Corning Inc’s (GLW) third quarter 2010 results were disappointing, with earnings missing the Zacks Consensus Estimate by 2 cents (4.0%) and revenue missing by 1.5%. However, shares were down a mere 0.22%, since investors were already on their guard, following press reports about the inventory correction in the LCD TV market.
Revenue
Corning reported revenue of $1.60 billion, which was down 6.4% sequentially and 8.3% year over year. On September 14, Corning mentioned that glass volumes for the quarter would be down 5% due to lower utilization rates at Taiwanese and Japanese manufacturers. However, volumes were even lower.
Revenue by Segment
The Display Technologies segment generated around 40% of total revenue. The segment declined 22.7% sequentially and 5.0% year over year. Total segment volumes were down 8% sequentially, which Corning stated was in line with the market. Total volumes were up 7% from a year ago.
Volumes at Corning’s wholly-owned business declined 25%, while volumes at Samsung Precision actually increased 5%. Prices were down across the board, although not at an accelerated rate. Corning stated that demand for LCD TVs remains robust in all except the mature domestic market.
Telecommunications (29% of revenue) grew 5.2% sequentially and 3.1% from the year-ago quarter. The hardware and equipment side of the business had another god quarter, growing in the double-digits from both the previous and year-ago quarters. Fiber & cable products continued to decline from last year, although sequential comparisons remained positive.
The Environmental Technologies segment, which generated 13% of revenue, grew 13.0% sequentially and 24.6% year over year. Although both diesel and automotive products contributed to the improved results, diesel products were stronger in the last quarter.
Diesel products were helped by increasing demand for Corning’s light duty filters, which have become compulsory under Euro 5 regulations. Management stated that the gasoline automotive business is benefiting from increased automotive production this year versus 2009.
Specialty Materials generated around 10% of revenue, up 26.2% sequentially and 76.7% year over year. The stronger-than-expected growth in the quarter was on account of increased demand for Gorilla Glass, a special quality glass pioneered by Corning, which management expects will fetch $250 million in sales this year.
So far, Corning’s Gorilla Glass has been designed into 240 different handheld and laptop models under 23 different brands, and more than 200 million devices currently use this glass. The advanced optics business also did well in the last quarter.
The Life Sciences business accounted for around 8% of revenue. The business was flat sequentially and up 35.9% from a year ago.
Pro forma gross margin was 45.2%, down 311 bps from 48.3% reported in the June 2010 quarter. Weaker glass volumes drove the decline, which was partially offset by lower costs in the automotive business. Overall, Telecom, Environmental and Specialty Materials all posted improvements that could not still offset the weakness in Display.
Operating expenses of $398 million were up 2.05% sequentially. As a result, the operating margin of 20.3% dropped 516 bps from 25.5% reported in the June quarter. A lower gross margin was the primary reason for the increase, although SG&A also increased substantially as a percentage of sales. A slight increase in R&D as a percentage of sales also contributed.
Net Income
Corning’s pro forma net income was $792 million or 49.4% of sales compared to $856 million or 50.0% in the previous quarter and $658 million or 44.5% in the year-ago quarter. Our pro forma estimate excludes restructuring gains, intangibles amortization charges and asbestos litigation gains in the last quarter.
Including these special items, the GAAP net income was $785 million (50 cents per share), compared to $848 million (54 cents per share) in the previous quarter and $643 million (41 cents per share) in the year-ago quarter.
Balance Sheet
Inventories were up 17.3% during the quarter, yielding inventory turns of 3.9x, down from 5.4x at the end of June. Days sales outstanding (DSOs) went down from 50 to around 49 during the quarter.
Corning ended the quarter with $5.03 billion in cash and short term investments, up $770 million during the quarter. However, the company has a huge debt balance. Including long term liabilities, the net cash position was just $520 million, up from $217 million at the start of the quarter.
Cash generated from operations was $428 million, of which $225 million was spent on capex, $264 million on debt repayment and $79 million on dividends. Corning also raised debt in the last quarter, in accordance with its plans of investing in Gorilla Glass.
Guidance
In the fourth quarter, Corning expects display glass volumes to be flat to down slightly for both the wholly owned and SCP businesses (in line with the market). Glass prices are expected to decline, similar to the second quarter.
Telecom segment sales are expected to be down 10% sequentially from the seasonally strong third quarter. Environmental Technologies is expected to come in flat sequentially, Specialty Materials up 10%−20% (driven by Gorilla Glass) and Life Sciences up 5%.
Corning has lowered 2010 capex expectations from $1.2 billion to $1 billion. Capex expectations for 2011 remain at approximately $2 billion. Funds will be used to build a Gorilla Glass manufacturing facililty.
Our Take
Corning’s third quarter results were disappointing, with both revenue and EPS missing our estimates. We were of course not too surprised, since the inventory correction was known to all and the magnitude alone accounted for the variation from estimates. Corning stated that typical fourth quarter demand would help burn off some inventory and hasten the return to growth.
Considering the fact that Korean manufacturers are already increasing utilization, this could be a slight positive. However, we don’t really expect much improvement until after the first quarter of 2011. Telecom will also take a turn for the worse. However, both Environment Technologies and Specialty Materials (Gorilla Glass) are expected to remain strong.
Given the mixed outlook, we believe the movement in share prices will be limited. The stock, therefore, carries a Zacks #3 Rank, which translates into a short-term “Hold” recommendation (1−3 months). Our longer-term (3−6 months) rating remains “Neutral”.
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