Universal Electronics Inc. (UEIC) Q2 2020 Earnings Report, Transcript and Summary

Ladies and gentlemen, thank you for standing by and welcome to the Universal Electronics, Inc. Second Quarter 2020 Earnings Conference Call. At this time, all participants are in a listen-only mode. After the speakers' presentation, there will be a question-and-answer session. [Operator Instructions] I would now like to hand the conference over to one of your speakers today Ms. Kirsten Chapman, LHA Investor Relations. Ma'am, please go ahead.

Thank you, Michelle, and thank you all for joining the Universal Electronics' Second Quarter 2020 financial results conference call. By now you should have received a copy of the press release. If you've not please contact LHA Investor Relations at 415-433-3777 or visit the IR section of the website. This call is being broadcast live over the Internet. A webcast replay will be available for one year at www.uai.com. Any additional updated material non-public information that might be discussed during this call will be provided on the Company's website where it will be retained for at least one year. You may also access that information by listening to the webcast replay. During this call, management may make forward-looking statements regarding future events and the future financial performance of the company and cautions you that these statements are just projections and actual results or events may differ materially from those projections. These statements include the company's ability to continue efficiently operating its factories at full or near full capacity amid the economic and physical restraints we face due to the COVID-19 pandemic. The company's suppliers, transportation providers and customers continue to operate, supply raw materials and components, provide our logistics needs and order our products as anticipated by management. The company's ability to timely develop and deliver new technologies and technology upgrades and related products that will be accepted by our customers, including the Company's QuickSet Cloud, Nevo Butler and voice-enabled technologies, changes in consumer lifestyles that will translate into new purchasing habits resulting in increased sales opportunities for the company. The continued trend of the industry toward providing consumers with advanced technologies, including expanded smart home offerings and interactive services. The return to more normalized patterns of pay-TV activations as anticipated by management. Management's ability to continue to manage it's business via Product mix adjustments, increased licensing opportunities and an increase in operational and administrative efficiencies to corporate restructuring efforts to achieve its net sales margins in earnings as guided. The effects that natural disasters and public health crisis including the COVID-19 pandemic have on our business and management's ability to anticipate and mitigate those effects, including the duration, severity and scope of the COVID-19 pandemic and restrictions that may be imposed on the company and its operations by federal, state, local and international public health and governmental authorities and the ability of management to manage the company's near and longer term cash flow and cash needs through its inventory and cash conversion control activities. The company undertakes no obligation to revise or update these statements to reflect events or circumstances that may arise after today's date and refers you to the company's press release mentioned at the onset of this call and the documents the company files with the SEC. In management's remarks adjusted non-GAAP metrics will be referenced. Management provides adjusted non-GAAP metrics because it uses them for budget planning purposes and making operational and financial decisions and believes that providing these non-GAAP financial measures to investors as a supplement to GAAP financial measures, help the investors to evaluate UEI's core operating and financial performance and business trends consistent with how management evaluates such performance and trends. In addition, management believes these measures facilitate comparisons with the core operating and financial results and business trends of competitors and other companies. A full description and reconciliation of these adjusted non-GAAP measures versus GAAP is included in the company's press release issued today. On the call today are Chairman and Chief Executive Officer, Paul Arling who will deliver an overview and Chief Financial Officer, Bryan Hackworth who will summarize the financial. Paul will then return to provide closing remarks. It is now my pleasure to introduce Mr. Paul Arling. Please go ahead, Paul.

Good afternoon and thanks for joining us today. Over the past 35 years, our dedication to innovation, customer service, and effective operations has built UEI into a market leader with a strong financial foundation. Today, we continue to develop industry-leading technology and leverage our strong leadership position, supporting our customers now and paving the path for our profitable future. I'll elaborate more on our expanding opportunities in a moment. First, regarding the second quarter of 2020, financially, we performed as expected. Revenue was $153 million with EPS of $0.89, reflecting our initiatives to become a more profitable company. As a result for the six months ended June 30, 2020, EPS reached the highest in the history of UEI at a $1.70. Our long-term growth opportunities remain unchanged. That said, COVID-19 continues to impact near-term demand, primarily with our traditional home entertainment and security customers. Due to the pandemic, their ability or willingness to install hardware in consumers' homes, whether it is to establish new service or to upgrade premise equipment has been disrupted for the time being. Ironically, this near-term pressure is creating long-term benefits. Customers are reenforcing or initiating advanced product development, including self-install and voice capabilities, which gives us confidence in our long-term growth and profitability. To be fair, we have been referring to our core market as subscription broadcast for many years and that has led many to view our channel as being predominantly comprised of the traditional cable and satellite operators that have driven the growth of video entertainment consumption and millions of consumer homes around the world for many decades. Today entertainment content is no longer found exclusively at the end of a co-ax cable. The introduction of on-demand libraries, video streaming apps, live TV streaming and linear TV streams can be found at the end of any network-connected device. This is more true today than ever before. In 2020 alone four major new video entertainment services were introduced by major cable entertainment content and technology brands. Backing these services are billions of dollars of content creation spend to ensure uniqueness in their offerings and to appeal to the billions of consumers that enjoy their content. Still to this day, video consumption measured by hours of viewing time is dominated by the big screen TV with most of the video content being delivered either by a set-top box, over the top streamer stick or access directly via a smart TV. Furthermore, the lines defining content sources have blurred. For several years now, traditional cable and satellite operators have added over-the-top services to their hybrid platforms, while over the top streaming services traditionally defined by their large video-on-demand libraries have added linear TV to their offerings More importantly, from UEI's perspective; all these video entertainment providers, whether they be traditional content aggregators such as Comcast and Dish, consumer electronics brands such as Sony, Samsung and LG or technology companies such as Google are expanding their offerings across more than one of the key video consumption platforms, television streamers and set-top boxes. To deliver content to as wide an audience as possible. This is essentially creating a growing list of new projects with existing and new customers for UEI today and into the future. While we cannot discuss many of the customers that we are actively developing products and technology for, we are excited to see the changes that are happening right now in home entertainment. Additionally, I think it's important to review of a couple of major trends in our industry and our strategy to capitalize on these trends. The first one is the inevitable trend toward advanced IP-enabled voice-driven systems that combine live or linear content with subscription video on demand or over-the-top services. These new systems are exactly what today's consumer wants. The average American consumes almost six hours of video per day from both live TV subscriptions, as well as services such as Netflix, Amazon Prime, Hulu and YouTube. What consumers want is an easy way to choose from a seemingly infinite array of choices and get to what they want to watch quickly and easily. They want to watch their favorite baseball team play live tonight, followed by binge-watching a favorite show on Netflix, or another service. These advanced IP-enabled voice-driven systems have already been introduced by some leading companies using our technology with great success. But there are more to come from both traditional customers as well as some exciting new ones with whom we are working. This is important because our business is driven particularly now and into the future by this upgrade cycle rather than the much more closely reported and followed subscriber numbers. Another relevant trend that has been more recently reported by the media is subscriber loss or as some have characterized it cord-cutting. I think it's important to take a step back and explain a few terms. Churn or terminations measure how many customers disconnect during a given period. Activations represent the number of new customers who have been added during that same period. The net change, which is now the most widely reported figure represents both elements of subscriber change, that is churn plus activations. As many of you are aware, churn has been a part of the industry since the very beginning. Activations or new subscriber ads often offset the churn number that an operator experiences. Data from the last few quarters however would indicate that the net subscriber loss has to do more with lack of activations that it has with an increase in churn. In fact, we are seeing evidence at some operators that churn has actually lowered slightly. In many cases, the lack of activations has been driven by operator policies that restrict new installations due to the risk of COVID to their installers, while in other cases, consumers are reluctant to allow installers in their homes. Either way, the decline in subscriber count at traditional operators is in part, driven by a decrease in professional installations and hence new activations. As we have mentioned previously, our increasingly popular QuickSet feature, which is enabled on many of the new advanced platforms offers our customers a greater potential for a self-install system, while also helping to lower the overall install cost. This in combination with a lack of live events such as sports, which has led many operators to experience a significant decline in new connections which in turn leads to a lower demand for our entertainment control solutions. We anticipate that demand will pick up again as soon as live TV events, operator promotions and new in-home installations restart. Further, as time progresses, new advanced Quick Set enabled systems will replace traditional platforms, thus eliminating the need for professional installation. Regarding the near-term outlook, however, we believe our video entertainment business is for the large part affected by what we see as these temporary challenges. Despite the effects of the pandemic, industry trends are yielding solid prospects. Consumers are captivated by the idea of an all-encompassing voice-enabled smartphone platform to make things easy. They want to simplify access and control of content and services from one spot including content from traditional linear TV, streaming apps, hardware platforms that connect them such as TV, speakers and set-top or streaming boxes as well as the growing list of Smart Home devices applications and services. This concept is becoming more mainstream in the U.S. where some of the larger providers with scale have invested in platform development along with us. However, it is important to note that globally there are many providers who are still in development of their next-generation platform. Many don't have internal engineering teams and will choose to outsource their platform architecture solutions. Whatever their path, there is no doubt these advanced platforms are coming and they will utilize sophisticated voice-enabled control clearly our specialty, all of which continues to fuel the long-term opportunities for our technology. In 2019, we also introduced Nivo Butler, our Smart Home Hub with built-in voice assistant that unifies entertainment and home automation with access and control. While we continue to evolve the platform of new features, we are excited to announce that we have secured a leading telecommunication service provider who will be our first customer to deploy our Nivo Butler platform. We are also actively engaged with other brands in the professional security and hospitality markets that are considering our turnkey Nivo Butler platform or its ingredient technologies to integrate into their platforms. There is certainly cause for optimism, especially as these channels emerge from the temporal effects of the COVID pandemic. We will have more to share on these projects as the year goes on. Regarding Quick Set and QuickSet Cloud, we continue to see growth on our cloud-connected services fueled by an expanded set of smart home features and a wider penetration of our technology into smart TVs, advanced set-top boxes and smart speakers. Additionally, our product and development teams are partnering with multiple customers in developing next-generation products across all our entertainment and connected home product categories. We expect they will be announced and begin shipping in the next few quarters. I'll now turn the call over to our CFO, Bryan Hackworth for a review of the financials. Please go ahead, Brian.

Thank you, Paul. I'll review the second quarter 2020 compared to the second quarter of 2019. Net sales met our expectations at $153.3 million. This compares to the second quarter of 2019 of $193.4 million, which at the time was a record quarter. Our 2020 second quarter sales reflect the continued impact of COVID-19 on our traditional home entertainment customers, especially those without self-install capabilities. Our gross profit was $43.7 million or 28.50% compared to 25.2% in the second quarter of 2019. Royalties continue to play a significant role in the rate improvement as we're licensing our technology to multiple customers including three of the largest OEMs in the world. These OEMs are broadening the scope of their advanced features by increasing the number of products that incorporate our QuickSet technology. Other factors contributing to the rise of our gross margin rate include opting out of low margin business and a stronger U.S. dollar versus the Chinese yuan and Mexican peso. Because of favorable product mix, including an increase in licensing revenue, we expect our third quarter gross margin rate to be higher in the second quarter. Operating expenses were $29.2 million compared to $33 million in the second quarter of 2019, reflecting the lowest level since 2016. R&D expense increased to $7.1 million from $6.9 million in the prior year quarter. SG&A decreased to $22.1million from $26.1 million last year as a direct result of our corporate restructuring efforts, as well as a decrease in variable expenses. Operating income of $14.5 million or 9.5% of revenue compared to $15.8 million or 8.2% of revenue in the second quarter of 2019. Our effective tax rate decreased to 12% from 21.2% in the prior year quarter due primarily to tax incentive refunds received in China. Our corporate restructuring has enabled us to reallocate a portion of the savings from SG&A to R&D including additional investments in technologies that can be embedded in a number of devices sold in various form factors and distributed through multiple channels, yielding higher margins and greater profitability. For this reason, we were able to improve our bottom line on lower sales as net income increased to $12.6 million or $0.89 per diluted share from $11.7 million or $0.83 per diluted share in the prior year quarter. The same is true for the six months ended June 30, 2020. Although sales were down, our earnings per share of $1.70 for the first six months are the highest in the history of UEI. Next, I'll review our cash flow and balance sheet at June 30, 2020. Cash and cash equivalents were $58.8 million compared to $58.9 million at March 31, 2020. Cash flow from operations for the three months ended June 30, 2020, was $12.8 million compared to $24.8 million in the prior year quarter. Now turning to our guidance. Our factories in China and Mexico, remain fully staffed and running at planned levels. Procuring raw materials and components remains a risk but our operations team has done a great job in mitigating supply issues. However, because certain jurisdictions in the U.S. and abroad, continue to have restrictions we expect third quarter sales to be adversely affected. We expect third quarter sales to range from $150 million to a $160 million compared to $200.9 million in the third quarter of 2019. And EPS to range from $0.87 to $0.97 compared to $1.1 in the third quarter of 2019. This will yield an operating margin in excess of 10%. I would now like to turn the call back to Paul.

Thank you, Brian. While we have experienced lighter than normal revenue due to the pandemic and its effects, we are pleased with the actions we have taken to improve the profitability of our business. This positions us better for success as markets improve. Many positive trends outweigh some temporary challenges caused by lower activations impacting some of our customers. The convergence of traditional TV and streaming apps is driving demand for our technology based on what people want a single easy access, voice-enabled platform. Our customers are increasing their commitments to develop advanced products. Consistent with our history, we will have numerous products to pair with the next generation of content delivery. I'd like to leave you with this thought. The home entertainment world is clearly changing. In some cases dramatically. Classifying companies that exist within this market are companies that prior to this have been experimenting in it as static would be a mistake. We are seeing a substantial amount of technology development in the home entertainment market that will change the way people watch television and will certainly change the perception of the customers in our markets, both existing and new. We are proud to have invested in positioning ourselves as the clear leader in this area and to be working with these companies that are changing the world of home entertainment and smart home control. As always, stay tuned. Operator, we'd now like to open up the call for questions.

Thank you. [Operator Instructions] Our first question comes from the line of Steve Frankel with Dougherty Securities. Your line is open. Please go ahead.

Good afternoon, Paul. So what do you think today your exposure is to these truck will customers?

Most of our customers - some of our largest customers have converted to more of a self-install architecture so the exposure there is minimal. They've had fewer issues with the pandemic as a result of the ability to have a self-install program where professional installers do not have to come to your house. We still do have numerous customers here in the U.S. and clearly abroad that do not have a self-install architecture. Obviously, they did not plan for a pandemic. So some of them were developing a new platform but it was not quite ready prior to the pandemic slamming down on them. So they have continued development and are ever more excited to get these programs done, but they were not prepared for it. As a result, in some cases, they have ceased activations for the safety of their employees. In other cases, they are doing it with stringent protocol to protect the consumer, but there is some consumer resistance to it. So as I said earlier, I think what's happening in the industry is churn is not actually the issue. A lot of people want to report this. Subscribers have been down but I think the bigger effect over the last six months has been a lack of activations. They haven't been able to install new systems. Churn has been with us since the beginning of the industry. Cable and satellite companies have lost customers every quarter since I stared at UEI 20 plus years ago. So it's lack of activations. This obviously is changing in a way, as I said in the prepared remarks. It's actually helping the selling point of QuickSet, one of the selling points, which is that it would allow a self-install program. If you ever were to not be able to install again you can simply leave - you can mail the box to the consumer or leave it on their front doorstep and there is a simple set of instructions contained in the box to have the consumer install themselves. So the more and more of this happens, the less impacted we would be by any future interruption due to a pandemic or other effect. But we are suffering through it right now. We do have numerous customers worldwide including here in the U.S. that had not moved to a complete self-install system just yet.

Okay. You talked in your script about new projects. Maybe if you could give us a little more insight into how many new projects do you think you'll launch in the back half of the year? Are any of these in newer markets for you away from the traditional set-top box upgrade cycle?

Yes, many of the bigger or more exciting ones are happening probably in Q4 or in the Q1 of 2021. That would be the scheduled time. The most broad thing I can say about this is there are a variety of platforms in your home today, and as my last statement said, don't think of the world as static. The way that entertainment will be delivered, will probably be across platforms. In some cases, you may see new platforms that will surprise you, given where companies have historically been in their architecture. So delivery of entertainment will probably come from televisions, sometimes with existing players, sometimes with some new ones that you wouldn't have expected. The same in set-top boxes. You may see new players as well as existing players putting out new platforms. Some of these things as time goes on may surprise people, but what they have in common is this, and it's what I mentioned in the call. They all understand and this is why, they've been moving in this direction that consumers want to watch the baseball game tonight or golf or some other live event, their favorite reality show that they can't miss and then when it's done, they want to switch over to watch Netflix or Prime or another popular service over the top and they want one interface within which to watch all of that and they want to be able to get to those two different things or six different things quickly and easily. That's what these platforms have in common. The method of delivery will change, but that's exactly what they'll bring. Live TV options plus over the top or SVOD options all in one easy to use interface, typically if not always voice-driven. They want them to be self-installed so they could simply mail them to people, have them open the box, plug it in, plug in the devices and the software takes over.

Can you give us any more details on this Nivo Butler ware?

Well, other than to say when it is announced, it's a household name. I think I've already given enough clues but we're working with a large telecommunications provider. It will probably be Q4, again, maybe Q1. The development schedule is in final, but they've said that their target is late Q4 or early Q1.

Okay. Because I don't want Brian to feel left out. Could you give us the customer concentration numbers for the quarter?

Sure. We had two customers that exceeded 10% Comcast and 19.3% and Daikin at 10.7%.

Then lastly, Paul and then I'll pass it on. Are there any implications for your home security business from the Google AT&T announcement earlier in the week?

Not really, no. Look, I think there is increased activity on that front. I've heard over the last couple of months. At first in the pandemic, it had dropped pretty significantly because of the professional installation element to it but I'm hearing that it's beginning to come back due to security concerns of people. With the current environment, they are looking to have more secure homes.

Okay, great. Thank you.

Thank you. [Operator Instructions] Our next question comes from the line of Jeff Van Sinderen with B. Riley. Your line is open. Please go ahead.

Hi, this is [indiscernible] actually sitting in for Jeff. I've got one quick question. Given positive video subscription trends at some MSOs plus the Xfinity Flexbox deployment at Comcast and launch of Peacock, could you give us your latest thoughts on how current adoption trends potentially can impact your business? Also how you're thinking about the return of sports as it relates to your business?

Well, yes, certainly any compelling live content that returns to the screen obviously helps because people view it as something they must have right on television. For a few months, there was very little compelling live content because shows were offseason and sports were not being played or televised. So there was less compelling need to connect or reconnect the live television. So the more live content that comes on particularly sports because it can be quite compelling to certain parts of the population or even reality shows that people don't want to miss. They are in some ways like sports. They have outcomes and social media will be ringing right after the show has as put on the air. So people wish to watch live or nearly live. All of that content is compelling for live TV as it returns with force. Obviously live TV becomes critically important to average user. Still the majority of time they spent watching television. The other part of your question on these platforms. This is an example of what I was talking about and some of them are now public. Don't view the world static. Leading companies in the industry including once you've mentioned we don't talk about specific customers and their product plans, obviously, but you did mention Comcast a good example they are leading company in the industry. They are out there and they are doing the most interesting things in the industry and you'll probably see more from them and others over time as far as change. The way they are changing, how people will watch television and through which devices or technologies they'll watch it through. So I think there is a continual thinking within the industry, particularly amongst the leading companies about that topic and you're going to see things change exciting new platforms. They won't abandon the platforms they have because they're great platforms, but they'll move to new ones to attract new customers.

All right, thank you. Appreciate your insight. Good luck.

Thank you. And I'm showing no further questions at this time. I would like to turn the conference back over to Mr. Paul Arling for any further remarks.

Thank you for joining us today and your continued support of Universal Electronics. We will be presenting at the Colliers Securities and the Sidoti Fall Virtual Investor Conferences in September. Hope to hear from you or see you online during those conferences. Have a wonderful day. Thank you.

Ladies and gentlemen, this does conclude today's conference call. Thank you for participating. You may all disconnect. Everyone, have a great day.