Universal Display Corporation — Form 10-Q Summary
Business Context and Reporting Period
Universal Display Corporation develops, licenses and commercializes OLED technologies and materials for display and lighting applications. Revenue is generated primarily from OLED material sales, intellectual-property licenses and royalties, and contract research services, including services provided by Adesis. This unaudited filing covers the three and nine months ended September 30, 2017, compared with the corresponding 2016 periods.
Key Financial Metrics
| Metric | Three months ended September 30, 2017 | Three months ended September 30, 2016 | Nine months ended September 30, 2017 | Nine months ended September 30, 2016 |
|---|---|---|---|---|
| Revenue | $61.7 million | $30.2 million | $219.8 million | $124.3 million |
| Gross margin | $48.2 million; 78.1% | $23.8 million; 78.6% | $182.0 million; 82.8% | $107.1 million; 86.2% |
| Operating income | $15.8 million | $(3.0) million | $88.4 million | $33.7 million |
| Net income | $13.5 million | $(1.5) million | $71.1 million | $22.3 million |
| Diluted EPS | $0.28 | $(0.03) | $1.49 | $0.47 |
| Net cash provided by operating activities | Not separately provided | Not separately provided | $71.3 million | $40.3 million |
Revenue increased 104% year over year in the third quarter and 77% year over year for the first nine months. Nine-month revenue consisted of $140.5 million of material sales, $72.7 million of royalty and license fees, and $6.6 million of contract research services. Material sales were predominantly phosphorescent emitter sales.
Cash and cash equivalents were $69.2 million at September 30, 2017, compared with $139.4 million at December 31, 2016. Short-term investments increased to $296.3 million from $188.6 million, resulting in total cash and short-term investments of $365.4 million, versus $328.0 million at year-end. Working capital was $404.4 million. The filing identifies no debt or material off-balance-sheet financing arrangements.
Investing cash outflows were $128.5 million, including $105.2 million of net investment purchases and $23.2 million of property and equipment purchases. Financing cash outflows were $13.0 million, including $4.2 million of dividends and $9.3 million of employee tax-withholding payments. The company declared a $0.03 per-share third-quarter dividend payable December 29, 2017.
Material Changes Versus the Prior Comparable Period
- Third-quarter material sales doubled to $47.0 million, driven by higher commercial phosphorescent emitter volume. Nine-month material sales also doubled to $140.5 million.
- Third-quarter royalty and license fees increased 131% to $12.0 million. Nine-month royalty and license fees increased 38% to $72.7 million, including $45.0 million recognized from Samsung Display compared with $37.5 million in the prior-year period.
- Contract research services increased to $2.6 million in the quarter and $6.6 million year to date, primarily because the prior-year period included less than a full year of Adesis activity.
- Operating expenses increased to $32.4 million in the quarter and $93.6 million year to date. Increases reflected higher research and development, selling and administrative costs, amortization from acquired technology and Adesis intangible assets, patent costs, and royalty expense.
- Material-sales gross margin declined modestly to 75% in the quarter from 76% and to 76% year to date from 77%. Commercial material margin was affected year to date by unfavorable product mix and lower average selling prices per gram.
- The company adopted ASU 2016-09 on January 1, 2017, recording a $26.5 million deferred tax asset and corresponding retained-earnings credit. The adoption also reduced reported 2017 income tax expense compared with the prior accounting treatment.
Outlook, Commentary, Risks and Unusual Items
- The Samsung Display commercial license and supplemental material purchase agreements expire at the end of 2017. As of the filing date, the company was negotiating new arrangements and gave no assurance regarding the outcome or terms.
- The company expects existing host-material sales to remain minimal because customers are not required to purchase host materials with phosphorescent emitters and the host-material business is more competitive.
- Management expects quarterly results to fluctuate based on material shipment timing and volume, license-fee and royalty timing, research and development and patent expenditures, and new business relationships.
- Customer concentration is significant: three customers represented 88% of third-quarter revenue and 91% of nine-month revenue. Customer A represented 43% and 59%, respectively; customer B represented 31% and 25%.
- Approximately 96% of revenue was generated outside North America, with South Korea accounting for $185.9 million, or approximately 85%, of nine-month revenue.
- Inventory increased to $32.7 million from $17.3 million at year-end, and accounts receivable increased to $43.3 million from $25.0 million, reflecting higher sales and production activity. The company cautions that weaker demand could require inventory write-downs.
- The company has $13.7 million of firm, noncancelable inventory purchase commitments with PPG Industries as of September 30, 2017 and is substantially dependent on one supplier for chemical materials.
- Active European patent opposition and appeal proceedings involve fundamental phosphorescent and white-phosphorescent OLED technologies. Management believes the relevant claims should be upheld but cannot assure the outcomes and expects potentially significant defense costs.
- The company was obligated to pay USC up to $7.1 million for research under an agreement extending through April 30, 2020. It also recorded a $32.2 million retirement-plan benefit liability.
- Management believes available cash, cash equivalents and short-term investments are sufficient to meet obligations for at least the next twelve months, while noting that future financing may be required for research, commercialization, patent activities or working capital.
- The company reported effective disclosure controls, no material changes in internal control over financial reporting, no defaults upon senior securities, and no material changes to previously disclosed risk factors.
Most Important Facts for Investors to Verify
- Terms, timing and economics of any replacement for the Samsung Display license and material supply agreements after their 2017 expiration.
- Sustainability of the sharp increase in phosphorescent emitter demand and whether material-sales margins stabilize or continue to decline.
- Customer concentration and dependence on South Korean OLED production, particularly the largest customers.
- Conversion of accounts receivable and inventory growth into cash flow, including potential inventory obsolescence or write-downs.
- Status and potential commercial impact of the European patent opposition and appeal proceedings.
- Effect of the ASU 2016-09 tax accounting adoption and the realizability of deferred tax assets and valuation allowances.