II-VI Incorporated Form 10-Q Summary
Filing identity: Although the request metadata identifies Coherent Corp., the filing text identifies the registrant as II-VI Incorporated. The report covers the quarter and six months ended December 31, 2016, within the fiscal year ending June 30, 2017. Financial statements are unaudited and presented under U.S. GAAP.
Business context and reporting period
II-VI develops and manufactures engineered materials, photonic and electronic components, and related products for industrial, optical communications, military, semiconductor, medical, life sciences and consumer markets. Reportable segments are II-VI Laser Solutions, II-VI Photonics and II-VI Performance Products. Results include the EpiWorks and ANADIGICS acquisitions completed during the prior fiscal year. During the quarter, the Company acquired certain DirectPhotonics Industries GmbH assets for approximately $0.6 million.
Key financial metrics
| Metric | Three months ended December 31, 2016 | Three months ended December 31, 2015 | Six months ended December 31, 2016 | Six months ended December 31, 2015 |
|---|---|---|---|---|
| Revenue | $231.8 million | $191.4 million | $453.3 million | $380.6 million |
| Gross margin | 40.7% | 37.3% | 40.1% | 37.5% |
| Earnings before income taxes | $31.8 million | $22.2 million | $55.7 million | $44.3 million |
| Net earnings | $23.9 million | $19.0 million | $40.2 million | $36.2 million |
| Diluted EPS | $0.37 | $0.30 | $0.63 | $0.58 |
| Operating cash flow | Not separately provided | Not separately provided | $58.7 million | $62.3 million |
- Quarterly revenue increased approximately 21%; six-month revenue increased approximately 19%.
- Quarterly bookings increased 32% to $274.3 million; six-month bookings increased 31% to $518.6 million.
- Research and development expense increased to $23.6 million for the quarter and $45.4 million year to date, reflecting investment in high-volume VCSEL technology and other new products.
- Year-to-date effective tax rate increased to 27.8% from 18.3%, primarily due to increased tax reserves related to an ongoing Vietnam tax audit.
- Cash and cash equivalents were $246.2 million at December 31, 2016, compared with $218.4 million at June 30, 2016. Approximately $217 million was held outside the United States.
- Total debt was $264.6 million, including $95.0 million of term debt, $167.0 million under a U.S. dollar line of credit and $2.6 million under a yen-denominated facility. A $25.0 million capital lease obligation was also recorded.
- Available borrowing capacity was $158.5 million, compared with $37.7 million at June 30, 2016. The Company was in compliance with its debt covenants.
- Capital expenditures were $57.8 million year to date, compared with $19.2 million in the prior-year period, primarily to expand production capacity for new optoelectronic devices.
Material changes versus the prior comparable period
- II-VI Photonics: Quarterly revenue rose 36% to $100.9 million and operating income rose 115% to $15.9 million. Growth reflected China broadband initiatives, data-center demand, U.S. metro deployments, undersea networks, higher-margin 980-nanometer pump products and new product introductions.
- II-VI Laser Solutions: Quarterly revenue rose 16% to $81.5 million, but operating income fell 32% to $7.6 million. Results included acquisition-related operating losses and increased investment in optoelectronic device production capabilities.
- II-VI Performance Products: Quarterly revenue increased 5% to $49.4 million and operating income increased 16% to $3.6 million. Six-month revenue was $95.8 million versus $92.7 million.
- Gross margin improved by 340 basis points for the quarter and 260 basis points year to date, driven by operating efficiencies, higher volume and favorable product mix.
- Foreign-exchange gains contributed approximately $5.3 million in the quarter and $4.7 million year to date to pre-tax results, while foreign currency translation reduced accumulated other comprehensive income by $15.1 million year to date.
- Operating cash flow declined despite higher earnings, primarily because of increased inventory and higher bonus payments.
- Debt increased from $235.9 million at June 30, 2016 to $264.6 million at December 31, 2016, while the amended credit facility substantially increased available capacity.
Guidance, outlook, commentary, risks and unusual items
The filing does not provide specific quantitative revenue or earnings guidance. Management states that internal research and development expense as a percentage of revenue is expected to remain near the current run rate as the Company continues investing in its VCSEL growth strategy. Management believes operating cash flow, cash reserves and borrowing capacity will fund working capital, capital expenditures, debt repayment, lease obligations, research and development, potential share repurchases and growth objectives for the next twelve months.
- Management cited continued demand from optical communications, China broadband expansion, data-center infrastructure, 100G metro deployments and undersea network construction.
- Foreign-exchange results are volatile; the Company uses forward contracts with a total notional amount of $13.6 million at December 31, 2016.
- A 1% increase in interest rates would have increased interest expense by approximately $0.4 million for the quarter and $0.8 million year to date.
- Potential risks include international operations, foreign currency exposure, technology and product acceptance, supply-chain disruptions, competition, intellectual-property protection, regulation, acquisitions and integration, goodwill or intangible-asset impairment, data breaches, natural disasters and changing customer purchasing patterns.
- Unrecognized income tax benefits totaled $8.2 million, including accrued interest and penalties of $1.2 million. New Jersey and Vietnam tax returns were under examination.
- The EpiWorks contingent earnout liability was $5.2 million at December 31, 2016, with up to $6.0 million of additional cash payments possible based on specified targets.
- Total contractual obligations were $414.1 million, including debt, interest, capital and operating leases, and purchase obligations. The Company expects approximately $1.8 million of additional fiscal 2017 contributions to the Swiss pension plan.
- Management stated that existing legal proceedings are not expected to materially affect financial condition, liquidity or results of operations, although unfavorable outcomes remain possible.
- Disclosure controls and procedures were deemed effective, and no material changes to internal control over financial reporting were reported.
Important facts for investors to verify
- Confirm the registrant’s identity because the supplied metadata says Coherent Corp., while the filing itself identifies II-VI Incorporated.
- Assess whether the strong Photonics growth and bookings conversion can offset lower Laser Solutions operating profitability.
- Monitor the return on the substantially higher capital expenditures and continued VCSEL research and development spending.
- Review debt maturities, variable-rate exposure, covenant compliance and the $158.5 million of stated borrowing capacity.
- Evaluate the sustainability of earnings excluding the $5.3 million quarterly foreign-exchange gain and other fair-value or contingent-earnout effects.
- Track the Vietnam tax audit, increased tax reserves and the $8.2 million of unrecognized tax benefits.
- Consider the concentration of cash outside the United States and potential tax consequences of repatriation.