Sonos, Inc. — Form 10-Q Summary
Reporting period: Fiscal third quarter and nine months ended June 30, 2018; comparable periods ended July 1, 2017. Sonos designs and sells connected home-audio products through retail, e-commerce and its website. Amounts below are in U.S. dollars; financial amounts are in millions unless noted.
Financial performance
| Metric | Q3 2018 | Q3 2017 | Nine months 2018 | Nine months 2017 |
|---|---|---|---|---|
| Revenue | $208.4 | $223.1 | $864.1 | $778.4 |
| Gross profit / margin | $95.5 / 45.8% | $107.3 / 48.1% | $373.0 / 43.2% | $353.2 / 45.4% |
| Operating income (loss) | $(21.6) | $(16.1) | $(9.1) | Approximately break-even |
| Net income (loss) | $(27.0) | $(14.5) | $(13.9) | $0.7 |
| Adjusted EBITDA / margin | $(1.5) / (0.7)% | $2.3 / 1.0% | $49.0 / 5.7% | $51.4 / 6.6% |
| Products sold | 887,000 | 796,000 | 3,957,000 | 3,173,000 |
Q3 revenue declined 6.6% year over year despite an 11.4% increase in products sold. Management attributed the revenue decline mainly to comparison with initial retail-partner inventory purchases around the prior-year PLAYBASE launch. Sonos One supported volume growth, while home-theater sales were affected by lower PLAYBASE sales. Nine-month revenue grew 11.0%, while products sold rose 24.7%. Adjusted EBITDA is a non-GAAP measure.
- Q3 gross margin fell 2.3 percentage points; the company cited lower launch margins on Sonos One and lower prices for older wireless speakers. Nine-month margin fell 2.2 points.
- Q3 operating expenses were $117.1 million, down from $123.4 million, including a $9.3 million decline in sales and marketing that was partly offset by $3.5 million of reorganization charges. Nine-month operating expenses increased to $382.1 million from $353.2 million, including higher R&D and G&A spending.
- For the nine months, operating cash flow was $15.8 million, versus $45.9 million a year earlier; investing cash use was $25.9 million, primarily for property and equipment. Cash and cash equivalents ended June at $124.4 million, down from $130.6 million at September 30, 2017.
- At June 30, current assets were $305.0 million and current liabilities $201.0 million. Long-term debt carrying value was $39.7 million. The company had no outstanding borrowings under its revolving facility at quarter-end and reported covenant compliance.
Material changes, outlook and risks
- IPO and financing after quarter-end: Sonos completed its IPO on August 6, 2018, issuing 6.39 million shares at $15 per share and receiving $90.6 million net of underwriting discounts and commissions; selling stockholders also sold shares. The company estimated additional offering costs of approximately $4.6 million. Preferred shares converted into 32.48 million common shares. A two-for-one stock split was effected July 19, with share information retroactively adjusted in the filing.
- Debt refinancing: In July, Sonos amended its J.P. Morgan facility, extending maturity to October 2021 and increasing borrowing capacity from $80 million to $120 million. It borrowed $40 million under a new term loan at adjusted LIBOR plus 2.25% and used the proceeds to repay its former Gordon Brothers term loan, which carried an effective rate of 11.48% at June 30.
- Management outlook: No numerical revenue or earnings guidance is provided. Management expects existing cash, operating cash flow, committed credit lines and IPO proceeds to fund working-capital and capital-expenditure needs for at least 24 months. It expects ongoing investment in R&D and marketing and says more frequent product launches may pressure margins in the near to intermediate term.
- Operating risks: Management expected a global shortage and higher costs of multilayer ceramic capacitors to weigh on gross margin through calendar 2019. It also cited foreign-exchange exposure, possible U.S.–China tariffs, seasonality, intense competition and dependence on a single contract manufacturer, Inventec. Sonos One and Beam voice features rely on Amazon Alexa; the filing notes the integration could be disabled or become chargeable. New-product acceptance and partner relationships are important uncertainties.
- Other notable items: The company reported $40.9 million of non-cancelable inventory purchase commitments at June 30. Its Denon patent dispute was settled in May 2018, with royalty payments over the following nine months and the litigation dismissed with prejudice. A separate patent case brought by Implicit remained pending; the company said any loss was not then probable or reasonably estimable.
- Controls: Management concluded disclosure controls were ineffective at June 30 because of material weaknesses involving staffing and accounting/review controls for complex or unusual transactions. Remediation efforts include hiring experienced personnel and strengthening controls; management stated the financial statements fairly present the company’s position and results in accordance with GAAP.
Important facts for investors to verify
- Whether unit growth can translate into revenue growth and improved gross margin, particularly amid component-cost pressures, tariffs and foreign-exchange movements.
- Whether new voice-enabled products gain adoption and whether Sonos can maintain access to Alexa and other content and technology partners.
- How operating cash flow, working capital and inventory commitments evolve through the seasonal holiday quarter.
- The post-IPO capital structure, dilution from outstanding options and equity plans, and the terms and repayment schedule of the new term loan.
- Progress in remediating material weaknesses in internal controls, and developments in the Implicit litigation and other contingencies.