Ciena Corporation — Q3 Fiscal 2017 Form 10-Q
Reporting period: Quarter and nine months ended July 31, 2017. Unaudited consolidated results; fiscal 2017 is a 52-week year. Ciena provides communications networking hardware, software and services.
Financial results
| Metric | Q3 FY2017 | Q3 FY2016 | Nine months FY2017 | Nine months FY2016 |
|---|---|---|---|---|
| Revenue | $728.7 million | $670.6 million | $2,057.2 million | $1,884.4 million |
| Gross profit / margin | $328.1 million / 45.0% | $308.5 million / 46.0% | $920.1 million / 44.7% | $843.0 million / 44.7% |
| Operating income / margin | $82.0 million / 11.3% | $57.0 million / 8.5% | $158.9 million / 7.7% | $96.5 million / 5.1% |
| Net income | $60.0 million | $33.5 million | $101.9 million | $36.0 million |
| Diluted EPS | $0.39 | $0.23 | $0.69 | $0.26 |
| Operating cash flow | $50.6 million | Not provided for quarter | $96.3 million | $152.8 million |
Revenue and segment mix
- Q3 revenue rose 8.7% year over year, led by Networking Platforms, up 9.5% to $592.3 million. Converged Packet Optical grew 8.3% and Packet Networking 29.0%; Optical Transport declined 61.6% as products are being discontinued.
- Software and Software-Related Services revenue increased 33.8% to $42.3 million. Global Services revenue decreased 4.0% to $94.1 million.
- For the first nine months, revenue increased 9.2%. APAC grew 51.9% to $347.5 million, partly reflecting large projects in India and Australia; CALA decreased 18.5% to $120.8 million.
- AT&T represented 16.6% of Q3 revenue and Verizon 11.4%. Together they contributed $531.2 million, or approximately 25.8%, of nine-month revenue.
Liquidity, debt and balance sheet
- At July 31, cash and cash equivalents were $559.5 million; short- and long-term investments totaled $294.6 million. Combined cash and investments were $854.2 million, down $288.9 million from October 31, 2016.
- Current assets were $1.923 billion and current liabilities $657.6 million, a current ratio of approximately 2.9. Accounts receivable rose to $653.2 million from $576.2 million; inventory rose to $276.4 million from $211.3 million.
- Reported current and long-term debt totaled $935.3 million, versus $1.254 billion at October 31, 2016. The decline reflects refinancing and repayment activity; the balance includes a $393.7 million net carrying value 2022 term loan and $541.6 million of convertible notes. No ABL borrowings were outstanding; $74.1 million of letters of credit were supported by the facility.
- Cash from operations was $96.3 million for nine months, down from $152.8 million. Working-capital use of $193.0 million included $93.9 million for inventory and $80.7 million for receivables. Capital expenditures were $76.0 million.
Material changes and unusual items
- Product revenue grew 10.4% in Q3, while product gross margin fell to 44.1% from 45.9%, primarily due to market price erosion, partly offset by cost reductions and software platform sales. Service gross margin improved to 49.6% from 46.5%.
- Q3 operating expenses declined 2.1% year over year to $246.1 million, mainly because intangible amortization fell by $10.7 million; research and development, selling and marketing, and general and administrative expenses increased.
- Nine-month inventory obsolescence provision was $28.7 million, primarily due to lower forecast demand for certain Networking Platforms products. Nine-month restructuring expense was $8.9 million, including workforce reductions and Ottawa facility transition costs.
- On January 30, 2017, Ciena refinanced prior term loans into a $400 million term loan due January 2022. It repaid $185.3 million of 0.875% convertible notes at maturity in June. On August 2, after quarter-end, it exchanged most of its 3.75% notes due 2018 for new notes with cash-settlement options; $288.7 million principal amount of new notes and $61.3 million of original notes remained outstanding.
- Ottawa campus occupancy was completed in May; Ciena recorded $50.4 million of building assets under capital leases. Nine-month cash paid for interest was $33.9 million.
Outlook, management commentary and risks
- No specific revenue, earnings or margin guidance was provided. Management expected fiscal 2017 operating expense to exceed fiscal 2016 levels, citing R&D investment, ERP re-engineering and facility transitions.
- Management stated available cash, investments, operating cash generation and credit resources were expected to meet working-capital, capital-expenditure and other liquidity needs for at least the next 12 months, including intended cash settlement of principal on conversions of the new 2018 notes.
- Management’s strategy emphasizes open and programmable networks, coherent optical technology, Blue Planet software, customer and geographic diversification, and operating efficiency. The new optical-module distribution channel had generated no revenue in the first nine months.
- Key risks include quarterly order and revenue volatility; dependence on a small number of large customers; aggressive competition and price erosion; customer network-spending changes; inventory forecasting and component supply constraints; execution and adoption risks for Blue Planet and new products; foreign-exchange exposure; contract-manufacturer dependence; cybersecurity; debt and potential dilution; facility transitions; and litigation.
- Other notable exposures: a $1.4 billion deferred-tax valuation allowance; $15.6 million of unrecognized tax-position liabilities whose settlement timing was not estimable; and a certified securities class action related to Cyan’s IPO, stayed pending a U.S. Supreme Court decision. Ciena said it intended to defend the case and did not expect ordinary-course legal matters to have a material impact.
Most important facts for investors to verify
- Whether revenue growth and software-platform gains continue, and whether APAC project timing or large-customer spending creates volatility.
- Whether product price erosion, inventory provisions and product mix pressure gross margins and operating cash generation.
- Receivables and inventory conversion: both increased materially while nine-month operating cash flow declined.
- Debt maturities, cash-settlement intentions for convertible notes, and the effects of refinancing and the 2018-note exchange on interest expense and dilution.
- Progress and costs of Ottawa and India facility transitions, and market traction and economics of the new optical-module distribution channel.
- Developments in the Cyan-related securities litigation, tax audits and valuation allowance, and any changes to the stated liquidity outlook.