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Lower Operating Expenses Helping Seagate’s Profitability Despite Stagnant Revenues?

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Seagate’s (NASDAQ: STX) total expenses have dropped from around $10 billion in 2017 to about $8.38 billion in 2019. As a percentage of revenue, expenses have declined significantly, going from around 92.8% in 2017 to 80.6% in 2019.

Cost of sales is the biggest expense head for the company, with it being 70.5% of revenue in 2017, before increasing slightly to 71.8% of revenue in 2019.

However, this increase has been offset by a drop in product development costs, and marketing and administrative costs, and despite a slight drop in revenue, has helped bring in an additional $4.52 in earnings per share between 2017 and 2019.

However, with revenue expected to remain roughly stagnant in 2020 and 2021, cost of sales as % of revenue is likely to hover around 70%, but with growing product development costs, net income margins could drop from 19.4% in 2019 to 9.7% in 2021.

This expected drop in margins has offset the previous growth in net margins from 7.2% in 2017 to 19.4% in 2019, leading to a growth of only 15% in Seagate’s share price since January 2018.

In our interactive dashboard Seagate Expenses: How Does Seagate Spend Its Money? we take a look at the key drivers of Seagate’s expenses and net margins.

Seagate’s Net Income Margins have grown sharply, growing from 7.2% in 2017 to 10.6% in 2018 and then jumping higher to 19.4% in 2019 despite a 3.5% drop in revenue. Margins are expected to drop sharply in 2020 despite stagnant revenues, owing to an expected increase in development costs and income taxes.

Breakdown of Seagate’s Total Expenses

  • Cost of Sales has decreased from $7.6 billion in 2017 to $7.46 billion in 2019, dropping in proportion with a drop in revenue. As a % of Revenue, Cost of Sales has grown marginally from 70.5% to 71.8% over the same period. The metric is expected to drop in 2020 to around 70.2%, amidst stagnant revenues.
  • Product development Expense has dropped from $1.23 billion in 2017 to $990 million in 2019. Expense has dropped steadily over the past 2 years, as Seagate cut back on research activities due to the semiconductor downcycle. However, with the semiconductor supply glut expected to clear out in 2020, we expect Seagate to ramp up their research and development activities, driving this metric to around $1.26 billion by 2021. As a % of Revenues, product development has dropped from 11.4% in 2017 to 9.5% in 2019.
  • Marketing and administrative Expenses dropped from $606 million in 2017 to about $453 million in 2019 as the company cut back on costs to weather the drop in revenue due to the semiconductor downcycle. As a % of Revenue, marketing and administrative expenses have decreased from 5.6% to 4.4% during the same period, and is expected to roughly remain the same over the next 2 years.
  • Restructuring and other expenses went from $282 million in 2017 to $1 million in 2019. This metric primarily includes restructuring charges, amortization of intangibles, and other miscellaneous expenses. We expect this metric to be around $52 million by 2021. As a % of Revenue, we expect other operating expenses to remain around 0.5% over the next 2 years.
  • Non-Operating Expense Has Decreased From $239 million in 2017 to $115 million in 2019. There was a sharp drop in 2019 due to a drop in net interest expense, and a drop in other non-operating expenses. Seagate’s total debt has dropped from $5.02 billion in 2017 to $4.25 billion in 2019. Going forward, we expect non operating expenses to drop further to around $126 million by 2021.
  • Income Tax Expense increased from $43 million in 2017 to $236 million in 2018. Income Tax expense dropped to -$640 million in 2019, owing to a one-time income tax benefit. Effective tax rate is expected to be around 16.5% in the near term.

 

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