MACOM Technology Solutions Holdings, Inc. quarterly report, Q2 FY2015

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MACOM Technology Solutions Holdings, Inc. — Q2 FY2015 Form 10-Q

Reporting period: Quarter ended April 3, 2015 (13 weeks); six months ended April 3, 2015 (26 weeks). The comparable 2014 six-month period included 27 weeks. Amounts below are in U.S. dollars; financial statement amounts are in millions unless noted.

Business context

MACOM designs, manufactures and markets analog semiconductor products and modules for Networks, Aerospace and Defense, Automotive, and Multi-market applications. It has one reportable segment. The December 2014 acquisition of photonics supplier BinOptics is included from its acquisition date, so reported comparisons reflect both acquisition effects and changes in revenue recognition.

Financial performance and liquidity

  • Q2 revenue: $124.9 million, up 15.8% from $107.8 million. Networks revenue rose 33.1% to $67.1 million; Aerospace and Defense declined 3.3% to $19.5 million; Automotive rose 11.5% to $22.5 million; Multi-market declined 7.5% to $15.8 million.
  • Six-month revenue: $239.7 million, up 24.9% from $192.0 million. Networks grew 63.8% to $120.6 million; the other markets were approximately flat to modestly higher or lower.
  • Gross profit and margin: Q2 gross profit was $54.0 million and margin 43.2%, versus $26.9 million and 24.9% a year earlier. Six-month gross profit was $108.2 million and margin 45.1%, versus $62.6 million and 32.6%. Management cited favorable product mix, partly offset by acquisition-related inventory step-up costs and increased acquired-intangible amortization.
  • Operating results: Q2 operating income was $3.3 million, compared with an operating loss of $20.6 million; six-month operating income was $12.4 million, versus a loss of $29.8 million. Despite operating income, MACOM reported a Q2 net loss of $7.5 million ($0.15 per diluted share) and a six-month net loss of $13.8 million ($0.28 per diluted share).
  • Key expenses and unusual items: Q2 other expense included a $5.6 million noncash warrant-liability revaluation expense, $4.7 million interest expense, and a $3.5 million impairment of a minority equity investment. Six-month warrant expense was $16.2 million and interest expense $9.4 million. Q2 operating expenses included $0.4 million of restructuring charges.
  • Cash flow: Six-month operating cash flow was positive $16.0 million, compared with use of $4.3 million in the prior period. Investing activities used $238.8 million, mainly for the $223.0 million net BinOptics acquisition payment and $14.0 million of property and equipment purchases. Financing provided $122.9 million, including approximately $128.0 million net proceeds from MACOM’s February share offering.
  • Cash and liquidity: Cash and equivalents were $74.0 million at April 3, down from $173.9 million at October 3, 2014. Current assets were $308.7 million and current liabilities $68.2 million. Management said cash, expected operating cash flow and available revolving capacity should be sufficient for at least the next 12 months.
  • Debt: Term-loan principal outstanding was $347.4 million (carrying value $345.1 million); $130.0 million of revolving capacity was available, with no revolving borrowings outstanding at period-end. The term loans and revolver are secured by substantially all company assets. MACOM reported compliance with the credit agreement’s covenants.

Material changes and management commentary

  • MACOM changed distributor revenue recognition from sell-through to sell-in in fiscal Q1 2015. The change contributed $3.7 million of Q2 revenue and $18.8 million for the first six months; the six-month net-loss reduction was reported as $8.8 million. A $6.5 million reserve was established for expected distributor returns and credits. This change materially affects period comparability.
  • BinOptics contributed $17.1 million of Q2 revenue and a $4.1 million pretax loss; its purchase-price allocation remained preliminary. Management attributed Network growth to carrier infrastructure, optical applications, and acquired photonics products, partly offset by weakness in wired broadband and wireless backhaul.
  • Management identified continued product development, cross-selling, new products and growth in its end markets as revenue drivers. It expected to maintain or increase R&D spending, while noting spending could vary by quarter. The filing gives no quantified revenue or earnings guidance.
  • MACOM completed a public offering of 4.5 million newly issued shares at $30 per share, generating approximately $128.0 million net proceeds; it used $100.0 million to repay revolving borrowings related to BinOptics. The offering also included 3.3 million shares sold by existing holders, for which MACOM received no proceeds.

Risks, contingencies and other notable matters

  • Key exposures include customer and distributor concentration, volatile semiconductor demand, order cancellations and forecasting risk, pricing and product-mix pressure, manufacturing yields and supplier constraints, and dependence on successful product development and acquisition integration. Ten customers represented 63% of Q2 revenue.
  • MACOM has variable-rate debt; it estimated a 1% rate increase would raise annual interest expense by approximately $3.5 million if debt remained constant. The company also cited foreign-exchange, export-control, intellectual-property, cybersecurity and environmental risks.
  • A putative California employee class action alleges misclassification and seeks unpaid wages, premiums, penalties and attorneys’ fees. MACOM disputes the allegations; it had not estimated a possible loss and had recorded no related accrual. A separate patent suit against Laird was settled after quarter-end, with a stipulated permanent injunction and dismissal.
  • MACOM expected to cease being an emerging growth company at fiscal year-end 2015, bringing additional reporting requirements, including auditor attestation of internal controls. BinOptics was excluded from the quarter’s internal-control effectiveness assessment while its controls were being integrated.

Important facts for investors to verify

  • How much of reported revenue growth and margin improvement reflects underlying demand versus the sell-in accounting change, BinOptics, and acquisition-related inventory and amortization effects.
  • Whether distributor rebate, return and credit estimates—especially the $6.5 million reserve—adequately reflect actual claims and inventory levels.
  • BinOptics’ post-acquisition performance, integration progress, and final purchase-price allocation, including goodwill and intangible-asset assumptions.
  • Cash conversion and working-capital trends, given the decline in cash, acquisition spending, and the significant deferred-revenue cash-flow movement.
  • Debt-service capacity and sensitivity to variable interest rates, along with covenant compliance and the availability of revolving capacity.