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iRobot Corporation (NASDAQ:IRBT)

Morgan Stanley Industrials & Autos Conference Call

September 16, 2013 06:55 pm ET

Executives

Colin Angle - Chairman of the Board, CEO and Co-Founder

Analysts

Unidentified Analyst

Thank you for attending the iRobot Meeting. We are very happy to have Colin Angle here, Chairman of the Board, CEO and Co-Founder of iRobot. Just a quick, brief, couple of points on Colin. Colin guides the strategic direction of iRobot, of course, one of the world's leading authorities on mobile robots, industry pioneer by most sources with more than two decades of experience.

Under his leadership, iRobot is at the forefront of a growing robot industry delivering home cleaning and military robots that are making a difference, so thank you everybody for attending the iRobot session here. We will jump into some Q&A. First, we will sort of kick it off with the fireside chat format and then we will open it up for any audience Q&A.

Colin, if you don't mind, just for the benefit of everybody attending the conference, spending just a couple of minutes maybe introducing the iRobot story?

Colin Angle

Sure. So, iRobot is not a new company. Founded in 1990, our original mission was trying to make robot a practical reality. We had seen robots in Hollywood, but somehow they were absent in our lives. Already time since the founding, we have investigated a number of different markets, but what emerged as our main drivers were automated home maintenance, defense applications, and remote presence applications for robotic technology. Our most well known product would be Roomba robot or vacuum. We have sold over 10 million home robots. We also sent over 5,000 robots into the field to address bomb-disposal, bomb-hunting challenges, and have launched a remote presence robot to allow doctors to diagnose patients remotely and just are few months away, first half of next year of launching a new product to allow executives to collaborate with each other, so there's a common theme. Company leads the world in technology for robot navigation, perception, and manipulation. We are very excited that the gaming and mobile industries are as dynamic as they are, because they are giving us new capabilities to also synergistically increase the value and performance of robots.

Unidentified Analyst

It would be helpful if you just talk a little bit about kind of the history that got us here and kind of the business splits and where we are today. Consumer versus defense, I know it played kind of different roles today than they have in the past and maybe where we are going.

Colin Angle

Sure. In 2002, sort of the modern era of iRobot began. We sent robots to Afghanistan, and we launched at Brookstone the first iRobot Roomba. They are two businesses with very trajectories, Roomba growing very rapidly in revenue, but not in earnings; and the defense business growing steadily both in profit and revenues and probably reached its sort of local maximum in 2010-2011 when it accounted for about 45% of our revenue and most of our profit.

In 2012, we saw a very significant decrease in size of our business, our military business, where it changed from 2011 over $185 million down to $70 million. In 2013, it's at $50 million. I think that's a good stable place for us to be on defense side, but then at the same time the consumer side of the business has continued to grow and grow and grow and has been a tremendous driver. We have the logistics that we need to support this and now as we sit here today, 90% of our revenue comes from the Home Robot side, and obviously the profitability of the home side is to radically improved.

Unidentified Analyst

Just kind of following up a little bit on the home side of the business, if we could just talk about kind of some of the key products. Obviously, Roomba plays a big role there. Can you just help us understand the outlook for Roomba as you see it today, domestic versus international or kind of some of the geographical issues at hand?

Colin Angle

Sure. When you bring a new technology to market, you have a goal is always to watch it disrupt the industry and create tremendous value. 15% of the money spent globally on vacuum cleaners over $200, which is over $7 billion a year, over 50% is now robots and the number one selling vacuum cleaner in Spain is Roomba. I think, particularly special about Spain is just they are slightly better than many of the other countries that Roomba is sold in, so we've seen this massive disruption of how people vacuum their floors. It is a global phenomenon.

About where we (inaudible) with ourselves at this point are in North America, one-third in Europe and one-third in Asia. Predominantly Asia, predominantly, Japan, we are earlier in China as we have a major [mark], we see that as being very good future growth potential, so it's evenly balanced. They are at this point, and have been for quite some time, other competitors to iRobot in the States. We have high 60s-percent market share globally in this industry and we have a very, very, very deep intellectual property portfolio protecting us against the competition, so there is iRobot and then the rest of the competition splits the remaining market share in a very distributed fashion.

Unidentified Analyst

Just digging a little deeper, could you just talk about maybe the incremental trends in each of those regions?

Colin Angle

Sure. Obviously, the macro environment in Europe is challenging. If you look at only Roomba sales, excluding our other product offerings and launches, sales in Europe are roughly flat, maybe slightly down relative to prior year, which relative to other appliance manufacturers in the European market is doing extremely well, so it's sort of a flatter to new up environment. Whereas in North America, we are seeing growth rates north of 30%, and saw our growth rates north of 30% last year when we really started focusing on awareness of building and investing in T.V. advertising.

Japan has been a huge, powerful and strongly growing area and we see that continuing in 2013 as well. We've talked about high-teen growth rates sort of if you roll it all together. I am very comfortable that growth - revenue guidance, not for the company. That also includes the defense, which is not a growth area this year.

Unidentified Analyst

Before we talk about defense, just ex-Roomba, Home, is there anything worth mentioning there?

Colin Angle

Absolutely. While Roomba has sort of broken through and is a category into itself, we have launched other products in Home, The Scooba Floor Washing Robot. This is a better way of mopping your floor. Mopping (Inaudible) dirty water spattered around. Your bucket gets dirty, so you must be picking up some amount of dirt, but the Scooba robot has two tanks. One for clean water and one for dirty water, puts down the clean water, scrubs it, vacuums up the dirty water, so you are always cleaning with clean water and you end up with a tank of sludge at the end, and so that -- on top of that, (inaudible) own them and top of that would make a robot really - so you do not do anything, so, this is a very exciting product because it's more complicated than the Roomba, sort of had a longer trajectory of getting the recipe right and the durability right, and so that this is at a point now where we think that adding more energy behind marketing and selling that product has some real opportunity to stimulate growth.

Then our newest product in the portfolio, the Braava, is an electrostatic cloth cleaning robot, so many people use these electrostatic clothes in their homes, a little different from (inaudible) because you need to -- instead of vacuuming where you are trying to go over the same area multiple times until you visually can look down and be sure that it's clean, which Roomba does.

If you are using one these electrostatic mops, you have to do it in a specially designed pattern, so you pick up all the dirt and don't be (Inaudible) for your floor, so we have a navigation technology which allows that careful sequencing of the robot to make it effective in doing that, so that's just launched. We acquired that product as part of the very cool acquisition we did last year. We expected to do $22 million to $24 million this year, very backend loaded. We have through the first half of the year, we did about $5 million of that $22 million to $24 million, but that has to do with our distribution strategy in taking the old inventory working that for the channel, doing an upgrade on the engineering and re-launching, so that's well underway and we are rolling that out globally.

Unidentified Analyst

How do we think about the margin profile or any framework around margins for the mature products versus the less mature products?

Colin Angle

For the Roomba, which is the best example of a mature product, really high 40s as far as product gross margins and we think that's a good place for it to be. With volumes where they are over 10 million sold, we don't see a lot of manufacturing optimization as being the source of new gross margin.

The new gross margin opportunities for that product are going to evolve over time where the monetizable software content in those robots improves. I mean, these are very high tech devices, but they are not cloud-connected at this point and the amount software that is appreciated by the user is modest and so I think that there are opportunities as we roll the path forward to see modernization of software to be a good growth driver take us beyond that high 40s.

For less mature product side, there they start out lower. Those manufacturing efficiencies, supply chain efficiencies and design efficiencies that now work in our favor to bring those delta.

Unidentified Analyst

Are there any kind of volume measures or any other metrics that you can point to that sort of help us understand that tipping point when the young product kind of hits that more mature economic phase?

Colin Angle

I think that, again, are we talking home or? Talking about the volumes can be very different.

Unidentified Analyst

Yes. In this case, I am talking home.

Colin Angle

Okay. What you need to say is, volume and volumes in the high hundreds of thousands count to get you going, but you also need time. What we do is not like being in the software business. The design cycles are longer, we need to work on and design, tooling, this is a supply chain and new (Inaudible) testing, so it's not a quick thing, so that you both see volume and time to see this.

When we looked at the Braava, and first introduced the models, margins were down below 30%, but we promised and what we will delivery on is the fact that by the end of this year, the Braava is coming off the product line. We will have a 40% gross margin, so we see 10 points a year of improvement of that product and as we work towards inventory that will certainly help the company's performance next year.

Unidentified Analyst

Got it. Then just transition to defense, it was not the driver in the business. It used to be, but could you offer an outlook? I mean, is there a scenario on a go-forward basis, where it contributes much, much more maybe like it has in the past.

Colin Angle

The need to pull the soldiers out of [honed] way are least in situations where it's appropriate dangerous driving full out of. That's certainly hasn't gone away. Using improvised explosive devices is a means of attacking our soldiers is on the rise, not on the decline. We have disrupted the method with which our soldiers and our explosive ordnance disposal personnel it defuse bombs. Just at the beginning of Afghanistan they were still going up in bomb suits and now they stay in the vehicles and use the robot, so it's a complete sea change, so the outlook is very, very good.

Pentagon to acquire new hardware at this moment and in this economic situation is very limited and so the growth areas are international. The growth areas have to do with coping bomb squad in the state and local with this type of equipment and we think that there is a very sustainable business doing that longer term if that makes sense. These robots are going to be used in many, many more ways in good volumes by the U.S. military and I can't predict when will we see major upturn, but there will be a very exciting business in the future in this side and we have scaled back our operations, so that we are proudly continuing to work on the business. We are not hemorrhaging and so that we have positioned ourselves to be patient.

Unidentified Analyst

Got it. Let me ask another one, but also let me just say I do want to open it up for questions, so if anybody has any questions, feel free to raise your hand and jump in there.

Colin, just when we think about the business long-term, when we think about it kind of 10 years from now, I think five years ago you wouldn't necessarily have predicted that the revenue splits would have worked out the way that they did. When you look out 10 years from now, best guess, how do you think about the business mix and how iRobot will be positioned on a go-forward basis?

Colin Angle

10 years? You gave me a lot of license here. The biggest robot industry in 10 years it won't be exactly be sure to say. It's a tremendous opportunity, but 10 years from now maybe 12 or 14 years from now, the biggest robot industry is going to have to do with helping our elderly living and/or live longer, huge demographics working to force the emergence in this new industry.

What we are doing in iRobot is growing very exciting standalone industry on path to delivering solutions to help our aging [demographic]. You need your home taking care, you need access to doctors without asking those doctors to travel, you need nursing support, you need typical support in carrying and moving things around home, so 10 years from now our Home Robot business unit, I could see being substantially larger with more product offerings than it is today.

I could see the Remote Presence business unit being substantially, extremely much larger than it is today connecting doctors to patients in hospitals and also in the home and the portfolio of businesses has matured and iRobot has multiple legs on which it creates revenue and earnings and has positioned itself as the central player in this extraordinarily important emerging market.

Unidentified Analyst

Got it. Does anybody have a question in the audience? Okay.

Question-and-Answer Session

Unidentified Analyst

Getting back to the point you made about the opportunity to monetize software element into robots and your point of the robot volume [to the marine]. I would lack the imagination in terms of that what that means. Could you just help with that and do that?

Colin Angle

If you think about how you interact with someone else. The person that occur up there, someone you are trying to ask to do some type of task, the ability for you to effectively communicate and for that other person don't understand what you are asking that could relate to the sophistication of what you expect that person to do, so cleaning the floor is pretty simple. Clean and go in the kitchen is more complicated. Clean floor in my den, but don't clean over there because there is all my electronic stuff is over there, but here something it's the traffic area that would have been more sophisticated sort of criteria that you expect the robot to accomplish and that just has to do with cleaning the floor.

If you think about the needs of somebody actually looking for help in home and awareness and understanding of what's going on in the home is a precursor to actually do their job. In addition to building the robot that we basically talked about, we have technology in manipulation, navigation and perception, so the hospital and business collaboration robots that we build today, you turn them on and in a couple of hours you drive them around a business or a hospital anything for map.

Right now, you have to label the map. Tell the map, tell the robot what different moves are then it takes a little bit more time, but once you are done now the robot understands a hospital and if you say go to ER-27, it knows where that is. It can autonomously navigate even if one gate is blocked it can dynamically re-plan and go over there and that is a great enabler toward being (Inaudible) which require navigation.

We also have technology in perception, so that when you walk into this room, truth is none of you had ever seen a chair that looks like exactly like that before and yet can go home new where it fit. The issue book that's on the table, you should pull out this fairly a good thing and sit down and listen to the talk. That's recognition categories of objects, so iRobot has developed a technology that we license that kind of the robot industry to some mobile companies that allow a robot to understand what chairs are what dish washes are, what fosses are and so that as the robot drives around that home it can recognize characteristics objects which define the function of the room.

Again, what I am trying to do is make it, so that these robots can understand enough about the world to allow you to interact with the robot and ask the robot to do more and more sophisticated things in pursuit of the ultimate goal of having Rosie the Robot in the Jetsons actually exist and be affordable for you to have. I think that the value that that type of software delivers is tremendous and a huge differentiator, lots of wonderful IP and something that we have developed over the past 24 years, and we are lucky enough to be able to invest tremendous amount of resource in these types of technologies to keep us on the leading edge, and you will see them rolling out into our products in ways that increase the separation between what we do and what other consumer companies and the commercial companies attempt to pull together.

Unidentified Analyst

Any other questions from the audience? Colin, just sort of listening to everything we’ve talked about and kind of how the longer term vision, you are not necessarily sure where some of these opportunities are going to pop, but you know you are going to be kind of a diversified robotics company in the long-term, and there are a lot of different opportunities out there.

Can you just talk a little bit about how you build an organization that's sort of flexible enough to capture those innovative opportunities, but also commercialize them when it's still unclear exactly how all these markets will develop?

Colin Angle

Well, we have to be dynamic. The one thing we have a commitment to profitable growth, commitment to focusing efficient development of the technology, and so it's okay to make investments in a number of things as long as you have a portfolio of investments from, yes this is going to work to if this does work, the world will change, and carefully manage, and if it doesn't work, you kill it and you move on to your next idea.

So, we are organized where we have centralized operations and engineering, so that the scale that we have to manufacture these incredibly complicated electromechanical devices does not have to be recreated every time we have a new idea, and engineering new sources are managed so that there is one competency for electrical engineering for cloud-based connectivity for iOS development and so forth. Then as an aggressive team, we make our bets.

We have a great opportunity on the home side with the Roomba franchise, with the Scooba franchise, and ensuring that those continue to see the investment required to incorporate these new technologies that I have discussed and lead -- well that has to be our biggest bet. Then we do actually create a risk profile as we look at the other businesses.

I would tell you that today, we have many, many, many more projects than we could ever hope to fund, and it is too bad because the quality of these projects are extremely high, but a little bit of competition makes people work harder if they want the project to get a green light, and so we are able to prioritize. We are able to look at what we think would have the greatest return, and then it's halfway through the year something just has hit a technical hurdle that we are uncomfortable with, so we can deemphasize that project, take that technological hurdle, put it back into research, and move the people on to accelerating an existing project or a new one, and so it is dynamic gated by our commitment that we earn the right everyday to be a public company.

Our commitment to our investors is not that we are going to be a think tank that invents the new world, but doesn't deliver it, far from it that we need to take things all the way across the finish line, get them out, and make them affordable in market and develop our brand at the same time, and so that it's a wonderful optimization problem that we go through every day, and there is a lot of passion within the company to try to figure it out as we are lucky enough to have had a lot of impact thus far, and yet if you look at the robot industry and all the ideas and the potential that the idea the robot industry conveys, you have to just say, we have to just say, look we are just about none of the way to where we all expect us to be, and we have to earn our right to lead through the next day, next year, the next decade.

Unidentified Analyst

Thank you. Is there any question from the audience?

Unidentified Analyst

(Inaudible) If you just take Roomba as the example, you just talked distribution as one point, but the other, I am just interested, when someone buy the Roomba, so they say I want to vacuum clean. I go to store and get installed the robot or from your research let's say I want the robot and go and get it. Also, how much of that value, I don't know when you are saying you are about – you talked about your share above the $200 price range.

Colin Angle

Yes.

Unidentified Analyst

Do you have a way of looking at premium versus (inaudible) the old vacuum cleaner just to give a sense of how much the consumer values that technology and time saving?

Colin Angle

We position robots at a premium price points. We have found that the biggest hurdle to selling the Roomba is not price, it is believability. If you don't own a Roomba, chances are you know they exist, but for some reason you have justified in your head well that probably wouldn't work for me or maybe that's just Star Wars stuff. It's not for real, so that by investing in the brand, investing in the future, investing in new product, which truly there's a magnificent job of cleaning your floor, and it is so easy to use, it’s got a button in the middle that says clean, and everything else is taken care of and the robot goes off and does the right thing.

We have been able to put together a product offering that exceeds customers' expectations once they get it home, and so that we never felt like we needed to go down and be cheap. Good, solid margins. The higher-end products actually sell better than the lower-end products at this point in time. That may not always be the case, but it's certainly the case today.

How is this product distributed? It's distributed everywhere you would think to go buy a vacuum cleaner, so that if it is a Bed Bath & Beyond, this is one of our largest distributors, but if you -- because this is a mainstream vacuum cleaner, it should be sold alongside vacuum cleaners.

As far as this is a considered purchase or not, I think, in the earlier days, people came in and they didn't know about the product, and they said what is this, this small disc like object. How can it possibly work, I’ll almost certainly return it in the morning, , but cheap enough that I have to give it a try, and they bring it home and will behold it if it succeeds, and now they have a Roomba, they tell their friends. That was probably the dominant way this product was sold for the first five years.

Now, at this point, people go to our website, they research which model to buy and they go into -- walk into the store excited to finally take the plunge, and obviously buy the robot not quite sure that it's going to work and perhaps they will return it in the morning, but at least they went into the store with the idea that they were going to buy a Roomba, so it's certainly changed over time.

We see, while we are still seasonal, with back half of the year being somewhat larger than the first half of the year, we have seen a decrease in seasonality where again in the early days, this was a gift and now today you buy it when you need any vacuum cleaner, which is a very different distribution of purchase.

Unidentified Analyst

That was very good. Thank you. Unfortunately, we are at the time here, so thank you very much, Colin. Thank you for attending. If anybody wants to follow-up, please reach out to the iRobot team.

Colin Angle

All right. Thank you.

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