GSI Technology, Inc. — Q3 FY2014 Form 10-Q
Reporting period: Quarter and nine months ended December 31, 2013. The company designs and sells SRAM and low-latency DRAM, primarily for networking and telecommunications equipment. Amounts below are in U.S. dollars; financial statement figures are in millions unless stated otherwise.
Financial performance
| Metric | Quarter ended Dec. 31, 2013 | Prior-year quarter | Nine months ended Dec. 31, 2013 | Prior-year nine months |
|---|---|---|---|---|
| Revenue | $13.8 | $17.5 | $45.7 | $50.3 |
| Gross profit / margin | $5.4 / 39.0% | $7.3 / 41.9% | $20.2 / 44.2% | $21.3 / 42.4% |
| Operating income (loss) | $(1.9) | $0.6 | $(2.2) | $3.0 |
| Net income (loss) | $(0.7) | $0.8 | $(0.8) | $2.9 |
| Diluted EPS | $(0.03) | $0.03 | $(0.03) | $0.10 |
- Quarterly revenue fell 21.3%; nine-month revenue fell 9.1%. Management attributed the weakness to soft networking and telecom markets and lower Cisco sales. Cisco represented about 19% of nine-month revenue; its direct and indirect sales fell $6.6 million year over year for the nine-month period.
- Quarterly gross margin declined 2.9 percentage points, including a 6.2-point adverse effect from the quarter’s inventory write-down. Nine-month gross margin rose 1.8 points despite inventory charges, reflecting product mix and lower variable manufacturing costs.
- Quarterly SG&A rose to $4.5 million, primarily from higher litigation costs. Nine-month SG&A increased 40.1% to $13.7 million, including a $4.1 million increase in legal fees. R&D was $2.8 million for the quarter and $8.7 million for nine months.
- Income tax benefits were $1.1 million for the quarter and $1.2 million for nine months. The company recorded a $371,000 valuation allowance for California R&D credit carryovers not expected to be used.
Cash, liquidity and balance sheet
- Cash and cash equivalents were $42.0 million and short-term investments were $32.8 million at December 31, 2013, or $74.8 million combined, versus $67.3 million at March 31, 2013. Including $34.2 million of long-term investments, cash and investments totaled about $109.0 million.
- Operating cash flow was $6.7 million for the nine months, compared with $9.2 million a year earlier. Investing activities used $6.3 million; financing activities provided $0.4 million. Cash increased $0.9 million to $42.0 million.
- The company reported no debt. Total liabilities were $11.3 million and stockholders’ equity was $133.5 million. Management said existing liquidity and expected operating cash flow should cover working capital and capital expenditures for at least 12 months.
- Nine-month share repurchases were $2.5 million. The company repurchased 383,477 shares during the quarter at an average $6.61 per share; approximately $13.4 million remained available under the program at quarter-end.
Material developments, outlook and risks
- Inventory write-downs were $1.1 million for the quarter and $1.6 million for the nine months, reflecting weaker-than-expected demand. The company said earlier expectations of demand improvement after a favorable ITC ruling and a competitor’s market exit did not materialize.
- Management expects average selling prices of individual products to decline over time, but anticipates overall average selling prices may rise over the next several quarters as product mix shifts toward higher-priced, higher-density products. It expects R&D spending to increase and litigation expenses to remain substantial and fluctuate, potentially over the next one to two years. No specific revenue or earnings guidance was provided.
- The ITC ruled in GSI’s favor in June 2013 on Cypress patent claims; Cypress did not appeal. Separate consolidated patent litigation in California remains ongoing, as does GSI’s antitrust lawsuit against Cypress. GSI has not accrued a loss because the outcome and potential amount could not be estimated. An adverse patent outcome could result in damages, an injunction or royalties.
- Disclosure controls were deemed ineffective due to a material weakness in inventory-reserve review and calculation. Auditors identified an additional $985,000 inventory adjustment, increasing cost of sales for the quarter and nine months. Management described remediation efforts, but the weakness was not yet stated to be remediated.
- Key business risks include cyclical end markets, reliance on Cisco and distributors, order volatility, customer and product concentration, and dependence on external foundries and assembly suppliers, including TSMC and Powerchip. The filing states that risk factors had no material changes from the prior annual report.
Important facts for investors to verify
- Whether revenue and demand recover, particularly Cisco purchases and customers’ SRAM sourcing decisions after the ITC ruling.
- Whether inventory levels and reserves reflect current demand, and whether the material weakness is fully remediated.
- Future legal costs and developments in the Cypress patent and antitrust cases, including any change in the company’s ability to estimate exposure.
- Gross-margin trends, product mix, pricing pressure and the sustainability of operating cash flow.
- Liquidity needs and supplier capacity or continuity, especially given reliance on external manufacturing partners.