ADTRAN, Inc. — Q1 2017 Form 10-Q
Reporting period: Three months ended March 31, 2017, compared with the three months ended March 31, 2016, unless otherwise noted. The filing is by ADTRAN, Inc.; the request identifies ADTRAN Holdings, Inc.
Business context and performance
ADTRAN supplies networking and communications equipment and related services to communications service providers, businesses and other customers. It reports Network Solutions and Services & Support segments, and presents sales by Access & Aggregation, Customer Devices, and Traditional & Other Products.
| Metric | Q1 2017 | Q1 2016 |
|---|---|---|
| Total sales | $170.3 million | $142.2 million |
| Gross profit / margin | $73.7 million / 43.3% | $65.8 million / 46.3% |
| Operating income / margin | $7.0 million / 4.1% | $5.5 million / 3.9% |
| Net income | $6.7 million | $5.0 million |
| Diluted EPS | $0.14 | $0.10 |
| Operating cash flow | $9.0 million | $15.7 million |
| Capital expenditures | $3.9 million | $3.2 million |
Financial position and liquidity
- At March 31, 2017, cash and cash equivalents were $72.6 million; short-term investments were $52.5 million. Management reported $125.0 million of available short-term liquidity, including $51.9 million held by foreign subsidiaries and intended to be permanently reinvested abroad.
- Total assets were $667.2 million and stockholders’ equity was $482.2 million. Current assets were $354.4 million and current liabilities $121.6 million; current ratio was 2.91 and quick ratio 1.73.
- Total liabilities were $185.0 million, including $26.8 million of bonds payable. The Alabama revenue bond balance was $27.8 million, due January 1, 2020, at 2%; a restricted $27.8 million certificate of deposit serves as collateral and may be set off against the debt.
- Cash and cash equivalents declined $7.3 million from year-end to $72.6 million. Cash used in investing activities was $8.9 million and cash used in financing activities was $8.6 million. Financing included $5.6 million of treasury-stock purchases and $4.4 million of dividends.
Material changes versus prior period
- Sales rose 19.7%. Network Solutions sales increased 15.9% to $143.6 million; Services & Support sales increased 45.6% to $26.7 million.
- Access & Aggregation sales increased to $120.1 million from $93.9 million, driven mainly by European VDSL2 vectoring sales. Customer Devices rose to $36.3 million from $32.4 million, supported by North American cable-market fiber sales. Traditional & Other Products fell to $13.9 million from $16.0 million.
- International sales nearly doubled to $51.0 million, or 30.0% of total sales, from $25.9 million, or 18.2%, as network upgrade activity resumed at European customers.
- Gross margin fell 3.0 percentage points. Management attributed the decline mainly to regional revenue, customer/product and services mix; supplier discounts and a warranty settlement partially offset the pressure. Operating margin improved modestly as sales grew faster than operating expenses.
- Net income increased partly because the effective tax rate declined to 20.3% from 37.9%. Management cited an 11% rate reduction from a provision-to-return adjustment related to assignment of R&D expenditures, as well as jurisdictional tax rates. Net realized investment gains also declined to $0.5 million from $1.7 million.
Outlook, risks and unusual items
- No specific revenue or earnings guidance was provided. Management said cash, investments and expected operating cash flow should meet operating and capital needs for at least the next 12 months.
- Management expects Traditional & Other revenue to decline over time, although customer transitions may take years. Results may fluctuate with customer orders, project timing, product and regional mix, competition, foreign exchange, pricing/cost timing, warranty experience and inventory obsolescence or expedited delivery costs.
- Inventory increased 7.3% from year-end to $112.8 million, attributed to customer projects and volume-discount purchases. Inventory turnover declined to 3.55 turns from 3.67.
- Warranty liabilities were $9.0 million at quarter-end. A supplier settlement reduced warranty expense in the quarter. The company cautioned that increasing product complexity could make future warranty claims more costly.
- The CommScope fiber-access acquisition, completed in September 2016, contributed $0.7 million of acquisition/integration costs and acquired-intangible amortization in Q1 2017. The filing also reports a $3.5 million after-tax bargain-purchase gain from that 2016 acquisition.
- ADTRAN had $15.0 million notional foreign-exchange forward contracts hedging planned inventory purchases. A 50-basis-point interest-rate decline was estimated to reduce annualized interest income by about $0.4 million; a 50-basis-point increase was estimated to reduce fixed-rate bond fair value by about $0.5 million.
- The company reported no material change to its previously disclosed risk factors, no material change in contractual obligations, and no off-balance-sheet financing arrangements. Management said known legal proceedings and claims were not expected to materially affect the company. Disclosure controls were assessed as effective.
- New revenue-recognition guidance was planned for adoption January 1, 2018; the company was evaluating transition method and potential effects, especially for software license and installation-services revenue. New lease guidance was expected to materially affect financial position, but not results of operations.
Important facts for investors to verify
- Whether the substantial year-over-year growth in international and Access & Aggregation sales is sustainable, given project timing and customer concentration.
- Whether gross-margin pressure from product, customer, regional and service mix persists, and whether the supplier settlement benefit recurs.
- Inventory quality and turnover, and the adequacy of reserves for obsolete inventory and warranty obligations.
- The recurring earnings effect of the unusually lower Q1 effective tax rate and reduced investment gains.
- Availability and use of foreign-held liquidity, the bond’s collateral arrangement and planned principal repayments, and continued buybacks and dividends.
- The potential revenue-recognition impact on software and installation-service revenue when the new standard is adopted.