Microchip Technology Incorporated — Form 10-Q Summary
Business Context and Reporting Period
Microchip designs, manufactures and markets embedded-control semiconductors, including microcontrollers, analog and interface devices, memory products, and SuperFlash technology licensing. This unaudited report covers the three months ended June 30, 2012, the first quarter of fiscal 2013, compared with the three months ended June 30, 2011.
Financial Performance and Position
| Metric | Q1 FY2013 | Q1 FY2012 | Change |
|---|---|---|---|
| Net sales | $352.1 million | $374.5 million | Down 6.0% |
| Gross profit | $203.1 million | $219.7 million | Down 7.6% |
| Gross margin | 57.7% | 58.7% | Down 100 bps |
| Operating income | $96.3 million | $116.9 million | Down 17.6% |
| Operating margin | 27.4% | 31.2% | Down 380 bps |
| Net income | $78.7 million | $99.3 million | Down 20.7% |
| Diluted EPS | $0.39 | $0.49 | Down $0.10 |
| Operating cash flow | $129.0 million | $83.3 million | Up 54.9% |
Revenue increased 3.9% from the immediately preceding quarter's $338.9 million but declined year over year due primarily to weaker global economic and semiconductor industry conditions. Semiconductor products generated $331.9 million of sales and technology licensing generated $20.3 million.
- Microcontroller sales declined approximately 6.0% year over year to $240.3 million.
- Analog and interface sales increased approximately 10.8% to $47.2 million.
- Memory sales declined approximately 20.4% to $40.7 million.
- Technology licensing revenue declined approximately 1.8% to $20.3 million.
- Average semiconductor selling prices declined approximately 4%, while unit volume declined approximately 3% year over year.
Gross margin was pressured by lower production levels and under-absorption of fixed manufacturing costs. Approximately $3.8 million was charged to cost of sales for reduced wafer-fab production. Research and development expense increased 7.8% to $48.8 million, while selling, general and administrative expense increased 0.6% to $57.9 million. The effective tax rate was 13.4%, compared with 12.8% in the prior-year quarter.
At June 30, 2012, cash and cash equivalents were $779.8 million, short-term investments were $881.9 million, and long-term investments were $159.5 million, for total cash, cash equivalents and investments of approximately $1.82 billion. Total assets were $3.14 billion and stockholders' equity was $2.02 billion.
The company had $357.4 million of carrying value for its junior subordinated convertible debentures, with $1.15 billion principal outstanding and a December 2037 maturity. The fair value of the debentures was approximately $1.44 billion. No amounts were outstanding under the $750 million revolving credit facility at June 30, 2012, and the company was in compliance with its covenants.
Capital expenditures were $10.3 million, compared with $27.2 million in the prior-year quarter. The company paid $67.7 million in dividends and declared a subsequent quarterly dividend of $0.351 per share. It expects approximately $60 million of capital expenditures during the following twelve months.
Material Changes Versus the Prior Comparable Period
- Sales, gross profit, operating income, net income and diluted EPS all declined year over year, primarily reflecting weaker end-market and semiconductor conditions.
- Gross margin declined 100 basis points because of lower capacity utilization, fixed-cost under-absorption and product mix.
- Operating expenses increased as a percentage of sales, with R&D rising to 13.9% of sales from 12.1%.
- Operating cash flow improved substantially because of favorable changes in operating assets and liabilities, despite lower net income.
- Investing activities provided $77.9 million, compared with $88.6 million of cash used in the prior-year quarter, principally because of higher net sales and maturities of investments.
- On April 18, 2012, Microchip acquired Roving Networks for approximately $20.6 million in cash, plus estimated contingent consideration of $14.7 million. The transaction added approximately $22.8 million of purchased intangible assets and $8.7 million of goodwill.
Guidance, Outlook, Commentary, Risks and Unusual Items
Management expected inventory levels in the September 2012 quarter to remain approximately flat with June levels, supporting competitive lead times and low fiscal 2013 capital spending. Management stated that existing liquidity and operating cash flow should be sufficient for anticipated requirements for at least the next twelve months.
On August 2, 2012, after the reporting date, Microchip completed its acquisition of Standard Microsystems Corporation for $37.00 per SMSC share. The transaction was financed with approximately $258.8 million of existing cash and investments and approximately $600 million borrowed under the revolving credit facility. SMSC had approximately $193.4 million of cash and investments at June 30, 2012. Pro forma financial information was not yet available and was expected to be filed by amendment to the related Form 8-K.
- Approximately 59% of sales were through distributors, generally without long-term commitments; distributor inventory was 31 days.
- Approximately 82% of sales were to foreign customers, and approximately $1.47 billion of cash and investments were held by foreign subsidiaries, potentially subject to additional taxes if repatriated.
- The company held $10.2 million of auction rate securities with failed auctions and limited liquidity. Further impairment could result from worsening credit conditions or ratings.
- Unrecognized tax benefits totaled $73.3 million, and the IRS was auditing fiscal 2009 and 2010 tax returns.
- Contingent liabilities of $13.0 million related to the SST acquisition remained recorded. Technology-license indemnification obligations could reach approximately $105 million where limits are specified, although no liability was recorded for these obligations.
- Key operating risks include semiconductor cyclicality, pricing pressure, capacity utilization and manufacturing yields, distributor concentration, reliance on foreign and third-party manufacturing, Thailand operational disruption, acquisition integration, intellectual-property litigation, tax examinations and debt management.
Important Facts for Investors to Verify
- Post-quarter-end leverage and liquidity after the $600 million SMSC acquisition borrowing, including the resulting interest expense and covenant headroom.
- SMSC's purchase accounting, pro forma revenue and earnings contribution, integration costs, goodwill and intangible-asset amortization.
- Whether weak microcontroller and memory demand, pricing pressure and reduced capacity utilization persist into subsequent quarters.
- The carrying value and liquidity of auction rate securities and any future impairment exposure.
- The sustainability of operating cash flow and quarterly dividends after acquisition funding and planned capital expenditures.
- Potential outcomes of IRS examinations, other tax audits, intellectual-property matters and recorded SST acquisition contingencies.