First-Mover Advantage, Driving Paradigm Shift in Advanced Driver Assistance Systems and Autonomous Driving

Mobileye N.V. (NYSE: MBLY) is an Israeli technology company that designs, develops and tests innovative collision-prevention technology and is very well positioned with auto leaders such as BMW and Tesla. The company’s Advanced Driver Assistance Systems (ADAS) warns drivers of roadway hazards and will, in the future, enable self-driven cars. At its core, ADAS includes sophisticated high-speed digital cameras and electronic sensors on the vehicle that send comprehensive roadway information – distance to other vehicles. Pedestrians/animals crossing the vehicle’s path, debris or other obstacles, lane markers, traffic signs and lights, etc. – to an onboard computer (EyeQ System-on-Chip) that is integrated with the vehicle’s electronics and controls, and sends sound and visual alerts to the driver through a dash-mounted display. Mobileye has a unique monocular camera and proprietary object detection algorithms that reduce the cost of installing a comprehensive ADAS system. Its chip was deployed on over 3.3 million vehicles as of March 31, 2014 and has been selected for serial production in 237 car models by 2016.


The ADAS system is fully integrated with the vehicle and can autonomously take early corrective action, such as reducing speed or braking, to avoid hazards and accidents, and make driving safer. The onboard computer is also connected to a global database of roads and maps, and has successfully been tested for self-driven cars, which will likely be phased-in after various highway safety and regulatory approvals sometime over the coming decade.

In a nutshell, Mobileye is a leader in ADAS systems, with over 3.3 million installations (as of March 31, 2014) with top-tier manufacturers such as Audi, BMW and Tesla, and is blazing innovation in self-driven car technology – the next big thing in driving. The company supplies its technology to Tier 1 companies – such as Delphi and TRW – that are direct suppliers to vehicle manufacturers.


Mobileye does not plan to pay dividends for the foreseeable future.

IPO Raises over $1 Billion, Shares Jump 48% with $7.9 Billion Market Cap

Mobileye went public on August 1, 2014, with 35.589 million ordinary shares priced at $25, well above their initial filing range of $17 – $19 on heavy demand and a strong underwriting group led by Goldman Sachs and Morgan Stanley.

Shares jumped 48% on their first day of trading and closed at $37 per share, with a $7.9 billion valuation based on 212.3 million shares outstanding.

Mobileye initially planned to sell 27.75 million shares, per its IPO registration document, but raised the number of shares to 35.589 million on heavy institutional demand, and upped the IPO price to $25 per share.

Shares sold in the IPO include 8.325 million shares offered by the company and 27.264 million offered by selling shareholders, who have also granted a 15% overallotment to underwriters on 5,338,350 additional shares which likely will be exercised given strong demand and 48% first day gains. Through its IPO, selling shareholders expect to receive gross proceeds of about $815 billion, with none of that flowing to the company. Its IPO is partly a liquidity event for existing shareholders.

While the IPO is expected to raise $1.023 billion, Mobileye will receive $208.125 million in gross proceeds and the balance will go to selling shareholders. The company plans to use proceeds to purchase additional EyeQ smart chips for its systems and for general corporate expenses.


Exponential Year-Over-Year Growth in SoC Sales, Vehicle Models Since 2007

As the leader in this segment, Mobileye is often the single source on multiple vendor bids for smart vehicle systems. Since the introduction of its first commercial product in 2007, sales of its smart EyeQ System-on-Chip have grown exponentially – from 24,000 in 2007 to 1.3 million in 2013 – with the number of vehicle models contracted to install these chips in their vehicles up from 5 in 2007 to 109 in 2013, and projected to rise to 237 models by 2016. This sharp increase is a strong endorsement of the many benefits, including safety and fuel efficiency, of Mobileye technology in vehicular systems.

Sales Driven by Strong Underlying Trends

Sales are being driven by two powerful underlying industry trends – a move to safer driving across the globe and the realization that computer and digital camera technology have now made autonomous driving or “self driving” cars an achievable reality.

Europe has already mandated standard fitment of ADAS equivalent technology for four and five star safety ratings, and a global rollout of ADAS by automakers, in a phased manner, is expected to harmonize requirements across geographies with only minor local tweaks. So the company’s vast addressable market will include new vehicles sold in most developed and many developing nations.


Mobileye is the Frontrunner in a Multi-Billion Dollar Addressable Market

Mobileye receives $45 per ADAS system per vehicle, which translates into an addressable market of $4.5 billion based on industry projections of 100 million camera-based ADAS systems expected to be sold by 2020.


Today, ADAS enables autonomous braking, adaptive cruise control and other features. In the near future, regulatory bodies are expected to approve semi-autonomous driving where the driver is in the vehicle – but not at the wheel – and ready to take manual control if needed. Semi-autonomous highway driving approvals are expected by 2016, for country roads by 2017 and for city roads by 2018. Thereafter, likely within a decade, autonomous driving is expected to become mainstream reality where the driver passively sits in the vehicle and is automatically transported from point A to point B.

Companies such as Google are famously testing their self-driving Google Cars on city streets in Silicon Valley so there is real, big name money and interest driving this wave.

Autonomous driving will require trifocal camera systems, such as the one Mobileye offers for $150 per vehicle, and this in itself represents a $15 billion opportunity by 2020 (based on 100 million ADAS vehicles globally).


Mobileye currently has annual revenues of about $80 million and the vast market opportunity represents sizable growth potential for this game changing technology leader.


In addition, there is significant revenue opportunity from the company’s aftermarket product – the Mobileye 560 – which can be retrofitted onto existing vehicles to offer warnings related to collisions, roadway pedestrians or other hazards, and lane departure, and features such as intelligent high beam control and speed limit indicators.

All-Inclusive Sales Strategy Key to Global Sales

Mobileye is brand agnostic and is actively working with all automakers to customize its solutions – System-on-Chip (SoC), software design, packaging, integration and implementation. To date, the company has signed up many major global brands and its sales momentum is very high.

Additionally, to keep costs under control and rollout new features and functionality across all vehicle lines, Mobileye has developed all its applications – lane detection, vehicle detection, collision warning, adaptive cruise control, emergency braking, pedestrian detection, traffic sign detection, etc. – into one single integrated and coordinated system, which makes sense because collectively all these pieces of the puzzle make driving a safer experience.

Mobileye’s business model is also attractive because barriers to entry are fairly high in its market niche, with long-penetration cycles. For example, the marketing and evaluation phase (marketing, evaluation, pre-development and production intent) takes about seven years while the production phase (production development and serial production) takes 8 – 10 years.


Another substantive part of Mobileye’s early mover advantage includes an unbiased data set that holds roadway, signage and traffic information – from 47 countries in all kinds of weather – collected from Mobileye technology implementations over the past seven years with millions of miles of data analyzed and available. This database enables unparalleled accuracy and is approaching zero tolerance for mistakes – which is what drivers want from such a system… full reliability!

Rapid Innovation of EyeQ System-On-Chip Functionality with Many “firsts”

Mobileye’s EyeQ SoC – the brain that processes all the information and tells the driver/vehicle what to do – has improved performance 384x over the past decade, with far more capabilities now and greater robustness so it performs well even in harsh weather environments.


The chip’s enhancements reflect Mobileye’s track record of state-of-the-art technological innovation with many important “firsts” that reduce vehicle response times and improve overall safety. For example, in 2013, Mobileye was the first to introduce camera-based assisted cruise control, traffic jam assistant to warn drivers of other cars and pedestrians, and camera-based automatic braking functionality.

Looking ahead, Mobileye has a solid roadmap with exciting new features in-development – such as traffic light recognition, and emergency steering – that the company plans to release in the coming years. This technological innovation and related intellectual property give the company significant competitive advantages.


The company’s competitive strengths include having all applications in one camera (which delivers cost savings and greater convenience), its self-designed EyeQ SoC microchip with computing power to run all critical applications in a portable form factor, complex proprietary algorithms backed by a real-world database with millions of miles of road data, its industry relationships with all OEMs and Tier1 suppliers and a high leverage operating model.

Highly Capable R&D and Executive Management Team Has Steered Company to IPO Success

Mobileye was founded in Israel in 1999 by Prof.
Amnon Shashua, the company’s CTO and Chairman, and co-founder and CEO Ziv Aviram. Prof. Shashua is an award-winning researcher at the Department of Computer Science at Hebrew University and an expert on computer vision and machine learning. Mr. Aviram has extensive business experience and earlier served as CEO at three private Israeli companies. Ofer Maharshak serves as Senior VP and CFO and joined the company in 2007.

Investment Risks

Mobileye outsources production of its EyeQ chips – the heart of its system – to a sole vendor – STMicroelectronics N.V. – which produces all these chips at a single facility in France. While STM is a leading semiconductor manufacturer, any disruption in supply or defect in chip quality could seriously impact near-term revenue, especially if production has to be shifted to a different facility. While STM handles production and quality control, Mobileye is still
liable for design defects that could result in accidents and litigation beyond its $30 million insurance cover.

With its EyeQ designed for cars and other vehicles, a slump in global auto demand would impact also SoC sales. The ADAS industry has very attractive revenue potential and could attract better equipped competitors such as Intel, while Google could step up its efforts and out-compete Mobileye with its heft and resources.

At $37 per share, new public investors will pay significantly more than net tangible book value (NTBV) of $0.77 per share ($156 million in net tangible book value) and pro forma NTBV of $1.54 per share. The company has a market capitalization of $7.9 billion (as of Aug. 1, 2014) and reflects future upside, but could drop if the company underperforms Wall Street expectations for whatever reason, so investors should protect themselves against downside while riding the upside.

Technological Prowess Has Translated Into Financial Success

Mobileye has increased revenue at a 100%+ annual growth rate to $81.2 million in FY 2013, of which OEM SoC sales delivered $63.2 million and aftermarket sales delivered $18 million. Revenues were up 202% for the quarter ended March 31, 2014, to $35.6 million, with OEM SoC sales accounting for about 90% of revenue.


In parallel, the company has expanded profit margins and moved into net positive profit territory. In 2013, adjusted net income swung from a loss of $12.3 million in 2011 to a profit of $33.1 million in FY 2013, with gross margin up 10% to 74% and net margin of 40.7%.

Adjusted net income was $12.6 million in Q1 2014 with gross margin up 1% to 75% and adjusted net margin at 35.4% as the company invests to achieve scale and meet strong customer uptake.

Revenue outperformance was tied to market success with the OEM segment as new launches increased demand for Mobileye technology. EyeQ sales crossed the million-mark to 1.3 million units in 2013, up from 24,000 in 2007, with several global auto brands added to the customer list. In parallel, the strength and value of EyeQ technology enabled a 26% price increase from 2011 to 2013.


Looking ahead, the company has good visibility into future revenue based on business development initiatives and relationships with auto makers, with EyeQ demand projected to grow to 237 vehicle models by 2016 based on current discussions.

Mobileye’s focus on profitably growing the business delivered $26 million in free cash flow in 2013, up from a cash burn rate in prior years when the company focused on R&D. This sharp increase in cash flow reflects the scalability of its business model where incremental sales deliver strong margins.

As revenue increases over the long-term, management expects R&D expenses to drop to a stable 7% to 9% level (as a percentage of revenue), sales and marketing expenses to drop to between 2% and 4% and net profit margins to rise above 50%. The company’s 2013 and Q1 2014 margins show that 50%+ profitability is a realistic and achievable target.


Mobileye has zero debt and shareholders equity of $156 million, well below its market capitalization of $7.9 billion. The company table below presents GAAP financials.


Summary

Mobileye is an attractive technology growth story for long-term capital appreciation but without dividend income for the foreseeable future. With a highly scalable, asset light model, significant operating leverage and minimal capex needs, cash flow should rise nicely as revenue increases. Mobileye stands out from other technology IPOs because it has proven revenues, strong customer uptake and healthy profit margins, and is well beyond the money-losing R&D stage. This is a proven company with a proven business model and strong technological barriers to entry, and a leader in a multi-billion-dollar market. With shares priced significantly above their initial pricing range, and up 48% post-IPO, valuation is a near-term concern so investors should consider protective at-the-money puts to hedge against market volatility related downside.

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