ams OSRAM AG

SIX:AMS

Earnings Call Transcript 2017-Q4

[Operator]

Ladies and gentlemen, good morning. Welcome to the ams Full Year and Fourth Quarter 2017 Results Conference Call. I'm Yulin. I'm the Chorus Call operator. [Operator Instructions] And the conference is being recorded. [Operator Instructions] The conference must not be recorded for publication or broadcast. [Foreign Language]At this time, it's my pleasure to hand over to Mr. Alexander Everke, CEO; Mr. Michael Wachsler-Markowitsch, CFO; and Mr. Moritz Gmeiner, Head of Investor Relations. Please go ahead, gentlemen.

[Moritz M. Gmeiner, Senior Director of Investor Relations]

Good morning, ladies and gentlemen. This is Moritz Gmeiner. I'm very happy to welcome you to this morning's conference call on our full year and fourth quarter results. There is a presentation available on our website in the Investor section Presentation which will be the backdrop for Michael's discussion of full year and fourth quarter 2017 financials. Before that, as usual, I would ask Alex, our CEO, to run you through the most relevant events that had happened. After that Michael will run you through the financials in detail. Alex?

[Alexander Everke]

Good morning, ladies and gentlemen. I'm very happy to welcome you to our full year and fourth quarter 2017 conference call this morning. Let me first give you some key financial figures. Mike will later take you through the financials in detail.We achieved a record year 2017 for the company with group revenues growing 93% to EUR 1,064,000,000 or 100% in constant currency terms. Our fourth quarter revenues played a key role in this, coming in at EUR 470.3 million in the upper-third of our guidance range, up 252% year-on-year and 79% sequentially. Our adjusted gross margin excluding acquisition-based and share-based compensation cost was 43% for the year and 44% in the fourth quarter. Our adjusted EBIT excluding acquisition-based and share-based compensation cost was EUR 168.7 million or 16% of revenues for the year while EBIT for the fourth quarter was whopping EUR 128.5 million, setting a new record for ams and up 683% year-on-year or 27% of revenues which was well in line with our guidance.With these numbers in mind I'm very happy to report the expected strong performance of our business for full year and fourth quarter 2017. Our business showed record growth last year as ams virtually doubled revenue compared to previous year. Our focused strategy going for leadership in optical, imaging, environmental and audio sensing was the key driver for the success and the growth we saw in both consumer and nonconsumer end markets. This was clearly visible in the fourth quarter which showed a further sharp revenue increase in our consumer business and overall good demand, driving substantial quarter-on-quarter growth.Despite the continuing consumer ramp-ups in the fourth quarter we are happy to report very strong adjusted EBIT profitability for the quarter as expected, which demonstrates the strengths of operations of our operations model. Let me look at the developments on the consumer side first. Last year's outstanding growth was predominantly driven by our consumer and communications business and more specifically the mentioned new optical sensing solutions in 3D sensing and advanced light sensing for display management. All solutions start to ramp in very high volumes into a newly launched global smartphone platform in the second half of 2017, continuing through the fourth quarter and reaching significant run rates [ as we run] through the quarter.To help enable innovative features for this new smartphone platform we successfully implemented a highly complex ramp up which involves mass production of several new optical technologies including 3D sensing. We are clearly driving a leadership position in 3D sensing with our strongly differentiated optical portfolio and extensive system know-how across 3D technologies.Offering an aggressive multi-generation 3D sensing roadmap to OEMs we are able to create solutions including best-in-class fixed lasers, integrated optical systems built around wafer-level optics and DOE optical elements and high-performance optical sensors, all tailored to customer needs. We are successfully leveraging the industry-leading 3D portfolio into markets and are seeing accelerating business momentum in 3D sensing.Expanding our leading role in the consumer 3D sensing markets I'm happy to relay a large 3D sensing design win at a major Asian smartphone OEM which we are working on a number of 3D sensing projects at several Asian smartphone OEMs. We also see strongly increasing revenue pipeline for smartphone and consumer device 3D sensing across multiple OEMs as part of our 2019 growth outlook.3D sensing is by no means a consumer-only opportunity, clearly demonstrating the fast progress of the technology. We have also gained a first major design win in automotive 3D sensing, and I will talk about this in more detail in a moment. Before that we are excited to announce a further strategic addition to our portfolio. In order to accelerate the adoption of 3D face recognition and enable OEMs to faster time to market we have agreed to acquire KeyLemon, a leading provider of facial recognition software based in Switzerland. Focused on biometric software KeyLemon has built extensive experience in facial recognition technology over many years. KeyLemon is well-known in industry for its strong IT portfolio, its 3D face recognition software. Based on this leading position KeyLemon has developed a robust fully functional implementation of 3D face recognition for mobile phones which offers high-level performance and security and is available now.We will quickly leverage KeyLemon's IP to develop 3D face recognition solutions for smartphones, consumer devices and additional future applications and expect first solutions to be introduced to OEMs this year. By combining KeyLemon's leading face recognition software IP with our 3D technology and system expertise we offer OEMs an accelerating path to add high-quality 3D face recognition into smartphones and other devices. I can say that the team there is well-connected in the 3D sensing industry and it is -- and they decided to join forces with ams as the most attractive platform they saw to leverage the technology for broad adoption.The transaction is expected to close within 40 days and the parties through the transaction has agreed to keep the consideration confidential. In our other optical sensing areas we are seeing growing interest and are implementing customer projects for our spectral-sensing technologies. These enable advance consumer color matching, future [indiscernible] identification and new personalized applications. At the same time we are able to strengthen our worldwide market-leader position in light sensors, supplying a broad range of smartphones and consumer OEMs with color, ambient light, proximity sensing for mobile devices.In audio sensing our MEMS microphone interface business recorded strong growth last year, held by the success of consumer devices such as home assistance. This development demonstrates ams continuing the market leadership in this area. We are also leading in active noise cancellation or ANC for the growing market of consumer device accessories.In addition to the recently-announced Nuheara high-end wireless earphones using ams ANC we are supplying a world-leading Korean smartphone OEM with an ANC solution for new-available after-market earphones. Driving innovation we are also in developments to combine microphone audio and environmental sensing such as pressure into [ converge ] solutions with a very small form factor for new consumer applications. Besides these developments I'm happy to announce that we gained a multi-year consumer design win for our high-volume power component in charging applications. This opportunistic design win at the world-leading smartphone OEM nicely leverage our power competencies. We are able to win a significant program with a lifetime value of several hundred million dollars at a relatively modest content per device and expect mass production of this design next year.Let me now switch over to the other very healthy areas of our business. Our industrial, medical and automotive business showed very solid growth in 2017, fully reflecting previous expectations. Our clear focus on solutions and strong technology base is driving market success in our diversified nonconsumer end markets where we have realized new applications for an expanding customer base.Our industrial business performed very well last year, providing a wide range of sensing solutions for industrial and factory automation, building control and other industrial sensing. In industrial imaging and machine vision we recorded good growth driven by continuing innovation enabling broader deployments of imaging technology, smaller form factors and higher optical performance.As the leading player in industrial end markets we are expanding our portfolio of differentiated sensing kind of technologies and solutions, which enable next-generation systems at major OEMs. Our medical business recorded another year of growth in 2017 which was based on our market leadership in medical imaging for computed tomography, digital x-ray and mammography. We successfully ramped a new Asian OEM last year, broadening our market reach in high-resolution medical imaging. We are happy to add that we recently also gained a first large design win at another global leading OEM in medical imaging.Smaller scale imaging systems for endoscopy are seeing good growth in new applications where we leverage sensor innovations together with our optical manufacturing expertise. Robust growth continued in our automotive business last year given attractive demand for our high-performance sensing solutions.We are focused on applications in safety, driver and systems, autonomous driving, position and chassis control and our portfolio is fully aligned with the accelerating structure growth in automotive sensing. Demonstrating our innovative power -- innovation power, we have won a first significant 3D sensing design for an autonomous driving application at the global automotive system supplier.This very high value of VCSEL solution including VCSEL driver for 3D LIDAR illumination leverage our differentiated VCSEL technology and is expected to ramp from 2021 onwards. At the company records for projected lifetime program value of more than $600 million this design-win illustrates our 3D sensing expertise and outstanding [indiscernible] capabilities.We have additional gains in another automotive design win for 3D LIDAR illumination at a U.S.-based automotive LIDAR startup. Looking at these wins I cannot overemphasize the enormous emerging growth opportunity we see in automotive 3D sensing through the coming decade.We have mentioned automotive as the latest in 3D sensing market before, and now [indiscernible] now adding major revenues into our long-term pipeline from automotive 3D lineup. This early success is just another proof of our outstanding technology portfolio and leadership position in the exciting 3D sensing space.On top of this development we are already -- we are also seeing rapidly increasing interest and strong OEM feedback from the industrial markets. Regarding a broad future adoption of 3D sensing in areas such as industrial automation, machine vision and robotics. Based on this we believe the industrial 3D sensing markets could offer another outstanding growth opportunity in the years after 2020 and could surpass the size of the automotive 3D market.Again, we see ams very strongly positioned to take advantage of these exciting long-term growth drivers which are just beginning to emerge. Our close relationships with global OEMs and system suppliers in the automotive industrial space are key advantage here, allowing early access to upcoming strong growth in these market segment.Moving to operations, we successfully completed an unprecedented expansion of manufacturing capacity in Singapore last year. Two new large-scale production locations for consumer optical sensing were commissions, equipped, staffed and brought up to high volume production which including hiring around 8,000 employees in Singapore over the course of last year.In Austria on the other hand, our in-house front-end manufacturing capacity was again fully utilized throughout 2017. We have also decided to accelerate new internal production capacity for VCSEL lasers products and are now implementing this capacity investment in Singapore with mass production planned in 2019.At the same time we expect to continue capacity investments for optical sensing in Singapore to prepare for additional expected volume needs in the second half of 2018 and beyond. Let me now hand over to Michael for a detailed look at our financial performance.

[Michael Wachsler-Markowitsch]

Thank you, Alex, and good morning, ladies and gentlemen. I'm very excited to present our detailed fourth quarter and fiscal year 2017 IFRS and adjusted numbers. I hope you have the presentation in front of you and let me jump right on to page 20 to give you some details.As Alex already mentioned, our Q4 revenues came in at the record level of EUR 470.3 million, a 252% growth over Q4, 2016 with EUR 133.6 million. For the full year '17 our revenue increased by 93% to EUR 1,063.8 million in 2017 compared to EUR 549.9 million in fiscal year 2016.This expected very strong revenue growth was based on mainly our optical sensors and our consumer business. On a constant currency basis revenues doubled in 2017 over 2016. Let me now also make a short announcement on what we are going to do this year and going forward.In order to better align our financial information with the structure of our business we are changing the representation of our primary financial statements and related financial information to U.S. dollars from this current quarter onwards. The presentation will be based on currency conversion of the financial statement data and should give a more adequate picture of our U.S. dollar-driven business avoiding FX distortion effects. Therefore you will also see first quarter and longer-term guidance figures already expressed in U.S. dollar terms.Our revenue distribution on page 21 shows the change in the regional split which is mostly due to customer side changes in billing structure. Revenues increased substantially in all areas in Asia Pacific, Americas and in Europe. Our consumer communication increase is driven mainly by the new optical sensing ramp-ups we've seen in the second half last year and therefore now consumer and communications accounted for almost 70% of total revenues, automotive industrial and medical about 30% of total revenues in 2017.Now let me come to the backlog. The backlog at year end 2017 showed a significant jump to EUR 541.9 million compared to EUR 136.1 million at the end of 2016. The backlog at this yearend includes certain validated forecasted commitments which we have from customers extending out over the course of 2018.Therefore, the backlog level has moved higher and will not be as tightly bound to the upcoming quarter as it was previously. Still a large portion of this backlog number will remain tied to the upcoming quarter going forward. We decided to include this information to give a better view of our converting pipeline over the foreseeable future as this is also tied to our CapEx investments.Let me now come to the development of our gross profit and gross profit margin. Page 23 in your presentation. We've seen a strong increase in absolute terms from EUR 288.1 million in 2016 to EUR 409.8 million in 2017, and a jump of almost 200% from EUR 65.8 million in Q4 2016 to EUR 190.5 million in Q4, 2017.Gross margin stood at 43% in 2017 compared to 55% in 2016 and 43.5% in Q4 2017 compared to 51.9% in Q4 2016. The gross margin development mainly reflects the change in our manufacturing structure with our new sites in Singapore and the ramp up we have seen during 2017.The gross margin including acquisition-related and share-based compensation cost in 2017 was 38.5% and in Q4 40.5%. Further down in our P&L, our R&D expenses also increased significantly to support our programs in the near future and longer term. We saw an increase of 54% from EUR 138.6 million in 2016 to EUR 214 million in 2017. The R&D as a percentage of revenue decreased from 25.2% in 2016 to 20.1% in 2017. Q4 obviously with the significant ramp up showed a different pattern, also strong increase in absolute terms from 36.8 million in Q4 '16 to 59 million in Q4 '17 as the percentage of revenues came down significantly to 12.5% of revenues, well below our long-term target of 15% of revenues we want to spend for R&D.Our SG&A expenses also showed an increase in absolute terms from EUR 96.4 million in 2017 to EUR 139.3 million in 2017. In relative terms this is a decrease from 17.5% as a percentage of revenues to 13.1% in 2017. In Q4 our SG&A expenses were EUR 40.5 million or 8.6% of revenues also already below our long-term target of below 10% of revenues in this very strong fourth quarter and fully in line with our previous expectations.With that our results from operations or EBIT came in at EUR 168.7 million in 2017, a 74% increase compared to EUR 97.1 million in 2016. As a percentage, it came slightly down from 17.7% in 2016 to 15.9% in 2017. The fourth quarter EBIT development already reflects the strong revenue growth and the substantial profitability of our business model, obviously despite certain ramp-up effects. Fourth quarter '17 showed a 27.3% operating margin or EUR 128.5 million compared to EUR 16.4 million in Q4 '16 and 12.3% of revenues, well in line of our guidance.The net financial results swing is mainly driven by exchange rate effects of euro and U.S. dollar, higher debt and revaluation effects. The Q4 financial results swing reflects mainly from the convertible bond issuance, higher debt and also revaluation effects in the balance sheet, was minus EUR 2.2 million in 2017 compared to positive EUR 4 million in 2016. Fourth quarter, EUR 6.8 million in Q4 2016 compared to a negative EUR 11.1 million in Q4 2017.Now let me come to our tax expenses. The negative tax expense in 2017 is driven by the further unwinding of historic tax structure and historic tax losses. In 2016 we even seen a negative tax of EUR 5.7 million or minus 5.1 -- 5.9% of the result and in 2017 it was minus EUR 15 million or minus 20.4%.Fourth quarter showed minus EUR 13 million or minus 14.5% compared to a tax expense of EUR 0.2 million or 1.4% in Q4 2016. In the coming years the cash tax rate is expected to increase gradually in the high single digits.Now let me come to the net income and the earnings per share development. Our net income increased by 24% to EUR 127.5 million in 2017 compared to EUR 102.9 million in 2016. This number is excluding valuation effects of the option element of the issued convertible bond we had to record in our P&L and in our balance sheet.With that, basic earnings per share were CHF 1.74 or EUR 1.56 in 2017 compared to CHF 1.67 or EUR 1.55 in 2016. Diluted earnings per share were CHF 1.63 or EUR 1.46 respectively compared to CHF 1.62, EUR 1.48 respectively in 2016.As announced with the third quarter results, we report adjusted net result and earnings per share as of the fourth quarter which exclude the accounting treatment effect from the valuation of the option element of the issued convertible bond. This is because you are required under IFRS rules to record changes in the value of the option element of the foreign currency convertible bond that result from changes in the share price as noncash items in the group financial results.Now let me give you some more information from balance sheet and cash flow to complete the picture. Our working capital increased substantially, you find it on Page 31, from EUR 121.8 million end of December '16 to EUR 230.3 million end of December 2017. This working capital effect is mainly due to the strong business growth we've seen in the fourth quarter. Inventories increased substantially from EUR 92.9 million end of '16 to EUR 253 million in 2017 and trade receivables increased substantially from EUR 97.2 million in '16 to EUR 284.8 million in 2017.The increase in inventories is mainly in the work in progress in our new facilities. Let me remind you that the finished goods number haven't changed over time and still is around 20% of total inventories.Our net debt also increased substantially in 2017 to support the CapEx we needed for expanding our business further. With that our equity ratio declined from 46.9% in 2017 to 25.4% in 2017.Cash and short-term investments though increased substantially from EUR 215.8 million end of December 2016 to EUR 392.4 million end of December 2017. The increase in cash and cash equivalents reflects the convertible bond issuance end of Q3 last year.Now let me give you another number from the cash flow statement. Our cash flow in 2017 came in slightly negative with EUR 3.6 million compared to positive EUR 82.3 million in 2016. But as I guided to and mentioned before, we saw a strong increase in our operating cash flow in Q4 2017 and a turnaround which leads to a EUR 35.8 million operating cash flow in the fourth quarter or 7.6% of revenues.The cash generation obviously was impacted by the lower profitability, especially in the first half due to the ramp-up effect and also part by the working capital expansion towards the end of the year. Cash flow situation is expected to significantly improve going forward.Now let me come to our CapEx number. As guided, we've seen a very strong CapEx number to support the growth and the significant ramp-up of the second half last year and also further ramp up in 2018. We spent EUR 582 million in 2017 or 54.7% of revenues. In the fourth quarter CapEx was EUR 205.5 million compared to EUR 22.5 million in Q4 2016. Let me also take a look at that point at the CapEx going forward. To support our increased growth opportunities we currently anticipate total capital expenditure for 2018 of around $600 million. In this context I'm very happy to add that we expect to receive funding from a third party for around 25% of this planned 2018 CapEx.Now let me come to our dividend proposal. Our dividend proposal for 2017 is EUR 0.33 per share based on the policy for increased dividend if business develops positively which happened compared to previous year. Our AGM will happen at June 6, 2018, and with that we expect the ex-date to be June 12, 2018, and the payment date June 15, 2018.And with that I am very happy to hand back to Alex for highlights and the outlook statement. Thank you very much.

[Alexander Everke]

Thank you, Michael. Let me now come to the outlook for our business. Based on higher revenue pipeline visibility we have announced the increase of our revenue growth expectations for 2016 to 2019 to 60% compound annual growth rate combined with an adjusted EBIT margin target of 30% from 2019 onwards to drive EPS growth. This very substantial increase translates into 2019 expected revenues of more than USD 2.7 billion at the current U.S. dollar-Euro exchange rate of $1.24. As mentioned by Michael, we are moving the presentation of financial information to U.S. dollar as of this first quarter.The increase in our growth expectation is particularly driven by a range of revenue pipeline opportunities in smartphone and consumer applications that are clearly coming into view resulting from structural growth in sensing applications, this includes programs in 3D, optical, spectral and audio sensing, the power component design win I mentioned as well as attractive growth contributions from our automotive, industrial and medical business. For the first quarter 2018 we expect revenues to reflect cost of volume impact in the consumer market and anticipated seasonality resulting in first quarter revenues of $440 million to $490 million at the current U.S. dollar-Euro exchange rate of $1.24 based on available information.Our first quarter revenue expectations still equates to outstanding year-on-year growth of more than 150% compared to the first quarter 2017. We also expect first quarter adjusted operating margin to reach a level of 17% to 20% mostly due to revenue-related margin and operational leverage effects and excluding acquisition-related and share-based compensation costs. This is a very substantial increase of 14 to 17 percent points from last year's first quarter operating margin of only 3%.At the same time we anticipate a very strong second half 2018. Based on current available forecast I expect the second half to show substantial sequential revenue growth rate similar to 2017.We see high volume ramps in our consumer business driving the strong expected second half developments. As Michael already mentioned, we also anticipate total capital expenditures for 2018 of around USD 600 million to support our growth opportunities. Based on current information, in this context we expect to receive funding from third party of around 25% of these planned investments. Moreover, given our increasing business presence and strong growth potential in Asia Pacific region and in order to better address a large and additional investor base we are evaluating a potential secondary listing at the Hong Kong Stock Exchange within the coming 12 months.

[Moritz M. Gmeiner, Senior Director of Investor Relations]

Thank you very much. Ladies and gentlemen, we will open the floor for questions.

[Operator]

[Operator Instructions] The first question comes from Achal Sultania, Credit Suisse.

[Achal Sultania, Director]

Two questions from my side. First, on the revenue guidance for Q1. Like is it -- like, I know you are basically supplying optical sensors to one of the key Korean smartphone brands also, and it seems like they are going to have their major flagship launch earlier this year than what we've seen in previous years. So is it safe to assume that your Q1 guidance includes some of the benefit from the earlier ramp of that particular smartphone flagship product at the Korean vendor? And then secondly, on the Chinese – sorry, on the Asian smartphone win that you talk about for 3D sensing. Can you just give us some sense of, like, whether that solution is going to be similar to what you already have in the market for 3D? Or is it going to be a bit different in terms of what you are going to eventually supply to the Asian smartphone OEM for 3D sensing?

[Alexander Everke]

Yes. Thank you for the question. So related to Q1, obviously, the revenue towards Korean customers is included in this. But I would say the impact is not that meaningful, but we see still positive Q1 which is significantly above the Q1 of last year driven from all the business we have. And so certainly consumer is a strong part but we see strong momentum in all business. Related to the design win in Asia, we cannot reveal too much on the content of this. But as I mentioned in previous calls, we see, and this is also a fact here, that solutions for different customers are different first for all the different customers, but we -- what we see here in this design win that we have added components for [ all ] sides which are new compared to design which we have already. So we basically see that the traction we have with our very differentiated portfolio is really playing nicely and we see strong traction in Asia. And this is the first big one, but as I mentioned in the call, we are working with several customers in China and Korea to continue to fill our revenue pipeline and design win pipeline.

[Operator]

The next question comes from Andrew Gardiner from Barclays.

[Andrew Michael Gardiner, Director]

Just another on sort of the revenue outlook but just looking a little bit further forward to what you are saying about the strong second half of 2018. Just the statement there that you are seeing the similar sequential revenue growth in the second half of the year. Just looking as to what was reported in the third and fourth quarter last year. It was sort of 45% Q-on-Q and 80% Q-on-Q in third and fourth quarters respectively. Is that what you are effectively pointing us towards for our model or was it more of a sort of a directional statement? And then also on the CapEx funding, you've highlighted that it is sort of related to 2018, is it fair to assume that it's for the smartphone space and can you give an idea as to sort of which part of your portfolio the investment, the funding is being targeted at?

[Michael Wachsler-Markowitsch]

It's Michael. Happy to take your question. The growth we are expecting for the second half, as we said is similar, is related to the first half. Like we have seen last year first half, preparation for strong ramp up in the second half and we see a similar trend this year. In the first half we are going to prepare for a significant ramp in the second half and we expect a similar growth of second half over first half. To your CapEx, this is again mainly related to our consumer business and in that respect mainly to our optical solutions. And the support we mentioned, the funding, obviously, is from one of our partners.

[Operator]

The next question is from Michael Foeth from Bank Vontobel.

[Michael Foeth, Head of Industrials Team]

One question -- or several questions. The first one regarding those 3D wins. Are any of those related to your partnership with Sunny Optical? And that also goes into the direction of the my second question, is the CapEx funding, which is somehow new in your CapEx structure. That third party, you said it's a partner. Is it a customer? Or is it a, yes, a partner in that sense? And then the third question would be regarding your software acquisition of KeyLemon. How do we fit this in with your previous statement of setting up an external software company for the development of and the support of your customers? How should we understand this move?

[Alexander Everke]

Yes. Thank you for the question. I will take the first and third question, and Michael will take the second one, that this 3D design wins we have and the projects we are working on, true to a certain extent our relationship and cooperation with Sunny, that's why we have done it. It's extremely helpful. But for obvious reasons, the components we are redesigning and coming from us, but it's a very good cooperation to drive the 3D sensing market in the Android platform, which is a strong competitive advantage we have. Regarding the software, the seven sensing we initiated, the foundation of this company is focusing more on the 3D mapping, on the algorithm, the [ depth ] mapping. The software company, KeyLemon, we just acquired is doing the application software for the high security face recognition. And the combination of both is very -- actually unseen in the industry, so we have all the software components now available and we see already today very good fraction because we talk to these guys [indiscernible] and we are very happy that basically they approached us and saying you are the right partner for an acquisition because we see your roadmap as the most competitive one and they are very happy now to bring their software expertise into the market together with ams, so we are very proud of this development.

[Michael Wachsler-Markowitsch]

Yes, and -- this is Michael. I'll take your question to the CapEx funding. Partner, you could read as a customer rather than a financial partner. That's what we're alluding to.

[Operator]

The next question is from Robert Sanders from Deutsche Bank.

[Robert Duncan Cobban Sanders, Director]

I just had a quick clarification on this outlook statement because if you look into the second quarter you've traditionally grown sequentially but that was with a completely different business mix. So I'm just wondering what you're thinking indicatively into second quarter because that will be -- that first half will be the base for my second half estimate based on last year if you see what I mean, so if you can give just a rough indication of where you think second quarter is going to come out. And then I have a follow-up.

[Michael Wachsler-Markowitsch]

It's Michael. Happy to take your question. Regarding the quarterly development, I think we stay in course regarding our guidance guiding the current quarter and giving certain color if we can see more significant developments in the year exactly like we did it in '10 to '17 and around the same time, so no changes here. We will guide Q2 with the Q1 results in April, and we gave you a color if you will of the development over the year.

[Robert Duncan Cobban Sanders, Director]

And then just a follow-up would just be around your long-term increase in your growth rate. Does that reflect any change in what you think the addressable content is in dollars per device in terms of -- because I think in the past you've said this year would be $4 to $5, you're targeting $10 to $12 by 2019, has there been any change in what you think you can address per smartphone device.

[Michael Wachsler-Markowitsch]

Yes, thanks for the question. I mean, I'm very happy to tell you that the content is clearly increasing and that's what we've mentioned multiple times. We are less dependent on phone shipments as a number, we increase content significantly. And on top of that we are getting more design wins in other customers. So this is a clearly very, very strong growth story, so very, very happy to announce that. And of course beside the consumer parts, what I mentioned previously we see even stronger support for the growth story in the automotive and industrial space. And what I can tell you talking to customers in the last few months and this really accelerated even in January now talking to automotive and industrial customers, the innovation and their aggressiveness in bringing 3D sensing into their application is really [indiscernible] and that's why we could win such a big automotive design in such a short period of time.

[Operator]

The next question is from Sandeep Deshpande from JPMorgan.

[Sandeep Sudhir Deshpande, Research Analyst]

My question is regarding the LIDAR application [indiscernible] the one in automotive, what is it that you're supplying, is it your VCSEL or is it your complete optical subsystem that you're supplying on the LIDAR? And then I have a follow on your wins in 2019. I mean, are these wins associated with current products or are they associated with new products?

[Alexander Everke]

Yes, thanks for the question. For LIDAR in this case, it's the VCSEL and VCSEL driver, and this is important because the VCSEL driver is clearly tuned to the performance of VCSEL, so that's why it's a strong [ advancement ] of the power competency still in the company. And this part of the LIDAR system is one of the highest value in the whole system, so that's why we are very happy to invest into a big service, the [indiscernible], the acquisition of Princeton, it really comes into play. And the second question, it's based on same technology we have, but certainly new product, new generation in the one hand, but also in the other hand we utilize products we have and selling into broad application, so it's both.

[Operator]

The next question is from David Mulholland from UBS.

[David Terence Mulholland, Director and Equity Research Analyst]

Just a few, if I may. Firstly on the power component design win going into charging application, if I remember right over the last 18 months you've kind of deemphasized power management as a kind of area of investment, can you just clarify whether, how you see that area within the business? Now it seems like you're messaging this is little bit opportunistic but just some clarity as to whether that's a fifth pillar of the company or how we should see it. And then secondly just on the cash commentary in the CapEx. Firstly, how should we be thinking about potential cash generation in 2018 and what clarification on the CapEx, is this funding essentially a prepayment for future business from a customer or what structure does it take? And then I've got one final clarification after, if that's all right.

[Alexander Everke]

Yes, thanks. I'll take the first question and second for Michael. The power, this was an interesting story, as we mentioned we deemphasized power clearly focusing on the 4 pillars. But for obvious reasons we have power experts in the company, we didn't lay off anyone because we use them for other business. At the same time when a large customer ask for help to develop a very large project, of course we support this. And that's why we mentioned it's opportunistic projects. If large project is coming up of course we support our customers, but we will not go broaden the market with power, that is not our strategy, but obviously for big projects we make exceptions and take the revenue.

[Michael Wachsler-Markowitsch]

And on the second question, cash in CapEx, obviously I cannot comment on details of the funding at this point, but it's clearly obviously related to the business. We expect a very positive cash development this year over the course of the year and the announcement for the convertible is related to M&A we plan to use the cash for.

[David Terence Mulholland, Director and Equity Research Analyst]

Just to be clear on that, Michael, because I'm assuming your customer is not going to give you cash for nothing.

[Michael Wachsler-Markowitsch]

Right.

[David Terence Mulholland, Director and Equity Research Analyst]

So it's fair to position that as a prepayment for future business as you're seeing in other structures in this area.

[Michael Wachsler-Markowitsch]

As I said, we cannot comment on any details of the funding, we mentioned the customer and I think this is it for this point of time.

[David Terence Mulholland, Director and Equity Research Analyst]

Okay. And then just one quick clarification, obviously the earnout from the Heptagon deal, can you just remind us how much, how that will impact in terms of cash in the first half of the year and what the timing of that will be and also what we should be thinking of in terms of the diluted share count through 2019 as that is implemented?

[Michael Wachsler-Markowitsch]

It would be after Q1 once we have the approval of our last year's numbers from the Supervisory Board, as it is usual it was written in SPA. And we're going to see what the number is going to be, but it's expected to be roughly EUR 200 million.

[David Terence Mulholland, Director and Equity Research Analyst]

And the share count?

[Michael Wachsler-Markowitsch]

Share count is about 3.5% of total shares.

[Operator]

The next question is from Lee Simpson from Stifel.

[Lee John Simpson, Analyst]

Maybe 3 quick questions if I could, just looking at the channel build rates for 3D sensors. I mean, clearly very strong as we exited Q4, just wondered if you could give us a sense for how that momentum continued through January and now that we've Chinese New Year upon us how you expect the adjusted February levels to look like. On from that, the LIDAR wins it looks, so there's 2 of them maybe I've got this wrong but wonder if you could maybe parse it out for me, is the second one clearly with -- directly with an OEM in the U.S. but is the first one directly with the systems integrator or is that with an OEM as well? And maybe just on KeyLemon, is there any earn outs associated with that deal?

[Alexander Everke]

Yes, thanks for the question. So Q1 we cannot give more details how Q1 is structured, we gave you guidance for Q1, but we feel very confident that this is a strong growth even in Q1 compared to last year. On the LIDAR, it's system integrated, so that's one, and we have a second one, you heard it right, with a U.S.-based startup company which is strategically very important because we see a lot of startup companies investing into 3D LIDAR because this is the future and we are engaging not only with the big guys we're also engaging with the emerging startup companies to be sure that future growth from these guys are fueled by ams products.

[Michael Wachsler-Markowitsch]

And to your KeyLemon earnout question, obviously, we are very excited about this transaction because it allows us to enter the whole Android market in Asia with our 3D sensing capabilities, this is now coming at the right time because it adds the software component to our hardware expertise. And related to that it's kind of a small transaction but with a significant impact, positive impact for AMS going forward. So it's a very small earnout portion related to their business but actually what AMS can make out of it is really significant.

[Operator]

The next question is from Jürgen Wagner from MainFirst.

[Jürgen Wagner, Director]

With this additional CapEx announced today what margin progression should we look at in 2018? And second question, actually we hear lot of announcements from competition on 3D chips and solutions for smartphones, how is your position evolving in the smartphone segment? And second question on the VCSEL and VCSEL driver design win you announced, actually who was it you have been competing with on this socket?

[Alexander Everke]

Yes. To the design wins, certainly the acquisition of KeyLemon is a very, very strong strategic move. I mentioned that those guys came to us basically asked to be acquired, this was a win-win and it's very short discussion. They had engagement with our competitors on exactly the same story, but their decision was very clear compared to everything they have seen we have ams the strongest and most long-term and complete roadmap. So it makes a lot of sense to join forces there. And that's why we and KeyLemon is extremely comfortable that we can win significant market share with our 3D sensing solutions. With whom you are competing on these design wins we have not disclosed, our competitors can talk about this. But for us it is important that we win.

[Michael Wachsler-Markowitsch]

And to your margin question, as you can see from our guidance Q1 2018 with 17% to 20% operating margin versus 3% operating margin in Q1 last year you can see that there is expected to be progression in 2018 over 2017.

[Jürgen Wagner, Director]

And maybe a final one on, yes, on FX, now that your structure has changed quite a bit what is your current cost positions still in euro and can you remind us on your hedging policy going forward or at the moment?

[Michael Wachsler-Markowitsch]

As you can imagine, it's not possible for us to hedge on the top-line therefore we decided to make that reporting change in U.S. dollars mainly. So there is no hedging in the P&L other than the balance sheet impact we see in the P&L from our balance sheet hedging, which are we due, for example, with the U.S. dollar-denominated convertible we issued last year and the U.S. dollar assets we have in our balance sheet. We have our, as you recall, our natural hedge in our gross margin since we match quite nicely U.S. dollar revenues with U.S. dollar manufacturing costs.

[Operator]

The next question is from David O'Connor from Exane.

[David O'Connor, Analyst of IT Hardware and Semiconductors]

Maybe 1 or 2 from my side. Firstly maybe on the VCSEL side of things, so you have LIDAR win coming in 2020, known one ramping up and also you have some capacity coming online for VCSEL at the end of this year. How should we think about the revenue ramp up there on the VCSEL side as we go into 2019 and 2020 before the actual ramp-up of the leader? That's my first question. And then a maybe second question just looking back at Q4 with the adjusted operating margin at 27% versus kind of the midterm guidance of 30%, is it fair to assume there that kind of that 3 point delta is down to yield issues or maybe you can just talk briefly about the yields you are seeing coming out of Q4 given you're operating at max capacity?

[Alexander Everke]

So I take the first question. So on the VCSEL side we have multiple growth areas on the VCSEL side, so short-term for obvious reason it's even this year on the 3D sensing part in the Android platforms, probably a little bit smaller this year but we see very, very good growth in 2019 and continues into 2020 from the consumer side. And where I feel is even more strategic is the LIDAR engagement we have 2021 onwards because this is a substantial growth area. We just have one big and a startup company design win. But we are very active in the whole field. And when you add up for the next few years more and more of those LIDAR design wins and also in industrial space this is a very strong growth we're anticipating there. And I think it's also important to understand the 3D LIDAR for automotive is certainly a very strong growth area, but we see that the industrial markets, and we have customers contacting us since end of last year already, we believe even that this market can surpass the automotive markets in the next decade. So we see very, very strong growth.

[Michael Wachsler-Markowitsch]

And let me take your -- the question with regard to the margins. Yields were really in line with expectations, so no issues there. The EBIT margin obviously is driven by the operating leverage we have with the growing business. You've seen the Q4 numbers where our H&A and R&D as a percentage of revenues were already in line or even below our long-term target. So there is still room to improve on [indiscernible] costs then we're going to get there.

[Jürgen Wagner, Director]

And maybe just a follow-up from Alex's response. So you talk about the very good growth in 2019 on the VCSEL side of things, but from my understanding it's not part of the 2019 midterm guidance, is that correct?

[Alexander Everke]

There is. A part of our midterm guidance includes VCSEL certainly. So the midterm guidance includes everything we are aware of based on design wins and discussions we have with customer across our portfolio.

[Operator]

The next question comes from Guenther Hollfelder from Baader-Helvea.

[Guenther Hollfelder, Analyst]

Just one follow-up question on the VCSEL technology. I remember you were talking about 2,000 wafer starts per month in your new facility with the option to go for 4,000. So has this development over the past weeks also including the Android opportunity already triggered a decision to go for the full capacity in [indiscernible]?

[Alexander Everke]

Yes, thanks for the question. There is no decision yet to increase capacity, but certainly the momentum we are seeing could lead to such decision in the near future.

[Operator]

The next question is from Daniel Lion from Erste Group.

[Daniel Lion, CEE Technology Analyst]

Just to follow up on the KeyLemon acquisition. Is there any kind of business scale or size you could provide us in order to help us modeling this into our models? That would be the first one. Then keeping or staying with KeyLemon, I would be interested in the client structure of KeyLemon and to what extent it maybe broadens your client portfolio. Is the face recognition software already sold and provided to clients and or is it still in a stage of development and to what extent is this potential reflected in your 2019 guidance as you've included or expect to have the first product already out by 2018 maybe little bit more guidance and insight on this.

[Alexander Everke]

Yes, thanks for the question. The business with the KeyLemon is not included in the guidance. This is brand new, but the nice part is they have fully functional high performance, high security application software already implemented into mobile phone as demonstrated. So it's a highly functional software. We are starting right now discussion with our customer base to drive, to accelerate the growth and this is the key, this is the reason why we acquired the company, to offer a complete solution specific for customers who doesn't have the experience with this application software. So this will help us. More importantly, besides the Android and mobile platform, we are entering -- 3D LIDAR is only one example but we are also entering other applications utilizing face recognition and those are customers in the automotive space, in the industrial space for home automation where there is no experience whatsoever with this kind of technology and especially not with software. So having this complete solution including this high-performance software opens up not only new segments but certainly, as I mentioned, a lot of new clients. So we see this as a strong accelerator for our business and very significant.

[Daniel Lion, CEE Technology Analyst]

So basically to understand it correctly, they are about to sign a design win or sign a deal with the customer and you are supporting this by extending the application that could be entered into this client.

[Alexander Everke]

Correct, correct, yes. And also the competencies can help customers, even we can have customers to develop their own software if they want to. Most important is we have the business and we will do everything necessary to win design wins [indiscernible] and this is a strategic option we can utilize...

[Daniel Lion, CEE Technology Analyst]

And in terms of business scale of KeyLemon, is this something significant or more significant to really think about incorporating this in the model or is it still too small?

[Alexander Everke]

No, it's -- no, it's the software revenue, if you that away, it's not included in the guidance, let see how it plays. Much more important is with this software we will win business which competitors not having this software will never win, that's the key thing on that. That's why it will help us to accelerate our growth.

[Daniel Lion, CEE Technology Analyst]

Okay. Then one final word on your guidance for 2019. You remained at 30% adjusted EBIT margin despite the leverage that you also mentioned of course that you have in your business model. To what extent would you see this leverage really kicking in maybe in the years thereafter, what would be a, let say, a mid-term adjusted EBIT margin once you come down to your R&D and SG&A percentage of revenues that you target mid-term, because what bothered me a little bit is that you increased revenues by EUR 700 million and -- at least the EBIT margin the same, it's, given the scale you have this sounds conservative but maybe it isn't. Maybe you can just get a little, give a little bit color on this.

[Michael Wachsler-Markowitsch]

Yes, thank you for your question. I think we guided to 30% EBIT margin, that's our target. We are further investing; we are not stopping the growth. And investing also means obviously investing into the future and we're in constant ramp-ups.

[Operator]

The next question is a follow-up question from Michael Foeth from Bank Vontobel.

[Michael Foeth, Head of Industrials Team]

Just regarding the backlog again, I mean this is -- there is really a huge difference between the Q1 guidance and the backlog. Is it, you said it's for business spreading out over the year, can you comment whether that's consumer related or not and whether it has anything to do with inventory built-up on the customer side as well?

[Michael Wachsler-Markowitsch]

No -- it's Michael, it has nothing to do with inventory build-up, this is mainly consumer related, it also is, as I mentioned, related to the CapEx we are going invest. So we have long-term commitments and this is reflected here.

[Moritz M. Gmeiner, Senior Director of Investor Relations]

With this we are concluding our question-and-answer session for today. We thank you very much for joining us this morning and we look forward to discussing our first quarter results with you at the end of April. Thank you very much and goodbye.

[Michael Wachsler-Markowitsch]

Thank you, bye.

[Operator]

Ladies and gentlemen, the conference is now over. Thank you for choosing Chorus Call and thank you for participating in the conference. You may now disconnect your lines. Goodbye.