Tessera Technologies (TSRA - Free Report) reported a second quarter income of 8 cents that missed the Zacks Consensus Estimate by a penny.
Tessera’s reported revenue of $61.4 million was up 31.6% sequentially and down 13.2% year over year.
Revenue continues to be hurt by the non-renewal of major licenses. Tessera has taken the matter to court and received favorable rulings. However, licensees could appeal, so the negative impact is likely to continue in the near term.
Tessera renamed its two segments. Accordingly, the Micro-electronics segment is now being referred to as Intellectual Property, while the Imaging & Optics segment is being referred to as Digital Optics.
Tessera expects the Intellectual Property business to gradually become a smaller part of its revenue, while Digital Optics (its camera module business for smartphones) becomes a larger segment. Since the camera module business is yet to take off (Tessera expects volume shipments in the December quarter), management decided not to provide guidance for the next few quarters.
In the last quarter however, Intellectual Property continued to generate the bulk of Tessera’s revenue (86%) compared to just 14% for Digital Optics. Intellectual Property revenue was up 35.7% sequentially and down 12.4% year over year. The sequential increase was helped by a one-time licensing fee of $1 million. The Digital Optics line was up 10.5% sequentially and down 17.5% from last year.
Tessera continued its discussions with potential DRAM customers for long-term contracts. While these could take some time to develop, they are likely to lead to some stability in revenue.
The company also announced that its wholly-owned subsidiary Invensas introduced two new packaging technologies that were currently in the process of commercialization. The company is also developing other licensable technology beyond the traditional packaging area that would translate to additional revenue going forward.
On the digital optics side, Tessera is seeing some success with its new MEMS lens subassembly. The first internally developed MEMS autofocus camera module will start shipping from a tier-1 mobile phone makers in the fourth quarter.
The segment has now transitioned from its imaging and optics focus to an ODM of camera modules for the mobile phone market. Tessera expects to make this the primary segment, which should simplify the protection of its intellectual property (since in this case its technology is not being licensed, but sold as a product).
The pro forma gross margin excluding amortization of intangibles was 94.2%, up 219 bps sequentially. The high gross margin is typical for a technology company that is largely dependent on the licensing model and quarterly fluctuations are therefore usually mix-related, as Tessera also generates a growing percentage of revenue from products, which have much lower gross margins. Volumes also helped the company in the last quarter.
Tessera’s quarterly operating expenses were $98.7 million, up 47.8% from the $66.8 million reported in the previous quarter. However, given the higher volumes, the operating margin expanded to 10.0%, up 1,913 bps sequentially, and as a result, both R&D and SG&A expenses dropped significantly as a percentage of sales. Litigation expenses continued to increase however.
Tessera’s pro forma net income was $4.3 million, or 7.0% of revenue compared to $3.3 million, or -7.0% of revenue in the March 2012 quarter and $14.7 million, or 20.8% in the June quarter of 2011. Our pro forma net income calculation excludes intangibles amortization charges on a tax-adjusted basis but includes stock based compensation.
Our pro forma estimates may not match management’s presentation due to the inclusion/exclusion of some items that were not considered by management.
Net loss on a GAAP basis was $409 million ($0.01 per share) compared to net loss of $8.1 million ($0.16 per share) in the previous quarter and income of $11.6 million ($0.23 per share) in the June quarter of 2012.
Tessera’s balance sheet remains strong, despite the $15.6 million reduction in cash and short-term investments to $474.8 million. It also has no debt. Deferred revenue declined 38.5% sequentially.
Inventories were up 69.1% during the quarter, with turns going from 9.2X to 5.2X. DSOs dropped from 15 to 8.
We think the company has good potential based on its recent decision to focus on the Digital Optics segment. While generating lower gross margins, this will help protect its IP, so Tessera may not have to go to litigation so often. This could ultimately lower overall expenses and generate higher profits for the company.
Management is optimistic about volume production by the end of the year, so all this is good news. Of course, the fact that the company will not be providing guidance seems to indicate quite a bit of uncertainty. However, we like the strategy.
Tessera will maintain its Intellectual Property segment, which continues to generate high margins. While it has proved to be a double-edged sword for Tessera, the company has seen favorable outcomes so far. It is also in talks for long-term DRAM contracts, which could take a while to materialize. Therefore, for the time being, the company will continue to be impacted by pricing pressures in the DRAM market.