UniPixel's (UNXL) CEO Jeff Hawthorne on Q3 2016 Results - Earnings Call Transcript

Nov. 10, 2016 10:44 PM ET| About: Uni-Pixel, Inc. (UNXL)

UniPixel, Inc. (NASDAQ:UNXL)

Q3 2016 Earnings Conference Call

November 10, 2016 4:30 PM ET

Executives

Joe Diaz - Investor Relations, Lytham Partners

Jeff Hawthorne - President and Chief Executive Officer

Christine Russell - Chief Financial Officer

Jalil Shaikh - Chief Operating Officer

Analysts

Mark Miller - The Benchmark Company

Robert Stone - Cowen and Company

Jon Hickman - Ladenburg Thalmann Financial Services Inc.

Operator

Good afternoon and welcome to the UniPixel Third Quarter Fiscal Year 2016 Financial Results Conference Call. All participants will be in listen-only mode. [Operator Instructions] After today’s presentation, there will be an opportunity to ask questions. [Operator Instructions] Please note, this event is being recorded.

I would now like to turn the conference over to Joe Diaz of Lytham Partners. Please go ahead.

Joe Diaz

Thank you, Gary, and thank all of you for joining us today to review the financial results of UniPixel Incorporated for the third quarter of 2016, which ended September 30, 2016.

As the conference call operator indicated, my name is Joe Diaz, I’m with Lytham Partners. We are the Investor Relations Consulting Firm for UniPixel. With us on the call representing the company today are Jeff Hawthorne, President and Chief Executive Officer; Christine Russell, Chief Financial Officer; and Jalil Shaikh, Chief Operating Officer.

At the conclusion of today’s prepaid remarks, we will open the call for a question-and-answer session. If anyone participating on today’s call does not have a full text copy of the release, you can retrieve it from the company’s website at unipixel.com.

Before we begin with prepared remarks, we submit for the record the following statement. Statements made by the management team of UniPixel Incorporated during the course of this conference call that are not historical facts are forward-looking statements subject to risks and uncertainties within the provisions of Section 27A of the Securities Act of 1933 as amended, and Section 21E of the Securities Exchange Act of 1934 as amended. These statements are based on management’s current expectations and are subject to uncertainty and changes in circumstances.

Investors are cautioned that forward-looking statements involve risks and uncertainties that could cause actual results to differ materially from the statements made. Such risks, uncertainties and other factors include, but are not necessarily limited to those set forth under Item 1A Risk Factors in the company’s Annual Report on Form 10-K for the year ended December 31, 2015.

UniPixel operates in a highly competitive and changing environment. Thus, new or unforeseen risks may arise. Accordingly, investors should not place reliance on forward-looking statements as a prediction of actual results. The company disclaims any intention to and undertakes no obligation to update or revise any forward-looking statements. Participants on this call are also urged to carefully review and consider the other various disclosures in the company’s Annual Report on Form 10-K, Quarterly Reports on Form 10-Q and current reports on Form 8-K.

With that said, let me turn the call over to Jeff Hawthorne, President and Chief Executive Officer of UniPixel Incorporated. Jeff?

Jeff Hawthorne

Thanks Joe. Good afternoon. Thank you for participating on today’s call. We appreciate your ongoing interest in the company. Financial results for the third quarter of 2016 were as anticipated as the three legacy programs that were part of the April 2015 acquisition are approaching end-of-life status. Offsetting this revenue reduction is the start of production of the new telecom customer tablet awarded to us in early 2016. Christine Russell, our Chief Financial Officer, will review the results of the quarter shortly.

The just completed third quarter represents an important transition point for UniPixel came on board 2.5 years ago, this management team has transformed the company from a developer of technology to an emerging metal mesh touchscreen sensor provider to the leading computer manufacturers worldwide.

Our products enable computer manufacturers to create devices that lighter, thinner, faster and more responsive to touch and active style than any previous generation of products. We operate in a large addressable market that is currently exceeds $1 billion annually. We will grow as new product application such as stylus use, laptop touchscreens and flexible/foldable devices are developed in the coming years.

Since the beginning of 2016 we have been awarded 24 programs. We are now rapidly approaching order fulfillment for a number of the new laptops, tablets and two-in-one devices that were awarded to us in the first half of 2016. As you know, there is typically a 6 month to 9 month period between the program win and initiation of production.

Each customer has a number of production qualification steps that vendors in the supply chain like UniPixel must go through in order for the OEM to launch the particular product. The validation process is well underway on a significant number of our new programs and we expect to commence volume production in the first two quarters of calendar 2017 on a number of these programs.

Throughout 2016, we have been executing on process improvements at our Colorado Springs manufacturing facility to maximize operating efficiencies and to effectively transition to volume production in 2017. We are continuously adjusting the manufacturing process in order to provide our customers with the highest quality products in the most cost-efficient manner.

Since the beginning of calendar 2016, we have achieved material cost reductions of 49% and have improved the overall touch sensor yield by 35%. We have reduced the cost per sensor produced by more than 45% so far in 2016. We are actively pursuing opportunities for additional cost reduction savings.

These improvements along with ongoing initiatives will have a significant impact on margins as revenue ramps in the first half of 2017 and continues in the second half of the year. This is an exciting time in the history of UniPixel as we shift into full-scale production. We look forward to successfully delivering leading-edge technology to our customers for many years to come.

We continue to respond to incoming RFQs and to receive positive indications that metal mesh technology is gaining wider acceptance as it enhances tablets and computer manufacturers to design products that are lighter in weight, with highly responsive touch screens and optimize advance stylus capabilities. We are confident that the market is heading in our direction and we are well-positioned to take full advantage of the opportunity as the market develops.

In addition to the high level of responsiveness that are touch screen sensors offer, another important attribute of UniPixel’s touch sensors that we believe will become increasingly important in the coming years is the ability to flex and bend our sensors to conform to certain curve shapes.

The Indium Tin Oxide technology currently in broad use is not optimal for flexible and foldable applications. We believe that the ability to conform to certain shapes become prominent in broad applications levels including wearables, smart phones and automotive applications among others. This is an important differentiator that could become a greater competitive advantage for UniPixel in the future.

The continuing success of the Microsoft Surface product line is another catalyst that is moving the market towards UniPixel’s technology. Microsoft is driving stylus use very aggressively with their Microsoft Pen technology in their various Surface devices as well as making it available to other leading PC OEMs. Microsoft has also added dramatically enhance stylus capabilities to their recent Windows 10 operating system and to the widely used Microsoft Office suite.

Stylus use will be introduced to an expanded cross-section of users from individual consumers to business and corporate customers. The other major computer manufacturers are looking to stake out a piece of that market for their devices and are now designing stylus capabilities into their next-generation laptops, tablets and two-in-one computers.

We are increasingly well-positioned as a provider of the touch screen technology that will enable OEMs to produce touch and stylus capable products that their end user customers will be demanding. We are gratified that one of the system integrators that we work with submitted a product which included UniPixel touch screen sensors for Windows Pen Digitizer Certification and was granted that certification.

This was the first time that our metal mesh touch screen sensor in a new device was submitted for certification. This is an important development as we expect other system integrators and computer manufacturers to increasingly seek this certification to promote the stylus capabilities designed into their next-generation products. This certification significantly broadens the market for our touch sensors, with PC OEMs that adopt the Microsoft Pen protocol, which may become the standard in the stylus technology.

Since the beginning of 2016 we have been awarded nine consumer programs. The volumes for these consumer programs could range from one to three times larger than the typical commercial programs that we had been awarded during the first two quarters of 2016.

As we continue to demonstrate our ability to deliver on our current multiple program wins, we increased the chances of our technologies being requested for consumer product programs that have the potential for significantly larger volumes.

I was recently in Taiwan meeting with major customers and touch module integrators. These were important meetings as they provided a face-to-face opportunity for customer feedback as well the picture of their respective technology roadmaps.

The result of these discussions increases our confidence that our metal mesh technology will enable these manufacturers and touch integrators to bring to market devices with features sets that their customers are demanding. We believe we are well positioned to grow as touch and stylus capabilities become mainstream features in consumer computing devices.

Looking ahead, continuously enhancing our technology and manufacturing capabilities are top priorities as we work to meet the needs of our customers in 2017 and in the coming years. We’ve maintained a strong focus on continuous improvements to refine our manufacturing processes in order to effectively and efficiently meet the increasing demand that we expect for our parts. Driving sales, expanding the pipeline in 2017 and beyond and efficient manufacturing are the main goals going forward.

With that I’d like to turn the call over to Christine Russell our Chief Financial Officer for a review of the numbers. At the conclusion of Christine’s remarks, we’ll hear from Jalil Shaikh, our Chief Operating Officer, after which we will open the call for your questions Christine.

Christine Russell

Thank you, Jeff. As most of you should have a copy of the financial results, let me focus my comments on a few key areas. Revenue for the third quarter of 2016 was $907,000 down 5% from the prior quarter. As Jeff mentioned, this quarter is a transition period as our legacy products from 2015 move towards their market end-of-life offset by commencing production on our first 2016 design wins for major telecom company. In the second quarter of this year, the legacy products represented the majority of our revenue. In the third quarter, we just reported, that telecom consumer tablet now comprises the majority of our revenue.

As we move into Q4 2016 and into 2017 we expect the other design wins we’ve been awarded since March of this year to produce revenue on an increasing ramp each quarter. We have a cluster of design wins awarded in April, May timeframes and another batch in the August September period. As we’ve discussed, there is a six to nine month lag from win to volume production. So therefore we expect to see revenue start to increase moderately in Q4 for the earliest announced wins with the majority ramping during 2017 and into 2018. We’ll continue to announce design wins as we are notified by our customers.

Cost of sales for the third quarter was $3.2 million, compared to the second quarter of 2016, which was $3.9 million. We continue to make cost improvements and increased production yields.

R&D expense increased substantially in Q3 as we began to deliver initial manufacturing validation sensors for new designs. This includes the cost of masks that imprint the unique design for each customer’s touch sensor. The cost for these masks was approximately $600,000 for the quarter. We expensed these masks rather than capitalizing them as customers periodically redesign their layouts requiring a new mask. We’re also incurring engineering labor and material costs associated with the validation units.

In addition to the cost of providing initial validation units, we stepped up our investment in new technology incorporating DiamondTouch for thinner lighter devices that can support passive or active stylus. R&D was $3.1 million for the third quarter, compared to $1 million for the second quarter.

On an adjusted EBITDA basis with onetime and non-cash cost removed, the company incurred a loss of $5.4 million for the third quarter of 2016, compared to a loss of $4.2 million for the second quarter of 2016. The additional expense in the quarter was primarily due to R&D expense of over $1 million to produce the initial manufacturing validation units for multiple new customer devices. Non-GAAP EBITDA per share loss was $0.12. We’ve included an adjusted EBITDA reconciliation table in the press release issued this afternoon.

Turning to the balance sheet, cash at the end of September was $6.5 million. We used $4.8 million during the third quarter. A major use was $500,000 increase in accounts receivable. This increase was due to payment terms of 60 days negotiated by a new customer. Prior customers have 30-day terms. We’ll use our accounts receivable line of credit in the future to smooth the AR cash use and the balance sheet remains debt-free.

Turning to our capitalization as of September 30, 2016, we had 45 million non-diluted shares outstanding and 58 million fully diluted, which includes common stock, warrants and employee stock options.

When a customer notified us of a design win, the customer also provides an estimate of monthly shipments they expect over the anticipated life of their device. Aggregating the shipment estimates for our 2016 design wins represents a range of $21 million to $24 million of future revenue for the company, it should be noted these are estimates provided by our customers who will issue purchase orders on a monthly basis.

On the Investor Relations front, over the next few months, we’ll be presenting at a number of investment banking conferences. We’ll attend the ROTH Conference in New York during November. In December, we will be at the Benchmark Company Conference in Chicago. In January, we will present at the Needham Capital Conference in New York. And we’ll be hosting customers, partners, and investors, and analysts attending the Consumer Electronics Show in Las Vegas in January. In addition, Jeff and I are committed to meeting new investors on non-deal roadshows to expand our shareholder base.

That concludes my remarks. I’d like to turn the call over to Jalil Shaikh, our Chief Operating Officer. Jalil?

Jalil Shaikh

Thank you, Christine. Jeff has already provided some information regarding the technology, but let me summarize it again here with some additional information. First, let’s look at what is happening in the touch technology market. Number one, Windows 10 continues to proliferate, which expands the touch market. Number two, Microsoft Office continues to exploit stylus for enhanced productivity and capability. Number three, Microsoft continues to bring to market more products like Surface Studio with stylus capability.

UniPixel technology addresses the market as follows: Number one, metal mesh has many times lower resistivity than ITO, which significantly enhances stylus performance and therefore makes UniPixel technology very attractive for OEMs. All metal mesh are not created equal. Our patented circuit design further lowers effective heat resistant seen by driver chip known as touch controller. This low resistance helps further improve stylus performance, enables narrow borders, because we do not need as many connected lines to carry the charging current.

Number three, our patented circuit design also provides a shield against LCD noise especially ultrahigh definition or 4K display technology. The patented DiamondTouch circuit technology also enables very thin glass cover lens, plastic cover lens, or no cover lens at all. DiamondTouch technology designed for laptops not only reduces weight, it also reduces solution cost significantly. A technology like DiamondTouch is difficult for our competition to duplicate due to technical limitations of generic circuits used by them.

Let’s map that to what is happening at UniPixel. 80% of our design activity involves stylus capability, which is the fastest growing segment of touch technology. Number two, more designs are pushing for narrow border for lower rate than it has been viewing experience. Number three, as Jeff has already pointed out, we are very pleased that our first design prevented for Microsoft certification easily passed their test criteria. Bottom line, we believe we’re at the right time, at the right place to fulfill market needs with our patented technology.

Let me turn the call back to Jeff.

Jeff Hawthorne

Thanks, Jalil. Let’s now open the call for your questions. Operator, please open up the call.

Question-and-Answer Session

Operator

We will now begin the question-and-answer session. [Operator Instructions] The first question comes from Mark Miller with Benchmark Company. Please go ahead.

Mark Miller

I’m just wondering if you can kind of discuss factory loading now that you have 24 wins, I believe, you said nine of these were for consumer programs. And is there are sufficient capacity in place to handle these programs? And when you start getting title capacity?

Jeff Hawthorne

Sure, Mark. Well, again as we mentioned what we are seeing as a transition period right now in Q3 were the legacy programs that basically consumed about 15% of factory capacity are starting to reach end of life. So we’re seeing those. Volumes tail off compared to the second quarter. But one of the new design wins for the telecom tablet is starting to ramp. So we did see production start on that in the third quarter.

So realistically, we’re still probably at around 15% to 20% capacity. As as we mentioned in our prepared remarks, the – some some of the design wins that we had at the beginning of 2016, we expect to see those start to go to volume production in the first two quarters of 2017. So we’ll start to see factory loading go up. We are already doing quite a bit of work in the factory to prepare for ramping capacity. We’re adding additional people. We’re bringing some tools that were installed, but not commissioned online. So that’s the activity that’s going on right now. We think that based on the design wins that we have, the 24 design wins that we have been and the revenue outlook that Christine had talked about, we have ample capacity in the factory to address that.

Mark Miller

Okay. You said one of the programs or are this all three of the programs comprise 15% of current capacity?

Jeff Hawthorne

So, now it’s three programs and it’s the one new program that’s ramping that is in volume production now.

Mark Miller

Okay. Could you give a little bit more color about the importance of this for certification you received from the Microsoft Pen program?

Jeff Hawthorne

Yes, what we’re seeing, as Jalil mentioned, Microsoft Windows 10 and particularly, the Microsoft Office Suite is really adding significant capability for stylus support. In addition to that, Microsoft has developed their own active stylus pen protocol. So that’s – and what we’re seeing is that the industry seems to be moving towards – looking to adopt that protocol and use it more widely.

So I think this is extremely important A, number one, get the certification for Windows 10 and the Office Suite to make sure that depend performance works as designed with the application software. So, for example, not only is it, you want to make sure, you have smooth lines riding up to the edge, but something like pen hover [ph] is also important.

So they have a protocol – part of the protocol testing is to be able to hover the pen 5 millimeters above the surface of the device to enable control buttons, for example. So it’s extremely important to have that type of certification. It that makes it easier for the OEMs and the touch module integrators to say, look, we’ve tested this technology. We know it will be certified. It’s – it removes another hurdle in terms of adopting our technology for stylus-based applications.

Mark Miller

Are you in liberty to say in terms your success ratio compared to other metal mesh technologies and the ones you’ve been getting? You’re receiving high degree of success, or is it a dog fight with other people?

Jeff Hawthorne

No, I’d say, well, first of all, I think, one of the dynamics that we’ve seen from this time last year when we were responding to RFQs around this time last year, is a number of the RFQs in 2015 were broadly based. They really were probably never going to go to the metal mesh. They were going to stay with one last solution. So, we were spotted to a large number of RFQs, but the conversion rate was relatively low.

What we’re seeing now particularly with the RFQs that Christine mentioned in the April/May timeframe and then the ones in the August/September timeframe is, they’re really more targeted to metal mesh. And so we are seeing a much higher conversion rate there. We are seeing the OEMs want to have multiple metal mesh suppliers. So we’ve seen pretty good conversion rates.

Mark Miller

Thank you.

Operator

The next question comes from Rob Stone with Cowen and Company. Please go ahead.

Robert Stone

Hi, Jeff and Christine, I wonder if you could say, you’ve got three lengthy programs, I guess, added for end of life, one new one that started to ramp. Can you say how many programs you expect will be in production in the fourth quarter, and now that how many would be new programs?

Jeff Hawthorne

So, Rob, basically we think we’re very close to having an approximately eight programs that are going to be moving towards volume that – the volume ramp will be modest to begin with. And in reality, the ramp will probably be towards a very back-end of the quarter. So we will see some effects from that, but we really expect to see a more significant contribution in Q1 Q2 of 2017?

Robert Stone

But nevertheless, it’s a meaningful milestone to have that many new programs in production, right?

Jeff Hawthorne

It is and it’s something that we’re highly focused on is, we’re really making sure – we want to make sure that these programs are are moving into production and that they will – that’s – it’s setting the table for us to beyond that run rate in 2016 and 2017.

Robert Stone

Okay. And you had mentioned in your prepared remarks, Jeff, that the yield could increase significantly year-to-date. Should that continue as you shift from legacy programs to new products? Can you say approximately what’s your yields are now, or would you expect to see some challenge ramping new programs on a yield basis?

Jeff Hawthorne

Yes, we do. I mean, we do see some challenges ramping new programs. I’d say one of the other important factors has been introducing the Diamond Guard coating on the XTouch sensor. So this program that we just went into volume production within the third quarter is really the first program to have Diamond Guard on the touch sensor. As you would expect the new technology, you’re going to run into some – to some manufacturers issues and some yield impact. But I think we’ve been working through that. I’m pleased with the way yields are coming up.

I’d say, yields are where we like to see our yields on the peak or where we want them to be. I think the challenge with new product introductions is, it creates perhaps more variability on the yield. So that’s what we’re really trying to drive through now is, we know we can attain – we know we can hit high yield, it’s really keeping the variation to a minimum.

Robert Stone

Okay. A couple of questions for Christine, the – you mentioned the R&D expense a lot of this was associated with customer and project specific work, mass, et cetera, associated with the cluster of design wins, is it episodic, how should we think about a run rate for R&D expense in the fourth quarter and going forward?

Christine Russell

Yes, first of all, I think the R&D because of the number of manufacturing validation units that we introduced all at once into R&D was unusually high. For instance, the $600,000 of mass costs will not be repeated every quarter. You’re going to see that number drop by, at least, $200,000 or $300,000 depending on the number of design wins that we receive.

We also had some unusual material expenses, as Jalil mentioned in the development of the diamond touch product, some materials expenses. So really, I think, you could expect to see our R&D number was $3.1 million during the period, maybe seeing it drop down to something more a normalized like about $2.3 million something like that.

Robert Stone

Okay. And I noticed that the run rate of amortization stepped up sequentially, what drove that? And is it the new run rate, or how should we think about amortization going forward?

Christine Russell

You’re talking about the amortization of the IP?

Robert Stone

Amortization that’s called out in your EBITDA reconciliation?

Christine Russell

Okay. So the amortization of the intellectual property license, not depreciation?

Robert Stone

Correct.

Christine Russell

Okay, I’m looking. Yes, okay, I see. We only – we increased it by $200,000 and yes, you can expect that to continue.

Robert Stone

At the current level, okay. And there’s a couple, hopefully, quick and easy ones. One is, how should we think about CapEx for the fourth quarter, and what was your headcount at the end of Q3?

Christine Russell

CapEx is very small. We’re not making any big investments, maybe about $200,000 maximum. And by the way, one thing I’m in discussions with an equipment leasing company, who makes arrangements, whereby we receive the equipment, and they receive the bill, and so we form a lease. And so, like I said, I’m actively in discussions with them about it, and we have around 90 people – 90 employees.

Robert Stone

Thank you. I’ll jump back in the queue.

Christine Russell

Okay. Thank you.

Jeff Hawthorne

Thank you, Rob.

Operator

[Operator Instructions] The next question comes from Jon Hickman with Ladenburg. Please go ahead.

Jon Hickman

Hi, Christine, Jeff. Could you just talk a little bit about your need for cash in the next like six to nine months?

Christine Russell

Sure. So we had $6.5 million cash going out of the quarter and we used $4.8 million operating cash in Q3, but again the expenses were unusually high because of the initiation of the first manufacturing validation units with the $600,000 for all the masks and some additional materials.

So depending on the revenue levels, we expect to use around maybe $4 million to $4.5 million quarter cash for operations. And the other thing I’m thinking about is sources of cash. We have $9.2 million outstanding warrants a $1.50, that potentially represent another $14 million of cash that could come into the company. And with our new accounts receivable financing line, we can borrow against they are. We’re also debt free. So we have the opportunity to take on some sub debt if we so choose and, obviously, we have the ability to raise funds through equity.

So in order of preference, I would prefer to generate cash first of all through the accounts receivable line, the $2.5 million line, we can finance up to 90% of our accounts receivable then through some kind of exercise incentive for warrants perhaps, and then through sub-debt and equipment leasing, and then finally, through equity financing. We’d like to see the stock price increase a little bit before we did the equity financing. But those are the sources of cash that we’re thinking about.

Jon Hickman

Okay, thanks. That’s it from me.

Christine Russell

Okay, thanks.

Jeff Hawthorne

Thank you, Jon.

Operator

This concludes our question-and-answer session. I would like to turn the conference back over to Jeff Hawthorne for any closing remarks.

Jeff Hawthorne

I’d like to thank all of you participating on today’s call. We greatly appreciate your time and your continuing interest in the Uni-Pixel. We look forward to talking with you again at the conclusion of the current quarter, which marks our year-end. Have a great day.

Operator

The conference is now concluded. Thank you for attending today’s presentation. You may now disconnect.