MACOM Technology Solutions Holdings, Inc. — Q3 FY2015 Form 10-Q
Reporting period: Quarter ended July 3, 2015 (13 weeks); nine months ended July 3, 2015 (26 weeks). Comparable 2014 nine-month period was 27 weeks. Amounts below are in U.S. dollars; financial statement amounts are in millions unless stated otherwise.
Business context and reporting period
MACOM designs, manufactures and markets high-performance analog, RF, microwave, millimeterwave and photonic semiconductor products. It reports one operating segment and serves Networks, Aerospace and Defense (A&D), Automotive and Multi-market customers. The quarter’s results include BinOptics, acquired December 15, 2014; the prior-year reported period does not include BinOptics.
Key financial metrics
| Metric | Q3 FY2015 | Q3 FY2014 | Nine months FY2015 | Nine months FY2014 |
|---|---|---|---|---|
| Revenue | $130.7 | $112.4 | $370.4 | $304.3 |
| Gross profit / gross margin | $59.8 / 45.8% | $50.2 / 44.7% | $168.0 / 45.4% | $112.8 / 37.1% |
| Operating income (loss) | $10.2 | $7.3 | $22.6 | $(22.5) |
| Net income (loss) | $8.0 | $1.2 | $(5.8) | $(29.9) |
| Diluted earnings (loss) per share | $0.15 | $0.02 | $(0.12) | $(0.64) |
| Cash provided by operating activities | Not presented for quarter alone | $28.2 | $9.7 |
Revenue rose 16.3% in the quarter and 21.7% for the nine-month period. Nine-month revenue growth occurred despite the shorter reporting period. Networks revenue increased 37.6% for the quarter and 52.7% year to date; A&D declined 8.3% and 2.8%, respectively; Automotive increased 14.3% and 3.3%; Multi-market declined 16.0% and 2.5%.
At July 3, 2015, cash and cash equivalents were $80.7, total current assets $309.2 and current liabilities $65.7. Total assets were $806.7 and total liabilities $445.9. Term-loan principal outstanding was $346.5; the company had $130.0 of available revolving borrowing capacity and reported compliance with its debt covenants. The term loans and revolver are secured by a first-priority lien on substantially all company assets. Nine-month interest expense was $14.0, compared with $7.8 a year earlier.
Nine-month investing cash outflow was $242.1, including $208.4 for BinOptics and $32.5 for property and equipment. Financing cash inflow was $121.1, principally reflecting $127.7 net proceeds from the February 2015 share offering. Cash fell by $93.2 from $173.9 at the start of the fiscal year.
Material changes versus the prior comparable period
- Higher revenue and gross margin reflected stronger Networks sales, acquired photonics revenue and favorable product mix. BinOptics contributed $20.2 of Q3 revenue and $39.4 for the nine months.
- MACOM changed distributor revenue recognition from sell-through to sell-in in Q1 FY2015. The change added $17.5 to nine-month net revenue and reduced nine-month net loss by $9.4, including a $12.4 one-time net revenue effect. In Q3, it reduced revenue by $1.3 and increased net loss by $0.6. The company recorded a $6.2 reserve for future distributor returns and credits.
- Nine-month operating results improved from an operating loss to operating income. Lower restructuring charges contributed: $1.0 for the nine months versus $15.7 in the prior-year period.
- SG&A rose 24.7% year to date, primarily from acquisition and integration costs, higher compensation and litigation costs. R&D rose 16.0%, primarily due to acquired businesses and increased personnel.
- Nine-month results included a $15.7 warrant-liability expense, versus $5.6 in the prior year, and $14.0 of interest expense, up from $7.8. The warrant liability is remeasured at fair value and is a non-cash earnings item.
Outlook, management commentary, risks and unusual items
- Outlook: The filing provides no quantified revenue or earnings guidance. Management said cash, operating cash generation and available revolver capacity should be sufficient for working-capital needs for at least the next 12 months. It expected to maintain or increase R&D investment, while noting quarterly spending may vary. Management cited Networks demand, including optical and higher-speed communications applications, and A&D programs as growth drivers; it also noted market, product-mix and demand uncertainty.
- Automotive divestiture: After quarter-end, MACOM agreed to sell its automotive module business to Autoliv for $100 cash, subject to customary adjustments, plus up to $30 in earn-out payments. MACOM expected closing in Q4 FY2015. The agreement also provides for transition services and a consulting arrangement that could generate up to $15 over two years. Closing and earn-out proceeds are not assured.
- Unusual items: Q3 other income included $4.0 from a litigation settlement. Nine-month results included a $3.5 impairment charge on a minority equity investment and $2.0 of income from milestones related to the prior sale of a product line. The quarter included $2.3 of acquired-inventory step-up costs; the nine-month amount was $6.3.
- Acquisition accounting and controls: Management identified a material weakness in acquisition-related accounting and reporting, including BinOptics purchase accounting and a cash-flow classification error. The identified adjustments were not material individually to the financial statements, but their accumulation led management to conclude disclosure controls over acquisition accounting and reporting were ineffective. BinOptics was excluded from the controls assessment and represented 29% of assets and 15% and 11% of revenue for the quarter and nine months, respectively. Management expected remediation during Q4 FY2015.
- Contingencies: A putative California employee class action alleges misclassification and seeks unpaid wages, penalties and legal fees; MACOM disputes the claims and says it cannot reasonably estimate possible loss. The filing also describes an NXP lawsuit alleging breach of a nondisclosure agreement relating to hiring; the company does not quantify a potential loss. The Laird patent dispute was settled, with a permanent injunction and dismissal entered in April 2015.
- Principal risks: Customer and distributor concentration, variable-rate debt, acquisition integration and purchase-accounting execution, product and market cyclicality, demand and product-mix shifts, supply constraints, intellectual-property and employment litigation, and execution of the proposed automotive sale. Ford represented 17% of nine-month revenue; the top ten customers represented 60%.
Investor verification priorities
- Assess the sustainability of revenue and margin growth after separating acquired BinOptics sales, the distributor accounting change and acquired-inventory step-up costs.
- Review distributor sell-in estimates, returns and rebate assumptions, and whether the $6.2 reserve adequately captures future credits and returns.
- Track remediation of the acquisition-related material weakness, the next controls assessment and final BinOptics purchase-price allocation.
- Verify the Autoliv transaction’s closing, final proceeds, escrow and earn-out conditions, and the treatment of automotive revenue after divestiture.
- Monitor cash conversion, cash levels, debt repayment, variable-rate exposure and covenant compliance; a 1% rate change on then-outstanding debt would change annual interest expense by approximately $3.5.
- Follow customer concentration and the status or potential financial exposure of the employee and NXP litigation; the filing does not provide a clear estimate of possible losses.