Wolfspeed, Inc. — Form 10-Q Summary
Reporting period: Three months ended September 26, 2021, the company’s fiscal first quarter of fiscal 2022. The company, formerly Cree, Inc., focuses on silicon carbide (SiC) and gallium nitride (GaN) materials and devices for power and radio-frequency applications. Its former LED Products business was sold on March 1, 2021 and is reported as discontinued operations. The company began trading as Wolfspeed (NYSE: WOLF) on October 4, 2021.
Financial performance and position
| Metric | Quarter ended Sep. 26, 2021 | Prior-year comparable quarter |
|---|---|---|
| Revenue | $156.6 million | $115.5 million |
| Gross profit / margin | $49.4 million / 31.5% | $35.5 million / 30.7% |
| Operating loss | $65.7 million | $62.2 million |
| Net loss from continuing operations | $70.1 million | $75.3 million |
| Loss per share from continuing operations | $0.60 | $0.69 |
| Cash used in continuing operating activities | $62.5 million | $0.7 million provided |
- Revenue grew 36%, attributed to stronger demand across product lines and increased production capacity. Gross profit rose 39%; margin improved 0.8 percentage points, reflecting higher revenue and cost improvements.
- Research and development expense increased 21% to $49.9 million, principally from investment in SiC and GaN technologies. Other operating expense rose to $12.8 million, including $8.6 million of factory start-up costs.
- Operating loss widened despite higher sales and gross profit. Non-operating expense fell to $4.1 million from $13.9 million, mainly because of lower interest expense and no repeat of the prior-year equity investment loss.
- The prior-year quarter included a $108.8 million loss from discontinued LED operations, so total net loss comparisons are not directly comparable. Total net loss was $70.1 million versus $184.1 million in that quarter.
- Cash, cash equivalents and short-term investments totaled $857.8 million at quarter-end, down from $1,154.6 million at June 27, 2021. Cash and cash equivalents alone were $261.5 million.
- Property and equipment purchases were $259.3 million, offset by $50.8 million of New York grant reimbursements; net capital investment was $208.5 million. Cash and investments remained substantial, and the $125 million revolving credit facility was undrawn at quarter-end.
- Convertible notes had $999.8 million aggregate principal and an $834.4 million net carrying value. No revolving-credit borrowings were outstanding at quarter-end. Both note issues became convertible at holders’ option through December 31, 2021 after the stock-price conversion threshold was met for the required period ending September 30.
Material changes and outlook
- The company is concentrating on SiC and GaN following the LED divestiture. The sale consideration included $50 million cash, a $125 million unsecured note due August 2023, and a potential $2.5 million to $125 million earn-out note tied to the LED business’s performance. Collectability and the earn-out remain relevant uncertainties.
- Management expects approximately $80 million of start-up and pre-production costs in fiscal 2022 as the Marcy, New York SiC device facility ramps. The facility was expected to begin production in fiscal 2022. Fiscal 2022 net capital investment was targeted at approximately $475 million, including an estimated $300 million in New York reimbursements.
- The company expects to invest more than $1 billion in the Marcy facility through fiscal 2024, with approximately $500 million expected to be reimbursed over time under the New York grant program. The filing states management believes available working capital, credit availability and anticipated operating cash flows will fund needs for at least the next 12 months.
- Management cited high demand but also semiconductor supply constraints expected to persist for at least the next few quarters, which may limit shipments. The cash conversion cycle increased to 128 days from 107 days, primarily due to higher inventory as the company expanded production and built a raw-material buffer.
- A change in estimated useful lives for certain machinery reduced depreciation expense by $8.4 million in the quarter. Of this, $7.1 million was capitalized in inventory and may benefit future cost of revenue; the remaining $1.3 million improved current-quarter pretax and net results, including $0.01 per share. Management expected the gross-profit effect to reach approximately $8 million per quarter by year-end as inventory is sold.
- The company reported a full valuation allowance against U.S. and Luxembourg deferred tax assets. A possible restructuring of its Luxembourg holding company could permit recognition of up to $121.8 million of deferred tax assets and reduce tax expense, but no decision or realization is assured.
Risks, contingencies and unusual items
- COVID-19 and its variants, labor availability, supplier constraints, logistics disruptions and customer demand uncertainty could affect production, shipments, costs and results. Management said the financial impact could not be reasonably estimated.
- Execution risks include ramping the new facility, moving to 200mm substrates, achieving production yields, expanding capacity, and meeting demand amid constrained equipment and materials supply.
- The company remains exposed to competition, customer concentration, pricing and product-mix changes, international trade and tariff developments, and reliance on sole- or limited-source suppliers.
- Convertible debt may create repayment, refinancing and dilution risks. The filing reported an estimated fair value of $1.7 billion for the notes and noted that their if-converted values exceeded principal amounts.
- Various legal proceedings are ongoing. Management did not expect them, individually or collectively, to materially harm the company, but outcomes are inherently uncertain and not reasonably estimable; adverse outcomes could include damages or restrictions on product sales.
- The New York grant can reimburse up to $500 million subject to objectives and ongoing commitments. As of quarter-end, $101.1 million had reduced property and equipment, including $61.5 million received and $39.6 million recorded as receivables.
- Restructuring charges were $2.6 million in the quarter. The company expects approximately $90 million of factory-optimization restructuring charges through 2024.
Key investor verification points
- Track whether production capacity, yields and customer shipments improve enough to convert demand into profitable growth, particularly as supply constraints continue.
- Compare actual cash burn and capital spending with fiscal 2022 targets, and monitor timing and conditions for New York grant reimbursements.
- Assess the ramp costs and production progress at Marcy against management’s fiscal 2022 production expectation and approximately $80 million start-up-cost estimate.
- Monitor the maturity, conversion, potential dilution and refinancing implications of the 2023 and 2026 convertible notes, including any change in holders’ conversion rights.
- Verify receipt and collectability of the LED-sale note, any earn-out, and the New York grant receivables; review the underlying conditions and counterparty risks.
- Evaluate the impact of the useful-life estimate change on future gross margins as inventory incorporating lower depreciation is sold.
- Watch for any Luxembourg restructuring decision and confirm whether deferred tax assets can be realized; the potential valuation-allowance release is uncertain.
- Consider the prior-year discontinued-operation loss when comparing reported net results, and distinguish continuing-operation trends from total net loss.