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Executives

Joe Hassett – IR

Steve Abramson – President and CEO

Sid Rosenblatt – CFO, EVP, Treasurer and Secretary

Analysts

Darice Liu – Brigantine Advisors

Josh Baribeau – Canaccord

Rob Stone – Cowen & Company

Michael Suh – Oppenheimer

Universal Display Corporation (PANL) Q3 2010 Earnings Call Transcript November 4, 2010 5:00 PM ET

Operator

Good day and welcome to the Universal Display Corporation third quarter 2010 earnings call. Today’s conference is being recorded. At this time, I would like to turn the call over to Mr. Joe Hassett. Please go ahead, sir.

Joe Hassett

Thank you, Robert. And good afternoon, everybody. With us today are Steve Abramson, President and Chief Executive Officer; and Sid Rosenblatt, Chief Financial Officer of Universal Display Corporation. Let me begin today by reminding you that this call is a property of Universal Display. Any redistribution, retransmission or rebroadcast of this call in any form without the expressed written consent of Universal Display is strictly prohibited.

Further, as this call is being webcast live and will be made available for a period of time on Universal Display’s website. This call contains time-sensitive information that is accurate only as of the date of the live webcast of this call, November 4, 2010.

All statements in this conference that are not historical are forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. These include, but are not limited to, statements regarding Universal Display's beliefs, expectations, hopes or intentions regarding the future.

It is important to note that these statements are subject to risks and uncertainties that could cause Universal Display's actual results to differ from those projected. These risks and uncertainties are discussed in the company's periodic reports filed with the SEC. Universal Display disclaims any obligation to update any of these statements.

Now I'd like to turn the call over to Steve Abramson, President and CEO of Universal Display. Please go ahead, Steve.

Steve Abramson

Thank you, Joe. And welcome to everyone listening on today’s call and webcast. This afternoon, I will start with a quick overview of our third quarter financial results. Then I will discuss highlights from the quarter and update everyone on our latest developments to grow our business in both the display and lighting markets. Sid will then follow with more detail on our financials before we open the call to questions.

I am pleased to report that our revenues for the third quarter of 2010 rose to $7.1 million compared to $5.1 million for the same quarter of 2009. Once again this quarter, both developmental and commercial revenue were up from the same quarter a year ago and OLED products increasingly moved into the market. On an operating basis, our loss has a little change from a year ago, while the bottom line was well up, primarily due to the accounting for a stock warrant liability. Sid will provide more color on the financials after my remarks.

Our UniversalPHOLED technology and materials remain key to the brain, beautiful energy-efficient OLED displays, spurring the rapid growth of high-end smartphones and other handheld devices. As a result, the market for OLED displays continues to grow at an exponential rate. Samsung Mobile Display recently increased their estimate of the number of handheld devices they expect to be using AMOLED screens in 2015 to 700 million units. This is up from 600 million units estimated just three months ago and is 25 times higher than the current market. New capacity is coming on line.

Samsung has announced they are committed 2.2 billion to a new Gen 5.5 AMOLED plant. Reports indicate that the plant life of monthly capacity of 30 million three-inch AMOLED displays for mobile phones and that are scheduled to open in July 2011. Speaking of Samsung, we are continuing to work with them, as we negotiate towards a win-win arrangement. As you recently may have seen, we extended our existing agreement until the end of this year.

In addition, as they reported, AU Optronics is expanding its OLED production capacity and will start volume production of small to medium-sized OLED pilots in 2011. LG displays new Gen 3.5 production line is also expected to be operational by next year. LG’s UK Sales Director recently told businessgreen.com that over the next three to five years, they expect to see real evolution of the OLED market.

Given the rapid growth of the smartphone market is obviously why manufacturers are raising to add capacity. And it seems with each new smartphone introduced an AMOLED screen with its low power consumption, thinness and picture quality is a focal point of the manufacturers’ promotional campaigns.

Perhaps the strongest endorsement for OLED technology comes from Samsung who said that they have already sold more than 5 million Galaxy S smartphone handsets since launching the product in June. The Galaxy S is Samsung’s best-selling smartphone model. Sales of the Galaxy S have already almost met Samsung’s total smartphone sales last year. New OLED display smartphones keep coming.

AT&T recently introduced the Pantech Laser handset with a 3.1-inch AMOLED touchscreen display. Verizon has released the handsome OLED-equipped Droid Incredible. And then Nokia E7 features a four-inch AMOLED CBD, stands for Clear Black Display, which according to Jessica Shankleman of BusinessGreen, “It’s simply gorgeous. That four-inch clear black display really pops. We’re definitely talking super AMOLED degrees of awesome.” Still in the near-term, it is clear the market for handheld displays is creating tremendous opportunities for our proprietary OLED technologies. In addition, the opportunity for OLED displays extends well beyond the near-term in handheld devices.

Last quarter, we mentioned that we exhibited a variety of new OLED prototype and product concepts, including the next-generation wrist-mounted flexible OLED display device at the SID Conference. In October, we delivered eight of these novel wrist-mounted phosphorescent OLED displays built on thin metal foil to the US Army Communications Engineers, Research and Development Engineering Center, known as CERDEC.

The prototype wrist-mounted flexible OLED display devices were designed and built with our partners, LG Display and L-3 Display Systems, as part of the US Department of Defense funded program. Prototype received positive feedback by senior leaders evaluating their performance. By using our UniversalPHOLED technology materials, these displays are able to consume less power than comparable AMLCDs, an extremely important feature to lighten the load of our soldiers.

We continue to make advances in our technologies and materials. For instance, we are developing phosphorescent OLED material systems for use of low-cost solution-based manufacturing processes. Display and lighting manufacturers are evaluating these systems as an additional path for the cost-effective production of large-area OLED displays and lighting devices.

This past quarter, we achieved significant advances in the performance our P2OLED material systems, which are now approaching the performance of PHOLED made by vacuum thermal evaporation. Through the development of optimized ink formulations, we have also demonstrated inkjet-printed P2OLED devices with a comparable performance to devices made by spin coating. Inkjet printing is a potential candidate for use in manufacturing large area OLED products.

The recent P2OLED results move us a major step closer to that goal. These and other developments also expand the opportunity for OLEDs to move into the larger screen market, especially television. OLED technology already offers technical event, advantages over LCD displays for 3D applications such as faster response time. Each technical event moves us that much closer to opening up this large new market area.

Turning now to our lighting initiatives, why OLED lighting is getting closer to commercialization? Estimates indicates that by 2016, OLED white lighting could generate well over $20 billion in worldwide savings of electricity costs and can save over 9 million metric tons of carbon emissions from the US alone. Based on this, DisplaySearch sees $6 million white OLED lighting market by 2018.

As a holder of key OLED technology patents, we are working diligently on this opportunity on our own as well as with very highly regarded partners. The highly efficient UniversalPHOLED technology materials have been a driving force behind recent advances in OLED lighting performance and innovative lighting design opportunities for global manufacturers.

In September, in partnership with Armstrong World Industries, we demonstrated a novel way phosphorescent OLED lighting system. Our novel luminaire system is energy efficient and low-cost potential and can be easily snapped into Armstrong’s innovative TechZone ceiling system for visually pleasing and a highly functional product. This past May, we announced a $4 million award from the Department of Energy for the creation of the United States-based phosphorescent OLED lighting panel manufacturing facility.

We have teamed with Moser Baer Technologies, the US subsidiary of a global manufacturing company headquartered in India. On October 15, Moser Baer has a press conference to announce the groundbreaking for their $20 million pilot production facility for OLED lighting panels in Canandaigua, New York, outside of Rochester, which will create more than 50 high-tech jobs by 2012 while further building New York and America’s world-class resources to support clean and environmentally friendly technologies. This program is designed to demonstrate the scalability of our UniversalPHOLED technology materials with a manufacturer of white OLED lighting panels that meet commercial lighting targets. We earned to be a part of this program to bring high-tech manufacturing jobs to the US.

Our research efforts on white lighting are also continuing. In September, the US Department of Energy awarded three SBIR grants to us for the development of OLEDs and improve solid-state lighting technology in various ways. You may also have seen earlier this way that we and Acuity Brands Lighting were awarded a $2 million US Department of Energy SBIR Phase III contract to demonstrate an energy-efficient PHOLED lighting system with warm-to-cool white color tunability.

The objective of our collaboration with Acuity Brands is to accelerate market introduction of OLED lighting products for high-end commercial and institutional applications. All of this work is a further illustration of our efforts to advance Universal Display’s leadership in white OLED lighting.

Before closing, I’d like to say to our shareholders that there is good news and bad news as a result of the increase in our stock price over the past few months. The good news is of course that all of our shareholders benefit from the increased price. The bad news, as a consequence of the price increase, is that we incurred a $3.5 million non-cash accounting charge, about $0.09 per share on our income statement this quarter in conjunction with a stock warrant liability.

With that, I’ll turn the call over to Sid to explain the accounting behind the charge and take you through all the financial results in more detail. Sid?

Sid Rosenblatt

Thank you, Steve. And again, thank you, everyone, for joining us on the call today. I’ll be reviewing the financial results for the third quarter of 2010. I will also share some insights from the quarter, after which we will be happy to take your questions.

Revenue for the third quarter totaled $7.1 million, an increase of 37% compared to $5.1 million in the third quarter of 2009. The improvement is even better than it appears since revenues for the third quarter of 2009 included $1.5 million received from a customer that ultimately did not enter the OLED business. And excluding last quarter’s recognition of $2.1 million, previously reported as deferred revenue, third quarter revenue was up sequentially from $6.3 million for the second quarter and from $4.3 million for the first quarter.

Commercial revenue increased to $2.8 million for the third quarter compared to commercial revenue of $1.6 million for the third quarter of 2009. The increase is primarily due to an $834,000 increase in commercial chemical revenue and a $408,000 increase in royalty revenue, which is mainly representing royalties received under our patent license agreement with Samsung SMD.

Developmental revenue increased to $4.2 million for the third quarter compared to developmental revenue of $3.5 million for the third quarter of 2009. The increase is primarily due to a $2 million increase in developmental chemical sales, offset by a $1.5 million decrease in technology development revenue. During the third quarter of last year, Kyocera dissolved its OLED subsidiary, an event that triggered the recognition of $1.5 million in revenue that was previously recorded as deferred revenue. There was no corresponding revenue recognized in the third quarter of this year.

Total operating expenses for the third quarter were $10.9 million, up from $8.9 million for the third quarter of 2009. The increase was primarily due to increases in the cost of chemicals sold; selling, general and administrative expenses; and a small increase in patent costs. Cost of chemicals sold increased to $1.3 million for the third quarter compared to $277,000 for the third quarter of 2009.

The increase is consistent with a significant increase in chemical revenue, particularly developmental chemical revenue for the third quarter compared to the third quarter of 2009. In addition to the increased chemical volume, the cost of development chemicals is higher than the cost of commercial chemicals due to the different nature of the production process and the volume of developmental chemicals produced.

Selling, general and administrative expenses for the quarter were $3.5 million, up from $2.7 million for the third quarter in 2009. The increase was mainly due to increased employee cost primarily stock compensation and cost associated with the implementation of an unfunded executive officer pension plan. These are essentially the same increases we first described in the last quarter. Research and development expenses for the third quarter were $4.8 million, essentially the same as the research and development expenses of $4.9 million for the same period in 2009.

For the quarter, we reported an operating loss of $3.9 million, essentially unchanged from the $3.8 million operating loss reported for the third quarter of 2009. On a sequential basis, the second quarter operating loss was better than the third quarter’s operating loss by approximately the same $2.1 million of revenue that flowed through the income statement during the second quarter, which revenue had virtually no associated cost. Absent that revenue and margin, the operating loss for the second quarter and the third quarters was about the same.

Due to the distortion in our results caused by some large non-operational charges that affect our bottom line, we believe that operating performance is a better indicator of our fundamental financial performance than is our net loss. In particular, at the end of the third quarter, we had outstanding warrants to purchase $744,000 shares of common stock, which warrants contain a down round provision requiring liability classifications.

The change in fair value of these warrants during the period resulted in a $3-point [ph] million non-cash expense on our third quarter statement of operations compared to a $1 million non-cash expense for the same period in 2009. The $3.4 million expense accounted for almost half of the net loss for this quarter. This is the downside of the double-edged sword of an increasing stock price, for which Steve previously alluded. The net loss for the third quarter totaled $7.2 million or $0.19 per diluted share compared to a net loss of $4.7 million or $0.13 per diluted share for the same period of 2009.

Cash used in operating activities was $5 million for the first nine months of the year compared to $11.8 million for the same period in 2009. The decrease in cash used in operating activities was due to a decrease of approximately $6.7 million in the net loss, excluding the impact of non-cash items and the impact of timing of certain current liabilities and the impact on accounts receivable.

For the first three quarters of this year, liquidity also benefited from over $7 million of proceeds received from the exercise of common stock options and warrants. Our balance sheet remained strong with cash, cash equivalents and short-term investments of approximately $65 million as of September 30. Despite the losses, cash and cash equivalents at September 30th was up $1 million; and working capital, excluding approximately $9 million in stock warrant liability, was up $5 million since the beginning of the year. The stock warrant liability will either expire or be exercised by August 2011, resulting in no cash outlay by the company.

Looking at the results for the nine months, our revenues were $19.7 million, up 81% from revenues of $10.9 million for the first three quarters of 2009. For the first nine months of this year, we had an operating loss of $10.1 million, which is significantly less than the operating loss of $16.1 million for the same period last year. For the first nine months of 2010, we reported a net loss of $14.6 million or $0.39 per diluted share compared to a net loss of $16.7 million or $0.46 per diluted share for the same period last year.

Over the first nine months of the year, the stock warrant liability expense was $5.2 million, an increase of over $4 million compared to stock warrant liability expense of just $1.1 million for the same period last year. Again, due to the significant impact on our bottom line created by the non-cash loss on stock warrant liability, we believe that operating results are a better indicator of our relative performance this year versus last year.

With that, I would like the operator to compile the Q&A list and we will start taking questions in a moment.

Question-and-Answer Session

Operator

(Operator instructions) Our first question comes from Darice Liu of Brigantine Advisors.

Darice Liu – Brigantine Advisors

Good afternoon, guys. Can you provide an update on your green material and when you believe it will be in the market? And can you also provide an update on the interest level for a new RGBB architecture?

Steve Abramson

Well, I heard the last half of your question, Darice, about the interest levels on RGBB. And the answer is, we’re finding significant interest in the industry on that architecture. Could you repeat the first part of your question?

Darice Liu – Brigantine Advisors

Yes. I was wondering if you could provide an update on your green material. And when do you believe it will hit the market? And you mentioned there is interest in the RGBB architecture. When do you think we are going to see that in the market as well?

Steve Abramson

I can’t really predict when we’re going to see either of those things in the marketplace, although I would suggest that you’re going to see Green before you see RGBB. And Green is still in testing with our major customers. And as soon as we are able to announce when they are going to be in the marketplace, we will do so.

Darice Liu – Brigantine Advisors

Fair enough. And then I know that this is probably a difficult question to answer. But SMD has now extended its old license agreement twice. Can you talk about what these ticking points are with the new license agreement?

Steve Abramson

Actually, the negotiations are really confidential. So we prefer not to speak about them at all.

Darice Liu – Brigantine Advisors

Fair enough. And then in terms of lighting, there has been quite a buzz growing. One of the companies creating that buzz is GE. But its material partner is DuPont, who used to work with you in the past, seems to be working on some sort of phosphorescent material. Can you talk about what that means for you, especially since GE plant that prototype starting next year?

Steve Abramson

I guess all I can say is that we work with a lot of people in the industry. And we work with DuPont and we’ll continue to work with everybody in the industry. I can’t comment specifically on that.

Darice Liu – Brigantine Advisors

Okay. And just a last question, housekeeping question. What should we be modeling for OpEx in 4Q and for 2011?

Sid Rosenblatt

I don’t see significant changes from the past two quarters moving forward. I do see some growth, but I don’t imagine the growth is much more than 5%.

Darice Liu – Brigantine Advisors

Okay. Thanks, guys.

Sid Rosenblatt

Thank you.

Steve Abramson

Thanks, Darice.

Operator

Our next question comes from Jed Dorsheimer with Canaccord.

Josh Baribeau – Canaccord

Hi, this is Josh Baribeau for Jed. Pretty straightforward, just really one question about pricing of the materials. There is, I think, some perception in the market that PHOLED are two to three times fluorescent materials. Can you address this, or maybe talk about the delta between the two?

Steve Abramson

Well, we don’t really know – and we’ve heard numbers like that. We don’t know specifically what fluorescent materials sell for. We think that our phosphorescent materials, as customers get into high volumes or price that is competitive for what you get and the advantage that you get with our materials. But we don’t have real answers because we don’t see what actual pricing is for fluorescent materials.

Josh Baribeau – Canaccord

Okay. And then just –

Steve Abramson

(inaudible)

Josh Baribeau – Canaccord

And then just a housekeeping question. The gross margin has come down a bit over time as the commercial chemicals have ramped up sort of from the 90s to now at the low-80s. Is that a trend that should continue or does it come back up? How do you think about gross margins?

Steve Abramson

The reason in these past two quarters is that we’ve seen significant increases in developmental chemicals. As I mentioned, when we sell developmental chemicals, some of them are the same materials that we sell commercially if you have the commercial license, but others are specific materials that we develop onesies and twosies in small quantities. And the cost of making a batch of 10 grams or 50 grams of material is really different than making 500 grams of materials. So because you are seeing a larger amount of developmental chemicals in the mix, the cost of developmental chemicals per grams is higher than the cost of commercial materials.

Josh Baribeau – Canaccord

Okay. That’s great. I’ll pass it on. Thanks.

Operator

Our next question comes from Rob Stone of Cowen & Company.

Rob Stone – Cowen & Company

Hi, guys. Lots of good stuff going on.

Steve Abramson

Hey, Rob.

Sid Rosenblatt

Hey, Rob.

Rob Stone – Cowen & Company

I had a follow-up about chemicals generally as well. Do you get the sense that as volumes go up, your cost of securing chemicals from your manufacturing partner would go down? Do customers expect volume discounts as they buy a bigger quantity? How should we think about the influence on commercial chemical margins going forward?

Steve Abramson

There is two parts. Obviously, as the volumes go up, our cost should come down. As the batches grow, we should get some economies of scale. And from the other side, our customers are always looking to have a reduction in the cost of materials. And they are either just over time or just tied to the volumes that they purchase. So I do see some pricing erosion, but we are not talking about big chunks. I mean, I don’t see our cost coming down in high volume in big chunks either. But we are in the 80% on average gross margin, and so I don’t see that coming down significantly over the next one to two years.

Rob Stone – Cowen & Company

Okay. In terms of contract research, a number of announcements, lots of stuff in lighting. Can you say what your total backlog is of research contracts that are funded at this point?

Steve Abramson

Off of the top of my head, I believe the number is somewhere $7 million and $8 million over the next two years that we have in-house. We have a significant number of programs that goes through 2011 and 2012, and a lot of the newer ones run through that period. So the number is – we're comfortable with our estimates for the $5 million of contract research this year and next year.

Rob Stone – Cowen & Company

How much was contract research in Q3?

Steve Abramson

In Q3, it was about $1.3 million.

Rob Stone – Cowen & Company

Okay. Finally, when do you expect the Moser Baer facility to start producing lighting products?

Steve Abramson

It’s Q3 of next year.

Rob Stone – Cowen & Company

And this is the end of next year, it should be [ph] year after?

Steve Abramson

Yes. I mean, it will be small volume. The facility is small volume, and the first product coming out will be onesies.

Rob Stone – Cowen & Company

How does that activity affect you in terms of P&L? Does it generate revenue for you or chemical sales? Or what’s the impact?

Steve Abramson

Well, part of it is the government program that we have that we will be working on. And then as they scale up, they will use our technology, there will be a licensing agreement in place, and our material sales. But this is really a very low volume facility, and I don’t see any significant revenue coming out of this facility for us.

Rob Stone – Cowen & Company

Okay. More of a proof-of-concept.

Steve Abramson

Correct.

Rob Stone – Cowen & Company

Great. Thanks very much.

Steve Abramson

Thanks, Rob.

Operator

Our next question comes from Yair Reiner of Oppenheimer.

Michael Suh – Oppenheimer

Hi, this is Michael Suh actually for Yair here. How is it going, Sid?

Sid Rosenblatt

Hey. Hi, Michael, how are you?

Michael Suh – Oppenheimer

Good. Congrats on the quarter. Just a couple of quick housekeeping questions, if you will. Just wondering – it seems like you had a bit of a dip-off in your commercial assistance. Has that dropped off completely for the next –?

Sid Rosenblatt

It fluctuates – we have a number of programs that we get paid for working with customers, but it is not going to be a significant piece of our revenue stream.

Michael Suh – Oppenheimer

Okay. Fair enough. Would you mind giving the breakdown between royalties and license fees?

Sid Rosenblatt

The royalties are approximately $800,000 and license fees are approximately $200,000.

Michael Suh – Oppenheimer

Okay. It seems like there is a bit of upside in your commercial chemicals than what I expected. Is there anything in particular that you thought driving that? Was it your major customer just getting more orders or is that some secondary customer –?

Sid Rosenblatt

Our commercial chemicals are predominantly from Samsung. When you have a license agreement, we record these as commercial chemicals. So we’ve seen, obviously, an increase in Samsung’s material purchases during the quarter because they are increasing their output.

Michael Suh – Oppenheimer

Okay. Great. And I guess my final question is, do you have any updates in terms of the capacity that’s going to come online from AUO or LG? I know you mentioned that they would come on line sometime in 2011.

Steve Abramson

No. I think Steve said they have Gen 3.5 lines that are coming on line next year, but that’s really all the information that’s publicly released about them. And we don’t get a whole bunch more than that.

Michael Suh – Oppenheimer

Okay. Great. Well, thanks very much and congrats on the quarter again.

Sid Rosenblatt

Thanks, Michael.

Operator

And at this time, there are no further questions. I’ll turn the call back to our moderators for any closing remarks.

Steve Abramson

I’d like to thank you all for participating. And again, as you all are very aware, you can contact me for follow-up questions, which most of you do. So thank you very much, and have a good evening, gentlemen.

Operator

And this does conclude today’s conference call. We thank you for your participation. And have a wonderful day.

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