ClearOne, Inc. 2018 Form 10-K Summary
Reporting period: Fiscal year ended December 31, 2018. The filing is an annual report rather than a standalone fourth-quarter filing; comparisons are to fiscal 2017.
Business Context
ClearOne designs and sells conferencing, collaboration, professional microphone, video collaboration, and audio-visual networking products. Sales are primarily made through distributors, resellers, systems integrators, and value-added resellers in approximately 62 countries. The company identifies product innovation, cost reduction, and enforcement of its intellectual property as its principal strategic priorities.
- Audio conferencing represented 49.5% of 2018 revenue.
- Microphones represented 32.0% of 2018 revenue.
- Video products represented 18.5% of 2018 revenue.
- U.S. revenue was $14.8 million, or 53% of total revenue; international revenue was $13.4 million, or 47%.
Financial Performance and Key Metrics
| Metric | 2018 | 2017 | Change |
|---|---|---|---|
| Revenue | $28.2 million | $41.8 million | Down 33% |
| Gross profit | $13.4 million | $24.0 million | Down 44% |
| Gross margin | 47% | 57% | Down 10 percentage points |
| Operating loss | $10.3 million | $16.2 million | Improved by $5.9 million |
| Loss before income taxes | $10.2 million | $15.9 million | Improved by $5.6 million |
| Income tax expense/(benefit) | $6.4 million expense | $1.7 million benefit | Unfavorable change |
| Net loss | $16.7 million | $14.2 million | Loss increased $2.5 million |
| Basic and diluted loss per share | $1.87 loss | $1.65 loss | More loss per share |
| Cash flow from operations | $6.6 million used | $9.3 million used | Use decreased $2.7 million |
Revenue declined across all product categories: audio conferencing decreased 34%, microphones decreased 33%, and video products decreased 29%. Management attributed the declines primarily to alleged infringement of ClearOne patents, lower licensing revenue, heightened competition, and the absence of a significant video project recorded in 2017.
Operating expenses declined to $23.7 million from $40.2 million, primarily because 2017 included $12.7 million of goodwill impairment and $0.8 million of intangible-asset impairment. Sales and marketing expense was $9.9 million, research and product development expense was $7.8 million, and general and administrative expense was $6.0 million.
Liquidity, Capital Resources, and Balance Sheet
- Cash and cash equivalents increased to $11.2 million from $5.6 million.
- Working capital increased to $28.4 million from $23.3 million.
- Marketable securities totaled $4.7 million at year-end, compared with $13.0 million in 2017.
- Total inventory was $22.2 million, including $9.0 million classified as long-term inventory.
- Total liabilities were $6.7 million versus $11.3 million in 2017. The filing does not disclose material interest-bearing debt.
- Stockholders’ equity was $52.2 million, compared with $56.6 million in 2017.
- Open purchase commitments to manufacturing service providers and suppliers were approximately $1.2 million.
- Future minimum operating lease payments totaled approximately $3.7 million.
Operating cash use improved partly because inventory-related cash usage declined. Investing activities provided $3.2 million, including proceeds from sales and maturities of marketable securities, offset by $4.7 million of capitalized patent-defense costs. Financing activities provided $9.2 million, principally from the rights offering.
Material Changes Versus 2017
- Revenue fell 33%, while gross margin declined from 57% to 47%.
- Net loss increased despite lower operating expenses, primarily because 2018 included a $6.4 million income tax expense.
- The company recorded a full valuation allowance against net deferred tax assets, resulting in no net deferred tax asset at year-end and approximately $11.5 million of gross deferred tax assets subject to the allowance.
- ClearOne completed a subscription rights offering in December 2018, issuing 8,306,535 shares at $1.20 per share and generating $9.9 million of net proceeds. Shares outstanding increased to 16.6 million from 8.3 million.
- The company paid a $0.07-per-share dividend in the first quarter but suspended its dividend program in June 2018 to preserve cash for litigation and operations.
- The stock repurchase program expired in March 2018 and was not renewed.
- ClearOne adopted the new revenue recognition standard using the modified retrospective method, increasing retained earnings by approximately $2.8 million and reducing deferred product revenue by approximately $4.3 million at adoption.
- No goodwill or intangible-asset impairment was recorded in 2018, compared with $13.5 million of such charges in 2017.
Outlook, Risks, Contingencies, and Unusual Items
Management did not provide quantitative revenue, earnings, or cash-flow guidance. Management stated that it expects a return to growth if product innovation, cost reduction, channel initiatives, and intellectual-property enforcement succeed. The company introduced or expanded products including CONVERGE Huddle, VIEW Lite, new ceiling microphone products, and additional video and wireless microphone offerings.
- Patent litigation: ClearOne is engaged in extensive litigation with Shure involving patents related to beamforming microphone arrays and related technologies. ClearOne capitalized $4.7 million of patent-defense costs in 2018 and reported approximately $8.5 million of such costs from 2016 through year-end 2018. Adverse litigation outcomes could require additional expenses or impairment of capitalized legal costs.
- Revenue concentration and channels: The company depends on independent distributors and resellers. Starin Marketing represented approximately 16% of 2017 revenue but ceased being a distributor in 2018. No customer exceeded 10% of 2018 revenue.
- Inventory risk: Approximately $9.0 million of inventory was classified as long-term. The company recorded $0.8 million of inventory write-downs in 2018 and may face additional markdowns or write-offs if demand does not improve.
- Internal controls: Management identified a material weakness in internal control over financial reporting relating to accurate and timely reporting and testing of controls. Disclosure controls were deemed ineffective as of December 31, 2018. Remediation efforts were underway.
- Manufacturing: Products are manufactured through outsourced electronics manufacturing service providers, primarily Flextronics, with limited manufacturing redundancy. Supply disruptions, component shortages, tariffs, or higher costs could affect revenue and margins.
- Competition and technology: The company faces larger, better-capitalized competitors, rapid technological change, pricing pressure, and risks of product obsolescence.
- Tax contingencies: Unrecognized tax benefits totaled approximately $0.7 million. The timing and outcome of potential tax examinations remain uncertain.
- Lease accounting: The company expected adoption of the new lease standard on January 1, 2019 to materially increase reported assets and liabilities for operating leases.
Investor Verification Checklist
- Verify whether revenue stabilizes or recovers following the 2018 decline and whether the company’s patent-enforcement strategy produces measurable commercial benefits.
- Assess the cash runway after recurring operating cash losses, ongoing patent-defense spending, and the $9.9 million rights-offering proceeds.
- Monitor the $9.0 million long-term inventory balance, inventory turnover, reserves, and potential future write-downs.
- Confirm remediation of the material weakness and whether subsequent filings are issued on a timely and reliable basis.
- Track the Shure litigation, PTAB and court decisions, appeals, legal spending, and possible impairment of $6.6 million of capitalized patent-related legal costs.
- Evaluate the effect of the rights offering on per-share results, dilution, and future capital-raising requirements.
- Confirm the effect of ASC 842 lease adoption and the company’s resulting lease liabilities.