Seagate Technology plc — Q2 FY2018 Form 10-Q
Reporting period: Fiscal quarter and six months ended December 29, 2017. The quarter comprised 13 weeks. Unless stated otherwise, amounts are in U.S. dollars.
Business context and reporting period
Seagate supplies data-storage products and solutions, principally hard disk drives (HDDs), alongside SSDs, hybrid drives, storage subsystems and cloud storage systems. In the quarter, it shipped 88 exabytes of HDD capacity. Revenue came primarily through OEMs (67%); Asia Pacific represented 55% of revenue.
Financial performance and position
| Metric | Q2 FY2018 | Comparable period |
|---|---|---|
| Revenue | $2.914 billion | $2.894 billion Q2 FY2017; $2.632 billion prior quarter |
| Gross margin | $877 million; 30% | $891 million; 31% Q2 FY2017; 28% prior quarter |
| Operating income | $433 million; 15% of revenue | $370 million Q2 FY2017; $255 million prior quarter |
| Net income / diluted EPS | $159 million / $0.55 | $297 million / $1.00 Q2 FY2017; $181 million net income prior quarter |
| Interest expense | $61 million | $50 million Q2 FY2017 |
For the six months, revenue was $5.546 billion versus $5.691 billion a year earlier; net income was $340 million versus $464 million. Diluted EPS was $1.17 versus $1.55. Six-month operating income increased to $688 million from $592 million.
- Cash flow: Six-month operating cash flow was $1.087 billion, down from $1.247 billion. Investing used $210 million, including $201 million in capital expenditures; financing used $865 million, including dividends, share repurchases and debt repayments. Cash and cash equivalents were $2.556 billion at period-end. Management reported quarterly operating cash flow of $850 million.
- Liquidity: Current assets were $4.910 billion and current liabilities $3.113 billion. Seagate reported a $700 million revolving facility with no borrowings or letters of credit drawn, and stated it expected to meet cash needs for the next 12 months.
- Debt: Debt carrying amount was $4.876 billion net of issuance costs, including $560 million classified as current; scheduled principal totaled $4.923 billion. Seagate repurchased $150 million principal amount of its 2018 notes during the six months and recorded a $2 million loss on debt repurchases.
- Capital returns: The company paid $366 million in dividends and spent $361 million repurchasing ordinary shares during the six months. It declared a $0.63-per-share dividend in January 2018; $888 million remained under its share repurchase authorization at December 29.
Material changes versus comparable periods
- Quarterly revenue rose modestly year over year and increased sequentially, as higher HDD capacity shipments and demand—including seasonal consumer demand and high-capacity products—more than offset price erosion. Six-month revenue declined year over year, primarily due to price erosion.
- Quarterly gross margin improved sequentially by 2 percentage points, helped by product mix and factory utilization, but was 1 percentage point lower year over year as price erosion outweighed mix and cost savings.
- Operating expenses excluding cost of revenue were $444 million in the quarter, down from $521 million a year earlier. Management attributed lower development and administrative costs to prior workforce restructuring and operational efficiencies.
- Quarterly net income fell year over year despite higher operating income, principally because the tax provision increased sharply following U.S. tax-law changes.
- Cash and cash equivalents were broadly stable versus June 30, 2017 ($2.556 billion versus $2.539 billion), while total liabilities declined to $7.689 billion from $7.904 billion. Equity decreased to $1.061 billion from $1.364 billion.
Outlook, commentary, risks and unusual items
- Tax-law impact: The quarter’s tax provision was $212 million, including approximately $197 million of net discrete tax expense. A provisional $208 million charge remeasured U.S. deferred tax assets after the enacted U.S. corporate tax-rate reduction; the reported quarterly effective tax rate was approximately 56%. Management said its assessment remained preliminary.
- Outlook: Seagate expected FY2018 capital expenditures to be less than 5% of revenue and said it expected to remain in compliance with credit-facility covenants over the next 12 months. No specific revenue or earnings guidance is provided in the supplied filing text.
- Restructuring: A December 2017 plan targeted approximately 500 job reductions and was expected to be substantially complete by FY2018 year-end. A July 2017 plan targeted approximately 600 reductions; earlier plans included larger workforce and footprint actions. Six-month restructuring charges were $84 million; $19 million of further charges were expected.
- Commitment: Under an equity commitment letter tied to the proposed Toshiba Memory acquisition, Seagate could invest up to approximately $1.24 billion in preferred equity, subject to closing conditions and regulatory approvals.
- Contingencies and risks: The filing discusses patent litigation, including Convolve and MIT, Enova, and Lambeth; Seagate said it could not reasonably estimate possible loss ranges for these matters. Environmental cleanup costs were not expected to be material based on current estimates. Principal business risks include demand and pricing variability, competition and technology shifts, production and supply-chain disruption, restructuring execution, currency and interest-rate movements, cyber incidents, regulatory compliance and debt-covenant requirements.
- Accounting and controls: Seagate planned to adopt the new revenue standard in FY2019 using the modified retrospective method; it expected no material financial-statement impact. Management concluded disclosure controls were effective at December 29, 2017, with no material change in internal control over financial reporting during the quarter.
Important facts for investors to verify
- How much of reported earnings and the tax rate reflects the provisional Tax Cuts and Jobs Act charge, and whether subsequent tax assessments change it.
- Whether demand, pricing and high-capacity HDD mix support gross margins amid continuing price erosion.
- Progress and realized savings from the restructuring plans, alongside remaining charges and execution risks.
- Debt maturities and refinancing or repayment plans for the $560 million of 2018 notes classified as current.
- Whether the Toshiba Memory-related commitment proceeds, and its final size, terms and funding implications.
- Developments in the disclosed litigation and any changes to potential exposure or contingencies.