INSEEGO CORP. quarterly report, Q2 FY2015

Business context and reporting period

This is Novatel Wireless, Inc.’s unaudited Form 10-Q for the quarter and six months ended June 30, 2015. The filing describes a provider of mobile broadband and machine-to-machine (M2M) wireless products and services; it consolidated its Mobile Computing and M2M operations into one reportable segment. The request identifies INSEEGO CORP., but the filing itself names Novatel Wireless, Inc. as the registrant.

Financial performance and position

Revenue increased 47.1% year over year in Q2 and 26.6% for the first half. Management attributed growth to continued MiFi 6620L sales and the Feeney Wireless (FW) acquisition. Q2 Mobile Computing revenue rose 27.3% to $35.0 million; M2M revenue rose 102.8% to $19.8 million, including FW. Improved product mix and the absence of a substantial prior-year inventory-obsolescence provision helped lift gross margin. Losses narrowed, although operating expenses increased, including acquisition, retention-bonus and earn-out costs.

For the six months, operating cash flow was $(19.2) million, versus positive $1.0 million a year earlier. Investing cash flow was $(98.2) million, principally reflecting $88.3 million placed in escrow for the proposed DigiCore acquisition and $9.1 million paid for FW. Financing cash flow was positive $117.6 million, including the convertible-note offering and warrant exercise. Cash was $17.9 million at June 30, 2015, versus $17.9 million at year-end 2014. Working capital was $130.0 million, but included $88.5 million in acquisition-related escrow.

The company issued $120.0 million principal of 5.50% convertible senior notes due 2020; the balance-sheet carrying amount was $78.2 million after debt discount and issuance costs. The notes are senior unsecured, initially convertible at $5.00 per share, with settlement in cash, stock or a combination at the company’s election. The revolving credit facility had no balance outstanding; approximately $24.0 million was available, subject to its borrowing base. The facility is secured by substantially all company assets. Management stated it believed cash, revolver availability and expected operating cash flows would meet working-capital needs for the next 12 months.

Material changes, outlook and risks

• FW acquisition: Completed March 27, 2015, for preliminary consideration of approximately $24.8 million, including $15.0 million in shares to be issued later. An earn-out of up to $25.0 million is possible; approximately $1.4 million was accrued at June 30. FW contributed $11.9 million of Q2 revenue after acquisition.
• Proposed DigiCore acquisition: The June agreement contemplated an all-cash purchase price of approximately $87 million, capped at about $88.3 million. The maximum amount was placed in escrow. Completion remained subject to DigiCore shareholder and South African regulatory approvals. The company disclosed that Nasdaq rules could limit use of note proceeds for the deal without shareholder approval; it estimated only $40.2 million could be used without such approval and warned of alternative-financing, dilution and potential delisting risks.
• Management outlook: No specific revenue or earnings guidance was provided. Management expected R&D, sales and marketing, and general and administrative expenses to decline in Q3 versus Q2 because of targeted cost reductions, including headcount reductions. It also anticipated new 4G broadband, M2M and software products over the next 12 months.
• Subsequent restructuring: Approved August 3, 2015, with expected pre-tax charges of approximately $0.6 million and cash expenditures of approximately $0.9 million; completion was expected by September 30, 2015.
• Customer concentration and execution: The two largest customers represented 56.5% and 12.0% of Q2 revenue; the largest represented 52.0% of first-half revenue. Manufacturing is outsourced, and the company cited supplier delays, capacity and quality risks.
• Other significant items: The company accrued $10.7 million for employee retention bonuses; U.S. employees were paid in July using 2.2 million net shares, while non-U.S. employees were to receive cash. A $97.0 million valuation allowance covered net deferred tax assets; possible ownership changes could limit use of tax-loss and credit carryforwards. The filing reports patent litigation and customer indemnification obligations, which management did not expect to be material, while noting indemnification exposure could not be estimated. Disclosure controls were assessed as effective.
• Core risks: Continued losses and negative operating cash flow, dependence on a small number of customers, acquisition completion and integration, debt service and potential dilution, product competition and development, third-party manufacturing, and foreign-currency and international operating risks.

Important facts for investors to verify

1. Whether DigiCore received the required approvals and how the Nasdaq proceeds restriction was resolved, including any effect on listing status or financing.
2. Whether operating cash flow, margins and customer concentration improved after the reporting period, and whether management’s expected Q3 expense reductions were achieved.
3. The final FW purchase-price allocation, earn-out expense and share issuance, as well as integration costs and performance.
4. Convertible-note terms, potential dilution, cash interest obligations and compliance with revolving-credit covenants.
5. The cash and working capital actually available after accounting for escrow restrictions, restructuring payments and other commitments.
6. Any subsequent developments in patent litigation, tax-attribute limitations, or the August 2015 restructuring.