inTEST Corporation — Q3 2018 Form 10-Q
Reporting period: Three and nine months ended September 30, 2018. Amounts are in U.S. dollars; financial statement amounts are in thousands unless stated otherwise. inTEST designs and sells thermal management and semiconductor test-interface products, as well as induction-heating systems. Its reportable segments are Thermal and Electromechanical Semiconductor Products (EMS). Ambrell, acquired in May 2017, is included in Thermal.
Financial performance and position
| Metric | Q3 2018 | Q3 2017 | Nine months 2018 | Nine months 2017 |
|---|---|---|---|---|
| Net revenue | $20.16m | $17.35m | $60.13m | $47.42m |
| Gross margin | $10.09m (50%) | $8.80m (51%) | $30.40m (51%) | $24.95m (53%) |
| Operating income | $0.22m | $2.74m | $5.64m | $8.15m |
| Net earnings (loss) | $(0.57)m | $2.02m | $3.83m | $5.54m |
| Diluted EPS | $(0.05) | $0.19 | $0.37 | $0.54 |
- Revenue drivers: Q3 revenue rose 16%; nine-month revenue rose 27%. Ambrell contributed $6.8m of Q3 revenue and $19.5m for the nine months. Excluding Ambrell, management said revenue increased 7% in Q3 and was essentially flat for the nine-month period.
- Profit and unusual item: Q3 included a $3.1m noncash increase in the Ambrell contingent-consideration liability, recorded as operating expense. The increase reflected higher projected 2018 Ambrell adjusted EBITDA and contributed to the quarterly loss. The nine-month charge was $4.1m. This liability is estimated using Level 3 inputs and is not tax deductible. Q3 income tax expense was $0.73m despite pretax income of $0.16m, resulting in a reported effective tax rate of 449%.
- Cash flow: Nine-month cash from operations was $7.22m, versus $5.19m in 2017. Investing used $2.13m, primarily for property and equipment, including Ambrell facility improvements. Financing used $4.12m, including the acquisition earnout payment. Cash increased $0.91m to $14.20m.
- Liquidity and obligations: Working capital was $13.87m, down from $16.58m at year-end 2017. Current assets were $33.46m and current liabilities $19.58m. The company reported no borrowing facilities or debt balance; it had $0.18m of restricted certificates of deposit securing lease letters of credit. The current Ambrell earnout payable was $9.34m at September 30, 2018.
Material changes and operating trends
- Thermal revenue increased 27% in Q3 and 47% over nine months; EMS revenue declined 6% and 4%, respectively. Q3 semiconductor-market revenue increased 25%, while non-semiconductor-market revenue increased 7%.
- Orders totaled $19.99m in Q3, up 13% year over year; nine-month orders were $59.85m, up 27%. Excluding Ambrell, management reported orders increased 18% in Q3 and 5% for the nine months.
- Backlog was approximately $13.4m at September 30, compared with $11.3m a year earlier and $13.6m at June 30; $5.5m was attributable to Ambrell. The company expected substantially all backlog orders to ship in 2018, but noted that orders may be canceled or rescheduled.
- Gross margin declined year over year, which management attributed primarily to higher component costs, product/customer mix, and fixed operating costs. Nine-month fixed costs also reflected a full period of Ambrell operations.
Outlook, risks and other disclosures
- No specific revenue or earnings guidance was provided. Management expected future orders and revenue to be approximately evenly split between semiconductor and non-semiconductor markets, while cautioning that non-semiconductor demand can vary significantly.
- Management said cash and projected cash flow were expected to support short-term working-capital needs, the 2018 earnout, and other corporate requirements. The company had no credit facility and said a significant acquisition could require additional financing.
- Key risks include semiconductor and ATE market cyclicality and seasonality, customer-specific demand shifts, pricing pressure, reliance on a limited number of customers, inventory obsolescence, and uncertainty in acquisition integration and contingent-consideration estimates. Texas Instruments represented 11% of nine-month revenue.
- The company expected adoption of lease accounting guidance effective January 1, 2019 to significantly increase reported balance-sheet assets and liabilities for multi-year leases. Revenue-recognition guidance adopted in 2018 had no material effect.
- Management reported disclosure controls were effective at the reasonable-assurance level; no material changes in internal control were reported. No material legal proceedings or changes to previously disclosed risk factors were reported.
Investor verification priorities
- Review the assumptions and sensitivity behind the $9.34m Ambrell earnout estimate and the potential final 2018 payment, including its effect on reported operating results.
- Assess underlying performance excluding Ambrell, particularly flat nine-month revenue and the divergent Thermal and EMS trends.
- Monitor inventory growth to $7.10m from $4.97m at year-end, gross-margin pressure, and working-capital movement.
- Check whether backlog converts to revenue as expected and whether orders and demand remain resilient given semiconductor cyclicality and customer concentration.
- Evaluate the expected balance-sheet impact of lease accounting adoption and the company’s liquidity without a borrowing facility.