Daktronics, Inc. Form 10-Q Summary
Reporting period: Quarter and six months ended October 31, 2015, representing fiscal 2016 second-quarter and year-to-date results. The request metadata identifies “2014 Q2,” but the filing is for 2015 and compares against November 1, 2014. The six-month comparison is affected by fiscal 2016 having 26 weeks versus 27 weeks in the prior-year period.
Business Context
Daktronics designs, manufactures, and sells electronic display systems worldwide through five reporting segments: Commercial, Live Events, High School Park and Recreation, Transportation, and International. Results are influenced by large project timing, sports-market seasonality, competitive pricing, manufacturing utilization, foreign exchange, and customer delivery schedules.
Key Financial Metrics
| Metric | Three Months Ended October 31, 2015 | Prior Year | Six Months Ended October 31, 2015 | Prior Year |
|---|---|---|---|---|
| Net sales | $157.7 million | $173.1 million | $307.9 million | $339.7 million |
| Gross profit | $35.5 million | $40.9 million | $71.0 million | $84.3 million |
| Gross margin | 22.5% | 23.6% | 23.1% | 24.8% |
| Operating income | $5.6 million | $12.2 million | $11.7 million | $25.9 million |
| Net income | $3.2 million | $7.7 million | $6.9 million | $16.5 million |
| Diluted EPS | $0.07 | $0.18 | $0.16 | $0.38 |
- Six-month sales declined 9.4%; quarterly sales declined 8.9%.
- Six-month operating margin was approximately 3.8%, compared with 7.6% in the prior year; quarterly operating margin was approximately 3.5%, compared with 7.1%.
- Six-month cash flow used in operations was $9.2 million, compared with $36.3 million provided in the prior year.
- Capital expenditures were $10.5 million year to date; management projected approximately $23 million for fiscal 2016.
- Dividends paid year to date were $8.8 million, or $0.20 per share; quarterly dividends declared were $0.10 per share.
Financial Position, Debt, and Liquidity
- Cash and cash equivalents were $27.5 million at October 31, 2015, down from $57.3 million at May 2, 2015. Marketable securities totaled $24.9 million, providing total cash and marketable securities of approximately $52.4 million.
- Working capital was $146.7 million, compared with $148.1 million at fiscal year-end.
- Total liabilities were $147.1 million and shareholders’ equity was $211.3 million.
- The company had no advances outstanding under its credit facilities. It maintained a $35.0 million U.S. line of credit, including up to $15.0 million for standby letters of credit, and an additional $40.0 million international facility; total credit availability between the facilities was limited to $40.0 million.
- Letters of credit and bank guarantees totaled approximately $13.0 million and $2.6 million, respectively, under disclosed facilities. Surety bonds outstanding were $68.6 million against a $150.0 million bonding line.
- The company was in compliance with applicable debt covenants. The interest-bearing debt-to-EBITDA ratio was 0.04-to-1 at October 31, 2015.
Material Changes Versus the Prior Comparable Period
- Revenue: Quarterly sales decreased primarily because of lower Commercial and Live Events deliveries. Live Events production was delayed into the third quarter to incorporate product enhancements. Transportation sales increased, while High School Park and Recreation sales were essentially flat.
- Orders and backlog: Quarterly orders decreased 9.1% to $135.6 million, although Live Events and Transportation orders increased. Backlog was $184.2 million at October 31, 2015, up from $146.1 million a year earlier but down from $205.5 million at the end of the prior quarter. Approximately $35 million of Live Events backlog was expected to be realized after fiscal 2016.
- Margins: Gross margin declined primarily because of a $3.2 million year-to-date warranty charge related to an out-of-home product application, including firmware upgrades and display refurbishment. The second-quarter charge was approximately $2.1 million.
- Operating expenses: Year-to-date general and administrative expense increased 3.4%, and product design and development expense increased 7.6%, despite the shorter comparative period.
- Cash flow: Operating cash flow deteriorated by $45.5 million year over year, driven by working-capital uses involving accounts payable, customer deposits, construction-type contracts, and inventory.
- Other income and taxes: Foreign-currency losses contributed to higher other expense. The effective tax rate increased to 39.6% year to date from 36.4% in the prior year and was 43.5% in the quarter versus 36.8%.
Outlook, Risks, and Unusual Items
- Management expected working capital and available financing to be adequate for foreseeable operating needs, while noting that larger growth or strategic investments could require additional financing.
- Management expected to continue paying dividends for the foreseeable future, subject to board approval and periodic review.
- Growth initiatives included new LED surface-mount video technologies, standardized display components and control systems, and expansion in transportation and international markets.
- Management cited a strong pipeline of International projects expected to book in the third quarter, but did not provide formal revenue or earnings guidance.
- Key risks include volatile large-project timing, competitive pricing and margin pressure, dependence on two major digital billboard customers, economic and government-spending conditions, foreign exchange volatility, product warranty costs, manufacturing utilization, seasonality, and execution of construction-type contracts.
- Warranty obligations increased to $28.5 million, including the additional reserve for the out-of-home product issue. Management did not believe unresolved legal proceedings were reasonably likely to result in a material loss.
- Outstanding performance guarantees included $13.0 million of letters of credit and $68.6 million of surety bonds. The company could be exposed if customers call on guarantees and the company fails to complete related work.
- Foreign-currency forward contracts had a $10.6 million notional amount and a net fair-value asset of $87,000. Management estimated that a 10% change in foreign exchange rates could affect annual pretax income by approximately $1.3 million.
Investor Verification Points
- Verify whether the warranty reserve for the out-of-home product issue is sufficient and whether additional costs could affect future gross margins.
- Track conversion of the $184.2 million backlog, particularly the approximately $35 million of Live Events backlog expected after fiscal 2016.
- Assess whether delayed Live Events production and the International project pipeline translate into fiscal third-quarter revenue and orders.
- Monitor operating cash flow, inventory, receivables, customer deposits, and construction-contract balances after the significant year-to-date cash use.
- Review reliance on major digital billboard customers and the effect of competitive pricing on Commercial margins.
- Confirm continued compliance with credit covenants and the November 2016 maturity dates of the principal credit facilities.