QLogic Inc. (QLGC) reported third quarter earnings that beat the Zacks Consensus Estimate by 2 cents. Revenue beat the consensus by 5.0%.
Revenue
Revenue of $149.1 million was up 13.4% sequentially and down 8.9% year over year. This was slightly better than the preliminary revenue of $147-149 million announced on Jan 12, and significantly better than the original guidance of $134-140 million.
The company benefited from stronger enterprise spending and should continue to do well in 2010, driven by improved IT spending, the ongoing server refresh cycle, the transition to Intel Corp’s (INTC) Nehalem products, adoption of solutions from VMWare Inc. (VMW) and the transition to Microsoft Corp’s (MSFT) Windows Server 2008 R2.
Revenue by Segment
Host products generated 74% of revenue, increasing 17.5% sequentially and declining 1.5% from the year-ago quarter. This was the most important driver of business in the last quarter, as both the revenue share and the sequential increase was the most significant in the last quarter.
Network products, which generated 18% of revenue, grew 11.9% sequentially and 20.3% year over year.
Silicon products (6% of total revenue) declined 9.7% sequentially and 47.5% from the year-ago quarter.
Royalty & Service revenue comprised the remaining 2%, declining 22.3% sequentially and growing 17.3% from the year-ago quarter.
Revenue by Geography
The U.S. was the largest region for the company in the last quarter, with a 45% revenue share. Revenue increased 13.7% sequentially and declined 12.2% from the year-ago quarter, a clear indication that the company’s domestic business is turning around.
The Asia/Pacific, the second largest region, was up 3.2% sequentially and down 6.6% year over year. Around 25% of total revenue came from the region. Europe, Middle East and Asia (EMEA), which generated around 24% of revenue in the last quarter, saw revenue increase 27.9% sequentially and 22.5% from the year-ago quarter. Approximately 6% of revenue came from the rest of the world (ROW), up 8.9% sequentially and 10.5% year over year.
The pro forma gross margin for the quarter was 66.0%, up 44 basis point (bps) from the previous quarter’s 65.5%. However, it was down 206 bps from the year-ago quarter due to lower volumes, an unfavorable product mix (lower silicon sales that typically carry higher gross margins) and the working down of some inventory.
Operating expenses of $53.2 million was higher than the $52.8 million recorded in the previous quarter. The operating margin was 30.3%, up 495 bps from 25.3% recorded in the previous quarter and down 1,108 bps from the year-ago quarter. Most of the components of cost—COGS, E&D, S&M—decreased sequentially as a percentage of sales, resulting in the higher operating margin. However, COGS and E&D were significantly higher than the year-ago quarter, compared to flattish G&A and S&M (as a percentage of sales).
Net Income
The pro forma net income was $29.5 million, or 19.8% of sales, compared to $18.8 million, or 14.3% of sales in the previous quarter and $48.5 million, or 29.6% of sales in the year-ago quarter. Our third quarter pro forma estimate excludes restructuring charges and amortization of intangibles on a tax-adjusted basis, but includes stock based compensation. Pro forma earnings excluding stock based compensation of $0.31 exceeded management’s revised expectations of $0.29-0.30 presented on Jan 12.
Including these special items, the GAAP net income was $28.6 million ($0.25 EPS) compared to $16.2 million ($0.14 EPS) in the Sep 2009 quarter and $41.8 million ($0.33 EPS) in the Dec quarter of last year.
Balance Sheet
Inventories were down 6.2%, with inventory turns increasing from 7.8x to 9.3x. Days sales outstanding (DSOs) increased from 52 to around 53. The company ended with a cash and short-term investments balance of $349.2 million, up $8.8 million during the quarter. In the last quarter, the company generated $43.9 million in cash from operations and spent $5.0 million on capex, netting a free cash flow of $39 million. It also spent $39.8 million on the repurchase of shares at an average price of $18.24 per share.
Guidance
In the fourth quarter of fiscal 2010 ended March 2010, management expects to see host and network products decline sequentially, with silicon products flattening out and royalty & services declining to around $2 million.
This is expected to result in revenue of $140-144 million (down 3.4% to 6.1% sequentially based on normal seasonality), gross margin of 65.5%, operating expenses of $56 million and a tax rate of 25% resulting in a non-GAAP EPS of $0.24-$0.26.
Longer term, the company expects E&D expenses at 18-21% of sales, S&M at 11-14% of sales, G&A at 4% of sales, DSOs in the 45-55 day range.
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