A leading supplier of high performance network infrastructure solutions, QLogic Corp. (QLGC) reported fourth quarter earnings in line with the Zacks Consensus Estimate. Despite the in-line quarter, the shares fell 5.5% in afterhours trading. 

Lower operating expense and reduction in the tax rate boosted the company’s bottom line. The company also benefited from stronger enterprise spending, driven by improved IT spending. 

Revenue of $145.7 million was up 11.6% year over year. This was better than management’s revenue guidance of $140-144 million. 

The improved performance in the quarter was attributable to continued share gains in traditional markets, the introductions and ramp of innovative new products that provided incremental business opportunities in the converged networking and 10-Gig Ethernet markets. 

We expect the company to benefit from new customer wins and partnerships with large vendors such as International Business Machines (IBM), NetApp (NTAP), EMC Corp. (EMC), Dell Inc. (DELL), Hewlett-Packard Company (HPQ) and Cisco Systems (CSCO). 

By segment, Host products generated 71.2% of revenue, increasing 17.4% from the year-ago quarter to $103.7 million. Network products, which generated 15.5% of revenue, fell 10.0% year-over-year to $22.6 million, primarily due to the lower revenue from InfiniBand switch products. Silicon products (11.5% of total revenue) increased 21.8% from the year-ago quarter to $16.7 million. Royalty & Service revenue comprised the remaining 1.8%, and declined 20.0% from the year-ago quarter to $2.7 million. 

By geography, the U.S. was the largest region for the company in the quarter, with a 44% revenue share. Revenue increased 1.2% 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 35.1% year over year. Around 26% of total revenue came from the region. Europe, Middle East and Asia (EMEA), which generated around 24% of revenue in the quarter, saw revenue increase 13.5% year over year. Approximately 6% of revenue came from the rest of the world (ROW), up 2.5% year over year.
Operating Performance 

The gross margin for the quarter was 66.6%, a decline of 110 basis points from 65.5%, in the year-ago quarter, primarily due to an unfavorable product mix (lower silicon sales that typically carry higher gross margins). Moreover, the company recorded slightly higher COGS both on a dollar basis as well as on a percentage of sales basis. 

Operating expenses of $55.5 million was up 4% from $53.3 million recorded in the year-ago quarter and were slightly below the company’s expectations. 

The increase in operating expenses was primarily due to higher engineering expenses which increased 2% from the year-ago period but decreased as a percentage of revenue from 22.9% to 20.9%. The company expects engineering expenses as a percentage of revenue to be in the range of 18% to 21%, going forward.
Sales and marketing expenses in the quarter increased 4% from the year-ago period but decreased as a percentage of revenue from 13% to 12.1%. The company expects sales and marketing expenses as a percentage of revenue to be in the range of 11% to 14%. 

G&A expenses in quarter were 5.1% of revenue and increased 20.3% year over year. The company expects G&A expenses as a percentage of revenue to be approximately 4%, moving forward. 

Operating margin was 28.5%, up 160 bps from 26.9% recorded in the year-ago quarter, as most of the components of cost, E&D, S&M and G&A, increased on a dollar basis, but decreased as a percentage of sales resulting in a slightly higher operating margin. 

The income tax rate for the fourth quarter was 24.6%, resulting in an annual rate for the full year of 24.7%. The tax rate for the fourth quarter was consistent with management’s expectations. 

Net Income 

The pro forma net income was $32.4 million, or 22.3% of sales, compared to $24.5 million, or 18.8% of sales in the year-ago quarter. The fourth quarter pro forma estimate excludes restructuring charges, amortization of intangibles and stock based compensation expenses on a tax-adjusted basis. 

EPS on a non-GAAP basis was 28 cents, an increase of 40% from 20 cents in the year-ago quarter, exceeding management’s expectations of 24-26 cents. This represented the 59th consecutive quarter of profitability for QLogic.
In the quarter, the company recorded a special tax charge of $29.7 million related to an amendment of the license agreement with an international subsidiary. 

Pro forma earnings excluding one-time charges, but including stock based compensation expense was 21 cents, in line with the Zacks Consensus Estimate. 

Balance Sheet 

The company ended the quarter with a cash and short-term investments balance of $375.7 million, up $26.5 million from the previous quarter. DSOs at the end of the March quarter improved to 46 days compared to 53 days at the end of the December quarter. Annualized inventory turns for the March quarter were 10x compared to 9.3x for the December quarter. 

The company generated $69.3 million in cash from operations. It also spent $56.8 million on the repurchase of shares at an average price of $18.56 per share. 


In the first quarter of fiscal 2011, management expects combined revenue from host and network products to increase sequentially by 3%, with silicon products revenue to decline. This is expected to result in total revenue of $140-146 million. 

Management expects gross margin to be in the range of 65.5% to 66%, operating expenses of $55 million and a tax rate of 20% resulting in a non-GAAP EPS of 27-30 cents.
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