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Joseph Wolf - Barclays Capital

Executives

Yaniv Arieli - Chief Financial Officer

CEVA, Inc. (CEVA) Barclays Capital Global Technology, Media and Telecommunications Conference May 22, 2012 11:45 AM ET

Joseph Wolf - Barclays Capital

Good morning. I'm Joseph Wolf from Barclays, and it's my pleasure to introduce Yaniv Arieli from CEVA, the CFO.

Yaniv Arieli

Thanks, Joseph. Good morning, everyone and welcome to the CEVA presentation. Over the next 25 minutes or so, we will try to give you little bit of more flavor, start with the forward-looking statements, then talk about who we are, what is the technology base, and from there we will move and talk about the markets and the growth drivers for us in the segments and then we will wrap up with some of the financial highlights which have a pretty nice correlation to the growth and the ramp up that we have had over the years and we will wrap up with some investment opportunity and the summary.

So, CEVA is the world's leader licensor of DSP cores and platforms. Essentially, we are an IP, intellectual property company and the biggest in the world in architectures for DSPs for basebands and handsets.

To make it a little bit simpler, in non-technical words, in every cell phone that is sold today in the world, you have three main engines. One is the CPU, which is an ARM or maybe an Intel in the future. One is the GPU, which is a graphics and post-processing which dominant like Imagination’s of the world and the third is the DSP which CEVA has the dominant play in, and DSP essentially helps to use and translate analog signals to digital and vice versa. Anytime we speak or hear or see these analog signals need to be transforming to a digital and vice versa.

All these three components are a must-have in every smartphone that is out there. One cannot do the other functionality but we have to have a dedicated engine and we have earned our space in the DSP world with being the biggest player in that segment.

We are expanding into high volume DSP markets and I elaborate not only baseband. Baseband chip is the communication chip in the cell phone. We are moving now into a imaging, vision, audio and voice type of functionality. So these are non-baseband related, non-wireless related, I will give you little bit flavor about that and the model is very simple.

We don't manufacture phones. We don't manufacture boxes. We license. It's a licensing and royalty type of business like the ARM, Imaginations, MIPS of the world. You have to have some core technology and I'll explain how that generates revenues as years go by.

Few highlights, for the first timers, that do not know CEVA well. We will give you little bit of perspective as to what's our starting point and where we are today in the beginning mid-2012. We're the number one DSP licensor worldwide today with 90% market share and this is based on Lilly report that came out about two weeks ago, $163 million in cash, no debt as of end of March. We have powered north of 3 billion phones over the years. Meaning this is a mature, well known and technology not something new or that we have been a player for many, many years.

Last year, 2011 number one baseband DSP provider in the world today, our customer shipped about 900 million devices in the baseband known and these are all CEVA-powered, of course. Our role to represent one core and the actual sales by our OEMs, by the phone manufacturers and the chip guys, so for Q1 royalties, Q1 2012, which represented actually Q4 '11 shipments, we had 46% worldwide in market share, so close to half of the phones that are being sold out there. If you open up the phone, you open up the baseband chips, you'll see CEVA inside and we get royalties for these nice sockets. Overall, north of 200 licensees, north of 300 licensing agreements and this is the history and this is where we are today.

A bit about this business model and as I mentioned is pretty simple one overall. We design these DSP engines very similar to Pentium I, II, III. If you are looking at Intel or if you look at an ARM processor and ARM 9, 11, 15, every year to year-and-a-half or so, we come up with the new processor for different segment of the market or with some more features and capabilities. We get an upfront license fee. This is the first part of the royalty of the revenue scheme.

It bears for few hundred thousand to few million dollars per deal, and essentially this is the first part where you see the Aero CEVA enabling these semiconductor companies to start a design, the chip design with a black box. The black box is the DSP processor. It's standard. We don't customize any DSPs.

So very similar to the other players, we're the big players in the world today into IP space, whatever Broadcom license could be also used by a Spreadtrum or STM or SG Ericsson and Intel, and that's the advantage these guys have when they start selling chips into the OEMs.

Historically, we have been somewhere in the range of $4 million to $5 million of new deals per quarter, and one needs to bear in mind that this is the actual revenue stream that generates royalties two to three years down the road. So it's a very critical and important element, because it generates the future growth and profitability.

The second and the sexy part, I would say, in the main IP business is the royalty. The royalties are 100% gross margin business. It takes probably somewhere between a year-and-a-half to two years before the chip vendor finalizes its chip design, gets into production, has sockets with an OEM and start selling its chips either to cellphone OEMs or gaming consoles or tablets or whatever, and we get royalties as I mentioned earlier of one quarter than we are, so whatever our customers have sold in Q1 this year we will report it in Q2.

As you will see in the presentation, because a big portion of our customers are public companies, we have a pretty nice transparency for CEVA's business upfront and royalties represent about 60% of our business today. So that's very interesting and important aspect to take into consideration.

Overall, we have different models in different markets. I will try to touch a little bit as we go along the different segments of the wireless markets. One of a ASPs and the royalty and revenues for us, but I would say, an average that stumbles with these types of models and high volume market, you could use around 1% of the chip price and some are higher, some are lower, different segments, but in general this is a good way to build a model if you want to do it after the presentation.

If you could see on the right hand side, this is the royalty that we have generated from chip shipments over the years and on the left-hand-side is what our customers actually shipped, and you could see that in the last two or three years, there was significant growth from 300 million units a year to 600 to shy of a 1 billion units sold with our technology in 2011. I will give you a little bit of where we believe we could be heading over the next couple of years.

Needless to say, because of the growth in royalties and as I mentioned, this is the high gross margin business. If you have the volume and you have the royalties and the customer base to back-up the story and the model. Operating margins from 2008 to 2011 went up from 12% to 39%. On a non-GAAP basis, gross margins went up to 94%. The business and model have been working extremely well and this was all in the 2G area.

The big growth for us and the way you see the start off of the business years ago, was replacing mainly TI in the very low end business and enabling many, many new players into one of those business to get into that into the baseband space where 10 years ago, you only had two big players and that was TI and maybe MediaTek in the low end space. That has changed dramatically and we will touch in the next three or four slides what are the future growth drivers for us within the wireless space.

To summarize before we touch on the future growth. In 2011 there were 2.2 billion connected devices. This is not necessary just cell phones anymore, tablets could be connected, data dongles and different automotive devices, all machine-to-machine. Overall, 2.2 billion baseband chips and products, of course, were sold.

CEVA powered 900 million of these basebands by different customers. We do not manufacture the chips or design the chips. It's just the DSP block within these 900 million chips. On the home or application process, this is a new market segment for us as I mentioned earlier during the opening remarks.

This is a new market that we want to tackle and penetrate out of 800 million devices about 100 million were CEVA-powered. So here we have ways to grow and we are putting a lot of efforts in these other markets. So overall to summarize, the 900 plus to 100 million gets to a 1 billion units which is about a third of the potential market addressable the market last year.

With CEVA, we want to be and the whole market can be in the next three or five to five years when we start digesting the market by and different segment of wireless market in the next three slides. So, there's no doubt if you read articles, follow the wireless players in the world today that the next big drive from the volume perspective is migration of 2G to 3G.

A lot the emerging economies whether it's China, India, Africa that do not have high penetration like we have in the U.S. or Europe of 3G phone. One use and have this user experience of either feature phones or high end phones or smartphones, doesn't matter how you call them but these are not voice-only type of $20 or $30 or $50 phones, but higher.

It could be Wi-Fi connected. It could be a touch screen, of course, all the nice bells and whistles that we find in the Galaxy’s or in the high-end iPhones, of course, that will move to the low end 2G and 3G market.

Today, we have about 25% market share in 3G. We believe in three years time, we could double that and then reach the same levels that we have in 2G today as well, somewhere about half of the market or more.

If you look at some of the main growth drivers, you'll see that in the Chinese market alone from 130 million 3G subscribers this market is anticipated to grow to 770, close to 800 million over the next four years.

If you look at the low cost smartphones, these are sub-$300 phone, we're looking to experience 6x growth in shipments in the next couple of years. This is based on Samsung, Nokia and other key players in the industry.

We and our customers address every segment of the 3G space whether it's a $600 smartphone or a $70 low cost 3G smartphone and all these different standards that you see in front of you, these are all technologies end markets that we have full solution into.

To wrap it up, this a nice opportunity not just for us, but also for the Qualcomms of the world. Qualcomm is the biggest player today in 3G. If you look three years ago, it was only Qualcomm and TI who dominated 100% of this market.

If we have 25% today, we believe we could reach half of the market. One needs to understand that the market itself will grow from 1.4 billion to 3.2 billion subscribers over the next couple of years, and this type of data you will also find in the Qualcomm IR presentation.

Now, this is a huge growth. This is more than double. Huge market opportunity, both for Qualcomm, which we believe will get a nice share in the very high end and both, for all the CEVA customers.

If you want to try to quantify CEVA's opportunities over the next couple of years, I would refer you to other customers and the customers are the Broadcoms, the Intels, the SG Ericsson, Spreadtrum, via, all of these guys are talking about numerous design wins, huge potential growth rates in the 3G segments.

For example, if you look at some of their recent earnings announcements, Broadcom is talking about very strong penetration with Samsung Galaxy, a high-end phone, better than expected, quicker than expected. They also mentioned on the earnings call, design win with ZTE for the first time.

Intel mentioned for the first time ever getting into HTC, HSPA+ phone, HTC for us, all understand this is the 100% Qualcomm territory, so was Samsung few years ago. That has moved away, and HTC is moving with Intel to HSPA+. Intel has talked about a design win and Huawei in China for 3G phone.

Spreadtrum in their earnings call talks about 200 design wins in China, very strong growth implementation in the PD space and recently also mentioned other interesting factors of growth based in China both, with HTC and the Samsung Galaxy 2, so all this is working for us. When these guys ramp up, these are all 100% CEVA-powered.

The next growth driver. This is a more of a 2013 and 2014, beginning of 2014 and moving from 3G to LTE. LTE today is mainly in the U.S., the world is a bit behind. Eventually it's going to get there. We have 15 design wins in LTE. It's going to start from data cards move to the smartphone market, huge bandwidth and capabilities.

Again, you could see the customer base very strong one, Samsung, Broadcom, Intel's, Mindspeed, all of these guys are using us using us not necessarily anymore for just cell phones. We have design wins in base station. We have design wins in smart grid. The volumes could be quite big in these markets and if you look at the LTE subscribers today from 12 million anticipated to grow to north of 700 million over the next three years.

Again, this is the first time from the 2G and 3G space, CEVA was brought in late after the market was already there and cost reduction to the Qualcomms and TIs and MediaTeks of the world, in this market we are ahead of the curve. We have better technology and more design wins than we ever had in any of these prior generations.

By the way royalty ASP for this market could be north of $0.10, and/or $0.10 in high volume starting very higher. If you look at the 3G market, this could be $0.05 type of opportunity, significantly higher than in the 2G, which we came off with maybe $0.02 type of a royalty offering. So we're seeing also pretty interesting ASP changes over the next couple of years.

The last around the baseband, this is an interesting slide, and just understanding a bit the markets around us. 4 billion unit of potential baseband and different segments of the market whether it's automotive connectivity, 1.5 billion in mobile computing, and if one followed Intel’s Analyst Day, just a week and a half ago, very interesting presentation of adding a baseband whether it's HSPA+ or LTE, to all the Medfield fields and the Accent platform and future platforms.

This means that if this gets into production, CEVA could be powering for the first time tablets and laptops and desktops and whatever Intel is in, it could be a next to a CEVA baseband, whole new segment of the market that we have never played before and add another 1 billion units in smart meters, and so we have two design wins today, both for U.S. company and the Chinese company, interesting volumes, yet to be seen when this gets to the mass production, but design win is all around 4 billion potential units over the next couple of years.

As I mentioned earlier, last but not least, this is now the non-baseband growth opportunity. This is not the traditional business for us. It's something that maybe 10% of our revenues today are coming from non-baseband. We are trying to increase it. We are seeing an addressable market of just shy of 2 billion units in 2015. So it's worthwhile for us to make those extra steps into the application processor.

In Q1 of this year, we talked about three design wins in audio. So you are finally getting a little bit of interesting traction we talked earlier in the year about design wins with Broadcom and Toshiba powering their audio solution. This is a separate chip, not related to communication at all that deals with high end and HD type of functionalities and we hope to see more business both, in the licensing front and further down the road specifically from royalties on top of the core and traditional business.

So, summarizing our R&D efforts in our product portfolio these days, three main markets. Again, we have a portfolio of DSPs, different flavor, sizes to each of these markets. The baseband, we have a bunch of different processors and newer market as I mentioned audio and video something relatively new, we announced just a week or two ago, and TeakLite-4 the newest core of all dedicated for that segment of the market and imaging, video vision. This is more for gesture and post and pre-processing capability, a very unique solution, something that we will try to expand as we go along.

So, summarizing all these opportunities, existing customers today, existing markets, a technology that we have on hand, that we know how to do in markets that we have enough data sources from the Gartners and iSuppli and Strategy Analytics of the world and see where the market is moving and where it's going and different segments of the market. We believe that the addressable market for our technology is around 5 billion units in 2016, three years from now.

Based on all this data that I just gave you, we believe we could increase the 1 billion units in CEVA-powered devices to close to 1.7 billion over these next three years. This is the target and initial target for us and this is based on, again, the existing customer base and technologies that we have on hand today.

We have about 4, 5 minutes left and the financial data, I'll skip it, I'll run quickly maybe.

Q1 was a solid quarter overall, a $15.1 million, slightly better than what the street expected, top line in EPS. The guidance was as you are probably aware more of a challenging for us . We talked about explained on the call in more detail than what I have to do about very slow Q1 on the wireless market overall, not something that's CEVA needs to be blamed for but of course we are part of that industry.

Overall, the industry was down 17%. This is the lowest sequential drop in the history of the wireless segment from 2009, on a quarter-by-quarter basis and everybody even Apple went down 5% in volume, Samsung down 13%, Nokia 27%. So it was a pretty slow quarter for different reasons, and we lowered because again as I mentioned earlier our royalty guidance is based on actual Q1 shipments, the royalty guidance and the revenue guidance for Q2 was lower than what we had expected and we also explained that we trimmed a bit the growth prospects for the second half of this year, because of some of the challenges that Nokia is over going and we need to monitor that carefully to see how that evolves over time.

There could be other 3G vendors like the Samsung of the world, like the Spreadtrum in China that could take some of that to market from Nokia over time. Maybe Nokia could recover and gain its position in the low end 3G segment. Maybe it's going to 2013 story like Broadcom said in their earnings call. These are all things that are moving targets we are targeting them, but nothing is broken. We haven't lost a customer or customers have not lost market. We think these are macro issues that happened in the wireless space that we need to monitor and see how we work around them or with them.

Snapshot, historical snapshot from 2007 to 2011. This was the earnings growth in non-GAAP EPS. This was the cash that we generated as of year end 2011. So again the mode is another good historical example to show that we have been executing well. We have very strong customer base. If we got to 60% market share in 2G, we really don't see any reason why not to copy that success in the newer generation of 3G and after that 4G. There are no other vendors, there not too many other vendors could supply the same type of technology. We have done it once, we think that we could do it again and we don't see any other hurdle from us achieving these types of growth rates.

Summary, as I promised earlier, today we are number one DSP architecture. Now, one needs to understand. If we are replaced and somebody else wants to use it and one of our customers who wants to use a different DSP for some reason, there is not only a chip change and tape-out and lot of R&D cost, they also need to go to the OEM and redo a lot software around it. So it's almost a lock-in mechanism for all these customers that I just mentioned that today to ask for an OEM to change the accent and the design of the phone and the feature set is much more complex and therefore CEVA as far as we see it is there to stay.

Our volume shipments, our customers last year was more than Qualcomm or more than MediaTek. This is the volume that we shipped last year. Even last quarter, that’s true. We have every major Tier-1 OEM working for us that this a slide that we do not have a data point that we do not have a few years ago. Today it's true.

Strong financials and other than the traditional baseband market as I mentioned, we are trying to get into these other application plus or type of market. If you are on our distribution, we'll be happy to take your business card, I have distributed for this presentation as well.

Once a quarter, we update you with new phone, the new products that are CEVA-powered, HTC is for the first time, there are Intel phone, Panasonic, Huawei phones, for the first time, interesting devices, every once in a while we really have some nice photos and nice pictures here, which gives a little bit more color on the diversity of the OEMs, of our customer base, of the end customers and with that said, my time is up and this is how we plan to get to the 1.7 billion devices over the next couple of years.

So, Joseph, I believe we have a breakout session.

Question-and-Answer Session

Joseph Wolf - Barclays Capital

(Inaudible).

Yaniv Arieli

Okay. We will try to get there and I will be more than happy to answer any questions. Thanks for your time and thanks for your attention.

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