AXT, Inc. Form 10-Q Summary
Reporting period: Three months ended March 31, 2016. The unaudited filing was signed May 6, 2016. AXT develops and manufactures compound and single-element semiconductor substrates, including InP, GaAs and Ge wafers, and sells related raw materials. All manufacturing operations are in China.
Financial Performance and Position
| Metric | Q1 2016 | Q1 2015 | Change |
|---|---|---|---|
| Revenue | $18.713 million | $20.064 million | Down 6.7% |
| Gross profit | $5.253 million | $4.749 million | Up 10.6% |
| Gross margin | 28.1% | 23.7% | Up 4.4 percentage points |
| Income (loss) from operations | $498,000 | $(1.743) million | Improved by $2.241 million |
| Net income (loss) | $(67,000) | $(899,000) | Loss narrowed |
| Net income (loss) attributable to AXT | $42,000 | $(1.024) million | Improved by $1.066 million |
| Net loss available to common stockholders | $2,000 | $1.068 million loss | Preferred dividend accrual affected Q1 2016 |
| Net cash used in operating activities | $111,000 | $473,000 | Lower use of cash |
Revenue declined primarily because of lower raw-material sales and a lower average selling price for gallium. Increased InP and Ge substrate sales, supported by fiber-optic and data-connectivity applications, partially offset the decline.
- Gross profit benefited from product mix, improved yields and manufacturing efficiencies, and lower material costs.
- SG&A declined 35.7% to $3.374 million, primarily because Q1 2015 included professional-service fees and personnel costs related to the prior related-party transaction investigation.
- R&D increased 11.3% to $1.381 million, primarily due to higher personnel costs.
- Equity losses from unconsolidated joint ventures were $456,000 versus $200,000 of equity income in Q1 2015, reflecting lower raw-material prices and volumes.
- Income-tax expense increased to $397,000, mostly relating to Chinese operations. U.S. deferred tax assets remain fully reserved.
Cash Flow, Liquidity and Capital Structure
- Cash and cash equivalents were $25.067 million at March 31, 2016, compared with $24.875 million at December 31, 2015.
- Short-term and long-term investments totaled $18.264 million, bringing cash, cash equivalents and investments to $43.331 million.
- Operating activities used $111,000; investing activities provided $237,000; financing activities used $39,000. Capital expenditures were $795,000.
- The company had no debt reported other than $1.006 million of long-term royalty payments and $13.391 million of total current liabilities. Total liabilities were $14.705 million.
- Approximately $18.7 million of cash and investments was held in foreign bank accounts, including approximately $11.9 million that would not be available for U.S. use without potential U.S. tax. Management stated that existing liquidity should meet needs for the next 12 months.
- No shares were repurchased in Q1 2016. Approximately $2.7 million remained available under the $5.0 million repurchase authorization.
Material Changes Versus the Prior Comparable Period
- Revenue decreased 6.7%, but gross margin increased materially from 23.7% to 28.1%.
- Operating results moved from a $1.743 million loss to $498,000 of operating income.
- The net loss attributable to AXT improved to $42,000 of income, although the preferred-stock dividend liquidation preference produced a small loss available to common stockholders.
- Raw-material economics weakened: the seven unconsolidated minority investment entities reported aggregate revenue of $3.516 million versus $9.325 million and net loss of $1.774 million versus net income of $957,000.
- Cash generation improved, but the company still used cash in operating activities and ended Q1 2016 with lower total liquidity than at March 31, 2015.
- Revenue mix shifted toward InP and Ge substrates, while raw-material and gallium pricing remained under pressure.
Guidance, Outlook, Risks and Unusual Items
- No specific numerical revenue or earnings guidance is provided in the filing text. Management stated that it expects adequate cash and investments to fund operations for the next 12 months.
- AXT reached a verbal understanding with Beijing officials to reduce arsenic use at its current site by March 31, 2017 and stop GaAs wafer production there by December 31, 2017. Management expects the government may also require InP and Ge production to stop at that location in 2018.
- The company must obtain or maintain Chinese governmental authorization to manufacture GaAs wafers. Failure to obtain the required permit could force a production halt, employee furloughs, customer losses and substantial financial harm.
- Relocation of Beijing operations is expected to require significant cash and could disrupt production. Management believes existing cash, investments and real estate can finance the anticipated relocation, but no detailed cost estimate is provided.
- Raw-material oversupply, declining gallium and germanium prices, inventory write-down risk, customer concentration, semiconductor cyclicality and competition from silicon-based technologies could pressure revenue and margins.
- Inventory was $38.822 million and included a $12.7 million reserve for excess, obsolete and lower-of-cost-or-market inventory, up from $12.0 million at December 31, 2015.
- One customer represented more than 12% of Q1 2016 revenue, and the top five customers represented 41% of revenue. One customer represented over 19% of accounts receivable at March 31, 2016.
- Foreign-exchange exposure remains significant because operations and sales involve the Renminbi and Japanese yen. The company uses short-term yen hedges, but the program is only partial.
- The filing reports a $14.6 million liability for unrecognized tax benefits, primarily associated with U.S. tax-loss carryforwards that are fully offset by a valuation allowance.
- The company reports no material pending legal proceedings, no off-balance-sheet financing arrangements and effective disclosure controls at quarter-end.
Investor Verification Checklist
- Verify the status and timing of the GaAs manufacturing permit and the Beijing relocation requirements.
- Assess estimated relocation costs, available funding and potential production interruptions.
- Monitor gallium, germanium and other raw-material pricing, inventory reserves and gross-margin sustainability.
- Evaluate whether InP and Ge growth can offset declines in raw-material and GaAs-related sales.
- Review customer concentration, receivable collectability and the financial condition of major customers.
- Track cash held in China, repatriation restrictions and potential tax costs.
- Review the performance and carrying values of consolidated and unconsolidated Chinese joint ventures.
- Confirm the status of the $14.6 million uncertain-tax-position liability and the company’s ability to utilize tax attributes.