Microsemi Corporation‘s (MSCC) adjusted earnings per share (EPS) for third quarter of fiscal 2012 missed the Zacks Consensus Estimate by a penny.
Revenue
Microsemi reported revenue of $259.2 million, up 4.0% sequentially, 19.6% year over year.
Revenue by End Market
Microsemi generates its revenue from the Defense, Aerospace, Enterprise & Commercial and Industrial markets.
The largest chunk of Microsemi’s quarterly revenue came from the Communication market, which constituted 31% of sales. Management saw a rise in demand in their power management products, PoE, timing and synchronization and voice circuits.
The company also introduced many new products, of which the power management and conversion solutions saw rapid adoption. Management believes that Microsemi’s timing, PoE and voice circuits will see broad adoption in peripheral, silicon-based products. Microsemi also remains upbeat about its PoE business, which it expects will grow double-digits this year.
Microsemi’s strength lies in its vast product range and offerings for next generation 4G LTE networks. This can help Microsemi outgrow its competitors and increase its market share in the long run.
The Defense & security market generated 28% of sales, increasing 2.0% sequentially. While some budget-related uncertainty remains, Microsemi is over the lows it saw in December and management now expects to meet its originally targeted 8-12% growth for the year. Microsemi’s strategy of supplying both SoCs and discrete solutions has enabled it to increase its dollar content and thereby gradually increase its market share. .
Aerospace generated 21% of revenue, increasing 5.0% sequentially. The satellite business is picking up speed due to Microsemi’s focus on large constellations, high value government programs, penetration of payload electronics and growing opportunities for its radiation tolerant FPGAs.
There is also an ongoing trend of adding more efficient planes to commercial fleets, which is opening up opportunities in the commercial air and avionics segment. Microsemi, with its years of experience and customer clout is well positioned to benefit from the trend..
The Industrial market generated 20% of revenue contribution, increasing 8.0% sequentially. While this is a diverse market, the company saw surprising strength in the basic tooling segment (weldings, CO2 lasers, industrial printing, precision GPS for surveys and transport). This was supplemented with steady orders from the medical sub-segment.
The defense, aerospace and medical markets largely consume Microsemi’s high-reliability chips, while the other markets use its analog/mixed signal products.
The reported gross margin was 55.8%, up 290 basis points (bps) from the previous quarter’s 52.9%. The gross margin was down 120 bps from the year-ago quarter. The gross margin expansion was due to higher revenue, focus on new high-margin products and realization of operational synergies.
The operating expenses of $95.3 million were higher than the previous quarter’s $93.7 million. The operating margin expanded 310 bps sequentially and contracted 330 bps year over year, touching 19.8%.
The sequential increase was because of lower R&D and SG&A expenses (as a percentage of sales). However, while R&D was also down from the year-ago quarter, SG&A went up slightly.
Net Income
The total adjustments for the third quarter of 2012 were $30.2 million or 34 cents per share, compared to $34.8 million, or $0.40 a share in the previous quarter and $16.7 million ($0.19 a share) in the year-ago quarter. Excluding these special items, the pro forma net income was $37.9 million (14.6% of sales) compared to $35.3 million (16.3%) in the year-ago quarter and $34.7 million (13.9%) in the previous quarter.
Including inventory adjustments, restructuring charges, acquisition-related costs, amortization of intangibles and other items that were excluded from the pro forma calculation, the GAAP net income was $8.1 million or $0.09 per share compared to $32.8 million or $0.38 per share in the year-ago quarter and a loss of $4.8 million ($0.06 per share) in the previous quarter.
Balance Sheet
The cash and investments balance at quarter-end was $167.1 million, up $45.7 million during the quarter. Cash generated from operations was $54.7 million and capex was $13.1 million, netting a free cash flow of $41.6 million.
Inventories decreased 0.5% to $155.5 million from $156.3 million in the previous quarter. DSOs went up to 53 days from 52 days in the last quarter.
Guidance
Microsemi provided guidance for the fourth quarter of fiscal 2012. Accordingly, revenue is expected to be between $262.0-$268.0 million and non-GAAP earnings per share are expected to be around 57-60 cents, well over the Zacks Consensus of 49 cents.
Our Recommendation
Microsemi is pushing its boundaries by investing heavily in R&D. Management is focusing on security and increasing the electronic content per device and per customer, which will eventually grow its markets share. Further, they are upbeat about the industrial segment as industrial GPS, downhole drilling, welding have all witnessed strong growth in recent times.
There are, however, some issues in Microsemi’s defense business, as the U.S. Department of Defense (DoD) has announced that it will trim the defense budget, which could push out some short-term defense programs. This uncertainty could keep the lid on share prices.
The Zacks rank on Microsemi shares is #4, which implies a Sell rating in the near term (1-3 months).
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