Greg Falesnik - Managing Director, MZ North America Jordan Wu - President and Chief Executive Officer Jackie Chang - Chief Financial Officer.

Tom Sepenzis - Northland Securities Tristan Gerra - Robert W. Baird Jaeson Schmidt - Lake Street Capital Charlie Chan - Morgan Stanley Donnie Teng - Nomura Securities Jerry Su - Credit Suisse.

Good day, ladies and gentlemen, and welcome to the Himax Technologies’ First Quarter 2017 Earnings Conference Call. At this time, all participants are in a listen-only mode. Later, there will be a question-and-answer session and instructions will follow that time. [Operator Instructions] As a reminder, this conference is being recorded.

I would now like to turn the conference over to Greg Falesnik, Managing Director for MZ North America. Sir, you may begin..

Thank you, operator, and welcome everyone to Himax’s first quarter 2017 earnings call. Joining us from the Company are Mr. Jordan Wu, President and Chief Executive Officer; and Ms. Jackie Chang, Chief Financial Officer. After the Company’s prepared comments, we have allocated time for questions in a Q&A session.

If you have not yet received a copy of today’s results release, please email greg.falesnik@mzgroup.us or access the press release on financial portals, or download a copy from Himax’s website at www.himax.com.tw.

Before we begin the formal remarks, I would like to remind everyone that some of the statements in this conference call, including statements regarding expected future financial results and industry growth, are forward-looking statements that involve a number of risks and uncertainties that could cause actual events or results to differ materially from those described in this conference call.

Factors that could cause actual results to differ include, but are not limited to, general business and economic conditions, the state of the semiconductor industry, market acceptance and competitiveness of driver and non-driver products developed by Himax, demand for end-use application products, the uncertainty of continued success in technological innovations, as well as other operational and market challenges and other risks described from time-to-time in the Company’s SEC filings, including those risks identified in the section entitled Risk Factors in its Form 20-F for the year ended December 31, 2016 filed with the SEC in April 2017.

Except for the Company’s full year of 2016 financials, which were provided in the Company’s 20-F and filed with the SEC on April 11, 2017, the financial information included in this conference call is unaudited and consolidated, and prepared in accordance with U.S. GAAP Accounting.

Such financial information is generated internally and has not been subjected to the same review and scrutiny, including internal auditing procedures and external audits by an independent auditor to which we subject our annual consolidated financial statements, and may vary materially from the audited consolidated financial information for the same period.

The Company undertakes no obligation to publicly update or revise any forward-looking statements, whether as a result of new information, future events or otherwise. I will now turn the call over to Mr. Wu. Jordan, the floor is yours..

Thank you, Greg. And thank you, everybody for being with us for our earnings call on which we will detail results from the first quarter 2017, as well as provide our second quarter 2017 guidance and outlook. Our CFO, Jackie Chang will then give further specifics on our financial performance after my overview.

Our 2017 first quarter revenue, gross margin, GAAP earnings per diluted ADS all met our guidance for the quarter. For the first quarter, we reported net revenues of $455.2 million, with a gross margin of 23.1%. First quarter GAAP earnings per diluted ADS were $0.08.

The first quarter revenues of $455.2 million represented a decrease of 23.7% sequentially and 13.9% year-over-year. I will go through the issues causing the revenue decline below. Revenue from large panel display drivers was $59.3 million, now 12.4% sequentially and down 9.8% from a year ago.

Large panel driver ICs accounted for 38.2% of our total revenue for the first quarter, compared to 33.3% in the fourth quarter of last year and 36.4% a year ago. The decline was due to fewer working days in China and Taiwan and phase-out of certain customers’ old models.

In addition, the scale 5.6 earthquake that struck Tainan in early February also somehow impacted some of the customers’ productions and therefore its driver IC shipment. In spite of the lukewarm sales, our engineering collaboration and design-in activities with large panel customers across China, Taiwan and Korea all remain robust.

Such activities will lead to future rebound in sales momentum. Revenue for small and medium-sized drivers came in at $66.6 million, down 33.2% sequentially and down 16.1% from the same period last year.

Driver ICs for small and medium-sized applications accounted for 42.9% of our total sales for the first quarter, as compared to 49% in the fourth quarter of 2016 and 44.1% a year ago. Sales into smartphones declined 37.8% year-over-year and 49.6% sequentially.

The substantial decline in the our smartphone driver IC sales was caused mainly by weak sentiment in the China market, which is still loaded with excess inventory built up at the end of last year.

Another negative factor for the Company’s small panel driver IC sales is the shrinking addressable market for pure TFT-LCD driver ICs for smartphone caused by increasing in-cell and AMOLED display adoption. The revenue from automotive applications declined about 9% from the last quarter, but was up around 12% year-over-year.

Our driver ICs used in tablets also declined around 33% sequentially and 8% year-over-year for weak overall market demand in the product segment. Revenues from our non-driver businesses were $29.3 million, down 18.8% sequentially and down 16.7% from the same period last year.

Non-driver products accounted for 18.9% of total revenues, as compared to 17.7% in the fourth quarter of last year and 19.5% a year ago. The sequential decline was primarily caused by lower LCOS and WLO shipments as one of our major AR customers decided to discontinue its production, as we reported before.

To a much lesser extent, lower sales of touch panel controllers and ASIC chips also contributed to the sequential decline. This decline was partially offset by the increased sales of CMOS image sensors and NRE income from ASIC projects. The first quarter operating expenses increased rather significantly which our CFO will report in a minute.

In light of the promising new business opportunities around the corner, we will continue to invest heavily in R&D and customer engineering regardless of the prevailing unfavorable business conditions.

We are aware that this will hit our short-term bottom-line, but we believe such investment is extremely important and will bring in very handsome return in the next few years. The second quarter operating expenses are budgeted to increase about 7% sequentially and 20% year-over-year.

Of the operating expenses, R&D will see the most significant increase, to be up around 10% sequentially and 28% year-over-year. WLO is to account for some 50% of the increased R&D expenses.

For the additional WLO capacity prepared for ramping in the second half which we announced last quarter, there are heavy pre-ramp expenses such as equipment bring up, sampling, and other related engineering efforts.

About 30% of the additional R&D expenses will be TDDI-related where the team is expanded in preparation for the expected design-ins with smartphone end customers. The remaining 20% of the incremental R&D will be expensed for high-end TV and structured light related R&D.

Our confidence on our strong growth prospects is also evidenced by the unprecedented heavy CapEx plan for 2017, which I will elaborate a bit later. Jackie Chang our CFO will now provide more details on our financial results. After Jackie’s presentation, we will further discuss our 2017 outlook and second quarter guidance.

Jackie?.

Thank you, Jordan. I will now provide additional details for our first quarter financial results. Our GAAP gross margin for the first quarter was 23.1%, up 400 basis points from 19.1% in the fourth quarter of 2016, and down 310 basis points from 26.2% for the same period last year.

Our GAAP gross margin for the fourth quarter of 2016 was lower due to a one-time, non-cash inventory write-down totaling $12 million, on top of $2.7 million originally estimated for the quarter.

Excluding the additional inventory write-down, our gross margin for the first quarter would have been down 190 basis points from 25% in the fourth quarter of 2016. The sequential and year-over-year decline was due to unfavorable product mix and margin decline in large panel driver ICs and non-driver product segments.

Jordan just talked about our increased expenses earlier. GAAP operating expenses were $34.3 million in the first quarter of 2017, up 7.1% from the preceding quarter and up 7.3% from a year ago. The sequential increase was primarily the result of an increase in R&D expenses while the year-over-year increase was due to higher salary expenses.

GAAP operating margin for the first quarter of 2017 was 1%, down from 8.4% for the same period last year and down from 3.4% in the previous quarter. The GAAP operating income decreased 77.1% sequentially and 89.6% year-over-year.

The sequential and year-over-year decrease was a result of lower sales, lower gross margin and higher expenses in the quarter.

First quarter non-GAAP operating income, which excludes share-based compensation and acquisition-related charges, was $2.1 million or 1.3% of sales, down from 8.7% for the same period last year and down from 3.6% a quarter ago. The non-GAAP operating income decreased 71.8% sequentially and 86.8% from the same quarter in 2016.

Again, the sequential and year-over-year decrease was a result of lower sales, lower gross margin and higher expenses in the quarter.

Our GAAP net income for the first quarter was $1.4 million, or 0.8 cents per diluted ADS, compared to $4.4 million, or 2.6 cents per diluted ADS, in the previous quarter and GAAP net income of $13.1 million, or 7.6 cents per diluted ADS, a year ago. GAAP net income decreased 89.6% year-over-year and 69.3% from the previous quarter.

First quarter non-GAAP net income was $1.7 million, or $0.01 cent per diluted ADS, compared to $4.8 million last quarter and $13.5 million in the same period last year. Turning to our balance sheet.

We had $199.5 million of cash, cash equivalents and marketable securities as of the end of March 2017, compared to $168 million at the same time last year and $194.6 million a quarter ago.

On top of the above cash position, restricted cash was $107.4 million at the end of the quarter, down from $138.2 million in the preceding quarter and down from $180.5 million a year ago. The restricted cash is mainly used to guarantee the company’s short-term loan for the same amount.

We continue to maintain a very strong balance sheet and remain a debt-free company. Our inventories as of March 31, 2017 were $148.3 million, down from $182.8 million a year ago and down from $149.7 million a quarter ago.

Accounts receivable at the end of March 2017 were $167.7 million as compared to $173 million a year ago and $191 million last quarter. Days Sales Outstanding was 97 days at the end of March 2017, as compared to 87 days a year ago and 87 days at the end of last quarter.

The increased Days Sales Outstanding was due to higher revenue proportion of driver IC sales for large panel customers who tend to have longer credit terms.

Net cash inflow from operating activities for the first quarter was $5.5 million, as compared to an inflow of $21.5 million for the same period last year and an inflow of $47.2 million last quarter. The decrease in cash inflow was a result of lower profitability and higher working capital.

Capital expenditures were $2 million in the first quarter of 2017 versus $2.2 million a year ago and $2.2 million last quarter. The capital expenditure in the first quarter consisted mainly of capacity expansion for WLO and LCOS product lines and purchase of R&D related equipment.

As of March 31, 2017, Himax had 172 million ADS outstanding, unchanged from last quarter. On a fully diluted basis, the total ADS outstanding are 172.4 million. I will now turn the floor back to Jordan. .

Thank you, Jackie. The factors causing our slow first quarter will remain in the second quarter. However, looking ahead into the second half, we believe our overall financial performance will be resilient. We are positive on our Driver IC’s business outlook because of expected shipments for certain customers’ 4K TV models and TDDI products.

Various areas of the non-driver IC businesses are also expected to contribute to the improvement of our overall financials from second half of the year.

Before we detail the prospects for our 2017, we felt it is important to update the status of our CapEx plan and highlight our progress in 3D scanning technology which is a major reason why we impact on this rather aggressive CapEx plan. We believe 3D scanning is one of the most significant new applications for the next-generation smartphone.

The view is echoed by many industry researchers. We are now seeing strong demand for 3D scanning products from multiple top name customers who are either collaborating with us or engaging us for advanced-stage discussion. Thanks to our absolute technology leadership.

Our SLiM product line is a state-of-the-art total solution for 3D sensing and scanning based on structured light technology. We offer fully integrated structure light modules with vast majority of the key technologies inside also provided by ourselves.

These technologies includes advanced optics utilizing our WLO technology, laser driver IC, high precision active alignment for the assembly of laser projector, high performance near-infrared CMOS image sensor and last but not least, an algorithm chip for 3D depth map generation.

While we prefer to offer total solution, we can also provide aforementioned individual technologies separately to selected customers, so as to accommodate their specific needs.

Of the above technologies, the two items requiring CAPEX for us are advanced optics, built using our in-house WLO production line and active alignment for which we develop a solution jointly with an international, world-leading semiconductor equipment house.

The remaining items are all outsourced for manufacturing and therefore do not require our own CAPEX. As indicated previously, this year’s CAPEX will be significantly higher than usual. In the last earnings call, we reported the urgent addition of new WLO capacity to meet the near-term demands of certain customers.

This new capacity is located in our existing headquarters in which we retrofitted certain space to make room for the new equipment. We are pleased to report that the project is going smoothly as planned. Major ramp of the new WLO capacity is scheduled to start from the third quarter.

Now moving on to the other major CAPEX project of this year, which is a construction of a new building. Again, the progress is good and the schedule is well under control.

The new building, located nearby our current headquarters will house additional 8 inch glass WLO and the next generation 12 inch wafer LCOS production lines, as well as provide the extra office space that is desperately needed. The new building will be completed and ready for personnel and equipment move-in by early 2018.

To give an update for the CAPEX plan, we have budgeted $80 million for 2017 for the new WLO capacity and the new office/fab construction, covering equipment, land, building, facilities and clean rooms. Of the total budget, around $60 million will be paid out during the year with the remaining in the next year.

The CAPEX budget for 2017 and the dividend for the year of 2016 will be funded through our internal resources and banking facilities. With that, I will now provide our second quarter guidance followed by a more detailed outlook. For the second quarter, we expect revenues to be down around 5% to flat sequentially.

Gross margin is expected to be around flat sequentially depending on our final product mix. Operating expenses will increase significantly as mentioned earlier. GAAP earnings attributable to shareholders are expected to be in the range of negative $0.01to $0.00 per diluted ADS based on 172.5 million outstanding ADS.

Now, let me provide you with some detail behind our guidance and change that we see developing in our businesses. Large panel driver IC revenue for the second quarter will decline around 10% sequentially due to phase-out of certain customers’ old models.

Certain earlier misses of customer new design-in projects will affect our Q2 and possibly Q3 business. Nevertheless, we have secured new design-wins, particularly in 4K TV to resume our larger panel driver IC business growth in the fourth quarter.

Looking forward, 4K TV penetration is still on its way up and Chinese panel customers will keep on ramping new advanced generation fabs over the next few years, including a brand new Gen 8.5 and another Gen 8.6 fab starting in the second half of this year.

We remain the market-leader in the large panel driver IC business in China and will be a major beneficiary from China’s capacity expansion. The other segment within our driver IC business is ICs used in small and medium-sized panels for applications including smartphones, tablets and automotives.

Second quarter sales for smartphones are likely to experience slight decline on weak China market demand, end-customers’ continued inventory adjustment, and higher TDDI and AMOLED adoption. Furthermore, the new 18 to 9 screen design is slowing down the demand for the existing 16 to 9 models.

We believe our smartphone business will recover sequentially in the third quarter. Not only do we expect to secure more design-wins from 18 to 9 display, we also expect our customers to replenish inventories after the lackluster first half of the year.

We remain mindful of the trend that higher in-cell panel and TDDI adoption will reduce the addressable market for smartphones using traditional TFT-LCD driver ICs. We are confident that our TDDI solutions and business will start to contribute in the third quarter. We will elaborate on this in the non-driver IC business discussion.

On AMOLED display, we have started to deliver product samples to our customers in the second quarter. Our customer base for AMOLED covers many leading panel makers across China. We believe AMOLED driver IC will be one of the long-term growth engines for our small panel driver IC business.

Driver ICs used in automotive application has been the best performing category for us in recent years. We are seeing solid momentum in the second quarter with revenue to grow around 15% sequentially and over 50% year-over-year.

Being the market share leader with numerous Tier-1 automotive brands as our indirect end-customers, we have successfully engaged all key panel manufacturers and module houses worldwide for long-term partnerships and secured many of their key projects pipelined for the next few years.

To address the growing IC demand out of large automotive displays and more displays per vehicle, we continue to develop advanced technologies including IC solutions for on-cell and in-cell touch screens. Finally, - excuse me - our driver ICs used in tablets will stay around flat sequentially in the second quarter.

Overall, we expect the small and medium-sized driver IC segment to increase sequentially by around low-single-digit in the second quarter.

For the non-driver IC business segments, we continue to experience near-term headwinds as we mentioned in the previous earnings call and expect mid-single-digit sequential decline in our non-driver revenues for the second quarter.

Sales of CMOS image sensors will deliver double-digit growth in the second quarter, while those of WLO and touch panel controllers will decline sequentially. I will now highlight some of the non-driver product lines. First, on the touch panel controller product line.

In spite of new design-wins of our discrete touch solutions and volume shipment of several projects featuring our on-cell solutions to Chinese and Korean smartphone brand customers, the touch controller IC revenue will decline in the second quarter due to increasing TDDI adoption.

As mentioned earlier, the 18:9 screen format is increasingly popular among major smartphone players, especially for their mid-to-high end models. Being the front runner of TDDI solutions for 18:9 displays, we will benefit from the new trend.

I mentioned earlier, that to address the fast-growing TDDI demand and to catch up with customers’ request for fast product ramp, we have allocated further R&D and customer engineering resources to this important new product area.

With comprehensive joint development engagements covering many leading panel makers, we are confident that we can leverage our long-standing and widespread relationships with panel makers to be a market leader for TDDI.

With regards to WLO, we expect revenue in the second quarter to decline due to discontinuation of shipments to one of our leading AR device customers. At present, 3D scanning is the top priority of our WLO business.

Our goal is to provide total solutions with the performance, size, power, consumption and costs all suitable for smartphone and tablet applications. Alternatively, for selected customers we can also provide individual key components upon their requests.

Judging by the ongoing close collaboration and discussion with multiple leading end-device makers, we have strong reasons to believe that the 3D scanning solutions will bring us the explosive revenue growth when the new feature gets adopted by smartphones.

Apart from smartphone and tablets, we expect the adoption of 3D scanning to widely spread over to various applications such as industrial, IoT, AI, medical, automotive, military, surveillance and drone. We will expand the technology roadmap to cover more applications in due course. Now on the CMOS image sensor business update.

We continue to make great progress with our two machine vision sensor product lines, namely near infrared sensor and Always-on-Sensor. Our NIR sensor is a critical part in the structured light 3D scanning total solution. Similar to WLO, we can supply NIR sensor as an individual component for both mobile and non-mobile applications.

Our NIR sensors’ overall performance is far ahead of those of our peers. We currently can offer low noise HD and 5.5 megapixel NIR sensors with superior quantum efficiency in NIR band while operating at excellent power consumption.

Our Always-on-Sensor solutions provide super low power computer vision to enable new applications across a very wide variety of industries. The ultra-low power, Always-on-Vision sensor is a powerful solution capable of detecting, tracking and recognizing its environment in an extremely efficient manner using just a few milliwatts of power.

In April, we announced a strategic investment in Emza, an Israeli software company dedicated to developing extremely efficient machine vision algorithms. The investment enables us to provide turn-key solutions to meet customers’ increasing appetite for ultra-low power.

With Emza’s machine-vision algorithms, we can transform AoS sensor from a pure image capturing component to an information analytics device that can be easily integrated into smart home and security applications, as well as smartphone, AR/VR, AI and IoT devices.

For the traditional human vision segments, we expect mass production of several earlier design wins for notebooks and increased shipments for multimedia applications such as car recorder, surveillance, drone, home appliances, and consumer electronics, among others, during the second quarter. I will now turn to the LCOS product line.

LCOS revenue will be flat sequentially and down year-over-year due to discontinuation of shipment to one of our leading AR device customers. We expect revenue for LCOS to come from a more diversified customer base starting later in 2017.

We are seeing heavyweight companies allocating major R&D resources and budgets in their new push for AR goggle devices. Having invested in related technologies for over 15 years, we believe our LCOS is the technology of choice with little competition. Our list of customers continues to expand and it now covers many of the world’s biggest tech names.

In addition to AR application, we are pleased to report that we are making great progress in developing high-end head-up-display for automotive applications. This represents a significant long-term growth opportunity for us. We will report business development in this territory in due course.

In summary, we are seeing ongoing weakness in the China smartphone market and temporary slowdown of our large-sized driver IC business, which will likely lead to a mild sequential decline in revenue in the Q2. Regardless of the soft market condition, we continue to commit our R&D on strategic growth areas.

Likewise, CAPEX will be at an unprecedented high level to capture the tremendous growth opportunities where we have had significant leadership.

Last but not least, I would like to emphasize that as excited as it is on the prospect of non-drive IC products and notwithstanding driver IC’s short-term pressure, driver IC has been a core part of our business and will remain so in any foreseeable future.

Our technology strength, total solution capability and long-term customer relationships in driver IC business remain intact. We are confident that our driver ICs will resume growth starting the fourth quarter. Thank you for your interest in Himax. We appreciate you joining today’s call and we are now ready to take questions. .

Thank you [Operator Instructions] Our first question comes from Tom Sepenzis with Northland. You may begin. .

Yes, hi, thanks for taking my question.

I just wanted to touch on TDDI and when you think you are going to start to see meaningful revenue there? Is that going to be in the next – starting in this quarter or is that a second half of the year type event?.

TDDI will start to bring in revenue contribution in Q3, meaning next quarter. But if you talk about more meaningful contribution, I would say, probably Q4. And, again, on the wafer size, this is our long-term growth engine. So, I think starting next year, this will be a major contributor for our – top on our sales..

Great, thank you. And similarly, with AMOLED, I think you said that, you are starting to sample in the current quarter.

So when would you expect to see AMOLED DDI IC revenue?.

It will be more of a 2018 to 2019 story depending very much on our customers’ progress. Now we’ve mentioned earlier, our AMOLED customers are now only in China and limited for 26 phase out AMOLED, in fact the AMOLED investments given the viewers plan was to pass loss for their TFT LCD capacity investments.

So this how serious and how committed they are. However, I think AMOLED after all is a rather complicated technology.

So, I think we are ready and our samples are ready and some of our samples are already nicely qualified by our customers, but it really depends very much on our customers’ bring up and when we will be ready to start like meaningful mass production and I think until it really happens, I think we cannot tell for sure, but we are very committed to supporting our customers to make that happen sooner rather than later.

.

Great, thank you. And then, given clearly the large investments that you are making in the 3D imaging area, can you talk about your degree of confidence in actual customer wins there.

When can we expect to see revenue contribution from that area?.

Very high. [Indiscernible].

I am sorry, I didn’t hear you..

I think, what’s very unique about us is that, all these technologies are home grown. This is very different against our – one or two of our major peers.

So, we did mentioned in our prepared remarks that we prefer to offer total solution meaning if 3D sensing module which can be embedded in your cell phone and with signals talking to AP and thereby create a 3D type snap for apps. So that is our preferred approach.

By doing that, we one needs to have a projector which is comprised of laser beam, which we all source. Right now, we are having partnership with in this 3D sensing area the biggest player in the world and also we don’t rule out the partnership with other people.

There are actually plenty of laser players who all came from the older communication industry type growth. So, they have plenty of idle capacity sitting there and all get excited about the potential for 3D scanning. So there are actually a lot of people we can work with.

And then, a very key component you see optics are typically in the form of DOE, a diffracted optical element and certain lenses. And that we are capable designing DOE upon customers’ request. They are specific requirements, they are specific intensive target applications and algorithms.

So we can actually tailor made the design for that and we also do our in-house manufacturing with our major strong areas. We have a lot of past experience using our WLO technology to manufacture some of that lens for our smartphone cameras and AR devices for work types and other things.

So we have a lot of mass production experience already in WLO and that is I think one of the reasons why many 3D scanning customers have come to us for WLO support.

So with the two together, you will then need a very high precision alignment and for this, we have also developed a total grown solution together with a leading player, International player for semiconductor equipment.

So, all that together you then have the projector and you need whoever receiver in the form of announcement and we have been running the CMOS image sensor business for a long time.

We announced about a year to two ago that we are going to switch our focus from the traditional RGB sensor into much imaging sensor at a time we actually already had finished scanning in our mind.

So we are ahead of our peers, much ahead of our peers in this progress and now our product performance in our sense is far superior compared to even the influence in RGB sensors. So with this two – and the uniqueness for having the solution is that, both are under the same rules and both are home grown.

And actually, the two the projector and receiver need to work together. And there are actually a lot of trade outs and compromises and being having the two under the same rules, I think place us real unique advantage in the long-term.

And then when you have the projector and the receiver you need to have a algorithm chip to put all this together and to generate your 3D image and for that, we can provide our in-house algorithm and we can also accommodate customers’ demands. Some of them may prefer to use their own algorithms.

We are also working with world-leading AP platform players to calibrate with the algorithm. So we offer multiple solutions. So, again, our strength is the total solution and all come from home grown technologies.

Now with very selected customers, I am talking about customers who are really top-tier and who – ones who have their own integrated solution, ones who have their own algorithm, we say, okay, you can pick and choose our video technologies we are also supporting.

But, I would say – I would not say, we will offer the same support to any average customers. Now, I think, the total solution approach, I think our talking with few selected customers is to launch a end-product for the next year. We saw customers requesting our individual technologies. Some of them may see a fuller launch even earlier.

And obviously, I cannot disclose much more than that evolving customer specifics. But I think, again, the short answer is that, we are very excited. We are very confident and I think we are indeed in a very unique position. We are indeed in – we are in the leading edge. .

Great. Thank you very much. .

Thank you, Tom..

Thank you. Our next question comes from Tristan Gerra with R.W. Baird. You may begin..

Hi, first question, could you talk about the ASP changes for your large and also small driver IC annual business sequentially?.

Tristan, we are seeing the large driver ASP decreasing about 2.3% quarter-over-quarter and about double-digits year-over-year and for small medium, we are looking at about 5% price decrease quarter-over-quarter and about 2.5% year-over-year. Yes, both, we are recently seeing that stabilizing because the driver IC is moving to higher resolutions. .

Great, that’s useful.

And then, how many customers do you think are going to ship your TDDI solution this year? And what type of revenue should we expect from TDDI in the second half of this year?.

I think there will be – I mean, multiple customers they are multiple design wins. However, how many of them, who were actually taking their products into the market within this year, I think I cannot tell for certain, maybe as we get into next quarter we will be able to offer more clarity. And I think total revenue maybe $20 million for us.

Although, again, this is going to be early-stage revenue for us. So the degree also will be slightly higher, maybe much better than this and maybe misses slightly we will see. .

Okay, and then on the 3D sensing solution where you are making large investments and it sounds like you have – you see good potential for customer diversification next year.

Are there any other solutions out there that are not vertically integrated, meaning that, any smartphone – China smartphone we end up once to use 3D sensing, where obviously can they go except using a Himax solution given that some of the Tier-1 OEMs in smartphones have their own solution? I just wanted to kind of get a sense of the competitive landscape from an IT standpoint in 3D sensing?.

I will be reluctant to comment specifically our potential customers although I – we feel very confident. We are the – we enjoy a very good leadership position right now. However, I thought I can comment on this is a type of technology that in theory can provide 3D sensing.

Our technology, our focus technology is something called structure light and there is a second type of technology call ToF or time of flight and then there is a third type called stereoscopic, basically using the old camera.

I think the industry is quickly catching a consensus that structured light is going to win – it’s going to be the eventual winner. From the overall perspective of performance causing power consumption and size. Now, if I compare structured light, we see – now all these technologies are not new.

They are actually already applied but they are applied for industrial applications. Our contribution – our major contribution is to transform such technology into a solution suitable for smartphone and I don’t need to tell you the smartphone is the biggest market ever. So, this is a holy grid.

So, none of them actually has fundamental patents because we are already in existence for quite a while, but they are being applying in industrial applications.

Now, in comparison to TOS structured light offers much better, much higher resolution with the potential for even higher resolution, meaning we can offer a resolution roadmap similar to what you have seen over the last few years with your cameras, CMOS image sensors, starting from VGA, and 3 megapixels, 5 megapixels, now you are talking about 13 even 20 megapixels.

People are hungry for resolution and once they have something. And we believe 3D sensing will be the fence. Now with TOS, because it’s limited by its pixel size. TOS pixel size is large and physic – in terms of physics it’s very, very difficult to shrink.

So, structured light offers much better resolution today and much better resolution roadmap tomorrow. I think I that is the major advantage.

Now with stereoscopic, the major problem is that, we cannot really operate properly without proper visible light, meaning when you don’t have visible light or you have very low light, then you probably need additional illumination to make it happen.

But that is actually additional cost because you are already talking about two very expensive sensors and now you have additional illumination and that makes the whole thing rather costly and also calibration and assembly are triangular to have high precision alignment of the two lenses is very tricky.

So, I think for these reasons, most people believe structured light will be the ultimate winner and that is why most people have come to us and they are already on day one basing on structured light technology. .

That’s very useful. Thank you..

Thank you..

Thank you. Our next question comes from Jaeson Schmidt with Lake Street Capital. You may begin. .

Hey guys. Thanks for taking my questions. I just want to start on operating expenses.

I know they are going to be up significantly in Q2, but how should we think about OpEx ramping in the second half of this year?.

I think, again, we mentioned in our prepared remarks, if you look at – if you only look at the increase of R&D expenses, meaning now against the fourth, the incremental about half actually comes from – in the second quarter actually comes from WLO.

Now, this is hopefully, a one-off and it’s not going to continue into second half – or the future because, remember, I mentioned, actually starting with last quarter and repeated this quarter that we are trying to meet a urgent short-term demand, major demand for capacity from a certain customer for our WLO capacity and for that reason, we cannot even wait for new building to complete we have to retrofit our existing headquarters to make through for the equipment.

But now, it’s everything has been in a rush. So, in Q1 and very much in Q2, here in Q2, that additional capacity has incurred lot of expenses for us. When before we started to rent, meaning we start to get revenue from our customers. So, that includes installation of equipment, bring equipment we have to do a lot of experiments to improve our process.

We improved the product design. Lot of customer support activities as well, I mean, we even have to increase our analyst people, because we need to raise stock whereas to control the affirmation of the equipment, et cetera, et cetera. So, once we start to moving to mass production hopefully, a lot of such pre-run activities were diminished.

I will not say you’ll build up with zero, but you will be much less – in the mean time, our mass production will bring revenue as opposed to Q2 wherein there is literally no revenue. Right, so that is the major hit. I am not saying WLO in the future we will decrease our R&D actually on the country. I think we are committed to be in the leading edge.

So, our total solutions, 3D scanning et cetera, I don’t want to repeat that again, but, that’s one-time rather expensive for our pre-year end expense. During Q2 it will be gone. Then , we also talk about 30% going to TDDI, that is in preparation for our customer – end-customer designs for TDDI solution.

For TDDI, we have two layers of customers, direct customers being the panel makers and indirect customer being the smartphone makers. The end-customer maker will need to send – not just us, everybody, to sent - sent a sizable team to support their fine tuning of their touch features with their smartphone. So, this is a new business to us.

So we – over the last – almost it’s one year also, we have been increasing our team size, not just on R&D, but also in our whole ecosystem engineers, a lot of customer support. So that is about 20% and 20% it goes to our panel controller for high end TV and structured light, algorithm and developing new chips and so on.

Right, so, about half of such increased R&D expenses are here to stay for long time and but another half during the second half is a one-off temporary thing. Although, I emphasize that we will – I think our R&D spending will likely continue to rise, not directly from Q2 level, but as opposed to historical levels. .

Okay, and then, just last one for me. I know you talked a lot about the 3D scanning opportunity.

I know, it remains early, but can you help us understand kind of the size of the customer engagement pipeline at this point?.

There are so many quite a few top names, but we have limited bandwidth, so we cannot cover everybody who have come to us, but we cover quite a few top names. And our goal for this year up to about first quarter or first half of next year is to lock down such top-tier customers.

Some of them again request our total solution and some of them only needs individual technologies. But regard we are now dealing with almost exclusively only top names. So we do have quite a few of them.

And our goal is to lock down such customers and really support them and fine tune our sales get our sales ready for the first phase of rent and if we can achieve that, then I think going forward, the future will look very, very interesting for us, because the top-tier hopefully will continue to be our customer for next-generation and second-tier customers will come to us because of experience.

So I think, this is not a time to rest and that is we have to continue to commit our R&D expenses. It is very critical moment. .

Okay, thanks a lot..

Thank you, Jaeson..

Thank you. [Operator Instructions] Our next question comes from Charlie Chan with Morgan Stanley. You may begin..

Hi, Jordan. Hi, Jackie. Thanks for your business update. So, for the 3D sensing, do you expect any revenue contribution in third quarter, because it seems like you run further capacity in 3Q.

I am not sure you take a mid key smartphone product launch in this fall?.

Kind of comment on that is, if I – still you’ll be too customer-specific. So, can’t comment on that. .

Okay, okay, within your non-driver IC business outlook in the second half, what product lines that you think has the biggest upside? You mentioned several products like 3D sensing, touch controllers, CIS, cell phones, and that we should try to see get that momentum in the second half?.

No, we believe CMOS in sensor, right now look very encouraging. We expect that to grow double-digit in the second quarter. While others may stay flat, because there are many product areas where the customer is experiencing the redesigning of the product. .

Okay, okay, I see.

So, again, so, for the structured light deal, components, what are the test order do you see…or WLO?.

Your question was about the growth areas for second half and – you will see us and certainly also WLO out of our new and temporary investment which we mentioned will start bring new agreements product in two divisions in second half. So that is WLO also. .

Okay, okay. Thanks.

And my next question is regarding your recent announced acquisition with a emerging – so when will you incorporate that technology to your technology?.

As far as we can tell, right now, but this is so new, our view may change. But as far as we can tell right now, our early type of market will be stuff like the home security – home like people count in or industrial people, people count industrial, commercial people counted, such applications.

We just announced the investment which announcement will hopefully within a year’s time. These two fueled acquisitions. So we have started to opt for it as if this is one team rather than two. But it’s going to take some time for the integration of the two teams and also for the creation of our joint offering.

But, we have done some road shows and we have attended some trade shows. The approach and the technology potential we offered the response from customers, primarily in – again in IOT home security, surveillance type of applications have been overwhelming. I will have few – if you ever ask this later, because this is really early stage.

We only made the announcement about a month or two ago. So, we are going through a lot of team integration and product and technology integration. But in the mean time, we are talking to customers. We are trying to decide which horses to bet on first. But, I am sure we will be able to report more clarity and better progress update in due course. .

Sure, sure. That’s fair enough.

So, that – Jackie, if we may – can we get your full year financial projection on top-line gross margins? Do you have a full year financial projection that can you share with us?.

We don’t actually provide annual projections, Charlie, I think, specifically we have emphasized a couple of product areas that we will see growth in the second half of the year and specifically in the fourth quarter and certainly, second half will be better than the first half. So let’s keep it that way, yes. .

Okay, okay. .

These things are new. So, I mean the degree of uncertainty is higher and – but, I mean, bear in mind, this is the year of investment for quite a few things which I believe we are pretty focused through..

Okay, okay, thank you..

Thank you, Charlie. .

Thank you. Our next question comes from Donnie Teng with Nomura. You may begin..

Hi, CEO and CFO. My first question is regarding to the CapEx. So the CapEx this time your announcement is that, you are going to spend $80 million. But I remember, during the last earnings call, you mentioned that it’s including IC design business, the overall CapEx this year could be $80 million to $89 million.

So, I am wondering why there is differences between this time and last time?.

Actually, $80 million is for – is on top of our ongoing CapEx and maybe this year, CapEx is 10 plus million only. So if you add that on, I think it’s consistent with our previous announcement. .

Okay, got it. Great, and my second question is regarding your TOE project, because in early days, there are rumors that you are facing some competition.

So there is some ASP pressure, but as you mentioned that your product is quite unique, so, may I say, if there is really any ASP pressure that could be due to your inexperience to engaging with customer or maybe it is a very new product? So, the price may be adjusted from time-to-time?.

I really can’t comment on rumors. If anything I would say, right now, I will not call it TOE, because, I will talk about WLO which in the case, it was new addition of capacity and we said you will bring up – bring in our revenue and profit contribution in the second half. But, WLO can make things in addition to TOE, net of TOE.

And right now, I mean, our discussion with our customers are – I would say 99% on technology how to bring in up rather than price. So, I mean, I don’t know where the rumor comes from, but – and I can’t comment on that piece of rumor. But on the other hand, I would say, you are absolutely right in saying that it’s in so early stage.

People should be focusing on technology rather than cost and that is indeed true. .

Got it.

And my last follow-up question is for – how do you think about the yield range of the WLO project right now? And do you still see this project to have a higher than corporate average gross margin?.

Gross margin, definitely yes. You are right, it’s confidential, I cannot comment, but I would say, this is our strength because of the past experience we have worked with quite a few top-tier extremely demanding customers with some of them, we actually work together. We learned a few tricks from them as well how to further yield together.

How to get the product manufacturing right, how to get the cost right. So, I would say, actually many people come to us because of exact – experience. As far as that is statistically how much we have achieved our yield, I really can’t comment. It’s top confidential for us..

Got it. But I guess, probably it is on schedule or it improve well..

Definitely..

Can I say that?.

Yes. .

Okay, got it. Thank you so much. .

Thank you. .

Thank you. Our next question comes from Jerry Su with Credit Suisse. You may begin. .

Hi, Jordan and Jackie. My first question is on the WLO. I think you mentioned that you are targeting to ramp up mass production bump this quarter.

Just wondering, could you give us a little bit more detail equipment installation and also qualification? What gives you the confidence that you can now ramp up for the quarter?.

I mean, certainly, I mean there are customer demands, that’s why we have to rush in this CapEx and equipment bring up. So they are real customers and they are real requests and they are real timetables and I can only say that everything so far is going smoothly and is very much in line with our target timetable and our customers’ target timetable.

But, this is so customer-specific. I really can’t comment on that. Once we achieve, once we pass the quarter, we are reporting the financial results, but at this stage, I really can’t say much beyond this. But it’s all been planned and we are going smoothly the timetable of the target. That’s all I can say. .

Okay, but what will be the risk for this business, if it’s not ramped up in the quarter?.

The reason is simple, whatever reason that we cannot – or our customer cannot take into mass production, I can’t see any right now, but this is –it’s not taking off, but we are focusing on bringing it up right now..

Okay. The next question on the driver IC side, I think you have mentioned that, or if you look at your Q1 outlook, Q2 guidance, drive IC business seems to be doing a little bit weaker than the industry of your peers.

But you have mentioned that you have for the large and small medium size, probably you can have more of recovery from second half in 2018.

So could you share a little bit about what gives you sort of confidence that the driver IC business will recover in the next – if it could happen in 2018?.

I think, starting from the easier parts, the automotive sector, I think we remain sure and even in Q1 and Q2. So, it will continue to be strong. So, there is not much to talk about there.

In large panel, as we mentioned, we were – our business in Q2 for large panel and even potentially in Q3, will be affected by certainties I envisage with our customers and we admit that, because this is business and I evolve certain engineering hiccups I would say. I cannot elaborate much more than that.

But I think, the problem has been solved through cost being – and the most important thing is, our new design have won us a few major wins right now or the last month or two. We will see mass production starting from Q4.

So, I think we have in our prepared remarks mentioned that Q3 for large panel is likely to remain weak because, again of such – designed in the past.

But I think if you look at – if you look slightly longer in terms of rise, China is still expanding its capacity like big time, right, up to – I just did my math up to 2019, now if you talk of ten new fabs, including two within this year to be brought up in China, mostly by Chinese companies, but some by non-Chinese companies.

Out of the ten, about, I think six are gen 8.5 or 8.6 and as another four are even bigger fabs, 10, 10.5 or 11.

Right, so, the capacity is still increasing and I think the market will solve the additional capacity because people would appreciate having a bigger screen TV and starting I think as early as Tokyo Olympics IHTV is likely to start to take off. I think it will be another catalyst for high end TV demand.

So, our relationships with the customers, our technology, I think our position remains intact. Even right now, I think our – this year, you see it somewhere around 20%-ish. So it’s not like, we are disappearing from the competition.

We remain very strong, but just unfortunately, these two quarters we are not doing that probably – it’s not doing that as where if we should. On the – so China’s expansion, I think we will be the major beneficiary, because even now, we remain number one among share leader in China. Number one or at least top two, among the share leader in China.

In smartphone, I think, our current business, short-term business is affected. We talk about China’s inventory adjustment, the market being very slow et cetera. I think you guys know about this very well.

I think, also very unique to our business is that AMOLED penetration, AMOLED, as we know is that’s why – that’s a more exclusive detail I said, so and sensor is built in their in-house driver IC.

So, AMOLED is now calling for almost some 20% of our total smartphone market and if you add TDDI, and I mean, we are admittedly, we are still planning catch up but we mentioned, we start revenue in Q3 and more meaningful contributions starting from Q4 and hopefully rather significantly next year. But, right now, we are very little.

So, but, 3D, accounts for another almost – about 15%-ish, 15%-ish probably a conservative estimate. So if you put the two together, it’s more than one-third of the accessible market for us. So, if you take that factor into consideration, then you take into account the fact that the whole market is slow.

I mean, that kind of explains our less than satisfactory smartphone performance right now. I think the bottom-line is, we have two – getting to TDDI and thereafter AMOLED soon. And we are very confident we will. We have provided good samples. Our samples are being qualified or have been qualified and we are already engaging end-user customers and so on.

So, we believe we were – in the long-term, in the near-term in fact, become one of the market leaders. But certainly, that is the single most important thing we need to focus on for smartphones, driver ICs right now and we are very focusing on this. .

Okay. Thank you. Thank you, Jordan..

Thank you, Jerry..

Thank you. I am showing no further questions at this time. I’d like to turn the call back over to Jordan Wu for closing remarks. .

As a final note, Jackie Chang, our CFO, will maintain investor marketing activities and attend future investor conferences. So we will announce the details as they come about. So please contact our IR department and/or Greg Falesnik, if you are interested in speaking with the management. Thank you and have a nice day..

Ladies and gentlemen, this concludes today's conference. Thanks for your participation. Have a wonderful day..