Edited Transcript of WIN.TO earnings conference call or presentation 4-May-17 2:00pm GMT

Q1 2017 Wi-LAN Inc Earnings Call

OTTAWA May 7, 2017 (Thomson StreetEvents) -- Edited Transcript of Wi-LAN Inc earnings conference call or presentation Thursday, May 4, 2017 at 2:00:00pm GMT

TEXT version of Transcript

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Corporate Participants

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* Michael Shaun McEwan

Wi-Lan Inc. - Interim CEO

* Stephen Robert Thompson

Wi-Lan Inc. - Interim CFO

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Conference Call Participants

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* Daniel Kim

Paradigm Capital Inc., Research Division - MD of Research and Senior Analyst of Industrial Technology

* Douglas Taylor

Canaccord Genuity Limited, Research Division - Director

* Todd Adair Coupland

CIBC World Markets Inc., Research Division - Research Analyst

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Presentation

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Operator [1]

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Good morning, and welcome to WiLAN's 2017 First Quarter Financial Results Conference Call. (Operator Instructions) Earlier this morning, WiLAN issued a news release announcing its financial results for the first quarter ended March 31, 2017. This news release will be available on WiLAN's website and will be filed on SEDAR and EDGAR.

On this morning's call, we have Shaun McEwan, WiLAN's Interim Chief Executive Officer; and Steve Thompson, WiLAN's Interim Chief Financial Officer. Following prepared remarks by Mr. McEwan and Mr. Thompson, analysts will have the opportunity to ask questions. Certain matters discussed in today's conference call or answers that may be given to questions could constitute forward-looking statements. Actual results could differ materially from those anticipated. Risk factors that could affect results are detailed in the company's annual information form and other public filings that are made available on SEDAR and EDGAR. During this conference call, WiLAN will refer to EBITDA. EBITDA does not have any standardized meaning prescribed by U.S. GAAP. EBITDA is defined in the company's quarterly and annual filings that are made available on SEDAR and EDGAR. Please note that all financial information provided is in U.S. dollars unless otherwise specified. I would now like to turn the meeting over to Mr. McEwan. Please go ahead, sir.

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Michael Shaun McEwan, Wi-Lan Inc. - Interim CEO [2]

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Thank you. Good morning, everyone, and thank you for joining us today. I'll start with a quick overview of the results from Q1 and then we'll shift gears to discuss the series of recent announcements we've made regarding our future growth strategy, including today's announcement on our latest acquisition.

Starting with Q1, revenue was $7.6 million, EBITDA was a negative $1.9 million and cash generated from operations was $8.4 million. Cash and cash equivalents on the balance sheet rose $5.9 million during the quarter to $113.6 million. During the quarter, we signed 4 license agreements, including one with Nanya Technology Corporation. We also had some success on our litigation with Ericsson, when the Court of Appeals overturned the lower court's negative rulings related to 3 patents at issue. We are pleased with these results as it paves the way for a trial to get underway and that trial is now scheduled for June 19 of this year.

We were also fairly active in filing new suits, having launched additional cases against Ericsson, Verizon, AT&T, Sprint, T-Mobile, Acer, LG, Lenovo, LeEco, Asus, Sony, Kyocera and Nvidia to name just a few. In the end, however, the Q1 results reflected variability or lumpiness inherent in this business model which we have discussed several times in past calls. While we did sign 4 licenses in the quarter, the unpredictability of the timing of additional license signings led to softer results in Q1.

This same unpredictability can lead to positive revenue surprises as well. For example, 3 of the past 6 quarters had positive revenue surprises due to the timing of license signings.

We continue to have a higher volume of activity going on in the patent licenses business, with 60 partnered portfolios under management and more than 60 ongoing litigations, including several in new geographic locations such as China and Germany. While we have a large pipeline of license opportunities, we will continue to be patient in our negotiations and will only settle when we believe we are being offered fair value for the license that's being granted. As you all know, subsequent to quarter end, we made several significant announcements with the goal of enhancing our growth potential by transitioning our public parent company into a diversified investment holding company.

As part of this strategy, we will rename the public entity, Quarterhill Inc., somewhere around June 1 this year. The WiLAN name will stay with the patent license business which will become one of the investments of Quarterhill. As we said on April 17's conference call, the Board and management believes the best path to grow the business and shareholder value is to acquire promising growth companies and support them while they build their businesses. This certainly does not mean we are exiting the patent licensing business, quite the contrary. We expect WiLAN to remain a world leader in patent licensing, and we'll continue to vigorously pursue those who require license to the companies and its partners' intellectual property. We will continue to acquire portfolios and invest prudently when appropriate returns can be met.

The diversification strategy is nearly adding additional lines of business to the overall public company in order to open up new revenue and cash flow streams, and to mitigate the lumpiness that can be experienced in the patent licensing business.

The first major step in the execution of our new strategy took place on April 17, when we announced we had entered into a definitive agreement to acquire International Road Dynamics Inc., or IRD. IRD shareholders vote on this transaction on May 24 and we expect the transaction to close shortly thereafter.

Today, we made the second acquisition under our new strategy. We announced the acquisition of VIZIYA Corporation, a provider of enterprise asset management software, systems that help companies optimize their asset performance. Both companies meet the criteria we are looking for in an acquisition. They're both operating in the industrial Internet of Things market. They both have long standing management teams that have delivered good financial results, and they both have strong growth potential.

Upon closing of these 2 acquisitions, IRD and VIZIYA will become subsidiaries of Quarterhill right alongside WiLAN. The foremost reason we are focusing on the industrial IoT is that the growth potential is substantial. PricewaterhouseCoopers, for example, estimates that more than $1 trillion per year will be spent on IoT over the next several years and much of that is earmarked for the industrial IoT market.

Our focus will encompass multiple verticals which we are calling mobility, city, and factory. We are looking for companies with products and services that extract data from the physical world and help make sense of it, turning that data into action-oriented information that helps public and private sector enterprises increase revenue and/or decrease costs. We look for those companies that have excellent management teams and significant opportunities to grow their business, in particular, through recurring revenue streams. The key, of course, is identifying, acquiring and nurturing those businesses that are positioned to capitalize on this opportunity. The knowledge and experience that we have gained as a leader in the patent licensing industry will enhance our ability to identify promising businesses in the industrial IoT segment and wherever possible, assist those same companies in monetizing new innovations.

With VIZIYA, we are acquiring a company with approximately CAD 16 billion in revenue and a 25-plus percent EBITDA margin in a very exciting part of the industrial IoT market. VIZIYA is based in Hamilton, Ontario and has the offices in the U.S., Europe, The Middle East, Australia and even South Africa. Like IRD, they have a global footprint, with more than 55,000 users at 850 sites, and they're growing their topline using a recurring revenue software-as-a-service model. VIZIYA is a successful company and some interesting reference points include: they were listed on as a Deloitte Technology Fast 50 winner 4 years in a row; they've demonstrated more than 30% annual growth since 2014; and they've recognized by Gartner Group as a cool vendor. VIZIYA operates in a market where manufacturers face continual challenges to maximize operational capacity at the lowest possible cost.

Optimizing asset performance and uptime can mean the difference between profitability and loss. VIZIYA's asset management software helps its customers, including the likes of Chevron, US Steel, Alcoa, Barrick Gold and Land O' Lakes optimize their asset performance at uptime, allowing them to achieve their production targets, control costs and manage safety and compliance. Increasingly though, these asset management systems are part of the broader industrial IoT ecosystem which represents a significant growth opportunity for VIZIYA. These systems enable organizations to build intelligent, connected equipment that monitors itself and constantly captures data to measure damage, wear and tear and other operational indicators. With significantly more data obtained on a real-time basis, operational systems can now move beyond preventative maintenance towards predictive maintenance through the use of analytics. The VIZIYA team was formed in 2007 and developed their flagship product called the WorkAlign Scheduler, in a collaborative partnership with Barrick Gold. VIZIYA capitalizes on the synergy that exists between their team's architecture knowledge, advanced software functionality and asset management workflow expertise.

This unique combination has resulted in out-of-the-box maintenance solutions that are integrated with all of the major enterprise resource planning or ERP systems, including Oracle, SAP and IBM Maximo. In our own due diligence conducted by independent third parties, the VIZIYA team received an average rating of 4.97 out of 5 in customer satisfaction. It doesn't get much better than that.

We look forward to the continued growth and success of VIZIYA as a Quarterhill company. Lastly, at our annual meeting on April 20, we welcomed Ian McKinnon to our board. Ian has had a long career as a business leader and adviser. Among other roles, he has been on the Board of Directors of Constellation Software since early 2006. Constellation, of course, is a TSX listed company that has grown a very successful business through acquisitions, so his experience and expertise will be a benefit to our M&A efforts. Ian replaces Bob Bramson, who has retired from our board after 9 years of service. On behalf of the management and the Board of Directors, we wish to thank Bob for his guidance, insight and counsel.

We sincerely wish Bob all the best and we will continue to seek his guidance and wisdom where appropriate.

At this point, I'll pass the line to Steve to look at our Q1 financials in some additional detail.

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Stephen Robert Thompson, Wi-Lan Inc. - Interim CFO [3]

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Thanks, Shaun. Good morning, everyone. Shaun already touched on revenue which was $7.6 million in Q1 compared to $30.2 million in last year. Fewer licenses signed in the quarter lead to a year-over-year decrease. Accordingly, cost of revenue expenses were also lower at $12.7 million compared to $18 million last year.

Of note, certain intangible assets reached the end of their estimated useful life which resulted in a significant decline in amortization expense. As well, contingent partner and legal fees decreased due to lower revenue from fixed payment license agreements signed in the quarter. Higher litigation expense resulted from litigation activities with arrangements that were not based on share risk fees being more prevalent in the first quarter of 2017.

Nevertheless, the expense still came in below our guidance range of $2.5 million to $3.5 billion. Marketing, general and administration expenses were down slightly at $2.5 million compared to $2.6 million last year. In total, cash operating expenses in Q1 were $9.5 million compared to our forecast range of $8.5 million to $11 million. We believe that a certain portion of these expenses properly belong at the Quarterhill level but have not completed that analysis yet. Nevertheless, the total cash cost of the patent licensing business will be less than the level on a go-forward basis. Given our shift in strategy and the addition of 2 acquisitions to the company, operating expense guidance previously provided for exclusively the patent licensing business will no longer be provided.

EBITDA in Q1 was negative $1.9 million and reflects lower revenue in the period. Prudently managing expenses in this operation is a priority as we view the patent licensing business as a potential engine to fuel other future acquisition opportunities for Quarterhill. In Q1, we generated $8.4 million in cash from operations and paid $1 million in dividends. On that note, with today's release, the Board has declared a dividend of CAD 0.0125 per share, payable on July 5 to holders as of June 15.

As stated on our April 17 Conference Call, we have no plans to stop our dividends. We ended Q1 with cash, cash equivalents and short-term investments on our balance sheet of $113.6 million, up $5.9 million from December 31, 2016.

The estimated impact to cash and cash equivalents of the IRD and VIZIYA transactions announced post Q1, would be approximately $67 million after accounting for all costs and expenses of the transactions. This concludes my review of the financial results and I'll now turn the call back to the operator for questions.

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Questions and Answers

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Operator [1]

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(Operator Instructions) Your first question comes from the line of Todd Coupland with CIBC.

Looks like his line has disconnected.

(Operator Instructions) Your first question comes from the line of Ian Aitken with Pembroke.

Looks like his line has disconnected from the queue. Your next question comes from the line of Daniel Kim with Paradigm.

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Daniel Kim, Paradigm Capital Inc., Research Division - MD of Research and Senior Analyst of Industrial Technology [2]

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I wonder if I could focus on where things will move going forward. Given your clear shift in priorities, moving from harvesting past cash generations from your patent portfolio to now acquisitions and now, consuming the bulk of the cash and what remains, I believe, is what you said last time, a cash balance of roughly where you'd like to see it for maintaining current operations. If we look at what you've done with your cash in the past with your dividends and your buyback which are both meaningful uses of cash, is there a risk here going forward? If the core IP business does not have a meaningful change in revenues, that there's a potential for a dividend cut?

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Michael Shaun McEwan, Wi-Lan Inc. - Interim CEO [3]

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Probably 2 or 3 embedded questions in there I think, Dan. But first off, I'll address straight up the dividend cut issue. No, there's no risk. We've got 2 other businesses added to the business already and both of them generate EBITDA in the $5 million to $10 million range added together, and our dividend is annually about $4 million to $5 million. So even absent the current patent licensing business which I'll address in the second, the reality is the newly acquired businesses are clearly capable of generating more than sufficient cash flow to keep the dividend safe. So that should not be a question in anybody's mind.

The second question that's sort of embedded is related to the sustainability of patent licensing business. And you sort of let off with now that you're moving away from harvesting, that's not the case at all. Frankly, all the opportunities that we saw in the patent licensing business 2 weeks ago, they're all still there. A little bit lumpier in terms of the license, we didn't get as many signed in the quarter as we wanted, but we still see this as a very significant business for Quarterhill and it will continue to generate the kinds of cash flows that it has in the past. So on both fronts, I don't see this as a shift at all, it's just merely an augmentation strategy.

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Daniel Kim, Paradigm Capital Inc., Research Division - MD of Research and Senior Analyst of Industrial Technology [4]

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If we look at what you've also done in the past, I mean obviously, the strategy has shifted on the IP side from acquiring patents right to partnering but it still had consumed a meaningful amount based on various one-off transactions. So do you still see -- like opportunity, do you still see the need or the opportunity to acquire patents that would require cash up front to continue to bolster your portfolio?

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Michael Shaun McEwan, Wi-Lan Inc. - Interim CEO [5]

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It's really our expectation to really focus our business more in the partnerships. You look at some of the stuff that we've been able to achieve with the likes of GlobalFoundries where we obtained various significant portfolios with lots of value on pure partnership play, we've done that a number of times.

So it's not like there was ours out there and they're not available, and we would fully expect to continue to lead with that kind of activity internally. If there's an acquisition that truly meets the kind of return on capital hurdle rates that we have for Quarterhill, then -- because remember, Quarterhill's objective now is to, much like most of the other capital allocation type companies, right, we'll be able to allocate capital to the business units that are returning an appropriate rate of return. And so if WiLAN has the patent licensing business, has an opportunity to acquire something that generates the appropriate rates of return, then we'll get the capital to do that.

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Daniel Kim, Paradigm Capital Inc., Research Division - MD of Research and Senior Analyst of Industrial Technology [6]

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Great. Is Ericsson the only upcoming litigation that is going to trial?

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Michael Shaun McEwan, Wi-Lan Inc. - Interim CEO [7]

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Ericsson is in June of this year. There's 2 or 3 other trials. There's a trial currently scheduled with Kingston coming up in October, although it's likely that, that one may get delayed that. There are 2 or 3 others as well coming in the June to October range.

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Daniel Kim, Paradigm Capital Inc., Research Division - MD of Research and Senior Analyst of Industrial Technology [8]

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Last question, if I may. With regards to future prospects for acquisitions, I believe there's a view that if something attractive came along, that WiLAN will be prepared to take on debt to finance the transaction. In terms of the pipe of opportunity, what do you see?

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Michael Shaun McEwan, Wi-Lan Inc. - Interim CEO [9]

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First, I will address the part about the debt. I think yes, absolutely, we've got some capacity to take on debt and continue to build the business. I think that that's pretty clear from looking at our balance sheet which is incredibly strong.

Secondly, I think it was in the April 17 call. Jim said we've had well over 100 companies in our pipeline. We've closed 2, we've got many more in the pipeline. Doesn't mean we're going to close them in the next week or 2 or quarter or 2 even for that matter, but we've got a fairly robust pipeline left to continue to work through, and we'll judiciously practice an acquisition program but we'll take our time to make sure they're appropriately valued and we can absorb them properly.

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Daniel Kim, Paradigm Capital Inc., Research Division - MD of Research and Senior Analyst of Industrial Technology [10]

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One more question if I may. With regard to the new proposed acquisition, appreciate the metrics you provided but it begs the question with regards to where the company -- how it's been performing. Are you expecting growth both in topline and EBITDA for this year?

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Michael Shaun McEwan, Wi-Lan Inc. - Interim CEO [11]

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Slight growth, yes, in both cases.

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Operator [12]

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Your next question comes from the line of Todd Coupland with CIBC.

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Todd Adair Coupland, CIBC World Markets Inc., Research Division - Research Analyst [13]

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So I had a couple of business WiLAN questions and then I want to talk about the new strategy, if I could for a moment. Firstly, on cash flow, could you just bridge us to the strong operating cash flow versus EBITDA? I see there was a big accounts receivable, is that -- or just tell us what happened there, please.

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Stephen Robert Thompson, Wi-Lan Inc. - Interim CFO [14]

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I think you just touched upon -- one of the main items that came in was there was a number of larger sales near the end of last year resulted in significant AR that we carried into this year, and we're able to collect within the quarter.

So that gives somewhat is just the picture as part of cash flow from operations in the first quarter.

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Todd Adair Coupland, CIBC World Markets Inc., Research Division - Research Analyst [15]

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Okay, and is there any color that you can provide in terms of is that a onetime event? Or is there future tails left on IP deals that were signed in 2016 and we'll see that cash flow at elevated levels even if you aren't signing deals in the period?

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Stephen Robert Thompson, Wi-Lan Inc. - Interim CFO [16]

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No, I think that was a function of the timing that it came in like that within the quarter. Usually, it's a little more I guess, even and predictable like the last few quarters.

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Todd Adair Coupland, CIBC World Markets Inc., Research Division - Research Analyst [17]

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Okay. And then when you think about guidance for the company overall, you're withdrawing OpEx but saying it's going to be lower with partner models, so I understand that. Will we be getting color on the acquisitions that you're making and how they're performing so we can see for ourselves that they're meeting targeted hurdle rates?

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Michael Shaun McEwan, Wi-Lan Inc. - Interim CEO [18]

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It's Shaun here, Todd. No, I think the reason we're withdrawing the OpEx guidance today is we've just bought 2 companies in the last 2 weeks, and they're clearly going to add some OpEx. And to try to provide guidance on that on top of WiLAN's will be a very difficult task in a very short order. As we absorb these acquisitions over the next few months and come up to the next quarter, I think you'll see us have broader color. I'm not sure how far that color will go, frankly but you'll have broader color on each new acquisition.

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Todd Adair Coupland, CIBC World Markets Inc., Research Division - Research Analyst [19]

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And Shaun, can you just review how you're thinking about hurdle rates when you are looking at these acquisitions? Just give us a mindset on that.

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Michael Shaun McEwan, Wi-Lan Inc. - Interim CEO [20]

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We're targeting an internal rate of return sort of a lifetime IRR better than 20%.

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Todd Adair Coupland, CIBC World Markets Inc., Research Division - Research Analyst [21]

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And is that what you used in terms -- for these companies to achieve what appear to be fairly substantial earnouts?

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Michael Shaun McEwan, Wi-Lan Inc. - Interim CEO [22]

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Yes, yes.

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Todd Adair Coupland, CIBC World Markets Inc., Research Division - Research Analyst [23]

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Okay, and then just from an attractiveness point of view of these operating businesses, how are -- what's the -- why does it make sense for VIZIYA to line up with international dynamics within WiLAN? Why are they settling with you versus other paths, whether its exits or paths to IPOs, et cetera?

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Michael Shaun McEwan, Wi-Lan Inc. - Interim CEO [24]

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It's probably a good question to ask the VIZIYA guys, but in reality we looked at that as a great opportunity not so much between VIZIYA and IRD, but generically in the IIoT space, right? When they've got 55,000 users, 850 sites, probably 90, I think, percent -- 92% of their revenue streams comes from big asset intensive industries like mining, oil and gas, transportation, heavy equipment kind of stuff, those guys have access to a tremendous amount of maintenance related data that's being generated on a realtime basis. And as these IIoT systems take hold, these guys are at the center of that kind of information explosion, if you will, and they're going to reap in the benefits of being at the center of that from a predictive analytics perspective. It's kind of the holy grail of the IIoT space. And IRD is the same, although granted it's measuring movement of vehicles as opposed to the monitoring of a particular bearing or something of that nature. But they have access to get to that same kind of real-time data that's going to have a whole realm of predictive analytics abilities.

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Todd Adair Coupland, CIBC World Markets Inc., Research Division - Research Analyst [25]

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And then my last question is more around sort of operating versus the IP model. So one of the questions that I've had from the investment community is how will WiLAN have the expertise to oversee these businesses in the event they're not working out, you have to handle the workout et cetera, manage them, et cetera? It's not something that you've focused on in the past, so just get us to how you're thinking about potential issues down the road, operating issues when that's not been the focus of the company over the last 10 years or so?

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Michael Shaun McEwan, Wi-Lan Inc. - Interim CEO [26]

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In the first instance, we're not actually operating or integrating these. We're buying them with the management teams we expect to remain in place and run and operate. And these have been highly successful management teams and we expect them to continue to operate that way. That being said, clearly at Quarterhill level, we've got a couple of resources in Quarterhill. We'd likely need to add a few resources in there to make sure we've got the horsepower if something does go awry. But the intent really is to rely on these management teams to operate their business as they have in the past.

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Operator [27]

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(Operator Instructions) Your next question comes from the line of Doug Taylor with Canaccord Genuity.

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Douglas Taylor, Canaccord Genuity Limited, Research Division - Director [28]

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You've laid out the EBITDA expectations for the company or at least, the historical. How should we think about the conversion of that EBITDA in to cash flow as we think about the velocity at which Quarterhill can continue to consolidate the 100-plus targets that you have in your pipeline?

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Michael Shaun McEwan, Wi-Lan Inc. - Interim CEO [29]

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That's a good question, Doug. I'm thinking, certainly in VIZIYA's case, the level of capital investment or sustaining CapEx is relatively low. The R&D is already covered in the ongoing operation, so I think that the majority of EBITDA we're expecting to turn into cash flow is direct. IRD follows fairly similar, although there's some higher CapEx in that business. The challenge with IRD is the CapEx may get consumed in actually implementing some of their technologies on a service-type level, meaning installing a sensor in a road and actually owning the sensor and owning the road construction exercise, and then licensing that or leasing it out over a period of time in a product-as-a-service kind of revenue model. So there may be slightly higher CapEx in the IRD case in that context. But in reality, we expect both of them to turn into cash flows.

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Douglas Taylor, Canaccord Genuity Limited, Research Division - Director [30]

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Presumably that CapEx for the IRD case, you're getting that IRR that you're looking for, for the company as a whole.

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Michael Shaun McEwan, Wi-Lan Inc. - Interim CEO [31]

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Absolutely.

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Douglas Taylor, Canaccord Genuity Limited, Research Division - Director [32]

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Right. The other components from conversion would be taxes. Can you talk about or just remind us the tax losses that WiLAN has and the applicability of those 2 from the assets that you're buying?

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Stephen Robert Thompson, Wi-Lan Inc. - Interim CFO [33]

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Yes, we have about $120 million worth of a variety of tax assets. Some are losses, some are R&D tax credits and things of that nature. Probably about 50% of that is housed in Canada. And given the 2 acquisitions, we're talking about a predominantly Canadian acquisition. We think we can use it through a variety of tax measures. We can use those losses and other carry forward pools against the profitability of both of these businesses that we've acquired. So we should have a pretty much 0 tax -- cash tax, at least, in the short-to-medium term.

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Operator [34]

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There are no further questions at this time. This concludes today's conference call. You may now disconnect.