Immersion Corporation (IMMR) Q3 2011 Earnings Report, Transcript and Summary

Ladies and gentlemen, thank you for standing by, and welcome to the Immersion Third Quarter 2011 Earnings Conference Call. During today’s presentation, all parties will be in a listen-only mode. Following the presentation, the conference will be opened for questions. (Operator Instructions). This conference is being recorded today, Thursday, November 3, 2011. I would now like to turn the conference over to Jennifer Jarman of The Blueshirt Group. Please go ahead.

Thank you, Gilbert. Good afternoon, and thank you for joining us today on Immersion’s third quarter 2011 conference call. This call is also being broadcast live over the web and can be accessed from the Investor Relations section of the company’s website at www.immersion.com. With me on today’s call are Vic Viegas, President and CEO; and Sum Mukherjee, CFO. During this call, we may make forward-looking statements, which may include projected financial results or operating metrics, business strategies, anticipated future products, anticipated market demand or opportunities and other forward-looking topics. These statements are subject to risks, uncertainties and assumptions. Accordingly, actual results could differ materially. For a listing of the risks that could cause this, please see our latest Form 10-Q filed with the SEC, as well as the factors identified in today’s press release. Additionally, please note that during this call, we may discuss non-GAAP financial measures. For each non-GAAP financial measure discussed, a presentation of the most directly comparable GAAP financial measure and a reconciliation of the difference between the non-GAAP financial measure discussed, and the most directly comparable GAAP financial measure is available in the company’s press release issued today after market close. With that said, I’ll turn the call over to Chief Executive Officer, Vic Viegas. Vic?

Thanks, Jennifer, and thanks, everyone, for joining us this afternoon. Our third quarter revenues were weaker than anticipated due to softness in the medical and automotive lines of business though licensing revenue continue to reflect double-digit growth over the prior year. During the period, we added several new licensees across our various markets, along with numerous ecosystem partners, and we achieved an important milestone with the first MOTIV-based handset, and the first MOTIV-based tablet brought to market with the new mobile OEM. We continue to make progress in our engagements with the Android developer community, as well as top tier mobile and tablet OEMs, while also further strengthening our IP and fundamental Haptics technologies. In a few minutes, I will discuss recent developments and the new opportunities emerging for us, based on our growing patent portfolio. First, I ask Sum to provide a more detailed review of our financial results for the third quarter, as well as our updated outlook for the year.

Thanks, Vic. Revenue in the quarter were 6.5 million, flat with the third quarter of 2010, and reflecting softness in the medical and automotive lines of businesses as Vic mentioned. Revenues from royalties and licenses were 5.9 million, up 14% from royalty revenues of 5.1 million in the third quarter of 2010, primarily reflecting strong demand in the gaming and mobility lines of business. Revenues from the sale of products were 3.5 thousand, compared to 1.2 million in the same quarter last year. And revenues from development contracts were 275,000 compared to 189,000 in the year ago period while revenue mix per line of business is expected to fluctuate on a quarterly basis due to seasonality patterns. In the third quarter of 2011, a break-down by line of business, as a percentage of total revenues is as follows; 46% from mobility, 31% from gaming, 12% from medical, 7% from auto, and 4% from chip and other. For the sake of clarification these percentages are based on total revenues, including revenues from royalty and licensing, product sales and development contracts. Cost of product sales in the third quarter of 2011 was 192,000 compared to 450,700 in the third quarter of 2010. Gross profit margin in the third quarter of 2011 was 6.3 million or 97% of revenues compared to gross profit margin of 6.1 million or 93% of revenues in the same period last year. The increase in gross profit as a percentage of revenues this quarter, was primarily driven by the higher mix of revenues from royalties and licenses, which enjoy higher gross margins than gross margins from revenues related to product sale. Excluding cost of product sales, total operating expenses were 7.3 million compared to 7 million in the third quarter of 2010. The operating expenses of 7.3 million…

Thanks, Sum. Let me start with an overview of some of the progress we’ve made in securing new licensees and our target markets outside of mobile. New licensees for the quarter include [inaudible] who will be incorporating Immersion tactical feedback technology into peripheral products for use with gaming consoles. Lexmark, who is implementing Haptic feedback into select multi-function printers, SirusXM Radio who has licensed our TouchSense 3000 software to enable intuitive Haptic interfaces for the SirusXM Radio players, and Mako Medical who has broadened its relationship with Immersion and entered into an exclusive agreement for our technology in the field of robotic assisted orthopedic surgery. We’re also pleased to announce that Immersions technology was highlighted in the recent launch of the Cadillac CUE navigation system at the CTIA Conference in San Diego. The revolutionary infotainment interface, combines capacitive controls, proximity sensing and Haptics to deliver a safe and connected automotive control interface. This design, over three years in development, is one of the early examples of the new automotive applications for Haptics that will coming to market in 2012. We have also continued to work closely with Haptic ecosystem partners to provide design, flexibility, and enhance reference design platforms to simplify Haptic integration. During the quarter, we signed a new agreement with Microchip to bundle Immersion TouchSense technology into its microcontrollers for distribution in the consumer and commercial products. We also certified analog devices, new Haptic drivers, for use in Immersion’s TouchSense reference design. In addition, we announced that Texas Instrument and Immersion have collaborated on a reference design where TI’s driver devices for PAO Actuators are used in conjunction with Immersion TouchSense 5000 software to enable high fidelity touch feedback in mobile devices. Finally, we certified Semtex as an authorized component provider for Immersion TouchSense 3000 and 4000 reference…

(Operator instructions). Our first question comes from Charlie Anderson wit Dougherty and Company. Please go ahead.

Yeah, good afternoon. Thanks for taking my questions. So I guess I’ll start with the guidance. You know, obviously, you guys saw a little bit of softness in Q3 and it looks like you think you’ll have little bit more in Q4. I wondered if you could kind of speak to each of the verticals that you serve and sort of where you might see a little bit of weakness, you know, compared to where you thought going into the year.

Sure. So, Charlie, as you pointed out, Q3 was a little weaker than what we had expected. Our earlier forecast anticipated about an additional 500,000 to about $1 million in additional revenue. I break that out by medical products revenue was down about 3 to 500,00 from what we were forecasting and in the automotive space, I would say it was weak by about 2 to 300,000 due to some continuing production challenges in Japan and some certain delayed –a few delayed projects. So that was kind of Q3. Q4, we do expect revenue to be a little lower than originally anticipated by about around $1 million. And that’s in part due to medical soften, which we think will continue, of about half a million, and we think our royalty revenue, primarily from the mobile market place, delayed to some product launch delays. We think that that probably is in the neighborhood of about half a million dollars. All told, we do think that the revised guidance’s a target that achievable and based on early reports that we’ve already received, we’re pretty confident that we’ll achieve those targets.

So you had one customer, kind of a major customer, put up very healthy Q3 Smartphone and handset volumes. So is it an issue at a very large customer, or is it more everyone else where you’re seeing that weakness in mobile?

Well, not all of – our larger customer, obviously, would be Samsung. Not all of their platforms will include the Immersion solution. So in some cases, they are not providing haptics in a number of their platforms, mainly Botta and a few others. So we think that they have grown substantially in the quarter. We expect a benefit from that, but our other licensees – and really, we’re talking about forecasted or anticipated revenue, so we see some delayed signings of – in one particular OEM case, that we think will not occur in the quarter and that’s a result of the softness in revenue.

Got it. And then just moving out a little bit, you know, you talked last quarter about some relationships you’re moving forward with, with some new OEMs, fairly large OEMs. I wonder if you could update on that in mobile?

Yeah, we continue to be engaged with many of the top ten. I talked specifically about three last quarter. We continue to be engaged, I’d say, with two of the three. One has fallen off the radar. As we mentioned in the script, we are aggressively looking at our patent portfolio and ways to monetize, and sometimes those discussions get in the way of product launches and license. So we’ll continue to pursue all the major partners and prospects and have confidence that our portfolio is strong and our solutions are strong as well.

Got it. Thanks so much.

Thanks, Charlie.

(Operator Instructions). Our next question comes from Jeff Schreiner with Capstone Investments. Please go ahead.

Yes. Good day, gentlemen. Thank you very much for taking my questions. Vic, I’d like to follow up on your last comment because it seems to me, personally, that all the alludings you’re doing about the patents is not about possible sales, but about a possible litigation strategy. Is – what are some of the opportunities or strategies on a broader basis that you may have been looking at without maybe telling us exactly what they are to monetize? How does one monetize the patent portfolio Immersion’s had for so long and do it here quickly?

Probably the best way to describe it, Jeff, would be, you know, the situation that we’re facing today, we’re extremely excited about the opportunity; the market clearly is embracing haptics in a large and meaningful way, and we think that’s a good thing for consumers in general, OEM customers and Immersion. But this situation, I would say, is very similar to where we were ten years ago in console and gaming. You know, we had at that time launched a number of high-quality haptic solutions, had licensed a number of very successful companies and they were gaining tremendous success in the marketplace. And based on that success, others entered into the space with homegrown solutions, launched their own products and we believed, at that time, that we had the underlying IP portfolio that covered those products. We spent quite a bit of time in licensing negotiations and engaging down in ways to bring those under license. And ten years ago, that didn’t quite work out and resulted in litigation. Today, I think we’re similarly excited about the growing adoption of haptics in the mobile marketplace with mobile device, and we believe that our underlying IP portfolio is quite strong and growing as we speak. And as a result, we’re engaged in those types of discussions with a number of different companies and we hope, we believe that they will result in a good solid licensing agreements in place that generate a substantial revenue growth for the company. The alternative to the results of a good license agreement may include litigation, may include other types of activities. I can’t really go into any of those details at this time.

Could I ask one just more broader question to follow up on that, knowing you don’t want to go into too much details, but when you started and re-took the company back over, you talked about having to start from ground zero in reviewing and looking at the IP portfolio. Kind of understanding what you had before you go slap people in the space, so to speak. Where are you at with that process? Can you tell us about that? Have you been able to complete that process?

Well, I guess I would characterize it a little differently. I did believe that we had – that it was necessary to take a full review of our patent portfolio, which we’ve done. We’ve accelerated our innovations efforts in our R&D and engineering teams, and as a result, have dramatically increased the number of filings that we’ve now made. And as we look through the patent portfolio, we look for ways to improve and to fill in gaps, and to expand the portfolio. I would say at this stage, that effort, or I guess I would say the assessment effort, understanding what we have has been completed. The effort to continue to grow and innovate and expand the portfolio is probably a never-ending process. We’ll continue to do that, but we’re well aware of the portfolio that we have and we’re accelerating our efforts to monitor the marketplace. You know, it’s an ever-changing market and so our IP continues to grow product launches and introductions of haptics solutions in the market continue to grow. So we’re always looking at making sure that we’ve monetized the portfolio as well as we possibly can.

Okay, thank you very much for that. I’m just wondering though real quickly, can you help us understand a little bit, the negative impact that you saw from medical and in auto, it would seem that that would still, some of that, into the June quarter on a trailing lag. And that’s much earlier than a lot of semiconductor companies even saw, this similar type of industrial, you know, auto type weakness. I’m just wondering, you know, you’ve helped us understand kind of what the cause, maybe the limited visibility, but you know, when did you guys kind of realize you were going to be, you know, dramatically lower at least than maybe where you thought relative to today in terms of, you know, when you reported it? I’m just trying to understand, you know, the process of kind of when maybe you found out and the lag it is in terms of getting from your customer if it’s really, you know, one quarter or a little bit more. I’m just trying to understand that because it seems like the weakness you saw was much earlier than others have been seeing.

Well, if you look at kind of where we expected the quarter to end up and where it ended up, I’d say from a royalty standpoint we were pretty much spot on. And that’s in part because you get those royalty reports early-to-middle of the quarter and you have a fairly good idea of how they shape up, you know, in the middle of the quarter. Where we had the weakness was more on the product sales for our medical products. And so you’re continuing to monitor purchase orders and you know, shipments up until the end of the quarter. And so all the way up through the end of the third quarter, we expected some softness, but we didn’t expect the magnitude, the 3, 4, $500,000 that we did experience. Again, it’s one customer. They have worked through much of their inventory challenges and those orders that we were hoping for did not come in in the quarter. We expect fourth quarter to be similarly soft in the medical space as well. On the automotive, automotive is a combination of royalties as well as NRE work that we do in developing solutions for our customers and partners. And those are influenced by deliverables, milestones and accomplishments as well as orders. So again, the weakness came in our development and product revenues and those really aren’t known until the quarter is over, until you’re at the very end of the quarter.

Okay, thank you. And just one last question for me, and I appreciate your time. Can you talk more about this relationship with the semiconductor companies just because I’m wondering how do investors really track the process in growth areas? You look at the semi and other are around 4% of total revenues. That would suggest I think somewhere quick back in envelop math around 200-and-some thousand, $250,000. You’ve had relationships now for almost a year with some of the larger touch-IC vendors in Cyprus and Mellon and still it’s – it’s still in the, you know, six-figure range, seven-figure range in terms of maybe revenue contribution. And I’m just wondering how should we expect these newly-announced, which obviously brings some better, you know, continued the quality of companies that you’re working with into the fold. But, Vic, how can we maybe track the progress and growth of this market in terms of there’s been some benefit for Immersion in these partnership?

Right. So we are excited by the quality and the quantity of people interested in doing one of two things. And what’s key to understanding the chip business for Immersion, there are two types of relationships that we have. One is, as a certified components supplier. So many of these companies provide drivers or chip capabilities that have nothing to do with the Immersion software solution, but simply they are an enabling component in one of our OEM customer products. And so their driver may be driving the actuator for Samsung, or an LG, or a Noika. So one revenue stream from the semiconductor companies is they pay us as a certified component vendor and that’s the revenue that has been historically the bulk of our semiconductor revenue. And in some of those cases, some of our early customers has lost some design wins and some of that revenue has actually decreased. The second category, the more exciting opportunity is really looking future, is there semiconductor companies embedding our Immersion TouchSense solution into their touch controller chips and selling those into the mobil space, automotive space, industrial products, other markets. And when they do that, then that becomes a substantial royalty strain for Immersion. Those require design wins with this combined chip solution and to date, while those companies have launched products, the number of design wins has been very sparse. So most of our semiconductor revenue has come from certified component vendors as opposed to integrated touch and solution providers.

Okay, thank you very much, gentlemen, for your time.

Thanks, Jeff.

Our next question comes from the line of Darice Lui with Brigantine Advisors. Please go ahead.

Good afternoon, guys. Vic, I wanted to go back to your earlier comment about – I think you said in 2012, market research data say about 2/3s of Smartphones will incorporate haptics in their user interface, licensed and unlicensed. Can you talk about the different haptics solutions out there, outside of yours? And what the comparable landscape looks like right now?

Sure. Essentially, the Android operating system offers haptics, whether it’s licensed via an Immersion TouchSense solution or it’s an unlicensed solution that we would refer to as a basic haptics solution. So I think you’re seeing a dramatic increase in the Android penetration and with that, you’ll see continued growth in the use of haptics in the Android platform. Obviously, in addition to the Android platform, you have Noika who has been a big advocate of Immersion’s haptics and they – we expect them to continue to ship products with the Immersions solution. And in addition to that, you could also look at substantial increase in the use of haptics in the Apple platform, whether it’s in their alerts or whether it’s part of their gaming application, they’re continuing to invest in the use of haptics in that platform.

So in terms of, I guess, the basic haptics solution, it’s not able to do the different types of, I guess the vibrations and motions that your product can do for gaming and things of that sort, it’s just a base type of solution?

Typically, the basic haptics would simply be turn the motor on, turn the motor off based on a touchscreen interface or a gaming application or an alert. So it would be a very basic capability. The Immersion’s solution, obviously provides a level of fidelity and strength and duration that is more context rich for whatever application you are engaged in.

So I guess, going back to my original question, is there any other solution out there that can provide – that is providing, I should say, the contact-rich solution of haptics?

To my knowledge, no. I’m not aware of anyone who’s providing the kind of complexity that we offer.

Okay. I guess the other question from a financial perspective, Sum, you said this quarter’s OpEx is below your usual target of 6 to 6 ½ million. What is the – what should we be looking for for next quarter considering the softness in revenues and when do you think we’ll turn back to 6 or 6 ½ million range?

No, we expect to be in the 6 million to 6.5 million range going forward. Maybe slightly less, but that’s going to be our range in the near term.

And can you remind me what your breakeven level is?

Well, it would depend on the revenue mix, but give certain assumptions in terms of margins, I would imagine that the breakeven is probably something in the neighborhood of 8 to $9 million a quarter.

And then, I know – yeah, I know visibility is somewhat limited, but considering the design activity and the customers that you’re working with, do you have an idea of what your product mix will look like going into next year?

The bulk of our revenue will continue to be the royalty licensing revenue. We expect that to continue to grow substantially. The product revenue is really a medical product that is a legacy of our medical products business that we still continue to sell.

I’m sorry, I meant between mobile and auto and medical, things of that sort, and gaming.

I don’t know that we’re really in a position to give a lot of visibility into 2012 revenue. It’s pretty clear that we expect mobility to continue to grow. We’re seeing continued growth in gaming space and given what we believe is an improving condition in the automotive and new OEM launches, I would expect automotive to continue to grow. Medical revenue really will be tied to product sales of our virtual IV product line. But the licensing revenue from the medical space, we’d expect that to grow as well.

Okay, thanks, guys.

Thanks, Darice.

(Operator Instructions). Our next question comes from the line of Robert Katz with Senvest. Please go ahead.

Hi, Vic and Sum. I wonder if you could give more clarity on when you …

Sorry, Robert, you cut off.

[Inaudible] when you expect [inaudible]-based mobility solutions to ship. And what do you anticipate will happen with the royalty rate on those?

Okay. We expect mobile products to ship in 2012. In terms of royalty rates, those are pre-negotiated so they would be, I believe, a pretty substantial uplift on our ASP. When you compare our TS5000 solution relative to the TS3000, it’s substantially higher.

And to follow up on some of Darice’s questions, the basic haptics, does that infringe on your patents or does that demand a smaller royalty than maybe some of the advanced haptics feature that you have? What do you believe – where do your fundamental patents kick in?

Well, to answer the fundamental patents, I think the three that we’ve talked about recently include a patent that covers multi-tasking. And so the best way to describe that patent would be that if you’re texting or your dialing a number, or you’re playing a game and while you’re engaged in that function you get an incoming call or a calendar alert, so there are two applications occurring, each with a haptic effect, that would be covered under our – we call it our 288 patent, or multitasking. The second is the patent 183 and the 720. And both of those patents have to do with touching a gooey object in the touchscreen environment. So – and that generates a haptic effect. So imagine if you’re texting, as you’re trying or if you’re dialing a number, when your finger touches the gooey object, the number five, then you’ll generate a haptic effect and that would be covered under both of those two patents. So that’s pretty fundamental, touching the screen and getting haptic response is covered by those patents. Going back to basic haptics, in terms of, you know, we referred to that as a simplistic method of generating a haptic effect. But it’s really a question of how is that effect used. Clearly, it it’s used in a multi-tasking environment or it’s used in a touchscreen interface, then that would be something we would want to take a long-hard look at. Just because you offer basic haptics doesn’t necessarily mean it’s infringing, but it would require a fair degree of legal analysis. And those are the things that we’re busy doing today.

Do you feel you would be able to have a blocking stance if someone had that feature in their phone that was not a licensee, that you can stop them from enabling that feature?

It’s hard – this is probably not the best forum to have that kind of discussion, but you know, eventually if someone offers an unlicensed haptics solution that’s covered by one of our patents, then we would aggressively enforce that patents. It wouldn’t be fair to our existing licensees and it wouldn’t be fair to our shareholders not to monetize the patent portfolio. So we will do that. We’ll be cautious about it, but we will be thorough and we will be mindful of making sure that we’re monetizing that portfolio.

I look forward to that. Thanks, Vic.

Thanks, Robert.

Ladies and gentlemen, this does conclude the question-and-answer session. I’ll turn the call back over to management.

Well, thank you, everyone, for being on the call with us today. We look forward to updating you again on our next quarterly call. Have a good day.

Ladies and gentlemen, this does conclude the Immersion Corporation third quarter 2011 earnings conference call. You may now disconnect.