Rambus Inc. (RMBS) Q4 2013 Earnings Report, Transcript and Summary

Good day, ladies and gentlemen, and welcome to the Rambus Incorporated Fourth Quarter 2013 Conference Call. At this time all participants are in a listen only mode, later we will conduct a question and answer session and instructions will be given at that time. [Operator Instructions]. As a reminder today’s conference is being recorded. I would now like to turn the call over to Satish Rishi, Senior Vice President and Chief Financial Officer.

Thank you, operator, and welcome to the Rambus fourth quarter and full year 2013 results conference call. I'm Satish Rishi, CFO. On the call today with me today is Ron Black, our President and CEO. The press release for the results that will be discussed here today has been filed with the SEC on Form 8-K. A replay of this call will be available for the next week at 855-859-2056. You can hear the replay by dialing the toll-free number and then entering ID number 37074711 when you hear the prompt. In addition, we are simultaneously webcasting this call, and along with the audio, we are webcasting slides. So even if you're joining us via conference call, you may want to access the website for the slide presentation. A replay of this call can be accessed on our website beginning today at 5:00 PM Pacific Time. In an effort to provide greater clarity of financials, we are using both GAAP and non-GAAP pro forma format in our press release and on this call. I need to advise you that the discussion today will contain forward-looking statements regarding our financial prospects, litigation and demand for our technologies among other things. These statements are subject to risks and uncertainties that are discussed during the call and may be more fully described in the documents we file with the SEC including our 8-K's, 10-Q's and 10-K's. These forward-looking statements may differ materially from our actual results and we are under no obligation to update these statements. Further, as mentioned, we will also discuss non-GAAP financial results today and have posted on our website reconciliations of these non-GAAP financials to the most directly comparable GAAP measures. You can find a copy of our earnings release and the recon on our website at rambus.com on the Investor Relations page, under Financial Releases. Now, I'll turn the call over to Ron.

Thank you, Satish, and good afternoon, everyone. Q4 was another good quarter for us as we closed the significant Micron deal and delivered CLI revenue and pro forma operating income at the high end of our guidance. As we reflect back on the entire year I have to say that I am incredibly proud of what the team has accomplished. 2013 was certainly a year of transition as we implemented our strategy of proprietaring broad licensing options based on consumer needs; approach the market in a more open and collaborative manner and focus investments to achieve optimal shareholder value creation. Clearly the most important accomplishment of 2013 was settling the long standing legal matters with both SK Hynix and Micron as well setting up the resigning of Samsung to a very long term license. Of course our shareholders value not only the stability of the cash flow but also the magnitude of the deals which totaled approximately $1.2 billion. Our more open and collaborative style was not just to close these deals however but to set up engagements with customers on new projects which was impossible to do when we're in litigation and to be honest shunned by the industry. As I mentioned during the Samsung announcement call, we are now engaged with all our customers in openly discussing collaborations on new designs and even delivering higher value products such as chips and software. Looking more broadly at the semi-conductor industry this was a good time for us to have resolved our past issues, as the memory market is no longer a segment of the industry known for bad economics. Indeed the consolidated structure has enabled a significant improvement in profitability and based on the significant increases in market capitalization investors concluding memory companies are back in vogue after a very long hiatus. Rambus has not only improved financial position of our customers that is attractive, as it is always easier for a customer to pay when they are profitable, but the fact that the memory industry is also poised for technological changes that we believe will provide us more opportunity. For instance we increasingly believe that the historic server architectures are not optimized for cost, power or performance of big data applications. So there is an opportunity for us to provide new technologies such as our R+ designs that can address some of the issues. The same is true for mobile where for example faster non-volatile memory will require DRAM like interfaces that we provide and offer handset manufacturers substantially longer battery life at equivalent performance. The internet of things is similarly a hot topic and definitely requires rethinking of the complete hierarchy as well as connectivity and security when we design things like wearable electronics. As we look forward we see an increasing amount of our engagement with customers not revolving around a naked patent license but a solution that provides access to our cores and software, tools, consulting services as well of course a patent license, so really a hybrid license. In terms of business opportunity in shareholder value creation we believe that despite signing nearly the entire DRAM market, investors should not assume that this segment is capped. It is true that the patent licenses from DRAM manufacturers are very stable, extremely high profit annuities of sorts but we expect to be able to deliver cores using our Rambus R+ technology and even chips and software to the segment to continue to grow the business overtime. Moreover since our technology works not only on the DRAM side but the controller microprocessor side, it means that we have opportunity to grow with SSC companies as well. What will be different however is that the deals going forward will most likely continue to be that of a hybrid nature where say the licensing will not only be for patents for our technology but both -- and often for both memory and security. As a way to showcase our expertise in memory and high speed links, this week at DesignCon we will be presenting three papers where we will discuss the implementation of high performance, low power memory systems as well as PCB interconnect technologies to achieve 50 gigabits per second and beyond. In addition we'll be highlighting our lab session validation platform, a really cool development tool that includes built in self-test and characterization features to help engineers optimize their designs. So Rambus is not just about patents, but designs, cores, products and tools. The approach we evolved to our memory and interface business is actually what we do as well in our security business which provides tools, consulting services, cryptographic processor cores for integrating into SSCs as well as patent licenses. Indeed in 2013 we licensed our CryptoFirewall cores for several companies including Broadcom, Marvell and other conditional access in anti-counterfeiting chipset providers. As Satish will outline later we are pleased with our progress in the security business as revenues have grown year-on-year and whilst still relatively small this business is poised for more substantial growth this year especially in light of our expanding portfolio and the near constant stream of news reports about security breaches. As we have said many times our security technologies have broadly adopted in the payment industry and use an approximately 7 billion smart card chips per year. The growth going forward will be from conditional access platforms such as set-top boxes, anti-counterfeiting applications and ultimately mobile devices which certainly is a huge market and huge opportunity for us. Turning towards our lighting business 2013 was more a challenging year. We succeeded in supporting Cooper and GE and launching general lighting products and also launching and selling incredibly cool novel bulbs. Unfortunately, the bulb market turned out to be a sort of race-to-the-bottom in price. So while our products are great and appreciated by customers we chose not to chase extremely low margin opportunities. Consequently we have discontinued investment in the bulb roadmap and will only invest in more with customer commitment on reasonable margin business. As Satish will explain in more detail later this changing forecast has led to an impairment of the lighting business and a restructuring to achieve a lower expense level. Going forward we will focus on the general lighting portion with Cooper being our driving customer and manage the business for profitable growth. Indeed the Cooper WaveStream line of MicroLens based products appears to be gaining traction which may bode well for our lighting revenues. Nevertheless from a corporate standpoint the lighting business is clearly very different from the rest of the company which is intimately associated with semiconductors and consequently we will manage lighting separately. To help you understand our business model better and to provide more transparency we decided to breakdown the business by DRAM companies which includes Samsung, Hynix and Micron, Elpida and SSC and other companies as shown in the chart on the webcast. For the DRAM customers the growth driver can’t be patent licensing but as I said previously we believe there is additional growth opportunity from designs such as R+, DDR3, LPDDR3 cores and possibly chips and software. For the SSC and other customers we have significant opportunity in patent license as we have only licensed approximately half the tem for our memory and links portfolio and certainly most are interested in security. The growth driver here will be the previously mentioned hybrid technology and patent license for both memory and security as our new strategy makes both optimal for customers. Satish will use this chart more on discussing guidance but I thought that mentioning how we are viewing the business and the growth drivers will be important for analysts, investors to build their models and for us to establish leading indicator proof points such as design wins for future revenue growth. In summary 2013 was a very good year for Rambus as our augmented strategy is proving to work and we have delivered substantial shareholder value. Our opportunities going forward are significant and we have made the right budgeting decisions to invest in areas that will drive shareholder value while curtailing investments will likely not. For 2014 we just have to do it again and we are all on board to do so. Patent licenses will always be of value but increasingly it will be above broader hybrid licensees for both technology including integrated cores and software as well as patents and for both memory and security. With that I will hand the call back over to Satish to provide an outlook on our financials and guidance. Satish?

Thanks, Ron. As a reminder we use non-GAAP for pro forma numbers which we believe are indicative of company performance as we include certain cash events and exclude certain non-cash and discrete events such as impairment charges, restructuring charges as we believe these are not indicative of long term performance. Customer licensing income is a non-GAAP measure that includes cash proceeds that we receive for undersigned patent license agreements as well as cash proceeds from the sale of IP our products. It is how we measure the top line of business and may be different than revenue within a particular period with the amount of cash received from customers is different than the revenue recognized. As Ron mentioned during the quarter we booked restructuring as well as asset impairment charges related primarily to our LDT division. We have evaluated the fair value of the long term assets and compared them to the carrying value of the assets in the balance sheet. Our fair value of the long term assets was lower than the carrying value of these assets and we took an impairment charge of 9.7 million primarily related to the lighting division. We also right sized the business reducing our headcount in Brickfield and took other measures to reduce operating expenses and as a result incurred a restructuring charge of 2.2 million during the quarter. The pro forma numbers will exclude these one-time charges. Now let me review some of the financial highlights of the fourth quarter and the full year before going into additional detail. Customer licensing income for the fourth quarter was 73.9 million, at the high end of our guidance of 70 million to 75 million and our revenue for the quarter was 73.4 million. For the full year CLI was 281.6 million, which is an increase of 14% year over year. Due to slower than expected headcount addition as well as lower litigation expenses, pro forma operating expenses for the quarter came in at 44.2 million, slightly below our guidance of 40 million to 45 million. For the full year pro forma operating expenses were 182.8 million consistent with the run rate we had forecast in the beginning of the year and a decrease of 20 million year over year. Pro forma net income for the quarter was 16.5 million as compared to our guidance of 12 million to 17 million. For the full year pro forma net income was 54.4 million as compared to 19.9 million for 2012. For the full year the customer licensing income sequential growth of 14% was driven by new customers such as LSI, ST Micro, SK Hynix and Micron and we expect to have long term predictable licensing royalties from these and other core customers. For the full year approximately 49% of our CLI was from DRAM customers. With the signing of the 10 year Samsung license, additional CRI patents and technologies were covered in the license. As a result we have an internal allocation of these royalties between our mid and CRI divisions and as Ron mentioned as we sign more customers who take licenses across multiple divisions a breakdown between a division might become less relevant. With the new allocation, new businesses in 2013 accounted for 16% of CLI. Since we signed up Samsung for a fixed royalty starting in Q4 our fixed royalty contracts accounted for 85% of the CLI for the fourth quarter and 54% for the full year. Pro forma operating expenses, which exclude restructuring and impairment charges, acquisition related retention bonuses, stock-based compensation, amortization of intangibles assets and other one-time events were $44.2 million for the fourth quarter, and 182.8 million for the full year. As we have shared with you in our investor presentations, pro forma EBITDA showed a significant expansion during the year and for the full year the pro forma EBITDA margin was 41% as compared to 23% in 2012. Pro forma interest and other expenses for the fourth year were 3.9 million and 13.8 million for the full year. Using a flat rate of 36% for pro forma taxes, pro forma net income for the quarter was 16.5 million and 54.4 million for the full year. Overall cash defined as cash, cash equivalents and marketable securities was 387.7 million, an increase of 21.3 million from the previous quarter. Net cash at the end of the year was 77 million as compared to 31 million a year ago. During the year we generated $51 million in cash from operations the majority of which was in the second half positioning us extremely well for cash generation in 2014. Now I will provide guidance for the first quarter 2014 as well as for the full year. This guidance reflects a reasonable estimate and actual results could materially differ from what I am about to review. For the first quarter we expect CLI and revenue to be between 70 million and 75 million. Going forward we expect that a difference between revenue and CLI would be quite small about 0.5 million a quarter. We expect pro forma operating expenses which exclude restructuring charges, acquisition related retention bonuses, stock based comp and amortization and intangible assets to be between 45 million and 48 million, pro forma net income is expected to be between 12 million 17 million. For 2014 we expect CLI and revenue to be between 295 million and 305 million and operating expenses of between 180 million and 185 million, the top line is not without risk and includes expectations that we will sign new customers for patents as well as solution licensing. We expect pro forma operating margins to expand 4 to 5 points from 2013 as should pro forma EBITDA margin which was 41% for 2013. As we continue to scale operations and leverage our business we expect our cash from operations to increase by almost 50% year over year to about $75 million to $85 million next year or in 2014. Some additional details on the year, for the year we expect to receive royalty payments of 148 million from our DRAM customers namely Samsung, Hynix and Micron combined. As we said the new agreement with Samsung includes technologies from both our mid and CRI divisions, so we will be allocating some of the royalties to CRI. With this new allocation mid will reflect about 134 million in royalty revenue from its current DRAM customers as compared to 124 million in 2013. On the non-DRAM side 2013 includes some one-time payments from settlements and our current estimates include signing new customers in 2014. As mentioned earlier, CRI was also around 12% of our CLI in 2014 and we expect it to be between 15% and 17% in 2014 including LDT the new business that should be between 20% or 25% of our CLI in 2014. I want to remind you that with the long-term contracts we have signed, the five years, seven years, 10 years; patent licensing revenue is a low risk stream of long-term cash flows. Not many companies can claim to have such long-term visibility into a significant portion of their revenues. Having visibility to a steady stream of long-term royalties should reduce the perceived risk of the company and should translate [Technical Difficulty]

Ladies and gentlemen please remain on your line, your conference will resume momentarily.

[Operator Instructions] The first question comes from Suji De Silva from Topeka.

You talked about expecting some incremental revenues in the DRAM customers. May it right to understand that would mainly come from driving R+ adoption through the customer base and if that’s so what kind of timing are we looking there. And can you just remind me the business model for R+ as we look to that in ’14.

And R+ would drive the majority of the incremental DRAM revenue looking for or are there elements [indiscernible].

Understood. A quick question on the numbers, are the gross margin even the non-GAAP one, drop from 1Q to 4Q in ’13, I think 93% to 86%, is there a trend there that we should be aware of or just how to model gross margins going forward, Satish?

I think the changing gross margin is really related to the LDT business because for LDT the [indiscernible] of the gross margins given it’s a buy, selling products, it is not even close to where we are on the IP business. So as that business grows, it does impact our gross margins slightly.

And in to ’14 should we expect now that the restructuring's happened, that would attenuate somewhat?

Somewhat but I think as I mentioned it’s collectively -- it might be about 8% to 10% of our business. So there will be some pressure on the gross margin, but I think the guidance I gave overall keeping our operating expenses flat and giving you the close to the bottom line numbers I think you show know the back end of the gross margin would be.

Okay, that helps and just last questions, Ron, I mean right after you guys signed with Samsung. I know that Samsung did a deal with Google and Erickson. I know you can’t speak directly to Samsung’s motivations, but can you just talk to that what might be kind of a shifting climate in the thought process in patents and litigation versus collaboration because it seems very timely that all happened at the same time? Thanks guys.

Yes another good question and you’re absolutely right. We can’t comment on Samsung and their motivation. From our perspective, we’re just looking at the memory industry is really being a very in vogue, sexy, industry that has a lot of things happening in it. So if I was to be more positive on this, I think people look at our technology and say well if they have a different business model that’s easier to get along with and more reasonable on the pricing, why don’t we work with them because there is a lot of vehicles stuff that their engineers do. We do spend a lot of money and we’re very conscious about it and as you’ve seen when things aren’t going well we stop those investments and we put more investment into other things. And we put a lot more investment into CRI and to MID, so the memory, the core parts of the business, and we’ve reduced it elsewhere. So, while overall it looks flat it in fact we’re putting a lot of money into those things to develop products to serve those customers. So I’m thinking that the industry as a whole likes the patent piece approach and we certainly like it because we think that the growth and upside and to be frank it's just more fun working with customers to build great products than it is to sit down and listen to the lawyers.

The next question comes from Terrence Whelan from Citi.

Thanks for taking the question. This question is also a question on SSD licensing and specifically obviously you’re making progress, Ron, now that you’ve been there over a year with your collaboration in customers, can you just provide us some anecdotes in how the direct interphase and how your approach interfacing customers is changing just so we can kind of qualitatively understand the progress anecdotally? Thank you.

Terence, can you just explain that again a little bit, are you talking about -- you mentioned SSD, are you talking about non-volatile or you talking about generally?

I’m talking what’s SSD licensees you’ve mentioned half of the market is non-licensed, can you just provide us some anecdotes to give us feedback on how the progress interaction is going with the companies for example are you meeting some of these some high level discussions and at what level with these potential licensees, how is progress going in terms of you introducing your design services group with the customers?

Yes there is a few different pieces to that, again actually in question. So, I would say a lot of the discussions with the broader semiconductor industry were held up as people were trying to figure out what was happening on the DRAM side. So as we have systematically started to settle those matters we’ve had more uptake with respect to the SSD side. Every of the big customers that you can imagine, of course very small startups tend not to be our focus, were engaged with more having very open discussions at all sorts of levels and I would say they are in general very positive that people see the results in the marketplace what we’re doing. I don’t think anybody has ever thought that our technology is not absolutely superb. So the engagements are going fine, I think it’s really the proof points. And from Satish’s forecasts as you see we’re planning on settling and licensing a boarder set of the industry. So those things are really I would say that is on track as we possibly can make them. One of the things that we did differently as well as while you don’t see a lot of expense growth we’ve hired a lot of professional sales people if the group called the enterprise solutions sales, that calls very directly on all of the large accounts and it also takes an ecosystemic approach as well, so we spent a lot of time working with the customers figuring out where their customers are going and trying to develop the optimum solution, so we have a much more robust process in place today than we did even a year ago.

And then perhaps as a follow up to that, obviously you have some 2015 SSE renewals ahead of you. As I think about 2014 will some of the growth be driven by expanding existing interactions as opposed to new licensees or will it primarily be driven by new licensee growth, thanks.

Well, it's going to be both, we certainly have existing licensees that we intend to do more with and we have new licensees that are targeted and we're very proactively in those negotiations and discussions as we speak.

And then my last one Ron is we saw the Samsung agreement one full year ahead of the expiry date of the pre-existing contract, you know does this suggest that you’re more open to renewing earlier rather than later in your future renewals as well or is this independent? Thanks.

That was more independent but I think people are looking at this space and seeing that we’re a reasonable party to deal with. As I said when people -- when you knock on their door and they pretend they’re not home, that’s rather difficult to have the meetings, now we don’t have that problem they welcome us in and so we may get things signed earlier, it’s not really a strategy of ours by any means. In that particular case you know Samsung was very willing to discuss things and we collectively seen more opportunity that the only way we can get to the more opportunity was to settle and make sure we had a stable relationship going forward, that’s settled too, to renew, make sure is a stable relationship.

[Operator Instructions]. The next question comes from Sandeep Vajekar from Jefferies.

Hi guys, thanks for taking the question and thanks also for providing a segment level detail to support your guidance for 2014 very helpful. I had just a couple of questions related with guidance. So given that the DRAM portion of royalties is relatively well known, could you help us understand roughly what portion of the SOC and new business growth that you’re guiding for is likely to be generated by the variable component of royalties from existing customers versus royalties from new customers that Rambus expects to license in 2014.

Yes Sandeep that’s going to be very difficult because some of our SOCs are variable, some of them are fixed. So I think the best way for us to describe this was to really talk about the DRAM and then given that DRAM numbers are fairly well known, everything other than that is going to be a combination of SOC licensing, could be from CRI, could be from MID, could be a combination of some solution licensing where we are talking to some customers and there may be an NRE as it engages to recognize those revenue and could also include some product sales from LDTs. So it's a combination of non-DRAM that’s driving the topline growth that we are aware of. I can’t break it any further into SOCs because in the past what we tried to do was it was simpler model where we had MID and MID had DRAM and SOCs but we shouldn’t forget that CRI also, many of their customers are SOC customers. And now we have an overlap of customers like SD MICRO is an overlap, Samsung is an overlap, so trying to discern how much is coming from SOC that’s related to CRI and how much is from MID is going to very-very difficult as we move to the hybrid model.

Okay, understand, Satish just a quick follow-up on CRI, clearly there was a nice step up in CRI revenues in the fourth quarter, I understand that some of it is the way you’re doing allocations but behind that I guess, is there a way you can help us understand what drove the uptick and more interestingly what assumptions we might make about the quarterly profile of CRI revenues in 2014.

You’re right; the allocation did help CRI to come in about $34 million in and CLI for the full year about 12% of CLI for the full year. You know going forward the assumption that we have built into the model is that there will be additional longer term customers that will be signed and as we mentioned in the past CRI’s model is more longer term but we have built in signing additional design wins that they have with their technologies both in the CryptoFirewall side and also signings from DPA customers. So combination of selling through cores as well as from patent licensing, those assumptions are built into the growth of CRI. So if you look at the numbers obviously CRI on a percent basis should be growing the fastest of all three business units.

Okay that’s very helpful and then last one from me can you just talk in general about any differences that we should be aware of between license agreements with memory suppliers and license agreements with SOC suppliers.

Generally the structure is very similar, the patent licenses are term licenses, typically in the past they have been five years. We've had a combination of fixed payments; we've also had variable payments based on the number of units shipped. So they've been mirror what we had with the memory division in the past. I think the only slight difference I would say that with some of them even though we call them fixed their payments are not the same every year over the five year period, some of them they have some sort of a scaling down over time, they might pay us tax this year, divide it by four every quarter but next year they might be paying us something less than x, but it’s spread over four years, so that is something which we expect to fill that hole with growth from new SOC licensing.

Next question comes from Terence Whalen from Citi.

Great thank you. It’s a pretty simple follow up for Satish. Satish we just wanted to get your understanding of how the debt will be handled and how interest expense specifically will be divided up in the March and June quarter just for us to precisely model that, thanks.

Sure, so for like from a cash perspective we’ll be paying approximately -- well not approximately but 5% on 172.5 for six months in the first half, so that’s around $4.5 million and then we’ll be paying [indiscernible] on the 138 million. So those are all the cash portions of it. In our numbers we also -- the way our balance sheet is record the leads we have, we are assumed to own the property that we are in even though we don’t own it, so there is a cash component about $4.5 million for this [indiscernible] facility that also shows up in the interest expense and the pro-forma as well as in the GAAP numbers. So if you want to know what to expect in terms of the non-cash portion for interest expense in the first half, let me just pull that out for a second. The cash portion on the coupons in total for the notes should be -- the total investment expense should be about 6.2 to 6.3 in Q1 and Q2.

Okay, terrific. And then my last question has to do with given the comments that you made on the lighting business. Does that affect your attitudes or approach to how you are thinking about M&A over the next year? Thank you.

Well I am not sure the lighting business per se affects it, we look at it in a very strategic and opportunistic way. Clearly from an acquisition standpoint the core of the business which is the memory high speed links and security part, cryptography part, that’s our focus for acquiring assets because we really want to put more wood behind that era. We’re happy with the lighting business, we spent a lot of time -- I have spent a lot time with the customers over the last several months and I think we have tuned it to have a profitable growth, we’re just very tempered in our view of the growth for the reasons that we described, we’re working as hard as we possibly can with the customers to get out from in front of some of the suppliers to them and minimize the amount of manufacturing that we have to do, still recognizing that it’s an important element to be able to bring up their systems. So I think that business standalone is going to be even stronger than it was and clearly from a financial standpoint it is much less of a drain, it’s no drain as long as we execute to what we wanted to. And who knows there can very substantial upside because as these customers start to transition to ship more of our products we do have a very healthy royalty rate that comes from them.

Let me just correct myself, I think I gave you the 2013 numbers, so even in Q2 for the total interest expense would be about 8.7 and 7.6 in the first half, first two quarters and then going down to about 2 million a quarter.

I am showing no further questions. I'd now like to turn the call back over to Ron Black for closing remarks.

Thank you all for your continued interest and support. We’re very pleased with the results for 2013 and feel that we’re especially well positioned for growth in 2014. Have a great rest of your day.

Ladies and gentlemen that does conclude the conference for today. Again thank you for your participation. You may all disconnect. Have a good day.