Tessera Remains on Transition Path - Analyst Blog

By Zacks | February 08, 2013 AAA

Tessera Technologies (TSRA) reported a fourth-quarter net loss of 25 cents, which was lower than the Zacks Consensus Estimate of 32 cents. Revenue was in line with expectations. Results included a net gain of $24.7 million in lieu of past production payments. Revenue

Tessera's reported revenue of $53.2 million was down 26.8% sequentially and 6.2% year over year.

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. Management is not offering prior guidance during the transition period due to the uncertainties involved (converting and equipping the facility, training and building initial production capability).

In the last quarter, Intellectual Property continued to generate the bulk of Tessera's revenue (86%) compared to just 14% for Digital Optics. Intellectual Property revenue was down 25.5% sequentially and 12.2% year over year. However, the broadening of its relationship with Hynix (an 8-year contract) and STATS ChipPAC (5-year contract) last month should help revenues.

Tessera has had problems with its largest licensees: Micron Technology (MU), Powertech, SK Hynix and Amkor Technology (AMKR). The company resolved issues with Amkor in the third quarter and has now announced resolution of its conflict with Hynix.

Tessera is also developing other licensable technology beyond the traditional packaging area that would translate to additional revenue going forward.

The Digital Optics line declined 31.1% sequentially although it was up 32.6% from last year. 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 within an internally developed product).

The segment has transitioned from its imaging and optics focus to an ODM of camera modules for the smartphone market, which management currently estimates to be a $4.5 billion opportunity. Tessera is seeing some success with its new MEMS lens subassembly. In the last quarter, the company started sampling its MEMS autofocus camera modules at 3 smartphone makers.

Margins

The pro forma gross margin excluding amortization of intangibles was 80.3%, up 80 bps sequentially and down 1,030 bps from a year ago. A high gross margin is typical for a technology company that is largely dependent on the licensing model.

The sequential gain in the last quarter was the result of past production payments in the licensing business although even this was not enough to offset the decline from last year because of the very strong growth on the product side (Digital Optics).

Tessera's quarterly operating expenses were $60.2 million, up 11.6% from the $54.0 million reported in the previous quarter. The operating margin shrunk 3,807 bps to -32.8%, impacted by much higher R&D and litigation expenses (both in dollars and as a percentage of sales), made worse by higher SG&A expenses (as a percentage of sales) and slightly offset by the gross margin improvement.

Net Income

Tessera's pro forma net loss was $12.9 million, or 24.2% of revenue compared to income of $3.5 million, or 4.8% of revenue in the Sep 2012 quarter and $5.6 million, or 10.5% in the Dec quarter of 2011. This pro forma net income calculation excludes restructuring charges and intangibles amortization charges on a tax-adjusted basis but includes stock based compensation. The 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 $19.6 million ($0.38 per share) compared to net loss of $1.1 million ($0.02 per share) in the previous quarter and profit of $2.6 million ($0.05 per share) in the Dec quarter of 2012.

Balance Sheet

Tessera's balance sheet remains strong, despite the $23.3 million reduction in cash and short term investments to $442.6 million. It also has no debt.

Inventories were down 53.8% during the quarter, with turns going from 18.3X to 27.8X. DSOs went from 18 to 20.

Our Recommendation

Tessera remains a company with good intellectual property, which it has protected with great difficulty. Over the past year, the company has spent more than half its earnings for this purpose and we had our doubts about whether this was worthwhile. However, management has been discussing a refocusing of the business toward a lower-margin, but safer product-oriented model involving camera modules for mobile devices.

We think that this is the way to go, as it could reduce if not eliminate the significant litigation expenses it has been incurring. The fact that the target market is fast-growing is an added bonus. We are encouraged by its plans to transition the Chinese facility for volume production by the middle of 2013.

However, until the transition is complete, the company will continue to see declining margins and profits, as well as more difficult comparisons. Therefore, the shares are likely to remain under pressure.

Tessera shares currently carry a Zacks Rank #5 (Strong Sell). However, Ultratech Inc (UTEK), which carries a Zacks Rank #2 (Buy), is another technology company serving the semiconductor market and may be worth considering at this time.

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