, and is not intended to be a projection or forecast of future performance. Our future performance is subject to risks, uncertainties and other factors that could cause actual outcomes and results to differ materially from the goals described above.
We do not provide reconciliations for forward-looking non-IFRS financial measures, as we are unable to provide a meaningful or accurate calculation or estimation of reconciling items and the information is not available without unreasonable effort. This is due to the inherent difficulty of forecasting the timing or amount of various events that have not yet occurred, are out of our control and/or cannot be reasonably predicted, and that would impact the most directly comparable forward-looking IFRS financial measure. For these same reasons, we are unable to address the probable significance of the unavailable information. Forward-looking non-IFRS financial measures may vary materially from the corresponding IFRS financial measures.
Celestica enables the world's best brands. Through our recognized customer-centric approach, we partner with leading companies in aerospace and defense, communications, enterprise, healthtech, industrial, capital equipment (including semiconductor capital equipment), and smart energy to deliver solutions for their most complex challenges. As a leader in design, manufacturing, hardware platform and supply chain solutions, Celestica brings global expertise and insight at every stage of product development - from the drawing board to full-scale production and after-market services. With talented teams across North America, Europe and Asia, we imagine, develop and deliver a better future with our customers.
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