Clearfield, Inc. — Form 10-Q Summary
Business context and reporting period
Clearfield designs, manufactures and distributes fiber-optic management, protection and delivery products for communications networks, including broadband, telecom, wireless, cable, utility, enterprise, data center and military markets. The company also provides contract manufacturing services. This filing covers the three and nine months ended June 30, 2018, Clearfield’s fiscal third quarter and first nine months, respectively. The financial statements are unaudited except for the September 30, 2017 balance sheet.
Financial performance and liquidity
| Metric | Three months ended June 30 | Year-over-year change | Nine months ended June 30 | Year-over-year change |
|---|---|---|---|---|
| Net sales | $21.5 million | Up 10% | $55.2 million | Down 1% |
| Gross profit | $8.5 million | Up 7% | $22.4 million | Down 1% |
| Gross margin | 39.5% | Down from 40.5% | 40.6% | Down from 40.7% |
| Income from operations | $2.4 million | Up 82% | $2.5 million | Down 33% |
| Net income | $1.8 million | Up 119% | $2.4 million | Down 8% |
| Diluted EPS | $0.13 | Up from $0.06 | $0.18 | Down from $0.19 |
Third-quarter operating margin was approximately 11.2% and net margin was approximately 8.2%. Nine-month operating margin was approximately 4.6% and net margin was approximately 4.3%. Interest income increased to $117,000 in the quarter and $332,000 for the nine months, primarily because of higher investment rates.
Net cash provided by operating activities was $4.3 million for the nine months, compared with $2.5 million in the prior-year period. Investing activities used $12.1 million, including $10.35 million for the Calix powered-cabinet acquisition. Financing activities used $1.4 million, including $1.37 million for share repurchases. Cash and cash equivalents totaled $9.3 million at June 30, 2018, compared with $18.5 million at September 30, 2017. Short-term investments were $8.5 million and long-term investments were $18.2 million, for total cash, cash equivalents and investments of approximately $36.0 million.
The company had no long-term debt. Total current liabilities were $4.1 million and total liabilities were $4.4 million at June 30, 2018. Management believes existing cash, investments and operating cash flow will satisfy working-capital and investment requirements for beyond the next 12 months.
Material changes versus the prior comparable period
- Third-quarter sales increased primarily from the acquired powered-cabinet product line and higher international demand. International sales were 8% of quarterly sales versus 6% in the prior year.
- First-nine-month sales declined modestly because of lower Alternative Carrier activity and international demand, partly offset by sales associated with the powered-cabinet acquisition.
- Gross margin declined in both comparison periods as powered-cabinet products generally carry lower margins and were integrated into Clearfield’s manufacturing processes.
- Third-quarter selling, general and administrative expense fell 8%, largely because the prior-year period included a $644,000 long-lived-asset impairment and because legal expenses declined following settlement of patent litigation.
- First-nine-month selling, general and administrative expense increased 6%, driven mainly by patent litigation costs, an $850,000 litigation settlement payment in the second quarter, and higher compensation costs.
- The February 20, 2018 Calix acquisition added preliminary goodwill of $2.1 million and acquired intangible assets, including customer relationships, trademarks and product certification. The purchase-price allocation remained subject to finalization.
- The effective tax rate decreased to 30.4% for the quarter and 16.2% for the nine months, versus 42.5% and 35.0%, respectively, primarily because of the Tax Reform Act. Nine-month tax expense also included a one-time $384,000 benefit from revaluing deferred tax liabilities.
Outlook, risks, contingencies and unusual items
The filing does not provide quantitative revenue or earnings guidance. Management states that customer orders are based on purchase orders submitted from time to time, limiting the company’s ability to predict future orders and trends. Management intends to use available cash for organic growth, potential strategic transactions and the share-repurchase program.
- Customer concentration is significant: Customer A represented 20% of quarterly sales and 22% of nine-month sales; Customer B represented 13% and 14%, respectively. Three customers accounted for 41% of accounts receivable at June 30, 2018.
- The company committed to purchase at least $3.5 million of inventory and subcontractor purchase orders related to the Calix acquisition.
- The IRS was examining fiscal 2016; the filing states that no material changes in unrecognized tax positions were expected over the next 12 months.
- Management reported no material changes to previously disclosed risk factors and no material legal claims beyond ordinary-course matters. Patent litigation was settled during the second quarter.
- The company had approximately $5.8 million remaining under its authorized share-repurchase program at June 30, 2018.
- Revenue-recognition and lease accounting standards were under evaluation. The filing states that the potential financial-statement impact of the revenue standard had not yet been finalized.
- Accounts receivable increased to $9.7 million, and days sales outstanding rose to 41 days from 37 days at September 30, 2017.
Important facts for investors to verify
- Confirm the final purchase-price allocation and subsequent performance of the Calix powered-cabinet business.
- Assess whether lower-margin powered-cabinet sales continue to pressure gross margin.
- Monitor customer concentration, order visibility and the sustainability of the quarterly sales increase.
- Reconcile the decline in cash with the acquisition, investment activity and share repurchases, and evaluate liquidity after the remaining acquisition-related inventory commitment.
- Review the final tax effects of the Tax Reform Act and any outcome from the IRS examination.
- Track patent-litigation-related costs and any remaining legal contingencies.