Xperi Inc. (XPER) Q2 2016 Earnings Report, Transcript and Summary

Good afternoon, my name is Veronica, and I will be your conference operator today. At this time, I would like to welcome everyone to the Tessera Technologies Second Quarter 2016 Financial Results 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. I would now like to turn the conference over to Don Markley. Please go ahead.

Thank you, Veronica. Good afternoon and welcome to Tessera Technologies' second quarter 2016 financial results conference call. This call is also being webcast live over the Internet. Please be advised that during the course of today’s call management will make forward-looking statements regarding future events including the future financial performance of the Company. These forward-looking statements are made pursuant to the Safe Harbor provisions of the Private Securities Litigation Reform Act of 1995. Forward-looking statements involve risks and uncertainties that could cause actual results to differ materially from those projected. You are cautioned not to place undue reliance on forward-looking statements, which speak only to the date of today’s call, August 02, 2016. More information about factors that may cause results to differ from the projections made in those forward-looking statements can be found in Tessera’s filings with the Securities and Exchange Commission including its Annual Report on Form 10-K for the year ended December 31, 2015 and the 10-Q for the quarter ended June 30, 2016, especially in the sections titled risk factors. The Company disclaims any obligation to publicly update or revise any forward-looking statements to reflect events or circumstances that occur after today's date. Management may also discuss certain non-GAAP financial measures for comparison purposes only. For a definition of non-GAAP financial measures and reconciliation of GAAP to non-GAAP financial results, please see the second quarter financial results new release issued earlier today. Now, I would like to introduce Tessera’s Chief Executive Officer, Tom Lacey. Tom?

Don, thank you very much. Whether live or via webcast recording, thank you for joining us on the call today. Robert and I are pleased to report another strong quarter as we exceeded both revenue and earnings guidance and we're very excited about the developments of the Company and our progress towards several of our growth initiatives. Let me begin with some highlights for Q2. We once again exceeded expectations on virtually all financial metrics and delivered a strong quarter of performance. Our Q2 revenue was $67 million which exceeded the high end of our guidance range and we achieved a non-GAAP operating margin of 66%. FotoNation produced its second highest revenue quarter of all time and remains extremely well-positioned in the very hot imaging market. Our capital allocation program remains robust with a combination of dividends and share buybacks. During Q2 we purchased approximately $25 million of our stock. Q2 represents our sixth consecutive quarter whereby our fully-diluted share count has decreased from the previous quarter. While we remain aggressive on the capital allocation front our balance sheet is strong and debt free and our cash position increased by $8 million from last quarter. We continue to be both selective and active on potential M&A opportunities and view our management team, IP, balance sheet, and cash generation as a valuable asset in this regard. Next let me provide an update on developments with our Invensas, FotoNation and IP licensing efforts during the second quarter. Our Invensas team is engaged with several leading semiconductor manufacturers and OSATs to further the development and broadly commercialize our portfolio of advanced packaging and interconnect technologies including ZiBond and Direct Bond Interface or DBI bonding technologies and BVA for the enablement of high pitch interconnect using industry standard readily available wire bond equipment. Positive feedback and enthusiastic support from many new and existing customers regarding our ZiBond and DBI bonding technology continues. We have strong belief that ZiBond and DBI represent truly enabling and foundational technologies for low temperature bonding for a wide range of products including image sensors, stack memory, 2.5 D, FPGAs, RF front-end and MEMS devices. Recall that last quarter Sony began shipping image sensors with DBI technology and the latest Samsung phones including the Galaxy S7. This has been a driver of increased interest from other potential customers. As such during the quarter, we made good progress with a number of customers both small and large including multiple discussions to collaborate on the development and optimization for specific products and applications. We are excited about our bonding technologies and look forward to providing future updates on our development and commercialization efforts. With regard to BVA, we have completed the development of this versatile interconnect technology and are focused on its commercialization. To that end, ASC, the world's largest outsourced assembly and test supplier and a BVA licensee has completed their technical evaluation and is now ready to discuss and evaluate BVA production opportunities with customers. In addition, Jabil, our leading design and manufacturing solutions provider has completed its first phase of board level qualification of BVA PoP and is exploring the use of this technology in the future. Recall that BVA is a fine pitch 3D interconnect which allows more IO between two devices or packages, for example, in applications processor and memory. Although increasing the number of interconnects between such devices remains important particularly for high performance applications such as HD video and gaming in smartphones. The rate of increase has slowed and that's the requirement for BVA for this particular application has been delayed. That said, we continue to promote the versatility of this low cost manufacturing-ready vertical interconnect technology to a wide range of prospective customers and most recently a found interest in system in package applications. We tend to bet out these opportunities and if and when appropriate transfer them to the assemblers we have enabled with BVA technology such as ASC and Tong Hsing. We'll provide updates on our progress as it evolves. Now on to licensing, we continue to work on our Greenfield licensing efforts. For those of you new to the Tessera story, the Greenfield term refers to potential customers that have not previously licensed Tessera Intellectual Property. As we have previously mentioned, we reached advanced stage discussions with two of our potential Greenfield customers. And as announced in May, as a last resort initiated legal proceedings against one of those companies Broadcom. I will provide an update on Broadcom a bit later. On the second potential customer, we are examining the next steps as meetings continued during the quarter. Since the beginning of 2016, we have initiated discussions with several additional Greenfield customers. As we've noted in the past, these engagements can often take multiple years from initial discussions to resolution. Next, I will provide an update on FotoNation. We continue to see computer vision and imaging as critical technologies for a variety of devices. From smartphones to drones to activity cameras to cars and we are well positioned to capitalize on these growing markets. Following a record quarter in Q1 of this year, FotoNation achieved its second best revenue quarter of all time. In particular, we are pleased with our success in the Chinese market. Given our ongoing customer and ecosystem engagement, we remain steadfast that biometric authentication will become an important capability in future generations of smartphones and other devices. During the quarter, we demonstrated smartphone Iris and face authentication solutions to potential phone OEMs into multiple financial institutions. Interest remains high and it is our goal to secure multiple design wins on these emerging technologies by mid-2017 or sooner. Additionally, during the quarter, we were able to produce and demonstrate the difficult to accomplish liveliness feature of Iris biometrics detections which enables a device to distinguish between a photograph and a real person when authenticating a person's iris. We also continue to see very strong interest in our image stabilization technology. Additional customer interactions increase our confidence in important design wins in this area. Our ultra-low power consumption combined with best in class performance is very important in mobile phones, drones, activity cameras, and other applications for cameras on the move. Following up on the previous SOC design wins, we are making solid progress with other potential Asia-based SOC providers, who are showing interest in our IPU architecture. If successful, the opportunity is to significantly expand our China and other Asia-based business. Turning to the automotive market, no partner intended, we continue to develop advanced, intelligent, vision solutions for automotive applications. According to research done by your view and assists parking cameras are forecasted to exceed $10 billion in market opportunity by 2020 as each car's expected to have at least four cameras. Helping to drive this high growth market, there's legislation in both the United States and Europe mandating computer vision technology in order to further improve automobile safety. Our high performance low power computer vision course which have shipped in more than 2.5 billion cell phones and digital cameras are in excellent fit for both internal driver monitoring systems and external surround view systems. During Q2, interest in driver monitoring systems has increased and as such we expect additional partnerships in this area. On the legal front, let me provide an update on the Broadcom legal proceedings. On May 23, we announced that we had initiated legal proceedings against Broadcom and certain of its affiliates, customers and distributors for patent infringement in multiple domestic and international jurisdictions. The actions we took although not our preferred approach, we are extremely well planned. We remain confident that we ultimately reach a positive outcome for Tessera and its shareholders. We are still in that relatively early stages with case schedules being established in several of the matters. Currently, we have trial date in four of the matters. In our German cases, trial is set for February 7, 2017 and the ITC trial was set for March 27, 2017. And in the Netherlands, trial was set for March 31, 2017. In our two Delaware cases, no case schedule has yet been established. In the ITC, we have begun discovery and a claim construction hearing is scheduled for December of this year. We will continue to provide updates as these matters progress. In addition to Broadcom, we have a few other active matters. The Toshiba contract case is proceeding according to the case schedule with a summary judgment hearing in September of this year and trial is scheduled for June of 2017. In the TSMC OVT matter that we inherited when we acquired Ziptronix. There have been no new material developments since last quarter. The case is still pending and no trial date is currently set. And last, we have another case that recently became active again. This is an insurance coverage case against our insurance carrier St. Paul relating to our request that it cover our costs related to our prior litigation against PTI. We initially lost the coverage case and we appealed the decision. The appellate court reversed and last month the trial court ruled in our favor and found that St. Paul had a duty to defend. Therefore, the only remaining question is amount of damages. From an accounting perspective, we expect that any damages would be treated as an offset against litigation expenses. The next step in the case is for the trial court to set a case schedule for any remaining discovery and a jury trial on damages. As with any legal matter, we remain open to discussions with St. Paul and finding a way to reach a mutually beneficial resolution. As we are at the midpoint of the year, I want to briefly reflect on the year thus far. Throughout my entire career, I've been a firm believer in setting a very high bar in terms of performance and expectations for myself personally, my staff and the company. Although, we are always striving to do better, the Company is performing well has many important valuable assets and continues to make substantial progress in many of our important objectives. With that, I'll now turn the call over to Robert, who will address our Q2 financials, our fiscal third quarter 2016 guidance, and other financial matters. Robert?

Thank you, Tom. As Thomas noted, we exceeded our financial objectives for the quarter and are encouraged by the progress we've made through mid-year. Let me provide some additional details on our financial performance in the quarter. Total revenue for the second quarter was $67 million above the high-end of the Company's guidance range including $66.7 million of recurring revenue. Compared with the second quarter of 2015, recurring revenue grew by $3.5 million or 6%, primarily to the payment from the UTAC made in the quarter which was offset by timing of royalties from other customers. GAAP operating expenses for the quarter were $32.9 million compared with $27.4 million for the second quarter of 2015. R&D expense for the quarter increased by $2.4 million from the second quarter of 2015, but only – was only slightly higher from the first quarter of 2016. The year-over-year increase was primarily result of incremental spending from increased headcount both through the acquisition of Ziptronix and strategic hiring to support expanded research and development programs in advanced packaging, imaging, and machine learning. Litigation expense for the second quarter was $5.3 million an increase of $1.8 million from the prior year, primarily due to the increased activity of open legal proceedings particularly Broadcom and Toshiba. Compared to the first quarter of this year litigation expense decreased by $1.3 million due primarily to the settlement of the UTAC matter. Amortization expense for the quarter increased by $1.4 million from the second quarter of 2015, but was flat sequentially. The year-over-year increase was primarily due to the amortization of intangibles recorded from our Ziptronix acquisition in August 2015 as well as IP acquisitions over the past year. GAAP net income for the quarter was $23.5 million or $0.48 per share on a diluted basis. Earnings per share exceeded the high-end of our Q2 guidance range mainly as a result of higher revenues delayed litigation spend and a reduced share count. Non-GAAP net income for the second quarter of 2016 was $30.2 million or $0.60 per diluted share. The EPS number was $0.04 above the high-end of our guidance range for reasons just noted. Non-GAAP expenses were $22.9 million for the quarter. This was comprised of the following; R&D of $8.8 million, SG&A of $8.7 million and litigation expense of $5.3 million. The tax adjustment for the non-GAAP items in the second quarter of 2016 totaled $3.3 million. Non-GAAP results exclude discontinued operations, restructuring and other exit costs, stock-based compensation, charges for required in process research and development, acquired intangible amortization, impairment charges on long-lived assets and goodwill, and related tax effects. We have included a detailed reconciliation between our GAAP and non-GAAP net income in both our earnings release and on our website for your reference. Moving to the balance sheet, we finished the quarter with $371.8 million in cash, cash equivalents and investments, an increase of $8.3 million from the prior quarter. Cash generation in the quarter more than offset the $25.2 million of common stock repurchases under our share purchase program and $9.7 million in quarterly dividend payments. As Tom noted earlier, common stock repurchases in the quarter pursuant to our stock repurchase program totaled approximately 816,000 shares for an aggregate amount of $25.2 million reducing our quarterly weighted average diluted shares outstanding to $49.4 million, down about 4% year-to-date and down by 7% from a year-ago. As of June 30, we had approximately $164.2 million remaining under the current share repurchase program. On July 25, 2016 the Board of Directors approved a regular quarterly dividend of $0.20 per share of common stock payable on September 12 to shareholders of record on August 22, 2016. Turning to our outlook, for the third quarter of 2016, we expect total revenue to be between $61 million and $63 million. We expect GAAP earnings per share of between $0.39 and $0.41, and non-GAAP earnings per share of between $0.51 and $0.53. Litigation expense will fluctuate depending on the timing of the case matters. For the full-year we anticipate that litigation expense will be at the high-end of our target operating model range of 4% to 10% of total revenues. Here in the Company's progress year-to-date we are reiterating our annual guidance range of $255 million to $270 million. Also based on our current visibility we expect the fourth quarter to be our strongest revenue quarter of 2016. With that, let me turn the call back to you, Tom.

Thanks, Robert. That concludes our prepared remarks. Now, we’ll open the call to your questions. Over to Veronica.

[Operator Instructions] And your first question comes from Krish Sankar from Bank of America Merrill Lynch.

Yes, hi, thanks for taking my question. I had a couple of them. One is how do we think about the litigation expense heading into next year. Given that most of your Broadcom dates are coming up in Q1, Q2 timeframe?

Good question Krish. Litigation is notoriously difficult to forecast. As you’ve seen it fluctuated on a quarterly basis. And it will really depend on the cadence of the cases. And in a lot of ways what happens between now and then. So it will probably be given that sort of six months plus out, I don't think it makes sense for us to try to give too much guidance on that. In terms of what next year is going to look like.

Got it. All right. Then in terms of the Q3 guidance between $61 million to $63 million the dip from Q2, is it primarily coming on the FotoNation side or your microelectronics?

FotoNation is part of it. We've mentioned before that we have a cap in one of our contracts with a key customer that comes into effect during the second half of this year. So that's a piece of it and you noticed revenue was higher than we'd initially planned for Q2, so some revenue called into Q2 and also some revenue pushes out to slightly into Q4. So I mentioned in the guidance section that we expect Q4 to be our strongest quarter for the year and that was why I was comfortable reiterating the guidance.

Gotcha. And then for FotoNation for the full-year calendar 2016, is it fair assume it will be greater than calendar 2015?

Yes. At this moment we're forecasting it to be higher than last year for 2016.

Thank you. Got it. All right. I think that’s all I had at this point. Thank you very much.

Thanks, Krish.

Thanks, Krish.

Your next question comes from Gary Mobley with Benchmark.

Good afternoon, guys.

Hi, Gary.

I wanted to start with the question about litigation and how it's impacting your pipeline at Greenfield licensing opportunities. I'm sure everybody in your Greenfield licensing pipeline took note of legal action against the Broadcom. Has that hurt or helped negotiation with some of these other Greenfield opportunities?

They're all unique and they're all different Gary, candidly. Yes, you're right, everybody certainly took notice for sure and some are quite – feel quite positive that we're confident enough in our assets to take those steps. But each one I swear is just it's so different, it's hard to characterize plus or minus. As an optimist, I tend to think of it as a positive, but again each one of these things are so unique.

Okay. And Robert how should we think about share retirement. I'm sure the key variables, the share price, and that bringing options into the money and what not. But some of the share price stays the same, what is your goal in terms of share retirements?

Well, I gained sort of [indiscernible] goal of 5% for this year and we're already well on track to be at that for this year. So I think we've got out to a good start for the first half of the year. We will continue to monitor it. We've been buyers. I think at the current prices, we would continue to be buyers, but we’re also balancing that with other potential opportunities. Tom mentioned M&A as possibility, so we try to make sure that we’re very thoughtful about using our capital in the best way possible.

Okay. I want to delve a little bit deeper into your assumed fourth quarter revenue outlook at roughly $74 million. If I’m not mistaken is the best quarter you'll have in almost two years. It will be the best quarter in recurring revenue presumably in the entire time you've been at the company. And so can you give us a sense of the ebbs and flows and what's driving now is sequential revenue growth in Q4, but the year-over-year growth?

Well, I think we're really talking about Q3 as we're guiding forward and I'm just reiterating our annual guidance, so I understand you're backing into Q4. We are very fortunate that we have good visibility based on the nature of our contracts as to what we expect. Things do occasionally move around on us a little bit, but I think we're very confident in numbers. And keep in mind that the annual guidance numbers that I'm giving our overall revenue and I'm not distinguishing between recurring and episodic when I give the guidance.

Sure. Okay. So that what you're saying in that last sentence is there maybe some episodic event in Q4?

Yes. That's possible certainly.

Okay. All right. That's it for me. Thanks guys.

Thanks, Gary.

Thanks, Gary.

Your next question comes from Jorge Rivas from Craig-Hallum Capital.

Hello, guys. Can you hear me?

Yes. Hi, Jorge.

Hello, Jorge.

Hi. Thanks for taking my question. So first question on the FotoNation side, so it appears that even though you had a good quarter the guidance and the results for the quarter may seem to imply that FotoNation is – as we decline in fourth quarters in a row after third quarter revenues in March. So I'm wondering, what are the drivers of that whether it's a ASP compression or units. Can you please elaborate a little bit on that?

Sure, thanks. So the good news for FotoNation, it’s just then as Tom mentioned, the right business in a very hot imaging space, so we're excited about the business and have two really strong quarters behind us, so far this year is great. For the second half, the real difference when you're looking at the total year is driven by just that one customer in which we had a cap in the contract which I mentioned earlier. So it's just a factor that will affect us primarily just for the second half. We exit the year on a new contract with this particular customer at a higher ASP. So we really exit the year with good momentum in FotoNation with that particular customer. And so we're only impacted for the second half and then on any historical products that are related to the prior contract that we’re in good shape following the end of this year. We will actually catch – we should catch the tip of that at the end of Q4.

Yes, and one other additional comment Jorge, that the new agreement that Robert is referring to, we don't face any caps in that.

Yes. Thank you. So no caps on the new abstract either and that's really the only driver that's kind of on the negative side for the FotoNation, rest of the indications are very strong.

Okay. Great. And then I was hoping you can help me outside from FotoNation for the rest of the business. My understanding was that there was a little bit of seasonality on the revenues was that third quarter being the strongest, but I think I would imply order wise, so if you can just provide a little bit more color of what's going on other parts of the business that's embedded in your guidance?

Yes, fair enough. We have typically had Q3 as our seasonally strongest quarter, but just based on the structure of our contracts that can move around a little bit and in this case it just so happens that Q4 was stronger than Q3 this year. That's partly driven by FotoNation, any of the remainder of the movement is primarily on the IP side.

Okay. I appreciate the thoughts. Thanks guys. That’s all for me.

Thanks Jorge.

[Operator Instructions] Your next question comes from [Jeff Home], Investor.

Hi, Tom and Robert.

Hi, Jeff.

Hey. Thanks again for the repurchase activity, good use of cash. I just have two questions. Tom, you mentioned in BVA, it seems like you've made progress with ASC on the technical side and you mentioned they're ready to engage. But you also said maybe a change in the target market of that products, so I just wonder do you still feel good about in that new target market is that revenue potential the same and is there any update as to when we could see royalty revenue from BVA?

Yes. So in terms of the overall revenue opportunity, it's really going to depend upon Jeff, which customers we lend. What I said is, we pass the hurdle of getting the product qualified by ASC, which is fantastic and they are now in a position and we can represent it to customers. So they've been able to build it to yield et cetera. And what we're saying is the need for high density chip-to-chip interconnect from application processor to memory that market demand is not at this point in the market. We expect it will be in the future, so with respect to that opportunity, you're right that it’s pushed out. What we did have seen in our sales efforts in our commercial efforts is that there are other market opportunities that appeared to be taking quite nicely to the technology. I mentioned SIP, system in package. And what the actual revenue on that in the timing of that is it’s still to be determined and we’ll be happy to give you an update as we proceed.

Okay. Great. And then on the Greenfield side, I was just curious you mentioned you had to two and you just started litigation, is there a chance that the other one are major one there's more news in the second half of the year regarding one of the other top companies?

It’s certainly possible, right, it's hard to predict right, and it's very hard to predict, but yes we continue to be actively engaged with a number of them including the two we talked about one of which of course is Broadcom. And our goal remains is to see if we can land one of these in the second half, but it's very hard to predict the timing of it.

Okay, great. And could you just talk in general what you're seeing in M&A, I mean is there – are the opportunities similar to what you've already executed on or are they more FotoNation or more IP, microelectronics IP. Can you just talk in general what you're seeing out there in valuations and how attractive the candidates are?

Yes. There are number of opportunities big and small IP related, imaging related is really the screen. We pull the trigger on two smaller ones if you will or a small and medium size one so far. The reason I mentioned it is because we continue to be actively engaged and there's a large number of potential opportunities we're exploring. As Robert says and we fully aligned on this with the Board, Robert and I as we're really prudent spenders of shareholders capital. So in some cases we haven't agreed on valuation which is why you haven't seen more activities and others maybe there isn't the strategic fit or things fall out in diligence, but we have not let up in our intensity in our desire to continue to look for value creation opportunities in that area.

Okay. Great. Thank you. Yes, great to get the share account down with this share price, so keep up the good work there.

Thanks, Jeff.

Thanks, Jeff. End of Q&A

At this time there are no further audio questions. I would now like to turn the call back over to management.

Thank you, Veronica. In summary, we're really pleased with our results in the direction of the Company. We continue to make excellent strides on our funding and packaging technologies, our IP licensing initiatives, and our FotoNation product focus business. Again, thanks for taking the time to learn more about Tessera and thanks for spending time with us. Thank you.

Ladies and gentlemen, this does conclude today's conference call. You may now disconnect.