Business Context and Reporting Period
Universal Display Corporation develops, licenses and commercializes organic light-emitting diode (OLED) technologies and materials for displays and lighting. Revenue is generated from OLED material sales, intellectual-property licensing and technology development/support. This unaudited Form 10-Q covers the three and nine months ended September 30, 2015, compared with the corresponding 2014 periods.
Financial Performance and Position
| Metric | Q3 2015 | Q3 2014 | 9M 2015 | 9M 2014 |
|---|---|---|---|---|
| Total revenue | $39.4 million | $32.9 million | $128.7 million | $134.9 million |
| Operating income | $8.4 million | $6.1 million | $5.7 million | $41.5 million |
| Operating margin | 21.2% | 18.5% | 4.4% | 30.8% |
| Net income (loss) | $7.0 million | $4.3 million | $(3.4) million | $28.7 million |
| Diluted EPS | $0.15 | $0.09 | $(0.07) | $0.61 |
| Operating cash flow | Not provided for quarter | Not provided for quarter | $80.6 million | $18.8 million |
- Q3 revenue increased 20%, driven primarily by material sales of $34.1 million, up 24%. Royalty and license fees were $5.2 million, essentially flat year over year.
- Q3 net margin was approximately 17.9%, compared with 13.0% in the prior-year quarter.
- Nine-month revenue declined 5%, as the $13.5 million decline in material sales exceeded the $8.1 million increase in royalty and license fees.
- Cash and cash equivalents were $90.0 million and short-term investments were $271.6 million at September 30, 2015, providing total cash and investment liquidity of approximately $361.6 million.
- Working capital was $379.6 million. The filing reports no debt or borrowing balances and no off-balance-sheet arrangements.
- Inventory was $13.7 million, down from $37.1 million at December 31, 2014, after a $33.0 million year-to-date write-down.
Material Changes Versus the Prior Comparable Period
- Q3 phosphorescent emitter sales increased 56% to $31.5 million, while host material sales decreased 63% to $2.7 million.
- Nine-month emitter sales increased 16% to $75.0 million, but host material sales fell 70% to $10.3 million.
- Nine-month royalty and license revenue increased 23% to $43.3 million, including $30.0 million of recognized payments under the Samsung Display license agreement versus $25.0 million in the prior period.
- Nine-month cost of commercial material sales increased to $54.5 million from $29.2 million, primarily because of the inventory write-down. Excluding the write-down, management reported a 28% commercial material sales cost ratio versus 32% in 2014.
- Research and development expense increased to $32.0 million for the first nine months, from $28.6 million, reflecting higher personnel, consulting and product-development costs.
- Operating cash flow benefited from approximately $45.0 million of customer receipts for prepaid royalty and license fees recorded as deferred revenue.
Guidance, Outlook, Risks and Unusual Items
- The company did not provide specific quantitative revenue or earnings guidance in the filing.
- Management expects existing host material sales to continue declining because customers are introducing products that do not use the company’s host materials. Host materials are also described as more competitive and are not required for customers to use the company’s phosphorescent emitter materials.
- The $33.0 million inventory write-down primarily related to host-material work-in-process and finished goods after a faster-than-anticipated decline in expected demand. Management presented non-GAAP nine-month net income of $26.6 million, or $0.58 basic and $0.57 diluted per share, excluding the write-down and related tax effects.
- The company expects sufficient cash, cash equivalents and short-term investments to meet obligations for at least the next twelve months, but notes that future funding could be required for research, development, commercialization and patent activities.
- Revenue is highly concentrated: two customers represented 87% of Q3 revenue and 85% of nine-month revenue. Approximately 99% of revenue came from outside North America, and substantially all chemical materials were purchased from one supplier.
- Patent opposition and invalidation proceedings remain pending in Europe and Japan. The company believes its rights will generally be upheld but provides no assurance; the Japanese IP High Court declined in October 2015 to reinstate broader claims for one patent.
- The LG Display license and material supply agreements entered in the first quarter of 2015 run through the end of 2022 and include license fees, running royalties, expected material volumes and certain minimum obligations subject to conditions.
- Inventory purchase commitments were $12.8 million at September 30, 2015. The company also had up to $3.7 million of remaining obligations under its USC research agreement through April 2017.
Important Facts for Investors to Verify
- Whether emitter-material growth can offset the continuing decline in host-material sales.
- The sustainability and timing of Samsung Display royalty and license payments, and the ramp of the LG Display agreements.
- Whether additional inventory write-downs are required if customer demand or product mix deteriorates.
- The effect of customer concentration, particularly the dependence on customers A and B and OLED demand in South Korea.
- The outcomes and potential commercial implications of pending patent challenges and appeals.
- The reconciliation between GAAP results and management’s non-GAAP results, including the treatment and tax impact of the $33.0 million inventory write-down.