Corning Incorporated: FY2017 Form 10-K Summary
Business context and reporting period
Corning Incorporated filed its Form 10-K for the fiscal year ended December 31, 2017. Corning is a materials-science manufacturer operating in Display Technologies, Optical Communications, Environmental Technologies, Specialty Materials, Life Sciences and All Other. It operated 105 plants in 15 countries and employed approximately 46,200 people. International markets represented 69% of 2017 net sales.
The filing also provides unaudited fourth-quarter results. Fourth-quarter 2017 net sales were $2.637 billion and net loss attributable to Corning was $1.412 billion, primarily reflecting the year-end tax provision from the 2017 Tax Act.
Key financial metrics
| Metric | FY2017 | FY2016 | Change |
|---|---|---|---|
| Net sales | $10.116 billion | $9.390 billion | Up 8% |
| Gross margin | $4.032 billion; 40% | $3.746 billion; 40% | Margin stable |
| Operating income | $1.630 billion | $1.391 billion | Up $239 million |
| Income before taxes | $1.657 billion | $3.692 billion | Down 55% |
| Net income attributable to Corning | Loss of $497 million | $3.695 billion | Down $4.192 billion |
| Diluted EPS | $(0.66) | $3.23 | Declined |
| Core earnings | $1.756 billion; $1.72 per diluted share | $1.774 billion; $1.55 per diluted share | Earnings down 1%; EPS up from repurchases |
| Operating cash flow | $2.004 billion | $2.537 billion | Down $533 million |
| Capital expenditures | $1.804 billion | $1.130 billion | Up $674 million |
| Cash and equivalents | $4.317 billion | $5.291 billion | Down $974 million |
| Long-term debt | $4.749 billion | $3.646 billion | Up $1.103 billion |
| Current ratio | 2.8:1 | 3.3:1 | Decreased |
Gross margin remained approximately 40%. SG&A was $1.467 billion, or 15% of sales, while research, development and engineering expense increased 16% to $860 million. Equity earnings from affiliates increased to $361 million from $284 million, principally because of higher Hemlock Semiconductor Group earnings.
Corning generated $2.004 billion of operating cash flow, used $1.710 billion in investing activities and used $1.624 billion in financing activities. The company repurchased 84.4 million shares for approximately $2.4 billion and paid $651 million in dividends. The quarterly common dividend was increased to $0.18 per share beginning in the first quarter of 2018.
Segment performance and material changes
| Segment | FY2017 sales | Change versus FY2016 | FY2017 reported net income |
|---|---|---|---|
| Display Technologies | $2.997 billion | Down 7% | $831 million |
| Optical Communications | $3.545 billion | Up 18% | $341 million |
| Environmental Technologies | $1.106 billion | Up 7% | $127 million |
| Specialty Materials | $1.403 billion | Up 25% | $249 million |
| Life Sciences | $879 million | Up 5% | $64 million |
| All Other | $186 million | Up 22% | Loss of $229 million |
- Optical Communications sales increased $540 million, driven by carrier and enterprise network demand, strong North American fiber-to-the-home activity, improved production versus 2016 and small acquisitions.
- Specialty Materials sales increased $279 million, led by Gorilla Glass and advanced optics.
- Display Technologies sales declined $241 million as LCD glass pricing fell approximately 10%, partly offset by mid-single-digit volume growth. Segment net income fell $104 million.
- Environmental Technologies benefited from automotive demand, heavy-duty diesel products and initial gas-particulate-filter sales, although reported earnings declined because of launch costs and a disinvestment charge.
- Life Sciences benefited from volume growth in North America and China and a small acquisition.
- There were no significant restructuring, impairment or other charges in 2017, compared with $77 million of such charges in 2016.
Unusual items, guidance and management outlook
The FY2017 net loss was dominated by provisional tax charges under the 2017 Tax Act: approximately $1.1 billion for the toll charge on previously unrepatriated foreign earnings and $347 million for remeasurement of U.S. deferred tax balances. Corning reported a 130% effective tax rate and stated that its tax accounting remained incomplete under SAB 118. The company had estimated unremitted foreign earnings of $16.9 billion and had not yet selected an accounting policy for GILTI.
FY2016 results included a non-taxable $2.676 billion gain from the strategic realignment of Corning’s Dow Corning investment, making year-over-year GAAP earnings comparisons unusually distorted. Corning’s core earnings declined modestly from $1.774 billion to $1.756 billion, while core diluted EPS increased because of lower share count.
For 2018, management expected core sales of approximately $11 billion. Expected segment trends were mid-single-digit LCD glass market growth with Corning volume growing faster, Display pricing declines improving to the mid-single digits, approximately 10% Optical Communications sales growth excluding the pending 3M acquisition, high-single-digit Environmental Technologies growth, growth in Specialty Materials dependent on product adoption, and mid-single-digit Life Sciences growth. Capital expenditures were expected to be slightly above $2 billion.
In December 2017, Corning agreed to acquire substantially all of 3M’s Communication Markets Division for approximately $900 million in cash, subject to customary closing conditions and regulatory approval. The transaction was expected to close in 2018 and was excluded from the 2018 Optical Communications outlook.
Liquidity, debt and contingencies
- Cash and cash equivalents were $4.317 billion, approximately 79% held outside the United States. A $2 billion distribution from foreign subsidiaries to the U.S. parent occurred in January 2018.
- Corning had no commercial paper outstanding at December 31, 2017 and had access to a $2 billion committed revolving credit facility expiring in 2019.
- Total debt at maturity value was approximately $5.128 billion, including $379 million due within one year. Debt-to-total-capital was 25%, below the 50% revolving-credit covenant. Credit ratings were BBB+ from Standard & Poor’s and Baa1 from Moody’s, both with stable outlooks.
- Total contractual obligations and contingencies were $10.793 billion, including debt, interest, leases, capital expenditure commitments, the amended Pittsburgh Corning plan and other obligations.
- The remaining Pittsburgh Corning plan liability was $220 million, including a $35 million payment due in the second quarter of 2018 and $185 million due in 2019 through 2022.
- Corning had a $150 million reserve for non-Pittsburgh Corning asbestos claims and could have additional exposure under indemnities related to legacy Dow Corning matters. Management stated that material adverse outcomes were not expected, but some insurer litigation remained unresolved.
- Environmental liabilities were accrued at approximately $38 million for 15 active hazardous-waste sites. Management considered materially higher additional losses remote.
Principal risks
- Display Technologies generates significant profit and cash flow but remains exposed to LCD glass pricing pressure, industry overcapacity, technology changes and concentrated customers.
- Customer concentration is substantial: three Display Technologies customers represented 62% of segment sales, three Environmental Technologies customers represented 81%, and one Optical Communications customer represented 19%.
- Manufacturing is exposed to natural disasters, geopolitical events, utility interruptions, cyberattacks, single-site capacity constraints and limited-source suppliers.
- Corning has significant foreign-currency exposure and maintained derivative contracts with aggregate gross notional value of approximately $14.3 billion at year-end. A 10% adverse currency movement was estimated to produce a $1.4 billion fair-value loss on exposed instruments, largely offset by hedged exposures.
- Goodwill and other intangible assets totaled approximately $2.6 billion and depend on future cash-flow and market assumptions. Precious-metal assets exceeded fair market value by approximately $711 million, creating potential impairment exposure if segment cash flows deteriorate.
- Tax audits, South Korean tax assessments, the incomplete accounting for the 2017 Tax Act, environmental matters, asbestos litigation, intellectual-property claims and trade restrictions could affect future earnings or cash flows.
Important facts for investors to verify
- Reconcile the $497 million GAAP net loss to $1.756 billion of core earnings and assess whether tax-reform and other adjustments are genuinely nonrecurring.
- Track final measurement of the $1.1 billion toll charge, the $347 million deferred-tax remeasurement and the eventual accounting for GILTI and indefinitely reinvested foreign earnings.
- Verify the sustainability of Display Technologies pricing and the expected Gen 10.5 capacity ramp in China.
- Monitor execution, financing and regulatory approval for the approximately $900 million 3M Communications Markets Division acquisition.
- Compare operating cash flow with planned capital expenditures above $2 billion, dividends, share repurchases and debt maturities.
- Review customer concentration, foreign-currency hedges, asbestos and Dow Corning indemnity exposure, South Korean tax appeals and the $220 million Pittsburgh Corning obligation.