InterDigital, Inc. — Q1 2017 Form 10-Q
Business context and period. InterDigital develops wireless technologies and licenses patents, with technology solutions also contributing revenue. This unaudited report covers the three months ended March 31, 2017, compared with Q1 2016. The company reports one segment.
Financial performance and position
| Metric | Q1 2017 | Q1 2016 or prior date |
|---|---|---|
| Revenue | $94.5 million | $107.8 million; down 12% |
| Patent licensing royalties | $89.2 million | $107.0 million; down 17% |
| Technology solutions revenue | $5.3 million | $0.8 million |
| Operating income / margin | $34.0 million / 35.9% | $48.4 million / 44.9% |
| Net income | $32.8 million | $27.2 million |
| Net income attributable to InterDigital | $33.8 million; diluted EPS $0.93 | $28.1 million; diluted EPS $0.79 |
| Operating cash flow | $(25.9) million | $19.6 million |
| Cash, cash equivalents and short-term investments | $886.1 million | $952.8 million at December 31, 2016 |
| Long-term debt carrying value | $275.2 million | $272.0 million at December 31, 2016 |
| Combined current and long-term deferred revenue | $727.3 million | $621.2 million at December 31, 2016 |
Basic EPS was $0.98, versus $0.80. The company declared a $0.30 per-share dividend, up from $0.20 in Q1 2016. It made no share repurchases during the quarter.
Changes and drivers
- Fixed-fee amortized royalty revenue rose $44.3 million, mainly reflecting Huawei and Apple license agreements signed in 2016. Per-unit royalty revenue fell $57.8 million, largely because the fixed-fee Apple agreement replaced per-unit royalties and related shipment seasonality. Past patent royalties declined $4.2 million.
- Revenue concentration shifted: Apple and Huawei each represented 18% of Q1 2017 revenue, and Samsung 18%; in Q1 2016, Pegatron represented 46% and Samsung 16%. Four licensees accounted for 95% of receivables at quarter-end.
- Operating expenses increased 2% to $60.6 million. Higher patent amortization and commercial-initiative costs, partly related to Hillcrest, were partly offset by lower personnel and incentive-compensation costs.
- The effective tax rate was a 5.2% benefit, versus a 34.1% provision a year earlier. Q1 2017 included $11.8 million of discrete excess tax benefits from share-based compensation; excluding those benefits, the company said the effective rate would have been 32.6%.
- Operating cash flow declined by $45.5 million year over year, principally due to lower cash receipts after the Apple agreement changed the timing of royalty collections. Receivables increased $174.1 million from year-end, primarily due to payment timing.
Liquidity, outlook and risks
Management said available funds and expected operating cash generation should be sufficient for operations, capital needs, debt obligations, and existing dividend and repurchase programs for the next 12 months. It expects to continue dividends comparable to $0.30 per share quarterly, subject to board review and financial conditions. No numerical earnings or revenue guidance was provided.
Management expects the new revenue-recognition standard, effective for the company in 2018, to affect both fixed-fee and per-unit licenses. It expects most or all revenue from agreements classified as “Static” to be recognized when signed, while “Dynamic” fixed-fee revenue is expected to continue being recognized over the license term. Per-unit royalties are expected to be recognized in the period of underlying sales using estimates, with later true-ups. Approximately 69% of Q1 2017 fixed-fee revenue was preliminarily classified as Dynamic.
Material legal matters include pending Huawei and ZTE proceedings in China; Asus litigation and arbitration, including an arbitration decision expected by June 2017; and Microsoft litigation. The company recorded no accrual for the described contingent losses. It said a material loss was reasonably possible in the Asus matters but it could not estimate the potential range; ZTE China losses were considered reasonably possible but not probable. Taiwan and Chinese regulatory matters also remain relevant. The company’s NDRC commitments include FRAND-related licensing conditions and are scheduled to expire May 22, 2019.
Other notable items: $316.0 million principal amount of 1.50% convertible notes is due in 2020; the notes’ carrying value was $275.2 million. The Federal Circuit affirmed that most challenged claims of the ’244 patent were unpatentable as obvious, while remanding claim 8 for further proceedings. Management reported effective disclosure controls and no material change in internal control over financial reporting during the quarter.
Most important facts for investors to verify
- Whether the $174.1 million receivables increase converts to cash, given the high receivables concentration among four licensees.
- The durability and timing of fixed-fee versus per-unit royalties, including the financial effects of adopting the new revenue-recognition standard.
- The degree to which the $11.8 million share-based compensation tax benefit boosted reported earnings and whether future tax rates normalize.
- Developments and potential exposure in the Asus, Huawei, ZTE, Microsoft, and regulatory matters; several outcomes or loss ranges were unresolved.
- Cash generation, planned capital uses, dividend capacity, and potential dilution or settlement impacts of the convertible notes and related warrants.