Semtech Corporation — Q2 FY2017 Form 10-Q
Reporting period: 13 weeks ended July 31, 2016; comparisons are with the 13 weeks ended July 26, 2015. Semtech designs and sells analog and mixed-signal semiconductors. All amounts below are in U.S. dollars.
Financial performance
| Metric | Q2 FY2017 | Q2 FY2016 | Six months FY2017 | Six months FY2016 |
|---|---|---|---|---|
| Net sales | $135.9m | $125.7m | $267.1m | $255.8m |
| Gross profit / margin | $81.8m / 60.2% | $75.6m / 60.1% | $160.3m / 60.0% | $154.0m / 60.2% |
| Operating income / margin | $16.4m / 12.1% | $3.1m / 2.4% | $29.7m / 11.1% | $8.0m / 3.1% |
| Net income (loss) | $9.0m | $(0.3)m | $15.9m | $(0.5)m |
| Diluted EPS | $0.14 | $(0.00) | $0.24 | $(0.01) |
| Operating cash flow | Not separately presented | Not separately presented | $45.5m | $48.7m |
Q2 sales increased 8% year over year. Signal Integrity sales rose to $63.3m from $59.0m; Wireless and Sensing rose to $20.8m from $15.5m. For the six months, Signal Integrity grew to $133.4m from $113.3m, while Protection declined to $68.0m from $72.1m and Wireless and Sensing declined to $36.4m from $38.3m. Enterprise Computing and Industrial were the largest Q2 end markets at 30% and 27% of sales.
Q2 gross margin was broadly flat. Operating income improved substantially as operating expenses fell 10% to $65.3m: SG&A declined 3%, product development and engineering declined 7%, and the prior-year quarter included $3.6m of restructuring charges. The comparison also reflects lower contingent earn-out expense. Stock-based compensation, however, increased to $6.1m from $2.3m in Q2.
Cash, debt and liquidity
- At July 31, cash and cash equivalents were $238.9m, versus $211.8m at January 31. Total debt was $247.7m net of debt discount: $67.8m of term loans and $181.0m drawn on the revolving facility. Cash exceeded reported debt by approximately $8.8m.
- Six-month operating cash flow was $45.5m; investing cash use was $6.6m, including $5.3m of capital expenditures; financing cash use was $11.8m, including $9.4m of debt payments. Cash increased $27.1m.
- Approximately $184.3m of cash was held by foreign subsidiaries. The company said $536.7m of foreign earnings were intended to remain permanently reinvested and had no U.S. federal or state tax provision.
- The credit agreement matures May 1, 2018. The company reported compliance with its financial covenants at quarter-end. Its leverage ratio had fallen below 2.25 in Q2, and management expected a lower credit-facility interest margin in Q3.
- Management stated it believed available financial resources were sufficient for liquidity and capital needs over the next 12 months.
Outlook, material developments and risks
- Management guided to Q3 FY2017 net sales of $134m–$142m and gross margin similar to Q2. It expected approximately $10m of Q3 capital spending to expand test capacity.
- Management cited strong hyperscale datacenter demand for optical transceiver products and growing LoRa and proximity-sensing demand, offset by weaker passive optical network sales. For the first half, strength in datacenter and LoRa products was offset by weakness in printers, LCD displays and the China smartphone market.
- On August 5, 2016, after quarter-end, Semtech sold its Snowbush IP business to Rambus for approximately $32m cash plus potential sales-based payments through 2022. Management expected an approximately $27m gain in Q3 FY2017; the divestiture was expected otherwise to have no material financial-statement impact.
- The company recorded a $5.2m environmental liability for the Newbury Park site. Management estimated a probable-loss range of $5.3m–$7.5m and could not identify a best estimate within the range; remediation costs and regulatory actions remain uncertain.
- The Cycleo earn-out liability was $7.6m, including $3.9m expected to be settled within 12 months. Semtech said it did not expect Triune earn-out targets to be achieved or contingent payments to be made.
- Key business risks include reliance on distributors (64% of Q2 sales), foreign markets and suppliers, and customer concentration. China including Hong Kong accounted for 44% of Q2 sales; Arrow accounted for 10% of Q2 sales. Approximately 24% of wafer costs came from one Chinese foundry. Many distributor agreements can be terminated with little or no notice.
- Other exposures include variable-rate debt, foreign exchange, tax audits and uncertain tax positions, product and intellectual-property claims, and environmental matters. The filing reported no material change to the risk factors in the prior annual report. Disclosure controls were concluded effective as of July 31, 2016.
Most important facts for investors to verify
- Whether Q3 sales fall within the $134m–$142m outlook and whether gross margin remains near 60.2%.
- Whether operating-profit improvement is sustainable after accounting for lower restructuring costs and other comparison effects, as well as higher stock-based compensation.
- Whether datacenter and LoRa demand offsets softness in consumer and passive optical network markets, and how customer, distributor and China exposure evolves.
- Debt repayment, leverage, interest costs and covenant headroom ahead of the May 2018 credit-facility maturity.
- The realized gain and any contingent proceeds from the Snowbush divestiture, plus the ultimate amount and timing of environmental remediation costs and Cycleo earn-out payments.