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Edited Transcript of NLST earnings conference call or presentation 14-May-19 9:00pm GMT

Q1 2019 Netlist Inc Earnings Call

Irvine May 30, 2019 (Thomson StreetEvents) -- Edited Transcript of Netlist Inc earnings conference call or presentation Tuesday, May 14, 2019 at 9:00:00pm GMT

TEXT version of Transcript

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Corporate Participants

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* Chun K. Hong

Netlist, Inc. - Co-Founder, President, CEO & Executive Chairman

* Gail M. Sasaki

Netlist, Inc. - VP, CFO & Secretary

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Conference Call Participants

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* Richard Cutts Shannon

Craig-Hallum Capital Group LLC, Research Division - Senior Research Analyst

* Sujeeva Desilva

Roth Capital Partners, LLC, Research Division - Senior Research Analyst

* Mike Smargiassi

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Presentation

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Operator [1]

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Good day, everyone, and welcome to the Netlist First Quarter 2019 Earnings Results Conference Call. (Operator Instructions) And please note that today's event is being recorded.

And I would now like to turn the conference over to Mike Smargiassi of Investor Relations. Please go ahead.

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Mike Smargiassi, [2]

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Thank you, William, and good afternoon, everyone. Welcome to Netlist's First Quarter 2019 Conference Call. Leading today's call will be Chuck Hong, Chief Executive Officer of Netlist; and Gail Sasaki, Chief Financial Officer. As a reminder, the earnings release and a replay of today's call can be accessed on the Investors section of the Netlist website at netlist.com.

Before we start the call, I would note that today's presentation of Netlist results and the answers to questions may include forward-looking statements, which are based on current expectations. The actual results could differ materially from those projected in the forward-looking statements because of the number of risks and uncertainties that are expressed in the call, annual and current SEC filings and the cautionary statements contained in the press release today. Netlist assumes no obligation to update forward-looking statements.

I would now like to turn the call over to Chuck.

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Chun K. Hong, Netlist, Inc. - Co-Founder, President, CEO & Executive Chairman [3]

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Thanks, Mike, and good afternoon, everyone.

First quarter financial performance includes a decreased net loss on both the year-over-year and sequential basis compared to last quarter. The results reflect a positive impact of ongoing cost management, which partially compensated for the negative top line impact related to the worldwide server DRAM shipment decline and pricing erosion. It has been widely reported that the weakness and demand for server DRAM is short term, as pricing and demand stabilizes during the second half of 2019.

In regards to our product initiatives, the line of enterprise NVMe SSDs we have introduced to the market continues to receive strong reception from our traditional base of storage and enterprise server customers. We now have more than 70 customers sampling, of which 22 have completed qualifications and 16 more are in process. The remaining are in prequalification evaluation stage.

We're also making headway with some Tier 1 OEMs with one of them qualified and 2 others engaged. Based on recent discussions and feedback from customers, we continue to add additional SKUs to the SSD offering and are planning to introduce next-generation 96-layered NAND -- NAND-based products later this year. The expansion of the product offering will allow us to broaden our solution sets we bring to market and provide us with a full suite of features and capacity ranges. With the progress in the quarter, we remain on path for production orders over the next couple quarters.

The commercialization activities for HybriDIMM remain at the forefront as we engage potential ecosystem and ASIC partners. Standardization efforts of HybriDIMM and JEDEC are also progressing well with balloting on various specifications expected to continue in the coming months.

Turning now to our licensing initiatives. The activity level in the area of intellectual property remain elevated, both in terms of licensing discussions, litigation and key patent prosecution and defense. Netlist's second trial at The United States International Trade Commission against SK hynix started on March 11 this year as scheduled, but was temporarily suspended after a partial day of testimony due to an unexpected court-related matter. Hynix attempted to utilize the suspension, which was totally unrelated to the trial, to their favor by filing a motion to stay the investigation. This motion was denied by the Chief Administrative Law Judge and resumption of the hearing has been scheduled for July 15. The initial determination of the investigation has also been reset for October 21, 2019, which will include a recommendation by the Chief ALJ as to whether an exclusion order should be granted that would bar importation of SK hynix' RDIMM and LRDIMM products into the United States.

As noted on the last call, the 2 patents asserted in the case are the '623 against hynix' RDIMMs and the '907 patent against hynix' LRDIMMs. Both patents contains specific claims that have been refined in view of infringement shortcomings in the first case. Both patents received the favorable plain construction or Markman order at the ITC, and this provides the framework from which the ITC will ultimately decide if the patents are valid and infringed by hynix.

In other activity, we expect the hearing for the appeal of Netlist's first ITC case to occur later this year. And in Germany, we recently filed an appeal of the Munich District Court's non-infringement ruling with a hearing estimated to occur approximately in 12 months.

Finally, at the U.S. Patent Trial and Appeal Board, or the PTAB, Google file notices of appeal to the Federal Circuit in regard to the PTAB's final decision in Netlist's favor for the '912 patent. We expect this to be an 18-month process, but ultimately, expect the Federal Circuit to affirm PTAB's decision, which was again in Netlist's favor. In regards to the '907 ruling at the PTAB, oral arguments are completed -- was completed in March, and we expect to hear from the PTAB over the next couple months. On the '623 patent, we have appealed the PTAB's decision and are awaiting the scheduling of oral arguments.

I will now turn the call over to Gail for the financial review.

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Gail M. Sasaki, Netlist, Inc. - VP, CFO & Secretary [4]

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Thanks, Chuck. Revenues for the first quarter ended March 30, 2019, were $5.1 million compared to revenues of $8.9 million for the 2018 period. As noted earlier, the decrease in top line was directly related to the worldwide server DRAM shipment decline and pricing erosion.

First quarter 2009 (sic) [2019] product gross profit, which is before manufacturing cost, was $631,000 at 12.4% compared to $682,000 for the first quarter 2018 at 7.7%. This year-over-year margin percentage increase is mainly due to our just-in-time inventory acquisition of our resale products during the first quarter. After manufacturing costs, the net gross margins were 5.5% for the current quarter and 4.3% for the last year's quarter. And although we don't guide, given the current pace of bookings during this last 6 months -- 6 weeks, we anticipate a modest increase in second quarter revenue compared to the first quarter and for the product gross margin percentage to be comparable to the 2019 first quarter.

Operating expenses were $4 million during the first quarter, down 17% year-to-year and consecutively.

Legal expenses declined 32% from the year ago period and we expect additional decreases for the remaining quarters of the year.

We ended the first quarter 2019 with cash and cash equivalents and restricted cash of $11.8 million compared to $16.7 million at the end of the fourth quarter. This was a net cash burn of $4.9 million of which $3.1 million was to pay down legal expenses. We continue to proactively manage the overall cash cycle, which includes access to a $5 million working capital line of credit with Silicon Valley Bank, which provides borrowing of up to 85% of eligible accounts receivable to support working capital and revenue growth.

Operator, we are now ready for questions.

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Questions and Answers

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Operator [1]

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(Operator Instructions) And today's first questioner will be Suji Desilva with ROTH Capital.

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Sujeeva Desilva, Roth Capital Partners, LLC, Research Division - Senior Research Analyst [2]

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So a couple of questions maybe on the financials. First, the OpEx, the R&D down significantly year-over-year. Is that level sustainable? And the litigation fees around $1.5 million per quarter, is that also sustainable at this point?

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Gail M. Sasaki, Netlist, Inc. - VP, CFO & Secretary [3]

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The legal fees definitely will -- we expect to see some decreases from Q1 as we go through the rest of the year. And as for R&D, I think we've mentioned in the past that we completed the first phase of our HybriDIMM work. And as we enter this commercialization phase, we may start to rehire specific skill sets. But for right now, we will be waiting and working with a partner and hopefully get that closed first.

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Sujeeva Desilva, Roth Capital Partners, LLC, Research Division - Senior Research Analyst [4]

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Okay. That's helpful. And then on the SSD, it sounds like you have a lot of activity going, Chuck. What's the -- again, what are the potential volumes here as some of these 70 customers sampling might come online? What kind of unit bonds to be thinking about in the next several quarters as it ramps up?

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Chun K. Hong, Netlist, Inc. - Co-Founder, President, CEO & Executive Chairman [5]

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Suji, I think it depends on the customers, which of the qualified customers ramp-up and their volumes of their storage systems, but we think in the second half, we can get to a run rate of a few million dollars of SSD revenues per quarter.

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Sujeeva Desilva, Roth Capital Partners, LLC, Research Division - Senior Research Analyst [6]

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Okay. Great. That's helpful. And then lastly, just to kind of wrap up on the litigation here, the hynix litigation, can you just remind us, Chuck, all the reasons you're more optimistic this time around come July versus the past go-round? I know you took the '623 and '907, you refined them, but just if you could kind of list through all the things that make you more optimistic this time, that would be very helpful.

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Chun K. Hong, Netlist, Inc. - Co-Founder, President, CEO & Executive Chairman [7]

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Yes. Suji, the patents that are being asserted in the second ITC case were children patents that were refined and more targeted to the infringement and validity issues. It resolved some of the infirmities that we had in the first case. So we feel very good about and I think that was validated, the quality of these new children patent or the second-generation patents were validated by the Markman ruling that was given by the ITC judge in this second case where he ruled on the claim constructions mostly to our favor.

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Operator [8]

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And our next questioner today will be Richard Shannon with Craig-Hallum.

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Richard Cutts Shannon, Craig-Hallum Capital Group LLC, Research Division - Senior Research Analyst [9]

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Maybe I'll ask a question on the thoughts on the second quarter. Gail, I think you said sales may be directionally up and gross margins may be similar. Would that assume that perhaps your Netlist branded products, including maybe perhaps the SSDs, are going to grow a little bit? Maybe the Samsung brand of products might be flat to down? Is that a fair assumption based on what you said?

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Gail M. Sasaki, Netlist, Inc. - VP, CFO & Secretary [10]

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I would say that the resale products will probably be flat to up, and we will also see some contribution from the Netlist SSD line.

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Richard Cutts Shannon, Craig-Hallum Capital Group LLC, Research Division - Senior Research Analyst [11]

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Okay. I would assume that for the Netlist SSDs, we're talking about less than $1 million -- maybe well less than $1 million contribution. Is that fair?

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Chun K. Hong, Netlist, Inc. - Co-Founder, President, CEO & Executive Chairman [12]

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That's probably fair. We expect it to ramp nicely in the second half, but that's probably where we're headed for this quarter. And for the Samsung resale, as we noted in the Q1, there was a obviously huge decline in the ASPs worldwide for server memory as well as SSDs. Something in the order of 30% to 40% quarter-to-quarter decline. I think things are stabilizing a bit. Q1, it was a -- is historically softer of the 4 quarters. So I think, in general, demand has picked up nicely in Q2, and the price decline has slowed down. So I think we're seeing good traction thus far through the first half of this quarter.

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Richard Cutts Shannon, Craig-Hallum Capital Group LLC, Research Division - Senior Research Analyst [13]

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Okay. That's helpful, Chuck. Maybe a couple of more questions from me. It sounds like you're getting some good traction, I guess, some good breadth of the SSDs here. Maybe, Chuck, if you could remind us of your advantages and differentiation here? I think they're primarily based on performance, so maybe you could kind of re-declare what those advantages are at this point in time and how big that TAM looks like for products in that category?

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Chun K. Hong, Netlist, Inc. - Co-Founder, President, CEO & Executive Chairman [14]

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Yes, Richard. Again, our SSD products, we've got a full offering within the NVMe category. That's the focus, that's the higher-end enterprise storage category. And we have a speed advantage, a performance advantage, IOPS advantage as measured -- as compared to some of the major incumbent suppliers today. So that's important in many of our customers that tend to be the higher end, looking for high performance. We also are able to move quicker than some of the bigger guys. And one of the major guys in this NVMe space is moving out, is going end of life with a particular form factor within this NVMe category called AIC or half height, half length form factor, that is our primary niche and that we believe to be a fairly large niche, about $1 billion annual market. So we are very focused in our segment of the NVMe market and based on the performance advantage that we have and with some of the competitors departing that market, I think we're in a good position to take advantage of these calls that we've secured over the last 6 months and look forward to ramp up in revenues in the second half.

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Richard Cutts Shannon, Craig-Hallum Capital Group LLC, Research Division - Senior Research Analyst [15]

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Okay, that's a helpful reduction there, Chuck. Let's see here. I do want to ask you about progress or what we can expect in the future here in terms of acquiring and announcing a NAC partner for the HybriDIMM? What should we be looking for there, Chuck, the rest of the year?

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Chun K. Hong, Netlist, Inc. - Co-Founder, President, CEO & Executive Chairman [16]

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We are in discussions with a couple of parties. They're both out in Asia, and we recently -- I recently made a trip out there and we're doing right now some business model and technical due diligence with those candidates, candidate partners, and we're working actively to close one or more of those partnerships.

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Richard Cutts Shannon, Craig-Hallum Capital Group LLC, Research Division - Senior Research Analyst [17]

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Okay. Does the closing -- does that depend on anything regarding the JEDEC standardization or what's kind of the obstacles or steps needed to be taken before you think that will be completed?

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Chun K. Hong, Netlist, Inc. - Co-Founder, President, CEO & Executive Chairman [18]

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Yes. The JEDEC standardization is also being done in parallel. That will set the stage for wider adoption with multiple controllers, suppliers and overall just standardizing everything about the controller as well as the DIMM product and the protocol of this NVDIMM-H. So that is -- we're working on that through JEDEC with -- we have a couple dozen members in the committee and we're working through that with a wider group of players, but that will help us also to secure the ASIC partner because it will set the stage for standardized product.

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Richard Cutts Shannon, Craig-Hallum Capital Group LLC, Research Division - Senior Research Analyst [19]

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Okay, excellent. One last question for Gail. Gail, can you give us a sense of what you're expecting for cash burn in the second quarter, if not an absolute number, maybe relative to what happened in the first quarter?

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Gail M. Sasaki, Netlist, Inc. - VP, CFO & Secretary [20]

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I think our operating cash burn will be in the range of $1 million to $2 million, again, and then it'll be -- and then the rest will be dependent on how much of the -- of legal payments we make. It won't be the $3 million that we did this quarter but something less than that.

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Operator [21]

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And this will conclude the question-and-answer session as well as today's conference call. I just want to thank you all for attending today's presentation. And you may now disconnect your lines.