MKS Instruments, Inc. — Q1 2017 Form 10-Q
Reporting period: Three months ended March 31, 2017; balance-sheet figures are as of March 31, 2017. Amounts below are in U.S. dollars, millions, unless stated otherwise. The quarter is not directly comparable with Q1 2016 because the Newport acquisition closed on April 29, 2016 and its results are included in Q1 2017 only.
Financial performance and liquidity
| Metric | Q1 2017 | Q1 2016 |
|---|---|---|
| Revenue | $437.2 | $183.7 |
| Gross profit / gross margin | $205.5 / 47.0% | $77.9 / 42.4% |
| Operating income / operating margin | $83.6 / 19.1% | $22.6 / 12.3% |
| Net income / diluted EPS | $65.1 / $1.18 | $17.6 / $0.33 |
| Operating cash flow | $66.1 | $23.2 |
- Revenue increased 138% year over year. Newport contributed $159.1 million, including $146.4 million of product and $12.7 million of service revenue. Legacy MKS revenue also rose, with management citing stronger semiconductor-related demand.
- Products generated $392.9 million of revenue and services $44.2 million. Gross margin improved 4.6 percentage points; product margin rose 3.4 points and service margin 7.9 points. Management attributed part of the service-margin improvement to a material-cost adjustment it does not expect to recur.
- Operating expenses included $12.5 million of intangible amortization, up from $1.7 million, primarily due to Newport. Interest expense was $8.8 million versus $0.04 million, mainly reflecting acquisition-related borrowing.
- Operating cash flow was $66.1 million. Working-capital uses included higher receivables and inventory and payment of year-end compensation. Capital expenditures were $4.1 million.
- Cash and cash equivalents were $255.9 million and short-term investments $155.3 million, totaling $411.2 million. Current assets were $1,021.5 million and current liabilities $230.4 million.
- Balance-sheet debt, including current debt and long-term debt net of financing costs, was $562.9 million. Term-loan principal was $575.0 million; the company prepaid $50.0 million in March. It reported compliance with debt covenants. The $50 million asset-based revolving facility was undrawn.
- The board declared a quarterly dividend of $0.175 per share. No shares were repurchased during the quarter.
Material changes and business context
- MKS supplies instruments, subsystems, process-control solutions and related services for advanced manufacturing. Its two reporting segments are Vacuum & Analysis (legacy MKS) and Light & Motion (legacy Newport).
- Segment revenue was $278.0 million for Vacuum & Analysis and $159.2 million for Light & Motion. The latter had no comparable Q1 2016 revenue because Newport was acquired in 2016.
- Management attributed legacy Vacuum & Analysis growth mainly to semiconductor customers. Semiconductor capital-equipment and device manufacturers represented approximately 60% of Q1 2017 revenue, versus 73% a year earlier. The filing notes demand in that market can shift rapidly and is difficult to predict.
- Two customers each accounted for more than 10% of revenue: Applied Materials (13.0%) and Lam Research (12.6%). International revenue was 50.1% of total.
Outlook, risks and unusual items
- No specific quarterly or annual revenue or earnings guidance is provided. Management expects significant ongoing R&D investment and says international markets will remain an important source of revenue.
- In April 2017, MKS completed the sale of its Data Analytics Solutions business for approximately $80 million and expected a pretax gain of approximately $75 million in Q2 2017. The business had $12.7 million of 2016 revenue; the sale was not treated as a discontinued operation.
- Other notable items include $0.5 million of restructuring charges, related to an international facility and sales-office consolidation, and a lower effective tax rate of 15.8% versus 26.2%. Management attributed the tax-rate decline principally to geographic income mix, domestic production deductions and a stock-compensation tax benefit, which may vary by quarter.
- Uncertainties include semiconductor-market cyclicality, customer concentration, foreign-currency exposure, acquisition integration and substantial acquired goodwill and intangible assets. A shareholder lawsuit relating to the Newport merger remained pending; management said it intended to defend the claims and did not expect ordinary-course legal matters to materially affect results, financial condition or cash flow.
- Management reported effective disclosure controls and no material change in internal control over financial reporting during the quarter. It reported no material change in market-risk exposure from year-end 2016.
Important facts for investors to verify
- How much of revenue and margin growth reflects Newport versus sustained growth in the legacy business, and whether the reported service-margin benefit recurs.
- Subsequent operating results and cash proceeds from the Data Analytics Solutions sale, including recognition of the expected gain.
- Debt principal, repayment schedule, interest costs and covenant terms, alongside cash and investments available for corporate use.
- Semiconductor demand trends and exposure to the two customers that together accounted for 25.6% of quarterly revenue.
- Progress and financial impact of adopting the new revenue-recognition standard; the company had not completed its assessment and anticipated completing it by Q3 2017.
- Developments in the Newport shareholder litigation and in unrecognized tax benefits, which totaled approximately $25.9 million before interest and penalties.