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DTS Inc. (DTSI - Snapshot Report) reported fourth quarter 2013 earnings of 35 cents per share, which missed the Zacks Consensus Estimate by a nickel.

Quarter Details

Revenues jumped 24.5% year over year to $37.1 million, but lagged the Zacks Consensus Estimate of $42.0 million.

Though the company registered strong year-over-year growth, yet it missed expectations primarily due to delays in the manufacture of certain customer products, especially in the mobile and game console categories and the higher than anticipated decline in legacy home AV market, home theater-in-a-box and DVDs in particular.

The network connected business, however, continued its robust growth in the reported quarter, increasing 24.0% on a year-over-year basis. Within the network-connected category, network-connected TV contributed the maximum and rose 41.0% on a year-over-year basis in the fourth quarter and 116.0% for the full year.

Operating expenses (excluding amortization & acquisition cost but including stock-based compensation) as a percentage of revenues declined to 74.5% from 83.8% in the year-ago quarter.

This was primarily attributed to a decrease in selling, general & administrative expense (SG&A) as a percentage of revenues, which declined 590 basis points (bps) on a year-over-year basis. Research & development expense (R&D) as a percentage of revenues declined to 340 bps from the year-ago quarter.

DTS reported operating income (excluding amortization & acquisition cost but including stock-based compensation) of $8.98 million compared with an operating income of $4.72 million in the year-ago quarter.

Net income (excluding amortization & acquisition costs but including stock-based compensation) was $6.3 million or 35 cents per share.

Exiting the fourth quarter, DTS had cash and short-term investments of $71.0 million compared with $76.1 million at the end of the third quarter. Cash flow from operations was $6.39 million compared with $11.4 million cash generated in operations in the previous quarter.

Outlook

For 2014, DTS expects non-GAAP operating income as a percentage of revenues to be in the range of 23.0 – 28.0%. Non-GAAP earnings are likely to be $1.20 to $1.40 per share while the Zacks Consensus estimate for the same is pegged at $0.82 per share.

Recommendation

DTS reported modest fourth quarter numbers. The company posted profits and revenues were substantially up from the year-ago quarter. We believe that DTS will continue to gain market share riding on its strong product portfolio, increasing online availability and accelerated expansion of the DTS technology into new markets, such as smartphones, portable devices, digital media players and the smart TV space.

Moreover, the company’s extended partnership programs with Samsung to provide sound solutions for TV and inclusion of DTS’s technologies in Qualcomm’s (QCOM - Analyst Report) latest generation of processors are positives for the company. This apart, other partnerships with mobile and tablet makers such as Huawei, Pantech, Lenovo (LNVGY) and Panasonic are also encouraging.

On the other hand, unpredictable macroeconomic environment, weakness in the consumer electronics market and sluggish consumer spending are the near-term headwinds for the company. Moreover, higher costs are likely to hurt profitability in the near term.

Further, the company faces significant competition from Dolby Laboratories Inc. (DLB - Snapshot Report), Sony Corp. (SNE - Snapshot Report) and privately-held THX Limited, which may hurt its profitability.

Currently, DTSI has a Zacks Rank #3 (Hold).

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