Valens Semiconductor Ltd

NYSE:VLN

Earnings Call Transcript 2023-Q2

[Operator]

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 Second Quarter 2023 Earnings Conference Call and Webcast.

[Operator Instructions] I will now turn the call over to Daphna Golden, Vice President of Investor Relations for Valens Semiconductor. Please go ahead.

[Daphna Golden, executive]

Thank you, and welcome, everyone, to Valens Semiconductor's Second Quarter 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 to fund 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 e-mail me at [e-mail].

With that, I will now turn the call over to Gideon.

[Gideon Ben-Zvi, executive]

Thanks, Daphna, and 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, as we further push the boundaries of connectivity with our advanced offerings 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 the 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 second quarter 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 will start to improve at a relatively slow pace towards the end of 2023 and through the first half of 2024, and gained 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 these growing markets 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, and 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 their new products embedding the new chipset.

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 videoconferencing 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 solutions.

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 an 11% to 12% CAGR according to research firm Fortune Business Insights.

We recently demonstrated how another 1 of our products, the VA7000 chipset family, it 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 2 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 AI imaging system on chip known as SOC. While deploying the solution will benefit from the ability to cover the entire room and enhance the in-room and remote participant's equity. Another benefit of this new solution is the ability to use smaller cameras that consume less power at reduced costs. During the many discussions held with customers about the VS6320 and the VA7000 chipset, 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 chipset 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 models, 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 cars growth rate.

In Q2, we recorded initial sales of the Tractor-Trailer rear-view safety solution we jointly developed with Stoneridge for their 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 MIPI A-PHY 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, and over the past quarter, we grew the bid pipeline was 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 few more 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 platforms. This enables us to operate a stronger and leaner organization for the benefit of Valens semiconductors stakeholders. Dror will provide more details in his prepared remarks.

I'll now turn it over to Dror Heldenberg, our CFO, to review our Q2 2023 financial results and provide our financial outlook.

[Dror Heldenberg, executive]

Thank you, Gideon. I'll start with our second quarter results, and then provide our outlook for the third quarter and the full year 2023. Starting with our second quarter '23 results. We achieved record quarterly revenue of $24.2 million an increase of $1.7 million or 7.5% from the second quarter of 2022 and an increase of 1.2% from Q1 2023.

Second quarter 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 substantially higher 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 savings 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 premium 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. And 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 2 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 U.S. dollar in Q2 2023 compared with the company's estimates. This had a 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 totaled $138 million, and we had 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 first quarter 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 $19 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 level impacted by a 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 and go down into Q3 2023, but in a slower pace.

Now I would like to provide our guidance. For the third quarter of 2023, we reaffirm our expectation for revenues in the range of $14 million to $14.2 million. As we have shared with you previously, we anticipate that the third quarter will be the lowest quarter of the year. We expect Q3 gross margins to be in the range of 57.6% to 58% reflecting, on one hand, we 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 operation expenses on the lower Q3 2023 revenues.

Adjusted EBITDA loss in the third quarter is expected to be in the range of $12.2 million to $11.9 million. As of June 30, 2023, shares outstanding totaled 101.8 million, excluding, of course, approximately 1 million shares that are subjected 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% to 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 for his closing remarks before opening the call for Q&A.

[Gideon Ben-Zvi, executive]

Thank you, Dror. In face of the ongoing macroeconomic 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 toward profitability. Our main target 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]

[Operator Instructions] The first question is from Rick Schafer of Oppenheimer.

[Richard Schafer, analyst]

Nice job managing through a pretty tough macro. I had two questions, if I could. The first is -- it's 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, And 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, executive]

Hi, Rick. Good to hear you again, and thank you for the question. So 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. And in a way, I think that at this point in time, we see, I would call it, 3 phases.

The first one is the one that in the quarter that we are now in the middle weeks of the third quarter. I believe that audio-video business is going to bottom in this quarter. 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 $14 million this quarter.

Second, I believe that we are starting to see some improvement in the fourth quarter. We are starting to see better demand from our customers. We see more inventory digestion from our customers along the channel. And 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. And then as we mentioned in our prepared remarks, we believe that this -- we are going to see that this momentum will continue -- will mainly gain momentum into the second half of 2024.

[Richard Schafer, analyst]

Okay. And maybe just for my second question. I just -- I know you mentioned that you're on track to add. I think you said to announce at least 1 new customer in auto. So I don't if there was any other color you could give around that. And as part of your answer, either Gideon 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 auto peers, your component peers. Are you seeing any shifts in sort of order patterns or in vehicle, in product launch, any change there that you note those within auto?

[Dror Heldenberg, executive]

Okay. So like in the past, we cannot be more specific on the -- and 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 solutions 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. 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 initial design wins before the end of this year. At this point in time, we are confident that we are going to be this target.

[Operator]

The next question is from Suji Desilva of Needham.

[Sujeeva De Silva, analyst]

So maybe to follow-up on Rick's question. The pipeline closure for auto, the -- what are the drivers for the auto customers for the timeframe of those closures? And I guess because you may see 1 by the end of the year and more in '24. What's driving their timeframe at this point? Are they sampling the chip and testing it? Or what are the factors are in effects?

[Gideon Ben-Zvi, executive]

Suji, this is Gideon. The process with the automotive player, the OEMs is actually there is -- it's a shift. They are shifting from the old system that they use to new systems and they have their own learning curve about what is needed to understand the need for newer bandwidth, for newer and for more information in order to predict an accident in order to predict is something going to happen. And this is a process that actually they are doing their own shift of understanding new needs in the market.

And some of them is not predictable for us to know how long it takes, but we see that actually the learning curve with 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.

And yes, it takes the time. And some of the time is their own learning curve of the new world or of the new demands. But we see that actually in most of them that the -- actually not in most of them, all of them that they understand and that they come to very similar conclusion, and we hope that this will yield to a design win that we'll be able to have this year.

[Sujeeva De Silva, analyst]

Okay. And then perhaps a follow-up there, as they compare your solution to perhaps impact of better offerings like Ethernet and so forth, what are the 1 or 2 key factors you think are standing out that with being a customer toward the Valens MIPI A-PHY solution?

[Gideon Ben-Zvi, executive]

Well, the explanation is technologically. And the higher the bandwidth the more exposure to electromagnetic influence you have. And this is not a linear thing. Like if you have a camera of 8 megabit versus 4 megabit, it's not double the exposure. It's far more than that.

And this is the reason that the need for the 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. And the unshielded cable is the -- is actually having a total cost of ownership, which the whole system cost less because we enable user 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. So these are the key factors. The EMC, electromagnetic the total system cost and the bandwidth. That's the 3 key parameters.

[Operator]

The next question is from Vivek Arya of Bank of America.

[Blake Friedman, analyst]

This is Blake Friedman on for Vivek. Just wanted to focus on kind of the full year guide, specifically Q4. And I know you only guide 1 quarter out. In the early discussing of Q4 specifically. But just taking the full year guide kind of implies a pretty steep sequential growth in December. So I'm just curious what you're seeing maybe from kind of your -- a customer perspective that's giving you confidence in that strong ramp-up just because you've heard across the ecosystem. Maybe some continued digestion for a couple of quarters, whether it would be across industrial or consumer in a variety of other markets. Just any clarity there would be helpful?

[Dror Heldenberg, executive]

So first of all, good to hear again, Blake. 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've already provided the first half and we gave the third quarter, it's not that complicated 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 products and based on what they are telling us. But on top of that, it's based on backlog, and we see that the level of bookings that we already have with them. I think that given that fact that we know what they're expecting and what they see in front of the end customers and the fact that we already received the backlog -- we see the backlog, this is the reason why we see this correction in terms of the Q3 versus Q4.

[Blake Friedman, analyst]

Got it. And then just to kind of follow-up, this is kind of more of just a broader question beyond Q3. But if I think about from a gross margin perspective, Obviously, with audio-video down, the gross margins are kind of coming down into this 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 gross margin recovery in the business, that would be great?

[Dror Heldenberg, executive]

Okay. So in a way, Q3, it's a kind of an exception. It's an exception because it's a kind of a perfect storm. We see -- we just mentioned that we see that audio-video reached a bottom, which means that we do not enjoy the gross margin that we usually see in audio-video. The fact that we report this lower revenue at the level of about $40 million. We expect to see $40 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. So Q3, in a way, is kind of an exception. It's not something -- 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 expand gross margin that will be north to 60%.

[Operator]

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

[Brian Dobson, analyst]

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

[Gideon Ben-Zvi, executive]

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

So this is actually one of the growing engines of the AV. Another growing engine is we see more and more demanded interest what's called Industry 4.0 which is an 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.

And these are some of the growing -- I would just mention also the education world. Again, it's an audio-video technology, but not going for a regular audio-video conference from our video distribution. It's targeted more to the education market, hybrid education. And these are some of the growing engines from the AV. The -- I guess, the automotive doses are the same. We are looking after the ADAS and autonomous cars, and this is where our -- and actually, another market in the automotive which more and more we see interest in the surround-view.

And so actually, these are where we see growing engines in the industry. But from a cash point of view, it is the audio-video because the automotive any design we know, the time it takes until you see it in cash and revenues take some years.

[Operator]

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

[Gideon Ben-Zvi, executive]

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 the interest in Valens Semiconductor and all have a great day. Thank you, and goodbye.

[Operator]

Thank you. This concludes the Valens Semiconductor First Quarter 2023 Results Conference Call. Thank you for your participation. You may go ahead and disconnect.