Audinate Group Limited (AD8) Earnings Call Transcript & Summary

Good morning, everyone. Thank you for joining our call today. As I was browsing the list, I saw Lance Korthals on the call. So welcome, Lance. It's great to see you again. So for everyone else on the call, Lance was Audinate's first salesperson many, many years ago. So it's wonderful to see him attending the call today. My name is Aidan Williams. I'm Co-Founder and CEO at Audinate. And with me is Rob Goss, our CFO. In the first part of the call today, we will be talking through the investor presentation that accompanied our financial statements, both of which were lodged with the ASX earlier today. You may type questions at any time by typing them into the Q&A box. At the end of the presentation, we will collect the various questions and answer as many as possible in the time we have available. As many of you will be aware, Audinate provides networking technology to manufacturers of professional audio and video equipment. We are primarily a networking IP and software company, although we have traditionally packaged our software for sale into electronic chips, cards and modules so that equipment manufacturers can readily incorporate our technology into their hardware designs. Our customers are primarily manufacturers of professional audiovisual equipment, names like Bosch, Bose, Yamaha, that you've heard of, but a long list of other brands that you may not have heard of. It's certainly not household names. And our customers are also AV professionals who design and install audiovisual systems for clients right around the world. As you can see on the map, we are a global company with headquarters in Sydney, Australia. We have several locations around the world, primarily providing sales and support functions with video engineering teams in Cambridge in the U.K. and Louvain-la-Neuve in Belgium. Before diving into the details of the presentation, I'd like to draw your attention to 3 highlights. First, I think we have achieved excellent revenue growth of 39% in U.S. dollars despite lingering chip shortages. This result could potentially have been even better with stronger chip suppliers. However, I think that it shows that we have again managed supply chain challenges well over the last half. Second, I want to highlight Dante Video momentum. Our first video software product for manufacturers, which is called Dante AV-H, has been very well received and at the ISE Trade Show 2 weeks ago, 19 manufacturers were exhibiting Dante Video products on their booths. It is very encouraging to see Dante Video products coming to market. Thirdly, we successfully launched Brooklyn 3, which is a drop-in replacement for our popular Brooklyn 2 product. Chips used in the Brooklyn 2 design have effectively gone end of life, so it was critical to transition quickly to a new design using available components, both for our customers and for our revenue. I'll return to these points later in the presentation. You should see Slide 3 on the screen now, and this is a relatively new slide for us, and it's intended to be a high-level map of Audinate's products and customers. On the left, you can see a vertical column where we have characterized our products into those purchased by manufacturing customers and those primarily purchased by AV professionals. The bottom row on the slide categorizes products for manufacturers into audio and video and further breaks those categories down into chips, cards and modules, which are some kind of electronics and software. Dante Solutions for manufacturers end up embedded into thousands of AV products and form the bedrock of the Dante platform. The products shown in the middle row are primarily purchased by AV professionals or users of AV equipment. AV network adapters enabled Dante technology to be added to an existing brownfield installation in a cost-effective manner and pull through other Dante products. In addition, we provide a full complement of PC and Mac software products to connect computers and application software to Dante systems. The top row on this map is the category for configuration and management software and includes the very widely used Dante Controller software, which is needed to initially set up our Dante system. And the Dante Domain Manager, which professionals use to manage Dante systems at scale. By way of applying this map, I just highlighted that our first software video product for manufacturers has been well received. It is called Dante AV-H, and you can see it at the bottom right-hand corner of the diagram. Also, I highlighted Brooklyn 3, the drop-in replacement for the supply-constrained Brooklyn 2. It is a hardware audio module for manufacturers and can be found in the bottom left of the diagram. Slide 4 summarizes Audinate's financial results for the first half. Again, I want to draw your attention to 3 points. The first is the record revenue results despite supply chain headwinds. The second is the decline in gross margin percentage, which was due to a change in product mix with revenue coming from the lower-margin Viper Turnkey video products, which we acquired with the Silex video business. Further, we have chosen to prioritize chip availability over cost in our Brooklyn 3 replacement for all Brooklyn 2, resulting in a 7% lower gross margin. Ultimately, we believe gross margin percentage will return to the historical average and continue to rise with higher growth in software revenue. Finally, the improvement in operating cash flow is consistent with the scalability of the business with increased revenue dropping through to improved EBITDA and operating cash flow. Rob will speak in more detail to the financials later in the presentation. Slide 5 shows key operational results for the first half. Strong demand for Dante continued during the first half with 78 design wins, and that's up 86% from the previous corresponding period. Each design win represents a new or existing customer committing to develop at least 1 new type of Dante products. As Dante technology becomes increasingly entrenched as the de facto standard, design wins become a more availing metric than simple totals of OEM customers. Sales backlog remains at record levels. However, conversion of that backlog into further revenue growth will be dependent upon improved chip supply. The total number of Dante-enabled products continues to grow and hit another record high of 3,688 products, representing something like a 12x lead on the next nearest alternative technology. A healthy 116 new Dante-enabled products were released during the seasonally quieter first half of the year. However, chip shortages have forced manufacturers to redesign products and in some cases, older or less successful products have been retired rather than being redesigned. In total, 38 Dante-enabled products were retired during the half. Strong demand for Dante, a buoyant industry outlook and an improving but still constrained chip supply bode well for second half performance and future revenue growth. Slide 6 covers or summarizes progress against our FY '23 objectives. I won't cover everything on this slide, but I would like to hit a few highlights. It has been critical to transition our products and manufacturing customers across the chips or modules that are available in reasonable quantities. The Brooklyn 3 project has been particularly successful in that regard with most manufacturers able to easily transition to Brooklyn 3. Chip-down solutions like Broadway and Ultimo are more challenging, requiring manufacturers to redesign circuit boards as they transition to alternative Dante solutions. Achieving momentum with Dante Video products has been another high priority. And pleasingly, Dante Video products from 19 different manufacturers were on display at the recent ISE Trade Show. We are on track to deliver meaningful video revenue this year, and we have shipped nearly 6,000 video units in the first half, positioning us well to achieve our target of 10,000 video units shipped in the full year. Progress continues to be made on improving operational efficiency with a substantial increase in capability in the Philippines and the delivery of a configure price quote, or CPQ, module in sales force to improve sales efficiency. Slide 7 provides more detail on the successful release of Brooklyn 3. As I've already mentioned, the Brooklyn 3 product redesign addressed a critical lack of chip availability in our Brooklyn 2 products. You can see a picture of the Brooklyn 3 module on the slide. Production commenced in October in both our Mainland China and Malaysian contract manufacturing facilities, rapidly ramping up to record monthly volumes. Increased component costs for Brooklyn 3 were, to a large extent, passed through to customers with an increase of -- 18% increase in average selling price. Internally, this project was a high priority, and it involved essentially all parts of the company and were successfully completed in under 12 months from when serious chip shortages began. We marked successful completion of this project with a celebration thanking staff for their efforts, and you can see a photo from the Sydney office on the screen of that celebration. Turning to Slide 8. FY '23 has already been a big year for Dante Video, and we're not finished yet with increasing product momentum and the launch of new software products. I mentioned Dante AV-H for manufacturers already, but we've also launched Dante Studio, which is our first PC Mac video software for AV professionals. On the screen, you can see several pictures from the ISE Trade Show held 2 weeks ago in Barcelona. Of the 30 manufacturer of brands who have licensed the Dante Video Solution to date, 19 manufacturers were showing products at ISE. These range from pan-tilt zoom cameras often used in unified communications and higher education applications to encoder and decoder boxes that are capable of acting as video on and off ramps for video signals to and from the Dante network. Pleasingly, Bolin, who was a very early adopter of Dante Video technology, released even more Dante Video products at ISE and a healthy range of well-known brands several of which you can see on the screen, were promoting their Dante AV-H products. Slide 9 summarizes Dante Video product development progress. I've already highlighted the release of Dante AV-H, our first Dante Video software product for manufacturers. Interest has been very strong in Dante AV-H with manufacturers of many cameras able to add Dante AV-H as a software update to their existing products. Dante Studio development has continued during the half with the completion of our beta program and the commercial availability of our first PC Mac software video solution. As with our other PC Mac software products, it will be available for sale via our website. Enhancements to Dante Domain Manager to support video products were also completed during the half. We will be following our typical playbook over the next half for the remainder of this financial year, driving manufacturer adoption of Dante Video technology, getting first products to market from existing video licensees and continuing to broaden our portfolio of video product offerings. And I'll now hand over to Rob for the finance section.

Thanks, Aidan, and good morning, everyone. Over the next few minutes, I will be explaining the first half FY '23 financial results that were lodged with the ASX earlier today and are summarized in the accompanying investor presentation. The financial information I will be covering is set out on Slides 11 to 16. I will start with Slide 11, which sets out some of the key revenue information for the business. In U.S. dollars, revenue was $20.6 million, growing 39% from $14.8 million in the prior corresponding period hereafter referred to as PCP. The Aussie U.S. dollar exchange rate was favorable relative to PCP, resulting in Aussie dollar revenue growth of 52.5%. The main driver of the increase was 44.9% growth in chips, cards and modules revenue, which is abbreviated to CCM. The main products responsible for the increase with the newly released Brooklyn 3 module, Video Viper boards and to a lesser extent, AVO adapters. Ultimo chips continue to be supply constrained. And whilst revenue was comparable to PCP, there was a 20% decline in the number of units shipped. The end of life of the Broadway chip was announced during first half '23, and consequently, there was a decline in both revenue and units shipped related to this product. Original equipment manufacturers hereafter referred to as OEMs are transitioning off the Broadway chip. Pleasingly, the major buyer of Broadway is already taking Brooklyn 3 modules as an alternative. In summary, there was strong growth in high dollar value products and a decline in the volume of lower dollar value products due to supply constraints. The net effect is a marked increase in the average revenue per unit which is shown as a dotted yellow line in the right-hand graph. Software revenue grew 22.4% to USD 4.7 million from PCP of $3.8 million. OEM software products are responsible for this revenue increase, namely Dante Embedded Platform, IP Core, and other software royalties. As we flagged back in August '22, the overall gross margin percentage declined to 71.2% from the long-term average of around 75% due to a change in product mix during first half '23. The majority of the decrease relates to the Viper board product acquired with the Silex Video business, a white labeled finished product that is high value with a margin of less than 50%. The second factor is the 7% lower gross profit margin of the newly released Brooklyn 3 module. And the third factor is the relative growth of CCM revenue over Software revenue during first half '23. In FY '24, the business expects gross margin to trend towards the historical average over time, continue to rise with higher growth in software revenues. From this point onwards, all amounts quoted will be in Aussie dollars. We have included an EBITDA bridge on Page 12, which shows the main factors driving the increase in EBITDA from $2 million in first half '22 to $4.3 million in first half '23. Operating expenses increased by 33.4% to $17.7 million in the first -- in the half year ended 31 December '22. The key movement was a $3.3 million increase in employee costs as headcount grew from 166 to 186, salary increases and the annualization impact of new headcount over the period. Slide 13 shows that operating leverage is again evidence as additional revenue drives EBITDA growth. This is also evident in the dotted yellow line showing both R&D and operating expenses as a percentage of revenue declining in first half '23. Slide 14 shows a traditional income statement with detailed explanation of individual line items, which I will leave you to review at your leisure. The main item to note is that other income includes a $400,000 gain from the revaluation of the revenue earn-out associated with the acquisition of the Silex Video business. This amount is excluded from EBITDA and also the calculation of staff incentives at FY '23. As a result of all the items I've discussed, net loss after tax was $0.4 million for the first half ended 31 December '22 compared to a PCP net loss of $2.1 million. On Slide 15, you will find the cash flow statement, which shows operating cash flows of $1.8 million compared to PCP of $0.6 million. It is worth noting that operating cash flows in the first half are seasonally lower due to the payment of annual bonuses. The balance sheet is set out on Slide 16. From our perspective, it is -- it remains a clean balance sheet with no debt, noting that cash and term deposits amounted to just over $37.9 million at 31 December '22. I will now hand back to Aidan to cover the outlook for the second half.

Okay. So Slide 18 summarizes priorities for the second half. At a high level, our objectives in the first and second halves remain the same, and we covered first half progress against them earlier in the presentation. Whilst we expect chip suppliers to improve through the rest of the calendar year in 2023, shortages will likely linger through FY '23 with long component lead times and elevated spot market prices. We will continue the process of transitioning our products away from chips that are hard to get and creating design alternatives for our manufacturing customers. As we have said before, demand remains strong, and if the chip supply environment continues to improve, we expect to convert our backlog into revenue. Driving the adoption of new Dante products, notably Dante Video offerings remains a priority. Markets here are the growing numbers of Dante Video products released from manufacturers going into markets. Turning to the second half outlook on Slide 19. The outlook for the remainder of FY '23 remains consistent with the statements we made at the release of our FY '22 results. We continue to target around 200 employees at the end of FY '23, although labor markets have been tight in key recruitment areas. Audinate enters the second half with a backlog and software revenue run rate to support U.S. dollar revenue growth in the historical target range for FY '23, subject to the risks outlined earlier. We currently expect significant further traction in our video offerings, including revenue of at least USD 3 million in FY '23. In wrapping up, I'd like to return to the 3 highlights that I began with. So firstly, I think we have achieved an excellent revenue result for the half despite lingering chip shortage headwinds. Secondly, Brooklyn 3 was successfully delivered, providing manufacturers with a drop-in replacement through our supply-constrained Brooklyn 2 product. And finally, I want to highlight Dante Video momentum. Our first OEM software products, Dante AV-H, has been very well received at ISE 2 weeks ago, 19 manufacturers were exhibiting Dante Video products in their booth. It's very encouraging to see Dante Video products coming to market. And now I'll hand back to Rob to coordinate Q&A.

Okay. Thanks, Aidan. [Operator Instructions] Aidan, I'll just provide you with a little bit of time to consider the first 2 questions, while I answer questions 3 and 4. So Aidie, a question here from -- on video OEMs, Aidie -- were 26 OEMs at FY '22. That included Silex. To clarify the 30 video OEMs just Dante or does it include video customers, Silex video customers as well? Now the 30 is just Dante AV, and there are additional Silex customers that were acquired as part of that acquisition. So in totality, we're well over 30 as compared to 26, 6 months ago. We've got another question here around, does the comment on record sales backlog refer to U.S. dollar backlog or unit backlog? We only measure the backlog in -- we'll track it internally around U.S. dollars, and it's the highest it's ever been. I expect if I looked at the actual unit numbers, it may well be a record in terms of unit numbers as well. But internally, the focus is on the share price dollar value. Aidan, I'll bring it back to you. So the first question on video, 30 OEMs, 20 video products, how are you seeing customer demand for your new product offerings outside of Viper? And non-Viper products expected to represent a reasonable portion of value -- a reasonable portion of second half revenue?

Yes. So I think the answer to that question is we're seeing very good traction with non-Viper Dante Video product offerings and, in particular, the Dante AV-H software offering. So there's definitely meaningful traction on that as a software product. And also, we are expecting to have our Dante AV Ultra products coming to market with some other manufacturers as well. So it isn't all about Viper. On the revenue side, I would say actually that when you say meaningful revenue this financial year for things like Dante AV-H, it's very early days for those products. So my expectation is that revenue associated with AV-H will be modest. However, I think that -- and certainly by comparison to Viper because Viper is of -- it's essentially a complete white label turnkey product. So it's a much higher dollar per unit revenue than each copy of -- each license for Dante AV-H. So the way I would describe that is, well, Viper will contribute pretty meaningfully to our revenue number on the video side of things, and Dante AV-H will contribute meaningfully to the volume number or are expected to over the next half as well as Dante Studio. So it's a set of products that are contributing to momentum on Dante Video, some manufacturer PC Mac software products but also by for itself.

Thanks, Aidan. Another question here. CapEx, capitalized costs higher versus consensus. How should we think about financial year CapEx, the $7.5 million in first half? How to think about percentage capitalized going forward? Sort of remembering that the detail of the CapEx first half included external spend of $1.5 million associated with video.

Yes.

Okay. I guess, yes, look, I'd say sort of break out that $1.5 million is external spend. I think you can look at the graph included in the investor presentation, you can see a relatively steady and consistent trend around the dollars and the trajectory of those dollars. I mean, historically, the percentage, which we've capitalized of cost has been somewhere anywhere between 75% and 65%. We were a bit -- we were sort of at the top end of that range for this half given the work around Brooklyn 3 and getting other products to market. So what I would say is I sort of take out the $1.5 million for this half, and I would look at the internal spend and look at that trajectory going forward. Aidan, I'll give you a little bit of time just to consider this question here while I answer a few others here. How much of CCM revenue is related to video in the first half? So we've disclosed that in the investor presentation. It's over $2 million in the first half, placing us well to achieve the goal that we set out at the beginning of the year of $3 million of video revenue. So there's another question here. What is the next biggest risk to the business growth that is non-chip related? And how is Audinate planning to address this?

Yes. Well, the biggest risk growth wise at the moment is definitely chip related. So that is the biggest thing. I think probably the next related piece is transitioning our customers to things like software products and solutions over time. So that's really about helping our manufacturing customers to make that transition from existing solutions that they're using elsewhere. That would be the thing that is related, but not exactly chip shortages. It's the implications of chip shortage is a public matter. On the bigger picture, I think we still are at early days on the video side of things. So I would not be -- whilst I think we have an excellent brand with Dante Audio products, there are quite a lot of different -- the video market is very fragmented. And so we have not yet got to the point where I would feel comfortable saying that we're the de facto standard in the video world. So I think one of the bigger risks, probably the next biggest risk is making sure that we succeed in making sure our video products succeed.

Okay. Very good. Aidan, you might just want to give some thought to questions 2 and 4 here while I deal with a couple of the other questions. So one of them is video revenue hit $2 million in the first half, USD 3 million guidance for the financial year. Any reason why video shouldn't be stronger in the second half given momentum. Look, the potential is that, that revenue might bounce around a little bit. There are sort of high dollar value items related to the Viper board and the ability to generate that revenue is very related to supply chain availability. So yes, we're well placed to exceed the $3 million target, but we'll sort of see how the second half plays out. So a couple more questions here. Balance sheet remains strong with $38 million in cash and no debt. Talk through the opportunities for video and software M&A going forward any intention?

Yes. So our intention is, I guess, every time we get asked this question, I feel like I give almost the same answer. So we do have a strong balance sheet. We are interested in acquisition opportunities, but the cash is not necessarily burning a hole in our pocket. So we are -- we have looked at -- in the last half, we've looked at, at least 1 software company in the video world and decided not to go ahead with that. There are certainly other companies that we have on our radar that we're exploring whether the opportunities make sense. Generally speaking, any acquisition that we do will have to be a strategic acquisition that's lined up with our needs. From a technology point of view, it could be a video thing. It could be a software thing. It could be a signal processing thing. It could be cloud-based management software products, control. Any of those kinds of spaces are either very aligned with our long-term strategy or quite complementary to it. So we're certainly looking at various opportunities. But hopefully, you have seen that we've been reasonably prudent about what we decide to pull the trigger on. And I'm quite happy with the results of our Silex Video acquisition. I think that's gone very smoothly and has contributed both revenue, technology and people to the company going forward. So if you think of that -- or you look at that acquisition in the past, I think that's probably the style or the type of acquisition that I'd like to repeat, if we could. But yes, that's probably the situation at the moment.