Dolby Laboratories, Inc. (DLB) Earnings Call Transcript & Summary

Great. Good morning. Thanks for virtually attending our Annual Growth Stock Conference, and hope everyone on this call and your families are safe and well. And I'm told that the technology issues are fixed today. So I apologize what happened yesterday. My name is Ralph Schackart. I'm the research analyst here at William Blair who covers Dolby and other internet and digital media stocks. My compliance team requires me to inform you that for a complete list of research disclosures or potential conflicts of interest, please see or visit our website at williamblair.com. So with that, today, we have Kevin Yeaman, CEO of Dolby. Kevin, how are you doing this morning?

Great. Thanks for having me.

Of course, thanks for joining us.

Yes, as I said earlier, I'm missing my annual trip to Chicago.

Well, hopefully, we can have you back next year.

Kevin, maybe just at a high level, to kick things off. There's probably varying knowledge levels of Dolby, given that we have a generalist kind of focused conference. Maybe give some perspective how you've seen Dolby evolve since joining as CFO a long time ago. And you'd been in the seat now as the CEO. How have you seen it evolve from being a mandatory inclusion-based technology, primarily audio, to now offering products that your customers are adopting?

Yes. So as you point out, things have evolved considerably. And when I joined, most of the revenue was from audio codecs, and most of that was tethered to DVD playback. And over that time, we've significantly evolved and expanded our core audio business to all the ways in which people are enjoying their entertainment, whether that's streaming or gaming, live sport. And we've innovated. We've innovated new and immersive audio experiences like Dolby Atmos and visual experiences like Dolby Vision. And in essence, our mission, our purpose is to enable artists to make their content more immersive and engaging and tell their stories and to allow consumers to enjoy that, however it's experience, be that in their home, on-the-go, in the cinema. And so it's been an exciting journey.

Great. Maybe just one more on that before we get to the COVID questions. Can you maybe talk about how before the product is mandatory, and I guess, in a certain sense, sold itself versus now having to build a global sales force and maybe how that's maybe changed the culture a bit and how you see that strategy playing out going forward?

Yes. It's changed, both how we deliver our technologies and how we sell our technologies. The mandatory nature of it was that as it relates to DVD, there was a defined specification, and you have to maintain this compatibility forever more. And so if you were going to have sound come out of a DVD player, whether that DVD player was a stand-alone player, a PC or a gaming console, then you needed to have the Dolby technologies in order to make that happen. We also have a substantial presence in broadcast. And that was kind of where this transition of selling began because where we initially sold that proposition was to Pay TV operators who are making the transition to HD version. And we made the case and made the proposition that, that should come with an immersive sound environment. And so Pay TV operators began launching Dolby Surround Sound in the form of our technology, Dolby Digital Plus, as the world moved to high definition. So that wasn't mandatory, but as it progressed because broadcast is similar, in that you need to have some standard ways of operating in order to ensure compatibility, that grew to be one of the largest parts of our business. But as time went on and we introduced experiences like Dolby Atmos, which creates -- which is object-oriented sounds, you can place the sound literally anywhere in the room you want it to be if you're a creator; or Dolby Vision, which gives the ability to have this high dynamic range experience where, which really speaks to the difference between the range between dark and light and also the color range. These are experiences that are not mandated, but that are being widely adopted in the creative community because of the impact they have, and that's leading to increasing adoption in consumer devices through Dolby Cinema, our branded cinema experience. And I would say that the advantage to this, Ralph, is that I think that the quality of our partnerships and the importance of our partnerships is at a different level because people are engaging with us because they see us the way we see ourselves. They see us as a company that can help them better tell their stories and have their consumers be more engaged.

Great. Thanks, Kevin, that's a good overview. Maybe COVID, obviously, topical for investors. I think on the most recent call, you talked about blended across all devices, new expectations call for about 15% to down 25% versus the previous outlook. Maybe provide some high-level observations of how the business trended into the height of the pandemic and coming out? And any current sort of observations around that would be helpful.

Yes. Well, trending into the pandemic, our focus was on continuing to make sure that more people around the world can experience these Dolby experiences, Dolby Atmos, Dolby Vision, Dolby Cinema, and we were continuing to have great success. Many announcements came out at CES around more TV manufacturers adopting Dolby Vision and Dolby Atmos. In mobile, we had a number of the largest mobile providers launch their high-end models with Dolby Atmos. Apple adopted Dolby Vision into the iPhone SE. So they now have Dolby Vision and Dolby Atmos across the iOS lineup fully integrated into Apple TV, the iPad, the Mac. So we were still getting those wins. And we had opened our 250th Dolby Cinema. We've expanded into a number of other countries around the world. So yes, we were operating the plan, which is expand adoption of these experiences, expand to more types of content. So we had launched Dolby Atmos Music in the fall with the Amazon Echo Studio and Amazon HD Music. And expanding to other forms of content for us, our first Dolby Vision and Dolby Atmos came to life on the strength of our presence in, first, movies and shortly, followed by TV. We launched music in the fall. We have an increasing presence in gaming. We're focused on live sport coming into the pandemic. So what this does is it increases the value proposition, who is looking to adopt Dolby Vision and Dolby Atmos. And it also expands the number of devices for which is relevant. So for instance, with music, that makes the Dolby experience much more relevant on a smart speaker or perhaps in the future, an automobile with Dolby Atmos Music experience. And so yes, everything was -- we were sticking to the plan. And I would say in many ways -- in many respects, we are sticking to the plan, Ralph. I mean, with the pandemic, like, I think all of us, our first priority has been to ensure the safety and well-being of our employees. We continue to stay focused on our long-term goals, and we have a long-term focus because all of these things that have been affected as a result of the pandemic, we do -- we don't think that they affect our long-term opportunity. We think that people -- in fact, it's clearer than ever that people want to have immersive and engaging experiences and people want to tell stories, and the amount of entertainment and media content is, if anything, increasing dramatically. And so we're continuing to stay focused on continuing to get that adoption into content, whether it be movies, TV, music, gaming and making sure that more people can enjoy it with the devices that they use every day.

Right. Maybe just kind of related to the topic. A question I get a lot from investors is just on the operating expenses at Dolby, as you're building out a new worldwide sales force, et cetera. Has the pandemic caused you to sort of rethink or take another look at the operating expenses? You get the cash question quite a bit as well. And then also, has it altered your longer-term view to return back to double-digit growth?

Right. So let me start with the operating expense part of that question. Obviously, there are some operating expenses, which are, I guess, I'll use the word naturally lower during this period of time. People aren't traveling. Trade shows, many of them have been canceled. There's just a lot of operating expense that has -- that is not happening during this period of time. We have slowed down our hiring. We haven't stopped hiring, but we've refocused our hiring to make sure that we're focused on the areas where we can still have a -- make a very big difference in the immediate term toward our long-term success. There are some areas that are going to be temporarily slower. I mean I mentioned live sport. That's been a focus for us to get live sport available at Dolby Vision and Dolby Atmos. Obviously, there's not a lot happening there right now. On the other hand, gaming is on the rise. So we have really focused on the mobility of our people and being agile in terms of what is the thing that we can focus on that has in the short term that has the greatest impact on the long term. So an example would be shifting our focus even more toward gaming, where there's increased engagement. In terms of the second part of your question was...

First was OpEx. Second was just in general, we get the question a lot about cash. Is it -- any opportunities maybe to better direct question, as the pandemic has unfolded on the M&A front? And then just the last question was, has the pandemic altered your longer-term view that you've held for a while to return back to double-digit growth?

All right. Well, let me take the last one first. No, we -- I still -- our goal is to return to sustainable double-digit growth. And I remain confident that we have the long-term opportunities that we're in pursuit of, which can return us to those levels. And that's a function of many of the things that we've talked about. But if you take Dolby Vision and Dolby Atmos, for instance, as you know, we're on the one hand, very well-established, all the major streaming providers, Apple, Netflix, Disney+ Tencent, ITE, most of the largest TV manufacturers. We have wins in gaming and mobile, Apple across their whole ecosystem. And yet on TVs, Dolby Vision for 2019 was on 10% of 4K TVs, and 4K TVs were 50% of the television market. 4Ks will increase as a percentage of the television market, and we will increase as a percentage of 4K TVs. And so that just gives you a sense of the amount of growth we have yet to go win as it relates to the experiences we have. And of course, we continue to innovate as well. We've introduced some Dolby Atmos for Music, expands the available devices we can sell in to. Dolby Vision IQ is an example of bringing more value to the Dolby Vision experience, with a technology that adjusts to the ambient light around you, so that you get the perfect picture every time. So that's all a long way of saying, Ralph, that we still feel very strongly that we have a great long-term opportunity. And it's -- and we are still focused on returning to double-digit growth. As it relates to cash, yes, obviously, we have a very strong balance sheet, and we have a history of returning cash to shareholders in the form of dividends, which we, again, announced this last quarter through a buyback program, and we continue to evaluate that on a regular basis. I think you mentioned M&A in there. And I think M&A could play a role in the strategy. I would say that for us, where that would be most likely is either historically, largely, it's been about technology tuck-ins, which have helped us to bring many of these experiences we've been talking about to life. And the most likely area for us to do M&A beyond that would be to the extent that it's significantly accelerated or expanded one of the opportunities that we've been talking about.

Great. Maybe talk a little bit about Vision there. Maybe a good segue to some of the product-oriented questions. Maybe just give a sense on Vision going into the pandemic. I think you maybe talked about it on the call that you had some partners that were perhaps going to make some announcements but pushed it. Maybe just the trend line of adoption and/or sort of going deeper within existing relationships and new devices. And then a question I get a lot from investors is it's a pretty evident upgrade technology, so to speak. What's the main pushback from OEMs of not adopting it? And I'm not talking about specifically Samsung, just why have it more -- why has it got deeper penetration perhaps is maybe a better way to phrase that question.

Sure. Yes. So first of all, let me say that with the wins we announced at CES and since, we are on a pace to significantly increase the percentage of 4K TVs this year that have Dolby Vision. So we are increasing. Now of course, the number of the DVDs being sold, the TAM has been affected by the pandemic. But when that recovers, we will grow with that. And we're very confident in the fact that we're increasing share. And that's largely because we do have a number of providers who are beginning to go deeper in their lineups. VIZIO comes to mind, TCL comes to mind. Bestel comes to mind. But there are a number -- each time we -- each cycle, people are going a little bit deeper. I would say -- I don't know if I'd call it pushback, but I think in terms of the strategy of our customers, one factor is that there are some customers who want to maintain as much differentiation as possible on the high end because they have their -- that's where their margins are, but it really depends on the company. And I think those companies would have a tendency to wait longer. But eventually, we believe that it's the type of experience that will be more broadly available even on a customer-specific basis.

Great. One more. Just I think more specifically, Apple is a clearly iconic hardware service company. I would think of it as sort of a flagship OEM to have on the mobile side. And then absence -- just you haven't seen really any incremental Dolby Vision announcements within the handset industry, which has always sort of surprised me. Is it just the nature of timing in your opinion? I'm guessing everybody has their own sort of design cycles on the OEM side. But just some perspective why there's been slower adoption outside of pretty iconic brand, if you can?

Yes. So yes, first of all, I would agree that having the presence we have with Apple is something that is a great way for us to be able to fulfill the mission of being able to have a lot -- a broad range of consumers able to experience content this way. And of course, the fact that Apple has an ecosystem where they can incorporate Dolby Vision and Dolby Atmos into their content as well as their devices is a great way to bring that value proposition to life in a complete way. And so we're -- we feel fortunate to have the relationship we have, and it's not without a lot of focus and hard work. Yes, there have not been as many other mobile manufacturers, specifically Sharp adopted Dolby Vision in Japan. So that's an opportunity that's still in front of us. We absolutely believe it's a great value proposition. And it also goes in concert with our effort to expand to other types of content because the primary use case as we brought Dolby Vision and Dolby Atmos to the world was movies and TV. And I think as we expand even further into areas like gaming and music, including music videos, this also expands the value proposition for use cases like mobile phones, smart speakers and beyond.

Great. Maybe shift to cinemas. Not surprising on the most recent call that you revised the outlook with the closure of cinemas primarily globally. But just domestically at least as cinemas are talking or expecting to open up again, how should we think about the recovery within the segment?

Well, I think we're all going to be launching whether -- first, when they open, and we're all, of course, hoping for a lot of reasons that there aren't any setbacks. There will be likely to be capacity constraints, which are going to be locally, I think, governed. We strongly believe that people will want to go back to the movies, and we've got the first big releases coming out starting in mid-July with Tenet followed by Disney's Mulan. And I believe that when people come back, those who come back, the high premium experience -- the premium experiences are going to fill up first. And we believe Dolby Cinema is the best way to see a movie. The PLF market, the premium large-format market, of which Dolby Cinema is a part, has consistently outperformed in terms of utilization, attendance, box office, and we expect that will continue to be the case. So the first thing we're going to be watching for is, as you pointed out, it appears that all the major providers are gearing up to make sure that they're open and they kind of get the cobwebs out of their operations, introduce new safety measures, that's going to be an important part of it, with enough runway to be at their full operations, subject to whatever capacity limitations they're under by the time the big titles start hitting again in mid-July.

Great. And I'm going to ask a question that I just received related to this, Kevin. So here's the question. If theaters go bankrupt or don't come back, what would be the impact on Dolby's long-term growth rate?

Well, I think that, first of all, that's not -- I feel compelled to say that's not what we expect to happen. It's a fair question. I think that first of all, bankrupt, usually, as you know, doesn't necessarily mean that then they stop operating. It affects -- and so while that's not at all we expect to happen; if it were to happen, we would have to understand what that means going forward and what effect it has on their operations. But in an extreme case, if we think that the licensing cinema is roughly, depending on the quarter or the year, in the neighborhood of 10% of our business. And if the question were, what are the growth prospects for the remaining 90% of the business, I would say that they are very strong. Those are the things that we've been talking about, Dolby Vision, Dolby Atmos expanding to new use cases and also a number of very exciting initiatives we have to expand beyond premium entertainment. So we're confident in the cinema experience, and we're confident in our broad portfolio of businesses and growth opportunities even in light of some of the uncertainties in the cinema and other places.

Great. Maybe kind of move on to some of the new initiatives. I had a chance to see Dolby Vision IQ at CES. It was pretty compelling. I think you were showing Game of Thrones, with the sort of simulated kids, so to speak, walking in the room, turning on the lights and then the screen sort of adjusting for that. But maybe just at a high level, talk about Dolby IQ and how it fits into the broader Vision platform, maybe a reminder of your current customers and your sort of thoughts on that product, please?

Yes. So as I said earlier, Dolby Vision and its strength in the market is all about this high, dynamic range of experience where we see much more detail. We see a wider range of colors. And yet when we get our televisions home and we put them in a room that has light in the background or changing light conditions, it has a dramatic effect on whether you're still getting that great experience. And what Dolby Vision IQ does is it adjusts to the environment, in this case, the ambient light. LG has -- LG and Panasonic announced that they would adopt at CES. LG now has Dolby Vision IQ available in the market. Panasonic, we expect to come down the road, but they're still planning to launch that. And we've had a lot of interest in the technology because, as you know, you experienced it, Ralph, it really is phenomenal, the difference between what you see in a controlled demo environment and what you -- most people are seeing in their living rooms, and this solves that and gives you that great experience every time. And I think in a broader context, I think that given that most of what we -- most of our Dolby magic, our Dolby experience is all about the fact that we're so deeply involved in the content itself and interacting with the creators and the production crews to make sure that we've got that content experience. And we know what we need to know about the playback experience, whether that's on a television, a mobile phone or a cinema to make sure that you get the best possible experience every time. The concept of introducing what's going on in the environment, that has a way to continue to raise the bar on efficiency and quality of experience is something that I think is very compelling. And the initial reaction we've had to Dolby Vision IQ is consistent with that.

Great. Obviously, you have the pandemic today. But absent, if you could look at it that way, the pandemic, have the conversations at least progressed on IQ in terms of with your customers and future adoption?

Yes. I would say across the board, we have a very engaged set of partners. As you know, we work with most of the largest CE manufacturers in the world. And if I were to overly generalize for a moment, I would say that for existing customers where we have strong partnerships and we're dealing with more established value propositions like Dolby Vision, like Dolby Atmos, like our core audio technologies, I would say that for the most part, we're able to conduct our business. We've done a lot of work to put tools in and training and things that people need in a virtual environment. We've had some examples. I think you referred to this in one of your earlier questions. Yes, we've had some examples where people's release plans have changed, either because of their supply chain or because of a trade show or an event that they pushed or whatever the reasons. In terms of our ability to engage in getting the adoption we're looking to have for the future, I would say things have been going well. I would say where it's -- and again, to overly generalize, I would say that it's engaging 100% virtually is more of a challenge as it relates to brand-new customers and/or brand-new experiences. It just takes that much more time to get the story across. But we have had some good -- we had some good wins. You probably noticed, Ralph, that since the earnings call, Sonos announced its first soundbar with Dolby Atmos. We're excited about that. We've added a few artists and people on the music side. So we're still hard work.

Great. It's actually a good segue on the music. Maybe talk about the Dolby Atmos music opportunity outside of -- I'm old enough to remember Dolby noise-reduction, B and C. Outside of that, I really can't recall the way that Dolby has monetized it in the past. And maybe just kind of speak to having such a strong launch partner with Amazon Echo product being a Tier 1 customer?

Yes. I mean, for as long as I've been here, Ralph, I've heard stories of those whose first experience with Dolby was the button on the cassette player. And for as long as I've been here, we've had employees who are very passionate about taking the music experience to another level. And that's the reason why we're excited about Dolby Atmos for music is that artists and consumers alike describe it as a different experience. It's just being able to be enveloped in the sound in a way that the artist creates is a completely different experience. And so we were very excited to be able to right out of the gate launch with Amazon as a partner by their HD music service and play back with the Echo Studio. And as I said earlier, what's exciting about Dolby Atmos music is: one, it brings more value to the Dolby Atmos proposition that we have been selling, whether that's into soundbars or mobile devices. It increases the value of that experience. It also expands the relevance to new device types. And there in mobile, most of our traction for Vision and Atmos is on the high end of those mobile devices. And I think music is an experience that could appeal much deeper into those lineups, smart speakers like the Echo Studio. And we also think that Dolby Atmos could be very compelling experience for automobiles. It's one of the...

Great. I have just one last question that came in here forward, up for time, says, on Apple, can you ask Kevin what Dolby's plans are to get its technology into AirPods and perhaps more broadly, other opportunities in the headphone market?

So there -- so as it relates to Apple, we're always looking to see where we can work with them in a way that is consistent with their plans and what their focus is to continue to bring a better experience. I'm not going to go into any details on what those next things might be. But I think as it relates to headphones, yes. And in fact, some of the things we are doing is that on the Microsoft ecosystem, there is a headphone app, which consumers can purchase and get a Dolby Atmos gaming experience or for a movie and TV [indiscernible] purchased in that environment. Their TIDAL, which launched its music service with Dolby Atmos Music, Dolby Atmos android phones are able to -- the processing is done on the device, but it improves the headphone experience. So yes, I think that the opportunity to make sure that we're addressing that playback experience in the optimal way is going to be a focus across movies, TV, music, gaming. And we do have some technology and success in that area. I think there's a lot more we can do.

Great. Unfortunately, we are out of time, but I want to say thank you again for attending our, I guess, virtual conference this year. We always appreciate you having you here. And for all those that are listening and joining in, we appreciate your interest. And be well, Kevin. And look forward to seeing you again in person at some point in the future.

Great. Thank you, Ralph. Thanks, everybody, for joining us.

Take care.