iRobot Corp (IRBT) Presents at Morgan Stanley Laguna Broker Conference (Transcript)

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About: iRobot Corporation (IRBT)
by: SA Transcripts

iRobot Corp (NASDAQ:IRBT) Morgan Stanley Laguna Broker Conference Call September 13, 2017 2:45 PM ET

Executives

Alison Dean - CFO, Principal Accounting Officer, EVP and Treasurer

Analysts

Unidentified Company Representative

All right. Are we live? Yes, we are. All right. Thank you, everyone, for coming out. I know we're the last meeting here before we all break for lunch. So with me today is iRobot. And then from iRobot, we have Alison Dean, CFO. And so perhaps, first, just given this is an industrials conference and iRobot's more of a consumer stock, maybe just give us a quick overview of your business today and your geographic footprint and how you see that.

Alison Dean

Sure. So iRobot's a technology company, and we're focused on bringing robotics to consumers in order to enable them to do more. Today, we have 2 major product families, the Roomba, which is a floor vacuuming robot; and the Braava family, which is a floor mopping family. We are a global company. So we have about 50% of our revenue today coming from the U.S., about 25% across Europe and 25% in Asia. We focus on continuing to invest in the products' categories. We are the market leader globally in robotic vacuum cleaning. So we put a lot of our investment dollars to work in R&D. We do a lot to field our IP portfolio to innovate and then protect those innovations. We've also been focusing on developing our brands globally. We started our business in the U.S., and then fully branched out into international markets. And we're continuing to build awareness for robotics, robotic cleaning and our own brand on a global basis.

Question-and-Answer Session

Q - Unidentified Analyst

Great. As you think about the global footprint right now, across those regions, which ones are you seeing the most competition in? And how do you see the respective growth between Asia versus Europe versus U.S.? And where do you see the greatest adoption opportunities still ahead?

Alison Dean

The greatest adoption opportunity actually is globally. So we'd look at a metric called household penetration. And today, in the U.S., we're in high single digits, about 8% or 9%. Other regions in the world are lower than that. So that's our highest household penetration. We think we are - the robotic vacuum cleaner market is tracking that of other disruptive household appliances. And so we assume that, that household penetration rate is going to be significantly higher over time. So the opportunity is across all of our - all of the regions across the world. Competition has varied over time in the region. In the U.S., for many years, it was really an iRobot story. We have 88% share currently in the U.S. market, and the only other competitor that we would see reported in the market data was a company called Neato. They're a private company, and all they do is robotic vacuum cleaners.

Over the last several years, we've seen better-known consumer names come into the space. So originally, it was your Samsungs and your LGs. A couple of years ago, Dyson finally came out of with its first robotic vacuum cleaner. And then more recently, going into the last holiday season, we had the likes of BISSELL and Hoover, BLACK+DECKER come into the market. And this year, the buzz is about SharkNinja coming into the market. So it's a very attractive space. Robotic vacuum cleaners still represent a pretty small percent of the overall vacuum cleaning market, but the CAGR of that segment has been quite strong. So it's definitely getting the attention of other companies. In Europe, the competition today is primarily LG and Samsung, and it has been for many years. In Asia, there's a little bit of a difference depending on which country you're talking about in Asia. We've been in Japan since the start of our business. We've always had a very significant market share there. In China, it's a little bit of a different story. We entered there late.

We only really went to the China market a few years ago. And the robotic vacuum cleaning category was already created. And ECOVACS, which is a Chinese company, has been the market leader. And iRobot came into that market. We tried to create a premium segment within the market, and we've been taking share as other new entrants into the market in China have been as well from ECOVACS. So from a U.S. and a Europe perspective, we're the market leaders, and we're maintaining that market leadership. In China, we've been trying to take share from earlier incumbents in the space.

Unidentified Analyst

So what's been your strategic response to the competition starting to emerge? Obviously, there's news today. And it's arguably - you're in a premium segment, I would say, in the market. Does that somewhat insulate your products to an extent? Or do you see it cannibalizing perhaps some of your lower-tiered products?

Alison Dean

Sure. So as you mentioned, our strategy has been in the premium end of the market, and we define that as vacuum cleaners that cost $200 or more. And within that offering, we think it's important to have multiple price points. So you can enter the Roomba franchise at the $300 and $350 range, and you can pay all the way up to $900 for our highest-featured and functionality products. We've, again, maintained the leadership in this premium space for many, many years. A lot of the competition now is either in an - the newest competition is coming in, in the low end of the range and definitely trying to compete at that lower end of the premium segment. Our strategy hasn't changed. Again, we are a premium-focused company.

We think it's important to have a wide range of product offerings within that. Part of our new product development strategy is we typically added a new product to the high end of the range. And as we do so, we take the older technology products at the low end of the range and move them out and slowly move our technology down the line. That has been our strategy, and it will continue to be our strategy going forward. As an example, this year, the high-end Roomba, the 980, is a Wi-Fi-connected product, and it was our only Wi-Fi-connected product until this year when we launched some lower price point products in the range that are also Wi-Fi-connected. So we view generally the competition coming into this space as good. There's a lot of awareness still to be created that robotic vacuum cleaning exists and that it performs well. And so as other competition comes in, particularly consumer brands that consumers recognize and appreciate, it adds a lot of value and awareness to the segment. And we think that's a good thing.

Unidentified Analyst

Within your various segments, as you think about the trickle-down technology essentially from the premium end down through your portfolio, where are you seeing the greatest growth within that spectrum, be it premium end right down to the low end? And then is there a margin differential we should think about in that mix?

Alison Dean

We actually are seeing growth in both the low and the high end. We're pretty barbelled right now in terms of the unit volumes that we see in the 600 series and then our 800 and 900, which are premium segments. There isn't a substantial margin difference between those segments. So growth anywhere in that spectrum, we see as positive.

Unidentified Analyst

Got you. And outside of - obviously, you have the vacuum application, the mopping applications, small presence also in pool cleaning, I guess, is there any other whitespace you see within the connected home that interest you guys from a robotics perspective?

Alison Dean

Well, we've publicly disclosed that we're working on a robotic lawnmower. So that's the next physical product that we think is important to the future. And then in terms of the smart home, what we're exploring is we now have this mobile platform in homes. It can navigate and create maps. It's Wi-Fi-enabled. It has a lot of sensors on it, and we're exploring other ways to leverage those technologies to more fully participate in a smart home. We haven't chosen a path there yet. We're really in an exploratory phase, trying to understand other applications out there for the smart home and how our technologies could contribute to value creation for the consumers in the home. But it's early days, and we're in an exploratory phase. We don't have a specific path chosen there yet.

Unidentified Analyst

On those tangential opportunities, is that something you're looking to more develop organically? Or do you see a single path via strategic or M&A or something like that?

Alison Dean

I think we're open to all different avenues there. I think there's components that we could contribute to a total solution. I view partnership as probably being an important element of that. And certainly, if we thought there was an acquisition that could be made, that could help pursue our strategy and would create shareholder value, we'll consider that as well.

Unidentified Analyst

Great. Let me have a moment to see if there's any questions from the audience. Or I can just keep going. We'll go on right up here.

Unidentified Analyst

How has competition in China been? Have you found that you have been able to grow share pretty significantly, and that you expect to be able to keep this up? Or is that a challenging market?

Alison Dean

It's definitely a challenging market. So as I said, we started there a few years ago, trying to create a premium segment to the market, which hadn't existed before. We wanted to be the first premium offering. Things have evolved as we have entered that market. Originally, we had one distributor, and we are very focused on bricks-and-mortars sales. We learned pretty quickly that China is about online sales. And so about a year ago, we brought on an additional distribution partner, who had more experience with e-commerce sales. Also, when we entered the market, the low end of our range at the time was a premium offering there. And so we started with our 500 and 600 series product in that market. It was only fairly recently we launched in China our high-end product, the 980, and even our second high-end product, the 800 series, that was only late last year.

And as we introduced those products, the good news is we saw volume pick up in those more premium end of our premium segment. So that was a positive. What we also saw probably more so in the last 6 months or so is the competition at the low end has increased substantially. So ECOVACS, which always existed there, has been trying to move up the value chain in terms of a better offering. And then a new company for us in the robotic vacuum cleaning space was Xiaomi. So They entered with a price point that sort of competes at our low end. And both ECOVACS and Xiaomi are very well-known brand names in China, and they're putting a lot of pressure on the low end of our range. So we're still very committed to our premium strategy, and we're pushing the 800 and 900 series in the region, where there really isn't a lot of competition. But we are seeing a lot of competition at the low end of that space.

Unidentified Analyst

Can you talk a little bit about the exploration process and the change in the market? And could you be more service-oriented like security, fire, resident product-oriented?

Alison Dean

Well, that's part of the exploration that's going on now. Again, we have our product roadmap and robotic solutions for maintenance inside and outside the home. Our focus is really about the consumer and the home as opposed to other avenues or segments that we might enter. We have previously had businesses. We had a military and defense business, which we divested. We also did some exploration and have some products in a commercial telepresence space. And we shut that down because we feel the opportunity in the consumer space is so strong. So you shouldn't expect us to really, in the near term, go into different verticals within the robotics industry. We're very focused on the consumer. And where we plan to build upon our products' success is, again, trying to figure out how can we leverage the technologies that are in our products to play a more significant role in a smart-connected home. But that's in its really early phases of development.

Unidentified Analyst

All right. Well, I guess, just going back then to your introduction into China, and you mentioned the brick-and-mortar there. You guys recently acquired a company in Europe, I believe, Robopolis.

Alison Dean

We haven't closed it yet. We announced it.

Unidentified Analyst

Announced it? Okay. How is this channel or your branding and marketing push you to take it all in-house? How do you see that helping sales, given you're already prevalent online, Amazon, everywhere else? Why go down this venue in Europe?

Alison Dean

So I think we actually did it in Japan as well earlier in this year. And we actually completed that acquisition, where we forward-integrated with our Japanese distributor. I think it's important to know, when we first went international, our business started in the U.S. And when we're still pretty small, we wanted to expand, and we really didn't have the resources to do it. So we chose a distribution model because the distributors would invest their own sales and marketing to develop the category in-region. And that was a great way for us to get global expansion early on when we didn't have a lot of resources. We've always expected, over time, there might be a point in time when we don't want to go direct in some regions. With Japan, it was a very unique situation, where, the distributor, who'd been our distributor from the first time we entered Japan, the ownership - the owner died.

The business went to someone else in the company. The CFO took over as CEO. And at the time, there were some changes in the Japanese market. There was the devaluation of the yen. And basically, our business sort of stalled in Japan, and we were trying to more directly influence the marketing efforts of the distributor. One of the ways they were trying to react to the environment was to pull back on sales and marketing, which we didn't want them to do. But we also weren't completely satisfied with how they were executing their marketing. And again, we tried to influence that through the distributor. That distributor eventually decided that they wanted to - they were going to sell the business. And we were able to negotiate a very good deal, where we bought that business basically for the net book value of the asset. And we thought we - with more direct control over the marketing to get that business back on a growth track.

So that's why we decided to do the forward integration there. Sort of different set of facts and circumstances in Europe are - we typically use one distributor per country. And the company we're buying started out as our French distributor. And then that distributor acquired our German distributor, our Spain distributor, et cetera. And so they brought all these businesses under their one umbrella and did a very good job of getting that business on a growth track. Again, there probably were some market opportunities that we didn't feel the distributors were taking full advantage of, and trying to influence through the distributor was only so effective. And with the market opportunity we've seen in these countries in Europe, we felt a more direct approach would allow us to capitalize on the momentum we have and take advantage of some of the growth opportunities in the market going forward. And hence, we decided to forward-integrate in these 2 regions.

Unidentified Analyst

Got you. And I guess, just going back to the portfolio question earlier, and as far as your focus right now in-house, I guess, why limit yourself only to the consumer applications, given you had, had experience with the military and more commercial applications and the applicability of your technology, both sensing, robotics, mapping, clearly, there could be industrial applications, is it really just you see such an opportunity within the consumer segment? Or is it something that there was a purposeful reason why we divested of the defense business and no longer see interest in going back.

Alison Dean

It's really the opportunity we see in the consumer segment, just with robotic vacuum cleaners, the level of household penetration that's still so small. And again, the trends that we expect that category to have presents enormous opportunity just in robotic vacuum cleaning, let alone the floor mopping space we're in as well, which is a little newer and younger than the vacuum cleaning business. We've also publicly stated that we're working on robotic lawnmowing. We think that can be a nice other adjacency and build on the relationships that we've developed with the consumers. Our brand is now accepted and trusted by the consumers who own Roombas and trying to extend that to other capabilities within the home. We think that creates the best potential opportunity for the company in the foreseeable future.

Unidentified Analyst

Great. Any other questions from the audience? Maybe just a housekeeping item, just given your international footprint, recent movement in the dollar, how are you seeing this play out for you through the end of the year?

Alison Dean

As we forward-integrate, as we did in Japan, and then in Europe, prior to that, we were conducting business on a U.S. dollar basis. So the changes in the currency didn't have a direct impact on us. Where it would impact us is if there were issues in-region, the distributors might again cut back on their sales and marketing, which we didn't want them to do. So where we would feel the pain in the past was we might supplement their sales and marketing with our own sales and marketing in order to keep the momentum going in-region. As we're going direct now, we're conducting business in Japan in yen, and we'll be conducting business once this deal closes in Q4 in euro. And we have modified our hedging programs to accommodate that change in the dollar going forward.

Unidentified Analyst

Great. Maybe just comment, if you could. I guess, there's some reason of concern just on channel inventories, how you see that right now normalizing in the various regions and Japan specifically.

Alison Dean

Yes. So when we acquired our distributor in Japan, we recognized that the retailers, not the distributor, were actually holding more inventory than we would typically have our retailers hold in U.S. markets. So it was our desire to have them bring that down to levels, again, that we would see in the U.S. We think that's just healthier for the business. It gives us a little more leverage over the retail partners. So we've just started trying to reset the retail inventory levels in Japan, which we think will be rectified this year, and then will be back to normal levels going forward. But that was an isolated inventory in retail in Japan that we got visibility to once we took the distributor out of the equation.

Unidentified Analyst

Great. Question?

Unidentified Analyst

What does your distribution sale look like in the U.S.? And what are your relationships with Amazon?

Alison Dean

So we go directly to retailers in the U.S. So your Bed Bath & Beyond, Costco, Amazon. Amazon is one of our best retail customers in the U.S., probably one of our top 5 in any given point in time. So they're an important retail partner for us. But we don't use - specifically don't use distribution in the U.S. We sell directly to the retailers.

Unidentified Analyst

What percentage is - per retail, what percentage is online?

Alison Dean

It's still more predominant in bricks-and-mortar on a global basis. We're on a domestic basis, we're probably up to about 20% going through e-commerce, whether it be our own website or Amazon's or the e-commerce portion of Bed Bath & Beyond.

Unidentified Analyst

Any other questions from the audience? Going back to the product portfolio, when we think about the trickle-down technology, where are you guys really trying to grow your market share right now? Arguably, you have commanding control of the premium market. Given the new entrants, the lower end of the price spectrum, does that force you to reassess that market more aggressively and/or maybe shift your focus further up the premium level and not necessarily exit the lower-tiered levels, but just invest less in that, I guess?

Alison Dean

Again, our focus is on trying to have the autonomous solution, do the best job they can, so in this case vacuum as well as possible, where also our investment strategy in a way we tend to get more market share is trying to take the user out of the maintenance equation with the robot. We're promising an autonomous task being done. If the robot does that, but then you have to interact with the robot to clean it or something like that, it's not as a compelling offering. So with our R&D dollars, we're investing in the efficacy of the function that the robot's performing. And then we've made inroads and innovations. So for example, the earlier robotic vacuum cleaners and upright vacuum cleaners for that matter have brushes with bristles. That does a great job of getting debris off the floor. But unfortunately, sometimes, the degree gets tangled in the brushes, and then you have to clean the brushes in order for it to clean well. And consumers don't like that.

So our engineers redesigned the brushes. They created the rubber debris extractors that basically just flips the debris off the floor into a bin with our high-end models that have this feature. You never have to ever turn it over and clean the brushes anymore. And so it's those type of enhancements. With our 980, our flagship product, we have a capability where it can recharge and resume, and it's also creating a map of your home as it cleans. So if you have a very large footprint in your home, the robot will run probably for 1.5 hours, 2 hours. It will have to go back and recharge. It does that automatically, but it also knows that it hasn't completed cleaning.

So when it's recharged, it'll automatically resume without any interaction of the user. And it also knows where it had cleaned and where it hadn't cleaned. And so it will only resume cleaning in the areas that were unclean. So you can get an entire floor of your home cleaned and never have to interact with your robot. So it's features like that, that we're trying to add to either get that next level of skeptics, who's still uncertain how well these robotic vacuum cleaners work, and just enhance the experience of those that do buy it and make them want to come back for the next thing we may offer.

Unidentified Analyst

Are they rushing you?

Alison Dean

Yes.

Unidentified Analyst

All right. Any other questions from the audience? We've got one right in front of you. Just wait for the mic.

Unidentified Analyst

How big is the market opportunity in China? And how do you size it? And how long will it take for it to become a meaningful part of your business [indiscernible]

Alison Dean

Yes. It's pretty small today. We're - with the activity in the last 6 or 9 months, the heavy activity at the low end of the range, again, we have defined premium market as being robots - vacuums that cost $200 and more. In China, we're relooking at that. Obviously, there's a lot more competition at the low end of the space. And we feel like the lower end price points, the momentum in that segment of the market has been stronger than it has been at the premium end of the premium segment. So we're doing a level of an orifice now to try to segregate out what once was one big market into two differents, so that we can identify the growth pattern in each and potentially modify our strategy if we have to.

Unidentified Analyst

[Indiscernible]

Alison Dean

I think the long-term opportunity in China's quite big. Again, how much of that is going to gear towards the premium end of the segment, we have to reevaluate. It's a very fast-moving market in China.

Unidentified Analyst

Do they prefer American brands?

Alison Dean

That's one of the reasons. So the question was, do they prefer American brands? One of the reasons we eventually went there is there seem to be an aspirational middle-class that very much likes U.S.-branded products and likes premium experience, which is why, exactly, that was our strategy going into that market.

Unidentified Analyst

How are you differentiating your product between some of the new competitors that are coming in, in the United States?

Alison Dean

So our products, from a price and performance perspective, are really offering the best value proposition. Again, we have multiple offerings on a premium scale. And what we found with the competitors to date is that the combination of the price point they're coming in at and the features, functionality and, ultimately, the quality of the experience for the consumers is not resonating. As we went into the holiday season last year, again, we had the Hoovers, the BISSELLs, BLACK+DECKERs set were making a big push. They did get onto retail shelves for the holiday season. But their performance was not very good, and we ended up seeing increased orders from our retailers because our products were doing so well versus those new entrants in the market. And again, I think it's a combination of the price points and the functionality, the value, the quality that we offer the consumers and the experience.

Unidentified Analyst

[Indiscernible]

Alison Dean

In the U.S., it's 88% of the robotic vacuum cleaner segment and high 70s in Europe and sort of 40s overall in Asia.

Unidentified Analyst

Maybe just going back to the comments on China before. As you look at that market, you reassess it, is there scope maybe for an in-China, for-China type product that we only see sold in that region? Or do you still maintain your product portfolio in the sense they're with the same global offering?

Alison Dean

Right now, we're planning to have the same global offering. Again, there was a definite emphasis in China of moving to the premium end of even our own segment. Whether we have to modify that going forward, we'll have to see. But right now, it's offering the same product, maybe just a different mix of our products in that region, versus what we offer elsewhere.

Unidentified Analyst

Got you.

Alison Dean

But not aiding products for China.

Unidentified Analyst

Yes. Has there been any consumer impact from the geopolitical events that have happened in Asia?

Alison Dean

Nothing that's really - Japan has been a great growing market for us. China's been relatively new. And those 2 countries make up the majority of our Asia business. So there really hasn't been any direct or specific impacts that I could...

Unidentified Analyst

[Indiscernible] anecdotally over the past few months [indiscernible]

Alison Dean

No, no.

Unidentified Analyst

Another question right there next.

Unidentified Analyst

I think you mentioned it's 8% to 9% household penetration rate for robotic vacuums in the United States?

Alison Dean

Right.

Unidentified Analyst

So with all that left over, of what's left over, how much of that would you say is a premium that you can reach?

Alison Dean

So we've done some analysis, and that 8% or 9% of current penetration represents about 11 million households out of a total estimate of 125 million. We think with our current range of offerings, price points, functionality, et cetera, and the profile of our current purchasers that we can address the next 25 million households. So from what we have today, 11 million, another 25 million without making really significant changes to our strategy. When we want to go deeper than that, that might require a different approach and a different strategy. But again, we feel like there's a significant opportunity ahead of us with the same consumer profile of those that are purchasing our product today with our current product plan.

Unidentified Analyst

And if you had to say, of those additional 25 million, where do you think the highest end, your 980 and those high-end offerings, fall in line with that 25 million?

Alison Dean

Again, our profile is spread today across the different price points in our range, almost equally split between the - look, the 600 series that are low end and the 800 and 900 at the high end. We'll have to see how that evolves over time, but we think it's important to have a breadth of offering in order to attract the most people into that premium segment.

Unidentified Analyst

As I look at your technology, is a lot of that developed in-house or with supply chain partners? I'm thinking about the sensing, the mapping. Is a lot of that all proprietary and patented to you, guys? Or is it shared through the distribution or through the supply channel, I guess?

Alison Dean

No, it's been mostly proprietary developed. We have a huge patent portfolio, over 1,000 patents globally. A lot of - almost all of that innovation is done by us. There's really - our supply chain is really independent of the innovation today.

Unidentified Company Representative

Got you. Any the other last-minute questions? All right. With that, I think we're just about out of time. I'll let you all go get some lunch. Thank you very much, Alison.

Alison Dean

Thanks. Thank you for your time.