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Operator
Again, today's conference call will start momentarily. Please stay on the line. Thank you very much.
spk10
Good afternoon, everyone, and welcome to the Arteries Second Quarter 2024 earnings call. Please note this call is being recorded and simultaneously webcast. All material contained in the webcast is the sole property and copyright of Arteries with all rights reserved. For opening remarks and introductions, I will now turn the call over to Erika Manon at Sapphire Investor Relations. Please go ahead.
Erika Manon
Thank you, and good afternoon. With me today from Arteries are Charlie
spk12
Janek, Chief Executive Officer, and Nick Hawkins, Chief Financial Officer. Charlie will begin with a brief review of the business results for the second quarter end of June 30, 2024. Nick will review the financial results for the second quarter followed by the company's outlook for the third quarter and full year of 2024. We will then open the call for questions. Before we begin, I'd like to remind you that management will make statements during this call that are forward-looking statements within the meaning of federal securities laws. These statements involve material risks and uncertainties that could cause actual results or events to differ materially from those anticipated, and you should not place undue reliance on forward-looking statements. Additional information regarding these risks, uncertainties, and factors that could cause actual results to differ appear in the press release of Arteries issued today and in the documents and reports filed by Arteries from time to time with the Securities and Exchange Commission. Please note, during this call, we will cite certain non-GAAP measures, including non-GAAP net loss, non-GAAP net loss per share, and free cash flow, which are not measures prepared in accordance with U.S. GAAP. The non-GAAP measures are presented as we believe that they provide investors with a means of evaluating and understanding how the company's management evaluates the company's operating performance. These non-GAAP measures should not be considered in isolation from, as substitutes for, or superior to financial measures prepared in accordance with U.S. GAAP. A reconciliation of these non-GAAP measures to the nearest GAAP measure can be found in the press release for the quarter ended June 30, 2024. In addition, for a definition of certain of key performance indicators used in this presentation, such as annual contract value, confirmed design starts, active customers, and remaining performance obligations, please see the press release for the quarter ended June 30, 2024. Listeners who do not have a copy of the press release for the quarter ended June 30, 2024, may obtain a copy by visiting the investor relations section of the company's website. In addition, management will be referring to Q2 2024 earnings presentation, which can be found in the investor relations section of the company's website under events and presentations tab. Now I will turn the call over to Charlie.
Charlie
Thank you, Erika, and thanks to everyone for joining us on the call this afternoon. In the second quarter of 2024, we achieved record annual contract value plus royalties of $60.1 million. For the second consecutive quarter, we also delivered positive free cash flow. Our success during the quarter was fueled by customer demand for AI-driven automotive and enterprise computing SOC solutions, along with growing momentum in our other verticals. We expanded our customer base in the second quarter with seven new customers licensing our TerraSystem IP products. In addition to these new customer wins, we signed four new license deals with current customers who comprised of the world's top 30 technology companies. During the quarter, we experienced steady design activities from our customers with 21 confirmed design starts. Highlighting our continued momentum in the automotive industry, particularly for AI-enabled autonomous driving, our new customers include two market-leading global automotive OEMs. We believe this demonstrates the growing importance of optimized electronics in autonomous applications, with our TerraSystem IP with functional safety capabilities being a key building block for overall connectivity. One of these new customers is a top five global automotive OEM by market capitalization. In addition, two notable customer designs started in the second quarter, including one for a major robotaxi company and the other for a market-leading ADAS company. We expect this trend to continue, given growing demand for automotive AI innovation. AI also fueled the demand for our TerraSystem technology in enterprise computing in the quarter, particularly in the data center application, illustrated by securing the highest number of licenses compared to other variables. AI and ML electronics require high performance, low energy consumption, and high bandwidth data traffic, which our TerraSystem products are designed to address. We expand our relationship with a major global networking infrastructure system house, reflecting the increased compute needs for higher performance and improved efficiency within the communications vertical. We continue to add large technology company customers that previously used internal developed system IP. One such company, the new OEM licensing, our TerraSystem IP, for advanced flat-panel AI-enabled digital televisions. Besides growing customer traction, our TerraSystem is proactively working to expand the IP ecosystem to help customers accelerate innovation. In March, we announced support for ARM v9 processors with focus on automotive applications. This was followed by an ecosystem partnership with Andes Technology to support the growing adoption of RISC-5 SoCs for AI, 5G, and other applications. This customer-driven addition further expands our TerraSupport across both ARM and RISC-5 processor ecosystems, providing on-chip connectivity for any SoC architecture chosen by our customers. Since the acquisition of Semifor in December 2022, we've seen a growing number of customers recognize the value of our hardware-software interface technology. One of these customers is Esperanto Technologies, who provided -5-based silicon for development of high-performance, energy-efficient, generative AI and high-performance computing for data center and enterprise edge applications. They chose our TerraS SoC integration automation software because of its hardware-software integration automation efficiency, error reduction, and streamlined design workflows. In addition, in the second quarter, our TerraS was included in the Russell 2000 Index. We believe the scale and scope of our long-term opportunity remained robust, supported by a strong pipeline of new system IP technologies and solid relationship with some of the largest electronics companies in the world who continue to innovate in exciting areas, such as generative AI and autonomous driving, using our TerraSystem IP technologies. With that, I'll turn it over to Nick to discuss our financial results in more detail.
Nick
Thank you, Charlie, and good
Nick
afternoon, everyone. As I review our second quarter results today, please note I'll be referring to GAAP as well as non-GAAP metrics. A reconciliation of GAAP to non-GAAP financials is included in today's earnings release, which is available on our website. Also, as a reminder, I'll be referring to QQ 2024 earnings presentation, which can be found in the investor relations section of our company's website under the events and presentations tab. Earnings signed for the presentation, total revenue for the second quarter was $14.6 million, up 13% sequentially, and above the top end of our guidance range. This was driven by strong deal activity early in the quarter, enabling us to recognize higher than expected revenue within the quarter. At the end of the second quarter, annual contract value, or ACV plus royalties, was $60.1 million, above the bed point of our guidance range, our record high at the company. Remaining performance obligations, or RPO, at the end of the second quarter was $77.5 million, representing a 19% -over-year increase, also growing to the highest level we have ever reported. GAAP gross profit for the quarter was $13.1 million, representing a gross margin of 90%. Non-GAAP gross profit in the quarter was $13.4 million, representing a gross margin of 92%. Now turning to slide five. Total GAAP operating expense for the second quarter was $20.6 million, flat compared to the first quarter. Non-GAAP operating expense in the quarter was $16.8 million, 1% lower sequentially, and 6% lower than the second quarter of 2023. Reflecting the teams continued focus on prudent management of our operating expenses. As we look ahead, we will continue to limit spending to strategically critical areas while investing in profitable revenue growth. GAAP operating loss for the second quarter was $7.4 million, compared to a loss of $8.7 million in a prior year period. Non-GAAP operating loss was $3.5 million, which is better than the top end of our guidance, compared to a loss of $4.2 million in the prior year period. Net loss in the quarter was $8.3 million, or diluted net loss per share of $0.22. Non-GAAP net loss in the quarter was $4.4 million, or diluted net loss per share of $0.11, based on approximately $38.5 million weighted average diluted shares outstanding. Moving to slide six, I'm turning to the balance sheet and cash flow. We ended the quarter with $53.9 million in cash equivalents and investments. Free cash flow, which includes capital expenditure, was positive $300,000. This was above the midpoint of our guidance range and in line with the company's goal to be free cash flow positive for the full year of 2024. Now I would like to turn to our outlook for the third quarter and the full year of 2024 and refer to slide seven. For the third quarter of 2024, we expect ACV plus royalties of $58.5 million to $62.5 million. Revenue of $14.2 million to $15.2 million. Non-GAAP operating loss of $5.5 million to $3.5 million. And non-GAAP free cash flow of negative $1.4 million to positive $1.6 million. For the full year of 2024, our guidance is as follows. ACV plus royalties exit 2024 at $62 million to $68 million, up 16% year over year at the midpoint, unchanged from the prior guidance. Revenue of $56 million to $58 million, increasing the midpoint of our guidance by $1 million. Non-GAAP operating loss of between $22 million and $18 million, improving the midpoint of our guidance by $1.4 million. And non-GAAP free cash flow of negative $2.4 million to positive $2.6 million, unchanged from prior guidance. In conclusion, we are encouraged by our top line trajectory and our effective cost management in the first half of the year that resulted in the above guidance performance in the second quarter and the increased guidance in revenue and operating income for the full year. We are particularly excited about achieving positive free cash flow for two consecutive quarters. With that, I will turn the call back to the operator and open it up for
Nick
questions. Operator?
Operator
Ladies and gentlemen, we will
spk10
now begin the question and answer session. Should you have a question, please press star followed by the number one on your touchstone phone. You will hear a prompt that your hand has been raised. Should you wish to decline from the polling process, please press
Operator
star
spk10
followed by the number two. If you are using a speaker phone, please make sure to lift your handset before pressing any keys. One moment
Operator
while we prepare the Q&A roster. The first question is from Mr.
spk10
Matt Compton from TD Cowan.
Matt Compton
Good afternoon, everybody. Hey, Charlie. Hi, Nick. Congrats on a very solid set of results and on the free cash flow metrics, Nick. I think you guys keep delivering there, which is great to see. I guess my first question is around licensing activity and sort of design activity. You guys are focused on lots of segments of the market, but in particular on the emergence for AI products and also in the automotive ADAS domain. But at the same time, there's a lot of different segments of the semiconductor industry that are feeling cyclicality and having budget cuts associated with the cyclicality and whatnot. So it'd just be interesting, Charlie, to hear your perspective on how the licensing activity and the design activity looks for your customer base or potential customer base. Are they continuing to invest or maybe increasingly so around AI? But is the customer base and continuing to invest in new programs and new chip projects in the face of what's been some challenging cyclicality for the industry on the other side? Any thoughts there? I appreciate it. I got to follow up. Thanks.
Charlie
This is why we have always been on the track record of being highly diversified in terms of applications, in terms of geographies, in terms of customer size, in terms of applications. And so we are not seeing, we're seeing some impact on royalties from the shipment volumes decline, there's some issues in automotive, for example. But royalties are still a relatively small percentage of our revenue. We're not seeing anything major on the design side because, one, design activity essentially results in revenue for these companies three to four years down the road or seven years down the road for automotive. And so the design activity continues. And typically when people have challenges on the shipment side, they tend to invest in R&D to design their way out of any recessions. So we're, you know, this quarter we're seeing industrial applications be actually the majority of the design starts with automotive, I'm sorry, with AI being a little bit less than the last two quarters. But overall, the design activity is pretty much unaffected as far as we can see.
Matt Compton
Thank you for that, Charlie. That's really interesting. Maybe a follow-up there on that topic and then a question for Nick. On that topic, Charlie, just to kind of extend that conversation a little bit, are you seeing any movement within the customer base to potentially, just given the macro environment and whatnot, to maybe not want to invest in internal teams as much and think of you maybe more as an external IP vendor? Is that the economic condition in a lot of industries and semis, is that affecting that shift at all? And then I guess my follow-up for Nick, we've had a couple of quarters now free cash flow. I know you have some targeted goals out there as you grow the business to get back to sort of non-GAAP profitability and whatnot. If you have any updated thoughts there, because I think that's sort of an important next hurdle because you've gotten over the one that was in front of you.
Charlie
Thanks. So, you know, in terms of the investment in internal IP, so when you have guys like Nick in some of these big corporations scrutinizing the budgets, they are basically saying, okay, should we keep developing internal system IP or should we buy it from our terrorists for less? And we're continuing to make progress, as we said on the call, with essentially closing few large companies that have been 100% internal previously. Right? And so that trend kind of continues. So when the economy gets difficult, we're actually kind of a beneficiary because we save people money, both on OPEX and also on R&D cost and unit costs. So, you know, the economy getting a little bit squirrely is not necessarily bad for our terrorists.
Nick
And then Nick, your question. So, yeah,
Nick
on the excellent cash flow question, so yeah, people, as I'm sure you know, completely overuse the phrase laser focused, but we are genuinely laser focused on cash flow. Not just free cash flow, but just cash flow period because it pays the bills. And so we set out to achieve that in first quarter and made it. I'm not sure that everybody totally believed that we would make it second quarter running, but we did. Because we were just super focused on it. We're now absolutely rigidly focused on making it for the third quarter as well, which is why we're guiding slightly positive for the third quarter. And then the full year. If you do the math, which I'm sure you will, so I'll just save you the bother of having to do the math and then ask the question. If you do the math on the guidance for free cash flow, you'll see that plus a small amount in first quarter, plus small amount in second quarter, plus a small amount in third quarter, equals plus a small amount in the year doesn't quite work out unless you go negative in the fourth quarter. And without wanting to give the game away, that's not our intention. So we are sort of, we are keeping very steadfastly on sort of cash flow on a very prudent management
Matt Compton
of cash flow. No, thanks. Thank you very much, Nick. Really appreciate all the color guys. And I just say, given what the last 10 days has been like, I'll use your term and say I'm laser focused on getting to the weekend. So well done guys. Talk to you soon. That'd be nice.
Nick
Yeah. Yeah, indeed.
spk10
Ladies and gentlemen, should you have a question, please press star followed by the number one on touchstone phone. Should you wish to decline from the polling process, please press star two. Again, if you are using a speakerphone, please make sure to lift the handset before pressing any keys. Your next question comes from the line of Kevin Garigan from West Park, Capital. Please go ahead.
Kevin Garigan
Yeah. Hey Charlie, Nick. Good afternoon. Let me echo my congrats on the solid results. So to start, you know, some of the prospects that you have in signed as customers, you know, what are some of the reasons that they're waiting? I mean, you're saving them both time and money. So, I mean, is there like a product or a feature in development that they're, you know, waiting for you to bring to market or what are some of the reasons that you're getting?
Charlie
I mean, I think we're making good progress in sort of knocking down the list of companies every quarter. It's not that the people that are, you know, these large corporations are getting rid of their system IP, but they're making decisions not to enhance it sufficiently for the next generation. And so the next generation or some specific requirements go to our terrace. But in a place where there's sort of rejection, right, there's corporate politics, there's the opposition from the internal system IP group. There are a few companies that are taking technology directions that are too expensive for us to follow, that we don't, they're just too specialized, right? So it's a variety of reasons, but I think we're making good progress in essentially establishing beachheads in a few of these large companies every quarter. And it takes time. Got it.
Nick
Yeah, no, that makes a ton of sense. Okay. I do think just circling back to Charlie's earlier comment about how CFOs have a part to play in this whole decision making process. I do think that is sort of an increasingly relevant commentary in the current climate, which is so a little bit aggressive for the semi players, because increasingly they are going to have to face up to measures that make their lives more efficient from a profitability perspective. And that
Nick
plays well to us. Yeah, no,
Kevin Garigan
that makes a ton of sense, especially as costs of pretty much everything are going up these days. So I can definitely see how that benefits you guys. Okay, perfect. And then any kind of updates on China and what you're seeing there? I mean, has the region kind of gotten any worse or any better for you guys since 90 days ago?
Charlie
Nope, hasn't gotten worse and hasn't gotten better. There is a capital crunch in China. So startups have trouble getting capital. There's been a number of Chinese semiconductor companies that have gone out of business for insufficient capital. The sort of the political tension continues, but there's a robust design activity in China. And so we're seeing essentially a steady amount of business from China that is steady. That's kind of what we planned on. We didn't plan on it getting any worse and we didn't plan on it getting any better. And that's kind of what we're getting.
Kevin Garigan
Okay, got it. Yeah, it's a pretty much status quo. Okay.
spk06
And then
Kevin Garigan
just just last question, if I can. We're a little over halfway through the year.
Charlie
Any questions? We are making very good progress and we have, we're not ready to talk about it, but we have started deliveries to customers.
Kevin Garigan
Okay, got it. Yeah, just figured I'd ask. All right. Thanks guys.
spk10
There are no further questions at this time. I'll hand the call over to Mr. Charlie Janak for closing remarks. Please go ahead.
Charlie
Well, thank you everyone. Thank you for following our terrace and we are looking forward to keeping you updated on our progress and we appreciate your support. Thank you very much.
spk10
Ladies and gentlemen, this concludes today's conference call. Thank you very much for your participation. You may now disconnect. Good afternoon, everyone. And welcome to the arteries second quarter 2024 earnings call. Please note this call is being recorded and simultaneously webcast. All material contained in the webcast is the sole property and copyright of arteries with all rights reserved. For opening remarks and introductions, I will now turn the call over to Erica Mannion at Sapphire Investor Relations. Please go ahead.
Erika Manon
Thank you and good afternoon. With me today from our terrace are Charlie Janak,
spk12
Chief Executive Officer and Nick Hawkins, Chief Financial Officer. Charlie will begin with a brief review of the business results for the second quarter ended June 30, 2024. Nick will review the financial results for the second quarter follows by the company's outlook for the third quarter and full year of 2024. We will then open the call for questions. Before we begin, I'd like to remind you that management will make statements during this call that are forward-looking statements within the meaning of federal securities laws. These statements involve material risks and uncertainties that could cause actual results or events to differ materially from those anticipated and you should not place undue lines on forward-looking statements. Additional information regarding these risks, uncertainties and factors that could cause actual results to differ appear in the press release our terrace issued today and in the documents and reports filed by our terrace from time to time with the Securities and Exchange Commission. Please note during this call we will cite certain non-GAAP measures including non-GAAP net loss, non-GAAP net loss per share and free cash flow which are measures prepared in accordance with U.S. GAAP. The non-GAAP measures are presented as we believe that they provide investors with a means of evaluating and understanding how the company's management evaluates the company's operating performance. These non-GAAP measures should not be considered in isolation from as substitutes for or superior to financial measures prepared in accordance with U.S. GAAP. A reconciliation of these non-GAAP measures to the nearest GAAP measure can be found in the press release for the quarter ended June 30, 2024. In addition, for a definition of certain of key performance indicators used in this presentation such as annual contract value, confirmed design starts, active customers and remaining performance obligations please see the press release for the quarter ended June 30, 2024. Listeners who do not have a copy of copy by visiting the investor relations section of the company's website. In addition, management will be referring to Q2 2024 earnings presentation which can be found in the investor relations section of the company's website under events and presentations tab. Now I will turn the call over to Charlie.
Charlie
Thank you Erika and thanks to everyone for joining us on the call this afternoon. In the second quarter of 2024 we achieved record annual contract value plus royalties of 60.1 million. For the second consecutive quarter we also delivered positive free cash flow. Our success during the quarter was fueled by customer demand for AI driven automotive and enterprise computing SOC solutions along with growing momentum in our other verticals. We expanded our customer base in the second quarter with seven new customers licensing our TerraSystem IP products. In addition to these new customer wins we signed four new license deals with current customers who comprised of the world's top 30 technology companies. During the quarter we experienced steady design activities from our customers with 21 firm design stocks. Highlighting our continued momentum in the automotive industry particularly for AI enabled autonomous driving our new customers include two market leading global automotive OEMs. We believe this demonstrates the growing importance of optimized electronics in autonomous applications with our TerraSystem IP with functional safety capabilities being a building block for overall connectivity. One of these new customers is a top five global automotive OEM by market capitalization. In addition two notable customer designs started in the second quarter including one for a major robotaxi company and the other for a market leading ADAS company. We expect this trend to continue given growing demand for automotive AI innovation. AI also fueled the demand for our TerraSystem technology in enterprise computing in the quarter particularly in the data center application illustrated by securing the highest number of licenses compared to other verticals. AI and ML electronics require high performance, low energy consumption and high bandwidth data traffic which our TerraSystem products are designed to address. We expanded our relationship with a major global networking infrastructure system house reflecting the increased compute needs for higher performance and improved efficiency within the communications vertical. We continue to add large technology company customers that previously used internal developed system IP. One such company the new OEM licensing our TerraSystem IP for advanced flat panel AI enabled digital televisions. Besides growing customer traction our TerraSystem is proactively working to expand the IP ecosystem to help customers accelerate innovation. In March we announced support for ARM v9 processors with focus on automotive applications. This was followed by an ecosystem partnership with Andes technology to support the growing adoption of RISC-5 SoCs for AI 5G and other applications. This customer driven addition further expands our TerraSystem support across both ARM and RISC-5 processor ecosystems providing on-chip connectivity for any SoC architecture chosen by our customers. Since the acquisition of Semifor in December 2022 we've seen a growing number of customers recognize the value of our hardware software interface technology. One of these customers is Arteris. They are a team of leading software engineers and experimental technologies who provided RISC-5 based silicon for development of high performance energy efficient generative AI and high performance computing with data center and enterprise edge applications. They chose our TerraS SoC integration automation software because of its hardware software integration automation efficiency, error reduction and streamlined design workflows. In addition in the second quarter Arteris was included in the Russell 2000 index. We believe the scale and scope of our long-term opportunity remained robust supported by a strong pipeline of new system IP technologies and solid relationship with some of the largest electronics companies in the world who continue to innovate in exciting areas such as generative AI and autonomous driving using our TerraSystem IP technologies. With that I'll turn it over to Nick to discuss our financial results in more detail.
Nick
Thank you Charlie and good afternoon
Nick
everyone. As I review our second quarter results today please note I'll be referring to gap as well as non-gap metrics. A reconciliation of gap to release which is available on our website. Also as a reminder I'll be referring to QQ 2024 earnings presentation which can be found in the investor relations section of our company's website under the events and presentations tab. Only to sign for the presentation total revenue for the second quarter was 14.6 million dollars up 13% sequentially and above the top end of our guidance range. This was driven by strong deal activity early in the quarter enabling us to recognize higher than expected revenue within the quarter. At the end of the second quarter annual contract value or ACV plus royalties was 60.1 million dollars above the bed point of our record high of the company. Remaining performance obligations or RPO at the end of the second quarter was 77.5 million dollars representing a 19% -over-year increase also growing to the highest level we have ever reported. Gap gross profit for the quarter was 13.1 million dollars representing a gross margin of 90%. Non-gap gross profit in the quarter was 13.4 million dollars representing a gross margin of 92%. Now turning to slide five. Total gap operating expense for the second quarter was 20.6 million dollars flat compared to the first quarter. Non-gap operating expense in the quarter was 16.8 million dollars 1% lower sequentially and 6% lower than the second quarter 2023 reflecting the team's continued focus on prudent management of our operating expenses. As we look ahead we will continue to limit spending to strategically critical areas while investing in profitable revenue growth. Gap operating loss for the second quarter was 7.4 million dollars compared to a loss of 8.7 million dollars in the prior year period. Non-gap operating loss was 3.5 million dollars which is better than the top end of our guidance compared to a loss of 4.2 million dollars in the prior year period. Net loss in the quarter was 8.3 million dollars or diluted net loss per share of 22 cents. Non-gap net loss in the quarter was 4.4 million dollars or diluted net loss per share of 11 cents based on approximately 38.5 million weighted average diluted shares outstanding. Moving to slide six and turning to the balance sheet and cash flow. We enter the quarter with 53.9 million dollars in cash equivalents and capital expenditure was positive $300,000. This is above the midpoint of our guidance range and in line with the company's goal to be free cash flow positive for the full year of 2024. Now I would like to turn to our outlook for the third quarter and the full year 2024 and refer to slide seven. For the third quarter of 2024 we expect ACV plus wealth is of $58.5 million dollars to $62.5 million dollars. Revenue of $14.2 million dollars to $15.2 million dollars. Non-gap operating loss of $5.5 million dollars to $3.5 million dollars and non-gap free cash flow of negative $1.4 million dollars to positive $1.6 million dollars. For the full year of 2024 our guidance is as follows. ACV plus royalties exit 2024 $62 million dollars to $68 million dollars up 16 percent year over year at the midpoint unchanged from the prior guidance. Revenue of $56 million dollars to $58 million dollars increasing the midpoint of our guidance by $1 million dollars. Non-gap operating loss of between $22 million dollars and $18 million dollars improving the midpoint of our guidance by $1.4 million dollars and non-gap free cash flow of negative $2.4 million dollars to positive $2.6 million dollars unchanged from prior guidance. In conclusion we are encouraged by our top line trajectory and our effective cost management in the first half of the year that resulted in the above guidance performance in the second quarter and the increased guidance in revenue and operating income for the full year. We are particularly excited about achieving positive free cash flow for two consecutive quarters. With that I will turn the call back to the operator and open it up for questions.
Nick
Operator.
Operator
Ladies and gentlemen we will now
spk10
begin the question and answer session. Should you have a question please press star followed by the number one on your touchtone phone. You will hear a prompt that your hand has been raised. Should you wish to decline from the polling process please press followed by the number two. If you are using speakerphone please make sure to lift your handset before pressing any keys. One moment while
Operator
we prepare the Q&A roster. The first question is from Mr.
spk10
Matt from TD Cowan.
Matt Compton
Good afternoon everybody. Hey Charlie, hi Nick. Congrats on a very solid set of results and on the free cash flow metrics and I think you guys keep delivering there which is great to see. I guess my first question is around licensing activity and sort of design activity. There's segments of the market but in particular on the emergence for AI products and also in the automotive ADAS domain. But at the same time there's a lot of different segments of the semiconductor industry that are feeling cyclicality and having budget cuts associated with cyclicality and what not. So it would just be interesting Charlie to hear your perspective on how the licensing activity and the design activity looks for your customer base or potential customer base. Are they continuing to invest or maybe increasingly so around AI but is the customer base and continuing to invest in new programs and new chip projects in the face of what's been some challenging cyclicality for the industry on the other side. Any thoughts there? I got to follow up.
Nick
Thanks. This
Charlie
is why we have always been on the track record of being highly diversified in terms of applications, in terms of geographies, in terms of customer size, in terms of applications. And so we are not seeing, we're seeing some impact on royalties from the shipment volumes decline and some issues in automotive for example. But royalties are still a relatively small percentage of our revenue. We're not seeing anything major on the design side because one, design activity is essentially results in revenue for these companies three to four years down the road or seven years down the road for automotive. And so the design activity continues and typically when people have challenges on the shipment side, they tend to invest in R&D to design their way out of any recessions. So we're, you know, this quarter we're seeing industrial applications be actually the majority of the design starts with automotive, I'm sorry, with AI being a little bit less than the last two quarters. But overall the design activity is pretty much unaffected as far as we can see.
Matt Compton
Thank you for that, Charlie. That's really interesting. Maybe a follow up there on that topic and then a question for Nick. On that topic, Charlie, just to kind of extend that conversation a little bit, are you seeing any movement within the customer base to potentially, just given the macro environment and whatnot, to maybe not want to invest in internal teams as much and think of you maybe more as an external IP vendor? Is that the economic condition in a lot of industries and semis, is that affecting that shift at all? And then I guess my follow up for Nick, we've had a couple of quarters now free cash flow. I know you have some target goals out there as you grow the business to get back to sort of non-gap profitability and whatnot. If you have any updated thoughts there, because I think that's sort of an important next hurdle because you've gotten over the one that was in front of you.
Charlie
Thanks. So, you know, in terms of the investment in internal IP, right, so when you have, you know, guys like Nick in some of these big corporations, you know, scrutinizing the budgets, right, they are basically saying, okay, should we keep developing internal system IP or should we buy it from our terrorists for less? And we're continuing to make progress, as we said on the call, with essentially closing few large companies that have been 100% internal previously, right? And so that trend kind of continues. So when the economy gets difficult, we're actually kind of a beneficiary because we save people money, both on OPEX and also on R&D cost and unit costs. So, you know, the economy getting a little bit squirrely is not necessarily bad for our terrorists.
Nick
And then Nick, your question? So, yeah,
Nick
on the excellent cash flow question, so yeah, people, as I'm sure you know, completely overuse the phrase laser focused, but we are genuinely laser focused on cash flow, not just free cash flow, but just cash flow period, because it pays the bills. And so we set out to achieve that in first quarter and made it. I'm not sure that everybody totally believed that we would make it second quarter running, but we did, because we're just super focused on it. We're now absolutely rigidly focused on making it for the third quarter as well, which is why we're guiding slightly positive for the third quarter. And then the full year. If you do the math, which I'm sure you will, so I'll just save the bother of having to do the math and then ask the question. If you do the math on the guidance for free cash flow, you'll see that plus a small amount in first quarter, plus small amount in second quarter, plus a small amount in third quarter, equals plus a small amount in the year. Doesn't quite work out unless you go negative in the fourth quarter. And without wanting to give the game away, that's not our intention. So we are sort of where we are keeping very steadfastly on sort of cash flow on a very prudent management of
Matt Compton
cash
Nick
flow.
Matt Compton
Thank you very much, Nick. Really appreciate all the color guys. And I just say given what the last 10 days has been like, I'll use your term and say I'm laser focused on getting to the weekend. So well done guys. Talk to you soon. That'd be nice. Yeah. Yeah,
Nick
indeed.
spk10
Ladies and gentlemen, should you have a question, please press star followed by the number one on touchstone phone. Should you wish to decline from the polling process, please press star two. Again, if you are using a speakerphone, please make sure to lift the handset before pressing any keys. Your next question comes from the line of Kevin Garigan from West Park, Capital. Please go ahead.
Kevin Garigan
Yeah. Hey, Charlie, Nick. Good afternoon. Let me echo my congrats on the solid results. So to start, you know, some of the prospects that you have in signed as customers, you know, what are some of the reasons that they're, they're waiting? I mean, you're saving them both time and money. So I mean, is there like a product or a feature in development that they're, you know, waiting for you to bring to market? Or what are some of the reasons that you're getting?
Charlie
I mean, I think we're making good progress in sort of knocking down the list of companies every quarter. It's not that the people that are, you know, these large corporations are getting rid of their system IP, but they're making decisions not to enhance it sufficiently for the next generation. And so the next generation or some specific requirements go to go to our terrace. But in a place where there's sort of rejection, right, there's corporate politics, there's the opposition from the internal system IP group. There are a few companies that are taking technology directions that are too expensive for us to follow that we don't, they're just too specialized, right? So it's a variety of reasons. But I think we're making good progress in, in essentially establishing beachheads in a few of these large companies every quarter. And it takes time. Got it.
Nick
Yeah, no, that makes sense. Okay. I do think just circling back to Charlie's earlier comment about how CFOs have a part to play in this whole decision making process. I do think that is sort of an increasingly relevant commentary in the current climate, which is so a little bit aggressive for for the semi players, because increasingly they are going to have to face up to measures that make their lives more efficient from a from a profitability perspective. And that plays
Nick
well to us. Yeah, no, that
Kevin Garigan
makes sense, especially as you know, costs of pretty much everything are going up these days. So I can definitely see how you know that that benefits you guys. Okay, perfect. And then any any kind of updates on on China and what you're seeing there? I mean, has has the region kind of gotten any worse or any better for you guys since you know, 90 days ago?
Charlie
No, hasn't gotten worse and hasn't gotten better. There is a capital crunch in China. So startups have have trouble getting capital. There's been a number of Chinese semiconductor companies that have gone out of business for insufficient capital. The you know, sort of the political tension continues. But you know, there's there's a, you know, robust design activity in China. And so we're, we're seeing essentially a steady amount of business from from China that, you know, is steady. That's kind of what we planned on. We didn't plan on getting any worse. And we didn't plan on getting any better. And that's kind of what we're getting.
Kevin Garigan
Okay, got it. Yeah, so pretty much status quo. Okay.
spk06
That is exactly.
Kevin Garigan
And then just last question, if I can. We're, you know, a little over halfway through the year. Any any updates on the new products front?
Charlie
No, no, no, no updates. We but we are, we are making very good progress. And we have, we're not ready to talk about it. But we
Kevin Garigan
have Okay, got it. Yeah, just figured I'd ask. All right. Thanks, guys.
spk10
There are no further questions at this time. I'll hand the call over to Mr. Charlie Janek for closing remarks. Please go ahead.
Charlie
Well, thank you, everyone. Thank you for following our terrace. And we are looking forward to keeping updated on our on our progress. And we appreciate your support. Thank you very much.
spk10
Ladies and gentlemen, this concludes today's conference call. Thank you very much for your participation. You may now disconnect.
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