Universal Display Corporation — Q2 2015 Form 10-Q Summary
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 royalties, and technology development and support. This unaudited Form 10-Q covers the three and six months ended June 30, 2015, compared with the corresponding 2014 periods.
Financial results and liquidity
| Metric | Three months ended June 30, 2015 | Three months ended June 30, 2014 | Six months ended June 30, 2015 | Six months ended June 30, 2014 |
|---|---|---|---|---|
| Revenue | $58.1 million | $64.1 million | $89.3 million | $102.0 million |
| Operating income (loss) | $(4.5) million | $28.8 million | $(2.7) million | $35.5 million |
| Net income (loss) | $(11.8) million | $20.4 million | $(10.5) million | $24.4 million |
| Basic EPS | $(0.25) | $0.44 | $(0.23) | $0.53 |
| Operating cash flow | Not separately provided | Not separately provided | $75.2 million | $25.0 million |
- Q2 revenue declined 9%, while six-month revenue declined 12%. Material sales fell 32% in Q2 and 28% year to date, primarily from lower host-material sales.
- Royalty and license revenue increased 20% in Q2 and 28% year to date, primarily reflecting $30.0 million of SDC payments recognized in each six-month comparison period versus $25.0 million in 2014.
- Q2 operating expenses increased $27.3 million, principally because of a $33.0 million inventory write-down. The write-down primarily related to host-material inventory.
- Excluding the inventory write-down and associated $1.9 million tax impact, management reported non-GAAP Q2 net income of $19.4 million, or $0.42 basic and $0.41 diluted per share. Comparable six-month non-GAAP net income was $20.7 million, or $0.45 per share.
- Reported effective tax rates were unusually high at negative 173.4% for Q2 and negative 340.7% for the six-month period because the inventory write-down primarily related to UDC Ireland, where expected losses were not tax benefited due to valuation allowances.
- At June 30, 2015, cash and cash equivalents were $109.3 million and short-term investments were $247.0 million, totaling $356.3 million. Working capital was $365.1 million.
- Cash flow from operations benefited from $45.0 million of customer receipts for prepaid royalty and license fees recorded as deferred revenue. Deferred revenue increased to $49.4 million from $5.8 million at December 31, 2014.
- Cash used in investing activities was $7.6 million, primarily reflecting net investment purchases and capital expenditures. Cash used in financing activities was $3.7 million. The filing lists no debt balances or borrowing arrangements.
Material changes versus the prior comparable periods
- Phosphorescent emitter sales were relatively stable in Q2, increasing 1% to $22.2 million, while host-material sales decreased 84% to $2.2 million. For the six months, emitter sales declined 2% and host-material sales declined 72%.
- Management attributed the host-material decline to a customer’s new products not using the company’s host materials, lower volume, and lower average selling prices. Management expects existing host-material sales to remain significantly reduced.
- Commercial material sales declined 33% in Q2 and 28% year to date. Developmental material sales also declined.
- Research and development and selling, general and administrative expenses were broadly unchanged year over year. Patent costs and acquired-technology amortization decreased modestly, while royalty and license expense increased.
- Inventory declined to $17.0 million from $37.1 million at year-end 2014, reflecting the write-down and inventory usage. Total assets increased to $525.2 million from $489.8 million, while shareholders’ equity declined to $440.9 million from $448.7 million because of the reported net loss.
- The company’s $50.0 million stock-repurchase authorization ended during Q2 2015. Cumulative purchases under the program totaled 956,362 shares costing approximately $29.5 million. No open-market repurchases occurred during the first six months of 2015.
Guidance, outlook, commentary and risks
- The filing provides no formal revenue or earnings guidance. Management expects existing host-material sales to remain significantly lower, although it notes that sales forecasts are volatile.
- The company expects quarterly results to fluctuate based on the timing and volume of OLED material sales, license and royalty receipts, research and development and patent expenditures, and new business relationships.
- The company entered into patent-license and commercial-material supply agreements with LG Display in the first quarter of 2015. The agreements run through the end of 2022 and include license fees, prepaid and running royalties, and certain minimum obligations subject to specified conditions.
- The company’s principal commercial license agreement with Samsung Display runs through the end of 2017 and provides for semiannual license-fee installments that increase annually. Revenue recognition is concentrated in the second and fourth quarters because payments are due in those periods.
- Material customer concentration is significant: one customer represented 74% of Q2 revenue and 63% of six-month revenue; a second represented 18% and 21%, respectively. Approximately 99% of revenue was generated outside North America, and substantially all chemical materials were purchased from one supplier.
- Patent oppositions and validity challenges remain pending in Europe and Japan, including proceedings involving fundamental phosphorescent OLED technologies. Management does not currently expect any individual proceeding to have a material impact, but acknowledges that defending the portfolio may require significant resources and outcomes cannot be assured.
- Inventory valuation remains a key risk. Further unfavorable demand or forecast changes could require additional write-downs, while stronger demand could permit sales of previously written-down inventory.
- Management states that available cash, cash equivalents and short-term investments should be sufficient to meet obligations for at least the next twelve months, but additional funding may eventually be required for research, commercialization, patent activities and working capital.
- The company reported effective disclosure controls and procedures and no material changes to internal control over financial reporting during the quarter.
Most important facts for investors to verify
- Whether the decline in host-material demand is temporary or represents a lasting change in customer product designs.
- The sustainability and timing of royalty and license revenue, particularly payments from Samsung Display and the ramp of the LG Display agreements.
- The extent to which the $33.0 million inventory write-down accurately reflects future host-material demand and whether additional charges are likely.
- Customer concentration, dependence on OLED market adoption, and reliance on a single principal chemical-material supplier.
- The status and potential commercial impact of pending patent oppositions and invalidity proceedings.
- The composition and timing of deferred revenue and prepaid royalties, including when those amounts will be recognized as revenue.
- Future cash requirements for research, development, patent prosecution and commercialization despite the company’s substantial liquidity.