Universal Display Corporation — Q1 2015 Form 10-Q Summary
Business Context and Reporting Period
Universal Display develops, licenses and commercializes organic light-emitting diode (OLED) technologies and materials for display and lighting applications. The unaudited filing covers the three months ended March 31, 2015, compared with the three months ended March 31, 2014.
The company owns, exclusively licenses or has sole sublicensing rights to more than 3,500 issued and pending patents worldwide. In the first quarter, it entered into OLED patent license and commercial material supply agreements with LG Display, with terms extending through the end of 2022.
Financial Performance and Position
| Metric | Q1 2015 | Q1 2014 | Change |
|---|---|---|---|
| Total revenue | $31.2 million | $37.8 million | Down 17% |
| Material sales | $26.8 million | $35.3 million | Down 24% |
| Royalty and license fees | $4.4 million | $1.8 million | Up 146% |
| Operating income | $1.8 million | $6.6 million | Down 73% |
| Net income | $1.3 million | $4.0 million | Down 67% |
| Diluted EPS | $0.03 | $0.09 | Down $0.06 |
| Operating margin | 5.7% | 17.5% | Down 11.8 percentage points |
| Net margin | 4.2% | 10.6% | Down 6.4 percentage points |
- Commercial material sales declined 23% to $25.6 million, primarily because of lower host-material sales. Developmental material sales declined 35% to $1.2 million.
- Phosphorescent emitter sales decreased 5% to $21.4 million, reflecting a lower average price per gram partly offset by higher volume.
- Host-material sales fell 57% to $5.4 million, due to lower volume and pricing. Management stated that customers launched additional products that did not use the company’s host materials.
- Royalty and license fees increased by $2.6 million, including a $1.9 million milestone payment related to a customer’s commercial application. No SDC license revenue was recognized in the quarter because its installments are due in the second and fourth quarters.
- Operating expenses decreased 6% to $29.5 million. Research and development expense was $9.9 million, selling, general and administrative expense was $6.2 million, and patent costs and acquired-technology amortization were $4.0 million.
- The effective tax rate declined to 32.0% from 41.1%, and income tax expense declined to $0.6 million from $2.8 million.
- Cash provided by operating activities was $47.0 million versus cash used of $7.3 million in the prior-year quarter. The improvement primarily reflected approximately $42 million of prepaid royalty and license fees received from a customer, recorded as deferred revenue, and the timing of receivable collections.
- Cash provided by investing activities was $37.0 million, including $90.9 million of investment-sale proceeds and $52.0 million of investment purchases. Capital expenditures were $2.0 million.
- Cash and cash equivalents were $125.2 million at March 31, 2015, and short-term investments were $203.3 million, providing total cash and short-term investments of $328.5 million versus $288.5 million at December 31, 2014.
- Working capital was $367.9 million, compared with $343.7 million at December 31, 2014. The filing does not report outstanding borrowings or material debt; total liabilities were $76.1 million.
Material Changes Versus the Prior Comparable Period
- Revenue declined $6.6 million, driven principally by an $8.5 million decline in material sales and a $0.7 million decline in technology development and support revenue.
- Lower revenue reduced operating income by approximately $4.9 million despite a $1.8 million reduction in operating expenses.
- Deferred revenue increased to $51.0 million, comprising $25.6 million current and $25.4 million non-current, compared with $5.8 million at year-end 2014. The increase primarily reflects prepaid customer royalties and license fees.
- The company amended its Supplemental Executive Retirement Plan to include salary and bonus in benefit calculations. The amendment is expected to increase the related liability; the retirement plan benefit liability was $11.3 million at March 31, 2015.
- Inventory increased to $39.0 million from $37.1 million, with finished goods increasing to $29.7 million from $25.0 million.
- Inventory purchase commitments increased to $20.9 million from $9.1 million at December 31, 2014. Substantially all chemical materials were purchased from one supplier.
- The company purchased 956,362 shares for approximately $29.5 million under its $50 million repurchase authorization through March 31, 2015. Separately, 53,368 shares were withheld during the quarter to satisfy employee tax obligations.
Guidance, Outlook, Commentary and Risks
- Management expects quarterly and annual results to fluctuate based on material sales volume and timing, license and royalty receipts, research and development and patent expenditures, and new business relationships.
- Management stated that near-term and long-term host-material sales prospects are uncertain because customers are not required to purchase the company’s host materials when using its phosphorescent emitters, and the host-material market is more competitive.
- LG Display royalty revenue was expected to begin in the second quarter of 2015, recognized one quarter in arrears based on reported royalties. Future revenue under the LG agreements is expected to depend predominantly on LG Display’s sales of licensed OLED products.
- Management expects sufficient cash, cash equivalents and short-term investments to meet obligations for at least the next twelve months. It also noted that future financing could be required for research, commercialization, patent activities and working capital, and that financing may not be available on acceptable terms.
- Customer concentration was significant: three customers accounted for 41%, 26% and 15% of first-quarter revenue, respectively. Approximately 99% of revenue originated outside North America, with South Korea contributing $22.2 million and Japan contributing $7.8 million.
- Patent oppositions and invalidation proceedings remain active in Europe and Japan. The company believes its patents are likely to be upheld but cannot assure the outcomes. It reported favorable Japanese decisions maintaining two patents and a European decision maintaining another patent as originally granted, subject to continuing proceedings or appeals.
- The company had an ongoing European opposition hearing scheduled for the second quarter of 2015 involving a patent related to white phosphorescent OLED technology.
- The filing identifies risks related to patent validity and enforcement, customer and supplier concentration, inventory valuation, dependence on OLED market adoption, revenue timing, and reliance on estimates for revenue recognition, taxes, acquired technology and retirement benefits.
- Management reported effective disclosure controls and no material changes to internal control over financial reporting during the quarter.
Most Important Facts for Investors to Verify
- Whether the LG Display agreements generate the anticipated royalty and material-sales growth and whether revenue is predominantly tied to LG product volumes.
- The timing and amount of SDC license installments and related material-purchase commitments in subsequent quarters.
- Whether host-material sales continue to decline and how product launches and customer mix affect phosphorescent emitter volumes and pricing.
- The sustainability of operating cash flow after excluding the $42 million prepaid royalty and license-fee receipt.
- The collectability and recognition timing of the approximately $51 million deferred-revenue balance.
- Potential inventory write-downs, particularly given increased finished goods and $20.9 million of purchase commitments.
- Outcomes and legal costs of ongoing patent oppositions and invalidation proceedings involving core phosphorescent OLED technologies.
- The effect of the amended executive retirement plan and other equity compensation on future liabilities, expenses and share dilution.