Pixelworks, Inc. — Form 10-Q Summary
Reporting period: Three and nine months ended September 30, 2013; filed November 8, 2013. The interim financial statements are unaudited. Pixelworks designs and licenses video and pixel-processing semiconductors, intellectual property and software for digital display applications. The company reported 21.97 million common shares outstanding as of October 31, 2013.
Financial Results and Position
| Metric | Q3 2013 | Q3 2012 | 9M 2013 | 9M 2012 |
|---|---|---|---|---|
| Revenue | $15.3 million | $16.3 million | $33.1 million | $46.1 million |
| Gross profit | $9.3 million | $7.8 million | $17.9 million | $23.3 million |
| Gross margin | 61% | 48% | 54% | 50% |
| Operating income (loss) | $1.8 million | $(0.5) million | $(8.4) million | $(2.6) million |
| Net income (loss) | $1.5 million | $(0.4) million | $(8.8) million | $(2.1) million |
| Diluted EPS | $0.07 | $(0.02) | $(0.46) | $(0.12) |
- Revenue mix: Q3 IC product revenue was $10.5 million versus $15.7 million in the prior-year quarter; licensing revenue was $4.8 million versus $0.6 million. For nine months, IC product revenue was $28.3 million versus $41.1 million, while licensing revenue was $4.8 million versus $5.0 million.
- Operating expenses: Q3 research and development expense declined 10% to $4.2 million, while nine-month R&D increased 11% to $16.1 million. Selling, general and administrative expense declined 7% in Q3 and 11% for the nine-month period.
- Cash flow: Nine-month operating cash flow was $1.8 million, compared with $2.8 million in the prior-year period. Investing cash use was $2.0 million, including $1.4 million of property and equipment purchases and $0.6 million of other asset purchases.
- Liquidity: Cash and cash equivalents increased to $21.5 million from $13.4 million at December 31, 2012. Approximately $21.1 million was held in money market funds.
- Debt and credit: Pixelworks reported no outstanding borrowings under its revolving line and stated that it had no short- or long-term debt. The secured revolving facility provides availability up to the lesser of $10.0 million or $1.0 million plus 80% of eligible receivables, subject to terms and covenants.
- Balance sheet: Total assets were $35.1 million and total liabilities were $17.5 million at September 30, 2013. Accounts receivable declined to $2.5 million and inventories to $2.3 million.
Material Changes Versus Prior Comparable Period
- Revenue declined 6% in Q3 and 28% for the first nine months, primarily because semiconductor units sold declined 37% and 35%, respectively. Management attributed the volume decline mainly to weaker digital-projector and advanced-television demand in the macroeconomic environment.
- Average selling price increased 6% in both comparison periods, partly because Ultra High Definition television products represented a larger share of units sold.
- Gross margin expanded materially because licensing revenue generally carries higher margins than IC product revenue. Nine-month margin also benefited from lower licensing-related costs and the absence of a prior-year discontinued-product charge.
- Q3 profitability improved to operating income of $1.8 million and net income of $1.5 million, but the company remained unprofitable for the first nine months.
- Pixelworks completed an underwritten offering of approximately 3.025 million shares at $3.50 per share on August 21, 2013, generating approximately $9.6 million of net proceeds and diluting existing shareholders.
- Customer and distributor concentration remained significant. Distributors represented 53% of Q3 revenue and 67% of nine-month revenue; the top five end customers represented 65% and 56%, respectively.
Guidance, Outlook, Risks and Unusual Items
- Under a technology license and services agreement entered into during Q3, Pixelworks expects total receipts of approximately $10.3 million. It recognized $4.8 million of related licensing revenue through September 30 and expects approximately $5.5 million more upon achievement of additional milestones, most expected over the following six months.
- A remaining $1.75 million payment under a customer co-development agreement was payable upon completion of a development milestone not yet reached at quarter-end. Management anticipated recognizing the related R&D expense offset in Q4 2013.
- Management stated that existing working capital and the revolving line should fund operating, investing and financing requirements for the next twelve months, but noted that additional financing or spending reductions may be required if conditions deteriorate.
- Key risks include declining end-market demand, reliance on a limited number of customers, distributors and overseas foundries, cancelable orders, rapid technological change, product defects and warranty costs, foreign currency exposure, Asian operating and geopolitical risks, and volatility in licensing revenue and milestone achievement.
- The company has substantial historical net operating losses and maintains a full valuation allowance against essentially all U.S. net deferred tax assets. Uncertain tax positions were $1.8 million at September 30, 2013; approximately $0.3 million of reductions were expected within twelve months from statute expirations.
- Legal proceedings and third-party intellectual-property indemnification matters were not expected by management to have a material adverse effect, although outcomes remain uncertain. No material off-balance-sheet arrangements were reported.
- Management concluded that disclosure controls and procedures were effective as of September 30, 2013, with no material changes to internal control over financial reporting during the quarter.
Investor Verification Points
- Verify whether expected licensing milestones totaling approximately $5.5 million were achieved and recognized after September 30, 2013.
- Assess the sustainability of Q3 profitability given the substantial decline in IC unit volumes and the unusually important contribution from high-margin licensing revenue.
- Review customer and distributor concentration, including the 32% nine-month revenue contribution from the top distributor and 56% contribution from the top five end customers.
- Monitor cash consumption, nine-month operating losses, and the availability and covenant compliance of the revolving credit facility, which was scheduled to expire December 14, 2014.
- Evaluate dilution from the August 2013 equity offering and the company’s continuing need for potential future equity or debt financing.
- Review supplier concentration, Asian manufacturing exposure, inventory commitments, technology-transition risks and the company’s ability to maintain competitive products and design wins.