Neonode Inc. (NEON) Q2 2017 Earnings Report, Transcript and Summary

Hello, everyone. Thank you for standing by. And welcome to Neonode's Second Quarter 2017 Earnings Conference Call. All lines have been placed on mute to prevent any background noise. After the speakers' remarks, there will be a question-and-answer session. [Operator Instructions] Thank you. At this time for opening remarks and introduction, I would like to turn the call over to David Brunton, Neonode's Head of Corporate Investor Relations. David, please go ahead and start the conference.

Welcome and thank you for joining us. On today's call, we will review our second quarter 2017 financial results and provide a corporate update. Our update will include details of customer activities, technology developments, and other items of interest. Before turning the call over to Thomas Eriksson, our CEO, I would like to make the following remarks concerning forward-looking statements. All statements in this conference call, other than historical facts, are forward-looking statements. The words anticipate, believe, estimate, expect, tend, will, guides, confidence, targets, projects, and other similar expressions typically are used to identify forward-looking statements. These forward-looking statements do not guarantee the future performance that may involve or be subject to risks, uncertainties or other factors that may affect Neonode's business, financial position and other operating results, which include, but are not limited to the risk factors and other qualifications contained in Neonode's Annual Report on 10-K, Quarterly Reports on 10-Q, and other reports filed by Neonode with the SEC to which your attention is directed. Therefore, actual outcomes and results may differ materially from what is expected or implied by these forward-looking statements. Neonode expressly disclaims any intent or obligation to update these forward-looking statements. At this time, it is my pleasure to turn the call over to Thomas Eriksson, Chief Executive Officer of Neonode. Thomas, please go ahead.

Thank you, David, and good day, everyone. First, I would like to introduce the people we have on the call today. Together with me today Lars Lindqvist, our CFO, who will discuss on financials; and we have Mr. Remo Behdasht, our VP of AirBar business who will provide a brief update on AirBar. Following the recent exciting launch of AirBar for MacBook Air. First let me start with a specific update. Digitalization is rapidly transforming companies and sectors creating economic value from new products and services. This brings a fantastic opportunity for Neonode to help OEM Tier 1 companies across the world allow to grow by fueling innovation and driving differentiation from their peer using our patented MultiSensing technology embedded into our hardware module for a wide range of devices ranging from automotive sensors and applications to consumer electronic products. I firmly believe that sensing technology is profoundly going to change to way humans interact with machines. Not only touching displays but also interacting with devices, touching defense materials in many shapes of forms. We also see a growing demand from machine to machine sensors for robots and artificial intelligence from them. With that said, I'd like to share with you some of our recent accomplishments and our strategic plans for Neonode. To capitalize on our investments, and our most valuable assets the zForce technology, our broad IP portfolio and our newly developed advanced production processes and our strong worldwide client relationship. We are now ramping manufacturing and selling our multichip sensor modules to our customers. By providing our technology encapsulated as modules along with our license business, we have positioned our company to move up in the value chain. We have module to address a larger diverse market than with our licensing business. We have a plan to expand our customer base, which we believe will generate substantially higher revenues. We have recently found more application in markets for our sensors. Using the same hardware, software and the same manufacturing process, this makes it possible for us to move into new markets and new customers, without any new development. Our new zForce air modules can be used not only for touch screens but also in many other sensor applications. Like in interior and exterior cars and two and three-dimensional measurement inclusion of - in door entry system and sensing control to name a few. In addition, our objective is to provide different sensor for self-driving cars, like our optical sensors embedded into steering wheels and sensors that can help us to navigate in 3D space. We believe that our total addressable market for our multi-functional sensor models now exceed US$10 billion per year, ranging from applications in automotive and consumer electronics sectors. In this context Neonode technology is becoming increasingly relevant. Moving out over to our sales. In the second quarter of 2017, we reported net revenues of $2.3 million and US$1 million loss. This is not satisfactory, I'd like to walk through some of our new model of sales strategies that I believe will help us to grow our hardware module business and improve our sales numbers in general for our B2B business. First, to address the broader market, where we typically see low to medium size orders, we have final agreement with DigiKey selling and distributing our modules. They will work actively with our sales team to promote our modules to their plus 2 million customer base using email, web marketing and onsite customer visits. Second, to address new larger OEM customer opportunities and yet go after new market segments, we are working with partners like FT Micro and Texas Instruments to reach out the last Tier 1 OEM and ODM that are geographically spread all over the world. These company possess big sales teams of 1,000 of people and it can leverage their connections and networks to sell and promote our module. This has already been done successfully with our licensing business creating an impressive customer base with a market presence of today over 50 million devices using our technology. Third, we actually work with our current customer base for them to adopt modules in current and new products development. Such as printers and automotive touchscreens. In addition, we are exploring new category of products, such as flexible displays for mobile devices, interior and exterior sensors for the automotive market. Fourth, we supply our modules in different sizes with different interfaces to fit into all kind of products and systems. In addition, we also provide development kits to our customers to quickly evaluate our technology and speed up time to market. And the result of all of these activities is that we now have already three new customers that are going to embed our modules into their devices ordering parts in 2017 and more to come from our sales pipeline. I would also like to comment on our recent financing. To support our growing business, we're very happy to announce the closing by replacement in Neonode the Swedish tech investors who are long-term in their view of Neonode and the opportunities it has. I look very much forward to working together with the new team on board and with actions announced today, I believe we are very well positioned to further strengthen Neonode as the leading supplier of advanced optical sensors. With that said, I leave the word to Lars, who will present the financials for the second quarter in more detail. Lars, go ahead.

Thanks Thomas. You can find our second quarter earnings release and thank you available for download from the Investors section of our website at neonode.com. I'd like to start off with some highlights and important milestones for the quarter. First, over the last three quarters invested approximately US$5 million in setting up and building out a production facility, building inventory and hiring and training the necessary staff needed to manufacture sensor modules for AirBar and embedded modules for our B2B customers. Our operating expenses are going to plan and currently run rate $3 million per quarter. And as Thomas outlined, we're increasing our focus of sales and marketing to grow our module business to become profitable. For the second quarter this year, our operations used $700,000 of cash compared to $1.2 million for the second quarter of 2016. Going forward, we are tracking and reporting our business by three separate revenue streams, which are, licensing, business-to-business hardware modules, and business-to-consumer product AirBar. The $9.8 million we received from the private placement to strengthen our balance sheet and provide us with the liquidity to grow our business. Net revenue of $2.3 million for the second quarter of 2017 decreased 10% from the comparative quarter last year and remain essentially flat compared to the first quarter. The key element of the decrease is mainly related to the expected lower and a receive as a result of the fewer full customer signed projects for our license business. 84% of our revenues for this quarter came from our licensing business and picked up revenues from sales of modules to become a larger percentage of a total revenue going forward. For the second quarter of 2017, our customers who license our technology shipped 2.7 million devices with an average license fee of $0.74 compared to second quarter last year, where customer shipped 3 million units with an average license fee of $0.67. Total license fees for automotive business for the quarter was $700,000 and $1.3 million for our consumer business which is flat compared to last year. Our gross margin was 84% for the second quarter compared to 85% last year, primarily due to 100% gross margin license fees becoming a smaller proportion of a total revenue. There was negative gross margin on AirBar sales in the three months ended June 30 due to additional production cost related to the initial production start and tuning. Operating expenses decreased 10% to $3.1 million for the second quarter compared to $3.5 million last year. Our net loss for the second quarter was $1 million or $0.02 per share compared to net loss of $1.3 million or $0.04 per share for the second quarter last year. The inventory is a key component in the business going forward. We have some ongoing lead time Neonode specific component that are used in all our sensor modules. We monitor these component levels in our inventory to make sure we have sufficient quantities on hand to meet the customer requirement. Inventory increased $1.4 million in the first six months of the year to support increased production to beat modules and AirBar and defense prices. The production of sensor modules for firstly embedded module customers and sensor modules to be used for embedded B2B sales and marketing support. So now I would like to turn the call over to Remo.

Thank you, Lars. Good morning, everyone. For the first half of 2017, we completed significant milestones setting up our AirBar business. Notably, there were three key milestones, firstly, the development and set up of an advanced production process for our sensor modules to power all AirBar products. Second, launching the full range of AirBar consumer products for Windows 10 and Macbook Air laptops; and third, the establishment of the distribution and the retail network that is enabling us to deliver AirBar to a global market. Here is some color on where we are and what we are doing to build our AirBar business. The investment in the AirBar business unit has been relatively low in the initial stages as far as sales and marketing are concerned. AirBar was a vehicle we used to test, refine, verify and complete our zForce air sensor module production capabilities. As with all new technologies there was a great deal of trial and error until we had feasible production yields and a complete marketable product. This has been seriously challenging, but all our efforts have rendered us an award-winning technology and product. In Q2, we started shipping the full range of AirBar devices covering laptops with screen sizes 7.3 inches, 14 inches, and 15.6 for Windows 10 and also the much anticipated AirBar for Macbook Air. AirBar is now available in the US through the largest online retailers and also instore at Fry's Electronics and rolling out into selected Apple authorized retailers. We have started our initial marketing activities with walmart.com and are now in discussions with Walmart stores for a spring 2018 store rollout. Furthermore, we are working with Staples in the US and Reliance in India to be our next major retailers that will rollout AirBar into their stores in time for the 2017 heat shopping season. AirBar will be featured in more online activities on Walmart and Amazon.com. In the US, plus Amazon in the UK, Germany and India. Last week, we had our first AirBar TV commercial with Macbook Air in Sweden. This was with the largest retailer Media Mart which we anticipate will set the same for similar activities throughout Europe. In September, we will commence placement of the AirBar Lighthouse a point of sale display that is designed to showcase AirBar at the retail level and grab customers attention. Customers will start seeing the AirBar Lighthouse in key retailers where we have presence. September will also mark the commencement of our retailer sales staff training and incentive program in order to gain sales momentum for big shopping season. We are now receiving support from Microsoft to increase our visibility with key retail decision making. Microsoft see AirBar as it remains to have more people using touch on their current Windows 10 devices, so when they upgrade they buy a touchscreen device or what Microsoft called the modern PC. Microsoft sees AirBar as a great complement to their Windows 10 platform and we expect more activities with them in the near future. In the second half of this year, you will see more of AirBar at all levels including greater retail presence, product promotions, retailer bundles and DirectTV sales volumes. I would like to say that establishing AirBar has been really challenging far over and above our initial anticipation. We had hurdles at each stage which we had to overcome and this all contributed to progress taking much longer than we wanted. Having said that, it is important to stress that a great deal has also been achieved with very limited resources and a short-time span. We are now at a point where we can start benefiting from our invested assets as we increased our sales, marketing and retail activities greatly and we are very positive about the future of our AirBar business. I would like to now hand you back over to Thomas.

Thank you, Remo for that extensive information about AirBar. We will open the call for our Q&A session now. Thank you for listening.

Our first question comes from Mike Malouf of Craig-Hallum Capital.

Great, thanks for taking my questions. I just want to flush out a little bit more on AirBar, it sounds like there is a lot of activity. How was the production of AirBar now, I know you have did obviously a lot of trial and error as you pointed out? Can you give us a sense of where production is now is there any kind of issue with regards to the number that you can produce right now?

Yes, very good question actually. So, production is, yes, as I mentioned in my remarks, the production process does take a lot of more time than we anticipated. And what we wanted to do is before we do full scale marketing and sales to get the product right. So, it has taken a bit longer than we wanted, however now, it's at a point where depending on the orders that we get and the volume or order we get we will be producing based on that demand and production is really after all fine tuning that we've done at a point where we can - we will be able to deliver great demand when we start generating them. So, production is in a good position right now.

Okay, great. And maybe you can give us a little bit of color on demand trends, you've obviously placed it, starting to place it in some new areas and you have all of the sizes and have the MacBook Air. Can you give us some sort of recent color on things as the unit sales in the first two quarters were quite low, how does it look for you as you look into the next two quarters in the back half of this year?

Well, I'm very positive about how it looks for the next two quarters. Realistically, from my remarks it has taken longer than we wanted it to and the excitement of the product we obviously wanted it to be much quicker than the market was willing to go with. The market, I think of the market as a massive engine which we need to see into the call. And that's essentially what we were. And some of the advisers for the smaller sizes came in late Q2, so they haven't really had a chance to really have a good run. But what's happened is which is really important from the retailer perspective, is that they see now that we have a range and a lot of retailers don't give you too much focus or too much let's say marketing incentives and marketing activities that basically have just one product. Because that's all the conversions a smaller percentage of their markets were only a percentage, a fraction of their markets. Now we have something completely unique, we can address the majority of their existing customers as well as their previous customers. When we are in let's say not only one the websites, but in their shop close, we actually look like we are a substantial product and a range. So that's why conversations have been not, were not, let's say retailers we're not interested in earlier, they are now calling and saying, now we can talk because you addressed a greater percentage of our customers. So as far as the - that's the range however, with regards to breakdown the 15.6 is still going to be the highest volume because that is really the highest volume it will have of any laptop out there. And then big asset - excuse me just quite one second. And a big asset is now being placed by the PC OEMs on the 14-inch size. So, we see the 15.6-inch and the 14-inch for the Windows 10, and of course the 13.3-inch MacBook Air versions being top three sizes. The fantastic thing for us is Apple has decided to continue the MacBook Air which is really good for us and therefore we're getting a lot of interest and support from the Apple authorized retailers who are looking for an accessory to sell with as many of their devices as possible and AirBar is something very interesting to them. So, I am very positive of the second half and there is a lot of interest, we can't give you numbers because we just - right now we just don't know, this is all happening. We are talking deals which are quite substantial but we are also talking about making sure we have a sustainable business going forward and that's where we are at the moment.

Okay, great. Thanks for the color. And maybe one question for Thomas. You mentioned the three new customers on the sensor module side, I didn't quite get all the details or maybe I missed that. Could you give us a little bit of color on those three customers and maybe sort of the pipeline of types of customers that you mentioned that were subsequent to that?

These customers are all in the consumer space, so it's actually new customers, we of course working actually with the current customers to transform them into our modules, but these are three new customers in the consumer space. There will be quite limited volumes initially but we surround during the course of the year. So, modules will be built according to this and this is our first portion of our module that's going to actual products, except AirBar.

And what will those modules run at roughly, what kind of prices are we talking about?

These modules typically run around $20 price in average. So, compared to a license business would be 20 times more in terms of revenue.

And as you look into 2018, what type of potential volumes are we talking about, what kind of needs for these products are out there?

We looked at the market for consumer space and automotive space a little bit different, but we as I said before, we see that rest of the market to be quite significant, because we identified a lot of new areas where we can use this sensor for different application. So, going from your touchscreen applications with the new areas like drones and robot, games we are working with customers making legislate the mobile phones and tablets. With really the hand control, 3D body scanners, some furniture with a key effort on them. And of course, also the print customers are the markets we'll go after. But in terms of rollout we see of course AirBar is the first product in the market that we primarily go after touch replacement for different products and then we go into the interior of cars for different sensors, we work in actively with entry systems for next year and we have already customers for door handles and tailgate sensors for beginning the shipment in Q1 2018. And in parallel with that, the company is also working on the qualification of such automotive standards that we expect to be completed by end of the year, which is important to start shipments direct to Tier 1 and OEMs.

Okay, thanks for the help. Appreciate it.

Our next question comes from Viktor Westman with Redeye.

Hi, guys can you hear me?

Yes, we hear you.

Yes, okay. First, I wonder if you can give an update on the Autoliv deal there, we know Autoliv has closed some customers here when can you announce that for instance or just a general update what's going on here?

Regarding, I talked earlier about self-driving cars an important part of that is steering wheel, so a lot of different OEMs are currently working to put these cars in the market with the different levels of autonomous driving capabilities. But in terms of Autoliv which is our partner for steering wheel, we are completing a series of qualifications both in software and hardware and we're working along with them and begin the sales process to approach different OEMs. We have advanced programs with a series of different OEMs but we can't disclose at this time, but we believe this product resulting that hopefully going to go in the market 2019 and 2020. And along with that, we're also working with other parts of the steering wheel which for example the touch areas around steering wheel and we have a series of different projects for that as well, which has quite substantial volumes. So, the rollout for that might be that these types of sensor will come up before the steering wheel and hit the market before. So, we have fairly good sense of entry system and potentially to track paths around, track pad kind of touch systems in the car, that's going to come out before the steering wheel.

Okay. I understand. Can you comment on the license revenue, maybe this is a Lars question on the licensing fees there why it was not growing from Q1 there and what part is it related to printers or e-readers?

Hello, Viktor. Lars here. Well, it is basically in combinational difference - it first move was overall decline in revenues related to the lower proportion of analysis due to less customer side projects. In counter licensing, it is basically mix from consumer services, consumers with relatively low license fees per unit and - coming from new customers and automotive customer with higher license fees. So, it's a mix of things, but we still expect our license fees to grow continue to grow slightly up, very much related to both sensor and automotive.

Yes, okay. One last question on AirBar have a bit of a follow up here. If you can comment on the AirBar demand for Macbook Air, you see that you have a lot of more tailwind there to say in the Windows version?

If you go to any retailer right now, you will see devices like Windows laptops you'll see them with the touchscreen. You will see some ones without and some with, but nowhere can you go where you see a Macbook product with a touchscreen. And this is really where the Apple, at least, not the Apple stores unfortunately yet, but the Apple authorized retailers are very excited because they don't have an option of selling a touchscreen Mac or a non-touchscreen Mac. They make very low margin on the actual Apple products themselves, so they really look to sell as many accessories and that's sort of on-attachments to these devices as possible. And they see AirBar as a really, really good attachment. So currently, we are working with our distributor, Ingram in the States because really that's where the big season big demand is happening. And now we're also getting a lot of activity happening in Europe as well where sub-distributors want to be part of the deal where they specialize in addressing a number of focused retailers, who specialize in Apple products. So, this is not just like you get listed on Amazon.com and then it's available everywhere in the country that it takes its process and this just because we brought out the product doesn't mean there is going to be a massive spike in sales there will be an initial spike but to actually grow the business it's a project. And that project means that we're addressing these retailers, making sure they know that the product, make sure they know this is the way to scale up and what support there is and what warranties there are. You like people with - the whole package actually goes in to selling a product into various retailers. And as good as AirBar for MacBook Air is it still needs to go through that process and that's what we're currently doing. So, we anticipate and by all accounts from the feedback we're getting from people who see this and I'm sure people use working to as soon as the product which we're going to work and work very, very well and people are going to want it. And I think our first evidence is when a big retailer like Media Mart believes enough where they're going to put this thing on National TV, but that's of course - and of course we have the other retailers coming on board, which we can't mention too much yet, in the US as well.

Sounds good. Thank you very much.

Our next question comes from James Medvedeff with Cowen.

Good afternoon, guys.

Hello, good afternoon.

So, let me just follow-up on AirBar a little bit more. Once you open up these direct channels through - where do you see the longer-term mix of business between direct channels and indirect channels?

Sorry, when you say direct channels, do you mean like going through a distributor as opposed to going. Can you explain a bit what do you mean by that?

Yes, so, I guess going to distribution versus going direct through your website.

Okay. No, we are not - to go - to make a product available on a website, and then take an order and then of course fulfill that order is not the business we are in. Initially we took pre-orders just to get like a test demand and what sort of demand there would be for our product. But it's not the type of thing, we want to get into. We will always go through a distribution channel, because not only does that give us reach, but also gives us a lot of flexibility. So, we can focus on what we do which is developing a technology, developing the product, working on sales and marketing and building the brand. But then someone like in Ingram Micro or other distributors that we're currently looking to bring on, they would focus on their core strength and that process becomes a lot more optimized than if we start selling this to the public. So, that was something we did initially and is not something we are going to do anymore ever again let's say.

Okay, thanks. But so, for example when you sell through Amazon, you would still use a third-party distributor to fulfill those sales?

Yes, so what happens with Amazon. Amazon is a little bit different to let's say a walmart.com. In the US we have one customer, direct customer and that's Ingram Micro. This is just the example for the US, so let's just use that as the base. We have one customer, so when someone when Amazon wants the product, they already have systems established with Ingram Micro. So, Ingram lists us in their inventory system. Amazon then actually places and order for a substantial - for a certain amount of products. For example, let's say 15.6 which they carry in their own warehouse. And then that way you become a product which is available on Prime, for Prime members and then that can guarantee your delivery date and so on.

Okay.

Amazon actually buy products from Ingram and then hold it in their own warehouse. Amazon is not a customer of ours, they are technically a customer of Ingram Micro. However, we work with Amazon to make sure the listing is presentable. So, then what we want to always get is the Amazon buy button which is really, really important. If you have that, then that means people can order it and all the Prime members who are loyal to buying stuff from Amazon and so on they'll get deliveries let's say the next day or the day after. Walmart is different, we have a very close relationship with Walmart, but they are different. They actually don't carry any product. So, what happens is when someone goes to a Walmart, places an order, then Ingram Micro actually drop ships that directly to the customer. So, what the customer gets is a box, with containing AirBar and on the packaging other box that actually has Walmart stickers on it. So, you think it's coming from Walmart, but it's actually coming from Ingram Micro. So, they fulfill that, I'll do that for Staples, I'll do that with any customer of our that we'll start working with Microsoft, so we'll fulfill Microsoft. So, we won't be doing any of that dealing with those retailers ourselves.

Okay, perfect. In the past, you've provided some numbers around unit numbers for e-readers, automotive and printers and also some sort of annual forecast for those unit numbers. Can you provide any of that today?

Lars here. Well I can give you the summarized picture that during the second quarter it was as I said, maybe I said earlier $2.7 million in June sort of revised by our customers. And out of that it just made up approximately $600,000, and print is around $1.8 million and automotive little bit above $300,000. So that's the mix and we have the - the over seasonality because they are high in first quarter because than they the Christmas sales that effects reports again and again.

Okay. And how do those lineup with your expectations or with those change in annual total unit forecasts?

Well, I think what we have discussed earlier. If I summarize it, I mean we have license revenues around $2 million plus level and we expect it to slightly increase. We have operating expenses of $3 million and it basically it gives bottom line of $700,000 to $1 million. So, what we believe that, what we need to get to say profitability is the revenue for modules and AirBar and we expect that to increase over the years. So, I think and also adding to these what does it mean, what we need from AirBar modules. Well, we have a range $2.3 million to $2.5 million of license revenues with - module, we would like to have $700,000 to $1 million and that would represent say AirBar to somewhere of $1.5 million to $2 million in revenues. So that is - that's my outline.

And at that level of sales for Airbar would you expect the gross margins. I know the gross margin was slightly negative this quarter. I assume that's because of start-up costs and all the things you mentioned in the prepared remarks about ramping and production process put in place retail channels open. How would you expect gross margins to track for that business through the rest of the year?

As the volume, so as the volume increased the production volumes affected the manufacturing costs, but we're expect it to top by at least 50%.

Okay. And my final question is on expenses. So flat quarter-over-quarter very good, down year-over-year. How should we think about those for the rest of the year as sales ramp?

We basically expect them to stay in that level because that we talked about that in the last quarter, where it went down from quite a high level where basically we're in top three growth of developing the module concept and all that. So, the $3 million that's where we expect it to stay, plus minus a little bit and more focused on safer marketing, rebalancing a little bit from heavy engineering and also accruing the base marketing focus.

Great. Thank you.

Ladies and gentlemen that does conclude the Q&A session for today's call. This also concludes for today's program. You may now disconnect your lines and have a wonderful day.