Business context and reporting period
CommScope Holding Company, Inc. (NASDAQ: COMM) filed this unaudited Form 10-Q for the quarter and nine months ended September 30, 2019. The filing identifies CommScope—not Vistance Networks, Inc.—as the registrant. CommScope provides wired and wireless communications-network infrastructure. Results include ARRIS from its April 4, 2019 acquisition, so comparisons with 2018 are not like-for-like.
The all-cash ARRIS transaction had a stated purchase price of approximately $7.7 billion, including debt assumed. The acquisition expanded reporting to five segments: Connectivity, Mobility, CPE, Network & Cloud (N&C), and Ruckus.
Financial performance and position
| Metric | Three months ended September 30 | Nine months ended September 30 |
|---|---|---|
| Net sales | $2,380.2 million vs. $1,150.4 million in 2018 | $6,046.4 million vs. $3,510.8 million in 2018 |
| Gross profit and margin | $609.9 million; 25.6% vs. $409.7 million; 35.6% | $1,667.9 million; 27.6% vs. $1,264.7 million; 36.0% |
| Operating income (loss) | $(50.8) million vs. $132.2 million | $(169.2) million vs. $400.6 million |
| Net income (loss) | $(156.5) million; diluted EPS $(0.88), vs. $63.8 million; $0.33 | $(492.8) million; diluted EPS $(2.70), vs. $163.5 million; $0.84 |
| Adjusted EBITDA (non-GAAP) | $369.8 million; 15.5% of sales vs. $237.8 million; 20.7% | $973.8 million; 16.1% of sales vs. $717.0 million; 20.4% |
ARRIS contributed $1.3 billion of third-quarter sales and $2.7 billion year-to-date, and reported operating losses of approximately $0.1 billion and $0.5 billion, respectively. Excluding the acquisition-related inventory fair-value charge, company gross margin was 30.2% for the quarter and 32.1% year to date. Adjusted EBITDA is a company-defined non-GAAP measure and excludes specified costs.
For the first nine months, operating cash flow was $260.4 million, down from $361.9 million; investing cash outflow was $5,125.1 million, including $5,053.4 million for current-year acquisitions, net of acquired cash. Financing generated $5,019.7 million. Capital expenditures were $72.3 million. Cash was $609.1 million at September 30.
Debt principal was $10.3 billion ($10.1 billion carrying value, including current debt); the weighted-average effective borrowing rate was 6.18%. The company also had $1.0 billion of Series A convertible preferred stock. Revolving-credit availability was $881.7 million, with no outstanding borrowings. Working capital was $1,762.0 million; excluding cash and current debt, it was $1,185.0 million. Total liabilities were $12,962.7 million.
Material changes versus prior periods
- Reported sales more than doubled in the quarter and rose 72.2% year to date, principally because ARRIS was included from April 4. Excluding ARRIS, management said sales declined, citing lower volumes, pricing pressure, foreign-exchange effects, reduced cable-operator spending, and prior-year projects that did not recur.
- Gross margin fell materially. Acquisition accounting added $108.7 million of costs in the quarter and $272.9 million year to date, mainly from inventory fair-value step-ups. Legacy-business performance also reflected weaker sales and a patent settlement.
- Interest expense increased to $160.7 million for the quarter and $423.5 million year to date, reflecting acquisition financing. Year-to-date transaction and integration costs were $189.8 million.
- Debt rose substantially to fund the acquisition. The company issued new notes, borrowed $3.2 billion under a 2026 term loan, and issued $1.0 billion of preferred stock; it also repaid ARRIS debt and existing term-loan balances.
- Cash from operations declined despite ARRIS, reflecting higher interest, acquisition transaction and integration payments, and restructuring payments. Receivables and inventory also increased.
Outlook, risks, contingencies, and unusual items
- Management expected near-term Connectivity and Mobility sales to decline modestly; CPE sales to be flat or decline; N&C sales to remain relatively flat, with better performance expected in 2020; and Ruckus sales to be flat. Management cited cautious cable-operator spending and network-architecture transitions, PayTV subscriber declines, pricing pressure, and uncertain economic conditions.
- ARRIS integration and restructuring remain significant execution risks. Management said further ARRIS restructuring actions were expected and related charges and cash needs could be material. It also reported post-acquisition cable-customer spending declines and departures of key ARRIS leaders.
- No goodwill impairment was recorded through September 30, but management warned that ARRIS reporting-unit goodwill could be impaired if forecasts are not achieved. A spending recovery beginning in 2020 was a key valuation assumption, and fourth-quarter planning could indicate a material impairment.
- The company agreed to a $55.0 million settlement of Fractus patent litigation on October 9, 2019, without admitting liability. The amount was accrued at September 30 and recorded in cost of sales; payments of $30.0 million and $25.0 million were due in January and June 2020.
- Preferred stock carries a cumulative 5.5% annual dividend, subject to a higher rate if unpaid, and is convertible into common shares at an initial $27.50 conversion price. Debt agreements impose restrictive covenants; the company reported compliance at quarter-end. Management believed cash, operating cash flow, and revolver availability would meet anticipated needs.
- Risks include substantial indebtedness and debt service, acquisition integration and goodwill valuation, customer spending and concentration, pricing and competition, supplier dependence, product quality, foreign exchange, and litigation. Comcast represented 15% of quarterly and 10% of year-to-date sales.
Important facts for investors to verify
- Confirm the requested issuer: the supplied filing is for CommScope Holding Company, Inc., not Vistance Networks, Inc.
- Assess acquisition-adjusted operating performance, particularly the gap between GAAP losses and non-GAAP adjusted EBITDA and the recurring nature of excluded costs.
- Track ARRIS segment sales, margins, cable-operator spending, integration savings, restructuring cash requirements, and the 2020 recovery assumptions underpinning goodwill valuations.
- Review debt-service capacity, floating-rate exposure, refinancing needs, covenant headroom, and the preferred-stock dividend and potential dilution.
- Monitor working-capital conversion, including slower collections and elevated inventory, as well as the timing of the Fractus settlement payments.