Dolby Laboratories

Welcome to the Dolby Laboratories conference call discussing fiscal first quarter results. During the presentation, all participants will be in a listen-only mode. Afterwards, you will be invited to participate in a question and answer session. At that time, if you have a question, you will need to press star 1 on your telephone. As a reminder, this call is being recorded Wednesday, January 29, 2020. I would now like to turn the conference call over to Mr. Jason Deedy, Director of Investor Relations for Dolby Laboratories. Please go ahead, Jason.

Good afternoon. Welcome to Dolby Laboratories first quarter 2020 earnings conference call. Joining me today are Kevin Yeaman, Dolby Laboratories president and CEO, and Louis Chiu, executive vice president and chief financial officer. As a reminder, today's discussion will include forward-looking statements. These statements are subject to risk and uncertainties that may cause actual results to differ materially from the statements made today. A discussion of some of these risks and uncertainties can be found in the earnings press release that we issued today under the section caption, Risk Factors, as well as in our most recent report on Form 10-K. Dolby assumes no obligation and does not intend to update any forward-looking statements made during this call as a result of new information or future events. During today's call, we will discuss GAAP and non-GAAP financial measures. A reconciliation between the two is available in our earnings press release and in the Dolby Laboratories investor relations data sheet on the investor relations section of our website. As for the content of today's call, Lewis will begin with a recap of Dolby's financial results and provide our fiscal 2020 outlook, and Kevin will finish with a discussion of the business. So with that introduction behind us, I now turn the call over to Lewis.

Okay, thanks, Jason, and good afternoon, everybody. I think we'll get right into the Q1 numbers. First quarter revenue was $292 million compared to $299 million in Q4 and $302 million in last year's Q1. Overall revenue for the quarter was in line with the guidance that we provided at the beginning of the quarter. And as a reminder, we were expecting Q1 revenue to be down year-over-year because of lower product revenue, which I'll expand upon in a minute, and lower recoveries. And this was offset partially by higher adoption of some of our adulting technologies. Having said that, we are expecting year-over-year growth in Q2 and for the full year, and more on that when I go over the outlook. So back to the Q1 revenue discussion. For the quarter, licensing was $258 million, while products and services were $34 million, and that's a breakdown of the $292, I said, if I can go. Here's my commentary on licensing revenue by end market. Broadcast represented about 40% of total licensing in the first quarter. Broadcast revenues were up by about 2% year-over-year. We saw some growth from higher adoption of Dolby Vision and Dolby Atmos, and this was partially offset by timing of revenue under contracts. On a sequential basis, broadcast was down about 13% due to lower recovery and from timing of revenue. Consumer electronics represented about 19% of total licensing in the first quarter. On a year-over-year basis, consumer electronics licensing increased by about 12%. This was driven by higher volume as we saw more adoption. On a sequential basis, CE increased by about 31%. This was helped by holiday seasonality along with higher volume from devices like VMAs and speakers. Mobile devices for the quarter represented about 13% of total licensing. And mobile was up about 1% over last year, but down about 24% sequentially. And this is due mainly to timing of revenue, as well as from lower recoveries. PC represented about 12% of total licensing in the first quarter. PC was up by about 38% year over year, and up about 29% sequentially over Q4. These were driven mostly by higher recoveries, along with some increased adoption of Dolby technologies. Other markets represented about 16% of total licensing in the first quarter. They were down by about 32% year-over-year, mostly due to lower recovery in automotive. On a sequential basis, other licensing was flat compared to Q4, as growth in Dolby Cinema was offset by lower revenue from gaming due to the console lifecycle. Product and services revenue was $34 million in Q1 and now similar to the $34 million we had in Q4 and compares to $42 million in last year's Q1. The year-over-year gap is attributable to hybrid deals in Dolby Cinema that we had in Q1 of last year that didn't repeat in Q1 this year. As a reminder, in limited instances, we have hybrid Dolby Cinema deals that involve large upfront amounts that are accounted for as product sales when the appropriate parameters are met. Let's move on to margins and operating expenses. Total growth margin in the first quarter was 87.2% on a GAAP basis and 87.7% on a non-GAAP basis. Products and services growth margin on the GAAP basis was 27% in the first quarter compared to 14.2% in Q4. And products and services growth margin on a non-GAAP basis was 29.7% in the first quarter compared to 18.9% in Q4. The improvement in both the GAAP and non-GAAP product margins was primarily due to lower inventory write downs. Operating expenses in the first quarter on the GAAP basis were $206 million compared to $201.6 million in Q4. Operating expenses in Q1 were about $8 million less than the low end of the range that we had guided. And a little over $4 million of that came from the resolution of a property tax dispute in our favor in Q1 sooner than we had anticipated. Spending was also lower than we had projected in certain legal areas and also in our marketing programs. A lot of this is timing. We still expect the activity to occur just later in the year. Operating expenses in the first quarter on a non-GAAP basis were $182 million compared to $177.5 million in the fourth quarter. The comments I made about GAAP expenses apply similarly here to non-GAAP. Operating income in the first quarter was $48.6 million on a GAAP basis or 16.6% of revenue compared to $68.7 million or 22.7% of revenue in Q1 of last year. Operating income in the first quarter on a non-GAAP basis was 74.1 million dollars or 25.4 percent of revenue compared to 92 million dollars or 30.4 percent of revenue in Q1 of last year. The effective income tax rate in Q1 was 10.8 percent on a GAAP basis and 18.3 percent on a non-GAAP basis. The GAAP tax rate was lower than guidance because of discrete items that benefited us during the quarter. Net income on a gap basis in the first quarter was $48.8 million or $0.47 per diluted share compared to $98.2 million or $0.93 per diluted share in last year's Q1. As we expected, EPS was below last year because of the year-over-year revenue decrease and also because last year's Q1, the net income in last year's Q1, that is, included a $35 million income tax benefit related to U.S. tax reform. Thinking about guidance though, GAAP EPS for the quarter was above our guidance as we benefited from lower than projected operating expenses and the lower taxes. Net income on a non-GAAP basis in the first quarter was $65.5 million or 64 cents per diluted share. That compares to $78.7 million or 74 cents per diluted share in Q1 of last year, with a decrease due to the revenue and the expense trends that I've already gone over. Non-GAAP EPS for the quarter was above our guidance, as we benefited from revenue being at the upper end of our range and from expenses being lower than we projected. During the first quarter, we generated about $31 million in cash from operations, which was below last year's Q1, driven by the lower income, as I discussed. We ended the first quarter with a little over $1 billion in cash and investments. And during Q1, we bought back about 430,000 shares of our common stock. And we ended the quarter with about $330 million of stock for purchase authorization still available. We also announced today a cash dividend of 22 cents per share, which will be payable on February 20, 2020, to shareholders of record on February 10, 2020. So let's move on to the outlook. And I'll start with the full year. We're holding our outlook for the year unchanged from what we guided last quarter, except for a small tweak on the income taxes. So to reiterate, for fiscal 20, we anticipate the total revenue will range from $1,300,000,000 to $1,350,000,000. Within that total, we estimate that licensing will range from $1,160,000,000 to $1,200,000,000. while products and services are estimated to range from $130 million to $160 million. Here are factors that we've incorporated into the full-year outlook. We anticipate that broadcast revenues will benefit from more adoption of Dolby Atmos and Dolby Vision in TVs and set-top boxes, but we are projecting lower recoveries, which would largely offset this. In mobile, we expect revenues to grow above the company average, with contributions from our branding technologies and from our patent licensing programs. Consumer electronics is projected to grow primarily from VMAs, sound bars, and smart speakers. In TC licensing, we expect the benefit from higher recovery along with increased adoption of our newer technologies. And this will be partially offset by downward pressure from ASPs due to mix. In other licensing, we expect growth in Dolby Cinema as we plan to add a similar number of new screens in FY20 as we did in FY19. But also in the other category, we are projecting lower recoveries in automotive and lower gaming revenues because of the lifecycle of consoles. And my comments about Q1 reflect some of that happening already. And finally, in products and services, we are projecting cinema products to be relatively flat, while Golden Voice is expected to grow. Gross margin for the year on a GAAP basis is projected range from 87% to 88%. And for non-GAAP, we expect gross margin to range from 88% to 89%. Operating expenses are projected range from $829 million to $849 million on a GAAP basis and from $740 million to $760 million on a non-GAAP basis. Other income is estimated to range from $15 million to $20 million for the year for both GAAP and non-GAAP. The effective income tax rate for the year is expected to range from 17% to 19% on a GAAP basis, and from 18% to 20% on a non-GAAP basis. Based on the factors above, we estimate the full-year believing earnings per share will range from $2.64 to $2.74 on a GAAP basis, and from $3.40 to $3.50 on a non-GAAP basis. Now let me cover the second quarter numbers. For the second quarter of FY20, we anticipate that total revenue will range from $370 million to $390 million. Within that, we estimate that licensing will range from $345 million to $365 million, while products and services is projected to range from $25 million to $35 million. Last year's Q2 total revenue was $338 million, which means that our outlook anticipates that the Q2 year-over-year revenue growth would range from about 9% to 15%. This growth reflects a combination of positive drivers, including higher recovery, increased adoption of Dolby technologies, and timing of revenue under contract. Growth margin for Q2 on a gap basis is estimated to be around 89% plus or minus, and non-gap growth margin is estimated to be around 90% plus or minus. Operating expenses in Q2 are estimated to range from $213 million to $219 million on a gap basis, and from $191 million to $197 million on a non-gap basis. Other income is projected to range from $4 to $5 million for the quarter, And our effective tax rate for the second quarter is projected to range from 18% to 20% for both GAAP and non-GAAP. So based on a combination of the factors I just reviewed, we estimate that Q2 diluted earnings per share will range from $0.97 to $1.03, that's $1.03 on a GAAP basis, and from $1.15 to $1.21 on a non-GAAP basis. So now I'd like to hand it over to Kevin. Kevin? Thank you, Lewis, and good afternoon, everyone. We're off to a strong start in 2020, and we are well positioned for another year of mid to high single-digit revenue growth and even higher earnings per share growth. And we remain focused on the opportunity to accelerate that growth further. Our focus within the consumer entertainment ecosystem continues to be growing the number of devices that support Dolby Vision and Dolby Atmos, broadening the device categories that include our technologies by enabling new forms of content, like music, and increasing the value we bring to these devices with new innovations. This quarter, we made progress in all three of these areas. Buildy Vision and Buildy Atmos experiences are becoming increasingly available to hundreds of millions of consumers around the world, and at the same time, we believe the opportunity is still ahead of us, given the early stages of these adoption cycles. Over the course of 2019, we saw steady growth in the adoption rate of Dolby Vision within 4K TVs, as our partners like Vizio, Panasonic, and TP Vision added support of Dolby Vision deeper within their lineups. More recently at CES, we continued to see that momentum with Skywork, Sony, and Hisense, each adding support for the combined Dolby Vision and Dolby Atmos experience into additional models within their TV lineups. Over the last year, Dolby Vision TVs have become increasingly affordable across a wide range of price points and are now available below $250. Beyond TV, we remain focused on enabling Dolby Vision and Dolby Atmos across a broad range of devices. Last year in the PC space, sales shipped their first PCs that support Dolby Vision, and Apple began to support the combined Dolby Vision and Dolby Atmos experience within MacBook products, joining Lenovo. This year at CES, Lenovo increased the number of models that support the combined experience within their latest PC lineups. ASUS also announced their first gaming laptops that include support for Dolby Atmos. We have also seen growing adoption of Dolby Atmos within soundbars. All five of the best soundbars of CES 2020, named by Digital Trends, include support for Dolby Atmos. The content for these devices continues to expand. with the recent launch of Disney Plus and Apple TV Plus. Both services make the combined daily experience available at their standard pricing rather than reserving it for a premium tier. This gives consumers more reason to seek Dolby Vision and Dolby Atmos experiences within their devices. The impressive list of content available to consumers around the world continues to grow with the strong support of our partners like Netflix, Amazon, Rakuten, Tencent, and ITU. There are now over 2,800 pieces of content available in Dolby Vision and 1,800 pieces of content in Dolby Atmos. We continue to see our partners highlight Dolby Vision and Dolby Atmos with their high profile titles, such as Netflix's The Irishman and Apple's The Morning Show. Last quarter, we began enabling music content with Dolby Atmos, which enables us to bring additional value to devices and creates opportunities to increase our relevance in new device categories. This quarter we premiered a series of artist stories featuring some of today's biggest names in music, including Post Malone, Lizzo, Coldplay, and J Balvin. These stories highlight the emotional reactions from artists when they experience their music in Dolby Atmos. We also enabled live Atmos experiences at the American Music Awards, including performances from Post Malone, Lizzo, and Dua Lipa. There's been a strong positive reaction for music in Dolby Experience from both artists and consumers. It has clearly sparked a lot of interest, and this is exactly the type of innovation that gives our partners more reason to adopt our technologies. The Amazon Echo Studio and Amazon Music HD were the first smart speaker and streaming service to enable the Dolby Atmos music experience to consumers and has received highly favorable reviews after its first few months of being available in market. Tidal, an artist-owned music platform, became the second streaming service to support Dolby Atmos music. With Tidal HiFi, consumers are now able to enjoy the Dolby Atmos music experience on Atmos-enabled Android devices, including Samsung, Oppo, and Sony mobile phones. Tidal HiFi features full playlists available on Dolby Atmos, from artists such as The Weeknd, Ariana Grande, and Meek Mill. The Dolby Atmos music experience is bringing new value to mobile phones and smart speakers, which will give us the opportunity to increase the adoption of Dolby Atmos within these devices and create new opportunities in areas like automotive and headphones. We also remain focused on continuing innovation and increasing the value proposition of Dolby Vision and Dolby Atmos. At CES, we launched Dolby Vision IQ along with our partners LG and Panasonic. Dolby Vision IQ intelligently optimizes the picture on your TV at every moment by adjusting to the surrounding light and the type of content that you are watching as you switch channels. Named as Engadget's best home theater product of CES 2020, Dolby Vision IQ is providing another reason to adopt the Dolby Vision experience and brings additional value to each device. Let me shift now to Dolby Cinema. This past quarter, some of 2019's top blockbuster movies, Star Wars, Rise of Skywalker, Frozen 2, and Joker came to the big screen featuring Dolby Vision and Dolby Atmos. In 2019, all of the top 10 global box office titles were available in Dolby Cinema. We also continue to expand the global footprint of Dolby Cinema. Just last week, we entered into a new partnership with Shin Kong Cinemas, which will enable the first Dolby Cinema in Taiwan. Overall, we now have about 250 Dolby Cinema sites open globally across 11 countries and over 20 exhibitor partners. In addition to growing the number of Dolby experiences that people are enjoying through movies, TV, and music, we see compelling opportunities to enable more Dolby experiences beyond entertainment. We had a solid quarter for Dolby Voice as our rooms as a service offering is driving a growing number of Dolby Voice rooms. Beyond this, we are excited by the opportunity to broaden the availability of Dolby experiences. For example, we have created a platform for developers to access certain Dolby technologies that enable higher quality media and communications experiences within their applications and services. These initial examples can range from enhancing the quality of an online learning course or improving the communication within an app that connects you to a medical advisor. We believe these offerings can both reinforce our existing propositions as well as create new revenue opportunities. We're still in the early stages of these efforts and I look forward to updating you more as we progress. So to wrap up, this quarter we continue to make progress across each of our growth areas. The amount of Dolby Vision and Dolby Atmos content continues to grow, driving higher adoption of the Dolby experience within our partners' devices. We've received a strong reception for the Dolby Atmos music experience from artists and consumers, which gives more reasons for partners to adopt Dolby on more devices. We continue to bring new value to our partners and consumers with our latest innovations like Dolby Vision IQ. And at the same time, we are growing the ways that people can have a Goldie experience, including the expansion beyond entertainment. As the number of Goldie experiences available to people around the world grows, we continue to strengthen our opportunities to drive revenue and earnings growth through 2020 and beyond. I look forward to updating you next quarter, and with that, I will turn it over to Q&A.