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CREE > SEC Filings for CREE > Form 10-Q on 24-Apr-2013All Recent SEC Filings

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Form 10-Q for CREE INC


24-Apr-2013

Quarterly Report


Item 2. Management's Discussion and Analysis of Financial Condition and
Results of Operations
Information set forth in this Quarterly Report on Form 10-Q contains various "forward-looking statements" within the meaning of Section 27A of the Securities Act of 1933, as amended (the "Securities Act"), and Section 21E of the Securities Exchange Act of 1934, as amended (the "Exchange Act"). All information contained in this report relative to future markets for our products and trends in and anticipated levels of revenue, gross margins and expenses, as well as other statements containing words such as "believe," "project," "may," "will," "anticipate," "target," "plan," "estimate," "expect" and "intend" and other similar expressions constitute forward-looking statements. These forward-looking statements are subject to business, economic and other risks and uncertainties, both known and unknown, and actual results may differ materially from those contained in the forward-looking statements. Any forward-looking statements we make are as of the date made, and except as required under the U.S. federal securities laws and the rules and regulations of the Securities and Exchange Commission (the "SEC"), we have no duty to update them if our views later change. These forward-looking statements should not be relied upon as representing our views as of any date subsequent to the date of this Quarterly Report. Examples of risks and uncertainties that could cause actual results to differ materially from historical performance and any forward-looking statements include, but are not limited to, those described in "Risk Factors" in Part II, Item 1A of this Quarterly Report.
The following discussion is designed to provide a better understanding of our unaudited consolidated financial statements, including a brief discussion of our business and products, key factors that impacted our performance, and a summary of our operating results. The following discussion should be read in conjunction with the unaudited condensed consolidated financial statements and the notes thereto included in Part I, Item 1 of this Quarterly Report on Form 10-Q, and the consolidated financial statements and notes thereto and Management's Discussion and Analysis of Financial Condition and Results of Operations contained in our Annual Report on Form 10-K for the year ended June 24, 2012. Historical results and percentage relationships among any amounts in the financial statements are not necessarily indicative of trends in operating results for any future periods.
Overview
Cree, Inc. (Cree, we, our, or us) is a leading innovator of lighting-class light emitting diode (LED) products, lighting products and semiconductor products for power and radio-frequency (RF) applications. Our products are targeted for applications such as indoor and outdoor lighting, video displays, transportation, electronic signs and signals, power supplies, inverters and wireless systems.


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We develop and manufacture semiconductor materials and devices primarily based on silicon carbide (SiC), gallium nitride (GaN) and related compounds. In many cases the physical and electronic properties of SiC and GaN offer technical advantages over traditional silicon, gallium arsenide (GaAs) and other materials used for electronic and opto-electronic applications.
Our LED products consist of LED components, LED chips, and SiC materials. As LED technology improves, we believe the potential market for LED lighting will continue to expand. Our success in selling LED products depends upon our ability to offer innovative products and our ability to enable our customers to develop and market LED based products that successfully compete and drive LED adoption against traditional lighting products.
Our lighting products consist of both LED and traditional lighting systems. We design, manufacture and sell lighting fixtures and lamps for the commercial, industrial and consumer markets.
In addition, we develop, manufacture and sell power and RF devices. Our power products are made from SiC and provide faster switching speeds than comparable silicon-based power devices for a given power level. Our RF devices are made from GaN and produce higher power densities as compared to silicon or gallium arsenide.
The majority of our products are manufactured at our production facilities located in North Carolina, Wisconsin, and China. We also use contract manufacturers for certain aspects of product fabrication, assembly and packaging. We operate research and development facilities in North Carolina, California, Wisconsin, India, and China. Reportable Segments
We have three reportable segments:
• LED Products

• Lighting Products

• Power and RF Products

Reportable segments are components of an entity that have separate financial data that the entity's Chief Operating Decision Maker (CODM) regularly reviews when allocating resources and assessing performance. Our CODM is the Chief Executive Officer.
Industry Dynamics and Trends
There are a number of industry factors that affect our business which include, among others:

•         Overall Demand for Products and Applications using LEDs. Our potential
          for growth depends significantly on the adoption of LEDs within the
          general lighting market and our ability to affect this rate of
          adoption. Although LED lighting has grown in recent years, adoption of
          LEDs for general lighting is relatively new, still limited, and faces
          significant challenges before widespread adoption. Demand also
          fluctuates based on various market cycles, a continuously evolving LED
          industry supply chain, and demand dynamics in the market. These
          uncertainties make demand difficult to forecast for us and our
          customers.


•         Intense and Constantly Evolving Competitive Environment. Competition in
          the LED and lighting industry is intense. Many companies have made
          significant investments in LED development and production equipment.
          Traditional lighting companies and new entrants are investing in LED
          based lighting products as LED adoption has gained momentum. Product
          pricing pressures exist as market participants often undertake pricing
          strategies to gain or protect market share, increase the utilization of
          their production capacity and open new applications to LED based
          solutions. To remain competitive, market participants must continuously
          increase product performance and reduce costs. To address these
          competitive pressures, we have invested in R&D activities to support
          new product development to deliver higher levels of performance and
          lower costs to differentiate our products in the market.


•         Technological Innovation and Advancement. Innovations and advancements
          in LED technology continue to expand the potential commercial
          application of LEDs particularly in the general illumination market.
          However, new technologies or standards could emerge, or improvements
          could be made in existing technologies, that could reduce or limit the
          demand for LEDs in certain markets.


•         Regulatory Actions Concerning Energy Efficiency. Many countries have
          already instituted or have announced plans to institute government
          regulations and programs designed to encourage or mandate increased
          energy efficiency, even in some cases banning forms of incandescent
          lighting, which are advancing the adoption of more energy efficient
          lighting solutions such as LEDs. While this trend is generally
          positive, these regulations are affected by changing political
          priorities which can modify or limit the effectiveness of these new
          regulations.


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•         Intellectual Property Issues. Market participants rely on patented and
          non-patented proprietary information relating to product development,
          manufacturing capabilities and other core competencies of their
          business. Protection of intellectual property is critical. Therefore,
          steps such as additional patent applications, confidentiality and
          non-disclosure agreements, as well as other security measures are
          generally taken. To enforce or protect intellectual property rights,
          litigation or threatened litigation commonly occurs.

Financial Results
The following is a summary of our financial results for the nine months ended
March 31, 2013:

•         Revenues increased to $1,011.0 million for the nine months ended
          March 31, 2013 from $857.9 million for the nine months ended March 25,
          2012.


•         For the nine months ended March 31, 2013, gross margins improved to
          37.8% from 35.3% for the nine months ended March 25, 2012.


•         Operating income was $65.6 million in the nine months ended March 31,
          2013 compared to $30.6 million in the nine months ended March 25, 2012.
          Net income per diluted share for the nine months ended March 31, 2013,
          was $0.50 compared to $0.30 for the nine months ended March 25, 2012.


•         Inventory increased to $195.7 million at March 31, 2013 compared to
          $188.8 million at June 24, 2012.


•         Combined cash, cash equivalents and marketable investments increased to
          $937.1 million at March 31, 2013 compared to $744.5 million at June 24,
          2012.

Business Outlook
We project that the markets for our products will remain highly competitive
during fiscal 2013. We are focusing on the following key areas, among others, in
response to this competitive environment:
•         Accelerate adoption of LED lighting. We continue to work to develop new
          LED lighting systems to increase the lumens per dollar, which brings
          LED lighting closer to price parity with conventional technology and
          reduces the payback time for the customer. We are focused on delivering
          best-in-class products for key lighting categories and expanding our
          sales channels to build the Cree brand and access more customers.


•         Grow LED component sales through product innovation. We are working to
          leverage our SC3 Technology™ next generation LED platform into a range
          of new LED component products that are targeted to deliver more lumens
          per dollar to the customer. We are also developing component and module
          products targeted to simplify our customers' product designs and reduce
          their time to market.


•         Leverage technology leadership in Power and RF to open new applications
          for these products. In the power product line, we are working with our
          customers to combine our SiC MOSFET and Schottky diodes technology to
          enable power modules for solar, uninterruptable power supplies (UPS)
          and motor control applications. In the RF product line, we are
          developing GaN based products to access new applications.


•         Translate product innovation into revenue and profit growth. We target
          incremental improvement from factory cost reductions, process
          improvements and lower cost new product designs.


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Results of Operations
The following table sets forth certain consolidated statement of income data for
the periods indicated:

                                        Three Months Ended                                            Nine Months Ended
                             March 31,                     March 25,                       March 31,                      March 25,
                               2013                           2012                           2013                           2012
(in thousands,
except per share
amounts and
percentages)          Dollars     % of Revenue      Dollars      % of Revenue       Dollars      % of Revenue      Dollars     % of Revenue
Revenue, net        $ 348,934           100 %     $ 284,801          100  %      $ 1,010,973           100 %     $ 857,899           100 %
Cost of revenue,
net                   215,924            62 %       185,388           65  %          628,438            62 %       555,340            65 %
Gross profit          133,010            38 %        99,413           35  %          382,535            38 %       302,559            35 %
Research and
development            39,036            11 %        36,148           13  %          116,524            12 %       106,436            12 %
Sales, general and
administrative         62,140            18 %        50,074           18  %          174,885            17 %       144,789            17 %
Amortization of
acquisition-related
intangibles             7,719             2 %         7,368            3  %           23,108             2 %        18,660             2 %
Loss on disposal or
impairment of
long-lived assets         863             - %           816            -  %            2,385             - %         2,088             - %
Operating income       23,252             7 %         5,007            2  %           65,633             6 %        30,586             4 %
Other non-operating
income (expense),
net                       494             - %           324            -  %            2,622             - %         1,187             - %
Interest income,
net                     2,018             1 %         1,859            1  %            5,756             1 %         5,628             1 %
Income before
income taxes           25,764             7 %         7,190            3  %           74,011             7 %        37,401             4 %
Income tax expense
(benefit)               3,607             1 %        (2,299 )         (1 )%           15,328             2 %         3,015             - %
Net income             22,157             6 %         9,489            3  %           58,683             6 %        34,386             4 %
Diluted earnings
per share           $    0.19                     $    0.08                      $      0.50                     $    0.30

Our fiscal 2013 results include a nominal benefit of an additional week included in the nine month period ended March 31, 2013, as compared to the nine month period ended March 25, 2012.
Revenues

Revenues for the three and nine months ended March 31, 2013 and March 25, 2012 were comprised of the following (in thousands, except percentages):

                                    Three Months Ended                                  Nine Months Ended
                       March 31,     March 25,                            March 31,      March 25,
                         2013          2012             Change              2013           2012              Change
LED Products          $ 195,561     $ 180,944     $ 14,617        8 %   $   584,070     $ 571,884     $  12,186        2 %
Percent of revenue           56 %          64 %                                  58 %          67 %
Lighting Products       130,659        86,527       44,132       51 %       361,446       233,936       127,510       55 %
Percent of revenue           37 %          30 %                                  36 %          27 %
Power and RF Products    22,714        17,330        5,384       31 %        65,457        52,079        13,378       26 %
Percent of revenue            7 %           6 %                                   6 %           6 %
Total revenue         $ 348,934     $ 284,801     $ 64,133       23 %   $ 1,010,973     $ 857,899     $ 153,074       18 %

Our consolidated revenue increased 23% to $348.9 million in the third quarter of fiscal 2013 from $284.8 million in the third quarter of fiscal 2012. This year-over-year increase is due to higher sales across all three of our reportable segments, but driven primarily by the Lighting Products segment. For the nine months ended March 31, 2013, our consolidated revenue increased 18% to $1,011.0 million from $857.9 million for the nine months ended March 25, 2012. This increase is due to increased


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sales of our existing products as discussed above, and recognition of revenues from the Ruud Lighting acquisition for a full first quarter of fiscal year 2013. LED Products Segment Revenue
LED Products revenue represents the largest portion of our revenue with approximately 56% and 64% of our total revenues for the third quarter of fiscal 2013 and fiscal 2012, respectively.
LED Products revenue increased approximately 8% to $195.6 million in the third quarter of fiscal 2013 from $180.9 million in the third quarter of fiscal 2012, and approximately 2% to $584.1 million for the nine months ended March 31, 2013 from $571.9 million for the nine months ended March 25, 2012.
Changes in revenue are the result of an overall increase in the number of units sold, primarily from our newer products partially offset by a decline in selling prices. The average selling prices for our LED products decreased in fiscal 2013 compared to fiscal 2012, due primarily to market downward pricing pressure and sales of new lower cost products.
Lighting Products Segment Revenue
Lighting Products revenue represents approximately 37% and 30% of our total revenues for the third quarter of fiscal 2013 and fiscal 2012, respectively. Lighting Products revenue increased approximately 51% to $130.7 million in the third quarter of fiscal 2013 from $86.5 million in the third quarter of fiscal 2012, and approximately 55% to $361.4 million for the nine months ended March 31, 2013 from $233.9 million for the nine months ended March 25, 2012. The quarterly and year-to-date changes were the result of an overall increase in the number of units sold. On a year-to-date basis, the increases were also the result of recognizing a full quarter of sales in the first quarter of fiscal 2013 for products acquired from Ruud Lighting. The increases were partially offset by a reduction in selling prices primarily due to market downward pricing pressure and sales of new lower cost products. Power and RF Products Segment Revenue
Power and RF Products revenue represents approximately 7% and 6% of our total revenues for the third quarter of fiscal 2013 and fiscal 2012, respectively. Power and RF Products revenue increased approximately 31% to $22.7 million in the third quarter of fiscal 2013 from $17.3 million in the third quarter of fiscal 2012, and approximately 26% to $65.5 million for the nine months ended March 31, 2013 from $52.1 million for the nine months ended March 25, 2012. The increases in revenue are the result of higher sales of RF products in fiscal 2013 compared to fiscal 2012 when the Power and RF Products segment revenue was impacted by the delays for RF orders related to certain military programs and lower demand in the solar inverter market. The selling prices for our power and RF products decreased in fiscal 2013 compared to fiscal 2012 due to a change in product mix and reductions in product pricing. Unallocated Revenue
All of our revenue is allocated to our reportable segments. Our CODM does not review inter-segment revenue when evaluating performance and allocating resources to each segment, and inter-segment revenue is not included in the segment revenues presented above. As such, total segment revenue in the table above is equal to our consolidated revenue.


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Gross Profit and Gross Margin
Gross profit and gross margin for the three and nine months ended March 31, 2013
and March 25, 2012 were comprised of the following (in thousands, except
percentages):
                                 Three Months Ended                                 Nine Months Ended
                    March 31,     March 25,                           March 31,     March 25,
                      2013          2012             Change             2013          2012             Change
LED Products gross
profit             $  85,728     $  70,257     $ 15,471       22 %   $ 245,381     $ 218,319     $ 27,062       12 %
LED Products gross
margin                  43.8 %        38.8 %                              42.0 %        38.2 %
Lighting Products
gross profit          39,966        24,640       15,326       62 %     115,449        72,517       42,932       59 %
Lighting Products
gross margin            30.6 %        28.5 %                              31.9 %        31.0 %
Power and RF
Products gross
profit                12,033         7,954        4,079       51 %      35,253        21,970       13,283       60 %
Power and RF
Products gross
margin                  53.0 %        45.9 %                              53.9 %        42.2 %
Unallocated costs     (4,717 )      (3,438 )     (1,279 )     37 %     (13,548 )     (10,247 )     (3,301 )     32 %
Consolidated gross
profit             $ 133,010     $  99,413     $ 33,597       34 %   $ 382,535     $ 302,559     $ 79,976       26 %
Consolidated gross
margin                  38.1 %        34.9 %                              37.8 %        35.3 %

Our consolidated gross profit increased 34% to $133.0 million in the third quarter of fiscal 2013 from $99.4 million in the third quarter of fiscal 2012. Our consolidated gross margin increased to 38.1% in the third quarter of fiscal 2013 from 34.9% in the third quarter of fiscal 2012. For the nine months ended March 31, 2013, our consolidated gross profit increased 26% to $382.5 million from $302.6 million for the nine months ended March 25, 2012. For the nine months ended March 31, 2013, our consolidated gross margin increased to 37.8% from 35.3% for the nine months ended March 25, 2012. LED Products Segment Gross Profit and Gross Margin LED Products gross profit increased approximately 22% to $85.7 million in the third quarter of fiscal 2013 from $70.3 million in the third quarter of fiscal 2012 and LED Products gross margin increased to 43.8% in the third quarter of fiscal 2013 from 38.8% in the third quarter of fiscal 2012. For the nine months ended March 31, 2013, LED Products gross profit increased approximately $27.1 million to $245.4 million from $218.3 million for the nine months ended March 25, 2012, and increased to 42.0% for the nine months ended March 31, 2013 from 38.2% for the nine months ended March 25, 2012. LED Products gross profit and gross margin increased due to factory cost reductions, the introduction of new lower cost products and higher factory utilization. These benefits more than offset the decline in the average selling prices in fiscal 2013 as compared to fiscal 2012.
Lighting Products Segment Gross Profit and Gross Margin Lighting Products gross profit increased approximately 62% to $40.0 million in the third quarter of fiscal 2013 from $24.6 million in the third quarter of fiscal 2012, and increased approximately 59% to $115.4 million from $72.5 million for the nine months ended March 25, 2012. Lighting Products gross margin increased to 30.6% in the third quarter of fiscal 2013 from 28.5% in the third quarter of fiscal 2012, and increased to 31.9% for the nine months ended March 31, 2013 from 31.0% for the nine months ended March 25, 2012. Lighting Products gross profit increased for both quarter-to-date and year-to-date due to higher overall revenues. Lighting Products gross margins increased, for both quarter-to-date and year-to-date periods, primarily due to factory cost reductions, the introduction of new lower cost products, and higher factory utilization. These benefits more than offset the decline in the average selling prices in fiscal 2013 as compared to fiscal 2012. Power and RF Products Segment Gross Profit and Gross Margin Power and RF Products gross profit increased approximately 51% to $12.0 million in the third quarter of fiscal 2013 from $8.0 million in the third quarter of fiscal 2012, and increased approximately 60% to $35.3 million for the nine months ended March 31, 2013 from $22.0 million for the nine months ended March 25, 2012. Power and RF Products gross margin increased to 53.0% in the third quarter of fiscal 2013 from 45.9% in the third quarter of fiscal 2012, and increased to 53.9% for the nine months ended March 31, 2013 from 42.2% for the nine months ended March 25, 2012. These gross profit and gross margin increases are due primarily to factory cost reductions, increased factory utilization, and introduction of new lower cost products. These benefits more than offset the decline in the average selling prices in fiscal 2013 as compared to fiscal 2012.


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Unallocated Costs
Unallocated costs were $4.7 million and $3.4 million in the third quarter of fiscal 2013 and 2012, respectively. These costs consist primarily of manufacturing employees' stock-based compensation, expenses for profit sharing and quarterly or annual incentive plans and matching contributions under our 401(k) plan, and acquisition related costs. These costs are not allocated to the reportable segments' gross profit because our CODM does not review them regularly when evaluating segment performance and allocating resources. The increase of $1.3 million in the third quarter of fiscal 2013 is primarily attributable to higher incentive and stock-based compensation incurred as a result of improved business performance in fiscal 2013 as compared to fiscal 2012. For the nine months ended March 31, 2013 and March 25, 2012, unallocated costs were $13.5 million and $10.2 million, respectively, increasing by $3.3 million for the reasons discussed above. For further information on the allocation of costs to segment gross profit, refer to Note 13, "Reportable Segments," in our consolidated financial statements included in Item 1 of this Quarterly Report.
Research and Development
Research and development expenses include costs associated with the development of new products, enhancements of existing products and general technology research. These costs consist primarily of employee salaries and related compensation costs, development materials, occupancy costs, consulting costs and the cost of development equipment and supplies.
The following sets forth our research and development expenses in dollars and as a percentage of revenues (in thousands, except percentages):

                             Three Months Ended                                  Nine Months Ended
               March 31,     March 25,                            March 31,     March 25,
                 2013          2012              Change             2013          2012              Change
Research and
development   $  39,036     $  36,148     $ 2,888          8 %   $ 116,524     $ 106,436     $ 10,088          9 %
Percent of
revenues             11 %          13 %                                 12 %          12 %

Research and development expenses in the third quarter of fiscal 2013 increased 8% to $39.0 million from $36.1 million in the third quarter of fiscal 2012. For the nine months ended March 31, 2013, research and development expenses increased 9% to $116.5 million from $106.4 million for the nine months ended March 25, 2012. These increases were primarily due to increased spending on . . .

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