DSP Group, Inc.
Q3 2009 Earnings Call Transcript

Published: 27 Oct 2009

[Operator:]

Good day, ladies and gentlemen, and welcome to the third quarter 2009 DSP Group earnings conference call. (Operator instructions) I would now like to turn the presentation over to your host for today’s call, Dror Levy, Chief Financial Officer of the DSP Group. Please proceed.

[Dror Levy:]

Thank you. Good morning, ladies and gentleman. I am Dror Levy, Chief Financial Officer of DSP Group. Welcome to our third quarter 2009 earnings conference call. On today’s conference call we have with us Mr. Eli Ayalon, Chairman of DSP Group; Mr. Ofer Elyakim, Chief Executive Officer; and Mr. Boaz Edan, Chief Operating Officer. Before we begin, I would like to remind you that during this conference call we will be making forward-looking statements about our financial projections for the fourth quarter of 2009, our present views about the current economic crisis, the outlook for business for the fourth quarter of 2009 and beyond, and our view about our new CAT-iq offering and their expected contribution to the future revenues of the company. We assume no obligation to update these forward-looking statements. Actual results or trends could differ materially from our forecast for a variety of factors, including

[Ofer Elyakim:]

Thank you, Dror and thank you all for joining us today. I am glad to open this discussion on our results for the third quarter of 2009. I assume you had the opportunity to read our press release that was released earlier today and in a short while, Dror will go through our Q3 2009 financials in detail and Boaz will provide the fourth quarter financial guidance. Before doing so, I would like to update you on our performance in the third quarter and give you some background related to market trends. We ended the third quarter with revenues of $65.5 million. Our revenue results were at the higher end of the guidance that we provided for the third quarter. Sales of decked product continued to account for the majority of our revenues and represented 79% of revenues, as compared to 82% in the second quarter of 2009. We were also successful in improving our non-GAAP gross margins in the third quarter to 38.1%, which was again at the higher end of our guidance range and up from 37% in the second quarter. We expect our gross margins to remain at these levels in the fourth quarter. Boaz will provide more details later during the call. Regarding our profit and loss statement, we generated a non-GAAP operating profit of $3.5 million in the third quarter, which was at the higher end of our previous projection. This was achieved mainly due to higher revenues, better gross margins, and lower operating expenses. As we look into the fourth quarter of 2009, although general market conditions seem to have stabilized and are showing some signs of improvement, we continue to operate in an environment of uncertain consumer demand and behavior. This affects our OEM and ODM customers’ visibility in focusing their business needs. Now I would like to turn to the next generation cordless telephony product and earlier this week, we put out a press release on our leadership offering of the new CAT-iq protocol, which stands for Cordless Advanced Technology

[Dror Levy:]

Thank you, Ofer. I will now review the income statement for the third quarter of 2009 from top to bottom. For each line item, I will provide the U.S. GAAP results as well as the equity based compensation expenses included in that line item and the expenses related to the acquisition of the cordless and voiceover IP business from NXP. Revenues for the quarter were $65.5 million. Our gross margin for the quarter was 37.7%. Gross margin for the quarter included equity based compensation expenses in the amount of $0.2 million. R&D expenses were $15.2 million, including equity based compensation expenses in the amount of $1.1 million. Operating expenses for the quarter were $26.6 million, including equity-based compensation expenses in the amount of $2.4 million and amortization of acquired intangible assets in the amount of $3.1 million. Financial income for the quarter was $1.1 million, and included gains from the realization of previously impaired available for sale securities in the amount of $0.5 million. Income tax benefit for the quarter was $7.6 million. Income tax benefit for the quarter included $7.6 million of reversal of income tax reserve that we determined to be no longer needed due to the expiration of the applicable limitation statutes. Net income was $6.8 million, including equity based compensation expenses of $2.6 million, amortization of intangible assets of $3.1 million, realization of previously impaired securities of $0.5 million, and the tax benefit related to the reversal of the tax reserve of $7.6 million. Non-GAAP net income excluding the item I have just described was $4.3 million. Diluted EPS was $0.29. The negative impact of the equity based compensation expenses on the EPS was $0.11. The negative impact of the amortization of acquired intangible assets on the EPS was an additional $0.13. The positive income of the gains from realization of previously impaired available for sale securities was $0.02 and the positive impact of the income tax benefit was $0.33. Non-GAAP earnings per share excluding the items I just described was $0.18. Please see the current report on Form 8-K that we filed with the SEC this morning for a reconciliation of the non-GAAP presentation to the GAAP presentation. Now to the balance sheet -- accounts receivable increased from last quarter by $4.3 million to $35.9 million, representing a level of 49 days of sales. Inventory increase by $0.4 million from last quarter to $13 million, representing a level of 29 days. Our cash and marketable securities in the end of the quarter were $113.7 million, representing an increase of $3 million during the quarter. Our cash and marketable securities position during the quarter was affected by the following -- $2.4 million of positive cash flow generated from operations; $0.9 million of gains from an increase in market value of available for sale securities; and $0.5 million of cash used for purchase of property [inaudible]. Now I will ask Boaz, our Chief Operating Officer, to present our forecast for the fourth quarter of 2009. Boaz, please.

[Boaz Edan:]

Thank you, Dror. Good morning, everybody. We shall now present our projection for Q409, which are based on forecasts received from our customers and our own assessment. Q409 projection on a U.S. GAAP basis including the impact of equity based compensation expenses and acquisition related amortization expenses are as follows -- revenue is expected to be in the range of $50 million to $56 million. We expect the gross margin to be between 37% to 40%. R&D expenses are expected to be in the range of $13.5 million to $15.5 million. Operating expenses are expected to be in the range of $24 million to $27 million, and the financial income is expected to be in the range of $0.4 million to $0.7 million. We do not expect to have any income tax for Q409 and the shares outstanding are expected to be between 23.5 million to 24 million shares. Our Q409 projection, including approximately $3.1 million of acquisition related amortization of intangibles. Our Q409 projections also include the following amount forecasted for equity based compensation expenses -- cost of goods sold include $0.1 million to $0.3 million; R&D expenses including $1 million to $1.2 million; and operating expenses include $2.2 million to $2.5 million. Thank you for your attendance and we shall now open the floor for questions.

[Operator:]

(Operator Instructions) Your first question comes from the line of Daniel Amir with Lazard Capital Markets.

[Daniel Amir:]

Thank you. A couple of questions here -- first of all, your deck business as a percentage of sales declined. Can you just comment on what is going on a bit in the non-deck business? Are you seeing -- I mean, is that business recovering? I mean, what are you exactly seeing there?

[Ofer Elyakim:]

So what I can do is we can give you the split as we always give about the split between the product line but we have some other categories that basically increase relative to the figure that we had let’s say in the second quarter of the year. But let me give you the details on the split first. So as we said in the call, so deck accounted for 79%. Deck Europe and ROW accounted for 43%. Deck 6 accounted for 36% and 5.8 was about 2%, 2.4 accounted for about 10%, and we had some other addition.

[Daniel Amir:]

And in terms of the growth trends in the non-deck business?

[Ofer Elyakim:]

Yes, I would not read too much in -- if you were trying to reference Q3 and Q2, the percentage decline as a percent of revenues because some of the deck that you saw, you saw also with the other parts, like voice-over-IP which is not -- we do not account for it in the deck section, so basically roughly it’s the same percent if we also account to other -- into the other category.

[Daniel Amir:]

Okay, now into 2010, I mean, I guess in your prepared remarks you talked a lot about the CAT-iq. I mean, what kind of are the key growth drivers that we should be looking for 2010 for the company? And is the CAT-iq, is this going to make a difference in 2010 already?

[Ofer Elyakim:]

Yes, so we are -- CAT-iq has been in the market but is now a, with a certain decision made by European operators, becoming a more significant part of the offering and becoming basically a standard into Europe, and so many of the European operators are now launching what we call integrated access device, or home gateways that basically will offer an integrated [inaudible] with both the access, which is DSL or cable in the U.S., et cetera, together with the wireless LAN to distribute data and streaming in the home and deck to distribute voice at home. And so this is a trend that is definitely picking up and most of these -- I would say that all of the launches that we are aware of are with CAT-iq requests, and so this is definitely will introduce a replacement cycle in the market and with these home gateways, handsets are also sold or could be bought separately for multi-handsets, et cetera.

[Daniel Amir:]

Okay, my final question before I go back into the queue, on the gross margin front, you commented kind of you’ve seen flattish gross margins in the 38% range. I mean, is this -- I mean, are you comfortable going forward with this level of margins? I mean, what’s kind of your visibility of pricing right now in the market and kind of your own costs?

[Ofer Elyakim:]

Just maybe let me complete my answer to the first question -- so we discussed CAT-iq but also when we look into next year and we see also cordless attached to other devices besides just IADs and we also plan to see the launch of an expander into the market and this will basically build a category that will be aside of the deck retail which we account for in our numbers, or cordless for retail.

[Daniel Amir:]

Okay, and the margin question?

[Ofer Elyakim:]

Okay, so for Q4, it’s basically in line with what it was as given in the guidance. This is the range that we are comfortable with, which is you know, pretty much in line with what we achieved in Q3. Looking into 2010, I would say that we are not yet prepared to discuss that in detail since we basically see very limited visibility and it is not the right time. We will elaborate on it in the next conference call and we can discuss more about these trends in more detail but right now, it will be too early to say that.

[Daniel Amir:]

Okay, great. Thanks.

[Operator:]

Your next question comes from the line of Daniel [Merin] with RBC Capital Markets.

[Daniel Merin:]

Can you give us a little bit more color on your dynamics in the cordless markets, what are you seeing right now as far as the demand? And how should we think about it going forward? Are you seeing unit prices stable and then also on the pricing, you know, some trends within the OEMs that play in this space.

[Ofer Elyakim:]

So with respect to the geographic trends, I would say that still decked Europe and rest of the world and decked 6 will continue to be a major portion of the company’s revenues going forward and with the adoption of CAT-iq, this will become basically a new category under deck. In terms of the rest of the world region, we may see here and there growth from maybe in Asia and some other ROW countries with the move from analog to digital. With respect to pricing environment, I would say that right now, I do not see anything different from what we saw in the past. I think everything is pretty stable.

[Daniel Merin:]

If we were to think about the cordless market as far as demand, do you think that demand in 2010 or right now is actually on the rise in unit volumes, if we were to set the prices aside?

[Ofer Elyakim:]

So as you are aware, this year from a consumer standpoint, and we are talking here about consumer products, was a challenging year and consumer is not spending as much as they did last year and not only in the U.S. but also in other places in the world, so I would say that you can definitely see from 2008 and 2009 a decline and part of this decline is also declining units.

[Daniel Merin:]

Okay, and when it comes to the inventory levels in the stores, what is the status in your opinion as we head into the holiday season? And maybe if you can share with us some of the sell-through that you’ve seen so far based on your discussions with your customers.

[Ofer Elyakim:]

I can tell you that we are not aware, so there are things -- we do not have such color as to what happens in terms of inventory and -- but so far during the year, we see very careful ordering procedure, which basically impacts the visibility request for very short lead times and to basically defer material for like [inaudible] and a phone call from a customer. So it is kind of -- I think that this dynamic remains during the fourth quarter and may also go with us into the 2010 -- it all depends on the consumer environment.

[Daniel Merin:]

Okay, and then my last question for you and I’ll hop back into the queue -- if you can give us a little bit more color on the activity on the expanded product line, new relationships you may have with customers launch and then some of the new products that you want to launch and the time for that.

[Ofer Elyakim:]

So on that, we have several design wins in the market and then now these products are actually already available and they are in production, they are in development. But they are already -- we can see the ID, the industrial designs, and we are -- we are very hopeful to see them launch successfully in the market and they come in very different form factors, so these are digital home devices, some of them are basically a major upgrade to a regular cordless phone that looked like a handset and will have a touch screen that will run advanced operating systems and we will basically be able to stream and connect to the broadband network over WiFi and take calls using deck. This could also be sold to retail and to operators. Others are more tablet form factors, meaning like a seven to eight inch type of panel that will also include an advanced operating system with a pretty open environment to download and upload new applications, to stream content and it could be available with telephony, without telephony. This could be in the monitoring or surveillance side, like baby monitors, security monitors, in audio for audio streaming, Internet radios and audio players and many, many different flavors of products.

[Daniel Merin:]

Okay, and the timing for those and the impact on 2010 revenue?

[Ofer Elyakim:]

So as I said, we are not yet prepared to discuss that in the details but we are definitely looking forward to see the launch of these design wins into products in next year.

[Daniel Merin:]

Okay. Thank you.

[Operator:]

(Operator Instructions) Your next question comes from the line of Shaul Eyal with Oppenheimer.

[Shaul Eyal:]

One quick question -- I know kind of you started touching on it I think with your answer to Daniel Amir, when you think about the European operator strategy, are they also subsidizing handsets? Again, is your strategy geared towards selling tablets at an attractive price so any way the subsidies could be eliminated? And if so, what kind of a price point in which it becomes attractive on the consumer side, again if only if you can share it with us.

[Ofer Elyakim:]

Sure. So there were several of the commercial launches of this type of products and most of them were sold at $200 and above with a significant subsidy and when we say subsidy meaning that the device costs much more than that, probably in the $350 to $500 range, so significant subsidy, and these were not able to generate enough consumer demand because they don’t fall in the magic consumer price point, which is around the $100 range. What we are trying to offer is something very different and it aims for the $100 price range, devices that will be sold to operators and elsewhere, and they could basically eliminate the need for a subsidy and they deliver a lot of the services in advanced application that would [take] consumers or subscribers to an operator.

[Shaul Eyal:]

Got it, and what is the current status that you -- the current relation that you guys have with U.S. telcos? I know that in the Europe kind of quite okay, you’ve got a lot of it also through NXP, some of it through your own relations -- what’s the status in the U.S.? What’s the current thinking about it?

[Ofer Elyakim:]

So we are in touch with several U.S. service providers to introduce a similar type of devices like we discussed on gateway that will basically bring the service that will include the telephony applications and some information services but you see the European operators are very different in their approach into selling more services and also the boxes into consumer homes, as basically part of the offering. While in the U.S., most of the consumer products are basically being bought at retail so a different type of dynamics there but still we are engaged with several search providers in the U.S. to do exactly that.

[Shaul Eyal:]

Got it. All right, thank you very much. I might come back later on with more.

[Operator:]

At this time, you have no further questions. (Operator Instructions)

[Ofer Elyakim:]

Okay, thank you all for joining us on the conference call and we look forward to reporting to you again in 90 days. Thank you.

[Operator:]

Thank you for your participation in today’s conference. This concludes the presentation. Thank you for your participation. You may now disconnect. Have a great day.