ANALYZING JDS UNIPHASE
A closer look at the company's balance sheet shows a few trends
to watch.
By Phil Weiss
Welcome to November. I hope all of you took time away from
investing yesterday to share in the fun of Halloween. In our
house, we enjoyed watching our three-year-old son in a Halloween
parade, taking him trick-or-treating, and sharing treats with
costumed kids who came to our door. It's a good time of year to
be a kid.
Last week, JDS Uniphase (Nasdaq: JDSU) released earnings for the
first quarter of its fiscal year.
For starters, you should take the time to listen to JDS
Uniphase's conference call. It will help you gain insight into
the company's perception of its results and what's going on in
the market. It seemed to me that management was a bit frustrated
with all the questions about its business prospects after the
Nortel Networks (NYSE: NT) dustup last week.
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It's rare that I've listened to any conference call in which
I've heard so many comments from management about how good
things went in the past quarter and how good they expect
business to be in the future. Here are a few tidbits:
Co-Chairman and CEO, Jozef Straus:
-"Demand in optical networking was strong and will
continue to grow."
-"Recent concerns regarding spending at the carrier level
do not affect growth in optical networking equipment because
fiber optics provides overriding benefits in terms of
declining traffic costs."
-"There is now more opportunity than ever before for JDSU
and suppliers to the optical industry."
President and COO, "Jay" Abbe:
-"Do not see indications of systematic, across-the-board
component or modular inventory builds, either at customers
or in our own shops."
-"Do not see double bookings."
-There is "no stretch-out of delivery dates for orders
already placed."
There's no reason to believe these are empty words from
management to get the Wise off its back. During the call, JDS
Uniphase substantially increased its performance outlook for the
rest of the year. Full-year earnings per share estimates were
increased from $0.70 to $0.80. In July, JDSU indicated that it
expected revenues to increase by 80% to 90%. Now this figure is
115% to 120%.
During my time as a shareholder of JDS Uniphase, I've found its
management team generally conservative in terms of guidance.
There's no real reason for me to believe that isn't the case
this time. This is particularly true now, as any failure on the
part of JDSU to at least meet expectations will be sorely
punished.
Rule Maker investors are interested in more than just earnings,
though. We like to see strong cash flow, little in the way of
debt, and good working-capital management. As shown in the table
that follows, JDSU's results for the quarter were fairly solid,
but there were a couple of warts.
($ in millions)
Q1 '01 Q4 '00 Change
------ ------ ------
Sales Growth $787 $524 50%
Cost of Sales $385 $261 48%
Gross Margin 51.0% 50.2% 2%
Net Income $177 $114 55%
Net Margin $22.5% 21.8% 3%
Flow Ratio 1.73 1.33 30%
Cash-to-Debt* 27.92 27.18 3%
Cash King Margin (Est) -20% -2% NMF
Accts Rec. $494 $382 29%
Inventory $395 $375 5%
Accts Payable $161 $195 -17%
*estimated
I compared numbers for the last consecutive quarters rather than
taking a look at the year-over-year results. The reason is that
all of JDSU's acquisitions are accounted for using the purchase
rather than the pooling method of accounting. While I can make
arguments in favor of or against both methods, one big
disadvantage of the purchase method is that prior quarters do
not have to be restated. While JDS Uniphase does a better job
than most of presenting income statement data for the combined
entity for the prior period, it's still difficult to compare
year-over-year performance. So, in this case, I like to look at
the sequential results.
Two figures jump out. The first is a substantial increase in the
Foolish Flow Ratio. You'll notice that, to examine why the Flow
Ratio increased, I looked at accounts receivable, inventory, and
accounts payable -- the three primary components of the Flow
Ratio. What's most important to me about these numbers is that
JDSU's accounts receivable and inventory both grew much more
slowly than revenues. This is something I like to see, as it
decreases the likelihood that JDS Uniphase is managing earnings
through its accounts receivable or inventory balances.
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The big culprit in terms of the increase in JDSU's Flow Ratio is
the decrease in its accounts payable balance. It looks to me
like either some of JDSU's suppliers might be experiencing a bit
of a cash crunch, or else JDSU is paying more quickly to retain
preferential treatment in having its orders filled.
Fortunately, JDS Uniphase made such an improvement in its
current assets management that, even though its accounts payable
balance decreased over the quarter, it actually improved its
cash conversion cycle -- the time it takes to purchase $1 of raw
material, turn it into a finished good, sell that finished good,
and collect from its customers -- by 17 days over the third
quarter result. (If you're not sure how to calculate this
figure, you can check out this column.) Based on my analysis,
I'm not overly concerned at this time about the higher Flow Ratio.
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You'll also note that, based on information from the conference
call, JDSU's operations did not generate enough cash to fund the
expansion of its business this quarter. The company currently
has an initiative to quadruple its manufacturing capacity every
18 months. It's still on track to meet this goal, and this
investment in its future is the reason behind the negative Cash
King Margin.
This result does bother me a little bit. While I have no
objection to a company with the types of opportunities JDS
Uniphase has investing in its future, I don't want to find it
having difficulty funding its expansion from its own operations
on a regular basis, as this would ultimately lead to it having
to borrow money to fund its growth.
Phil Weiss, TMF Grape on the Discussion Boards
RELATED LINKS:
-Post of the Day
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-Internet Report on Fiber Optics Components
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-Accounting for Cisco and JDS Uniphase
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-Comparing Cisco and JDSU's Ledgers, Part 2
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