10-Q 1 iivi-10q_20180930.htm 10-Q iivi-10q_20180930.htm

 

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UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

 

FORM 10-Q

 

Quarterly Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934

For the quarterly period ended September 30, 2018

Transition report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934

for the transition period from                      to                     .

Commission File Number: 0-16195

 

II-VI INCORPORATED

(Exact name of registrant as specified in its charter)

 

 

PENNSYLVANIA

 

25-1214948

(State or other jurisdiction of

incorporation or organization)

 

(I.R.S. Employer

Identification No.)

 

 

 

375 Saxonburg Boulevard

 

 

Saxonburg, PA

 

16056

(Address of principal executive offices)

 

(Zip Code)

Registrant’s telephone number, including area code: 724-352-4455

N/A

(Former name, former address and former fiscal year, if changed since last report)

 

Indicate by check mark whether the registrant: (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.    Yes      No  

Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit such files).    Yes      No  

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, smaller reporting company, or an emerging growth company. See definitions of “large accelerated filer,” “accelerated filer,”  “smaller reporting company,” and “emerging growth company” in Rule 12b-2 of the Exchange Act.:

Large accelerated filer

Accelerated filer

 

 

 

 

Non-accelerated filer

  

Smaller reporting company

 

 

 

 

 

 

Emerging growth company

If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act       

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).    Yes      No  

Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date:

At November 2, 2018, 63,582,797 shares of Common Stock, no par value, of the registrant were outstanding.

 

 

 


 

II-VI INCORPORATED

INDEX

 

 

 

Page No.

 

 

 

PART I - FINANCIAL INFORMATION

 

 

 

 

 

 

 

Item 1.

 

Financial Statements:

 

 

 

 

 

 

 

 

 

Condensed Consolidated Balance Sheets – September 30, 2018 and June 30, 2018 (Unaudited)

 

3

 

 

 

 

 

 

 

Condensed Consolidated Statements of Earnings – Three months ended September 30, 2018 and 2017 (Unaudited)

 

4

 

 

 

 

 

 

 

Condensed Consolidated Statements of Comprehensive Income – Three months ended September 30, 2018 and 2017 (Unaudited)

 

5

 

 

 

 

 

 

 

Condensed Consolidated Statements of Cash Flows – Three months ended September 30, 2018 and 2017 (Unaudited)

 

6

 

 

 

 

 

 

 

Condensed Consolidated Statement of Shareholders’ Equity – Three months ended September 30, 2018 (Unaudited)

 

7

 

 

 

 

 

 

 

Notes to Condensed Consolidated Financial Statements (Unaudited)

 

8

 

 

 

 

 

Item 2.

 

Management’s Discussion and Analysis of Financial Condition and Results of Operations

 

23

 

 

 

 

 

Item 3.

 

Quantitative and Qualitative Disclosures About Market Risk

 

30

 

 

 

 

 

Item 4.

 

Controls and Procedures

 

31

 

 

 

 

PART II - OTHER INFORMATION

 

 

 

 

 

 

 

Item 1.

 

Legal Proceedings

 

32

 

 

 

 

 

Item 1A.

 

Risk Factors

 

32

 

 

 

 

 

Item 2.

 

Issuer Purchases of Equity Securities

 

32

 

 

 

 

 

Item 6.

 

Exhibits

 

33

 

 

 

2


 

PART I - FINANCIAL INFORMATION

Item 1.

FINANCIAL STATEMENTS

II-VI Incorporated and Subsidiaries

Condensed Consolidated Balance Sheets (Unaudited)

($000)

 

 

 

September 30,

 

 

June 30,

 

 

 

2018

 

 

2018

 

Assets

 

 

 

 

 

 

 

 

Current Assets

 

 

 

 

 

 

 

 

Cash and cash equivalents

 

$

271,343

 

 

$

247,038

 

Accounts receivable - less allowance for doubtful accounts of $1,269 at September 30, 2018 and $837 at June 30, 2018

 

 

229,134

 

 

 

215,032

 

Inventories

 

 

265,101

 

 

 

248,268

 

Prepaid and refundable income taxes

 

 

7,700

 

 

 

7,845

 

Prepaid and other current assets

 

 

44,081

 

 

 

43,654

 

Total Current Assets

 

 

817,359

 

 

 

761,837

 

Property, plant & equipment, net

 

 

541,519

 

 

 

524,890

 

Goodwill

 

 

298,308

 

 

 

270,678

 

Other intangible assets, net

 

 

137,270

 

 

 

125,069

 

Investments

 

 

75,289

 

 

 

69,215

 

Deferred income taxes

 

 

2,064

 

 

 

2,046

 

Other assets

 

 

8,834

 

 

 

7,926

 

Total Assets

 

$

1,880,643

 

 

$

1,761,661

 

 

 

 

 

 

 

 

 

 

Liabilities and Shareholders' Equity

 

 

 

 

 

 

 

 

Current Liabilities

 

 

 

 

 

 

 

 

Current portion of long-term debt

 

$

20,000

 

 

$

20,000

 

Accounts payable

 

 

97,417

 

 

 

89,774

 

Accrued compensation and benefits

 

 

47,929

 

 

 

66,322

 

Accrued income taxes payable

 

 

18,780

 

 

 

17,392

 

Other accrued liabilities

 

 

41,174

 

 

 

42,979

 

Total Current Liabilities

 

 

225,300

 

 

 

236,467

 

Long-term debt

 

 

517,144

 

 

 

419,013

 

Deferred income taxes

 

 

29,205

 

 

 

27,241

 

Other liabilities

 

 

65,406

 

 

 

54,629

 

Total Liabilities

 

 

837,055

 

 

 

737,350

 

Shareholders' Equity

 

 

 

 

 

 

 

 

Preferred stock, no par value; authorized - 5,000,000 shares; none issued

 

 

-

 

 

 

-

 

Common stock, no par value; authorized - 300,000,000 shares; issued - 76,074,972 shares at September 30, 2018; 75,692,683 shares at June 30, 2018

 

 

360,276

 

 

 

351,761

 

Accumulated other comprehensive income (loss)

 

 

(14,379

)

 

 

(3,780

)

Retained earnings

 

 

862,213

 

 

 

836,064

 

 

 

 

1,208,110

 

 

 

1,184,045

 

Treasury stock, at cost - 12,496,873 shares at September 30, 2018 and 12,395,791 shares at June 30, 2018

 

 

(164,522

)

 

 

(159,734

)

Total Shareholders' Equity

 

 

1,043,588

 

 

 

1,024,311

 

Total Liabilities and Shareholders' Equity

 

$

1,880,643

 

 

$

1,761,661

 

 

- See notes to condensed consolidated financial statements.

 

3


 

II-VI Incorporated and Subsidiaries

Condensed Consolidated Statements of Earnings (Unaudited)

($000 except per share data)

 

 

 

Three Months Ended

 

 

 

September 30,

 

 

 

2018

 

 

2017

 

Revenues

 

$

314,433

 

 

$

261,503

 

 

 

 

 

 

 

 

 

 

Costs, Expenses and Other Expense (Income)

 

 

 

 

 

 

 

 

Cost of goods sold

 

 

190,526

 

 

 

155,528

 

Internal research and development

 

 

33,171

 

 

 

25,574

 

Selling, general and administrative

 

 

53,523

 

 

 

50,624

 

Interest expense

 

 

5,584

 

 

 

3,645

 

Other expense (income), net

 

 

(713

)

 

 

(767

)

Total Costs, Expenses and Other Expense (Income)

 

 

282,091

 

 

 

234,604

 

 

 

 

 

 

 

 

 

 

Earnings Before Income Taxes

 

 

32,342

 

 

 

26,899

 

 

 

 

 

 

 

 

 

 

Income Taxes

 

 

6,193

 

 

 

5,758

 

 

 

 

 

 

 

 

 

 

Net Earnings

 

$

26,149

 

 

$

21,141

 

 

 

 

 

 

 

 

 

 

Basic Earnings Per Share

 

$

0.41

 

 

$

0.34

 

 

 

 

 

 

 

 

 

 

Diluted Earnings Per Share

 

$

0.40

 

 

$

0.32

 

 

- See notes to condensed consolidated financial statements.


4


 

II-VI Incorporated and Subsidiaries

Condensed Consolidated Statements of Comprehensive Income (Unaudited)

($000)

 

 

 

Three Months Ended

 

 

 

September 30,

 

 

 

2018

 

 

2017

 

 

 

 

 

 

 

 

 

 

Net earnings

 

$

26,149

 

 

$

21,141

 

Other comprehensive income (loss):

 

 

 

 

 

 

 

 

Foreign currency translation adjustments

 

 

(10,651

)

 

 

11,097

 

Pension adjustment, net of taxes of $15 and $23 for the three months ended, respectively

 

 

52

 

 

 

82

 

Comprehensive income

 

$

15,550

 

 

$

32,320

 

 

- See notes to condensed consolidated financial statements.

5


 

II-VI Incorporated and Subsidiaries

Condensed Consolidated Statements of Cash Flows (Unaudited)  

($000)

 

 

 

Three Months Ended

 

 

 

September 30,

 

 

 

2018

 

 

2017

 

Cash Flows from Operating Activities

 

 

 

 

 

 

 

 

Net earnings

 

$

26,149

 

 

$

21,141

 

Adjustments to reconcile net earnings to net cash provided by operating activities:

 

 

 

 

 

 

 

 

Depreciation

 

 

18,472

 

 

 

15,219

 

Amortization

 

 

3,698

 

 

 

3,597

 

Share-based compensation expense

 

 

3,255

 

 

 

4,250

 

Loss (gain) on foreign currency remeasurements and transactions

 

 

1,412

 

 

 

(496

)

Earnings from equity investment

 

 

(1,594

)

 

 

(270

)

Deferred income taxes

 

 

(1,598

)

 

 

(2,995

)

Increase (decrease) in cash from changes in (net of effect of acquisitions):

 

 

 

 

 

 

 

 

Accounts receivable

 

 

(10,479

)

 

 

2,716

 

Inventories

 

 

(13,637

)

 

 

(13,891

)

Accounts payable

 

 

5,135

 

 

 

2,542

 

Income taxes

 

 

(3,404

)

 

 

235

 

Accrued compensation and benefits

 

 

(17,981

)

 

 

(16,434

)

Other operating net assets

 

 

9,577

 

 

 

(3,231

)

Net cash provided by operating activities

 

 

19,005

 

 

 

12,383

 

Cash Flows from Investing Activities

 

 

 

 

 

 

 

 

Additions to property, plant & equipment

 

 

(35,902

)

 

 

(37,426

)

Purchases of businesses, net of cash acquired

 

 

(45,229

)

 

 

(79,465

)

Purchase of equity investment

 

 

(4,480

)

 

 

-

 

Other investing activities

 

 

36

 

 

 

136

 

Net cash used in investing activities

 

 

(85,575

)

 

 

(116,755

)

Cash Flows from Financing Activities

 

 

 

 

 

 

 

 

Proceeds from issuance of 0.25% convertible senior notes due 2022

 

 

-

 

 

 

345,000

 

Proceeds from borrowings under Credit Facility

 

 

120,000

 

 

 

40,000

 

Payments on borrowings under Credit Facility

 

 

(25,000

)

 

 

(257,000

)

Payment on earnout consideration

 

 

(2,500

)

 

 

-

 

Purchases of treasury stock

 

 

-

 

 

 

(49,875

)

Proceeds from exercises of stock options

 

 

5,042

 

 

 

3,706

 

Payments in satisfaction of employees' minimum tax obligations

 

 

(4,570

)

 

 

(3,608

)

Debt issuance costs

 

 

-

 

 

 

(10,061

)

Net provided by financing activities

 

 

92,972

 

 

 

68,162

 

Effect of exchange rate changes on cash and cash equivalents

 

 

(2,097

)

 

 

5,607

 

Net increase (decrease) in cash and cash equivalents

 

 

24,305

 

 

 

(30,603

)

Cash and Cash Equivalents at Beginning of Period

 

 

247,038

 

 

 

271,888

 

Cash and Cash Equivalents at End of Period

 

$

271,343

 

 

$

241,285

 

Cash paid for interest

 

$

2,417

 

 

$

2,196

 

Cash paid for income taxes

 

$

5,420

 

 

$

6,167

 

 

 

 

 

 

 

 

 

 

Non cash transactions:

 

 

 

 

 

 

 

 

Additions to property, plant & equipment included in accounts payable

 

$

11,329

 

 

$

3,925

 

 

- See notes to condensed consolidated financial statements.

 

6


 

II-VI Incorporated and Subsidiaries

Condensed Consolidated Statement of Shareholders’ Equity (Unaudited)

(000)

 

 

 

 

 

 

 

 

 

 

 

Accumulated

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Other

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Common Stock

 

 

Comprehensive

 

 

Retained

 

 

Treasury Stock

 

 

 

 

 

 

 

Shares

 

 

Amount

 

 

Income (Loss)

 

 

Earnings

 

 

Shares

 

 

Amount

 

 

Total

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance - June 30, 2018

 

 

75,693

 

 

$

351,761

 

 

$

(3,780

)

 

$

836,064

 

 

 

(12,396

)

 

$

(159,734

)

 

$

1,024,311

 

Share-based and deferred compensation activities

 

 

382

 

 

 

8,515

 

 

 

-

 

 

 

-

 

 

 

(101

)

 

 

(4,788

)

 

 

3,727

 

Net earnings

 

 

-

 

 

 

-

 

 

 

-

 

 

 

26,149

 

 

 

-

 

 

 

-

 

 

 

26,149

 

Foreign currency translation adjustments

 

 

-

 

 

 

-

 

 

 

(10,651

)

 

 

-

 

 

 

-

 

 

 

-

 

 

 

(10,651

)

Pension adjustment, net of taxes of $15

 

 

-

 

 

 

-

 

 

 

52

 

 

 

-

 

 

 

-

 

 

 

-

 

 

 

52

 

Balance - September 30, 2018

 

 

76,075

 

 

$

360,276

 

 

$

(14,379

)

 

$

862,213

 

 

 

(12,497

)

 

$

(164,522

)

 

$

1,043,588

 

 

- See notes to condensed consolidated financial statements.

 

 

 

7


 

II-VI Incorporated and Subsidiaries

Notes to Condensed Consolidated Financial Statements (Unaudited)

 

Note 1.

Basis of Presentation

The condensed consolidated financial statements of II-VI Incorporated (“II-VI”, the “Company”, “we”, “us” or “our”) for the three months ended September 30, 2018 and 2017 are unaudited. In the opinion of management, all adjustments considered necessary for a fair presentation for the periods presented have been included. All adjustments are of a normal recurring nature unless disclosed otherwise. Certain information and footnote disclosures normally included in financial statements prepared in accordance with accounting principles generally accepted in the United States of America (“U.S. GAAP”) have been condensed or omitted. These condensed consolidated financial statements should be read in conjunction with the audited consolidated financial statements and notes thereto included in the Company’s Annual Report on Form 10-K for the fiscal year ended June 30, 2018. The consolidated results of operations for the three months ended September 30, 2018 are not necessarily indicative of the results to be expected for the full fiscal year. The June 30, 2018 Condensed Consolidated Balance Sheet information was derived from the Company’s audited financial statements.

Effective July 1, 2018, the Company realigned the composition of its operating segments. The Company moved Laser Systems Group from II-VI Laser Solutions to II-VI Photonics and moved Integrated Photonics, Inc. (“IPI”) from II-VI Photonics to II-VI Performance Products.  All applicable segment information has been restated to reflect this change.

 

Note 2.

Recently Issued Financial Accounting Standards

Revenue Recognition Pronouncement

In May 2014, the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Update (“ASU”) 2014-09, Revenue from Contracts with Customers (Topic 606). The standard requires an entity to recognize revenue in a manner that depicts the transfer of goods or services to customers at an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods or services. The Company adopted this standard on July 1, 2018 using the modified retrospective method of adoption. Adoption of the ASU did not require an adjustment to the opening balance of equity. The Company does not expect the standard to have a significant effect on its results of operations, liquidity or financial position in fiscal year 2019. The Company implemented processes and controls to ensure new contracts are reviewed for the appropriate accounting treatment and to generate the disclosures required under the new standard in the first quarter of fiscal year 2019. For the disclosures required by this ASU, see Note 4. Revenue from Contracts with Customers.

Other Adopted Pronouncements

In March 2017, the FASB issued ASU 2017-07, Compensation (Topic 715): Improving the Presentation of Net Periodic Pension Cost and Net Periodic Postretirement Benefit Cost. This update affects employers’ presentation of defined benefit retirement plan costs. Early adoption is permitted. The adoption of this standard did not have a material effect on the Company’s Consolidated Financial Statements.

In January 2017, the FASB issued ASU 2017-01, Business Combinations (Topic 805): Clarifying the Definition of a Business. This update changes the definition of a business to assist entities with evaluating when a set of transferred assets and activities is a business. The adoption of this standard did not have a material effect on the Company’s Consolidated Financial Statements.

In October 2016, the FASB issued ASU 2016-16, Income Taxes (Topic 740): Intra-Entity Transfers of Assets Other Than Inventory. This update requires that when intra-entity asset transfers occur, the entity must recognize tax effects in the period in which the transfer occurs. The adoption of this standard did not have a material effect on the Company’s Consolidated Financial Statements.

In August 2016, the FASB issued ASU 2016-15, Statement of Cash Flows (Topic 230): Classification of Certain Cash Receipts and Cash Payments. The guidance clarifies how entities should classify certain cash receipts and cash payments on the statement of cash flows. The guidance also clarifies how the predominance principle should be applied when cash receipts and cash payments have aspects of more than one class of cash flow. The adoption of this standard did not have a material effect on the Company’s Consolidated Financial Statements.

In January 2016, the FASB issued ASU 2016-01, Financial Instruments – Overall (Subtopic 825-10): Recognition and Measurement of Financial Assets and Financial Liabilities. This update requires entities to measure equity investments at fair value and recognize any changes in fair value in net income. The adoption of this standard did not have a material effect on the Company’s Consolidated Financial Statements.

8


 

Pronouncements Currently Under Evaluation

In August 2018, the FASB issued ASU 2018-15, Intangibles-Goodwill and Other-Internal-Use Software (Subtopic 350-40): Customer's Accounting for Implementation Costs Incurred in a Cloud Computing Arrangement That is a Service Contract. ASU 2018-15 aligns the requirements for capitalizing implementation costs incurred in a hosting arrangement that is a service contract with the requirements for capitalizing implementation costs incurred to develop or obtain internal-use software. The standard will be effective for the Company’s 2022 fiscal year. Early adoption is permitted. The Company is evaluating the impact of this guidance on the Company’s Consolidated Financial Statements.

In February 2016, the FASB issued ASU 2016-02, Leases (Topic 842). This update modifies lease accounting for lessees to increase transparency and comparability by recording lease assets and liabilities for operating leases and disclosing key information about leasing arrangements. The new standard will become effective for the Company’s fiscal year 2020, which begins on July 1, 2019. In July 2018, the FASB issued targeted improvements to this ASU in ASU 2018-11. This update provides entities with an optional transition method, which permits an entity to initially apply the new leases standard at the adoption date and recognize a cumulative-effect adjustment to the opening balance of retained earnings in the period of adoption.

The Company has elected to utilize the optional transition method. We have reviewed the requirements of this standard and have formulated a plan for implementation. We are currently working on accumulating a complete population of leases from all of our locations and have selected a software repository to track all of our lease agreements and to assist in the reporting and disclosure requirements required by the standard. We will continue to assess and disclose the impact that this new guidance will have on our consolidated financial statements, disclosures and related controls, when known.

Note 3.

Acquisition

CoAdna, Inc.

In September 2018, the Company acquired CoAdna, Holdings, Inc. (TWSE:4984)  (“CoAdna”), a publicly traded company on the Taiwan Stock Exchange and headquartered in Sunnyvale, CA, in a cash transaction valued at approximately $85.0 million, net of cash acquired of approximately $42.2 million at closing.

CoAdna is a global leader in wavelength selective switches (WSS) based on its patented liquid crystal platform. CoAdna operates within the Company’s II-VI Photonics operating segment. Due to the timing of the acquisition, the Company is still in the process of measuring the fair value of assets acquired and liabilities assumed, including tangible and intangible assets and related deferred income taxes.

The following table presents the preliminary allocation of the purchase price of the assets acquired and liabilities assumed at the date of acquisition, as the Company intends to finalize its accounting for the acquisition of CoAdna within one year from the date of acquisition ($000):

Assets

 

 

 

 

 

Accounts receivable

 

$

 

5,684

 

Inventories

 

 

 

6,189

 

Prepaid and other assets

 

 

 

2,866

 

Property, plant & equipment

 

 

 

3,181

 

Intangible assets

 

 

 

16,072

 

Goodwill

 

 

 

24,844

 

Total assets acquired

 

$

 

58,836

 

 

 

 

 

 

 

Liabilities

 

 

 

 

 

Accounts payable

 

$

 

4,006

 

Other accrued liabilities

 

 

 

2,717

 

Accrued income taxes

 

 

 

5,791

 

Deferred tax liabilities

 

 

 

3,506

 

Total liabilities assumed

 

 

 

16,020

 

Net assets acquired

 

$

 

42,816

 

The goodwill of $24.8 million is included in the II-VI Photonics segment and is attributed to the expected synergies and the assembled workforce of CoAdna. None of the goodwill is deductible for income tax purposes. The fair value of accounts receivable acquired was $5.7 million and the gross contractual amount being $5.7 million. The Company expensed transaction costs of $1.9 million for the three months ended September 30, 2018.

9


 

The amount of revenues of CoAdna included in the Company’s Condensed Consolidated Statement of Earnings for the three months ended September 30, 2018 was $3.0 million. The amount of net earnings of CoAdna included in the Company’s Consolidated Statement of Earnings for the three months ended September 30, 2018 was immaterial.

Note 4.

Revenue from Contracts with Customers

As discussed in Note 2, the Company adopted ASU 2014-09, Revenue from Contracts with Customers (Topic 606), on July 1, 2018 using the modified retrospective method of adoption. Adoption of the ASU did not require an adjustment to the opening balance of equity and did not materially change the Company's amount and timing of recognition of revenues. The Company applied the ASU only to contracts that were not completed as of July 1, 2018. The Company has elected to exclude all taxes from the measurement of the transaction price.

Revenue under ASC 606 is recognized when or as obligations under the terms of a contract with the Company’s customer have been satisfied and control has transferred to the customer.

For contracts held with commercial customers, the majority of the Company’s performance obligations, ownership of the goods and associated revenue, are transferred to customers at a point in time, generally upon shipment of a product (“Direct Ship Parts”) to the customer or receipt of the product by the customer and without significant judgments. The majority of contracts typically require payment within 30 to 60 days upon transfer of ownership to the customer.

Contracts with the United States (“U.S.”) government through its prime contractors are typically for products or services with no alternative future use to the Company with an enforceable right to payment for performance completed to date, whereas commercial contracts typically have alternative use. Customized products with no alternative future use to the Company with an enforceable right to payment for performance completed to date are recorded over time utilizing the output method of units delivered. The Company considers this to be a faithful depiction of the transfer to the customer of revenue over time due to short cycle time and immaterial work-in-process balances. The majority of contracts typically require payment within 30 to 60 days upon transfer of ownership to the customer.

Service revenue includes repairs, non-recurring engineering, tolling arrangements and installation. Repairs, tolling and installation activities are usually completed in a short period of time (normally less than one month) and therefore, recorded at a point in time when the services are completed. Non-recurring engineering arrangements are typically recognized over time under the time and material practical expedient as the entity has a right to consideration from a customer in an amount that corresponds directly with the value to the customer of the entity’s performance completed to date. The majority of contracts typically require payment within 60 days.

The Company has elected not to disclose the aggregate amount of the transaction price allocated to unsatisfied performance obligations, as our contracts have an original expected duration of less than one year.

Because the Company’s performance obligations have been satisfied and an unconditional right to consideration exists as of the balance sheet date, the Company has recognized amounts due from contracts with customers of $229.1 million as accounts receivable, net of allowance for doubtful accounts within the Condensed Consolidated Balance Sheet.

Costs to Obtain and Fulfill a Contract

Under ASC 606, the Company expenses sales commissions when incurred because the amortization period would have been one year or less. These costs are recorded within selling, general and administration expenses. The Company has elected to recognize the costs for freight and shipping when control over products has transferred to the customer as an expense in cost of sales.

The Company monitors and tracks the amount of product returns and reduces revenue at the time of shipment for the estimated amount of future returns, based on historical experience. The Company makes estimates evaluating its allowance for doubtful accounts. The Company continuously monitors collections and payments from its customers and maintains a provision for estimated credit losses based upon its historical experience and any specific customer collection issues that it has identified.

The Company offers an assurance-type limited  warranty that products will be free from defects in materials and workmanship. The warranty is typically one year or the industry standard in length and is limited to either (1) the replacement or repair of the product or (2) a credit against future purchases. The products are not sold with a right of return.

10


 

Disaggregation of Revenue

The following tables summarize disaggregated revenue by revenue market, and product ($000):

 

 

Three Months Ended September 30, 2018

 

 

 

II-VI

 

 

 

 

 

II-VI

 

 

 

 

 

 

Laser

 

 

II-VI

 

 

Performance

 

 

 

 

 

 

Solutions

 

 

Photonics

 

 

Products

 

 

Total

 

Commercial

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Direct Ship Parts

 

$

 

102,870

 

 

$

 

133,365

 

 

$

 

41,997

 

 

$

 

278,232

 

Services

 

 

 

890

 

 

 

 

1,791

 

 

 

 

3,105

 

 

 

 

5,786

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

U.S. Government

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Direct Ship Parts

 

$

 

2,415

 

 

$

 

-

 

 

$

 

24,765

 

 

$

 

27,180

 

Services

 

 

 

-

 

 

 

 

-

 

 

 

 

3,235

 

 

 

 

3,235

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total Revenues

 

$

 

106,175

 

 

$

 

135,156

 

 

$

 

73,102

 

 

$

 

314,433

 

 

Note 5.

Other Investments

Equity Investment in Privately-Held Company

In November 2017, the Company acquired a 93.8% equity investment in a privately-held company for $51.5 million. In addition, the Company paid $0.2 million for a working capital adjustment to that purchase price. The Company’s pro-rata share of earnings from this investment for the three months ended September 30, 2018 was $1.1 million and was recorded in other expense (income), net in the Consolidated Statement of Earnings.

This investment is accounted for under the equity method of accounting (“Equity Investment”). The following table summarizes the Company's equity in this nonconsolidated investment:

 

 

 

Interest

 

Ownership % as of

 

 

Equity as of

 

Location

 

Type

 

September 30, 2018

 

 

September 30, 2018 ($000)

 

USA

 

Equity Investment

 

93.8%

 

 

$

57,436

 

 

The Equity Investment has been determined to be a variable interest entity because the Company has an overall 93.8% economic position in the investee, comprising a significant portion of its capitalization, but has only a 25% voting interest. The Company’s obligation to receive rewards and absorb expected losses is disproportionate to its voting interest. The Company is not the primary beneficiary because it does not have the power to direct the activities of the equity investment that most significantly impact its economic performance. Certain business decisions, including decisions with respect to operating budgets, material capital expenditures, indebtedness, significant acquisitions or dispositions, and strategic decisions, require the approval of owners holding a majority percentage in the Equity Investment. Beginning on the date it was acquired, the Company accounted for its interest as an equity method investment as the Company has the ability to exercise significant influence over operating and financial policies of the Equity Investment.

As of September 30, 2018 and June 30, 2018, the Company’s maximum financial statement exposure related to the Equity Investment was approximately $57.4 million and $56.3 million, respectively, which is included in Investments on the Condensed Consolidated Balance Sheet as of September 30, 2018.

11


 

The Company has the right to purchase all of the outstanding interest of each of the minority equity holders and the minority equity holders have the right to cause the Company to purchase all of their outstanding interests at any time on or after the third anniversary of the investment, or earlier upon certain events. The purchase price is equal to the greater of: (a) (i) the product of the aggregate trailing 12-month revenues of the equity investment preceding the date of purchase, multiplied by (ii) a factor of 2.9 multiplied by (iii) a factor of 0.723, multiplied by (iv) the percentage interest owned by each minority equity holder and (b) $966,666. The Company performed a Monte Carlo simulation to estimate the fair value of the net put option at the investment date and recorded a liability of $2.2 million in Other long-term liabilities in the Condensed Consolidated Balance Sheet in accordance with ASC 815-10, Derivatives and Hedging. The fair value of the net put option is adjusted as necessary on a quarterly basis, with any changes in the fair value recorded through earnings. The change in fair value of the net purchase option from the investment date to September 30, 2018 was not material.

Guangdong Fuxin Electronic Technology Equity Investment

The Company has an equity investment of 20.2% in Guangdong Fuxin Electronic Technology, based in Guangdong Province, China, which is accounted for under the equity method of accounting. The total carrying value of the investment recorded at September 30, 2018 and June 30, 2018 was $13.4 million and $12.9 million, respectively. During the three months ended September 30, 2018 and 2017, the Company’s pro-rata share of earnings from this investment was $0.5 million and $0.3 million, respectively, and was recorded in other expense (income), net in the Condensed Consolidated Statements of Earnings.

Other Equity Investment

During the quarter ended September 30, 2018, the Company acquired a 10% equity investment in a privately-held company for $4.5 million.  The Company has determined that the equity interest does not give it the ability to exercise significant influence or joint control, therefore, the Company will not account for this investment under the equity method of accounting.  Under ASU 2016-01, Financial Instruments, the Company has elected the measurement alternative as the investment does not have a readily determinable fair value.  Under the alternative, the Company will measure the investment at cost, less any impairment, plus or minus changes resulting from observable price changes in orderly transactions for identical or similar investment of the issuer for which there were none during the quarter ended September 30, 2018.

 

 

Note 6.

Inventories

The components of inventories were as follows ($000):

 

 

 

September 30,

 

 

June 30,

 

 

 

2018

 

 

2018

 

Raw materials

 

$

100,755

 

 

$

97,502

 

Work in progress

 

 

86,810

 

 

 

83,002

 

Finished goods

 

 

77,536

 

 

 

67,764

 

 

 

$

265,101

 

 

$

248,268

 

 

 

Note 7.

Property, Plant and Equipment

Property, plant and equipment consists of the following ($000):

 

 

 

September 30,

 

 

June 30,

 

 

 

2018

 

 

2018

 

Land and land improvements

 

$

9,050

 

 

$

9,072

 

Buildings and improvements

 

 

218,477

 

 

 

216,507

 

Machinery and equipment

 

 

658,702

 

 

 

633,934

 

Construction in progress

 

 

92,575

 

 

 

88,350

 

 

 

 

978,804

 

 

 

947,863

 

Less accumulated depreciation

 

 

(437,285

)

 

 

(422,973

)

 

 

$

541,519

 

 

$

524,890

 

 

12


 

Note 8.

Goodwill and Other Intangible Assets

Changes in the carrying amount of goodwill were as follows ($000):

 

 

 

Three Months Ended September 30, 2018

 

 

 

II-VI Laser

 

 

II-VI

 

 

II- VI Performance

 

 

 

 

 

 

 

Solutions

 

 

Photonics

 

 

Products

 

 

Total

 

Balance-beginning of period

 

$

103,390

 

 

$

114,398

 

 

$

52,890

 

 

$

270,678

 

Goodwill acquired

 

 

-

 

 

 

24,844

 

 

 

4,001

 

 

 

28,845

 

Segment Realignment (Note 1)

 

 

(4,653

)

 

 

(4,728

)

 

 

9,381

 

 

 

-

 

Foreign currency translation

 

 

(35

)

 

 

(1,180

)

 

 

-

 

 

 

(1,215

)

Balance-end of period

 

$

98,702

 

 

$

133,334

 

 

$

66,272

 

 

$

298,308

 

The Company used the relative fair value method to reallocate goodwill to the associated reporting units in connection with the realignment of its composition of operating segments as described in Note 1.

The gross carrying amount and accumulated amortization of the Company’s intangible assets other than goodwill as of September 30, 2018 and June 30, 2018 were as follows ($000):

 

 

 

September 30, 2018

 

 

June 30, 2018

 

 

 

Gross

 

 

 

 

 

 

Net

 

 

Gross

 

 

 

 

 

 

Net

 

 

 

Carrying

 

 

Accumulated

 

 

Book

 

 

Carrying

 

 

Accumulated

 

 

Book

 

 

 

Amount

 

 

Amortization

 

 

Value

 

 

Amount

 

 

Amortization

 

 

Value

 

Technology and Patents

 

$

76,245

 

 

$

(34,084

)

 

$

42,161

 

 

$

66,812

 

 

$

(32,979

)

 

$

33,833

 

Trademarks

 

 

15,757

 

 

 

(1,503

)

 

 

14,254

 

 

 

15,882

 

 

 

(1,471

)

 

 

14,411

 

Customer Lists

 

 

133,594

 

 

 

(52,744

)

 

 

80,850

 

 

 

127,603

 

 

 

(50,792

)

 

 

76,811

 

Other

 

 

1,573

 

 

 

(1,568

)

 

 

5

 

 

 

1,573

 

 

 

(1,559

)

 

 

14

 

Total

 

$

227,169

 

 

$

(89,899

)

 

$

137,270

 

 

$

211,870

 

 

$

(86,801

)

 

$

125,069

 

 

 

As a result of the July 1, 2018 segment realignment, the Company reviewed the recoverability of the carrying value of goodwill at its reporting units. The Company performed a quantitative test to determine whether it is more likely than not that the fair value of a reporting unit is less than its carrying amount, including goodwill and other intangible assets. The Company did not record any impairment of goodwill or long-lived assets during the three months ended September 30, 2018, as the quantitative assessment did not indicate deterioration in the fair value of its reporting units.

In conjunction with the acquisition of CoAdna, the Company recorded $9.8 million attributed to the value of technology and patents and $6.3 million of customer lists. The intangibles were recorded based on the Company’s preliminary purchase price allocation utilizing either a discounted cash flow or relief from royalty method to derive the fair value. The valuation is expected to be finalized within one year from the date of acquisition.

Technology and patents are being amortized over a range of 60 to 240 months, with a weighted average remaining life of approximately 86 months. Customer lists are being amortized over a range of approximately 120 to 240 months with a weighted average remaining life of approximately 136 months. The gross carrying amount of trademarks includes $14.0 million of acquired trade names with indefinite lives that are not amortized but tested annually for impairment or more frequently if a triggering event occurs. Included in the gross carrying amount and accumulated amortization of the Company’s intangible assets is the effect of foreign currency translation on that portion of the intangible assets relating to the Company’s foreign subsidiaries.

13


 

At September 30, 2018, the estimated amortization expense for the existing intangible assets for each of the five succeeding fiscal years is as follows ($000):

 

Year Ending June 30,

 

 

 

 

Remaining 2019

 

$

12,200

 

2020

 

 

16,000

 

2021

 

 

14,700

 

2022

 

 

12,900

 

2023

 

 

12,500

 

 

Note 9.

Debt

The components of debt for the periods indicated were as follows ($000):

 

 

 

September 30,

 

 

June 30,

 

 

2018

 

 

2018

 

0.25% convertible senior notes

$

345,000

 

 

$

345,000

 

Convertible senior notes unamortized discount attributable to cash conversion option and debt issuance costs including initial purchaser discount

 

(53,300

)

 

 

(56,409

)

Term loan, interest at LIBOR, as defined, plus 1.75%

 

60,000

 

 

 

65,000

 

Line of credit, interest at LIBOR, as defined, plus 1.75%

 

180,000

 

 

 

80,000

 

Credit facility unamortized debt issuance costs

 

(1,035

)

 

 

(1,126

)

Yen denominated line of credit, interest at LIBOR, as defined, plus 1.75%

 

2,645

 

 

 

2,714

 

Note payable assumed in IPI acquisition

 

3,834

 

 

 

3,834

 

Total debt

 

537,144

 

 

 

439,013

 

Current portion of long-term debt

 

(20,000

)

 

 

(20,000

)

Long-term debt, less current portion

$

517,144

 

 

$

419,013

 

0.25% Convertible Senior Notes

On August 24, 2017, the Company entered into a purchase agreement with Merrill Lynch, Pierce, Fenner & Smith Incorporated, as representative of the several initial purchasers named therein (collectively, the “Initial Purchasers”), to issue and sell $300 million aggregate principal amount of our 0.25% convertible senior notes due 2022 (the "Notes") in a private placement to qualified institutional buyers within the meaning of Rule 144A under the Securities Act of 1933, as amended. In addition, we granted the Initial Purchasers a 30-day option to purchase up to an additional $45 million aggregate principal amount of the Notes (the “Over-Allotment Option”).

As a result of our cash conversion option, the Company separately accounted for the value of the embedded conversion option as a debt discount. The value of the embedded conversion option was determined based on the estimated fair value of the debt without the conversion feature, which was determined using an expected present value technique (income approach) to estimate the fair value of similar nonconvertible debt; the debt discount is being amortized as additional non-cash interest expense over the term of the Notes using the effective interest method.

The equity component, which amounts to $56.4 million, net of issuance costs of $1.7 million, is not remeasured as long as it continues to meet the conditions for equity classification. The initial conversion rate is 21.25 shares of common stock per $1,000 principal amount of Notes, which is equivalent to an initial conversion price of $47.06 per share of common stock. Throughout the term of the Notes, the conversion rate may be adjusted upon the occurrence of certain events. The if-converted value of the Notes amounted to $346.8 million as of September 30, 2018 and $318.5 million as of June 30, 2018 (based on the Company’s closing stock price on the last trading day of the fiscal periods then ended). As of September 30, 2018, the Notes are not yet convertible based upon the Notes’ conversion features.  Holders of the Notes will not receive any cash payment representing accrued and unpaid interest upon conversion of a note. Accrued but unpaid interest will be deemed to be paid in full upon conversion rather than cancelled, extinguished or forfeited.

14


 

The following table sets forth total interest expense recognized related to the Notes for the three months ended September 30, 2018 and 2017:

 

 

 

Three Months Ended

 

September 30,

 

 

2018

 

 

2017

 

0.25% contractual coupon

 

$

 

220

 

 

 

78

 

Amortization of debt discount and debt issuance costs including initial purchaser discount

 

 

 

3,110

 

 

 

1,107

 

Interest expense

 

$

 

3,330

 

 

 

1,185

 

The effective interest rate on the liability component for both periods presented was 4.5%. The unamortized discount amounted to $46.6 million as of September 30, 2018 and is being amortized over 4 years.

Amended Credit Facility

On July 28, 2016, the Company amended and restated its existing credit agreement. The Third Amended and Restated Credit Agreement (the “Amended Credit Facility”) provides for a revolving credit facility of $325 million, as well as a $100 million term loan. The term loan is being repaid in consecutive quarterly principal payments on the first business day of each January, April, July and October, with the first payment having commenced on October 1, 2016, as follows: (i) twenty consecutive quarterly installments of $5 million and (ii) a final installment of all remaining principal due and payable on the maturity date of July 27, 2021. Amounts borrowed under the revolving credit facility are due and payable on the maturity date. The Amended Credit Facility is unsecured, but is guaranteed by each existing and subsequently acquired or organized wholly-owned domestic subsidiary of the Company. The Company has the option to request an increase to the size of the revolving credit facility in an aggregate additional amount not to exceed $100 million. The Amended Credit Facility has a five-year term through July 27, 2021 and has an interest rate of either a Base Rate Option or a Euro-Rate Option, plus an Applicable Margin, as defined in the agreement governing the Amended Credit Facility. If the Base Rate option is selected for a borrowing, the Applicable Margin is 0.00% to 1.25% and if the Euro-Rate Option is selected for a borrowing, the Applicable Margin is 1.00% to 2.25%. The Applicable Margin is based on the ratio of the Company’s consolidated indebtedness to consolidated EBITDA. Additionally, the Credit Facility is subject to certain covenants, including those relating to minimum interest coverage and maximum leverage ratios. As of September 30, 2018, the Company was in compliance with all financial covenants under its Amended Credit Facility.

Yen Loan

The Company’s Yen denominated line of credit is a 500 million Yen (approximately $4.4 million) facility. The Yen line of credit matures in August 2020. The interest rate is equal to LIBOR, as defined in the loan agreement, plus 0.625% to 1.75%. At September 30, 2018 and June 30, 2018, the Company had 300 million Yen borrowed. Additionally, the facility is subject to certain covenants, including those relating to minimum interest coverage and maximum leverage ratios. As of September 30, 2018, the Company was in compliance with all financial covenants under its Yen facility.

Note Payable

In conjunction with the acquisition of IPI, the Company assumed a non-interest bearing note payable owed to a major customer of IPI. The agreement if not terminated early by either party is payable in full in January 2020.

Aggregate Availability

The Company had aggregate availability of $146.3 million and $246.4 million under its lines of credit as of September 30, 2018 and June 30, 2018, respectively. The amounts available under the Company’s lines of credit are reduced by outstanding letters of credit. The total outstanding letters of credit supported by these credit facilities were $0.4 million as of September 30, 2018 and June 30, 2018.

Weighted Average Interest Rate

The weighted average interest rate of total borrowings was 1.5% and 1.8% for the three months ended September 30, 2018 and 2017, respectively.

15


 

Remaining Annual Principal Payments

Remaining annual principal payments under the Company’s existing credit obligations from September 30, 2018 were as follows:

 

 

 

 

 

 

 

 

 

 

U.S.

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Dollar

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Term

 

 

Yen Line

 

 

Line of

 

 

Note

 

 

Convertible

 

 

 

 

 

Period

 

Loan

 

 

of Credit