QuickLogic Corporation (QUIK) Q2 2017 Earnings Report, Transcript and Summary

Ladies and gentlemen, good afternoon. At this time, I would like to welcome everyone to QuickLogic Corporation's Second Quarter 2017 Results Conference Call. [Operator Instructions] Today's conference call is being recorded. At this time, for opening remarks and introductions, I would like to turn the call over to the company's Investor Relations representative Ms. Kirsten Chapman of LHA. Ms. Chapman, please go ahead.

Thank you, Letiffe. Welcome, everyone, and thank you for joining us today for QuickLogic's Second Quarter 2017 Results Conference Call. With us today are Brian Faith, President and CEO, and Dr. Sue Cheung, CFO and Vice President of Finance. Before we begin, I will read a short safe harbor statement. Some of the comments QuickLogic makes today are forward-looking statements that involve risks and uncertainties, including but not limited to stated expectations relating to revenue from new and mature products, statements pertaining to QuickLogic's future stock performance, design activity and its ability to convert new design opportunities into production shipments; timing and market acceptance of its customers' products; our future evaluation systems; broadening our ecosystem partners, expected results and financial expectations for revenue, gross margin, operating expenses, profitability and cash. These statements should be considered in conjunction with the cautionary warnings that appear in QuickLogic's SEC filings. For additional information, please refer to the company's SEC filings posted on its website. Investors are cautioned that all forward-looking statements in this call involve risks and uncertainties and that future events may differ materially from the statements made. These forward-looking statements are made as of today, the day of the conference call, and management undertakes no obligation to revise or publicly release any revisions of forward-looking statements in light of any new information or future events. The conference call is open to all and is being webcast live. We will start today's call with the company's strategic update from QuickLogic CEO, Brian Faith. And then CFO, Sue Cheung will provide financial results and guidance. Brian will deliver closing remarks and open the call to questions. At this time, it is my pleasure to turn the call over to Brian Faith, President and CEO. Please go ahead, sir.

Thank you, Kirsten, and thank you all for joining our Q2 2017 conference call. We have made significant progress since our last conference call. This includes an increase in the quantity of new engagements, notable improvements in the efficiency of our engagement process, and the number of engagements we have converted to design wins. We have also received anticipated production start dates for a number of these design wins and late-stage engagements. With this momentum, we are well positioned to initiate sustainable growth starting with Q4, 2017 and achieve our target operating model in 2018. However, key designs that we anticipated fueling our targeted 50% growth this year have been shifted one to two quarters forward and that has lowered our outlook for Q3 and Q4, 2017. While reducing our outlook for 2017 is clearly disappointing, our growth drivers are intact and our design win momentum has improved significantly during the last quarter. I think this momentum will continue to build and look forward to sharing with you today why I'm more optimistic than ever in the future of QuickLogic and why I believe so strongly we are well positioned to deliver sustainable revenue growth beginning next quarter. Let's start today with an update on our embedded FPGA IP business. To briefly recap, our IP business model has two licensing elements. The first element involves licensing semiconductor foundry partners to manufacture ICs that include our IP. The second element involves licensing semiconductor companies and OEMs that design the ICs incorporating our IP. In the case of semiconductor companies and OEMs, licenses are negotiated for each specific IC that includes our IP. In addition to the license fee, semiconductor companies and OEMs will also pay a royalty for each IC that is shipped to end customers, or in the case of OEMs, used internally. Due to the long development cycles common for semiconductor devices, I think it's reasonable to model royalties will begin about 12 to 24 months after a license agreement is signed. So far, we have licensed two semiconductor foundries. Last year, we announced a license agreement with GLOBALFOUNDRIES, covering its 65 nanometer, 40 nanometer and upcoming 22 nanometer FDX nodes. Prior to this agreement, we qualified our eFPGA IP on GLOBALFOUNDRIES' 65 nanometer and 40 nanometer nodes. We anticipate the test chip for the new 22 nanometer node will be taped out in Q4, 2017 and qualified in Q1 2018. Earlier this year, we announced a second semiconductor foundry manufacturing license agreement, which we can now say is with SMIC, for its 40 nanometer process node. We successfully taped out the test chip on schedule in Q2 and are targeting completion of our test chip qualification with SMIC later this quarter. In June, we announced that Bernie Rosenthal joined our advisory board. Bernie was a co-founder of Tensilica, which was a high-profile semiconductor IP company prior to its acquisition by Cadence in 2013. Bernie was the architect of Tensilica's business model and led negotiations for over $80 million in license contracts with top-tier semiconductor companies and OEMs. Bernie is supporting us as we refine our IP business model and enabling us to leverage his portfolio of high level industry contacts. In conjunction with our new eFPGA support center in Taiwan, this is helping us drive a very efficient engagement process with our targeted partners and customers. We have ongoing engagements with a number of leading semiconductor companies and we believe we will sign license agreements with at least one, and possibly several of these companies later this year. As you may recall from past presentations, license fees are typically paid up front. This means license revenue will flow upon payment to our balance sheet and cash flow statement. However, for our income statement, revenue is amortized ratably across the term of the license and recognized over time. Due to the fact this amortization schedule can vary considerably from deal to deal, we are not yet in a position to forecast when the license revenue we expect to invoice during Q4 will be recognized on our income statement. Now, let's move to Sensor Processing. We are seeing some distinct improvements in the outlook and use cases that are very favorable for QuickLogic. A recent report by Daniel Associates predicts the discrete sensor hub market will be roughly 680 million units in 2018, growing to over 1.5 billion units in 2022. Roughly only a third of this volume is in the consumer market, with the remaining volume spanning multiple markets across automotive, industrial, healthcare, telecommunications and others. We have taken steps during the last year that I believe will significantly improve our ability to address the breadth of these markets during the next year. In many of these non-smartphone applications, our unique multi-core EOS S3 platform provides customers with a very attractive value proposition that not only minimizes power consumption and enables new features, it also enables designers to reduce the number of ICs needed to support the design goals, and more recently in some cases, helping our customers shorten their new product development process. Because of this compelling value proposition, our average selling prices, or ASPs, for EOS S3 is trending about 50% higher than we anticipated it would earlier this year. When coupling higher ASPs with the increased forecast for unit volume and broader market adoption of discrete sensor processing ICs, we believe the dollar value of our Served Available Market is significantly larger than what we envisioned it was as recently as six months ago. Now, let's move to wearable, hearable and IoT engagements. As I noted last quarter, the Tier 1 customer that is using our EOS S3 in its new wearable design decided to upgrade one of the sensors last quarter following initial field testing. I can't be more specific about the sensor upgrade other than assuring you it did not affect the use of our EOS S3 in any way, and that the primary goals of the rigorous testing are to optimize the design for data accuracy and battery life. With the sensor change completed, we are currently working with the customer's manufacturing engineering group to prepare for the production launch while additional field testing continues. The continued field testing and extreme focus on optimizing this design for data accuracy and battery life could lead to further delays, so we are not including any revenue from this design in our Q3 guidance. We have built up an inventory of EOS S3 to handle any upsides to this current outlook. In parallel with the ongoing efforts to bring its first EOS S3 design to production, this customer has recently made wearables and hearables a long-term strategy, and with that, a strategic commitment to include always-on voice capability in future designs. We are working closely with this customer on two new high-volume consumer wearable and hearable opportunities that are targeted for mass production during mid-2018. In February 2017, I noted that the unofficial theme for the Consumer Electronics Show in Las Vegas was “voice is the next interface.” Since then virtually every wearable, hearable and IoT opportunity we've encountered incorporates always-on voice capability. We expect this trend to accelerate as use of cloud-based digital assistants like OK Google, Siri and Alexa become more prevalent, particularly in large markets outside the US. Our recent design wins with Qiwo and our collaboration with AISpeech to enable its digital assistant on the new Qiwo hearable designs are just two examples of how we are leveraging this trend. Since our EOS S3 SoC is the only multi-core MCU-based device in the market today that includes hardware-integrated Low Power Sound Detection or LPSD technology, we can enable always-on voice applications at substantially lower power consumption than any of our competitors. This advantage, and the almost universal focus to include always-on voice in new wearable, hearable and IoT designs, benefits us in many ways. It has led to a meaningful increase in the quantity and quality of new engagements. It enables customers initially attracted to EOS S3 for its unique ultra-low-power voice capabilities to reduce cost and further lower the power consumption for their new products by integrating other system functions into the multi-core architecture and embedded FPGA resources uniquely native to EOS S3. It has led a number of customers to select EOS S3 for their targeted wearable, hearable and voice-enabled IoT applications more quickly than we have seen previously, and with that, shorten the engagement process. Due to the recent acceleration of the engagement process, the resulting design win activity, we expect several wearable and hearable designs will move into production during Q4. Our recent announcements regarding the Qiwo and Janyun design wins are two examples of this improved efficiency. Qiwo and Janyun are Chinese ODMs, which means they develop products that they subsequently manufacture for OEMs under private label agreements. With this business model, ODMs leverage a single platform design across multiple OEMs, and the more flexible the platform, the greater the volume potential. Both companies' CEOs have stated an intention to use the EOS S3 SoC solution in current and future designs, and acknowledge the highly integrated solution provides not only an ultra-low-power and cost-effective solution for their designs, but also that the flexibility of the EOS S3 enables them to address multiple OEM use cases from a single platform. This ability to extend the leverage of a platform is a huge value proposition for ODMs. There are some very noteworthy aspects to both of these design wins. In the Janyun wearable design, virtually all of the resources of our EOS S3 are leveraged. This includes the use of the integrated ARM Cortex M4F as the host processor, our patent pending Flexible Fusion Engine, or FFE, for sensor processing; our hardware-integrated version of Sensory's Low Power Sound Detection technology, or LPSD, and Sensory's TrulyHandsfree technology for voice recognition; and FPGA technology as a display driver and GPS interface. The EOS S3 SoC is the only single-chip solution in the market today that is capable of supporting these features and providing the flexibility required in this design. Qiwo, which was founded as a joint venture with Qihoo 360 Technology, a large Chinese company that is traded on the New York Stock Exchange, selected our EOS S3 for a new hearable design that leverages AISpeech's digital assistant. AISpeech provides cloud-based voice-enabled AI assistance in the Chinese market similar to what Amazon does with Alexa in the U.S. market. In the Qiwo design, our EOS S3 is used as the host processor, and our hardware integrated LPSD enables ultra-low-power always listening technology to recognize the trigger word for the AISpeech digital assistant. The EOS S3 is the lowest power single chip solution in the market today that can support the needs of this application and we believe future designs will more fully utilize EOS S3 resources. Based on what we've been told by Janyun and Qiwo, we anticipate production shipments to support initial OEM orders will start in Q4 2017, and they have also stated their intent to use our EOS S3 in future designs. On our February conference call, I mentioned several major app companies are in the process of expanding their business models though the development of new hardware products that are designed to leverage their already widely deployed software applications. Our early involvement with major app companies as ecosystem partners has given us an inside track in this market, and so far, enabled us to win two designs that we believe will enter production during Q4. One of these is for a wearable and the other is for a hearable device. We are optimistic that there will be a press release for at least one of these design wins later in Q3. In addition to these design wins, we are engaged with one of China's largest ODMs for a new hearable design. If we're successful, I believe the design will move into mass production during the first half of 2018 and broaden our channel into large OEMs targeting the rapidly emerging hearable market. We are also beginning to see strong interest from voice-enabled IoT OEMs for smart home products. If we're successful, I believe these designs will also move into mass production during the first half of 2018. We are still in the early engagement stages with the tier 1 voice-enabled cloud-based IoT provider I mentioned last quarter. We have a very restrictive NDA with this company, so all I can say at this juncture is that we are making material progress in this engagement. Let's turn now to the smartphone market. We are getting very close to being able to classify the first of our ongoing smartphone engagements as a design win. If we are successful, we anticipate initiating shipments to support production during Q1 2018. This opportunity has shifted roughly two quarters from our original production timeline expectations. While delays are frustrating, the good news is that the design has expanded from a simple sensor hub function to one that now includes a carrier-driven requirement for always-on voice as well. This means the design will leverage several elements of the EOS S3 silicon platform including ARM Cortex M4F MCU, LPSD, and FFE. This puts us in the lead position from a competitive standpoint since we are the only multi-core MCU-based solution in the market today that can address all of these in a single chip. There are other smartphone engagements where OEMs are evaluating our recently announced barge-in feature. Barge-in leverages our hardware integrated LPSD for ultra-low-power always-on listening and our recently added acoustic echo cancellation technology. Barge-in enables a variety of always on, always listening use cases. For example, with a barge-in feature, a smartphone can hear trigger words such as OK Google, Alexa and voice commands like Answer Call when a smartphone is playing music or a ringtone. If we win these designs, we anticipate initiating shipments to support production during the first half of 2018. In addition to the progress we've made in our IP and Sensor Processing Initiatives, we continue to win new Display Bridge and Connectivity designs. These include a new educational tablet design win for our Display Bridge and a new IoT module that is using one of our connectivity solutions. We expect the tablet will move into production in Q4 and the IoT module will move into production during the first half of 2018. While we are forecasting relatively flat revenue from Display Bridge and Connectivity for Q3, we are expecting a sequential increase in Q4. We believe this will be driven primarily by stronger seasonal demand for tablets and the new promotion from Motorola that is bundling its Moto Insta-share Pico Projector, which uses our Display Bridge solution, with purchases of Moto Z2 phones and Moto Mods. Before I turn over the call to Sue for her financial report, I want to take a couple of minutes to provide a higher-level view of the trends that are driving customer interest today, and I believe will drive our long-term growth and profitability. Prior to launching our Sensor Processing strategy, QuickLogic was operating on the wrong side of Moore's Law. By that I mean we were integrated out of designs far too quickly. Our Sensor Processing strategy puts us on the right side of Moore's Law. Today, we are the integrator. Most of the designs we are winning are driven by the unique integration of our EOS S3 multi-core SoC that includes a hardware integrated version of Sensory's Low Power Sound Detector, our proprietary FFE technology, embedded FPGA and number of other peripheral functions that don't make the headlines, but are valued by our customers. I can safely say we are the only semiconductor company in the world today that offers these technologies and capabilities in a single chip. The challenge we faced a year ago is while we had the most advanced sensor processing SoC in the market, we didn't have the tools customers needed to efficiently complete designs. With these now in place, we're seeing engagements move forward more efficiently and with less direct support from QuickLogic engineering. These tools have also helped customers more fully utilize EOS S3 resources, and that adds to the stickiness of our designs. When coupled with the leverage we get from our expanding base of ecosystem partners, these tools are enabling us to convert engagements to design wins more quickly. We believe this will not only fuel our growth, but will also enable us to address a broader customer base. A subtle, but important benefit of these design trends is that they have the potential to create a positive spiral of events for QuickLogic. As customers develop software to take advantage of the unique resources of our EOS S3 platform, the designs become very sticky. Perpetuating this trend is the fact the customers want to leverage their software investments by using EOS S3 in future designs. These trends also enable customers to shorten design cycles, lower the cost of new product development and bring new products to market more quickly. In parallel with our efforts to build out the software and tool ecosystem for EOS S3, we launched our eFPGA strategy. This business model is also on the right side of Moore's Law. Due to the tiny geometries used by leading fabricators today, our customers can include a small, but valuable amount of embedded FPGA in their ICs for only a few pennies of variable silicon cost. At the bottom line, I share your frustration with the delayed schedules that cause us to reduce our expectations for 2017. However, our growth drivers are solidly intact and the overarching trends driving our business and our ability to win meaningful designs has improved. With that, I believe we are very well positioned to initiate sustainable new product revenue growth beginning in Q4 2017. When I look beyond 2017, I believe we are uniquely positioned with the right solutions, ideal market trends and customer engagements to deliver our target operating model of greater than 50% revenue growth at a non-GAAP gross margin range of 45% to 50% in 2018, and as our revenue ramps, report a non-GAAP operating profit range of up to 10%. Now, I will turn the call to Sue.

Thank you, Brian. Good afternoon and thanks to everyone for joining us today. Please note that we are reporting our non-GAAP results here. You may refer to the press release we issued today for a detailed reconciliation of our GAAP to non-GAAP results and other financial statements. We have also posted an updated financial table on our IR web page that provides current and historical non-GAAP data. For the second quarter of 2017, total revenue was $3 million, within our total revenue guidance range. Our new product revenue was $1.5 million, and mature product revenue was $1.5 million. New product revenue was at the lower end of the guidance range due to lower than anticipated shipments of display bridge and connectivity solutions. New product revenue contributed 49% of the total revenue, compared to 60% in Q1 2017 and 44% in Q2 2016. Samsung accounted for 21% of the total revenue during the second quarter, compared to 22% during the previous quarter. This reflects the seasonality of the consumer tablet market and the expanding customer base for our display bridge solutions. Our Q2, 2017 gross margin was 46%, compared to 44% in Q1 2017. The higher gross margin was driven by an increase in eFPGA license revenue recognized in the quarter, our product mix and a broader customer base for display bridge solutions. Operating expenses for Q2, 2017 totaled $4.6 million, which was flat sequentially and 17% lower year-over-year. This reflects the cost reductions associated with the strategic realignment that we initiated in the second half of last year. Q2 2017 SG&A expenses were $2.4 million due to our increased sensor processing-related sales and marketing efforts. Our Q2 2017 R&D expenses were $2.2 million, reflecting the shift in R&D resources to our India location. The total for other income, expense and taxes in Q2 2017 was a charge of $54,000. This resulted in a net loss of approximately $3.3 million, or $0.04 per share. Net of fees associated with the equity offering that closed in April, our Q2 2017 cash usage was $3.9 million. This was within our expectations. We ended the quarter with a cash balance of $22.2 million. Let's now turn to the third quarter 2017 outlook. Our revenue guidance for Q3 is approximately $3 million, plus or minus 10%. The $3 million in total revenue is expected to be comprised of approximately $1.7 million of new product revenue and $1.3 million of mature product revenue. Our lower expectation for mature products is due to a normal seasonal lull in Q3 for our European customers. On a non-GAAP basis, we expect gross margin to be approximately 45% plus or minus 3%. As was the case in Q2, we expect our gross margin to benefit from recognized IP license revenue, and a favorable mix of customers and products. This will be partially offset by lower mature product revenue and continued unfavorable absorption of manufacturing overhead. We are currently forecasting non-GAAP operating expenses at approximately $4.6 million, plus or minus $300,000. We expect our non-GAAP R&D expenses to be approximately $2.3 million and non-GAAP SG&A expenses to be approximately $2.3 million. We expect our other income, expense and taxes will be a charge of approximately $60,000. At the midpoint of our forecast, our non-GAAP loss is expected to be approximately $3.2 million, or $0.04 per share. As was the case in prior quarters, the main difference between our GAAP to non-GAAP results is our stock-based compensation expense, which we expect to be approximately $450,000 for the third quarter. In Q3, we expect to use between $3 million and $3.5 million in cash. The forecasted cash usage will be primarily driven by working capital needs and capital expenditure associated with our eFPGA development effort. As in prior quarters, our actual results may vary significantly due to things that are beyond our control, such as schedule variations from our customers, schedule changes, and projected production start dates, could push or pull shipments between Q3 and Q4, 2017 and impact our actual results significantly. With that, let me now turn the call back over to Brian for his closing remarks.

Thank you, Sue. With our new software evaluation and development tools in place, we have accelerated and lowered the cost of our engagement process. This has also resulted in more efficient conversion from engagement to design win. We believe this will enable us to drive sustainable revenue growth beginning in Q4 and realize our growth and profitability targets in 2018. Also driving this momentum is the fact a voice interface is rapidly becoming a check box requirement for new designs; particularly in wearable, hearable and IoT applications. As it stands today, our EOS S3 is the only MCU-based solution in the market that includes a hardware integrated Low Power Sound Detection, and with that, it consumes far less power than other MCU-based devices when used for voice detection and processing. Some of the customers that were originally attracted to EOS S3 often select it as the host processor and are increasingly utilizing other platform resources too. In addition to increasing our number of engagements, and in some cases with very large potential customers, these trends have also led to a meaningful increase in average selling prices. In summary, we are uniquely positioned with the right solutions, ideal market trends and customer engagements. Our growth drivers are solidly intact and the overarching trends driving our business and our ability to win meaningful designs have improved for the long term. Between that, and the higher forecasts we're now seeing from research companies, I'm very optimistic we will begin delivering sustainable growth starting in Q4 of 2017. With this, I would now like to open the call for questions.

[Operator Instructions] Our first question comes from the line of Richard Shannon of Craig-Hallum.

Brian, I appreciate all the great detail here on both the sensor hub side and the embedded FPGA side, great to hear all that. Maybe I'll delve into a couple of different topics here. I think a lot of people are probably wondering with a lot of the activity that's starting in the fourth quarter, some of the activities started in the fourth quarter, is there any way people can think about what kind of revenue level we can, what you might approach, what might be a minimum level. It's hard to scale some of these opportunities you're referring to, so wondering if you can give us a little bit of help on what you're thinking there.

Yeah. I can do that, Richard. So firstly, these first design wins that we did announce beyond the tier 1 smartphone OEM during the wearable, these are ODMs, and so the revenue they're going to generate is largely driven from the end customers that they get signed up. I know that they are planning to show these products around the October timeframe at some shows in Asia and so depending on how successful they are, these could be hundreds of thousands of units and with the ASP increases that we're seeing, that could be meaningful in terms of revenue. I think the biggest driver here for Q4, for us, is going to be this tier 1 smartphone OEM that launches the wearable and when they launch and the slope of that curve is going to be the main driver. So we're comfortable saying that Q4 will be the point in which we're starting that revenue growth. I'm not comfortable going so far and actually telling a number on this call, just because that would be based on some speculation at this point.

I know you started this topic a bit on last quarter's call, but I'm wondering if you could expand on your - or go into your latest thoughts here and that's regarding the kind of category of opportunities. Clearly, smartphones are a very high volume category and then obviously, wearables are as well, you were talking more about hearables in the last several months here. Sounds like some of the exciting designs that you have here as much in hearables as anything. I'm wondering if you could give us a sense of how you see the opportunity set for hearables, maybe thinking about what the split of business might be well into next year wearables versus hearables and phones?

Sure. So firstly, I will make some speculation here that at the next CES, we're going to see a big movement of this immersive user experience from our wrist to our head and I think that's going to be driven from the fact that we're seeing so much of the activity around hearables in the space. I think just within the last quarter - we're over double digit opportunities now just in hearables. So I think everybody is seeing that there's an opportunity here to leverage these digital AI assistants, move it to be here and the unique thing about hearables is that the batteries are even smaller than wearables that are on the wrist and so that really drives home, people have to look for low power solutions and if they're wanting to have it be a more immersive experience, they're going to be adding sensors like microphones and MEMS sensors for motion and things like that. So they're trying to cram a lot of functionality in to these devices for differentiation for connection to the cloud and so power is of paramount importance and the traditional approaches to these is just use a Bluetooth chip, but these Bluetooth chips were not really designed for interacting with always on use cases. They were really designed around listening to music and speaking to your device, your phone. Now that people are adding step counters and pedometer and turning the microphones on all the time, they are definitely looking for low power solutions and so that's what's really caused people to call us and ask about these types of products. Now your other question I think was related to what the volume or mix would be like next year? I think right now again speculation, but CES is probably going to see a lot of these devices on your head. I think we're seeing more design starts now for hearables than for the wrist worn wearables and I think it is because it does change the user experience pretty significantly for the consumer. So I don't know the exact volume, but I can definitely say that from a design start point of view, we see more activity in hearables and wearables right now. And I wouldn't be surprised if people were underestimating the size of the hearable market next year.

One question for me on the embedded FPGA side, Brian, I think the phrase you used was you fully believe that you are going to have one to several customers, not foundries, but semiconductor companies and OEMs signed up this year, anyway you can help us understand what several means and can you remind us what kind of revenue opportunity exists when signing up each of these. I know they're recognized over time, but what's the cash inflow that you would expect on each one of those?

Sure. So historically, we've used the word several to mean more than - like three or more. So I'll be consistent with that and we do have the sales engagement funnel to support those numbers. From a dollar point of view, it depends on the type of deal that we actually do sign with one of these folks. We've talked about different models of engagement where people would use embedded FPGA more as an internal tool that they don't open up to the outside world or they could actually open up the FPGA and market it as a device with integrated FPGA to target FPGA designers out in the market. So I think the range for pricing on that would be somewhere between under $0.5 million to a seven digit number, depending on how far out they want to take the technology and that will vary also by process node, a more advanced process node like 22FDX is going to have a bigger price tag than a more mature node like 65 nanometer.

Okay. And Brian, can you remind us these timeframes you talked about specifically this year and obviously time is an element of that, are these time frames under your control or mostly under your customers?

Right now, they're going to be under the customers' control. They're evaluating with our software tools that we've released, they're pretty rigorous about evaluating any new kind of IP. They exercise it with multiple designs to see how big the power, the performance, the cost and then they make decisions. So it's really driven from their IP group getting comfortable with the IP and then it's written from the product side on when they're actually scheduling their own tape outs and their own development plans.

Maybe a couple of quick financial related questions and I'll jump out of the queue. In your guidance about growth for this year, about 50% and getting to operating profitability that obviously clearly implies, you think you've got a revenue funnel that gets you to breakeven, just want to verify that that's accurate and can you remind us what your revenue breakeven level per quarter is?

Hi, Richard. Our breakeven revenue level stays as we said before, 8 million to 10 million, it was before 9 million to 11 million. Now, we have lowered a bit because of our IP license revenue that carries very high margin, almost 100% margin. So any of that public revenue coming in the quarter, that of course the revenue level for breakeven will be lower. Of course, based on the 45% to 50% gross margin.

And then your other question was, do we have the funnel to support that and we do have the funnel to support that.

Thank you. Our next question comes from Gary Mobley of Benchmark, your line is open.

I wanted to ask about your comment about higher than expected ASP for some of these EOS design wins, I'm presuming the die hasn't changed at all. It's - the higher ASP might be a function of what more embedded algorithms which is coming from your partners and does that mean higher split or higher payment outgoing on the royalty front?

Yes. So first of all, yes, it's the same die. We're not changing the die. So any of these variations that we're talking about by addressing different use cases or segments or customers is all software and how we program the embedded FPGA on the die, same die. So the other part of that is ASP is, we believe very firmly in value-based pricing not cost-based pricing. So whereas the die is the same, the value will be different depending on the customer's use cases. So, if power consumption is absolutely critical and they need every little microamps that we can save, our value will be higher and therefore our price will be higher. If it's a fight with another MCU guy and they don't really care about power, then the price will generally be lower. So I think what we're seeing is sort of validation of the fact that a lot of these smaller battery products really value battery life and they value the integration that we can offer and we can get rewarded for that by having higher ASPs. There is the fact that we can in certain cases bundle software and get paid for that and also get a higher gross margin for that. But I think it's really the first reason I articulated this, the primary driver for the increased selling prices.

Just to clarify something on the eFPGA front, you mentioned your test chip was taped out at SMIC 40-nanometer in the just completed second quarter. So I'm assuming that's the first opportunity to go to customers with respect to licensing, right?

So we've actually been engaged already with what we've already been running as production devices with our own chips with 65-nanometer and 40-nanometer GLOBALFOUNDRIES. We have 65 nanometer TSMC already in production by virtue of having our own devices there. And then the 22 nanometer is in development, it's going to tape out in Q4 and we'll have verified production for the test chip validation in Q1 of '18. For the 40 nanometer SMIC, it's taped out, but to be clear it's also back and we're going to the verification now and we expect to complete that this quarter. So it doesn't inhibit us from actually doing the selling process ahead of having the test chip back. But having the test chip back and qualified gives people the comfort and reduces the risk in their mind of something going wrong with the IP at some point. So it's not only about the sales engagement, but it would definitely I think accelerate actually ones that's actually done because then I think you'll see SMIC actually promoting this a little bit more aggressive to their customers after they've also seen it working in boards.

Based on the customer profile for all these different nodes and processes like GLOBALFOUNDRIES and SMIC, what would you expect in terms of licensee profile or end use cases for the licensees? And as a follow-up to that, I think you mentioned pennies of additional variable cost for licensee utilizing your embedded FPGA. Is that to assume that royalties on the tail-end of these relationships is $0.02 to $0.03 per unit?

Okay, few different questions there. I'll answer the last one first. For the royalty, when we're talking about few cents of variable cost, we're talking about the incremental cost at the silicon level that they're going to be for manufacturing. The royalties are going to be different in that as a percent of the ASP and I'm hopeful that royalties will actually be higher than the incremental silicon cost. I think that will be the case. Now getting back to your other question, can you repeat it, actually the first part of your question?

No problem. The type to licensees that you would expect just based on the different foundry processes?

So basically, if you look at where we've historically sold our own devices, the programming logic was optimized for lower power microcontroller type use cases. So I think that that will be the one that's mostly aligned out there with the potential licensees, so microcontroller based devices. Moving forward, we do see some standard product companies that are not microcontrollers, they're more purposeful for certain applications, there's interest there. And that could be sort of a follow-on wave. And then ultimately I think you'll start to see us getting into more of the compute intensive applications as a roadmap item. But for the near term, I think it's going to be microcontroller-based devices. I hesitate to articulate any use cases on the call because anything I say here can be learned by our competitors and I'd like to keep that close to the vest until we can have some public announcement to the customers.

Thank you. Our next question comes from Suji Desilva of Roth Capital, your question please.

The gross margin guidance you gave, the range there, can you talk about what would drive the high versus the low end of the range in 3Q. It was a pretty wide range 3% plus or minus.

Hi Suji. So this is actually conservative. We factor in both product mix in Q3 and also the potential license revenue that we can [ph] recognize in the quarter.

And then for the embedded FPGA, Brian or Sue, do you expect the revenues to be relatively steady given that ratable nature of the recognition or would it be lumpy where some quarters might zero out and then comeback. Just trying to figure out how the next few quarter where embedded FPGA layer in.

So once they're assigned, it they will be consistent for that opportunity. And I think like any new business that we're starting, the timing of signing these deals will make it somewhat lumpy in the very beginning depending on how many we are signing. But once they are signed it will be consistent across those quarters until the term of the agreement is over. So, like for example for Q3, we're not sure yet because of the potential to sign new within the quarter versus not. And like Sue said that's what's driving the variance in the gross margin.

Go ahead Sue.

Suji just on the side notes, for the terms of the license agreement could range from six months to 24 months. So it depends on the customer. What type of term we negotiate and that would determine in recognizing the revenue on our P&L.

And that will be the ratable term six months versus 24 months.

Exactly.

And then on the cost side, the test chips, Brian, are these - or Sue, are these material to you guys, are you sharing in that cost with the foundries as you bring these market - that's not market, but the test chip rather?

So I think that we are getting these subsidized by the foundries, which I think speaks to the fact that they really value the potential of having embedded FPGA on their IP line card or at least there's an option for their customers to use. So at this point it's not a significant impact for us. There is work to create the test chip, but the actual cost of manufacturing the test chip is largely subsidized to these agreements that we have.

And the last question on the China fab with semi landscape, you guys seem to be doing well there. Can you talk about the [indiscernible] presence there and if you could kind of handicap whether your Cywee relationships or your SMIC relationships which one do you think is the more potent opportunity relatively.

Wow, it's okay, I'm saying wow because Cywee is really for the SoC business and then SMIC is primarily for eFPGA business. So, the work with SMIC is definitely a driver for that because as you know China is very aggressive into getting into all thing semiconductor including programmable logic and so there's a big attention on that and the fact that we're the only FPGA that's currently in SMIC I think we're going to get a lot of nice attention from them on that. Cywee, we do do joint visits and account calls with them, so we have a very productive relationship with them. But I guess from a topline point of view the biggest driver if I had to pick between those two would be SMIC and eFPGA. Cywee definitely helps, but a lot of the larger customers are using their own algorithms now. And so it's not going to be a primary driver for us on the SoC side to be sort of captive to Cywee.

Thank you. Our next question comes from Rick Neaton of Rivershore Investment, your question please.

Can you provide some additional color on what is comprised the inventory increase from the end of Q3 last year until the end of Q2 this year? Is it mostly S3, all S3?

I can address that question, Rick. For the first half of this year, the majority inventory ramp here is three inventory. If you target from last year, the second half of last year and until even this quarter, we continuously ramp up inventory for display bridge solution, once we get appeal or forecast from customers we'll start ramping up inventory.

Brian, you talked about these new markets for discrete sensor hubs beginning to appear and used the forecast I think of 680 million units next year. Do you have - with only one-third of them being in consumer devices, do you have other things in mind to help QuickLogic gain meaningful share in those new markets?

As far as use cases go?

Yes.

We are seeing voice actually permitted even beyond the consumer space into the industrial area and we've had people asking us even more about military stuff now whether army, soldiers or not soldiers necessarily, but emergency medical folks with voice enabled devices that are battery powered and have to be reliable and need to be hands free. So a lot of it is leveraging with same use cases we've already developed for. One of the things I didn't really go into lot of details on the call but I guess is worth mentioning here is that from a software point of view we've really been focusing on building out this open framework. And the value of the open framework is that we don't actually care what people run in terms of software on a device, they can do it themselves. And by having this open framework there it means that we can actually turn that over to customer and there's going to be very little support. So we don't actually have to build out the entire stack of use cases for them. But if they value the low power, they value the flexibility and they can go out and do their own thing. And so I think that those are some of the areas of opportunity we see in these other segments where we don't have to do as much work as we've done vertically integrating solutions on S3 today.

With regard to the Chinese ODM design wins that you have. What's the typical number of OEM customers that these ODMs get for a platform like the S3.

From them I've heard anywhere from the range of like five to ten per platform. And then they'll go and spend, and do something else.

And with regard to your engagement at the tier-1 smartphone OEM that you said had projected production dates for next year. Do you have any more confidence that the current projected production dates for these devices should you win the design slots would be any more reliable than the wearable that's having the sensory replaced in it.

I think so because the smartphone engagements, they have more of a rigorous release process that they typically stick to because they don't want to miss a window of opportunity and there's pretty regular releases for funds in particular. Wearables are a different beast and they don't necessarily follow the same rigorous release process, they're not tied to a carrier for example for the most part. And so they have a very asynchronous path to that. So I do have more confidence in the dates associated with those smartphone guys unlike what we've all experienced recently with this tier-1 smartphone guy doing the wearable. Let me add one more comment to that too, sorry Rich, one more thing. This tier-1 smartphone guy doing the wearable, I think that they're also they're just - they're pushing the envelope so far with the functionality they want to deploy with this wearable and they really want to get it right. And so if you combine that with the fact that it's not tied to a specific release pattern in the market for phones I think that's why another reason why we're seeing the shift here and why that's different from a traditional smartphone launch.

Last quarter you talked about a possibility of a 55-nanometer process for [indiscernible] is that opportunity still open?

It is. We're seeing opportunity there. We're also seeing opportunity at other workforce nodes like 28 nanometer and interest in much more aggressive nodes than that on FinFET processes. So we're right now I think we've been fairly open about what we're doing from a development and verification point of view with test chips on current nodes that we've talked about like 22 FDX and now the 40 nanometer SMIC. So as we free up from these developments, we are going to go off into the next node and what that node is, I'm not going to communicate on this call yet, but we will be able to talk about that in future calls at some point. But yes, the opportunity absolutely still exists.

One last question about 4Q here. You talked about the slope of the ramp and the sustainability from their forward being a lot dependent upon the tier-1 smartphone customers bringing this wearable into production. Is there any possibility that you could still come very close to the 50% revenue increase target for the year?

In 2017?

In 2017.

I guess theoretically that's possible. I don't know again the slope of the ramp if they were a steeper slope and they do ramp in Q4, then it is possible. And we have a lot of other things going on in the funnel. So I wouldn't take it completely off the table. In that sense, I'm a pretty binary guy there. I'm not going to exaggerate but we're just trying to give you some sense of what the drivers are for that and that some of the big drivers that we had in our assumptions have shifted. So I think it was just in the, even being very open with you as investors where the risks are.

Your predecessor used to use the term significant revenue increase when he was talking about a percentage that was - say between 15% and 30% year-over-year, is that still doable in 2017?

Like I said in the previous, I think somebody asked a similar question. I'm not able to really articulate a percentage on the call I'd like to. But I think just given the uncertainties and not knowing for sure exactly what their forecasts are, I don't feel comfortable giving you that number just because of that uncertainty. That being said I do feel like the momentum is there, the engagements are there, we've started to announce wins and we see enough to know that Q4 will be the start and it will be up over Q3. I just I can't give you a number on the call as much as I want to, I just don't know what that number is at this point.

Thank you. At this time I'd like to turn the call over to Brian Faith for any closing remarks.

So one final note, we're participating in the upcoming events. Sue and I will be meeting investors in New York City and Boston on September 7th and 8th. We'll be at the SMIC Technology Symposium in Shanghai in September 13. The Design & Resource IP Conference in Shanghai on September 14th. GLOBALFOUNDRIES Technology Conference in Santa Clara on September 20th, in Munich on October 18th, and in Shanghai on November 1st. We'll be at ARM TechCon in San Francisco between October 24th and 26th. And our CTO and SVP Engineering Dr. Tim Saxe will be speaking at the 15th International SoC Conference at UC Irvine October 18th and 19th. Thank you again for your participation today and we look forward to updating you on our progress during our next quarterly conference call on November 8th. Thank you and good bye.

Ladies and gentlemen, this concludes today's conference. Thank you for your participation and have a wonderful day.