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Rambus Inc (RMBS 3.12%)
Q3Â 2019 Earnings Call
Nov 4, 2019, 5:00 p.m. ET
Contents:
- Prepared Remarks
- Questions and Answers
- Call Participants
Prepared Remarks:
Operator
Welcome to the Rambus Third Quarter and FY '19 Earnings Conference Call. [Operator Instructions]
I would now like to turn the conference over to Rahul Mathur Chief Financial Officer. You may begin your conference.
Rahul Mathur -- Senior Vice President and Chief Financial Officer
Thank you Bonita and welcome to the Rambus Third Quarter 2019 Results Conference Call. I'm Rahul Mathur CFO; and on the call with me today is Luc Seraphin our CEO. The press release for the results that we will be discussing today have been furnished to the SEC on Form 8-K. A replay of this call will be available for the next week at [855] 859-2056. You can hear the replay by dialing the toll-free number and then entering ID number 7170477 when you hear the prompt. In addition we are simultaneously webcasting this call and along with the audio we're webcasting slides that we will reference during portions of today's call. So even if you're joining us via conference call you may want to access the webcast with the slide presentation. A replay of this call can be accessed on our website beginning today at 5:00 p.m. Pacific Time. Our discussion today will contain forward-looking statements including our financial guidance for future periods product and investment strategies; timing of expected product launches; demand for existing and newly acquired technologies; the growth opportunities of the various markets we serve; the expected benefits of our merger acquisition and divestiture activity including the expected timing of transaction completions and the success of our integration efforts; and the effects of ASC 606 on reported revenue among other things.
These statements are subject to risks and uncertainties that are discussed during this call and may be more fully described in the documents we filed with the SEC including our 8-Ks 10-Qs and 10-Ks. These forward looking statements may differ materially from our actual results. And we're under no obligation to update these statements. In an effort to provide greater clarity in our financials. We're using both gap and non GAAP financial presentations in both our press release and also on this call. reconciliation of these non GAAP financial to the most directly comparable gap measures has included in our press release in our slide presentation and on our [email protected] on the investor relations page under financial releases. The order of our call today will be as follows: Luc will start with an overview of the business. I will discuss our financial results including our guidance for future periods.
And then we will end with Q&A.
Luc Seraphin -- President and Chief Executive Officer
Thanks Rahul and good afternoon everyone. Over the past year we have consistently demonstrated strong execution and product revenue growth while meeting or exceeding the expectations in the market. This quarter was no exception with revenue above the high end of guidance at $57.4 million. We strengthened our balance sheet by generating $25.6 million in cash from operations taking the year-to-date total to $93.1 million which already exceeds the cash generated for all of 2018. The company has made tremendous progress toward the strategic objectives set out at the beginning of the year that are critical to our company's success. Our efforts continue to be driven by refocusing our product portfolio and research around our core strength in semiconductor optimizing the company for operational efficiency and leveraging our strong cash generation to reinvest for growth. In Q3 we had significant M&A activity in line with our areas of focus and mission to deliver data faster and safer. We announced 2 exciting silicon IP acquisitions that will enhance our offerings and expand our market position in interface and security. We began with the acquisition of digital controller company Northwest Logic. As a market leader in memory PCIe and MIPI digital controllers Northwest Logic expands our interface solutions for data center AI communications and automotive. Every SoC design that uses a PHY also needs an associated controller.
With the combination of complementary digital and physical IP portfolios from Northwest Logic and Rambus we can offer a fully integrated PCIe and memory interface subsystem for our customers. As we mentioned in last quarter's call this transaction will not materially impact 2019 results having just closed in August but we expect it to have an immediate positive impact on the business and be accretive to revenue and earnings in 2020. We also announced an agreement to acquire the secure silicon IP and protocols businesses of Verimatrix formerly Inside Secure. Much like the purchase of Northwest Logic this anticipated acquisition of the Inside Secure teams and offerings will augment our portfolio of offerings for data center AI networking and automotive. This will bring more mission critical embedded security products, expanding our global reach and Creating the industry's most comprehensive portfolio of silicon proven security ID and cheap provisioning solutions. We expect the acquisition to close before the end of the year, subject to customary regulatory approvals. Finally, two weeks ago, we close the sale of our payments and ticketing business to visa, marking a very important milestone for the company. This deal was a critical step for Rambo's and redefined our perimeter in the semiconductor markets was the rhombus team has worked very hard on successfully closing and integrating our acquisitions. Our business units continue to execute on existing programs. We continue to drive sustained revenue growth in silicon IP with key design wins for both our interface and security IP solutions.
We closed 4 Tier 1 SoC design wins across the portfolio for data center EDGE IoT and government. We also announced a combined interface and security IP win at SEAKR for aerospace and satellite communications. The team expanded our portfolio with leading-edge interface solutions for GDDR6 HBM2 and 112 gig on TSMC's leading edge 7-nanometer process. These are critical building blocks for AI data center 5G and automotive. And finally we announced the industry's fastest complete memory subsystem solution for GDDR6 including the PHY end controller capable of running at 18 gigabit per second. Turning now to chips. Q3 was the second consecutive quarter of record revenue for our memory interface chip business which we now expect to almost double year-over-year. This is driven by increased OEM and data center qualifications leading to steady gains in our DDR4 memory interface chip market share. The industry is also starting to recover from the softness early this year in the memory market. In closing Rambus has made tremendous progress toward the strategic objectives critical to our future and have successfully realigned the company around our core strength in semiconductors. With record revenue from our chip business and continued silicon IP design wins at Tier 1 SoC customers we exceeded our commitments to the market and delivered a great third quarter.
With that I'll turn the call to Rahul to discuss the quarterly financial results. Rahul?
Rahul Mathur -- Senior Vice President and Chief Financial Officer
Thanks Luc. I'd like to begin with our financial results for the third quarter. Let me start with some highlights on slide six. As Luc mentioned we continue to execute in our product businesses and delivered solid financial results above our revenue and earnings expectations. We've adopted ASC 606 using the modified retrospective method which does not restate prior periods but rather runs the cumulative effect of the adoption through retained earnings as a beginning balance sheet adjustment. Any comparison between our results under ASC 606 and prior results under ASC 605 is not an accurate way to track our company's progress. We'll continue to provide operational metrics such as licensing billings to give our investors better insight into our operational performance. We delivered revenue of $57.4 million and licensing billings of $63.1 million. Revenue was higher than our expectations due to strong buffer chip sales. We have a very strong balance sheet and ended the quarter with a cash cash equivalents and marketable securities of $338 million flat from the previous quarter as cash from operations of $25.6 million was offset by cash used for the acquisition of Northwest Logic. We delivered solid results while continuing to leverage our high-margin historic businesses to fuel growth in adjacent areas where we have strong technical and market expertise with a focus on chips and silicon IP. Now let me talk you through some revenue details on slide seven. Revenue for the third quarter was $57.4 million above our expected range due to market share gains in our buffer chip business. Royalty revenue for the third quarter was $19.4 million while licensing billings was $63.1 million.
The difference between licensing billings and royalty revenue primarily relates to timing as we don't always recognize revenue the same quarter we bill our customers. Going into additional detail our product revenue was $21.4 million consisting primarily of our buffer chip business. Our contract and other revenue was $16.6 million consisting primarily of our silicon IP business. As we expected due to the timing of the close our acquisition of Northwest Logic did not have a material impact on the third quarter. We recorded $5.1 million of revenue and $6.8 million in operating cost and expenses associated with our Payments and Ticketing business in Q3. Let me walk you through our non-GAAP income statement on slide eight. Along with our solid revenue performance in Q3 we met our profitability targets on a non-GAAP basis. Cost of revenue plus operating expenses or what we referred to as total operating expenses for the quarter came in at $67.1 million. This was above our expectations due to higher COGS related to record buffer chip revenue. Excluding Payments and Ticketing our profit was nicely above our expectations. We ended the quarter with headcount of 840 up from 772 in the previous quarter as we welcome employees from Northwest Logic and converted several long-term contractors and employees in Bangalore. Under ASC 606 we recorded $4.9 million of interest income related to the financing component of our fixed fee licensing arrangements for which we've recognized revenue but not yet received payment. We incurred $0.6 million of interest expense related to the convertible notes we issued in Q4 2017.
This was offset by incremental interest income related to the return on our cash portfolio. After adjusting for noncash interest expense on our convertible notes this resulted in non-GAAP interest and other income for the quarter of $6 million. Excluding the interest income related to the significant financing component related to ASC 606 this would have been $1 million. Assuming a flat rate of 24% for non-GAAP pre-tax loss non-GAAP net loss for the quarter was $2.9 million or a diluted net loss of $0.03 per share. Now let me turn to the balance sheet details on slide nine. We are very pleased with the strength of the balance sheet. Cash cash equivalents and marketable securities totaled $338 million flat from the previous quarter as cash from operations of $25.6 million was offset by the purchase of Northwest Logic. Our Q3 ending cash balance doesn't reflect the cash we received for our Payments and Ticketing business nor does it reflect what we expect to pay for the secure silicon IP and protocols businesses of Verimatrix. Given the $93.1 million of cash from operations through our first 3 quarters we expect over $100 million of cash from operations this year. Our strong balance sheet allows us the flexibility to invest strategically in our patent portfolio and in our growing product programs. At the end of Q3 we had contract assets worth $560 million which reflects the net present value of unbilled AR related to licensing arrangements for which the company has no future performance obligations. I expect this number to continue to trend down as we bill and collect for these contracts.
It's important to note that this metric doesn't represent the entire value of our existing licensing agreements as several customers have royalty-based agreements that allow us to recognize revenue each quarter under ASC 606. As the sale of our Payments and Ticketing business did not close until October 21 at the end of Q3 we classified the assets and liabilities for this business as held for sale. The net carrying amount of this business as of the third quarter was $74 million considering assets and liabilities. After considering the $75 million purchase price and transaction costs we recorded a recovery of $1.9 million in Q3 that offset the impairment charge in our Q2 GAAP results. We will make another adjustment to reflect final working capital in our Q4 results. Third quarter capex was $3.2 million and depreciation was $4.4 million. Looking forward I expect roughly $3 million of capex for the fourth quarter and that makes roughly $9 million for the full year of 2019. I also expect depreciation of roughly $4 million for the fourth quarter and roughly $14 million for the full year of 2019. Overall we have a strong balance sheet with limited debt and expect to continue to generate strong cash from operations in the future. Now let me turn to our guidance for the fourth quarter on slide 10. As a reminder our forward-looking guidance reflects our current best estimates and our actual results could differ materially from what I'm about to review. In addition to financial outlook under ASC 606 we've also been providing information on licensing billings which is an operational metric that reflects amounts invoiced to our licensing customers during the period adjusted for certain differences.
As you see in the supplemental information we provided on slide 16 of our earnings deck licensing billings closely correlates with what we had historically reported as royalty revenue under ASC 605. We expect to close our transaction with Verimatrix in Q4 as we complete regulatory approvals and other customary closing conditions. Until we close those financial results will not be included in our guidance. With that said under ASC 606 we expect revenue in the fourth quarter between $50 million and $66 million. We expect royalty revenue between $15 million and $21 million. We also expect licensing billings between $60 million and $66 million. Excluding the Payments and Ticketing business we expect Q4 non-GAAP total operating expenses which includes COGS to be between $59 million and $63 million. We remain focused on our execution and are very pleased with our continued market share gain in our buffer chip business. We now expect that business to nearly double year-over-year ending near the high end of the $50 million to $70 million range we anticipated previously. Under ASC 606 non-GAAP operating results for the fourth quarter is expected to be between a loss of $12 million and $2 million. The non-GAAP interest and other income and expense which excludes interest income related to ASC 606 we would have expected $1 million in income which includes $0.6 million of interest expense related to the notes due in 2023.
Based on the new tax legislation passed at the end of 2017 we expect our pro forma tax rate in 2019 and 2020 to remain consistent with our 2018 pro forma tax rate of roughly 24%. The 24% is higher than the new statutory rate of 21% primarily due to higher tax rates in our foreign jurisdictions. As a reminder we pay roughly $20 million of cash taxes each year driven primarily by our licensing agreements with our partners in Korea. We expect non-GAAP taxes to be between a benefit of $3 million and 0 in Q4. We expect our Q4 share count to be roughly 115 million basic and diluted shares outstanding. This leads you to between a non-GAAP loss per share of $0.08 and $0.01 for the quarter. Looking ahead to 2020 we remain comfortable with the business outlook we provided at our Analyst Day in September. I expect our revenue trends by quarter to be similar to 2019 with Q1 down seasonally slight improvement in Q2 and then growth in Q3 and again in Q4. I expect our total expense trends including COGS will be more linear through the year with small increases in Q3 and Q4 for higher product shipments. I also expect capex of $26 million for 2020 roughly half of which related to our headquarter move in the first half of the year and depreciation of $29 million. Let me finish with a summary on slide 11.
We are proud of the solid performance by our team and the progress we continue to make against our strategic initiatives to drive long-term profitable growth. We've had a significant amount of M&A activity as we refocus our company and are very pleased with our execution on organic and inorganic growth. While we understand that ASC 606 added a level of complexity to our financial reporting and it's important to reiterate that the underlying financial strength of our business remains strong reflected in our demonstrated ability to generate cash. In closing we have refocused our product portfolio around Rambus' core strength in the semiconductor industry improved our operational efficiency and profitability generated solid cash from operations and leverage our strong balance sheet to support our strategic initiatives. We continue to focus on our core markets and are very well positioned for long-term profitable growth.
With that I'll turn the call back over to Bonita to begin the Q&A. Could we please have our first question?
Questions and Answers:
Operator
[Operator Instructions] Your first question comes from the line of Suji Desilva with Roth Capital.
Suji Desilva -- Roth Capital -- Analyst
Luke, hi, Rahul. Congratulations on the strong cash generation here. So every quarter I try and go through these numbers to make sure I get the kind of absent 605 pro forma correct? If I do the math correctly. So for Rahul for 3Q '19 I get revenue of $101 million would have been reported an EPS of $0.23. Do those numbers sound reasonable?
Rahul Mathur -- Senior Vice President and Chief Financial Officer
So Suji I -- we can't report the 605 numbers anymore as you know. But if I were to do that math that I think you're doing I'd get the same numbers.
Suji Desilva -- Roth Capital -- Analyst
Okay. Good to know. And then for 4Q '19 a couple of moving parts here. But it seems like if I put it together I can get to something like $98 million midpoint revenue guidance and $0.25. And if you back out the Payment and Ticketing from 3Q the revenue is a sequential growth. Does that sound right as well?
Rahul Mathur -- Senior Vice President and Chief Financial Officer
Yes. Again I understand the math that you're doing and I would get the same results but that's not math that we can do at the company.
Suji Desilva -- Roth Capital -- Analyst
Understood. That's fair enough. Okay. And then for the business for '20 you reiterated the guidance from the Analyst Day. Can you give us maybe some more color or detail on what Northwest Logic or Verimatrix contribute to the '20 run rate so we have some idea be it inorganic versus organic year-over-year?
Rahul Mathur -- Senior Vice President and Chief Financial Officer
Yes absolutely. So what we expected and we said this at our Analyst Day in September in New York is we expected Northwest Logic to generate roughly $10 million of revenue for us in 2020 and we expect the businesses from Verimatrix or formerly Inside Secure to generate roughly $20 million of revenue for us in 2020. And both of these should be eminently accretive to our EPS. Now as a reminder we have our significant -- or a significant portion of 2019. So when you take those numbers out of 2019 you see very nice growth across the board in our product businesses. You see product revenue I think what we said is we now expect to be at the high end of our range for 2019 of almost $70 million. And again that's almost entirely our buffer chip business. I think what we said in September is that our range for the product revenue in 2020 is between $75 million and $95 million. So that's a business that's growing very nicely. What you also see is growth in our silicon IP business and that's really reported as contract and other.
As a reminder there's about $20 million billings that we have in licensing billings that we think are really directly related to that silicon IP business. So if you had -- I think what we said in September between $70 million and $90 million or $80 million as the midpoint you add that $20 million. And I think in 2020 that's almost $100 million of billings associated with our silicon IP business which is a really nice growth over '19 both organic and inorganic. So we're certainly pleased with our execution on our business. As we've talked about repeatedly Suji what we see is structural -- in our structural patent licensing agreement we received step-downs in certain agreements that we have. And what you see is then that product growth is offsetting any step-downs that we have and we're also growing from a bottom line and from a cash from operations perspective as well. So we're very pleased with our performance in the guide.
Suji Desilva -- Roth Capital -- Analyst
Okay. That's a lot of helpful color Rahul. Appreciate that. And then a couple more questions before I pass it on. The DDR4 memory you had kind of upside versus your expectations? Was this driven potentially by perhaps the hyperscale or data center recovery that Intel called out? Or are there competitive factors versus IDT Samsung and such that might be also in the mix here?
Luc Seraphin -- President and Chief Executive Officer
Hi Suji. It's actually both. We do see some recovery in the market. We see the inventory levels normalize in the market and demand is up from data center and they resume purchase to our customers. So that's one factor. The other factor is that we are starting to see the results or continue to see the results of our design win activity on the Cascade Lake platform where our footprints of design wins was twice what it was on the Skylake platform. So the combination of our increase of footprint in design wins with the recovery of the memory market explains these results for the buffer chip.
Suji Desilva -- Roth Capital -- Analyst
Okay. And my last question is you talked about closing a set of deals here in the quarter. I was curious what the numbers were relative to that the number you reported in the most recent quarters whether -- so that's a typical level of number of deals you'll see or if there's more or less in a typical quarter historically?
Rahul Mathur -- Senior Vice President and Chief Financial Officer
Yes I think Q3 was very active for us because we were able to announce the divestiture of our Payments and Ticketing and then we also announced the closure of Northwest Logic and our intent to acquire the business from Verimatrix. I think we have an opportunity. We have a very strong balance sheet and we definitely have an opportunity to continue to drive more inorganic growth. But it's really driven by what the opportunities are and how they align from a timing perspective. I think we will continue to be judicious. What I'm very pleased with is that certainly the execution on the divestiture of Payments and Ticketing helped refine our focus back to our semiconductor business. And certainly the acquisitions of Northwest Logic and what we expect to acquire from Inside Secure very nicely bolster both our memory and security portions of that silicon IP business. But I think we certainly will expect to continue to look forward to other inorganic opportunities.
Suji Desilva -- Roth Capital -- Analyst
Okay, thank you very much, guys.
Operator
Your next question comes from the line of Gary Mobley with Wells Fargo Securities. There's no response from that line. We'll go to the line of Sidney Ho with Deutsche Bank.
Sidney Ho -- Deutsche Bank -- Analyst
Great, thank you. Just want to follow-up the previous questions. At the Analyst Day you gave a full year guidance for next year's architecture license billings of $220 million to $240 million which is down about 1 -- about 10% from this year just taking the midpoint of the guidance. One is that still a valid assumption? And if so can you help us understand the moving pieces how much of that decline is related to sales of the Ticketing business how much related to any scheduled step down like we've seen this year? And what kind of growth does it mean for the rest of the businesses.
Rahul Mathur -- Senior Vice President and Chief Financial Officer
Yes it's a great question Sidney. And what I'll tell you is that there's really not that much of that that's related to the Payments and Ticketing business. Most of the revenue in the Payments and Ticketing business was more in the contract and other segment. We did have a little bit in that licensing billings but most of the revenue that we recognized and anticipated was under contract and other. It really is almost entirely related to just the structure of our licensing agreements. What we did is we signed long-term licensing agreements for 2014 '15 '16 and '17. And those have very defined structures in terms of how much we are able to collect from our partners each quarter. There are some of those agreements which are royalty-based.
And so you will see some variability in terms of what we come in. But really it's almost entirely related to just the structure of those agreements. What we found is that those years were very strong for many of our partners. And our partners you took that as an opportunity when they were having strong gears to upfront some of the payments that they had in those agreements. What we looked at is what's the total value and we're very comfortable with that total value. But again to answer your question it's almost entirely related to the structure. Looking forward beyond 2020 I'd expect it to be roughly flat with what we showed here. There are upsides. I think one thing that we've talked about that's very difficult for us to predict is is really what happens with China. And again how that happens and how those agreements are structured are going to be something that we'll work through. But hopefully that helps to answer your question.
Sidney Ho -- Deutsche Bank -- Analyst
No that's helpful. Follow-up question is on the CryptoManager business you announced a design win with Micron at the end of last year and I think Micron just announced that product as -- and service as a matter of fact just a couple of weeks ago. Can you help us understand your revenue opportunity there? How do you think about the ramp? How would it look like? And maybe compare and contrast with some of the -- well I guess the other customer that you have announced in the past.
Luc Seraphin -- President and Chief Executive Officer
Yes. Thanks Sidney. Just to clarify things. So our CryptoManager Device Key Management system is the software foundation that Micron is using for the authentic key management services and for the IoT applications. So it's nice to see that this product is being commercialized. As every one of our CryptoManager deals it's a combination of license to that customer that sometimes is linked to our volume tiers. And that's the kind of business model that we have and we cannot give more details than that. But it's a great opportunity for us. We are the software foundation for the IoT services based on that memory that they just announced.
Sidney Ho -- Deutsche Bank -- Analyst
Okay. Maybe one quick question for me. In terms of the 5G side of things we've been hearing -- there's a lot of acceleration of 5G infrastructure build-out. And the expectations for 5G handsets are quite high maybe 200 million 250 million units next year. Can you help us understand how and when you will start benefiting from that kind of rollout?
Rahul Mathur -- Senior Vice President and Chief Financial Officer
Yes sure. That's a great question. We actually start to benefit from the deployment of 5G. One of the key interfaces being used in 5G systems is PCIe PCIe Gen 5 interface using SoCs at 32-gig per second. So a lot of the design wins that we have announced over the course of the past quarters actually used in SoCs that are being used in 5G infrastructure. So the way we benefit from 5G is actually people designing SoCs with that type of interfaces that are required for 5G. In the call today we mentioned several types of applications that are using our IP cores. I will just add -- to ask -- to add to this that these are with very large cap customers trendsetters and one of them is actually addressing the 5G market.
Sidney Ho -- Deutsche Bank -- Analyst
Great, thank you very much.
Operator
[Operator Instructions] At this time there are no further questions. I would now like to turn the conference back over to Luc.
Luc Seraphin -- President and Chief Executive Officer
Thank you everyone for your continued interest and time and have a good day. Thank you.
Operator
[Operator Closing Remarks]
Duration: 31 minutes
Call participants:
Rahul Mathur -- Senior Vice President and Chief Financial Officer
Luc Seraphin -- President and Chief Executive Officer
Suji Desilva -- Roth Capital -- Analyst
Sidney Ho -- Deutsche Bank -- Analyst
