Photronics, Inc. — Q2 FY2020 Form 10-Q
Reporting period: Three and six months ended May 3, 2020; comparisons are to the periods ended April 28, 2019 unless noted. Amounts below are in millions of U.S. dollars, except per-share data. Photronics manufactures photomasks used in semiconductor and flat-panel display (FPD) production.
Financial performance
| Metric | Q2 FY2020 | Q2 FY2019 | Six months FY2020 | Six months FY2019 |
|---|---|---|---|---|
| Revenue | $142.8 | $131.6 | $302.5 | $256.3 |
| Gross profit / margin | $30.4 / 21.3% | $26.0 / 19.8% | $65.0 / 21.5% | $52.1 / 20.3% |
| Operating income | $12.7 | $9.2 | $29.0 | $17.2 |
| Net income | $8.0 | $9.9 | $18.9 | $17.6 |
| Net income attributable to Photronics shareholders | $6.3 | $8.5 | $16.6 | $13.7 |
| Diluted EPS | $0.10 | $0.13 | $0.25 | $0.20 |
| Operating cash flow | Not separately stated | Not separately stated | $61.3 | $(2.3) |
| Capital expenditures | Not separately stated | Not separately stated | $30.1 | $140.4 |
Q2 revenue fell 10.6% sequentially from Q1 FY2020, primarily due to order push-outs associated with the extended Lunar New Year and COVID-19-related operating and mobility restrictions. Compared with Q2 FY2019, revenue rose 8.5%; operating income and gross margin also improved, while net income attributable to Photronics shareholders and diluted EPS declined.
For the first six months, revenue increased 18.0% year over year, led by high-end FPD growth. Operating cash flow improved substantially, while investing cash outflow was much lower mainly because China facility start-up spending had fallen from the prior-year period. Management also cites reduced VAT prepayments and higher non-cash add-backs as contributors to the operating cash flow improvement.
Financial position and liquidity
- At May 3, 2020, cash and cash equivalents were $237.8, versus $206.5 at October 31, 2019. The cash flow statement reports $240.7 of cash, cash equivalents and restricted cash at period-end.
- Working capital was $318.9, up $43.3 from fiscal year-end. Inventory rose $8.8, in part to protect against potential COVID-19 supply disruptions.
- Total debt was approximately $53.5, including short-term debt, current maturities and long-term debt. The company had no borrowings under its $50.0 million credit agreement and reported the full amount available; it was in compliance with the agreement’s covenants.
- Cash less reported debt was approximately $184.3. This is a simple comparison and does not account for cash location, restrictions, or other obligations.
- Foreign subsidiaries held $192.7 of cash; most foreign subsidiary earnings are considered indefinitely reinvested, and repatriation may trigger taxes.
- Capital expenditure commitments were approximately $138.0, primarily for high-end IC equipment. Management stated that cash on hand, operating cash flow and borrowing availability should meet requirements for the next 12 months, while cautioning that longer-term needs may exceed available resources.
Material changes, outlook and risks
- Product and geographic mix: Q2 FPD revenue increased 39.2% year over year, including a 44.2% rise in high-end FPD; IC revenue decreased 1.8%. China revenue increased substantially as the company’s new China facilities contributed, though Q2 China revenue declined sequentially. For the first six months, high-end FPD revenue rose 91.4% year over year.
- COVID-19 and demand: Management reported order delays from pandemic-related restrictions and remote customer design-verification processes. Near-term effects remained unpredictable. The company expects much of future IC and FPD market growth to come from Asia, particularly China, and plans to serve demand through its China facilities and imports from other sites.
- Costs and taxes: Q2 R&D expense increased 26.0% year over year, largely due to activity in the U.S. and China. The Q2 effective tax rate was 32.2%, and the six-month rate was 40.5%, reflecting valuation allowances, jurisdictional earnings mix and the expiration of a Taiwan tax holiday.
- Foreign exchange: Q2 recorded a net foreign currency transaction loss of $1.4, compared with a gain of $4.0 in Q2 FY2019. Management estimated that a 10% adverse currency movement could produce a $33.1 pre-tax loss on net exposures.
- China investment and financing: The company consolidates its 50.01%-owned Xiamen IC joint venture. DNP holds certain put rights under specified circumstances; Photronics reported a $43.0 million net investment/exposure. PDMCX debt is secured in part by assets with a $94.1 carrying value.
- Contingency: A South Korean subsidiary’s tax-filing case was remanded for determination of a fine. The company accrued $0.03, while the possible loss range was $0.03–$2.2; it stated that the matter was not expected to materially affect financial position or performance.
- Other risks: The filing highlights risks from expanded U.S. export controls, U.S.-China tensions, pandemic or other catastrophic events, foreign exchange, industry cyclicality, customer order timing, and the substantial investment in China. No quantified earnings or revenue guidance is provided.
Important facts for investors to verify
- Whether COVID-19-related order delays and mobility constraints continued after May 3, 2020, and their effects on customer designs, utilization and revenue.
- Execution, utilization and returns from the China facilities, including the effect of high fixed costs and depreciation on margins.
- Funding plans and timing for the $138 million of capital commitments, and whether management’s liquidity assessment remains appropriate.
- Cash availability by jurisdiction, debt maturities and covenants, and the status of remaining equipment financing and joint-venture obligations.
- Developments in export-control rules, China-related restrictions, foreign-exchange exposure and the South Korean legal matter.