CyberOptics Corporation
Q4 2016 Earnings Call Transcript

Published: 1 Mar 2017

[Operator:]

Good day and welcome to the CyberOptics Fourth Quarter Earnings Conference Call. Today's conference is being recorded. At this time, I'd like to turn the conference over to Dr. Subodh Kulkarni, President and CEO. Please go ahead.

[Subodh Kulkarni:]

Thank you. Good afternoon and thanks for taking the time to participate in CyberOptics fourth quarter earnings conference call. Joining me is Jeff Bertelsen, our CFO and Chief Operating Officer, who will review our operating results, following my overview of our recent performance. We will then be available to answer your questions at the conclusion of our remarks. In keeping with Regulation FD, we have made forward-looking statements regarding our outlook in this afternoon's earnings release. These forward-looking statements reflect our outlook for future results which is subject to a number of risks that are discussed in our Form 10-K for the year ended December 31, 2015, and other filings with the Securities and Exchange Commission. We urge you to review these discussions of Risk Factors. Turning now to our recent performance, CyberOptics solidly improved operating metrics in the fourth quarter which were consistent with our previously issued guidance, capped a strong 2016 as we made strong inroads in our targeted markets with our 3D MRS technology platform. This disruptive technology has enabled CyberOptics to capitalize upon the growing demand or higher precision inspection solutions in the consumer electronics, semiconductor and 3D sensing markets. We also benefited from the strongly growing acceptance of our WaferSense/ReticleSense product line in the semiconductor capital equipment market. In addition, we are making significant progress with the research initiative aimed at applying our 3D MRS technology to frontend semiconductor inspection which could have a major impact on our long-term performance. In all, we believe that our advance technologies and product portfolios have positioned CyberOptics to perform strongly in 2017 and beyond. For the fourth quarter ended December 31, 2016, sales increased 18% to $13.5 million from $11.4 million in the fourth quarter of 2015. Operating income totaled $638,000 compared to $39,000 in the year earlier period. And net income came to $6.1 million or $0.85 per share which included a $5.3 million non-cash income tax benefit from the reversal of the valuation allowance for default income taxes. This non-cash reversal was necessitated by our outlook for continued profitability. We reported a net loss of $33,000 and no per share earnings in the fourth quarter of 2015. For full year 2016, sales totaled $66.2 million an increase of 61% from $41.1 million in 2015 while operating income came to $6.2 million versus a loss of $2.2 million in 2015. As this result indicate, we clearly made substantial progress in 2016. Now, for the next few minutes, I will briefly review our fourth quarter performance of product lines. System sales increased 57% year-over-year reflecting robust demand for our entire line of SMT inspection systems including SQ3000, 3D MRS enabled automated optical inspection or AOI systems as well as 2D AOI systems and solder based inspection systems. The SQ3000 is making strong inroads in the consumer electronics arena enabling CyberOptics to gain share in the rapidly growing global 3D AOI market. This sales momentum is expected to continue throughout 2017. Sensor revenues increased 4% in the fourth quarter on a year-over-year basis due largely to a increased sales of 2D sensors to a legacy OEM customer. We are continuing to work with consumer electronics customer that placed $800,000 order earlier in 2016 for 3D sensors for an application related to the inspection of finished products. This customer could place an order for additional sensors in 2017, but we are unable to predict the timing or size of a potential order at this time. In addition, sales to KLA-Tencor under our long-term supply agreement are continuing to ramp-up as 3D sensors are incorporated into an expanding portion of KLA's backend semiconductor packaging inspection systems. While on the subject of sensors, I should mention that we are continuing to advance our MRS enabled 3D sensor technology. Features of 50 microns including devices that mirror like finishes are being measured consistently in the research lab and progress has been made towards measuring sub-50 micron features. These are important developments towards making MRS-enabled 3D sensor technology applicable to frontend semiconductor inspection in the next two to four years. If this frontend semiconductor initiative proves to be commercially viable the available market for CyberOptics could be significant. Fourth quarter sales of semiconductor products primarily the WaferSense/ReticleSense product line grows 21% year-over-year driven by strong sales to semiconductor fabs and capital equipment companies. Contributing to the strong sales growth was our new automated sensor, which combines leveling vibration and humidity measurements into a wireless real-time device. We are developing additional product offerings and anticipate strong feature growth for the WaferSense/ReticleSense products family. Finally, sales of general purpose 3D scanning solutions and services declined 41% in the fourth quarter on a year-over-year basis largely due to lower sales of x-ray systems and reduced revenues -- service revenues. On the nominal sales of the recently introduced CyberGage360 3D scanning system were posted in the fourth quarter. We are finding that potential customer for taking longer than initially anticipated to evaluate the functionality and benefits of CyberGage360 before adopting its disruptive 3D MRS enabled technology for the engineering and quality assurance programs. Given the length of the evaluation and sales cycle, we believe that after starting slowly in the first half of the year, CyberGage sales will be steadily increasing by the end of 2017. To help ensure future sales growth, we have taken several important steps in recent months. CyberGage was initially introduced with an inspection accuracy of 25 microns which we felt was fully adequate for general metrology applications. However, potential customers ask for greater accuracy and in response we are now offering system accuracy of 7 microns. This improvement has significantly heightened customer interest as evidenced by highly positive feedback from the many evaluations now underway by potential customers in such diverse areas as aerospace, engines and parts 3D printing, medical devices and cell phone components. We also have added 15 new value added resellers and are schedule to demonstrate CyberGage at about 10 major trade shows in coming months in U.S., Europe and Asia. In all, we remain very confident that CyberGage will be an important contributor to our future sales growth. We ended the fourth quarter with a backlog of $10.2 million causing us to forecast sales of $11.5 million to $12.5 million for the first quarter of 2017 ending March 31. This sales level largely reflects the timing of orders for 3D products and customer acceptances. Order activity and sales prospects for SQ3000 3D AOI system have been brisk thus far in the first quarter reflecting a strong pipeline of opportunities including large projects for multiple SQ3000 systems. Since we expect to realize revenues from this activity in the June quarter, we are forecasting sales of $16 million to $19 million for the second quarter of 2017. Looking further down the road, we anticipate the continuation of robust sales of our 3D product portfolio, while the outlook for our semiconductor product family is very promising. For this reasons, we are confident of posting solid growth in 2017. Thank you. Now Jeff Bertelsen will review our fourth quarter results in greater detail.

[Jeff Bertelsen:]

Thanks Subodh. Sales of inspection systems increased 57% year-over-year in the fourth quarter reflecting strong demand across our entire portfolio of SMT inspection system products. Sales of our new 3D MRS enabled AOI products are coning for a growing percentage of our total AOI and solder paste inspection system sales. Equally important the SQ3000 is enabling us to increase our share of the rapidly growing 3D AOI market. However, system sales in the first quarter of 2017 forecast a decline year-over-year due partly to the absence of sales of MX600 Memory Module Inspection Systems. In the first quarter of 2016, we recognized $2.5 million of revenue from sales of the MX600 Inspection System to a single customer. Although, we do not anticipate any MX600 sales in the first half of 2017, there maybe an opportunity to book additional MX600 sales in the latter half of the year. As we noted in this afternoon's release, we have a strong sales pipeline for the SQ3000 including large projects for multiple systems. One customer with significant potential have started to place orders for multiple factory locations. Moreover, additional SQ3000 orders are anticipated as the quarter progresses. As a result, we anticipate strong system sales in this year's second quarter, which is reflecting in our current outlook for 2017 second quarter revenue of $16 million to $19 million. Sales of electronic assembly sensors increased 4% in the fourth quarter on a year-over-year basis due largely to higher sales of 2D sensors to legacy OEM customers. Order activity for 3D sensors are strengthening reflecting the continued ramping up of sales to KLA-Tencor under our long-term supply agreement. In addition, Nordson YESTECH remains a solid contributor to OEM sensor sales. Sales of legacy 2D sensors were at very high levels in the first quarter of 2016 mainly due to one OEM customer who received a large order for its products to incorporate our sensors. We believe sensor sales in the first quarter of 2017 will be higher on a sequential quarterly basis although still below the level posted in the first quarter of 2016. Fourth quarter sales of semiconductor products primarily the WaferSense/ReticleSense product line rose 21% year-over-year driven by strong demand from semiconductor fabs, capital equipment companies. The WaferSense/ReticleSense product line which is steadily gaining traction in the semiconductor market is forecasted to post strong year-over-year sales growth in this year's first quarter. Finally, sales of general purpose 3D scanning solutions and services declined 41% in the fourth quarter on a year-over-year basis largely due to lower sales of x-ray systems and reduced service revenues. We recorded nominal sales of the recently introduced CyberGage360 3D Scanning System in the fourth quarter since potential customers are taking longer than initially anticipated to evaluate the functionality and benefits of the system. And as Subodh mentioned, we have taken steps to further strengthen the CyberGage product offering in our sales channel. We remain very optimistic about the prospects for this important new product. Moving down the P&L, CyberOptics fourth quarter gross margin of 47% was up from 42% in the year earlier period mainly due to a more favorable product and geographic sales mix. We believe that our gross margin percentage in the first quarter of 2017 will be at or slightly below the fourth quarter level. Total operating expenses rose 20% year-to-year in the fourth quarter mainly due to additional sales channel commissions and higher incentive compensation, both reflecting our improved operating results plus a small increase in headcount during 2016 to support higher revenue levels. For the fourth quarter, depreciation and amortization expense totaled $566,000 or stock compensation expense totaled $169,000. We anticipate that first quarter 2017 operating expenses will be at or slightly below the fourth quarter level. Our fourth quarter net income included $5.3 million non-cash income tax benefit from the reversal of our valuation allowance for deferred income taxes. This non-cash income tax benefit was necessitated by our outlook for continued profitability. As a result, we will start recording GAAP taxes in this year's first quarter at a more normalized rate of about 30%. Tax benefits from stock option exercises could reduce the tax rate in future periods. However, it is important to note that our actual cash tax payments will be minimal reflecting the utilization of net operating loss carry forwards and R&D tax credit carry forwards. At year end 2016, we had $8.1 million of gross federal net operating loss carry forwards and $3.7 million of federal R&D tax credit carry forwards available to reduce our tax obligations in future periods. Cash and marketable securities totaled $25.9 million at the end of the fourth quarter of 2016 compared to $22.8 million at the end of the third quarter. Thank you. I'll now turn the call over to the conference call operator who will poll you for any questions.

[Operator:]

Thank you. [Operator Instructions] We will first go to Jaeson Schmidt from Lake Street Capital Markets.

[Jaeson Schmidt:]

Hi, guys. Thanks for taking my questions. I'm just wondering if you could share with us the number of customers currently evaluating CyberGage or if could you just give us a sense of how that engagement pipeline has progressed over the past three months.

[Subodh Kulkarni:]

Hi, Jaeson. Yes, sure. So we launched the product in Q4 and has been showing it in tradeshows and generating a good pipeline of leads. Right now, I believe our total number of customer leads is in the level of about 100 customers, but active engagements which means a good changes of something going on is about 25 customers right now. And so the lead -- the number of leads we get continuously increase with every show, there is a lot of excitement with the product and its disruptive potential as we said in our comments. So all those indications are very positive long-term. So about 15 resellers as I mentioned in my comments about 100 customers leads and about 25 active leads that we are pursuing right now.

[Jaeson Schmidt:]

Okay. That's helpful. Thank you. And then, I know you mentioned that inspection accuracy was an issue for some customers on the CyberGage side, was that the main pushback that you guys are given your comments regarding devaluation process maybe taking a little bit longer than originally anticipated?

[Subodh Kulkarni:]

I wouldn't say it was a main factor, but certainly it was a factor. I think the main factor is frankly on mindset. I mean the product is so disruptive because they are used to generating 3D scans taking few hours to sometimes half-day or a day and with our dedicated technician and complex equipment and all. And they suddenly see that a very similar scan is being generated in a couple of minutes without any technician. There is a little bit of skepticism is the right word here, as to release the data exactly the same. So I think that mindset and it is a disruptive technology -- this is a very well established field for many, many years now. So that is the biggest challenge I would say because looking that disruptive has come into 3D scanning as far as we can tell since 1980s when the leases -- when leases came in. It's kind of a new tidal wave shift for them to see something that disruptive. That is the biggest factor. Within that clearly, the fact that we were accuracy, we were touting about 25 microns and images reflected that sometimes you could see some features in objects that were not that crisp looking. So that was coming up and we definitely have addressed that, but I think there was more of a minor factor, the bigger factor was just the mindset here.

[Jaeson Schmidt:]

Okay. That makes sense. And then Jeff, I just get the revenue breakdown quickly before -- between the four segments.

[Jeff Bertelsen:]

Sure, absolutely. So OEM sensors were $2.8 million, SMT systems were $6,735,000, semi was $2.6 million and LDI or the 3D scanning products and services they were $1.32 million.

[Jaeson Schmidt:]

Okay, perfect. And if I can just sneak one last one in and I'll jump back in the queue. It looks like gross margin was stronger than expected in Q4 and you should see that relatively stable in Q1. How should we think about gross margin going forward with this pretty significant step up you've seen at least recently?

[Jeff Bertelsen:]

Yes. I mean I think as the new products, the MRS products continue to become a bigger piece of our overall revenue. We'll see gross margins continue to inch up over time. WaferSense products, ReticleSense products have really good gross margin that they are doing well, so I think those two factors will help to inch up gross margin over time.

[Jaeson Schmidt:]

Okay. Thanks a lot guys.

[Subodh Kulkarni:]

Thanks, Jaeson.

[Operator:]

[Operator Instructions] We'll now go to Ash Birla from Dougherty & Company.

[Ash Birla:]

Yes. Thank you. Hi guys, my question is first of all, Subodh, you had mentioned in the previous call and I think you are pretty adamant that 2017 every product line or I guess every segment is going to grow year-over-year given your latest guidance of roughly call it $12 million for Q1, which is lower than any of the quarters that you've done in 2016. Do you see still expect all of your segments to be up year-over-year?

[Subodh Kulkarni:]

Yes. Ash, I mean, thanks for the questions. As you see in our press release, we have seen that we do expect solid growth for the whole year even including the Q1 guidance, so we obviously, and we have projected Q2 with some granularity here with $16 million to $19 million. So this is a very confident because of the primary drivers clearly are MRS products and the WaferSense products, those are the two areas where we are generating significant growth right now. And MRS products backed three of the four areas we are in the sensor area, the systems area and the 3D scanning and services area and semi products by definition impact the semi-product areas, the WaferSense and backside area. So all four of the areas we have very strong growth drivers, so even with some of the legacy product challenges that we see, we are forecasting a strong growth here.

[Ash Birla:]

Okay. So just can you also give us 3D MRS revenues for Q4 and what's your expectations for Q1?

[Jeff Bertelsen:]

Sure. So 3D MRS related revenues, so this would be sensors and the products that used the MRS sensor that was $2.4 million of revenue in the fourth quarter. We do expect that percentage to continue to increase in both the first quarter and the second quarter.

[Ash Birla:]

Right. And how much of that $2.4 million was CyberGage360?

[Jeff Bertelsen:]

CyberGage was a very nominal amount, Ash. We sold the couple of systems, so it was a very small number.

[Ash Birla:]

So, and obviously, can I know you guys mentioned in your commentary in the Q&A that you do expect delay or I guess the [e-val [ph] is just because of a sticker shock of okay, this thing is getting done, things in minutes versus half a day, but what kind of gives you confidence that in the second half or at least like towards the end of the year, you're going to pick backup the CyberGage360 sales like do you have any PO or is there any indication from customers or what kind of gives you the confidence?

[Subodh Kulkarni:]

The confidence, Ash, primarily comes from what our customers are telling us. I mean, they like the data, they love the ease of use, they love the time there was a lingering accuracy thing as I mentioned to Jaeson in the earlier question. We have taken care of that. So and this is a capital piece of equipment, anytime you launch a new one, they didn't expect something like this to hit the market right now. So many of these customers that we are talking to have purchased some kind of a 3D scanner in the last two or three years, and they're generally happy with it and here we come with a new product. They obviously have to create budget for accommodating it. So it does take time for them to generate capital budget. So we are basing our optimism based on what they are telling us that they intent to buy it, it's just taking them longer to go through their internal processes.

[Ash Birla:]

And so Subodh, is that -- when you say there is a 25 leads that you have or is it real customers that two [indiscernible] where it was shipped, is that one customer or two customer or is that the other 23 or 24 customers?

[Subodh Kulkarni:]

The number keeps increasing. I mean as of today, the number is roughly 25. It's not exact 25. And the number will keep increasing as we show it to more customers and word gets around. We are pretty confident significant chunk of that. We are actually talking to about 100 plus customers right now. But, 25 are the ones that I would say are high quality interaction within -- a very good at a big chunk of those 25, eventually will be our customers, hard to nail down exactly what percentage. There will be some portion of that 100-plus customers which will become customers too. So, we just have a classic funnel that we use and we qualified the leads and as their interest grows and they ask for demos. And we send the samples; we send them data. And then, they ask for demos and evaluation that's when we know their interest is serious because they are also investing their time and effort at that point. But, it's pretty good as the year goes on that many of this high leads likely leads will convert to POs and actual orders.

[Ash Birla:]

Okay. Subodh, in your prepared commentary, you talked about larger OEM and that something like that in 2017 it could happen or it might not happen and it could be a big order or it could be a small order, would you mind just to clarifying some of like what kind of confidence you have from the large OEM for this year and what kind of -- at least if you can ballpark some opportunity, is it a $1 million, $10 million or $100 million?

[Subodh Kulkarni:]

I don't think its $100 million that's for sure. But it is tough to gauge the size of the opportunity frankly because they are all obviously working on some active projects right now that they need our sensors for. We feel and we are trying -- collecting data analyzing and giving them the feedback. We are pretty confident we are going to get something from them. It's very difficult for us to nail down and as we said that's why we didn't quantify because it is near impossible for us to -- because it's not very large companies we deal with and it totally depends on, is it inline or offline or near line and if it is near line or offline what is the sampling frequency and all that kind of stuff. So we have limited visibility, we think it's going to be a significant contributor in 2017 and certainly long-term but it's tough for us to nail down how many units and how many millions of dollars could this mean in 2017.

[Ash Birla:]

So your comment -- I mean, are you little bit confident at least you'll get something in 2017 or you just have…?

[Subodh Kulkarni:]

Yes. We feel pretty optimistic that we are going to get something, question is what and quantifying it is very difficult right now.

[Ash Birla:]

Okay. And then, I have couple of more just on 3D MRS, I know that you have the algorithm and everything lined up. But what are the things I think Subodh, we've talked about at length is the software piece, some of your competitors really win and/or they created a mode around their business because of tremendous software that they have, any effort that you guys are putting in for software, are you guys just going to still outsource that?

[Subodh Kulkarni:]

I think it's not quite fair to say the outsource part, but I think you're referring -- combining two things. The 3D MRS itself -- software that drives it and algorithms clearly that is crux of our core IP and know-how. So that we card and develop it very carefully and protect it very carefully. I think the software that we outsourced for one particular product and that is an important product obviously CyberGage360. So there we have chosen to use outsource software for the CAD data collection and particularly comparison of CAD files to existing CAD files because couple of -- this is not software that are well known in the industry, one is a piece of software called Geo-Batching from 3D systems and other one is PolyWorks from InnovMetric and we have chosen to use PolyMetrics for various reasons. So that's the part where we are using off the shelves software just because many CAD users are used to that type of software and the features that are there to compare CAD files and it didn't make any sense for us to go and reinvent something that has already been done over 10 years by a couple of different companies. But, regarding the actual 3D sensor algorithms and software we've very much developed it ourselves and keep it closely guarded.

[Ash Birla:]

Okay. So coming to the value added resellers, you gave a number that you have 15 today, how many did you have one year ago and how many did you have last quarter, the quarter before like third quarter?

[Subodh Kulkarni:]

In third quarter, we were practically a zero reseller at that point maybe one or two at the most but certainly less than five. And it's not just a number, it's a quality of the resellers, we believe we have one of the largest resellers in the U.S. right now in 3D scanners has signed up. And similarly we are getting one of the largest resellers in Japan has signed up. So it's not just the number 15 that we mentioned in our prepared remarks. It's also the quality of the resellers. And we feel very good about who we are signing up and how that will lead to future sales.

[Ash Birla:]

Okay. So between Q1 and Q2, the revenue growth of $4 million, $5 million, Jeff or which segment is it coming from, is it -- I'm assuming it's not CyberGage360.

[Jeff Bertelsen:]

Yes. I mean it would mainly be SMT systems, SQ3000. We have a number of large projects in our funnel, some of which they started to place POs that would be applicable to the second quarter. Their POs that we got in the first quarter or that we know are going to come in the first quarter but they will be applicable to second quarter revenue so the main driver would be the SQ3000 and SMT system.

[Ash Birla:]

Okay. And then, this one last one, Q3, Q4 is it continued to grow from Q1, Q2, Q3, Q4 sequentially?

[Jeff Bertelsen:]

Yes. I mean we haven't -- we're confident that we're going to have solid growth for all of 2017, whether it's sequentially Q3 to Q4 or you have a big Q3 and a Q4 little tough to predict right now. But, given what we are seeing in our project pipeline particularly with the SQ3000, but also with some of the OEM sensor partners, we're confident that we'll have solid growth in 2017.

[Subodh Kulkarni:]

In addition to what just Jeff said, certainly the SQ3000 OEM 3D MRS sensors, but also WaferSense/ReticleSense, we feel very good about that delivering solid strong growth in that category, but we feel we have enough growth drivers here to comeback and report a solid growth for 2017 even with the Q1 guidance.

[Ash Birla:]

Okay. I'll jump back in the queue. Thanks guys.

[Subodh Kulkarni:]

Thanks Ash.

[Operator:]

And it appears there are no further questions at this time. However, I would like to give one final opportunity. [Operator Instructions] And it appears there are no further questions. I'll turn the conference back over to you Dr. Kulkarni for any additional or closing remarks.

[Subodh Kulkarni:]

Thanks. Thank you for your questions and interest in our earnings call. We look forward to updating you at the end of Q1. Thanks again, bye.

[Operator:]

This concludes today's presentation. Thank you for your participation.