AXT, Inc. 2020 First-Quarter Form 10-Q Summary
Business Context and Reporting Period
AXT develops and manufactures compound and single-element semiconductor substrates, including indium phosphide, gallium arsenide and germanium wafers, and sells related raw materials. Manufacturing is conducted in China, with strategic investments in Chinese raw-material suppliers. This unaudited Form 10-Q covers the three months ended March 31, 2020, filed May 8, 2020.
Key Financial Metrics
| Metric | Q1 2020 | Q1 2019 | Change |
|---|---|---|---|
| Revenue | $20.7 million | $20.2 million | Up 2.5% |
| Gross profit | $5.5 million | $6.7 million | Down 17.5% |
| Gross margin | 26.6% | 33.1% | Down 6.5 percentage points |
| Operating income (loss) | $(0.6) million | $0.6 million | Declined $1.3 million |
| Net income (loss) | $0.2 million | $(1.0) million | Improved $1.2 million |
| Net loss attributable to AXT | $(0.2) million | $(1.1) million | Improved $0.9 million |
| Basic and diluted loss per share | $(0.01) | $(0.03) | Improved |
| Operating cash flow | $(6.1) million | $(2.9) million | Outflow increased $3.2 million |
| Capital expenditures | $2.1 million | $2.9 million | Down $0.8 million |
Substrate revenue was $16.9 million, up 0.7%, primarily reflecting stronger germanium demand, partly offset by lower gallium arsenide demand. Raw-materials and other revenue was $3.8 million, up 11.6%, primarily due to stronger refined-gallium demand.
Operating expenses were $6.2 million, compared with $6.1 million in the prior-year quarter. Selling, general and administrative expense was $4.7 million and research and development expense was $1.4 million. Other income included a $1.4 million provincial-government relocation grant. Equity losses from unconsolidated joint ventures were $0.1 million, compared with $1.5 million in Q1 2019, which included a $1.1 million investment impairment.
Balance Sheet, Debt and Liquidity
- Cash and cash equivalents were $20.1 million at March 31, 2020, down from $26.9 million at December 31, 2019.
- Short-term investments were $8.7 million, resulting in total cash, cash equivalents and investments of $28.8 million, compared with $36.3 million at year-end.
- Accounts receivable increased to $23.6 million from $19.0 million; inventory was $48.3 million, including $16.6 million of excess and obsolete inventory reserves.
- Total debt was approximately $6.1 million, consisting primarily of $5.6 million borrowed by Tongmei and $0.4 million borrowed by BoYu. The company had no borrowings or letters of credit under its $7 million U.S. secured revolving facility.
- Total liabilities were $30.5 million and total stockholders’ equity was $192.2 million at quarter-end.
- Management stated that existing cash and investments were adequate to meet operating needs for the next twelve months, but warned that lower sales could accelerate cash usage and require additional capital.
Material Changes Versus the Prior Comparable Period
- Revenue increased modestly, but gross profit and gross margin declined materially because of product mix and less efficient manufacturing yields associated with production relocation.
- AXT moved all gallium arsenide ingot production from Beijing to Kazuo by December 31, 2019 and transferred gallium arsenide wafer-processing equipment to Dingxing. Volume production and customer qualification at Dingxing remained ongoing.
- Net income improved primarily because Q1 2019 included a $1.1 million impairment charge and a larger equity-method loss, while Q1 2020 benefited from a $1.4 million relocation grant.
- Operating cash flow deteriorated, primarily because of a $4.7 million increase in accounts receivable and higher uses of cash for prepaid and other assets.
- The company adopted the expected-credit-loss standard in Q1 2020 without a material financial-statement impact.
- Effective January 1, 2020, changes to estimated useful lives reduced manufacturing costs by approximately $0.3 million and reduced reported loss per share by approximately $0.01.
Outlook, Commentary, Risks and Unusual Items
The filing does not provide clear quantitative revenue or earnings guidance for future quarters. Management expects approximately $5 million of 2020 capital expenditures for the gallium arsenide manufacturing line, while JinMei expects $3.0 million to $3.5 million of 2020 facility investment and BoYu expects $4.0 million to $4.5 million.
- COVID-19 reduced staffing levels at Chinese manufacturing facilities during much of the quarter. Although government mandates later allowed a return to full staffing, management stated that the pandemic could materially adversely affect near-term business, operations and financial condition.
- Production relocation creates risks related to yields, customer qualification, employee retention, delays, added costs and potential loss of gallium arsenide customers.
- Approximately 10% of revenue derives from wafer imports into the United States; tariffs were approximately $0.2 million in Q1 2020, and the filing states that the applicable tariff rate had increased to 25%.
- Revenue is concentrated: two customers represented 17% and 15% of Q1 2020 revenue, and the top five customers represented 49%. Three customers represented 20%, 13% and 12% of accounts receivable.
- Approximately 90% of revenue is international, and manufacturing and most suppliers are located in China, exposing AXT to currency, trade, regulatory, environmental, transportation and geopolitical risks.
- The company carries significant inventory reserves and has ongoing exposure to raw-material pricing, supply-chain disruptions, environmental restrictions and potential impairment of minority investments.
- AXT entered into a fixed-cost cross-license agreement beginning January 1, 2020 and expiring December 31, 2029, with annual payments over ten years; the filing does not provide the payment amount.
- No material legal proceedings, purchase orders subject to cancellation penalties or off-balance-sheet financing arrangements were reported. Management assessed disclosure controls as effective.
Investor Verification Checklist
- Verify whether Dingxing customer qualifications and gallium arsenide volume production progressed without further yield or margin deterioration.
- Assess whether COVID-19, customer work stoppages and international demand affected subsequent orders, collections and accounts receivable aging.
- Track operating cash flow, cash and investments, and the repayment or renewal of Tongmei’s $5.6 million borrowings due in August and September 2020.
- Confirm the size and timing of relocation, JinMei and BoYu capital expenditures and whether these projects remain within planned budgets.
- Monitor gross margin recovery, product mix, tariff costs and manufacturing utilization following the relocation.
- Review customer concentration, raw-material joint-venture performance, inventory reserves and potential future investment impairments.