QLogic's Earnings Beat Despite Y/Y Decline

QLogic Corp ( QLGC - Analyst Report ) reported fourth quarter 2013 earnings of 12 cents, which beat the Zacks Consensus Estimate by a nickel. However, earnings per share plunged 65.3% year over year and 37.2% sequentially.

Revenues

Revenues decreased 13.4% year over year and 2.1% sequentially to $116.9 million, slightly better than the Zacks Consensus Estimate. Revenues were toward the higher end of management’s guided range of $112.0 million to $118.0 million.

The year-over-year decline was primarily due to weak growth in the Host and Silicon products segment, partially offset by strong growth in Network products.

Host products revenues declined 15.2% year over year but remained almost flat on a sequential basis at $89.6 million. Silicon products revenues plunged 30.3% from the year-ago quarter and 4.4% from the previous quarter to $9.1 million.

These declines were partially offset by a strong 11.5% year-over-year jump in Network products revenues to $18.2 million. However, segment revenues fell 9.2% from a very strong third quarter.

During the quarter, QLogic shipped its new FlexSuite 2600 Series 16-gig Fibre Channel Adapter product to original equipment manufacturers (“OEM”) such as Hewlett-Packard, Dell, International Business Machines ( IBM - Analyst Report ) and EMC Corp ( EMC - Analyst Report ) .

Margins

Gross margin expanded 10 basis points (“bps”) from the year-ago quarter and 40 bps from the previous quarter to 67.9%. This was primarily due to favorable product mix in the quarter.

Total operating expense increased 9.4% year over year and 4.3% on a sequential basis to $68.7 million. The year-over-year increase was primarily due to higher engineering and development cost (up 16.1%). Operating expense exceeded management’s expectation of $62.0 million, which hurt QLogic’s operating profit during the quarter.

Operating margin was 9.1% in the fourth quarter compared with 21.3% in the year-ago quarter and 24.1% in the previous quarter. Net income as percentage of revenues was 7.3% compared with 20.2% in the year-ago quarter and 11.6% in the previous quarter.

Balance Sheet and Cash Flow

As of Mar 31, 2013, QLogic had cash and short-term investments of $579.2 million versus $495.2 million in the previous quarter. During the quarter, QLogic improved its liquidity through a $125.0 million revolving credit facility that matures in Mar 2018.

Guidance

QLogic expects first quarter 2014 revenues in the range of $110.0 million to $116.0 million. Gross margin is expected to be approximately 67.0% to 68.0%. QLogic expects to incur operating expenses of $63.0 million. Earnings are expected to be in the range of 11 cents to 16 cents for the first quarter.

Our Recommendation

We believe that QLogic will continue to benefit from major OEM customer wins, innovative product pipeline, new technologies (Mt. Rainier) and increased focus on its key strategic initiatives over the long term.

However, a tough macro-economic environment continues to hurt server sales, which in turn may hurt top-line growth in the near term. Increasing investments in engineering and increasing competition from peers such as Cisco ( CSCO - Analyst Report ) will hurt profitability going forward.

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