Analog Sees End Market Recovery
Analog Devices’ (ADI) fiscal second quarter earnings beat the Zacks Consensus Estimate by a couple of cents. Revenue exceeded the consensus by 1.4%.
Revenue
Analog Devices generated revenue of $675.1 million, which was up 4.2% sequentially, down 14.6% year over year and just over management’s revenue guidance range of $655-$675 million (a 1-4% sequential increase).
Revenue by End Market
The industrial market generated 48% of Analog Devices’ total revenue (up 11.8% sequentially and down 16.4% year over year). This is a very diversified market for Analog Devices, including the industrial automation, instrumentation, energy, defense and healthcare segments.While each sub-segment grew in the last quarter, instrumentation and energy were up over 20% each.
The strong sequential performance is partly on account of positive seasonality and partly driven by improving market conditions, as customer inventories dropped to satisfactory levels, enabling Analog to ship to consumption.
Communications generated 19% of total revenue, up 2.5% sequentially and down 22.3% year over year. Analog Devices’ communications business now constitutes infrastructure sales alone. Management attributed the sequential increase to both wireline and wireless customers that were prompted by growing data volumes, although growth rates remained low due to the back-end loaded quarter and continued economy-related concerns.
Consumer, which now includes the computing (1% of fiscal 2011 revenue) and handset (3% of fiscal 2011 revenue) businesses, generated 16% of revenue, down 7.6% sequentially and 20.2% from a year ago. Here too, orders started strengthening toward the end of the quarter, indicating improving trends that should lead to stronger revenues going forward. Analog stated that strong design in at key consumer OEMs would support this growth.
The automotive segment generated around 17% of Analog Devices’ second quarter revenue, down 0.9% sequentially and up 10.1% from the year-ago quarter. The increase in vehicle sales, growing electronic content in vehicles and growing dollar content per vehicle for Analog helped sales in the last quarter.
Revenue by Product Line
The year-over-year decline in revenue was more or less broad-based across product lines, with only the digital signal processing (:DSP) products saying flat. On the other hand, all except the other analog category increased sequentially.
Analog signal processing products (84% of total revenue) were up 4.2% sequentially and down 15.7% year over year. Converters and amplifiers were up 5.2% and 8.1%, respectively on a sequential basis, while declining 14.3% and 16.6%, respectively from last year.
Other analog products were down 5.7% from the previous quarter and 18.2% from the year-ago quarter. The three product lines generated 44%, 26% and 13% of quarterly revenue, respectively.
Power management and reference products remained at roughly 7% of revenue, up 2.7% and down 17.9%, respectively from the previous and year-ago quarters. These products are generally sold into the consumer market. Management has refocused the business over the last few years to concentrate on this fast-growing product line.
DSPs (9% of total revenue) were up 5.3% sequentially and flat year over year.
Margins
Analog Devices generated a pro forma gross margin of 65.2%, up 207 basis points (bps) sequentially, down 231 bps year over year and better than management’s guidance of 64-64.5%. Both utilization and a stronger mix of high-margin industrial and communications infrastructure products were responsible for the sequential increase. The decline from the year-ago quarter was mainly on account of significantly lower volumes.
Operating expenses of $227.5 million were flattish sequentially and down 3.5% from the April quarter of 2011. As a result, the operating margin expanded 324 bps sequentially even as it shrunk 621 bps year over year to 31.5%.
Lower cost of sales was the main reason for the sequential increase in margin, although both R&D and SG&A also declined as a percentage of sales. However, all expenses were up significantly as a percentage of sales from the year-ago quarter with SG&A increasing somewhat less than the others.
Net Profit
The pro forma net income was $162.9 million, or a 24.1% net income margin compared to $139.4 million, or 21.5% in the previous quarter and $245.3 million, or a 31.0% net income margin in the year-ago quarter. The fully diluted pro forma earnings per share were 53 cents compared to 46 cents in the previous quarter and 79 cents in the April quarter of last year.
Since there were no one-time items in any of the quarters, the GAAP and non GAAP net income and EPS were same.
Balance Sheet
Inventories increased 2.2% to $303.7 million, with annualized inventory turns dropping sequentially from 3.2X to 3.1X. Days sales outstanding (DSOs) inched up to a little less than 45. Cash generated from operations was around $226.0 million. Analog Devices spent $30.1 million on capex, $24.2 million on acquisitions, $89.4 million on cash dividends and $44.0 million on share repurchases in the last quarter.
Guidance
Management expects third quarter revenue of $682-$702 million (a 1-4% sequential increase) with the gross margin to increase 50 bps, operating expenses of around $231 million and diluted EPS of 54-58 cents. Analysts polled by Zacks expected earnings of 58 cents a share when Analog Devices reported, at the high end of the guided range.
Our Take
Given improving order trends in the back half of the quarter and historic low lead times, Analog expects most end markets to turn around in the current quarter. Channel inventories also appear lean, meaning that the company is now shipping to consumption. However, we detect caution at communications customers, which could mean slower revenue growth in the segment.
Despite the positive commentary, guidance was again below our expectations likely reflecting conservatism. Particularly so, since Analog’s end markets appear to be looking up.
Nevertheless, we expect investor sentiments to remain low, since analysts are likely to lower their earnings estimates to reflect the guidance, thereby strengthening the Zacks Rank of #4 on Analog shares, which implies a Sell rating over the next 1-3 months.
We note that other analog peers, such as Texas Instruments (TXN) and Linear Technology Corp (LLTC) bear a Zacks Rank of #3 (short-term Hold), while Maxim Integrated Products (MXIM) is currently ranked #2 (short-term Buy).
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