Kopin Corporation (KOPN) Q1 2012 Earnings Report, Transcript and Summary

Good morning, and welcome to Kopin Corporation's First Quarter 2012 Financial Results Conference Call. Today's call is being recorded for Internet replay. You may access an archived version of the call on Kopin's website at www.kopin.com. With us today from the company are Chairman and Chief Executive Officer, Dr. John C.C. Fan; and Chief Financial Officer, Mr. Richard Sneider. Please go ahead, sir.

Thank you. Welcome, everyone. Thank you for joining us this morning. John will begin today's call with a review of the first quarter. I will take you through the financials, and then we'll be happy to take your questions. I would like to remind everyone that during today's call, taking place on Thursday, May 10, 2012, we will be making forward-looking statements as defined in the Private Securities Litigation Reform Act of 1995. These statements are based on the company's current expectations, projections, beliefs and estimates, and are subject to a number of risks and uncertainties that could cause actual results to differ materially from those forward-looking statements. Potential risks include, but are not limited to, demand of our CyberDisplay and III-V products, development of Golden-i, operating results of our foreign subsidiaries, Forth Dimension Displays and Kopin Taiwan Corporation, market conditions and other factors discussed in our most recent annual report on Form 10-Q and other documents filed with the Securities and Exchange Commission. The company undertakes no obligation to update the forward-looking statements made during today's call. And with that, I'll turn the call over to John.

Thank you, Rich. Good morning, everyone, and thank you for joining us today. Let me first turn to our first quarter results and full year revenue guidance, which remains on track. Revenue for the quarter was $25.2 million, with Display contributing approximately $11 million, and the balance came from III-V. With respect to Display, we have described the near-term challenges on our last fourth quarter call. We continue to supply the Army's Thermal Weapons Sight program, but looming Pentagon budget cuts adversely affected our Military Display revenue. We expect Military Display sales to decrease by about $20 million this year. In anticipation of the budget cuts, we have moved proactively to parse expenses by consolidating our U.S. Display manufacturing activities to a single facility in Westboro, Massachusetts. This enables us to also combine our 2 domestic III-V manufacturing operations into a single facility. Rich will discuss this consolidation in more detail later on. So now, let me turn to our III-V business, which generated about $14 million in first quarter revenue, partly because of seasonality. We are optimistic by further prospects of our III-V business in 2012 and beyond. Worldwide smartphone demand remains strong. As we have just discussed, the complexity of these devices require greater number of sophisticated power amplifier, which also drives coated screen contents higher and higher. We are partnered with the world's leading integrated circuit manufacturer, and we expect our partner to be well-represented in the new smartphone models, which will be launched in the coming quarters. One of the hallmarks of an innovative company is its ability to anticipate market changes and develop products to meet those dynamic needs. Our III-V business is a great example of how Kopin has remained ahead of the technology curve. In the mid-1990s, our gallium nitride transistor wafers set a new standard for performance in the emerging wireless handset market. As wireless handset emerged, evolving to a -- with additional multiple mold and multiple band, our III-V technology advanced. We advanced in increasingly more sophisticated equipment, which enabled us to develop multi-layer structure which combine HBT, HEMT materials on larger diameter wafers. In addition, we have developed and installed our proprietary intrinsic monitoring system that has now helped increase yield, enhanced quality and reduced costs. In recent weeks, Kopin has raised the III-V technology bar even higher, achieving record results in tests of our new gallium nitride-based high electron mobility transistors. A paper on this result was published in Applied Physics Letter of the American Institute of Physics, which is a few leading peer-reviewed publication. The paper described performance characteristics achieved with gallium nitride HEMT material when using our proprietary process. While at large, these results are significant. The reason is advanced gallium nitride materials are considered key to improving not only the next-generation of power amplifiers, they also are expected to play a critical role in enhancing energy efficiency across a range of applications, including power switching, automobile and clean energy. Our development of these new structures is still in its early stages, with additional studies and testing being conducted. We anticipate the publication of additional scientific papers and articles on this topic in the coming quarters. Before moving away from III-V, I want to mention the purchase and supply agreement with our largest integrated circuit customer. As you may know, our current agreement expires in -- at the end of July, and we fully expect to have an extension completed soon. Skyworks has been a valued customer and partner for many, many years. Our relationship has proved extremely successful for both companies. We'll continue to provide Skyworks and more of our partners with the highest quality of III-V wafers. Complementing our strong III-V business, we're very excited about our progress at Golden-i, our revolutionary new hand-free voice and speech-controlled computer headset. With its seamless integration of hardware and software, we're confident that Golden-i will set a new standard for anytime, anywhere computing from the convenience of a comfortable, lightweight controlled by voice. The first version of Golden-i is now being developed by Motorola Solutions for industrial applications. It is scheduled to be launched later on this year. And the feedback on beta customers could not be more positive. The industrial version of Golden-i represents a revolutionary offering for applications such as a remote energy platform, security, first responder in emergencies, medical, construction, public safety and others. Consumer development plan for Golden-i include a version for professional and consumer markets, including video and gaming. You may recall that in the Consumer Electronics Show in last January, Verizon and Ericsson showcased Golden-i at their booth. So we're working on multiple fronts as it relates to our Golden-i program. Turning to our quick guidance, as I mentioned at the beginning of my remarks, we are on track to achieve the full year revenue guidance of $110 million to $120 million for 2012. In addition, our balance sheet remains very strong, enabling us the financial flexibility to execute on our strategy. And while our recent consolidation meant a reduction in operating expenses and personnel, we are not taking those steps at the expense of innovation, rather, as our gallium nitride and Golden-i programs demonstrate, we continue to develop new products, new technology that are fundamentally changing in the landscape of computing and communication. Now let me turn this call over to Rich for his financial review.

Thank you, John. Beginning with the top line, as John mentioned, total revenues for the first quarter were $25.2 million compared with $34.9 million in Q1 of 2011. III-V revenues were $14.3 million for the first quarter of 2012 versus $17.6 million in the first quarter of 2011, while Display revenues decreased to $10.9 million from $17.3 million a year earlier. Looking at the Display revenue in more detail, military applications represented $7.6 million of revenue compared with $11.1 million for the same period last year. Consumer display sales were $2.8 million in Q1 of this year, and -- as compared to $4.4 million for the same period in 2011. R&D revenues decreased to $0.5 million from $1.8 million last year. Gross margin for the first quarter was 29.4% of product revenue, compared with 33.3% for the first quarter of last year. The decrease reflects low revenues in the 2012 period for Military Display products, declining from $6.4 million in Q1 2011 to $5.1 million. And SG&A expenses increased from $4.4 million to $5.1 million. The increase in SG&A is primarily related to noncash stock compensation charges of $500,000 and approximately $150,000 of severance costs for the reduction in force associated with the plant consolidation John mentioned. For the full year, we expect a reduction in force to reduce compensation expenses by about $1.5 million. For the full 2012, we are targeting R&D expenses to be in the range of 15% to 20% of revenue, with SG&A expenses to be in the range of 10% to 15% of revenue. On the bottom line, the first quarter of 2012 net loss was $2.1 million or $0.03 for the fully diluted -- per share, excuse me, compared with net income of $2.1 million or $0.03 per share for Q1 2011, affecting the impact of low revenues over higher fixed costs. Results for the 2012 period include a gain of approximately $860,000 on the sales of securities owned by the company. Cash and equivalents and marketable securities totaled $102 million at March 31, 2012, compared to $105.4 million at year end. We continue to have no long-term debt. Capital expenditures were $1.8 million in the quarter. Depreciation and amortization was $2.5 million for Q1 2012. We repurchased 1.3 million of our stocks. Stock compensation expense, included in the P&L, was $1.1 million for the first quarter, and was allocated as follows: $869,000, SG&A; $130,000, cost of product revenue; and $85,000, R&D. Accounts receivable outstanding at March 31, 2012 were 54 days compared with 44 days at the end of first quarter 2011. As John mentioned, we are on track to achieve our 2012 revenue guidance of $110 million to $112 million. And with that, we're ready to take questions. Operator?

[Operator Instructions] Our first question comes from the line of Matt Robinson, Wunderlich Securities.

This is Blake Harper for Matt. Do you guys have any new qualifications for any potential new customers in the III-V segment that you could possibly talk about?

Your question is about the III-V new qualifications? This is John Fan. As you well know, we have now had a lot of activities in Taiwan, so we're coupled with new qualification in Taiwan now.

Okay. And then could you maybe also update -- you had talked about Motorola with your Golden-i, but could you talk about -- are you engaged with the Android or other smartphone ecosystems? And kind of how your IP would fit in into that?

You're talking about the Golden-i, whether Golden-i would be connectable to Android?

Yes.

Okay, that's a very good question. Golden-i for Motorola is connected to Windows only, because all of the industrial computers are Windows-based. However, we did mention for our consumer model, the consumer model is now planning to connect to both Window, Android and Apple.

So all 3?

All 3, yes.

Okay. And then you did say, a couple of housekeeping items. Do you have the cash flow from operations number for the quarter?

It was a use of $700,000, approximate.

Okay. And then also on the other income, do you have a breakout there of what's the interest income and what your some other nonoperating income was?

It was essentially -- so the large number is the $850,000 gain on securities. There was roughly $160,000 loss on foreign exchange. And the rest of it is interest income.

Okay. And then just one last question, on the Military Display, can you just update there about some of those contracts there with the night -- enhanced night vision goggles, and really what -- how you see those -- the contracts coming? Is there going to be like a consolidation of suppliers? Or how do you think that -- or how do you think that -- those contracts will end up being played out?

Well, we would have expected the contracts awarded by now, but it doesn't appear it's been finalized. None of our customers have made announcements, and so therefore, it wouldn't be appropriate for us to discuss until they announce it. But -- so at this point, it's really kind of status quo we're waiting for our customers' announcements and then we'll follow up with our announcements.

Our next question comes from the line of Blaine Carroll with Avian Securities.

A couple of questions if I can. John, can you talk about the -- or Rich, can you talk about the linearity in the III-V business as we step from the first quarter to the second quarter, and then to the second half of the year? Some of your customers in that business have talked about lumpiness related to the shipments of the iPhone. I'm just wondering what you're seeing on the III-V business there?

Well, I think that one of the issues you're going to see is last year Q1 was extremely strong, which is why the comparison year-over-year doesn't look so good this year. But the reality is, what we think happened last year, a lot of folks were buying for the 4S and they built up inventory in anticipation of it. And then we spent the rest of the year kind of working off that inventory. That's why a couple of times on our quoted conference calls, we discussed kind of the abnormal seasonal trend that we had seen last year. And so you're not seeing that this year. I think this year, it looks like it's a little bit more normal, which typically means that the third and the fourth quarters are the big quarters for us.

The third and the fourth. Okay. And then Richard, sort of a similar question on Display. Actually, military did better than I thought, and consumer was a little bit weaker than I thought. Do you expect that to sort of change as we move through the year?

Well, at this point, I think the way the military is going to fold out -- we're at the tail-end of the old TWS programs. And so we're not anticipating, quite frankly, a lot of revenue in Q2 from those. And then we're expecting the awards for the new programs, hopefully we're in those awards. And so therefore, those revenues rebound in the second half of the year. The consumer -- that's a really tough market to predict. You get a design win with a camera, but then how does that camera do against other cameras, and so on and so forth. So that revenue is just always very difficult to predict quarter to quarter to quarter.

Okay. And then, John, how often do you negotiate the supply agreement with Skyworks? And is there any risk that this doesn't get settled? And what is the pricing? Is there any pricing that's going to play into this as well?

Well, I think we have negotiated regularly -- it varies between every 3 years, every 2 years, every 18 months. And that has gone on for 16 years. And we have very good relationship with each other. So we don't anticipate any real big problem. In fact, everything will be fine. With respect to pricing, there's always pricing issues. Semiconductors' people always expect some pricing decrease. But I think the pricing pressure, I would say, that it's early in the quarter, although, I'd say, certainly pricing decrease has slowed down because we've really reached the end of the target level now.

Okay. John, when you look at your wafers that you're shipping, and you're getting excited about the GaN, what is the -- is there a breakdown between like a straight gas -- a number of straight gas wafers that you ship versus a biHEMT and eventually the GaN. Is there a way of looking at what the split is there?

Currently, is of course overwhelming -- a high percentage is gallium arsenide. The BiHEMT by set definitely they are coming very strong. And I'm assuming in a year or 2, anything Bi would be more than the HBT. With respect to GaN, it's still early. We're seeing an inflection point right now, people are looking for a domestic supplier of GaN, emerging supplier of GaN for that particular application both in the power end for base stations, as well as GaN material for power converters and power switching. It's actually a big thing. GaN for power switching and power converter can save as much as maybe 10% of electrical energy in this country. So a lot of people work on it. Silicon guys are working on it, the arsenide guys are working on it, and we've been working on it for the last 4 years with different customers and partners. So now the results are coming out, and I think we're getting excited about it.

Okay. And last one. Rich, do you want to talk about gross margin? [Indiscernible] is closed down now, right?

That is correct. All of that occurred late February, early March. So there really wasn't a whole lot of benefit in the quarter, and so you'll start to see some of that going forward.

Where do you think margins can get to in the second quarter?

We're off margin. We're going to fight honestly to the keep margins kind of flat with AR because of the decline in military. Unfortunately, some of the benefits from the III-V were offset by lower sales with the military due to the higher-margin product. So we're just, honestly, just trying to stay where we are for now and then we expect expansion in the second half of the year.

[Operator Instructions] Our next question comes from the line of Tim Shelton with Needham & Company.

This is Tim Shelton on behalf of Raji Gill. Just had a few follow-up questions on some of the previous questions I wanted to ask. I was hoping you could give a little visibility into the military segment and when you might see a little more visibility into this space? And how we should think about long-term growth rates going forward?

As far as long-term growth rate, honestly, we are not factoring insignificant growth from the military business over the next couple of years. What you're going to see this year, these new programs they're going to award ENVG 17 microns, these are all new programs. The buyers will start to pick up. There will be a little bit more volume in 2013. As the budgets, as we understand it today, the next significant deployment is really starting in 2014. So for us, we're not budgeting over the next couple of years significant growth in the military. We really believe that between the III-V, some, hopefully, growth from gallium nitride and really, Golden-i is really the driver that we're looking forward to take it to the next level.

Okay, great. And then going along with that Golden-i, I know you mentioned you have the introduction later in this year. When exactly would you start to see some returns on your investment for Golden-i?

Well, we've said all along, we expect the revenues to be de minimus this year, but we would expect to see good revenues starting next year.

All right, great. And then finally, in terms of your III-V business, I know just looking at Skyworks' results, it seems like their revenue was up year-over-year for this quarter. And I know you had alluded a little bit to the unusual seasonality of last year for the first quarter. But should we see this drop-off in the III-V revenue for you as some sort of timing issues, or potentially a share loss? Or is it really just due to some of that seasonality?

Well, Sky is into so many products, you really have to dissect their revenue. I don't think it's a complete comparison just to say well they're up so therefore hoping revenues should trail on the same patterns. I'm not sure you can do that, honestly. No, we just think that we're back to the seasonal pattern that we experienced historically, which is 3, 4, the big quarters in the first half business. And last year was kind of the outlier. So that's what we're expecting.

Our next question comes from the line of Patrick Ruth [ph] with Battle Road Research.

Just a question regarding the military again. Do you foresee military to have a little bit of an uptick closer to Q3 as it usually does? Or do you see that pretty much flat for the year as it progresses?

That all depends on when the government announces the new 17 micron programs and how much of those programs we win. Right now, we're expecting an increase in the second half of the year, but it depends on our notification of those wins.

Okay. Secondly, more of like a fun question, if you will. Google recently announced their Project Glass, and we all know that Google tends to have a lot of pet projects and things like that. I just wanted to get your impression on that, and how that could come to play with or for against you guys?

I think -- this is John Fan. I think you were referring to the all-famous Google Glass?

Yes.

My personal feeling is, of course, I think it is a function and application is correct. We've been talking about this eyeglass for at least maybe 5, 6 years now. And with respect to their program, as you well know, you probably can appreciate, we cannot comment on it because obviously we can't talk about their individual programs.

Okay. Do you think -- I mean as I said, I think Google has a lot of pet projects and things like that maybe sometimes don't even pick up. Do you think it's something that they are very interested in continuing? Or is it more like another project that they bring into [indiscernible]the math and then pushed to the side?

We can't talk about that. But I don't think the product is coming out, if there's a product that's coming out this year. But again, going back to my own personal feeling is such glass is -- such type of glass is very useful.

There are no further questions at this time. I'd like to hand the floor back over to Dr. Fan for closing comments.

Well, thank you for joining us this morning. On Wednesday, May 30, Rich and I will be presenting at Cowen Group's 40th Annual Technology, Media & Telecom Conference in New York. We hope to see some of you there. This concludes today's conference. Thank you.

This concludes today's teleconference. You may disconnect your lines at this time. Thank you for your participation.