Logo of jester cap with thought bubble.

Image source: The Motley Fool.

Impinj, Inc.  (NASDAQ:PI)
Q3 2018 Earnings Conference Call
Oct. 29, 2018, 5:00 p.m. ET

Contents:

  • Prepared Remarks
  • Questions and Answers
  • Call Participants

Prepared Remarks:

Operator

Good afternoon and welcome to Impinj's Third Quarter 2018 Earnings Conference Call. All participants will be in listen-only mode. (Operator Instructions) After today's presentation there will be an opportunity to ask questions. (Operator Instructions) Please note this event is being recorded.

I would now like to turn the conference over to Chelsea Lish, Investor Relations for Impinj. Please go ahead.

Chelsea Lish -- Investor Relations

Thank you, operator. Thank you all for joining us to discuss Impinj's third quarter 2018 results. On today's call, Chris Diorio, Impinj's Co-Founder and CEO will provide a brief overview of our market opportunity and performance. Eric Brodersen, Impinj's President, COO and Principal Financial Officer, will follow with a detailed review of our third quarter 2018 financial results and fourth quarter 2018 outlook. We will then open the call for questions. Impinj's CFO Consultant, Linda Breard, and Impinj's Executive Vice President of Sales and Marketing, Jeff Dossett, are also on the call and will join Chris and Eric in the Q&A session. Please note that management's prepared remarks, along with quarterly financial data for the last eight quarters are available on the company's website.

Before we start, note that we will make certain statements during this call that are not historical facts, including those regarding our plans, objectives and expected performance. To the extent we make such statements, these are forward-looking within the meaning of the Private Securities Litigation Reform Act of 1995. Any such forward-looking statements represent our outlook only as of the date of this conference call. While we believe any forward-looking statements we make are reasonable, our actual results could differ materially because any statements based on current expectations are subject to risks and uncertainties.

Please see the risk-factors sections in the annual and quarterly reports we file with the SEC for additional information about these risks. We do not undertake, and expressly disclaim, any obligation to update or alter our forward-looking statements, whether as a result of new information, future events, or otherwise except as required by applicable law. Also, during today's call, all financial numbers we discuss, except for revenue, or where we explicitly state otherwise, are non-GAAP financial measures. Balance sheet metrics and cash flow metrics are on a GAAP basis. Before moving to the financial results, I'd like to announce that the company will attend ROTH's Fourth Annual Corporate Access Day in New York on November 14. We hope to see many of you there.

I will now turn the call to Chris Diorio, Impinj Co-Founder and Chief Executive Officer. Chris?

Chris Diorio -- Co-Founder & Chief Executive Officer

Thank you, Chelsea. Thank you all for joining the call. Third quarter revenue was a record $34.4 million, above the high end of our guidance and reflecting a return to growth on a year-over-year basis. Endpoint IC sales increased sequentially in-line with our expectations. We maintained steady supply and lead times, while continuing to reduce our internal inventory. We also completed our channel inventory correction and expect to return to more typical unit volume growth rates going forward. Our systems business had a record quarter, driven by strength in reader ICs and gateways. We shipped our Two-Millionth connectivity device, another milestone toward our mission of connecting items in our everyday world. APAC systems revenue continued to increase as our new APAC team ramps productivity. We are energized by the opportunities for our systems business and remain focused on execution.

Turning to product introductions, we field tested a significant ItemSense update, which we released in early October, that includes improved reader management capabilities, algorithmic enhancements for shipment verification and improved security for enterprise customers. With this latest version of ItemSense, our partners can leverage our entire platform including endpoint ICs, readers, gateways and algorithms to verify product shipments across the supply chain. This release, like all our product introductions is focused on innovations that solve end customer problems.

Turning to the market, I am encouraged by many use cases highlighting the strategic and economic benefits of RAIN enabled item connectivity in the supply chain. Reynolds, a leading wholesale fresh food provider, generated a positive ROI within three months using Impinj xSpan gateways and Monza-based tags to improve their supply chain. The Impinj gateways track reusable crates, each including a Monza-based tag, as they transition through dock doors, are loaded onto trucks, and back through the dock doors again when they return.

Reynolds projects annual savings of more than $450,000 and a study from Auburn University on Project Zipper, that used RAIN in retail supply chains to track item level inventory from point of manufacturing, through a distribution center to a fulfilment center, highlighted a 3x improvement in order accuracy when comparing data from RAIN based item scans to UPC data from barcode scans. These examples highlight the value that RAIN delivers at transition points throughout a supply chain.

And in retail apparel, we continue to see new, worldclass retailers adopting RAIN and existing retailers expanding their deployments. For the latter, we see retailers both expanding tagging to adjacent product categories like beauty, and expanding their deployments to additional use cases like self checkout and loss prevention. In another positive move for the industry, the European Commission harmonized the availability of additional spectrum for RAIN operation in the EU, in a frequency range common to North America and most of Asia.

In addition to simplifying system design, the added spectrum roughly doubles RAIN read speed and increases read range by 40% for readers that use the new spectrum. Impinj supported efforts of multiple industry bodies and end user companies in effecting this change. As the RAIN technology leader, we continue advancing the depth and breadth of our patent portfolio as we innovate new technologies, products and solutions that our competitors try to mimic. We ended the quarter with 246 issued and allowed patents as we focus on extending our technology lead across our entire product line.

In summary, the Impinj team delivered another quarter in which we outperformed our guidance on revenue, EPS and adjusted EBITDA. Even as we head into the seasonally slower fourth quarter, we feel strong momentum as we pursue our vision of identifying, locating and authenticating trillions of everyday items and forecast another quarter of year-over-year revenue growth.

In closing, I would like to thank each and every Impinj employee for their focus, execution and dedication this quarter. I would like to extend a special thanks to our CFO Consultant, Linda Breard, as she continues providing strong and steady financial support and guidance.

I will now turn the call over to Eric for our detailed financial review and third quarter outlook. Eric?

Eric Brodersen -- President, Chief Operating Officer and Principal Financial Officer

Thank you, Chris. Except for revenue, or unless we explicitly state otherwise, today's statement of operations is on a non-GAAP basis. All balance sheet and cash flow metrics are on a GAAP basis. A reconciliation between our non-GAAP and GAAP measures, as well as how we define our non-GAAP measures is included in our earnings release available on our website. Third quarter 2018 revenue was $34.4 million, compared with $28.5 million in the prior quarter and our highest quarterly revenue on record. Revenue mix was 69% endpoint ICs and 31% systems, compared with 70% and 30%, respectively, in the prior quarter. As a reminder, the latter includes readers ICs, modules, readers, gateways and software. Endpoint IC revenue increased 18% and systems increased 26% compared with the prior quarter.

One element of our solid systems growth was our reader IC sales, benefiting from improved supply, which was constrained in the first half of the year and is now caught up. Third quarter gross margin was 50%, consistent with the prior quarter. We took an excess and obsolescence charge related to the EU spectrum expansion, which may slow demand for EU systems products that remain saleable, but don't leverage the additional spectrum. We continually evaluate our inventory relative to market conditions such as this spectrum expansion. Our current inventory comprises approximately 25% systems and 75% endpoint ICs, with the affected EU systems a subset of the 25%. Endpoint ICs operate over a very broad frequency range so our endpoint IC inventory is unaffected by the spectrum expansion.

Total third quarter operating expense was $18.1 million, compared with $18.3 million in the prior quarter. We incurred approximately $1.4 million in expenses for the Audit Committee investigation, which is now concluded. That amount, which represents most of the investigation cost is excluded from our non-GAAP operating expense. Research and development expense was $7.4 million. Sales and marketing expense was $6.5 million. General and administrative expense was $4.2 million. Adjusted EBITDA was a loss of $895,000, compared with a loss of $4 million in the prior quarter and better than our guidance of a loss of $3.4 million to $2.4 million for the quarter. GAAP net loss was $7.1 million, or $0.33 per share and non-GAAP net loss was $1.1 million, or $0.05 per share, using a weighted average diluted share count of 21.4 million shares.

On the balance sheet, we ended the third quarter with cash, cash equivalents and short term investments of $54.7 million, compared to $52.8 million in the prior quarter. Net cash used in operations was $393,000 compared to $4.8 million in the prior quarter, primarily due to a $4.1 million sequential inventory decline. Our accounts receivable balance was $19.6 million, slightly down from $20 million in the prior quarter. Inventory totaled $49.2 million, down $4.1 million from the prior quarter. We continue to expect overall inventory to decline through the remainder of 2018.

Before I transition to fourth quarter guidance, I would like to remind you of the seasonality trends we typically see in our business. In the fourth quarter, lower endpoint IC volumes are partially offset by stronger systems sales. In the first quarter, annual endpoint IC pricing negotiations typically impact both revenue and gross margin while systems sales are seasonally lower. Although these are typical trends, any number of factors can mask that seasonality in any given year.

Turning to the fourth quarter, we expect revenue to be between $31 million and $33 million, impacted by endpoint IC seasonality and reader IC supply fulfilling backlog in the third quarter. We are also incorporating the recent, macro industry trends and guiding prudently. We expect adjusted EBITDA to be a net loss of between $3.5 million to $2 million. On the bottom line, we expect a non-GAAP loss of between $3.8 million and $2.3 million, and a non-GAAP loss of between $0.17 and $0.10 per share based on a weighted average diluted share count of 21.45 million to 21.55 million shares.

I will now turn the call to the operator to open the question-and-answer session.

Questions and Answers:

Operator

We will now begin the question-and-answer session. (Operator Instructions) The first question comes from Tony Jensen with Piper Jaffray.

Troy Jensen -- Piper Jaffray -- Analyst

Hey, gentlemen. First of all, congrats on the record sales.

Chelsea Lish -- Investor Relations

Thank you.

Chris Diorio -- Co-Founder & Chief Executive Officer

Thank you.

Troy Jensen -- Piper Jaffray -- Analyst

So maybe, I guess, either Chris or Eric, European spectrum I get the balance sheet implications, are you implying that there's going to be any, like, near-term revenue growth kind of pause with this change in spectrum over in Europe?

Eric Brodersen -- President, Chief Operating Officer and Principal Financial Officer

Troy, the spectrum change really isn't associated all with any changes in overall revenue outlook. This is really just specific to the European Commission expanding spectrum.

Chris Diorio -- Co-Founder & Chief Executive Officer

And actually Troy, I think we see a longer term some additional opportunities because as I said, the additional spectrum, which the industry got for free, I mean, normally, industries have to pay for the spectrum, the European Commission allocated the spectrum for free and it's double the read speed, increases the read range of readers, so it enhances the opportunities available to us in the European Union.

Troy Jensen -- Piper Jaffray -- Analyst

Yeah. Better (ph) understood.Hey, then Chris, outlook for you, it seems to be a couple of different approaches for this cashier-less checkout model. Can you just update us on the benefits of using RFID versus the alternative approaches and maybe if you could source, a couple of example customers that are trailing RFID that'd be great?

Chris Diorio -- Co-Founder & Chief Executive Officer

Sure. So there's a number of benefits for using RAIN in self-checkout, and by self-checkout, I assume you mean everything from food to retail apparel and other use cases. Is that correct, Troy?

Troy Jensen -- Piper Jaffray -- Analyst

Yeah. Absolutely.

Chris Diorio -- Co-Founder & Chief Executive Officer

So the benefits of using RAIN for self-checkout are number one, you can track the individual item and uniquely identify item that's being sold. Number two, in the case of food products, you can also track the expiration date of those products because there is information that you can get from reading the identifier. You can either store the information on the tag or have it in the network, and so you can track expiration date for products, which is difficult to do without a RAIN-based system. And number three, you get the supply chain benefits of having RAIN in the supply chain, and so you get visibility from point of manufacturing all the way through the point of sale.

So there are a large number of pilots going on worldwide as well as some actually use cases today for RAIN in self-checkout. I personally have bought items at GU store, which is part of the Uniqlo brand in Japan, where you go into a store and you can -- you do a self-checkout, you buy an item, and we see that self-checkout use case being deployed more broadly in retail. We see the food use case, especially in Asia, the METI announcement in Japan for the five large convenient store operators to deploy self-checkout. So for us, self-checkout's a big opportunity heading into the future.

Troy Jensen -- Piper Jaffray -- Analyst

All right. Perfect. How about a last question from me. Can you just give us an update on just pricing trends for the tag ICs.

Jeff Dossett -- Executive Vice President, Sales & Marketing

Hey, Troy. This is Jeff, I'll answer this particular question. We haven't seen any recent changes in the competitive environment with regard to pricing in the prior quarter.

Troy Jensen -- Piper Jaffray -- Analyst

Okay. All right, guys. Good luck going forward.

Jeff Dossett -- Executive Vice President, Sales & Marketing

Thank you.

Chris Diorio -- Co-Founder & Chief Executive Officer

Thank you.

Eric Brodersen -- President, Chief Operating Officer and Principal Financial Officer

Thank you.

Operator

Okay. The next question comes from Craig Hettenbach with Morgan Stanley. Please go ahead.

Craig Hettenbach -- Morgan Stanley -- Analyst

Yes. Thank you. Just picking up on the comment Eric, about just some of the macro uncertainty, which we can see across the markets and then how that influences guidance? Are you seeing any changes to customer behavior due to this or is this just trying to get out in front of the potential for that?

Eric Brodersen -- President, Chief Operating Officer and Principal Financial Officer

Thanks, Craig. Probably closer to the latter, I think it's important to just back up a little bit and note that there are couple of factors that differentiate Impinj versus the rest of the semi-market. RAIN as to -- to our knowledge, from our perspective, the first market for consumable silicon. Moreover, roughly 30% of our business is systems. And we've just really worked through the completion of our inventory correction. So when we talk about the macro environment, we're really looking at the macro trends affecting the global economy rather than just the semi-market, and that's really driving and emphasizing our prudent guidance.

Craig Hettenbach -- Morgan Stanley -- Analyst

Got it. Thanks. And then just a follow-up for Chris. Understanding the healthcare is kind of vertical that will take time to see adoption and ramps, but any updated thoughts in terms of the type of progress you're seeing there and things happening for RAIN in healthcare?

Chris Diorio -- Co-Founder & Chief Executive Officer

Yes. So we continue to see healthcare as a big opportunity for us, and we see the need for RAIN enabled visibility, both for medical devices, for assets, as well as for suppliers. We see a lot of the pickup now happening in hospitals or hospitals initially want to track their assets and then move on to additional use cases after that. And so you see us producing steady announcements in terms of hospital deployments, both us and our partners. So we see the healthcare use case as a marathon, not a sprint or I'd say the healthcare vertical as a marathon not a sprint with huge upside opportunity for the future, but as you might expect with things in healthcare, they tend to move at a measured pace.

Craig Hettenbach -- Morgan Stanley -- Analyst

Understood. Thank you.

Chris Diorio -- Co-Founder & Chief Executive Officer

Thank you, Craig.

Operator

Okay. The next question comes from Mike Walkley with Canaccord Genuity. Please go ahead.

Mike Walkley -- Canaccord Genuity -- Analyst

Great. Thanks. Great to see the return to year-over-year growth. Chris, just a question with the channel inventory complete, you made a comments in the script about more typical unit volume growth rates going forward. Can you help us just think about what are some of those more normalized growth rates going forward in terms of unit?

Chris Diorio -- Co-Founder & Chief Executive Officer

Yeah. So we just -- we've spoken in the past about the unit volume growth rates and then, we see steady growth in the industry, and so we expect to return to those unit volume growth rates that we and others see now that we've entered our inventory correction.

Mike Walkley -- Canaccord Genuity -- Analyst

Okay. No chance you could quantify just double-digit unit growth on the long term basis, any color you can give on unit growth longer term?

Chris Diorio -- Co-Founder & Chief Executive Officer

Yeah. Longer term, I think it's best if we rely on the industry analysts that published their projections at the end of the year.

Mike Walkley -- Canaccord Genuity -- Analyst

Okay.

Chris Diorio -- Co-Founder & Chief Executive Officer

And we are guiding on a quarter-by-quarter basis. So, yeah, go ahead. I'm sorry.

Mike Walkley -- Canaccord Genuity -- Analyst

I know, understood. Just thought I try again. Just -- you made some comments in your script about expanding RAIN into new parts of the retail market. Can you just update us on penetration for RAIN in the retail and how you see the growth opportunities in that market?

Chris Diorio -- Co-Founder & Chief Executive Officer

Yeah. So we've spoken about the size of the retail opportunity in the past, which we estimate at roughly $80 billion units per year, and we've spoken about that for a while. By our best estimate right now, we'd probably say the retail market is roughly 10% penetrated, and I guess, I'll be very -- I need to be more precise there really talking about retail apparel. Retail apparel roughly is about 10% penetrated. So there is huge upside on the retail apparel side and then adjacencies, for example, the beauty, cosmetics, use cases and other items in retail, home goods and others offer further opportunities beyond the retail use case.

Mike Walkley -- Canaccord Genuity -- Analyst

Okay. Thanks. Last question from me and I'll pass it on. Just in terms of your Q4 guidance, I guess the revenue guidance on the seasonality just in terms of overall bottom line, is there a negative impact impacting gross margin in the quarter or does operating expenses go up higher in Q4? Just trying to reconcile the cost base. How you're getting to the bottom line? Thank you.

Linda Breard -- Chief Financial Officer Consultant

Yeah, Mike. This is Linda. So overall, we typically guide the revenue in EBITDA -- at the EBITDA line. I would say, revenue is down sequentially, so you'll have more pressure on the EBITDA line and you typically sometimes see it increases in year end spend with product based timing.

Mike Walkley -- Canaccord Genuity -- Analyst

Okay. That's helpful. Thank you.

Operator

Okay. The next question comes from Charles Anderson with Dougherty & Company. Please go ahead.

Charles Anderson -- Dougherty & Company -- Analyst

Yeah. Thanks for taking my question. Just with the addition of the European -- with the spectrum in Europe, I wonder if you could speak to -- is there any impact on the IC business, do you need a new design, that the metals ramping, so it looks like maybe there is zero impact there. And then it sounds like it also improves the performance, I wonder what you think is the market impact of that change in terms of maybe new industry adoption? And then I've got a follow-up.

Chris Diorio -- Co-Founder & Chief Executive Officer

Sure. So this Chris. Thanks, Charlie. So the first question, the impact of the IC business. Our IC is a very broad band. So they operate over a very broad big frequency range today from 860 megahertz to 960 megahertz, quite a broad band. What happened with this EU spectrum expansion is just like Japan did in the past by migrating to the same frequency band ranges as the US FCC, the European Commission has now given us additional spectrum in that same band. So what it means is that -- yeah, the ICs actually get to operate over an hour frequency range and so we can tune them for better sensitivity. So overall, it's a positive in that benefit because you can actually make simpler designs that operate over an hour of range, plus the spectrum allows more transmit power.

So you can read it longer range. So overall, it's just a win-win for the entire industry. And in terms of opening up additional use cases, it definitely does. With the additional transmit power, broader bandwidth, higher speeds, we can actually perform better on use cases in the shipment verification industry by tracking more items on a pilot (ph), for example, or in a retail use cases, more rapid inventory of items in a store. So it's just all positive.

Charles Anderson -- Dougherty & Company -- Analyst

Okay. Great. Then for my follow-up, I just want to ask about items, since I know coming out of IPO, you guys had very big ideas around ItemSense and the ability that would be new revenue stream. What the new updates that you have? I wonder maybe if we can just sort of reset where our expectation should be for ItemSense both in the short term and long term? Thanks.

Jeff Dossett -- Executive Vice President, Sales & Marketing

This is Jeff. What I will say is that the number of ItemSense highlights and initial deployments continues to grow. But as we've said before, ItemSense as a percentage or fraction of overall revenue will remain relatively small in the near term.

Charles Anderson -- Dougherty & Company -- Analyst

Okay. Thanks so much.

Jeff Dossett -- Executive Vice President, Sales & Marketing

Thank you.

Operator

Okay. (Operator Instructions) The next question comes from Mitch Steves with RBC. Please go ahead.

Mitch Steves -- RBC -- Analyst

Hey, guys. Thanks for taking my question. I just wanted to kind of maybe talk about the seasonality a little bit and try to figure out from modeling perspective, I realize you only do one quarter guidance, but starting with kind of December quarter, given the mix is going to be more toward readers than I see, is it fair that gross margins probably the highest in December quarters going forward? And then secondly, when I look through the year, can you guys maybe just put us directionally which quarters are the highest in both gross margin?

Chris Diorio -- Co-Founder & Chief Executive Officer

Let's see, Mitch. Let's break this down a little bit, because there are couple of different things that you're driving out in there. I'd say just generally with respect to seasonality itself, there's a range of factors that I highlighted in the script that relate to the systems and endpoint ICs and how they compare quarter-on-quarter. But as you know, any number of factors can mitigate that impact, when we just look at that, that overall seasonality trend. At a gross margin level, there's a range of things that impact gross margin. So yeah, Linda, maybe you just set through how we're thinking about that?

Linda Breard -- Chief Financial Officer Consultant

Yeah, Mitch. From a gross margin perspective, obviously, our overall revenue will be impactful to the gross margin percentage. So given that 31% to 33% guide coming off the 34.4% (ph), you'll see some compression on that. Also think about ASPs, our mix and how we're able to do a little bit this quarter of some E&O in this past quarter. So there's a number of factors that can drive margin various ways. So we look at all of them, as we think about our overall guidance at the EBITDA level.

Mitch Steves -- RBC -- Analyst

No, that's fine. And then the last one, just from is on the macro commentary you guys made. So I realize the stock markets have been volatile, but I mean was the comment about the macro environment more of a geo comment or is that more like a vertical comment? Maybe you guys can give us a little more on what exactly you guys are seeing?

Eric Brodersen -- President, Chief Operating Officer and Principal Financial Officer

Really, it's a broader economic environment, not any specific vertical or market.

Mitch Steves -- RBC -- Analyst

Okay. Got it. Thank you.

Chris Diorio -- Co-Founder & Chief Executive Officer

Thanks, Mitch.

Linda Breard -- Chief Financial Officer Consultant

Thank you.

Operator

Okay. This concludes our question-and-answer session. I would like to turn the conference back over to Chris Diorio for any closing remarks.

Chris Diorio -- Co-Founder & Chief Executive Officer

Yeah. I'd like to close by thanking all of you for your support and for joining us on the call today. Thank you very much.

Operator

The conference has now concluded. Thank you for attending today's presentation. You may now disconnect.

Duration: 27 minutes

Call participants:

Chelsea Lish -- Investor Relations

Chris Diorio -- Co-Founder & Chief Executive Officer

Eric Brodersen -- President, Chief Operating Officer and Principal Financial Officer

Troy Jensen -- Piper Jaffray -- Analyst

Jeff Dossett -- Executive Vice President, Sales & Marketing

Craig Hettenbach -- Morgan Stanley -- Analyst

Mike Walkley -- Canaccord Genuity -- Analyst

Linda Breard -- Chief Financial Officer Consultant

Charles Anderson -- Dougherty & Company -- Analyst

Mitch Steves -- RBC -- Analyst

More PI analysis

Transcript powered by AlphaStreet

This article is a transcript of this conference call produced for The Motley Fool. While we strive for our Foolish Best, there may be errors, omissions, or inaccuracies in this transcript. As with all our articles, The Motley Fool does not assume any responsibility for your use of this content, and we strongly encourage you to do your own research, including listening to the call yourself and reading the company's SEC filings. Please see our Terms and Conditions for additional details, including our Obligatory Capitalized Disclaimers of Liability.

Motley Fool Transcribers has no position in any of the stocks mentioned. The Motley Fool recommends Impinj. The Motley Fool has a disclosure policy.