Keysight Technologies, Inc. — Q2 FY2017 Form 10-Q
Reporting period: Three and six months ended April 30, 2017; fiscal year ends October 31. Amounts are in U.S. dollars. The filing is unaudited.
Business context and results
Keysight provides electronic design and test solutions and related services. On April 18, 2017, it completed its acquisition of Ixia, adding network testing, visibility, and security solutions and a fourth reportable segment. Ixia’s results are included from the acquisition date.
| Metric | Q2 FY2017 | Q2 FY2016 | Six months FY2017 | Six months FY2016 |
|---|---|---|---|---|
| Orders | $805 million | $761 million | $1.500 billion | $1.440 billion |
| Revenue | $753 million | $731 million | $1.479 billion | $1.452 billion |
| Operating income | $42 million | $95 million | $204 million | $193 million |
| Net income | $49 million | $88 million | $158 million | $152 million |
| Diluted EPS | $0.27 | $0.51 | $0.90 | $0.88 |
| Gross margin | 54.8% | 55.5% | 55.2% | 54.9% |
| Operating margin | 5.5% | 13.0% | 13.8% | 13.3% |
| Operating cash flow | Not separately provided | Not separately provided | $151 million | $209 million |
Financial position and cash flows
- At April 30, cash and cash equivalents were $983 million, versus $783 million at October 31, 2016; current assets were $2.314 billion and current liabilities $876 million.
- Debt carrying value totaled approximately $2.326 billion: $170 million current and $2.156 billion long-term. The company had $140 million drawn on its $450 million revolving facility and $400 million outstanding on a three-year term loan. It also issued $700 million of 4.60% senior notes due 2027.
- Six-month investing cash use was $1.642 billion, including $1.622 billion for Ixia, net of cash acquired. Financing provided $1.690 billion, including $444 million net proceeds from a share offering and proceeds from debt.
- Six-month capital expenditures were $33 million. Management expected approximately $100 million for the full fiscal year.
- Management stated that cash, operating cash generation, capital-market access, and credit lines should meet liquidity needs for at least the next 12 months. About $811 million of cash was held outside the U.S.
Changes versus the prior comparable periods
- Q2 revenue rose 3% and orders rose 6%; six-month revenue rose 2% and orders rose 4%. Ixia contributed about one percentage point of revenue growth in each period and two percentage points of Q2 order growth.
- Q2 operating income and net income fell substantially year over year. Management attributed pressure on operating margin to acquisition and integration expenses and Ixia’s costs, as well as impairment, acquired-intangible amortization, and higher warranty charges.
- Six-month operating income increased 6%, but included a $68 million gain from settlement of a Japanese pension obligation. Excluding this and other unusual items, reported comparisons are affected by acquisition-related costs and purchase-accounting adjustments.
- Electronic Industrial Solutions revenue grew 14% in Q2 and 7% for six months; Communications Solutions revenue declined 5% and 3%, respectively. Services Solutions revenue increased 6% and 5%. Ixia contributed $8 million of revenue and $1 million of net profit for April 18–30.
Outlook, commentary, and risks
- Management estimated long-term market growth of 4%–5%, while describing near-term macroeconomic indicators as mixed. It emphasized innovation, strategic R&D investment, and operational efficiency. The filing does not provide specific earnings or revenue guidance.
- Keysight expected to complete its targeted workforce-reduction program by fiscal year-end; the program was intended to reduce headcount by 60–200 employees. About 50 employees had exited by April 30.
- The effective tax rate was unusually affected by discrete items and Ixia purchase accounting: Q2 tax benefit was $27 million, while six-month tax expense was $16 million. Tax incentives reduced tax provision by $36 million in Q2 and $47 million for six months; Singapore’s incentive was due for renewal in fiscal 2024, with possible earlier change noted as a risk.
- Key disclosed risks include uncertain demand and economic conditions, cyclical markets, product and technology competition, supplier and contract-manufacturer dependence, foreign-exchange exposure, acquisition integration and retention challenges, increased debt and covenant compliance, tax examinations and incentives, cybersecurity, and legal or regulatory matters. The company reported no pending legal matters it believed likely to have a material impact.
- The filing disclosed that a recently acquired subsidiary sold testing equipment through intermediaries for ultimate use in Iran during January–May 2016, contrary to company policy. Reported gross revenue was approximately $430,000 and estimated net profit approximately $25,000; Keysight said it investigated, disciplined involved employees, and strengthened compliance procedures.
Most important facts for investors to verify
- Whether Ixia integration delivers expected growth and benefits, and how acquisition costs, purchase accounting, and amortization affect future margins.
- Debt service, interest expense, revolving-facility usage, and liquidity needs following the acquisition financing.
- Whether the Q2 earnings decline is temporary or reflects persistent operating pressure, especially in Communications Solutions and aerospace, defense, and government markets.
- The sustainability of tax incentives and the impact of discrete tax items, tax audits, and potential changes to Singapore’s incentive program.
- Progress on the Iran-related compliance remediation and any resulting regulatory or reputational consequences.