Garmin Ltd. — Q2 2016 Form 10-Q
Business context and reporting period. Garmin develops GPS-enabled navigation, communications and information products across Outdoor, Fitness, Marine, Auto and Aviation. This filing covers the 13 and 26 weeks ended June 25, 2016; comparisons are with the periods ended June 27, 2015. Amounts below are in U.S. dollars unless stated otherwise.
Financial results and liquidity
- Q2 revenue: $811.6 million, up 5%. Net income was $161.1 million, up 17%; diluted EPS was $0.85 versus $0.72. Gross margin was 57%, compared with 54%; operating income was $200.7 million, up 20%, and operating margin was 25% versus 22%.
- First-half revenue: $1.436 billion, up 6%. Net income was $249.2 million, up 22%; diluted EPS was $1.31 versus $1.07. Gross margin was 56% (down 25 basis points by management’s calculation); operating income was $304.5 million, up 9%, and operating margin was 21% versus 20%.
- First-half cash flow: Operating activities provided $279.4 million, versus $15.7 million used in the prior-year period. Investing activities used $84.5 million; financing activities used $229.4 million. Cash declined by $31.6 million to $801.5 million.
- Liquidity and capital structure: Current assets were $2.213 billion and current liabilities $1.010 billion. Cash plus marketable securities totaled approximately $2.360 billion; marketable securities were $1.558 billion in total. The balance sheet presents no debt line. Total assets were $4.528 billion and stockholders’ equity $3.219 billion.
- Capital returns: Garmin paid $193.1 million in dividends during the first half and declared $2.04 per share. It repurchased $45.1 million of shares in the first half; $123.5 million remained under the $300 million authorization, which expires December 31, 2016.
Material changes versus the prior comparable periods
- Fitness and Outdoor led growth: Q2 sales rose 34% and 23%, respectively; first-half sales rose 23% and 27%. Management attributed growth to activity trackers, running and cycling products, wearables, and DeLorme products. Marine and Aviation also grew in both periods.
- Auto sales fell 18% in Q2 and 15% for the first half, primarily due to lower personal navigation device volumes and reduced amortization of previously deferred revenue. Auto remained the largest segment, but its share of revenue declined from 39% to 30% in Q2 and from 38% to 31% in the first half.
- Q2 margin improved as cost of goods sold fell to 43% of revenue from 46%; management cited improvement across segments except Fitness. First-half consolidated gross margin was broadly flat, with Fitness product mix weighing on margin.
- First-half other income/expense improved to $6.9 million of income from $28.6 million of expense, chiefly because foreign-currency losses were lower ($10.6 million versus $44.8 million). Q2 currency losses were $5.7 million versus $0.5 million.
- Operating cash flow’s year-over-year swing chiefly reflected timing: income taxes payable contributed $184.9 million more cash than in the prior-year period, alongside other working-capital movements. The prior-year cash flow was affected by tax payments related to an intercompany restructuring.
Outlook, commentary, risks and unusual items
- No numerical full-year revenue or earnings guidance is provided in the supplied filing text. Management said existing cash balances and operating cash flow should be sufficient for projected capital expenditures, working capital and other cash needs. Fiscal 2016 is a 53-week year, with a 14-week final quarter.
- Management described ongoing research and development investment in new products, software improvements and potential new categories. It cited DeLorme-related expenses and compensation costs as factors behind higher SG&A.
- Management identified economic, regulatory and political uncertainty as risks to demand and margins. It specifically warned that the U.K.’s vote to leave the EU could affect its U.K. and European operations, currencies, taxation and trade regulation. Foreign exchange movements, particularly involving the Taiwan dollar and euro, also affect reported results.
- Garmin reported $306.5 million of open purchase orders and other commitments, but said it could not determine how much represented binding contractual obligations. Management did not believe material losses from legal contingencies were probable or reasonably possible beyond recorded accruals, while noting outcomes cannot be predicted with certainty.
- Legal matters include ongoing Navico marine-sonar proceedings and an appeal in the ICON matter. Garmin settled the Johnson Outdoors marine-sonar matters on confidential terms it said were not material. A proposed Forerunner 610 settlement would provide repairs or replacements and $385,000 in plaintiffs’ attorney fees, subject to court approval.
- Approximately 30.4% of the marketable-securities portfolio was in an unrealized loss position. Garmin said it did not intend, and did not expect to be required, to sell those securities before recovery; no material impairment charge was recorded. The company was evaluating newly issued accounting standards, including revenue recognition and leases.
- Garmin said disclosure controls were effective and reported no material change in internal control over financial reporting during the quarter.
Important facts for investors to verify
- Whether growth in Fitness, Outdoor, Marine and Aviation can offset continued weakness in Auto and personal navigation devices.
- How much of first-half operating cash flow reflects sustainable operations versus tax-payment and other working-capital timing effects.
- The credit quality, duration and valuation sensitivity of the $1.558 billion securities portfolio, including unrealized losses.
- Developments in Navico, ICON and other legal matters, and the final approval and cost of the proposed watchband settlement.
- The effect of U.K./EU developments and foreign-exchange movements on sales, margins and earnings.
- Future dividend, repurchase and acquisition cash requirements; the filing states that $123.5 million remained on the repurchase authorization.