14 May 2020
Emcore’s cost cutting limits quarterly loss
For fiscal second-quarter 2020 (to end-March), Emcore Corp of Alhambra, CA, USA – which provides mixed-signal products for the aerospace & defense and broadband communications markets – has reported revenue of $23.8m, down 6% on $25.5m last quarter but up 9.7% on 21.7m a year ago.
“Revenue was largely impacted by the typical March quarter seasonality of our two largest product lines: our Quartz MEMS [micro-electro-mechanical system] navigation products [acquired through buying Systron Donner Inertial (SDI) of Concord, CA, last June] within the Aerospace & Defense (A&D) segment; and our cable TV transmitters and components within the Broadband segment,” says chief financial officer Tom Minichiello.
“Despite the global impact of COVID-19, the Emcore team came together to deliver quarterly revenue that was in-line with our guidance [of $23–25m],” adds CEO Jeff Rittichier.
“As the pandemic spread throughout the globe in our second fiscal quarter, we encountered disruptions to our manufacturing operations in Beijing and California, as well as shortages in supply chain and air freight capacity, affecting revenue and costs,” continues Rittichier. “Within China, we were able to re-establish 75% of operations by 10 February, and were at planned capacity by the end of February. Office staff worked on the line to bolster output while manufacturing engineers who are in quarantine guided them with webcams and by video conference. By March, we saw activity return to normalized levels in Beijing. Prior to the COVID-19 problem, nearly half of our equipment had already been transferred to [electronics manufacturing services (EMS) provider] Hytera in Thailand and was unavailable to offset production shortfalls as we were still awaiting customer Product Change Notification (PCN) approvals before beginning production in Bangkok,” he adds.
“Although our Beijing facility was up and running by the end of February, all three of our California factories were subsequently impacted in mid-March,” says Rittichier. “When shelter-in-place orders were first implemented, they created labor and key component shortages at a critical juncture in our normally back-end-loaded March quarter. These initial disruptions ultimately gave way to a determination that Emcore was an essential business that serves defense, commercial aviation and telecommunications industries. Thus, our facilities were able to remain open, albeit at reduced capacity. As such, while demand from Aerospace & Defense customers remained as expected during the quarter, supplies to certain critical components were impacted, which caused delays in being able to ship product at the end of the quarter.”
Aerospace & Defense (A&D) segment revenue fell only slightly by 5% from $13.7m last quarter to $13m (54.6% of total revenue). “We expected a seasonally soft Q2,” says Rittichier. “The mid-March shelter-in-place orders in California presented additional challenges to completing our revenue plan. Not only did our Concord and Alhambra facilities experience disruptions but our contract manufacturing partner in Orange County was also impacted.” However, the lower Quartz MEMS revenue (which was additionally affected by COVID-19-related supply-chain headwinds) was partly offset by double-digit percentage increases for fiber-optic gyroscope (FOG) navigation and defense optoelectronics product lines.
Broadband segment revenue fell by 8.5% from $11.8m to $10.8m (45.4% of total revenue), driven mainly by decreased sales in CATV and chips. However, the typical cable TV demand softness early in the quarter and the impact of the extended Chinese New Year was somewhat mitigated by a stronger-than-expected rebound in CATV towards the end of the quarter. This additional demand created unplanned complications in securing airfreight capacity in time to recognize revenue, notes the firm. “Getting products through customs in time also proved problematic, preventing us from recognizing the full value of our shipments as revenue in the second quarter,” says Rittichier.
On a non-GAAP basis, gross margin fell 30% last quarter to 28%, including decreases of about 1.5 percentage point from the lower revenue and another 1.5 percentage point from lower A&D production yields, offset by a 1 percentage point improvement from cost reductions in broadband.
Also, while swings in overhead cost absorption at the consolidated level were not a significant factor, it did have a meaningful impact on the product segments. Specifically, A&D gross margin fell from 33% to 23%, impacted by lower absorption due to decreased production output (driven by lower Quartz MEMS and fiber-optic gyroscope margins, partially offset by an increase in defense optoelectronic margin). Broadband gross margin grew from 26% to 34%, driven by a more favorable mix and reduced under-absorption, largely as a result of lower costs in China.
Operating expenses were $10.4m, cut by $2m (15%) from just two quarters ago following recent cost-cutting actions. During fiscal Q2, Emcore implemented a workforce reduction, redesigned its wafer fab workflow, and optimized other R&D functions around the smaller staff.
Despite this, net loss increased from $1.8m ($0.06 per share) last quarter to $3.8m ($0.13 per share).
During the quarter, cash and cash equivalents rose by $6.7m from $15.4m to $22.1m. Compared with borrowings of $4.5m from its credit facility during last quarter, the firm had no debt as of end-March.
The net cash increase of $11.2m is attributable to the following factors: $12.8m received from the 10 February sale and leaseback transaction of the firm’s Quartz MEMS facility in Concord, CA; $100,000 received from a previous-quarter shipment of CATV equipment as part of a production asset sale agreement with Hytera; offset by $1.7m used during the quarter (of which $900,000 funded routine operating activities and $200,000 was for employee severance). The balance covered previous-period CapEx and legal matters.
“As evidenced by our first-half results, improved operational performance, combined with expense reductions and actions to improve our cash balance and liquidity levels, have placed us in a much improved financial footing even at the current revenue levels,” believes Rittichier.
Also, on 5 May (after the quarter-end), Emcore reported that it had secured a loan of $6,448,000 under the US Small Business Administration’s Paycheck Protection Program (PPP), to be used primarily for payroll expenses.
“We see no reductions in defense programs currently in production but have seen delays in qualification testing for new programs. We continue to meet important milestones for our manufacturing transition and completed the ERP [enterprise resource planning] project in Concord on schedule, enabling us to reduce our operating expenses. These actions, when taken together with our improved cash position following the Concord facility sale and PPP loan funding, give us the necessary resources to navigate through these unprecedented times,” believes Rittichier.
“Looking forward, we’re seeing an increase in customer demand for the third fiscal quarter as the MSOs work to break network bottlenecks,” says Rittichier.
For fiscal third quarter 2020 (to end-June), Emcore expects revenue to grow by about $2m to $25–27m. OpEx should remain at about $10m.
“As we move into the June quarter, labor shortages due to COVID-19 remain our biggest concern,” says Rittichier. “Beyond that, we expect the general amount of friction in the supply chain will continue to present a changing set of obstacles for us to overcome. We have plans in place to deal with shortages of airfreight, custom staffing as well as sourcing of certain limited components.”
“Related to the strategic initiatives we outlined in our last call and despite the obstacles within China during the [March] quarter, we completed all of the transmitter qualifications from Hytera’s Bangkok facility and received the necessary PCNs on schedule. These customer approvals authorized Emcore to build production transmitters at Hytera SDI during the June quarter,” says Rittichier. “We expect to complete the PCN for all of the laser and linear EML modules, enabling us to completely switch manufacturing to Thailand during the September quarter. The exact timing of the cutover remains somewhat fluid because it’s crucial that our engineers be able to travel to support the production processes in the new facility. Travel to Thailand remains difficult with mandatory quarantine periods in effect,” he adds.
“We’re also being cautious with this transition, so as not to concentrate our geographic risk during the COVID-19 pandemic,” Rittichier continues. “By building across Chinese and Thai facilities in the current quarter, we will hedge the risk of labor shortages at the cost of lower total capacity in our operations and some additional costs. We see this as the right bet given the circumstances.”
Emcore also expects further revenue growth from the June quarter into the September quarter (fiscal Q4/2020). “We expect the smaller wireless and chip components in the broadband business to maintain their contribution, but we are seeing strength in our cable TV products,” says Rittichier. “Recent comments from the MSOs have pointed to significant bandwidth demand from workers complying with work-from-home initiatives. In one particular case, a leading MSO stated that a whole year’s worth of bandwidth growth concentrated itself into a single month. The MSOs are now reacting strongly to improve capacity and response to their networks, which has resulted in a full order book for Emcore’s cable TV business going out into Q4,” he adds. “MSOs are relying on proven technology to meet their needs… Remote PHY shelf products, which incorporate linear optics built by Emcore, continue to gain traction in the longer-term planning of the MSOs. Although it’s impossible to say with any degree of certainty how long this upgrade cycle will last, Emcore is very well positioned to meet these demands as it works to complete its EMS transfer by the end of the fiscal year,” Rittichier concludes.