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OCLARO, INC. - 10-Q - MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
(Edgar Glimpses Via Acquire Media NewsEdge)
This Quarterly Report on Form 10-Q and the documents incorporated herein by
reference contain forward-looking statements, within the meaning of Section 21E
of the Securities Exchange Act of 1934, as amended, and Section 27A of the
Securities Act of 1933, as amended, about our future expectations, plans or
prospects and our business. You can identify these statements by the fact that
they do not relate strictly to historical or current events, and contain words
such as "anticipate," "estimate," "expect," "project," "intend," "will," "plan,"
"believe," "should," "outlook," "could," "target" and other words of similar
meaning in connection with discussion of future operating or financial
performance. We have based our forward looking statements on our management's
beliefs and assumptions based on information available to our management at the
time the statements are made. There are a number of important factors that could
cause our actual results or events to differ materially from those indicated by
such forward-looking statements, including (i) the future performance of Oclaro
and its ability to effectively integrate the operations of acquired companies
following the closing of acquisitions and mergers, including its merger with
Opnext (ii) the potential inability to realize the expected benefits and
synergies of acquisitions and mergers, (iii) the impact to our operations and
financial condition attributable to the flooding in Thailand, (iv) the impact of
continued uncertainty in world financial markets and any resulting reduction in
demand for our products, (v) our ability to maintain our gross margin, (vi) the
effects of fluctuating product mix on our results, (vii) our ability to timely
develop and commercialize new products, (viii) our ability to respond to
evolving technologies and customer requirements, (ix) our dependence on a
limited number of customers for a significant percentage of our revenues,
(x) our ability to effectively compete with companies that have greater name
recognition, broader customer relationships and substantially greater financial,
technical and marketing resources than we do, (xi) our ability to effectively
and efficiently transition to an outsourced back-end assembly and test model,
(xii) increased costs related to downsizing and compliance with regulatory
compliance in connection with such downsizing, (xiii) competition and pricing
pressure, (xiv)the potential lack of availability of credit or opportunity for
equity based financing, (xv) the risks associated with our international
operations, (xvi)the outcome of tax audits or similar proceedings, (xvii) the
outcome of pending litigation against the company, (xviii) our ability to
maintain or increase our cash reserves and obtain financing on terms acceptable
to us, and (xix) other factors described in Oclaro's most recent annual report
on Form 10-K and other documents we periodically file with the SEC. We cannot
guarantee any future results, levels of activity, performance or achievements.
Moreover, we assume no obligation to update forward-looking statements or update
the reasons actual results could differ materially from those anticipated in
forward-looking statements. Several of the important factors that may cause our
actual results to differ materially from the expectations we describe in
forward-looking statements are identified in the sections captioned
"Management's Discussion and Analysis of Financial Condition and Results of
Operations" and "Risk Factors" in this Quarterly Report on Form 10-Q and the
documents incorporated herein by reference.
OVERVIEW
We are a tier-one provider of optical communications and laser components,
modules and subsystems for a broad range of diverse markets, including
telecommunications (telecom), industrial, scientific, consumer electronics and
medical. In all markets, our approach is to offer a differentiated solution that
is designed to make it easier for our customers to do business by combining
optical technology innovation, photonic integration, and a vertically integrated
approach to manufacturing and product development.
Our customers include Huawei Technologies Co. Ltd (Huawei); Alcatel-Lucent;
Ciena Corporation (Ciena); Fujitsu Limited (Fujitsu); Tellabs, Inc.; Infinera
Corporation; Cisco Systems, Inc. (Cisco); ADVA Optical Networking; Laserline
Inc.; and Ericsson.
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RECENT DEVELOPMENTS
On July 23, 2012, we consummated the acquisition of Opnext. Pursuant to the
terms of the acquisition, each outstanding share of common stock of Opnext was
converted into the right to receive 0.42 of a share of common stock of Oclaro.
We issued 38.4 million shares of our common stock for all of the outstanding
shares of Opnext common stock on July 23, 2012. Stock options, stock
appreciation rights and restricted stock awards of Opnext were also assumed by
us pursuant to the terms of the acquisition. Immediately following the effective
time of the merger, the Oclaro stockholders immediately before the merger owned
approximately 57.3 percent of the combined company, and the former Opnext
stockholders owned approximately 42.7 percent of the combined company. In
connection with the acquisition, we recorded a gain on bargain purchase of $39.5
million, which is included in other income in our condensed consolidated
statement of operations. The acquisition is more fully discussed in Note 5,
Business Combinations, to our accompanying condensed consolidated financial
statements.
RESULTS OF OPERATIONS
The following tables set forth our condensed consolidated results of operations
for the three month periods indicated, along with amounts expressed as a
percentage of revenues, and comparative information regarding the absolute and
percentage changes in these amounts:
Three Months Ended Increase
September 29, 2012 October 1, 2011 Change (Decrease)
(Thousands) % (Thousands) % (Thousands) %
Revenues $ 148,813 100.0 $ 105,821 100.0 $ 42,992 40.6
Cost of revenues 130,976 88.0 81,788 77.3 49,188 60.1
Gross profit 17,837 12.0 24,033 22.7 (6,196 ) (25.8 )
Operating expenses:
Research and development 25,765 17.3 17,667 16.7 8,098 45.8
Selling, general and administrative 24,566 16.5 17,534 16.6 7,032 40.1
Amortization of intangible assets 2,026 1.3 726 0.7 1,300 179.1
Restructuring, acquisition and related
costs 12,636 8.5 (1,765 ) (1.7 ) 14,401 n/m (1)
Flood-related expense 264 0.2 - - 264 n/m (1)
(Gain) loss on sale of property and
equipment (18 ) - 60 - (78 ) n/m (1)
Total operating expenses 65,239 43.8 34,222 32.3 31,017 90.6
Operating loss (47,402 ) (31.8 ) (10,189 ) (9.6 ) (37,213 ) 365.2
Other income (expense):
Interest income (expense), net (478 ) (0.3 ) (157 ) (0.1 ) (321 ) 204.5
Gain on foreign currency translation 196 0.1 1,392 1.3 (1,196 ) (85.9 )
Gain on bargain purchase 39,460 26.5 - - 39,460 n/m (1)
Total other income (expense) 39,178 26.3 1,235 1.2 37,943 3,072.3
Loss before income taxes (8,224 ) (5.5 ) (8,954 ) (8.4 ) 730 (8.2 )
Income tax provision 1,183 0.8 5,628 5.4 (4,445 ) (79.0 )
Net loss $ (9,407 ) (6.3 ) $ (14,582 ) (13.8 ) $ 5,175 (35.5 )
(1) Not meaningful.
Revenues
Revenues for the three months ended September 29, 2012 increased by $43.0
million, or 41 percent, compared to the three months ended October 1, 2011. The
increase was primarily due to the inclusion of revenues in fiscal year 2013
generated through the acquisition of Opnext on July 23, 2012.
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For the three months ended September 29, 2012, Cisco Systems, Inc. (Cisco)
accounted for $19.6 million, or 13 percent, of our revenues and Huawei
Technologies Co., Ltd. (Huawei) accounted for $16.8 million, or 11 percent, of
our revenues. For the three months ended October 1, 2011, Huawei accounted for
$13.3 million, or 13 percent, of our revenues; Cisco accounted for $11.6
million, or 11 percent, of our revenues; Fujitsu Limited accounted for $11.4
million, or 11 percent, of our revenues; and Alcatel-Lucent accounted for $10.5
million, or 10 percent of our revenues.
Cost of Revenues
Our cost of revenues consists of the costs associated with manufacturing our
products, and includes the purchase of raw materials, labor costs and related
overhead, including stock-based compensation charges, and the costs charged by
our contract manufacturers on the products they manufacture. Charges for excess
and obsolete inventory, including in regards to inventories procured by contract
manufacturers on our behalf, the cost of product returns and warranty costs are
also included in cost of revenues. Costs and expenses related to our
manufacturing resources which are incurred in connection with the development of
new products are included in research and development expense.
Our cost of revenues for the three months ended September 29, 2012 increased by
$49.2 million, or 60 percent, from the three months ended October 1, 2011. The
increase was primarily related to higher costs associated with the inclusion of
cost of revenues in fiscal year 2013 generated through the acquisition of Opnext
on July 23, 2012.
Gross Profit
Gross profit is calculated as revenues less cost of revenues. Gross margin rate
is gross profit reflected as a percentage of revenues. Our gross margin rate
decreased to 12 percent for the three months ended September 29, 2012, compared
to 23 percent for the three months ended October 1, 2011. The decrease in gross
margin rate was primarily due to the impact of higher fixed costs allocated over
lower-than-expected revenues, including lower output in our wafer fabs,
resulting in less absorption of overhead into inventory, additional charges for
excess and obsolete inventories associated with lower demand forecasts for
certain products and adverse reserves and variances related to our high-powered
laser products.
Research and Development Expenses
Research and development expenses consist primarily of salaries and related
costs of employees engaged in research and design activities, including
stock-based compensation charges related to those employees, costs of design
tools and computer hardware, costs related to prototyping and facilities costs
for certain research and development focused sites.
Research and development expenses increased to $25.8 million for the three
months ended September 29, 2012 from $17.7 million for the three months ended
October 1, 2011. The increase was primarily related to the inclusion of research
and development expenses in fiscal year 2013 to fund research and development
associated with products acquired through the acquisition of Opnext on July 23,
2012, partially offset by a reduction in research and development expenses of
$2.4 million related to our cost reduction efforts in response to softening
market conditions and lower post-flood revenues. Personnel-related costs
increased to $14.5 million for the three months ended September 29, 2012,
compared with $10.5 million for the three months ended October 1, 2011,
primarily as a result of an increase in personnel numbers following our
acquisition of Opnext. Other costs, including the costs of design tools and
facilities-related costs increased to $11.3 million for the three months ended
September 29, 2012, compared with $7.2 million for the three months ended
October 1, 2011.
Selling, General and Administrative Expenses
Selling, general and administrative expenses consist primarily of
personnel-related expenses, including stock-based compensation charges related
to employees engaged in sales, general and administrative functions, legal and
professional fees, facilities expenses, insurance expenses and certain
information technology costs.
Selling, general and administrative expenses increased to $24.6 million for the
three months ended September 29, 2012, from $17.5 million for the three months
ended October 1, 2011. The increase was primarily related to the inclusion of
selling, general and administrative expenses in fiscal year 2013 attributable to
the operations of Opnext, partially offset by a reduction in selling, general
and administrative expenses of $1.1 million related to our cost reduction
efforts in response to softening market conditions and lower post-flood
revenues. Personnel-related costs increased to $13.9 million for the three
months ended September 29, 2012, compared with $10.0 million for the three
months ended October 1, 2011, primarily as a result of an increase in personnel
numbers following our acquisition of Opnext. Other costs, including legal and
professional fees, facilities expenses and other miscellaneous expenses,
increased to $10.7 million for the three months ended September 29, 2012,
compared with $7.5 million for the three months ended October 1, 2011.
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Restructuring, Acquisition and Related Costs
In connection with the acquisition of Opnext, during the three months ended
September 29, 2012, we recorded $2.6 million in legal and professional fees and
initiated a restructuring plan to integrate the businesses. In connection with
the restructuring plan, we recorded $7.0 million related to workforce
reductions, $0.9 million related to the impairment of certain technology that is
now considered redundant following the acquisition and $0.4 million related to
the write-off of net book value inventory that supported this technology during
the first quarter of fiscal year 2013, which costs are included in
restructuring, acquisition and related costs in the condensed consolidated
statement of operations.
During fiscal year 2012, we initiated a restructuring plan in connection with
the transfer of our Shenzhen, China manufacturing operations to Venture. We
expect this transition to occur in a phased and gradual transfer of products
over three years. In connection with this transition, we recorded restructuring
charges of $1.6 million during the first quarter of fiscal year 2013 for
employee separation charges.
During the three months ended October 1, 2011, we reviewed the fair value of
certain remaining earnout obligations arising from the acquisition of Mintera
Corporation (Mintera) and determined that their fair value decreased by $3.8
million based on revised estimates of revenues from Mintera products. This $3.8
million decrease in fair value was recorded as a decrease in restructuring,
acquisition and related expenses in the first quarter of fiscal year 2012.
During the three months ended October 1, 2011, we also accrued $0.6 million in
employee separation costs related to previously announced restructuring plans
and incurred $1.1 million of expenses in external consulting charges associated
with optimization of past acquisitions.
Other Income (Expense)
Other income (expense) increased to $39.2 million in income for the three months
ended September 29, 2012 from $1.2 million in income for the three months ended
October 1, 2011. This increase was primarily due to recording a $39.5 million
gain on bargain purchase in connection with our acquisition of Opnext in the
first quarter of fiscal year 2013.
Income Tax Provision
For the three months ended September 29, 2012 and October 1, 2011, our income
tax provisions of $1.2 million and $5.6 million, respectively, primarily related
to our foreign operations. During the three months ended October 1, 2011, $4.4
million of the total expense was due to the impact of the impairment of certain
net operating loss carryforwards in Switzerland.
RECENT ACCOUNTING STANDARDS
See Note 2, Recent Accounting Standards, to our condensed consolidated financial
statements included elsewhere in this Quarterly Report on Form 10-Q for
information regarding the effect of new accounting pronouncements on our
condensed consolidated financial statements.
APPLICATION OF CRITICAL ACCOUNTING POLICIES
The discussion and analysis of our financial condition and results of operations
is based on our condensed consolidated financial statements contained elsewhere
in this Quarterly Report on Form 10-Q, which have been prepared in accordance
with accounting principles generally accepted in the United States (U.S. GAAP).
The preparation of our financial statements requires us to make estimates and
judgments that affect our reported assets and liabilities, revenues and expenses
and other financial information. Actual results may differ significantly from
those based on our estimates and judgments or could be materially different if
we used different assumptions, estimates or conditions. In addition, our
financial condition and results of operations could vary due to a change in the
application of a particular accounting policy.
We identified our critical accounting policies in our Annual Report on Form 10-K
for the year ended June 30, 2012 (2012 Form 10-K) related to revenue recognition
and sales returns, inventory valuation, business combinations, insurance
recoveries, impairment of goodwill and other intangible assets, accounting for
stock-based compensation and income taxes. It is important that the discussion
of our operating results be read in conjunction with the critical accounting
policies discussed in our 2012 Form 10-K.
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LIQUIDITY AND CAPITAL RESOURCES
Cash Flows from Operating Activities
Net cash used by operating activities for the three months ended September 29,
2012 was $17.3 million, primarily resulting from a net loss of $9.4 million
adjusted for non-cash adjustments of $26.5 million, partially offset by $18.6
million increase in cash due to changes in operating assets and liabilities. The
$18.6 million increase in cash due to changes in operating assets and
liabilities was comprised of a $29.7 million decrease in accounts receivable, a
$7.0 million increase in inventories, a $4.5 million increase in prepaid
expenses and other current assets, a $3.2 million increase in accounts payable,
a $2.9 million decrease in accrued expenses and other liabilities, and a $0.1
million decrease in other non-current assets. The $26.5 million decrease in cash
resulting from non-cash adjustments primarily consisted of $39.5 million bargain
purchase gain related to the acquisition of Opnext and $0.3 million from the
amortization of deferred gain from sales-leaseback transactions, partially
offset by $10.9 million in depreciation and amortization, $1.6 million of
expense related to stock-based compensation and $0.9 million related to the
impairment of certain intangibles.
Net cash used by operating activities for the three months ended October 1, 2011
was $23.5 million, primarily resulting from a net loss of $14.6 million and a
$12.4 million decrease in cash due to changes in operating assets and
liabilities, partially offset by non-cash adjustments of $3.5 million. The $12.4
million decrease in cash due to changes in operating assets and liabilities was
comprised of a $13.8 million decrease in accounts payable, a $0.4 million
increase in accounts receivable, a $0.3 million increase in other non-current
assets and a $0.3 million increase in inventory, partially offset by a $2.2
million increase in accrued expenses and other liabilities and a $0.3 million
decrease in prepaid expense and other current assets. The $3.5 million increase
in cash resulting from non-cash adjustments primarily consisted of $5.8 million
of expense related to depreciation and amortization and $1.6 million of expense
related to stock-based compensation, offset in part by $3.8 million due to the
revaluation of the Mintera earnout liability and $0.2 million from the
amortization of deferred gain from a sales-leaseback transaction.
Cash Flows from Investing Activities
Net cash provided by investing activities for the three months ended
September 29, 2012 was $30.2 million, primarily consisting of $36.1 million cash
acquired in the acquisition of Opnext, partially offset by $6.0 million used in
capital expenditures.
Net cash used in investing activities for the three months ended October 1, 2011
was $6.3 million, primarily consisting of $6.2 million used in capital
expenditures and a $0.1 million increase in restricted cash related to
contractual commitments.
Cash Flows from Financing Activities
Net cash provided by financing activities for the three months ended
September 29, 2012 was $0.9 million, primarily consisting of $11.5 million in
borrowings under our revolving credit facility and $0.7 million received from
the issuance of common stock through stock option exercises and our employee
stock purchase plan, partially offset by $8.6 million in payments in connection
with the remaining earnout obligations related to our acquisition of Mintera,
$2.3 million in payments on capital lease obligations and $0.4 million
repayments on a note payable.
Net cash provided by financing activities for the three months ended October 1,
2011 was $19.6 million, primarily consisting of $19.5 million in borrowings
under our revolving credit facility and $0.1 million in proceeds from the
issuance of common stock through stock option exercises.
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Credit Line and Note
As of September 29, 2012, we had a $45.0 million senior secured revolving credit
facility with Wells Fargo Capital Finance, Inc. and other lenders (the Credit
Agreement) with an expiration date of August 1, 2014. See Note 7, Credit Line
and Note Payables, for additional information regarding this credit facility. On
November 2, 2012, we entered into an amendment and restatement to the Credit
Agreement with Wells Fargo Capital Finance, Inc. and other lenders, increasing
the facility size from $45 million to $50 million and extending the term thereof
to November 2, 2017. See Note 17, Subsequent Event, for a further discussion of
the November 2, 2012 amendment and restatement.
As of September 29, 2012 and June 30, 2012, there was $37.0 million and $25.5
million, respectively, outstanding under the Credit Agreement and we were in
compliance with all covenants. At September 29, 2012 and June 30, 2012, there
were $0.1 million, respectively, in outstanding standby letters of credit
secured under the Credit Agreement. These letters of credit expire at various
intervals through April 2014.
In connection with the acquisition of Opnext, we assumed a 1.47 billion Japanese
yen note payable to The Sumitomo Trust Bank (Sumitomo). The note is due monthly
unless renewed by Sumitomo. As of September 29, 2012, the outstanding loan
balance was $18.9 million, based on the exchange rate on September 29, 2012.
Interest is paid monthly at the Tokyo Interbank Offered Rate plus a premium,
which for our first quarter of fiscal year 2013 was 1.7 percent per annum. As of
September 29, 2012, we have $20.0 million in restricted cash in our condensed
consolidated balance sheet related to our note payable to Sumitomo.
Future Cash Requirements
As of September 29, 2012, we held $73.7 million in cash and cash equivalents and
$20.5 million in restricted cash. We anticipate that cash flows from execution
consistent with our current operating plan, together with (i) our current cash
balances, (ii) amounts expected to be available under our Credit Agreement as
amended and restated on November 2, 2012, which are based on a percentage of
eligible accounts receivable (as defined in the Credit Agreement), (iii) amounts
anticipated to be received pursuant to our Equipment and Inventory Purchase
Agreement with Venture Corporation Ltd, (iv) amounts we expect to receive from
insurance carriers for flood-related claims which we have already submitted, and
(v) additional amounts that we expect to be available under our Credit Agreement
at such time as we add another bank as a co-lender under the Credit Agreement or
from the sale of certain assets, will provide us with sufficient financial
resources in order to operate as a going concern through at least fiscal year
2013. See Note 17, Subsequent Event, for a further discussion of the November 2,
2012 amendment and restatement.
We are also exploring other sources of additional liquidity in the event that
any of the sources of liquidity described in the preceding paragraph are, for
any reason, not available in a timely manner or in the event that we need
additional liquidity beyond our current expectations, such as to fund future
growth or strengthen our balance sheet. These additional sources of liquidity
could include any one, or a combination, of the following: (i) issuing equity
securities, (ii) incurring indebtedness secured by our assets, (iii) issuing
debt and/or convertible debt securities, or (iv) selling product lines, other
assets and/or portions of our business. There can be no guarantee that we will
be able to raise additional funds on terms acceptable to us, or at all. In
addition to the insurance coverage advance payments we have already received, we
also expect to receive substantial additional insurance proceeds, although
neither the amounts nor the timing of such payments can be reasonably estimated
at this time.
From time to time, we have engaged in discussions with third parties concerning
potential acquisitions or dispositions of product lines, technologies and
businesses, such as our acquisition of Opnext, our merger with Avanex, our
acquisitions of Xtellus and Mintera, our exchange of assets agreement with
Newport and our sale of a legacy product line. We continue to consider potential
additional opportunities. Any such transactions could result in us issuing a
significant number of new equity or debt securities (including promissory
notes), the incurrence or assumption of debt, and the utilization of our cash
and cash equivalents. We may also be required to raise additional funds to
complete any such acquisition, through either the issuance of equity securities
and/or borrowings. If we raise additional funds or acquire businesses or
technologies through the issuance of equity securities, our existing
stockholders may experience significant dilution.
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Off-Balance Sheet Arrangements
We indemnify our directors and certain employees as permitted by law, and have
entered into indemnification agreements with our directors and executive
officers. We have not recorded a liability associated with these indemnification
arrangements, as we historically have not incurred any material costs associated
with such indemnification obligations. Costs associated with such
indemnification obligations may be mitigated by insurance coverage that we
maintain, however, such insurance may not cover any, or may cover only a portion
of, the amounts we may be required to pay. In addition, we may not be able to
maintain such insurance coverage in the future.
We also have indemnification clauses in various contracts that we enter into in
the normal course of business, such as indemnification in favor of customers in
respect of liabilities they may incur as a result of purchasing our products
should such products infringe the intellectual property rights of a third party.
We have not historically paid out any material amounts related to these
indemnifications; therefore, no accrual has been made for these
indemnifications.
Other than as set forth above, we are not currently party to any material
off-balance sheet arrangements.
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