# VICOR CORP (VICR) FY 2021 MD&A

Verbatim Item 7 Management's Discussion and Analysis from VICOR CORP's 10-K for fiscal year 2021.

SEC filing source: https://www.sec.gov/Archives/edgar/data/751978/000119312522060946/d274241d10k.htm
Accession: 0001193125-22-060946
Filing date: 2022-03-01
Report date: 2021-12-31
Extracted from a later financial-section MD&A body after the formal Item 7 span was a short reference.
Confidence: high

Company profile: /company/VICR/
All MD&A years: /company/VICR/mda/
Next year: /company/VICR/mda/fy2022/ (FY 2022)

Management’s Discussion and Analysis of Financial Condition and Results of Operations is based upon our Consolidated Financial Statements, which have been prepared in accordance with accounting principles generally accepted in the United States (“U.S. GAAP”). The preparation of these financial statements requires management to make estimates and assumptions that affect the reported amounts of assets, liabilities, revenues, expenses, and

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related disclosures of contingent assets and liabilities. On an ongoing basis, we evaluate our estimates and assumptions, and our associated judgments, including those related to inventories, income taxes, contingencies, and litigation. We base our estimates, assumptions, and judgments on historical experience, knowledge of current conditions, and on various other factors we believe to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying value of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates under different assumptions or conditions. We also have other policies we consider key accounting policies (See Note 2 to the Consolidated Financial Statements –

Significant Accounting Policies –Recently Adopted Accounting Standards

). However, the application of these other policies does not require us to make significant estimates and assumptions difficult to support quantitatively.

Inventories

We employ a variety of methodologies to evaluate inventory that is estimated to be excess, obsolete or unmarketable, in order to write down that inventory to net realizable value. Our estimation process for assessing net realizable value is based upon forecasted future usage which we derive based on backlog, historical consumption, and expected market conditions. For both Brick and Advanced product lines, the methodology used compares
on-hand
quantities to forecasted usage and historical consumption, such that amounts of inventory on hand in excess of management’s estimate of expected future utility, are fully reserved. While we have used our best efforts and believe we have used the best available information to estimate future demand, due to uncertainty in the economy and our business and the inherent difficulty in forecasting future usage, it is possible actual demand for our products will differ from our estimates. If actual future demand or market conditions are less favorable than those projected by management, additional inventory reserves for existing inventories may need to be recorded in future periods.

Evaluation of the Realizability of Deferred Tax Assets

Significant management judgment is required in determining whether deferred tax assets will be realized in full or in part. We assess the need for a valuation allowance on a quarterly basis. We record a valuation allowance to reduce our deferred tax assets to the amount we believe is more likely than not to be realized. In assessing the need for a valuation allowance, we consider all positive and negative evidence, including scheduled reversals of deferred tax liabilities, projected future taxable income, tax planning strategies, and past financial performance. Despite recent positive operating results as a result of increases in bookings, the Company is in a cumulative loss position as of December 31, 2021, primarily due to tax deductions on 2020 and 2021 exercises of stock-based compensation. The Company faces uncertainties in forecasting its operating results due to vendor supply and factory capacity constraints, certain process issues with the production of Advanced Products and the unpredictability in certain markets. This operating uncertainty also makes it difficult to predict the availability and utilization of tax benefits over the next several years. As a result, management has concluded, at this time, is more likely than not the Company’s net domestic deferred tax assets will not be realized, and a full valuation allowance against all net domestic deferred tax assets is still warranted as of December 31, 2021. The valuation allowance against these deferred tax assets may require adjustment in the future based on changes in the mix of temporary differences, changes in tax laws, and operating performance. If the positive operating results and increases in bookings continue, and the Company’s concerns about industry uncertainty and world events, supply and capacity constraints, and process issues with the production of Advanced Products are resolved, and the amount of tax benefits the Company is able to utilize to the point that the Company believes future taxable income can be more reliably forecasted, the Company may release all or a portion of the valuation allowance in the near-term. Certain state tax credits, though, will likely never be released by the valuation allowance. If and when the Company determines the valuation allowance should be released (i.e., reduced), the adjustment would result in a tax benefit reported in that period’s Consolidated Statements of Operations, the effect of which would be an increase in reported net income.

The amount of any such tax benefit associated with release of our valuation allowance in a particular quarter may be material.

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New Accounting Pronouncements

From time to time, new accounting pronouncements are issued by the Financial Accounting Standards Board (“FASB”) that we adopt as of the specified effective date. Unless otherwise discussed, we believe the impact of recently issued accounting standards will not have a material impact on our future financial condition and results of operations. See Note 2 –

Significant Accounting Policies

–

Impact of recently issued accounting standards

, to the Consolidated Financial Statements for a description of recently issued and adopted accounting pronouncements, including the dates of adoption and expected impact on our financial position and results of operations.

Other new pronouncements issued but not effective until after December 31, 2021 are not expected to have a material impact on our consolidated financial statements.

Year ended December 31, 2021 compared to Year ended December 31, 2020

Consolidated net revenues for 2021 were $359,364,000, an increase of $62,788,000, or 21.2%, as compared to $296,576,000 for 2020.

Net revenues, by product line, for the years ended December 31 were as follows (dollars in thousands):

[[GREPCENT_TABLE]]
[["","","","","","","","","Increase (decrease)"],["","","2021","","","2020","","","$","","","%"],["Brick Products","","$","189,144","","","$","190,256","","","$","(1,112",")","","","(0.6",")%"],["Advanced Products","","","170,220","","","","106,320","","","","63,900","","","","60.1","%"],["Total","","$","359,364","","","$","296,576","","","$","62,788","","","","21.2","%"]]
[[/GREPCENT_TABLE]]

The increase in net revenues for Advanced Products was primarily the result of growth in the data center and high performance computing business, in the United States and Asia Pacific markets. The decrease in net revenues for Brick Products was primarily due to a decrease in net revenues from customers in the United States and Asia Pacific markets, partially offset by increases from customers in Europe. The increase in net revenues for Advanced Products was also the result of increases in new orders for Advanced Products for the year ended December 31, 2021 compared to the year ended December 31, 2020. The increase in orders largely reflected our customers’ response to the 20% to 30% increase in lead-times and growth in our data center and high performance computing business for Advanced Products.

Gross margin for 2021 increased $46,753,000, or 35.6%, to $178,200,000 from $131,447,000 in 2020. Gross margin as a percentage of net revenues increased to 49.6% in 2021 from 44.3% in 2020. The increase in gross margin dollars and gross margin percentage was primarily due to the increase in net revenues, an improved mix of higher-margin products shipped, process yield improvements and lower tariff charges.

Selling, general, and administrative expenses were $69,484,000 for 2021, an increase of $6,321,000, or 10.0%, as compared to $63,163,000 for 2020. As a percentage of net revenues, selling, general, and administrative expenses decreased to 19.3% in 2021 from 21.3% in 2020, primarily due to the increase in net revenues.

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The components of the $6,321,000 increase in selling, general, and administrative expenses were as follows (dollars in thousands):

[[GREPCENT_TABLE]]
[["","","Increase"],["Compensation","","$","3,090","","","","7.4","%(1)"],["Legal fees","","","1,418","","","","77.6","%(2)"],["Outside services","","","394","","","","19.8","%(3)"],["Employment recruiting","","","394","","","","168.1","%(4)"],["Advertising expenses","","","375","","","","12.4","%(5)"],["Depreciation and amortization","","","282","","","","9.0","%(6)"],["Travel expense","","","160","","","","13.9","%(7)"],["Computer expense","","","138","","","","12.9","%"],["Other, net","","","70","","","","0.8","%"],["","","$","6,321","","","","10.0","%"]]
[[/GREPCENT_TABLE]]

[[GREPCENT_TABLE]]
[["(1)","Increase primarily attributable to annual compensation adjustments in May 2021 and higher stock-based compensation expense associated with stock options awarded in June 2021."]]
[[/GREPCENT_TABLE]]

[[GREPCENT_TABLE]]
[["(2)","Increase primarily attributable to an increase in activity related to the SynQor litigation and for certain corporate legal matters."]]
[[/GREPCENT_TABLE]]

[[GREPCENT_TABLE]]
[["(3)","Increase primarily attributable to an increase in the use of outside service providers at our Andover, MA facility."]]
[[/GREPCENT_TABLE]]

[[GREPCENT_TABLE]]
[["(4)","Increase primarily attributable to an increase in employee recruitment activities at Andover."]]
[[/GREPCENT_TABLE]]

[[GREPCENT_TABLE]]
[["(5)","Increase primarily attributable to increases in sales support expenses, direct mailings, and advertising in trade publications."]]
[[/GREPCENT_TABLE]]

[[GREPCENT_TABLE]]
[["(6)","Increase attributable to net additions of furniture and fixtures and capitalization of building improvements."]]
[[/GREPCENT_TABLE]]

[[GREPCENT_TABLE]]
[["(7)","Increase primarily attributable to a resumption of travel by the Company\u2019s sales and marketing personnel, though still at levels significantly lower than prior to the COVID-19 pandemic."]]
[[/GREPCENT_TABLE]]

Research and development expenses increased $2,198,000, or 4.3%, to $53,114,000 in 2021 from $50,916,000 in 2020. As a percentage of net revenues, research and development expenses decreased to 14.8% in 2021 from 17.2% in 2020, primarily due to the increase in net revenues.

The components of the $2,198,000 increase in research and development expenses were as follows (dollars in thousands):

[[GREPCENT_TABLE]]
[["","","Increase (decrease)"],["Compensation","","$","2,495","","","","7.0","%(1)"],["Deferred costs","","","329","","","","44.6","%(2)"],["Facilities allocations","","","258","","","","10.4","%(3)"],["Supplies","","","203","","","","15.0","%(4)"],["Depreciation and amortization","","","127","","","","6.4","%"],["Set-up and tooling expenses","","","108","","","","21.6","%"],["Freight","","","106","","","","71.6","%"],["Project and pre-production materials","","","(326",")","","","(4.2",")%(5)"],["Overhead absorption","","","(1,208",")","","","(101.6",")%(6)"],["Other, net","","","106","","","","21.6","%"],["","","$","2,198","","","","4.3","%"]]
[[/GREPCENT_TABLE]]

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[[GREPCENT_TABLE]]
[["(1)","Increase primarily attributable to annual compensation adjustments in May 2021 and higher stock-based compensation expense associated with stock options awarded in June 2021."]]
[[/GREPCENT_TABLE]]

[[GREPCENT_TABLE]]
[["(2)","Increase primarily attributable to a decrease in deferred costs capitalized for certain non-recurring engineering projects for which the related revenues had been deferred."]]
[[/GREPCENT_TABLE]]

[[GREPCENT_TABLE]]
[["(3)","Increase primarily attributable to an increase in utilities and building maintenance expenses."]]
[[/GREPCENT_TABLE]]

[[GREPCENT_TABLE]]
[["(4)","Increase in engineering supplies."]]
[[/GREPCENT_TABLE]]

[[GREPCENT_TABLE]]
[["(5)","Decrease primarily attributable to lower prototype development costs for Advanced Products."]]
[[/GREPCENT_TABLE]]

[[GREPCENT_TABLE]]
[["(6)","Decrease primarily attributable to an increase in research and development (\u201cR&D\u201d) personnel incurring time on production activities, compared to R&D activities."]]
[[/GREPCENT_TABLE]]

The significant changes in the components of “Other income (expense), net” for the years ended December 31 were as follows (in thousands):

[[GREPCENT_TABLE]]
[["","","","","","","","","Increase"],["","","2021","","","2020","","","(decrease)"],["Interest income","","$","930","","","$","95","","","$","835"],["Rental income","","","792","","","","792","","","","\u2014"],["(Loss) gain on disposal of equipment","","","(72",")","","","13","","","","(85",")"],["Foreign currency (losses) gains, net","","","(336",")","","","181","","","","(517",")"],["Other","","","(111",")","","","12","","","","(123",")"],["","","$","1,203","","","$","1,093","","","$","110"]]
[[/GREPCENT_TABLE]]

Interest income increased due to an increase in interest bearing investments in 2021 compared to 2020, due to the investment of the net proceeds of approximately $109.7 million from our underwritten public offering of our Common Stock completed in June 2020. Our exposure to market risk fluctuations in foreign currency exchange rates relates to the operations of VJCL, for which the functional currency is the Japanese Yen, and all other subsidiaries in Europe and Asia, for which the functional currency is the U.S. Dollar. These subsidiaries in Europe and Asia experienced more unfavorable foreign currency exchange rate fluctuations in 2021 compared to 2020.

Income before income taxes was $56,805,000 in 2021, as compared to $18,461,000 in 2020.

The provision for income taxes and the effective income tax rate for the years ended December 31 were as follows (dollars in thousands):

[[GREPCENT_TABLE]]
[["","","2021","","","2020"],["Provision for income taxes","","$","176","","","$","539"],["Effective income tax rate","","","0.3","%","","","2.9","%"]]
[[/GREPCENT_TABLE]]

The effective tax rates were lower than the statutory tax rates for the year ended December 31, 2021 and 2020 primarily due to the Company’s full valuation allowance position against domestic deferred tax assets and for excess tax benefits related to stock based compensation during both years. The provision for income taxes for the years ended December 31, 2021 and 2020 included estimated federal, state and foreign income taxes in jurisdictions in which the Company does not have sufficient tax attributes to fully offset taxable income.

See Note 14 to the Consolidated Financial Statements for disclosure regarding our current assessment of the valuation allowance against all domestic deferred tax assets, and the possible release (i.e., reduction) of the allowance in the future.

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We reported net income for the year ended December 31, 2021 of $56,625,000, or $1.26 per diluted share, as compared to $17,910,000, or $0.41 per diluted share, for the year ended December 31, 2020.

LIQUIDITY AND CAPITAL RESOURCES

At December 31, 2021, we had $182,418,000 in cash and cash equivalents and $45,215,000 of highly liquid short-term investments. The ratio of current assets to current liabilities was 7.3:1 at December 31, 2021, as compared to 7.8:1 at December 31, 2020. Net working capital increased $31,248,000 to $307,667,000 at December 31, 2021 from $276,419,000 at December 31, 2020.

The primary working capital changes were due to the following (in thousands):

[[GREPCENT_TABLE]]
[["","","Increase (decrease)"],["Cash and cash equivalents","","$","20,676"],["Short-term investments","","","(4,951",")"],["Accounts receivable","","","14,098"],["Inventories","","","10,053"],["Other current assets","","","(48",")"],["Accounts payable","","","(7,068",")"],["Accrued compensation and benefits","","","1,341"],["Accrued expenses","","","(1,534",")"],["Sales allowances","","","(867",")"],["Short-term lease liabilities","","","78"],["Income taxes payable","","","73"],["Short-term deferred revenue and customer prepayments","","","(603",")"],["","","$","31,248"]]
[[/GREPCENT_TABLE]]

The primary sources of cash for the year ended December 31, 2021 were $75,000,000 of cash from the sale or maturities of short-term investments, $54,444,000 of cash generated from operations, and $10,243,000 of cash received in connection with the exercise of options to purchase our Common Stock awarded under our stock option plans and the issuance of Common Stock under our 2017 Employee Stock Purchase Plan. The primary uses of cash during the year ended December 31, 2021 were $70,900,000 for the purchases of short-term investments and $47,761,000 for the purchase of property and equipment.

In November 2000, our Board of Directors authorized the repurchase of up to $30,000,000 of Common Stock (the “November 2000 Plan”). The November 2000 Plan authorizes us to make such repurchases from time to time in the open market or through privately negotiated transactions. The timing of such repurchases and the number of shares purchased in each transaction are at the discretion of management based on its view of economic and financial market conditions. We did not repurchase shares of Common Stock under the November 2000 Plan during the year ended December 31, 2021. As of December 31, 2021, we had approximately $8,541,000 remaining for share purchases under the November 2000 Plan.

As of December 31, 2021, we had a total of approximately $32,949,000 of capital expenditure commitments, principally for manufacturing and production equipment, which we intend to fund with existing cash, and approximately $4,803,000 of capital expenditure items which had been received and included in Property, plant and equipment in the accompanying Consolidated Balance Sheets, but not yet paid for. As of December 31, 2021 we have approximately $36,600,000 of remaining capital expenditures expected to be incurred through the first half of 2022 associated with the construction of a 90,000 sq. ft. addition to the Company’s existing manufacturing facility and the installation of new production equipment. Of this expected amount, which is primarily for the new production equipment, approximately $24,000,000 has been approved and is included in the aggregate total of $32,949,000 of capital expenditure commitments above. The remaining amount of approximately $12,600,000 is expected to be approved in 2022. Our primary needs for liquidity are for

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making continuing investments in manufacturing and production equipment and for funding the construction of the additional manufacturing space adjoining our existing Andover manufacturing facility (as described above), including architectural and construction costs. We believe cash generated from operations together with our available cash and cash equivalents and short-term investments will be sufficient to fund planned operational needs, capital equipment purchases, and the planned construction, for the foreseeable future.

We do not consider the impact of inflation and changing prices on our business activities or fluctuations in the exchange rates for foreign currency transactions to have been significant during the last three fiscal years.