Earnings Call Transcript - GSIT Q3 2020

Operator, Operator

Ladies and gentlemen, thank you for standing by. Welcome to the GSI Technology's Third Quarter Fiscal 2020 Results Conference Call. Before we begin today's call, the company has requested that I read the following safe harbor statement. The matters discussed in this conference call may include forward-looking statements regarding future events and the future performance of GSI Technology that involves risks and uncertainties that could cause actual results to differ materially from those anticipated. These risks and uncertainties are described in the company's Form 10-K filed with the Securities and Exchange Commission. Additionally, I have also been asked to advise you that this conference call is being recorded today, January 30, 2020, at the request of GSI Technology. Hosting the call today is Lee-Lean Shu, the company's Chairman, President and Chief Executive Officer. With him are Douglas Schirle, Chief Financial Officer; and Didier Lasserre, Vice President of Sales. I would now like to turn the conference over to Mr. Shu. Please go ahead, sir.

Lee-Lean Shu, CEO

Good afternoon, everyone, and thank you for joining us to review our third quarter 2020 financial results. In 2019, we made significant progress on our increased associated processing unit, Gemini-1. The momentum has continued into 2020. In March, we anticipate completing the benchmarking of our Gemini-1 chip against industry-standard benchmarks for similarity, first using FAISS and ANN industry standards with a database of up to a billion items. We expect to publish our results in the summer of 2020, followed by the qualification for Gemini-1, which we anticipate to complete in the second half of 2020. Our AI team is finalizing the software library and algorithm for Gemini-1 in preparation for customer workshops. The Gemini architecture is based on the memory sensory design that removes the limitation of cellular processes. It combines core capabilities in memory chip design with our AI software expertise. As a result, massive parallel data processing, computation, and search all take place directly in the memory array. This architecture has increased data processing speeds and lowered operating costs significantly with a scalable architecture. The last feature scalability distinguishes the architecture of our Gemini product. Another distinctive feature is the product for 1 interface. They allow multiple levels of custom programming from assembly code up to tens of lines of Python. We anticipate 2020 to be the year of design wins for Gemini-1 for similarity search applications. The applications we are targeting include signal and object identification and classification, facial recognition, and drug discovery for new drug development. Once we have completed the Gemini-1 qualification, we will also engage with e-commerce customers for future service. I appreciate our AI team's hard work to bring Gemini-1 to market, and I am pleased with the consistent performance from our legacy business team that has allowed us to fund Gemini's research and development. GSI is bringing a new and novel approach to AI with our in-memory processing technology, which is patent-protected. We anticipate it will ultimately be a game-changer for speed, power, and scale in AI. Now I'll turn the call over to Didier, who will discuss our business performance in further detail. Please go ahead, Didier.

Didier Lasserre, VP of Sales

Thank you, Lee-Lean. In addition to all the progress we've made on Gemini-1, we have completed our internal qualification of our radiation-hardened SRAM to Class Q and Class V levels to meet the requirements of aerospace and defense customers. GSI's radiation-hardened solution leverages our proven technology and offers up to 4x the memory size with the same footprint and power as the current memory solutions. This means legacy RadHard chips can often be switched out for GSI's higher-density solutions at the 40-nanometer technology node. We have identified several prospective opportunities for both our radiation-hardened and radiation-tolerant chips. As a result, we may see some sales in calendar 2020 in those product categories. We still see the market TAM of $15 million to $20 million for these products. Last quarter, we also had the opportunity to radiation test the Gemini-1 product and the results were very promising. Gemini-1 will allow data processing on a much greater level on satellites, expanding the markets for Gemini products to include space and aerospace. Looking at our sales breakdown in the third quarter of fiscal 2020, sales to Nokia were $2.6 million or 26.3% of revenue compared to $6.6 million or 45.2% of revenue a year ago and $5.3 million or 45.2% of revenue in the prior quarter. Nokia sales have been slower in the most recent quarter, and we expect a similar level in the fourth quarter of fiscal 2020. Looking out to the remainder of calendar 2020, the forecast is expected to improve and return to levels we saw earlier in this fiscal year. Military and defense sales were 18.9% of third quarter shipments compared to 16.7% a year ago and 23.4% in the prior quarter. SigmaQuad continues to be our best-performing product category, with sales of 62% of third quarter shipments compared to 69.7% last year and 63.5% in the preceding quarter. I'd like to hand the call over to Doug now. Please, Doug, go ahead.

Douglas Schirle, CFO

Thank you, Didier. For the third quarter of fiscal 2020, we reported a net loss of $4.6 million or $0.20 per diluted share, on net revenues of $10 million compared to net income of $2.3 million or $0.10 per diluted share, on net revenues of $14.7 million for the third quarter of fiscal 2019 and a net loss of $1.8 million or $0.08 per diluted share on net revenues of $11.7 million in the second quarter of fiscal 2020. Gross margin was 60.2% compared to 68.3% in the prior year period and 55.9% in the prior quarter. The changes in gross margin in each of these periods are primarily due to the mix of products sold in each quarter. Total operating expenses in the third quarter of fiscal 2020 were $10.8 million compared to $7.8 million in the third quarter of fiscal 2019 and $8.5 million in the preceding quarter. Research and development expenses were $8.2 million compared to $5.2 million in the prior year period and $5.8 million in the prior quarter. The increase in R&D expenses reflects a charge of $2.7 million during the third quarter of fiscal 2020 for purchased intellectual property that will be incorporated into the next generation of our Gemini chips. Selling, general, and administrative expenses were $2.6 million in the quarter ended December 31, 2019, compared to $2.6 million in the prior year quarter and down sequentially from $2.7 million in the previous quarter. The third quarter fiscal 2020 operating loss was $4.7 million compared to operating income of $2.2 million in the year-ago period and an operating loss of $1.9 million in the prior quarter. The third quarter fiscal 2020 net loss included interest and other income of $207,000 and a tax provision of $84,000 compared to $96,000 in interest and other income and a tax provision of $70,000 for the same period a year ago. In the preceding second quarter, net loss included interest and other income of $210,000 and a tax provision of $55,000. Total third quarter fiscal 2020 pretax stock-based compensation expense was $629,000 compared to $592,000 in the comparable quarter a year ago, and $642,000 from the prior quarter. At December 31, 2019, the company had $68.3 million in cash, cash equivalents, and short-term investments and $5.3 million in long-term investments compared to $61.8 million in cash, cash equivalents and short-term investments and $9 million in long-term investments for the fiscal year ended March 31, 2019. For the upcoming third quarter of fiscal year 2020, our current expectations are net revenues in a range of $8.5 million to $9.5 million with a gross margin of approximately 50% to 52%. Operator, at this point, we'll open the call to Q&A.

Operator, Operator

And we'll take our first question from Ari Shusterman with Needham.

Ariel Shusterman, Analyst

This is Ari taking the question for Raji Gill. So first one to start off by talking about the gross margin expectations for the following quarters? Can you kind of talk about why you expect such a significant drop off in gross margin? And maybe talk about how should we think about gross margin moving forward and your seasonality you can speak about?

Douglas Schirle, CFO

Yes. Gross margins are really impacted by the mix of product that we expect to shift in the fourth quarter. The current December quarter had a fairly significant shipment for a high-capacity computing system in Europe, which won't be there in the next quarter. In addition, Nokia revenues are down again next quarter. Nokia is generally a reasonable level of gross margin, more in line with our average. So we're really impacted by that mix shift from that lost bit of business in Europe in the March quarter. And going forward, we still see that generally, we should be expecting somewhere in the low 60% range like we've experienced in the most recent quarters, fairly consistently.

Ariel Shusterman, Analyst

Got you. And with regards to the TAM for the RadHard of $15 million to $20 million, how much would you say you expect to achieve in 2020? And this TAM, do you expect it to grow, expand in the future? Or is this with your long-term TAM?

Didier Lasserre, VP of Sales

It's hard to predict what will happen in 2020. As we mentioned before, we expected to see some revenue from RadHard, but that hasn't occurred yet. It's quite challenging to forecast due to launch schedules and funding issues. We do anticipate some activity in 2020, but we are uncertain about the specifics. Regarding the total addressable market, we have discussed figures of $15 to $20 million based on our current product value. We've conducted some testing on the Gemini-1, which showed good potential. We hope to incorporate that product line into our aerospace portfolio, which would likely increase the possible market size for that area.

Ariel Shusterman, Analyst

Got you. And just one more question with regards to your path to profitability. Yes, can you kind of talk about how you're seeing that as we move forward?

Didier Lasserre, VP of Sales

Tim, sorry, with the profitability, Ari?

Ariel Shusterman, Analyst

Correct. Yes. Your path towards profitability.

Douglas Schirle, CFO

Oh, path to profitability. Obviously, RadHard and rad-tolerant are very gross margin products. Generally, we would expect it to be somewhere in the 85% range. It doesn't take a lot of RadHard/rad-tolerant revenue on a quarterly basis to start breaking even. In addition to that, once we start shipping the Gemini chip, that also, we expect to provide a gross margin greater than our corporate average. It's really a matter of being successful in shipping those products, and that should lead us to profitability and growth.

Ariel Shusterman, Analyst

Do you have a timeline or not at this time?

Douglas Schirle, CFO

We're not giving any forecast on those revenues yet; it's kind of early on the Gemini chip. There is a lot of interest, but no one is giving us any kind of a forecast in volume data that we can present to people. In addition, DDA has already talked about the RadHard/rad-tolerant. It's a matter of getting out there and getting that first order and showing that the part works in space. Again, there is significant interest in the RadHard and a lot of information that we're seeing or interest that we're seeing in the rad-tolerant product.

Operator, Operator

We'll take our next question from Kurt Caramanidis with Carl M. Hennig, Inc.

Kurt Caramanidis, Analyst

What would be the potential number of boards for a customer like an alpha prospect in the defense area? Is it a couple, a dozen, or 100? I'm trying to understand the possible demand from an alpha customer.

Didier Lasserre, VP of Sales

For which product, Kurt?

Kurt Caramanidis, Analyst

For the Gemini, you're considering the new Gemini and seeking design wins. What could the potential be for some of these larger prospects? Generally, are you looking at opportunities ranging from single digits to dozens or even 100 boards?

Didier Lasserre, VP of Sales

So it really depends on the application in the market first. And what I mean by that is, the volume of Gemini boards for drug discovery versus facial recognition versus e-commerce versus some of these government applications we talk to all differ. It really depends on the market space and also the customer side. So for me to generically answer that question, it could be tens that we're shipping to customers to thousands. It really depends on the space and the customer.

Kurt Caramanidis, Analyst

So there is an opportunity for thousands with someone?

Didier Lasserre, VP of Sales

It's too early to discuss quantities. However, if you consider some of the updates we are examining, they could be substantial. Currently, we still need to establish the benchmarks. We actually held our first workshop this week, visiting a government entity on Tuesday and Wednesday. At this stage, we must demonstrate that this is a solution beyond just a PowerPoint presentation. Once we reach that next level, they will begin to discuss quantities. But for now, they haven't arrived at that stage with us yet.

Kurt Caramanidis, Analyst

Could you provide insight into what the customers do? Following up on that, what is the market size for e-commerce, drug discovery, and facial recognition? I'm assuming the market could be tens of millions or even more. Based on what you've mentioned, it seems likely to be larger. I understand you need to validate your approach and ensure everything operates as intended. Given your current investment, do you anticipate the market will reach tens of millions or exceed that? I'm asking for a general perspective, not a long-term forecast.

Didier Lasserre, VP of Sales

Yes. So again, whatever numbers we give, it would be our own internal speculation not based off of customer feedback because we're not quite there yet. I think within the next couple of quarters, once we have proven our solution, it does what we say it's going to do, and it gives them the benefits and the acceleration and the search that they're looking for, we'll start getting those kinds of numbers. But right now, I don't want to throw numbers out because they certainly have not been provided by the customers themselves.

Kurt Caramanidis, Analyst

Okay. Fair enough. And then when you get the benchmarks completed in March, can you pass that along to shareholders? I don't know what this publishing if that's some other technical term, but I think we've been waiting probably a few years. When that's done, can we get a release on what the results are?

Didier Lasserre, VP of Sales

Yes. We're looking to do a press release. So it'll be...

Kurt Caramanidis, Analyst

So we have to wait months after it's done?

Didier Lasserre, VP of Sales

Hopefully, not. No. I mean, as we discussed, we've done the testing with the current board we have up to a 250-million item database, and we're working on the 1 billion item database now. We're waiting for our new respinned board. The board, again, if you recall that Gemini is a chip, and then it goes onto a board, and the first board has some limitations. The next board, we'll be receiving within the next week or two. Once we have all the testing done, we anticipate publishing those results fairly quickly.

Operator, Operator

We'll hear next from Jeff Bernstein with Cowen.

Jeffrey Bernstein, Analyst

I have two questions. I missed what you said about the qualification of the rad-tolerant and RadHard SRAMs. I thought you mentioned Class Q and something else. Could you clarify what those were?

Didier Lasserre, VP of Sales

Sure. We have been working on our internal qualification during the second half of last year. There are several levels, but the two main ones are QMLQ and QMLV. These are related to military drawings, and we will be operating under source control drawing, equivalent to QMLQ and QMLV. So, Q and V represent the two levels.

Jeffrey Bernstein, Analyst

Got you. And those are basically specs in terms of how much ionizing radiation these things can take?

Didier Lasserre, VP of Sales

Exactly. What are the total doses and TIDs? That's correct.

Jeffrey Bernstein, Analyst

Yes. Yes. Got you. Okay. All right. And then I had a question just on the logistics of supplying product to potential customers and eventually, customers. What's the minimum lot size that you can order from TSMC?

Didier Lasserre, VP of Sales

For which are you talking about?

Jeffrey Bernstein, Analyst

For the Gemini, yes.

Lee-Lean Shu, CEO

Normally, we hold a minimum of 25 wafers, and I don't think there's a maximum limit.

Jeffrey Bernstein, Analyst

Got you. And how long does it take to turn around a 25 wafer order?

Lee-Lean Shu, CEO

About six months. If we start the wafer from the very beginning, but typically, we have a wafer stage in the various stages of the pipeline. So normally, it will be much shorter. But if you start from day one, it will take six months.

Jeffrey Bernstein, Analyst

Okay. And about how much is the cost of that? So we can assume that you already have one lot size ordered and that you'll have product ready to go?

Douglas Schirle, CFO

We cannot disclose the price of the wafers, but the cost varies depending on the technology. Generally, the more advanced the technology, the higher the price.

Jeffrey Bernstein, Analyst

Got you. So can you confirm that you have already ordered one lot size, which means you have 25 wafers worth of product available for end use?

Lee-Lean Shu, CEO

No. So far, we have our prototype wafer, which is limited by production lot size. However, we do have another wafer to get you started and to anticipate some potential business.

Operator, Operator

And we'll take a follow-up question from Kurt Caramanidis with Carl M. Hennig, Inc.

Kurt Caramanidis, Analyst

Very nice pronunciation of my name, by the way. Just to remind me, how easy or difficult is it to use this board with existing infrastructure? Is it a herculean task, or is it more of a plug-and-play situation, or somewhere in between?

Didier Lasserre, VP of Sales

For the Gemini board?

Kurt Caramanidis, Analyst

For Gemini board.

Didier Lasserre, VP of Sales

Yes, we managed to do it ourselves here. For the workshop in Sunnyvale, we needed some Gemini boards. We have two Gemini boards at our Sunnyvale facility, and we installed them in our server room. It took about a day or two to get them up and running with just two people, and since it was our first time doing this, it wasn't an overwhelming effort.

Operator, Operator

We'll take our next question from George Gaspar with Private Investor.

Unidentified Analyst, Analyst

Could you provide a brief overview of your cash position? Specifically, how does the cash level at the end of the quarter compare to the previous quarter and the beginning of the year? After that, I have a second question as well.

Douglas Schirle, CFO

At the end of the most recent quarter, our cash balance was $73.4 million, which is an increase from $72.9 million at the end of the prior quarter and up from $70.8 million at the end of the fiscal year in March last year. We have seen our cash balance grow every quarter for approximately 7 or 8 quarters now.

Unidentified Analyst, Analyst

Okay. It's interesting to note that your cash has increased slightly on a quarter-to-quarter basis, and how much did you record your net loss for the quarter?

Douglas Schirle, CFO

It's a big number. We were at about $4.6 million.

Unidentified Analyst, Analyst

$4.6 million. And what was it in the last quarter?

Douglas Schirle, CFO

$1.8 million.

Unidentified Analyst, Analyst

How is it possible to have a $4.6 million loss and still see an increase in your total cash position? Does this indicate that your interworking margin is better in some areas? How do you manage to have more cash despite the losses you're experiencing?

Douglas Schirle, CFO

Well, don't forget that there is a significant amount of noncash expenses in your P&L. Your stock-based compensation is running us over $2 million a year. Depreciation and other amortization is probably about $1.5 million a year. So those are all noncash expenses. Stock-based compensation, obviously, we have the required charges based on GAAP, and we're not spending any money there. We typically haven't been buying a lot of equipment. That is the actual use of cash whereas depreciation isn't. We haven't bought a lot of software or anything for a long time. The other thing is that that $2.7 million charge that we incurred this quarter significantly influenced the loss for the quarter, but we're not obligated to pay for that upfront. There is a fairly significant part of that in accrued liabilities at the end of the quarter. You'll have to look at the balance sheet, changes in the balance sheet to figure out what's happening with cash.

Unidentified Analyst, Analyst

And then looking ahead in six months out, a year out, do you have any number that you could give us on how much you're going to have to make as an investment into inventory and development to get this board out and into the marketplace?

Douglas Schirle, CFO

Yes. In terms of development, I think we've incurred most of the significant charges at this point. Certainly, there's no significant increase in R&D. Once we start generating sales from these products, we're not going to see SG&A go up much. There will be a little bit increase in selling expenses for recognitions that we have to pay. But all in all, the significant charges have already been incurred. The next big thing that we would see is on the current Gemini chip that we're working on right now in R&D. There will be somewhere between $1 million and $2 million charge for mass debts in plus or minus two years.

Didier Lasserre, VP of Sales

So when Doug says the current one, he's talking about the next-generation Gemini too.

Douglas Schirle, CFO

Yes. So I just don't see a big draw on cash at this point. We had a board meeting the other day, we spent quite a bit of time with them going over our strategy with the APU products. We really don't foresee very significant increases in spending over the near term for the next year or two at this point. We don't see much changing.

Operator, Operator

And since we have no further questions at this time, this concludes today's question-and-answer session. I would like to turn the call back over to Mr. Shu for any additional or closing remarks.

Lee-Lean Shu, CEO

Thank you all for joining us. We look forward to speaking with you again when we report our fourth quarter fiscal 2020 results. Thank you.

Operator, Operator

Once again, that does conclude today's conference. Thank you for your participation. You may now disconnect your phone lines.