Kopin Corp Q3 FY2021 Earnings Call

Good day, and welcome to the Kopin Corporation Third Quarter 2021 Earnings Call. Today's conference is being recorded. At this time, I would turn the conference over to Mr. Richard Sneider, Chief Financial Officer. Please go ahead, sir.

Thank you, operator. Welcome everyone and thank you for joining us this morning. John will begin today's call with a discussion about our strategy, technology, and market. I will then go through the third quarter results at a high level. John will conclude our prepared remarks, and then we'll be happy to take your questions. I would like to remind everyone that during today's call taking place on Tuesday, November 2nd, 2021, we will be making forward-looking statements as defined in the Private Securities Litigation Reform Act of 1995. These statements are based on the company's current expectations, projections, beliefs, and estimates, and are subject to a number of risks and uncertainties that could cause actual results to differ materially from those forward-looking statements. Potential risks include, but are not limited to, demand for our products, supply chain issues, operating results for our subsidiaries, market conditions, and other factors discussed in our most recent Annual Report on Form 10-K and other documents filed with the Securities and Exchange Commission. The company undertakes no obligation to update the forward-looking statements made during today's call. And with that, I will turn the call over to John.

Good morning and thank you all for joining this morning. To start, it is undoubtedly a very interesting few weeks for AR/VR. First, Facebook came out with a Facebook Ray-Ban Smart glass product. And then last week, Facebook changed its corporate name to Meta for the coming metaverse world. We, of course, have been pursuing this world for quite some time. However, I will first focus on our Q3 update as we do have so many great advances in this quarter. So, we'll be happy to take questions on the Metaverse during our Q&A session. We are very pleased with our strong third quarter results with revenues increasing 14% year-over-year, reflecting particularly strong growth in industrial product revenues and customer-funded development activities, which posted year-over-year growth of 65% and 60% respectively. This quarter marks our ninth straight quarter of year-over-year growth. Here's another reference: Revenue grew about 24% in the past three quarters year-over-year. We feel very good about our position in the market and our ability to continue our strong performance. We are on track with our defense development programs. In the second quarter of 2021, we mentioned two development programs and a low rate initial production. In the third quarter, we received an order for one of these programs, the Joint Effects Targeting System or JETS. More details on that in a moment. We expect another program to enter low rate production within the next few months. If this occurs, it will be our sixth production program. In addition, we continue to have an active and robust pipeline of defense programs in development, which will further fuel our revenue growth in the coming years. Let me give you some additional detail on a few of our growth programs and market areas. First, the FWS-I program, we announced during our second quarter call that we will reduce the shipment of eyepieces for the FWS-I thermal weapon sight program while we work with our customer to develop better processes for increased production rates. I am pleased to report that these improvement activities have gone very well. We are now ramping production and we expect one of the highest production and shipping rates for this program in the fourth quarter. In addition, we expect to receive a significant new order for our FWS-I eyepieces showing. As a reminder, the FWS-I thermal weapon sight uses a very high-precision video see-through AR optical module, utilizing our CyberDisplay and our custom-designed sophisticated Pancake optics. These optics have some compact glass elements. As we discussed in the last earnings call, a new invention all-plastic Pancake optics for VR, AR, and MR applications is an exciting innovation and achievement for Kopin. Hence, we believe we are the first to produce all-plastic Pancake optics in the world, delivering better image quality at a much lower cost and much lighter weight. For the coming consumer AR/VR headset markets, such all-plastic optics will be very useful. 3D Automated Optical Inspection is another bright area for us. During the third quarter, we announced a $3.4 million order commitment from JUTZE in Intelligence Technology to provide Spatial Modulators, or SLM, for JUTZE's Edge series of 3D Automated Optical Inspection and Mirage series for 3D Solder Paste Inspection systems. It's important to note that SLM is a key component for 3D Automated Optical Inspection, which is referred to in 3D AOI equipment. Our SLM is used in these quality inspection systems for Printed Circuit Board Assembly or PCBA. The SLM projects structured light onto the PCBA, being measured by 3D AOI/SPI equipment to find flaws or defects. This approach enables circuit board manufacturers who are now using 2D AOI machines to move into 3D, thus improving PCBA use and product quality while reducing waste and cost. We've been focusing in this area for several years, and our efforts are now bearing fruit. Seeing the growing demand for 3D AOI machines in a number of key areas, in particular, manufacturers of printed circuit boards for electric vehicles are moving from 2D to 3D AOI equipment to meet the high-quality standards needed to achieve automotive safety requirements. Currently, Kopin and one other company jointly supply approximately 80% of the SLM market, making us a leader in the 3D AOI market. We have grown over 50% in this market in the past two years. With the staggering growth in electric vehicles, we believe this is an increasingly important opportunity for Kopin in the coming years. We plan to host a webinar early next year to delve into this technology and the demand for Spatial Light Modulator. Let's quickly review a few more recent successes. As I just mentioned a few moments ago, we recently announced a $1.1 million order to provide eyepieces for the JET System, which are scheduled for delivery next year. The JET system is a portable, handheld product designed to rapidly acquire, precisely locate, and accurately engage targets with precision-guided munitions. We are providing the program with a high-resolution, low-power ruggedized eyepiece using our specialized optics in microspace. We also announced our CyberDisplay WQVGA display designed into types of newly launched optical display adapters for divers, providing easy access to critical diving data. Our display offers users a bright, clean, easily readable image in a small form factor. This win illustrates the many industrial and medical sectors looking to integrate the capability of microdisplays and optics for utility and safety in their AR/VR products. Turning to our Organic Light Emitting Diode activities, we received approximately $850,000 follow-up order for our proprietary Lightning 2K silicon backplane wafers. As a reminder, our Lightning 2K backplane supports all its microdisplays with 2048 x 2048 resolutions in a 1-inch diagonal size and can operate at up to 120 Hz with low power consumption. This repeated audit aligns with our expectations of growing market demand for our backplane wafers for OLED microdisplays and validates our successful business model. Now let me take a few minutes to discuss our microdisplays strategy. Since our early days with funding from DARPA, Kopin has advocated strongly for the microdisplays to reside on silicon IC backplanes. In fact, our advanced microdisplays are designed to be on silicon IC backplanes. Therefore, from the very beginning, all our microdisplays have used silicon IC backplanes. We believe that we are the only provider of LCD, LCOS, Micro OLED, and in the future, micro LED microdisplays all on silicon backplanes. In fact, our key feature and differentiation lie in the silicon semiconductor backplane designs and processing steps. Kopin has focused on silicon semiconductor backplanes for two decades. We have been vigorously integrating sophisticated and complex IC and display driving designs into the backplanes to enable displays. For that matter, our spatial modulators have layered our specially designed IC silicon backplanes with either the liquid crystals, ferroelectric liquid crystals, Organic Light Emitting Diodes, or Inorganic Light Emitting Diodes to meet what we trademark as Display on Chips, DoC. We plan to showcase many of such DoC in our suite at the upcoming CES in January 2022. In short, our revenue-generating business is strong, driving good momentum into Q4 and next year. At the same time, we are actively innovating to advance our technology roadmap, paving the way for future growth of AR, VR, and MR applications. Current market trends indicate exciting and growing opportunities, especially in the Metaverse VR platform. Kopin is an active and persistent pioneer in furthering this technology, having started many years ago in defense and enterprise and now expanding into consumer applications. We are very well positioned to capitalize on those opportunities. We're looking forward to the upcoming in-person CES in January when, in addition to our Display on Chips, we plan to exhibit many of our recent exciting developments related to AR and VR. Interestingly, I was asked a few days ago whether we could even show the F-35 helmet. This is the world's most advanced protection AI helmet. As many of you know, our fiber display is the sole source in the helmet. We will try – it’s most likely impossible to achieve that. Regardless, we have many other interesting devices to show you regarding future OLED at CES.

Thank you, John. Turning to our financial results. Total revenues for the third quarter ended September 25, 2021, were $10.9 million compared with $9.5 million for the third quarter of September 26, 2020, reflecting a 14% increase year-over-year. Product revenue for the third quarter ended September 25, 2021, was $6.6 million compared with $6.5 million for the third quarter of September 26, 2020. Our defense product revenues for the third quarter ended September 25, 2021, were $3.5 million compared with $4.8 million for the third quarter ended September 26, 2020. As John previously discussed, during the third quarter, we reduced shipments of our product using thermal weapons sight systems to a customer who wanted to implement process enhancements. We expect to increase our shipping rates for this product in the fourth quarter. Our industrial product revenues for the third quarter ended September 25, 2021, were $2.7 million compared with $1.7 million for the third quarter ended September 26, 2020, reflecting an approximate 65% increase driven by sales of products used in 3D metrology equipment, the 3D AOI that John referred to, partially offset by a decline in sales of our products used in headsets for applications in manufacturing, distribution, and public safety. Funded research, development, and other revenues were $4.1 million for the third quarter ended September 25, 2021, compared with $2.6 million for the third quarter ended September 26, 2020, representing an approximate 60% increase year-over-year, primarily due to an increase in customer-funded programs for US defense. Cost of products sold for the third quarter ended September 25, 2021, was $5.1 million compared to $4.8 million for the third quarter ended September 26, 2020. Gross margin for the third quarter ended September 25, 2021, was 22% compared to 26% for the third quarter ended September 26, 2020, reflecting manufacturing inefficiencies due to lower sales volume of our products for the FWS-I program. Regarding global supply chain issues affecting many industries, we have not experienced any material product shipping delays related to supply chain issues during the first nine months of 2021. However, like most companies, we are facing challenges. The situation is very dynamic, and we continue to work around the issues presented. Research and development expenses for the third quarter of 2021 were $3.8 million compared to $2.7 million for the third quarter of 2020, marking a 38% increase year-over-year. R&D expenses for the three months ended September 26, 2021, increased compared to the three months ended September 26, 2020, primarily due to an increase in customer-funded development programs and internal R&D expenses for OLED development. Selling, general, and administrative expenses were $4 million for the third quarter of 2021, compared to $3.1 million for the third quarter of 2020. Excluding the non-cash stock-based compensation costs, SG&A expenses were $3.6 million for the third quarter of 2021, compared with $2.9 million for the third quarter of 2020, indicating a 25% increase. The increase in SG&A, excluding non-cash stock compensation costs, was due to an increase in other compensation costs and bad debt expenses. Other income was approximately $51,000 of expense for the third quarter of 2021 compared to $168,000 of income for the third quarter of 2020. During the three months ended September 25, 2021, we recorded $29,000 of foreign currency losses compared to $183,000 of foreign currency gains for the three months ended September 26, 2020. Turning to the bottom line, our net loss attributable to controlling interest for the third quarter of 2021 was $2.1 million or $0.02 per share compared with a net loss of $957,000 or $0.01 per share for the third quarter of 2020. The non-GAAP net loss attributable to controlling interest for the third quarter of 2021 was $1.7 million or again, $0.02 per share compared with a non-GAAP loss attributable to controlling interest of $760,000 or $0.01 per share for the third quarter of 2020. Kopin's cash and marketable securities were approximately $31.7 million at September 25, 2021, compared to $20.7 million at December 26, 2020. Net cash used in operating activities for the third quarter ended June 25, 2021, was approximately $3.5 million. During the three months ended September 26, 2020, we sold 600,000 shares of our stock under our ATM program for proceeds of approximately $4.8 million before deducting expenses paid by us of $145,000. For the nine months ended September 25, 2021, we have sold 3,960,697 shares for gross proceeds of approximately $21.7 million before deducting broker expenses paid by us of approximately $700,000 pursuant to our existing and previous ATM agreement. Third-quarter amounts for depreciation and stock compensation are attached in the table to the Q3 press release. The amounts discussed above are current estimates, and the listener should review our Form 10-Q for the third quarter of 2021 for any possible changes, along with additional disclosures. That concludes our prepared remarks. Operator, we will now take questions.

Thank you. We will now take our first question from Glenn Mattson with Ladenburg Thalmann. Please go ahead.

Thank you for taking my question, and congratulations on the quarter. Regarding the expected rebound in FWS revenue, do you see this as merely compensating for some of the decrease from Q3, or do you anticipate an increased production level now that the facility has completed its retooling? I would appreciate your general thoughts on this business segment related to that contract. Thank you.

Yes. So we are going to try making up as much of the Q3 revenue as possible in the fourth quarter. And going forward, our overall production rates should be higher on a weekly basis because of the profit rate.

Yes. Is the improved R&D revenue an indication that the number of defense programs you are involved in is increasing, or has the scope of work within those programs simply expanded this quarter? Do you anticipate this trend will continue for a while? Any insights on this?

Just in this particular quarter. So we have a number of contracts that extend over an extended period of time, and it was just a reflection of the amount of work completed this quarter; it's on a percentage of completion basis. So that piece of business is somewhat lumpy. It depends on what you achieve in a particular quarter.

Right. Great. Regarding the industrial side, you mentioned that the optical inspection segment is performing well, but there was a decrease in headset sales. Do you think the positive trend will continue? Also, do you anticipate a recovery in headset sales, or is that segment currently underperforming?

Yes. So as it relates to the 3D AOI, we do believe that is sustainable. And we've had a good backlog in orders for that business right now. As it relates to the headset business, our customers tell us they expect that to get stronger going forward.

Great. Last one for me. I don't know if it's for you, Rich, or for John, but on the Metaverse stuff. I guess Facebook's putting in some kind of investment of around $10 billion or so in this space. Obviously, they're going to be building some of the best products out there. So, John, do you expect that to be competing for those headsets, so to speak? And then just generally speaking, with the pace that Facebook is going at, do you expect that's going to accelerate the whole industry in general and force other major tech players to ramp up their projects within the VR space, which could potentially serve you guys well? Some color there would be great.

That's a great question about the Metaverse. We believe that the next significant shift is moving from cellphones to the Metaverse. Competing with Facebook is a challenge, as they have over 10,000 employees dedicated to this area, focusing heavily on software and applications, which isn't our strength. Our emphasis has always been on hardware, specifically displays and optics, which are essential for a new platform. While hardware is vital, software applications follow, and that's where Facebook excels. We focus on delivering the best image quality in a compact form, which aligns with the needs of our defense and enterprise clients, and we lead in these areas. We aim to supply critical components for the Metaverse and have even trademarked our VR glass as "Metaverse glass." We're well-positioned in the Metaverse space, though the display and optics requirements differ from what we offer for the F-35. I'll leave it to others to ask questions, but I believe we have a solid standing in this emerging field.

Great. Thanks for all the color and congrats on the quarter.

We'll go ahead and take our next question from Spencer Cushman with H.C. Wainwright. Please go ahead.

Hi, John, Rich. This is Spencer Cushman in for Kevin Dede. Congrats on the quarter. I was kind of curious to get some more thoughts on the difference between the glass setup for components for the F-35 and the coming Metaverse you were just talking about, John.

Yeah. I think in the case of the F-35, which is the AR glass, it needs to be very rugged. In fact, all the displays for defense applications prioritize ruggedness and high precision. In the F-35 case, it must also be very bright in daylight. But at nighttime, it operates as a video AR without a camera. This is quite different. As I say, I wish that we could show you the helmet, but I'm not sure we will be allowed to do that. However, VR for the Metaverse requires displays that are totally immersive. The best analogy is to imagine seeing a movie in an IMAX theatre, where you want to see a very immersive, large image. The current IMAX theatre might be interesting because they use two 4K projectors to go into the screen. Brightness isn’t as crucial as image quality. Therefore, what’s needed in the Metaverse are high resolutions, specifically High Dynamic Range, which in high-end TVs is referred to as HDR. This allows for 10 bits of dynamic range – not just 8 bits. Another aspect consumers want is high speed, around 120Hz to reduce latency and support fast action for games. So again, for Metaverse activities, displays don’t have to be extremely bright, rather, they should focus on high dynamic range, high resolution, good color, and high speed. Aspect of optics must involve very thin optics allowing for large magnifications. There are only two current technologies that excel in optics: Fresnel lenses, like those used in Oculus 2, and Pancake optics. Pancake optics is a trademark of ours, and one of the inventors of Pancake optics is in our company. So we excel in Pancake optics, especially for defense purposes. Now, we adapt Pancake optics for consumer use and convert them into plastic optics. It's essential that these all-plastic Pancake optics are lightweight and designed for extended use. That's what we all have been striving for in the last four years. We were the first to achieve this.

Yeah. That's really great color. Really appreciate it. Shifting gears a little bit; I'm curious about the number of productions that are currently in LRIP? And those that you expect to go to full production either in the balance of the year or in 2022?

So we have two in production: F-35 and FWS-I; we have two in LRIP. We talked about one of them, JETS, and then we expect, with a little luck, there will hopefully be an award for a third in this fourth quarter. All will likely move from LRIP to full production by the end of the first quarter.

Okay. Thank you. Great color. I really appreciate it. I'll jump back in the queue.

Thank you.

All right. We can go ahead and take our next question from Craig Rose, Axiom Asset Management. Please go ahead.

Hey, John. Good quarter.

Thank you, Craig.

You said you had 50% market share of the optical inspection equipment. Did you say how large that market is?

Yeah. I want to clarify, we do not have 50% market share; we have reached about 40%. We have grown about 50% in the last two years in revenue. The current market is still relatively small, actually. Remember, we provide the Spatial Light Modulators. Currently, the whole market has two strong players, ourselves and TI, each with about 40% market shares. We’re planning to have a webinar early next year because this is a very interesting area. The market has been moving toward needing 3D AOI systems. The technology is growing so complicated in electronics that we believe all equipment will eventually transition from 2D to 3D. Therefore, this market could be significant. So we'll hold the webinar in early January or February to discuss the technology, competitive landscape, and its trajectory. We're still assessing how large the market is and why it's growing so fast.

Okay. Thank you. As far as the plastic Pancake optics, where would you expect that to be used first?

In the Metaverse glass.

Okay. And is that…

I apologize for being brief earlier. The plastic Pancake optics can magnify your display by about 40,000 times. Imagine using a postage stamp display in a low-level IMAX theater, but it's also very thin. The optics are designed to bounce inside, and since we were the first to develop the Pancake optics in our company, we know how to manufacture them. They will be lightweight, allowing the headset to be comfortable enough to wear for many hours instead of just 10 or 15 minutes. This is the perfect solution: all-plastic Pancake optics. This is what we have been seeking for the past four years, and we were fortunate enough to invent it first.

Are your prototypes ready for CES?

Yes.

Okay. Anything else you want to tell us about CES?

We hope to show not only the prototype optics but also the early version of Metaverse glass using this type of optics.

It appears there are no further questions at this time. Mr. Fan, I would like to turn the call, oh, we actually did get one more question; my apologies. We'll go ahead and take our next question from Patrick Metcalf, who's a private investor. Please go ahead.

Good morning, John. You sound fantastic. Exciting times ahead, obviously.

Thank you, Patrick.

Okay. My questions revolve around your hidden treasures. I'd like to know how Lenovo New Vision and RealWear are looking for 2022 under the order of assets?

Yeah. Patrick in all honesty, you really should contact Lenovo and RealWear and ask them that.

I think I’ll answer the question a little differently. Patrick, thank you for the question. Our company operates on three legs: One leg is the defense and the enterprise business, which is going very well as a revenue generator. The second leg is our active investment in key components for Metaverse glass displays and optics. The third leg revolves around our licensing activities with companies with which we own equities, and we also sell them the necessary components. There are companies out there, everywhere now. We already announced that. RealWear is one of them. In fact, Visa was one of them, and SOLOS in class was another one. We just announced last year that we licensed to a company to create surgical headsets. So that applies to neither of them, and so on. This is our third leg; we provide companies with components, knowledge, licenses, and sales of components. So yeah, I think those companies, we're all hopeful they will be successful, and many of them are quite successful.

Okay, great. And John, the only reason I ask is, at the end of the last conference call, you had mentioned that more licensing deals could potentially come. So, I just wanted to ask, how's that effort going into 2022? Do you see maybe one or two more happening in 2022?

The answer is, we're certainly working pretty hard now, especially with the Metaverse starting to gain momentum. We expect to close more deals. I mean, more deals are in the pipeline. But anyway, I do think, again, this could be very interesting, especially given that last year there was no CES. This in-person CES will be remarkable. Hopefully, we’ll be able to show you additional devices; people are now using our components for truly beneficial applications, not just in defense or enterprise, but increasingly in medical and hopefully consumer applications.

Okay. And one last question, John. Let me get this straight: You have trademarked Metaverse glass and Pancake optics?

Yes. Pancake optics is a registered trademark. Of course, CyberDisplay and all those are registered trademarks. The Metaverse glass is not registered yet as a trademark. As you will know, registration goes through a rigorous process. The Metaverse glass, yes, which is under trademark consideration.

Okay. I now see why you sound like you're 37. So good luck. Congratulations. It sounds incredible.

Yeah. I think this is a very interesting couple of years. Thank you.

Have a good one.

All right. Now it appears there are no further questions at this time. Mr. Fan, I'd like to turn the call back to you for any additional closing remarks.

No. Thank you very much. We hope to talk to you again on the next earnings call, but do come to CES. Thank you.

This concludes today's call. Thank you all for your participation. You may now disconnect.