COHERENT, INC. COMPANY OVERVIEW
BUSINESS BACKGROUND
We are one of the world's leading providers of laser solutions and optics for
microelectronics, life sciences, industrial manufacturing, scientific and
aerospace and defense markets. More than a provider of lasers, we deliver
systems to the world's leading brands, innovators, and researchers, all backed
with a global service and support network. Since inception in 1966, we have
grown through internal expansion and through strategic acquisitions of
complementary businesses, technologies, intellectual property, manufacturing
processes and product offerings.
We are organized into two reporting segments: OEM Laser Sources ("OLS") and
Industrial Lasers & Systems ("ILS"), based on the organizational structure of
the company and how the chief operating decision maker ("CODM") receives and
utilizes information provided to allocate resources and make decisions. This
segmentation reflects the go-to-market strategies and synergies for our broad
portfolio of laser technologies and products. While both segments deliver
cost-effective, highly reliable photonics solutions, the OLS business segment is
focused on high performance laser sources and complex optical sub-systems
typically used in microelectronics manufacturing, medical diagnostics and
therapeutic applications, as well as in scientific research. Our ILS business
segment delivers high performance laser sources, sub-systems and machine tools
primarily used for industrial laser materials processing, serving important end
markets like automotive, machine tools, consumer goods and medical device
manufacturing as well as applications in aerospace and defense.
Income (loss) from operations is the measure of profit and loss that our CODM
uses to assess performance and make decisions. Income (loss) from operations
represents the net sales less the cost of sales and direct operating expenses
incurred within the operating segments as well as allocated expenses such as
shared sales and manufacturing costs. We do not allocate certain operating
expenses to our operating segments and we manage them at the corporate level.
These unallocated costs include stock-based compensation and corporate functions
(certain management, finance, legal and human resources) and are included in
Corporate and other. Management does not consider unallocated Corporate and
other costs in its measurement of segment performance.
SIGNIFICANT EVENTS - MERGER
Merger Agreements and Termination Fee
OnJanuary 18, 2021 , we entered into an Agreement and Plan of Merger with Lumentum Holdings Inc. ("Lumentum"),Cheetah Acquisition Sub, Inc. ("Lumentum Merger Sub I") andCheetah Acquisition Sub LLC ("Lumentum Merger Sub II"), pursuant to which we agreed to be acquired for$100.00 in cash per Coherent share and 1.1851 shares of Lumentum common stock per Coherent share. In light of unsolicited proposals received from each of MKS Instruments, Inc. and II-VI Incorporated ("II-VI"), onMarch 9, 2021 , we entered into an Amended and Restated Agreement and Plan of Merger with Lumentum, Lumentum Merger Sub I and Lumentum Merger Sub II (the "Amended Lumentum Agreement"), pursuant to which we agreed to be acquired for$175.00 in cash per Coherent share and 1.0109 shares of Lumentum common stock per Coherent share. OnMarch 25, 2021 , we terminated the Amended Lumentum Agreement and entered into an Agreement and Plan of Merger with II-VI andWatson Merger Sub Inc. ("II-VI Merger Sub") (the "II-VI Merger Agreement"), pursuant to which we agreed to be acquired for$220.00 in cash per Coherent share and 0.91 of a share of II-VI common stock per Coherent share. In connection with terminating the Amended Lumentum Agreement, we paid a termination fee of$217.6 million to Lumentum during our second quarter of fiscal 2021. The termination fee, in addition to other costs related to the merger agreements with Lumentum and II-VI, is included in merger and acquisition costs in our condensed consolidated statements of operations. Pursuant to the terms of the II-VI Merger Agreement, the acquisition of Coherent will be accomplished through a merger of II-VI Merger Sub with and into Coherent (the "Merger"), with Coherent surviving the Merger as a wholly owned subsidiary of II-VI. Pursuant to the terms of the II-VI Merger Agreement, and subject to the terms and conditions set forth therein, at the effective time of the Merger (the "Effective Time"), each share of the common stock of Coherent (the "Coherent Common Stock") issued and outstanding immediately prior to the Effective Time (other than (x) shares of Coherent Common Stock owned by II-VI, Coherent, or any direct or indirect wholly owned subsidiary of II-VI or Coherent or (y) shares of Coherent Common Stock owned by stockholderswho have properly exercised and perfected appraisal rights underDelaware law, in each case, 29 -------------------------------------------------------------------------------- Table of Contents immediately prior to the Effective Time), will be cancelled and extinguished and automatically converted into the right to receive the following consideration:
(A)
(B) 0.91 of a validly issued, fully paid and non-assessable share of the common stock of II-VI.
The completion of Coherent's acquisition by II-VI is subject to customary closing conditions, including, among others, regulatory approvals in applicable jurisdictions includingthe United States ,Germany ,China andSouth Korea . The only regulatory approvals which are open areChina andSouth Korea .
MARKET APPLICATIONS
Our products address a broad range of applications that we group into the
following markets: Microelectronics, Precision Manufacturing,
OUR STRATEGY We strive to develop innovative and proprietary products and solutions that meet the needs of our customers and that are based on our core expertise in lasers and optical technologies. In pursuit of our strategy, we intend to: •Execute our good to great transformation-Since our incorporation, we have developed critical technology and have built this company into a multinational corporation and leader in the photonics industry. We are engaged in a multi-pronged and multi-year transformation focusing on all aspects of our company. Namely, we are working to:
•Transform the operational efficiency of all our processes; •Reduce the complexity of our portfolio; •Focus our investments on growth opportunities; and •Enhance the focus and alignment with our customers
•Streamline our manufacturing structure and improve our cost structure-We are focusing on optimizing the mix of products that we manufacture internally and externally. We expect to further utilize vertical integration where our internal manufacturing process is considered proprietary and seek to leverage external sources when the capabilities and cost structure are well developed and on a path towards commoditization. •Focus on long-term improvement of adjusted EBITDA, in dollars and as a percentage of net sales, and drive free cash flow and gross margin as a percentage of sales-We define adjusted EBITDA as operating income adjusted for depreciation, amortization, stock-based compensation expense, restructuring costs and certain other non-operating income and expense items, such as merger and acquisition costs. Key initiatives to reach our goals for EBITDA and gross margin improvements include utilization of our manufacturing locations inAsia , optimizing our supply chain and continued leveraging of our infrastructure. Our focus on free cash flow is to generate cash over the long term as it is essential to maintaining a healthy business and providing funds to help fuel growth. •Leverage our technology portfolio and application engineering to lead the expansion of photonics into broader markets-We will continue to identify opportunities in which our technology portfolio and application engineering can be used to offer innovative solutions and gain access to new markets. •Optimize our leadership position in existing markets-There are a number of markets where we are at the forefront of technological development and product deployment and from which we have derived a substantial portion of our revenues. We plan to optimize our financial returns from these markets. •Maintain and develop additional strong collaborative customer and industry relationships-We believe that the Coherent brand name and reputation for product quality, technical performance and customer satisfaction will help us to further develop our loyal customer base. We plan to maintain our current customer relationships as well as develop new ones with customerswho are industry leaders and work together with these customers to design and develop innovative product systems and solutions as they develop new technologies. 30 -------------------------------------------------------------------------------- Table of Contents •Develop and acquire new technologies and market share-We will continue to enhance our market position through our existing technologies and develop new technologies through our internal research and development efforts, as well as through the acquisition of additional complementary technologies, intellectual property, manufacturing processes and product offerings.
•Focus on our core end markets-While we are organized around our two segments of OLS and ILS, we also take a holistic approach to aligning and driving our business to focus on our four core markets:
•Microelectronics (which captures the 3 sub-markets of Display, Semiconductor, andAdvanced Packaging & Interconnect ); •Precision Manufacturing; •Instrumentation (which captures the 3 sub-markets of Bio-Instrumentation, Therapeutics & Research); and •Aerospace & Defense
APPLICATION OF CRITICAL ACCOUNTING POLICIES AND ESTIMATES
Our discussion and analysis of financial condition and results of operations are based upon our condensed consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted inthe United States of America and pursuant to the rules and regulations of theSEC . The preparation of these condensed consolidated financial statements requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the condensed consolidated financial statements and the reported amounts of revenues and expenses during the reporting period. We have identified the following as the items that require the most significant judgment and often involve complex estimation: revenue recognition, business combinations, accounting for long-lived assets (including goodwill and intangible assets), inventory valuation, warranty reserves and accounting for income taxes. See Item 7. "Management's Discussion and Analysis of Financial Condition and Results of Operations" in our Annual Report on Form 10-K for our fiscal year endedOctober 2, 2021 . KEY PERFORMANCE INDICATORS
Below is a summary of some of the quantitative performance indicators (as defined below) that are evaluated by management to assess our financial performance. Some of the indicators are non-GAAP measures and should not be considered as an alternative to any other measure for determining operating performance or liquidity that is calculated in accordance with generally accepted accounting principles.
Three Months Ended
January 1, 2022 January 2, 2021 Change % Change
(Dollars in thousands)
Net sales-OEM Laser Sources $ 242,970 $ 211,162 $ 31,808 15.1 %
Net sales-Industrial Lasers & Systems $ 141,537 $ 114,891 $ 26,646 23.2 %
Gross profit as a percentage of net sales-OEM
Laser Sources 50.2 % 45.2 % 5.0 % N/A
Gross profit as a percentage of net
sales-Industrial Lasers & Systems 33.6 % 23.0 % 10.6 % N/A
Research and development as a percentage of net
sales 7.8 % 8.6 % (0.8) % N/A
Income before income taxes $ 36,294 $ 14,661 $ 21,633 147.6 %
Net cash provided by operating activities
74,931 $ (62,850) (83.9) %
Free cash flow $ (4,803) 59,858 $ (64,661) (108.0) %
Days sales outstanding in receivables 57 62 (5) N/A
Annualized first quarter inventory turns 2.2 2.0 0.2 N/A
Net income as a percentage of net sales 7.9 % 0.0 % 7.9 % N/A
Adjusted EBITDA as a percentage of net sales 22.7 % 15.3 % 7.4 % N/A
31-------------------------------------------------------------------------------- Table of ContentsNet Sales Net sales include sales of lasers, laser systems, laser components, related accessories and services. Net sales for the first quarter of fiscal 2022 increased 15.1% in our OLS segment and increased 23.2% in our ILS segment from the same quarter one year ago. For a description of the reasons for changes in net sales refer to the "Results of Operations" section below.
Gross Profit as a Percentage of
Gross profit as a percentage of net sales ("gross profit percentage") is
calculated as gross profit for the period divided by net sales for the
period. Gross profit percentage in the first quarter of fiscal 2022 increased to
50.2% from 45.2% in our OLS segment and increased to 33.6% from 23.0% in our ILS
segment as compared to the same quarter one year ago. For a description of the
reasons for changes in gross profit refer to the "Results of Operations" section
below.
Research and Development as a Percentage of
Research and development as a percentage of net sales ("R&D percentage") is
calculated as research and development expense for the period divided by net
sales for the period. Management considers R&D percentage to be an important
indicator in managing our business as investing in new technologies is a key to
future growth. R&D percentage decreased to 7.8% for the first quarter of fiscal
2022 from 8.6% for the same quarter one year ago. For a description of the
reasons for changes in R&D spending refer to the "Results of Operations" section
below.
Net Cash Provided by Operating Activities
Net cash provided by operating activities as reflected on our condensed consolidated statements of cash flows primarily represents the excess of cash collected from billings to our customers and other receipts over cash paid to our vendors for expenses and inventory purchases to run our business. We believe that cash flows from operations is an important performance indicator because cash generation over the long term is essential to maintaining a healthy business and providing funds to help fuel growth. Net cash provided by operating activities in the first quarter of fiscal 2022 was unfavorably impacted by payments under our variable compensation plan. For a description of the reasons for changes in net cash provided by operating activities refer to the "Liquidity and Capital Resources" section below.
Free Cash Flow
Free cash flow represents net cash provided by operating activities reduced by purchases of property and equipment, both as reflected on our condensed consolidated statements of cash flows. We believe that free cash flow is an important performance indicator because it is a measure of cash generation after accounting for cash outflows to support operations and maintain capital assets. Cash generation over the long term is essential to maintaining a healthy business and providing funds to help fuel growth. Free cash flow in the first quarter of fiscal 2022 was unfavorably impacted by payments under our variable compensation plan. For a description of the reasons for changes in free cash flow refer to the "Liquidity and Capital Resources" section below, where we discuss the reasons for changes in net cash provided by operating and investing activities.
Days Sales Outstanding in Receivables
We calculate days sales outstanding ("DSO") in receivables as net receivables at
the end of the period divided by net sales during the period and then multiplied
by the number of days in the period, using 90 days for quarters. DSO in
receivables indicates how well we are managing our collection of receivables,
with lower DSO in receivables resulting in higher working capital
availability. The more money we have tied up in receivables, the less money we
have available for research and development, acquisitions, expansion, marketing
and other activities to grow our business. Our DSO in receivables for the first
quarter of fiscal 2022 improved to 57 days from 62 days compared to the same
quarter one year ago. The improvement was primarily due to improved collections
of past due receivables, primarily in Europe , China and South Korea , and the
favorable impact of foreign exchange rates.
Annualized First Quarter Inventory Turns
We calculate annualized first quarter inventory turns as the cost of sales
during the first quarter annualized and divided by net inventories at the end of
the first quarter. This indicates how well we are managing our inventory levels,
with higher inventory turns resulting in more working capital availability and a
higher return on our investments in inventory. Our annualized inventory turns
for the first quarter of fiscal 2022 increased to 2.2 turns from 2.0 turns
compared to the same quarter a year ago primarily due to lower inventory levels,
primarily in our OLS segment, due to higher flat panel display shipments and
higher
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service parts demand partially offset by lower inventory provisions for excess
and obsolete inventory in certain ILS business units and improved manufacturing
absorption in both segments.
Adjusted EBITDA as a Percentage of
We define adjusted EBITDA as operating income adjusted for depreciation, amortization, stock-based compensation expense, restructuring costs and certain other non-operating income and expense items, such as merger and acquisition costs. Key initiatives to reach our goals for EBITDA improvements include utilization of our manufacturing locations inAsia , optimizing our supply chain and continued leveraging of our infrastructure. We utilize a number of different financial measures, both GAAP and non-GAAP, such as free cash flow and adjusted EBITDA as a percentage of net sales, in analyzing and assessing our overall business performance, for making operating decisions and for forecasting and planning future periods. We consider the use of non-GAAP financial measures helpful in assessing our current financial performance and ongoing operations. While we use non-GAAP financial measures as a tool to enhance our understanding of certain aspects of our financial performance, we do not consider these measures to be a substitute for, or superior to, the information provided by GAAP financial measures. We provide free cash flow and adjusted EBITDA as a percentage of sales in order to enhance investors' understanding of our ongoing operations. These measures are used by some investors when assessing our performance. Below is the reconciliation of our net cash provided by operating activities to our free cash flow: Three Months Ended January 1, 2022 January 2, 2021 Net cash provided by operating activities$ 12,081 $ 74,931 Less: Purchases of property and equipment 16,884 15,073 Free cash flow$ (4,803) $ 59,858
Below is the reconciliation of our net income as a percentage of net sales to our adjusted EBITDA as a percentage of net sales:
Three Months Ended
January 1, 2022 January 2, 2021
Net income as a percentage of net sales 7.9 % 0.0 %
Income tax expense 1.5 % 4.5 %
Interest and other income (expense), net 1.5 % 1.4 %
Depreciation and amortization 3.2 % 4.0 %
Restructuring charges and other - % 1.7 %
Merger and acquisition costs 0.3 % - %
Stock-based compensation 8.3 % 3.7 %
Adjusted EBITDA as a percentage of net sales 22.7 % 15.3 %
SIGNIFICANT EVENTS
Merger Agreement and related fees
See "Significant Events - Merger" above in this Item 2 for a description of the Agreement and Plan of Merger we entered into onJanuary 18, 2021 , and the Amended Lumentum Agreement we entered into onMarch 9, 2021 with Lumentum, Lumentum Merger Sub I and Lumentum Merger Sub II, the termination of the Amended Lumentum Agreement and the payment of a termination fee to Lumentum in the second quarter of fiscal 2021, as well as the II-VI Merger Agreement we entered into with II-VI and II-VI Merger Sub onMarch 25, 2021 .
The termination fee, in addition to other costs related to the merger agreements is included in merger and acquisition costs in our condensed consolidated statements of operations.
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Coronavirus pandemic (COVID-19)
In December 2019 , COVID-19 cases were reported, and in January 2020 , the World
Health Organization ("WHO") declared it a Public Health Emergency of
International Concern. On February 28, 2020 , the WHO raised its assessment of
the COVID-19 threat from high to very high at a global level due to the
continued increase in the number of cases and affected countries, and on March
11, 2020 , the WHO characterized COVID-19 as a pandemic. In an effort to contain
COVID-19 or slow its spread, governments around the world have enacted various
measures from time to time, including orders to close all businesses not deemed
"essential," isolate residents in their homes or places of residence, and
practice social distancing at and away from work. These actions and the global
health crisis caused by COVID-19 will continue to negatively impact global
business activity, which could negatively affect our revenue and results of
operations. Each of the regions where we generate a majority of our revenue
including Asia , Europe and North America have been and may continue to be
impacted by COVID-19 in the future. The timing and extent of impact related to
COVID-19 varies by country and region.
Although we estimated that our sales for fiscal 2020 were negatively impacted by
the COVID-19 pandemic, we believe the impact on sales in fiscal 2021 and the
first quarter of fiscal 2022 was immaterial.
During fiscal 2020 and 2021, the global demand environment was uncertain at
times given the effects of COVID-19 on many businesses, including manufacturing
facilities and customer confidence around the world. In fiscal 2021, and
continuing into fiscal 2022, we saw global demand recover in all regions and
begin to return to a more normalized demand trend. However, we cannot predict
future resurgences of COVID-19, particularly in light of the recent Delta and
Omicron variants, and the impact that it may have on future demand for our
products and services, particularly given the recent shutdown measures taken in
certain countries in Europe and Asia .
Currently, our major production facilities in Europe , Southeast Asia , and the
United States remain open. At all of our locations, we have transitioned from
business continuity plans to return-to-operations plans while continuing to
maintain high standards of employee safety and sanitization protocols. Our
Return to Operations Plans have a phased approach with the primary focus on
employee safety, with a continuing requirement for "working from home" for other
members of our workforce wherever possible. We have vertically integrated
manufacturing, and many of the components produced at certain of our facilities
supply other company facilities, are single sourced internally and are not
available from third-party suppliers (for example our semiconductor diodes are
manufactured in Sunnyvale, California ). While we do maintain a safety stock of
critical components at our various locations, the scope, timing, and duration of
various government restrictions to address the COVID-19 pandemic could impact
our internal supply chain. We have implemented certain policy changes to help
support our employees impacted by COVID-19. These measures have and will
continue to increase the cost of our operations but the magnitude and length of
time of this impact is difficult to quantify at this time and may continue to be
difficult to estimate in the future. If our sales are reduced for an extended
period or if our production output falls because of government restrictions, we
may be required to reduce payroll-related costs and other expenses in the future
through layoffs or furloughs, even though we have not done so to date.
We continue to experience various supply disruptions throughout the supply chain
and are working closely with our supply base to mitigate or remove constraints
as they become known. Supply constraints due to COVID-19 may impact the speed
with which we are able to ramp up production if we experience strong demand on
certain products. We also continue to face supply chain constraints primarily
related to logistics, including available air cargo space and higher freight
rates. Available cargo space on flights between the U.S. and Europe , and Europe
and Asia has been and remains limited as a result of the impact from COVID-19
and government and business responses to it, and this has increased shipping
time and costs. In addition, shipments between countries have been more severely
impacted by COVID-19 and we are experiencing delays due to additional checks at
border crossings, including within Europe and Asia . Government actions related
to COVID-19 come on the heels of trade tensions between the United States and
China , which may continue. We believe we have the ability to meet the near-term
demand for our products, but the situation is fluid and subject to change.
We continue to monitor the rapidly evolving conditions and circumstances as well
as guidance from international and domestic authorities, including public health
authorities, and we may need to take additional actions based on their
recommendations. There is considerable uncertainty regarding the impact on our
business stemming from current measures and potential future measures that could
restrict access to our facilities, limit our manufacturing and support
operations, and place restrictions on our workforce, customers, and suppliers.
The measures implemented by various authorities related to the COVID-19 outbreak
have caused us to change our business practices including those related to where
employees work, the distance between employees in our facilities, limitations on
in-person meetings between employees and with customers, suppliers, service
providers, and stakeholders as well as restrictions on some shipping activities,
business travel to domestic and international locations or to attend trade
shows, investor conferences and other events. In March of 2020, we formed a
COVID Steering Committee to, among other things, propose, discuss, and implement
best practices in response to COVID-19. The COVID Steering Committee
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meets weekly and more often if required. All of our executive officers and many
of our key senior-level employees are members of the COVID Steering Committee .
The COVID-19 pandemic has significantly increased worldwide and regional
economic uncertainty and, at times, decreased demand for our products in many
markets we serve, which could continue for an unknown period of time. In these
circumstances, there may be developments outside of our control, including the
length and extent of the COVID-19 outbreak, government-imposed measures and our
ability to ship as well as install products and/or service installed products
that may require us to adjust our operating plans. As such, given the dynamic
nature of this situation, we cannot estimate with certainty the future impacts
of COVID-19 on our financial condition, results of operations or cash flows.
However, we do expect that it could have an adverse impact on our revenue as
well as our overall profitability and could lead to an increase in inventory
provisions, allowances for credit losses, and a volatile effective tax rate
driven by changes in the mix of earnings across our markets.
See "Risks Related to COVID-19 Pandemic" in Part II, Item 1A of this quarterly report regarding the impact of COVID-19.
Restructuring
In the fourth quarter of fiscal 2020, we began a restructuring program in our ILS segment which includes management reorganizations, the planned closure of certain manufacturing sites, and the right-sizing of global sales, service, order admin, marketing communication and certain administrative functions, among others. In the first quarter of fiscal 2022 and 2021, we incurred costs of$0.0 million and$5.4 million , respectively, primarily related to write-offs of excess inventory and accruals for vendor commitments, which are recorded in cost of sales, estimated severance and accelerated depreciation. The project is substantially complete as ofJanuary 1, 2022 . See Note 19, "Restructuring Charges" in the Notes to Condensed Consolidated Financial Statements. RESULTS OF OPERATIONS CONSOLIDATED SUMMARY
The following table sets forth, for the periods indicated, the percentage of total net sales represented by the line items reflected in our condensed consolidated statements of operations:
Three Months Ended
January 1, 2022 January 2, 2021
Net sales 100.0 % 100.0 %
Cost of sales 56.4 % 63.2 %
Gross profit 43.6 % 36.8 %
Operating expenses:
Research and development 7.8 % 8.6 %
Selling, general and administrative 24.4 % 22.8 %
Merger and acquisition costs 0.3 % -
%
Amortization of intangible assets 0.1 % 0.2 % Total operating expenses 32.6 % 31.6 % Income from operations 11.0 % 5.2 % Other expense, net (1.6) % (0.7) % Income before income taxes 9.4 % 4.5 % Provision for income taxes 1.5 % 4.5 % Net income 7.9 % 0.0 % Net income for the first quarter of fiscal 2022 was$30.3 million ($1.21 per diluted share). This included$29.6 million of after-tax stock-based compensation expense,$1.2 million of after-tax amortization of intangible assets,$0.8 million of after-tax merger and acquisition costs,$0.5 million non-recurring income tax net charge and$4.6 million of net excess tax benefit for employee stock-based compensation. Net income for the first quarter of fiscal 2021 was$0.1 million ($0.01 per diluted share). This included$10.6 million of after-tax stock-based compensation expense,$4.5 million of after-tax restructuring costs,$2.3 35 -------------------------------------------------------------------------------- Table of Contents million of after-tax amortization of intangible assets,$8.6 million non-recurring income tax net charge and$0.6 million of excess tax charge for employee stock-based compensation.
Market Application
The following tables set forth, for the periods indicated, the amount of net
sales and their relative percentages of total net sales by market application
(dollars in thousands):
Three Months Ended
January 1, 2022 January 2, 2021
Percentage Percentage
of total of total
Amount net sales Amount net sales
Consolidated:
Microelectronics $ 173,022 45.0 % $ 148,848 45.7 %
Precision manufacturing 104,554 27.2 % 81,450 25.0 %
Instrumentation 93,943 24.4 % 85,227 26.1 %
Aerospace and defense 12,988 3.4 % 10,528 3.2 %
Total $ 384,507 100.0 % $ 326,053 100.0 %
Quarterly
Net sales for the first quarter of fiscal 2022 increased by $58.5 million , or
18%, compared to the first quarter of fiscal 2021, with significant increases in
the microelectronics and precision manufacturing markets and smaller increases
in the instrumentation and aerospace and defense markets. We finished fiscal
2021 with a positive book-to-bill ratio, in all four end-markets, as well as
increased backlog levels compared to fiscal 2020 across all end-markets. We also
had a substantially positive book-to-bill ratio in the first quarter of fiscal
2022. We believe that we are well-positioned with our laser-based technology to
benefit from technology proliferation in rapid growth areas such as 5G, flexible
OLED and MicroLED. In addition, we believe the market for laser-based medical
instrumentation, devices and procedures will continue to grow with the increase
of an aging population around the globe. Furthermore, we believe that technology
advances will result in increased laser-based defense spending globally.
The increase in the microelectronics market of $24.2 million , or 16%, was
primarily due to increased shipments for semiconductor, flat panel display
(primarily higher revenues from consumable service parts) and advanced packaging
applications. In microelectronics, we expect future increases in ELA tool
shipments as Asian manufacturers improve yields and ramp manufacturing as
indicated by the fact that we received new orders for these products in both
fiscal 2021 and the first quarter of fiscal 2022. In addition, it is expected
that the handset market will continue to transition to 5G and newer technologies
over time. This technology requires more power from the battery which we expect
will result in the handset manufacturers having to decide between shorter talk
times or placement of larger batteries in existing form factors. Since OLED
displays are much thinner than liquid crystal displays (LCD), we believe 5G will
increase demand for OLED displays to accommodate larger batteries. In addition,
we are seeing demand for laser solutions for MicroLED pilot production. We
believe that these technological demands will allow us to continue to maintain a
leadership position in flat panel display applications. We are also seeing
higher demand for semiconductor applications, somewhat tempered by constraints
in the supply chain for semiconductor chips. Demand is being driven by
continuous strength in cloud computing and data centers as well as in advanced
packaging applications driven by 5G demand for smaller geometry, better power
management and next generation printed circuit boards.
The increase in the precision manufacturing market of $23.1 million , or 28%, was
due to increased sales in materials processing, medical, consumer goods and
automotive applications. The Purchasing Managers Index ("PMI") is a measure of
the prevailing economic trends in manufacturing, and often correlates to
materials processing sales. The manufacturing PMI for the U.S. and Germany were
flat in the first quarter of fiscal 2022 compared the prior quarter. Although
supply chain constraints are continuing in the U.S. in the second quarter of
fiscal 2022, they are starting to ease in Europe and China . In addition, we saw
customer demand for automobiles and production return to pre-COVID-19 levels.
Although unfavorably impacted by the global semiconductor chip shortage, we
expect continued strong demand for laser based welding products, especially for
battery
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applications in EVs (Electronic Vehicles). Medical device manufacturing orders
continued to be strong in the first quarter of fiscal 2022 after record orders
in fiscal 2021, particularly in the U.S.
The increase in the instrumentation market of $8.7 million , or 10%, was due
primarily to higher shipments for biomedical instrumentation applications. We
supply lasers and optical systems for biomedical instrumentation applications
and our lasers have been used in diagnostic instruments in applications
including gene sequencing, biomarker identification and vaccine development. We
expect demand in scientific and government program applications to continue to
fluctuate from quarter to quarter.
Sales in the aerospace and defense market increased $2.5 million , or 23%,
primarily due to higher shipments in defense applications. We anticipate the
defense market, especially amplifiers for directed energy and specialty optics
for aerospace, to be a multi-year growth opportunity for us.
Segments
We are organized into two reportable operating segments: OLS and ILS. While both
segments deliver cost-effective, highly reliable photonics solutions, OLS is
focused on high performance laser sources and complex optical sub-systems,
typically used in microelectronics manufacturing, medical diagnostics and
therapeutic applications, as well as in scientific research. ILS delivers high
performance laser sources, sub-systems and machine tools primarily used for
industrial laser materials processing, serving important end markets like
automotive, machine tools, consumer goods and medical device manufacturing as
well as applications in aerospace and defense.
The following tables set forth, for the periods indicated, the amount of net
sales and their relative percentages of total net sales by segment (dollars in
thousands):
Three Months Ended
January 1, 2022 January 2, 2021
Percentage Percentage
of total of total
Amount net sales Amount net sales
Consolidated:
OEM Laser Sources (OLS) $ 242,970 63.2 % $ 211,162 64.8 %
Industrial Lasers & Systems (ILS) 141,537 36.8 % 114,891 35.2 %
Total $ 384,507 100.0 % $ 326,053 100.0 %
Quarterly
Net sales for the first quarter of fiscal 2022 increased by
The increase in our OLS segment sales was primarily due to higher shipments for semiconductor, flat panel display (primarily higher revenues from consumable service parts) and advanced packaging applications in the microelectronics market as well as biomedical instrumentation applications in the instrumentation market and medical applications in the precision manufacturing market. The increase in our ILS segment sales was primarily due to higher sales to the precision manufacturing market, primarily for materials processing, consumer goods, medical and automotive applications, higher sales for advanced packaging and semiconductor applications within the microelectronics market and higher sales for biomedical instrumentation applications in the instrumentation market. GROSS PROFIT Consolidated
Our gross profit percentage increased by 6.8% to 43.6% in the first quarter of fiscal 2022 from 36.8% in the first quarter of fiscal 2021.
The 6.8% increase in gross profit percentage during the first quarter of fiscal
2022 included a 1.5% favorable impact of lower restructuring costs, primarily
related to lower severance costs due to our closure of certain manufacturing
sites, 0.5% lower amortization of intangibles and 0.2% lower stock-based
compensation expense. Additionally, gross profit percentage increased
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4.6% compared to the first quarter of fiscal 2021 primarily due to favorable
product margins (4.4%) and lower warranty costs (0.2%). Product margins were
favorable in both OLS and ILS due to the impact of favorable absorption of
manufacturing costs from higher sales volumes, higher capitalized variances, the
favorable impact of the weaker Euro against the U.S. Dollar as well as the
favorable impact of selective price increases for certain products and services
and favorable mix in both OLS and ILS. The lower warranty and installation costs
as a percentage of sales were due to fewer warranty events, particularly for
diode components products in ILS.
Our gross profit percentage has been and will continue to be affected by a
variety of factors including the impact of shipping volumes, product mix,
pricing on volume orders, our ability to manufacture advanced and more complex
products, manufacturing efficiencies, excess and obsolete inventory write-downs,
warranty costs, amortization of intangibles, pricing by competitors or suppliers
(including the impact of increased pricing on expedited orders due to supply
chain constraints), new product introductions, production volume, customization
and reconfiguration of systems, commodity prices and foreign currency
fluctuations against the U.S. Dollar, particularly the recent volatility of the
Euro and to a lesser extent, the Japanese Yen and South Korean Won.
OEM Laser Sources
The gross profit percentage in our OLS segment increased by 5.0% to 50.2% in the first quarter of fiscal 2022 from 45.2% in the first quarter of fiscal 2021.
The 5.0% increase in gross profit percentage during the first quarter of fiscal 2022 was primarily due to favorable product margins (5.8%) due to the favorable impacts of higher capitalized variances, the absorption of manufacturing costs on higher revenues, the weaker Euro against theU.S. Dollar, the favorable impact of selective price increases for certain products and services and improved mix (both mix of product and service revenues). The favorable product costs were partially offset by higher other costs (0.8%) primarily due to higher inventory provisions for excess and obsolete inventory in certain business units and higher freight costs as a percentage of sales.
Industrial Lasers & Systems
The gross profit percentage in our ILS segment increased by 10.6% to 33.6% in the first quarter of fiscal 2022 from 23.0% in the first quarter of fiscal 2021.
The 10.6% increase in gross profit percentage during the first quarter of fiscal
2022 included a 4.3% favorable impact of lower restructuring costs, primarily
related to lower write-offs of inventories, lower accelerated depreciation and
lower severance costs due to the closure of certain manufacturing sites and 1.3%
lower amortization of intangibles. Additionally, gross profit percentage
increased 5.0% compared to the first quarter of fiscal 2021 primarily due to
favorable product costs (2.7%), lower other costs (1.7%) due to lower accruals
for contract losses and lower provisions for excess and obsolete inventory in
our global tools and fiber components and CO2 products, and lower warranty and
installation costs (0.6%) as a percentage of sales due to fewer warranty events,
particularly for diode components products. Product costs, net of restructuring
costs, were favorable primarily due to the favorable absorption of manufacturing
costs due to higher sales volumes and the favorable impact of higher capitalized
variances as well as favorable mix and pricing for global tools products and the
favorable impact of selective price increases for certain products and services.
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OPERATING EXPENSES:
Three Months Ended
January 1, 2022 January 2, 2021
Percentage of Percentage of
Amount total net sales Amount total net sales
(Dollars in thousands)
Research and development $ 29,769 7.8 % $ 28,221 8.6 %
Selling, general and administrative 93,774 24.4 % 74,228 22.8 %
Merger and acquisition costs 977 0.3 % - - %
Amortization of intangible assets 565 0.1 % 597 0.2 %
Total operating expenses $ 125,085 32.6 % $ 103,046 31.6 %
Research and development
Quarterly
Research and development ("R&D") expenses increased $1.5 million , or 5%, during
the first quarter of fiscal 2022 compared to the same quarter one year ago. The
increase was primarily due to $1.2 million higher employee-related spending due
to headcount additions for certain projects and $0.7 million incremental
spending due to the acquisition of EOT in April 2021 , partially offset by $0.4
million lower charges for increases in deferred compensation plan liabilities.
Net project spending was unchanged with higher spending on materials offset by
the favorable impact of higher customer reimbursements.
On a segment basis as compared to the prior year period, OLS R&D spending
increased $0.4 million with higher employee-related spending, the acquisition of
EOT and higher spending on materials partially offset by higher customer
reimbursements. ILS R&D spending increased $1.4 million primarily due to higher
employee-related spending and higher spending on materials partially offset by
higher customer reimbursements. Corporate and other R&D spending decreased $0.3M
primarily due to lower charges for increases in deferred compensation plan
liabilities.
Selling, general and administrative
Quarterly
Selling, general and administrative ("SG&A") expenses increased $19.5 million ,
or 26%, during the first quarter of fiscal 2022 compared to the same quarter one
year ago. The increase was primarily due to $20.2 million higher stock-based
compensation expense primarily resulting from the acceleration of vesting of
restricted stock units for certain executives. SG&A expenses also increased due
to $1.1 million higher other variable spending including higher consulting on
special projects, higher spending on travel and higher other discretionary
spending partially offset by lower rep commissions as well as $0.4 million
incremental spending due to the acquisition of EOT in April 2021 . Partially
offsetting the increases, SG&A expenses decreased due to $2.2 million lower
charges for increases in deferred compensation plan liabilities.
Employee-related spending was unchanged with lower variable compensation, lower
severance costs and the favorable impact of foreign exchange rates offset by
higher costs due to merit increases, higher employee benefits costs and higher
headcount.
On a segment basis as compared to the prior year period, OLS SG&A expenses
increased $2.7 million primarily due to higher employee-related spending, the
acquisition of EOT and higher variable spending on travel and other
discretionary spending. ILS SG&A spending decreased $0.5 million primarily due
to lower variable spending on rep commissions and facilities partially offset by
higher employee-related spending. Corporate and other SG&A spending increased
$17.3 million primarily due to higher stock-based compensation expense and
higher consulting fees partially offset by lower charges for increases in
deferred compensation plan liabilities and lower employee-related spending.
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Merger and acquisition costs
In the first quarter of fiscal 2022, we recorded
Amortization of intangible assets was flat in the three months ended
OTHER INCOME (EXPENSE) - NET
Other income (expense), net, decreased by$3.9 million to an expense of$6.2 million in the first quarter of fiscal 2022 from an expense of$2.3 million in the first quarter of fiscal 2021. The decrease in net other expense was primarily due to$2.6 million lower gains/higher losses, net of expenses, on our deferred compensation plan assets,$1.2 million higher foreign exchange losses and a$0.3 million lower benefit from non-service pension expense partially offset by$0.4 million lower interest expense due to the payoff of our line of credit inOctober 2021 and the favorable impact of foreign exchange rates.
INCOME TAXES
Our effective tax rate on income before income taxes for the three months endedJanuary 1, 2022 was 16.6%. Our effective tax rate for the three months endedJanuary 1, 2022 was lower than theU.S. federal tax rate of 21% primarily due to the excess tax benefits from restricted stock unit vesting, the benefit of federal research and development tax credits, the benefit of a foreign-derived intangible income deduction and ourSingapore tax exemption. These amounts are partially offset by the impact of income subject to foreign tax rates that are higher than theU.S. tax rates, limitations on the deductibility of compensation under Internal Revenue Code Section 162(m), stock-based compensation not deductible for tax purposes and the deferred taxes on foreign earnings not considered permanently reinvested. Our effective tax rate on income before income taxes for the three months endedJanuary 2, 2021 of 99.0% was higher than theU.S. federal tax rate of 21.0% primarily due to the establishment of valuation allowances for certain foreign deferred tax assets, the impact of income subject to foreign tax rates that are higher than theU.S. tax rates, the deferred taxes on foreign earnings not considered permanently reinvested, stock-based compensation not deductible for tax purposes and limitations on the deductibility of compensation under Internal Revenue Code Section 162(m). These amounts are partially offset by the benefit of federal research and development tax credits and ourSingapore tax exemption.
LIQUIDITY AND CAPITAL RESOURCES
AtJanuary 1, 2022 , we had assets classified as cash and cash equivalents and short-term investments, in an aggregate amount of$392.6 million , compared to$456.5 million atOctober 2, 2021 . In addition, atJanuary 1, 2022 , we had$17.7 million of restricted cash. AtJanuary 1, 2022 , approximately$320.6 million of our cash and securities was held in certain of our foreign subsidiaries and branches,$279.2 million of which was denominated in currencies other than theU.S. Dollar. Our foreign subsidiaries loaned approximately$124.3 million of funds toCoherent, Inc. to pay a termination fee of$217.6 million to Lumentum inMarch 2021 . Our current business plans do not demonstrate a need for additional foreign funds to support our domestic operations and it is our intention to repay our borrowings to our foreign subsidiaries. If, however, a portion of our foreign funds are needed for and distributed to our operations inthe United States via a dividend, we may be subject to additional foreign withholding taxes and certain state taxes. The amount of theU.S. and foreign taxes due would depend on the amount and manner of repatriation, as well as the location from where the funds are repatriated. We historically asserted our intention to indefinitely reinvest foreign earnings. As a result of the enactment of theU.S. Tax Cuts and Jobs Act ("Tax Act") and certain income tax treaty updates, we no longer consider foreign earnings to be indefinitely reinvested in our foreign subsidiaries. We actively monitor the third-party depository institutions that hold these assets, primarily focusing on the safety of principal and secondarily maximizing yield on these assets. We diversify our cash and cash equivalents and investments among various financial institutions, money market funds and other securities in order to reduce our exposure should any one of these financial institutions or financial instruments fail or encounter difficulties. To date, we have not experienced any material loss or lack of access to our invested cash, cash equivalents or short-term investments. However, we can provide no assurances that access to our invested cash, cash equivalents or short-term investments will not be impacted by adverse conditions in the financial markets. To date, we have had sufficient liquidity to manage the financial impact of COVID-19. However, we can provide no assurance that this will continue to be the case if the impact of COVID-19 is prolonged or if there is an extended impact on us or the economy in general. Further, COVID-19 has caused significant uncertainty and volatility in the credit markets. If our liquidity or access to capital becomes significantly constrained, or if costs of capital increase significantly due to 40 -------------------------------------------------------------------------------- Table of Contents the impact of COVID-19 as result of a volatility in the capital markets, a reduction in our creditworthiness or other factors, then our financial condition, results of operations and cash flows could be materially adversely affected.
See "Part I, Item 3. Quantitative and Qualitative Disclosures About Market Risk" below for more information about risks and trends related to foreign currencies.
Sources and Uses of Cash
Historically, our primary source of cash has been provided by operations. Other sources of cash in the past few fiscal years include proceeds from our Euro Term Loan used to finance our acquisition of Rofin, proceeds received from the sale of our stock through our employee stock purchase plan as well as borrowings under our Revolving Credit Facility and for the construction of a facility inGermany . Our historical uses of cash have primarily been for acquisitions of businesses and technologies, the repurchase of our common stock, merger and acquisition costs, the purchases of property and equipment and debt issuance costs. Supplemental information pertaining to our historical sources and uses of cash is presented as follows and should be read in conjunction with our condensed consolidated statements of cash flows and the notes to condensed consolidated financial statements: Three Months EndedJanuary 1, 2022 January 2, 2021 (in thousands)
Net cash provided by operating activities
74,931
Issuance of shares under employee stock plans 6,566
5,896
Net settlement of restricted common stock (37,935)
(8,903)
Borrowings (repayments), net (12,385)
(2,572)
Purchases of property and equipment (16,884)
(15,073)
Net cash provided by operating activities decreased by$62.9 million for the first three months of fiscal 2022 compared to the same period one year ago. The decrease in cash provided by operating activities was primarily due to lower cash flows from accrued payroll, inventories, deferred income taxes, income taxes payable and other current liabilities partially offset by higher net income and non-cash adjustments. In order to support our liquidity during the pandemic, we have and will continue to take measures to increase available cash on hand, including, but not limited to, reducing discretionary spending for operating and capital expenses. To further support our liquidity, we elected to defer the payment of our employer portion of social security taxes beginning inApril 2020 and through the end of calendar 2020, which we have paid or expect to pay in equal installments in the first quarters of fiscal 2022 (paid) and 2023, as provided for under the CARES Act. We believe that our existing cash, cash equivalents and short term investments combined with cash to be provided by operating activities will be adequate to cover our working capital needs and planned capital expenditures for at least the next 12 months to the extent such items are known or are reasonably determinable based on current business and market conditions, including consideration of the impact of COVID-19, and will be adequate to support our long-term liquidity needs. However, we may elect to finance certain of our capital expenditure requirements through other sources of capital. We continue to follow our strategy to further strengthen our financial position by using available cash flow to fund operations. We intend to continue to consider acquisition opportunities at valuations we believe are reasonable based upon market conditions. However, we cannot accurately predict the timing, size and success of our acquisition efforts or our associated potential capital commitments. Furthermore, we cannot assure you that we will be able to acquire businesses on terms acceptable to us. We expect to fund future acquisitions, if any, through existing cash balances and cash flows from operations (as in our acquisition of EOT) and additional borrowings (as in our acquisition of Rofin). If required, we will consider the issuance of securities. The extent to which we will be willing or able to use our common stock to make acquisitions will depend on its market value at the time and the willingness of potential sellers to accept it as full or partial payment. OnApril 19, 2021 , we acquired EOT for approximately$29.3 million in cash.
On
In fiscal 2021, we made debt principal payments of
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In the first three months of fiscal 2022, we made debt principal payments of
$1.9 million , recorded interest expense on the Euro Term Loan of $3.0 million
and recorded $0.7 million amortization of debt issuance costs. In the first
three months of fiscal 2022, we recorded interest expense related to our
Revolving Credit Facility of $0.0 million .
On
OnOctober 29, 2021 , we entered into a10.0 million Euro letter of credit facility, rolled our existing letter of credit into that facility and deposited10.5 million Euros with Barclays as cash collateral to secure the payment obligations under such facility, resulting in restricted cash of$11.8 million as ofJanuary 1, 2022 . Additional sources of cash available to us were international currency lines of credit and bank credit facilities totaling$14.5 million as ofJanuary 1, 2022 , of which$12.8 million was unused and available. These unsecured international credit facilities were used inEurope during the first three months of fiscal 2022. As ofJanuary 1, 2022 , we had utilized$1.7 million of the international credit facilities as guarantees inEurope . Our ratio of current assets to current liabilities increased to 3.3:1 atJanuary 1, 2022 compared to 3.1:1 atOctober 2, 2021 . The increase in our ratio was primarily due to lower other current liabilities and lower short-term borrowings partially offset by lower cash and cash-equivalents. Our cash and cash equivalents and working capital are as follows: January 1, 2022 October 2, 2021 (in thousands) Cash and cash equivalents$ 392,552 $ 456,534 Working capital 786,064 797,070 Contractual Obligations and Off-Balance Sheet Arrangements We have no off-balance sheet arrangements as defined under Regulation S-K of the Securities Act of 1933. Information regarding our contractual obligations is provided in Item 7 "Management's Discussion and Analysis of Financial Condition and Results of Operations" and Item 8 "Notes to Consolidated Financial Statements" of our Annual Report on Form 10-K for the fiscal year endedOctober 2, 2021 . There have been no material changes in contractual obligations outside of the ordinary course of business sinceOctober 2, 2021 . Information regarding our other financial commitments atJanuary 1, 2022 is provided in the Notes to Condensed Consolidated Financial Statements in this report.
Changes in Financial Condition
Cash provided by operating activities during the first three months of fiscal 2022 was$12.1 million , which included net income of$30.3 million , stock-based compensation expense of$31.9 million , depreciation and amortization of$12.4 million , amortization of operating ROU assets of$3.8 million and amortization of debt issuance cost of$0.7 million partially offset by cash used by operating assets and liabilities of$63.9 million (primarily lower accrued payroll, higher prepaid assets, higher inventories and lower accounts payable net of lower accounts receivable) and net increases in deferred tax assets of$4.1 million . Cash provided by operating activities during the first three months of fiscal 2021 was$74.9 million , which included cash provided by operating assets and liabilities of$27.8 million (primarily lower inventories and higher income taxes payable and accrued payroll partially offset by payments made for lease liabilities and higher prepaid assets), depreciation and amortization of$13.2 million , net increases in deferred tax assets of$12.6 million , stock-based compensation expense of$12.2 million , amortization of operating ROU assets of$4.4 million , non-cash restructuring charges of$3.5 million , amortization of debt issuance cost of$0.9 million and net income of$0.1 million . Cash used in investing activities during the first three months of fiscal 2022 was$16.8 million , which included$16.8 million , net of proceeds from dispositions, used to acquire property and equipment and purchase and upgrade buildings. Cash used in investing activities during the first three months of fiscal 2021 was$13.4 million , which included$13.4 million , net of proceeds from dispositions, used to acquire property and equipment and purchase and upgrade buildings. Cash used in financing activities during the first three months of fiscal 2022 was$43.8 million , which included$37.9 million in outflows due to net settlement of restricted stock units and$12.4 million net debt payments partially offset by$6.6 million generated from our employee stock purchase plan. Cash used in financing activities during the first three months of fiscal 2021 was$5.6 million , which included$8.9 million in outflows due to net settlement of restricted stock units and$2.6 million net debt payments partially offset by$5.9 million generated from our employee stock option and purchase plans. 42 -------------------------------------------------------------------------------- Table of Contents Changes in exchange rates during the first three months of fiscal 2022 resulted in a decrease in cash balances of$3.8 million . Changes in exchange rates during the first three months of fiscal 2021 resulted in an increase in cash balances of$12.2 million . RECENT ACCOUNTING STANDARDS See Note 2, "Recent Accounting Standards" in the Notes to Condensed Consolidated Financial Statements for a full description of recent accounting pronouncements, including the respective dates of adoption or expected adoption and effects on our condensed consolidated financial position, results of operations and cash flows. 43
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