Harmonic Inc. — Q3 2013 Form 10-Q
Business context and reporting period
Quarter ended September 27, 2013; financial comparisons are with the quarter and nine months ended September 28, 2012. Harmonic designs and sells video infrastructure products and related services to cable, satellite, telecom, broadcast, media and streaming customers. Results present the cable access HFC business as discontinued operations following its March 5, 2013 sale to Aurora Networks for $46 million cash.
Key financial metrics
| Metric | Q3 2013 | Q3 2012 | Nine months 2013 | Nine months 2012 |
|---|---|---|---|---|
| Revenue | $122.9 million | $120.4 million | $341.7 million | $358.9 million |
| Gross profit / margin | $56.8 million / 46% | $54.9 million / 46% | $160.8 million / 47% | $160.4 million / 45% |
| Operating income (loss) | ($2.6) million | ($4.0) million | ($22.0) million | ($17.2) million |
| Continuing operations income (loss) | $36.7 million | ($4.5) million | $23.8 million | ($17.1) million |
| Net income (loss) | $36.8 million | ($8.2) million | $39.4 million | ($15.7) million |
| Diluted EPS | $0.36 | ($0.07) | $0.36 | ($0.13) |
Net income benefited substantially from a $38.4 million discrete tax benefit in Q3 following expiration of the statute of limitations for U.S. tax years 2008 and 2009. Nine-month discontinued-operations income included a $14.8 million after-tax gain on the HFC sale. Reported earnings therefore do not reflect underlying operating profitability; continuing operations had operating losses in both periods.
Nine-month operating cash flow was $35.1 million, versus $50.1 million a year earlier. Investing activities provided $59.7 million, including $43.5 million net proceeds from the HFC sale; financing activities used $98.1 million, primarily for share repurchases. Cash and equivalents were $93.3 million and short-term investments $76.0 million at quarter-end, down from a combined $201.2 million at December 31, 2012 to $169.3 million. Current assets were $329.6 million and current liabilities $87.8 million. No borrowings were outstanding; $9.8 million was available under a $10 million revolving credit facility. The company reported compliance with its 1.75-to-1.00 liquidity covenant, at 4.71-to-1.00.
Material changes versus comparable periods
- Q3 revenue increased 2% year over year, while nine-month revenue declined 5%. Q3 video processing revenue rose 16% to $58.0 million; production and playout fell 16% to $20.0 million, and cable edge fell 14% to $20.7 million. Service and support rose 8% to $24.2 million.
- Nine-month cable edge revenue fell 31%, chiefly amid U.S. Pay TV provider softness as customers anticipated CCAP products. Video processing was approximately flat, while service and support rose 10%.
- Gross margin was flat at 46% in Q3 and improved to 47% from 45% for nine months. Management cited product mix and improvement efforts, partly offset in Q3 by lower margins on a large European project.
- SG&A rose 7% for nine months to $100.2 million, including higher compensation, legal costs—primarily related to Avid litigation—and shareholder-activist advisory costs. R&D declined 2%.
- The company repurchased $103.5 million of shares during the nine-month period, including the May tender offer for 12.0 million shares at $6.25 each. At quarter-end, $94.8 million remained authorized for repurchases; shares outstanding were 100.9 million.
Outlook, commentary, risks and unusual items
Management stated existing liquidity was expected to cover operations and contemplated cash requirements for at least the next 12 months, including potential repurchases. No specific revenue or earnings guidance was provided. Management expected international sales to remain a significant portion of revenue and noted that operating cash flow may fluctuate; a possible advance payment to a supplier in Q4 could affect cash flow.
Key risks include customer concentration and reliance on capital spending, competitive and pricing pressures, delayed adoption of technologies such as CCAP and HEVC, international and foreign-exchange exposure, reliance on limited-source components and contract manufacturers, and quarter-to-quarter revenue timing. The ten largest customers represented 38% of Q3 revenue; Comcast represented 16%. International customers generated 56% of revenue in Q3.
Contingencies include Avid patent litigation, with a jury trial on one complaint scheduled for January 2014 and inter partes review authorized for claims in a second matter, and a FastVDO patent-infringement action. Outcomes and potential damages are not predictable; adverse outcomes could require damages, royalties or product restrictions. The company also disclosed $20.8 million of non-cancelable supplier purchase commitments and $57.9 million of future operating lease payments. It stated that it had no off-balance-sheet arrangements and that disclosure controls were effective.
Important facts for investors to verify
- How much reported earnings and the effective tax benefit depend on the one-time release of uncertain-tax-position reserves, and whether deferred tax assets remain realizable.
- Whether cable edge demand recovers as customers adopt CCAP, and whether growth in video processing and services can offset weakness in other product lines.
- The profitability and cash-flow contribution of large project contracts, including the European project cited by management.
- Progress and potential exposure in Avid and FastVDO litigation, including any impacts on product sales, royalties or customer indemnities.
- Cash and investment liquidity, cash needs after substantial repurchases, remaining authorization, and compliance with the credit-facility covenant.
- Customer concentration, international demand and currency risks, and supply-chain availability for sole- or limited-source components.