Zebra Technologies Corporation — Q2 2018 Form 10-Q
Business and period: Zebra designs and sells data-capture, printing, mobile-computing and tracking products, plus related services and software. Its reportable segments are Asset Intelligence & Tracking (AIT) and Enterprise Visibility & Mobility (EVM). This unaudited filing covers the quarter and six months ended June 30, 2018; comparative periods ended July 1, 2017. Amounts below are in U.S. dollars, millions, except per-share data and percentages.
Financial results and liquidity
| Metric | Q2 2018 | Q2 2017 | Six months 2018 | Six months 2017 |
|---|---|---|---|---|
| Net sales | $1,012 | $896 | $1,989 | $1,761 |
| Gross profit / margin | $472 / 46.6% | $411 / 45.9% | $937 / 47.1% | $812 / 46.1% |
| Operating income | $125 | $58 | $269 | $98 |
| Net income | $70 | $17 | $179 | $25 |
| Diluted EPS | $1.29 | $0.32 | $3.30 | $0.48 |
| Operating cash flow | Not presented quarterly | Not presented quarterly | $266 | $203 |
Q2 sales rose 12.9% year over year; organic growth, excluding currency translation and the currency-hedging program, was 10.6%. Six-month sales also increased 12.9%, with organic growth of 10.2%. Tangible products generated $889 million of Q2 sales and services and software $123 million. EVM Q2 sales were $661 million, up 13.2%; AIT sales were $351 million, up 12.1%. Management cited stronger data-capture, barcode-printing and mobile-computing sales. EMEA was the fastest-growing major region in the quarter, up 20.8%.
Gross margin improved year over year in both periods. Management attributed gains to favorable currency effects and, particularly for EVM, business mix; year-to-date improvement also reflected lower business costs. Operating income growth reflected higher sales and gross profit and lower operating expenses, including lower amortization and acquisition-integration costs. Q2 operating expenses included a $13 million pretax legal-settlement charge. Q2 income-tax expense was $30 million (30.0% effective rate), versus $2 million (10.5%) a year earlier; six-month tax expense was $54 million (23.2%), versus an $8 million benefit in the prior-year period.
For the six months, operating cash flow was $266 million, investing cash outflow $33 million (including $33 million of capital expenditures), and financing cash outflow $242 million. Financing included $1.114 billion of debt repayments and $879 million of new debt issuance; management reported net debt repayments of $235 million. Cash declined $16 million to $46 million at June 30, of which $44 million was held outside the U.S.
Total debt was $2.014 billion at June 30, down from $2.249 billion at December 31, 2017; cash was $46 million. Current debt was $85 million and long-term debt $1.914 billion. The company amended its credit agreement, increased revolving capacity to $800 million (with $795 million available after letters of credit), and repriced Term Loan B. Borrowings are predominantly variable-rate; stated rates at quarter-end included 3.84% for Term Loan A, 4.06% for Term Loan B and a 3.91% average revolver rate. The company reported compliance with all covenants. Management said existing resources and operating cash flows should meet anticipated capital needs and service debt.
Material changes and notable items
- Debt refinancing: The May 2018 amendment replaced Term Loan A, increased revolving capacity and repriced Term Loan B. Q2 interest expense included approximately $6 million of noncash accelerated debt-cost amortization and $1 million of third-party amendment fees; the company also capitalized $2 million of new financing fees.
- Tax matters: The provisional U.S. tax-reform transition-tax estimate increased by $8 million to $44 million following IRS guidance. After applying $10 million of tax-credit deferred assets, estimated cash payments are $34 million over eight years. The company also recorded a $13 million Q2 charge for prior-year uncertain tax positions and expects $22 million of uncertain tax benefits could be disallowed within 12 months.
- Legal matters: A commercial lawsuit was resolved by agreement on July 27, 2018; the company recorded a $13 million pretax Q2 charge. A separate legacy securities class action settlement was preliminarily approved, with final approval scheduled for October 30, 2018. State unclaimed-property audits and a Delaware voluntary disclosure process are ongoing; no significant reserve had been recorded because the exposure was not yet quantifiable.
- Planned acquisition: On July 5, Zebra agreed to acquire Xplore Technologies for $6 per share in cash, with total consideration including assumed debt expected not to exceed $90 million. The deal was expected to close in Q3 2018, subject to customary conditions, and was to be funded with cash and revolver capacity.
- Accounting and restructuring: Adoption of ASC 606 on January 1, 2018 had no material reported effect on results; under prior revenue guidance, Q2 and six-month revenue would each have been $3 million and $2 million lower, respectively. Remaining Productivity Plan charges were expected to be under $6 million, with activities substantially complete by year-end 2018.
Outlook, risks and management commentary
The filing refers to a 2018 financial outlook but the supplied filing text does not provide clear numerical guidance. Management described demand and sales growth across regions and product categories, and stated that capital resources were adequate for anticipated requirements. The filing cautions that interim results are not necessarily indicative of full-year results.
Risks highlighted include potential U.S. customs duties and retaliatory trade measures affecting imported products; foreign-exchange and interest-rate exposure; availability of components and reliance on non-U.S. suppliers; global market conditions; acquisition integration; litigation; and tax audits or changes in tax law. Three customers each represented more than 10% of accounts receivable at quarter-end, and the largest customer accounted for 34.1%; three distributors together represented 50.7% of six-month sales. The company uses foreign-exchange and interest-rate derivatives to manage exposures, not for speculation. Management reported no material change in market risk and considered disclosure controls effective.
Most important facts for investors to verify
- Whether sales growth and margin improvement continue, particularly in EVM, and how much results depend on currency movements and product mix.
- Debt reduction, variable-rate exposure, covenant compliance and liquidity after the Xplore transaction or other capital needs.
- Final tax-reform accounting, uncertain tax positions and cash-tax payment timing.
- Settlement approval and payment terms for the securities class action, and the financial effect of the commercial settlement.
- Potential impact of tariffs, customer and receivables concentration, and the progress and purchase price of the Xplore acquisition.
- Any full-year 2018 guidance updates; numerical guidance is not clear in the supplied filing text.