ON Semiconductor Corporation — Q1 2020 Form 10-Q
Business context and reporting period. ON Semiconductor reported its first fiscal quarter ended April 3, 2020. The quarter contained 94 days, compared with 88 days in the prior-year quarter ended March 29, 2019. The company operates through Power Solutions Group (PSG), Advanced Solutions Group (ASG) and Intelligent Sensing Group (ISG), serving automotive, industrial, communications, computing, consumer and other markets.
Key financial metrics
| Metric | Q1 2020 | Prior-year quarter |
|---|---|---|
| Revenue | $1,277.9 million | $1,386.6 million |
| Gross profit / gross margin | $402.7 million / 31.5% | $513.7 million / 37.0% |
| Operating income | $18.6 million | $179.4 million |
| Net income (loss) attributable to ON Semiconductor | $(14.0) million; $(0.03) per diluted share | $114.1 million; $0.27 per diluted share |
| Operating cash flow | $166.0 million | $138.2 million |
| Capital expenditures paid | $132.3 million | $157.0 million |
Cash and cash equivalents were $1,982.0 million at April 3, 2020, up from $894.2 million at year-end 2019, principally reflecting a $1,165.0 million draw on the revolving credit facility. Gross debt, including current maturities, was $4,857.5 million; the company reported $4,043.0 million of long-term debt and $689.6 million of current debt. It was in compliance with debt covenants. Only $4.0 million remained available under the revolving facility, subject to conditions.
Current assets were $4,032.3 million and current liabilities were $1,736.1 million. Inventory was $1,251.9 million, compared with $1,232.4 million at December 31, 2019. The filing reports cash flows from operations, investing and financing, but does not present a separate free-cash-flow measure.
Material changes versus the prior-year quarter
- Revenue fell $108.7 million, or approximately 8%; shipped units declined about 6%, to 15.4 billion.
- PSG revenue declined 11% to $623.9 million, ASG declined 5% to $467.1 million, and ISG declined 1% to $186.9 million.
- Gross profit declined approximately 22%, and gross margin fell 5.5 percentage points. Management attributed the decline to lower volume, lower average selling prices, reduced factory utilization and under-absorbed fixed overhead. Approximately $20.0 million of overhead charges were recorded directly in cost of revenue, primarily due to COVID-19.
- Operating expenses increased to $384.1 million from $334.3 million, including $32.8 million of restructuring, impairment and other charges versus $5.6 million. Research and development rose 13%, primarily reflecting Quantenna-related headcount; acquisition-related amortization also increased.
- Interest expense rose to $42.5 million from $31.7 million, reflecting additional debt associated with Quantenna and the March credit-facility draw.
- Operating cash flow increased $27.8 million, which management primarily attributed to non-payment of variable compensation, partly offset by lower earnings and working-capital changes.
Outlook, management commentary and risks
- COVID-19 uncertainty: The company cited weaker demand, supply and logistics constraints, reduced capacity or temporary shutdowns at facilities in China, Malaysia and the Philippines, and restricted access to manufacturing sites. Management said the duration and ultimate financial effects were unclear, and demand could remain significantly affected in the short term.
- Liquidity and spending: Management believed available cash and operating cash flow would fund operations, debt service and capital needs for at least 12 months, while noting liquidity could be adversely affected if results differ from projections. The company expected 2020 capital expenditures of approximately 8%–9% of annual revenue, taking COVID-19 developments into account; minimum contractual capital expenditure commitments were approximately $46.4 million for the remainder of 2020.
- Debt and refinancing: The March 24 precautionary draw left substantially all revolving capacity borrowed. The $690.0 million 1.00% convertible notes mature December 1, 2020, and holders may submit them for conversion on or after September 1, 2020. Management expected interest expense to remain significant. A 50-basis-point rate increase was estimated to raise annual interest expense by approximately $8.2 million, after interest-rate swap effects.
- Restructuring: Q1 charges included $27.5 million for a voluntary separation program covering 243 approved employees and $3.4 million for other workforce reductions. For Q2, the company expected to notify approximately 215 additional employees of termination, with estimated severance costs of approximately $15.0 million.
- Tax item: The company was considering repatriating economic rights to intellectual property to the U.S. in the second half of 2020 and expected a one-time discrete tax benefit of $50 million–$100 million, with no effect on cash taxes. This was an expectation, not a reported Q1 benefit.
- Other risks and contingencies: Risks include semiconductor cyclicality, pricing pressure, supply-chain and facility disruptions, customer demand and inventory changes, currency and interest-rate exposures, substantial leverage, and acquisition integration. AcBel litigation was remanded for a new trial scheduled for July 2020; the company said it would vigorously defend the matter. It reported no other pending or threatened legal matter it believed could reasonably be expected to materially adversely affect its financial condition, results or liquidity.
Important facts for investors to verify
- Subsequent-quarter revenue, utilization, margins and cash generation as COVID-19 effects and supply constraints evolve.
- Use of the revolver proceeds, repayment or refinancing of the 2020 convertible notes, and remaining liquidity after the near-full facility draw.
- Whether planned cost reductions and the additional Q2 severance costs achieve expected savings without disrupting production or R&D.
- Actual timing and accounting treatment of the proposed intellectual-property repatriation and estimated tax benefit.
- Developments in the AcBel litigation and any change in the company’s assessment of legal or product-liability exposures.