Immersion Corporation (IMMR) Q3 2013 Earnings Report, Transcript and Summary

Good day, ladies and gentlemen. Welcome to the Immersion Corporation third quarter 2013 conference call. (Operator Instructions) I would now like to turn the conference over to Ms. Jennifer Jarman of The Blueshirt Group. Please go ahead, ma'am.

Thank you, Lilly. Good afternoon, and thank you for joining us today on Immersion's third quarter fiscal 2013 conference call. This call is also being broadcast live over the web and can be accessed from the Investor Relations section of the company's website at www.immersion.com. With me on today's call are Vic Viegas, President and CEO; and Paul Norris, CFO. During this call we may make forward-looking statements, which may include projected financial results or operating metrics, business strategies, anticipated future products, anticipated market demand or opportunities and other forward-looking topics. These statements are subject to risks, uncertainties and assumptions. Accordingly, actual results could differ materially. For a listing of the risks that could cause this please see our latest Form 10-Q filed with the SEC, as well as the factors identified in the press release we issued today after market close. Additionally, please note that during this call we may discuss non-GAAP financial measures. For each non-GAAP financial measure discussed, a presentation of the most directly comparable GAAP financial measure and a reconciliation of the differences between the non-GAAP financial measure discussed and the most directly comparable GAAP financial measure is available in today's press release. With that said, I'll turn the call over to Chief Executive Officer, Vic Viegas. Vic?

Thanks, Jennifer, and thanks everyone for joining us this afternoon. I am very pleased to report that in the third quarter of 2013 Immersion generated record revenue for the period of $11.3 million, reflecting robust growth, up 59% from the year ago period. We earned $1.2 million or $0.04 per diluted share in net income and $3.3 million of adjusted EBITDA. These strong financial results illustrate the scalability of our licensing business model and underscores the success we've had in establishing the value for Immersion's haptic technology and TouchSense software, particularly in the mobile market. During the quarter, we entered into a broad licensing agreement with Xiaomi, one of the most rapidly growing and exciting OEMs in China. This was our first direct licensing agreement with the mobile OEM in China, which is a key area focus for us as we look to grow our customer base. In addition, Sony executed its option to license Immersion IP for its new PlayStation 4 console system. And we were pleased that Samsung chose to incorporate TouchSense software into its new GALAXY Gear smartwatch, demonstrating how Immersion tactile effect technology can enhance innovative product in the emerging wearables device category. In a few minutes, I will discuss our recent business development, but first I'll ask Paul to provide a detailed review of our third quarter financial results. Paul?

Thanks, Vic. As Vic mentioned, we had record third quarter revenues of $11.3 million in the September quarter, up 59% compared to revenues of $7.1 million in the year ago period. Revenues from royalties and licenses of $11 million were up 72% compared to royalty revenues of $6.4 million in the third quarter of 2012. While revenue mix for our line of business is expected to fluctuate on a quarterly basis due to seasonality patterns, for the third quarter of 2013, our breakdown by line of business as a percentage of total revenues was as follows: 71% from mobility, 16% from gaming, 7% from medical and 6% from auto. Gross profit was $11.2 million or 99% of revenues compared to gross profit of $6.9 million or 96% of revenues in the third quarter of 2012. Excluding cost of revenues total operating expenses were $9.8 million in the third quarter of 2013 compared, the same as in the third quarter of 2012. This includes non-cash charges related to depreciation and amortization of $633,000 and stock-based compensation of $1.2 million. Litigation related expense for the quarter was $669,000. Total operating expenses were flat versus the prior year as increases in compensation related cost, including stock-based compensation were offset primarily by a reduction in litigation expenses. The increase in compensation cost reflects a 24% year-over-year increase in our sales and marketing and research and development headcount, investments we have made to capitalize on key opportunities and strategic initiatives. As our HTC lawsuit proceeds in district court in Delaware, we're forecasting that expense for this litigation in the fourth quarter will be similar to expense in the third quarter of 2013. Net income for the third quarter of 2013 was $1.2 million or $0.04 per diluted share compared to a net loss of $3…

Thanks, Paul. The continued strength of our financial performance reflects the foundation we have established, based on the strength of our IP portfolio as well as the rich tactile experiences we offer with our TouchSense software. As a result, existing and potential OEM customers, now clearly recognize the importance of licensing our intellectual property, in order to offer haptic functionality in their devices and increasingly seek to license our premium TouchSense software solutions to differentiate their products and offer higher quality experiences to end-users. In September, we were very pleased to announce a broad multi-year licensing agreement with Xiaomi, one of the fastest-growing smartphone makers in China. The agreement covers both Immersion's Basic Haptics IP and as well as our TouchSense software. Within days after signing this license, Xiaomi announced the launch of its flagship Mi3 smartphone, which uses our TouchSense technology to offer tactile effects throughout the user interface and various tool applications and in downloadable themes. At the launch event, Xiaomi's CEO specifically called out Immersion haptic as a key differentiator for the Mi3. And when the device went on sale in early October, we were excited to see that Xiaomi sold out its initial stock of 100,000 phones in the first 86 seconds. We have been enjoying our fast pace collaborative engagement with Xiaomi, working closely with their key design teams, to implement exciting features quickly. Xiaomi is one of the most admired design companies in China, and we are pleased that they recognized the strategic value of haptic in achieving their design and brand vision. We believe the Xiaomi agreement is an important stride forward in establishing a solid business in the region, and look forward to expanding our business with Xiaomi and to entering into direct relationships with other growing Chinese OEM. As we've discussed…

(Operator Instructions) Our first question comes from the line of Jeff Schreiner with Feltl and Company.

Vic, first, I'd like to understand just where we are in terms of the timeframe of when Immersion will recognize a 100% of licensee Samsung, LG smartphone shipment?

Can you maybe clarify the question, when we will be recognizing a 100% of their smartphone shipments?

Yes. It was my understanding that in prior agreements you were only recognizing on a very small portion of smartphones and when you changed that agreement, because of the lag in your recognition of smartphone units from your licensee shipments, that you had not yet been recognizing a 100% of their shipments, meaning that when you got the new revised agreements in place, you are now not just recognizing them on things like to GALAXY line, you're recognizing them on every smartphone?

We did renew the agreement with Samsung earlier this year and beginning from January 1 and going forward, we are recognizing revenue virtually on every android smartphone and tablet that they are shipping. So this includes those devices that include our TouchSense software as well as those other android devices that are using the basic haptics capability inherent in the android operating system. So from January 1, on we have been recognizing revenue on virtually 100% of their android-based products.

Just quickly as a clarification maybe, Paul, can answer this as too. One, you've got mobile, gaming, medical, where is other, like semiconductor royalties? Have they been rolled up into mobile into the third quarter in terms of what you're reporting or end market?

The other was always a small component of our overall picture and primarily our chip-based partners who are selling primarily to the mobile market. So we've rolled that all into the mobility sector at this stage.

And maybe this will help me out a little bit, Vic, with clarification from question one to this question. How many licensees of flat fee versus volume base at this time?

We have literally hundreds of licensees, if not more. And so I don't think we've ever analyzed the percentage. I would say that some of the bigger agreements that we've entered into more recently, we have transitioned to a philosophy where we do have built in recurring revenue streams as part of the license agreement. So in some cases it's purely a per unit royalty, in other cases it's a purely fixed, and in some cases it's a hybrid. But we are quite sensitive to the maturation in the smartphone market. It's not growing as fast, even though it is still growing substantially. And based on this new agreement some of the fixed elements are continuing to help us capture significant revenue growth.

And I guess last one for me and I'll step back into the queue, here. Can you help us understand kind of the puts and take to achieving the low or high-end of your annual guidance? You've kind of tightened it, but always moved the bottom portion of the range up a little bit never moving the high-end portion of the range up? What should we be thinking about with one quarter left in the year, in terms of what you may need to get to the high-end or what may happen to push you down to the low-end?

Well, we continue expect Q4 to be a very strong solid quarter. And we're always working hard to try to exceed our targets. And my team is motivated to try to beat the guidance that we've provided that to you today. The difference really, it's a matter of timing of revenue recognition, timing of some certain contracts that's get signed. For example, we're very excited by the opportunity now with Sony, on the PlayStation-4. Those products begin shipping in this quarter, the fourth quarter. And because of the reporting times line, that revenue will be reported in Q1 of next year, primarily. But there are other agreements, other relationships, certain deliverables, other things that will trigger revenue recognition and it will put us somewhere in that range that we've provided.

Our next question comes from the line of Charlie Anderson with Dougherty & Company. Charlie Anderson - Dougherty & Company: So Vic, I wondered if you could give us any sort of a sense of how this Sony deal will work. Is it a per console, is it a per controller? Just any color would be helpful?

Sure. The economics were primarily negotiated as part of the settlement and license agreement that we entered into a number of years ago. We're excited to see them continue to invest in high quality haptics. It's part of the gaming experience and recognized the value of our IT. So this is a very big deal for us. We believe it generates substantial new revenue. And that revenue will take couple of forms, one is primarily tied to per unit royalties, so as they ship their controllers in particular, there will be a per unit royalty payment. In addition, there are other fixed elements to the agreement, which will be ratably recognized over a period of time. So it will be a combination. And again, it reflects some of the philosophy that we've been implementing over the last year or two, which is combining per unit as well as certain fixed elements. Charlie Anderson - Dougherty & Company: And then maybe just a comment on the pipeline, obviously it's been real banner year for you guys with a number of deals. Just kind of help us understand how that looks in terms of number of people you're talking to and the quality of the people you're talking to right now.

Well, as you said we're having a banner year, where we still continue to see substantial growth opportunities as we move forward. Some of these agreements are extremely strategically, for example Xiaomi is a real-fast, up and coming innovative company. They put additional pressure with their haptic offerings for other Chinese OEM, so they're helping speed up the discussions that we're having with other OEMs. They put pressure on some of the market leaders, people like Samsung and others as they innovate and build high-quality products. So not only is that a new agreement with fresh revenue, but it's also strategically valuable for us. The Sony is a brand new agreement. So it has a substantial of upside over the next number of years as they roll that platform out. So maybe I'll let Paul kind of add to this a little bit, but we're seeing a great base of business. We're seeing these recent successes fueled by some of the prior IP wins we've had, these new design wins, these new successes are leading to further advance discussions with other OEMs and we see nothing, but upside here.

I'd only add to that that as we engage in renewal discussions with existing OEMs, it's more apparent to them to everybody that haptics are a valued part of their offerings. So we've generally found that we're able to increase the amount that they are willing to pay to us at the time of renewal. And then there will be other areas that we're looking at and we have a little bit of wait and see attitude about, for example, wearables, new kinds of form factors that may grow quickly. They are little bit of a wildcard, but they could be important to market to shape over the next few years, and of course, content as well, where we see that being a potential, real big opportunity for us and not so much in the next couple of quarters from a revenue standpoint, but over the longer-haul. Charlie Anderson - Dougherty & Company: And then I noticed G&A ticking up a little bit, if I exclude stock-based comp and the legal, and I think you mentioned some of the headcount addition, so wondering if you could just kind of talk us through little bit what some of the investments are. I think you mentioned you need to be in China more, maybe more on the mobile media side, just any color on that would be helpful?

I contract from last quarter, and we've had an increased headcount of five, three were technical in the engineering and product areas and two in the sales and marketing areas. If you look back about a year ago, I bet we're probably up close to 15% to 20%. Most of those increased headcounts are all focused on primarily on sales and marketing. We're building out a full scale office in China. We've got a country manager, office, number of sales people, some technical people on the ground doing porting and application development work, so most of the investments are in the fast growing opportunity that we've been recently capitalizing on.

But the one other thing to it is, as our revenue grows in China there is through the business related expense there that goes through G&A, it's almost like a VAT tax, so there is certain percentage of revenue, so that will be an increasing part of our G&A as we are increasingly successful in China.

We have a follow-up question from the line of Jeff Schreiner with Feltl and Company.

Could you just kind of, Paul, maybe give us an idea, I'm going to ask the question about litigation, but I want to ask a question about maybe how OpEx is going to look like in fourth quarter versus third quarter?

I would expect that our OpEx for the fourth quarter will be roughly comparable with the third quarter as we make some of these investments that may moderately move upward, but it should generally be consistent. And I think I mentioned in the prepared remarks that we're expecting the litigation expense itself to be roughly comparable to the $669,000 that we incurred this quarter.

And where does that put you relative to prior guidance for the full year on the litigation expense?

That puts us about in line. I think we had suggested over the last three quarters that we would have that we would have $2.5 million of expense and this would put us in and around $2 million. I think before last quarter we said a total of approximately $1.5 million to $2 million and this will put us in for the last quarters at just shy of $1.5 million. So we've done a pretty good job I think of managing the litigation expense to add or even have below what we had guided to.

And can you remind you just how much litigations are going to be next year?

We haven't actually given out next year guidance at all. But as we move forward in the district court case, it should be lower than it was this year. If you may recall, in the first quarter of this year we had approximately $3 million of litigation expense in the ITC action that was near a period, the equivalent of the trial phase of the ITC. So if you look at the overall 2013 litigation expense, it may add up to something like $5 million. It should be a good bit less than that next year.

That's all that time we have for questions. And I would like to turn it back to management for any closing remarks. Please go ahead.

Well, thank you, everyone, for being on the call with us today. And we look forward to updating you again on our next quarterly call. Good day.

Ladies and gentlemen, this concludes the Immersion Corporation third quarter 2013 conference call. Thank you for your participation. You may now disconnect.