Tobii AB

STO:TOBII

Earnings Call Analysis

Earnings Call Transcript 2023-Q3

[Carolina Stromlid, executive]

Good morning, everyone, and welcome to the presentation of Tobii's Q3 Results 2023. My name is Carolina Stromlid, and I'm the new Head of Investor Relations, replacing Henrik Mawby, who has moved on to another role internally.

With me today, I have our CEO, Anand Srivatsa, and our CFO, Magdalena Rodell Andersson. And as always, they will take you through the highlights and the financial results of the quarter. After the presentation, we will open up for questions. [Operator Instructions]

I will now hand over to you, Anand. Please go ahead. The floor is yours.

[Anand Srivatsa, executive]

Yes. Thank you, Carolina, and thank you, everyone, for joining us. I'm going to kick off this presentation with a quick discussion of our overall business development in Q3.

Q3 was a weak financial quarter, where the majority of our weakness came from the Products & Solutions segment. The Products & Solutions segment had an especially weak summer vacation period with substantial weakness both in July and August and recovery for most of our markets in September.

On the Integrations side of our business, we had a decent performance this quarter, especially if you consider the substantial reduction in revenue that we received from Sony. Normalizing for the effect of Sony, we would have actually seen strong growth in this segment in Q3 as well.

Beyond the financial numbers, we had four design wins in the quarter, two in our PC segment, one for our software integrated into a PC/laptop, one for our IS5 eye tracking platform integrated into an augmented and assistive communication device; and two design wins where our technology was used by VR system makers to deliver medical and diagnostic solutions.

Now at the back half of this presentation, I'm going to share a few more details with you about how we are making attention computing more accessible and share some of the external trends we see that give us confidence about the underlying business and ecosystem trends that will drive our future potential.

Now back to the overall numbers. Again, as we mentioned before, Q3 was weak from a revenue perspective. And if we take the holistic numbers here, we saw an 18% overall decline in the total group revenue. On the Products & Solutions side, which drove the majority of our weakness, we saw 25% organic revenue decline, and on the Integrations side, 2% decline.

Now of course, the weak Q3 does create risk for us going into Q4. But I am very confident that we are starting in a good manner with Q4 with a solid start to the quarter. That is a very encouraging start for us as we continue to drive towards delivering EBIT profitability for Q4.

Now let me hand it over to Magdalena to discuss our financials in more detail.

[Magdalena Andersson, executive]

Thanks, Anand. So yes, as Anand just pointed out, this is a weak quarter for us.

If we start to look at the Products & Solutions, this segment stands out with a negative growth of 25% in the quarter. July and August were very weak and then September started to improve. We are experiencing a new behavior in Asia after the pandemic in the sense that this year, they really went out on vacation, leaving us with no one to direct our sales efforts towards. We also saw a slower traction in Europe and in the U.S. compared to last year.

This negative development in the quarter comes on the back of last quarter's positive growth of 31%. At that time, in Q2, we concluded that the growth was especially strong in Asia and that it was difficult to evaluate whether this was a sustainable improvement and or not. And so now after Q3, we can conclude it was not.

And year-to-date, the organic growth was minus 3%. The gross margin was on the same level as last year, 68%, where the negative scale effect was offset by a positive effect from product mix. Year-to-date, the gross margin was 68% compared to 69% last year.

In the Integrations segment, we saw a revenue decline of 2% this quarter. And year-to-date, the decline was 15%. Where we last year had material revenue from Sony PS VR2, both in the quarter as well as year-to-date, this year, we had close to none. If looking at the segment without this specific customer, we have a robust growth covering both various projects as well as ongoing licensing business.

The gross margin was 88% in the quarter compared to 90% last year. It is the mix of selling more software, service and licenses and less of hardware in this segment that keeps the margin on this high level. Year-to-date, the gross margin was 91% versus 89% last year.

When summing up the two segments and looking at the totality, we had an organic growth of minus 18% in the quarter, primarily then impacted by the decline within the Products & Solutions segment. Year-to-date, we had an organic growth of minus 7%. And on a year-to-date basis, the larger part of the deviation came from the Integrations segment, where we -- even if we are growing in many customer accounts, we're not able to fully compensate the shortfall from the Sony PS VR2 revenue last year. Gross margin was 75% in the quarter versus 74% last year. And year-to-date, the gross margin was 75% versus 76% last year.

Operating expenses increased versus last year in the quarter, primarily within sales and marketing. We had some one-off costs, and we had also less positive FX effect. Going forward, we are taking measures to manage our cost base to be balanced in relation to our sales development.

The EBIT in the quarter was minus SEK 69 million compared to minus SEK 36 million last quarter -- last year. And year-to-date, the EBIT was minus SEK 170 million compared to minus SEK 131 million last year. And for sure, I'm not happy to present this kind of EBIT level. And now I'm looking forward to the next quarter, where we are still strongly committed to reach our EBIT profitability goal in Q4 2023.

And then going over to our balance sheet and cash flow. The cash flow after continuous investments was minus SEK 71 million compared to minus SEK 64 million in the same quarter last year. It was just on the same level even if the result last year was better. But then at that time, we also repaid SEK 37 million on COVID tax relief last year that affected the cash flow negatively. Cash and cash equivalents were SEK 271 million at the end of the quarter. And the net cash, excluding IFRS, was [ SEK 258 million ]. And in addition, we also had an unutilized revolver credit facility of SEK 50 million.

And with that, back to you, Anand.

[Anand Srivatsa, executive]

Thank you, Magdalena. So now let's shift gears a little bit and talk about the external trends that we see that validate our belief that attention computing is seeing much more interest and hopefully, over time, will become a ubiquitous technology.

Now 2023 has already been a significant year for the integration of eye tracking into VR headsets and generally in the use of eye tracking in consumer electronics. It starts, of course, with the launch of the PS VR2 earlier this year, which has brought eye tracking technology into the hands of millions of users. The PS VR2 has also, of course, enabled hundreds of games to take advantage of the capabilities that eye tracking brings in this headset, whether it's delivering much higher graphical performance through foveated rendering or enabling natural and intuitive user interfaces.

Then when we sort of shift to the middle of the year, we saw with the launch of the Apple Vision Pro, the focus that Apple delivered on creating a new user interface that was intuitive and magical in use, highlighting the potential of eye tracking as a great way to go and help users interact with devices, starting, of course, with devices that are VR headsets.

Just recently, we actually saw a comment from Meta's CTO, Andrew Bosworth, who spoke about his personal appreciation for what eye tracking brings into the VR experience and his ambition that eye tracking will be in all Meta headsets over time.

So what does this mean for Tobii? Today, the penetration for eye tracking in the VR market is somewhere north of 20%, pretty much driven by Sony's success in the marketplace. But of course, what we see with industry leaders driving adoption and embracing the technology of eye tracking is that our expectation that eye tracking will have 100% market penetration is a valid assumption. And this is something that the market will drive to over time.

The need for eye tracking and the rationale for including it, of course, is based on features like foveated rendering that improve graphical fidelity or the natural way to interact in this virtual world using your eyes as a very powerful mode of input. What I'm excited about is that, of course, the potential of eye tracking goes beyond just these two use cases. And in fact, this was showcased by Meta at SIGGRAPH in August of this year.

Let us showcase their prototype research headset called Butterscotch that uses Tobii eye tracking technology and enables two new VR use cases. The first of them is varifocal displays. What varifocal displays allows is for users to actually be in a VR world without straining their eyes, allowing your eyes to naturally focus at different depths, which is something that today you cannot do with traditional VR headsets, where the image is projected in one fixed plane.

This means that users can stay in that virtual environment for longer without straining their eyes and also to actually perceive higher levels of details as their eyes focus at different depths inside that virtual environment. The headset also showcased a second use case called dynamic distortion correction. And what this does is enable the virtual world to be more lifelike by fixing some of the distortion effects that are introduced by lenses inside the headset.

What does this mean for Tobii? This means that eye tracking is very much a source of innovation for future use cases in VR. And the need for high-quality eye tracking is going to be sustained as more and more use cases are delivered by this foundational technology. I think Tobii is in an incredible position to take advantage of the opportunity and continue to deliver leading eye tracking capabilities into this market space.

Now again, if we consider the opportunity for attention computing beyond just VR headsets, it is the mission of Tobii to make attention computing ubiquitous. And we see, of course, the potential for attention computing in consumer electronic devices, whether that is VR headsets or gaming and PCs or even in cars for driver monitoring systems. But my expectation is that attention computing will deliver value in many, many industry verticals. And one example of this is in the user experience testing space.

Now user experience testing is already a large market and expected to grow at a 20% CAGR through the rest of the decade. This is pretty obvious, given how brands and companies engage their customers these days. It's almost typically managed through a mobile interface through smartphone apps. And in many cases, of course, commerce is conducted very much from an e-commerce perspective, first and foremost.

Now it is recognized that eye tracking is a powerful tool in understanding consumer behavior in these contexts. And you can see the quotes from Avanza and GfK on the left that speaks to the deep understanding that eye tracking can enable when studying user behavior. This, of course, is because our eyes are very much directly connected to our brains, and we can understand user behavior and preference in a much deeper way when we study how people perceive content, whether it's on a smartphone application or on a website.

So why isn't eye tracking already prevalent in these use cases today? The answer is that today's solutions are complex and costly to go and deploy. It requires buying custom hardware, setting up of a lab, bringing participants physically into that location to conduct research and, in many cases, employing very skilled people to be able to translate the eye tracking results into insights that are actionable to improve your product or offering. So the secret, of course, to going and harnessing the power of attention computing is to deliver easy-to-use and less complicated and costly tools to drive adoption across the board.

I'm really proud that in Q3, we have taken substantial steps to expand our consumer insight portfolio specifically with two different offerings. The first is Tobii UX Explore, which allows companies to go and test smartphone applications by using the camera that is built into the smartphone itself. That means that instead of having to bring participants to a lab or buy custom hardware, companies can conduct research over the cloud in remote locations with hardware that the participant of a study already has with them. It's natural behavior on their own device and something that can be delivered in a much more cost-effective and less time-consuming manner, easy to use, less complicated, more timely.

The second step that we've taken here is to actually expand our offerings now to engage e-commerce and website applications with similar types of capability with the acquisition we made of Eyevido. These two products are cloud-based SaaS offerings. And we think that there are significant steps towards making attention computing much easier to use for companies who want to assess their user experience, either on their mobile applications or on their e-commerce platforms.

The solutions also speak to our intention to start to move towards more cloud-based subscription type of revenue models versus our current business models that are more one-time monetization. I believe that the steps we're taking here is going to drive long-term business value in a market that is already quite strong, harnessing the capabilities that Tobii has in our company and enabling significant revenue growth in the near future.

Let's talk about the quarter once again and summarize where we are. Q3, as we have mentioned before, was a weak financial quarter. But I am encouraged by the solid start that we've had for Q4. And we continue to be committed to deliver on our EBIT profitability target for this quarter. We have already taken steps through the year to manage cost to increase the likelihood of delivering this result. And we will continue to do so both in Q4 and going forward into next year as well.

Beyond the financials, we see a clear trend in the intention and desire of companies to integrate attention computing into their offerings, whether it starts with VR headsets driven this year, but also the potential of using this technology to build native user interfaces that are intuitive and natural to use in other verticals as well. I believe that Tobii is an incredible position to take advantage of the volume ramp and broad adoption of this technology with our significant technology capabilities and the credibility that we have in the marketplace to work with the leading companies in the field.

With that, I'd like to wrap up the earnings call and open it up for questions. Carolina?

[Carolina Stromlid, executive]

Thank you, Anand and Magdalena, for a good presentation. [Operator Instructions] So I will start with the first question. In the last earnings call in Q2, I believe you said you were close to get more design wins in the driver monitoring segment. Any progress there?

[Anand Srivatsa, executive]

Yes. Again, I think our goal for this year on the driver monitoring side is that we expected to deliver multiple design wins. And we received our first design win shortly after Q1, which we announced at that point in time. I am still committed to the goal. And we are actually in the process of being in -- we are actually in multiple RFQs right now.

So I do believe that, that goal of getting to multiple design wins this year is still very much valid. What we have actually seen in the course of Q2 in the summer months as well as a little bit of Q3 is that decisions unfortunately have been delayed. But we are well positioned in these RFQs. And so I very much think that these are positive news that we can deliver in Q4.

[Carolina Stromlid, executive]

The second question is the lack of integrated eye tracking and gaming computer is here to stay. We barely see any new design wins. There were actually more integrations with the Eye Tracker 4. Please help us understand how the gaming community views eye tracking.

[Anand Srivatsa, executive]

Yes. I think again when we look at how we engage our gaming customer base, we've actually changed our strategy a little bit. In the past, we had looked at integrating eye tracking into PC/laptops. That was our primary vehicle to go reach gamers. And actually, over the last couple of years, we've shifted that focus instead to look at targeting our hardware-based Eye Tracker directly to gamers through our Eye Tracker 5 peripheral.

I'm happy to say that, that business actually has shown very strong product market fit with this community. The reviews that we get, the feedback from the community that uses these solutions in the games that we target, simulator games like Star Citizen or Microsoft Flight Simulator, the reaction from the community is very, very strong. And of course, this is for a product that is relatively expensive, about USD 300 to go purchase this device. We're very confident that, that product market fit has very much been achieved.

What we try to balance that with is a software solution that is easier to integrate on the laptop side. And that's the product that we have seen multiple design wins with Lenovo, for example, and that's called Tobii Horizon. I very much think that we are again in the early stages of showcasing the potential we have with gaming. But we will continue on this trend of targeting our hardware to end users directly, who play the specific games we enable, and trying to be more broad with the software approach to target broader channels.

[Carolina Stromlid, executive]

The next question is are you still confident that Tobii will be cash flow positive before an external capital injection is necessary?

[Magdalena Andersson, executive]

Yes. We landed this quarter with SEK 271 million in cash. And we believe that, that is enough for our organic plan. But as we also reiterated before, should we go out and do something else, an M&A of a kind, then we would need to look at that. But from an organic perspective, yes.

[Carolina Stromlid, executive]

Now we'll move on to some questions from our analysts. And I will start with questions from Mikael Laséen from Carnegie. You commented in the Q3 report that you are seeing a solid start of the fourth quarter. Can you please elaborate on this comment and what you are seeing per region and segment? Is revenue so far in Q4 higher than the corresponding period last year?

[Anand Srivatsa, executive]

Yes. I think that we're not going to get into specific numerical details. But again, if we think about how we characterized Q3, we saw weakness in Q3, primarily in the summer vacation period. So you should read that July was the weakest month of the quarter with pronounced weakness actually out of Asia. And we saw a broader-based recovery in September.

When we look at October and if you think about our Asian region, for example, we actually have seen quite strong recovery both in September and leading back into October. At this point in time, I would say the solid start in Q4 is broad-based across Products & Solutions and Integrations and definitely relative to where we ended Q3. And so from that perspective, we're quite encouraged that we're not seeing a repeat of Q3 starting in Q4.

[Carolina Stromlid, executive]

And Mikael has some more questions. You said that you are taking measures to manage the cost base and improve sales efficiency. Can you be more specific and say something, what measures you are taking and how we should think about selling, admin and R&D costs in Q4 and into 2024?

[Magdalena Andersson, executive]

Of course, we are always looking into our cost base and trying to adapt to the sales development, and that we have done before. But we will continue to be even more focused on that, of course, going forward, especially when looking at the development in Q3. The development in Q3, of course, affects the decisions on where we will put our investments going forward, especially within engineering but also within sales and marketing. So we will take short-term measures in Q4 that you -- but then we would also look into how we will develop during -- going into the next year.

[Carolina Stromlid, executive]

And a third question for Mikael is how is revenue and order potential from VR/AR applications developing? And did you have any revenue from Sony VR2 in Q3?

[Anand Srivatsa, executive]

Do you want to take the Sony question first and I can take the second question?

[Magdalena Andersson, executive]

Yes. So we don't then also specifically comment on really details on each customer. But on a broad base, we are saying we have very low revenue from Sony during this quarter.

[Anand Srivatsa, executive]

Yes. And again, you should put that in the context, Mikael, of last year, where we shared that Sony was about 10% of the overall revenue for the company. And this year, it's substantially lower. And that's our expectation also in Q4 that there will be a substantially lower level than it's been last year. Now again, when we talk about the rest of the AR/VR space, I think there's two broad buckets that we look at. We do get license revenue from headsets that are on the enterprise side. This is, of course, a slow base because that's not a large volume runner.

But we also, of course, are starting to see more project revenue in this space really driven by interest from companies to integrate eye tracking. The positive news about that kind of revenue is it's a precursor typically to design wins. And we're starting to see the phase now where more companies are evaluating, including eye tracking into their consumer headsets, which is the potential for large volume revenue in the future when those headsets come into market.

[Carolina Stromlid, executive]

We also have some questions from our analysts that are -- that they would like to ask verbally. So I will ask Daniel Thorsson to start.

[Anand Srivatsa, executive]

Daniel, we don't hear you if you're asking a question.

[Carolina Stromlid, executive]

He can't unmute unfortunately. Is that not possible for anyone then? Daniel, can you try if you can unmute yourself? Otherwise, we will have to take the questions written, I guess, if there is some technical issue.

Okay, so Daniel Thorsson has this question, Daniel Thorsson from ABG. When do you expect the next wave beyond Apple and Meta of eye tracking consumer headsets reach the market in your view?

[Anand Srivatsa, executive]

Yes. I think again, so the Apple headset is expected to launch in 2024. Right now, Meta has not made any commitments on consumer VR headsets. And there isn't clarity on -- from a rumors perspective, et cetera. They have just launched their Quest 3. But again, we are seeing, of course, that there are many companies that are starting to evaluate eye tracking in headsets as of now. We can't speak to specific details. But I would say that we'd have to go and look at these companies for when they would go launch their devices.

[Daniel Thorsson, analyst]

Can you hear me now?

[Carolina Stromlid, executive]

Yes, actually, yes.

[Daniel Thorsson, analyst]

Perfect. All of a sudden, the microphone went up there, so it was possible to unmute. So I guess, other people will also be able to do it. Yes, I have a couple of questions, if I may, starting off a little bit on -- I know that you don't give guidance for 2024. But given that we do have quite negative trend in cash flow obviously, and you talked about that you have gross cash, but you also have -- if you look at the cash liquidity, it's 1.05.

And that to me is a little bit worrying if you compare the current liabilities with the current assets at least. So comments on the 2024, if you could say anything, if you aim to be EBITDA positive, including capitalized development costs for '24 would be very helpful.

[Magdalena Andersson, executive]

We have this goal to break through to profitability in Q4 2023. And we have our revenue goal for 2025. We are planning to come back to you with a Capital Markets Day in the first quarter next year and set new external targets. So that's our plan. So we will not comment on the expected outcome of 2023.

[Daniel Thorsson, analyst]

Because only to have 1 quarter is actually worthless. But I don't need to talk about that right now. But if you look at Q4 then again, would it be on cash EBIT profitable, i.e., excluding the capitalized development cost? Or will it be in the reported EBIT, so to say, that you aim for from?

[Magdalena Andersson, executive]

It's the EBIT that we are aiming for.

[Daniel Thorsson, analyst]

Yes, I know that. But is it the cash EBIT or the reported EBIT, i.e., is it...

[Magdalena Andersson, executive]

The reported.

[Daniel Thorsson, analyst]

Yes, okay, perfect. So in essence, if you also look at the total R&D 9 months, it's up 10% year-over-year to SEK 361 million from SEK 326 million. How much of this is currency? How much is seller inflation? And how much is the number of employees, more or less, ballpark?

[Magdalena Andersson, executive]

Yes, I can say most of it is number of employees and sort of investments that we are doing in various areas, automotive XR, for instance. There are some effects, but that's not the majority. The majority is the number of employees.

[Daniel Thorsson, analyst]

Okay. And the trend here, will you try to safeguard the R&D? And can you say also how much of this comes from the DMS side and if it's where you aim to find the savings more or less?

[Magdalena Andersson, executive]

No, but we are evaluating. We are in our business planning process and going through that together here. So we will look into how to prioritize for the next year.

[Daniel Thorsson, analyst]

Okay. And finally, if I may, on the Meta Butterscotch, is that project aiming for consumer or the professional market of headsets?

[Anand Srivatsa, executive]

Yes. Again, it's a prototype research headset. So I think what you should expect is Meta is showcasing what they are capable of delivering from an end user experience perspective. They, of course, don't make any comments on how and when that will show up.

But at the end of the day, I think what you see very consistently from Meta is their belief that this virtual environment needs to mimic real life as much as possible in order for people to use these devices on extended periods of time, whether it's for productivity as you see them sort of talk through or whether it's for social applications. So capabilities like varifocal displays or making the virtual environment more real with dynamic distortion correction, those kinds of capabilities are, of course, part of that road map to get this environment to be something that people would stay in longer term.

[Daniel Thorsson, analyst]

Yes. But would you say that this is mainly for those who works with this kind of -- i.e., with the variable focal display being an expensive technology, that makes this mostly for the professional market at least initially before heading into volumes?

[Anand Srivatsa, executive]

Yes, I would say that they're showcasing future use cases. So I would say that it will take time for these future use cases to show up into headsets.

[Carolina Stromlid, executive]

Thank you, Daniel. I think Erik Larsson from SEB, you had a question.

[Erik Larsson, analyst]

I just have one question, and you talked about it a bit. But with regards to the cost measures, just looking at the total headcount, it hasn't really changed during the year. And it's actually up a bit since Q4 of last year. So just again in terms of cost, what specifically are you addressing? And would you say there are cost measures you haven't taken yet that you can address?

[Magdalena Andersson, executive]

Yes, we -- absolutely, there is cost measures that we haven't taken yet. And we are going into the next quarter and working on that and also going into the next year.

[Carolina Stromlid, executive]

So do any of you, analysts, have any more further questions?

[Daniel Thorsson, analyst]

Yes, I can do another one here, Daniel at ABG, please. So you said that the Sony revenues were around 10% of last year's sales. This year, it will be substantially lower. Can you say anything about 2024 Sony-related revenues? Could it be 10% again of group revenues? Or is that highly unlikely?

[Anand Srivatsa, executive]

Again, I think that we have been pretty consistent that we do not get forward-looking forecasts. Even for Q4, for example, we do not have expectations on what Sony is going to drive. Again, the structure of the deal that we had with Sony was that they did prepurchase licenses. And we know that they are manufacturing devices against those licenses.

I think the estimates on sales is out. They have shared results from May. But they haven't shared any numbers beyond that, either with us or publicly. And so again, I would say that in general, of course, the expectation is that these devices should get built, should get sold out. And so I would expect that 2024 will certainly be better than 2023. But I think making a guess on how many units that they're going to sell, I think that's actually premature.

[Daniel Thorsson, analyst]

Yes, fair enough. And then lastly, regarding your 2025 target of SEK 1.5 billion in sales. I remember on the CMD, you said that, that is not based off on an assumption that VR needs to be a huge success, which we probably can assume now that Sony PS VR hasn't been. So do you still confirm that target? And do we need to see any large M&A to get there? Or how should we get there elsewhere?

[Anand Srivatsa, executive]

Yes. What I would say is again we talked about it in the CMD, and we've talked about it later as well that there are many paths to it. One of them, of course, is that VR can play a big role in here. But there are other verticals that we think can also grow as well as potentially inorganic steps that we can take. We are still committed to that goal.

But of course, it would have been much better for 2023 to have been a strong growth year. That would have put us on much better footing. So I think that we still have options of how to get there, but I think the risk on that number has increased. But we are still committed to that number right now.

[Carolina Stromlid, executive]

Thank you, Daniel. It seems like this was the last question today. Please do not hesitate to reach out to me if you have further questions. And with that, we would like to thank you all for taking the time listening in today and wish will come back on the 6th of February, when we present the Q4 results. Thank you.

[Anand Srivatsa, executive]

Thank you very much.

[Magdalena Andersson, executive]

Thank you.