HTCH … A short thesis on SeekingAlpha

HTCH is under selling pressure again today. Do Note: I am neutral on HTCH and am not the author of the article mentioned below.

An article outlining the risks on HTCH was published today at SeekingAlpha. Here are the details taken from the article.

On July 26^th, the office of TDK and NHK Spring were raided by the Japanese Fair Trade Commission for price collusion in the HDD suspension market which is Hutchinson Technology’s primary business. Our sources indicate that Hutchinson Technologies (NASDAQ:HTCH) management was taken completely by surprise by this news, which is understandable. However, it is now highly unlikely that the U.S. Fair Trade Commission will allow this transaction to be approved. At a minimum, any transaction approval will be severely delayed and will likely go beyond November 1^st of 2016 which allows TDK to walk away from the acquisition without a break-up fee or any repercussion.

So now we must look at Hutchinson on the fundamentals which have deteriorated since the TDK transaction was announced last November. Per statements from both Seagate (NASDAQ:STX) and Western Digital (NASDAQ:WDC), Hutchinson’s two primary customers (accounting for 85%-90% of sales), the TAM (total addressable market) for HDD suspensions continue to shrink, which is the market that HTCH serves. Further, HTCH has been unable to diversify its revenue away from the suspension market. It appears any new product development or marketing was put on hold so HTCH could try to maintain a cash position that would allow it to maximize the price TDK paid.

Now the real concern. HTCH has $76 million of convertible debt due January of 2017. They also have $37.5 million due October of 2019 and $13.5 million of bank debt with PNC bank. Given that HTCH has not been profitable for year and has lost $22 million through the first 9 months of FY 2016, we see very few refinancing options for the company. Any equity raise to pay off this debt would basically have to totally recapitalize the company and would be close to wiping current equity holders out. Given the TDK situation, we don’t see how other industry competitors can buy HTCH and given the negative cash flow, a financial buyer is out of the picture.

This situation is very sad and disappointing for Hutchinson Technology and its shareholders. HTCH was a small U.S. based company that found a way to survive and create some value with the TDK acquisition. Now they must operate in a difficult, shrinking market and find a way to pay back significant debt in a short period of time.

HTCH … Drops on TDK probe

1. Hutchinson Technology reported that it received a letter on July 26, 2016 from the Antitrust Division of the U.S. Department of Justice, which has opened an investigation relating to the sale of suspension assemblies for use in hard disk drives. The DOJ’s letter stated that neither HTI nor any HTI employee is currently a subject of the DOJ investigation, but that HTI may have documents and electronic information relevant to its investigation. HTI intends to fully cooperate with the DOJ’s investigation. With regard to the U.S. Federal Trade Commission’s review of the pending merger, HTI and TDK Corporation are providing additional information to the FTC and working cooperatively with the FTC to move the review forward. The FTC has not indicated when its review may be completed. Additionally, HTI is engaging in contingency planning for the potential of continued delays or impediments to the pending merger. Subject to certain conditions, the merger agreement may be terminated by HTI or TDK if the merger has not been consummated on or before November 1, 2016
2. Shares of Hutchinson Technology (HTCH), a manufacturer of parts for hard disk drives, are plunging after reports that its planned acquirer, TDK Corporation, is being probed by Japan’s Fair Trade Commission. In November of 2015, TDK Corporation and Hutchinson Technology jointly announced that they had entered into a definitive merger agreement under which TDK would acquire all of the outstanding shares of common stock of HTI. WHAT’S NEW: According to a report from the Japan Times out late Tuesday, the Japanese FTC searched the offices of TDK and NHK Spring on Tuesday on the suspicion they formed a price cartel for electronics parts for hard disk drives. According to the report, TDK Corporation and NHK Spring, both manufacturers of electronics components, are alleged to have set retail prices for suspension systems used for hard drives in personal computers and gaming consoles. PRICE ACTION: Shares of Hutchinson Technology are are down 40c, or 16%, to $2.06 in midday trading

Details of the original merger announced late last year can be found here.

An older SeekingAlpha article on the merger.