Calix, Inc. — Q3 2019 Form 10-Q
Reporting period: Quarter ended September 28, 2019; year-to-date period covers nine months. Amounts are in U.S. dollars unless stated otherwise.
Business context
Calix supplies cloud and software platforms, network systems and services to communications service providers. Systems include access and premises equipment, software licenses and cloud subscriptions; services include support, maintenance, deployment and training. The U.S. generated 88% of Q3 revenue and 86% of nine-month revenue.
Financial results and liquidity
| Metric | Q3 2019 | Q3 2018 | Nine months 2019 | Nine months 2018 |
|---|---|---|---|---|
| Revenue | $114.5 million | $114.7 million | $304.1 million | $325.8 million |
| Gross profit | $50.2 million | $52.8 million | $133.2 million | $145.8 million |
| Gross margin | 43.9% | 46.1% | 43.8% | 44.7% |
| Operating income (loss) | $(2.9) million | $0.7 million | $(16.9) million | $(13.4) million |
| Net income (loss) | $(3.4) million | $0.8 million | $(18.2) million | $(13.7) million |
| Net loss per share | $(0.06) | $0.02 income per share | $(0.33) | $(0.26) |
| Cash from operating activities | Not provided for quarter | Not provided for quarter | $4.0 million | $5.2 million |
At September 28, cash and cash equivalents were $37.6 million, with restricted cash of $0.6 million; cash, cash equivalents and restricted cash totaled $38.2 million, down $12.1 million from year-end 2018. Capital expenditures were $12.4 million for the first nine months, resulting in $8.4 million of negative operating cash flow less capital expenditures. Current assets were $141.9 million and current liabilities were $123.6 million.
Borrowings under the senior secured revolving line were $24.3 million, the full amount available under the facility at quarter-end; the facility matures August 7, 2020. The interest rate was 6.50%. Equipment and ERP consulting financing balances totaled approximately $4.8 million. The company reported $703.1 million of accumulated deficit.
Material changes versus comparable periods
- Q3 revenue was nearly flat year over year: systems revenue rose 1% to $106.1 million, while services revenue fell 13% to $8.4 million. Nine-month revenue declined 7%, principally due to reduced demand from CenturyLink and medium-sized incumbent local exchange carriers, and lower CAF-funded deployment services.
- Q3 gross margin fell 2.2 percentage points. Tariffs reduced systems gross margin by about 100 basis points in Q3 and 180 basis points year to date. Excluding tariff costs, systems margin was 46.5% in Q3 and 47.8% year to date.
- Research and development, sales and marketing, and general and administrative expenses together declined $1.7 million in Q3 and $12.2 million year to date, largely reflecting earlier restructuring. The company nevertheless recorded a Q3 operating loss, including a $2.5 million asset-retirement charge.
- Year-to-date operating cash flow was lower than the prior-year period; investing cash flow also shifted from $4.8 million provided in 2018 to $12.4 million used in 2019, when the prior year included proceeds from a product-line sale.
Outlook, commentary and key risks
- Management expected reduced demand from medium-sized ILEC customers to continue in Q4 2019. It provided no quantified revenue or earnings guidance in the supplied filing text.
- Management stated that existing cash and expected operating cash flows, together with available line borrowings, should meet anticipated cash needs for at least 12 months. This outlook is subject to execution, cash generation and credit-facility covenant compliance.
- The company failed its minimum adjusted quick ratio covenant at September 28, an event of default; SVB waived it effective that date, and the waiver did not change borrowing availability. Calix cautioned that future covenant failures could restrict borrowing or require repayment. It subsequently entered a fourth amendment dated October 21, 2019.
- Tariffs and supply-chain relocation remain significant risks. Calix incurred $5.1 million of tariff and related costs in the first nine months and said the expanded realignment plan was expected to continue until mid-2020. Management cited prior production delays and product shortages during the transition.
- Outstanding inventory purchase commitments were $63.7 million, generally due within one year. Contractual obligations also included a $15.8 million minimum revenue-share commitment for developed software products; payments were expected to begin in Q4 2019, with a possible true-up if minimum payments are not met.
- CenturyLink represented 16% of Q3 revenue and 15% year to date; it and Verizon represented 15% and 12% of accounts receivable, respectively. The company noted risks from customer concentration, CSP capital spending, competition, outsourced manufacturing and suppliers, and potential additional tariffs.
- Calix recorded a $2.5 million charge after Verizon no longer required previously licensed software. It also recognized a $13.2 million intangible asset and related liability after its first sale of vendor-developed software in August 2019. A $0.6 million tax expense reflected the decision to no longer assert indefinite reinvestment of non-U.S. earnings.
- Operating lease accounting adoption added a $15.8 million right-of-use asset and a lease liability; management said adoption did not affect income, cash flows or equity. The company reported no litigation expected by management to have a material adverse effect.
Important facts for investors to verify
- Whether revenue and gross margins stabilize as legacy ILEC and CenturyLink demand changes, and whether the Q4 demand softness occurred as anticipated.
- Progress, costs and delivery performance from the supply-chain transition, including tariff exposure and any new trade restrictions.
- Ongoing covenant compliance, the terms and duration of SVB waivers or amendments, borrowing-base availability, and the August 2020 facility maturity.
- Cash generation relative to capital spending, the $63.7 million supplier commitments, and upcoming revenue-share payments and potential true-up.
- Customer concentration and collection risk, including the status of CenturyLink and Verizon receivables and purchasing patterns.
- Whether the ERP migration reaches planned production use in Q1 2020 and whether implementation costs, controls or operations are affected.