Himax Technologies, Inc.
Q3 2017 Earnings Call Transcript

Published: 9 Nov 2017

[Operator:]

Good day, ladies and gentlemen and welcome to the Himax Technologies third quarter 2017 earnings conference call. [Operator Instructions] As a reminder, this conference call may be recorded. I would now like to turn the conference over to Greg Falesnik, External Investor Relations from MZ.

[Greg Falesnik:]

Thank you, operator. Welcome everyone to Himax's Third Quarter 2017 Earnings Call. Joining us from the company are Mr. Jordan Wu, President and Chief Executive Officer and Ms. Jackie Chang, Chief Financial Officer. After the company's prepared comments, we've allocated time for questions in a Q&A session. If you have not yet received a copy of today's results release, please e-mail [e-mail] or access the press release on financial portals or download a copy from Himax's website at www.himax.com.tw. Before we begin the formal remarks, I'd like to remind everyone that some of the statements in this conference call, including statements regarding expected future financial results and the industry growth, are forward-looking statements that involve a number of risks and uncertainties that could cause actual events or results to differ materially from those described in this conference call. Factors that could cause actual events or results to differ materially from those described in this conference call include, but are not limited to, general business and economic conditions, the state of the semiconductor industry, market acceptance and competitiveness of the driver and non-driver products developed by Himax, demand for end-use application products, the uncertainty of continued success in technological innovations as well as other operational and market challenges and other risks described from time to time in the company's SEC filings, including those risks identified in the section entitled Risk Factors in its Form 20-F for the year ended December 31, 2016, filed with the SEC in April 2017. Except for the company's full year of 2016 financials, which were provided in the company's 20-F and filed with the SEC on April 12, 2017, the financial information included in this conference call is unaudited and consolidated and prepared in accordance with U.S. GAAP accounting. Such financial information is generated internally and has not been subjected to the same review and scrutiny, including internal auditing procedures and external audits by an independent auditor, to which we subject our annual consolidated financial statements and may differ materially from the audited consolidated financial information for the same period. The company undertakes no obligation to publicly update or revise any forward-looking statements whether as a result of new information, future events or otherwise. I will now turn the call over to Ms. Jackie Chang. The floor is yours.

[Jackie Chang:]

Thank you, Greg and thank you everybody for joining us. Our outline for today's call is first, I will review Himax's consolidated financial performance for the quarter on both GAAP and non-GAAP basis. The non-GAAP financials exclude share-based compensation and acquisition-related charges. I will then review operating expenses. Finally, I will conclude with the fourth quarter outlook. Jordan will then provide a brief update on status of our business, after which we will take questions. Our 2017 third quarter revenues and GAAP earnings per diluted ADS came in at high end of our guidance, while gross margin and non-GAAP earnings per diluted ADS, both exceeded the guidance. For the third quarter, we reported net revenues of 197.1 million, an increase of 29.9% sequentially and a decrease of 9.6% year over year. Gross margin was 25.5%, up 1.7% sequentially, outperforming the guidance by 0.7%. GAAP earnings per diluted ADS were 2.1 cents compared to the guidance range of 1.3 to 2.5 cents. Non-GAAP earnings per diluted ADS were 5.2 cents, compared to the guidance range of 3 to 4.2 cents. Revenue from large panel display drivers was 54.9 million, up 5.4% sequentially and down 23.7% year-over-year. Large panel driver ICs accounted for 27.9% of our total revenues for the third quarter, compared to 34.4% in the second quarter of 2017 and 33% a year ago. As opposed to the original guidance of 10% sequential growth. Our large panel driver IC business grew just mid-single digit as well as our Chinese customer deferred some shipment to Q4. The sector’s rebound from the first half was driven primarily by strong sales in TV market. The year-over-year decline was caused by phase-out of certain customers’ old models. We are pleased with our current engineering collaboration and design-in activities with large panel customers across China, Taiwan and Korea. Such activities will lead to further rebound in future sales momentum. Revenue for small and medium-sized drivers came in at $87.2 million, up 24.5% sequentially but down 12.2% year-over-year. The product segment accounted for 44.2% of total sales for the third quarter, as compared to 46.1% in the second quarter of 2017 and 45.5% a year ago. Sales into smartphones rebounded strongly, up more than 30% sequentially, but still declining 36.0% year-over-year. The strong smartphone driver IC sales were driven by customers’ replenishment of inventories after a lackluster first half. Shipment of 18 versus 9 displays driver ICs to panel makers for tier-1 end customers also contributed to the strong rebound. The year-over year decline in the third quarter was mainly the result of a shrinking addressable market for pure TFT-LCD driver ICs for smartphones, a significant portion of which is being replaced by TDDI and AMOLED technologies as the Company highlighted in previous earnings calls. The good news is that our TDDI solutions have started some shipment in the third quarter and are expected to start ramping in Q4. Jordan will elaborate on this a bit later. Our small and medium-sized driver IC revenue for automotive application went up single-digit sequentially and more than 20% year-over-year. The quarterly revenue now reached more than 20 million, a historical high, accounting for over 15% of total driver IC revenue. Driver IC sales for tablets were also up strongly, increasing over 25% sequentially but declining 6.8% year-over-year due to weak overall market demand in the product segment. Revenues from the non-driver businesses were 55.0 million, up 85.9% sequentially and up 17.5% versus last year. Non-driver products accounted for 27.9% of total revenues, also a record high, as compared to 19.5% in the second quarter of 2017 and 21.5% a year ago. The sequential and year-over-year increase was due primarily to WLO product shipment to a leading customer as well as certain one-off customer reimbursements related to Himax’s AR goggles business. The revenue increase was offset by the discontinuation of LCOS and WLO shipments to one of our major AR device customers who decided to end the product’s production as we reported before. Excluding the above-mentioned one-off customer reimbursement, which totaled 13.3 million, the sequential increase would have been lower but still at a high level of 40.9%. Our GAAP gross margin for the third quarter was 25.5%, up 170 basis points from 23.8% in the second quarter of 2017 and down 10 basis points from 25.6% for the same period last year. The sequential margin improvement was a result of a more favorable product mix, which was due mainly to our WLO shipments starting July, 2017 and the one-off customer reimbursements as I mentioned earlier. Now let’s take a look at operating expenses. GAAP operating expenses were 47.0 million in the third quarter, up 26.6% from the preceding quarter and up 16.2% from a year ago. The significant sequential expense increase, on top of rising R&D expenses, was caused by 6.1 million of restricted share unit expense. The RSU expense was assumed to be 3 million in the our guidance. The 3.1 million higher RSU represents lower EPS of $0.015. As an annual practice, we reward employees with an annual bonus at the end of September, which always leads to a substantial increase in the third quarter GAAP operating expenses compared to the other quarters of the year. This year, the RSU grant totaled 6.5 million, out of which 6.1 million was vested immediately and expensed in the third quarter. The remainder will be vested equally at the first, second and third anniversaries of the grant date. Excluding the RSU charge, our third quarter operating expenses were 40.9 million, up 10.2% from the previous quarter and up 31.1% from the same quarter 2016. The significant year-over-year increase was primarily the result of rising R&D expenses in the areas of 3D sensing, WLO, TDDI, and high-end TV as well as the annual merit increases. In addition, NT dollar appreciation against the US dollar caused our salary expense to increase around 0.9 million as we pay the bulk of our employee salaries in NT dollars. GAAP operating margin for the third quarter was 1.7%, down from 7% for the same period last year and up from minus 0.6% in the previous quarter. The sequential improvement was due to gross profit increase, which was mainly driven by WLO shipments and the one-off customer reimbursements mentioned earlier. The year-over-year decline was however a result of higher operating expenses and lower sales. Third quarter non-GAAP operating income was 10.2 million, or 5.2% of sales, down from 11.5% from the same period last year and up from minus 0.3% a quarter ago. GAAP net income for the third quarter was 3.7 million or 2.1 cents per diluted ADS, compared to GAAP net loss of 0.6 million or 0.4 cents per diluted ADS, in the previous quarter and GAAP net income of 13.6 million, or 7.9 cents per diluted ADS, a year ago. Third quarter non-GAAP net income was 9 million or 5.2 cents per diluted ADS, compared to non-GAAP net loss of 0.3 million, or 0.2 cent per diluted ADS, in the previous quarter and non-GAAP net income of 21.3 million, or 12.4 cents per diluted ADS, a year ago. Turning to our balance sheet, we had 151.6 million of cash, cash equivalents and marketable securities as of the end of September 2017, compared to 153.4 million at the same time last year and 185.9 million a quarter ago. We paid out a dividend of 41.3 million during the quarter. In addition to the cash position, restricted cash was 147.2 million at the end of the quarter, up from 107.2 million in the preceding quarter and up from 138 million a year ago. The restricted cash is mainly used to guarantee the company’s short-term loan for the same amount. We continue to maintain a very strong balance sheet and operate as a debt-free company. As of September 30, 2017, our inventories were 130.1 million, down from 147.7 million a quarter ago and decreased from 169.4 million at the same time last year. The lower inventory was a result of increased shipments in the quarter. Accounts receivable at the end of September 2017 were 181.7 million as compared to 208.4 million a year ago and 163.2 million last quarter. Days sales outstanding was 98 days, as compared to 95 days a year ago and 96 days at end of the last quarter. Net cash inflow from operating activities for the third quarter was 16.9 million as compared to an inflow of 2.9 million for the same period last year and an outflow of 1.2 million last quarter. The sequential increase was mainly due to higher profit and better working capital situation. Capital expenditures were on track with the plan at 10.2 million in the third quarter of 2017, versus 1.9 million a year ago and 11.9 million last quarter. The third quarter CapEx consisted mainly of capacity expansion for WLO production line and ongoing payments for the new building’s construction. As reported in the last few earnings calls, we are increasing CapEx right now to enlarge our WLO capacity located at the current headquarters to meet certain anchor customer's strong and urgent demand. We’re also constructing a new building to house further WLO capacity, active alignment equipment, next generation LCOS production line, and additional office spaces. As part of our 3D sensing total solution, extremely high precision active alignment equipment is required to assemble optics on top of laser. We mentioned in earlier earnings calls that we have partnered with a world leading equipment vendor to develop a dedicated active alignment solution of our own. As we reported in the previous earnings calls, the CapEx budget will be funded through our internal resources and banking facilities if needed. As of September 30, 2017, Himax had 172.1 million ADS outstanding, little changed from last quarter. On a fully diluted basis, the total ADS outstanding are 172.4 million. For the fourth quarter of 2017 we suspect that revenue to be down around 4% to 10%. We reported an one-off customer reimbursement of 13.3 million in the third quarter which will not repeat in the fourth quarter thus causing a sequential decline. Excluding the one-off reimbursements, Himax expects the fourth quarter revenue to be down around 3.5% to up 3% sequentially. Gross margin is expected to decline around 1% depending on our final product mix. GAAP earnings attributable to shareholders are expected to be in the range of $0.13 to $0.15 per diluted ADS based on 172.5 million outstanding ADS. Non-GAAP earnings attributable to shareholders are expected to be in the range of $0.132 to $0.152 per diluted ADS based on the same number of ADSs. The above earnings guidance includes the disposal of an investment netting $0.12 in earnings per diluted ADS. As many of you have already seen in our PR issued on September 26, we reached an agreement with a buyer to dispose of a direct investment which was made over 2007 to 2008. The investment involves a Chinese-based operation providing display driver IC backend processing covering wafer bumping chip testing and packaging. Himax’s initial investment amount of 8.96 million represented a minority stake of 14.46% in the investee company. Total proceeds from disposal are 32 million with a pre-tax gain of 23.04 million. Gain after tax is estimated to be 20.74 million, representing a contribution of $0.12 GAAP net income per diluted ADS. The transaction is subject to relevant government approvals with closing expected to be no later than the end of the fourth quarter, 2017. I will now turn the call over to Jordan.

[Jordan Wu:]

Thank you, Jackie. Despite the decline in the first half in our business, we delivered solid results in the third quarter, achieving both top and bottom line growth across all three major product categories. One of the highlights of our third quarter business is the joint announcement with Qualcomm to unveil our 3D sensing total solution. The announcement detailed the two companies’ collaboration in the development and commercialization of high resolution, low power active 3D sensing solutions for the Android smartphone ecosystem. 3D sensing is a game changing opportunity for Himax and will be our biggest growth engine for the next few years. With that now let me give you some details behind our guidance and trends we see developing in our businesses. Large display driver IC business rebounded in the third quarter from the trough of the first half. We expect the momentum to carry forward into the fourth quarter and next year as China continues to ramp new advanced generation LCD fabs and 4K TV penetration is still on the rise globally. Being a market leader in both areas, we will benefit from the resulting market expansion. At the moment, due to tight foundry capacity, Himax is not able to fulfill some rush orders. This would affect the Company’s growth in the fourth quarter. We expect a moderate sequential revenue increase for large display driver ICs in the fourth quarter. Looking into the future, we are working with major panel makers on the development of next generation 8K TVs. 8K TV will likely take off as early as 2020 with Tokyo Olympics, which has promised to broadcast 8K programs. In our last earnings calls, I discussed how full-screen 18

[Operator:]

[Operator Instructions] Our first question comes from the line of Tom Sepenzis of Northland.

[Tom Sepenzis:]

Just curious, given the color, the large panel businesses slowing down because of, I’m assuming component issues in Q4, going into the New Year, do you think that March could see actually flat to up revenue, given the addition of the 3D business?

[Jordan Wu:]

I think if you talk about March, then the answer is quite likely to be yes. However, if you talk about first quarter, you know first quarter is a low season, with Chinese New Year, long holidays. So we are not providing first quarter guidance yet, but don’t be too optimistic in the overall first quarter result, but March I think is the market very likely to recover.

[Tom Sepenzis:]

But you wouldn’t expect to see any of the 3D sensing revenue until Q2, right?

[Jordan Wu:]

That’s correct, although in Q1, there will be some revenue contributing by selling samples to our customers for our joint, their application qualification of the products. So there will be some, but not significant, but Q2 will be likely to be significant.

[Tom Sepenzis:]

And then lastly, just the 2 million a month target seems pretty small relative to the opportunity for the year, so how quickly can you ramp and do you have a target for where you want to be by the end of ’18?

[Jordan Wu:]

Yes. 2 million is small. But we, actually the 2 million is located within our existing quarters, which is extremely crowded. So our current bottomline is 3D in the space and that’s why we are including, we are constructing a new building. Now, as I mentioned, the new building will be ready for personnel and equipment move-in around the close of the year. We have priced orders for the equipment, so we committed to our customers. Initial capacity will be 2 million and within 2018, our total capacity will reach in between 5 million to 6 million. And we can actually add more if the demands are strong and as it looks like to be, but that is our current plan for the time being.

[Operator:]

Our next question comes from the line of Tristan Gerra of Baird.

[Tristan Gerra:]

Hi, guys. First question on the TDDI business. Now, TDDI ramp is happening and you’ve mentioned design wins in different geographies. What type of revenue and market share do you expect from TDDI next year and also as the second embedded question, if you could remind us of the TDDI adoption rate in smartphone, exceeding this year and what you expected to be exiting next year?

[Jordan Wu:]

I think TDDI, I mean, to make a projection for the whole year, for the whole of next year, I think it will be too early, but I think it’s historical to say we are very committed in Q1. We actually said in our prepared remarks that we will be shipping several million units within Q4 and I think a conservative estimate for Q1 will be around 10 million or a bit more and I think we had expect to almost double that quarter after quarter. So I think next year will be very interesting, although I mean, as I said, it’s fair to say that to make a whole year projection is probably too early. And revenue wise, it depends on your resolution, whether it’s HD+ or Full HD+ and also it depends on, in particular, for Full HD+, it depends on whether the customer needs memory in the IC, right. And on top of that, there is also a newly developing trend where for very higher models, customer may actually require a design called COF [ph]. By saying that, what the customers are trying to achieve, with TDDI, you can make you pace narrower and with COF, you can even make the pace even more narrow, because with COF, you can sort of hide the IC on the back side of the panel. So IC effectively does occupy in this space for the pace. So with all that combined, certainly with cost and with memory at Full HD+ that will be higher ASP, but I think on average, the ASP for 3D LED much more double compared to pure driver IC. So this sort of gives you an idea you want to run your model, this is some sort of give you some idea, but I’m afraid I cannot provide a full year guidance for now.

[Tristan Gerra:]

And then what are the opportunities for your infrared sensor outside of 3D sensing, potentially in partnership with other companies, whether it’s for fingerprint recognition or other application?

[Jordan Wu:]

Right. Firstly, we are – for fingerprint, the new development is we also have all seen in the newest iPhone, they actually eliminated fingerprint altogether, replaced it by 3D sensing and we’re actually, we’re very, very big on 3D sensing as you guys all know. So that kind of represents we are now very good enough, super active or super aggressive on fingerprint. However, there is a new trend, new technological trend of fingerprint, which is specific for OLED displays. So people are expecting full screen for your cell phone. That means there is no room for the fingerprint button. So either you remove the fingerprint altogether like iPhone 10 or you hide your fingerprint underneath the display, but for OLED, display to do that is very, very difficult, it’s not impossible, because OLED have a lot more noise and that kind of hinders your fingerprint sensor signal to be – to reach the quality required. And therefore, we’re working with a customer on a new approach, which is called optical fingerprint approach. By saying that wholly providers, our sales, there are CMOS image sensors, and CMOS image sensors requires ultrasensitive signal to noise ratio, ultrahigh signal to noise ratio, because you are talking about very, very low light in that environment. We are in the forefront. We believe we are in the very late stage of customer qualification. As for the ramp time or the potential volume, I cannot comment on customers we have. And this will be the first of its kind. So I mean, I think it’s fair for me to say that being a critical component provider, I think it would be too premature for me to also even comment on the potential customer launch timetable or whatnot, but what I can say is that this is happening and we are certainly excited about the involvement in this very technically challenging and yet state of the art technology development.

[Tristan Gerra:]

And then last quick question, you’ve mentioned heads-up-displays clearly, that’s a trend in automotive, what type of timing are we looking at in terms of potential ramp with that design win or engagements do you have and does that expand beyond the automotive market?

[Jordan Wu:]

I think we had our partners together. I think we have secured a few design wins with certain big names. In terms of timing, in terms of revenue contribution, potential revenue contribution timing for us, I think I’m looking at 2020 or if we get very, very lucky, then 2019 perhaps. And over there, we are talking about very high end segment for head-up-display. With LCD display, one can also assume head-up-display, but that is lower end, we’re talking about very high end tuck in market with even several layers of image types, virtual image types so that for example, you can feel in a transparent large screen full color display, in a nearer dispense, for example, you get to see your speed, your gasoline level and so on. And in a farther bit distance, you get to see your GPS or other information. And it’s very exciting. I’ve seen a few demos and I’ve never seen anything like that. And so it is against that effort and our customers are very excited. I can tell you that, but automotive takes a long time to materialize. However, once it materializes, I think it will be here to stay for a very long time. So that is often overlooked business ratio of market for our investors, but I think I’m actually very excited about that.

[Operator:]

[Operator Instructions] Our next question comes from the line of Jaeson Schmidt of Lake Street Capital.

[Jaeson Schmidt:]

Just looking at the 3D sensing opportunity, is there a way for you to help us size the total opportunity at Android, how many customers that potentially could be next year. I know you mentioned 2 million units per month, but just trying to get a sense of the total opportunity with the Android OEMs next year?

[Jordan Wu:]

Okay. Again, 2 million is the initial capacity and we are limited by our space. I do want to mention that again. So I think within next year, by the year end, more likely capacity will be somewhere in the range of 5 to 6 and the year after will be much bigger. Now, in terms of potential revenue size, I would just give you the idea. In my prepared remarks, in this time, I tried to make myself more clear about our business model, because I’ve seen a lot of press report and many of them are rather misleading. First, very important one to say is that we Himax, are the total module owner and we are also the integrator and we also happen to design, manufacture a lot of the key components within the modular sales. So that in itself potentially makes our margin better because we don’t have to source everything from outside. And the module integrator and the total module product owner will enable us to enjoy the most revenue. To give you an idea, give and take, we are thinking about $20 per unit. So assuming a initial capacity of just 2 million, as you guys all know, is tiny in the cellphone market. But even making that conservative assumption, you’re talking about $40 million of potential sales per month, i.e., $20 and 2 million, that’s 40 million per month and i.e., $420 million of sales per quarter. That compares to our current quarterly revenue of $200 million. It’s already hugely significant and certainly you will significantly boost up gross margin as well. So the potential revenue and margin implication for Himax is tremendous.

[Jaeson Schmidt:]

And then looking at next year, how should we think about OpEx ramping?

[Jordan Wu:]

The part of the $80 million will actually, in terms of CapEx booking, will be in next year, right. The $80 is primarily about three things. The first thing is our land and build, which is over, which is above $50 million. So it is the part, first phase of investment. And the second thing is for that anchor customer that we mentioned, the capacity addition is in, is this in headquarter building, that already started depreciation already, meaning the CapEx is already booked. And the third part is for our own SLiM module, total solution CapEx, which includes certain WLO capacity and certain actual alignment capacity, okay and I just mentioned. So the three together. The second phase, again, we haven’t finalized the plan, but we are doing the necessary sales and we are getting a lot of inputs from our customers. It looks like the total amount is going to be bigger than $80 million. Now, by how much, I cannot tell for certain yet, but it will be bigger. But what’s very, very important for us to understand is that, as I mentioned earlier, in the $80 million in the Phase 1, actually $50 million goes to land and building, meaning the so called non-revenue generating CapEx, right, assets. But the second phase will be all about equipment, about capacity, certainly with a little bit of spending on SLiM as well. But the land is already there, the building is already there and even assuming we are going to put up another 100 million or 120 million for Phase 2, let’s say, and all of that goes to capacity addition, even with that, our building is still quite empty, still more than half empty, meaning the second building, the building under construction right now can house a lot more capacity and the building is actually occupied only 30 some to 40% of the lads, meaning with the lads, we can even have a bigger and third building. What I’m trying to say is the $80 million in phase 1, actually 50 million of which is actually for phase 2 and phase 3 purposes and i.e., in any future capital expenditure, phase 2 or phase 3 or whatever, the money will go straight to more revenue generating assets. And but even that, I believe we are very optimistic about phase 1, $80 million return.

[Operator:]

Our next question comes from the line of Suji Desilva of Roth Capital.

[Suji Desilva:]

Jordan, you talked about ASP of $20, can you talk about if there is a range for that across customers as we can understand kind of what the low and high end could be around $20?

[Jordan Wu:]

Well, we are really offering just one solution, total solution right now and we are actually giving our customers rather little affordability to manipulate. Why? Not because we feel we are the sole source provider and we have the position to be savvy. It is really because the total solution involves a lot of pairing and mixing and optimization and tradeoff and compromises, among different components of the margin. And that is why integration is so critical. Right. Meaning if you, let’s say for the sake of arguments, right, you are the customer, you ask me, can I, Himax, you provide your on laser driver IC, actually I know of a friend of mine who also provides a laser driver IC, can I and they’re quoting lower price. I’m sorry, I cannot say that, because it is very likely that you are messed about the entire system and even certain critical functions of our entire system may not be achieved. So right now, we are talking to a very small number of customers because we are honestly limited by bandwidth and also the fact is that in China, if you count the first top few makers, they already account for a very big chunk of the market share already. So I think for us being the leader in the market to talking on the leader of the smartphone names, I think it makes sense. And as a result, they all be customers. And we are offering one solution. So, I currently mention there is a big price differentiation among that, I currently mention that.

[Suji Desilva:]

And then I know you can’t tell us the magnitude of the Phase 2 CapEx, but can you tell us the timing of when you’ll know that, how soon that will be?

[Jordan Wu:]

Effectively, we are already placing certain equipment orders already. We just haven’t finalized the plan that it’s mature enough to an absolute market, because that requires a lot of customers’ input. We don’t want to be saying the wrong thing, but it’s actually, in a way, it’s already a work in progress. As far as the timing of the announcement, I will say in between Q1 and Q2 next year, because we currently wait in longer term, because once the customer is sub rent, to me, then clearly, that’s sufficient. And we already get in compliance from our customers that they want more capacity and they’re fighting over our rather limiting capacity. So I think it will be pretty soon.

[Suji Desilva:]

And last question, with your larger customers you’re working on multiple pipeline projects for the WLO and 3D sensing, do you sense in a year or two you will be to diversified from smartphone exposure or it will be still highly concentrated on smartphone, does it go a year or two out?

[Jordan Wu:]

For our own effort, I think smartphone will keep us very busy, keep our hands very tied for this two or three. There, it’s actually a lot of things for you to imagine, right. We are really talking about the very, very early stage only. Now, we are talking about front facing camera, front facing 3D sensing or rear cameras 3D sensing. You’re talking about longer distance range, higher power, higher resolution, probably higher ASP, we actually have a product also already pretty mature for that purpose, but I think us and our customers want to focus on from phasing initially for face recognition, face unlock and epayments, all these most critical features. And certainly a few other interesting applications. But I think in my prepared remarks, I mention one thing which is probably overlooked by most, I said Apple’s iPhone 10 with 3D sensing has paved the way for smartphone to become a major AI device. Right now, smartphone is already AI device, it’s not a good AI device because the, you can’t really scan your environment, your surroundings, you can’t really scan that and mix that with your artificial object value creation, right. So the current for AI is really rather primitive and limited. With 3D sensing capability, meaning you will be able to sense your surroundings on a 3D basis, full color basis even, it’s going to be very interesting and I think this will be a major AI device potentially with tons of apps in the marketplace. And so I will mention you will have a front facing and also a rear facing 3D sensing similar to what you have in your cellphone’s camera. So with that, I think it’s an amazing market. Having said that, we are already approached by people from, let’s say, robotics applications, AI, VI, particular, even automotives, but right now, we have kind of politely declined the invitation and we probably sent it back to discuss their spec requirements, try to understand their requirements more. However, some of our module maker suppliers for our 3D sensing total solutions right now, we are actually encouraging them to go and approach other customers and that may lead to some results, I don’t know. But for Himax own effort, we are going to be very, very busy with smartphones for the next, I would say, at least two to three years.

[Operator:]

Our next question comes from the line of Charlie Chan of Morgan Stanley.

[Charlie Chan:]

So my first question is regarding your industry partition, because you have said you still consider yourself as a sole supplier for next year in 3D sensing total solution, and my first question is that is your partnership with Qualcomm is [indiscernible] meaning can Qualcomm work with other partners in coming years? And also one of your competitor AMS just announced the partnership with [indiscernible] in China, so do you or did you expect competition and what will be your market share are going forward?

[Jordan Wu:]

I certainly cannot disclose the details with of our Qualcomm agreement or arrangement. We know Qualcomm’s prior consent. What I can tell you however is that it is with 100% certainly that they’re not working with anyone else and the effect will be working together for 5 years already. This is a hell of effort. It’s complicated, because as I said, there is no reference and I mean, bear in mind, we didn’t know Apple is going to do iPhone 10 at a time and the two companies know-how very much complement each other and that’s one of the partnership and we are certainly very pleased with the fact that the Qualcomm is our partner because 3D sensing, at least in the beginning stage is going to be for very high end smartphone only and Qualcomm being the dominant player in the AP in that space, certainly that helps tremendously with our effort. And the next thing I want to comment about Qualcomm relationship is that we are already working on next generation project or product with sample actually, very quickly early sample to being come out very quickly. And we are already actually working on third generation. Both generations are major enhancement or improvement of overall performance of our existing products. So even before the Gen 1 goes into mass production; we are already working on Gen 3 already. So this is a very, very tight partnership. And I think it is important to have such tight partnership because again this requires a lot of - among all of those components and all these very complex module competition, lot of optimization and trade-off needs to be considered. And for limitations of Qualcomm algorithm we can use our optics or sensor to make up for the shortfall and vice versa, for our shortfalls, Qualcomm can use their algorithms to make it up for us. So I think having a tight partnership with the know-how of the two companies I think is a very, very good combination and I think is a formula for success in the long term. So we are very happy with the partnership. As far as AMS and Sunny Optics is concerned, I don’t want to comment too much on the potential competition. I don’t want to say, firstly, we are rather committed that we are - as of now we are seasonal competition. And given the complexity of the integration, I think it is fair to say that we are not really seeing much threat at least for the next two to three years. And one thing, I think, I mean, we see in addition to AMS and Sunny, they are some other claiming to have 3D sensing. But they either come from algorithm background, sourcing components, all components from outside or they are pure component manufacturers with algorithm background. And I think either approach doesn’t make it a total solution. When we say total solution, we emphasize that total solution is a turn-key solution and we – not just that we are going to offer face unlock, e-payment with security, very, very strong security measure to protect consumers from privacy, from hacking and so on. So, I think other people may talk about total solution, but I think our definition of total solution is probably different. And also if you look at the immediate future or the current situation, we are seeing so called competitors either they are a lot more costly than us, with lower performance. For example, their size maybe a lot bulkier than ours or their solution may not even function in outdoor environment. So this is not, I think it is fair to say that our solution is the only one that the leading Android names are counting on for next year’s reliable mass production right now.

[Charlie Chan:]

My second question is regarding your opportunity for that anchor customer. You mentioned multi-new projects, right. But before that can you sort of clarify, I think there are some investors including me is a little bit confused about why the way are you doing for the current projects. For example, is that your components in the projector or in the [indiscernible] module and how you define that component? You said that LED diffuser or it’s a collimator or it is DOE. So people are discussing your future opportunity, can we clarify what you are doing for current project first.

[Jordan Wu:]

I’m afraid we are not supposed to discuss any details vis-à-vis any major customer let alone the anchor customer. I think all I can say is that the shipment involves our WLO manufacturing and it shouldn’t be complex. In terms of the function, the optical component provides and also the degree of difficulty involved for manufacturing. So it is for sure, it is not a commodity type of product, otherwise they would have come to us. And I think it is also fair to say that we are so sourced because of the complexity of the thing. But other than that I’m not supposed to comment on the customer’s name or our effective involvement in their project present or future.

[Charlie Chan:]

Is your new project only limited to WLO or are you expecting other components can get involved.

[Jordan Wu:]

Certainly we love to get involved in more and more things, right. But that is up to the customer. They are certain things are in discussion, but I, again, it’s too early to comment.

[Operator:]

Our next question comes from the line of Jerry Su of Credit Suisse.

[Jerry Su:]

My first question is related to the future capacity that you plan to set up. You mentioned that you have 2 million units capacity now at your headquarter, plan to add more throughout at the end of the year to a size of six. But I'm just curious what kind of, I mean, are you going to do everything in-house including the assembly, which is a more labor intensive of the module side, or you're going to only going to focus on more sort of more critical parts, WLO, active alignment or these kind of efforts because I’m just wondering if you're going to do a more of module assembly that cause you to - you need to hire more operators.

[Jordan Wu:]

Thank you Jerry, it's a very good question and thank you for raising this issue up. For Himax to -I'm talking about manufacturing only, right. In terms of design, we are involved in just about everything. I’m talking about pure manufacturing. Himax always want [indiscernible] in whole SLiM module, includes primarily two things, one is, WLO manufacturing for optics, which involves primarily two things, one is, DOE, and the other one is something we call collimator lens, it’s a piece of lens. So WLO facility to manufacture DOE and collimator lens that is the first thing. The second thing is the so called active alignment. What it involves is you need to align our DOE and collimator lens, the optics, very, very precisely with laser. In the process we need to think about a lot of calibration, thermal and all kind of funny issues. So the alignment per se is very critical and that is why we have spend about two years with a leading international equipment vendor to develop our own solution in-house, which we believe is the state-of-the-art right now. So our own CapEx involves WLO capacity for DOE and collimator lens manufacturing and also active alignment. With the amount, if you balance the capacity with the amount, WLO being slightly higher than active alignment. We outsource everything else. So for the components we provide, these are drivers, we are design in-house, we outsource and in a sense we outsource and the ASIC for algorithm, we also outsource to foundries, that’s our business model. Now for the whole module, before I talk about the components that are owned by Himax, ourselves, manufactured by our own or outsourced. And there's a third type within the module which is totally outsourced from other people, they are manufactured or designed by Himax, right. So you have laser, you have the NIR, camera lens, you have IR filter, and finally and very importantly, the module assembly, the screen module assembly. Right now we have two partners doing our module assembly for us; they are manufacturing sites are both located in China for obvious reasons. So you are absolutely right that there is zero point for Himax to be doing that on sales because that involves a lot of labor and it is not really our critical knowhow anyway. So I think to sum up, Himax has always been effective company and we are pleased to be an effective company. And with such CapEx does that make us less [indiscernible] that make us IDM altogether, I disagree with the IDM concept, because I think certainly we are probably a bit less fabless than before given the fact that we do have in-house fabs. However, I think we are still very fabless in nature because if you look at our own CapEx compared to the foundry capacity required to make our ASIC, which is the higher logic process and CMOS image sensor which is also very expensive. And the lens, the filter, the laser and the module assembly, everything we actually outsource, we only provide the design ourselves. So in a way that ensures we keep our design house nature intact and also we can actually make sure we still enjoy good margin being a design house. I hope that answers your question.

[Jerry Su:]

But for $20 ASP assumption you mentioned, does that include this module assembly of the SLiM or some of the components that you totally outsource for other partners?

[Jordan Wu:]

It’s an interesting question, does they include the final module assembly, but that includes two multi-extend. The outsourced components from outside including say laser and other things. Why is module – final module assembly line included because we are - we basically provide our customers with a total turnkey solution, but we only call it a virtual module, why, because you appreciate the – in the iPhone X, people love the so called notch, the upper edge of the screen, right, where they have a whole panel of cameras and little holes inside. And why are they doing that because that is required and I always say that is probably the most expensive three state in the world right now, it’s very crowded and it’s very precious. So our customers do need to best utilize or fully utilize that bit of space. So we will give out definition including for example the distance required in between the sensor and the projector the receiver, right, for example. And the thermal arrangement that we have put up and so on and so forth. So we tell our customers this not to be changed. However, in between you can actually add different things, other things. For example, a RGB camera and some other things, they do have the first billing to add. In order to accommodate that requirement, our module assembly partner do need to have that capability to cope with such demand and as we start started the more, the customers – the end customers wants to add the more, they have to pay, right. So that is not part of our $20 price range. So $20 is limited to our own module only. Our own module put into final assembly.

[Jerry Su:]

And then another question about I think you mentioned that for some - certain customers you could just sell the components instead of the entire module. I think if we look at the end of the market today, you have a couple of big supplier - I mean big smartphone makers in Korea, in China and I don't know - what do you think of the likelihood of these top maybe say Top Five smartphone brands what want to just buy components from Himax instead of using your entire module.

[Jordan Wu:]

I think the - this is how I look at it. There are two types, one, is in-house AP capability and the other type without. And the ones with in-house AP capability are certainly less likely to adopt our total solution as such because with their AP capability chances are they will also want to design their own algorithm and with their algorithm be the total solution spec will get changed or design. But within the tiny group of the ones with in-house AP capability, I think very, very few right now has a real capability to have in-house integration for 3D sensing module. Right now I can tell you that for sure. Apple certainly is one. So effectively, we and Qualcomm together are playing the role played by Apple in sales in terms of integration. And we are providing the total solution to the entire camp, believing that without a total turnkey solution most of the customers simply cannot adopt your solution. Now with in-house AP-capability, I think it's fair to say that maybe the longer term, they will come out with their own solution, but in the immediate future, I think we do have a good opportunity – good chance. Now with those small number of customers, it is a lot likely, a lot more likely that - maybe they wouldn't the algorithm with them and design their own total solution. However, it is still likely that they may buy our total projector sub-module so to speak or even better projectors coupled with sensor and they may have their own algorithm chip or they may – even have their own specification, which may be different from our current solution. But how we are seeing right now is, even with their own in-house algorithm AP capability, there is a very, very good likelihood they will still to need to have our projector and the receiver as a couple as a pair to supply to them, because, again the optimization of the tool is very, very critical. So you want to source one from one party and the other one from the second party, chances are the integration of migration is a headache, is a huge headache. So I think even with that very small number of limited customers, our business opportunity is still pretty good.

[Operator:]

And our next question comes from the line of Kevin Wang of Mizuho.

[Kevin Wang:]

I have only one question, could you [indiscernible] your non-driver ICP revenue by product in Q3 excluding those customers reimbursement. Furthermore, how revenue or percentage on revenue from imaging sensor have you [indiscernible] respectively?

[Jordan Wu:]

You are talking Q3, the past quarter right?

[Kevin Wang:]

Yeah, Q3.

[Jordan Wu:]

The non-drive revenue breakdown, rough breakdown.

[Jackie Chang:]

The rough breakdown. Non-driver in Q3 was about 27.9% of our total revenue, right. Well, WLO is about 6.5% of our total revenue. And the one-time reimbursement is another about 6.7%. And CMOS image sensor is about 3% of our total revenue and 7.2% is timing controller, t-con. And the rest are the NRE, majority of those are NRE. Now we have ongoing developments with major customers on future product device.

[Operator:]

Thank you our next question from the line of Donnie Teng of Nomura.

[Donnie Teng:]

I'm sorry, CFO, could you repeat the WLO sales in third quarter.

[Jackie Chang:]

It’s about 6.5% of our total revenue.

[Donnie Teng:]

6.5% of total revenue. My first question is related to your fourth quarter guidance and potentially the first quarter rough outlook. So, in fourth quarter your driver IC looks like to be relatively flattish. But your competitor guided the small drive IC can grow in fourth quarter. And as we all know China smartphone vendors launching quite a few new products in the fourth quarter. So I'm wondering what’s the reason behind the relatively slow small driver IC sales in fourth quarter and is that related to minor TDDI contribution in fourth quarter? And also how do we think about the driver IC momentum in the first quarter.

[Jordan Wu:]

I think you got the answer right yourself already, it is indeed about TDDI. And having said though, I think overall the smartphone momentum in China I think it is at best flattish. Actually I think it's – it probably suffers a slight decline. I think quite customers - most customers are doing right now is firstly they are - they are trying to cleaning up their old inventories for 16

[Donnie Teng:]

My follow-up question on this is about the non-driver IC guidance in fourth quarter. You mentioned about 20% sales growth for WLO, but as your main customers is ramping the new product aggressively in fourth quarter, so I'm wondering is that growth momentum slower than your expectation before. I mean a 20% growth for WLO. And how should we expect the seasonality in first quarter for driver IC and non-driver IC business.

[Jordan Wu:]

We are actually, I think we did well in our manufacturing and yield and delivery, such that we actually specially asked to slow down our production in Q4. But they want us to make it up in Q1. So total result will be no difference and we are seeing unit growth just about quarter by quarter next year. Although, I cannot give more details beyond that, so I think there's no – again, I mean in that particular space of ours, it maybe small but it’s complex, it’s difficult, it's certainly a rare commodity and we are the sole source. An our manufacturing is going very, very smoothly.

[Donnie Teng:]

How about the first quarter rough idea about the driver IC and non-driver IC seasonality because I probably would expect the driver IC slower in first quarter, but the non-driver IC may increase due to WLO and probably some contribution from Android 3D sensing, is that a good guess?

[Jordan Wu:]

It’s a good guess, except that for - we are going to categorize, TDDI is part of driver IC. So in the smartphone sector, I don't have the number in front of me, but in the smartphone sector as I said, TDDI is going to grow. The Q4 shipment is not significant, but Q1 we are, I mean, a good guess will be somewhere around 10 million-ish with higher ASP sold. So potentially that may be closer area. Although Q1 is a slow season as you know.

[Donnie Teng:]

So my last question is regarding to your business model on 3S sensing module, so you mentioned you have ownership of the 3D sensing module. And you have two partners for module assembly in China. But as far as I know is that you mentioned about you already have plan to buy active alignment equipment. So if we simplify the structure of the 3D sensing say like laser transmitter and the receiver, and then you need to put these two sub-module together. So what exactly Himax is doing, is Himax can assemble the transmitter, but outsource receiver module and the final big module to the partner in China.

[Jordan Wu:]

Yes, you are right. Our active alignment is only used to - for the projector and in transceiver assembly, meaning to align the optics together with data. Now in the camera module assembly and certainly on the wholesale module assembly, our module assembly partners will also need to invest rather heavily actually on their own active alignment equipment, which is different from ours, but they still need to have active alignment for sure, similar to what they have for the high end camera module assembly.

[Operator:]

And that is all the time that we have for questions. I'd like to hand the call back over to management for any closing remarks.

[Jordan Wu:]

As a final note, Jackie Chang, our CFO, she will as usual maintain investor marketing activities and continue to attend investor conferences. So we will announce the details as they come about. So thank you and have a nice day.

[Operator:]

All ladies and gentlemen, thank you for participating in today's conference. That does conclude today’s program, you may all disconnect. Everyone have a great day.