Universal Electronics Inc. — Q3 2019 Form 10-Q
Reporting period: Three and nine months ended September 30, 2019. Financial statements are unaudited. The company develops and manufactures universal control, sensing, AV accessory, home automation and security products, and licenses related technology. It reports one business segment.
Financial performance
| Metric | Q3 2019 | Q3 2018 | Nine months 2019 | Nine months 2018 |
|---|---|---|---|---|
| Net sales | $200.7 million | $182.7 million | $578.8 million | $509.9 million |
| Gross profit / margin | $46.5 million / 23.2% | $40.3 million / 22.1% | $120.3 million / 20.8% | $104.3 million / 20.4% |
| Operating income (loss) | $6.1 million | $4.7 million | $3.9 million | $(4.2) million |
| Net income (loss) | $2.7 million | $1.0 million | $(3.4) million | $23.0 million |
| Diluted EPS | $0.19 | $0.07 | $(0.25) | $1.63 |
- Q3 sales grew 9.9%; management attributed growth mainly to higher-end platform launches at existing subscription-broadcast customers, a newly acquired customer and continued home-automation strength. Nine-month sales increased 13.5%.
- Q3 operating expenses were $40.4 million, or 20.2% of sales, versus 19.5% a year earlier. R&D rose to $7.9 million from $5.6 million, primarily reflecting product-development investment; SG&A rose to $32.4 million from $30.0 million.
- Nine-month 2019 results compare with a prior-year period that included a $37.0 million pretax gain from the Guangzhou factory sale. Excluding that unusual gain from the comparison, the reported year-over-year decline in net income is less indicative of underlying operating performance.
- Q3 net interest expense was $0.8 million, down from $1.2 million. Nine-month other expense was $0.4 million, compared with $4.0 million in 2018, principally reflecting lower foreign-exchange losses.
Cash, debt and liquidity
- Cash and cash equivalents were $54.7 million at September 30, 2019, compared with $53.2 million at December 31, 2018. Working capital was $102.9 million.
- For the first nine months, operating cash flow was $39.9 million, versus cash used of $4.6 million in 2018. Investing activities used $17.4 million, including $15.9 million of capital expenditures; financing activities used $19.1 million. Net cash increased $1.5 million.
- Outstanding borrowings on the $125 million revolving credit line were $88.0 million; available borrowing resources were $34.3 million, after accounting for letters of credit. The line expires November 1, 2020, bears a 3.55% rate at period-end, is secured by specified company assets and subsidiary equity, and has financial covenants. The company reported compliance with the covenants.
- Cash is distributed internationally, with $7.2 million held in the U.S. and most of the balance abroad; some foreign cash is subject to repatriation taxes or local restrictions. Management said cash, expected operating cash flow and available borrowing capacity should cover expected outlays for the next 12 months, while noting cash-transfer constraints may require borrowing.
- Operating lease liabilities totaled $20.1 million following adoption of the lease accounting standard in 2019. The adoption created lease right-of-use assets and liabilities but did not affect earnings, cash flows or debt covenants.
Changes, outlook and risks
- Gross margin improved year over year, helped by product mix, increased royalty revenue, lower raw-material costs and favorable currency movements. Higher U.S. tariffs on China-made imports and costs from shifting U.S.-bound production to Mexico partly offset those benefits. Management expected the transition to be substantially completed in 2019 and said tariffs and transition inefficiencies would continue to pressure margins until then.
- There is no numerical revenue or earnings guidance in the provided filing text. Management’s 2019 objectives include developing advanced remote-control products, broadening home-control and automation offerings, expanding international penetration, increasing customer share and pursuing complementary acquisitions or partners.
- Income tax expense was $3.7 million for the nine months. U.S. losses did not generate tax benefits because of a full valuation allowance on U.S. and state deferred tax assets; the provision also reflected a deferred-tax remeasurement following approval of a Chinese High Technology Exemption.
- Inventory-related charges warrant attention: the excess-and-obsolete inventory reserve rose to $9.5 million from $5.1 million at year-end, and the company separately reported $3.8 million of production scrap and manufacturing inefficiencies for the nine months, versus $1.1 million in 2018.
- Customer concentration remains a risk: Comcast generated 15.2% of Q3 sales and 15.7% of nine-month sales. Ring represented 10.5% of Q3 sales. Management also identified customer rollout delays, competition, tariff and international-policy changes, manufacturing relocation execution, component availability, foreign exchange and litigation as risks.
- Patent disputes with Ruwido/FM Marketing remain pending in European proceedings; an appellate court ruled for the company on one design-right claim, while other claims and appeals remain unresolved. Roku challenged nine company patents through U.S. inter partes review requests, and the underlying lawsuit was stayed pending those proceedings. Management said it could not estimate potential losses and believed the matters would not materially affect consolidated financial condition, results or cash flows.
- Foreign exchange exposure is significant: management estimated that a 10% move in specified currencies against the U.S. dollar would change Q3 net income by approximately $9.1 million. A 100-basis-point interest-rate increase was estimated to affect annual net income by approximately $0.7 million.
Important facts for investors to verify
- Whether sales growth and margin improvement persist after the Mexico manufacturing transition and as tariff costs evolve.
- Whether inventory reserves, production scrap and manufacturing inefficiencies stabilize or continue to weigh on margins and cash conversion.
- Customer concentration, particularly Comcast exposure, and the timing and scale of customer product launches.
- Credit-line renewal or replacement before its November 2020 expiration, covenant headroom and the availability of overseas cash.
- Developments in the Ruwido and Roku patent matters, and any resulting financial or commercial impact.
- The effect of the U.S. tax valuation allowance and foreign tax provisions on future reported earnings and effective tax rates.