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TomTom N.V. (OTCPK:TMOAF) Q1 2020 Results Earnings Conference Call April 15, 2020 8:00 AM ET

Company Participants

Claudia Janssen – Head, IR

Harold Goddijn – CEO

Taco Titulaer – CFO

Conference Call Participants

François-Xavier Bouvignies – UBS

Marc Hesselink – ING

Wim Gille – ABN AMRO

Operator

Good day, ladies and gentlemen. Welcome to TomTom’s First Quarter 2020 Earnings Conference Call. At this time, all participants are in a listen-only mode. We will be facilitating a Q&A session towards end of today’s prepared remarks [Operator Instructions]. Please note that this conference is being recorded.

I’ll now turn the call over to your host today — for today’s conference, Claudia Janssen, Head of Investor Relations. You may begin. Thank you.

Claudia Janssen

Thank you, operator. Good afternoon and welcome to our conference call during which we will discuss our operational and financial highlights for the first quarter of 2020. With me today are Harold Goddijn, our CEO; and Taco Titulaer, our CFO. We will start today’s call with Harold, who will discuss the key operational developments, followed by a more detailed look at the financial results from Taco. We will then take your questions. As usual, I would like to point out the Safe Harbor applies. And with that, Harold I would like to hand over to you.

Harold Goddijn

Thank you very much Claudia. Welcome gentlemen and thank you for joining us today. The start of 2020 has brought unprecedented times for all. COVID-19 has impacted how and where we work but has not changed the focus of our company. Taco will provide further information on financial highlights later during his presentation and I will now discuss our response to the pandemic and our key operational highlights for the quarter.

The COVID-19 impacts our Automotive and Consumer revenue, but we do not expect a material impact on our Enterprise business. Automotive revenue arises principally from vehicle sales, and they are sharply impacted by factory closures. Consumer revenue is impacted by steep decline in demand, and that is caused by a combination of closed retail stores, retail reducing inventory, people not driving. Recovery will depend on how quickly economic normality is restored, including vehicle production and end-user demand, which is currently uncertain.

Given the nature of our business, nearly all our employees can perform their work from home. With health and safety of our employees and partners as our highest priority, we acted fast to enable remote working, and that has enabled us to sustain our engineering development activities and customer service levels.

Our employees have responded well to this situation. We are maintaining productivity and we are fulfilling customer commitments.

The year has started well for Automotive and Enterprise orders, including new business, expansions of — and extensions of existing contracts. We believe that our investments to improve our location technology products are delivering to plan. Because of our strong debt-free balance sheet, we have the resilience to maintain our course, despite the current uncertainties. We are of course carefully looking at our cost base and avoiding expenses where possible.

In the next slide, I want to give you a short overview of operational highlights for 2020. As I mentioned, we’re excited of the progress we’ve made in both the new deals and expanding on existing partnerships. One of the deals we did announce today is for our Maps API business in an expanded collaboration with Verizon. Verizon is integrating our Maps APIs and SDKs in location service offerings, and that powers a broad range of applications and a substantial developer community.

Related to our automated driving activities, we announced earlier in the quarter a successful demonstration of fast high definition map-building methods in a joint effort with Toyota and DENSO. At the outbreak of the pandemic, we opened up our traffic reports and APIs to governments, researchers, financial analysts and journalists to better understand the effects of the lockdowns in the various geographies. The data were widely used and reported on.

This concludes my part of the presentation. I’m now handing over to Taco.

Taco Titulaer

Thank you, Harold. Let me make a couple of comments on the financials and outlook and then we will go to the Q&A. In the first quarter of 2020 we reported Group revenue of €131 million, which is 23% lower compared with last year. The lower Group revenue is mainly due to the impact of COVID-19 and the anticipated decline in Consumer. Location Technology business, which represents roughly 70% of our Group revenue, decreased 11% on year-on-year to €91 million.

Let me go through the details one-by-one. Automotive reported revenue was down by 24% to €50 million in the quarter and operational revenue was down by 2% to €85 million. The year-on-year reported revenue decline is as a result of higher deferral rates in the quarter in combination with lower operational revenue following factory closures.

For some automotive customers, revenue is recognized over time based on the estimated total contract value, which has decreased based on the anticipated impact of COVID. This has led to higher deferral rates.

Enterprise revenue was up by 10% to €42 million in the quarter reflecting increased revenue from new and existing customers. Consumer revenue was down by 40% to €40 million in the quarter. Retail closures and factory closures during March accelerated the anticipated decline in Consumer reflected by declines in both consumer products as well as automotive hardware revenue.

Gross margin was strong at 78% during the quarter, an increase of 6 percentage points year-on-year, a result of larger proportion of higher margin software and content revenue versus hardware in our revenue mix.

Total operating expenses in the quarter was €180 million, an increase of €46 million compared to the same quarter last year. Of this increase, €40 million related to the increased amortization expense resulting from the change in the estimated useful life of our map database implemented from Q2 2019.

The free cash flow from continuing operations was an inflow of €14 million in the quarter. The inflow is driven mainly by cash inflow form a stronger collection of receivables during the quarter combined with a lower payout of variable employee expenses compared to last year. Our deferred revenue position is now to €395 million compared with €369 million at the end of 2019.

Automotive deferred revenue increased by €37 million. Releases in both Enterprise and Consumer partly offset this increase. The deferred revenue balance in Automotive is now at €315 million. At the end of the first quarter 2020 we reported a net cash position of €432 million. The share buyback program announced at the end of 2019 began in the beginning of March. And as a precautionary measure, in the current economic environment, this program was suspended at the end of March until further notice. By that date, we have purchased approximately 2 million shares for an amount of €17 million.

I would now like to comment on the outlook.

As previously communicated, given the uncertainty in the market, we have withdrawn our full year 2020 guidance. Automotive and Consumer revenue were both negatively impacted in the first quarter and we expect this trend will worsen in the second quarter. We plan to continue executing our long-term strategy and associated R&D activities, plus we will take strong measures in the SG&A area.

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Overall, we expect that 2020 free cash flow will be negative. We will provide updated guidance when we can reliably estimate the duration and consequences of the current situation. With our Q4 press release we reiterated our mid-term guidance for our Location Technology revenue and our free cash flow. At this point, it is too early to make amendments to this mid-term guidance.

Operator, we would now like to start with Q&A session.

Question-and-Answer Session

Operator

[Operator Instructions]. And we have a couple of questions that came through, sir. And we’ll now take our first question. This comes from the line of François Bouvignies. Your line is now open. Please go ahead and ask your question.

François-Xavier Bouvignies

And I have a couple and maybe one for Harold and one for Taco. The first one for Harold is, you mentioned in the release and your remarks as well that you had a good start of the year in terms of orders. So, I just wanted to know what kind of products you’re talking about. I mean do you think you’re gaining shares? Just to get more color around this kind of good start of the year would be very helpful. That’s my first question.

Harold Goddijn

Yes, François, thank you very much. Yes, we’ve seen substantial interest in our new navigation products for the automotive industry. So, traditionally we serve — our technology was mostly embedded. We’re in the process of moving all of our services online for online delivery, for connected vehicles; but importantly, also with an offline [full back] facility. That technology is maturing nicely. And we found traction in the market for those products. And that has resulted in some deals in the first quarter of this year. And that is — we’re very happy about that and it’s a confirmation that we are on the right track with our product development roadmap.

That’s not just in Automotive. We’re also seeing some activity in Enterprise business as well. I think the importance of the Verizon deal is not to be underestimated. It’s a breakthrough deal for us. Verizon has been a customer but they’re now taking our APIs instead of uncompiled map content. I think that’s an important one as well. And we see further traction for our APIs Enterprise business especially on the West Coast. So we’re very encouraged by that as well.

All that in combination with long-term strategic account, traction again in Automotive, take up all of our new technology products that will be ready somewhere next year before which we are rising orders already, gives us all the confidence that we need to continue our investments in the areas that are — we — that we think are strategic.

Now, the COVID situation, of course, is a tough one because we don’t know how long it’s going to take and how long it will take to fully recover from the current — from the levels of business that we’ve seen before the pandemic. But the underlying business is solid and sound. And that has made us also decide to keep going where we’re going, avoid costs where we can, but not compromise our ability to deliver against the product roadmap and our strategic priorities.

François-Xavier Bouvignies

That’s very helpful. Just follow up on that before asking Taco my second question is, in terms of Enterprise, I mean it’s always very difficult to model like as a long-term. It seems that in the last few years, you have been successful with Microsoft and Verizon and a couple of new deals. My question is what changed in the last two years after this acceleration of these within Enterprise? What makes you more — getting more deals in your view?

Harold Goddijn

Well it’s a number of things. They’re partly commercial. I think we’ve good partners. We work well with our partners, collaborative, commit to — I think that’s an important part of the success. But I think fundamentally, it’s the underlying technology that gives our customers the confidence that they’re choosing the right partner. Those are important deals, they’re lasting for a long time, technology switch. So you need to deal with partners that are transparent and reliable but are also deploying modern software technology principles and have a kind of a modern stack. And I think our map making platform is one of the things where we have a lead that inspires confidence. There’s real end user benefit from that we’re getting as well. You add it all up, and we are successfully expanding our business both in America and in the — and globally in the automotive industry.

François-Xavier Bouvignies

And within Automotive, I mean do you think you’re gaining market share? And …

Harold Goddijn

Yes. Yes.

François-Xavier Bouvignies

Okay. And HD Maps, any, any …?

Harold Goddijn

Yes, HD Maps, it just keeps going and we keep working. And we announced that — some R&D work with Toyota and DENSO where we do online all the spot immediate map making based on video and cameras on border of car. So very, very cool stuff that’s happening and where we are maturing pipeline and so on and so forth. But the introduction of fully automated cars has been pushed further out. So the applications that car makers are looking for now are closer to more an increment of what we’re already doing with cruise control and lane guidance and those kind of things where HD Maps will start playing a role. But the fully automated driving car is now taking longer than we all had hoped. But the business for HD Maps will continue to develop gradually over the next two, three, four years.

François-Xavier Bouvignies

Thank you, Harold. And maybe Taco quickly on the free cash flow guidance that you gave, I mean just as you’re going to be negative in 2020, I understand there is a lot of uncertainty and I yes totally understand. Could you run through the different scenarios that you may experience in 2020? So without giving like a clear target, just to help us run through the drivers of the free cash flow for 2020 would be great. Thank you.

Taco Titulaer

Yes. So as Harold already explained is that the Enterprise revenue is relatively not affected by COVID. For Consumer, it is different, because it does relate to end user demand, people driving less and not going on a holiday or less than normally. And the retail closure is also limiting the accessibility of our products. For Automotive, there’s a direct correlation between factory closures. The royalty reports that we receive are coming from the factory. So when cars are being shipped out of the factory, the OEMs report those royalties to us. And yes, in a period where factories are closed, our revenue stops. And if factories are producing on lower capacity, our revenue is lower. So the modeling for automotive is directly correlated based on the number of weeks that these factories are closed or not operating at full capacity. Yes, that’s all I can say about it and we can — you can move every single scenario you like, obviously. But we — yes, we are hopeful that during Q2 we see an uplift again in the automotive production volumes.

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François-Xavier Bouvignies

And any range you could give for free cash flow, like a range even if it’s wide, could you provide that or…?

Taco Titulaer

I don’t want to go there at this point, no.

François-Xavier Bouvignies

But should we expect for example Q2 to have a big negative in Q2 and then unknown later or you’re going to be more like unknown through the year, but not necessarily bad in Q2, if you understand where I’m going?

Taco Titulaer

Well Q2, we’ll see negative cash flow and Q4 we will probably see a positive cash flow, and yes, Q3 is a bit of a question mark.

François-Xavier Bouvignies

You said Q2 negative, right? Sorry I didn’t get.

Harold Goddijn

Q2 is negative.

Taco Titulaer

Yes.

Operator

Thank you. And we will now take our next question and this comes from the line of Marc Hesselink. Your line is now open. Please go ahead and ask your question.

Marc Hesselink

Firstly, I’d like to come back on that strong order intake or the strong momentum that you’ve seen since the start of the year. On the other hand, you also have the negative effect of where you have to adjust your backlog a little bit, because of the lower car produce. Could you indicate what currently is stronger? Is your backlog still growing since the beginning of the year or is it in decline at the moment?

Harold Goddijn

Sorry, I didn’t get your question. Could you repeat that please?

Marc Hesselink

Yes. So, if I’m correct there are two things driving the backlog. One is actually the order intake which you already elaborated on that that’s pretty strong. There was also a negative effect on the backdrop if I’m correct. Because there are lower volumes at the moment. You also have to decrease the expectations of car produced in the future. What is a stronger trend at the moment for you?

Harold Goddijn

The former.

Taco Titulaer

Yes, so growing …

Harold Goddijn

The order intake is a lot bigger than the reassessment of the current order.

Marc Hesselink

And the big push now is the new contracts or the expansion of the contracts or the extension of the contract, which of those?

Taco Titulaer

All of the above.

Harold Goddijn

Yes. So order intake is strong, that leads to a growing backlog order book.

Taco Titulaer

So, if you look at the backlog, there are three elements. One, if you look at the delta of the backlog, there are three elements. One is the reported revenue in the period, now that was quite moved. And then you have the reassessment of the future revenues and then you have new order intake. Now the loss on the new order intake is by far a bit.

Marc Hesselink

Okay, that’s clear. Then on Automotive operational revenue to get a little bit of a feel on — to help us with our own modeling, what is the run rate, what numbers post-COVID and pre-COVID? Are we down like 50% or what kind of magnitude should we think at the moment?

Taco Titulaer

For Automotive?

Marc Hesselink

Yes, for operational revenue in Automotive.

Harold Goddijn

Well, the way to think about this operational revenue is that when factories are closing down, the whole thing stops. So, all car factories or nearly all car factories that are producing cars with our software and content stopped producing cars in March, at some point in March. And that has a direct impact on our billings. When — so there’s now a talk that car factories will start producing again, albeit at a lower level. We’ve seen news from Renault, a couple of other car makers who are either preparing to bring their machines and their production lines online or are committed to do so already. So, we expect that manufacturing will start, in April even, as some factories that in May it will continue. We don’t expect those factories to run at full capacity but they will slowly ramp up their capacity. We don’t know to what extent the whole supply chain is affected, it’s not just our components that go in but also a lot of other manufacturers need to bring their supply chain online. So there will be a gradual restart of production capacity. Once that is at full capacity, then we need to look at the end user demand effects that come into place and those are harder to predict. And what the economy look like in 2021 of course is still all defining question.

So from a financial perspective, 2020 will not be good. Let’s face it and it is impossible to call as a good year. But on product development, on order intake, long-term outlook, we still believe that we can produce a good year from that perspective and we’re fully in position to pick it up in 2021 when we hope everything is back to normal. But what the state of the overall economy will do to car demand is of course the $1 billion question that we cannot answer at this stage.

Marc Hesselink

And final question just, and the part that actually you have potential is on Enterprise and it seems to have a good start of the year and nice contract wieth Verizon. What kind of growth rate, a rough number should we think for the full year?

Harold Goddijn

Well I think the revenue that we report in Q1 was a good indicator for the further course in the year. So it’s quite stable sequentially as well. And year-over-year we see a bit of increase compared to the increase that we saw also Q1-Q1. So €41 million in Q1 that is the run rate and maybe at the end of the year we are a couple million higher but it will be — it will start with a [4 million].

Operator

Thank you. And we will now take our next question and this comes from the line of Wim Gille. Your line is now open. Please go ahead and ask your question.

Wim Gille

Yes, thank you very much. Sorry if I ask questions that have been asked before, but my line got cut off a few times already during in the call. First of all on the contract with OEMs, you’re referring to new — or contract extensions but more importantly also new deals with both new applications as well as new clients i.e. new OEMs. Can you give us a bit more granularity on where you have been winning these contracts without naming the actual client obviously but can you give us a bit of feeling on what type of product, is it mainly the new software applications that you’ve launched earlier in the year, or is it maps, is it traffic, Europe versus U.S., that we have a bit more feeling on what is actually — which corners you’re actually winning at this point in time?

Secondly is on Enterprise. Obviously, a lot of questions already about the growth, but indeed it appears that you’ve passed the inflection point here, growing double-digit rates in Q1 already coming from a strong or a high base. So what’s been driving this growth? Is it the Verizon or some other kind of new deals or is it existing clients that do more work? Is it uncompiled maps or is it Map APIs and maybe on the map API? I’ve got a few follow-up questions but let’s start with these two questions.

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Harold Goddijn

Yes, Wim, thank you very much. Yes, difficult to give you a lot of detail, but I think the most important thing for us and I think for TomTom is that we see significant deal flow now on the new technology. And that is we referred to earlier in the Q&A session. So we have — in fact we have two type of customers. We’ve those customers who’re kind of pulling us ahead in terms of our technology and then we have a more conservative automotive customer base with embedded applications, broad variety, little standardization, and generally speaking, high cost to serve per contract.

Now what we see now with the new technologies is car makers are moving online as well. They have now kind of come to the view that it’s harder and harder to deliver a good end user experience if you’re only running embedded software. So we’ve initiated the change more than a year ago. It’s time that we switch gear and put all of our efforts on online delivery of our products. And that is — that was in time. We are now sufficiently developed enough in our products that we’re winning significant deals on that technology.

Longer term, this is very important because the cost to serve will go down. We get more uniformity in our product offering. The difference in what we need to build for Maps APIs and automotive applications will get narrower. There were more commonality in our APIs and our product offering. And that prepares us for more engineering and software driven approach to innovation. And with less variety, more uniformity, and generally speaking, better products.

And the fact that we won those contracts in the beginning of the year, so that online delivery of our portfolio is very encouraging because it will prepare the way for better products, more mature, better user experience, lower cost to develop more benefit of scale we have in Automotive and Enterprise, will come through as a result of that. So we’re very happy that we have those early proof points, we believe that we will help other OEMs to follow the same trajectory. And as a result we’ll be looking at a business that will be simpler. And with a more uniform portfolio going forward.

Wim Gille

Does it also make you more effective in basically competing against Google in this particular case?

Harold Goddijn

Absolutely, absolutely. That we started that development was — not on our — if you recall, that was a direct reaction to developments in the market. OEMs had to follow through as well, they’ve long been preventing us from delivering our personal line because of cost. They now accept that that’s no longer a strategy they can stick to and need to follow the mainstream in order to satisfy their end customer with the experiences that are compatible to what you get on a mobile phone. Now we started that development, it is taken up — there’s good proof points that it’s all working. And now we also have the commercial proof points that car makers are coming to us for online products as well.

Wim Gille

Then maybe on APIs and Enterprise. At the Capital Markets Day, you already alluded to the fact that API is kind of the let’s say future revenue stream for Enterprise, at least it’s a new area for you guys during the Capital Markets Day. The revenue generated from that APIs are still relatively limited compared to the revenues you’re generating on uncomplied maps. So can you give us a bit of feeling where you are now in that transition, when can we expect Map APIs to have a meaningful revenue stream. Again, maybe share some data points, how many Map API calls do you get on a monthly basis and at which rate it is growing?

Harold Goddijn

Yes, so the — I think we’re doing very well in the Enterprise business. And there’s proof for that with the deals that we did with Microsoft of course, who are using our APIs for their location technology products. The new contract with Verizon is another proof point. There’s a long way to go, especially in the independent developer route that’s where we’re lacking strength. We need to improve there. That’s one of the areas that we have on our to do list, is to also make forward offerings that are compelling for the independent developer community. We have a little bit of traction there. That’s clearly an area where we can and will improve.

Wim Gille

And then maybe on — lastly the widely publicized [Huawei] contract. Basically, developers on the Harmony OS platform can actually show APIs now. Do you see any distraction on the developer community on that particular platform?

Harold Goddijn

I cannot answer the question. I need to refer that to Huawei to answer that. It is commercially sensitive. So I’m not in a position to answer that to you.

Wim Gille

Alright. Understand. And then maybe lastly, with respect to HD Maps, is there any indication or do you have any feeling on whether or not this crisis which obviously is leaving deep scars in the automotive industry, if this crisis will have an impact on the OEMs roadmap towards autonomous driving, and in a similar fashion, will it impact the roadmap for HD Maps? And can you just remind us on kind of when the first, let’s say, level 2 vehicles will come to the market in generating meaningful revenue streams on the HD Maps side?

Harold Goddijn

Well, I think you can’t underestimate what happened to the car industry at this stage and fighting — for car makers to fight their way back out to position they hold they’re in at the moment is priority number one, two and three.There’s limited bandwidth now to think about the wider longer term strategic implications of what has happened. I think it will take some time before the dust is settled and then to analyze what the impacts are on the longer term roadmap and product development cycles for car makers. But it’s clear that this comes at a bad moment when there’s a lower transition going on already in the car industry and this is not helping.

We can only hope that production will resume relatively quickly. I think there are indications that, that will happen. It will take a couple of weeks, maybe months for the whole supply chain to get adjusted to the new normal. But then we will start to get visibility on end user demand and there’s more longer term strategic implications. I think it’s a bit too early to call at this stage.

Operator

Thank you. And no further questions obtained at this time. You may continue.

Claudia Janssen

Since there are no further questions, I would like to thank you all for joining us this afternoon. Operator, you can close the call.

Operator

Yes, ma’am, thank you. That concludes our conference for today. Thank you all for participating. You may now disconnect.