KLA-Tencor Corporation — Q2 FY2013 Form 10-Q
Business context and reporting period. KLA-Tencor supplies process-control and yield-management equipment and services to semiconductor and related industries. This unaudited filing covers the quarter and six months ended December 31, 2012; the fiscal year ends June 30, 2013. The business is cyclical and driven largely by semiconductor manufacturers’ capital spending.
Financial performance
| Metric | Q2 FY2013 | Year-over-year comparison | Six months ended Dec. 31 | Year-over-year comparison |
|---|---|---|---|---|
| Revenue | $673.0 million | +5%; down 7% sequentially | $1,393.7 million | −3% |
| Product revenue | $523.0 million | +4% | $1,097.1 million | −5% |
| Service revenue | $150.0 million | +6% | $296.6 million | +3% |
| Gross margin | 54.8% | Down from 57.5% | 55.4% | Down from 57.4% |
| Operating income | $153.2 million | −4% | $339.8 million | −18% |
| Net income | $106.6 million | −4% | $242.0 million | −20% |
| Diluted EPS | $0.63 | vs. $0.66 | $1.43 | vs. $1.78 |
- Gross margin fell sequentially and year over year, reflecting lower revenue volume and higher inventory reserves, partly offset by a more favorable quarterly product mix. Reserves related to product transitions and inventory held to support faster deliveries and service response commitments.
- Q2 revenue was led by defect inspection at $367.7 million (55% of total), followed by service at $150.0 million (22%) and metrology at $116.6 million (17%). Taiwan represented 33% of quarterly revenue.
- Operating cash flow for the six-month period was $322.8 million, down from $406.2 million. The company attributed the decline mainly to approximately $57 million in higher tax payments and $47 million less in accounts-receivable collections.
- Capital expenditures were $37.4 million. Cash, cash equivalents and marketable securities totaled $2.58 billion at December 31, versus $2.53 billion at June 30; working capital was $3.4 billion.
- Long-term debt had a carrying value of $747.1 million and $750 million principal, consisting of 6.90% senior notes due 2018. Cash and investments substantially exceeded debt; the company reported compliance with debt covenants.
- The company paid $133.2 million in dividends and repurchased $136.6 million of stock during the six months. The quarterly dividend was raised from $0.35 to $0.40 per share.
Changes, outlook and management commentary
- Management said foundry customers resumed higher equipment purchases in the December quarter, particularly to support technology and capacity plans tied to mobile-device demand. It expected this order recovery to contribute to higher revenue in the March quarter, but gave no numeric revenue or earnings guidance in the provided filing text.
- The December-quarter revenue decline versus September reflected a low level of demand and orders in the September quarter and the resulting lower opening backlog. Six-month revenue and profit remained below the prior-year period.
- R&D spending increased 8% to $241.4 million for the six months, reflecting expanded development programs and related costs. The company said continued R&D investment is important to addressing customers’ future technology needs.
- The company recorded $3.1 million of costs in Q1 FY2013 after deciding to exit the solar inspection business, including goodwill impairment, severance and other costs.
- In October 2012, KLA-Tencor approved $60.3 million of cash-based long-term incentive awards, generally vesting over four years; expected payments after estimated forfeitures were approximately $50 million.
- The January 2, 2013 tax law reinstated the federal research credit retroactively. Management expected a $16.4 million tax benefit in the quarter ending March 31, 2013. The estimated FY2013 effective tax rate was approximately 26%.
- Management cited semiconductor-industry cyclicality, concentrated customers, order cancellations or delays, customer liquidity, inventory and product-transition risks, competition and technology changes as significant risks. One customer contributed more than 10% of Q2 revenue; two customers each exceeded 10% of receivables at quarter-end.
- Of $926.3 million held by foreign subsidiaries and branches, $753.4 million was intended to be permanently reinvested. Management said repatriating those funds could incur U.S. and foreign taxes of approximately 30%–50%.
Important facts for investors to verify
- Whether the expected March-quarter revenue improvement materialized, and how much depended on foundry orders and backlog conversion.
- Whether gross margins recover as revenue volume changes and inventory reserves from product transitions and delivery commitments normalize.
- Customer concentration and exposure to Taiwan, including the identity and financial health of major customers where disclosed in subsequent filings.
- Cash generation after elevated tax payments, dividends, repurchases, capital expenditures and the staged cash LTI obligations.
- Potential tax-audit outcomes, the timing and realization of the research-credit benefit, and the cost of repatriating foreign cash.
- Developments in legal matters and the potential settlement accrual referenced in SG&A; the filing says outcomes are uncertain and actual costs could exceed recorded amounts.