Semtech Corporation — Q1 FY2020 Form 10-Q
Reporting period: 13 weeks ended April 28, 2019; comparable period ended April 29, 2018. Semtech designs and sells analog and mixed-signal semiconductors and advanced algorithms across Signal Integrity, Protection, and Wireless and Sensing product lines.
Financial results
| Metric | Q1 FY2020 | Q1 FY2019 |
|---|---|---|
| Net sales | $131.4 million | $130.4 million |
| Gross profit / margin | $81.3 million / 61.9% | $71.5 million / 54.8% |
| Operating income (loss) | $12.8 million | $(3.1) million |
| Net income | $13.3 million | $12.4 million |
| Diluted EPS | $0.20 | $0.18 |
| Cash from operating activities | $6.7 million | $35.0 million |
| Capital expenditures | $15.3 million | $4.9 million |
Operating cash flow less capital expenditures was approximately negative $8.5 million. Cash and cash equivalents were $287.3 million at quarter-end, down from $312.1 million at fiscal year-end. Total debt principal was $207.6 million ($206.6 million net of debt discount); the weighted-average interest rate was 4.12%. The company had $153.0 million of unused revolving capacity and reported compliance with its credit covenants. Current assets were $457.0 million and current liabilities $103.3 million.
Changes and drivers
- Sales rose about 1% year over year. Product-line sales were $50.3 million Signal Integrity, $38.9 million Protection, and $42.2 million Wireless and Sensing.
- Gross margin improved substantially, but the comparison is affected by a $21.5 million Comcast warrant-related revenue offset in Q1 FY2019, including $15.9 million from accelerated vesting. The warrant was fully exercised in March 2019; there was no comparable Q1 FY2020 offset.
- Signal Integrity sales fell to $50.3 million from $65.6 million; Protection declined to $38.9 million from $40.8 million; Wireless and Sensing declined to $42.2 million from $45.5 million. High-End Consumer end-market sales increased to $43.4 million from $37.5 million, while Enterprise Computing, Industrial, and Communications declined.
- Operating expenses decreased 8% to $68.5 million. Lower SG&A and amortization were partly offset by slightly higher product development and engineering costs. Q1 FY2020 operating income also benefited from a $2.2 million reduction in the fair value of contingent earn-out obligations.
- Net income increased modestly despite the operating-income turnaround. Q1 FY2020 included a $2.3 million income-tax benefit, including a $4.2 million net discrete benefit primarily from stock-based compensation tax benefits. Prior-year results included a $17.5 million tax benefit.
Outlook, commentary, and risks
- Management guided Q2 FY2020 net sales to $128 million–$142 million and gross margin to 61.6%–62.2%. The broad sales range reflects China-related uncertainty, including approximately $7 million of reduced shipments and demand related to the Huawei restrictions.
- Huawei represented 16% of Q1 sales, up from 6% a year earlier. The U.S. added Huawei and affiliates to the Entity List on May 16, 2019, after quarter-end; the filing says the restrictions generally prevent sales of Semtech’s U.S.-regulated products to Huawei. Management could not predict the restrictions’ duration or future impact.
- Management cited weaker China-based demand, U.S.-China tariffs, below-seasonal PON demand and lower data-center demand, weaker China LoRa demand, and softness in the base-station market. Record proximity-sensing revenue benefited from Huawei demand, which Semtech believed reflected inventory buildup ahead of a potential ban.
- Foreign customers accounted for about 90% of sales; Asia-Pacific represented 78%. China, including Hong Kong, represented 53% of total sales. Customer concentration, export controls, tariffs, demand volatility, and reliance on overseas suppliers and subcontractors are material risks.
- The company expects to meet business requirements for the next 12 months. It plans lower Q2 capital investment and increased strategic investment in companies supporting the LoRaWAN ecosystem. Foreign subsidiaries held $251.3 million of cash at quarter-end.
- Environmental remediation at a former California site remains ongoing. The estimated probable loss is $5.3 million–$7.5 million; $1.7 million was accrued at quarter-end after $3.6 million of payments. Management could not identify a best estimate within the range and accrued the minimum.
- Other notable items: a $1.0 million settlement recovery was recorded in SG&A during the quarter; the AptoVision earn-out liability fell to zero following a $2.2 million fair-value reduction. Management reported effective disclosure controls and no material change in internal controls.
Investor verification priorities
- Track actual Huawei-related shipments and sales exposure against the Q2 estimate of approximately $7 million in reductions, and assess any further export-control changes.
- Separate underlying sales and margin trends from the prior-year Comcast warrant charge and current-period earn-out and settlement items.
- Monitor operating cash conversion, inventory growth (to $73.5 million from $63.7 million), and the elevated capital spending.
- Review customer and geographic concentration, supplier exposure in China and other foreign markets, and the possible effects of tariffs or supply disruption.
- Follow the environmental remediation estimate and unrecognized tax benefits, which totaled $18.3 million before the federal impact of state items.