Kopin Corporation — Q3 2012 Form 10-Q
Business context and period: This unaudited quarterly report covers the three and nine months ended September 29, 2012. Kopin develops and manufactures miniature displays and III-V semiconductor products, principally gallium arsenide HBT transistor wafers, and earns some revenue from research and development contracts. Comparisons are with the periods ended September 24, 2011.
Key financial results
| Metric | Q3 2012 | Q3 2011 | Nine months 2012 | Nine months 2011 |
|---|---|---|---|---|
| Total revenue | $21.9 million | $29.6 million | $70.0 million | $95.9 million |
| Operating income (loss) | $(5.8) million | $(0.9) million | $(13.5) million | $1.7 million |
| Net income (loss) attributable to Kopin | $(6.7) million | $0.2 million | $(14.5) million | $3.0 million |
| Basic and diluted EPS | $(0.11) | $0.00 | $(0.23) | $0.05 |
| Operating cash flow | Not provided for the quarter | Not provided for the quarter | $1.5 million | $11.1 million |
Revenue declined 26% in the quarter and 27% for the first nine months. Product revenues were $21.0 million for Q3 and $67.4 million for the nine-month period; R&D revenues were $0.9 million and $2.6 million, respectively. Product cost was 75.4% of product revenue in Q3 and 73.7% for nine months, versus 69.3% and 66.8% in 2011, respectively—indicating weaker product gross margins.
At September 29, cash and equivalents were $25.3 million and marketable debt securities were $69.3 million, totaling $94.5 million in cash and marketable securities. Working capital was $110.4 million. Cash and equivalents plus marketable securities totaled $105.4 million at December 31, 2011. The balance sheet reports no interest-bearing debt. Total assets were $180.5 million and stockholders’ equity was $158.7 million. Nine-month capital expenditures were $8.5 million; treasury-stock purchases used $3.5 million.
Material changes and unusual items
- Display revenue fell to $8.2 million in Q3 from $14.1 million, and to $26.0 million for nine months from $46.8 million. III-V revenue was $13.7 million in Q3 versus $15.5 million, and $44.0 million for nine months versus $49.1 million.
- Management attributed lower display sales to reduced military demand, lower consumer-camera demand, and reduced government R&D funding; lower nine-month III-V revenue primarily reflected weaker HBT wafer demand from cellular handset customers.
- SG&A rose to $5.5 million in Q3 from $4.4 million and to $15.6 million for nine months from $13.5 million. The filing cites compensation and depreciation among the drivers of the year-to-date increase. R&D expense was $16.5 million for nine months, down from $19.9 million.
- A $1.7 million noncash goodwill impairment was recorded in the first half of 2012 for Forth Dimension Displays (FDD), following results below forecast. The company warned that FDD’s reliance on fewer than 10 customers could lead to further impairment of remaining intangible assets if customer or product expectations are not met.
- Kopin acquired an additional interest in Ikanos in July, bringing ownership to 51%, and began consolidating it. The transaction included a $0.6 million loss on remeasurement of the previously held investment; purchase-price allocation remained preliminary. Ikanos Q3 revenue was described as de minimis.
- The company reported a prior-period error in intercompany inventory profit eliminations and restated comparative figures. It said the correction was not material to previously issued statements and did not change reported cash flows. The 2011 nine-month restatement reduced net income by about $0.7 million; the 2011 full-year restatement reduced net income by about $0.6 million. Management provided additional accounting-policy training and said it would monitor and test controls.
Outlook, risks and contingencies
- Management maintained 2012 revenue guidance of $90 million to $95 million, but cautioned that forecasting was difficult and was not based on firm, non-cancellable orders.
- Management expected 2012 military-product revenue to decline approximately $20 million to $30 million as U.S. government demand fell. A customer won the next-generation thermal weapon-sight contract and indicated it expected to assemble the unit internally; Kopin said it might receive orders for legacy products in 2013.
- Management expected HBT and consumer-display prices to decline approximately 5% to 8% in 2012 relative to 2011, potentially continuing in 2013; military display prices were expected to remain relatively stable. It forecast $5 million to $8 million in capital expenditures over the next 12 months and believed available cash would fund operations and capital needs for at least 12 months.
- Golden-i sales were de minimis in 2012. Kopin licensed the technology to a partner whose industrialized product launched in October 2012; management viewed future Golden-i revenue as important but said success depends partly on third-party application software and development of a market.
- A significant III-V customer supply agreement runs through December 2013 and requires capacity commitments. Failure to meet supply obligations could expose Kopin to court-ordered specific performance and monetary damages up to $40 million. The company also committed to fund up to $4 million of development expenses if milestones are achieved.
- Approximately $1.3 million of Massachusetts job-retention incentives was included in billings in excess of revenue earned; the company paid that amount in October 2012. Repayment may be required if specified employment or location conditions are not met.
- Risks include customer concentration and order timing, military spending reductions, price and volume pressure, foreign-exchange movements (the company does not hedge), investment valuation, and the ability to commercialize Golden-i. Management reported disclosure controls were effective as of quarter-end. The filing describes ordinary-course legal proceedings but gives no specific material case or quantified exposure.
Important facts for investors to verify
- Whether Q4 orders and revenue can support the $90–$95 million 2012 guidance, given nine-month revenue of $70.0 million and management’s forecasting caveat.
- Actual military demand, customer sourcing decisions, and the timing and scale of any 2013 legacy thermal-sight orders.
- Product mix, pricing, manufacturing utilization, and progress in restoring product margins amid lower sales and expected price reductions.
- Golden-i software readiness, partner commercialization, customer adoption, and the revenue and investment required to build the business.
- Final Ikanos purchase accounting and performance, FDD customer concentration and impairment exposure, and any further consequences of the inventory-elimination restatement.
- Compliance with the III-V supply agreement, development-funding milestones, and Massachusetts incentive conditions that could create additional cash obligations.