GoPro Inc (GPRO) 2016 Q2 法說會逐字稿

Welcome to the GoPro second-quarter 2016 earnings call.

Today's conference is being recorded.

At this time, I would like to turn the conference over to Mr. Peter Salkowski, head of Investor Relations. Please go ahead, sir.

Thank you. Good afternoon, everyone.

Welcome to GoPro's second-quarter 2016 earnings conference call. With me today are: Nicholas Woodman, GoPro's CEO; Tony Bates, our President; and Brian McGee, our Chief Financial Officer. Before we get started, I'd like to take this opportunity to remind you that our remarks today may include forward-looking statements.

These statements and all other statements made on this call that are not historical facts are not guarantees of future performance and are subject to a number of risks and uncertainties that may cause actual results to differ materially. Additionally, information concerning our risk factors is available in our most recent annual report on Form 10-K for the year ended December 31, 2015, which is on file with the Securities and Exchange Commission and in other reports that we may file from time to time with the SEC.

Any forward-looking statements that we make on this call are based on assumptions as of today. We do not undertake any obligation to update any of the statements as a result of new information or future events. We report net profit and loss and basic and diluted net profit and loss per share in accordance with GAAP and additionally on a non-GAAP basis. We believe that non-GAAP information is useful because it can enhance the understanding of our ongoing economic performance.

We use non-GAAP reporting internally to evaluate and manage our operations. We have chosen to provide this information to enable investors to perform comparisons of operating results in a manner similar to how we analyse our own operating results. A reconciliation of GAAP to non-GAAP financial data can be found in the earnings press release we issued today. All numbers that are disclosed in today's conference call, other than revenue, are non-GAAP unless otherwise noted.

In addition to the earnings press release, we have posted slides containing detailed financial data and metrics for the second quarter of 2015. These slides and the link to the webcast for today's earnings conference call are posted on the Events & Presentations page of the GoPro's Investors Relations website for your reference. In the interest of time, I would like to remind those participating in the Q&A portion of the call to please limit yourself to one question.

Now, I'll turn the call over to GoPro's CEO, Nicholas Woodman. Nick?

Good afternoon. Welcome.

Today, I'm going to review our second quarter performance and why we believe key indicators show that demand for GoPro remains strong and that we're well-positioned for the second half of the year. I will also provide an update on new hardware and software initiatives, all of which are on track for release later this year. In the second quarter, revenue was up 20% sequentially to $221 million. We shipped 759,000 units, an 8% increase quarter-over-quarter. Our average selling price increased 11% sequentially.

Second-quarter revenue was down 47% year-over-year, largely due to continued channel inventory reductions of nearly 35% sequentially. We estimate that sell-through, the best reflection of consumer demand, was down less than 10% year-over-year. Sequentially, sell-through was up approximately 10%. For the second quarter in a row, sell-through was more than 50% higher than selling-in.

We now have a simple product line, a clean retail channel and clear indications of strong consumer demand. We believe all of these factors put GoPro in a very favorable position for launching new products later this year.

Now, I will view our product in hardware, software, and entertainment. Our HERO5 line is on track to launch later this year and delivers far and away the most convenient and connected user experience we have ever created. It does so without sacrificing any of the performance GoPro is renowned for. HERO5 includes several innovative and enabling features that dramatically simplify the experience contributing to what we believe will be the most successful new camera launch in GoPro's history.

Karma, our new drone, is on track to launch later this year. I have been using Karma extensively and it's so much more than a drone. I'm convinced it's versatility and ease of use will dramatically enhance how people capture their lives, be it from the sky or otherwise. I'm proud thanks to the incredible capabilities of our team that GoPro is set to be an innovator in this exciting growth category.

Now, I want to outline the progress we have made in software, building solutions that make it easy for people to manage, edit and share their content. In February, we announced the acquisition of two mobile editing apps. In May, we relaunched both apps as GoPro branded experiences. The first is Quik, an automated editing app that makes it incredibly easy to produce entertaining videos from both GoPro and smartphone footage. The second mobile editing app, Splice, makes producing custom edits easy.

Since rebranding the mobile apps in May, Quik and Splice have doubled their combined monthly active users to 3.7 million and also doubled the amount of shared content each month. When GoPro acquired these apps, we made the strategic decision to continue the app support of content capture from smartphones, making GoPro software solutions relevant to billions of smartphone users worldwide.

Given that these apps have been downloaded roughly 37 million times, it's clear that our overall user base extends far beyond GoPro owners. Clearly there exists an opportunity to engage this larger audience in the greater GoPro ecosystem. In the months ahead, we'll be consolidating our mobile and desktop solution into a clear and convenient cross-platform experience that will allow consumers to access, create, and share, any time, anywhere.

We're also making progress in entertainment. A key initiative revolves around content partnerships. GoPro is partnering with some of the world's most recognized brands to create original episodic content. Ford, Wimbledon and Real Madrid, are just a few of the brands leveraging GoPro, its athletes and global community to engage their own audiences with uniquely compelling stories. You can check out some of this content on GoPro's blog, The Inside Line.

Another entertainment initiative, GoPro Awards, is producing some of the best user generated content we have ever seen. GoPro Awards acts as a magnet for top quality photos and videos, which can generate cash rewards for our customers when licensed or used in our own marketing. We launched GoPro Awards in October. So far, the content has generated more than 21 million views on YouTube. In the second quarter, two Awards topped 1 million views. One of them, on a rocket launched to space, generated over 5 million views. To top it off, two GoPro videos landed in the top five on Google's brand leader board in May.

To summarize, GoPro is extremely well-positioned for the back half of the year. Channel inventories have been dramatically reduced thanks to our streamlined product offering and strong consumer demand. We've enhanced our software offerings with dramatic improvements in mobile editing, leading to millions of downloads and monthly shares. Best of all, HERO5 and Karma will contribute to the largest introduction of new products in our history, all in time for what we think will be GoPro's most exciting fourth quarter ever; a quarter where we expect to return to profitability.

With that, I will hand it off to Tony.

Thanks, Nick.

This afternoon, I will provide some perspective on our retail landscape. Then I'll discuss how GoPro's continued commitment to marketing is strengthening our brand and introducing new users to our ecosystem. By our own estimates, in the domestic market, Session continues to be the number two best-selling camera on a unit basis.

According to NPD, in the US, GoPro's held six of the top 10 products on a unit basis in the digital camera/camcorder category. In the second quarter, HERO4 Silver was the best-selling digital image camera on an unit and dollar basis, a spot it has now held for seven quarters in a row. And an achievement we are all very proud of, HERO4 Silver has now exceeded $1 billion in revenue, making it the best-selling camera in GoPro's history.

In the second quarter, approximately 48% of GoPro's revenue was generated outside of the US. According to GFK, in Europe, GoPro's unit share of the digital imaging category increased 110 basis points year-over-year to 9.4%. Our cameras accounted for four of the top five camcorders in Europe on a unit basis, with HERO4 Silver again holding the number one position and Session again at number two.

We are also making good progress on our plans to expand in Asia. In Japan, where in the second quarter, we expanded our store count by just over 25%. Our unit sell-through is 91% year-over-year. According to GFK, our share of the action camera category in Japan is up 15 percentage points year-over-year to 42%. Congratulations to our team and partners on the ground in Japan.

China continues to be one of our fastest-growing markets. For the first half of the year, sell-through is up an estimated 140% versus the first half of 2015. We continue to grow volume while maintaining price discipline. Our growth in China's powerful online market is particularly strong. In the first half of 2016, our sales volume grew over 150% on both Tmall and JD.com versus the same period a year ago.

In Korea, the number of stores that sell GoPro has expanded by over 65% sequentially to just over 680 stores. In addition, in the second quarter, we announced an exclusive partnership with Reliance Digital, India's largest consumer electronics retailer. This partnership will put GoPro's products on the shelf of up to 1,800 Reliance Digital stores across India.

We expect GoPro's presence in international markets to get a big boost later this year, when we begin offering localized customer experiences in multiple languages including German, French, Portuguese, Japanese, Korean, and Chinese. This includes packaging, camera UI and software apps, as well as marketing materials and Point of Purchase displays. This maps directly to our parallel initiatives, developing localized content for our international websites, social media and in-store merchandising. The goal for our international expansion is as simple as it is ambitious, make GoPro easy and accessible for everyone.

Next, I want to highlight the dramatic growth in GoPro's social footprint. Year-over-year, the total number of GoPro followers on Facebook, Instagram, Twitter and YouTube has grown by 32% to more than 25 million followers. This is a strong indicator of consumer awareness and the overall strength of our brand. It's a momentum we love to see headed into the holiday season.

As Nick outlined, GoPro is preparing to launch the HERO5 and our drone, Karma, later this year. Fundamental to our product strategy is our deep commitment to supporting the launch of these products with our largest marketing campaign to date. At the heart of our strategy is a virtuous cycle, where content posted by GoPro, our 160 sponsored athletes, and our community of millions of users creates awareness of our brand and stimulates demand for our products.

In June, we hosted our fourth GoPro Mountain Games in Vail, attended by more than 67,000 people. The festival included competitive events from mountain biking, rock climbing, whitewater kayaking, slacklining and by far, the biggest crowd pleaser K9 dockdiving. At the games, we coached our athletes on shooting and editing, encouraging them to grow their social profile while driving recognition of GoPro products. This year, our athletes posted more than 1,600 pieces of content and generated more than 3 million views and interactions on social media.

In Europe, we activated that same strategy this summer by fitting each team in Tour de France with GoPros. By the end of the race, close to 1,000 posts related GoPro and Tour de France have generated more than 1.6 million views and interactions.

In May, GoPro and Red Bull announced a multi-year global partnership of content production, distribution and cross promotion. GoPro is now the exclusive provider of point-of-view imaging technology for Red Bull events, which reach 76 countries and generate billions of impressions.

I'll finish by saying that we are exactly where we want to be for the launch of our upcoming new products and are very proud of the planning and discipline that got us here. We simplified our product line, reduced channel inventories and strengthen our presence in international markets. We've assembled a powerful marketing approach, built on an effective strategy, holding our base and reaching out to millions of new consumers. In essence, we believe we are extremely well-positioned for the launch of our new products later this year.

With that, I will hand it over to Brian.

Thank you, Tony. Thanks to all of you for joining us today.

If you have not already done so, I would encourage you to download from the Investor section of our website the financial slides we posted concurrent with our press release earlier today. Our prepared remarks will be focused on a financial overview of Q2, as well as our related business trends. I will then provide that data on our guidance.

Our second-quarter revenue of $220.8 million was up 20% sequentially, driven by an 8% sequential increase in units shipped and an 11% sequential increase in average selling price, or ASP. ASP is defined as total revenue divided by camera units shipped. Q2 revenue was down 47% year-over-year. We shipped 759,000 cameras in the quarter.

As Nick noted, we estimate second-quarter unit sell-through was up approximately 10% sequentially. Additionally for the second quarter in a row, unit sell-through was more than 50% higher than sell-in, resulting in a significant sequential reduction in channel inventory that was just under 35%.

Our inventory declined by $50 million, or 36% to $90 million, our lowest inventory level since the second quarter of 2014. We believe that both our inventory, as well as channel inventory levels are very well-positioned for our upcoming product launches.

Regionally, the Americas accounted for the largest portion of our revenue, making out 56% of Q2 revenue, followed by EMEA at 28% and APAC at 16%. Looking at our channels, direct and distribution revenue made up 58% and 42% of Q2 revenue respectively, compared to 46% and 54% of Q1 revenue respectively.

As noted earlier, ASP per unit shipped increased 11% sequentially. This improvement was due to a higher proportion of $399 and above cameras that collectively made up more than 50% of our unit shift in the quarter. In addition, a higher proportion of units sold went through our direct channel. On a year-over-year basis, our ASPs were up 14%. We did not experience any noticeable pricing pressure in the quarter.

Gross margin for the second quarter was 42.4%, up sequentially from 33% in the first quarter, and down from 46.4% in the second quarter of 2015. As mentioned during last quarter's earnings call, our first-quarter 2016 margin, excluding $8 million in legacy product charges, would have been approximately 36.8%.

Gross margin reflects our shift in sales mix to a good, better, best offering of HERO Session and HERO4 Silver and Black cameras and a higher proportion of direct sales. In addition, we had no further inventory write-offs in the second quarter. Operating expenses of $182.9 million in the second quarter of 2016 were up 42% year-over-year.

R&D was up 55% year-over-year, reflecting our investment in the development of next generation cameras, drones, accessories and software. Second-quarter R&D included approximately $7 million in nonrecurring compensation expenses related to our recent acquisition. Sales and marketing expenses grew 34% year-over-year, reflecting the increase in our expanded branding, product marketing and entertainment initiative.

We recorded an operating loss in the second quarter of approximately $89 million, reflecting a year-over-year decline in units shipped and growth in operating expenses. Loss per share in the second quarter was $0.52, down from earnings per diluted share of $0.35 in the prior-year comparable quarter. GAAP net loss for the second quarter was $91.8 million, or $0.66 per share. This compares with GAAP net income of $35 million, or $0.24 per diluted share for the second quarter of 2015.

Turning to the balance sheet, we ended the quarter with cash, cash equivalents and marketable securities of approximately $279 million, down $110 million, or 28% from the first quarter, including more than $70 million in acquisition-related payments. Accounts receivable at June 30 were $65 million. DSOs came in at 27 days. No borrowings have been made to date under our credit facility.

I will now move on to our guidance. We are maintaining our 2016 revenue guidance range of $1.35 billion to $1.5 billion. We expect revenue to grow consecutively in each of the third and fourth quarters. Our gross margin for the second half of the year is expected to be 40% plus or minus 100 basis points. Our hardware launches this year will be accompanied by ongoing software improvements and developments with our robust desktop and mobile editing tool.

In addition, our marketing efforts are having a positive impact on sell-through and we remain committed to both brand and product marketing going into our new product launches. As a result, we expect total operating expenses to grow modestly on a sequential basis for the third and fourth quarter.

Sales and marketing will continue to be the majority of the growth in operating expenses in the support of our upcoming product launches. We expect the full-year non-GAAP tax rate to be approximately 14%. As Nick mentioned earlier, we expect to return to profitability in the fourth quarter of 2016.

So with that, operator, we are ready to take questions.

(Operator Instructions)

Simona Jankowski, Goldman Sachs.

I guess I just wanted to find out first, if in the third quarter you expect sell-through to exceed sell-in again? Or is it going to be the other way around? Then as I look at your guidance into the second half, it seems to imply that the holiday season this year should be bigger than what you guys had back in 2014, with a very successful HERO4 and that seems to imply that not only will you have a successful product but the market is also still expanding, which I think a lot of investors are unsure about. So, I'd love to get your perspective on that.

Yes, Simona, this is Brian. I will start with the sell-in and sell-through question. We've been -- actually it's new, we have been continuing to report sell-through as well as sell-in. We'll continue to do that prospectively. I think, we're trying to manage both sell-in and sell-through each quarter to be as close as they can be, even with our product launches. So we won't get too far ahead or behind ourselves. We manage both our inventories and the inventories in the channel. So, I think that is our approach to the business moving forward.

As a relates to -- Nick Woodman here -- as it relates to expanding the market and the new products that we have slated for the back half of the year, yes, we are definitely expanding the market by creating better user experiences that make it easier for our customers to capture, create and share engaging personal content. As we have shared HERO5 is going to be the most connected experience that we've ever made, specifically focusing on making it easy for our customers to access their content so they can enjoy it.

Then when they enjoy it, they can then do something with it, edit it using our terrific desktop and mobile editing tools and then more easily share their content. Then we're also expanding GoPro's solutions to include mobile solutions for smartphone users. Importantly, as we noted, we left Quik and Splice, both apps open to be able to support footage captured with a smartphone.

We're seeing the adoption rate of smartphone users that are not GoPro users exceed -- basically smartphone users are exceeding GoPro users in those apps. So you see those apps being very relevant to people that do not yet own a GoPro. That gives us a terrific opportunity to make GoPro's brand of products relevant to the greater smartphone community of users. There obviously exists an opportunity to engage those smartphone users over time to participate in the greater GoPro ecosystem. All of this is coming together fabulously for the fourth quarter.

Simona, I just want to add one other thing. It's also -- your question vis-a-vis 2014, we were also in a very different place in terms of our expansion on a global basis. So, we have to take that into account. Back then, we weren't in China. Back then, we didn't have the type of store counts I talked about in the prepared remarks. Back then, we weren't entering India as well. So, not only, are we doing multiple product lines and we are making it easier, which we think will expand the opportunity, we're also in a different place in terms of our distribution then we were back then.

That is very helpful.

One thing important to add beyond distribution is the fact that we're localized now.

Yes.

In language support, packaging, and content.

That is very hopeful. Just as a follow-up on the margin side. Back then, you guys had margins in the mid to high 40%s versus your expectation of around 40% this time around. Is that a function of that international mix or pricing? Or perhaps the impact of the Karma? I would love to get your thoughts on that.

Simona, this is Brian again. We pushed back into the 40%s. Two quarters ago, we were at 29%, went to 33% and now 42% in the last quarter. We have a lot of mix, right? New products, both HERO5, Karma. We've depleted the distribution channels quite a bit, quite frankly, in international markets and you saw that as we were much more direct in North America this past quarter. So, we'll be filling those channels as well. Just included in that, we also said we would be profitable at the 40% level in the fourth quarter, so moving into making money.

Thank you.

Paul Coster, JPMorgan.

First question is, I guess I'm a little unclear as to whether the 3Q sequential growth is the function of new product shipping or whether it's just simply a sort of seasonal strength. If it is new product, then obviously it must be just a small amount near the end of the quarter. Can you clarify on that? Then I guess the other thing is, you're basically bringing out product that is going to bring a new experience to the consumer. I am just wondering how you are going to articulate that experience both in-store and more broadly, so that people get the fact that something new and different is happened here outside of just the hardware?

Paul, this is Brian. For the third quarter, we didn't divvy it up between Q3 and Q4 because we looked at it as the whole year as we talked about almost six months ago when we were doing guidance. I would expect to have although some channel fill later in Q3 on the new products, as we go to the holiday launch.

As it relates to your question about how we are going to get the word out about our new product and experience that we are creating for our customers, we are going to be expanding upon the more product-centric global marketing campaign that has proved so successful in the first half of the year. Before 2016, GoPro was largely focused on marketing our brand in a very aspirational image-based presentation of the Company.

Then in 2016, we shifted to more product-centric, still leveraging the strength of the brand, to excite and engage consumers. But we've done a much better job of educating consumers on our products, educating them on the simplicity of Session, for example. That has led Session to having a fabulous recovery and is now the number two selling camera in North American and European markets. So congratulations to our marketing team on that turnaround and doing Session justice.

You will see this same type of approach in how we bring our new products to market, whether it is HERO5 line of cameras, whether it is the incredible desktop, mobile and cloud software experiences that we are creating for our customers or Karma and related accessories, they'll all fall into this new marketing approach.

Thank you.

Joseph Wolf, Barclays.

It is Brian Finneran on for Joe. I guess my first question, you were talking about Quik and Splice apps, can you talk about any data you have on conversion of the smartphone users of those apps into GoPro customers? Or if you are tracking that going forward?

That's a really good question. No, we cannot provide any data to that. That is something that we are going to be looking to get a better understanding of moving forward, because this large engaged audience of users that we have now that do not own a GoPro but are actively using these apps to produce content that they capture with their smart phone, this is just an enormous opportunity we believe to grow a relationship with them. As I mentioned, get them to engage in the greater GoPro ecosystem, whether that is other software tools, whether that's, of course, getting them to upgrade to our hardware products as well.

I think, the most important thing for now given that the rebrand was fairly recent on these apps, is just seeing how strong and effective the GoPro brand has been at driving awareness of the apps, driving download and usage rates of the apps. As I mentioned, the apps are being used by far more smartphone only users than GoPro users, which means that we are being successful in extending the brand to a new group of customers that don't yet own a GoPro. That can only be a good thing in terms of growing our global relevance and turning that into business down the road.

Yes. Brian, it's Tony. I'd just add a couple of points to Nick's, I think. The other thing we see that we can share is we're very encouraged with the usage, particularly in the sharing, which points to a very similar like-minded approach that we've seen from GoPro users when they engage with our software. So that means that people not only want to create that content, they want to share it. That plays to the same type of GoPro movement community we have.

One little data point is, in our Splice app, we added an outro that had the GoPro logo on it. When we did that, we wondered whether people would want to associate that content, be it GoPro or non-GoPro content with GoPro. What's been really interesting is to see just how strong those exports have been with that outro. So it means that by definition, people are associating it with GoPro in a broader sense. That does create an opportunity, which is what you are asking about to upsell them [in season].

It's actually, approximately, 70% of the videos shared from the Splice app, have the GoPro, outro slide that's branded GoPro attached to it. But the majority of content being shared from the app is smartphone content.

Non-GoPro, right.

So, the point is, even these smartphone customers are excited to associate their content and themselves with the brand that brought them the app experience. That's very encouraging.

That's really interesting, thanks. Then I guess just one question on Karma. Are there any -- is there any color you can provide us on the economics of it? Is it safe to assume that the margin profile of Karma will be roughly in line with the current GoPro corporate average, if it's going to be in the 40% to 41% range for the second half of the year? Or will volumes just not be high enough to really sway it one way or the other?

Yes. We're not going to get into each of the product profiles from a margin. We look at margin as more of a blended basis for the overall business and operate it that way.

Okay. Thanks.

Charlie Anderson, Dougherty & Company.

I was wondering -- you talked about sell-through was a little bit better than sell-in, obviously. I wonder if you could characterize maybe if the ASPs were similar? What were the dynamics there? Also maybe geographically, how that looked? Maybe the Americas versus EMEA versus APAC? Any color there would be helpful.

Yes. I can comment on the sell-in obviously because that's all ASPs and from a sell-through, it's really reporting on volumes not on the revenue ASP. So that I can't comment on. But the sell-through has been broad. Every region sold through more than we sold in across the board, whether it be US, Europe or Asia.

Yes. Maybe just to add one, you said it was slightly better, it was [50%] higher. So we were very proud of that. Then we're bringing that inventory -- but the second bit, yes, we don't see a big shift. Because I think that's what you're asking, is there a regional specific -- we don't break it down, but just to give you color commentary, it's pretty much consistent across the board. I touched on it even with the point I was making about China where we've maintained price discipline. We are not seeing a dynamic where there's a difference in terms of the ASP across the globe, a very similar mix.

Yes. We obviously saw prices come down on the products that we discontinued. But we've actually been happy to see price stability on our three core products internationally. That is Session, HERO4 Silver and Black. There does not appear to be any significant discounting on those products, which is terrific.

Then a follow-up for me, I imagine with HERO5 and Karma, it's a good opportunity for -- in selling new product to your existing base. Do you have any sense of how active that existing base is? What percentage are still on a weekly basis, on a monthly basis, posting videos online, et cetera?

We do have some insight through the GoPro app. The download rates for that actually exceed unit sales, so we have a lot of people who seem to be downloading that app for maybe the consumptive aspect of it, because you can access the GoPro channel via it. But we do track camera connections and what people are actually, meaning how many times the app connects to the camera and frequency and what people are actually doing with their GoPros. We see that the actual usage rate of the camera itself is encouraging. We're not breaking it out into specifics for you, but we are getting better at getting that data and having better insight into the usage behavior of our customers and it is encouraging.

Great, thanks so much.

Jim Duffy, Stifel.

Nick, it sounds like you're excited about the marketing strategy in support of the holiday launches. Can you maybe share some more specifics on the campaign and the philosophy behind it? Does the campaign represent a comprehensive solution including the supporting apps and Karma? Or will it be more individual product specific?

That's a good question. By the end of the year, GoPro is going to be much more of an ecosystem Company and an end to end solution for our customers. Whereas in previous years, we were primarily focused on enabling the capture of experiences, we're now -- by the holidays, going to be enabling not only the captured experiences but the ability to easily access your footage after the fact.

Then importantly, we're a solutions Company that's bringing you terrific and entertaining ways to edit that footage so that none of the experience of capture accessing and creating footage is a chore. We're making it fun and entertaining. So, from a marketing perspective, we can't just market any one aspect of that, we have to market the whole solution to the consumers so that the lightbulb goes off and they see, oh my, I see now how GoPro has solved the whole story for me. That's a terrific reason to upgrade.

It's Tony, just maybe one thing to add, I think as Nick alluded to, we've already shifted from brand to product. But perhaps the best way to capture where it's headed is to experience base marketing. As Nick mentioned, it's an ecosystem. On that, we recognized it some time ago and we're also hiring folks, who have that type of experience, right? So it's a shift both in terms of, you could call it, campaign but I think ongoing, the way we think about marketing the overall ecosystem of GoPro.

Just a follow-up on that. So, that's a pretty complex message to communicate within traditional marketing vehicles. Can you maybe elaborate a little bit more on some of the strategies or principles that will help you get that message across in a way that the consumer can digest it?

Maybe I can answer this in a different way that will get to maybe what you're after, which is, even if you were just to look at HERO5 alone. What it means and how it compares as an upgrade over HERO4. Our products pale in comparison to HERO5, just at the device level. So, in terms of the risk of not getting it across to consumers why HERO5 is such a terrific upgrade for them, there's very little risk of that. The product on it own does that. The experience thereafter of accessing and then creating content, that's going to be a very nice to have in terms of winning the consumer's understanding of that. But even if we just execute at the product level, we think the HERO5 is going to be hugely successful.

Very helpful, thanks for that perspective.

Sure.

Mike Koban, Raymond James.

Mike Koban on for Tavis McCourt. I just had a couple questions, first of all, the margin guidance for the second half, I was just wondering if you could give us a little color as to -- that seems to decrease. I was wondering if you could give us a little color as to why that might be?

Mike, this is Brian. Overall, actually, if you look even historically -- let me back up, sorry. I think the guidance range is -- we're still in the 40%s. We've got product transitions from old to new. We have mix, as I said before, HERO5, Karma, plus more in international as we've depleted channels. So, I think it's a combination of all those things that puts it into the 40% plus or minus 100 basis point range. Again, I'll point out, we will be profitable in Q4 as well. So it drives the model into that profitability.

Great, thanks. Just kind of a couple strategic level questions. As far as the software enhancements that are coming, I wonder if you could tell us a little bit about how you're trying to change the experience of getting that video off the camera? How you want to simplify that? Then, secondly, as far as the media content, I was wondering if you could give us a little perspective on when you think you might have GoPro branded content beyond the stuff that you're working with today. That's it, thanks.

Sure. I can speak to making it easier for our customers to offload their content, then access it. Something we talk a lot about within the Company is weaving GoPro into our customer's life flow. That really means not asking our customers to do anything outside of what they normally do. That is not asking them to go hunker down in front of their computer for a few hours on a Sunday to offload, manage, and edit their GoPro content, that's just not how people live their lives today. They're much more mobile and on the go and fluid.

So we are very focused on weaving the use of a GoPro, the hardware and then the offloading of your content and the access to that content into that mobile active lifestyle. Because people don't want to have to think about this and plan for it. So what that means is we're focused on how does a GoPro connect to a mobile phone, a smartphone and offload its content to the mobile on the go? How does a GoPro connect to the cloud and offload to a cloud account when you're at home on a high-speed network?

Then how do you access that content on any platform that you may be on, whether is mobile, whether it's your desktop, whether it is via your television, via an over the top service? So we're thinking about all of those aspects, so that a user doesn't need to think about it, because frankly it just works. We think we're doing a terrific job of realizing that later this year. Then I'll let Tony comment on the inside (multiple speakers) --

Yes. Just on your question about the GoPro branded content, I would say a couple of things you already see. You've seen a shift, at least in the way that we approach content and tell the stories. Nick touched on it. We started to do some branded partnerships that are more episodic in nature. We've been known I think as really the Company that brings you the short form, music overlay, inspirational moment. That's still very critical to driving the virtuous cycle that I talked about.

You'll see us do more of that. We will engage with partners to do that and we'll do that ourselves. I think the other one is that we continue to see really good success in our user community bringing us great new content. It's quite something when you step back and say, if you just look at some of our now top videos that people recognize us for, they're actually coming directly from our users in the form of GoPro Awards. So those are a couple of opportunities that will continue to help drive the size of the content funnel.

We'll address this -- perhaps where this question goes, is well, what does that mean in terms of long-term monetization? We are still looking at that but it's still a very small part of the business. But we do still have a small licensing revenue stream that comes off of that content. It typically is someone looking for a unique piece of content perhaps for their brand in terms of advertising, and so on. It's not large but we do have a steady flow there. It's something that we continue to be very interested in.

Yes. As I think we shared on the IPO, our media opportunity really grows when we succeed with our core value proposition for consumers, which is helping them create great content, which we think we are going to be doing a very good job of by the end of the year with our new hardware and software experiences and solutions. That, when our customers are able to more frequently create compelling contents, we can improve the quantity and quality of their content, then our media opportunity grows with that. We said that, first we have to realize this for our customers, then our media opportunity grows from that. I'm excited to say that we are getting close to realizing this for our customers.

Great, thanks guys.

Will Power, Baird.

Just maybe a clarification on channel inventory. Given the stronger sell-through, is channel inventory now in fact where you would like it and more balanced? Or are there still further cuts in existing products you need to make?

Will, this is Brian. No, I think we've done a great job in channel inventory. This is two quarters in a row inventories have come down dramatically, right over 20% in the -- sequential in the first quarter and then another almost 35% in the second quarter. So, I think we're positioned right where we need to be. The existing products you need to sell out in the summer months and then be ready for a heck of a launch in the second half.

Yes. Just an emphatic, we are right where we want to be. We couldn't be more pleased with the work we've done on this. As Brian mentioned, there's been improvements. But we're exactly where we want to be. We're really closely tracking, making sure that we can ramp into our second half plans. But yes, we feel really good about inventory right now.

Yes. I'd just like to add that when we see the sell-through rates that we are seeing and consumer demand for our products, which are over 1.5 years old, it just gets you excited for what customer reaction -- what we believe customer reaction to our new products should be. It is an exciting time.

Well, just speaking of sell-through, I was curious on the comments around Japan, China, a couple of Asia markets you highlighted up front in terms of the significant growth in sell-through. Any more color you can provide in terms of what you view is the key drivers there? Is it increased marketing on your part? Was it added distribution? What are the key drivers that really draw that acceleration there?

The number one driver and I've talked about this before was, we need to invest. We need to put people on the ground, get teams there, get closer to making sure we understood not just expansion or distribution, which we've done a great job on, But also that we are merchandising in the right way, working closely with our partners. As I mentioned, there's been excellent execution.

Beyond that, lots of learnings about basically making sure we do the localization that I touched on. Then we have local content that we put things in, in languages and so on. We got a lot of excitement from our retail partners out there, so not only have we got people close and on the ground and we've made those investments, but we've also got them excited about what coming. So as I mentioned, I think it creates a big potential for us in some of the markets where we weren't playing, but not at the level that we're playing at today.

Yes. Until recently, we were speaking American to the rest of the world. Now, we are speaking to them in their own local tongue. That is resonating fabulously and it's giving the respect to these important markets, that's been long overdue.

Okay. Then my final question is on Karma. I wonder now that we're getting closer to the launch if you can update us as to how you're feeling and thinking about retail space commitments? Is this something that gets marketed alongside existing GoPro products? Do you expect a dedicated space for Karma, as you get put with other drone categories? How is that going to shake out, do you think?

Well, these are great questions but I can't share specifics about our channel marketing strategy for Karma. But what I can say is that we have shared Karma with some of our key retailers. We have shared our other new products with some of our key retailers. The reception has been fantastic. They're as excited, if not more excited about some of our products than we are internally. That's meaningful because these retailers meet with other companies and understand what else is coming out for the holidays, whether it's directly competitive to GoPro or it's just share of wallet for the consumer.

Across the board, whether it's our US customers or our international retail customers, everybody's very excited about what we have on tap. That bodes well for our ability to secure shelf space, where strategically it makes sense for us. Another point to note on is that this year, we are doing a much better job of communicating with our retailers globally to prepare together as a team for new product launches and to maximize the marketing opportunities around those launches.

That's something that we have never really done a terrific job of before, because strategically we held our new products much more closer to the vest and kept it a secret from our retailers, up until just before launch. We realized last year that we needed to be a much better partner with our retailers and get ahead of it earlier, so that we could plan big launches with them. That is something that I'm very proud of that we've changed our approach to channel marketing. We expect it to bear fruit this second half.

Great, thanks. Good luck with the launches.

Thank you.

Brad Erickson, Pacific Crest Securities.

Just a couple follow-ups. First, I guess when you look at entering the drone market here coming up, how do you think about that as an incremental TAM that you are tapping into? Is it roughly the same size as the action camera market? Bigger? Smaller? How do you think about that?

Today, the drone market is a subset of the overall GoPro market, we believe. I mean, if you look at the numbers that are estimated for total unit sales, that becomes clear. But I think that what is exciting is we're -- the drone market is so early days. The leaders in that space currently -- we recognize that we are not the first to market in this category. But importantly, the leading brands there now are not household names. Thankfully GoPro is globally a household name.

That drone category grew somewhat thanks to GoPro, with GoPro being the original enabling camera on drones -- GoPro, many people think we already make drones even though we don't. So, we think that we're very well-positioned to become an innovator and a respective leader in this category with Karma. That's something we are excited about.

We think that it is something that our existing community is very excited about. We believe that GoPro because of our brand, because of our global distribution and frankly, because of the user experience that we are creating and dedicated to, we think that we can help expand the overall drone category just through a terrific ease-of-use and versatility story that the consumers have not yet seen from existing drone suppliers.

Got it, that is great. Then -- while I know you guys can't predict sell-through obviously for the second half the year, in terms of either Q4 or second-half channel fill, can you give us any sense of what you're expectations are for the relative contribution from Karma versus HERO5? Is it fairly equal? More heavily weighted towards cameras? Any color there would be helpful.

Again, we didn't break out the product mix between HERO5 and Karma. Again, when we talk about sell-in and sell-through, I think the philosophy moving forward is keeping it as tight as possible, so the channels don't get imbalance one way or the other.

Yes. Maybe just to add, without going -- you were asking about the mix. I think we look at it as a portfolio. So that's the guide we give you of the overall margin profile. But we will for the same level of rigor vis-a-vis tracking sell-through across the whole portfolio. That's going to be very important that we bring the same level of discipline that we've just done vis-a-vis channel mix when we look at sell-through [both] sell-in for both of these products.

Got it. Then finally, I guess, how long will it take to get the drone out to your full distribution channel? Is that something that will pretty much occur right away or will it sort of ramp up over the first few quarters? Thank you.

It's a good question, but we're just not going to comment on our rollout strategy.

Understood. Thank you, guys.

Thank you.

Ben Bollin, Cleveland Research.

I wanted to start, Brian, when you look at the operating expenses, you mentioned some incentive comp in the quarter and then gradual increase through the year. But there's so many investments being made right now, hardware, the quad, software. Once that starts going to market, do those OpEx figures continue to grow because of future investments? Should they firm? Any thoughts on the structure of the OpEx over time?

Again, as I said, I think, in the second half, we will see sequential growth in OpEx a little bit as we -- from Q2, the majority of that's going to be in sales and marketing though to really drive the product launches for HERO5, Karma and the rest of it. So, you can think about it that way. I do think we are getting near the levels where we are reaching maturity in terms of how we build products and the level of investment that it takes from one to the next in terms of rollout. So, that's how I view it.

Yes. I'd say the same. I think, again, we are reaching a point, as Brian mentioned, that there will be modest sequential increase. Based on what we're thinking about the business today, yes, we're reaching that maturity. But we haven't given any guidance, so just take that as color commentary at this stage.

A follow-up, you talked a little bit about some of the discussions and showing some of the stuff off to partners. When you look at the partner feedback, any sense for how they view products later this year in terms of commitment levels? Do you feel like it's similar to how they've looked at products in prior years? Nick, you sound maybe a little bit more enthusiastic that this year could be better than previous cycles. Any sense currently that you are getting from the partners on how much working capital they would provide to you in front of these launches? Maybe how that compares to some prior launches?

I think the only color that we would be comfortable sharing is that GoPro remains a very important brand to our retail partners and that they remain as committed to us this year as they have in the past. Nothing has changed there.

Thank you.

At this time, there is no further time for questions. I would like to turn the call back over to the CEO, Nick Woodman, for any additional or closing remarks.

All right. Well, thank you, everybody. I will close by saying, we're right where we want to be going into the second half the year. I want to congratulate and thank everyone at GoPro for all of the focus, passion and execution over the last few quarters to get us to where we are. As we have said, we are right where we want to be. We're looking forward to a return to profitability in the fourth quarter and the biggest product launch and we believe the biggest second half of the year in our history. So, I want to thank, again, everybody at GoPro for making this possible and to all of you on the call for tuning in. So thanks, everyone. This is GoPro -- Team GoPro, signing off.

That will conclude today's call. We thank you for your participation.