Sequans Communications S.A.

Welcome to the sequence third quarter 2020 results conference call. At this time, all participants are in a listen only mode. Later, we will conduct a question and answer session. Instructions will be given at that time. As a reminder, the conference is being recorded. Before I turn the conference over to our host, Mr. Georges Karam, I'd like to remind you of the following important information in behalf of sequence. This call contains projections and other forward-looking statements regarding future events or our future financial performance and potential financing sources. All statements other than present and historical facts and conditions discussed in this call, including any statements regarding our expected revenue for the fourth quarter of 2020, future results of operations and financial positions, business strategy and plans, expectations for massive IoT and broadband critical IoT sales, the ability to continue to operate remotely as required at high levels of productivity, increasing backlog of orders, the impact of the coronavirus on our manufacturing operations and on customer demand, and our objectives for future operations, our forward-looking statements within the meaning of the Private Securities Justification Reform Act of 1995, Section 27A of the Securities Act of 1933 as amended and Section 21E of the Securities Exchange Act of 1934 as amended. These statements are only predictions and reflect our current beliefs and expectations with respect to future events and are based on assumptions and subject to risks and uncertainties and subject to change at any time. We operate in a very competitive and rapidly changing environment. New risks emerge from time to time. Given these risks and uncertainties, you should not rely on or place undue reliance on these forward-looking statements. Actual events or results may differ materially from those contained in the projections of forward-looking statements. More information on factors that could affect our business and financial results are included in our public filings made to the Securities and Exchange Commission. Thank you. Please go ahead, sir.

Thank you, madam. Good morning, ladies and gentlemen. This is Georges speaking. I'm with Deborah Choate, our Chief Financial Officer. Welcome to our third quarter results conference call. We hope everyone is staying safe and remaining healthy as all of us continue to deal with this, with the pandemic. Our global organization continues to take the necessary steps to ensure the safety of all our people, and we have been functioning quite well. I'd like to take this opportunity to acknowledge our entire worldwide team for their determination, their flexibility, and for generally living our values during this challenging time. As you have seen by our press release, we exceeded our target revenue in Q3. and we are expecting another sequential increase in Q4, putting us on track to grow over 60% for the year, compared to our previously announced target of 50% year-over-year growth. At the high level, the positive revenue impact of the coronavirus on our broadband IUT business is offsetting the short-term drag it's having in other areas. So we are on track to achieve a stretch revenue target, but with a different mix of business than we were expecting as we began the year. I'm pleased to say we are executing very well and the momentum in all segments of our business is building up. Our key accomplishments fall into three areas, design wins, product development, and go-to-market strategy. I'm proud of what we have achieved already in each of these areas and we expect to accomplish even more before the year is over. Let me now take you through some of the detail of each of our business segments and I'll start with the broadband and critical IOT. We exceeded our revenue target for Q3 in our broadband IOT business because we managed to accommodate more orders for modules powering the Jetpack Ellipsis 4G portable router sold by Verizon. On the past two conference calls, we have spoken about the exponential increase in demand that began in the first quarter related to these routers being supplied to schools as part of COVID-related distance learning support. We also have spoken about the challenges we have faced with extended lead times for certain components. Fortunately, our supply chain issues became more manageable during the third quarter, and we were able to ship more than originally expected. On our last conference call, we were assuming orders related to portable routers would settle back toward pre-COVID levels in Q4, but we currently see Q4 module sales in a broadband IoT remaining at a very high level, similar to Q3. Looking into next year, we don't have good visibility yet, but our current assumption is that we will not remain in surge mode for portable routers in Q1. As a result, we are expecting a shift in business drivers in broadband IoT next year and more customers diversity as the new CBRS market begins to ramp and we gain more traction in our emerging markets business. We are excited about the CBRS business. Design wins we gained so far this year are beginning to move to production and we will have some modest revenue from this market already in Q4. Recently, the U.S. government completed the auction of licenses for the 3.5 gigahertz band referred to as CBRS. The spectrum will be used by various entities to build their own 4G, 5G private networks as well as by mobile operator and other service providers to improve networks coverage and capacity. Last year, we introduced the industry's first CBRS modules designed from the ground up to enable cost-effective and easy deployment of broadband IoT devices on private CBRS networks. The modules are based on our Cassiopeia LTE technology, which has benefited from a decade of experience in 3.5 GHz spectrum deployments in various countries. Since we introduced them last year, these products have been very well received by the market because the platform is mature and the solutions are optimized for this market. Therefore, they are much less costly than our competitors' products. Having a cost-effective solution is extremely important for private CBRS networks, where 4G, 5G is being used as an alternative to Wi-Fi, offering guaranteed quality of service by using semi-licensed spectrum. We are working with more than a dozen companies who are using our LTE Cat4 and Cat6 CBRS modules. With distance learning likely to remain important, We believe educational institutions will create their own platforms using private LTE networks. There is also significant interest in private networks deployment from other vertical markets such as industrial IoT, health, public safety, and utilities. We have numerous additional engagements that have not yet converted to design wins, and we believe we are well positioned to achieve significant market share in this area. As part of our go-to-market strategy for CBRS, we added a major module partner to help expand our reach in this market. Our partner, Telet, has launched two CBRS modules based on our platform, and last week, we had a very well-attended joint webinar with Telet to discuss the impact of CBRS on various vertical markets. We are off to a good start and we expect to begin accumulating design wins through them rather quickly. We also expect emerging markets to make a larger contribution to broadband IOT revenue next year. The customers we added this year are ramping up and will complement the business we have with long-time relationships with customers such as Gemtech. They have been winning new projects in new regions such as Southeast Asia and the Middle East. Finally, we are discussing few opportunities about devices based on our Cassiopeia platform with different U.S. carriers and service providers that could generate some potential upside in the second half of next year. The surge in orders to support remote learnings was helpful fueling the growth of the broadband IoT business this year. But the exciting long-term future of our broadband and critical IoT business is going to be driven by gaining a large share of a completely new market like CBRS, where we have a product advantage and a strong go-to-market support, and coming to market at the right time with a cost-effective 5G platform that's optimized for non-handset applications and capitalizing on technology leadership and several other advantages such as the support of world-class strategic partners and the market duopoly we can create outside of China. We are extremely pleased with our progress on 5G technology development. We have continued to reach all important milestones on or ahead of our target dates. Also, when thinking about our R&D spending, it's important to note that we are now laser-focused on 5G technology. We are excited about the growing interest in our Taurus 5G platform and the increasing number of engagements with prospective customers and strategic partners. To update you on the status of the potential strategic partnership for 5G that has been in active negotiation for a while now, We are pleased to say we are moving ahead on the first phase of initial study this quarter, while our partner is concluding its budget allocation to proceed with the second phase and full project that will have the same scope and revenue amount we have previously expected. In addition, we have made progress on the other strategic engagements we have initiated, and we have a growing confidence that several of these will come to fruition as well based on the strong interest in our 5G technology. So we are moving ahead on all fronts in 5G. We continue to feel very confident and excited about our position and our ability to drive growth for more than a decade. Let's now turn to MassiveIoT. We are very confident about our MassiveIoT business. and we believe the ramp in MassiveIoT will support a high rate of overall growth for the next few years because we are securing major design wins and the momentum is there. But a certain amount of patience is required to operate successfully in this market. We know many of you are frustrated just as we are with how long it's taking to see the MassiveIoT market growth accelerate. COVID-19 was a headwind in 2020 that was a temporary drag in a few places. But the ramp is happening. We are so far ahead of where we were a year ago. We are winning bigger projects with bigger companies and filing the pipeline with even more exciting opportunities. We have solved the problem of how to address the fragmented market efficiently, and we are extending our reach through mutually beneficial partnerships. and we are completing the second generation of our products, which will strengthen our competitive advantages and enable customers to transition seamlessly into a 5G world. Going into a little bit more detail, our massive IOT revenue stream coming from our existing base of Cat 1 and Cat M and B customers is doing well and growing. The business with Gemalto, our largest module partner, is performing well and we have with them a large number of secure design wins in the US and Japan with both CAT-1 and CAT-MNB technologies. As an example, the second phase of a major metering project in Japan we are addressing with them has been finalized. It will begin next year and last for about 18 months. Also, we are reaching the launch phase of another major design win with them. On the other side, Our module business in the automotive segment, such as tracking and fleet management, is coming back after being affected by COVID and will continue to see strong order pattern from our customer who's building infectious disease testing devices. Some of the CATAM projects we have in hand, which were delayed by the pandemic situation, are now reaching the launch phase with initial orders received. In Q3, we have secured a new customer designing two health monitoring devices, and the pipe of opportunities keeps building with high-quality customers. We are gaining traction in the metering space where our Monarch SIP has some distinct advantages over competing solutions. We mentioned a major metering project using our Monarch platform on our last call and we can now say this is a deal with ITRON and we have finalized the product supply agreement this quarter. Meanwhile, Monarch 2, the second generation of the Monarch platform, has been sampling to a few customers for evaluation and is about to enter carrier certification. The feedback from customers is outstanding. and two of them have selected this chip for new projects. We are consistently better than the competition in several respects. We have industry leading power consumption, which we have further reduced with Monarch 2. The platform also features a highly secured integrated SIM capability and low voltage operation down to 2.2 volts that allows for optimized low-cost battery selection. We expect this new platform to be a strong factor in the growth of our massive IOT business over the next several years. We have a lot of interest in our Cat 1 second-generation Calliope platform, Calliope 2 platform, which will be sampling early next year. We are developing an excellent pipeline of opportunities as the only non-Chinese vendor with a low-power CAT-1 offering coming to market. The CAT-1 speed and voice support capabilities make such technology ideal for some IoT devices such as security systems and wearable and hearable applications. One thing that has been reinforced by our experience so far While the time to revenue can be very long for certain applications, the business, once it's been won, is also very sticky. For example, new medical devices must go through a long, comprehensive approval process not directly related to the cellular connectivity. There is also a very long qualification process for smart meters. These approvals and qualifications are in addition to the certification required by carriers before any of these devices can run on their network. However, on the positive side, customers will not be quick to switch vendors because it will require them to start the process all over again. Once we are deeply involved in a project with the customer, even if it hasn't launched, they are not likely to be swapped by a promise of something just around the corner by a competitor. Furthermore, we have succeeded recently in displacing other vendors in situations where the competitor failed to deliver what they promised. Another key lesson we have learned as a pioneer in massive IoT is when it comes to new designs and applications enabled by new 4G, 5G technology, it has to be easy to incorporate into the design of the device. Providing a development kit or a pre-integrated platform reduces complexity and design cost for the customer. This is where we have made great progress during the year. For example, with Avnet, one of our distribution partners, we recently combined Monargo with a widely used and understood development environment called Raspberry Pi HAT. HAT stands for Hardware Attached on Top. and enables Monarch Go to be plugged directly onto the Raspberry Pi board which vastly simplifies the development of many types of IoT applications. We announced bundling our Monarch platform with microcontrollers from several large top tier MCO partners such as Microchip, NXP and STMicro. and integrating the software as a first step toward offering more integrated solutions with some of them. Just last week, we added a new MCU partner, Renesas, one of the largest microcontroller companies. They will offer a variety of modules based on our Monarch technology, creating a complete and unique integrated hardware and software solution that's ready for use. This will save customers both time and money. You will be hearing more about various types of more integrated solutions over the next several months. In addition to simplifying the process of adding cellular connectivity to IoT devices, these partnerships greatly enhance our go-to-market strategy and will enable us to penetrate the IoT market faster by extending our reach to all corners of this very fragmented market. So to summarize, What will make a real difference in the massive IOT business next year when our second generation CAT-MNB product is very successful based on the great feedback we are getting from customers and the first design wins we have secured so far. This new platform should maintain our technology leadership and increase our design win rate. Also, we'll have a unique and differentiated position with our next generation Cat1 product that will help us covering all the spectrum of massive IoT applications. Second, we now have several mutual beneficial partnerships with large marquee companies that ship billions of microcontrollers for IoT devices every year. And we are just beginning to scratch the surface of what can be accomplished with them. Last, to conclude on vertical markets, turning to projects for vertical markets, which are mainly services provided to our customers to adapt our software for avionics, public safety, military, and satellite applications, we are very close to finalizing a new satellite project that we have engaged in the third quarter. This project is a new one in addition to the large one we have secured with our customer, but where we are waiting to learn if our customer has been awarded the deal. Regarding this large project, we are encouraged by the fact that the deal is reaching the final phase of selection. Our customer appears to be confident in their chances of winning because they decided to move ahead with some preliminary work that will enable them to move faster once they get the final word expected sometime during Q4. So we'll have a minor amount of revenue in Q4, but the large deal will likely be finalized next year. Most of the revenue generated by our vertical markets business is from services, and of course, strategic projects revenue is also services. Thus, we expect higher services revenue next year based on the various vertical and strategic projects we've discussed today. So with this positive report on our business, as we navigate the challenges of operating during the second phase of a global pandemic, I will now turn the call over to Deborah. Deborah?

Thank you, Georges. Good morning, everyone. I'd like to add some details about our third quarter results and other developments. Our third quarter revenue was $14.1 million, a sequential increase of 15.5% from the second quarter primarily driven by a 32% increase in product revenue. Revenue in Q3 increased 116.6% compared to the same quarter a year ago. We continue to expect further sequential growth in the fourth quarter, putting us on track for greater than 60% top line growth for 2020. We again had three greater than 10% customers in the quarter. One is an OEM and two are ODMs. Gross margin in Q3 was 42% compared to 48.3% in the second quarter and compared to 30.3% in the third quarter of 2019. The Q3 2020 gross margin reflects a much greater proportion of modules in the product mix than in Q2 and a lower proportion of service revenue. We expect a more favorable mix in Q4, which will enable us to improve our gross margin. Operating expenses were 11.8 million in Q3, up slightly from the 11.5 million in Q2, primarily due to an unfavorable Euro-dollar exchange rate compared to Q2. Non-IFRS operating expenses were 11.3 million, up from 10.8 million in Q2. Our third quarter operating loss was 5.9 million dollars, compared to an operating loss of 5.6 million in the second quarter and an operating loss of $8.6 million in the third quarter of 2019. Our net loss in Q3 was $9 million or $0.30 per diluted ADS and included a non-cash gain of $1.5 million from the revaluation of the embedded derivative arising from the March 2020 amendments to the convertible debt agreement. This compares to a net loss of $19 million or $0.70 per diluted ADS in the second quarter which included a non-cash loss on the revaluation of the abetted derivatives of $9.1 million. The net loss in the third quarter of last year was $9.8 million or 41 cents per ADS. Our weighted average number of ADSs in Q3 was 30.3 million, an increase of 3.1 million ADSs reflecting the full impact of the equity offerings in May. On a non-IFRS basis, our net loss for Q3 was $8.4 million, or $0.28 per diluted ADS, compared to a non-IFRS net loss of $7.5 million, $0.28 per diluted ADS in the second quarter, and a net loss of $8.6 million, or $0.36 per diluted ADS in the third quarter of 2019. Our non-IFRS net loss excludes the following non-cash items. stock-based compensation expense, the impact of the fair value and effective interest adjustments related to the convertible debt with embedded derivatives and other financings, the impact of convertible debt amendments, and the deferred tax benefit or expense relating to the foregoing adjustments to convertible debt and other financings. In analyzing the difference between our actual non-IFRS net loss in Q3, and the various analyst estimates, we noted that where there was a difference related primarily to the assumptions used regarding foreign exchange gain or loss for the quarter. In Q3, we had a foreign exchange loss of almost $900,000 or 3 cents per ADS, most of which was unrealized and non-cash and related to the revaluation of Euro-denominated net liabilities totaling about 18 million Euros on the balance sheet. Investors should be aware that possible changes in foreign exchange rates related to balance sheet items and the marking to market of the embedded derivative from the convertible debt amendments can cause significant differences in net income or loss from quarter to quarter. While the impact of swings in the value of the embedded derivative is excluded from our non-IFRS presentation, foreign exchange gains and losses, whether realized or unrealized, are not. Cash flow used in operations during Q3 was $7.9 million, compared to cash flow used in operations of $2.3 million in the second quarter. Our cash and short-term deposits at September 30, 2020, totaled $25.3 million, compared to $35.5 million at the end of Q2. We are pleased to report excellent progress toward French government innovation financing as part of a technology consortium of seven partners for 5G. It's in what's called the instruction phase, which is the final phase, and we believe proceeds could be more than €5 million. Accounts receivable at September 30, 2020 increased to $14.1 million from €10.7 million at the end of Q2, reflecting the higher product sales in the quarter. DSOs were 91 days compared to 61 days at the end of Q2. However, this was due to a great extent to a large payment due at the end of September that was received in early October. Inventories decreased slightly to $5.8 million compared to $5.9 million at the end of Q2, despite the ramp in product revenue. Current trade payables remain stable at $17 million. Short-term debt from financing receivables increased to $14.4 million from $10.5 million at the end of Q2. Now turning to the financial outlook, we are targeting 10% sequential revenue growth in Q4, which leads to greater than 60% year-over-year growth for 2020 as a whole. For those of you developing financial models, we assume that non-IFRS gross margin will continue to reflect a high proportion of modules in the mix similar to Q3, but with a slightly higher level of services. We expect gross margin for the full year to be around 45%. For non-IFRS operating expenses, They're expected to be a little bit higher in Q4, mainly in R&D, and assuming that the Euro-dollar exchange rate remains stable. Part of the reason for the increase is that we expect to capitalize less R&D costs as development of our second generation CAT-M and CAT-1 chips is completed, and we are not yet capitalizing costs related to the 5G chip development. We expect non-IFRS financial expenses to be around $2 million in Q4, excluding any foreign exchange gain or loss. To help guide your assumptions about the impact of changes in the Euro dollar exchange rate related to the revaluation of Euro denominated net liabilities on the balance sheet, currently each one cent change in the Euro is close to $200,000 of unrealized gain or loss based on the balance sheet position at the end of September. You should make your own assumptions, and we're giving no guidance on foreign exchange rates for the future. For modeling purposes, the exact number of ADSs on September 30, 2020 was 30,312,160. And finally, we wanted to let you know that since our current shelf registration statement expires shortly, we will be filing a new F-3, replacing our old one, and it will have essentially the same terms. Before I turn the call back to George, I'd like to remind you that at the conclusion of this call, we will post a written version of our formal remarks in the investor relations section of our website on the webcast and presentations page, the same location where you will find the audio replay. Also, George and I will be participating in the virtual Ross Technology Day on November 12th, and we look forward to speaking with you if you plan to participate. And I'll turn the call back to George.