Adeia Inc. 10-Q

Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations The following discussion is intended to promote understanding of the results of operations and financial condition and should be read in conjunction with our condensed consolidated financial statements and notes thereto, and with our audited financial statements and notes thereto for the year ended December 31, 2023 found in the Form 10-K filed by us on February 23, 2023 (the “Form 10-K”). This section of this Form 10-Q generally discusses quarter over quarter comparisons of 2024 against 2023. This quarterly report on Form 10-Q (this “Quarterly Report”) contains “forward-looking statements” within the meaning of the federal securities laws, including Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended. These forward-looking statements are based on information available to the Company as of the date hereof, as well as the Company’s current expectations, assumptions, estimates and projections that involve risks and uncertainties. In this context, forward-looking statements often address expected future business, financial performance and financial condition, and often contain words such as “expect,” “anticipate,” “intend,” “plan,” “believe,” “could,” “seek,” “see,” “will,” “may,” “would,” “might,” “potentially,” “estimate,” “continue,” “target,” similar expressions or the negatives of these words or other comparable terminology that convey uncertainty of future events or outcomes. All forward-looking statements by their nature address matters that involve risks and uncertainties, many of which are beyond the Company’s control, and are not guarantees of future results. Forward-looking statements are subject to risks, uncertainties and assumptions that could cause actual results to differ materially from those expressed in any forward-looking statements. Accordingly, there are or will be important factors that could cause actual results to differ materially from those indicated in such statements and, therefore, you should not place undue reliance on any such statements and caution must be exercised in relying on forward-looking statements. Important risk factors that may cause such a difference include, but are not limited to: the Company’s ability to implement its business strategy; the Company’s ability to enter into new and renewal license agreements with customers on favorable terms; the Company’s ability to retain and hire key personnel; uncertainty as to the long-term value of the Company’s common stock; legislative, regulatory and economic developments affecting the Company’s business; general economic and market developments and conditions; the Company’s ability to grow and expand its patent portfolios; changes in technology and development of new technology in the industries in which the Company operates; the evolving legal, regulatory and tax regimes under which the Company operates; unforeseen liabilities and expenses; risks associated with the Company’s indebtedness; the Company’s ability to achieve the intended benefits of, and its ability to recognize the tax treatment of, the spin-off of its product business; unpredictability and severity of catastrophic events, including, but not limited to, acts of terrorism or outbreak of war or hostilities, natural disasters and future outbreaks or pandemics, each of which may have an adverse impact on the Company’s business, results of operations, and financial condition. Although forward-looking statements in this Quarterly Report reflect the good faith judgment of our management, such statements can only be based on facts and factors currently known by us. Consequently, forward-looking statements are inherently subject to risks, uncertainties, and changes in condition, significance, value and effect, including those discussed under the heading “Risk Factors” hereof and other documents we file from time to time with the Securities and Exchange Commission (the “SEC”), such as our annual reports on Form 10-K, our quarterly reports on Form 10-Q and our current reports on Form 8-K. Such risks, uncertainties and changes in condition, significance, value and effect could cause our actual results to differ materially from those expressed herein and in ways not readily foreseeable. Readers are urged not to place undue reliance on these forward-looking statements, which speak only as of the date of this Quarterly Report and are based on information currently and reasonably known to us. We undertake no obligation to revise or update any forward-looking statements in order to reflect any event or circumstance that may arise after the date of this Quarterly Report, other than as required by law. Readers are urged to carefully review and consider the various disclosures made in this Quarterly Report, which attempt to advise interested parties of the risks and factors that may affect our business, financial condition, results of operations and prospects. Business Overview On October 1, 2022, Adeia Inc. (formerly known as Xperi Holding Corporation) (“Adeia”, “we”) completed the previously announced separation (“the Separation”) of its product business into an independent, publicly-traded company, Xperi Inc. (“Xperi Inc.”). The Separation was structured as a spin-off, which was achieved through Adeia’s distribution of 100 percent of the outstanding shares of Xperi Inc.’s common stock to holders of Adeia’s common stock as of the close of business on the record date of September 21, 2022 (the “Record Date”). Each Adeia stockholder of record received four shares of Xperi Inc. common stock for every ten shares of Adeia common stock that it held on the Record Date. Following the Separation, Adeia retains no ownership interest in Xperi Inc., which is now listed under the ticker symbol “XPER” on the New York Stock Exchange. Effective at the open of business on October 3, 2022, Adeia’s shares of common stock, par value $0.001 per share, began trading on the Nasdaq Global Select Market under the new ticker symbol “ADEA”. 33 Following the Separation, we are a leading IP licensing platform in the consumer and entertainment space, with a diverse portfolio of media and semiconductor intellectual property and over 11,000 patents and patent applications worldwide. In order to serve an increasingly connected world, we invent, develop, and license fundamental innovations that enhance billions of devices and shape the way millions of people explore and experience entertainment. Through our IP licensing business, we help enable extraordinary experiences at home and on the go for millions of consumers around the world, with IP that helps elevate content and improves how audiences connect with it in a way that is more intelligent, immersive and personal. Through providing the IP that helps to power smart devices, entertainment experiences and more, we have created a unified ecosystem that reaches highly-engaged consumers and uncovered new business opportunities. Headquartered in Silicon Valley with more than 35 years of operating experience, we have approximately 135 employees, with substantially all of our employees located in the U.S. Macroeconomic Conditions The current macroeconomic environment, which has arisen in part from the effects of the COVID-19 pandemic, has had, and may continue to have, an adverse impact on our business. The impact to date has included periods of significant volatility in the markets we serve, in particular the broad consumer electronics market. The current macroeconomic environment has also caused challenges and delays in acquiring new customers and executing license renewals. These factors have negatively impacted our financial condition and results of operations, which may result in an impairment of our long-lived assets, including goodwill, and increased credit losses. Further, our operations and those of our customers have also been negatively impacted by certain trends arising out of the COVID-19 pandemic and macroeconomic conditions including labor market constraints, shortages of semiconductor components, decreased manufacturing capacities and delays in shipments, product development and product launches. Moreover, United States federal, state and foreign government policies have contributed to a rise of inflation that has increased, and may continue to increase, the cost of our operations and have had, and may continue to have, an adverse effect on demand for our customers’ products and services and in turn our licensing revenues, which has had and may continue to have an adverse effect on our financial performance. Although a significant portion of our revenue is derived from fixed-fee and minimum-guarantee arrangements from large, well-capitalized customers, our per-unit and variable-fee based revenue will continue to be susceptible to global health concerns, outbreaks, pandemics, armed conflict, market volatility, labor shortages, supply chain disruptions, microchip shortages and market downturns. Reportable Segments We operate and report in one segment: IP Licensing. We believe that this structure reflects our current operational and financial management and provides the best structure for us to focus on growth opportunities. Our Chief Executive Officer has been determined to be the Chief Operating Decision Maker (“CODM”) in consideration with the authoritative guidance on segment reporting. We primarily license our innovations to leading companies in the broader media entertainment and semiconductor industries, and those companies developing new technologies that will help drive these industries forward. Licensing arrangements include access to one or more of our foundational patent portfolios and may also include access to some portions of our industry-leading technologies and know-how. 34 Financial Highlights In evaluating our financial condition and operating performance, we primarily focus on revenue and cash flows from operations. For the three months ended March 31, 2024, as compared to the same period in 2023: • Revenue decreased by $33.9 million, or 28.9%, from $117.3 million in 2023 to $83.4 million in 2024. The decrease was due to the execution of two long-term license agreements with Kioxia and Western Digital in the first quarter of 2023, for which a portion of revenue was recognized up-front in such quarter. • Recurring revenues decreased by $1.6 million, or 1.9% from $84.4 million in 2023 to $82.8 million in 2024, driven primarily by a decline in royalty revenue from certain Pay-TV customers in Canada. • Non-recurring revenues decreased by $32.3 million, or 98.2% from $32.9 million in 2023 to $0.6 million in 2024, driven primarily by the execution of long-term license agreements with Kioxia and Western Digital in the first quarter of 2023. • Cash provided by operating activities increased by $3.8 million, or 6.0%, from $63.4 million to $67.2 million. The increase was primarily due to a decrease in accounts receivable and an increase in unbilled contracts receivable, which resulted from collection efforts and multi-year and long-term license agreements executed during the period. Results of Operations Revenue We derive the majority of our revenue from the licensing of our intellectual property (“IP”) rights to customers. For our revenue recognition policy, including descriptions of revenue-generating activities, refer to “Note 3 – Revenue ” of the Notes to Condensed Consolidated Financial Statements. The following table presents our operating results for the periods indicated as a percentage of revenue: Three Months Ended March 31, 2024 2023 Revenue 100 % 100 % Operating expenses: Research and development 17 11 Selling, general and administrative 29 20 Amortization expense 28 20 Litigation expense 3 2 Total operating expenses 77 53 Operating income 23 47 Interest expense (17 ) (14 ) Other income and expense, net 2 2 Income before income taxes 8 35 Provision for income taxes 7 10 Net income 1 % 25 % 35 The following table sets forth our revenue for the three months ended March 31, 2024 and 2023 (in thousands, except for percentages): For The Three Months Ended March 31, 2024 vs. 2023 2024 2023 Decrease % Change Revenue $ 83,405 $ 117,307 $ (33,902 ) (29 )% The decrease in revenue during the three months ended March 31, 2024, as compared to the same period in 2023, was primarily attributable to the execution of two long-term license agreements with Kioxia and Western Digital in the first quarter of 2023, for which a portion of revenue was recognized up-front in such quarter. Recurring revenue for the three months ended March 31, 2024 and 2023 were $82.8 million and $84.4 million, respectively. The decrease of $1.6 million was primarily attributable to a decline in royalty revenue from certain Pay-TV customers in Canada. Non-recurring revenues for the three months ended March 31, 2024 and 2023 were $0.6 million and $32.9 million, respectively. The decreased was primarily attributable to the execution of long-term license agreements with Kioxia and Western Digital in the first quarter of 2023. Research and Development (in thousands, except for percentages): Research and development expense (“R&D expense”) consists primarily of personnel costs, stock-based compensation, outside engineering consulting expenses associated with new IP development, as well as costs related to patent applications and examinations, reverse engineering, materials, supplies and an allocation of facilities costs. All R&D expense is expensed as incurred. We intend to make a continued investment in our R&D efforts because we believe they are essential to grow our patent portfolios to maintain and improve our competitiveness. For The Three Months Ended March 31, 2024 vs. 2023 2024 2023 Increase % Change Research and development $ 13,925 $ 13,011 $ 914 7 % The increase in R&D expense during the three months ended March 31, 2024, as compared to the same period in 2023, was primarily due to an increase in personnel costs as a result of increased headcount. Selling, General and Administrative (in thousands, except for percentages): Selling, general and administrative (“SG&A”) expenses consist primarily of personnel costs, sales commission, advertising, branding activities, stock-based compensation, professional services, facilities costs, and expenses related to our executive finance, human resource, legal, and information technology organizations. For The Three Months Ended March 31, 2024 vs. 2023 2024 2023 Increase % Change Selling, general and administrative $ 24,029 $ 22,862 $ 1,167 5 % The increase in SG&A expense during the three months ended March 31, 2024, as compared to the same period in 2023, was primarily due to an increase in professional services costs and personnel cost as a result of increased headcount. The increase was partially offset by decreases in advertising expense, credit losses and D&O insurance premiums. 36 Amortization Expense (in thousands, except for percentages): For The Three Months Ended March 31, 2024 vs. 2023 2024 2023 Decrease % Change Amortization expense $ 23,157 $ 23,689 $ (532 ) (2 )% The decrease in amortization expense during the three months ended March 31, 2024, as compared to the same period in 2023, was primarily due to certain intangible assets becoming fully amortized during 2023. The decrease was partially offset by an increase in amortization expense as a result of patents acquired during the period. Litigation Expense (in thousands, except for percentages): For The Three Months Ended March 31, 2024 vs. 2023 2024 2023 Increase % Change Litigation expense $ 2,930 $ 2,622 $ 308 12 % The increase in litigation expense during the three months ended March 31, 2024, as compared to the same period in 2023, was primarily due to increased case activity in current litigation matters. We expect that litigation expense will continue to be a significant portion of our operating expenses, as it is used to enforce and protect our IP and contract rights. Litigation expense may fluctuate between periods because of planned or ongoing litigation, as described in Part II, Item 1 – Legal Proceedings . Interest Expense (in thousands, except for percentages): For The Three Months Ended March 31, 2024 vs. 2023 2024 2023 Decrease % Change Interest expense $ 14,175 $ 15,938 $ (1,763 ) (11 )% The decrease in interest expense during the three months ended March 31, 2024, as compared to the same periods in 2023, was primarily due to lower debt balance and amortization of debt discount and issuance costs, partially offset by increased interest rates on our variable interest rate debt due to the rising interest rate environment. We anticipate interest expense will continue to decrease in 2024, when compared to 2023, as a result of a full year of a lower debt balance and amortization of debt discount and issuance costs. Other Income and Expense, Net (in thousands, except for percentages): For The Three Months Ended March 31, 2024 vs. 2023 2024 2023 Decrease % Change Other income and expense, net $ 1,400 $ 1,620 $ (220 ) (14 )% 37 The decrease in other income and expense, net during the three months ended March 31, 2024, as compared to the same periods in 2023, was primarily due to a decrease in realized gains on our investments in marketable securities, partially offset by an increase in interest income from significant financing components from certain revenue contracts. Provision for Income Taxes For The Three Months Ended March 31, 2024 vs. 2023 2024 2023 Decrease % Change Provision for income taxes $ 5,690 $ 11,784 $ (6,094 ) (52 )% Our income tax provision for interim periods is based on the estimated annual effective tax rate adjusted for discrete items during the period. For the three months ended March 31, 2024, and March 31, 2023, we recorded income tax expense of $5.7 million and $11.8 million, respectively, on pretax income of $6.6 million and $40.8 million, respectively. The decrease in income tax expense for the three months ended March 31, 2024, as compared to the same period in the prior year was primarily due to a decrease in pretax income. The effective tax rate varies from the 21% U.S. federal tax rate due to foreign withholding taxes, state income taxes, and unrealized foreign exchange gain or loss from prior year South Korea withholding tax refund claims. We periodically evaluate the realizability of our net deferred tax assets based on all available evidence, both positive and negative. After considering the evidence to assess the recoverability of our net deferred tax assets, we concluded that it was more-likely-than-not that we would realize our federal and certain state deferred tax assets. Liquidity and Capital Resources The following table presents selected financial information related to our liquidity and significant sources and uses of cash and cash equivalents for the three months ended March 31, 2024 and 2023. As of (in thousands) March 31, 2024 December 31, 2023 Cash and cash equivalents $ 58,024 $ 54,560 Marketable securities 30,963 29,012 Total cash, cash equivalents and marketable securities $ 88,987 $ 83,572 Three Months Ended March 31, 2024 2023 Net cash from operating activities $ 67,229 $ 63,352 Net cash from investing activities $ (10,988 ) $ (390 ) Net cash from financing activities $ (52,777 ) $ (95,088 ) Our primary sources of liquidity and capital resources are our operating cash flows and our short-term investments in marketable securities. Cash, cash equivalents and marketable securities were $89.0 million at March 31, 2024, an increase of $5.4 million from $83.6 million at December 31, 2023. This increase primarily resulted from $67.2 million of cash generated from operations, partially offset by $40.1 million in repayment of our long-term debt, $7.7 million in repurchases of common stock associated with tax withholdings on equity awards, $5.4 million in dividends paid, $0.8 million in purchases of property and equipment, and $8.5 million in purchases of intangible assets. 38 The primary objectives of our investment activities are to preserve principal and to maintain liquidity, while at the same time capturing a market rate of return. To achieve these objectives, we maintain a diversified portfolio of securities including money market funds and debt securities such as corporate bonds and notes, municipal bonds and notes, commercial paper, treasury and agency notes and bills and certificates of deposit. Our marketable debt securities are classified as available-for-sale (“AFS”) with credit losses recognized as a credit loss expense and non-credit related unrealized gains and losses, net of tax, recorded in accumulated other comprehensive income or loss. For information about our material cash requirements, see “Liquidity and Capital Resources” in Part II, Item 7 of our Annual Report on Form 10-K for the year ended December 31, 2023. Other than the principal payments of $40.1 million made by us under the Refinanced Term B Loans during the three months ended March 31, 2024, our cash requirements have not materially changed since December 31, 2023. We expect to continue to make additional payments on our existing debt from cash generated from operations. Our material cash requirements include the following contractual and other obligations. Quarterly Dividends In March 2024, we paid quarterly cash dividends of $0.05 per share of common stock. In April 2024, our board of directors (the “Board”) authorized payment of a quarterly cash dividend of $0.05 per share, to be paid in June 2024. Stock Repurchase Plan On June 12, 2020, our Board terminated a prior stock repurchase program and approved a new stock repurchase plan (the “Plan”), which provides for the repurchase of up to $150.0 million of our common stock dependent on market conditions, share price and other factors. No expiration has been specified for this Plan. On April 22, 2021, our Board authorized an additional $100.0 million of purchases under the Plan. The stock repurchases may be made from time to time, through solicited or unsolicited transactions in the open market, in privately negotiated transactions, or pursuant to a Rule 10b5-1 plan. Since the inception of the Plan, and through March 31, 2024, we have repurchased an aggregate of approximately 10.0 million shares of common stock at a total cost of $172.2 million at an average price of $17.24. As of March 31, 2024, the total remaining amount available for repurchase under the Plan was $77.8 million. We may continue to execute authorized repurchases from time to time under the Plan. The amount and timing of any repurchases under the Plan depend on a number of factors, including, but not limited to, the trading price, volume and availability of our common shares. There is no guarantee that such repurchases under the Plan will enhance the value of our common stock. We believe that based on current levels of operations and anticipated growth, our cash from operations, together with cash and cash equivalents currently available, will be sufficient to satisfy our currently anticipated cash requirements through at least the next 12 months and thereafter for the foreseeable future. Poor financial results, unanticipated expenses, unanticipated acquisitions of technologies or businesses, or unanticipated strategic investments could give rise to additional financing requirements sooner than we expect. There can be no assurance that equity or debt financing will be available when needed or, if available, that such financing will be on terms satisfactory to us. The sale of additional equity securities could result in dilution to our stockholders. The incurrence of indebtedness could result in increased debt service obligations and may include covenants that would restrict our operations. Cash Flows from Operating Activities Cash flows provided by operations were $67.2 million for the three months ended March 31, 2024, were primarily due to our net income of $0.9 million being adjusted for non-cash items of amortization of intangible assets of $23.2 million, amortization of debt issuance costs of $0.8 million, stock-based compensation expense of $5.1 million and $34.8 million in changes in operating assets and liabilities including payment during the period of employee bonuses earned in 2023. Cash flows provided by operations were $63.4 million for the three months ended March 31, 2023, primarily due to our net income of $29.0 million being adjusted for non-cash items of amortization of intangible assets of $23.7 million, deferred income taxes of $2.4 million, amortization of debt issuance costs of $1.2 million and stock-based compensation expense of $3.6 million. These increases were partially offset by $2.5 million in changes in operating assets and liabilities including payment during the quarter of employee bonuses earned in 2022. 39 Cash Flows from Investing Activities Net cash used in investing activities was $11.0 million for the three months ended March 31, 2024, primarily related to purchases of short-term investments of $11.2 million, purchases of property and equipment of $0.8 million, purchases of intangible assets of $8.5 million, and proceeds from maturities of investments of $9.5 million. Net cash used in investing activities was $0.4 million for the three months ended March 31, 2023, primarily related to capital expenditures. Capital Expenditures Our capital expenditures for property and equipment consist primarily of leasehold improvements, purchases of computer hardware and software, information systems, and semiconductor production and test equipment. During the three months ended March 31, 2024 and 2023, we spent $0.8 million and $0.4 million on capital expenditures, respectively, and we expect capital expenditures in the remainder of 2024 to be approximately $2.0 million. Our capital expenditures for intangible assets consists primarily of acquired patents. During the three months ended March 31, 2024, we spent $8.5 million on purchases of intangible assets. These expenditures are expected to be financed with cash from operations, existing cash and cash equivalents and short-term investments. There can be no assurance that current expectations will be realized, and plans are subject to change upon further review of our capital expenditure needs. Cash Flows from Financing Activities Net cash used in financing activities was $52.8 million for the three months ended March 31, 2024 due to $40.1 million in repayment of indebtedness, $5.4 million in dividends paid, $7.7 million in repurchases of common stock for tax withholdings on equity awards, partially offset by $0.5 million in proceeds from the issuance of common stock under our employee stock grant programs and employee stock purchase plans. Net cash used in financing activities was $95.1 million for the three months ended March 31, 2023 due to $83.6 million in repayment of indebtedness, $5.3 million in dividends paid, $6.6 million in repurchases of common stock, partially offset by $0.4 million in proceeds from the issuance of common stock under our employee stock grant programs and employee stock purchase plans. Long-term Debt On June 8, 2021, we amended (the “Amendment”) that certain Credit Agreement dated June 1, 2020 by and among us, the lenders party thereto and Bank of America, N.A., as administrative agent and collateral agent (the “2020 Credit Agreement”). The 2020 Credit Agreement initially provided for a five-year senior secured term B loan facility in an aggregate principal amount of $1,050 million (the “2020 Term B Loan Facility”). The Amendment provided for, among other things, (i) a new tranche of term loans (the “Refinanced Term B Loans”) in an aggregate principal amount of $810.0 million, (ii) a reduction of the interest rate margin applicable to such loans to (x) in the case of base rate loans, 2.50% per annum and (y) in the case of Eurodollar loans, LIBOR plus a margin of 3.50% per annum, (iii) a prepayment premium of 1.00% in connection with any repricing transaction with respect to the Refinanced Term B Loans within six months of the closing date of the Amendment, (iv) an extension of the maturity to June 8, 2028, and (v) certain additional amendments, including amendments to provide us with additional flexibility under the covenant governing restricted payments. We commenced repaying quarterly installments under the Refinanced Term B Loans in the third quarter of 2021. 40 On May 30, 2023, we amended the 2020 Credit Agreement to replace the reference to LIBOR as the base rate with the reference to the Secured Overnight Financing Rate “SOFR” as administered by the Federal Reserve Bank of New York. At March 31, 2024, $561.1 million was outstanding under the Refinanced Term B Loans with an interest rate, including unamortized debt discount and issuance costs of $14.8 million. Interest is payable monthly. Under the existing loan agreements, we have future minimum principal payments for our debt of $30.4 million in the remainder of 2024, $40.5 million each year from 2025 through 2027, with the remaining principal balance of $409.3 million due in 2028. After the Separation, we own the debt under the Refinanced B Term Loans. Additionally, we paid $29.1 million during the three months ended March 31, 2024, based on certain leverage ratios and our excess cash flow generated for the year ended December 31, 2023. We are obligated to continue to pay a portion of excess cash flows on an annual basis. The Refinanced Term B Loans contain customary covenants, and as of March 31, 2024, we were in full compliance with such covenants. Critical Accounting Policies and Estimates During the three months ended March 31, 2024, there were no significant changes in our critical accounting policies and estimates. See “Note 2 – Summary of Significant Accounting Policies ” of Notes to Condensed Consolidated Financial Statements for additional detail. For a discussion of our critical accounting policies and estimates, see Part II, Item 7 – Management’s Discussion and Analysis of Financial Condition and Results of Operations in our Annual Report on Form 10-K. Recent Accounting Pronouncements See “Note 2 – Summary of Significant Accounting Policies ” of the Notes to Condensed Consolidated Financial Statements for a full description of recent accounting pronouncements including the respective expected dates of adoption. 41 Item 3. Quantitative and Qualitati ve Disclosures About Market Risk For a discussion of our market risk, see Part II, Item 7A – Quantitative and Qualitative Disclosures About Market Risk in our Annual Report on Form 10-K.