John Harmon - Vice President, Finance
Zhonghan Deng - Chairman and Chief Executive Officer
Zhaowei Jin - President and Chief Operating Officer, Director
Jinming Dong - Chief Controller
Joseph Zaccaria - Needham & Company
Vimicro International Corporation (VIMC) Q3 2013 Earnings Call November 4, 2013 5:00 PM ET
Good day, ladies and gentlemen, and welcome to the third quarter 2013 Vimicro International earnings conference call. My name is Trisha and I'll be your operator for today. (Operator Instructions) I would now like to turn the conference over to your host for today, Mr. John Harmon, Vice President of Finance of Vimicro. Please proceed.
Thank you. Good afternoon to everyone in the U.S. and good morning to everyone in China. Welcome to Vimicro International Corporation's third quarter 2013 conference call.
With us today are Vimicro's Chairman and CEO, Dr. John Deng; President, Kevin Jin; and Chief Controller, Jimmy Dong. The format of the call will be as follows. After I read the Safe Harbor statement, Dr. Deng will offer some introductory remarks and financial highlights, and then I will offer the financial and product discussion and discuss the outlook. After the Q&A session, Dr. Deng will offer some final remarks, before we close the call.
Before I turn the call over to Dr. Deng, I would like to remind our listeners that management's remarks in this call contain forward-looking statements, which are subject to risks and uncertainties and management may make additional forward-looking statements in response to your questions. Therefore, the company claims the protection of the Safe Harbor for forward-looking statements that is contained in the Private Securities Litigation Reform Act of 1995.
Actual results may differ from those discussed today, due to such risks, but not limited to future products and plans, market position and trends, revenues and expenses, and other financial targets and other information detailed from time-to-time in the company's filings and future filings with the United States Securities and Exchange Commission. Although, the company believes that the expectations in such forward-looking statements are reasonable, there is no assurance that such expectations will prove to be correct.
In this conference call, we will discuss adjusted non-GAAP financial measures. These adjusted financial measures, which are used as measures of the company's performance, should be considered in addition to not as a substitute for measures of the company's financial performance prepared in accordance with the United States Generally Accepted Accounting Principles or GAAP. The company's adjusted financial measures maybe defined differently than similar terms used by other companies.
Accordingly, care should be exercised in understanding how the company defines its adjusted financial measures. Reconciliations of the company's adjusted financial measures to the nearest GAAP measures are set forth in the section titled Reconciliation of GAAP to Non-GAAP results in the earnings press release issued this afternoon. In addition, any projections as to the company's future performance represent management's estimates as of today, Monday, November 4, 2013. Vimicro International assumes no obligation to update these projections in the future as market conditions change.
For those of you unable to listen to the entire call at this time, information on accessing the replay is contained in the earnings release we issued this afternoon.
And now, it's my pleasure to turn the call over to Vimicro's Chairman and CEO, Dr. John Deng. Dr. Deng?
Thank you, John. Welcome, everyone, and thank you for joining us today. The third quarter of 2013 was a solid quarter for Vimicro, in which we returned to revenue growth and profitability, with revenues near the midpoint of our guidance range and expected increase in revenues from our surveillance business more than made up for lower revenues year-over-year from our PC and notebook imaging processing business.
The strong surveillance revenue helped overcome the softness in the global PC industry and returned Vimicro to profitability. We were also pleased to announce a sizable surveillance order at end of this quarter. Continuing with our surveillance business, third quarter revenues were $18.6 million as compared to $6.6 million in the year ago quarter and $5.4 million in the second quarter of 2013.
Two large projects made up the bulk of the revenues in the quarter. Here are some key business highlights. On September 30, 2013, we announced that our subsidiary Vimicro Electronics Corporation placed a successful bid for a city-wide surveillance network project in Ziyang city in Sichuan province, which will be based on SVAC and deployed in corporation with China Unicom.
The network is being installed for the assurance of public security and total spending on the project will be approximately $14.5 million, of which at least $9 million will be contracted to Vimicro Electronics. The system will be comprised of hundreds of video surveillance stations installed in the city and the project is expected to be completed by the end of calendar year. This project represents the first phase of a larger installation in Ziyang city and in the surrounding county, and it's significant because it marks Vimicro's geographic expansion into new provinces and cities.
On September 5, the Chinese government held a meeting in Xinxing to form a joint taskforce called the National SVAC Adoption Committee comprised of the Ministry of Public Security, the Ministry of Industry and Information Technology and the Standardization Administration of China. The purpose of this taskforce is to accelerate the adoption of the SVAC, Surveillance Video and Audio Coding standard in China.
On July 23, 2013, the SVAC alliance held a conference in Beijing, which was attended by representatives of the several key government ministries as well as the two largest video-surveillance companies in China, Hikvision and Dahua, who joined alliance. Hikvision is the largest surveillance company in the world, and Hikvision and Dahua are both public traded in China and hold the number one and number two positions in the China surveillance market.
Finally, we would like to mention that we have finalized contracting two new provinces, one in Baoding city in Hebei province and other one in [indiscernible] county in Xinjiang Uygur Autonomous Region.
Now, turning to our imaging processing IC business, which includes PC camera imaging processors. Third quarter revenue was $5.5 million as compared to $15.2 million in the year ago quarter. This represents a year-on-year decline of 64%. The softness in the global PC industry continued through the third quarter.
In summary, revenues in the third quarter show a return to year-over-year growth, and Vimicro return to profitability, owing to increasing strength in our surveillance products business. Surveillance is now our dominant business line, which demonstrates the successful transformation of Vimicro, which we began in late 2010.
We view this recent order we received from Sichuan province as a strong validation of the national standard for our technology, as we expand beyond our initial base in Shanxi province. We have mentioned several new provinces, in which we are pursuing new business opportunities and we anticipate advancing additional large orders in the near-term.
I will also like to announce that our Chief Strategic Office, David Tang, left the company on October 30, and we have named John Harmon, the Vice President of Finance. John, were overseas financial-related activities and Investor Relations efforts and will now discuss our financial performance in the quarter. He is our experienced financial service professional with over 15 years of experience as a sell-side equity research analyst and as a senior investor relation professional.
So now, I'd like to turn to Mr. John Harmon.
Thank you, Dr. Deng. As previously mentioned, net revenue in the third quarter of 2013 was $24.2 million as compared to $21.7 million in the year ago quarter and $11.1 million in the second quarter of 2013. The 11.1% year-over-year revenue increase was due to higher sales of surveillance products, which more than offset lower sales of PC and notebook multimedia processors.
Gross profit in the third quarter was $9.5 million as compared to $8.3 million in the year ago quarter and $4.2 million in the second quarter of 2013. The gross margin in the third quarter was 39.5% as compared to 38.0% in the year ago quarter and 37.5% in the second quarter.
Operating expenses in the third quarter were $8.8 million as compared to $6.8 million in the year ago quarter. Operating expenses increased year-over-year primarily due to higher research and development expense. Operating income was $0.7 million in the quarter as compared to an operating profit of $1.5 million in the year ago quarter.
In the third quarter of 2013, non-GAAP net income attributable to Vimicro International Corporation was $2.0 million or approximately $0.06 per ADS on a diluted basis as compared to non-GAAP net income from continuing operations attributable to Vimicro of $2.8 million or $0.09 per diluted ADS in the year ago quarter.
Non-GAAP net income attributable to Vimicro, in both the third quarter of 2013 and the year ago quarter excludes $0.2 million and $0.4 million of non-cash share-based compensation, respectively. Results for the third quarter of 2012 have been adjusted for continuing operations to reflect the divestiture of an equity interest, which is no longer consolidated.
GAAP net income attributable to Vimicro in the third quarter was $1.8 million or $0.06 per diluted ADS, as compared to net income from continuing operations of approximately $2.4 million or $0.08 per diluted ADS in the year ago quarter.
Now, turning to the revenue breakdown by product. Surveillance revenue was $18.6 million in the third quarter, an increase of 182% year-over-year. Surveillance contributed 77% of third quarter revenues, marking the first quarter that this business line has contributed the majority of revenues for Vimicro.
Revenues from image processing ICs, which includes PC camera multimedia products was $5.5 million in the third quarter of 2013, down from $15.2 million in the year ago quarter. Imaging products represented 23% of sales as compared to 51% of sales in the prior quarter. Unit volumes declined sharply year-over-year and in mid-teens sequentially. Average selling prices were flat year-over-year and up in the high-single digits sequentially.
Now, turning to the balance sheet. As of September 30, 2013, Vimicro had cash and cash equivalents of approximately $31.0 million and restricted cash of $4.3 million, totaling $35.3 million. Total current assets were approximately $101.7 million. And Vimicro had working capital of approximately $65.2 million, in addition to $21.1 million of long-term bank loans and liabilities on its balance sheet, as of September 30, 2013.
Now, I would like to discuss the outlook. For the fourth quarter of 2013, Vimicro expects revenues of $3.5 million to $4.5 million with PC and notebook image processor business line, due to heightened competition. For the surveillance business, we expect to report at least $9 million to $11 million of revenue from completed projects and also expect to report additional revenue from several new orders with a total value of approximately $20 million, currently being executed over the next couple of quarters.
With that, we will now open the call for questions.
(Operator Instructions) Your first question comes from the line of Joseph Zaccaria from Needham & Company.
Joseph Zaccaria - Needham & Company
I was hoping with respect to the guidance, you could potentially give us a little bit of a better understanding of how that the $20 million order would fit into the next quarter, in particular with this quarter rather? And for just there is a lot of grey area there?
This quarter, because it's towards end of the year, we have those new orders from different provinces and so on. And some contracts are being financed, some contracts are still being fixed towards the end of the year and the construction in some area has already started. So depending upon the different milestones that we have achieved, those revenue will be recognized into the fourth quarter.
So because it's toward end of the year, including the payment and as well as also the construction milestones, the profit, it's a little bit not as precise as the previous quarter. So we like to give a wider range of the details of the projects. John, if you'd like to add?
Joseph Zaccaria - Needham & Company
I mean, can we expect that it's linear or is it just really that tricky to kind of understand it's more lumpy than anything?
It's going to be lumpy, Joe.
All right, it looks like we have no more questions in the queue. I would now like to turn the conference back over to Dr. John Deng.
Thank you for joining us today. I would like to emphasize our excitement about the new orders and business developments at Vimicro and I look forward to discussing them with you in the future. We will also like to announce that we expect to attend investor conferences and meet with investors in the U.S. earlier next year. We will announce details once we are finalized. Thank you for listening and for your continued support in Vimicro, and good bye.
Ladies and gentlemen, that concludes today's conference. Thank you for your participation. You may now disconnect. Have a great day.