Knowles Corporation — FY 2018 Form 10-K
Reporting period: Fiscal year ended December 31, 2018. This is an annual filing; it includes quarterly data but is not a standalone Q4 report. Unless noted, financial results are from continuing operations.
Business context
Knowles develops and manufactures audio components and precision devices. Its Audio segment supplies MEMS microphones, audio processing products and hearing-health components; Precision Devices (PD) supplies capacitors and related products to industrial, defense, aerospace, medical, telecom and automotive markets. Audio generated 83% of FY 2018 revenue. Apple represented 19% of company revenue; MEMS microphones represented approximately 60%.
Financial performance and liquidity
| Metric | FY 2018 | FY 2017 |
|---|---|---|
| Revenue | $826.9m | $744.2m |
| Gross profit / margin | $322.6m / 39.0% | $286.0m / 38.4% |
| Operating earnings | $77.8m | $39.9m |
| EBIT from continuing operations | $77.1m | $40.0m |
| Earnings from continuing operations | $65.6m | $6.5m |
| Net earnings | $67.7m | $68.3m |
| Diluted EPS, continuing operations | $0.72 | $0.07 |
| Cash from operations | $98.5m | $92.9m |
| Capital expenditures | $80.1m | $51.6m |
| Free cash flow | $18.4m | $41.3m |
FY 2018 adjusted EBIT was $117.2m versus $110.6m; adjusted diluted EPS was $1.01 versus $0.88. These are company-defined non-GAAP measures and exclude specified items.
- Segments: Audio revenue rose 7.0% to $682.2m; segment EBIT was $105.7m, up from $76.1m. PD revenue increased 35.5% to $144.7m; segment EBIT was $27.5m, up from $19.2m. PD growth reflected shipments and Compex, acquired in January 2018.
- Cash and liquidity: Cash and cash equivalents were $73.5m at year-end, down from $111.7m. Current assets were $365.0m and current liabilities $141.8m. Free cash flow declined as capital spending increased to expand manufacturing capacity.
- Debt: Balance-sheet long-term debt was $158.1m, including $149.1m carrying value of $172.5m face-value 3.25% convertible notes due November 2021 and $9.0m drawn on the $400m revolving facility. The company reported compliance with debt covenants at year-end and expected to remain compliant over the following 12 months.
Material changes and unusual items
- Revenue increased 11.1%, driven by higher MEMS microphone shipments to Chinese and North American OEMs, intelligent audio and hearing-health shipments, and PD capacitor demand. Mature-product price erosion, lower royalties after a 2017 settlement, and reduced shipments to a key Korean OEM partly offset growth.
- GAAP continuing-operations earnings rose substantially, while total net earnings were slightly lower. FY 2017 continuing results were burdened by a 66.5% effective tax provision; FY 2018 included a 7.4% tax benefit. An IRS entity-classification approval led to a $17.8m reduction in transition tax liability and release of a $36.0m uncertain tax position.
- FY 2018 discontinued-operations earnings were $2.1m, versus $61.8m in 2017, which included a gain on sale of the Timing Device Business. Thus, headline net earnings do not reflect the same trend as continuing-operations earnings.
- No long-lived asset impairment was recorded in 2018; 2017 included $21.3m of impairment charges. Restructuring charges were $2.1m in 2018 versus $10.2m in 2017.
- Compex contributed $12.6m of revenue and $3.4m of pretax earnings from acquisition through year-end. Knowles acquired DITF Interconnect Technology for $11.1m on January 3, 2019.
Outlook, commentary and risks
- Management forecast 2019 capital expenditures of 6%–8% of revenue, primarily supporting capacity, product launches and manufacturing optimization. The filing provides no revenue or earnings guidance.
- Management cited voice-enabled mobile, ear and IoT products as growth opportunities, alongside hearing-health demand and PD end markets. It also expects seasonally stronger third- and fourth-quarter revenue, particularly in consumer electronics.
- Key risks include mobile handset cyclicality and rapid price erosion; customer and product concentration; reliance on MEMS microphones; competition and product-launch execution; specialized supplier disruptions; and exposure to Asian manufacturing, China demand, trade tensions and tariffs.
- Further risks include currency movements, commodity costs, debt covenant compliance, tax uncertainty and potential impairment of substantial goodwill and intangible assets. Management said legal proceedings were not expected to have a material adverse effect. The auditor issued an unqualified opinion and reported effective internal control over financial reporting.
Investor facts to verify
- Whether Audio can sustain shipment growth and offset mature-product pricing pressure, particularly with Apple and other concentrated customers.
- Whether PD growth and Compex integration continue to improve results, and how much growth is acquisition-related.
- Whether elevated capital spending generates returns and free cash flow recovers from $18.4m.
- The durability of the favorable FY 2018 tax outcome, including the Malaysian tax holidays through 2021 and any effects of subsequent tax regulations.
- Debt refinancing or conversion plans ahead of the convertible notes’ November 2021 maturity and the related credit-facility maturity provisions.