Corning Incorporated 2018 Q1 Form 10-Q Summary
Business context and reporting period
Corning Incorporated filed its unaudited Form 10-Q for the three months ended March 31, 2018. The company operates through Display Technologies, Optical Communications, Specialty Materials, Environmental Technologies, Life Sciences, and All Other businesses. The filing reflects adoption of ASC Topic 606, Revenue from Contracts with Customers, using the modified retrospective method; management reported that the transition impact was immaterial.
Financial performance and position
| Metric | Q1 2018 | Q1 2017 | Change |
|---|---|---|---|
| Net sales | $2.500 billion | $2.375 billion | +5% |
| Gross margin | $955 million; 38.2% | $951 million; 40.0% | Margin down approximately 2 percentage points |
| Operating income | $194 million | $413 million | Down $219 million |
| Income before taxes | $(465) million | $20 million | Down $485 million |
| Net income attributable to Corning | $(589) million | $86 million | Down $675 million |
| Diluted earnings per share | $(0.72) | $0.07 | Declined $0.79 |
| Core earnings, non-GAAP | $299 million; $0.31 per diluted share | $376 million; $0.36 | Down 20% |
| Cash flow from operations | $320 million | $191 million | Up $129 million |
| Capital expenditures | $655 million | $364 million | Up $291 million |
Gross margin pressure reflected high-single-digit LCD glass price declines, Display Technologies manufacturing inefficiencies, and spending for optical fiber, cable, and gasoline particulate filter capacity expansions. Selling, general and administrative expense increased 57% to $501 million, principally due to litigation charges. Research, development, and engineering expense increased 19% to $241 million.
Segment sales were $2.513 billion, before a $13 million foreign-currency adjustment to consolidated sales. Optical Communications sales increased 8% to $886 million; Environmental Technologies increased 17% to $322 million; and Life Sciences increased 10% to $232 million. Display Technologies declined 5% to $745 million, and Specialty Materials declined 7% to $278 million.
| Balance-sheet metric | March 31, 2018 | December 31, 2017 |
|---|---|---|
| Cash and cash equivalents | $3.096 billion | $4.317 billion |
| Working capital | $4.668 billion | $5.618 billion |
| Current ratio | 2.6:1 | 2.8:1 |
| Current debt | $380 million | $379 million |
| Long-term debt | $4.808 billion | $4.749 billion |
| Total debt to total capital | 26% | 25% |
Cash declined primarily because of $800 million of share repurchases, $177 million of dividends, and $655 million of capital expenditures. The company had no commercial paper outstanding and had access to a $2 billion revolving credit facility. Management stated that liquidity was sufficient for operations, acquisitions, asbestos litigation, capital expenditures, debt repayments, dividends, and planned share repurchases.
Material changes versus the prior comparable period
- Net sales increased 5%, led by Optical Communications, Environmental Technologies, and Life Sciences, partly offset by declines in Display Technologies and Specialty Materials.
- GAAP results shifted from $86 million of net income to a $589 million net loss. The principal after-tax drivers were a $263 million increase in translated earnings-contract losses, a $103 million legal-related charge, a $172 million IRS audit settlement charge, lower Display Technologies and Specialty Materials earnings, and lower equity earnings.
- Translated earnings-contract loss increased to $622 million from $438 million. The gross notional value of these contracts was approximately $14.3 billion at March 31, 2018.
- Operating cash flow improved to $320 million, supported by $276 million of customer deposits, while investing and financing cash outflows increased to $644 million and $959 million, respectively.
- Corning repurchased 27.1 million shares for approximately $814 million during the quarter. The quarterly dividend increased 16%, from $0.155 to $0.18 per share.
- On April 26, 2018, the board authorized a new $2 billion repurchase program to begin after the existing authorization is exhausted.
Guidance, outlook, risks, and unusual items
Management expects 2018 segment net sales of approximately $11 billion and describes the year as one of strong growth and investment. The company expects Display Technologies pricing declines to improve toward mid-single digits and volume growth above the LCD glass market, Optical Communications sales growth of approximately 10% excluding the pending 3M Communications Market Division acquisition, Environmental Technologies growth of approximately 10%, and mid-single-digit growth in Life Sciences. Specialty Materials growth is expected to depend on product launches and adoption of innovations.
For the second quarter, management expects low-single-digit sequential LCD glass market growth, slower Display pricing declines, low-teens year-over-year Optical Communications growth, mid-to-high-single-digit Specialty Materials sales declines, high-teens Environmental Technologies growth, and high-single-digit Life Sciences growth. Planned 2018 capital expenditures were slightly more than $2 billion.
- The effective tax rate was 26.7% on a pretax loss, including $172 million of additional expense related to a preliminary IRS agreement covering the 2013 and 2014 audits. Accounting for the 2017 Tax Act remained incomplete, including GILTI and the indefinite reinvestment assertion.
- Corning had $682 million of customer deposits at March 31, 2018, including $276 million received during the quarter, associated primarily with long-term Display Technologies supply agreements.
- Asbestos-related obligations included $220 million of payments due from 2018 through 2022, including a $35 million payment due in the second quarter of 2018, and a $147 million reserve for non-PCC asbestos claims. Environmental liabilities were accrued at approximately $38 million.
- Corning remained exposed to foreign-exchange volatility, product demand and pricing, industry capacity, major-customer credit and demand, technology changes, litigation, intellectual-property enforcement, supply-chain disruptions, cyber and operational events, and changes in tax laws.
- Precious-metal assets used in Display Technologies and Specialty Materials exceeded fair market value by $661 million at March 31, 2018. Management considered the assets recoverable based on expected segment cash flows, but identified potential future impairment risk if demand or profitability declines materially.
Important facts for investors to verify
- Reconcile GAAP net loss with core earnings and assess the recurring versus nonrecurring effects of hedging losses, litigation, and tax charges.
- Monitor Display Technologies pricing, volume, manufacturing efficiency, and the ramp of the Gen 10.5 China facility.
- Evaluate whether the planned capital spending and capacity expansions generate the expected Optical Communications and Environmental Technologies growth.
- Track cash usage from share repurchases, dividends, capital expenditures, and customer deposits, together with the decline in cash during the quarter.
- Review the potential exposure from asbestos claims, Dow Corning indemnities, environmental matters, the IRS settlement, and other legal proceedings.
- Assess the impact of the 2017 Tax Act as Corning completes its provisional accounting and GILTI policy election.