Joep van Beurden – CEO
William Gardiner – CFO
CSR Plc (CSR) Q4 2011 Earnings Call February 20, 2012 9:00 AM ET
Good afternoon and welcome to the Fourth Quarter and Full Year 2011 Results Conference Call. Throughout the call, all participants will be in listen-only-mode. (Operator Instructions) Just to remind you, this conference call is being recorded.
Today, I’m please to present Joep van Beurden. Please begin.
Joep van Beurden
Thank you. Good morning and welcome to CSR’s Q4 2011 and full year results presentation. My name is Joep van Beurden, CEO, and with me is Will Gardner, our CFO. Will and I will be making forward-looking statements. Before we start, I would like to draw your careful attention to our cautionary statement.
During today’s presentation, we will reference estimates, plans and expectations that are forward-looking statements. The actual outcomes could differ materially due to the factors we note on this slide and in our regulatory filings. Please take a moment to carefully read the cautionary statement and refer to the disclosure in today’s earnings release as well as the filings with the U.S. Securities and Exchange Commission on Forms 20-F and 6-K for more details.
Today’s agenda, first, I will give you the overview of our Q4 and 2011 performance. Then Will will review the numbers. I’ll discuss outlook and go to Q&A. First, the key messages. In 2011, we made progress in our transition to being a provider of higher margin platforms to multiple end markets. That being said, we have a lot of work to do to complete that transition: further improving margins, reducing cost, allocating our capital to areas where we can grow, improving our profitability.
For Q4 2011, our revenues came in at $244 million towards the top end of our guidance. We saw year-over-year revenue growth in Automotive of 15% and in Home of 32%. The declines in Personal Navigation Devices, or PNDs, of 56% and in handsets of 11%.
In the fourth quarter, our underlying gross margin continued to improve to 51%, up from 48.7% in Q4 2010, as we got an increased proportion of our revenue from higher-margin platforms. We have confidence in our future prospects, and as a reflection of that confidence, the board is recommending a final dividend of $7.01, resulting in an annual dividend for 2011 of $10.03 per share, an increase of 5% on 2010.
In addition, we are announcing up to a $50 million share buyback. As you know, we have platforms in voice and music, automotive infotainment, digital cameras and imaging, and we are pleased with the momentum we have in those markets.
Before I talk about the performance of our business groups, let me update you on the Zoran integration and our cost reduction programs. We have largely completed the integration with Zoran, and we have made good progress delivering towards the $130 million in costs savings as a result of both integration and our decision to no longer invest in the development of DTV SOCs, Set-Top Box SOCs, and Digital Tuners.
Our head count, which stood at 3,185 at the end of Q3, was down to 2,783 by December 31. We expect to be at around 2,400 by the end of Q2 2011.
If you look at our underlying Q4 OpEx run rate, we are well on our way, delivering $130 million in cost reduction by the end of Q2 2012. And as we implement our cost reduction plan, we will continue to look for opportunities to increase our efficiency and thereby accelerate our progress towards delivering our targeted levels of R&D and SG&A expense as a percentage of revenue.
Next, I will review the performance of our four business groups, starting with Auto. The Auto group consists of two main parts, Automotive Infotainment and PNDs. The group’s $45.4 million revenue includes $2.3 million from Zoran. In Q4, strong growth in Automotive Infotainment of 15% was more than offset by a decline in PNDs of 56%, as navigation and location capabilities are moving towards in-dash navigation and smartphones.
We also faced increased competition in the PND segment. For the year, this has resulted in an 8% revenue decline for auto, from $233.1 million in 2010 to $205 million in 2011. Looking ahead, we do expect continued growth in the Automotive Infotainment market and ongoing decline in the PND market, and we are managing our investment accordingly. We do see good design win traction in Automotive Infotainment, both in SOCs and connectivity.
Moving on to the Homes Business Group, the Home Business Group consists of voice and music, consumer electronics, and imaging. DTV set-top box and digital tuners are reported separately under the Legacy Products Group. The group’s $72.9 million Q4 revenue includes $15.1 million from Zoran. Excluding Zoran, Home grew with 5% from Q4 2010. Growth came from voice and music and gaming, (audio gap) where we added a major customer. For the year, our revenues in Home of $269 million are 14% higher than in 2010, driven by $20 million in additional revenue from Zoran, the growth in stereo audio and the gaming win.
On the platform side, we launched our Bluetooth SMART platform with the μEnergy development kit. Our design wins were strong with the number of Stereo Bluetooth sync qualifications with CSR voice and music silicon inside at 310 in 2011, up from 134 in 2010. This represents a market share of more than 90% for both years. We saw design wins for computer mice and keyboards for our Bluetooth SMART products. Timex selected SiRFstarIV for their GPS enabled sport watch, and aptX was chosen by a whole range of audio companies such as Cambridge Audio, Gear4 and NAD, which leads me to Mobile.
The Mobile business group consists of handsets and cameras. Q4 revenues of $92.3 million include $26.1 million from Zoran. Handset revenue was $65.1 million, which is 11% lower than Q4 2010. Camera revenue came in at $27.2 million, but for the year, mobile revenues were $323 million. That is a reduction of 5% compared to 2010.
This reduction is driven by Bluetooth being replaced by Bluetooth Wi-Fi products in smartphones and intense competition in China, somewhat offset by good traction and design wins with the SiRFstarIV 4t. Going forward, we expect continued pressure on our handset Bluetooth business, which we expect will be addresses by our CSR 9800 Bluetooth Wi-Fi chip, the development of which is on track.
On the location platform side, we’ve launched SiRFstarV and at CSR in Las Vegas, we have demonstrated a highly differentiated indoors location technology, which has attracted significant interest from a number of leading companies. We have also seen that the Google and Nexus adopted our SiRFstarIV location platform and that aptX was chosen by Sharp and Samsung.
Finally, our legacy product group, in the legacy product group, we are managing the products that we have decided not to invest in any longer, DTV SOCs, set-top box SOCs, digital tuners and DVD products. We’ve created a dedicated team ensuring full support for our current customers, finalizing designing projects that are underway, and making sure that product returns and RMAs are dealt with swiftly and professionally.
Directly upon the public announcement on December 12, we have met with all legacy product customers to ensure them of our continued support and to address concerns. We’ve kept in very close contacts with our customers, whom I would call understanding of the decision, but clearly this is an area where we expect the revenue to decline over the next two years. For Q4 2011, the revenue of the Legacy products was $33.4 million, slightly lower than the comparable Q4 2010 number of $34.2 million.
A few words on CSR’s platform strategy, CSR has a clear strategy, and as we discussed before, absolutely key is our ability to provide so-called platforms. A platform defines the product it’s part of. Our customers increasingly demand integrated platforms to power their products. Platforms drive margins, and we have such platforms in voice and music, automotive infotainment, cameras and document imaging.
Over the past two years, we have seen that our focus on platforms has driven up underlying gross margin from mid-40s to 51% in the fourth quarter. But we’ve also seen that our operating costs have increased, especially after the Zoran transaction. That has put our profitability under pressure and I’m not happy with that. That is why we’ve announced to reduce our costs with $130 million by the end of Q2 2012.
As you can see from the Q4 underlying cost base and from our head count, we have made good progress towards delivering that but there’s more to do and we’re very focused on that. I also want to reiterate our discipline in capital allocation. We will be allocating our capital investment to the areas where we see most growth and margin potential to drive returns.
Before I hand over to Will, let me walk you through the areas where we see opportunity to drive CSR’s high-margin growth and where we’re investing to make that happen. We believe there are five areas where we could experience strong growth in the medium to longer term. One, Bluetooth Smart, formerly known as Bluetooth low energy, which creates personal area networks around devices such as a smartphone, tablet, car or a TV. Bluetooth SMART connects these devices with products like keyboards and mice, remote controls, heart rate monitors, sports watches, toys, et cetera, et cetera.
Two, Voice and Music, where sounds on mobile device and signal TVs are sent wirelessly to loud speakers, sound bars or speaker docks. Three, automotive, where legislation and increasing use of location, connectivity, and video are accelerating the use of infotainment in low- and mid-end cars. Four, deep indoors location for increased tracking of persons and assets and potential additional legislation, such as E911 in the United States would place greater requirements on location technology. And five, next generation Image sensors for use in areas like security and automotive.
We believe in all of these areas, there is the potential for compelling growth in excess of current third-party expectations. We also believe that we have an advantage in these areas based on our proprietary algorithms, in-depth understanding of the technology, and our strong market position.
With that, I hand it over to Will.
Thank you very much, Joep. Let me turn to the financial highlights for the quarter and for the year. During the fourth quarter, we made progress against the financial targets that we had set ourselves. Our revenue for the quarter was $244 million, at the top end of the guidance range we provided at our third quarter results, which was $230 million to $250 million. Just as a reminder, our fourth quarter included a full three months contribution from Zoran. For the full year, our revenues were $845.2 million.
Underlying gross margins for the fourth quarter were strong at 51%, towards the high end of target range of 48% to 52% and up from 48.7% in the fourth quarter of 2010. For the full year, underlying gross margins were just shy of 50% at 49.8%, again, a significant increase over 2010 when they were 47.7%. We recorded an underlying loss per share in the fourth quarter of $0.02, worse than our $0.07 profit in the prior year. For the full year, our underlying EPS was $0.20; again lower than the $0.43 of the prior year.
And to echo Joep’s comments, we recognize that we need to increase our profitability and our cost reduction plans are designed to achieve that. Our cash position at the end of the quarter was strong at $277.8 million and this is a reduction from $440 million at the end of 2010, largely as a result of the Zoran acquisition and last year’s share buyback.
Turning to the next page, let’s compare our Q4 2011 to the prior year. Revenue for the fourth quarter of 2011 was $244 million, 32.1% increase on the fourth quarter of 2010. Zoran contributed revenue of $76.9 million in the quarter. Excluding Zoran, the legacy Zoran business decreased by 10%. Underlying operating expense for the quarter was $123.9 million, implying an annual run rate of $496 million, a good start towards our target run rate of $420 million to $430 million by halfway through the year.
We delivered an underlying operating profit of $600,000, significantly ahead of market expectations, but again not as profitable as we would like. Finally, underlying EPS for the quarter was a $0.02 loss. As you know, we report both underlying and IFRS numbers in our earnings release. We tend to focus on the underlying numbers, as those are the ones that we use to manage the business. However, given the number of non-underlying items in 2011, I wanted to provide some context for those items.
We recorded amortization of intangibles of $19 million for the year, and I’m adding up that item that appears three times in the chart that you’ll see there. That was compared with $14 million in 2010, and the increase is due to the amortization of additional intangibles recorded in the Zoran deal. For 2012, we expect that number to be around $20 million. We recorded share option charges of $14 million compared to $10 million in 2010 due to the increase in our employee base following the acquisition of Zoran. For 2012, we expect that number to also be around $20 million.
To turn to the more unusual numbers, we recorded a $28 million charge in 2011 due to making a fair value adjustment to the inventory acquired with Zoran. This is a standard requirement of acquisition accounting. We recorded acquisition fees of $13 million and integration and restructuring charges of $34 million.
Turning to patent and litigation settlements, as you all know, in 2010 we had the Broadcom settlement, which is reflected in the $60 million charge. Whereas in 2011 there was a mix of settlement matters and legal recoveries with a net result of a $9 million credit to CSR.
As a result of the acquisitions we’ve made as well as the organic development of the business, the breakdown of our business has changed significantly. From a formal perspective, we are reporting in four segments: the Mobile Business Group, the Automotive Business Group, the Home Business Group, and the Legacy Products Group. And to be clear, the Legacy Products Group includes digital TV, SOCs, our set-top box products, DVD products as well as Digital Tuners. We also will provide you going forward with a breakdown of mobile into handsets and cameras and of auto into automotive and PND.
Let me provide you a little bit of color on our segments and how we would broadly expect them to perform going forward. Our Automotive business, which is 14% of revenue, is doing well, with good growth in 2011 and good growth expected going forward driven by a combination of our strong Bluetooth and GPS products, as well as the growing SOC business with products like Prima-II.
Our PND business has been under pressure, given secular trends moving navigation both in-dash and into smartphones, as well as increasing competition, and we would expect both of those things to continue. Our Handset business, at 27% of overall revenue, has been under pressure and we would expect that to continue in 2012, as discrete Bluetooth continues to be replaced by Bluetooth and Wi-Fi combos in smartphones.
Starting in 2013, we would expect that to stabilize as we deliver our CSR 9800 Bluetooth Wi-Fi combo chip and our locations business continue to strengthen. Our camera business has stabilized after a difficult first half of 2011, given the tsunami in Japan and the loss of the Cisco Flip business. We would expect that business to continue stabilizing in 2012.
Our Home Business saw good growth in 2011 which we would expect to continue in 2012, with success expected in Voice & Music, while the consumer segment is expected to be somewhat weaker in spite of our market share gains, given trends in that sector. And finally our Legacy Products Group should start to decline somewhat towards the end of the year before declining more rapidly next year and into 2014.
One of the key objectives of our platform strategy is to deliver higher gross margins, which we believe are a strong indicator of the differentiation and sustainability of our business. During the fourth quarter, gross margins were particularly strong, as a result of including a full quarter of Zoran business, as well as the ongoing shift to higher-margin platform business. We continue to expect our gross margins to be between 48% and 52% and probably near the middle of that range for 2012.
To reiterate what Joep has said, we are very focused on delivering returns for our shareholders, and that starts with increasing our underlying profitability. I would like to remind people of where we started 2011 and the commitments that we’ve made. During the first half of 2011, before any cost reduction actions were taken by either Zoran or CSR, the combined company cost base was approximately $570 million, which is the combination of the first two bars on the left-hand side of that chart.
I should remind you that Zoran had already committed to saving $30 million, much of which has already been achieved. As a result of the various actions that we’ve committed to in 2011, we expect to reduce our operating cost base by $115 million and our cost of goods sold by a further $15 million. And we are well on track to delivering both of those commitments. Our run-rate cost base in the fourth quarter was $496 million, which is a good start to achieving our target.
So to reiterate our position for 2012, we continue to expect full year underlying operating expenses to be between $430 million and $440 million, with a run rate of $420 million to $430 million achieved by the end of the first half. That would imply first and second quarter underlying costs in the range of $110 million to $120 million per quarter. As we go through the program during the course of the year, we will continue to look for additional opportunities to reduce our cost base and thereby accelerate our progress towards delivering our targeted levels of SG&A and R&D revenue.
Turning now to our tax position, as expected our underlying tax rate for the year was 25%, towards the higher end of the low 20% guidance that we have been giving. We would expect a similar low 20% underlying tax rate going forward. You will also have seen that we recognized significant deferred tax assets, $90 million during the fourth quarter, as we have completed more of our tax planning and are becoming increasingly confident that we will be able to utilize many of tax losses that we have around the world.
On a cash basis, we paid small amount of tax in the fourth quarter, $1.4 million. We continue to expect that we will not pay significant amounts of tax for several years, until 2015 at least.
As to working capital, our inventory days increased significantly during the quarter, as we are holding higher levels of inventory than usually related to our PND business, which saw a drop-off over the second half of the year. We expect to be able to realize that inventory and bring inventory days down to more normal levels over the course of the next several quarters. Otherwise our inventory is in good shape. Our debtor days are also well under control at 40 days, similar to levels in the fourth quarter of 2010.
Our free cash flow during the period was a negative $10.1 million, as our high levels of inventory reduced our normally high levels of working capital inflow during the period. But nevertheless, we continue to have a strong cash position, $277.8 million, well ahead of our year-end target.
Finally just a few comments on litigation, we continue to face litigation across our business and as we have said before, we expect that to continue. That being said, we had several positive outcomes during the quarter. We concluded all of our merger-related class action lawsuits with all of the costs covered by Zoran’s insurance. The claim from investors at NordNav for their $17.5 million earn-out payment was determined in arbitration in our favor. We also won our claim for our legal fees to be paid by NordNav’s investors, and other cases, as detailed on this slide, continue.
Thank you for your attention and with that I will turn it back over to Joep.
Joep van Beurden
Thank you, Will. Before we go to Q&A, let me summarize. I believe Q4 shows progress in a number of areas. Cost control, we are well on our way to take out $130 million of cost by the end of Q2 2012. Margin progression, as the share of platform revenue is growing, our gross margins benefit.
Revenue traction, although there are certain parts of our business where we continue to expect pressure on the top line – handsets, PNDs, our legacy products – we are growing in the areas where we believe we have a platform presence and strong position such as automotive infotainment, location, voice and music and Bluetooth SMART. We do realize that we have work to do to improve our profitability and we’re very focused on that. For Q1, we expect our revenues to be between $205 million and $225 million.
And with that let’s go to Q&A.
[No Q&A session for this event]
Joep van Beurden
Well thank you very much, everybody, for your attention. And if you do get follow-on questions, you know where to find us. Thank you. Thank you very much.
This now concludes today’s conference call. Thank you all for attending. You may now disconnect your lines.