Universal Electronics Inc. — Q3 2016 Form 10-Q
Business context and reporting period. The unaudited filing covers the quarter and nine months ended September 30, 2016. Universal Electronics develops and manufactures remote controls, AV accessories, control software and wireless home-automation products, and licenses device-control technology. It reports one operating segment.
Financial performance
| Metric | Q3 2016 | Q3 2015 | Nine months 2016 | Nine months 2015 |
|---|---|---|---|---|
| Net sales | $169.2 million | $160.5 million | $490.8 million | $440.7 million |
| Gross profit / margin | $41.8 million / 24.7% | $42.8 million / 26.7% | $122.9 million / 25.0% | $120.5 million / 27.3% |
| Operating income / margin | $8.1 million / 4.8% | $9.0 million / 5.6% | $19.1 million / 3.9% | $25.5 million / 5.8% |
| Net income attributable to Universal Electronics | $7.8 million | $6.3 million | $17.1 million | $19.8 million |
| Diluted EPS | $0.53 | $0.41 | $1.16 | $1.25 |
- Revenue and profit: Q3 sales increased 5.4%, while nine-month sales rose 11.4%. Business-line sales grew 5.8% in Q3 and 12.5% year to date; consumer-line sales were nearly flat in Q3 and fell 1.7% year to date.
- Margins and expenses: Gross margin weakened in both periods. Management cited price reductions for large customers, lower-margin customer mix, temporary factory-transition inefficiencies, lower TV and mobile royalty revenue, and currency effects. Nine-month R&D rose 20.8% to $15.3 million; SG&A rose 7.5% to $88.5 million, including payroll and factory-transition costs.
- Cash flow: Nine-month operating cash flow was $38.7 million, versus $22.5 million a year earlier. Capital expenditures were $28.9 million; net cash used in investing was $30.2 million. Cash and cash equivalents fell $4.8 million from year-end to $48.1 million. Working capital was $123.2 million.
- Debt and liquidity: The company had $35.0 million outstanding on its $85.0 million revolving credit line, leaving approximately $50.0 million available after letters of credit. The facility runs to November 1, 2018; the rate was 1.77% at quarter-end. The company reported compliance with its covenants. It said cash, expected operating cash flow and borrowing availability should cover expected outlays for the next 12 months.
- Balance sheet: Total assets were $520.6 million and total liabilities $231.2 million at September 30, 2016. Accounts receivable was $134.4 million and inventory $124.1 million. The filing reports $4.6 million of restricted cash for a litigation surety bond and $4.8 million of long-term restricted cash deposited by the buyer of the Guangzhou facility.
Changes, outlook, risks and unusual items
- Q3 net income improved despite lower operating income, supported in part by a 5.1% effective tax rate versus 25.8% a year earlier. The lower rate reflected $1.8 million in tax refunds, partly offset by a $0.7 million reduction in deferred tax assets. For nine months, the effective tax rate was 14.7% versus 22.1%.
- Nine-month operating cash flow improved year over year. Management attributed this to working-capital movements and higher noncash stock compensation and depreciation and amortization. Days sales outstanding increased to 72 days from 63 days, partly because of longer payment terms for certain significant customers.
- In March 2016, the company issued Comcast performance-based warrants for up to 725,000 shares at $54.55 per share. None had vested by September 30. The company recorded $3.2 million as a reduction of nine-month sales and reported $24.6 million of unrecognized estimated warrant value. Future estimates and vesting could affect reported sales.
- The company is moving production from its higher-cost Guangzhou factory to three other China factories. It recorded $1.6 million of severance costs in the first nine months and expected approximately $10 million of additional severance over the next 12–15 months. The September 2016 agreement to sell the factory for about $48 million remains subject to due diligence and regulatory approval; closing was expected within approximately 28 months.
- The company recorded $2.0 million of estimated litigation settlement costs in the first nine months in connection with an agreement in principle to resolve disputes with Universal Remote Control and related parties. Definitive settlement documents were still being finalized. Separate patent litigation in Europe remained pending.
- Ecolink, acquired in 2015, contributed $3.7 million of sales and a $1.5 million net loss to the first nine months of 2016; Q3 contribution was $0.9 million of sales and a $0.9 million net loss. The company sold its interest in Encore Controls in April 2016 and recorded a $65,000 gain.
- Comcast and DIRECTV together accounted for 33% of Q3 sales; Comcast alone accounted for 22.7% of nine-month sales. Management identified customer concentration, market demand, product acceptance, integration and restructuring execution, component supply, litigation, and foreign-exchange movements among key risks. A 10% exchange-rate movement across specified currencies was estimated to change Q4 2016 net income by approximately $10 million.
- No quantified earnings or revenue guidance was provided. Management’s stated 2016 priorities included developing advanced remote-control and home-automation products, expanding international markets and customer relationships, and pursuing complementary acquisitions or strategic partnerships.
Most important facts for investors to verify
- Whether gross margins stabilize after customer pricing pressure and manufacturing transitions, and whether the planned factory relocation produces expected savings.
- Progress, timing, approvals and final proceeds from the Guangzhou factory sale, together with actual severance costs.
- Customer concentration, collection trends and the effect of extended payment terms on receivables and cash conversion.
- Comcast purchase levels, warrant vesting assumptions and the resulting reductions to revenue and potential dilution.
- Completion and final terms of the URC settlement, and developments in the remaining patent proceedings.
- Foreign-currency exposure and the availability of cash held outside the United States; the filing notes that repatriation may entail U.S. tax and some balances are subject to local restrictions.