Vuzix Corp. (NASDAQ:VUZI) Q4 2016 Earnings Conference Call March 17, 2017 9:00 AM ET
Andrew Haag - Managing Partner, IRTH Communications
Paul Travers - President & CEO
Grant Russell - CFO
Brian Kinstlinger - Maxim Group
Jim McIlree - Chardan Capital Markets
Rob Stone - Cowen & Company
Mark Drucker - B. Riley
Greetings and welcome to the Vuzix Fourth Quarter 2016 Financial Results Conference Call. At this time, all participants are in a listen-only mode. A brief question-and-answer session will follow the formal presentation. [Operator Instructions]. As a reminder, this call is being recorded.
Now I would like to turn the call over to Andrew Haag, Managing Partner, IRTH Communications. Mr. Haag, you may begin.
Good morning, everyone. I would like to welcome all of you to the Vuzix's fourth quarter 2016 financial results conference call. With us today are Vuzix's CEO, Paul Travers and the Company CFO, Grant Russell.
Before I turn the call over to Paul, I would like to remind you that in this call, management's prepared remarks contain forward-looking statements, which are subject to risks and uncertainties, and the management may make additional forward-looking statements during the question-and-answer session. Therefore, the company claims the protection of the Safe Harbor for forward-looking statements that are contained in the Private Securities Litigation Reform Act of 1995. Actual results could differ materially from those contemplated by any forward-looking statements and as a result of certain factors not limited to general economic and business conditions, competitive factors, change in the business strategy or development plans, the ability to attract and retain qualified personnel, as well as changes in the legal and regulatory requirements.
In addition, any projection as to the company's future performance represents management's estimates as of today, March 17, 2016. Vuzix assumes no obligation to update these projections in the future as market conditions may change.
This morning, the company filed, actually last night the company filed its 10-K with the SEC and issued a press release announcing its financial results. So participants in this call who have not already done so may wish to look at those documents as the company provides a summary of the results we discussed on today's call.
Today's call may include non-GAAP financial measures. When required, reconciliations to the most directly comparable financial measure calculated and presented in accordance with GAAP can be found in the Quarterly Filings at sec.gov which is also available at www.vuzix.com.
I will now turn the call over to Paul Travers, who will give an overview of the company's business activities and developments during the fourth quarter of 2016. Paul will then turn the call over to Grant Russell, Vuzix's CFO, who will give an overview of the company's fourth quarter results and after that Paul will talk a bit more about the company's outlook, technology and programs as well as the growth plans. We will then open the call up for Q&A session.
Go ahead, Paul
Thank you, Andrew. Hello everyone and thank you all for joining our call today to discuss the company's fourth quarter and 2016 financial results. I’m also going to give a bit of a business outlook for 2017. I’d like to start by reviewing some of the highlights for 2016 and how those efforts have set Vuzix up for the accelerating roll out of our smart glasses in the enterprise markets. I will also get into more detail on our technology advances where we have made great strides with our patent portfolio of growing to 90 plus patents advanced in 2016 and with the employment of our Waveguide optics technology in two new products that showcase that CES and Mobile World Congress to Blade 3000 smart sunglasses and the M3000 smart glasses. We would have talked of both shows winning multiple awards at both events and receiving strong coverage from industry international press. These new developments are cornerstone to Vuzix’s feature and as such I will spend some time here also.
I’ll then pass the call back to Grant to go over the financials, and then finally will follow up with a more in-depth update. As most of, the market potential for AR and BR devices is significant with ADR research projecting the overall market to reach upwards of $120 billion by 2020, with augmented reality ultimately taking up the lion’s share with the market opportunity.
In fact, just yesterday, a piece from [Variance] tuck [trader daily] titled virtual reality and AR about to hit break net growth says IDC. Variance paraphrased from new IDC report. Good news for fans of virtual reality and augmented reality. The market is about to hit a period of break neck growth according to the news release this morning for a research firm IDC continuing IDCs with corporate usage especially for augmented reality examples of which include glasses by Vuzix and Microsoft HoloLens to rise faster than consumer, the split in shipments last year with 80-20 in favor of consumer, but by 2021 it will be more like 40-60 commercial for consumer. The AR headset sales are expected to reach $49 billion by the end the firm believes.
As evidenced by that prediction, 2017 is off to a tremendous start at Vuzix. Our brand and position as a leading supplier of smart glasses enterprise continues to gain steam for our direct customers and is now growing to include OEM partners with their recently announced agreement with Toshiba, to bring to market a Vuzix designed pair of smart glasses for Toshiba as well as Toshiba’s external customers.
This agreement provides further validation of Vuzix’s position as a leading smart glasses supplier in this space. I’ll share on this a little later in the call.
In January, at CES 2017, we introduced to the world our Blade 3000 smart sunglasses, weighting in at less than 2.8 ounces, you’ll hear that a lot to the – [links] our superlight, they are an amazing pair of glasses and they have a look and feel just like a normal pair of sunglasses.
The Blade 3000 are smart glasses that stand out in the field, so much so that they receive four innovation awards at the show, which was followed by ShowStoppers best of innovations award for best smart phone accessory at Mobile World Congress in Barcelona, Spain. The needy attention Vuzix has received has been tremendous, and I am personally extremely proud of our team for delivering a device that seems year’s ahead of the competition.
Vuzix began selling our first smart glasses, the M100 in 2014 and over the past few years we have successfully sealed many major enterprise accounts and developed a broad eco system to deliver meaningful, hands free smart glasses solutions to the end customer. This ecosystem includes system integrators, software services including mobile device management, speech recognition, augmented reality tools and advanced barcode scanning to name just a few.
Our extension list of value added resellers has grown from a handful to hundreds of partners and now incorporates nearly all the vertical markets in the enterprise space today. This is important to understand because we have the exposure and the ability to place products that are essentially every enterprise vertical market including warehouse in a logistics, insurance inspection, manufacturing field service and biopharma. Our ability to shift smart glasses and put virtually all enterprise vertical markets is a function of the ecosystem we have developed, as well as the versatility of our smart glasses.
Our M300 smart glasses provide a significant technological advancement over our M100 with upgraded features including hot swappable batteries, 13 megapixel camera with image stabilization in our focus as well as Intel’s Atom Processor running Android marshmallow 6.0.
With thousands of smart glasses already sold and field tested in the enterprise space, we have a unique advantage over our competitors. When we designed the M300, we took the feedback from our enterprise customers and partners to improve on the weaknesses of the M100 and outpace our competitors, and made the strengths of the design and functionality even better.
The M300 product coming off the line today is impressive and is the best mouse trap available in the market within the enterprise space and comes with performance, availability, ergonomic design and price the M300 stands above the competition.
As a company, we are thrilled with the M300s position in enterprise market, and at the same time we continue to innovate and push the limits in terms of form factor to open up additional segments of the market place with the introduction of our Waveguide based products to Blade 3000 and the M3000 in 2017.
I have much more to share on all of these fronts, but first let me turn the call over to Grant for a review of the financials, and then I’ll provide a more detailed update on 2016 and going forward expectations. Grant?
Thanks, Paul. Good morning, everybody. Before I begin, I’d like to point out that I will be rounding many of the discussed numbers to thousands, even though we current report in dollars, but hopefully that no much longer. I also encourage interested listeners to review our 10-K for a more detailed explanation on some of the years, year-over-year differences as I would just be highlighting a few in this discussion.
For the three months ending December 31, 2016 Vuzix reported $620,000 in total revenues as compared to $543,000 for the same period of 2015. Overall product sales were up despite our smart glasses being constrained as customers continued to wait for the M300 and the commencement of its volume production. Sales of our iWear video headphones drove the increase in the quarterly sales as a result of its improved production yields.
The negative gross profit margin for the three months ended December 31, 2016 was primarily the result of revenues not being high enough to absorb our relatively fixed software royalties, amortization costs and other overheads.
Further, Q4 margins were driven lower as a result of the much lower gross margin we currently own on iWear, and such a lower gross margins on our original M100 smart glasses.
As we begin to achieve higher sales, revenues are expected to absorb these overhead costs and should also contribute to significant levels of margin improvement. I will discuss this more when we get into the annual results regarding gross margins. There was a loss on inventory valuation for the fourth quarter of $1,124,000 as compared to $0 in the prior year. This write-down was the result of management's decision in early 2017 to reduce the suggested retail price of its iWear Video Eyewear inventory on hand to a price below its cost.
Management expects to reduce price of $299, versus the prior $499, should help represent a differentiated and good value to potential customers in the now commoditized smart phone VR goggle market, and we intend to broadly introduce the product to more channels in 2017. And in fact we are giving very good reaction now under the channel for our products so we’re still hopeful there.
R&D costs for the three months ending December 2016 were $1,826,000 as compared to $1,404,000 for the same period in 2015. This represents our continued commitment to invest in our new technology and upcoming products. Spending increases in the quarter were primarily related to obtaining regulatory approvals on the M300 smart glasses as well as ongoing development work in the M3000 and Blade 3000 and Waveguide based products.
Selling and marketing cost for the quarter were $767,000 as compared to $626,000 in 2015. This increase was primarily due to new staff additions and increased travel support our new products and upcoming product launches.
G&A for the three months ended December 2016, were $1,764,000 primarily due to up from the prior period due to increased IR activities and increased professional fess relating to SOX implementations and audit work.
Speaking of SOX costs, as of December 31, 2016 Vuzix became an accelerated filing with the SEC and therefore it became required to have a section for the audit and its internal controls over financial reporting.
Of course management is still responsible for its internal controls over financial reporting and regular reports on that as part of item 9A of its 10-K and item 4 of its 10Qs. And on previous filings for the last years [Indiscernible] has concluded and reported that certain material weakness existed in its internal controls that due to compensating controls and procedures that we are still able to make the required certification regarding its reporting and their accuracy.
On July 1, 2016 we learnt that we have passed the $75 million market cap threshold and as a result we have become subject to internal controls section 404 be it audits by external auditors in this fiscal year. Previous to July 2016, management have been working to implement new policies, procedures and controls to improve our internal controls over financial reporting and of course after July 1 began accelerating our implementation with the help of external SOX consultants. But jumping ahead from the way the 10-K we filed yesterday was our first filing that included the 404 B audit opinion.
In that filing, the auditors reported management had not maintained effective controls over financial reporting. This conclusion was not because Vuzix doesn’t have any controls or that they were not operated. With a view of the fact that they get a clean audit opinion our company needed to not just prove that controls were in place, but also had to prove that they had sustainability.
While company growth for the period where controls have been remediated, the auditors need an adequate sample size to verify the quarterly and monthly controls work correctly and repeatedly. As a result, auditors require a minimum of two or three consecutive periods of operating effectiveness to gain a control remediated.
This is explained in a fair bit of detail in item 9(a) of our recent 10-K where we highlight in the disclosure that management has adequately designed the system internal controls, sufficient to remediate the material weakness but that due to the timing of implementing the new controls they were unable to drive conclusion on their sustained operating effectiveness at this time.
As a result of these timing issues, I would suggest that many smaller public companies that go through this transition from being a small reporting company to an accelerated [Indiscernible] and after similar audit opinions in the first year of our 404(b).
So to repeat Vuzix does have a system of internal controls and they are working fine. All that needs to be demonstrated is their repeatability and sustainability. And finally, this report does not imply in any way to their prior filings or in actions or when we are restating.
Well getting back to the discussion. Total other operating expenses were $50,000 for the three months ended December 2016 as compared to $298,000. The change there is certainly a change in derivative valuation, liability valuation where in 2016 over the profit in 2015 it was a loss. Overall, they temporarily reported net loss of $6,334,000 or $0.31 per share versus net loss of $3.509,000 or $0.23 per share for the same period in 2015.
Now moving on to full year results. For the year ended 12/31/16 Vuzix reported $2,127,000 in total revenues when compared to $2 million and $50,000 for the same period in 2015, down by 23%. Product sales were $1,988,000 and they were down 22% from $2.5 million registered in the prior year. Since we’ve first introduced the M300 it’s the [Indiscernible] in 2016 many customers have been waiting for it and it’s been reflected in our lower sales of the M100 during the year.
Also contributing to the fact of the overall decrease was a 32% decline in engineering services in 2016 as compared to the 2015 period. Sales of our new video of iWear video headphones which were not available in late 2015 were 18% of our total revenues for the year ended December 31, 2016. Production ramp-up difficulties have had constrained the revenues from its product line and they appear to be behind us now.
The gross profit for the year ended 12/31/16 as compared to 2015 was primarily a result of revenues not being high enough to absorb our relatively highest fixed software royalties and amortization cost.
Additionally, we registered lower gross margins on iWear as compared to our smart glasses and our prior year products. Moreover, production issues and production shortages contributed a negative margin on the iWear for 2016.
Manufacturing overheads for the year were $795,000 versus $410,000 for the 2015 period. These costs increased primarily due to increased salaries and production labor of which $199,000 went into iWear re-work cost and addition due to our higher, our larger Rochester facility we increased, we incurred, increased rent in utility cost allocations of $163,000 clearly we need to ramp up production to help amortize these costs.
Freight costs were $482,000 they were up substantially from 2016 when they were $251,000. Our new iWear products have said this before is bulkier and heavier and ships them a larger retail package. There had been a lot of [varying] around, we have now moved to sea shipments, so you should see the growth there come down very quickly.
Again, ramping up our sales volumes, we expect to normalize our margins and our goal has been to realistic to achieve 40 plus percent margins amount of sales at adequate levels. Overall, R&D expenses for the year ended 2016 was $6,148,000 as compared to $3,595,000 for the 2015 period.
This 93% increase is primarily the result of new product development for the M300 glasses and to a smaller extent the M3000. The engineering pilot runs in the M300 during the summer and fall were very expensive and but we’ve ended up with a fine product as a result, and we also made a extensive use of external contractors which drove a lot of these costs up higher.
Selling and marketing costs for the year, full year were $3,395,000 an increase of 89% over the prior year, that’s due to higher personnel, trade shows one sight of the cost and again this is all part of a ramp up for the launch of our new products.
G&A for the full year of 2016 was $5,114,000 a decrease of $1,6000 over the prior year. And that reduction was primarily due to the fact that in 2015 we were awarded $1,375,000 worth of stock awards to officers and directors back in January 2015.
Total expenses for 2016 were $2,86,000 were $714,000 for 2016 as compared to $286,000 in 2015, a reduction of $1,372,000, that was driven primarily by the reduction in derivative liability mark-to-market revaluation. We had a small profit for 2016 versus $1.1 million loss in 2015. Other reductions relate to lower senior debt discounts and interest related to convergence. Overall, the company reported net loss of accrue preferred dividends of $19,250,000 or $1.23 per share versus 13,427,000 or $0.97 per share for 2015.
Let’s now quickly move into a few balance sheet highlight. As of December 31, 2016, we had cash and short term marketable securities totalling $14.5 million, this led to an increase of $2.6 million over the year and directly results from two equity raises that netted at $19.2 million in 2016.
[Indiscernible] cash charges, the actually use cash use for operation for year was $16.4 million and for the fourth quarter a net charge from operation used was $4.7 million. We believe our existing cash and cash equivalent balances along with the successful execution of management’s operating plan will be sufficient to meet our working capital and capital spend will needs for at least the next 12 months with the growing demand for shipments of the M300, we expect to see cash flow improvements as we wrap up the demand and expect to achieve positive operating cash flows by the end of this period – end of the 12 months period.
Inventories including vendor prepayments for components were $2.8 million as of 12/31/2016, net of valuation reserve 1.1 million on the iWear. And just so everybody else the net balance iWear inventory and the 12/31 total after the reserve were 608,000, the balance representative component inventories and finished goods, the M100 and components for the M300.
With that, I would like to turn the call back to Paul.
Thank you, Grant. I'd like to now get into a bit more detailed update. First let us start with the M100. Despite earlier thoughts regarding M100 and even in the royal – shadow of the new Vuzix M300, the M100 have proven to be useful and deployable tool for selecting entire specimens.
This is confirm by the modest yet now growing in 100 has continue to see through the end of 2016 and now into 2017. This demand is coming from a combination of slow but a continued amount of one to two unit orders for trial investing as well as the very successful M100 to M300 migration package for line put together.
Also a few large M100 deployment orders and the fact that several of our VIP partner such as safety stock of the M100 could be sure that they can continue to support the current appointments with expansions second charge etcetera
This demand coupled with inbound request from new customer deployments for larger orders for the M100 actually costs that Vuzix’s separated for the M100 on back order here in Q1.
But with Vuzix’s ability to confirm a new build of the several thousand units we were able to schedule out M100 deliveries and confirm stock to take a product out back order. The several large M100 orders come in from all regions U.S. Europe and Asia, and customers from most of these are confidential but Vuzix should be able to share more details on some of these in the coming years. As a result of continuous customer demands on M100 we now the M100 sales will extend will into 2017.
Moving now to the M300, in December certified M300 began to ship to Vuzix’s VIP partners in Europe followed by the North American VIP counterparts in February. [VIP APX] has been imagining. In terms of their load of ergonomics they’re capabilities of Android 6 platform in the video streaming features to name few.
As of any technology has cut an edge of the M300 is, there comes the expectation of a period investment optimization and development especially in the software side. This was one of the main share values of the Vuzix VIP developer program as over 50 of our closest software partners and we’re working closely with Vuzix with the engineering team to expedite and optimize which after three months you can see it about to comminute with produce of the M300 Version 2.1.
For comparative purposes this same process took over six months to complete for M100. The bottom-line the M300 is now rolling after production line which taken every day and have orders like every coming off the lines with growing demand as we move from VIPs and start turning migration orders.
Finally, we will shortly be opening to the M300 to general customer in the middle market. Production is also running and we expect a consistent run rate of approximately 1500 units per months at the end of this quarter of only trend of early Q2. With Vuzix enterprise sales team has not sat idle during this early late stage of M300.
We won CES Las Vegas in January and the recently completed Mobile World Congress in Barcelona culminated in thousands of leads. We have also been supporting our existing VIPs at other industry vertical specific shells as another applications on the new M300 with examples including LogiMAT just this week, CeBIT, and major U.S. Logistics ProMAT show in April in Chicago.
The team has also continues to quote and add more VIPs and application developer partners with almost 25 new partners signed in the last month alone. All of this provides Vuzix with an ever expanding range of partners and applications many of which are new use cases brought about the expanded feature set of the M300.
These new features include on-device and cloud-based speech-to-text especially with that fit for medical insurance use cases as well as augmented reality image recognition and tracking tools, AIM machine learning and a significant expansion into the agricultural and inspection verticals brought on by the vastly improved video image capturing capabilities.
With all of this Vuzix remain very confident in the smart glasses market in general and especially confident that the Vuzix M300 will meet expectations as the premier smart glasses tool for enterprise and industrial use for 2017 and beyond .
Market excitement of the M300 is comparable. The say that the M300 platform is revolutionary and unparallel for the enterprise space is not an overstatement. The M300 is equipped with a long list of technical advancements such as enhanced ergonomics, adjustable display, and video and still picture improvements including image stabilization and auto focus, several mounting options and hot-swappable batteries powered by Intel Atom, chip the M300 Android 6 platform drives a full enterprise feature slick allowing complex applications via hands free wearable device.
Controlled by voice, gesture, button and touchpad, they’re really are no other smart glasses that come close to this feature set. But what this really means for the companies that have or will deploy the M300 is a lot than cool tech. The M300 actually represent a paradigm change in computational power and access for those in the workforce that do work, who today get information from a stationary terminal paper documents or their own use and own experience.
For the first time a truly wearable and deployable formats these workers now take the computer and all that it represent with an every step of their work process, heads up enhance free. We now have a new access to data, knowledge and people to get the job done faster and cheaper. Additionally, organizations now have real time access to the working process, expediting decision strategies exponentially increasing the inbound, data capture with the glasses and turning back the profit and strategic advantage.
The enterprise market is not driven by cool tech. it is driven by the creation of true business value and M300 brings back in states. What separates Vuzix in the M300 from the pack is our experience, the attributes of the M300 and ecosystem of software applications, mobile device management, integration partners, consulting partners, security features and channel services program that turn whiteboard ideas and spreadsheet ROI calculations into real ROI dollars in the pockets of our clients.
In an effort to give you some concrete examples to these two statements, I’d like examples of the kind of things the M300 is doing now and what new opportunities is it opening up for enterprise. There are some examples to give, so these are just a few that come to mind. And our most common use case field service. We have just shipped M300 production glasses to several major clients in the inspection and service industries, representing tens of thousands of inspectors and adjusters out in the field globally.
They’re been waiting for the M300 to leverage its all day variability, speech to text capability but most importantly the auto focus/image stabilized 720p and full HD video and 13 megapixels [Indiscernible] capture allowing the glasses to surpass the human’s capability to design the quality of the grain in agriculture or identifying a spec of dirt versus mode and the likes.
The M300 captures expediently more information while at the same time walking the user to very specific workflows that minimizes its training time and mandates conformance. Many of our VIPs are in the space in some form or another .With Christine, [Indiscernible] and few others leading the way with real deployments in 2017. These industries will never be the same.
Using a wearable hands-free like the M300 just completed and expedites the way the job gets done. Heavy and complex machinery is another example where the M300 smart glasses had great demand and for which multiple projects are already underway VIP partners such as iTiZZiMO, ESSERT and others that are leading the way.
Again, many of the valid pilots for this use case have been waiting for the M300 and its rugged design and ergonomics to function in this demanding work environment even things are simple as the flashlight on the M300 make this use case a go and no go. If you can imagine Josh when that 30 pound part with one and our ranch in the other underneath a 10 ton front loader, while its toughest to see in the dark and there is no third hands hold onto flashlight. The owners and operators of this type of machinery live and die by the up time of the machinery.
$1 million an hour for an out of service commercial plan or an inoperable precious metal mining machine with even higher downtime costs are good examples. With the fleets of machines and operations globally several of the world's largest manufacturers are ready to immediately deploy the M300 globally this year.
Warehousing is a clearly another great example and has been one of the earliest and most public use cases for smart glasses. The M300 has been specifically designed to overcome the hurdles in this space, again with the all day wearability, security features, advanced Wi-Fi and battery mounting options required for managing hundreds of devices over multiple shifts.
We have discussed DHL with extensively in previous calls, but if you look at the six VIP partners shown the M300 that largely met and [Indiscernible] this week, and the five or so that will show the M300 North American, the largest logistic show ProMAT in April, it becomes very clear that the M300 will lead meaningful deployment in this space, not just with the big dollar but across the board.
The end user companies are very confidential in this highly competitive space, but 2017 should see significant deployments in many of the world’s largest logistics companies with an increased likelihood of exponential growth in the space in 2018. When you recognize that third-party logistics providers win and lose contracts based upon a one -- costs on freight process and after you apply the 25% to 30% gained publicly quantified by DHL using [Edimacs] and others in the space it becomes clear that smart glasses will proliferate quickly across the millions warehouse workers globally.
Complex manufacturing is less about pennies per piece and about regulations compliance, innovation and speed to market. The M300 has been shipped to VIP partners such upscale, our premise FX, in KPIC for the immediate deployment into live operations. Complex manufacturing consists of Top 10 pharma and life sciences companies, major global electronic manufacturers, material manufacturing and more.
The M300 security features, Advanced Android platform and ability to use as the main Wi-Fi communications platform will immediately watch programs from the consortium to the shop floor. The glasses are use for core function such workflow processing, FDA compliance and animation, automation and general remote support applications.
The M300 will also allow incredible advances such as AR machine learning. As demonstrated by GE in upscale formally APX as the glasses liste6n in the background to the machine, think about that. Their eyewear on them, the glasses are on and the software the AR in the background, its listening and seeking and pick changes and noise indication in this site by the human ear that can represent maintenance issues or other spec performance that can now be address in real time rather than after a batch of products is complete and likely need to be the story.
It’s a huge thing, I mean, this are that you don’t find out the lasting effect unless you’re there in something like Vuzix is entering on a smart glasses that have AR cloud capabilities. Let me end with telemedicine, one enterprise space with the cost of smart glasses is almost a relevant and comparison for the value that brings to the patient and the business.
While M100 enjoying modest success and won’t guarantee senior carry ware. The M300 will finally bring smart glasses into the operating room, based on the adjustable ergonomics of the eyepiece in Camera, resolution improvements and security features, think about that, how simple is that.
We have doctor and he is working on a table down below and he tries to use one of our competing company’s products and in the IT is stuck by prior his eyebrow. The doctor almost has to break his neck to look down and get the camera to look at the work surface whereas now with the M300 recently put it lower in your view it tilted down and that there is some credibly image stabilize 13 megapixel streaming video source making it so much easier.
The M300 will now find its way also in the doctor’s office with industry lead speech-to-text capability for recording and translation electronic medical electric which allows doctors 30% more their work day to focus on the patient's.
In summary, the M300 smart glasses with improved connectivity, ergonomics regularize design, multiple mounting options in vast app ecosystem are now shipping and available for broad scale application into these and other enterprise applications today.
The M300 continues our history of delivering unprecedented features and capabilities within a truly variable form factor enabling smart glasses business opportunities for developers and end users. Together we are creating new competitive advantages and ROIs that business has never realized before.
The order flow associated with the M300 smart glasses had been continuous into the recently ramp up production and began making units available in volume to our VIP partners. In terms of average customer order size metric, the M300 is taking well ahead of the initial launch of the M100.
This is very encouraging as we’re seeing some of our customers begin to roll out commercial volume deployments. The M300 is now certified to ship into Europe, the U.S., Canada, Australia, Singapore and New Zealand with certification in all our global private markets expected by the end of the quarter.
The Initial development of the M300 has gone out to our VIP partners and we will shortly begin fulfilling migration packages and other M300 VIP preorders. As M300 inventory becomes available over the coming quarter we’ll open up the availability of our M300 for our development community which now exceed 4000 registered developers above and beyond the value-added reseller partners that we have.
Over the last few years Vuzix has witnessed firsthand the majority of applications being developed and the ability for smart glasses to truly revolutionize how individuals perform tasks at home and the workplace.
As a result Vuzix remains and active discussions with and taking orders from a number of companies looking to void hundreds of pieces, hundred plus pieces and in some cases in the 5 to 10,000 units arranged for 2017 alone, we have not factored these larger potential orders into our expected pipeline, however we are prepared to take him and fulfill these orders as they unfold.
I think it’s appropriate now to talk a little bit about the competition here, because it really helps set of pace for where we use this and maybe help them and understanding the size of the business opportunity there is in front Vuzix compare to our competitors.
Discussing the competition to enterprise smart glasses which is helpful to understand why Vuzix’s was so confident with our growth in 2017. The enterprise competitor space is made up almost entirely of devices that are cumbersome, bulky, complex and impossible to use for eight hour day.
If you look at their specs and capabilities most of the competition has completely messed with the release cases are, unbelievably many of the competitors devices have basic safety issues for use on job sites and they are simply not suiting for the plant floor construction site where even the warehouse.
Vuzix’s M300 since standalone with the feature sets needed to address most of the markets properly. That said, we are sure that some of competitors products will have a place in the enterprise ocean of business out there, but frankly speaking we believe that Vuzix’s smart glasses lead in most of the larger deployment opportunities we see coming over the next couple years.
We need to drill down closer and compare the features of the M300 and competition, let me give you an example, Vuzix have the only device offering image stabilization in the forward looking camera. Is it that fundamental feature to a pair of smart glasses performance. When your worker scanning of barcodes or a field service worker taking up video in which stabilization is a critical feature to have, and on the simple side of the equation let’s look at one of our bigger competitors, Microsoft HoloLens.
HoloLens is a tremendous and powerful product. However when it comes to wearability and the field performance required for an eight hour shift, the HoloLens fall short. In a short period of time users are worn out from the way and after an hour they want to pick the HoloLens often fatigue and even pinching or pain points, it’s clearly is a non-starter for many enterprise applications.
Let me now give you a quick update another part of the business starting with the Blade 3000. Everybody knows we’ve unveiled working product at the consumer electronics show, it was met with applause practically everywhere unending lines of the booth. It’s an amazing product and the Blade 3000 equipped with our Cobra II display engine which is very unique IP that Vuzix has develop also.
So between that in our waveguide it really puts the company in a great place. Equip with the Cobra II display engine and waveguides has provider our company with the vehicle to showcase our ability to innovate and our capability to produce fashionable smart glasses for the mass-market.
The number one requirement for wearable displays is exactly that wearability and on the Blade 3000 is simple year’s ahead of the competition. The blade has set a new bar for the competition to chase and its going to open the door to the larger AR market. We introduce the Blade 3000 CES this year and it has drawn an attention from journalist, bloggers and news channels spending across the globe from Russia to Germany and the United States to name a few.
Quickly on the Eyewear, going forward Vuzix has decided to deemphasize our efforts on consumer VR based Eyewear products. As Grant mentioned earlier we’ve load our price to the custom for the Eyewear to $299 to help facilitate this move. The Eyewear is a great product, but it do not sees of alternative options and confusion in the marketplace when you kind of walk into your local store and for $20 buy a plastic case that you can slain your phone in it doesn't get anywhere near to features and capabilities of our Eyewear, but it’s really difficult to get through all of that noise and it’s just not worthy effort from our perspective and you can share the opportunities we have elsewhere at the company.
So this strategic decision will allow us to focus on the bigger opportunities in Vuzix, opportunities that we had a stronger and more exclusive intellectual property position in and focused on the AR smart glasses for enterprise as well are waveguide based products. So, quickly from an OEM perspective, it's a great lead-in. We’re showing some of the most amazing products in the world. At CES, I have meetings every half an hour with some of the top leading companies in the world and many of them were at Vuzix’s to discuss how they might build the relationship with Vuzix.
So our OEM efforts look like they are really starting to kick into to overdrive. Our recent development agreement with Toshiba as a case in point, which was announced in Q1 of this year. The Toshiba agreement further validates Vuzix position as a leader and innovator in the smart glasses industry as a background.
Toshiba has spent years working on own smart glasses device, before selling the project just over year ago in 2016. After researching the marketplace Toshiba has chose to work with Vuzix moving forward because of our advanced solutions not only today's technology but into the future.
The Toshiba development will provide Vuzix with more than a million dollars worth of nonrecurring engineering fees which will happen very quickly here in the first—primarily in the first half of this year and open the door -- and opens the door for high-volume smart glasses productions the latter half of 2017.
Let me be clear here. This is a Vuzix’s proves and manufactured device. It’s going to be put with something else that our friends at Toshiba is manufacturing and be part of an amazing system that has some pretty vast capabilities and its part of an ecosystem that’s not being served today.
I can't share a lot of the details but it is going to be --Toshiba smart glasses powered by Vuzix, so it will be co-branded and it will look like – we believe that our relationship polish us and understood population of the market, if you think about a company the size of Toshiba, they would be looking for high-volume smart glasses product to contribute meaningfully to their top and bottom lines. Additionally this agreement is nonexclusive and does not prevent Vuzix from entering into other strategic relationships with potential partners.
Clearly Vuzix’s leadership position within the wearable display industry has not gone unnoticed from interested parties and interest from potential partners and working with Vuzix has never been stronger introducing the actual showing working waveguide based smart classes at CES that look and felt like normal sunglasses turned a lot of heads not only was a big tact for most of the entire show, I personally had non-stop meetings every 30 minutes with many of the largest electronics and Internet media companies in the world.
With all of this, you might imagine that in addition to previously announced OEM agreements we continue to receive interest from leading global companies and many smaller companies in non-competing markets as well as leading consumer and business media companies both in tens of millions of users looking to partner Vuzix.
We can possibly support all of the inbound requests, but it’s a great position moving in. The development efforts in 2016, I’ll try to wrap up here quickly. I think it is already pretty clear that the R&D team at Vuzix has realized significant results over the last 12 months. We’ve been investing in the future and the results are starting to be seeing at the shipping product levels.
The M300 represents the first major upgrade to our smart glasses product lines and it’s proven to be a major step forward for the industry. At the same time Vuzix is finally preparing to bring to market [Indiscernible] smart glasses has done a significant intellectual property jumps from near eye optics and display engines along with some of the lowest silicon processors.
Or team of engineers and scientists have created some of the most user friendly and advanced smart glasses products in the market. I’ll just recap. The M300 is now in full production, but the end of this we should be at production run rate of 1000 to 1500 per month, we’re unparallel bring up Asian manufacturing lines to lower cost and expand production capacity. The M300 is also on a continual software optimization program where software update being rolled out on a regular basis.
The M3000 design is complete along the [T121]. We’re rolling some improvements into the design that we learn from the M300 and are preparing for a 2017 launch.
That said, we have also raise the priority of the Blade 3000 smart sunglasses due to the strong reaction the market has shown towards it. And as such the M300 maybe slow tracks to accommodate the needs and the resources that were put into the Blade 3000.
The Blade 3000 again weighing a less than two point ounces and then the form factor that looks like sunglasses has proven to be a game changer. The Bade 3000 is affectively a smartphone minus a cellular connection that one like normal glasses. A user’s at Vuzix newest guide Cobra II display engine and its all pair of glasses that can be wirelessly connected to your smartphone or directly to their web by Wi-Fi.
With the Blade 3000 users will no longer have to take their phone out of their pockets to stay connected, and at the same time advance location web content can be augmented into the real world. We all know that the Pokémon story stuff like that. This is the beginning of a shift in personal computing from the smartphone to smart glasses.
Play guides for both M3000, the Blade 3000 are complete and ready to be produce in volume, our automation equipment is now operational and will be running on the platform before the end of the Q1.
Finally, Vuzix is custom Cobra II display engine which is used in all web-based product is tool and getting ready to ramp into production. This display engine is based on 0.2 inch display is one of the smallest DLP projection engines every made. It is ahead of schedule for use which s coming waveguide based smart glasses products.
Finally, over the last year or so Vuzix’s patent portfolio have increased with the total amount of nine new patent and patent spending. Let me just wrap up quickly here. 2017 is already proven to be a pivotal year for Vuzix and the entire smart glasses industry. We have B11 focus on the enterprise market as the M300 ramps into production.
Sales are growing and we expect to move closer and closer to positive cash flow as the year unfolds. At the same time we’re bringing our major OEM partners with opportunities for significant incremental revenues. Our smart glasses production is ramping and with over $19 million raised in 2016 we believe Vuzix positioned well in the capital front to execute on our plans in 2017 and move the company towards positive cash flow and closer to profitability.
As exciting as all of this is with our new waveguide based products coming out soon, we are the forefront of helping to change the entire world of computing and paving the way for how the digital world will integrate and coexist with the real world of augmented reality. Private companies that aren't even close have $4 billion valuations and will way ahead of Vuzix. So it’s an exciting time.
Thank you. I’d like to now open up the call for questions.
[Operator Instructions] Our first question comes from the line of Brian Kinstlinger with Maxim Group. Please state your question.
Q - Brian Kinstlinger
Great. Thanks guys. Thanks for taking my questions and it seem like the storage value and inflection point now. Can you tell us how many M300 you ship quarter to-date and then I heard you Paul said, 1500 per month, is that a production rate and sold and is that by the third quarter or before, can you just sort of put some context around there?
Well, the easy one that 1500 is our plan production rate, it’s not actually our sales rate and we’re in the process of getting up to there. We’re expecting by April to be, one, it is that about space with our contract manufacturer. And as we’ve said previous we committed to our first 10,000 we’re going build the M300, so we should have a fair bit of product available for shipment and sale over the next few months and Paul maybe talk about the other.
Yes, Brian, we are shipping every single thing that comes in the door. We have VIPs that have placed orders for in the hundreds for M300 after they gotten the latest unit, they are shipping everything you can. You should have a reasonable good first quarter here. I don’t want to quote the exact numbers because every single day makes a difference at Vuzix today and we are pushing product every single day. So it just should be a reasonably good first quarter.
Let me leave it at that. As far as the back order goes, in the pipeline we can identity a pipeline that is significant to this [growth] and it’s starting to unfold them higher orders are getting placed again that pipeline. So I would like to think that even going through the second quarter here we’re going to consume just about every single thing that comes off the line without question.
And when you exit the year where will capacity be on a monthly basis and is there an increased capital investment that you’ll need to make in order to get there assuming that 1500 a month won't be enough at one point and how does that impact making the M3000 and 100 do it, are they in different lines?
They are on different lines. As far as production capacity goes there’s already, we’re already in process of bringing up the China operation and very modest and anything really increases in capital require to do that. That 1500 units per month can be achieved with a single shift.
But it could easily be increased tenfold with the existing tooling and other things there, which case would be a few 220,000 for some additional tooling fixtures on the production line. So we’re got up to probably half a million units per year as far as the existing tooling and infrastructure there.
That’s part of the reason why we have some fixed cost the way they are, Vuzix were building in further volume.
Great. Two more and then I’ll jump back in the queue. First, can you talk about, Grant you mention 40% plus gross margins which we’ve heard for a while, can you talk about what kind of volume you need to reach that?
Well, for our smart glasses we clearly make our higher gross margin known as we do in our consumer product like our iWear. I mean, on the M300s and models the current pricing will be earning in excess of 50% gross margins, so if you look at our some of the fixed components in our cost you probably mean, to get the 40% gross margin you probably need to be selling effectively where the 1500 to 2000 M300s per month and that should allow us pricing to set out 40 plus percent on our gross margins.
Great. And then finally, you’d highlighted talking to a number of potential OEMs similar to Toshiba, how advanced our some of the discussions. Are they imminent? Are they early stages, can you maybe just go over time being for some of those?
In one case we’re actually always working with somebody and in other cases we are responding to RFPs.
Great. Thank you.
Our next question is from the line of Jim McIlree with Chardan Capital Markets. Please state your question.
I think you’re on mute, Jim.
You’re right. I was on mute. Sorry about that. Good morning. Brian asked about production of the M300 in this quarter and you kind of avoided it, but in a February press release you talk about at least 1000 M300s in the current fiscal quarter, is that still a deal let's call it a minimum of what you think you can do for the entire ahead of this quarter.
We’re looking at my smart glasses category in general, let’s say, okay. And the smart glasses category we believe a 1000, yes easily. And don't know the balance between M100 and M300.
I’m little confused then, so what happened between February and now it was 1000 of the M300s in February
Yes and it should be a thousand of the M300, but we are in a daily race as I said so and so if it ends up the M850 and I get crucified for that. But I am telling you that in general, we are now there’s a mix of product in smart glasses now that will continue and we should easily be in the [fasm] over a thousand. I’d like to think even more than that, but and I just don’t know the exact mix gentlemen, we might be a little bit shy only because of this ramp period. It’s all happening here just as we talk everyday accounts when you are shipping when you use 50 and 100 systems a day, it really matters.
Okay. You – at the end of the remarks you talked about, I think you said slow tracking the M300, did you mean the M3000 or were you talking about the M300?
Now there is too many words in my script, it’s the M3000. And so we are pushing it forward. We are getting it done, but if I need resources, so that we can make sure that Blade is out by the following year and we will pull them from the 3000 in favor of the Blade.
Okay. Great. Wouldn’t you face some potential cannibalization of the 300 from the 3000 anyway it doesn’t make sense just to delay the 3000 or to get that 300 for the life?
There are plenty of folks that the 300 is what they want and they want article featured systems and don’t need them for the jobs that they are doing. I said there are some 300 that would probably get -- by 3000, which is part of the reason why Vuzix doesn’t feel so bad about saying what’s potentially delayed with the later 3000 here, the M3000.
One of the conundrums I have gentlemen in our conference call is there is upward of 300 people that joined these things and some of them are competitors and all that and if they are [hated] we are public, so we got a share with people what we are doing but there is awful lot of competitive information in our shares.
But in any event, the M300 you got it correct, or 3000 you got it correct. If we are going to get something done this year we are going to push like how to make source the blade.
Okay. Can you talk a little bit....I’m sorry.
I didn’t mean to make that sandwich....
No, I understand.
Okay. As far as pricing goes, the 10-K you talked a little bit about the potential, a possible price cut on the M100 and if you would, can you just review again the pricing for the 100 and the 300 and that would be their realized prices that you get not the price that the end user is paying?
Well I’ll do both. Retail on the M100 is currently a 1000 the average pretty off so around 700 bucks. We are expecting potentially to decrease the price, when the future may be 20 or 30 points everything will go down accordingly. But we still the demand, that that’s not the case. So we’d still be making over 50% on gross margin we expect on M100 even with the upward the price reduction. M300s, $1,500 retail average wholesales or 1,100 bucks we anticipate that holding that equates to around 2017.
Great. That’s very helpful. And my last question is Paul you talked about the Waveguide products in the middle of the year. Can you discuss the design time, the length of the design time in order to get a Waveguide product into an OEMs final product, are we talking months or years in terms of design time for those lines?
Sure, now it’s a lot different than three years ago. Three years ago the stuff was really hard to do by anybody even Vuzix. But we have now off the shelf solutions Jim. So to take a Waveguide engine, Cobra display engine, tack in with it and get that into a design it can be done in a reasonable amount of time. We are still talking about 12 month’s kind of cycle times. Almost any consumer electronic product takes some time to get through the ground; well it’s a ground off design. And like I said these are off the shelf solutions. They just hope its interacting and it works in a really cool form factor. So it’s quicker now.
Great. That’s very helpful. Appreciate it. Thanks a lot. And good luck with everything.
Thank you. Your next question comes from the line of Rob Stone with Cowen & Company. Please state your question.
Hi guys. Paul, I wanted to ask about Toshiba first, clearly a pivotal opportunity for you. I know you got other things going on that are on a not named basis. What kind of milestones should we be looking for in terms of the development part of this deal and so what’s the trigger to get into a manufacturing agreement for the second half?
Yes between now and summer you are going to hear a whole lot more about what this product is even in the market is going after her. And so you will begin to see even our friends start to share with the rest of the world. They are obeying company rights, so they have a tendency to try to time these things just perfectly for the production side of it. You will see the development often happens between now and mid-summer and knock on wood, Jim we are on a pass right now the early fall productization.
You say that this is one of...
Sorry, Rob. This is one of those products that is kind of kicked on in a much faster track than a ground of design because its’ based upon a lot of stuff that already exists at Vuzix. So this isn’t a year and a half 12 months or a year and a half development cycle, it can get done and it will be done much quicker. There is other pieces in the parts that go with this that are already done. So yes, I don’t know if I had answered it very well for you, but the....
You picked up my follow up relative to the design cycle perfectly, thanks. I wanted to ask Grant about the OpEx runrate. If we take out the inventory charge from Q4 you were running in the second half for $4.5 or $4.6 million in the quarter for OpEx and you mentioned that there was a big push to get M300 certified so forth external consultants etcetera. How should we think about the run rate for expenses now that that work is done, is it going to stay at this elevated level because now you are on to working on Blade and other things or were there some onetime items that will give you a little bit of a pause on the expense growth?
We’d like to think there was some onetime items a slowing any further growth. I mean, that said I would expect the OpEx maybe average down $500,000 maybe even as low as a million. But it depends on how hard we push on some of these new items, but the cost related to the M300 are slowly behind us and for the future products, we are going to do the DVT and EVT and in runs and development in house I mean do the final assembly because it’s much easier than slowing on engineers back and forth, and days slipped into weeks. So that’s proving to be more costly than we thought it would be and I think we are pretty good at doing that and so we are fairly confident that you should not see a big increase in the OpEx in 2017.
Okay. And then with respect to the roll off of the remaining iWear inventory, can you just help us be clear on how that’s going to look and have you essentially valued the remaining inventory at the selling price, so that’s going to flow out at zero margin, but less whatever a factor is of unabsorbed manufacturing overhead or what’s going to be the impact and roughly how many iWear units are left, I’m assuming this is the seldom cover gone and then that’s over.
That’s okay -- and you have it correct. We brought them down to our expected net selling price. When you do these things that requires effectively write it down and all of a sudden, they received demand and we ask the price we have to make an adjustment back the other way, but we’ve written it down to our net expected selling price, less allowance for freight and other matters. So we have about a maximum of 6000 more we would build over the next year in the south. And we have – we’ll see I mean, there is maybe we’ll go we could half way or we could go all the way. I mean the price is looking attractive.
So some of the inventory value that you described is work in process and components they are not finished goods, right?
It’s a combination of finished goods and a [bit of west] and components.
Okay. Last question is with respect to Toshiba NRE, you mentioned a fairly sizeable number for the first half, I assume that’s triggered by milestones and how should we think about that being spread over this quarter and Q2?
Well, the plan total’s $1,148,000 milestones and a lot of those milestones are primarily delivery or the product prototypes and first EVT engineering verification units. We are all marching to a targeted plan where the process would be done by the end of August fall. If you see the plants, I mean that’s what they really want. And clearly if we could pull it in, they would be happy to do so. So I mean for realistically so that’s over the next six, seven months you’d probably if you were to have almost spread it equally that’s not far from what t he rate of revenues could be recognized. We have milestones payments along the way.
So it’s going to spread over out into Q3 there?
Yes, and then actually Q3 will probably be 60% of the controllable project is that we make the bulk of the sort of deliverables to [Indiscernible] well in place.
And then you probably mentioned but that’s something that should show in Q1?
Yes the first stage in Q1 and then there will be another Q2 and I think that the next big milestone payments are all in Q3.
Okay. Thanks very much for taking my question.
Thank you. And our next question comes from the line of Amit Dayal with Rodman & Renshaw. Please state your question.
Thank you. Good morning guys. With regards to the M300 and M100 shipments, are we receiving payments in advance, how are we sort of managing the build out and revenue recognition for these units that’s soon to be ramping up pretty quickly now?
Amit, a lot of it is on a predated basis. There is very few people that we give met 30 credit terms to this year. There are some companies we are working with but certainly our – their viable folks easily and they couldn’t support on that 30 but generally speaking we are not doing a lot of that right now.
So, I’m just trying to get a sense of will we be able to see revenue recognized either or shipped out just to from a sort of an annual perspective?
It’s for the most part when we ship we recognize the revenue.
Yes – a very small component that’s related to the software that we and we recognize over 24 months, but that’s less than 5% of the selling price.
Got it. Most of my other questions have been asked. Just one question around the development community. Now it’s at 4000, what role is Vuzix playing to bring all the work in terms of application etcetera that the development community is building for these glasses and putting these in front of the end customers, can you just give us some color on that aspect of the business model?
So we have the support team here of folks that currently talk about for thousand but the value added resellers, the more key guys, all the VIPs but we are involved with them very often. We support these guys at trade shows etcetera even in many cases, you are going to see more active stuff website regarding helping these guys in etcetera to attain more business. We have an app store but today it is not a paid app store Amit. That’s going to change ourself. It will be a paid app stores. You are going to see Vuzix start to get more involved in the services side of some of this because we have folks that want us to build out an M300 with a certain flavor of software there are builds on it by way of example, and we are building some infrastructure and putting that in place so that we can offer that as a service to people so that it ships from Vuzix configured for XYZ company.
Got it. So that is the potential monetization opportunity for the company as well now?
Understood. That’s all I have guys, thank you so much.
Thank you. Our next question comes from the line of Mark Drucker with B. Riley. Please state your question.
Thank you. Building on the question that another analyst posed, just to be clear what base level of OpEx are you able to support for the revenue growth and scale has achieved at what level of revenue and when that scale did you state that you expected 40% contribution margin?
Yes, 40% contribution margins. We will not have to impress much at all to grow M300 sales, the facilities exist, the tooling exists, everything is there. In fact there maybe just modest $10,000 or $20,000 kinds of numbers for a few more text pictures and those kinds of things. So, for us to crank to 10 to 30,000 even on a monthly basis we will not have to put a lot more into OpEx
Okay, so are you implying that you are at scale with your current level of revenue?
Multiple shifts, the tools themselves already support that kind of volume, I’m not saying we are at scale yet, but we are getting better, the yields are improving significantly, the number of units that get on a built on a daily basis is climbing and by the first month in the second quarter we should be right around the 1,500 unit ramp rate.
Clearly if you follow the example if you are selling 20 or 30,000 a month, it means some additional infrastructure from the standpoint of sales and marketing, customer support etcetera. But from a manufacturing standpoint that’s in place. Do you think where we use contract manufacturers that are world class and they can [Indiscernible] as much as we’d ever dream ourselves.
Thank you. Last one from me. How do you deal with product issues when you share your products with enterprise customers and they provide suggestions for improvement, how does that input make its way into production and into the end product?
We – every sales guide we have it’s framed to listen to our customers, collect the information that they need and come back and share it with our engineering team. We have weekly meetings where we go over what’s working and what’s not working. The improvements that we need to make, it’s there. So there is a closed loop between our customers and the engineering teams to make sure that what we have in the field now is meeting their needs and what our next generation stuff does meets their needs. We even make proto type sometimes, share them with our customers to get feedback and then take that feedback and roll it into our the next end products that we are building. So we really believe in that relationship between the customer and what we are building. After all you make something that people can’t use you are out to launch you’ve failed.
That’s correct. Thank you.
Thank you. Ladies and gentlemen, that does conclude our question and answer session. At this time I’ll turn the floor back over to Mr. Andrew Haag for closing comments.
Paul, Grant and everyone at Vuzix want to just say congratulations on the launch and sales ramp of the M300 and I’m sure everyone here is looking forward to for the disclosures of some of the business developments you mentioned on this call coming to close. And those developments, some being represented in the market place. I’d like to thank all of Vuzix shareholders for their participation on today’s call and our support for the company. This concludes the fourth quarter 2016 financial conference call. Thank you.
Thank you everybody. Bye.