Valens Semiconductor - Q2 2023

Transcript

Operator (participant)

Good morning. My name is Yoni, and I will be your conference operator today. At this time, I would like to welcome everyone to Valens Semiconductor's Q2 2023 earnings conference call and webcast. All participant lines have been placed in a listen-only mode. Opening remarks by Valens Semiconductor management will be followed by a question and answer session. I will now turn the call over to Daphna Golden, Vice President of Investor Relations for Valens Semiconductor. Please go ahead.

Daphna Golden (VP and Head of Investor Relations)

Thank you, and welcome everyone to Valens Semiconductor's Q2 2023 earnings call. With me today are Gideon Ben-Zvi, Chief Executive Officer, and Dror Heldenberg, Chief Financial Officer. Earlier today, we issued a press release that is available on the investor relations section of our website under investors.valens.com. As a reminder, today's earnings call may include forward-looking statements and projections which do not guarantee future events or performance. These statements are subject to the safe harbor language in today's press release. Please refer to our annual report on Form 20-F, filed with the SEC on March 1, 2023, for a discussion of the factors that could cause actual results to differ materially from those expressed or implied. We do not undertake any duty to revise or update such statements to reflect new information, subsequent events, or changes in strategy.

We will be discussing certain non-GAAP measures on this call, which we believe are relevant in assessing the financial performance of the business, and you can find reconciliations of these metrics within our earnings release. In the coming weeks, we will be conducting investor conferences and meetings virtually and in Chicago and Tel Aviv. If you're interested in meeting with us, please email me at [email protected]. With that, I will now turn the call over to Gideon.

Gideon Ben-Zvi (CEO)

Thanks, Dafna, thank you all for joining our Q2 2023 call. In Q2 2023, Valens Semiconductor revenues reached a record of $24.2 million. We also achieved better than anticipated profitability metrics on our journey towards adjusted EBITDA breakeven by the end of this year. We continue to make progress executing against our long-term growth opportunities as well. We further push the boundaries of connectivity with our advanced offering and enable our customers to bring to market new disruptive products to existing and untapped markets. We continue to track the current macroeconomic headwinds, the rising inflation, interest rates, and slower than anticipated inventory digestion. While these trends are driving some near-term uncertainty, long-term trends for the semiconductor industry and Valens remain positive. I will start our Q2 business discussion with our audio/video business. The audio/video market is highly correlated to macroeconomic trends.

We can now see indication for a recovery of the market, which we believe would start to improve at a relatively slow pace towards the end of 2023, and through the first half of 2024, and gain momentum into the second half of 2024. We have identified that one of the main contributors for the expected improvement is the increasing demand for high-performance USB peripherals. As such, Valens Semiconductor is driving adoption of the USB 3.2 standard globally across verticals. Valens Semiconductor's long-term vision is to accelerate the transformation of the video conferencing market with an extensive product portfolio. Our latest chipset, the VS6320, is the first single chip in the market for extension of high-performance USB. It targets this growing market and can extend USB 3.2 peripherals at up to 100 meters or 328 feet.

We recently received the first samples of the VS6320 from the successful tape-out executed in Q1 2023. We remain on track to ship the first engineering samples to selected customers by Q4 of this year. We believe that revenues from the new product will start ramping up during the second half of 2024, as our customers will introduce the new products embedding with new chipsets. The VS6320 chipset is ideal for connecting the many remote USB 3.2 peripherals required in video conferencing, industrial, and medical applications. Each of these applications presents a large market. Multi-camera video conferencing is one of the fastest growing areas for audio/video equipment in the coming years, as modern video conferencing applications increasingly require a unified meeting room experience with a flexible, efficient, and high-performance connectivity solution.

Many leading audio/video, and PC manufacturers are investing in the development of advanced solutions for small, medium, and large meeting rooms. The video conferencing market is projected to essentially double from about $7 billion in 2022 to more than $14 billion in 2029, or at an 11%-12% CAGR, according to Business Research Insights. We recently demonstrated how another one of our products, the VA7000 chipset family, that was originally designed for automotive, can be leveraged for multi-camera video conferencing applications. At InfoComm International in June, we announced our collaboration with iCatch Technology, a leading AI image processing fabless semiconductor design company. The two companies are working together to develop a flexible, efficient, and high-performance multi-camera video conferencing solution that leverages our VA7000 chipset family and iCatch Technology's AI imaging system on chip, known as SoC.

Those deploying the solution will benefit from the ability to cover the entire room and enhance the in-room and remote participants equity. Another benefit of this new solution is the ability to use smaller cameras that consume less power at reduced cost. During the many discussions held with customers about the VS6320 and the VA7000 chipsets, it was clear that with these innovative solutions, Valens Semiconductor is once again at the forefront of the industry. Turning to automotive. First, our symmetric automotive chips family, the VA6000. 2023 is the first year in which our VA6000 chipset is being broadly deployed in Mercedes-Benz S, C, and E-Class models, including the electric vehicle, EV model, the EQ series. As such, our annual sales in 2023 are expected to increase as a result of being deployed in more models than prior years.

We expect to stay in the same car models going forward. As such, beyond this year, the expected growth rate for our VA6000 chipsets should be correlated to Mercedes-Benz passenger car growth rate. In Q2, we recorded initial sales of the tractor-trailer relative safety solution we jointly developed with Stoneridge for the fleet operator customers. These customers are in the process of conducting pre-production, extensive live on-road evaluations. We expect this will result in ramping sales during the second half of 2024. Moving to the VA7000, our mid-PFI non-symmetric automotive chipset family for safety applications known as ADAS. There is a growing demand from automotive OEMs for ADAS, including vision-based systems, which are key enablers for ADAS and 360-degree perception sensors for applications such as surround view, parking assist, and reverse assist.

The VA7000 perfectly fits for vision-based systems. Over the past quarter, we grew the big pipeline with automotive OEMs, considering the deployment of the VA7000 in mass production. The ongoing discussion with the OEMs looking at potentially selecting the VA7000, give us confidence that we remain on track to announce our first design wins this year. As a reminder, it typically takes fewer years following automotive design wins before generating initial revenues. To close out my opening remarks, I want to spend a moment discussing the plan we announced in June to improve the efficiency of our operations. In line with our focus on reaching profitability while maintaining our ability to reach our technological and business goals, we arranged our R&D and development infrastructure in a more efficient manner and streamlined our development platform.

This enables us to operate a stronger and leaner organization for the benefit of Valens Semiconductor's stakeholders. Dror will provide more detail in his prepared remarks. I'll now turn it over to Dror Hildenberg, our CFO, to review our Q2 2023 financial results and provide our financial outlook.

Dror Heldenberg (Business Advisor)

Thank you, Gideon. I'll start with our Q2 results and then provide our outlook for the Q3 and the full year 2023. Starting with our Q2 2023 results. We achieved record quarterly revenues of $24.2 million, an increase of $1.7 million, or 7.5% from the Q2 of 2022, and an increase of 1.2% from Q1 2023. Q2 of 2023 gross profit was $14.9 million, with a gross margin of 61.8%, compared to $15.8 million or 70.2% gross margin in Q2 2022. Non-GAAP gross margin reached 63.1%, compared to 71% in Q2 2022.

The change compared to Q2 last year was mainly driven by a substantially other share from automotive, as we doubled the portion of revenue coming from this business, which incurs a lower gross margin than our audio/video business. Before referring to OpEx, as Gideon stated, during the second quarter, we have implemented our plan to improve efficiency. The annual saving of this plan is expected to be $9 million, as previously announced. The additional charge incurred in Q2 specifically was $250,000, coming mainly from R&D. Operating expenses in Q2 2023 totaled $20.1 million, down from $23.7 million in Q2 2022.

Research and development accounted for approximately 60% of Q2 2023 OpEx, coming in at $12.2 million, lower than $14.9 million in Q2 2022, mainly due to purchasing of IP in the amount of $2 million in Q2 2022. We also benefited from the strong U.S. dollar versus the Israeli shekel. SG&A expenses were $8 million, down from $8.8 million in Q2 2022, mainly due to $0.6 million reduction in D&O insurance premiums, as well as positive Forex-related impact. Turning to net loss and adjusted EBITDA. Q2 2023 GAAP net loss was $4.6 million, substantially better than the $10 million net loss recorded in Q2 2022.

Adjusted EBITDA in Q2 2023 was a loss of $0.8 million, also significantly better than the $4.5 million loss in Q2 2022. The better-than-guided adjusted EBITDA loss in Q2 2023 was mainly due to two factors: rescheduling of certain IP purchases for a new product we are developing, which is now planned for Q3 2023, and the strength of the US dollar in Q2 2023 compared with the company's estimates. This has positive impact on expenses paid in Israeli shekels, mainly for compensation to employees based in Israel. GAAP loss per share for Q2 2023 was $0.05, compared to $0.10 in Q2 2022. Non-GAAP earnings per share reached breakeven in Q2 2023, compared with a loss per share of $0.08 in Q2 last year.

Excluding the stock-based compensation of $4 million, was the main reason for the delta between GAAP loss per share and the non-GAAP earnings per share breakeven in Q2 2023. Turning to our balance sheet. We ended Q2 2023 with a strong balance sheet, which is a clear indication for the current and future strength of the company, as we expect to reach adjusted EBITDA breakeven towards the end of 2023. Our sound cash position provides us with operational flexibility to grow our business. Cash, cash equivalents, and short-term deposits total $138 million, and we add no debt. This compares to $139.7 million at the end of Q1 2023. In Q2 2023, we generated $0.4 million from operating activities, compared to $4.3 million cash used in Q2 2022.

Q2 2023 was the Q1 in which the company's cash from operating activities was positive. While in the short term, we might face some quarters with negative cash flow from operating activities, all in all, we expect that the improvement in our profitability will support a positive trend of cash generation on an annual basis. Our working capital as we ended the quarter, was $160.8 million, compared to $161.4 million at the end of Q1 2023. This difference is mainly triggered by the purchase of fixed assets during Q2 2023. As expected, our inventory balance as of June 30, 2023, was substantially lower than at the end of March 2023, reaching $90 million, down from $23.6 million.

This approximately 20% reduction reflects the fact that the company is returning to a more balanced supply-demand inventory management. As part of our inventory planning, we assume shorter lead times from our vendors, yet we have not yet seen them formally announce a change in their lead times policies. While we expect a continuous improvement in our inventory balance, we are still seeing our inventory levels impacted by few factors that have been evident in the past couple of quarters through today. The macro environment is still negatively impacting our customer demand and sales. This is leading to inventory digestion that is taking longer than many have originally anticipated. We expect the recovery to continue at least through the end of the first half of 2024, which implies a modest pace of recovery in the short term.

Second, higher interest rates are driving the cost of inventories up, which means that customers are more cautious in placing orders and stocking up their warehouses with new inventory. To sum up this point, we expect our inventories to continue to go down in Q3 2023, but in a slower pace. Now, I would like to provide our guidance. For the Q3 of 2023, we reaffirm our expectation for revenues in the range of $14 million-$14.2 million. As we have shared with you previously, we anticipate that the Q3 will be the lowest quarter of the year.

We expect Q3 gross margins to be in the range of 57.6%-58%, reflecting, on one hand, the projected product mix with a higher portion of audio/video revenues, which incur higher gross margins, and on the other hand, the negative impact of fixed operating expenses on the lower Q3 2023 revenues. Adjusted EBITDA loss in the Q3 is expected to be in the range of $12.2 million-$11.9 million. As of June 30, 2023, shares outstanding totaled 101.8 million, excluding, of course, approximately 1 million shares that are subject to forfeiture. For the full year 2023, we are reaffirming that revenues are expected to range between $83.8 million and $84.2 million. Automotive revenues are expected to approximate 30% of total revenues.

Full year 2023 gross margins are now expected to be in the range of 62.2%-62.5%. We are improving our adjusted EBITDA guidance for the full year, and it is now expected to be a loss in the range of $16.2 million to $15.6 million. We reiterate our expectation to reach adjusted EBITDA breakeven by the end of 2023, which means that in 2024, we expect to be cash flow positive. I'll now turn the call back to Gideon Ben-Zvi for his closing remarks before opening the call for Q&A.

Gideon Ben-Zvi (CEO)

Thank you, Dror. In face of the ongoing macroeconomy and semiconductor sector-specific headwinds that continue to impact most of our end markets, we remain focused on elements in our control and our progress towards profitability. Our main targets in the second half of the year are: first, to secure design wins from automotive OEMs for our VA7000 chipset family. This is a major milestone we all have been marching towards. Second, to further enhance our profitable audio/video business with our new offerings. Our strong balance sheet provides the foundation for us to execute our long-term growth strategy and pursue the promising opportunities that will deliver value for all our stakeholders. I would like to close by thanking our employees for their commitment and ongoing dedication to the company's success and for the support of all our stakeholders. Operator, I would now like to open the call for questions.

Operator (participant)

Thank you. Ladies and gentlemen, at this time, we will begin the question-and-answer session. If you have a question, please press star one. If you wish to cancel your request, please press star two. If you are using speaker equipment, kindly lift the handset before pressing the numbers. Please ask your question in a loud and clear voice. Your questions will be polled in the order they are received. Please stand by while we poll for your questions. The first question is from Rick Schafer of Oppenheimer. Please go ahead.

Rick Schafer (Managing Director- Semiconductor Equity Analyst)

Thanks, and good morning. Good afternoon. Nice job managing through a pretty tough macro. I had two questions, if I could. The first is just a little more color on channel inventory, particularly, it sounds like it's all pretty much in Pro AV. Dror, if I think I heard your comment correctly, how much do you think you're under shipping consumption? When do you expect the channel to normalize? I think I missed it. I think you mentioned something about it on the call, but I think I missed it.

Dror Heldenberg (Business Advisor)

Hey, Rick, good to hear you again, and thank you for the question. Yes, I think that your observation is correct. I think that, we see most of the impact of the slower than anticipated inventory digestion on the audio/video business. In a way, I think that at this point in time, we, we, we see, I would call it three phases. The first one is the one, the, that it's the quarter that we are now in the middle of it. It's the Q3. I believe that audio/video business is going to bottom in this quarter. You know, according to the guidance that we've just provided, we expect to see all-in-all audio video and automotive revenue in the level of $40 million this quarter.

Second, I believe that we're starting to see some improvement in the Q4, as we are starting to see better demand from our customers. We see more inventory digestion from our customers along the, the channels. Third, I believe that we, according to what we are hearing from our customers, in all the discussions that we have with them, that we expect to see soft rebound into the first half of 2024. Then, as we mentioned in our prepared remark, we believe that this, we are going to see that this momentum, will continue, will mainly gain momentum into the second half of 2024.

Rick Schafer (Managing Director- Semiconductor Equity Analyst)

Okay. Thanks for that added color. Maybe just for my, my second question, I, I'm curious, you know, I know you mentioned that you're on track to add, I think you said at least, to announce at least one, one new customer in, in auto. I didn't know if there was, if there was any other color you could give around that. As part of your answer, either you're getting or Dror, are customers taking a little longer in auto to launch new products? I mean, we've heard that from a couple of your, your auto peers, your component peers. Are you seeing any shifts in, in sort of order patterns or velocity, you know, in, in vehicle, you know, in, in product launch? Any change there that you, you've noticed within auto?

Dror Heldenberg (Business Advisor)

Okay. You know, like in the past, we cannot be more specific on the... mention the names of the opportunities that we have right now in the space of automotive. I can mention here that we see growing demand for our connectivity with the VA7000-based solution for various types of vision-based solutions, for example, the surround view systems. With respect to the second part of your question, if we see some slowdown or it takes more time for the automotive players to reach a decision, you know, it's, it's a, it's a market that with players that take their time. I don't think that it's a surprise. If you remember, we said that we expect to see the, the initial design wins before the end of this year.

At this point in time, we are confident that we are going to meet this target.

Rick Schafer (Managing Director- Semiconductor Equity Analyst)

Okay, thanks.

Operator (participant)

The next question is from Suji Desilva of Roth MKM. Please go ahead.

Suji Desilva (Managing Director, Senior Research Analyst)

Hi, it's Suji Desilva with Roth MKM. Hi, hi, Gideon, Dror. So, maybe to follow up on Rick's question, the pipeline closure for auto, what are the drivers for the auto customers and the time frame of those closures? I guess, because you may see one by the end of the year and more in 2024, what's, what's driving their time frame, at this point? Are they sampling the chip and testing it, or what other factors are there, thanks?

Gideon Ben-Zvi (CEO)

Hi, hi, Suji, this is Gideon. Thank you for your question. The process with the automotive player, the OEMs, is actually there, it's, it's a shift. They're shifting from the old system that they used to new systems, they have their own learning curve about what is needed to understand the need for newer bandwidth, for newer and for more band, and for more information in order to predict an accident, in order to predict if something going to happen. This is a process that actually they're doing their own shift of understanding new needs in the market. Some of them is not predictable for us, to know how long it takes.

We see that actually the learning curve in most of them happens, and we see and hear more and more pipeline of companies that understand that for the next generation of ADAS and the next generation of understanding what happens on the road, they will need to cope with higher resolution, higher bandwidth, and the solutions exist today, we have superiority. Yes, it takes the time, and some of the time is the their own learning curve of the new world, of the new demands.

We see that actually in most of them, that the, actually not in most of them, in all of them, that they understand and that the, they come to very, similar conclusion, and we hope that this will yield to a, to a design win, that we'll be able to, to have, this year.

Suji Desilva (Managing Director, Senior Research Analyst)

Okay. Thanks, Gideon. Then perhaps to follow up there, as they compare your solution to perhaps competitor offerings like Ethernet and so forth, what are the one or two key factors you think are standing out that would lean a customer toward, the Valens and the VHI solution?

Gideon Ben-Zvi (CEO)

Well, the explanation is technologically, the higher the bandwidth, the more exposure to electromagnetic influence you have. This is not a linear thing. Like, if you, if you had a camera of eight megabit versus four megabit, it's not double the exposure, it's far, far more than that. This is the reason that the need for EMC becomes such a serious thing. This is the first thing, and the second is the total cost of ownership. In our technology, we allow them to use unshielded cables.

The unshielded cable is actually having a total cost of ownership, which the whole system costs less because we enable use a cheaper cable and cheaper connectors, and actually cheaper labor, because with unshielded, a lot of things can be done automatically, and there is also a lot less depreciation over the years of what's called aging cables. These are the key factors, the EMC, electromagnetic, the total system cost, and the bandwidth. That's the three key parameters.

Suji Desilva (Managing Director, Senior Research Analyst)

Okay, great. Thank you, Gideon.

Operator (participant)

The next question is from Vivek Arya of Bank of America. Please go ahead.

Blake Friedman (Equity Research Associate)

Hi, this is Blake Friedman on for Vivek. Thanks for taking my question. Just wanted to focus on kind of the, the full year guide, specifically Q4 and I, I know you only guide one quarter out and don't really discuss, you know, Q4 specifically. Just taking the full year guide kind of implies, you know, pretty steep sequential growth in December. I'm just curious what you're seeing maybe from kind of your customer perspective that's giving you confidence in that strong ramp up, just because we've heard across the ecosystem, maybe some continued digestion for two quarters, whether it be across industrial and, and, and consumer or a variety of other markets. Just any clarity there would be helpful.

Gideon Ben-Zvi (CEO)

First of all, good to hear you again, Blake. You know, the guidance, first of all, we are not providing guidance today for Q4. Basically, it's only for Q3 and the full year, but given the fact that we already provided the, the first half and we gave the, the, the Q3, it's not that complicated to, to calculate the Q4. I think that the confidence that we have in the Q4 numbers are based on, the fact that we know our customer product and based on, on what they are telling us. On top of that, it's, it's based on backlog, and, and we see the, the level of booking that, we already have, with them.

You know, I think that, given that fact that we know what they're expecting and what they see at, in front of the end customers, and the fact that we already received, backlog, we see the backlog, this is the reason why we see this correction, in terms of the Q3 versus Q4.

Blake Friedman (Equity Research Associate)

Got it. Then just to kind of follow up, you know, this is kind of more of, just a, a broader question beyond Q3. If I think about from a gross margin perspective, obviously with audio, video down, you know, the gross margins are, are kind of coming down in, into this, you know, below 60% level. Just as we move forward, if you can kind of give a high level overview of how we should think about the, the gross margin recovery in the business, that'd be great.

Gideon Ben-Zvi (CEO)

... In a way, Q3 is a kind of an exception. It's an exception because it's a kind of a perfect storm. We see, you know, we just mentioned that we see that audio-video reached the bottom, which means that, we, we do not enjoy, the gross margin that we, that we usually see in audio-video. The fact that we report this lower revenue at the level of about $14 million, we expect to see $14 million in Q3, also means that the impact of the fixed operating expenses, in this calculation of gross margin is going to be more dominant. Q3, in a way, is a kind of an exception. It's not something, it's not, typical. It's not, it's not a good reference.

Going forward, when we go back to the right proportion between audio-video and automotive, I think that it's fair to say at this point in time, that we should continue and expect gross margin that will be north to 60%.

Blake Friedman (Equity Research Associate)

Thank you.

Operator (participant)

The next question is from Brian Dobson of Chardan Capital Markets. Please go ahead.

Brian Dobson (Managing Director)

Hi, good morning. Just, just a quick follow-up on your, on, on your commentary. You know, you did a good job laying out the near-term headwinds for the business or for the sector, rather. As you look at industries, of your end user, excuse me. As you look at the, the industries of your various end users, which are impacted the most currently, and which are in the best position to recover in 2024?

Gideon Ben-Zvi (CEO)

Hi, it's Gideon. Thank you for the question, and nice to hear from you. I would describe it as follows: We are, you know, a strong player in the audio-video world. In the audio-video, we are traditionally working with the, I would say, quite high-end chips, a quite high-end customers. With this new chip, the VS6320, we expect, which is a USB extension, USB 3 extension, we expect to go to a broader market, which I would say is a shift from the very large and a conference room to medium, small, and even huddle room, which are bigger markets. Far, far bigger markets, and some new players as well.

This is actually one of the growing engines of the AV. Another growing engine is we see more and more demanded interest for what's called Industry 4, 4.0, which is a adjacent market to the audio-video. It's an audio-video technology that is used not for conference room, it's used for a different application. These are some of the growing areas. I would just mention also the education world. Again, it's an audio-video technology, but not going for a regular audio-video conference room or video distribution. It's, it's targeted more to the education market, hybrid education, and these are some of the growing engines for, from the AV.

The, I guess the automotive, dances are the same, where we are looking after the ADAS and autonomous cars, and this is where, where, where our. Actually another market in, in, in the audio, in the automotive, which more and more we see interest in the surround view. So actually, these are where we see growing engines in the industry. From cash point of view, the, it is the audio-video, because, you know, the, the automotive, any design we know, the time it takes until you see it, it's in cash and revenues takes, takes some years.

Brian Dobson (Managing Director)

Thanks very much.

Operator (participant)

There are no further questions at this time. Mr. Ben-Zvi, would you like to make your concluding statement?

Gideon Ben-Zvi (CEO)

First, I want to thank everyone. I would like to thank you for joining us today for our Q2 2023 call, and for your continued support and interest in Valens Semiconductor, and all have a great day. Thank you and goodbye.

Operator (participant)

Thank you. This concludes the Valens Semiconductor Q1 2023 results conference call. Thank you for your participation. You may go ahead and disconnect.