Synaptics Incorporated (SYNA) Earnings Call Transcript & Summary

Good day, ladies and gentlemen, and thank you for standing by. Welcome to today's conference call on Synaptics to acquire DisplayLink. As a quick reminder, today's program is being recorded. And at this time, I'd like to turn the floor over to your host, Mr. Jason Tsai. Please go ahead, sir.

Good afternoon, and thank you for joining us today to discuss Synaptics' acquisition of DisplayLink. My name is Jason Tsai, and I'm the Head of Investor Relations. With me on today's call are Michael Hurlston, our President and CEO; and Dean Butler, our CFO. Following our prepared comments, we will open up the call for Q&A. This call is also being broadcast live over the web and can be accessed from the Investor Relations section of our company's website at synaptics.com. We will be using a supplemental slide presentation during this call and will also post it on our Investor Relations website. This conference call, the associated press release and presentations made available today contain certain forward-looking statements within the meaning of applicable securities law. These forward-looking statements relate to our financial condition, results of operation, plans, objectives, future performance and business, including our expectations regarding the proposed transaction between Synaptics and DisplayLink, the expected timetable for completing the transaction and the potential benefits of the transaction. Our estimates and assumptions are subject to a number of risks and uncertainties beyond our control and may prove to be inaccurate, including substantial risk and uncertainties arising from the transaction, integration of the acquired business into Synaptics, employee and customer retention, substantial competition in the video interface and docking markets, selling price trends and risks that our markets and growth opportunities may not develop as we currently expect. Synaptics cautions that actual results may differ materially from any future performance suggested in the company's forward-looking statements. We refer you to the company's current and periodic reports filed with the SEC, including the Synaptics 10-K -- Form 10-K for the fiscal year ended June 29, 2019, for important risk factors that could cause actual results to differ materially from those contained in any forward-looking statement. Synaptics expressly disclaims any obligation to update this forward-looking information. The discussion in this conference call will be limited only to the proposed acquisition. In addition, management will also discuss financial metrics on a non-GAAP basis, which includes share-based compensation, acquisition-related costs and certain other cash or recurring or nonrecurring items. We are in quiet period. We will not make any comments on our current business environment or near-term outlook for our business. I will now turn the call over to Michael.

Thank you, Jason, and thanks to everyone for joining us on this call today. I'm excited to be talking to you again and discussing the strategic rationale for acquiring DisplayLink. This is a $305 million all-cash transaction that is very complementary to our existing video interface business. Since the acquisition of IDT's video interface business in 2012, Synaptics has been a significant player in enterprise docking stations. We understand this market well, and it's that understanding that allows us to uniquely unlock DisplayLink's value. While playing largely in different segments of the market, DisplayLink and Synaptics share customers, partners and technologies. In a subsequent slide, I'll discuss how the combination of the 2 companies will enable us to address emerging market opportunities. In addition, we see significant operational synergies that we'll be able to uniquely capitalize on that makes the valuation very attractive while adding about $1 in non-GAAP earnings per share on an annual basis. This is a financially compelling acquisition that adds a highly differentiated technology portfolio to a market in which we already play while increasing cash flow and accelerating our IoT diversification and our ability to achieve our long-term profitability targets. Dean will discuss the financial aspects of this transaction in greater detail later on the call. So who is DisplayLink? DisplayLink is the unquestioned leader in the universal docking segment. Their unique technology enables any laptop with any port type to seamlessly dock. They do this with an incredibly rich software stack, part of which is included out of the box in the operating system. They have unique video compression algorithms that enable high-definition video to move over thin pipes such as USB Type A. The company has a strong track record of revenue growth and a broad portfolio of patents for their highly differentiated software and compression technology. DisplayLink is privately held and headquartered in the United Kingdom. Founded in 2003, the company has generated approximately $500 million in cumulative revenue. They have a strong list of Tier 1 customers and technology partners and have over 100 products in the market using their solutions. But despite the similar customer footprint and broad ecosystem, we have virtually no overlap with them today. The universal docking solution addresses a different and completely, but complementary, segment of the market. As a result, we see the acquisition of DisplayLink as being additive in expanding our customer opportunities. Synaptics' strength lies in the commercial hub docks that are sold by PC OEMs to their enterprise customers. These docking stations are effectively tied 1:1 with a given laptop and can only support the Windows operating system. With the introduction of our new Cayenne solution announced just last week, we expand our capabilities into the consumer space with a leadership platform that offers ultra-low power and industry-first integration of HDMI 2.1 and DisplayPort Alt Mode 2.0. Cayenne enables us to extend our established footprint of enterprise docking into the emerging portable travel docks, dongles, video hubs and protocol converters. As I mentioned earlier, DisplayLink plays in a different segment of the market: universal docking stations. These solutions are also being sold to enterprises by the PC OEMs as well as in a variety of retail and consumer channels because of their ability to support any device, any notebook, any OS, old or new regardless of what external ports are available. Driven by their software and dynamic compression technology, they are able to support older generation or lower-end computers that don't have high-speed ports and outputs and still deliver no-compromise video output over USB, Ethernet and even WiFi. Our combined solution pairs very well with CIOs looking to easily deploy productivity solutions uniformly across the company. In a homogenous environment, Synaptics delivers advantageous power and performance. In a heterogeneous environment, DisplayLink enables a seamless user experience. While both teams serve the leading PC OEMS, such as Dell, HP and Lenovo, we occupy a different part of their portfolio. By coming together, we are in a stronger position to support these customers and can look to leverage our mutual road maps to offer them a top-to-bottom product lineup. As we look at the underlying trends, the market for computers is getting broader, with corporate IT departments offering employees more choices to use whatever computer best fits their needs. There is also a transformation taking place from traditional office layouts to office hoteling, compounded by COVID-19. In addition, the recent surge of employees working from home has triggered a buying spree of laptops and monitors. This has resulted in IT leadership needing to support a broader range of computers using Windows and Mac operating systems in combination with older- and newer-generation devices with a variety of interface and port options while ensuring consistent output to multiple high-resolution monitors. All of this is being enabled by DisplayLink's universal docking solutions. As we look ahead, the industry is beginning to adopt next-generation interface standards, such as USB4, Thunderbolt 4 and even wireless connectivity. In addition, monitors are going to higher and higher resolutions. Meanwhile, employees are demanding more and more displays. All of these emerging trends play to DisplayLink's strengths. The acquisition of DisplayLink is really an example of better together. By combining existing Synaptics chips with DisplayLink's, we can enable a dock to drive 4 4K monitors. As higher-resolution displays become more prevalent, we can leverage our video technology with their compression to support up to a 10K monitor. Finally, with our recent acquisition of Broadcom's WiFi, the combined company can be first to market with a true wireless docking solution. All of these new use cases give us growth drivers and expand our market opportunity in our existing customer base. DisplayLink has built a highly defensible moat around their platform driven by their incredible software and compression capability. This acquisition takes us further down our path of developing a portfolio of highly differentiated products at Synaptics. This is already a very successful business with a broad range of Tier 1 PC and accessory customers and a very strong track record in design pipeline. We feel that given our detailed market understanding, we can fully unlock DisplayLink's value. We can operationalize the company, creating both synergies and unique product offerings. DisplayLink is a highly accretive acquisition that will position us as a clear market leader and accelerate our ability to achieve our financial targets for diversification and profitability. With that, let me turn the call over to Dean to discuss the financial aspects of the transaction. Dean?

Thank you, Michael, and good afternoon, everyone. Let me provide you with the financial details and rationale for this acquisition. We will be acquiring this business for a total consideration of $305 million in an all-cash transaction and expect to fund it from the existing cash on hand. The acquisition is expected to close in our Q1 of fiscal 2021, subject to customary closing conditions, and we do not expect there to be any regulatory filings required. In the last calendar year, DisplayLink generated $94 million in revenue. And this business is highly complementary to our existing video interface business, so we believe the market growth will be similar to what we are expecting in our own video interface business. This is already a highly profitable business with non-GAAP gross margins of 77% and non-GAAP operating margins of 27%. And even at these levels, DisplayLink is an already financially compelling acquisition. But as Michael pointed out, we are in a unique position to leverage our capabilities to drive synergies and further improve on our combined operations. We believe we can extract an additional $15 million in operating expense savings over the next 12 months leading to about $1 in run rate EPS accretion, effectively valuing this transaction at about 3x enterprise value to sales or about 6x enterprise value to EBITDA. As we capture these synergies and further optimize operations with these acquisitions over the next 12 months, we believe we can achieve a combined EBITDA of approximately $60 million to $70 million a quarter. So we expect our cash flow generation to remain very strong and in a position to continue to grow. The addition of this highly accretive asset is expected to improve Synaptics' consolidated non-GAAP gross margins and consolidated non-GAAP operating margins by about 200 basis points each and accelerates our ability to deliver long-term shareholder value and achieve our long-term financial model that we have outlined at our Investor Day in June. DisplayLink will be part of our existing video interface portfolio and part of our IoT business. As we had highlighted in our recent Investor Day, we anticipate IoT will become the largest part of our portfolio long term, and this acquisition will further accelerate our diversification. With the recently announced addition of wireless IoT connectivity, and now the addition of DisplayLink, about 37% of the revenue on a pro forma basis will be from IoT, putting us well underway in growing IoT to be 40% or more of our business in the future and becoming our largest business area. The addition of these new products and customers will further accelerate our mix diversification initiatives as well. This acquisition is another example of our long-term strategy taking shape as we redeploy our capital to accelerate diversification, drive top line growth and increase profitability. We are bringing in a business that is significantly accretive to our profitability and earnings. After accounting for this transaction as well as the wireless IoT connectivity acquisition announced on July 7, we will still have more than $150 million of cash remaining on the balance sheet, plus an additional $100 million available to us from our existing revolving line of credit. With these acquisitions, we are significantly enhancing our future cash flow generation, and believe we'll be able to generate $60 million to $70 million in EBITDA after these transactions are completed, and we've optimized our operations to capture the expected synergies over the next 12 months, effectively enabling us to grow our cash position and continue to execute on our long-term strategy. In summary, this acquisition fits very well into our long-term strategy. This is a highly accretive acquisition at very compelling valuation. The addition of DisplayLink to Synaptics is incredibly complementary for both teams' road maps and offers synergy opportunities unique to this combination. We are accelerating our long-term IoT diversification strategy. And together, we will be able to uniquely serve this market with innovative system solutions that leverages our strength in hardware and their software and compression strength to deliver universal docking capabilities that benefit from a growing market trend. With that, I'll now turn the call over to the operator for Q&A. Operator?

[Operator Instructions] All right. And first, from Rosenblatt Securities, our question comes from Kevin Cassidy.

Congratulations. Just considering the atmosphere right now with COVID, have you met with DisplayLink in the past pre-COVID? Or was this all negotiated via conference calls?

Yes, first, thanks for the question, Kevin. I mean I think the recent past has certainly been largely conference call-driven. We expect members of our management team to meet their management team in the coming weeks to start working on integration. But I would say, for the most part, negotiations were done by phone calls, lots of phone calls and lots of Zoom meetings and so on. Now having said that, we know these guys from the past. It's not the first time that we've taken a look at them. We just got the macro trends and the valuation to line up this time to pull it off. So we had quite a bit of familiarity with the company leading up to this, but this round certainly was largely remote.

Okay. Great. And was DisplayLink working on a wireless solution? And did it just come in pretty handy that you have a good wireless solution now?

Yes, they were working on a wireless solution. It's certainly part of what they think about in terms of the road map. But nothing had been deployed yet, and there were still a lot of road map work going on. So it's fortunate that we now have a wireless asset that we could bring to them that -- with WiFi 6 that I think brings them state-of-the-art throughput to couple up with that compression technology that we talked about, Kevin.

All right. Moving on to the next, we have, it looks like, Charlie Anderson with Colliers Securities.

Congrats on the deal. I wonder if you guys could first spend a little bit of time sort of giving an overview of the docking market: the size, both in terms of dollars and units, if you could; penetration. I know you had laid out some of this at the Analyst Day relative to your own business there but, with the addition of this, I'm kind of curious how it all fits together and the size of the market you're going after. And then I've got a follow-up.

Yes. I mean well, I'll give some high-level color, Charlie, and then Saleel is here, and he can talk a little bit to some of the second-order detail. So we think of the market in multiple segments. But at the high end, in the enterprise, there's 2. One is sort of the traditional enterprise dock that Dell would sell with Dell laptops, that Lenovo would sell coupled with Lenovo laptops. And that's where we play. We have the video transport technology that converts an input and then spits it out to the monitor. And we are -- we do very, very well in those 1:1 type of enterprise docks. As we said on the call, with DisplayLink, their segment is universal docks, which enable any laptop to talk to any monitor. And that universal dock is pretty unique. I don't know of any other company that provides a solution into that market. It's a smaller market. But because of the macro trends, the work-from-home hoteling, bring your own device, that segment has actually done pretty well in the first half of the year. All of the PC segments, as you've heard us talk about, have generally done well. But that particular docking solution has probably done better than even the growth in the traditional core markets. But maybe to put some sizing on it, I'll let Saleel give some color.

Thank you, Michael. Charlie, as we've spoken on Investor Day, the market in size is around $200 million, and that includes the DisplayLink portion and the Synaptics portion. So that's how we've sized it. But as Michael spoke in the prepared remarks, we have never competed with them in the universal space. We've always been on kind of Dell on Dell and HP and HP experience, while they really have done a phenomenal job with their video compression technology and their SoCs that allows you to use a Chrome, a Mac, a Windows OS, all work. And it just works. And that's how we've felt this is a great fit for us.

Okay. Great. And then a couple of follow-ups for Dean real quick. I saw the $60 million to $70 million of EBITDA a quarter, and I saw some of the math behind that. I was wondering -- I think there was a trailing 12-month Synaptics comment to that, Dean. So did that include the LCD TDDI? I know it's probably minimal, but I wonder if you could maybe just help us on that. And then I didn't see any synergies on gross margin. Obviously, not going to complain about their high gross margins, but I wonder down the road, as you fold them into your scale, if there's potential for some gross margin synergies.

Yes. Charlie, just on the EBITDA. So you're right on trailing 12-month Synaptics. But actually, if you look at, even excluding the TDDI, if you look at where Synaptics is relative to sort of where we are now excluding TDDI, we're already sort of near the $50 million mark. And this DisplayLink asset is about $46 million on sort of their trailing 12 months. So that adds another $10 million plus. And then you take into account the WiFi IoT business that we announced just a couple of weeks ago, that's another couple of million that gets added on a quarter. So we're sort of there. It's not sort of dependent on this TDDI 12-month look-back. So we actually have forward insight into sort of a really good cash flow going forward. On the gross margin synergies, we're not sort of counting on incremental gross margin synergies in our model. I think ultimately, there probably ends up being some just given the scale difference between the 2 companies. But we're certainly not complaining on the gross margins that these teams have been able to extract so far, which are really great. I think we are able to add something, but it's probably not moving the needle in a meaningful way.

All right. Moving on, we have Christopher Rolland with Susquehanna International.

Congrats on the acquisition. And I think I bought 3 of these hubs actually for my home since COVID has happened. So I am part of that revenue. But I did want to ask in terms of the products here, I did see that they had chipsets on their website as well. So if you were to break this out in terms of the value of the company, how much would you say was in the hardware? How much would you say was in the software? And ultimately, what kind of growth rate are we looking at for the market here, both pre-COVID and post-COVID, in your opinion?

Yes. So Chris, first, thanks for being a great customer. So on just how to break down your chip sales, software, how to partition the value, so it's a full solution. The revenue number that you see comes from chip sales. But clearly, there's a full suite of solutions that's really the software and the hardware combined. And actually, one cannot work without the other. So when you look at the revenue, it's actually -- it's chip sales. Yes, but I mean, to your point, Chris, the differentiation is definitely in the software. If we look at the ICs, they're solid ICs, but they're not particularly differentiated. The software is incredible. And to be able to get this chipset to work across different operating systems in particular is the real trick. And anytime there is an update to the operating system, they're able to seamlessly update their drivers to work on the chipset. So they have probably 3 software engineers for every hardware engineer, in rough order, and it really is the software that I think is the key piece.

Great. And sorry, the growth rates pre- and post-COVID?

Yes. I mean I think that we expect this to kind of grow PC market, it's obviously had some nice tailwinds recently as all the PC segments have. There's some upside in some of the new use cases that we see. But I would say generally, it's sort of in line with the PC market.

Okay. Understood. And then I guess lastly here, as I think about new technologies that you may be able to apply this compression technology to, I know, for example, you guys have a set-top box that you're working on, can you talk about some of the other applications that this might be -- this video compression technology might be useful for?

Yes. I mean I think we certainly like coupling with wireless, to your point, you can use it in streaming, any over-the-top streaming, as a use case. But really, the first area that we think we want to go is in wireless docking and wireless casting, be able to take a solution off a mobile phone or off of PC and then throw it up to a TV in a relatively easy manner. That's where we see the kind of the initial use cases.

All right. Moving on, from Needham & Company, we have Raji Gill.

Yes. Congrats as well. In terms of the EPS accretion, you talked about $1. I just want to clarify, is this a pretax or a post tax? And the wireless IoT acquisition, I was wondering if you could let us know what the EPS accretion would be for that?

Yes. So that's what we'd expect post-tax EPS accretion. So in line with sort of the normal EPS calc. We don't expect tax rates to change, by any means, because of this acquisition. So you can -- you'll take the as-is Synaptics tax rate on a non-GAAP basis to sort of back into this dollar.

And then the wireless IoT, have you broken down what the EPS accretion would be for that one?

So the wireless IoT accretion, we did not break down a specific accretion number. I think sort of several research reports are out based on the guidance we gave on our last call on July 7. That sort of put it in the $0.40 to $0.50 range as sort of what the current -- what all research reports sort of point to. So I hope that answers your question, Raji.

[Operator Instructions] Next, from Rosenblatt Securities, we have Kevin Cassidy.