Business context and reporting period
Smith Micro Software, Inc. designs and sells software for mobile connectivity, communications, content management, and consumer productivity. This unaudited Form 10-Q covers the quarter and six months ended June 30, 2011; comparisons are with the corresponding 2010 periods. Amounts are in U.S. dollars; financial figures below are in millions except per-share data.
Financial performance and position
| Metric | Q2 2011 | Q2 2010 | Six months 2011 | Six months 2010 |
|---|---|---|---|---|
| Revenue | $16.1 | $31.4 | $33.9 | $61.2 |
| Gross profit / margin | $12.5 / 77.9% | $27.4 / 87.4% | $26.6 / 78.4% | $53.5 / 87.4% |
| Operating income (loss) | $(13.0) | $3.7 | $(26.1) | $6.6 |
| Net income (loss) | $(7.8) | $1.9 | $(15.6) | $3.5 |
| Diluted EPS | $(0.22) | $0.05 | $(0.44) | $0.10 |
For the first half, operating cash flow was $0.25 million, down from $12.0 million; capital expenditures were $11.3 million, versus $3.3 million. Cash and cash equivalents were $17.1 million and short-term investments were $44.9 million at June 30, for total cash and investments of about $62.0 million. Working capital was $69.2 million. The company reported no debt. Current assets were $81.4 million and current liabilities $12.2 million.
At June 30, total assets were $223.5 million, including $94.2 million of goodwill and $15.4 million of net intangible assets. The first-half tax benefit was $10.4 million; management reported no valuation allowance against deferred tax assets.
Material changes versus prior comparable periods
- Revenue fell 48.6% year over year in Q2 and 44.6% for the first half. Wireless revenue declined 51.3% in Q2 and 46.1% in the first half. Management attributed the largest portion of the decline to lower connection-manager sales at a key customer, alongside a prior-year device-solutions sale that did not recur.
- Productivity & Graphics revenue decreased 23.2% in Q2 and 30.0% for the first half, with management citing weak consumer spending and a shift toward higher-margin marketing. Wireless remained the dominant business.
- Gross margin contracted 9.5 percentage points in Q2 and 9.0 points in the first half. Management cited lower revenue and under-absorption of fixed datacenter costs.
- Operating expenses increased 7.9% in Q2 and 12.1% for the first half, despite lower revenue. R&D spending rose to support new products; G&A increases included facility occupancy and legal costs.
- Receivables declined from $29.8 million at year-end 2010 to $12.1 million, contributing a $17.4 million operating cash source. Cash and investments together decreased from about $72.6 million to $62.0 million.
Outlook, commentary, risks and unusual items
Management said mobile hotspots and smartphones that act as hotspots are reducing demand for its core connection-management products in North America. New products intended to address this market shift had not yet gained adoption; management described future wireless revenue as materially uncertain. It expected several product launches in the second half of 2011 and said successful launches could improve revenue and profitability. The filing provides no quantified revenue or earnings guidance.
Management believed available cash, investments, and operating cash flow would fund working capital and capital expenditures for at least 12 months, while cautioning that additional financing might be needed and could be unavailable on acceptable terms. Further datacenter capital spending was anticipated.
Goodwill was $94.2 million, with no impairment recorded. Management said a step-one impairment test would likely be required if revenue, profitability, and stock price did not improve in Q3 and/or Q4 2011. The assessment depends on forecasts and new-product success.
A purported securities class action was filed June 29, 2011 against the company and certain officers and directors, seeking unspecified damages. The company intended to defend the matter and seek dismissal; an unfavorable outcome could materially affect results or cash flows. A federal tax examination of the 2008 return was underway, with completion expected by year-end 2011.
The company announced its Chicago facility would close September 30, 2011. It recorded $77,000 of leasehold-improvement write-offs in June and estimated $0.7–$0.8 million of severance and future lease-related expenses for Q3. Operating lease commitments totaled $21.7 million; total disclosed lease and purchase obligations were $23.8 million.
Other key risks include customer concentration (three customers represented 63.6% of Q2 revenue), intense competition, technology changes, volatile quarterly results, and potential goodwill impairment. Disclosure controls were reported effective as of June 30, 2011, with no material change in internal control over financial reporting during the quarter.
Important facts for investors to verify
- Whether new wireless products gain adoption and offset weakening connection-manager demand, particularly at the key customer.
- Whether revenue and profitability stabilize in the second half of 2011, and whether goodwill impairment testing or a charge becomes necessary.
- Whether cash generation improves after first-half operating cash flow of only $0.25 million and capital expenditures of $11.3 million.
- The progression, insurance coverage, legal costs, and potential exposure of the securities class action.
- The actual Q3 costs and cash impact of the Chicago closure, and the company’s ability to fund ongoing datacenter and lease commitments.