Lumentum(LITE) - 2021 Q2 - Quarterly Report

PART I - FINANCIAL INFORMATION Item 1. Financial Statements (Unaudited) The company's unaudited condensed consolidated financial statements show key operational and financial positions Condensed Consolidated Statements of Operations Net revenue, gross profit, and net income all increased significantly for the three and six-month periods | Metric | Three Months Ended Dec 26, 2020 (Millions) | Three Months Ended Dec 28, 2019 (Millions) | Change (%) | | :--- | :--- | :--- | :--- | | Net Revenue | $478.8 | $457.8 | 4.6% | | Gross Profit | $229.6 | $189.1 | 21.4% | | Net Income | $83.2 | $49.1 | 69.4% | | Diluted EPS | $1.06 | $0.63 | 68.3% | | Metric | Six Months Ended Dec 26, 2020 (Millions) | Six Months Ended Dec 28, 2019 (Millions) | Change (%) | | :--- | :--- | :--- | :--- | | Net Revenue | $931.2 | $907.7 | 2.6% | | Gross Profit | $435.3 | $356.8 | 22.0% | | Net Income | $150.3 | $96.7 | 55.4% | | Diluted EPS | $1.92 | $1.24 | 54.8% | Condensed Consolidated Statements of Comprehensive Income (Loss) Comprehensive income grew substantially, driven by higher net income despite a minor increase in other comprehensive loss | Metric | Three Months Ended Dec 26, 2020 (Millions) | Three Months Ended Dec 28, 2019 (Millions) | Change (%) | | :--- | :--- | :--- | :--- | | Net Income | $83.2 | $49.1 | 69.4% | | Other Comprehensive Loss, net of tax | $(0.4) | $(0.2) | 100.0% | | Comprehensive Income, net of tax | $82.8 | $48.9 | 69.3% | | Metric | Six Months Ended Dec 26, 2020 (Millions) | Six Months Ended Dec 28, 2019 (Millions) | Change (%) | | :--- | :--- | :--- | :--- | | Net Income | $150.3 | $96.7 | 55.4% | | Other Comprehensive Loss, net of tax | $(1.9) | $(0.1) | 1800.0% | | Comprehensive Income, net of tax | $148.4 | $96.6 | 53.6% | Condensed Consolidated Balance Sheets Total assets and stockholders' equity grew, while current liabilities rose due to convertible note reclassification | Metric | Dec 26, 2020 (Millions) | Jun 27, 2020 (Millions) | Change (%) | | :--- | :--- | :--- | :--- | | Total Assets | $3,468.2 | $3,292.6 | 5.3% | | Cash and Cash Equivalents | $321.3 | $298.0 | 7.8% | | Short-term Investments | $1,379.0 | $1,255.8 | 9.8% | | Accounts Receivable, net | $276.7 | $233.5 | 18.5% | | Total Current Liabilities | $647.3 | $283.0 | 128.7% | | Total Liabilities | $1,546.3 | $1,543.4 | 0.2% | | Total Stockholders' Equity | $1,921.9 | $1,749.2 | 9.9% | - The significant increase in total current liabilities is primarily due to the reclassification of $380.3 million of 2024 Convertible Notes to current liabilities, as the stock price exceeded the conversion threshold[16][93] Condensed Consolidated Statements of Stockholders' Equity Stockholders' equity increased by 9.9%, driven primarily by net income and stock-based compensation | Metric | Dec 26, 2020 (Millions) | Jun 27, 2020 (Millions) | Change (%) | | :--- | :--- | :--- | :--- | | Total Stockholders' Equity | $1,921.9 | $1,749.2 | 9.9% | | Retained Earnings | $214.9 | $64.6 | 232.7% | | Additional Paid-In Capital | $1,700.9 | $1,676.6 | 1.5% | - The increase in stockholders' equity was primarily driven by net income of $150.3 million and stock-based compensation of $44.9 million for the six months ended December 26, 2020, partially offset by share issuances pursuant to equity plans, net of tax withholdings[18][116] Condensed Consolidated Statements of Cash Flows Operating activities generated $233.2 million in cash, offset by investing and financing activities | Cash Flow Activity | Six Months Ended Dec 26, 2020 (Millions) | Six Months Ended Dec 28, 2019 (Millions) | Change (Millions) | | :--- | :--- | :--- | :--- | | Net Cash Provided by Operating Activities | $233.2 | $249.8 | $(16.6) | | Net Cash (Used in) Provided by Investing Activities | $(189.0) | $57.8 | $(246.8) | | Net Cash (Used in) Provided by Financing Activities | $(20.9) | $344.8 | $(365.7) | | Increase in Cash and Cash Equivalents | $23.3 | $652.4 | $(629.1) | | Cash and Cash Equivalents at End of Period | $321.3 | $1,085.0 | $(763.7) | - Cash used in investing activities for the six months ended December 26, 2020, was primarily due to net purchases of short-term investments ($129.8 million) and capital expenditures ($50.5 million)[20][240] - Cash used in financing activities for the six months ended December 26, 2020, was mainly driven by tax payments related to restricted stock of $26.2 million[20][242] Notes to Condensed Consolidated Financial Statements This section details accounting policies, financial statement components, and the subsequent Coherent acquisition Note 1. Description of Business and Summary of Significant Accounting Policies Lumentum provides optical products for OpComms and Lasers, with ongoing uncertainty from the COVID-19 pandemic - Lumentum is an industry-leading provider of optical and photonic products for Optical Communications (OpComms) and Commercial Lasers, with a focus on expanding into emerging markets such as 3D sensing for consumer electronics and diode light sources[25] - Critical accounting policies include inventory valuation, revenue recognition, income taxes, and goodwill[26] - The COVID-19 pandemic has created significant uncertainty, potentially disrupting the Company's business, financial condition, and results of operations, with the full extent of the impact being unpredictable[27] Note 2. Recently Issued Accounting Pronouncements The company adopted new accounting standards for fair value, cloud computing, and credit losses with no material impact - Adopted ASU 2018-13 (Fair Value Measurement) and ASU 2018-15 (Cloud Computing Arrangement Costs) in Q1 fiscal 2021 with no impact on condensed consolidated financial statements[32][33] - Adopted Topic 326 (Credit Losses) in Q1 fiscal 2021 with no material impact; unrealized losses on available-for-sale investments are considered temporary, and the allowance for credit losses on trade receivables was $1.7 million as of December 26, 2020[34][35][36] - Currently evaluating the impact of ASU 2020-06 (Accounting for Convertible Instruments, effective fiscal 2023) and ASU 2019-12 (Simplifying the Accounting for Income Taxes, effective fiscal 2022)[37][38] Note 3. Earnings Per Share Diluted earnings per share showed strong growth, with the 2024 Notes becoming dilutive during the period | Metric | Three Months Ended Dec 26, 2020 | Three Months Ended Dec 28, 2019 | | :--- | :--- | :--- | | Basic Net Income Per Share | $1.10 | $0.64 | | Diluted Net Income Per Share | $1.06 | $0.63 | | Metric | Six Months Ended Dec 26, 2020 | Six Months Ended Dec 28, 2019 | | :--- | :--- | :--- | | Basic Net Income Per Share | $1.99 | $1.26 | | Diluted Net Income Per Share | $1.92 | $1.24 | - The 2024 Notes were included in the calculation of diluted income per share for the three and six months ended December 26, 2020, as the average price of common stock exceeded the conversion price of $60.62[42] Note 4. Cash, Cash Equivalents and Short-term Investments The company held $1.7 billion in cash and short-term investments, primarily in corporate and U.S. Treasury debt | Asset Category | Dec 26, 2020 (Millions) | Jun 27, 2020 (Millions) | | :--- | :--- | :--- | | Cash and Cash Equivalents | $321.3 | $298.0 | | Short-term Investments | $1,379.0 | $1,255.8 | - As of December 26, 2020, short-term investments primarily consisted of U.S. Treasury securities ($677.2 million), corporate debt securities ($523.5 million), and commercial paper ($112.8 million)[46] | Metric | Three Months Ended Dec 26, 2020 (Millions) | Three Months Ended Dec 28, 2019 (Millions) | | :--- | :--- | :--- | | Other income (expense), net | $(0.9) | $1.2 | | Interest income | $1.5 | $3.4 | | Metric | Six Months Ended Dec 26, 2020 (Millions) | Six Months Ended Dec 28, 2019 (Millions) | | :--- | :--- | :--- | | Other income (expense), net | $(0.3) | $6.2 | | Interest income | $3.9 | $7.4 | Note 5. Fair Value Measurements Most financial instruments are measured at fair value using Level 1 or Level 2 inputs, with no impairments found - Fair value measurements are categorized into Level 1 (unadjusted quoted prices in active markets), Level 2 (quoted prices for similar assets or observable inputs), and Level 3 (unobservable inputs)[54] | Asset Category (Dec 26, 2020) | Level 1 (Millions) | Level 2 (Millions) | Total (Millions) | | :--- | :--- | :--- | :--- | | Cash Equivalents | $203.6 | $10.0 | $213.6 | | Short-term Investments | $677.2 | $701.8 | $1,379.0 | | Total Assets | $880.8 | $711.8 | $1,592.6 | | Convertible Notes | Carrying Amount (Millions) | Estimated Fair Value (Millions) | | :--- | :--- | :--- | | 2026 Notes | $769.1 | $1,312.5 | | 2024 Notes | $380.3 | $765.1 | | Total | $1,149.4 | $2,077.6 | - Intangible and other long-lived assets are reviewed for impairment at least annually in the fourth quarter of each fiscal year; no impairment was found during the annual testing in fiscal 2020[62] Note 6. Balance Sheet Details Inventories increased to $207.1 million, while the allowance for credit losses on trade receivables remained stable | Metric | Dec 26, 2020 (Millions) | Jun 27, 2020 (Millions) | | :--- | :--- | :--- | | Allowance for credit losses on trade receivables | $1.7 | $1.8 | | Inventories | $207.1 | $188.9 | | Property, plant and equipment, net | $385.8 | $393.0 | | Other current liabilities | $65.3 | $44.3 | - The increase in inventories was primarily driven by raw materials and work in process, and the increase in other current liabilities was mainly due to an increase in income tax payable to $51.5 million[64][69] Note 7. Leases Total lease cost decreased significantly year-over-year, with an average remaining operating lease term of 8.0 years | Lease Cost (Millions) | Six Months Ended Dec 26, 2020 | Six Months Ended Dec 28, 2019 | | :--- | :--- | :--- | | Finance lease cost | $0.3 | $8.3 | | Operating lease cost | $7.2 | $8.0 | | Short-term and variable lease costs | $2.3 | $2.1 | | Sublease income | $(1.4) | $(1.2) | | Total lease cost | $8.4 | $17.2 | | Lease Metric | Dec 26, 2020 | Jun 27, 2020 | | :--- | :--- | :--- | | Weighted average remaining lease term (Operating leases) | 8.0 years | 8.6 years | | Weighted average discount rate (Operating leases) | 3.5% | 3.5% | - The company expects to receive approximately $4.4 million in sublease income over the next two years[73][76] Note 8. Goodwill and Other Intangible Assets Goodwill remained stable at $368.9 million with no impairment, while other intangible assets decreased due to amortization | Metric | Dec 26, 2020 (Millions) | Jun 27, 2020 (Millions) | | :--- | :--- | :--- | | Goodwill | $368.9 | $368.9 | | Other Intangible Assets, net | $285.2 | $316.8 | - No goodwill impairment was identified during the annual test in fiscal 2020 or the three and six months ended December 26, 2020[80] - On October 29, 2020, Lumentum purchased $10.0 million in intellectual property with an estimated useful life of 5 years[82] | Amortization (Millions) | Six Months Ended Dec 26, 2020 | Six Months Ended Dec 28, 2019 | | :--- | :--- | :--- | | Total amortization of intangibles | $41.6 | $37.4 | Note 9. Debt The 2024 Convertible Notes were reclassified to current liabilities, and total interest expense was $32.3 million - The company has $1,050.0 million in 0.50% Convertible Notes due 2026 (conversion price $99.29/share) and $450.0 million in 0.25% Convertible Notes due 2024 (conversion price $60.62/share)[85][87][89][92] - The 2024 Notes (net carrying amount $380.3 million) were reclassified to current liabilities as of December 26, 2020, because the closing stock price exceeded 130% of the conversion price for 20 of the last 30 trading days of the quarter[93] | Interest Expense (Millions) | Six Months Ended Dec 26, 2020 | Six Months Ended Dec 28, 2019 | | :--- | :--- | :--- | | Contractual interest expense | $3.2 | $0.7 | | Amortization of debt discount and debt issuance costs | $29.1 | $10.8 | | Total interest expense | $32.3 | $11.5 | - The Term Loan Facility was fully repaid in the second quarter of fiscal 2020[97] Note 10. Accumulated Other Comprehensive Income (Loss) Accumulated other comprehensive income decreased to $6.0 million due to unrealized losses on available-for-sale securities | Component | Dec 26, 2020 (Millions) | Jun 27, 2020 (Millions) | | :--- | :--- | :--- | | Foreign currency translation adjustments, net of tax | $9.7 | $9.7 | | Defined benefit obligations, net of tax | $(4.2) | $(4.2) | | Unrealized gain (loss) on available-for-sale securities, net of tax | $0.5 | $2.4 | | Total Accumulated Other Comprehensive Income | $6.0 | $7.9 | - The decrease in accumulated other comprehensive income was primarily due to an other comprehensive loss of $(1.9) million for the six-month period, mainly from unrealized losses on available-for-sale securities[98][99] Note 11. Restructuring and Related Charges Restructuring charges of $0.2 million were recorded, primarily related to moving manufacturing from San Jose to Thailand | Metric | Three Months Ended Dec 26, 2020 (Millions) | Three Months Ended Dec 28, 2019 (Millions) | | :--- | :--- | :--- | | Restructuring and related charges | $0.2 | $0.9 | | Metric | Six Months Ended Dec 26, 2020 (Millions) | Six Months Ended Dec 28, 2019 (Millions) | | :--- | :--- | :--- | | Restructuring and related charges | $0.2 | $2.2 | - Payments of $0.8 million during the six months ended December 26, 2020, were mainly attributable to severance charges associated with moving certain manufacturing from San Jose, California to Thailand[102] Note 12. Income Taxes The company recorded a tax provision of $31.4 million for the six-month period, with unrecognized tax benefits of $27.6 million | Metric | Three Months Ended Dec 26, 2020 (Millions) | Three Months Ended Dec 28, 2019 (Millions) | | :--- | :--- | :--- | | Provision for income taxes | $14.9 | $8.6 | | Metric | Six Months Ended Dec 26, 2020 (Millions) | Six Months Ended Dec 28, 2019 (Millions) | | :--- | :--- | :--- | | Provision for income taxes | $31.4 | $14.4 | - The tax provision for the three months ended December 26, 2020, included a discrete tax benefit of $2.5 million, mainly from the reversal of certain deferred tax liabilities and excess benefit related to stock-based compensation[106] - As of December 26, 2020, unrecognized tax benefits totaled $27.6 million, with an expected decrease of $5.3 million over the next 12 months[107][226] Note 13. Equity Stock-based compensation expense was $43.6 million for the six-month period, with $168.0 million remaining to be amortized - As of December 26, 2020, 2.3 million shares were available for grant under the 2015 Equity Incentive Plan[111][120] | Stock-Based Compensation (Millions) | Six Months Ended Dec 26, 2020 | Six Months Ended Dec 28, 2019 | | :--- | :--- | :--- | | Cost of sales | $8.5 | $8.3 | | Research and development | $9.5 | $7.9 | | Selling, general and administrative | $25.6 | $20.7 | | Total stock-based compensation | $43.6 | $36.9 | - As of December 26, 2020, $168.0 million of stock-based compensation cost remains to be amortized over an estimated period of 2.0 years[119] Note 14. Commitments and Contingencies The company has $219.8 million in purchase obligations and is involved in ongoing merger litigation - Purchase obligations totaled $219.8 million as of December 26, 2020, representing legally-binding commitments primarily for inventory, expected to be fulfilled within one year[122][123] | Metric | Dec 26, 2020 (Millions) | Dec 28, 2019 (Millions) | | :--- | :--- | :--- | | Product Warranty Reserve | $5.7 | $6.8 | - The Karri Lawsuit, a merger litigation related to the Oclaro acquisition, remains pending with Lumentum named as a defendant, and the parties are currently in discovery[135] - Management believes that resolving current claims and suits will not have a material adverse impact on the company's financial position, results of operations, or cash flows[130] Note 15. Operating Segments and Geographic Information OpComms revenue grew while Lasers revenue declined, with Asia-Pacific remaining the largest geographic region - Lumentum has two operating segments: Optical Communications (OpComms) and Commercial Lasers (Lasers)[139] | Segment Net Revenue (Millions) | Three Months Ended Dec 26, 2020 | Three Months Ended Dec 28, 2019 | Change (%) | | :--- | :--- | :--- | :--- | | OpComms | $449.1 | $409.4 | 9.7% | | Lasers | $29.7 | $48.4 | (38.6)% | | Total Net Revenue | $478.8 | $457.8 | 4.6% | | Segment Net Revenue (Millions) | Six Months Ended Dec 26, 2020 | Six Months Ended Dec 28, 2019 | Change (%) | | :--- | :--- | :--- | :--- | | OpComms | $877.6 | $825.5 | 6.3% | | Lasers | $53.6 | $82.2 | (34.8)% | | Total Net Revenue | $931.2 | $907.7 | 2.6% | | Geographic Region | Three Months Ended Dec 26, 2020 (% of Total) | Six Months Ended Dec 26, 2020 (% of Total) | | :--- | :--- | :--- | | Asia-Pacific | 72.8% | 75.5% | | Americas | 19.8% | 17.0% | | EMEA | 7.4% | 7.5% | - Two customers collectively accounted for 45% of total net revenue for both the three and six months ended December 26, 2020[158] Note 16. Subsequent Event Lumentum entered into a merger agreement to acquire Coherent, Inc for approximately $5.7 billion - On January 18, 2021, Lumentum entered into a merger agreement to acquire Coherent, Inc. for approximately $5.7 billion[164] - The consideration for each Coherent common stock share is $100 in cash and 1.1851 shares of Lumentum common stock[164] - The transaction will be funded by approximately $3.2 billion in Lumentum common stock, $2.1 billion in new debt, and the remaining amount from cash balances, and is expected to be completed in the second half of calendar 2021[166][167] Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations Net revenue and gross margin increased, driven by OpComms growth, while the pending Coherent acquisition is noted - Lumentum is an industry-leading provider of optical and photonic products (OpComms and Lasers), with a strategic focus on technology and product leadership in growing markets, including 3D sensing[172][173] - The COVID-19 pandemic did not have a material adverse effect on Q2 fiscal 2021 results, but the company continues to monitor its impact on operations, supply chain, and demand[179][180] | Metric | Three Months Ended Dec 26, 2020 (Millions) | Three Months Ended Dec 28, 2019 (Millions) | Change (%) | | :--- | :--- | :--- | :--- | | Net Revenue | $478.8 | $457.8 | 4.6% | | OpComms Net Revenue | $449.1 | $409.4 | 9.7% | | Lasers Net Revenue | $29.7 | $48.4 | (38.6)% | | Gross Profit | $229.6 | $189.1 | 21.4% | | Gross Margin | 48.0% | 41.3% | 6.7 pp | - Gross margin improvement was primarily driven by improved gross margins within Datacom, due to the sale and exit of the lower-margin Datacom transceiver module business and increased revenue from higher-margin Datacom chip products[199] | Operating Expense (Millions) | Three Months Ended Dec 26, 2020 | Three Months Ended Dec 28, 2019 | Change (%) | | :--- | :--- | :--- | :--- | | Research and development | $52.8 | $51.0 | 3.5% | | Selling, general and administrative | $61.3 | $62.4 | (1.8)% | | Restructuring and related charges | $0.2 | $0.9 | (77.8)% | - The 2024 Notes, with a debt component of $380.3 million, were reclassified to short-term liabilities as of December 26, 2020, because the stock price exceeded the conversion threshold[231] - On January 18, 2021, Lumentum entered into a merger agreement to acquire Coherent, Inc. for approximately $5.7 billion, to be funded by stock, new debt ($2.1 billion), and cash[174][175][176] Item 3. Quantitative and Qualitative Disclosures About Market Risk The company is exposed to market risks from the COVID-19 pandemic, foreign exchange, equity prices, and interest rates - The COVID-19 pandemic heightens market risks, including accounts receivable collectability, inventory, investment values, long-term asset impairment, and tax valuation[245] - The company faces foreign exchange risk due to international operations and expenses denominated in various foreign currencies (e.g., Chinese Yuan, Canadian Dollar, Thai Baht, Japanese Yen, UK Pound, Swiss Franc, Euro)[247][248] - Equity price risk is related to the conversion options embedded in the 2026 Notes and 2024 Notes; the 2024 Notes became convertible as of December 26, 2020[249][251] - Interest rate fluctuation risk could impact the fair value of the investment portfolio; a hypothetical 1% change in interest rates would result in an approximate $8.2 million change in the fair value of the $1,700.3 million portfolio[252][253] - Bank liquidity risk exists for $107.7 million of unrestricted cash held in operating accounts with domestic and international financial institutions[254] Item 4. Controls and Procedures Management concluded that disclosure controls and procedures were effective, with no material changes in internal controls - Management concluded that disclosure controls and procedures were effective as of December 26, 2020, providing reasonable assurance for timely and accurate reporting[256] - There were no material changes in internal control over financial reporting during the most recently completed fiscal quarter[257] - The company has not experienced any material impact to its internal controls over financial reporting despite most employees working remotely due to the COVID-19 pandemic, and continues to monitor the situation[257] PART II - OTHER INFORMATION Item 1. Legal Proceedings The company is involved in various legal proceedings, including ongoing merger litigation related to the Oclaro acquisition - Lumentum is subject to various claims and suits arising in the ordinary course of business[261] - The Karri Lawsuit, a merger litigation challenging the Oclaro acquisition, remains pending with Lumentum named as a defendant, and the parties are currently in discovery[265] - Management believes that resolving claims against the company will not have a material adverse impact on its financial position, results of operations, or cash flows, though these matters are subject to inherent uncertainties[261] Item 1A. Risk Factors The company faces significant risks from the COVID-19 pandemic, competition, customer concentration, and the pending Coherent acquisition - The ongoing COVID-19 pandemic poses material adverse effects on business operations, financial performance, supply chain, and demand, with disruptions and delays experienced in manufacturing and R&D[271][272][273] - Lumentum faces intense competition, rapid technological change, and pricing pressures, requiring continuous innovation and cost control to maintain market share and profitability[275][276] - Reliance on a limited number of customers for a significant portion of sales, particularly in 3D sensing and commercial lasers, creates vulnerability to changes in customer demand or purchasing behavior[277] - U.S. export restrictions, particularly those related to Huawei, have significantly limited sales to a major customer and may lead to excess and obsolete inventory charges[279][280][282] - The proposed acquisition of Coherent, Inc. carries significant risks, including potential non-completion, substantial costs, regulatory approval challenges, integration difficulties, increased debt, and impacts on employee and customer retention[348][349][350][351][353][356] - Servicing the 2024 and 2026 Convertible Notes requires significant cash, and future indebtedness, including that for the Coherent acquisition, may limit operating flexibility and potentially dilute existing stockholders[358][359] - The company's stock price may be volatile due to various factors, and Lumentum does not expect to pay dividends on its common stock in the foreseeable future[357][360] Item 6. Exhibits This section lists exhibits filed with the report, including the Coherent merger agreement and officer certifications - Exhibit 2.1: Agreement and Plan of Merger, dated January 18, 2021, by and among Lumentum Holdings Inc., Coherent, Inc., and related entities[367] - Exhibit 10.1: Commitment Letter, dated January 18, 2021, by and among Lumentum Holdings Inc., Deutsche Bank Securities Inc. and Deutsche Bank AG New York Branch[367] - Exhibits 31.1, 31.2, 32.1†, and 32.2†: Certifications of the Chief Executive Officer and Chief Financial Officer pursuant to Sections 302 and 906 of the Sarbanes-Oxley Act of 2002[367] - Exhibits 101 and 104: Financial information from the Quarterly Report on Form 10-Q formatted in Inline XBRL[367] SIGNATURES The report is certified and signed by the Executive Vice President and Chief Financial Officer on February 2, 2021 - The report was signed by Wajid Ali, Executive Vice President, Chief Financial Officer, on February 2, 2021[371]