Universal Display Corporation

Good day, ladies and gentlemen, and welcome to Universal Display Corporation's third quarter 2022 earnings call. My name is Sheri and I will be your conference moderator for today's call. At this time, all participants are in a listen-only mode. A question and answer session will follow the formal presentation. If anybody should require operator assistance during the conference, please press star zero on your telephone keypad. As a reminder, this conference call is being recorded for replay purposes. I would now like to turn the call over to Darius Liu, Senior Director of Investor Relations. Please proceed.

Thank you and good afternoon, everyone. Welcome to Universal Display's third quarter earnings conference call. Joining me in the call today are Steve Abramson, President and Chief Executive Officer, and Brian Millard, Vice President and Chief Financial Officer. Before Steve begins, Let me remind you that today's call is a property of Universal Display. Any redistribution, retransmission, or rebroadcast of any portion of this call in any form without the express written consent of Universal Display is strictly prohibited. Further, this call is being webcast live and will be made available for a period of time on Universal Display's website. This call contains time-sensitive information that is accurate only as of the date of the live webcast of this call November 3, 2022. During this call, we may make forward-looking statements based on current expectations. These statements are subject to a number of significant risks and uncertainties, and our actual results may differ maturely. These risks and uncertainties are discussed in the company's periodic reports filed with the SEC and should be referenced by anyone considering making any investments in the company's securities. Universal Display disclaims any obligation to update any of these statements. Now, I would like to turn the call over to Steve Abramson.

Thanks, Darius, and welcome to everyone on today's call. Let me first introduce Brian Millard and welcome him to his first universal display earnings call. Brian joined our company in early September as our chief financial officer. With his deep financial, operational, and strategic acumen, I am confident that Brian will enhance our executive team and help our company continue to grow and prosper. Now to our results. Third quarter 2022 revenue reached a record high of $161 million, operating profit was $68 million, and net income was $53 million, or $1.12 per diluted share. As we look ahead, we believe the long-term growth path of the OLED industry remains strong. The near-term OLED demand may fluctuate due to uncertainties in the macro economy. We continue to believe that 2024 will be a pivotal year for the OLED industry and for us. We believe that a number of panel makers are planning Gen 6 and Gen 8 OLED investments, setting the stage for a significant multi-year CapEx growth cycle. Manufacturers and OEMs are slated to advance the OLED adoption curve to medium and large area displays, with OLED IT being a key near-term focus. As an integral enabler and partner in the OLED ecosystem, these new capacity plans translate into new revenue opportunities for us and a positive growth trajectory for years to come. According to market research firm UBI, OLED shipments for IT products, such as tablets, notebooks, and monitors, are expected to grow more than 400% in the next five years, with unit shipments increasing to 48.8 million units in 2027, up from 9.5 million units in 2022. UBI also noted that Korean and Chinese panel makers are expected to invest in IT OLED lines, with leaders Samsung Display, LG Display, and BOE already planning to invest in new Gen 8.7 production. At the end of August, During the IMIC conference in Korea, Samsung Display announced it will invest in Gen 8 OLED capacity and estimated that this new capacity will be in operation by 2024. SDC also forecasted that the OLED market will reach approximately $100 billion by 2030, more than doubling from today's OLED market, which is estimated to reach about $45 billion by the end of 2022. AR, VR, augmented reality, and virtual reality is also gaining buzz in the OLED industry. In early September, at a Metaverse conference, LG Display announced that it believed OLED on silicon will be the main display used in future Metaverse devices. It has been reported that LG Display and SK Hynix are forming a partnership to produce micro-OLED displays. It has also been reported that BOE recently established an AR, VR department that includes its Kunming micro OLED division. As a company, we are continuing to reinforce and expand our leadership position in the OLED ecosystem. With our deeper, broad experience and know-how of more than 25 years of pioneering research, we are continuing to innovate, invent, and introduce new OLED phosphorescent emissive materials, including new reds, greens, yellows, and hosts. With respect to blue, We continue to make excellent progress in our ongoing development work for a commercial phosphorescent blue emissive system. We continue to believe that we are on track to meet preliminary target specs with our phosphorescent blue by year end, which should enable the introduction of our all-phosphorescent RGB stack into the commercial market in 2024. We believe that the commercial introduction of our full-color emissive stack will unlock a vast array of opportunities for higher energy efficiency and higher performance across a broad range of OLED applications. On the OVJP front, we are pleased to report that we achieved a key performance milestone. We are now able to print two layers, the red, green, and blue phosphorescent emissive layer and the prime layer or electron blocking layer. Additionally, these OVJP printed RGB folio devices have comparable performance as OLED devices fabricated using traditional vacuum thermal evaporation. This represents a significant milestone in our OVJP roadmap of printing all the organic layers in an OLED device. On that note, let me turn the call over to Brian.

Thank you, Steve. And again, thank you everyone for joining our call today. I'm excited to have joined Universal Display Corporation, an extraordinary pioneer in the OLED industry for more than 25 years. With our brilliant team, cutting edge initiatives, lean operating model, and strong balance sheet, the company is well poised for continued advancement in the growing OLED market. I look forward to working with the entire UDC team to continue to build upon our strong culture of inventiveness, integrity, inclusion, and imagination and deliver on the company's mission of being a critical enabler in the OLED ecosystem. Now to our third quarter 2022 results. As Steve mentioned, we had a record quarterly revenue of $161 million compared to the prior year period of $144 million. Our total material sales were $84 million in the third quarter compared to material sales of $76 million in the third quarter of 2021. Green emitter sales, which include our yellow-green emitters, were $64 million. This compares to $58 million in the third quarter of 2021. Red emitter sales were $20 million. This compares to $18 million in the third quarter of 2021. As it has been discussed in the past, material buying patterns can vary quarter to quarter. Third quarter royalty and license fees were $71 million, compared to the prior year period of $64 million. Edesis revenues for the third quarter of 2022 were $5 million. In the comparable period in 2021, it was $4 million. Third quarter cost of sales were $37 million, translating into total gross margins of 77%. This compares to $31 million and total gross margins of 78% in the third quarter of 2021. Cost of OLED material sales in the third quarter of 2022 were $34 million, translating into material gross margins of 60%. This compares to $29 million and material gross margins of 62% in the third quarter of 2021. In addition to the inflationary pressures that were noted last quarter, We recently brought online an initial phase of our new Shannon manufacturing site. This additional capacity is critical for the anticipated growth in the years ahead, but it is currently underutilized. This underutilization impacted COGS by approximately $1 million per month and is expected to move our near-term material gross margins to the low 60% range this year and our total gross margins for the year to be approximately 78%. As an industry leader and sole source to all of our customers, we are planning for the future. We're also preparing for the OLED industry's next significant wave of new capacity and for our expanding portfolio of phosphorescent materials. The Shannon facility is slated to meet our customers' increasing needs as well as diversify our global manufacturing footprint. Third quarter operating expenses, excluding cost of sales, were $55 million. In the third quarter of 2021, it was $54 million. For the year, we now estimate that our operating expenses of SG&A, R&D, and patent costs in the aggregate will increase in the range of 5% to 10% year over year. Operating income was $68 million in the third quarter, translating into operating margin of 43%. This compares to the prior year period of $58 million and operating margin of 40%. The income tax rate was 24% for the third quarter of 2022, and for the year, we believe our tax rate will be approximately 23%. Net income for the third quarter was $53 million, or $1.12 per diluted share. This compares to the third quarter of 2021's $46 million, or 97 cents per diluted share. We ended the quarter with approximately $844 million in cash, cash equivalents, and investments, or $17.77 per diluted share. Moving along to guidance, we are reaffirming our belief that 2022 revenues will be approximately $600 million, plus or minus $10 million. We believe that the ratio of materials to royalty and licensing revenues will be in the ballpark of 1.3 to 1. Our board of directors approved a 30-cent quarterly dividend which will be paid on December 30, 2022, to stockholders of record as of the close of business on December 16, 2022. The dividend reflects our expected continued positive cash flow generation and commitment to return capital to our shareholders. While it's only been two months since I joined UDC, my level of excitement for this fast-moving, forward-thinking company, as well as the OLED industry, has only increased. With our strong operating profit base, we have the ability to support our customers' increasing needs, shape our future, and broaden into new opportunities. With that, I'll turn the call back to Steve.

Thanks, Brian. It's great to have you on the team. Universal Display's history illustrates our long-term strategic planning and execution for growth and success, our ability to overcome challenges, and our steadfast commitment to enabling our customers with groundbreaking solutions as well as supporting their evolving needs. The road from discovery to delivery can be long and winding, and also tremendously rewarding. It was 2003 when our red phosphorescent emitters and technology were commercially adopted in OLED sub-display for a clamshell phone. Over the course of a decade, in addition to developing an array of next-generation reds, we worked on commercializing our green phosphorescent materials and in 2013, our green folid was adopted in Samsung's Galaxy S4. Our sights are now set on delivering commercial red, green, and blue phosphorescent materials to the market, enabling our customers with a comprehensive portfolio of energy-efficient, high-performing materials and helping the OLED industry to further grow. With a robust balance sheet of nearly $850 million in cash and investments, a lean operating model, and no debt, we have the flexibility to continue to invest for our strong future. While uncertainties may continue to weigh on the near-term macroeconomy, we are continuing to invest in our R&D initiatives, in our people, and in our infrastructure. This multifaceted strategic approach enables us to continue to support our customers, expand our market opportunities, and amplify our value proposition in the OLED ecosystem. further solidifying and broadening our leadership position to not only grow with the OLED market, but to grow faster than the market. I would like to thank each of our employees for their drive, desire, dedication, and heart in elevating and shaping Universal Display's accomplishments and advancements. We are committed to being a leader in the OLED ecosystem, achieving superior long-term growth, and delivering cutting-edge technologies and materials for the industry, for our customers, and for our shareholders. And with that, operator, let's start the Q&A.

Thank you. If you would like to ask a question, please press star 1 on your telephone keypad. A confirmation tone will indicate your line is in the question queue. You may press star 2 if you would like to remove your question from the queue. And for participants using speaker equipment, it may be necessary to pick up your handset before pressing the star keys. Our first question is from CJ Muse with Evercore ISI. Please proceed.

Good afternoon. Thank you for taking the question. I guess first question, you know, trying to think through the moving parts for calendar 23 for you, you know, should we be thinking, you know, smartphone units for OLED and plus a certain percentage of your ending deferred revenues, I think down to $94 million. You know, what percentage of that should we be thinking about? And then what about other kind of new markets that can start to kind of move the needle like IT, et cetera? We'd love to hear your thoughts there.

Hi, CJ. This is Steve. Thanks for your question. You know, we're going to provide 2023 guidance on the February conference call. And we're looking at 2023, frankly, the big issue being the macroenvironment. just like we're seeing some headwinds now. It's really going to be the macro environment. If the demand environment improves, then we expect to benefit. You may see some additional, some new IT in 2023, but we think it's going to be more of a 2024 type of ramp on the IT.

And CJ, it's Brian. One thing to add on the deferred revenue question, I mean, I think, as you know, we recognize all of our deferred revenue by the end of each of our customer contracts. If you look at our balance sheet, we have, as of the end of September, $67 million in current deferred revenue. So that's the amount that we would currently expect to recognize over the next 12 months.

And can you kind of walk through how that could change if you were to sign a new agreement with your largest customer, would those revenues get pushed to the next contract or they would stay within the next 12-month window?

Yeah, so I think we're not going to be talking, we're not in a position yet to talk about, you know, any contract renegotiations or new contracts. And when they come to pass, you know, we'll certainly provide an update at that point.

Okay, just a quick follow-up. On the gross margin side, you talked about underutilization for Shannon. How should we think about the progression there in calendar 23?

Yeah, so I think Shannon, first of all, is a key capability, and adding this additional capacity to our manufacturing network was really critical as we planned for the future of the industry and where we know that we'll go along with the industry. As we said in the prepared comments, we're a sole source provider for our customers, so we need to make sure that we have the capacity available to meet their needs. As you look into next year, I mean, we're going to, you know, Hot Shannon is a key capability. As I said, it will be part of our network, and we expect to continue to utilize it, you know, to a greater degree, you know, as volumes increase in the years ahead.

Thank you very much.

Our next question is from Krish Sankar with Cowan & Company. Please proceed.

Hi, this is Stephen calling on behalf of Chris. Thanks so much for taking my questions. I have two. First one is just on September quarter as well as December quarter material revenues. Can you talk a little bit about how the linearity of material sales were during the September quarter? And also, just given the guidance or at least the reiteration of the four-year revenue target, the implied sequential decline in Q4 revenues, is materials driving the the majority of that decline, or is there also a dynamic within royalty and licensing where the directionality might also be down for the season?

Yeah, so thanks for the question, Stephen. I mean, I think if you look at your correct in your observation that, you know, we would expect Q4 to be sequentially down based on the midpoint of guidance and where we're at year to date, so that's certainly correct. As we've commented also, you know, material buying patterns for our customers do just generally vary quarter to quarter, so there can be a little bit of lumpiness as a result of that, that can result in Q4 being less than Q3 in this example here. What was the other part of your question? Sorry, I forget the second piece there.

I guess for Q3 in particular, just given the lumpiness of some of the material purchases, I guess from your perspective, with some of that last-minute purchasing for inventory built up ahead of the holiday sales or was there some other play there for Q3?

We're not seeing any abnormal ordering patterns in the business. And your question was earlier on material versus royalty and licensing. And based on our revenue recognition model, they tend to follow one another because we recognize both revenue streams as we sell units and material.

Thanks, Brian. And maybe one question for Steve. I was wondering if you could talk a little bit about the dynamics in your major end markets, like mobile, large display TVs, and also IT. I think the mobile weakness has been well understood for a while now, but I guess as you've seen demand play out so far in the second half of the year, are you seeing large displays also show weakness along with IT, or are those two markets potentially bucking the trend just because of you know, new products coming up for customers, that'd be helpful. Thank you.

Steve, good question. We're generally seeing softness across the board. You know, it does seem as though the high-end cell phone market seems to be holding up reasonably well. We're seeing activity growing for IT, especially as we look forward into 2024. Great.

Thank you very much.

Thank you.

Our next question is from Brian Lee with Goldman Sachs. Please proceed.

Hey, guys. Good afternoon. Thanks for taking the questions. I got on the call a little bit late, so I apologize if you covered some of this. But Brian, nice to speak with you. Does the catch-up revenue you're referring, does that referring to stem from your largest customer? It seems like the revenue contribution from them hit a record quarterly high here. It also is close to being back to 50% of your sales mix. So Wondering if that's what it was related to and then how this would impact 4Q and going forward as well.

Yeah, so we're not in a position to talk about individual customers, but it was a number of customers that resulted in the cumulative catch-up that you saw come through. We have seen quarter-over-quarter sequential growth in revenues of our largest customer.

Okay, fair enough. And then I know you can't give us guidance on 23, but this gross margin issue with Shannon clearly is going to have a multi-quarter impact. It doesn't sound like, just based on your answer to an earlier question, it's going to be... reverting right back to kind of full utilization at the beginning of 23. So how should we be thinking about the path to sort of normalized or historical gross margins if this is going to be an issue that, you know, extends beyond 4Q, if I hear you correctly?

Yeah, I mean, I think as it relates to Shannon, you know, clearly, as I said earlier, it's a key capability that we, you know, see as very critical to our manufacturing network. As we expect increased volumes, material volumes in future periods, we would expect to be able to absorb the overhead related to that facility over that incremental volume. So I think there is a path to get the margins back up to closer to where they were previously. We just, in the near term, given the softness in the market that we've referenced, which is echoing what we're seeing and hearing from peers, it is going to be, you know, for the short bit of time here in the near term, a drag on gross margin.

Okay. Thanks a lot. I'll pass it on.

Our next question is from Sydney Ho with Deutsche Bank. Please proceed.

Great. Thanks for taking my questions, and welcome, Brian. I want to follow up with the last question on the cumulative adjustments. Last quarter, you also have a similar adjustment, but at that time, you did lower guidance for the full year for calendar 22. But this time, you're not changing the full year guidance. Can you help us understand how we should think about revenue perhaps in the out year that is kind of tied to this revenue adjustments for this quarter?

Yeah, so I mean, just kind of explaining it in higher level terms, right? We recognize all the deferred revenue over, well, I guess as it relates to the cumulative catch-up, You know, we assess our forecast on a quarterly basis, and what we saw this time when we went through the process were due to some of the uncertainties in the macro economy, you know, we did have to revise our forward-looking estimates across a number of customers, and that was what resulted in the cumulative catch-up this period.

And just maybe just to clarify, that is a – the adjustment is tied to primarily the royalty and license fees and not the material sales, right?

It's the totality. So we recognize both our material revenues as well as our royalty and licensing revenues based on the units that we expect to sell to each customer. So both revenue streams move in the same direction with each other based on that pattern. So it's both revenue streams. So we look at them on a combined basis in our revenue model.

Okay, got it. Maybe a follow-up question. Given your strong balance sheet with close to $850 million of cash and where your share price is, How does the team and the board of directors think about potentially buying back shares in the open market? I know you want to hold on to some certain cash balance for various reasons, but is buyback something the company would consider?

Thank you. Yeah, sorry, was there another part to that?

No, that's it.

Yeah, so our board and the management team are certainly regularly reviewing the capital structure and ways that we can return capital to shareholders. So we evaluate all options. At present, we continue to believe that the dividend program that we have in place is the best method for us to do that.

Okay, thank you. Thanks.

As a reminder, it is star 1 on your telephone keypad if you would like to ask a question. Our next question comes from Jim Rashudi with Needham & Company. Please proceed.

Hi, good afternoon. This is actually Chris Grenga on for Jim. Thanks for taking the questions. You had mentioned that the investment in the IT panel lines and SDC's Gen 8 line, but of the FAB capacity expansions and retooling that you're keeping track of, are you seeing any indications that those investments are being pushed out or trimmed back?

No, not really. I mean, other than the general thrust of the macro economy and the things that we're seeing, we're not seeing any push-outs on these types of things. It's not that we're not looking for it because we try to look at that. You know, it seems as though IT looks like it may be the next big move up for OLEDs and people want to get on the rise. Everybody looks at this. There is short-term macro uncertainty out there, but the OLED industry is a long-term secular growth market, and people want to be there and be ready when it turns up again.

Got it. Thanks. And how should we think about R&D expense going forward as blue nears commercialization? Do you expect new product development initiatives such as OVJP and perhaps others to ramp investment, to backfill when the intensity of blue kind of subsides?

Yeah. So I think as a growth company, we're always going to be making sure we're making the right investments in the business and in our R&D pipeline, whether it's programs that we already have underway and have talked about or other things that we may have that we're working on. So You know, we're not in a position today to give any guidance on forward-looking R&D expense, but I'll just say we're going to continue to invest and grow the business.

Great. One more, if I may. Any sense of timing or updates on Samsung exercising the two-year extension it has under the in-place agreement?

We can't talk about anything right now. When there's something to announce, we will talk about it.

Perfect. Thank you very much. Thanks. You're welcome.

And our final question is from Martin Yang with Oppenheimer and Company. Please proceed.

Hi. Thank you for taking my question. So given a tougher setup for smartphones and TVs into next year, can you maybe give us a historical perspective on when demand slows down and there's massive pricing on panels Were there any customer demand for you to lower prices? And looking into next year, do you feel that it's comfortable to hold your ASP assumptions stable into next six months or next 12 months?

We have long-term contracts with our customers, and we're constantly talking to them. But we're pretty confident, comfortable in our current pricing strategies.

Got it. Also, a follow-up regarding Shannon's facility is that once it's turned on, do you feel the need to maybe put it offline if you want to maybe optimize your margin structure, or do you intend to keep it running once it's started?

Yeah, so it's a good question. I mean, I think if you think about it, you know, it's not the type of thing you can easily turn off and turn on when you need it and don't. So, you know, we have a core group of folks that are working there with our partner, PPG, and, you know, our expectation is that we need to have that group, you know, ready and able to continue to grow and develop the facility.

Got it. Thank you, Brent. Welcome to the company. All right. Thank you.

Thank you. This does conclude our question and answer session. I would like to turn the program back over to Brian Millard for any closing or additional remarks.

Thank you all for your time today. We appreciate your interest and support.

Thank you. This does conclude today's conference. You may disconnect your lines at this time, and thank you for your participation.