Kopin Corporation — Q2 2012 Form 10-Q
Reporting period: Quarter and six months ended June 30, 2012; comparative periods ended June 25, 2011. Financial statements are unaudited.
Business context
Kopin develops and manufactures III-V semiconductor products, including HBT transistor wafers, miniature displays, and products for commercial, industrial, and military markets. It also earns revenue from research and development contracts, primarily government-funded. The company reports four segments: Kopin U.S., Kowon, KTC, and Forth Dimension Displays (FDD).
Financial performance
| Metric | Q2 2012 | Q2 2011 | First half 2012 | First half 2011 |
|---|---|---|---|---|
| Total revenue | $22.8 million | $31.4 million | $48.1 million | $66.4 million |
| Net product revenue | $21.8 million | $29.6 million | $46.4 million | $62.5 million |
| Operating income (loss) | ($4.8) million | $0.5 million | ($7.7) million | $2.6 million |
| Net income (loss) attributable to controlling interest | ($5.2) million | $0.8 million | ($7.8) million | $2.9 million |
| Diluted EPS | ($0.08) | $0.01 | ($0.12) | $0.04 |
- Revenue fell about 27% in both the quarter and first half year over year. Display revenue fell to $7.0 million in Q2 from $15.4 million; III-V revenue was $15.8 million versus $16.0 million. First-half display revenue declined to $17.9 million from $32.8 million, while III-V revenue declined to $30.2 million from $33.6 million.
- Product cost was 73.0% of net product revenue in both Q2 and the first half, versus 64.6% and 65.7%, respectively, in 2011. This implies product gross margins of approximately 27% and 35.4% for Q2, and 27% and 34.3% for the first half.
- Operating results included a $1.7 million noncash goodwill impairment charge in Q2. First-half R&D expense was $10.1 million, down from $13.5 million; SG&A was $10.1 million, up from $9.1 million.
- First-half operating cash flow was $1.2 million, compared with $3.5 million in 2011. Investing activities used $9.7 million, including $5.7 million of capital expenditures; financing activities used $3.6 million, primarily for share repurchases. Cash and equivalents declined $11.9 million to $31.2 million.
- At June 30, cash and equivalents were $31.2 million and marketable debt securities were $65.2 million, totaling $96.3 million. Working capital was $114.2 million, compared with $123.3 million at year-end 2011. Total current liabilities were $18.8 million; the balance sheet shows no borrowing debt line item.
Material changes and unusual items
- Military display demand weakened amid reduced U.S. government spending and customers’ cost-reduction efforts, including delayed orders and requests for lower prices. Military display revenue was $3.1 million in Q2 versus $9.2 million a year earlier.
- FDD’s results were below forecast, prompting an interim impairment review and a $1.7 million goodwill write-off; goodwill was reduced to zero. The filing says further impairment of remaining intangible assets may be needed if significant customers are lost or projected products underperform.
- The company identified an error in prior-period intercompany inventory profit eliminations and restated certain balances. The December 2011 adjustment reduced inventory by $0.9 million and total assets and equity by $0.7 million. Other disclosed periods were also affected; the filing says the error did not change net cash flows. Management described the correction as immaterial to previously issued historical statements.
- After quarter-end, Kopin invested an additional $2.5 million in Ikanos Consulting, raising its ownership to 51%; it expected to consolidate Ikanos beginning in Q3 2012.
Outlook, risks, and contingencies
- Management reduced 2012 revenue guidance from $110–$120 million to $90–$100 million, citing anticipated military-program orders that were no longer expected. It cautioned that forecasts were not based on firm, non-cancellable orders and that visibility was limited.
- Management expected 2012 military-related revenue to decline approximately $20–$30 million. It forecast 5%–8% price declines for HBT wafers and consumer-electronics displays, while military display prices were expected to remain relatively flat.
- Golden-i sales were not expected to be significant in 2012, although management viewed products based on the technology as potentially important to later growth and profitability. The filing identifies software and hardware development and the emergence of a market as risks to that outlook.
- Management believed available cash resources would support operations and capital needs for at least 12 months, and projected $5–$8 million of capital expenditures over the next 12 months. It also had development agreements providing for up to $5.6 million of funding if milestones are achieved.
- A III-V customer supply agreement runs through December 2013 and includes capacity and pricing commitments; failure to meet supply obligations could result in specific performance or damages of up to $40 million. The company also said it might have to repay $1.0 million to Massachusetts in 2012 under a job-retention incentive agreement.
- The company did not hedge foreign-currency exposure. It reported $2.4 million of Massachusetts incentive funding within billings in excess of revenue earned, subject to employment milestones and possible repayment.
Important facts for investors to verify
- Whether the revised $90–$100 million revenue outlook was achieved, given limited order visibility and military customer delays.
- How much of the expected military revenue decline occurred, and the effect of lower military-display mix on gross margin and profitability.
- Whether Golden-i and other new products secured commercial adoption, and whether development and commercialization costs remain within expectations.
- Whether FDD’s performance or customer concentration leads to additional impairment charges.
- The consequences of the inventory-elimination restatement, including the reported control-policy misunderstanding and the effectiveness of added training and monitoring.
- Progress on Ikanos integration, milestone-based development funding, and potential repayment obligations under the customer and state agreements.