Harmonic Inc. — Q1 2013 Form 10-Q
Reporting period: Three months ended March 29, 2013; comparisons are with the three months ended March 30, 2012, unless otherwise noted. Dollar amounts below are in millions except per-share data.
Business context
Harmonic designs and sells video infrastructure products and provides support and professional services to cable, satellite, telecommunications, broadcast, media, and streaming customers. On March 5, 2013, it completed the sale of its cable access HFC business to Aurora Networks for $46.0 million in cash; that business is presented as discontinued operations. International sales were 58% of continuing-operations revenue, versus 52% a year earlier. The ten largest customers accounted for approximately 35% of revenue; no single customer exceeded 10% in the quarter.
Financial highlights
| Metric | Q1 2013 | Q1 2012 |
|---|---|---|
| Net revenue, continuing operations | $101.7 | $116.4 |
| Gross profit / gross margin | $46.2 / 45% | $50.5 / 43% |
| Operating loss | $(14.9) | $(9.9) |
| Loss from continuing operations | $(9.5) | $(8.7) |
| Net income (loss), including discontinued operations | $6.4 | $(7.5) |
| Basic and diluted net income (loss) per share | $0.06 | $(0.06) |
| Cash from (used in) operating activities | $(5.7) | $7.9 |
- Revenue declined 13%. Video processing revenue fell 19% and cable edge revenue fell 33%; production and playout increased 6%, and service and support increased 13%. Management attributed the overall decline mainly to weaker demand for video processing and cable edge products, especially in the United States.
- Gross profit fell 9%, although gross margin increased to 45% from 43%, reflecting product mix and lower revenue; the filing also reports lower amortization of intangibles in cost of revenue.
- Operating expenses were $61.0 million versus $60.3 million. R&D declined 6%, while SG&A rose 6%, including higher legal, compensation, commission, and marketing expenses. Continuing-operations results included $0.4 million of restructuring charges in operating expenses; additional restructuring costs were recorded in product cost of revenue.
- Net income included $15.9 million of income from discontinued operations, including a $15.0 million after-tax gain on the HFC sale. Continuing operations remained loss-making.
- Cash and cash equivalents were $118.5 million and short-term investments were $109.8 million at quarter-end, totaling $228.3 million. Current assets were $419.5 million and current liabilities were $96.7 million. Total liabilities were $159.1 million; the balance sheet reports no borrowings. A $10 million credit line was undrawn, and the company reported covenant compliance with a 4.97-to-1 ratio versus a 1.75-to-1 minimum.
- Cash increased by $21.8 million during the quarter, primarily reflecting $44.3 million of net proceeds from the business sale. Investing cash flow was $34.4 million, including $4.3 million of capital expenditures; financing cash flow was $(6.8) million, including $9.3 million of share repurchases.
Outlook, risks, and unusual items
- The filing provides no specific revenue or earnings guidance. Management said first-quarter revenue is typically seasonally lower and described continued softness in U.S. Pay-TV demand, weak European conditions, and customer caution around technology cycles. It expected international sales to remain a significant share of revenue and existing liquidity to meet contemplated requirements for at least 12 months.
- The HFC divestiture reduces future annual potential revenue by an estimated $50–$55 million and expenses by $45–$50 million, with a likely reduction in cash flow. The company continued transition services for Aurora and had $5.5 million of non-cancelable supplier commitments on Aurora’s behalf; Harmonic remains liable to vendors if Aurora fails to reimburse it.
- Other commitments include $19.7 million of non-cancelable supplier purchase commitments and $57.1 million of future operating lease payments. The filing also reports $0.4 million of standby letters of credit and $0.5 million of guarantees in Israel.
- Material disclosed legal matters include Avid patent-infringement claims concerning Media Grid and Spectrum products and a FastVDO patent claim involving H.264-related products. Outcomes were not predictable; adverse outcomes could result in damages, royalties, or restrictions on product sales.
- The company was under U.S. IRS audits for tax years 2008–2010 and an Israeli tax audit for 2007–2010. Unrecognized tax benefits, including interest and penalties, were approximately $60.8 million at quarter-end; adverse audit outcomes could materially affect tax expense and cash flow.
- Key risks include dependence on customer capital spending, competition and pricing pressure, customer concentration, international and foreign-exchange exposure, reliance on limited suppliers and contract manufacturers, product and standards transitions, and litigation. Management reported effective disclosure controls and no material change in internal control over financial reporting during the quarter.
- After quarter-end, Harmonic commenced a modified Dutch auction tender offer to repurchase up to $100 million of stock at $5.75–$6.25 per share; the existing repurchase program was suspended while the offer was outstanding. The company had repurchased approximately 1.6 million shares for $9.3 million during the quarter.
Important facts for investors to verify
- Whether continuing-operations revenue and operating performance improve after the pronounced product-line and U.S. revenue declines.
- How much of reported net income was attributable to the one-time HFC sale gain, and the continuing business’s underlying profitability and cash generation.
- The final tender-offer participation, purchase price, shares repurchased, and resulting cash and share count.
- Whether customers reimburse Aurora-related supplier commitments and whether transition services and remaining sale costs conclude as expected.
- Developments and potential financial exposure from the Avid and FastVDO cases, tax audits, and the $60.8 million of unrecognized tax benefits.
- Changes in liquidity, operating cash flow, inventory and receivables, given negative operating cash flow in the quarter and substantial planned shareholder returns.