Corning Incorporated 2016 Q2 Form 10-Q Summary
Business context and reporting period
Corning Incorporated is a materials-science company serving display, optical communications, environmental technologies, specialty materials, life sciences, and pharmaceutical technologies markets. This unaudited Form 10-Q covers the three and six months ended June 30, 2016, compared with the corresponding 2015 periods.
Key financial metrics
| Metric | Q2 2016 | Q2 2015 | Six months 2016 | Six months 2015 |
|---|---|---|---|---|
| Net sales | $2,360 million | $2,343 million | $4,407 million | $4,608 million |
| Gross margin | $951 million; 40% | $975 million; 42% | $1,715 million; 39% | $1,904 million; 41% |
| Operating income | $247 million | $431 million | $424 million | $843 million |
| Net income attributable to Corning | $2,207 million | $496 million | $1,839 million | $903 million |
| Diluted EPS | $1.87 | $0.36 | $1.53 | $0.65 |
| Operating cash flow | Not separately provided | Not separately provided | $443 million | $1,148 million |
Reported net income was materially affected by the $2.676 billion non-taxable gain from the Dow Corning investment realignment, a $504 million quarterly tax benefit, and substantial unrealized foreign-currency hedge losses. Core earnings, a non-GAAP measure, were $434 million, or $0.37 diluted EPS, in Q2 and $774 million, or $0.64 diluted EPS, for the first half, versus $522 million and $1.006 billion, respectively, in the comparable 2015 periods.
Six-month investing cash flow was $4.238 billion, including $4.818 billion received from the Dow Corning realignment. Financing cash flow used $2.123 billion, including $1.515 billion for share repurchases and $340 million for dividends. Capital expenditures were $533 million, compared with $641 million in the prior-year period.
Balance sheet, debt, and liquidity
- Cash and cash equivalents were $7.144 billion at June 30, 2016, up from $4.500 billion at December 31, 2015; approximately 70% was held in the United States.
- Total debt was approximately $4.197 billion, consisting of $279 million of current debt and $3.918 billion of long-term debt. Commercial paper outstanding was $252 million.
- Working capital was $8.299 billion and the current ratio was 4.4:1, compared with $5.455 billion and 2.9:1 at year-end 2015.
- Debt-to-total-capital was approximately 18%, below the 50% covenant limit. Corning had access to a $2 billion revolving credit facility and increased its commercial paper authorization to $2 billion after quarter-end.
- Management stated that liquidity was adequate to fund operations, acquisitions, capital expenditures, asbestos obligations, debt repayments, dividends, and share repurchases for the next several years.
Material changes versus the prior comparable period
- Q2 sales increased 1%, but first-half sales declined 4%. First-half declines were concentrated in Display Technologies, Optical Communications, Environmental Technologies, and Specialty Materials; Life Sciences and All Other increased.
- Gross margin declined by $24 million in Q2 and $189 million for the first half, with margins falling two percentage points in both comparisons. Principal pressures were Display Technologies price reductions, a Taiwan power outage, and first-half Optical Communications production issues.
- Operating income declined $184 million in Q2 and $419 million for the first half, reflecting lower gross margin, higher selling, general and administrative costs, and unusual items.
- Display Technologies sales fell 6% for the first half, primarily from LCD glass price declines slightly above 10%. Optical Communications sales fell 7% because manufacturing software implementation issues limited production and order fulfillment; production returned to normal toward the end of Q2.
- Core earnings declined 17% in Q2 and 23% for the first half. The principal operating drivers were Display Technologies pricing pressure and Optical Communications production disruption.
- Corning completed the Dow Corning realignment on May 31, receiving approximately $4.8 billion in cash in exchange for its 50% Dow Corning interest and obtaining a direct investment in Hemlock Semiconductor Group.
- Corning repurchased 80.7 million shares for $1.561 billion during the first half and declared a quarterly common-stock dividend of $0.135 per share, up from $0.12.
Guidance, outlook, commentary, and risks
- Management expected 2016 Display Technologies LCD glass demand to grow at a mid-single-digit percentage rate year over year, with continued moderate sequential price declines.
- For Q3, Display Technologies demand was expected to increase by a mid-single-digit percentage sequentially, with price declines remaining moderate.
- Optical Communications demand was expected to remain strong, with Q3 sales growth of approximately 10% year over year.
- Environmental Technologies sales were expected to decline slightly year over year, with continued strength in light-duty products offset by weakness in heavy-duty truck markets.
- Specialty Materials Q3 sales were expected to be consistent with the prior year and increase sequentially as mobile-device supply chains ramped for new product launches. Full-year sales were expected to be flat to slightly down versus 2015.
- Life Sciences Q3 sales were expected to grow at a low-single-digit percentage rate. 2016 capital spending was expected to be approximately $1.3 billion.
- Corning planned to generate and deploy more than $26 billion through 2019, return more than $12.5 billion to shareholders, and increase the common dividend by at least 10% annually through 2019. Management subsequently announced a new $2 billion accelerated share repurchase program.
- Foreign-currency exposure was significant. Translated-earnings hedge notional value was $19.1 billion, and a hypothetical 10% adverse yen movement could have produced a $1.9 billion unrealized loss in hedge fair value. Such changes could create substantial earnings volatility before settlement.
- Asbestos liabilities totaled $440 million at June 30, including $290 million of fixed PCC Plan payments and a $150 million reserve for non-PCC claims. The non-PCC asbestos litigation stay was scheduled to lift on August 25, 2016.
- Corning recorded $78 million of restructuring, impairment, and other charges in the first half, including $62 million for disposal of long-lived assets. Environmental liabilities were accrued at approximately $47 million.
- The filing identifies risks involving foreign exchange, LCD demand and pricing, customer concentration and creditworthiness, technology changes, production or IT disruptions, acquisitions, litigation, environmental matters, tariffs, supply chains, capital spending, and regulatory or tax changes.
Most important facts for investors to verify
- Separate sustainable operating performance from the $2.676 billion Dow Corning gain, tax benefits, foreign-currency hedge losses, litigation costs, restructuring charges, and Taiwan outage effects.
- Track Display Technologies pricing, volume, and margin trends, particularly the effect of LCD glass price declines.
- Confirm that Optical Communications manufacturing and order fulfillment remained normalized after the software implementation disruption.
- Monitor the size and fair-value sensitivity of the translated-earnings hedge portfolio, especially exposure to the Japanese yen.
- Assess cash deployment after the Dow Corning proceeds, including share repurchases, dividends, capital spending, acquisitions, and asbestos payments.
- Review the outcome and potential cost of non-PCC asbestos claims after the litigation stay expired, as well as remaining insurer disputes.
- Evaluate whether cash flow from operations can support the stated shareholder-return and capital-investment commitments without relying on asset-sale proceeds or increased borrowing.