Update: Electro Scientific Industries Q2 Earnings - Sales Fall, Orders Rebound, Cash Flow Is Positive

| About: Electro Scientific (ESIO)


Revenues continued to fall, but orders rose, operating cash flow was positive and the 4.7% dividend yield is safe for at least a few years.

The contrarian turnaround thesis stopped materializing after orders from Apple, the single biggest customer, fell sharply. Overcapacity developed and softening consumer electronics demand also hurt.

I reiterate my long thesis with a target price of $10 per share within 12 months, offering a ~33% upside.

Electro Scientific Industries, Inc. (NASDAQ:ESIO) reported earnings for the fiscal 2015 first quarter ended June 28, 2014. (SEC filing, conference call, press release). Revenue was $35.0M, compared to $37.1M Q/Q and $46.2M Y/Y. GAAP net loss was $8.3M, or $0.27 per share. Non-GAAP loss was $7.4M, or $0.24 per share. Good execution and expense management resulted in EPS performance above the company's guided range with positive operating cash flow. Orders were $47.3M, up significantly from $31.7M Q/Q. Flex circuit via drilling had a very good quarter, as ESIO enjoyed the strongest flex orders in a year.

Bookings in China also grew to the highest quarterly level in the last couple of years. Orders benefited from the company's service and support business, which grew 10% Q/Q, and more than 50% Y/Y. GAAP gross margin was 38%. Non-GAAP operating loss was $7.1M, compared to a loss of $5.1M during the previous quarter. The company has ample cash of $106M and generated $0.7M in cash from operations. ESIO spent $1.5M on repurchases and $2.4M to pay the quarterly dividend, which remained unchanged at $0.08 per share, yielding an attractive 4.73% when annualized. Thanks to the large cash pile, the dividend is sustainable for at least several years, but the turnaround will have to happen in order to maintain the dividend beyond several years.

For the Q2 FY2015, ESIO expects revenues of $40M and a non-GAAP loss per share of $0.17 to $0.22 per share. The turnaround benefits are expected to take a couple of quarters to be realized, but the foundation has been laid and the stock may have seen the bottom already.

My last year's contrarian turnaround thesis stopped materializing after ESIO posted lower sales and EPS guidance in one of its earlier quarters. ESIO suffered from industry overcapacity and softening demand in the consumer electronics sector. A strong factor was the falling and delayed orders of components for Apple (NASDAQ:AAPL). ESIO's risks, mentioned in my thesis, included its reliance on several large customers:

Electro's customer base is very concentrated which can - and does - cause major sales drops and general volatility of revenue and stock price.

Apple was the largest customer with a 31% share of FY2013 revenues. Given how much and how fast ESIO's orders fell, the company actually did a relatively good job, but the stock price had to react. The company's stock price fell also due to general semiconductor and small-cap stock weakness throughout 2014. Thanks to the lower price now - and the new CEO, Ed Grady, who has a history of a successful turnaround of Brooks Automation (NASDAQ:BRKS) - I reiterate my long thesis. My target price is $10 per share, offering a ~33% upside within 12 months based on a potential turnaround working this time, with a new CEO and lower reliance on a single large customer.

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