奇景光電 (HIMX) 2017 Q1 法說會逐字稿

Good day, ladies and gentlemen, and welcome to the Himax Technologies First Quarter 2017 Earnings Conference Call.

(Operator Instructions) As a reminder, this conference call is being recorded.

I would now like to turn the conference over to Greg Falesnik, Managing Director of MZ North America.

Sir, you may begin.

Thank you, operator, and welcome, everyone, to Himax's First 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 greg.falesnik@mzgroup.us 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 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 results to differ 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 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 vary 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 Mr. Wu.

Jordan, the floor is yours.

Thank you, Greg.

And thank you, everybody, for being with us for our earnings call, on which we will detail results from the first quarter 2017 as well as provide our second quarter 2017 guidance and outlook.

Our CFO, Jackie Chang, will then give further specifics on our financial performance after my overview.

Our 2017 first quarter revenue, gross margin and GAAP earnings per diluted ADS all met our guidance for the quarter.

For the first quarter, we reported net revenues of $155.2 million with a gross margin of 23.1%.

First quarter GAAP earnings per diluted ADS were a $0.008.

The first quarter revenues of $155.2 million represented a decrease of 23.7% sequentially and 13.9% year-over-year.

I will go through the issues causing the revenue decline below.

Revenue from large panel display drivers was $59.3 million, down 12.4% sequentially and down 9.8% from a year ago.

Large panel driver ICs accounted for 38.2% of our total revenues for the first quarter compared to 33.3% in the fourth quarter of last year and 36.4% a year ago.

The decline was due to fewer working days in China and Taiwan and phaseout of certain customers' old models.

In addition, the scale 5.6 earthquake that struck Tainan in early February also somehow impacted some of our customers' productions and, therefore, our driver IC shipment.

In spite of the lukewarm sales, our engineering collaboration and design-in activities with large panel customers across China, Taiwan and Korea all remain robust.

Such activities will lead to future rebound in sales momentum.

Revenue for small and medium-sized drivers came in at $66.6 million, down 33.2% sequentially and down 16.1% from the same period last year.

Driver ICs for small and medium-sized applications accounted for 42.9% of our total sales for the first quarter as compared to 49.0% in the fourth quarter of 2016 and 44.1% a year ago.

Sales into smartphones declined 37.8% year-over-year and 49.6% sequentially.

The substantial decline in our smartphone driver IC sales was caused mainly by weak sentiment in the China market, which is still loaded with excess inventory built up at the end of last year.

Another negative factor for our small panel driver IC sales is the shrinking addressable market for pure TFT-LCD driver ICs for smartphone caused by increasing in-cell and AMOLED display adoption.

The revenue from automotive applications declined about 9.0% from the last quarter, but was up 12.0% year-over-year.

Our driver ICs used in tablets also declined around 33.0% sequentially and 8.0% year-over-year for weak overall market demand in the product segment.

Revenues from our non-driver businesses were $29.3 million, down 18.8% sequentially and down 16.7% from the same period last year.

Non-driver products accounted for 18.9% of total revenues as compared to 17.7% in the fourth quarter of last year and 19.5% a year ago.

The sequential decline was primarily caused by lower LCOS and WLO shipments as one of our major AR customers decided to discontinue its production as we reported before.

To a much lesser extent, lower sales of touch panel controllers and ASIC chips also contributed to the sequential decline.

This decline was partially offset by the increased sales of CMOS image sensors and NRE income from ASIC projects.

The first quarter operating expenses increased rather significantly which our CFO will report in a minute.

In light of the promising new business opportunities around the corner, we will continue to invest heavily in R&D and customer engineering regardless of the prevailing unfavorable business conditions.

We are aware that this will hit our short-term bottom line, but we believe such investment is extremely important and will bring in very handsome returns in the next few years.

The second quarter operating expenses are budgeted to increase about 7% sequentially and 20% year-over-year.

Of the operating expenses, R&D will see the most significant increase, to be up around 10% sequentially and 28% year-over-year.

WLO is to account for some 50% of the increased R&D expenses.

For the additional WLO capacity prepared for ramping in the second half, which we announced last quarter, there are heavy pre-ramp expenses such as equipment bring up, sampling and other related engineering efforts.

About 30% of the additional R&D expenses will be TDDI-related where the team is expanded in preparation for the expected design-ins with smartphone end customers.

The remaining 20% of the incremental R&D will be expensed for high-end TV and structured light-related R&D.

Our confidence on our strong growth prospect is also evidenced by the unprecedented heavy CapEx plan for 2017, which I will elaborate a bit later.

Jackie Chang, our CFO, will now provide more details on our financial results.

After Jackie's presentation, we will further discuss our 2017 outlook and second quarter guidance.

Jackie?

Thank you, Jordan.

I will now provide additional details for our first quarter financial results.

Our GAAP gross margin for the first quarter was 23.1%, up 400 basis points from 19.1% in the fourth quarter of 2016 and down 310 basis points from 26.2% for the same period last year.

Our GAAP gross margin for the fourth quarter of 2016 was lower due to a one time noncash inventory write-down totaling $12.0 million on top of the $2.7 million originally estimated for the quarter.

Excluding the additional inventory write-down, our gross margin for the first quarter would have been down 190 basis points from 25% in the fourth quarter of 2016.

The sequential and year-over-year decline was due to unfavorable product mix and margin decline in large panel driver ICs and non-driver product segments.

Jordan just talked about our increased expenses earlier.

GAAP operating expenses were $34.3 million in the first quarter of 2017, up 7.1% from the preceding quarter and up 7.3% from a year ago.

The sequential increase was primarily the result of an increase in R&D expenses, while the year-over-year increase was due to higher salary expenses.

GAAP operating margin for the first quarter of 2017 was 1%, down from 8.4% for the same period last year and down from 3.4% in the previous quarter.

The GAAP operating income decreased 77.1% sequentially and 89.6% year-over-year.

The sequential and year-over-year decrease was a result of lower sales, lower gross margin and higher expenses in the quarter.

First quarter non-GAAP operating income, which excludes share-based compensation and acquisition-related charges, was $2.1 million or 1.3% of sales, down from 8.7% for the same period last year and down from 3.6% a quarter ago.

The non-GAAP operating income decreased 71.8% sequentially and 86.8% from the same quarter in 2016.

Again, the sequential and year-over-year decrease was a result of lower sales, lower gross margin and higher expenses in the quarter.

Our GAAP net income for the first quarter was $1.4 million or $0.008 per diluted ADS compared to $4.4 million or $0.026 per diluted ADS in the previous quarter and GAAP net income of $13.1 million or $0.076 per diluted ADS a year ago.

GAAP net income decreased 89.6% year-over-year and 69.3% from the previous quarter.

First quarter non-GAAP net income was $1.7 million or $0.01 per diluted ADS compared to $4.8 million last quarter and $13.5 million the same period last year.

Turning to our balance sheet.

We had $199.5 million of cash, cash equivalents and marketable securities as of the end of March 2017 compared to $168 million at the same time last year and $194.6 million a quarter ago.

On top of the above cash position, restricted cash was $107.4 million at the end of the quarter, down from $138.2 million in the preceding quarter and down from $180.5 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 remain a debt-free company

Our inventories as of March 31, 2017, were $148.3 million, down from $182.8 million a year ago and down from $149.7 million a quarter ago.

Accounts receivable at the end of March 2017 were $167.7 million as compared to $173 million a year ago and $191 million last quarter.

Days sales outstanding was 97 days at the end of March 2017 as compared to 87 days a year ago and 87 days at end of last quarter.

The increase of days sales outstanding was due to higher revenue proportion of driver IC sales for large panel customers who tend to have longer credit terms.

Net cash inflow from operating activities for the first quarter was $5.5 million as compared to an inflow of $21.5 million for the same period last year and an inflow of $47.2 million last quarter.

The decrease in cash inflow was a result of lower profitability and higher working capital.

Capital expenditures were $2 million in the first quarter of 2017 versus $2.2 million a year ago and $2.2 million last quarter.

The capital expenditure in the first quarter consisted mainly of capacity expansion for WLO and LCOS product lines and purchases of R&D-related equipment.

As of March 31, 2017, Himax had 172 million ADS outstanding, unchanged from last quarter.

On a fully diluted basis, the total ADS outstanding are 172.4 million.

I will now turn the floor back to Jordan.

Thank you, Jackie.

The factors causing our slow first quarter will remain in the second quarter.

However, looking ahead into the second half, we believe our overall financial performance will be resilient.

We are positive on our driver IC business outlook because of expected shipment for certain customers' 4K TV models and TDDI products.

Various areas of the non-driver IC businesses are also expected to contribute to the improvement of our overall financials from the second half of the year.

Before we detail the prospect for 2017, we thought it's important to update the status of our CapEx plan and highlight our progress in 3D scanning technology, which is a major reason why we embarked on this rather aggressive CapEx plan.

We believe 3D scanning is one of the most significant new applications for the next generation smartphone.

The view is echoed by many industry researchers.

We are now seeing strong demand for 3D scanning products from multiple top name customers who are either collaborating with us or engaging us for advanced stage discussion thanks to our absolute technology leadership.

Our SLiM product line is the state-of-the-art total solutions for 3D sensing and scanning based on structured light technology.

We offer fully integrated structure light modules with vast majority of the key technologies inside also provided by ourselves.

These technologies include advanced optics utilizing our WLO technology, laser driver IC, high precision active alignment for the assembly of laser projector, high performance near-infrared CMOS image sensor and, last but not least, an algorithm chip for 3D depth map generation.

While we prefer to offer total solution, we can also provide aforementioned individual technologies separately to selected customers so as to accommodate their specific needs.

Of the above technologies, the 2 items requiring CapEx for us are advanced optics built using our in-house WLO production line and active alignment for which we develop a solution jointly with an international world-leading semiconductor equipment house.

The remaining items are all outsourced for manufacturing and, therefore, do not require our own CapEx.

As indicated previously, this year's CapEx will be significantly higher than usual.

In the last earnings call, we reported the urgent addition of new WLO capacity to meet the near-term demands of certain customers.

This new capacity is located in our existing headquarters in which we retrofitted certain space to make room for the new equipment.

We are pleased to report that the project is going smoothly as planned.

Our major ramp of the new WLO capacity is scheduled to start from the third quarter.

Now, moving on to the other major CapEx project of this year, which is the construction of a new building.

Again, the progress is good and the schedule is well under control.

The new building, located nearby our current headquarters, will house additional 8" glass WLO and the next generation 12" wafer LCOS production lines as well as provide the extra office space that is desperately needed.

The new building will be completed and ready for personnel and equipment move-in by early 2018.

To give an update for the CapEx plan, we have budgeted $80 million for 2017 for the new WLO capacity and the new office/fab construction covering equipment, land, building, facilities and clean rooms.

Of the total budget, around $60 million will be paid out during the year with the remaining in the next year.

The CapEx budget for 2017 and the dividend for the year of 2016 will be funded through our internal resources and banking facilities.

With that, I will now provide our second quarter guidance followed by a more detailed outlook.

For the second quarter of 2017, we expect revenue to be down around 5% to flat sequentially.

Gross margin is expected to be around flat sequentially depending on our final product mix.

Operating expenses were increased significantly as mentioned earlier.

GAAP earnings attributable to shareholders are expected to be in the range of negative $0.01 to $0.00 per diluted ADS based on 172.5 million outstanding ADS.

Now, let me provide you with some detail behind our guidance and trends that we see developing in our businesses.

Large panel driver IC revenue for the second quarter will decline around 10% sequentially due to phaseout of certain customers' old models.

Certain earlier misses of customer new design-in projects will affect our Q2 and possibly Q3 business.

Nevertheless, we have secured new design wins, particularly in 4K TV, to resume our large panel driver IC business growth in the fourth quarter.

Looking forward, 4K TV penetration is still on its way up, and Chinese panel customers will keep on ramping new advanced generation fabs over the next few years, including a brand new Gen 8.5 and another Gen 8.6 fab starting the second half of this year.

We remain the market leader in the large panel driver IC business in China and will be a major beneficiary from China's capacity expansion.

The other segment within our driver IC business is ICs used in small and medium-sized panels for applications including smartphones, tablets and automotive.

Second quarter sales for smartphones are likely to experience slight decline on weak China market demand, end customers' continued inventory adjustment and higher TDDI and AMOLED adoption.

Furthermore, the new 18:9 screen design is slowing down the demand for the existing 16:9 models.

We believe our smartphone business will recover sequentially in the third quarter.

Not only do we expect to secure more design wins from 18:9 display, we also expect our customers to replenish inventories after the lackluster first half of the year.

We remain mindful of the trend that higher in-cell panel and TDDI adoption will reduce the addressable market for smartphones using traditional TFT-LCD driver ICs.

We are confident that our TDDI solutions and business will start to contribute in the third quarter.

We will elaborate on this in the non-driver IC business discussion.

On AMOLED display, we have started to deliver product samples to our customers in the second quarter.

Our customer base for AMOLED covers many leading panel makers across China.

We believe AMOLED driver IC will be one of the long-term growth engines for our small panel driver IC business.

Driver ICs used in automotive application has been the best-performing category for us in recent years.

We are seeing solid momentum in the second quarter with revenue to grow around 15% sequentially and over 50% year-over-year.

Being the market share leader with numerous Tier 1 automotive brands as our indirect end customers, we have successfully engaged all key panel manufacturers and module houses worldwide for long-term partnerships and secured many of their key projects pipelined for the next few years.

To address the growing IC demand out of large automotive displays and more displays per vehicle, we continue to develop advanced technologies, including IC solutions for on-cell and in-cell touch screens.

Finally, our driver ICs used in tablets will stay around flat sequentially in the second quarter.

Overall, we expect the small and medium-sized driver IC segment to increase sequentially by around low-single-digit in the second quarter.

For the non-driver IC business segments, we continue to experience near-term headwinds as we mentioned in the previous earnings call and expect mid-single-digit sequential decline in our non-driver revenues for the second quarter.

Sales of CMOS image sensors will deliver double-digit growth in the second quarter, while those of WLO and touch panel controllers will decline sequentially.

I will now highlight some of the non-driver product lines.

First, on the touch panel controller product line.

In spite of new design wins of our discrete touch solutions and volume shipment of several projects featuring our on-cell solutions to Chinese and Korean smartphone brand customers, the touch controller IC revenue will decline in the second quarter due to increasing TDDI adoption.

As mentioned earlier, the 18:9 screen format is increasingly popular among major smartphone players, especially for their mid to high-end models.

Being a front runner of TDDI solutions for 18:9 displays, we will benefit from the new trend.

I mentioned earlier that to address the fast-growing TDDI demand and to catch up with customers' requests for fast product ramp, we have allocated further R&D and customer engineering resources to this important new product area.

With comprehensive joint development engagements covering many leading panel makers, we are confident that we can leverage our longstanding and widespread relationships with panel makers to be a market leader for TDDI.

With regards to WLO, we expect revenue in the second quarter to decline due to discontinuation of shipment to one of our leading AR device customers.

At present, 3D scanning is the top priority of our WLO business.

Our goal is to provide total solutions with the performance, size, power consumption and costs all suitable for smartphone and tablet applications.

Alternatively, for selected customers, we can also provide individual key components upon their requests.

Judging by the ongoing close collaboration and discussion with multiple leading end device makers, we have strong reasons to believe that the 3D scanning solutions will bring us explosive revenue growth when the new feature gets adopted by smartphones.

Apart from smartphone and tablet, we expect the adoption of 3D scanning to widely spread over to various applications such as industrial, IoT, AI, medical, automotive, military, surveillance and drone.

We will expand our technology road map to cover more applications in due course.

Now, on the CMOS image sensor business update.

We continue to make great progress with our 2 machine vision sensor product lines, namely near infrared sensor and Always-on-Sensor.

Our NIR sensor is a critical part in the structured light 3D scanning total solution.

Similar to WLO, we can supply NIR sensor as an individual component for both mobile and non-mobile applications.

Our NIR sensors' overall performance is far ahead of those of our peers.

We currently offer low noise HD and 5.5 megapixel NIR sensors with superior quantum efficiency in NIR band while operating at excellent power consumption.

Our Always-on-Sensor solutions provide super low power computer vision to enable new applications across a very wide variety of industries.

The ultra-low power, always-on vision sensor is a powerful solution capable of detecting, tracking and recognizing its environment in an extremely efficient manner using just a few milliwatts of power.

In April, we announced a strategic investment in Emza, an Israeli software company, dedicated to developing extremely efficient machine vision algorithms.

The investment enables us to provide turnkey solutions to meet customers' increasing appetite for ultra-low power.

With Emza's machine vision algorithms, we can transform AoS sensor from a pure image capturing component to an information analytics device that can be easily integrated into smart home and security applications as well as smartphone, AR/VR, AI and IoT devices.

For the traditional human vision segments, we expect mass production of several earlier design wins for notebooks and increased shipments for multimedia applications such as car recorder, surveillance, drone, home appliances and consumer electronics among others during the second quarter.

I will now turn to the LCOS product line.

LCOS revenue will be flat sequentially and down year-over-year due to discontinuation of shipment to one of our leading AR device customers.

We expect revenue for LCOS to come from a more diversified customer base starting later in 2017.

We are seeing heavyweight companies allocating major R&D resources and budgets in their new push for AR goggle devices.

Having invested in related technology for over 15 years, we believe our LCOS is the technology of choice with little competition.

Our list of customers continue to expand, and it now covers many of the world's biggest tech names.

In addition to AR application, we are pleased to report that we are making great progress in developing high-end head-up-display for automotive applications.

This represents a significant long-term growth opportunity for us.

We will report business development in this territory in due course.

In summary, we are seeing ongoing weakness in the China smartphone market and temporary slowdown of our large-sized driver IC business, which will likely lead to a mild sequential decline in revenue in Q2.

Regardless of the soft market condition, we continue to commit our R&D on strategic growth areas.

Likewise, CapEx will be at an unprecedented high level to capture the tremendous growth opportunities where we have significant leadership.

Last but not least, I would like to emphasize that, as excited as we are on the prospect of non-driver IC products and notwithstanding driver IC's short-term pressure, driver IC has been a core part of our business and will remain so in any foreseeable future.

Our technology strength, total solution capability and long-term customer relationships in driver IC business remain intact.

We are confident that our driver ICs will resume growth starting the fourth quarter.

Thank you for your interest in Himax.

We appreciate your joining today's call.

And we are now ready to take questions.

(Operator Instructions) Our first question comes from Tom Sepenzis with Northland.

I just wanted to touch on TDDI and when you think you're going to start to see meaningful revenue there.

Is that going to start in this quarter?

Or is that a second half of the year type event?

TDDI will start to bring in revenue contribution in Q3, meaning next quarter, but if you talk about more meaningful contribution, I would say probably Q4.

And again, I would like to emphasize, this is our long-term growth engine.

So I think, starting next year, this will be a major contributor to our overall sales.

Great.

And similarly with AMOLED, I think you said that you're starting to sample in the current quarter.

So when would you expect to see AMOLED DDIC revenue?

It would be more of a 2018 to 2019 story, depending very much on our customers' progress.

Now, we've mentioned earlier, our AMOLED customers are now all in China.

And many people are building Gen 6 state-of-the-art AMOLED fabs.

In fact, their AMOLED investment, given a few years' time, will surpass those for the TFT-LCD capacity investment.

So this is how serious and how committed they are.

However, I think AMOLED, after all, is a rather complicated technology.

So I think we are ready and our samples are ready.

Some of our samples are already nicely qualified by our customers, but it really depends very much on our customers ramp up and when we'll be ready to start meaningful mass production.

And I think until it really happens, I think we cannot tell for sure, but we are very committed to supporting our customers to make that happen sooner rather than later.

Great.

And then, given, clearly, the large investments that you're making in the 3D imaging area, can you talk about your degree of confidence in the actual customer wins there and where you expect to see revenue contribution from that area?

Very high.

Is that a good enough answer?

I'm sorry.

I didn't hear you.

I think what's very unique about us is that all these technologies are homegrown.

This is very different against some of our major peers.

So we keep mentioning in our prepared remarks that we prefer to offer a total solution, meaning it's a 3D sensing module, which can be embedded in your cellphone, and with signals talking to AP and thereby creating a 3D depth map for apps.

So that is our preferred approach.

By doing that, one needs to have a projector, which is comprised of a laser beam, which we outsource.

Right now, we are in heavy partnership with, in this 3D sensing area, the biggest player in the world.

And also, we don't rule out partnerships with other people.

There are actually plenty of laser players who all came from the older communication industry background.

So they have plenty of idle capacity sitting there and all are getting excited about the potential for 3D scanning.

So there are actually a lot of people we can work with.

And then, a very key component is the optics, typically in the form of a DOE, a Diffractive Optical Element, and certain lenses.

We are capable of designing the DOE upon customer's request.

Now, there are specific requirements.

There are specific intended target applications and algorithms.

So we can actually tailor-make the design for them.

And we also do our in-house manufacturing, which is one of our major strengths.

We have a lot of past experience using our WLO technology to manufacture things like lenses for our smartphone cameras and AR devices for waveguide and other things.

So we have a lot of mass production experience in WLO already, and I think that is one of the reasons why many 3D scanning customers have come to us for WLO support.

So with the 2 together, you will then need a very high precision alignment.

And for this, we have also developed a homegrown solution together with a leading, international player for semiconductor equipment.

So all that together, you will then have the projector.

Then, you will need to have a receiver in the form of an NIR sensor.

And we have been around in the CMOS image sensor business for a long time.

We announced about a year or 2 ago that we are going to switch our focus from the traditional RGB sensor into machine vision sensor.

At the time, we actually already had 3D scanning in our mind.

So we are far ahead of our peers in this regard.

And now, our products' performance in NIR sensors is far superior compared to the world-leading players in RGB sensors.

So with these 2 items, the uniqueness about the Himax solution is that both are under the same roof and both are homegrown.

And actually, the projector and the receiver need to work together.

And there are actually a lot of trade-offs and compromises, so having the 2 under the same roof places us in a real unique advantage in the long term.

And then, when you have the projector and the receiver, you will need to have an algorithm chip to put all of these together and to generate your 3D image.

And for that, we can provide our in-house algorithm and we can also accommodate specific customer demands.

Some of them may prefer to use their own algorithm.

We are also working with a world-leading AP platform players to collaborate with their algorithm.

So we offer multiple solutions.

So, again, our strength is the total solution.

All come from homegrown technologies.

Now, with very selective customers, I'm talking about customers who are really top tier and who wants to have their own integrated solution, wants to have their own algorithm.

We say, okay, you can pick and choose our individual technologies.

We will also support you, but I would not say we'll offer the same support to any average customers.

Now, regarding the total solution approach, I think our target with a few selected customers is to launch an end product early next year.

With customers requesting our individual technologies, some of them may see our product launch even earlier.

And obviously, I cannot disclose much more than that as it involves customer specifics.

But I think, again, the short answer is that we are very excited, we are very confident and I think we are indeed in a very unique position.

We are indeed on the leading edge.

Our next question comes from Tristan Gerra with R.W. Baird.

First question, could you talk about the ASP changes for your large and also small driver IC panel business sequentially?

Tristan, we're seeing the large driver IC ASP decreasing about 2.3% quarter-over-quarter and about double-digit year-over-year.

And for small and medium, we're looking at about a 5% price decrease quarter-over-quarter and about 2.5% year-over-year, but we've recently seen that stabilize because the driver IC is moving to higher resolution.

Great.

That's useful.

And then, how many customers do you think you're going to ship your TDDI solution to this year?

And what type of revenue should we expect from TDDI in the second half of this year?

I think it will be multiple customers.

There are multiple design wins.

However, how many of them will actually take their product in the market within this year, I cannot tell for certain.

Maybe as we get into next quarter, we will be able to offer more clarity.

And I think total revenue, maybe $20 million for us, although, again, this is going to be an early stage ramp for us so the degree of uncertainty is slightly higher, maybe much better than this and maybe we'll miss this slightly.

We'll see.

Okay.

And then, on the 3D sensing solution where you're making large investments, it sounds like you have good potential for customer diversification next year.

Are there any other solutions out there that are not vertically integrated?

Meaning that any smartphone in China, smartphone OEM that wants to use 3D sensing, where else can they go except using a Himax solution, given that some of the Tier 1 OEMs in smartphones have their own solution?

I just wanted to kind of get a sense of the competitive landscape from an IT standpoint in 3D sensing.

I will be reluctant to comment specifically on our potential customers, although we feel very confident we enjoy a very good leadership position right now.

However, what I can comment on is the type of technology that, in theory, can provide 3D sensing.

Our focus technology is something called structured light.

And there's a second type of technology called ToF or Time-of-Flight.

And then, there's the third type called stereoscopic, basically using dual camera.

I think the industry is quickly getting a consensus that structured light is going to win.

It's going to be the eventual winner from the overall perspective of performance, cost, power consumption and size.

Now if I compare structured light with ToF, now, all these technologies are not new.

They are actually already applied, but they are applied for industrial applications.

Our major contribution is to transform such technology into a solution suitable for smartphones, and I don't need to tell you that smartphones are the biggest market ever.

So this is the Holy Grail, right.

So none of them actually have fundamental patterns, because they have already been in existence for quite a while, but they have been applied in industrial applications.

Now in comparison to ToF, structured light offers a much higher resolution with the potential for even higher resolution, meaning, we can offer a resolution road map similar to what you have seen over the last few years with your cameras, CMOS imaging sensor, starting from VGA, 3 megapixels, 5 megapixels.

Now we are talking about 13, even 20 megapixels.

People are hungry for resolution once they have something, and we believe 3D sensing will be the same.

Now with ToF, it's limited by its pixel size.

ToF pixel size is large, and in terms of physics, it's very, very difficult to shrink.

So structured light offers much better resolution today and much better a resolution road map.

I think that this is the major advantage.

Now with stereoscopic, the major problem is that it cannot really operate properly without proper visible light, meaning, when you don't have visible light or you have very low light, then you probably need additional illumination to make it happen.

But that creates additional cost, because you're already talking about 2 very expensive sensors, and now you have additional illumination and that makes the whole thing rather costly.

Also, regarding calibration and assembly, trying to have high precision alignment of the 2 sensors is very tricky.

So I think for this reason most people believe, structured light will be the ultimate winner.

And that is why most people have come to us, and they are already betting on structured light technology on day 1.

Our next question comes from Jaeson Schmidt of Lake Street Capital.

I just wanted to start on operating expenses.

I know they're going to be up significantly in Q2, but how should we think about OpEx ramping in the second half of this year?

I think, again, we mentioned in our prepared remarks, if you only look at the increase of R&D expenses, the incremental spend of about half in the second quarter, actually comes from WLO.

Now this is hopefully a one-off item, and it's not going to continue into the second half or the future.

Because remember, I mentioned actually starting from last quarter and repeated that in this quarter, we are trying to meet an urgent short-term, major demand for capacity from a certain customer for our WLO capacity.

And for that reason, we cannot even wait for the new building to complete.

We have to retrofit our existing headquarters to make room for the equipment.

Now everything has been a rush, so in Q1, and very much in Q2, particularly in Q2, that additional capacity incurred lots of expenses for us before we started to ramp, meaning, we started to get revenue from our customers.

So that includes installation of equipment and bringing it online.

We had to do a lot of experiments to improve our processes, to improve the product design, and a lot of customer support activities as well.

I mean, we even have to increase our MIS people, because we need to write software to control the automation of the equipment, et cetera, et cetera.

So once we start to move into mass production, hopefully, a lot of the pre-ramp activities will diminish.

I will not say it will go down to 0, but it will be much less.

While in the meantime, our mass production will bring in revenue as opposed to Q2, where in there is literally no revenue.

So that is a major hit.

I'm not saying WLO in the future would decrease our R&D efforts, actually, on the contrary, I think we are committed to be in the leading edge.

So our total solution spend for 3D scanning, et cetera, I don't want to repeat that again, but that one-time, rather expensive pre-ramp expense during Q2 will be gone.

Then we also talk about 30% going into TDDI.

That is in preparation for our end customers' designs for a TDDI solution.

For TDDI, we have 2 layers of customers, direct customers being the panel makers, and indirect customers being the smartphone makers.

TO support our customers, we at times have to send a sizable team to support the fine tuning of their touch features with their smartphones.

So this is a new business to us.

So over the last, almost 1 year, also, we have been increasing our team size, not just on R&D, but our whole ecosystem of engineers, and a lot of customer support.

So for that, about 30% and 20% goes to our timing controller for high-end TVs, structured light algorithms, developing new chipsets, and so on.

So about half of such increased R&D expenses are here to stay for the long term, but another half, during second half, is a one-off temporary thing.

Although I emphasized WLO, I think our R&D spending will likely continue to rise, not directly from the Q2 level, but when compared to historical levels.

Okay.

And then just last one for me.

I know you talked a lot about the 3D scanning opportunity.

I know it remains early, but can you help us understand kind of the size of the customer engagement pipeline at this point?

It involves quite a few top names.

But we have limited bandwidth, so we cannot cover everybody who has come to us, but it covers quite a few top names.

And our goal for this year, up to about first quarter or first half of next year, is to lock down such top-tier customers.

Some of them again request our total solution and some of them only needs individual technologies.

But regardless, we are now dealing with almost exclusively top names, so we do have quite a few of them.

And our goal is to lock down such customers and really support them and fine tune ourselves, get ourselves ready for the first phase of ramp.

And if we can achieve that, then I think going forward, the future will look very, very interesting for us, because the top tier, hopefully, will continue to be our customer for the next generation, and second-tier customers will come to us because of our experience.

So I think this is no time to rest, and that is why we have to continue to commit our R&D expenses at this very critical moment.

(Operator Instructions) Our next question comes from Charlie Chan with Morgan Stanley.

So for the 3D sensing, do you expect any revenue contribution in third quarter?

Because it seems like you ramped up the capacity in 3Q.

I'm not sure if they can meet the key smartphone product launching in this fall.

Can't comment on that.

If I do, it'll be too customer-specific, so can't comment on that.

Okay.

But within your non-driver IC business outlook in second half, which product line that you think has biggest upside?

You mentioned several product line like 3D sensing, touch controller, CIS, LCOS, right.

Which provide the best of momentum in the second half?

We believe CMOS image sensor looks very encouraging at the moment.

We expect to grow double-digits in the second quarter, while others may stay flat because there are many product areas where the customer is going through the redesign of a product.

Okay.

Okay, I see.

So again, for the structured light DOE components, over the past quarter, do you see...

I sorry, it's WLO.

Okay, WLO.

Your question was about the growth areas for second half and Jackie said it was CIS.

And certainly also WLO out of our new capital investment, which we mentioned, will start to bring revenue and profit contributions in second half, so that is WLO also.

Okay.

Okay.

And my next question is regarding your recent announced acquisition with merging of machine algorithm.

So when will you incorporate that technologies to your algorithm chip?

As far as we can tell, right now, but this is so new, our view may change.

But as far as we can tell, right now, our early target market will be stuff like home security or industrial/commercial surveillance, and similar applications.

We just announced the investment, which in our announcement states we will hopefully within a years' time have completed the full acquisition integration.

So we are started to operate as if this is one team rather than 2, but it's going to take some time for the integration of the 2 teams and also for the creation of our joint offering, but we have done some roadshows and we have attended some trade shows.

The approach and the technology potential we are offering, the response from customers, primarily in, again, IoT, home security and surveillance type of applications have been overwhelming.

I will have to give you a better update later, because this is really early stage.

We only made the announcement about a month or 2 ago.

So we are going through a lot of team, product and technology integrations.

But in the meantime, we are talking to customers.

We are trying to decide which horses to bet on first.

But I'm sure we'll be able to report more clarity and better progress update in due course.

Sure, sure.

That's fair enough.

So lastly, Jackie, if we may, can we get your full year financial projection on top line gross margin?

Do you have a full year financial projection that you can share with us?

We don't actually provide annual projections, Charlie.

I think, specifically, we have emphasized a couple of product area that we will see growth in the second half of the year, and specifically, the fourth quarter.

Certainly, second half will be better than the first half.

Yes, so let's keep it that way.

Our new the degree of uncertainty is higher, but bear in mind, this is a year of investment for quite a few things, which I believe will bring in explosive growth in the future.

Our next question comes from Donnie Teng with Nomura.

My first question is regarding to the CapEx.

So the CapEx this time in your announcement is that you are going to spend $80 million.

But I remember during the last earnings call, you mentioned that if including IC design business, the overall CapEx this year could be $80 million to $89 million.

So I'm wondering why there is differences between this time and last time?

Actually, $80 million is on top of our ongoing CapEx.

And on an average year, our CapEx is $10-plus million only.

So if you add that up, I think it's consistent with our previous announcement.

Okay, got it.

Great.

And my second question is regarding to the DOE project, because in early days there are rumors that you are facing some competition.

So there is some ASP pressure.

But as you mentioned that your product is quite unique, so may I say if there's really any ASP pressure that could be due to your inexperience through engaging with customer or maybe it is a very new product, so the price may be adjusted from time to time?

I really can't comment on rumors.

If anything, I will say right now.

I will not call it DOE, because I would talk about WLO, which again, involves new addition of capacity.

And we have said it will bring up our revenue and profit contribution in the second half.

But WLO can make things in addition to DOE, not just DOE.

And right now, I mean, our discussion with our customers are, I would say, 99% on technology, how to bring this up rather than price.

So I mean, I don't know where the rumor comes from, and I can't comment on that piece of rumor.

But on the other hand, I would say, you're absolutely right in saying that it's early stage.

People should be focusing on technology rather than cost, and that is indeed true.

Got it.

And my last follow-up question is, how do you think about your yield rate of the WLO project right now?

And will we still see this project to have higher than corporate average gross margin?

Gross margin, definitely, yes.

Yield rate is confidential I cannot comment.

But I would say, this is our strength because of the past experience.

We have worked with quite a few top-tier, extremely demanding customers.

With some of them, we actually worked together.

We learned a few tricks from them as well, how to put the yield together, how to get the product manufacturing right, how to get the costs right.

So I would say actually many people came to us because of exactly this experience.

As far as our yield specifically, I really can't comment.

It's highly confidential for us.

Got it.

But I guess probably it is on schedule or it improves well?

Can I say that?

Definitely.

Yes.

Our next question comes from Jerry Su with Credit Suisse.

My first question is still on the WLO.

I think you mentioned that you're targeting to ramp up the mass production from the third quarter.

Just wondering if you can give us a little bit more detail about equipment installation and also qualification?

What gives you the confidence that you can now ramp up from third quarter?

Certainly, I mean there are customer demands, that's why we have to rush in this CapEx and equipment ramp up.

So they are real customers, and they are real requests, and they are real timetables.

And I can only say that everything so far is going smoothly, and it's very much in line with our target timetable and our customer's target timetable.

But this is so customer-specific; I really can't comment on that.

Once we pass the quarter, we'll report the financial results, but at this stage, I really can't say much beyond this.

But it's all been planned, and we are going smoothly, the timetable, the target.

That's all I can say.

Okay, but what will be the risk for this business not to ramp up in the third quarter?

the risk is for whatever reasons, we cannot or our customer cannot take it to mass production.

I can't see any right now.

But risk is not taking off, as we are focusing on ramping up right now.

Okay.

The next question on the driver IC side.

I think you have mentioned that if you look at your Q1 and also Q2 guidance, driver IC business seems to be doing a little bit weaker than the industrial peers.

But you have mentioned that you probably can have more recovery from the second half of 2017 and 2018.

So could you share a little bit about what gives you the confidence that the driver IC business will recover in the next second half of 2017 and also in 2018?

I think starting from the easier part, the automotive sector, I think we remain strong even in Q1 and Q2.

So it will continue to be strong.

So there's not much to talk about there.

In the large panel, we've mentioned our business in Q2 for large panel and even potentially in Q3 will be affected by certain design misses with our customer.

And we admit that because misses are misses, and that involve certain engineering hiccup, I would say.

I cannot elaborate much more than that.

But I think the problem has been solved, root cause has been found.

And the most important thing is our new designs have won us quite a few major wins right now or over the last month or 2, which we'll see mass production starting from Q4.

So I think we have, in our prepared remarks, mentioned that Q3 for large panel is likely to remain weak because again of such misses in design-ins in the past.

But I think if you look slightly longer in time horizon, China is still expanding its capacity, like big time, right.

I just did my math, up to 2019, there'll be a total of 10 new fabs, including 2 within this year to be brought up in China mostly by Chinese companies, but some by non-Chinese companies.

Out of the 10, about, I think 6 are Gen 8.5 or 8.6 and another 4 are even bigger fabs: 10, 10.5 or 11.

So the capacity is still increasing.

And I think the market will absorb the additional capacity because people would appreciate having a bigger screen TV.

And starting I think as early as Tokyo Olympics, 8K TVs are likely to start to take off, I think it will be another catalyst for high-end TV demand.

So our relationships with the customers, our technology, I think our position remains intact.

Even right now, I think our market share is still somewhere around 20%-ish.

So it's not like we are disappearing from the competitive landscape.

We remain very strong, but just unfortunately these 2 quarters, we are probably not doing as well as we should.

On the Chinese expansion, I think we will be the major beneficiary, because even now we remain #1 or at least top 2 market share leader in China.

In smartphone, I think our current business, short-term business, is affected.

We talk about China's inventory adjustment, the market being very slow, et cetera.

I think you guys know about this very well.

I think also very unique to our business is that AMOLED penetration.

AMOLED, as we know, is supplied just about exclusively by Samsung, and Samsung is using their in-house driver IC.

So AMOLED is now accounting for almost some 20% of the total smartphone market.

And if you add TDDI, admittedly we are still playing catch-up, but we mentioned we start to ramp in Q3 and more meaningful contributions starting from Q4, and hopefully, rather significant next year.

But right now, we are very little.

But TDDI accounts for another, almost 15%-ish.

15%-ish is probably a conservative estimate.

So you put the 2 together, it's more than 1/3 of the addressable market for us being gone.

So if you take that factor into consideration, then you take into account the fact that the whole market is slow.

I mean that kind of explains our less-than-satisfactory smartphone performance right now.

I think the bottom line is, we have to get into TDDI and thereafter AMOLED soon, and we are very confident that we will.

We have provided good samples.

Our samples are being qualified or have been qualified, and we are already engaging end user customers and so on.

So we believe we will, in the long term, in the near term in fact, become one of the market leaders.

But certainly, that is the single most important thing we need to focus on for smartphone driver ICs right now, and we are very focused on this.

I'm showing no further questions at this time.

I'd like to turn the call back over to Jordan Wu for closing remarks.

As a final note, Jackie Chang, our CFO, will maintain investor marketing activities and attend future investor conferences.

So we will announce the details as they come about.

So please contact our IR department and/or Greg Falesnik if you are interested in speaking with the management.

Thank you, and have a nice day.

Ladies and gentlemen, this concludes today's conference.

Thank you for your participation.

Have a wonderful day.