Xperi Inc. (XPER) Q1 2018 Earnings Report, Transcript and Summary

Good day, ladies and gentlemen. Thank you for standing by. Welcome to the Xperi First Quarter Fiscal Year 2018 Earnings Conference Call. [Operator Instructions]. This call is also being recorded today, Thursday, May 3, 2018. I would now like to turn the call over to Geri Weinfeld, Senior Director of Investor Relations for Xperi. Geri, please go ahead.

Good afternoon, everyone, thanks for joining us, as we report our First Quarter Fiscal Year 2018 Financial Results. With me on the call today are Jon Kirchner, CEO; and Robert Andersen, CFO. Before we begin, I would like to provide two reminders. First, today's discussion contains forward-looking statements that are predictions, projections or other statements about future events, which are based on management's current expectations and beliefs, and therefore, subject to risks, uncertainties and changes in circumstances. Please refer to the Risk Factors section in our SEC filings, including our most recent Form 10-K and 10-Q, for more information on the risks and uncertainties that could cause our actual results to differ materially from what we discuss today. Please note that the company does not intend to update or alter these forward-looking statements to reflect events or circumstances arising after this call. Second, we refer to certain non-GAAP financial measures, which exclude discontinued operations, restructuring and other exit costs, acquisition and related expenses, acquired intangible asset amortization, charges for acquired in process research and development, stock-based compensation expense, and expense reductions from insurance recoveries. We've provided reconciliations of these non-GAAP measures to the most directly comparable GAAP measures in the earnings release and on the Investor Relations section of our website. The recording of this conference call will be available on our Investor Relations website at www.xperi.com. I'll now turn the call over to Jon Kirchner.

Thanks, Jerry, and thanks, everyone, for joining us. We are very pleased to report strong first quarter results. Billings were $104.3 million, up 6% year-over-year excluding out of recoveries, exceeding the high end of our of our guidance range. This was mainly driven by increasing penetration of our solutions in the home and automotive markets. These results put solidly on track for the year. Importantly, we feel confident about our long-term business prospects and brought back 645,000 shares during the quarter. I will begin today's call with an update on each of our markets and the progress we've made towards the long-term targets we provided last quarter. Robert will provide more in-depth discussion of our Q1 financials and our outlook for the second quarter. Let's start with a product licensing business. As a reminder, we expect this business to represent approximately 70% of total Billings over the long term. Total product licensing billings during the quarter were $61.2 million, up 5% year-over-year, excluding out of recoveries. Beginning with automotive, the automotive market delivered $22.6 million in Billings and increase of 23% year-over-year, this growth was driven by increasing penetration of HD Radio and a new car sold in North America and our repayments related to our DMS work with DENSO. We made solid progress toward our long-term targets in this market and each of the areas we laid out for you last quarter. Our three key core drivers are firing on all cylinders. Firstly, we increase penetration with our HD Radio technology. In the U.S., HD Radio launched in the Ford eco- sport, BMW X2, [indiscernible] cross and Infiniti QX50. We added 15 new radio station licensees, now totaling nearly 2200. Additionally, Kia is now utilizing the HD Radio broadcast pipe for traffic and weather. Second, we hit a milestone with the commercial launch of our DTS Connected Radio 1.0 product. The components of the DTS Connected Radio solution, global points of presence, automotive hardware and software development kits and broadcaster APIs form a complete ecosystem to ensure a consistent reliable service can be delivered to cars wherever they are sold in the world. This platform supports all of the global broadcast standards, including analog, DAB, DAB plus and HD Radio. We also completed Connected Radio integration with RCS. One of the world's leading studio automation vendors, with over 14,000 radio station clients. Lastly, we are continuing to develop our DMS automatic solution through our program with DENSO and our now engaged with potential implementation with four other audio -- auto industry partners in the U.S., Europe and Asia. Moving to the mobile market. Billings were $11.6 million, as expected, Billings declined $1.9 million or 14% year-over-year, primarily due to a significant contract built during Q1 '17 that covers multiple quarters of activity. For the year, we expect mobile to be roughly flat, primarily due to an upfront payment received last year from an SLR customer, which covered multiple years and declines in PC related licensing, offset by growth in smartphone licensing. Importantly, we made significant strategic progress on all three of the mobile related long-term growth drivers we laid out last quarter. We are positioning ourselves squarely in the market, we anticipate will provide meaningful opportunities in the future. First, we continue to work with our mobile partners to deliver more and immersive audio and imaging solution on their higher and smartphones and gaming headsets. Yesterday, LG launched their new flagship smartphone, the G-7 think, which is powered by a custom DTS:X audio solution. Additionally, during the quarter, we launched the latest version of Headphone:X. and saw an uptick in a customer interest in Billings in the gaming and headset space, mainly driven by the enhancements made in version 2.0. Second, market interest in 3D facial recognition solutions continue to grow, and we are advancing our engineering work around this key application. We have recently provided our 3D facial recognition solution to key customers for evaluation, and we updated our facial analytics and image understanding products to include advanced neural processing. Our technical results have been strong and we look forward to seeing these solutions more broadly commercialized. Third, on the AR/VR front, interest in the Xperi value proposition for AR/VR devices is growing from an imaging, iris and audio processing perspective. As this market develops, we believe there are significant long-term opportunity for our solutions. During the quarter, we were involved in three different VR projects, including hero, a location-based entertainment experience that has been getting wide acclaim. The release of crisis on the Planet of the Apes VR, a VR-based games from 20 Century Foxes -- Fox next VR studio. And lastly, the launch of Huawei IMAX branded VR headsets in supporting content. Our engagement with Huawei represents a multiyear partnership and is a strong indicator that leading handset makers, CVR and AR is a key element on their Mobile roadmaps. Moving to the home market. In Q1, we delivered Billings of $26.3 million, an increase of 2% year-over-year. We made solid progress towards our long-term targets in this market in each of the areas we laid out for your last quarter. First, we increased our AVR sound bar and TV footprint with continued penetration of our newest technology solutions, Virtual:X and DTS:X. During the quarter, the first Virtual:X TV's were launched with LG. LG also launched Virtual:X on their sound bars. This marks the first time in many years that LG has licensed their audio post processing solutions and as a testament to the strong differentiation that Virtual:X delivers to consumers. For DTS:X, we announced new 2018 sound bars from Sony and Samsung at CES. Additionally, we successfully executed renewals for key Home licensing minimum guarantee contracts for TV and audio TV Kodak and audio post processing with high sense, Skyworks, TCL, Shami and UMC Sharp. Second, we continue development on integrated sight and sound solutions, initially targeting the home market. And lastly, we advance development efforts on deploying machine learning solutions to add intelligence to home-based audio and imaging solutions. Supporting all three end markets, our content ecosystem continues to develop and strengthen. With more than 650 DTS:X certified screens globally. During the quarter, we engage with several additional perspective content streaming partners in Asia, North America and Europe, and expect to make announcement regarding the newly launch services later in the year. Moving to our IP licenses and semiconductor packaging business. Billings were $43 million, up 8% year-over-year, driven mainly by our license with Broadcom. Looking ahead, there are two key things to note. Our first meaningful trial with Samsung began at the end of July of the ITC. And during the quarter, we began IP licensing engagements with additional semiconductor companies and we continue to work to advance discussion with certain other non-licensed parties. In our [indiscernible] business, over the past quarter, we have made important progress in licensing discussions for our ZiBond and DBI bonding technologies. Additionally, we advanced our [indiscernible] for DBI development efforts and have begun to engage perspective customers. Interest has been keen. We expect demand for hyper scale cloud and high performance computing for the machine learning and artificial intelligence applications to drive a future need for fine pitch 3D interconnect technologies, like our driveway for DBI technology. This demand is expected to grow over time, as the semiconductor industry seeks to drive gains and performance, power in form factor. Similar to those enabled by Morse all over the past few decades. For more information about our highly innovative bonding technologies, please see the new video posted on our website at Xperi.com/invent. With that, I'll turn the call to Robert to discuss our financials.

Thank you, Jon, and good afternoon, everyone. As a reminder, due to the new revenue accounting standard, ASC 606 will be discussing billings instead of revenue, as we feel, it's an important measure of our financial progress. The presentation we gave on ASC 606, which present on our website, outlines the impact of the new accounting standard on Xperi, and conclude the customer billings and operating cash flow will become key metrics for measuring our business. Now on to the numbers. Total billings for the first quarter were $104.3 million, up from $99.7 million in Q1 2017. GAAP operating expense including cost of revenue was $98 million compared with $107.2 million in the first quarter of 2017. Non-GAAP operating expense including cost of revenue was $62 million compared with $65.5 million for the first quarter of 2017. And non-GAAP decrease was driven by reduced spending on litigation and SG&A, balanced by higher R&D spend. Non-GAAP R&D expense for the first quarter was $23.4 million, an increase of $1 million as compared to the first quarter of 2017, primarily due to certain investments in our machine learning development efforts. Non-GAAP SG&A expense for the first quarter was $28.9 million, down $2.8 million from the $31.7 million last year, primarily due to the higher spend in the first quarter of 2017 from the Xperi brand launch and acquisition related cost. Litigation expense for the first quarter was $7.3 million, a decrease of $2.7 million from last year. Interest expense was $6.3 million and we paid $4 million in cash taxes during the quarter. Moving to the balance sheet. We finished the quarter with $80.8 million in cash, cash equivalents and investments. On January 23, 2018, we completed a successful retraction of our term B loans and pay down $100 million of our outstanding debt, bringing the debt balance to $494 million. As a result of adopting the new revenue accounting standard ASC 606, we are require to make several adjustments to our balance sheet to reflect the unbilled portion of fixed fee and minimum guarantee contracts in place of the beginning of the quarter. These changes effectively put on the balance sheet, activities that would otherwise run through the income statement. Details on the adjustments are contained in our Form 10-Q, which was filed today. And in summary are, a $293 million total increase to the unbilled contract receivable asset accounts. A $65 million increase to the deferred tax liabilities. In an increase of $224 million to retained earnings. For more background on ASC 606, you can review the presentation we gave in January on the Investor Relations section of our website. Operating cash flow for the quarter of -- first quarter of 2018 was $4.7 million, a decrease of $14.3 million compared to the $19 million in the first quarter of 2017, this difference is primarily due to the timing and nature of bonus payments. The 2016 performance bonuses of $6 million for DTS employees were paid in Q4 of 2016 in connection with the closing of the acquisition rather than in Q1 of 2017. Separately, as we announced in conjunction with the acquisition, approximately $18 million a retention bonuses relating to the transition -- pardon me, relating to the transaction, would have been pay during 2018, of which $9 million was paid in the first quarter of 2018 and $9 million will be paid in the second quarter of 2018. The retention bonuses are one-time event and are included in the company's operating cash flow outlook for 2018. As Jon mentioned, we returned $15 million to shareholders through the repurchase of 645,000 shares during the quarter. Moving to our outlook for the second quarter, we expect billings to be between $99 million and $103 million. GAAP operating expense is expected to be between $99 million and $102 million. Non-GAAP operating expense is expected to be between $62 million and $65 million. With regards to our full year 2018 outlook, given the solid start to the year and current visibility, we are reiterating the ranges we provided last quarter. To provide more color on the back of the year, we anticipate the billings will be weighted more in the fourth quarter. As we saw last year, we expect a seasonal increase from Q3 to Q4 in the product licensing business of approximately 20%. We also have certain schedule billings for the curve once or twice a year, rather than every quarter, which will have a positive impact on Q4. Overall, we are pleased with the first quarter performance, and naturally, have work to do as we advance a range of opportunities in our pipeline. We look forward to updating you on our progress over the coming months. That concludes our prepared remarks, and we will now open the call for questions.

[Operator Instructions]. We'll take our first question from Amit Daryanani with RBC Capital Markets.

I guess couple of questions, start with, one on IP licensing. I think Jonny mentioned, there were some Greenfield opportunities oppose to broad-term settlement. Can you just update on how big do you think these Greenfiled opportunities could be for you guys over time? And did that contributed all to you, the uptick you saw year-over-year in the in IP licensing business?

The later part of the question is, no. The in short, we saw, obviously, year-over-year due -- based on Broadcom, a slight improvement, as it relates to the broader Greenfield licensing area, we have a number of discussions in the pipeline. We've said previously and still maintain that there are hundreds of millions of dollars of opportunity that we believe to be the target market there. And we continue to advance those discussions. So I think the -- our key focus is on not only working to resolve the ongoing in-depth discussions we're having, but additionally, to add to the pipeline because we believe that our core IPS that's in -- in many ways remain foundational to a lot of activity in the semiconductor market.

Got it. And then on the automotive side, you saw some really good strength on a year-over-year basis. Is there a way to think about how much of that was just better end market trend that you talked about versus NRP payment is might be more off a one-time thing from Denzel?

It's a combination of both. We continue to see increasing penetration in HD Radio. We also believe that as we go through the next couple of years, there is going to be some RE as we work with partners to develop the DMS-based solutions. But I think the most important thing is that we are actively engaged with a number of automakers on solutions for Connected Radio as well as DMS as it relates to the 2020 and beyond time frame, some of which we simply can't talk about at this time. But we feel very good about the long-term prospects for automotive growth.

Got it. And if I could one more. If I look at the operating cash target, you have guys for the full year, which $120 million to $145 million. Q1 at least seems light in that context of $4.7 million, so which is help you understand. How do you think cash flow stocks up for the next few quarters, I think you should have some one-time payment in Q2 as well. But how do you see cash flow generations stocking up over the next few quarters? In any sense directionally how fiscal '19 cash flow could look like versus '18 for you guys?

Year, this is Robert. So Q1 is traditionally a weak seasonal quarter for us. Obviously, we do make bonus payments in the first quarter. And as -- I think for looking at the full year, we have reiterated our guidance for the operating cash flow. And if you look at the cash flow over last year in 2017, in more or less increases each quarter, and that's a probably reasonable way to think about how that occur this year as well.

In any sense on fiscal '19 directionally versus what '18 does?

We haven't gotten out that far in terms of giving a outlook.

I think two comments on -- but I would make just in general. Obviously, we have got underlying contracts that continue to perform and will perform in an through 2019. And the second key thing is, just understand that there is more volatility in cash flow quarter-to-quarter now as we are talking about billings rather than revenue in part just because the timing of one billings occur is important. So as Robert said, you're going to see the cash flow built through -- throughout the year. And you will -- do see low seasonality in Q1. But understand some of the differences in terms of how we're thinking about measuring the business today with the billings-based method under 606.

I'm sorry, one other comment, here which is on our deck it's probably put the quarterly cash flow trend last five quarters and that should -- that visual should help in terms of what it's look like in the past.

We'll take our next question from Gary Mobley with Benchmark.

To get a little bit deeper into the guidance. Robert and Jon, you both just mentioned that, typically the first quarter the seasonally quarter and some of you referring to billings there. But yet -- you're guiding for $4 million to $5 million sequential dip in billings. So I'm just wondering, if you can explain sort of the logic behind that assumption.

Sure. I think when we're talking about the seasonal dip or typically we're talking about operating cash flow, that's where we see virtually every year in the Q1 is a weak. And as you actually look at the earnings release, you'll see that we have described a kind of a year-over-year reason why it's -- even lower than last year. Had that anything to do with just timing of payments.

Let me ask it a different way. What's -- ignoring any seasonal factors, is there -- are there any one-time issues in the first quarter that won't repeat in the second quarter that you forecast sequential revenue debt?

For a moment let me take the question in relation to billings. I think that's really the origin of what you're getting at. So for quarter-to-quarter sequential, there's nothing unusual between the two quarters. We do see a ramp to some extent in billings over the course of the year. And I have just described in my comments, Q4 is expected to be the strongest seasonal quarter for us. And the other thing that's interesting about billings is, it's -- it will have a slight degree of lumpiness just because of the timing of when our contracts occur, you don't have the normal smoothing that occurs with revenue as much. So it -- when I look at the year, we -- I thought comfortable that we're still on track with our guidance range. But you will see a little bit of lumpiness quarter-over-quarter, as we go through the year.

Okay, looks like you're guiding for about 2% billings growth in 2018, and you mentioned, you expect some heavy fourth quarter waiting, but correct me if I'm wrong, won't you experience your first roll off in Q4 from an OSAT structure payment? And then can you remind us what the annual dollar value of those OSAT restructure payments are?

The role of the two OSAT and we're referring to MCOR [ph] and PPI, I want occur until Q1 of next year from a billing standpoint. And the total of those two is roughly $63 million on an annual basis for next year.

Anyone guess to see how you back fill that?

We're working on that.

Our next question comes from Matthew Galinko with Sidoti.

Sorry, can you hear me now?

Yes.

All right, apologize. So first question would be around your spending distribution, or I guess, all our distribution partners around DMS, any expected ends near expenses that will hit your P&L as a result? Or do you expect what you've done already could be repeatable to the other vendors?

We've already staffed up on our DMS efforts. And indeed, actually, redeployed some of our existing engineers to work on those programs. So while we may have some -- it will really depend on new agreements and relationships and the requirements under those programs. But the moment, we don't have a significant forecast for increase in the engineering cost related to DMS.

Okay. And curious, if there's any anticipated impact from some of the political issues with China and in particular around ZTE, anticipated in your forecast more if anything does that -- that could still fall from?

Well, specifically, around CTE, we do business with ZTE, although, it does not represent any material impact or P&L, furthermore, there is a provision under existing license different types of activity that can continue. So again, that issue, we don't believe will have any significant opportunity or impact on our business. More broadly, as the government's engage, longer term, we have yet to know exactly what's going to happen, and therefore, we haven't been able to access it. But, today China is not a huge part of our business, it's a less than 20% of our revenues.

5% of our revenues.

Sorry, 5% of our billings.

Still getting used to that.

Appreciated. And maybe if I can continue down that just one more question. Other kind of IP licensing companies have talked about -- the Chinese government becoming more accommodative to licensing efforts. So I'm just curious, if you see -- you will think continue down that road, whether that opens up any opportunities for your IP licensing business?

Well, I think depending on how it plays out there, they could be both, positive impact and opportunity, as well as it could go the other way. So I think it's still too early to tell in short. But we have teams that are actively engaged, doing good work with partners on the ground in China, as well as elsewhere in the world. And obviously, we'll continue to try to make adjustments as things play out. But longer term, we believe, there's significant opportunity in that part of the world and with those partners. And we'll see how it develops.

Our next question comes from Richard Shannon with Craig-Hallum.

Just a few for me. I'll start on the topic of the -- of Greenfields here. I know some of ask question previously, may be dig into a little bit more. Jon, I wonder, if you could characterize the cross the bread to discussion you have. What kind of maturity level to those conversations have? I know that in previous -- with current licensees, those negotiations some -- sometime take a period of time and we're about five months after the Broadcom cases finally settled. Any way you can describe for us that maturity level and how we should think about timing of getting some across the finish line?

I think it varies across the number of different potential licensees, we're discussing things with. So I pretty wouldn't be meaningful for me that until really say much more rather than to say, it's our objective to work with these partners, to enter into license agreements as soon and as fast as we can on fair marketable terms. And we have the long term interest of the business in the value of our asset base, in our portfolio. Demands that we work towards that specific objective even at the cost occasionally at slightly longer period of time. All I can tell you is, we're progressing discussions and since we've essentially removed things like Samsung which obviously are known in our larger from our guidance. We will come back to you over time with some positive news. But we'll see how it goes.

Okay, fair enough. I'm sure, we'll keep asking that quarter-over-quarter until we see the stuff, so good luck on that. Another question want to fill up on DMS, wondering kind of twofold question. I'm curious about the competitive situation there, in terms of both internal and external competitors there. And I think you mentioned something like four engagements or potential partners there. Do those -- do you know of those guys have suppliers of some sort of DMS type of functionality? Or -- and still how do you fit in there? If you can just describe that situation in both lines? That would be great please.

Sure, it differ in some cases, based on who that party is, the extent to which they may have both an existing, let's call it, solution they are trying to evolve, they are working on a new one and the extent to which they may be doing some of the development themselves on part of the solution working with third-party suppliers. I think, our roll in DMS very clearly is not to try to develop the comprehensive hardware and software solution that essentially would be deliver to consumer, as this is DMS. But rather, key parts of that solution where we have world-class expertise, things like identifying faces in terms of face -- facial detection and recognition. Things like eye gaze, where people are looking. Things like a motion detection and other, let's call it upper body behaviors that might otherwise indicate whether a driver's is paying attention or in some cases may be falling asleep. So we are really supplying those core ingredients and -- into broader systems that are being essentially developed and packaged for next generation driver monitoring. And the feedback has been very good, not only with our partners DENSO, as we have been working but in -- these are the discussions. So I think we -- you will see us over the next few years bring this to market and we believe, in the long run, there is a significant opportunity for the sort of systems, we think that will be widely deployed initially in some aftermarket and fleet vehicle type products, and then later in consumer passenger vehicles. So we are -- we're excited about the progress we're seeing and look forward to -- hopefully over time, there are being greater visibility in the market in terms of what we're doing in that space.

Okay, perfect, look forward to that as well. Maybe my last question here. I had a press release, I think, in last few week regarding your face-safe technology, I think, I had a chance to follow-up when I came out here with, Jon can you help us understand the exactly we're in the -- context of other facial recognition technologies are out there, whether mobile platforms or not. Where are you intending to go? And if the ones that are deployed in the market today, I think, everyone knows of one with a very large company, it's out there. Are you trying to fit into similar types of platforms, and if it's not, getting help us to understand where the opportunities that's for you?

Well, we clearly believe that over time in mobile, in particular, the role of faces and personalization both for access and for security is going to be very important. And we also know that as phone makers are looking for ways to enhance the consumer experience, because phones have both rear and front facing cameras, they're looking for ways to further leverage that array to the make user experience more seamless. So face-safe, essentially, offers in enhanced way identifying and confirming faces. And a key issue there is under what kind of lighting conditions or under what kind of viewing angles to these solutions work, which is, I think, where some of the harder engineering comes in. It's one thing to work in perfect lighting in it's another to take it outside in the bright sunlight and have a work in same kind of performance level. And then secondly, what are the false acceptance rate? How well you can trick these things? With the 2D image or other source of efforts to get around the technology functioning properly. And FaceSafe essentially bring some world-class-technology to solve those two issues, which is very high accuracy at very high speed in a broad base of conditions. And so, the way this will play out, I think, is, in part, clearly, for phone-based applications, which you could put under the heading of both biometrics and security. And I think over time, that in-depth knowledge of faces and having technology that addresses that problem and that issue, we will find its way into other sorts of products, as it relates to people's attempt to both personalize their products, so think about it in the context of DMS for example, as well as home-based products, where the notion of presence detection is going to be, we think, a very fertile ground to advance electronics in the home and in different environment. So it's an element of a broader play. But it fundamentally has to do with our core expertise around faces.

Speakers, at this time, we have no further questions in queue. I'll turn it back to you for closing remarks.

Thanks, operator, I appreciate it. We had a strong start to 2018 and feel confident in our ability to continue to advance the business toward our long-term strategic goals. We appreciate you joining us today, and we look forward to speaking with you in the near future. This concludes today's call.

Thank you, ladies and gentlemen, you may now disconnect, and have a great rest of the day.