Microchip Technology Incorporated — Form 10-Q Summary
Business context and reporting period
Microchip designs, manufactures and sells embedded-control semiconductors, including microcontrollers, analog, interface, mixed-signal, timing, memory and FPGA products, and licenses intellectual property. The report covers the quarter and nine months ended December 31, 2018, within fiscal 2019. Results include Microsemi from its May 29, 2018 acquisition date and are therefore not directly comparable with the prior-year periods.
Financial performance and position
| Metric | Three months ended Dec. 31, 2018 | Three months ended Dec. 31, 2017 | Nine months ended Dec. 31, 2018 | Nine months ended Dec. 31, 2017 |
|---|---|---|---|---|
| Net sales | $1,374.7 million | $994.2 million | $4,019.7 million | $2,978.5 million |
| Gross profit | $779.6 million | $607.1 million | $2,110.9 million | $1,805.6 million |
| Gross margin | 56.7% | 61.1% | 52.5% | 60.6% |
| Operating income | $194.7 million | $245.2 million | $429.6 million | $692.2 million |
| Operating margin | 14.2% | 24.7% | 10.7% | 23.2% |
| Net income (loss) | $49.2 million | $(251.1) million | $181.2 million | $108.7 million |
| Diluted EPS | $0.20 | $(1.07) | $0.73 | $0.44 |
- Operating cash flow for the nine months was $1.27 billion, compared with $1.06 billion in the prior-year period.
- Capital expenditures were $188.8 million, compared with $148.4 million in the prior-year period.
- Cash, cash equivalents and short-term investments totaled $436.2 million at December 31, 2018, down $1.76 billion from March 31, 2018. Cash and cash equivalents, including restricted cash, were $432.2 million.
- Net long-term debt, including current maturities, was $10.54 billion; principal debt outstanding was approximately $11.94 billion. Variable-rate debt was $5.46 billion and fixed-rate debt was $6.48 billion.
- Interest expense increased to $137.6 million for the quarter and $366.7 million for the nine months, compared with $49.7 million and $148.7 million, respectively, in the prior-year periods.
- Inventory was $702.5 million, representing approximately 108 days of inventory, compared with $476.2 million and 112 days at March 31, 2018.
- The company declared quarterly dividends of $0.3645 per share during the quarter and $0.3650 per share for payment in March 2019.
Material changes versus the prior comparable periods
- Revenue increased 38.3% for the quarter and 35.0% for the nine months, primarily because of the Microsemi acquisition. Microsemi contributed approximately $477.6 million of quarterly sales and $1.10 billion of nine-month sales.
- Microsemi contributed approximately $223.2 million of quarterly net loss and $473.6 million of nine-month net loss, reflecting acquisition accounting, integration and other costs.
- Gross margin declined because of approximately $86.0 million of acquired-inventory fair-value charges in the quarter and $375.7 million in the nine months, together with increased amortization and below-normal capacity utilization.
- Research and development expense increased to $217.7 million for the quarter and $611.6 million for the nine months, while selling, general and administrative expense increased to $174.8 million and $515.5 million, primarily due to Microsemi.
- Amortization of acquired intangible assets increased to $193.7 million for the quarter and $497.2 million for the nine months. Net intangible assets rose to $6.63 billion and goodwill to $6.78 billion at December 31, 2018.
- The company adopted ASC 606 on April 1, 2018. For the quarter, reported revenue was $16.7 million lower and net income was $5.8 million lower than amounts estimated under the prior revenue model. The adoption eliminated deferred income on distributor shipments and increased opening retained earnings by approximately $241.9 million.
- The company completed the $8.24 billion Microsemi acquisition using approximately $8.10 billion of new borrowings, including revolving debt, a $3.0 billion term loan and $2.0 billion of senior secured notes. Total assets increased to $18.16 billion from $8.26 billion at March 31, 2018.
Guidance, outlook, commentary and risks
- Management expected March 2019 inventory days to be flat to up 10 days from December 2018 levels and believed existing inventory would support competitive lead times and delivery performance.
- Management intended to spend $125 million to $150 million on capital expenditures and facilities over the following 12 months, funded through cash and operating cash flow.
- Management believed available liquidity, operating cash flow and borrowing capacity would be sufficient for anticipated requirements for at least the next 12 months.
- The company was in compliance with its credit-facility covenants at December 31, 2018. A 50-basis-point increase in interest rates was estimated to increase annual interest expense by approximately $27.3 million.
- Management expects additional acquisition-related restructuring and integration costs but cannot estimate their amount. Nine-month special charges totaled $57.0 million, including $60.5 million of employee separation costs; the quarter included $1.3 million of net special income, primarily from legal settlements.
- Future performance is exposed to semiconductor cyclicality, pricing pressure, customer and distributor inventory patterns, tariffs and trade restrictions, foreign operations, outsourced manufacturing, capacity utilization, supply disruptions and government-contract volatility.
- Material contingencies include the Continental arbitration claim alleging approximately $227.7 million of damages, shareholder and derivative litigation related to the Microsemi acquisition, and other acquired-company claims. The company estimated possible but not probable aggregate liability of approximately $100 million above accrued amounts.
- Tax risks include uncertain tax positions, ongoing tax audits, GILTI, limitations on interest deductibility and the finalized transition tax of $657.8 million. Expected remaining cash payments for the transition tax were approximately $258.1 million.
Most important facts for investors to verify
- Assess Microsemi’s standalone contribution, profitability and integration progress, excluding acquisition accounting and restructuring effects.
- Verify whether gross-margin pressure from acquired-inventory charges, amortization, outsourced manufacturing and underutilized capacity is temporary or structural.
- Monitor deleveraging, interest expense, variable-rate exposure, covenant headroom and the company’s ability to fund dividends and capital expenditures.
- Reconcile revenue trends under ASC 606 with distributor inventory levels, sell-through data and customer demand.
- Evaluate the carrying values and impairment sensitivity of $6.78 billion of goodwill and $6.63 billion of intangible assets.
- Track the resolution and potential financial impact of litigation, tax audits, uncertain tax positions and acquisition-related contingencies.