Immersion Corp (IMMR) 2004 Q2 法說會逐字稿

Good afternoon. At this time I would like to welcome everyone to the Immersion second quarter investor conference call. All lines have been place on mute to prevent any background noise. After the speakers' remarks there will be a question and answer period. [Caller Instructions] Thank you, Mr. Viegas, you may begin your conference.

Thank you. Good afternoon, ladies and gentlemen. I am pleased to welcome to you this discussion of Immersion's results for second quarter of 2004. Joining me on today's call is Immersion's Vice President and Corporate Controller, Mary Beth Faust, who will take you through our financials. By now, you should have seen this quarter's earnings release that was distributed following the close of market today. If you have not, it is available on our website at www.immersion.com. A replay of today's call may be accessed until July 30, 2004 by dialing 800-642-1687 and entering reservation number 4572185. A replay of this call will also be archived and available on our website for one year. During the course of our comments today, we will be making forward-looking statements. Our actual results could differ materially from these current expectations. Factors that could cause actual results or developments to differ include risk factors listed in today's news release, in the Company's SEC filings, and in our annual report to shareholders; as well as those factors mentioned during our discussions today.

First, I would like to summarize four major highlights of the second quarter that we will be discussing further in this call. First, overall, Immersion's revenue growth in the second quarter was 33% year-over-year. Second, new third-party studies on medical simulators were published that hospitals and training institutions can use to justify the purchase of our medical simulators. Briefly, a new return on investment study published by Frost & Sullivan concluded that Immersion medical training simulators can pay for themselves in less than six months. And six newly published clinical studies show Immersion medical simulators to be effective from a clinical teaching perspective. Third point, in the Mobility area, we continue to make progress. We now have non-disclosure agreements and are in discussions with five of the top ten handset manufacturers and seven of the top 20 carriers worldwide. We are more encouraged than ever about the cell phone market opportunities. And number four, even with market sales of PC and console gaming peripherals substantially down, our gaming revenue increased 65% year-over-year.

Before turning the call over to Mary Beth for a detailed review of our financials, I will discuss high-level financial results, the status of our litigation with Sony, and give you an update on each of our four businesses. Beginning with our financial performance, the second quarter revenue of $5.5 million represents a 33% year-over-year revenue growth. Not only were revenues significantly higher than the second quarter of 2003, they were higher across each of our businesses for the second consecutive quarter. We expect continued revenue growth from all of our businesses for the full-year 2004 and, therefore, expect 2004 revenues will be higher than the $20 million recorded in 2003. A look at our balance sheet shows that we finished the second quarter with $18.2 million in cash. As we discussed in the last conference call, we extended an existing prepayment arrangement with a licensee in April, whereby we received an additional $5 million in cash in return for a discount on the future royalties due from this licensee pursuant to our existing license agreement.

We announced in May, that the U.S. district court for the northern district of California rescheduled the trial date with Sony Entertainment to August 16, 2004 due to conflicts on the court's calendar. We managed the litigation expenses after the trial date was moved, spending $2 million in the second quarter as compared to $3.2 million in the first quarter of this year. Although the costs associated with this litigation continue to burden our bottom-line performance, we will continue to invest in the protection and defense of our intellectual property. We remain encouraged by the merits of our case. I'd now like to give you an update on our four businesses.

Overall, revenue for the Medical business was $2.4 million, which is a 27% increase over second quarter last year. After partnering with leading companies such as Medtronic and GYNECARE on development contracts over the past several years, we are selling simulators for endovascular interventions and hysteroscopy procedures in addition to endoscopy and vascular access simulators. The use of minimally invasive procedures continues to grow due to their many medical and cost benefits. Our simulators are increasingly in demand to train medical practitioners to perform these procedures. Often, new technology is seen as contributing to spiraling health-care costs, but advanced medical training simulators can actually save hospitals money. In early July, Immersion announced the results of a new Frost & Sullivan study we sponsored to determine the potential return on investment, or ROI, for hospitals or teaching institutions using our medical simulators. Using median data from 200 U.S. hospitals, universities, and community colleges, the Frost & Sullivan study concluded that Immersion medical simulators can pay for themselves in less than six months, compared to the hospital's target of one to six years for most medical capital equipment.

The study also produced an interactive calculation model that enables a hospital to determine ROI for its own situation. The study found that the factors contributing to ROI include: reduced operating room time, instructor time, training expenses, procedural errors, and equipment repair and spoilage. Hospitals can also benefit from residents reaching competency faster and from selling practice time on the simulators for continuing education of practicing physicians. Users of Immersion medical simulators reported that they value their systems touchsense haptics technology for teaching the "feel of procedures" and believe it contributes directly to a reduction in costs.

The study also identified nonfinancial benefits, including improved trainee satisfaction and better patient outcomes; 94% of survey respondents reported that nurses, residents, and other trainees would prefer to train on medical simulators before attending to live patients; 75% of hospitals using Immersion simulators believe they are an effective tool for recruiting top talent to their residency programs. Better patient outcomes identified in the study include: less time under anesthesia, leading to a better chance of reduced recovery time, fewer complications which reduced patient pain and discomfort, less need for medication, and a lower risk of emergency surgery and infection. In addition, there is less chance of a patient losing the benefit of a procedure because it is cancelled due to clinician's inability to complete it. We will use the study's ROI model in our sales and marketing efforts to help potential customers estimate the economic benefit of using our medical simulators in their training programs. However, to justify capital equipment purchase, a hospital or training institution needs both a clinical and a cost benefit justification.

Independent medical validation studies are used to determine the effectiveness of the simulators for clinical training. During the first half of this year, six clinical studies on the use of Immersion's colonoscopy training simulator were published, all with positive results. Two studies were performed by doctors at the Mayo Clinic in Rochester, Minnesota and published in leading gastroenterological journals. The other four studies presented at the digestive disease weekly conference in May, including a Philadelphia gastrointestinal training group study and three separate hospitals from Saint Mary's Hospital in London. Beside clinical effectiveness, one of the findings showed a 100% increase in procedures that attending doctors could perform when their residents trained independently on simulators. We plan to continue working with medical institutions on clinical studies of other Immersion simulators such as our Endovascular simulator.

In the second quarter, we began to expand our medical sales channel through the use of manufacturer's reps to increase coverage of the market in a cost-effective way. We have signed contracts with several medical rep firms in the United States who sell durable medical equipment or high-end research capital equipment, and we plan to add more. Hiring representatives on commission to augment our own sales force allows us to increase penetration in the market, with a variable cost of sales model.

Turning to our Mobility business, we have made progress in the process of bringing our haptic technology to the mobile phone market. This effort requires building relationships in virtually every part of this global industry with handset manufacturers, operators, and developers. We have been working through the process of introducing our technology, demonstrating the value of haptics in the mobile phones through user testing and evaluation, and assisting in mobile phone prototyping, design and integration. These are all necessary steps leading to the introduction of mobile phones incorporating our Vibe Tones technology. We still anticipate the first mobile phones that include Vibe Tones technology will launch before the end of 2004. In addition, we are continuing to make progress in the sales cycle with additional OEMs and operators in the U.S., Europe, and Asia. While I cannot give you specific status of projects due to confidentiality agreements, I can tell you that we have signed nondisclosure agreements and are actively working with five of the top ten handset OEMs worldwide.

In addition, we have signed nondisclosure agreements and are currently having discussions with seven of the top 20 operators worldwide. One of these operators strongly recommended the inclusion of Immersion's Vibe Tones technology by name in a specification recently issued to their suppliers for new phones to be delivered in mid-2005. The specification includes sections for inclusion of Vibe Tones technology in multiple application areas. As a point of interest, large operators such as this have preferred supplier relationships with most of the top ten handset manufacturers. In the second quarter we refocused internal resources and added additional expertise to form an Immersion user experience group. This group will design our own user tests and will help current and potential customers to demonstrate the value of haptics in their products through user testing. For Vibe Tones technology, for instance, we developed test methodology and demonstration software and hardware to gauge user reactions to its use in multiple applications.

We conducted a small preliminary user study in the second quarter to validate test design and to better advise potential customers on their planned tests. Based on these early results, we have launched a much broader user study to be completed this quarter. Thus far, the testing shows that users prefer to have haptics included in their applications. Potential customers in Europe and Asia are now conducting additional tests for their markets. We are more encouraged than ever by the mobility market opportunity and continue to view this area as one of the next growth catalysts for Immersion.

Turning now to our gaming business, again this quarter, our gaming business showed a substantial increase; up 65% from last year's second quarter revenues. This growth was driven by an increase in licensing royalties from the sales by our licensees of both console and PC gaming peripherals. Royalties from touch feedback-enabled gaming peripherals are increasing even though the market sales for both gaming console systems and overall PC gaming peripherals are declining. This royalty increase in a still declining market resulted from two factors. The first factor is that sales of premium steering-wheel and wireless products by our PC and console peripheral licensees increased. The second factor is that after Microsoft announced its immediate exit from the PC gaming peripherals market in July of last year, the remaining players gained significant market share.

In the Industrial business unit, sales grew 22% year-over-year. During the second quarter, we announced a technology licensing agreement with advanced input systems to cost effectively introduce our programmable rotary devices to their established customer base. Advanced Input Systems, a subsidiary of Esterline Technologies, is a leading supplier of input devices and control panels used by the medical, industrial, aerospace and defense industries. Agreements like this allow Immersion to partner with leading companies who have prominent positions in their industries. In wrapping up, I'd also like to mention that we now own more than 230 patents in our worldwide intellectual property portfolio with more than 270 pending applications. With that, I'd now like to turn the call over to Mary Beth, who will review our financial performance for the quarter. Mary Beth.

Thanks, Vic. Let me begin by briefly reviewing the revenue results of each of our businesses. Revenue from our Medical business in the second-quarter 2004 was $2.4 million, a 27% increase over the comparable quarter in 2003. Our Industrial group includes our automotive business, as well as our 3 D and professional businesses. Revenue from our Industrial group increased 22% on a year-over-year comparison. Revenue from gaming grew 65% year-over-year, driven mainly by increased royalty revenues from our licensees on both PC and console gaming peripheral products.

Turning now to the income statement, as stated in today's earnings release, revenue for the second quarter of 2004 were $5.5 million, compared to $4.1 million in the second quarter of 2003, a 33% increase. Royalties from patent and technology licensing in the second quarter of this year represented 35% of total revenue, or $1.9 million, versus $804,000 for the same quarter last year. Product sales accounted for 52% of total revenue at $2.9 million, compared to $2.5 million in the second quarter a year ago. And developing contract revenue for the quarter represented 13% of total revenue, or $736,000, compared to $873,000 in the second quarter of 2003. On a GAAP basis, net loss was $4.8 million, or 21 cents per share, compared to a net loss of $4.4 million, or 22 cents per share, for the second quarter of 2003. Second quarter 2004 operating expenses were $8.5 million, compared to $6.5 million in the second quarter of 2003. The higher operating expenses are related to increased investment in sales and marketing, as well as legal expenses associated with the Sony patent infringement litigation.

Gross margins were 72% in the second quarter of 2004 compared to 65% for the second quarter of 2003 due to the higher contribution from royalties in the revenue mix. Shares outstanding at the end of the second quarter were 23.3 million, as compared to 20.2 million at the end of the second quarter a year ago. The increase in the number of shares outstanding was largely due to Microsoft's conversion of Immersion series A Redeemable Convertible Preferred Stock into Immersion common stock. This convention was a very positive event for Immersion, because it eliminated certain obligations such as the mandatory redemption buyback provision, the obligation to make dividend payments, and certain operational limitations. On our balance sheet of June 30, 2004, we had cash and cash equivalents totaling 18.2 million as compared to 18.8 million at the end of the first quarter. This reflects the receipt in April of $5 million from the extension of an existing prepayment arrangement with a licensee. This concludes the review of our financial results and I'll now turn the call back over to Vic.

Thanks, Mary Beth. Before taking your questions, let me close by saying that we expect demand for our Medical products will continue to grow due to increased market awareness and acceptance of medical simulation, our refocused sales and marketing strategies, the use of the ROI model, and from the recently published and ongoing clinical validation studies. In our Gaming business, we expect that the upcoming holiday shopping season will benefit our console and PC gaming business. As for Mobility, we are pleased with the continued progress we have made with our Vibe Tones technology, and with our handset manufacturer and operator relationships. We are enthusiastic about the developing business opportunities that lie ahead for us across all our businesses. Operator, please open the call for questions.

[Caller Instructions] We will pause for just a moment to compile the Q & A roster. At this time, Mr. Viegas, we have no questions.

Well, I think I'll -- I'll give them a few more minutes. I think -- a few minutes to see if there are other questions that might come up.

We do have one question from Robert Kat.

Hi, Vic, how are you doing?

Fine, thanks, Robert.

I thought I would just jump in here and ask a question seeing that no one else is doing it. I was wondering if you could comment a bit about what's going on with Sony and -- have there been any new developments in the litigation?

Sony has continued to -- to file a number of motions. We've opposed those motions, but at this point, there has been no formal change in the -- in the court's calendar. We expect to go to trial on August 16.

And how long do you think the trial will take?

It's -- it's something that would depend on what type of instructions would be provided by the court. I have been advised to be prepared for anywhere between four and six weeks.

Okay. So -- you're already through the discovery and all of that-- those phases. Now you are just going to trial with the information and then four to six weeks after that you should have a ruling on it?

There should be a number motions that will be heard by the judge, I believe on August 13th. And assuming that those go well, then we're prepared for the trial to begin on August 16, which is what it is currently calendared for.

Excellent. On to the product side. How much of your revenues came from the Automotive sector this quarter? How's that -- how's that progressing? Any new design wins or number of models that are shipping with your products?

Our automotive business is combined with our 3-D business and some industrial applications. So it's combined in the Industrial sector. If you were to look just at the Automotive business, it has grown substantially, mostly on the royalty side. Royalties are up from the number of new cars sold with -- with our technology. In terms of new design wins, we continue to work on a number of development projects. Our -- our licensee is -- is having some success with their development efforts. But right now, I'm not aware of any new design wins during the quarter.

How many cars are shipping -- or models are shipping with your product in it? Is it still pretty much the 7 and 5 series from BMW?

It would be with the BMW 7 and also in their 5 and their 6. It is standard on the high-end 5 and 6. It is an option on the other 5 and 6 models, and it's also shipping in the -- the Volkswagen Phaeton and in the Rolls-Royce.

And have you made any progress in the Far East in getting into any of like Nissan or any of the other Far East car companies?

Well, we're having discussions and we're under contract from a development standpoint. In terms of cars shipping with the technology, none have shipped as of yet.

Okay. Any feel for how long -- what year -- how many years out before models might hit the road with your product? In there?

Too hard to predict. There's -- in the automotive space, it is a longer design cycle. We continue to have a lot of interest and quite a bit of development work, but in terms of predicting when they might integrate the technology into the vehicle, that's not something I can really speculate on right now.

Okay. On the Medical side, is that unit profitable on to itself?

If you remember, in 2003, as a stand-alone entity, it generated a profit. This year, we are aggressively growing the sales and marketing team and expanding the infrastructure for the business. And so at this point, depending on how you would allocate corporate expenses, I do not believe year-to-date it has generated an operating profit.

And I imagine you're doing this so that in 2005 that part of the business might have higher growth and profitability?

We're -- our efforts in our investments today are trying to drive the growth in the business, that's correct.

What typed of growth prospects are you looking at for that part of the business?

Well, it's a substantial market, and as I mentioned to you earlier, there's the -- the ROI study was quite positive. The payback is considerably less than what the industry is looking for, which is very favorable. Also, clinical studies are showing the effectiveness of the simulator in training physicians and improving their effectiveness. So those are the things that are driving demand. In terms of the size of the market, there are a couple of ways to look at it, but if you were to look at the number of locations, let's say medical schools, teaching hospitals, other teaching institutions in the U.S. and worldwide, there's something close to 20,000 facilities that we're calling on. And depending on the numbers of systems per site, it would be a very substantial market opportunity for us.

Right. What would be --

Robert, can I stop through -- and maybe let some other people ask some questions and if there are none, I'd be happy to have you come back on.

Not a problem. Thanks a lot.

Your next question comes from Ken Hagen.

Hi, Vic, it's Ken Hagen. How are you?

Fine, thanks, Ken.

Hey, could you comment on this IS issue that's come up in the Sony litigation. Something -- I couldn't quite understand it, but looks like Sony has moved to have them joined as an indispensable party. I am not sure exactly what IS's relationship, contractual or otherwise is with Immersion. Could you comment on that motion?

Sure. IS LLC is a licensee of Immersion's, and they've contacted Sony, and as a result of that contact, Sony has filed for a motion. It is not obvious to us after reading the motion that they have a solid legal standing here. It looks like they're asking the judge to consider this. And we obviously are opposing this motion and filed an opposing brief on Friday, but it will be something that the judge will take a look at.

When did IS LLC get their license from Immersion?

I believe they have been a licensee for a few years.

And with respect to any particular product or technology?

It has to do with our technology in a certain application. The details of their contract are confidential, so I really wouldn't want to get into the details. But as I mentioned, Sony is -- at least in their motion -- taking the position that they believe -- or they're asking the Judge for her opinion asking her whether they should be added as a necessary party.

So does IS LLC have some sort of contractual relationship with Sony then?

Not to my knowledge.

Is that -- is that the basis of this part -- part of the basis of this motion then?

Again, I'm not aware of any relationship that they might have with Sony.

I'm just trying to connect the dots as to why anything with respect to IS LLC's license is germane to the Sony litigation.

Obviously from our position, we don't believe it's germane.

I see. All righty. Thanks, Vic.

Yep, thank you, Ken.

At this time, Mr. Viegas, there are no further questions.

Okay. I guess once again I'll -- I'll hold for another couple of seconds and see if anybody else -- if Robert has any more questions. [ pause in questioning ] Okay. I guess if there are no more questions, then I will go ahead and wrap up the conference call today. I'd like to thank you very much for your participation. We appreciate your continued interest in Immersion, and thank you, and good afternoon.

This concludes today's conference call. You may now disconnect.