Xperi Inc.

Good day, ladies and gentlemen. Thank you for standing by. Welcome to the Xperia second quarter fiscal year 2020 earnings conference call. During today's presentation, all parties will be in the listen-only mode. Following the presentation, the call will be open for questions. To ask a question, please signal by pressing star 1 at any time to be placed in the queue. This call is being recorded Monday, August 10, 2020. I would now like to turn the call over to Jerry Winefield, Vice President of Investor Relations for Xperia. Jerry, please go ahead.

Good afternoon, everyone. Thanks for joining us as we report our second quarter fiscal year 2020 financial results. With me on the call today are Jon Kirchner, CEO, and Robert Andersen, CFO. Also on the call is Sameer Armali, President of IP Licensing, who will be available along with Jon and Robert to answer questions during the Q&A portion of the call. Before we begin, I'd like to provide two reminders. First, today's discussion contains forward-looking statements that are predictions, projections, or other statements about future events, which are based on management's current expectations and beliefs, and therefore subject to risks, uncertainties, and changes in circumstances. Please refer to the risk factors section in our SEC filing, including our most recent form, 10-Q, for more information on the risks and uncertainties that could cause our actual results to differ materially from what we discussed today. including but not limited to risks associated with the TiVo transaction, the development and launch of new products, and any potential impact of the coronavirus. Please note that the company does not intend to update or alter these forward-looking statements to reflect events or circumstances arising after this call. Second, we refer to certain non-GAAP financial measures which exclude merger and acquisition related expenses, integration and separation expenses, acquired intangible asset amortization, charges for acquired in-process research and development, stock-based compensation expense, realized gains or losses on equity securities, and gains or losses on debt extinguishment. We have provided reconciliations of these non-GAAP measures to the most directly comparable GAAP measures in the earnings release and on the investor relations section of our website. The recording of this conference call will be available on our investor relations website at www.experi.com. I'll now turn the call over to Jon Kirchner.

Thanks, Geri, and thanks, everyone, for joining us. Let me start by saying that this is an exciting time for our company. This is our first earnings call since we closed the merger between Experi and TiVo. And over the past few months, we've made tremendous progress toward unlocking the value of this transformative combination. including progress around our planned separation of the IP and product businesses. These efforts involve working jointly to sell technology across our combined customer channels, advancing product roadmaps, and leveraging our respective IP strengths across the larger combined patent portfolio. As part of these efforts, we are making significant progress towards executing on our forecasted expense synergies, and remain highly confident in our ability to realize at least $50 million in annualized cost synergies by the end of 21. We also continue to successfully execute on our underlying business, including signing new licensing agreements in the IP and product businesses, as well as making significant progress on outstanding litigation. While it's still early in our transformation, We've already validated many of the assumptions and benefits we had expected going into the transaction, and now have even greater conviction that the Experitivo combination will deliver significant long-term value to our shareholders. Together, we've added scale and diversification to our IP business. We have an industry-leading platform in our product business that enables us to deliver technology solutions in multiple end markets. We believe we are well positioned to capitalize on the numerous growth opportunities ahead due to key trends that involve the continued proliferation of entertainment content, changes in the entertainment consumption trends at home, in the car, and on the go, and a broader move towards artificial intelligence at the edge. On the call today, I will share more detail about some of the opportunities we see for the new Xperi, cover some recent highlights, and talk about our longer-term roadmaps. Robert will then walk you through how we plan to report going forward, review the financials for the quarter, and look for the remainder of the year. First, a word on COVID-19. I continue to be inspired by our employees and partners who have diligently worked to keep our business operating at a high level during these unprecedented times. COVID-19 has added additional environmental stress to our processes. and I want to thank our employees and partners for navigating so seamlessly and effectively around these disruptions. Our primary focus continues to be ensuring the safety and well-being of our employees. And thanks to their hard work, we continue to deliver innovative solutions for our customers. While there are still some uncertainties around the impact of COVID-19 on our end markets, we are encouraged that the estimated net impact on our combined business will be less than 10% relative to the guidance provided at the beginning of the year. Despite the impact of COVID-19, we are highly confident in our business model and prospects over the near and longer term. I'll now spend some time talking about our two business segments, product and IP. First, in our product business, through the combination of TiVo and Xperia, we've gained significant scale and technology depth. making our combined platform even more relevant to one of the biggest consumer trends we see today, the massive proliferation of content and how and where consumers are finding, watching, and enjoying entertainment. We can now offer consumers a unique and seamless end-to-end entertainment experience from choice to consumption in the home, in the car, and on the go. Additionally, through our combined solutions, we can offer OEMs additional ways to monetize that consumption. Moving forward, we will measure our business performance in the product segment in three categories, consumer experience, connected car, and pay TV. I'll walk through each of these categories, key growth drivers, and highlight some of the wins during Q2. Our first category in product is consumer experience. This category includes all the audio, imaging, and ML-based solutions for the home and mobile markets from Xperia's portfolio. along with the DVR hardware, streaming, metadata, and monetization solutions from TiVo's portfolio. This category represents approximately 40 to 45% of our total combined company product revenue, and we expect it to grow this year even with the headwinds of COVID-19. A key near-term growth driver in this category is the TiVo Stream solution. During the quarter, we launched the Stream 4K product which gives consumers one centralized place for searching, browsing, and creating watch lists across their favorite apps by integrating streaming video services and live TV. It also includes TiVo's content network, TiVo Plus, with more than 70 ad-supported free channels. Our primary focus right now for the TiVo stream is on expanding our installed footprint and customer engagement, which will further fuel our monetization solutions. Our roadmap for footprint expansion includes three phases. The first phase is the Stream 4K hardware launch, which occurred in May. We are pleased to report that the Stream 4K is selling faster than any previous TiVo hardware product. The second phase of this footprint expansion will come from the launch of Stream as an embedded search and discovery application for smart TVs, expected to arrive in products in late 21 or early 22. In the third phase, we will deliver Stream as a comprehensive smart TV platform, connecting content from all sources and leveraging our search and discovery and monetization tools to fully exploit the TiVo content experience. This is one of the merger-related revenue synergies we are most excited about as we unite the TiVo Stream product with Xperia's very strong OEM relationships and TV footprint. Our teams have been working together on this roadmap and recognize the tremendous growth potential for an integrated solution. Another growth driver in the near to mid-term is IMAX Enhanced, which brings a best-in-class entertainment experience to the home. This program supports the continued penetration of our audio decoders in TVs, sound bars, and other home entertainment devices. We now have 28 device brands, six streaming services, and three Hollywood studios as part of the ecosystem. And we expect to add more partners as entertainment consumption at home continues to increase. In summary, we will not only be providing better ways to engage and consume content, but we will focus on enhancing the consumer experience through better audio and imaging presentation. Our second category and product is the connected car. which represents approximately 10 to 15% of total combined revenue in the product segment. This includes our HD radio, automotive connected media, and in-cabin monitoring solutions. Our focus here is on enhancing the in-cabin automotive experience through highly personalized, connected infotainment and safety solutions for the global automotive market. We are building an ecosystem that revolutionizes the in-car entertainment experience for consumers and creates recurring revenue opportunities for expiry, car manufacturers and content owners. There are three primary growth drivers in this category. The first growth driver is continued penetration of our HD radio technology, which is focused on entertainment and safety applications, including our digital broadcasting in North America, new HD channels and emergency alerts. During the quarter, HD radio launched on six new 2020 car models in North America. While the auto market is being impacted by COVID-19 in the near term, we expect the category to return to growth next year. Our second major growth driver in the connected car category is our global automotive connected media solution, which includes connected radio coupled with the TiVo music library and preference engine. This represents a global solution that enables a fully integrated audio entertainment platform with personalized discovery across local radio, digital music, and podcasts. Our third growth driver in the connected car category is our in-cabin monitoring solutions, which includes both driver and occupancy monitoring solutions focused on the safety of drivers and passengers. After securing a major European automaker win late last year, we continue to see customer interest in our solutions grow across major automakers and Tier 1 suppliers. We've also released the latest version of our occupancy monitoring system suite, which includes child seat detection, occupant detection, emotion detection, and passenger authentication. The third category in product is TiVo's pay TV business, which represents about 45 to 50% of total combined revenue in the product segment. This category is comprised of TiVo's classic guides, TiVo DVR, and its next generation end-to-end platform, which consists of our latest user interface, the User Experience 4, and our IPTV cloud service. As the trend towards cord cutting continues, our focus in this category is on upgrading our service offerings with OTT content additions and enhancing our industry-leading personal content discovery solutions that make it easy to find, watch, and enjoy content across all content sources. To that end, during the quarter, we signed a new conversion agreement with a regional U.S. cable television provider. This now makes a total of 12 providers using this solution. Importantly, this quarter, churn of subscribers using our solutions was less than 2%, significantly lower than the pay TV industry average of 4% to 5%. This is consistent with our own end-user research, which shows that households with TiVo's personalized discovery and voice are more engaged. They watch more content and churn significantly less than other pay TV households. As we think about the pay TV category over the longer term, we expect it to remain an important contributor to overall revenue while experiencing a modest slow decline in the near to midterm. However, it remains strategically important alongside our growing streaming footprint as it provides us with one of the largest video consumption consumer ecosystems. This ecosystem gives us insight into consumer habits and allows us a unique window into the household to develop new and innovative solutions that delight our customers and drive real value for our OEM, pay TV, and content partners. Lastly, with respect to a newer initiative that came out of stealth this year, our majority-owned subsidiary, Perceive, continues with its groundbreaking progress on its new edge inference platform. This platform leverages our deep experience in semiconductors and novel research in efficient machine learning while extending the value of our imaging and audio solutions in both existing and new markets. Perceive launched and announced its Ergo chip at the end of March to very strong market, media, and investor reception. Ergo brings data center-level machine learning to edge devices, allowing them to deliver the smart features consumers crave without the privacy concerns of today's cloud-based solutions. Advanced features like video and audio object detection, face and voice recognition, and even speech can be simultaneously enabled by Ergo, delighting customers while safeguarding their privacy. By using just tens of milliwatts, Perceive is making low-power edge devices a lot smarter as well as more secure. We remain actively engaged with leading partners in the home security space, can expect to see the chip be integrated into products shipping in early 21. Moving on to the IP licensing business, where there are three key high-level takeaways. First, combining our IP business positions us to be one of the largest public standalone IP licensing companies in the world. With a total company portfolio of more than 11,000 issued patents and pending applications, We have a strong base of innovations that will help us continue to drive meaningful revenue and significant cash flow well into the future. Second, we have a well-established track record of successfully licensing our IP. Individually, each of our media and semiconductor businesses were among the most successful licensing companies over the past few decades. Combined, we are even stronger. Specifically, our IP businesses have generated in excess of $8 billion in licensing revenue over the past 20 years. There are very few IP companies in the world that have achieved that level of licensing success. Importantly, we generated consistent IP revenue through successful licensing across technological and business evolution, across multiple industries, and through numerous renewal cycles. By strategically refreshing our patent portfolios through organic R&D and key acquisitions, we've been able to continually anticipate and meet the evolving needs of our customers and end markets. Third, one of the biggest benefits of the transaction is that we now have a more stable and diversified foundation for our IP business going forward. This is in contrast to the more episodic nature of Xperia's historical semiconductor IP licensing business over the past five years. We will no longer be disclosing billings as we believe revenue is a more appropriate metric for our combined, larger business. While the impact of this change in approach on the semi-IP business may be significant over comparable periods, as revenue will fluctuate meaningfully based on the pipeline and timing of new deals, the combined IP business will be much less impacted. For example, the current annual revenue for the media IP business alone is approximately $300 million. This is similar to the average annual revenue generated by the core of this business over the last decade. With many long-term and significant fixed fee licenses in place, we expect the media IP business to continue to be the strong foundation upon which we intend to build a larger and more successful IP platform in media, semiconductors, and beyond. Within the IP business, we believe there are a number of meaningful vectors for growth. each of which I'll walk you through in more detail. First, while we have extensive penetration in the North America pay TV market, there are a number of significant opportunities remaining. We currently have nearly all of the top traditional US pay TV providers under license, and we continue to regularly renew and expand these agreements. For example, in the last few months, we've already concluded two important license agreements in this space. who recently renewed and expanded our IP licensing agreement with Verizon, one of the top five US pay TV providers for its Fios TV service. We also recently announced the expansion and extension of our licensing relationship with Comscope, one of the leading suppliers to the North America pay TV market. The largest unlicensed US pay TV provider is Comcast. On that front, we are very pleased to report that in our most recent ITC case, We received a favorable initial determination. The judge ruled that Comcast's X1 platform infringes two of our key patents, known as the 528 and 855 patents, and recommended the issuance of a limited exclusion order and a cease and desist order. The patents at issue in the order cover key and widely used innovations generally relating to multi-room DVR and communication between multiple set-top boxes using MOCA technology. This is now our third favorable decision at the ITC against Comcast. We believe this decision is particularly important in the context of our ongoing dispute. First, this decision builds off the previous wins we've had at the ITC, the first of which has already been upheld through all appeal options. Second, both of these patents have significant remaining terms, the last of which extends through 2028. Third, the nature of the innovations covered by these patents are integral to today's pay TV systems. These favorable decisions represent positive and key milestones in our ongoing litigation. Our ultimate goal remains to ensure that we receive fair value for our innovations through a commercial agreement with Comcast, allowing for the ongoing use of our patented technology, just as we've done broadly with nearly all the other major US pay TV providers. The latest initial determination is now subject to review by the commissioners at the ITC, and a final determination is currently expected in late November. In addition to Comcast in the U.S., we're also focused on the remaining unlicensed pay TV operators in Canada, which represent additional upside for our IP business. Our second growth opportunity is in new media. We already have a well-established licensing business outside of the traditional pay TV market, with agreements in place with many of the leading new media providers, including companies that provide OTT and other related video streaming services. These providers are becoming more prominent as content is increasingly consumed through their services. We continue to pursue these opportunities and in Q2 completed a new agreement with another leading social media platform, our third such agreement in the social media space in the last year. In our third growth opportunity in the semiconductor markets, our direct and hybrid bonding technologies and IP are gaining momentum, particularly in image sensors, stacked DRAM, and 3D NAND applications. This year, we've begun to see traction in this area with the signing of SK Hynix, the second largest memory manufacturer in the world, in Q1. In Q2, we announced that Tower Semiconductor, a global leader in semiconductor foundry solutions, also licensed our Zybond and DBI technologies for a range of applications. These three growth opportunities represent a pipeline in the lower hundreds of millions of dollars in potential incremental annual revenue. While the teams are actively pursuing each of these growth areas, as is typical in the IP licensing business, the timeline for successfully concluding each of these can be uncertain. Overall, our IP business generates strong recurring cash flow and has significant revenue already contracted through 2025. We believe the combination of Experi and TiVo's licensing platforms brings beneficial scale, stability and diversification that will lead to significant ongoing innovation and patent creation, better licensing outcomes, greater cash flow generation and improved visibility over the long term. We believe that the company is positioned well to expand, and grow our IP licensing platform into new markets over time. Lastly, I want to touch on the topic of capital allocation as a new combined business. Our priority remains continuing to invest efficiently for the long-term growth of the business. Our new board recently reviewed the company's capital allocation policy and established a target to return approximately 50% of free cash flow to stockholders, consistent with the company's history. Additionally, the board determined to take a more balanced approach to capital allocation to provide greater flexibility and enhance our ability to drive shareholder value. Robert will provide further details in the financial section. Robert?