ACACIA COMMUNICATIONS, INC. You should read the following discussion of our financial condition and results of operations together with our unaudited condensed consolidated financial statements and the related notes and other financial information included elsewhere in this Quarterly Report on Form 10-Q and our Annual Report on Form 10-K filed with theSEC onFebruary 18, 2020 . The following discussion contains forward-looking statements that reflect our plans, estimates and beliefs. Our actual results could differ materially from those discussed in the forward-looking statements. Factors that could cause or contribute to these differences include those discussed below and elsewhere in this Quarterly Report on Form 10-Q, particularly in the section titled "Risk Factors" under Part II, Item 1A below. Company Overview Our mission is to deliver high-speed coherent optical interconnect products that transform communications networks, relied upon by cloud infrastructure operators and content and communication service providers, through improvements in performance and capacity and reductions in associated costs. By implementing optical interconnect technology in a silicon-based platform, a process we refer to as the siliconization of optical interconnect, we believe we are leading a disruption that is analogous to the computing industry's integration of multiple functions into a microprocessor. Our products fall into three product groups: embedded modules, pluggable modules and semiconductors. Our embedded module and pluggable module product groups consist of optical interconnect modules with transmission speeds ranging from 100 to 1,200 gigabits per second, or Gbps, for use in long-haul, metro and inter-data center markets. Our semiconductor product group consists of our low-power coherent digital signal processor application-specific integrated circuits, or DSP ASICs, and our silicon photonic integrated circuits, or silicon PICs, which are either integrated into our embedded and pluggable modules or sold to customers on a standalone basis for integration into internally developed or other merchant modules. We are also developing a 400ZR module that will expand our pluggable module product group, and enable inter-data center transmission capacity of 400 Gbps in the same compact pluggable form factors used for 400G client optics, including QSFP-DD and OSFP. Our 400 Gbps pluggable product family will also include a new CFP2-DCO module that supports transmission rates up to 400 Gbps and the OpenROADM specification. Our modules perform a majority of the digital signal processing and optical functions in optical interconnects and offer low power consumption, high density and high speeds at attractive price points. Through the use of standard interfaces, our modules can be easily integrated with customers' network equipment. The advanced software in our modules enables increased configurability and automation, provides insight into network and connection point characteristics and helps identify network performance problems, all of which increase flexibility and reduce operating costs. Revenue from our five largest customers, the mix of which customers varied across each period, was 76% and 77% during the three months endedMarch 31, 2020 and 2019, respectively. Proposed Merger with Cisco Systems OnJuly 8, 2019 , we, Cisco Systems, Inc., aCalifornia corporation, or the Parent, andAmarone Acquisition Corp. , aDelaware corporation and a wholly owned subsidiary of the Parent, or the Merger Sub, entered into an Agreement and Plan of Merger, or the Merger Agreement, pursuant to which, among other things, the Merger Sub will be merged with and into Acacia, which we refer to herein as the Merger, with Acacia surviving the Merger as a wholly owned subsidiary of the Parent. The Merger Agreement was adopted by our stockholders at a special meeting held onSeptember 6, 2019 . Completion of the Merger is subject to customary closing conditions, including (i) obtaining certain foreign antitrust approvals, including inChina , (ii) the absence of governmental injunctions or other legal restraints prohibiting the Merger or imposing certain antitrust restraints and (iii) the absence of a "Material Adverse Effect," as defined in the Merger Agreement. We and the Parent have already received antitrust clearance for the Merger inthe United States ,Germany andAustria . If the Merger is completed, each share of our common stock issued and outstanding immediately prior to the effective time of the Merger, subject to certain exceptions, will be converted into the right to receive$70.00 in cash. Subject to the satisfaction of these conditions, the parties expect the Merger to close in the second half of the Parent's 2020 fiscal year which ends onJuly 25, 2020 . For additional information related to the Merger Agreement, we refer you to our Current Report on Form 8-K filed with theSecurities and Exchange Commission onJuly 9, 2019 , which includes the full text of the Merger Agreement as Exhibit 2.1. During the three months endedMarch 31, 2020 , we recorded acquisition-related costs of$0.9 million in sales, general and administrative expense within our condensed consolidated statements of operations. 22
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Impact of COVID-19 Our global operations expose us to risks associated with public health crises, epidemics and pandemics, such as the novel coronavirus SARS-CoV-2, and the coronavirus disease, COVID-19. We cannot at this time predict the impact that the COVID-19 pandemic will have on our financial condition and operations, although we are continuing to monitor our supply chain and customer demand for COVID-19 related changes. In this time of uncertainty, we are staying in close communication with our customers and other business partners and have taken steps to mitigate the impact of this dynamic and evolving situation. In addition, in response to the COVID-19 pandemic, we have modified our business practices to include company-wide travel and visitor restrictions, work-from-home policies, social distancing and various other recommended preventive measures, and may implement further measures that we determine are in the best interests of our employees, customers, partners, vendors, and suppliers, or that are required or recommended by federal, state or local authorities. While the COVID-19 pandemic did not have a material impact on the Company's financial results for the three month period endedMarch 31, 2020 , the extent to which the COVID-19 pandemic could impact the Company's results of operations going forward depends on future developments that are highly uncertain and cannot be predicted, including new information that may emerge concerning the severity of the virus and required or voluntary actions to contain its impact. Due to the inherent uncertainty of this unprecedented and rapidly evolving situation, we are unable to predict with any confidence the likely impact of COVID-19 on our future business, results of operations and financial condition. Additional information regarding COVID-19 related risks and uncertainties may be found in the section titled "Risk Factors" under Part II, Item 1A in this Quarterly Report on Form 10-Q. Results of Operations The following tables set forth the components of our condensed consolidated statements of operations for each of the periods presented and as a percentage of revenue for those periods. The period-to-period comparison of operating results is not necessarily indicative of results for future periods. Three Months Ended March 31, 2020 2019 (in thousands) Consolidated Statement of Operation Data: Revenue$ 125,626 $ 105,216 Cost of revenue 66,344 55,374 Gross profit 59,282 49,842 Operating expenses: Research and development 32,095 30,953 Sales, general and administrative 14,371 15,787 Total operating expenses 46,466 46,740 Income from operations 12,816 3,102 Total other income, net 2,250 2,394 Income before benefit for income taxes 15,066 5,496 Benefit for income taxes (578 ) (1,481 ) Net income$ 15,644 $ 6,977 23
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Three Months Ended March 31,
2020 2019
Revenue 100 % 100 %
Cost of revenue 53 % 53 %
Gross profit 47 % 47 %
Operating expenses:
Research and development 26 % 29 %
Sales, general and administrative 11 % 15 %
Total operating expenses 37 % 44 %
Income from operations 10 % 3 %
Total other income, net 2 % 2 %
Income before benefit for income taxes 12 % 5 %
Benefit for income taxes - % (1 )%
Net income 12 % 7 %
Percentages in the table above are based on actual values. Totals may not sum
due to rounding.
Three Months Ended March 31, 2020 Compared to the Three Months Ended March 31,
2019
Revenue
Revenue by product group and the related changes during the three months ended
March 31, 2020 and 2019 were as follows:
Three Months Ended As a % of Three Months Ended As a % of Change in
March 31, 2020 Total Revenue March 31, 2019 Total Revenue $ %
(dollars in thousands)
Embedded modules $ 21,769 17 % $ 17,426 16 % $ 4,343 25 %
Pluggable modules 58,658 47 % 55,517 53 % 3,141 6 %
Semiconductors 45,199 36 % 32,273 31 % 12,926 40 %
Total revenue $ 125,626 100 % $ 105,216 100 % $ 20,410 19 %
Revenue increased by $20.4 million , or 19%, to $125.6 million in the three
months ended March 31, 2020 from $105.2 million in the three months ended
March 31, 2019 . The increase was primarily due to a $12.9 million increase in
sales of our semiconductors, a $4.3 million increase in sales of our embedded
modules and a $3.1 million increase in sales of our pluggable modules. In the
three months ended March 31, 2020 and 2019, we derived 23% and 41%,
respectively, of our revenue from sales to customers with ship-to locations in
China .
Cost of Revenue and Gross Profit
Three Months Ended March 31, Change in
2020 2019 $ %
(dollars in thousands)
Cost of revenue $ 66,344 $ 55,374 $ 10,970 20 %
Gross profit percentage 47.2 % 47.4 %
Cost of revenue increased $11.0 million , or 20%, to $66.3 million in the three
months ended March 31, 2020 from $55.4 million in the three months
ended March 31, 2019 . The increase is primarily attributable to increased sales
volumes.
Our gross profit percentage was generally consistent at 47.2% in the three
months ended March 31, 2020 compared to 47.4% in the three months ended
March 31, 2019 .
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Research and Development
Three Months Ended March 31, Change in
2020 2019 $ %
(dollars in thousands)
Research and development $ 32,095 $ 30,953 $ 1,142 4 %
Research and development expense increased $1.1 million , or 4%, to $32.1 million
in the three months ended March 31, 2020 from $31.0 million in the three months
ended March 31, 2019 , primarily due to a $4.3 million increase in
personnel-related and other costs as we continued investing in our product and
technology roadmap and a $1.7 million increase in prototype development costs,
which were partially offset by a $4.9 million decrease in research and
development expenses related to the timing of milestone payments associated with
our development programs.
Sales, General and Administrative
Three Months Ended March 31, Change in
2020 2019 $ %
(dollars in thousands)
Sales, general and administrative
Sales, general and administrative expenses decreased$1.4 million , or 9%, to$14.4 million in the three months endedMarch 31, 2020 from$15.8 million in the three months endedMarch 31, 2019 . This decrease was primarily due to a$2.3 million decrease in professional services expense, which was primarily attributable to a decrease in estimated legal and settlement costs related to litigation matters recorded in the three months endedMarch 31, 2020 , partially offset by a$0.9 million increase in personnel-related and other costs as we increased sales and customer support staffing and related support resources. Other Income, Net Three Months Ended March 31, Change in 2020 2019 $ % (dollars in thousands) Total other income, net $ 2,250$ 2,394 $ (144 ) (6 )% Total other income, net, was generally consistent at$2.3 million during the three months endedMarch 31, 2020 , as compared to$2.4 million during the three months endedMarch 31, 2019 , and is mainly comprised of interest income from marketable securities. Benefit from Income Taxes Three Months Ended March 31, Change in 2020 2019 $ % (dollars in thousands) Benefit from income taxes$ (578 ) $ (1,481 ) $ 903 (61 )% Effective tax rate (4 )% (27 )% 23 % Income tax benefit for the three months endedMarch 31, 2020 was$0.6 million compared$1.5 million for the three months endedMarch 31, 2019 . The benefit from income taxes recorded in the three months endedMarch 31, 2020 and 2019 was primarily a result of the recognition of excess tax benefits from the taxable compensation on share-based awards recognized in the respective periods, as well as federal and state research and development credits. 25
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Liquidity and Capital Resources
Three Months Ended March 31,
2020 2019
(in thousands)
Cash and cash equivalents $ 86,010 $ 73,532
Marketable securities 404,231 355,710
Working capital 403,404 367,805
Net cash provided by operating activities 22,055 29,328
Net cash provided by (used in) investing activities 27,015 (17,640 ) Net cash provided by financing activities 323
1,400
We fund our operations primarily through cash generated from operations. As ofMarch 31, 2020 , we had cash and cash equivalents totaling$86.0 million , marketable securities of$404.2 million and accounts receivable of$96.8 million . We believe our existing cash balances and anticipated cash flow from future operations will be sufficient to meet our working capital and capital expenditure needs for at least the next 12 months and the foreseeable future. Our future capital requirements may vary materially from those currently planned and will depend on many factors, including our rate of revenue growth, the timing and extent of spending on research and development efforts and other business initiatives, purchases of capital equipment to support our growth, the expansion of sales and marketing activities, any expansion of our business through acquisitions of or investments in complementary products, technologies or businesses, the use of working capital to purchase additional inventory, the timing of new product introductions, market acceptance of our products and overall economic conditions. To the extent that current and anticipated future sources of liquidity are insufficient to fund our future business activities and requirements, we may be required to seek additional equity or debt financing. In the event additional financing is required from outside sources, we may not be able to raise it on terms acceptable to us or at all. Operating Activities Net cash provided by operating activities consists primarily of net income adjusted for certain non-cash items, including depreciation expense, stock-based compensation expense, deferred income taxes, non-cash lease expense and other non-cash benefits, net, as well as the effect of changes in working capital. Net cash provided by operating activities was$22.1 million in the three months endedMarch 31, 2020 as compared to$29.3 million in the three months endedMarch 31, 2019 . The decrease of$7.3 million was primarily due to an$18.3 million decrease in cash related to changes in operating assets and liabilities, partially offset by an$8.7 million increase in net income and a$2.4 million increase in non-cash expense items primarily consisting of stock-based compensation and deferred income taxes. Changes in cash flows related to operating assets and liabilities primarily consisted of a$13.0 million decrease in cash due to the timing of our accounts payable and accrued liability payments, a$6.3 million decrease in cash due to the timing of our accounts receivable collections in the three months endedMarch 31, 2020 , a$2.7 million decrease in cash due to changes in deferred revenue balances and a$2.0 million decrease in cash due to changes in prepaid and other asset balances, partially offset by a$5.7 million increase in cash due to a decreased inventory balance. The ultimate resolution of ongoing litigation matters may have a material adverse effect on our results of operations and cash flows, potentially in the near term. In addition, the timing of the final resolution of these proceedings is uncertain. As ofMarch 31, 2020 , we have accrued a total of$20.0 million in litigation and settlement-related accruals. Investing Activities Our investing activities have consisted primarily of purchases, sales and maturities of marketable securities and purchases of lab, engineering and computer equipment to support the development of new products and increase our manufacturing capacity to meet customer demand for existing products. In addition, our investing activities include expansion of, and certain improvements to, our leased facilities. We expect that we will continue to invest in these areas in line with growth in product demand. Net cash provided by investing activities in the three months endedMarch 31, 2020 was$27.0 million as compared to net cash used in investing activities of$17.6 million in the three months endedMarch 31, 2019 . This change was primarily attributable to a$44.7 million increase in net sales of marketable securities during the three months endedMarch 31, 2020 . 26
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Financing Activities Our financing activities have consisted primarily of proceeds from the issuance of common stock under our stock-based compensation plans and payments to acquire treasury stock. Net cash provided by financing activities during the three months endedMarch 31, 2020 was$0.3 million as compared to$1.4 million during the three months endedMarch 31, 2019 , primarily attributable to a decrease in the number of stock options exercised. Contractual Obligations and Commitments Our principal commitments consist of operating lease payments, purchase obligations, taxes payable as a result of theU.S. Tax Cuts and Jobs Act, or the Tax Act, and other tax liabilities arising from the ordinary course of business. The following table summarizes these contractual obligations atMarch 31, 2020 . Future events could cause actual payments to differ from these estimates. Payments due by period Less than 1 Total Year 1-3 Years 3-5 Years More Than 5 Years (in thousands) Operating lease liabilities, including imputed interest$ 27,432 $ 3,248 $ 8,636 $ 8,850 $ 6,698 (1) Purchase obligations (2) 69,465 69,465 - - - Income taxes payable (3) 7,744 627 2,407 4,710 - Unrecognized tax benefits (4) 3,703 - - - - Total$ 108,344 $ 73,340 $ 11,043 $ 13,560 $ 6,698
(1) We lease facilities and equipment under non-cancelable operating lease
agreements. Refer to Note 8, Leases, of the "Notes to Consolidated
Financial Statements" contained in Part I, Item 1 of this Quarterly Report
on Form 10-Q for more information about our leases.
(2) Our purchase obligations primarily consist of outstanding purchase orders
with our contract manufacturers for inventory and other third parties for
the manufacturing of our wafers and semiconductors. Our relationships with
these vendors typically allow for the cancellation of outstanding purchase
orders, but require payments of all expenses incurred through the date of
cancellation. Other obligations include future non-inventory purchases and
commitments related to future fixed asset purchases.
(3) Income taxes payable relates to taxes owed as a result of the one-time
transition tax on earnings of certain foreign subsidiaries that were
previously tax-deferred until the enactment of the Tax Act in December
2017. The Tax Act allows the tax liability to be paid on an installment
basis over eight years. The amount due in less than one year in the table
above represents the transition tax amount owed in the short-term which is
included in accrued liabilities on our consolidated balance sheet.
(4) We had $7.2 million of uncertain tax positions as of March 31 ,
2020. Included in the balance of unrecognized tax benefits as of
2020 were
the effective tax rate, which have been accrued for as a long-term
liability on our condensed consolidated balance sheet. We are not able to
provide reasonably reliable estimates of future payments relating to these
obligations.
Off-Balance Sheet Arrangements
As of March 31, 2020 , we did not have any off-balance sheet arrangements, as
defined in Item 303(a)(4)(ii) of Regulation S-K, such as the use of
unconsolidated subsidiaries, structured finance, special purpose entities or
variable interest entities.
Recently Issued Accounting Pronouncements
Refer to the "Basis of Presentation and Summary of Significant Accounting
Policies" footnote within our condensed consolidated financial statements for
analysis of recent accounting pronouncements that are applicable to our
business.
Critical Accounting Policies and Estimates
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We prepare our condensed consolidated financial statements in accordance with generally accepted accounting principles inthe United States . The preparation of condensed consolidated financial statements also requires us to make estimates and assumptions that affect the reported amounts of assets, liabilities, revenues, costs and expenses and related disclosures. We base our estimates on historical experience and on various other assumptions that we believe to be reasonable under the circumstances. Actual results could differ significantly from the estimates made by our management. There have been no material changes to our critical accounting policies and estimates from those disclosed in our Annual Report on Form 10-K for the year endedDecember 31, 2019 . ITEM 3. Quantitative and Qualitative Disclosures About Market Risk. Our exposure to changes in interest rates relates primarily to interest earned on and the market value of our cash, cash equivalents and marketable securities. Our cash, cash equivalents and marketable securities consist of bank deposit accounts, money market funds,U.S. government agency debt securities, commercial paper, certificates of deposit, asset-backed securities and corporate debt securities. Our securities with fixed interest rates may have their market value adversely impacted by a rise in interest rates. As a result, we may suffer losses in principal if we are forced to sell securities that decline in market value due to changes in interest rates. However, because we classify our investments in debt securities as availableforsale, no gains or losses are recognized in the condensed consolidated statements of operation unless the securities' decline in market value is due to credit losses. An immediate 100 basis point change in interest rates would have a$2.1 million effect on the fair market value of our portfolio as ofMarch 31, 2020 . Our investment policy specifies credit quality standards for our investments and limits the amount of credit exposure from any single issue, issuer or type of investment. Our exposure to market risk from changes in foreign currency exchange rates and inflation has not changed materially from our exposure as ofDecember 31, 2019 . Additional information regarding COVID-19 related risks and uncertainties may be found in the sections titled "Management's Discussion and Analysis of Financial Condition and Results of Operations" under Part I, Item 2 and "Risk Factors" under Part II, Item 1A in this Quarterly Report on Form 10-Q. ITEM 4. Controls and Procedures. Evaluation of Disclosure Controls and Procedures. Our management, with the participation of our principal executive officer and principal financial officer, has evaluated the effectiveness of our disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, as amended (the "Exchange Act")), as of the end of the period covered by this Quarterly Report on Form 10-Q. Based on such evaluation, our principal executive officer and principal financial officer have concluded that as of such date, our disclosure controls and procedures were effective. Changes in Internal Control Over Financial Reporting. There were no changes in our internal control over financial reporting (as defined in Rules 13a-15(f) and 15d-15(f) under the Exchange Act) that occurred during the period covered by this Quarterly Report on Form 10-Q that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting. COVID-19 In response to COVID-19, we have undertaken measures to protect our employees, partners and customers, including encouraging employees to work remotely. These changes have compelled us to modify some of our control procedures, however, those changes have so far not been material. 28
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