Netlist, Inc. (PNK:NLST) Q3 2023 Earnings Call Transcript

Netlist, Inc. (PNK:NLST) Q3 2023 Earnings Call Transcript October 31, 2023

Operator: Hello and welcome to the Netlist Third Quarter 2023 Earnings Conference Call and Webcast. All participants will be in listen-only mode. [Operator Instructions] After todays' presentation, there will be an opportunity to ask questions. Please note this event is being recorded. I would like now to turn the conference over to Mike Smargiassi of Investor Relations. Please go ahead.

Mike Smargiassi: Thank you, Alan and good day, everyone. Welcome to Netlist's third quarter 2023 conference call. Leading today's call will be Chuck Hong, Chief Executive Officer of Netlist; and Gail Sasaki, Chief Financial Officer. As a reminder, you can access the earnings release and a replay of today's call 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 today's press release. Netlist assumes no obligation to update forward-looking statements. I will now turn the call over to Chuck.

Chuck Hong: Thanks Mike and hello everyone. Third quarter product revenue improved 67% on a sequential basis showing encouraging momentum. The memory market has begun to recover after a prolonged downturn. Current industry commentary indicates customer inventory is normalizing and the demand environment continues to improve. We have already seen increases in prices for DRAM and SSD products in the fourth quarter and leading edge DRAM products may face supply shortages in 2024. We expect these positive trends to continue to boost our top line in the coming quarters. AI computing is creating a need for a new breed of memory, different from the standard computing memory that's been used in PCs and servers for the past many decades.

Memory for GPU, which drives AI processing, must be high density, high performance and low power at the same time. Those features are what allows AI servers to create generative AI and process big data modeling. The new DDR5 DRAM products serves one part of the AI memory need and the other key product is High Bandwidth Memory or HBM. From a product revenue standpoint, Netlist's strategic supply agreement with SK Hynix puts us in a good position to capitalize on the new demand created by AI. Even more important is the leading edge memory technology, which Netlist created over the past decade that are now being incorporated into memory products for AI. We hold dozens of seminal patents that read on AI memory and plan to leverage this unique position in order to maximize the value of our IP portfolio in the decade ahead.

On the legal front, I would like to start with the decision from the U.S. Court of Appeals from the 9th Circuit that issued two weeks ago. This appeal stems from the Federal Court for the Central District of California's October 2021 order granting summary judgment in favor of Netlist and against Samsung for material breach of various obligations under the 2015 Joint Development and License Agreement. Ultimately the District Court in that contract breach case held in summary judgment that Samsung materially breached the agreement and Netlist properly terminated the agreement and entered a judgment in Netlist's favor in February 2021. Samsung appealed the District Court's findings on the breach of contract action to the 9th Circuit, which two weeks ago issued its split ruling on specific wording in the contract asking the District Court to consider evidence supporting Samsung's obligations to supply Netlist with NAND and DRAM components.

Netlist's interpretation is that the plain language of the contract requires alone requires Samsung to supply Netlist generally on DRAM and net NAND products at Netlist's request. Samsung's view and the appeal was that the term should be very narrowly read as a limited supply obligation for the party's joint development. Netlist's view was clearly shared by the 9th Circuit Judge Desai, who wrote a very strong dissent pointing to Samsung's flawed and made for litigation theories in their appeal of this case. However, the two other judges that made-up the majority on the ruling thought it prudent to ask the District Court to reconsider the decision, specifically to revisit the meaning of the supply provision in the agreement in light of extrinsic evidence that were not considered in the first instance.

We look forward to the opportunity to present evidence on this issue and finally bring to light numerous harmful actions committed by Samsung, much of which were only viewed by the judge and not shown to the jury in the District Court trial. We believe that Judge Scarsi, our judge in the Central District of California, will resume the proceedings quickly. Turning to Netlist's April 2023 win against Samsung, in the Eastern District of Texas, the case is in post judgment briefing following the entry of a final judgment confirming Netlist was entitled to a total award of $303 million. Samsung filed motions for a judgment as a matter of law and a new trial on various issues they lost at the April trial. Netlist filed a motion for Chief Judge Gilstrap to recognize and set a defined ongoing per unit royalty that Samsung would have to pay for their infringement going forward.

The final submission date for briefing on all the post judgment motions is December 1st. The judge will then take all motions into consideration and issue an order. Following the entry of an order from the judge, we expect Samsung to file a notice of appeal challenging the final judgment. If a notice of appeal is filed, the appeal process would take an estimated 12 to 18 months before the Federal Circuit Court of Appeals. I would note that Samsung continues to accrue significant liability for royalties and interests by selling their infringing DDR5 DIMMs and HBM components, products that will make up the bulk of its memory revenues through this decade. Separately but related to our recent Samsung District of Texas final judgment, the PTAB entered its final written decision for two of Netlist's LRDM patents.

A three member panel found that the challenge claims of both the 339 and 506 patents were unpatentable. The 339 patent was one of the five patents tried in the Samsung Eastern District of Texas case comprising about 11% of the total award or the smallest segment of the overall $303 million award. The final written decisions on invalidity of the remaining four patients which made-up the bulk of the liability in this case will be rendered by the PTAB in December and April. Let me correct that. The final written decision as to the invalidity of the remaining four patents which made-up the bulk of the liability in this case, will be rendered by the PTAB in December and April. On to other actions, the case against Micron in the Eastern District of Texas, also before Chief Judge Gilstrap, is scheduled for a jury trial on January 22, 2024.

Fact Discovery has closed and the final pretrial conference is currently set for May 20. The case addresses Micron's woeful infringement of the same patents and same type of products that were part of the successful April EDTX trial against Samsung. On Wednesday last week, we received a highly favorable claim construction order with the court siding with Netlist on virtually all key claim terms at stake. This order provides strong foundation for proving infringement and validity at trial. Given the PTAB's recent decisions on 339 LRDM patent, we will be simplifying this case and pursuing claims related to Micron's infringing DDR5 DIMMs and HBM components, which Micron has stated are strategic growth products related to AI and basis of their resurgence in the memory market.

A high-tech production line of robotic arms assembling a semiconductor chip.

In Netlist's consolidated Micron Samsung case and the Eastern District of Texas, the claimed construction hearing, which we thought went very well, took place on September 26 in front of Chief Judge Gilstrap. We look forward to the court's entry of a favorable claim construction order. This fact discovery in the case is scheduled to close November 13. The pretrial conference is currently set for March 2024 with a jury trial start date on calendar for April 15, 2024. These cases are for infringement of large volumes and significant dollars of DDR4LR DIMM and LRDIMM products. The Western District of Texas case against Micron, which has been stayed, we expect that the court will resume this case sometime in early 2024. This case involves three Netlist patents that cover Micron's DDR4LR DIMMs and one patent which covers NVDIMM.

Over the course of this year the PTAB has found that the patent reading on NVDIMM to be invalid and the three patents reading on LRDIMM to be not invalid, the last of these decisions coming yesterday. Having three patents validated by the PTAB puts us in a very strong position as we expect the case to resume in the coming months. In our case against Google and Samsung in Delaware, the court in Delaware held the claim construction hearing on October 20. We look forward to the court's entry of a favorable claim construction order in that action. Finally, the Dusseldorf Court in Germany held oral arguments in Netlist's case against Samsung on September 5. At the hearing, the Dusseldorf judge confirmed that if infringement were found, that the court stayed, if the infringement were found, the court would stay the action pending the German federal courts assessment of the validity of EP735 and EP660.

EP stands for European patent and these cover LR DIMMs. The court did enter a stay on September 25, thus implicitly confirming infringement by Samsung. The case is now stayed until the German Federal Patent Court, essentially the German version of the PTAB holds an oral hearing on the validity of Netlist's asserted European patents. The hearing date is scheduled for March 2024 for EP735 and July 2024 for EP660. Netlist only needs a favorable ruling on one of these patents to move forward with a request for injunctive relief which is a default remedy in Germany once there's a ruling of infringement on patents found valid. In summary, Netlist remains committed to defending its IP rights and fairly licensing its technology and patents. As we have noted in the past, Netlist has a long history of innovation with more than 150 patents and 30 plus pending patents which emanate from its product development efforts.

Netlist innovation are at the forefront of the industry's push into memory for AI. The rapid growth of AI applications and the requirement for HBM and DDR5 products once again spotlights the key role of Netlist's technology in the memory industry. Now I will turn the call over to Gail for the financial review.

Gail Sasaki: Thanks, Chuck. Third quarter product revenue results reflect improvement in the demand environment, which analysts predict to accelerate through 2024. As discussed by Chuck, the strong growth projected in AI servers for the enterprise data centers, which currently include large amounts of both HBM and DDR5 memory, mark the beginning of a new demand cycle. We believe we are well positioned to capitalize on these positive market trends due to our strategic SK Hynix supply agreement as well as our robust patent portfolio. As a reminder, we do not formally guide, but given the market dynamics as noted earlier, we currently anticipate demand for products and ASPs to continue to improve as we move through the rest of the year and that Netlist fourth quarter performance will show moderate sequential quarter improvement.

We ended Q3 2023 with cash and cash equivalents and restricted cash of approximately $51 million compared to $31 million at the end of Q2 2023. We raised approximately $29 million in net cash from the registered direct offering during the third quarter. In addition, we proactively raised approximately $2 million under the $75 million equity line of credit during Q3 with close to $36 million remaining on that line. In addition, was a $10 million working capital line of credit with Silicon Valley Bank, we continue to maintain significant financial flexibility and liquidity going forward. As always, we manage the operational cash cycle very carefully, which improved by 85 days in Q3 2023 compared to last year's Q3, which is why we expect cash burn to remain relatively stable even as we go through this period of increased legal activity.

Operator, we are now ready for questions.

See also 21 Best Places to Retire in Africa and 18 Best Vacations for Retired Couples.

To continue reading the Q&A session, please click here.