Pixelworks, Inc. (NASDAQ:PXLW)
Q2 2016 Results Earnings Conference Call
July 28, 2016, 05:00 PM ET
Steve Moore - CFO
Todd DeBonis - CEO
Brian Alger - Roth Capital Partners
Jorge Rivas - Craig-Hallum Capital Group LLC
Jessica McHugh - Dougherty & Company
Richard Shannon - Craig-Hallum Capital Group LLC
Good day ladies and gentlemen. And welcome to Pixelworks Inc.'s Second Quarter 2016 Earnings Conference Call. I will be your operator for today's call. At this time, all participants are in a listen-only mode. Following management's prepared remarks, we will conduct a question-and-answer session. This conference call is being recorded for replay purposes.
I would now like to turn the call over to management and your host Pixelworks' Chief Financial Officer, Mr. Steve Moore.
Good afternoon, and thank you for joining us. With me on today's call is Todd DeBonis, Pixelworks' CEO. The purpose of today's conference call is to supplement the information provided in our press release issued earlier today announcing the company's financial results for the second quarter ended June 30, 2016.
Before we begin, I would like to remind you that various remarks that we make on this call including those about our projected future financial results economic and market trends and our competitive position constitute forward-looking statements.
These forward-looking statements and all other statements made on this call that are not historical facts are subject to a number of risks and uncertainties that may cause actual results to differ materially.
All forward-looking statements are based on the company's beliefs as of today Thursday, July 28, 2016 and we undertake no obligation to update any such statements to reflect events or circumstances occurring after today.
Please refer to today's press release, our annual report on Form 10-K for the year ended December 31, 2015 and subsequent SEC filings for a description of factors that could cause forward-looking statements to differ materially from actual results.
Additionally, the company's press release and management's statements during this conference call will include discussions of certain measures and financial information in GAAP and non-GAAP terms including gross margin, operating expenses, net loss, and net loss per share. These non-GAAP measures exclude stock-based compensation expense as well and certain charges related to the company's announced restructuring earlier this year.
We use these non-GAAP measures internally to assess our operating performance. The company believes that these non-GAAP measures provide a meaningful perspective on our core operating results and underlying cash flow dynamics.
But we caution investors to consider these measures in addition to, not as a substitute for, nor superior to, the company's consolidated financial results as presented in accordance with GAAP.
Included in the company's press release are definitions and reconciliations of GAAP to non-GAAP net loss and GAAP net loss to EBITDA, which provide additional details.
With that said, I will now turn the call over to Todd for his opening remarks.
Thank you, Steve, and good afternoon to those joining us on today's call. As a framework for the call today, I'll begin with a brief high level recap of our results, followed by a few notable developments during the quarter and then I'll provide a structured update on five focus items that I outlined as part of our last quarter's call.
Starting with results, revenue in the quarter was $12.6 million above our guidance range of $11.5 million to $12.5 million. Both gross margin and operating expenses came in better than expected resulting in a loss per share improving to $0.06 on a GAAP basis and $0.03 on a non-GAAP basis.
Reflecting on these results, there are two key takeaways that like I'd like to highlight. First, the quarter came in at or above guidance or guidance on all metrics. So, we delivered what we said we were going to do.
And two, despite second quarterly revenue being $2.5 million lower year-over-year, we cut loss per share in half compared to the year ago quarter. I would like to highlight these two aspects of our second quarter results. As they demonstrate beginning of a meaningful shift to put the company on a path towards profitability.
Admittedly, it's only one quarter and we have plenty work ahead of us, but I'm pleased with our team's execution during the quarter and we expect to build on this progress over the coming quarters.
Turning briefly to product announcements. We announced two new Asus products during the second quarter that incorporate Pixelworks Iris too. First the Asus ZenFone 3 Ultra, which features a 6.8 inch LCD panel with full HD resolution display.
This represents a first-ever launch of a smartphone that incorporates Pixelworks' Iris device and True Clarity video display processing technology. Also during the quarter, a Tier-1 North American carrier and Asus announced the launch of the ZenPad Z8, which features an Iris innovative video quality enhancements on a 7.9 inch tablet with 2K resolution.
We began shipping volume production in support of both Asus platforms during the quarter, however, total mobile revenue was still relatively small contributor to our overall results. We look forward to furthering our strong collaboration with Asus in future platforms.
Also notable during the quarter, we hired Dave Sable as our Senior Vice President of Business Development and Licensing. Dave brings a wealth of knowledge and expertise to the Pixelworks' team from his prior roles at both [Indiscernible] and Synaptics. At [Indiscernible], David led the development of capacitive touch, subsystem programs, and at Synaptics, his responsibilities included the development of display products, display integration touch, as well as, in-cell and discreet touch ASIC development.
Prior to Synaptics, he worked for nearly a decade at National Semiconductor where he held numerous marketing and technical management roles. In his new position at Pixelworks, Dave will lead our new business and IP licensing initiative, which I'll talk about in a few more minutes. It is great to have Dave on our team and I'm confident that he will prove to be a valuable asset.
Before providing an update on the five key focus items as outlined last quarter, I first want to address the current environment in the broader projector market, including some of the cross-currents that we've seen over the past several months.
Revenue in our projector business increased 12% sequentially, reflecting the continued signs of more normal order patterns and a progressive recovery from the market-wide inventory correction began in the fourth quarter of last year.
While we anticipate continued sequential improvement our projector business during the third quarter, growth is expected to be constrained as a result of a mid-April earthquake that disrupted Sony's production of 3LCD panels for certain projection customers.
Although difficult to forecast with precision, the intermediate term impact is expected to be largely transitory as any resulting loss in market share among OEMs should ultimately be captured by other Pixelworks customers.
I will let Steve provide additional color, but we generally expect incremental unit volume that would have naturally materialized in Q3 to worked its way into unit volumes during the subsequent quarters.
With that said, I'd like to now walk through an update on the five focus items that we outlined last quarter. The first being finalized operational elements restructuring we announced in April.
As of quarter end, effectively all the heavy lifting has been completed, including all related personnel changes, the reallocation of our selling resources, as well as the realignment of our internal reporting structure.
All of this work required many difficult decisions, the benefits are already evident in our second quarter results that I highlighted a moment ago. Importantly, with this process behind us, we can now turn our full focus to the go-forward strategy and execution.
Our second focus item was to begin transitioning certain projector customers from dependency on legacy chips to our newer generation SOCs. As discussed last quarter, we've identified a series of opportunities to streamline our projector business and respective product portfolio. This involved pursuing an end-of-life process for multiple legacy chips in our portfolio, many of which represented either relatively low volumes and/or less attractive ASPs.
As part of this process, we notified all our affected customers and successfully initiated the end-of-life process on a targeted devices during the second quarter. Our customers have general been very cooperative and consistent with prior expectations, we do not anticipate any impact on Pixelworks' market share.
As a result of these actions, we'll be able to the service the same existing customer base with a more targeted state-of-the-art product portfolio, while continuing to deliver world-class support from our highly skilled team. We expect affected customers to make last-time buy of these earlier generation devices, which will favorably impact projector revenue in early 2017.
Third area of focus was the formally discontinued selling and support of devices sold in the various non-strategic applications that we grouped into our TV panel market. Historically, these applications including -- included ultra-high definition TVs and HD monitors as well as numerous other lower volume niche embedded applications.
Similar to our legacy projector chips, during the second quarter, we completed all the necessary steps to implement the end-of-life process for this series of chips sold into the smaller fragmented end markets.
Based on [Indiscernible] and standard end-of-life terms that we agreed upon with our customers, we expect to see a number last-time buys that will benefit revenue in the first or second quarter of 2017.
Turning to fourth and fifth key focus items, which are both related to our mobile effort including strengthening our mobile sales capability, particularly China and then conducting a comprehensive review of our larger go-to-market strategy for mobile.
In terms of our mobile sales capability, since I joined the company in early 2016, I've and continued to add sales and marketing resources that support our mobile effort. It's important to emphasize that our primary goal in mobile is to achieve broader adoption of Pixelworks' technology across multiple customers and a variety of mobile devices.
In line with this strategy as mentioned last quarter, we now have a Vice President of Sales in China who is largely focused on opportunities with mid to high end smartphone OEMs. In 2016, the pockets of growth in the smartphone market are coming from Greater China. And I'm pleased with the level of engagement that we have generated today.
And then most recently I mentioned earlier, we brought on Dave Sable in June to Head of Development and IP Licensing opportunities. Combined with our reallocation of other sales and marketing resources, we have significantly strengthened our mobile sales till capability over the past six months and now have an experienced team in place to execute on our mobile initiative.
Now, for our review of our go-to-market strategy for mobile. We've been intently focused on engaging and evaluating our mobile strategy over the last several months. Although our evaluation of our mobile strategy is still in progress, I do want to provide my current perspective on the opportunities existed for image-video processing in mobile devices, as well as the optimal approach for Pixelworks to capture a meaningful portion of what is a large, but also evolving market opportunity.
Today higher resolutions and video quality on mobile devices are becoming increasingly relevant with consumers continuing expect and demand more from their mobile devices. And OEMs anxiously seeking new ways to differentiate their products.
I believe there are multiple ways at Pixelworks can target and capture its fair share of this growing multistage opportunity in mobile through a combination of both device sales and IP licensing.
Although Pixelworks successfully used both approaches at various times in the past and in different end markets, it's fair to say that the company's primary focus is historically been on the designing of devices that deliver cutting-edge video quality.
I continue to believe that selling innovative video processing devices is a viable strategy for Pixelworks today and going forward. And we will absolutely continue investing in our mobile device sales effort as well as new product development.
In fact a chip sell can often be crucial to driving awareness and adoption of new technology, especially in an emerging markets such as video processing for mobile devices.
A discreet chip solution helps to accommodate early adopters who can commercially validate the technology. It also provides for valuable customer feedback as well as the ability to more quickly address rapidly shifting technology and feature preferences with mobile OEMs.
That said given the basic economics of today's semiconductor industry, as well as the mobile device industry, there is always an ongoing push to drive down cost, size, and power consumption. Therefore over the immediate to long-term, it is our belief that video processing on mobile devices would eventually be integrated, either into application processors or as part of the advanced mobile display panels.
This potential integration is most likely at least a couple years away. However, believe it is important for Pixelworks to be in front of this probable transition by taking the steps to now proactively engage with OEMs and other component suppliers in the mobile ecosystem on perspective IP licensing and partnership opportunities.
Most importantly, being highly successful selling chips alone potentially overlooks the larger and more prolonged opportunity that a supplemental licensing model can offer. Therefore to successfully drive increased adoption while also sustaining the mobile market opportunity for Pixelworks, it's important that our go-to-market strategy consisted of the fine commitments to silicon, especially in the near-term and an IP licensing royalty model over the intermediate term.
In my view, the more successful you are with our Iris chip base solution, the more opportunity affords us to further advance our technology increase awareness in the short-term.
Then over the intermediate term, IP licensing could be highly effected at increasing the slope of the adoption curve and significantly broaden the customer reach by leveraging other players in the industry.
Following our recent addition of Dave Sable and a dedicated effort to actively pursue IP licensing opportunities, I believe Pixelworks now has the foundation in place to successfully pursue both chip and IP licensing strategies in mobile simultaneously.
Finally, longer term, there continue to be other potential opportunities and applications for Pixelworks' technology in adjacent markets. We have focused R&D efforts around a few of these longer term opportunities, which will continue to be a part of our ongoing evaluation of our go-to-market strategy.
To conclude my prepared remarks, I'm encouraged by the progress the team has made with the operational components of the restructuring now complete, we have significantly adjusted the revenue level required to achieve cash flow breakeven, which remain committed to achieving by year end. Additionally, we have taken the necessary steps to strengthen our sales capabilities and also position the company for continued growth for the balance of the year.
In mobile, our go-to-market strategy remains focused on driving increased adoption and sales virus while simultaneously ramping our new dedicated IP licensing effort. This renewed sales focus combined with the mobile market naturally moving in the direction of higher quality video is driving increased interest and opportunities for Pixelworks.
With that I'll turn the call Steve Moore to review our second quarter financials and guidance for the third quarter. Steve?
Thank you, Todd. Revenue for the second quarter of 2016 was $12.6 million compared to revenue of $11.2 million in the first quarter. The sequential improvement in Q2 revenue reflected increased sales of chips sold into both our digital projection and mobile markets as well as a relatively stable revenue contribution quarter-over-quarter from legacy products that we sell it to our TV panel market.
The breakdown of revenue during the second quarter was as follows. Revenue from digital projection was $11.2 million, mobile revenue was approximately $350,000, and revenue from legacy chips sold into the TV panel market was approximately $1.1 million.
As previously indicated, we expect we expect the contribution from this legacy business to decline in future following certain end-of-life orders that we anticipate to largely play out over the next three to four quarters.
Non-GAAP gross profit margin was 51.6% in the second quarter compared to 48% in the first quarter of 2016. Non-GAAP operating expenses were $7 million in the second quarter compared to $9.2 million in first quarter of 2016.
Restructuring charges excluded from non-GAAP gross margin and non-GAAP operating expense totaled less than $100,000 during the second quarter compared to approximately $4.3 million in the first quarter.
Adjusted EBITDA was a positive $296,000 in the second quarter of 2016 compared to a negative $2.9 million in the first quarter. A reconciliation of adjusted EBITDA to GAAP net loss may be found in today's press release.
On a non-GAAP basis, the company reported a net loss of $756,000 or loss of $0.03 per share in the second quarter of 2016 as compared to a non-GAAP net loss of $4 million or a loss of $0.14 per share in the prior quarter.
In addition to excluding stock-based compensation expense, the net loss in the first quarter also excluded from $4.3 million or $0.15 per share in charges related to our previously announced restructuring.
Moving to the balance sheet, we ended the second quarter with cash and cash equivalents of approximately $17.8 million. Note however, unlike in recent quarters, we had no outstanding balance in our working capital line of credit at quarter end.
Cash and cash equivalents at the end of the first quarter were $22.9 million, which included a balance of $3 million on our line of credit. Comparing the respective quarter end cash balances, net cash declined by just over $2 million, ultimately reflecting a smaller declined than the total employee severance of approximately $2.5 million we incurred as part of our structure earlier this year.
Other the balance sheet metrics include days sales outstanding of 28 days at the quarter end compared to 46 days at the end of the first quarter. The sequential decline in DSO was largely related to the timing of shipments and payments across the two most recent quarters.
Inventory turns during the second quarter were stable at approximately 8.8 times compared to around 8.5 times in the prior quarter.
Guidance. For the third quarter of 2016, we expect revenue to be in the range of between $13 million and $14 million. This range reflects the expectation of revenue contribution from mobile to be roughly flat quarter-over-quarter and continued sequential revenue growth in digital projection in spite of the anticipated weakness at certain customers related to disrupted production of 3LCD panels at Sony following an earthquake in April.
Although it's difficult to precisely forecast the size and exact timing of the anticipated negative impact, we estimate that third quarter revenue could have been approximately $2 million without the impact of the disrupted production.
We expect gross profit margin for the quarter to range between 48% to 50% on a -- on both a non-GAAP and GAAP basis. In terms of operating expenses, we expect the third quarter to range between $7 million and $8 million on a non-GAAP basis and $8 million and $9 million on a GAAP basis.
And finally we expect a non-GAAP third quarter net loss of between $0.01 and $0.07 per share and we expect a GAAP net loss of between $0.04 and $0.11 per share.
That concludes our prepared remarks. We now open the call for your questions.
Our first question is from Brian Alger with ROTH Capital Partners. Your line is open.
Hi, guys. Good afternoon. Nice quarter. Congrats on a pretty sharp turnaround in outlook here. A couple of quick questions. As it pertains to the guidance, if we're going to see essentially the same type of levels from the mobile market and the growth is coming from projector.
Looking at the gross margins, is it -- I guess, mathematically correct to infer than the projector business has a lower wanted gross margins given that sequentially we're looking at a decline in gross margins?
No. The change in gross margin is really just related within the -- the mix within projector. I think that the big impact has to do with the mix between number of products that we have within projector and has very little to do with the any change in revenues related to mobile.
Okay, great. Good clarification. Thank you. And then as we go through with these end-of-life [Indiscernible] whether it's for legacy projector products or whether it's for the legacy television products or monitor products. How are those going to be handled from a revenue line? Is that going to be something that we see as a booster revenue or is that something that's going to be shown net in other income as it as a discontinued operation?
No, that will be shown as revenue. It is -- it's not a discontinued operation. We're not providing -- as I think you're aware we provide guidance a quarter in advance. I think it's very likely that we will provide some much better color if not absolute guidance for Q1 next quarter whereas we would normally only provide guidance stuff for Q4.
And the reason being is we -- at this point, we have estimates of what the additional revenue will be created in Q1 and perhaps into Q2. But we'll have a much better idea at that point and feel it's large enough that it's important that our investors have a better idea sometime earlier. But yes we do expect it to be an increase to revenue.
Okay. Right now it's just -- good to have a plan and I appreciate bringing it up as early as you are. I think it's very helpful from a transparency standpoint.
Todd a quick question with regards to the focus on mobile. Clearly, the be dual approach of selling silicon and in addition to pursuing an IP licensing is noteworthy, but I'm curious if there's other strategic decisions you made within that. For instance, are we looking at supporting all operating systems, are we looking at supporting certain segments of mobile, is there a screen size, or a type of device that may be -- is it within the natural target area that you're are pursuing? What -- how much focus are you assigning to this dual-pronged approach?
No, no. I mean so Brian so I know you recently picked this up and when we had our previous conversation, we might have gone through this. I had mentioned a little bit about it in the first call I was on back in, I guess, it was March or April. And back then we had made a decision -- even before this relook at the strategy, we made a decision to focus our mobile resources around Iris. Towards the android, away from Windows and predominantly focused on QUALCOMM platforms.
And we continue to do that. We are very focused and the -- and that I would say both smartphones and tablets, but in the android, QUALCOMM environment.
Okay. So, from a licensing perspective, we've seen a lot of activity coming specifically from the silicon manufacturers within China. Am I correct in interpreting what you just said is you're more focused on supporting the one silicon provider, one SoC provider as opposed to a multitude?
Well, okay, so let me sure I separate it. For our own device sales, for the Iris family and roadmap of products, there's a great deal of software support that goes along with our video processing.
We develop a lot of the drivers for the customers tie-in right into their UI and really need to understand their video processing pipeline. It depends which version of android they are using et cetera, so one support for one customer could be very different than another customer even in that environment.
So the decision to focus our resources were predominantly software support resources for our Iris family products. When you go look at licensing, which now we're going to talk about in a more go-forward basis.
First of all, we're looking at longer term. Anything we do in licensing over the next 12 to 18 months may not generate especially since it's -- when you do licensing deals, you can do in front end loaded, you can do go back end loaded, you can do a combination thereof. Anything that would be royalty based or backend loaded would take you know even longer term after that to hit our financial model.
So, from a licensing perspective as much longer term and for licensing perspective, our core technology is really independent. There I would not just -- if I'm looking at where we're having our discussions. It is not limited to that environment that we were focusing our Iris sales or vice-verse. That give you a little clarity there.
Yeah, that's exactly what I was looking for.
In fact, one follow-up I give you because I probably get the question if I don't note is. I wouldn't even say that our licensing effort is focused only mobile.
We believe and we've had others tell us -- others that we -- that understand this market. We have these state-of-the-art technology when it comes to frame rate conversion. We also have a strong patent portfolio around that frame rate conversion [Indiscernible]. And we continue to evolve that core technology that could be used in a broader set of markets where we choose to focus on taking that core technology adding other image and picture quality enhancement features and trying to solve a problem with our chip sales right now is with Iris in the mobile effort and in the projector market.
But you could use that for technology in applications outside that. And from a licensing perspective, we're going broader than mobile and projector.
Great. That's an important distinction. I appreciate that. thank you very much. And congrats on getting off to a good start.
Our next question is from Jorge Rivas with Craig-Hallum. Your line is open.
Thank you for taking my question. So, first portion regarding your projector business. As you transitioned customers to new-gen SoCs. I'm just wondering how -- what is that going to affect your operational results. I understand you're looking for high growth and higher margins, but is that going to require additional R&D expenditures in the future?
Jorge, we're not modeling, we're modeling a certain level of R&D effort for specifics projector and a certain level of software and support for the projector market. By us streamlining our product line, we're able to focus our resources on a smaller newer, more feature-rich product line, but only a handful products.
And so right now, we have modeled the cost structure to support all those new developments with customers over the next I don't say 18 months, that's already in our financial model.
Okay. One question on a mobile. Just wondering whether you have any progress with other customers. Customers having been talking to the past few months and you know as we saw with Asus and Verizon, do you think you need to engage with carriers as well as it was the case with Verizon?
My past experience is that as the carriers get more involved in video streaming, I think that interaction with carriers to better understand how far technology can improve the quality at the end device of a bit of a strange video I think is important.
And so we will continue to be involved with carriers and probably ramp that up. I wouldn't expect that to result in a direct relationship carriers that may or may not, but that's just to make sure that the carriers are aware of our capability.
Okay. And then one last question for you Steve. What's the minimum cash level that you guys will feel comfortable with operating forward-looking places?
Well, I think that where we have -- the resources that we have are now cash and the ability to borrow -- certainly sufficient for us to meet her objectives and grow the company on remind you that we have a revolving line of credit that up to $10 million on top of the cash that we have.
So, without directly answering the question with a minimum is we model during levels of revenue and very levels of results for cash balances and we're quite comfortable that we have cash to meet our objectives.
Okay, great. Thanks for the colors guys. That's all from me.
Our next question is with Jessica McHugh with Dougherty & Company. Your line is open.
Hi, there. Thanks for taking my question. Could you just talk about the early signs you're seeing with the resources that you put in separate in China they pursue mobile and how that's paying off?
Well, I mean, Jessica, at this point, I mean if it had resulted in announced design wins, you would have seen an announcement. So, what I give you is generalities. Right now the team is fully engaged with multiple opportunities and we're stretching the limits of our current organization and supporting all those. It's an exciting time for Pixelworks right now.
Okay. Thank you.
Our next question is from Richard Shannon with Craig-Hallum. Your line is open.
Hi, guys. Thanks for taking my question. I jumped on the call late, so chartered into all of your prepared remarks and in terms of evolving go-to -market strategy. But I have one question I wanted to ask. This topic was brought up on your last conference call regarding the -- and watched all of the architectural change is required for [Indiscernible] general to use Iris chip.
I think you mentioned that some of M-source struggling -- maybe not the exact word used, but I think that's the fair one what I understand. Strategy taken to account, those struggles are you coming up with ways to make easier on OEMs, or are they struggling so much that they are not willing to use the architecture around which your lose to original Iris has developed.
Well, I think what chips do you have to get to the customers early when they are defining the architecture of the firm and the number thing we have to do is make they believe adding Iris is compelling. If they believe it's compelling and they believe it will differentiate their phone in and what is firming up as is a tough market. a slower growth market where were they do need to differentiate.
Looking to get early on, the fact that it is an architectural change isn’t a big deal, all right. They bought in early. If you come in late, it's tough, coming late the process and then secondly by focusing our resources really on QUALCOMM-based processors and in the android environment.
We can offload some of the adoption and software work early on that that they would need to do. Those are the things that you have to do get in front of it.
Okay. Fair enough. I think all my other questions have been answered. So, I will jump out of line guys. Thank you.
Thank you. And I'm not showing any further questions at this time. So, I'll now turn the call back over to management for closing remarks.
Okay. Well, thank you everyone for joining us, and we look forward to having you on our next call next quarter. Thanks. Bye now.
Ladies and gentlemen, this does conclude the program, and you may now disconnect. Everyone have a great day.
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