HTC Corporation (HTCKF) Q4 2015 Results - Earnings Call Transcript

| About: HTC Corporation (HTCKF)

HTC Corporation (OTC:HTCKF) Q4 2015 Results Earnings Conference Call February 3, 2016 2:00 AM ET

Executives

Chialin Chang - CFO and President, Global Sales

Kelly Hsu - IR

Analysts

Richard Kramer - Arete Research

Narci Chang - J.P. Morgan

Julie Tsai - UBS

Wei Chen - Goldman Sachs

Kylie Huang - Daiwa

Operator

Welcome everyone to HTC’s 2015 Fourth Quarter Results Conference Call and Webcast in English. Today with us we have CFO and President of Global Sales, Mr. Chialin Chang; and VP of Finance, Mr. Edward Wang; and Investor Relations, Ms. Kelly Hsu.

All lines have been placed on mute to prevent background noise. And after the presentation, there will be question-and-answer session for investors and analysts. Please follow the instructions given at that time if you would like to ask the question. And for your information, this conference call is now being broadcasted live over the internet. And webcast replay and English transcript will be available within an hour after the conference is finished. And Chinese translated transcript will be available within a week after the call is finished. Please visit www.htc.com, under the Investors section.

And now, I would like to introduce Ms. Kelly Hsu from Investor Relations. Ms. Hsu, you may begin.

Kelly Hsu

Thank you. Good morning, good afternoon and good evening, ladies and gentlemen. Welcome to HTC’s 2015 fourth quarter analyst call. This is Kelly Hsu, HTC’s IR Manager. The event is now being webcast live via HTC’s website at www.htc.com. If you’re joining us through the dial-in lines, your call is now being placed on mute. As this conference is being broadcast by investors around the world, we will conduct this call in English only.

The format for today’s call will be as follows. First, I’ll summarize our operations for the fourth quarter. Afterwards, our CFO and President of Global Sales, Mr. Chialin Chang; and VP of Finance, Mr. Edward Wang, will lead the Q&A session.

Before we begin, I’d like to draw your attention to the disclaimer statement on Page 2 of the presentation slide. Please note that this presentation contains forward-looking statements. These statements are based on our current expectations. Actual results may differ materially from our expectations and the company undertakes no obligation to update these forward-looking statements going forward.

If there is no question, I’d begin to give the overview for fourth quarter 2015. Please turn to Page 3.

Fourth quarter financial highlights: Revenue for fourth quarter was NT$25.7 billion with gross margin of 13.9%. Operating loss was NT$4.1 billion and operating margin of negative 16.1%. Net loss after tax was NT$3.4 billion or loss per share of NT$4.1.

Business overview: Revenue and net income saw sequential improvement in Q4. And HTC Desire series experienced good momentum over the Q4 holiday season, while The HTC One A9 was well received across Asia, the U.S., and Europe.

UA HealthBox, launched with Under Armour, and Vive virtual reality system together garnered more than 20 awards at the Consumer Electronics Show in January 2016. HTC also hosted the Vive Unbound developer conference in Beijing in December bringing together experts from the virtual reality ecosystem and hundreds of Chinese content developers.

Page 4: Page 4 gives an overview on revenue and operating profit. Revenue for fourth quarter came in at NT$25.7 billion and operating loss was NT$4.1 billion.

Page 5: Page 5 gives an overview on gross margin and operating margin. Gross margin for fourth quarter was 13.9% and operating margin was negative 16.1%. Page 6 and 7 are financial overview for income statements and balance sheet.

This wraps the content of our presentation.

And now, I’d like to turn the podium to HTC’s CFO and President of Global Sales, Mr. Chialin Chang. Moderator, we can start the Q&A session.

Question-and-Answer Session

Operator

Thank you, Kelly. Ladies and gentlemen, we will now begin the question-and-answer session. We currently leave the time to investors and analysts. And for media, please contact HTC PR team after the call, if any questions. [Operator Instructions] Our first question is from Richard Kramer, Arete Research. Please ask your question.

Richard Kramer

Chialin, can you give us an update on the restructuring and maybe go through in a bit more detail the overall NT$14 billion loss for the year; how much of that you consider operational and how much do you consider restructuring related? Maybe give us an update on headcount at the end of the year. And then, I have several follow-up questions. But why don’t we start with that one?

Chialin Chang

Thanks, Richard. Obviously, it’s a combination of the operating loss as well as the loss due to the cost due to the restructuring we didn’t break down here. I would say, it’s also a material portion of it. I won’t be able to break down in percentage. I also need to confirm the exact numbers. So, I probably won’t comment on this one.

Given in Taiwan accounting, there is no such thing as a one-time charge. So, we’re basically baking into the operating expenses in that regard. I think it’s our goal from operation perspective here to finish the cost optimization basically by the end of the first quarter. But given that we don’t take the one-time charge, there is some lingering effect but I wouldn’t think that lingering effect will last basically overall more in a quarter after that. So then we’ll be basically on balance. That will be completion of the overall restructuring optimization exercise.

What we’re trying to do here, if I can elaborate a little more is to take a very focused approach on the revenue side in terms of where we generate revenue in the geographic and also product line, including smartphone, beyond smartphone we take a very focused approached, then we are basically matching the resource appropriate with the different profit generating business lines. So that’s why we focus in. And we’re also trying to find a synergy among various departments, try to consolidate resources, making more optimum. So those are things, we’re doing. We expect completion by the end of this quarter. And there is some lingering effect on expenses, probably will be one more quarter, largely speaking. And that should be it

Richard Kramer

I guess my second question in the context of -- I don’t know if you can add any detail on the 14% gross margin in fourth quarter and whether there was any exceptional items in there, inventory write-down or so forth but how do you look upon the potential profit pool in the core smartphone business; do you feel that there is enough -- certainly with the 14% gross margin and your R&D and SG&A costs, is there enough of a profit pool to look at this business as being a positive income generator over the course of 2016? I know you don’t want to give guidance, but should we expect another year of losses as you rebuild or refocus the business or do you think there is actually a profit pool to go after that you can see even in the context of such a low -- record low gross margin?

Chialin Chang

I think this is a very good question and allow me to just explain a little bit what we’re working on. We talk about the cost side here and we talk about on the revenue side and then profit pool as pointed out here on smartphone, beyond smart phone and how we see 2016, given what we see; we are not giving all guidance.

First of all, turning to your question on Q4, the gross margin around 14% or, there is something in there business overall it’s basically coming from the fact that we don’t really have a lot of the Hero product that give us a good gross margin. And to be very candid, our flagship did not perform well. I would say our flagship is falling short to our expectations for the entire cycle of 2015. That will finish basically -- ended this quarter there. So, we’re expecting a good hopefully improving cycle coming into the second quarter.

So, what we would need to do in addition to flagship and couple of one or two Hero products, generate a kind of the gross margin that we need to have and then matching with the operating expenses. Also we need to highlight that the how we measure the costs, not just the gross margin costs but operating expenses and not just the marketing operating expenses. In the smartphone industry the cost of doing business, actually it depends on where are you doing the business in terms of geographic location or in terms of your customer partner, I will put this way. I would not name places or name those but there is a different degree of cost of doing business because that relates to the certification that broadly defines costs and the R&D associated with that.

So, to give you example here in cost of doing business in certain areas and in retail market probably would be a lot of lower than the cost of doing business in a very rigorous operator driven market. So, we need to find a right balance in that. So, what we will intend to do here is very carefully you will see into 2016 that the product portfolio being streamlined to a level we feel comfortable and also we matching with the right cost of doing business. So, we can have a right profit pool being generated covering that expenses with the net profit. It certainly is our goal to make sure that smartphone business in 2016 will turn profit and also not just for the smartphone business, we certainly hope the contribution coming out of the virtual reality business as well as the connected device overall could give us a much better 2016.

Richard Kramer

I guess last question very quickly. Obviously, the cash level is down quite substantially with all the losses and the negative cash flow you’ve had this year. How are you thinking about balancing investments this year since you obviously have new products launched, a potential dividend or employee bonus share, and preserving that cash until you can turn the cash flow to positive because it seems like you are now down to record low levels we haven’t seen for many, many years at HTC? And I am sure ramping some of these products will need more working capital and more investment?

Chialin Chang

Yeah. I think the -- first of all, so you understand the cash level that there is a nominal item on the cash level as you can see that. And there is also the asset that we are able to monetize to raise it into cash. So the true cash level we’re able to maintain actually will be higher than that. I am not talking about credit facility build, [ph] I am talking about our own true cash reserve that we have. We are not that concerned in terms of the cash level. Obviously, we are not anticipating the kind of huge sort of cash loss like we had in 2015. That’s why we are doing all the things to make sure that matching the goal we are trying to do.

On the investment part, actually we feel comfortable. That’s why I said that we’re -- even though it sounds a little bit vague, we take a very focused approach down to every detail of operation, even down to the announcement of things. So, we make sure that you get the right ROI in there. And I can tell you it will not impact how we are getting into the new things, the virtual reality and other areas. So, we feel comfortable about that.

Operator

[Operator Instructions] The next one is from Richard Kramer, Arete Research. Please ask your question.

Richard Kramer

Hey. Since it seems like I’m the only one here, I’ll ask one more which is, can you size for us your expectations of the both Vive and Under Armour or connected device businesses for 2016? What in your mind constitutes a success? Given that these are very early stage products, you’re trying to attract attention but at the same time like you said you expect these to be profit contributors. Will this be material and I guess by material I would say 5% or 10% of sales business opportunity for you this year? And can you just help us understand how you look at the addressable markets in the early stages of both these areas?

Chialin Chang

Thank you. I’ll talk about Vive first. You probably know the combination of Vive and the partnership with the Under Armour and HealthBox in CES alone I think will generate maybe like 20 something awards. And you can see a lot of partners coming to us. Just Vive for example here, it’s a very vertical industry, the entire ecosystem -- our HTC team, I could tell you, even our Chairman alone met numerous, numerous partners in that regard. And we obviously -- there are various business models we can pursue. I won’t be able to elaborate on those. But we expect in 2016 that Vive will be a meaningful, not just in revenue but hopefully in the profit for generation contribution. And same thing applies to the IoT. I think our partners and us feel very excited after the event and then they got a lot of enquires. And I need to highlight however the contribution for Q1 probably is not that meaningful because we’re still in the process of ramping up. So they can only serve probably only the dotcom and very select narrow channel here. I think we expect probably more volume coming in into second quarter.

And this is -- in 2016 we also believe that there will be a meaningful profit generation. We are seeing the high hope but I won’t elaborate on those. I think it depends on how are going to drive this thing. But we feel very excited about that and we have a lot of campaign. And Under Armour, you know they had a very -- they’re very good in their -- in how they promote the brand, the product in there. So we actually learned a lot, even I personally learned in that regard. So, we definitely have a hope in that.

Richard Kramer

And what are the lessons, looking back on something like the RE camera, which you can say is an interesting analogy because it was -- it had some innovative features, but really didn’t scale. What was the lesson of that? Is it that you didn’t have the right distribution; is it that you didn’t have the right time to market? When you had a product like that a year or so ago that you had again high hopes for, what did you take from that that you can apply to these two new products in a similar phase?

Chialin Chang

I think there is lesson learned, there is also things that are we working on. And I can tell you first of all, RE camera as the camera as a supplemental use for individual purpose, I think this thing will not stop, will continue. And in fact without elaborating too much, this is part of our ongoing thought that creating a camera solution that will fit into the overall solution, not just a smartphone. I think I can tell you it will apply into a virtual reality solution. And I can tell you some of the people -- you guys involved in that, you will know, it will fit into the mobile virtual reality solution. So, this would be ongoing.

And if you ask me about learning on RE for example here is, we should not have started out with the massive scale. I think we should have started out with something matching the focus on the places and the area of general revenue and matching our resources. I think that’s something we would do. You can also see that the we are also going to be focused on a lot sort of partnership on type of the opportunity and without engineering, design and power with HTC together, so that thing we think actually combining that putting resource together actually the chances of success are even higher. So those things we learned and you can see that’s the way we are implementing.

Richard Kramer

Okay. And maybe -- and one more is you mentioned the focused approach a number of times in revenue and specifically geography. Can you elaborate on that a little bit? I mean HTC is in the US, in Europe, in China, in Greater China, as well as obviously your home market. You have distribution in a number of other emerging markets, Latin America, et cetera. Can you be specific about which markets you’re going to focus on this year and maybe which ones you expect to leave by the wayside?

Chialin Chang

I think this is -- I’d say first of all, there’s sensitivity and there’s also complication in talking about this. That’s why I didn’t elaborate more; I did mention twice on that. I think as you mentioned the U.S., UK, Germany, France, these Western Europe, so traditionally including Australia, the industrial economies where HTC start as a global branded company. And you also see over the year we extended into the areas in emerging markets, like India, China and the Middle East, Africa as well as LatAm.

Then these are areas, broadly speaking and then I won’t get into down to specific countries. These are areas we’re still going to continue to focus. However, in different countries, the focus will be different because I can give you one example here. Say, in the U.S. the partnership with Under Armour, you can imagine that we’re going to push really hard. This is the first stop we’re going to have for the global launch for the health system, that’s only U.S. and maybe Taiwan given this is where our home country, we want to benefit the Taiwan consumer in that regard. But this is the area we’re going to focus.

Are we going to focus basically Under Armour, HealthBox in China or India, probably not, probably going to be done in the coming quarters. And thinking on the virtual reality, we are going to focus on the different countries. In virtual reality, I can tell you we are going to focus in the U.S., going to be quite bigger country in that; UK; Germany; to same extent China and some of the other country may not be the highlight. Obviously everything we launch, we want to make sure we benefit the home grown -- our home country consumer and that we will do that. Put Taiwan aside, the different country will have a different focus and that applies to the smartphone. Smartphone, I can tell you for example, even for a premium sized -- a large display phone, are we going to focus a lot in the U.S.? Probably not, not even UK or Germany. But we’ll focus on different smartphone factor at different pricing. So those are things we thought about and think about. So, that’s why I’d say it’s focused. But these are the countries we’ll not -- that we have a presence, we’ll not downplay in there; we’re still going to continue to enhance our brand there, but through a different means and through different focus. That’s what I meant.

Richard Kramer

Okay, super. Thank you very much.

Chialin Chang

Thank you. I think there is two or three more waiting in queue. So, I think operator can just direct traffic.

Operator

The next one is from Narci Chang, J.P. Morgan. Please ask your question.

Narci Chang

I have two main questions. Number one is whether the OpEx level that we saw from the fourth quarter will be sustainable or does the Company expect further cost reduction? And my second question is regarding the smartphones. What’s the Company’s strategy for this year, whether we are going to see many model launches or the Company is going to focus on high-end models?

Chialin Chang

I think the operating expenses here, I would say actually we’re trying to continue to streamline the cost and the cost -- I can tell you the number one thing, we want to make sure is the R&D strength is there. That’s basically our number one making sure that, the right R&D infrastructure in that. I can tell you the R&D cost, it’s not the people cost in R&D just a portion of it, it may be different on the other industrial economies because the cost of living and the competition. It’s about how we make sure that the -- we’re doing the right project, doing the right focus, that’s why keep emphasizing the focused approach. With that in mind, I would expect we’ll continue to streamline the operating expenses without impacting the fabric up traditional HTC strength. So, you say is that sustainable? I think that will continue to sustain. We’re going to have to find improvement from that point on. That’s number one.

Obviously there is some lingering the one-time charge here building into that but that would hopefully finish up this first half, maybe a little bit in the tail but basically that’s what we’re seeing.

The second question is what’s our focus? I said a few times in the past -- and then there’s a different interpretation here. A lot of people think the low end, the entry level is where the growth is. We’re not going out after the volume, we’re going after the value here in the consumer mind; it’s different story. I won’t elaborate on those. So, we’re not going to only high end, it depends on how you see the high end. I think we would have participation in the entry level, mid-tier, premium and flagship. If I talk about a lead segment here, flagship will continue to have and you will see that in second quarter. And you will see the premium side, mid-tier to premium side, which we think we have a lot of traction in certain countries in that. And we can see that from the data we have. We also participate in entry, we just don’t put a lot of focus on entry here because I can tell you the entries that seem profit margin here, you’re going to have to execute everything right, even including material planning and demand, perfectly matched in order to make that tiny profit and make it out with huge volume. That’s not where we actually put a lot of resources there. We’re going to put a lot of resources in mid-tier and mid to premium side with the flagship carrying those. So that’s the very focus. And then coupled with that the areas and the places we do business that will match that.

Narci Chang

Thanks. Just going along with that line, I’m just wondering for the fourth quarter, there’s a huge dip in terms of gross margin. Is that more due to the pricing pressure or is it due to product mix?

Chialin Chang

I think pricing pressure is every day the pricing pressure, you will see that. I mean there is a big trend going on in the smartphone industry. I think I would say -- if I were to summarize the year is basically the -- unfortunately our flagship we launched in April last year didn’t perform upto expectation, then you are going to see the lingering effect last for 12 months before you have a new coming up. So, basically that’s the major effect there.

Operator

And the next question is from Julie Tsai, UBS. Please ask your question.

Julie Tsai

Chialin, I just have two follow-up questions. One is I just want to clarify if the restructuring that you have in mind will be done at the end of Q1, if not Q2 the latest. Was that the timeframe that you had guided?

Chialin Chang

Correct.

Julie Tsai

And if that would be the case, what would be the normal, “operating expenses” for HTC going forward then if we do not have that restructuring drag?

Chialin Chang

I think would be very sort of -- pretty clean in Q3. It will be okay -- Q2 will be transition. Q3 will be pretty clean. And then I can tell you that talk about the expenses here that’s where I said that the OpEx you were seeing in Q4 last year, it’s not only going to sustain, will improve from that.

Julie Tsai

And also another question is you spoke about the new products, Vive and also HealthBox. And you also mentioned that hopefully it will be some sort of profit generating for 2016. Is this for both products, or just the U.S. HealthBox?

Chialin Chang

Both.

Julie Tsai

For both products it will be profit or positive accretive to your bottom line?

Chialin Chang

I think I answered Richard Kramer in the following way. We hope that those, the Vive product and the HealthBox product or put it another way here, we hope products in these two areas will be able to contribute to the bottom line in a meaningful way.

Operator

Ladies and gentlemen, we are now in question-and-answer session. [Operator Instructions] And the next one is from Wei Chen, Goldman Sachs. Please ask your question.

Wei Chen

I just want to go back to the virtual reality question. I think a lot of investors, and I think even people in the technology industry view this as a huge opportunity, and some of us even call this the next computing platform. So, a broad general question, I mean HTC has done very well in the smartphone cycle. So looking at the virtual reality, HTC seems to be one of the very early, first movers in this technology. How does HTC view this opportunity versus the smartphone cycle and how does HTC play in virtual reality that could be different or the same in the smartphone cycle that you have done before? So that’s my first question.

Chialin Chang

I think it is very early for me to comment on how this virtual reality is going to play out. HTC was fortunate to be a leading player at this stage on virtual reality. We certainly have a lot of ambition on the virtual reality. And in fact we can even debate how we define it virtual reality in that regard. And I can tell you that the virtual reality and smartphone and the connected devices, it may seem to -- from an investment community two very distinct domain in that regard. We are actually seeing it integrated way. Without going to detail from a consumer perspective here is that we’re thinking of them more of an integrated solution in that regard. So, those things to us, they are all very important. We are going to continue to push from a lesson learned we have in the smartphone last decade; we actually try to learn from it and make sure that we’re best positioned in these new areas. And we also, you can see, we do a lot like some of things will not able to go to market together; it’s better to have pooling resources together, we do that. So, the powered, engineered, designed with or by HTC will continue to pursue those opportunity in parallel as well. So, we think hopefully in the end, we’ve been able to provide a holistic solution for consumers.

Wei Chen

Yes. So, follow-up on that, you said holistic solution for the consumers. Does that also imply there is something beyond providing just the hardware? Can you comment something on the software or content or even anything on the platform side in regard to virtual reality?

Chialin Chang

I think major opportunities are all being explored. And I also advise people, don’t make smartphone and Vive -- they’re two distinct products here. Everybody knows that mobile -- you’re going to have to combine those. Obviously you can define what that means, the mobile view and there is various [indiscernible]. But this will be integrated solution. We are also very keen to make sure we are -- say five to ten years down the road, we’re going to be a key player in that ecosystem. So, we don’t want to be just providing the hardware only, so we’re trying with various opportunities.

Wei Chen

I see. And just going along that line, can you describe the relationship you have with Valve on the virtual reality product versus your past relationship you have, working on the smartphone product with Android or even with Microsoft? Is that a similar relationship that you have now with Valve, or is it something a little bit more deeper?

Chialin Chang

I think the HTC -- because our capability and because our culture would fit with -- in all the years and I believe in the coming years would fit quite well with various partners. I think Valve is one thing, as important partner, Under Armour is another partners; you mentioned Microsoft in the past. Microsoft will continue to see as an important partner; we continue have conversations. But with the normal comment, we cannot comment on our partner and then we’ll not comment on our partner either. So I will just set this out here.

Operator

And the next one is from Julie Tsai, UBS. Go ahead, please.

Julie Tsai

Regarding to the Vive, we are often asked by our clients as well, regarding to what kind of IP do you already have in place for your Vive and also for the onwards models? And also, is it true that Valve will be able to collaborate with others freely in the future? So, I guess with that the content is probably most important, as you said. And you also mentioned 5 to 10 years of timeline that you want be a key player in that; do you have a bit more color on that?

Chialin Chang

Unfortunately I won’t be able to comment on some of these things here. All I’d say here is that we -- all possibilities are being explored. We’ve been working well with various partners in that. We won’t comment on our partners, we certainly don’t comment on IP because it’s getting into very sensitive competitive information there. So, all we feel about it, we feel very good. I can give you one gauge; it’s based on the number of enquiries from various ecosystem and vertical industries. We feel very good about where we are. And again it’s certainly our hope and we certainly have the ambition 5 to 10 years down the road to be a key player in that industry.

Julie Tsai

And I assume that you will be taking pre-order very soon, right? Do you have any pricing in mind, any kind of range at all?

Chialin Chang

Yes. I would just kindly ask that you just stay tuned.

Operator

[Operator Instructions] And the next one is from Kylie Huang, Daiwa. Please ask your question.

Kylie Huang

Hi, Chialin. Thank you for taking my question. I just have two housekeeping questions here. First regarding your fourth quarter gross margin, I just want to clarify that this is not related to any impact from your restructuring plan.

Chialin Chang

I said there is some part of it is non-recurring and I think the people ask me about pricing or product portfolios, sometime are actually mixing them together. I think I’d say the fundamental thing is because our flagship is not performing to where we want to be, I’ll just be very transparent in that. If your question is, are we looking in the future this is a sustainable profit margin we’re going to have, I’d say, no. So, we’re going to have better than that, coupled with the improvement in the OpEx. So, hopefully I answered your question.

Kylie Huang

Okay. I understand. So only with this impacts you, will prolong to the first quarter this year, right?

Chialin Chang

Unfortunately every product cycle, there’s a cycle in that. So, we’re going to look for the [indiscernible] and then look for the opportunity in the next cycle with all the things we talk about.

Kylie Huang

And my second question is about your disposal of a building earlier. If I recall right, you will recognize a disposal gain, which will be in first quarter.

Chialin Chang

Yes, I believe so.

Kylie Huang

In the near future, do you have further plan to dispose plan or building?

Chialin Chang

I can tell you for now, we don’t have any plan. There is a good opportunity to make sure that we continue to show the value we are always considered.

Kylie Huang

Okay. Understand.

Chialin Chang

Obviously now we don’t have the plan to do anything. But down the months, down the weeks, down -- whenever there’s an opportunity to come along, like people approaching us, we think actually it’s good for shareholder value; we are always considering, not just building any opportunity we do. But just don’t get me wrong. We are not talking about HTC doing any sort of strategic transaction. No, it’s not.

Kylie Huang

Okay, I understand. Thank you very much.

Chialin Chang

Thank you.

Operator

There is currently no question in line. I will pass the call back to CFO and President of Global Sales, Mr. Chialin Chang for closing remarks.

Kelly Hsu

Thanks everyone for joining our call today. And wish you all a happy Chinese new year.

Chialin Chang

Thank you all.

Operator

Ladies and gentlemen, we thank you for your cooperation, for your participation in HTC’s conference. There will be a webcast replay within an hour. Please visit www.htc.com under the Investors section. You may now disconnect. Goodbye.

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