Dolby Laboratories, Inc. — Q2 FY2011 Form 10-Q
Reporting period: Fiscal quarter ended April 1, 2011. The year-to-date period covers 27 weeks, versus 26 weeks in the comparable prior-year period; the quarter comparisons are both 13 weeks. Amounts below are U.S. dollars unless noted.
Business context and financial results
Dolby develops and licenses audio and other entertainment technologies and sells related products and services. Licensing remains the largest revenue source. The company reported growth in licensing and services, offset by lower product revenue.
| Metric | Q2 FY2011 | Q2 FY2010 | YTD FY2011 | YTD FY2010 |
|---|---|---|---|---|
| Revenue | $250.0m | $243.4m | $492.7m | $464.6m |
| Gross margin | $221.6m; 88.6% | $213.8m; 87.8% | $435.1m; 88.3% | $399.2m; 86.0% |
| Operating income | $120.5m | $132.1m | $229.7m | $236.3m |
| Net income attributable to Dolby | $82.1m | $85.9m | $168.4m | $155.0m |
| Diluted EPS | $0.72 | $0.74 | $1.48 | $1.34 |
| Operating cash flow | Not separately provided | Not separately provided | $171.6m | $184.5m |
Q2 revenue increased 3% year over year: licensing rose 10% to $214.6m, services rose 19% to $9.1m, and products fell 34% to $26.3m. YTD revenue rose 6%, with licensing up 11% to $402.8m, services up 14% to $17.6m, and products down 17% to $72.4m. Q2 operating income declined 9% and net income attributable to Dolby declined 4%; YTD operating income fell 3%, while attributable net income increased 9%.
Cash, liquidity, debt and capital
- At April 1, 2011, cash and cash equivalents were $520.3m; short- and long-term investments totaled $613.9m. Cash, cash equivalents and investments together were $1.134bn, up from $1.039bn at September 24, 2010.
- Working capital was $874.8m, compared with $894.7m at fiscal year-end. Management said available cash, investments and expected operating cash flows should cover anticipated requirements for at least the next 12 months.
- YTD operating cash flow was $171.6m; investing cash use was $149.7m and financing cash use was $48.6m. Cash decreased $25.6m from the fiscal-year opening balance.
- YTD capital expenditures were $19.6m. Share repurchases were $75.1m for 1.28m shares. The remaining authorization was approximately $233.6m at quarter-end.
- The balance sheet reports no long-term debt balance. Current liabilities were $147.6m and total liabilities were $185.8m.
Material changes, outlook and notable items
- Licensing growth was led by broadcast shipments of digital televisions and set-top boxes; YTD growth also reflected Blu-ray Disc, gaming, automotive and licensing-services revenue. PC licensing weakened due to fewer ISV media applications in PC shipments and fewer notebooks with Dolby PC Entertainment Experience. Management expected ISV-related decreases to continue, with future impact uncertain.
- Product revenue was affected by comparison-period recognition of deferred revenue: $8.0m in prior-year Q2 and $22.0m in prior-year YTD. Current-quarter 3D sales also weakened amid market-share losses and reduced demand from a significant 3D customer.
- Q2 product gross margin fell to 24% from 48%. Dolby cited $4.2m of discrete charges, including $2.8m for 3D inventory valuation and adjustments and a $0.7m loss on sale of leased digital-cinema assets, as well as other royalty charges and increased 3D promotions.
- The YTD effective tax rate fell to 28% from 35%. Factors included an $11.0m release of a deferred tax liability following an international restructuring, the election to indefinitely reinvest some foreign earnings, and reinstated federal R&D tax credits. The filing does not provide quantified full-year revenue or earnings guidance.
- Dolby completed a business acquisition for a $4.5m purchase price during the first quarter. It also agreed to sell most held-for-sale digital cinema equipment; a $0.7m loss was recognized in the current quarter.
- Management identified risks from the uncertain effects of Japan’s earthquake and tsunami on licensee supply chains and demand. It also highlighted competition and market-share pressure in 3D cinema, the lack of a current 4K digital-cinema offering while one was in development, possible declines in PC/DVD-related licensing, and reliance on licensee shipment reporting.
- One customer represented 15% of Q2 revenue and 13% of YTD revenue. Routine legal proceedings were not expected by management to materially affect results or financial condition, though an unfavorable outcome could affect a particular period. The company reported effective disclosure controls and no material quarter-end change in internal control over financial reporting.
Important facts for investors to verify
- Whether broadcast and other licensing growth can offset continued weakness in PC-related royalties and declining legacy product categories.
- Whether 3D product demand and market share recover, and the timing and commercial prospects of Dolby’s planned 4K solution.
- How much reported YTD performance reflects the extra fiscal week, prior-period deferred-revenue recognition, and the quarter’s discrete product charges.
- Whether the lower effective tax rate is sustainable, given the tax benefits and foreign-earnings assumptions described in the filing.
- Investment portfolio exposure to interest rates and credit conditions: the filing estimates a 1% rate change could affect carrying value by about $5.8m; management said it did not expect to sell securities before recovering unrealized losses.
- Potential effects of customer concentration, licensee reporting, and the Japan disruption on revenue and cash generation.