Imagination Technologies Group plc: Preliminary results for the twelve months to 31 March 2006

Overview

The growth momentum of our partners’ chip unit shipments has continued during the second half resulting in a full-year volume of close to 12 million units, more than quadrupling the previous year’s unit shipment of 2.5 million units. This continued rapid growth has been driven by the build up of production of existing customer SoCs, together with the start of production of new ones, in mobile multimedia, digital radio and car navigation, as well as the first shipments in the LCD TV and mobile TV markets. The number of partner devices now in production has almost doubled to 13 compared to 7 at the end of 2004/5 financial year.

During the year we have also increased our SoC design wins with partners. We estimate that the overall chip design wins now stand at around 40, up over 40% since the beginning of the year. We expect continued success in growing partner SoC design wins as existing customers continue to deploy previously licensed IP and start using our latest IP cores in more devices, and also as new partners’ license our IP. This growth in SoC design wins is expected to drive continued royalty growth downstream.

We concluded major new and/or extended licensing agreements during the year with several existing partners including Intel, Renesas, Sharp, Philips and Sunplus. Additionally, important new partners, NEC and Centrality, were also signed up in the year. A number of these agreements were of significant strategic importance, with considerable scope for future expansion and royalty income. However, overall licensing revenue was lower than expected. Among the key reasons were a general industry slow-down during the first half of the financial year, the beginning of the transition to next generation graphics technology and its associated impact on partner decision processes, and the early stage nature of the market in mobile TV.

Given the progress in customer engagement made during the second half of 2005/6, the market relevance, and relatively early stage of exploitation of many of our technologies, and the on-going strong interest from prospective customers, there is real potential for growth in licensing revenues. Although, given the nature of the IP licensing business and the complex nature of partners’ decision making processes, it remains difficult to predict this aspect of revenues accurately for any given period.

PURE Digital, our systems business, grew significantly during the year to record levels with revenues 25% higher than last year’s. The business has maintained its position as number one supplier in the digital radio market with a comprehensive product range and a highly recognised brand. This success, which we expect to continue, was driven by a combination of the broadening PURE product portfolio, full ranging with leading retailers and a strong Christmas period for this business.

Financial Review

In the year ended 31 March 2006, group revenues were £35.3m, a 15% increase on last year (2005: £30.6m). This was made up of technology business revenues, comprising royalties and licensing, of £14.6m, up 4% on last year (2005: £14.1m) and systems business revenues of £20.7m up 25% (2005: £16.5m).

Within the technology business revenues, there was very strong growth in royalty revenues which increased over 300% to £5.6m (2005: £1.3m), based on the shipment of 11.9 million chips (2005: 2.5 million) incorporating our technology. During the year, the volume has accelerated, with 8.7 million chips shipped in the second half compared to 3.2 million in the first half. Whilst strategically important license deals were also closed with several major partners, overall licensing revenue was lower than last year at £9.0m (2005: £12.8m). With the improved licensing activities during the second half, an order book of £6.0m of licensing and support revenue has been carried forward at the end of the year, the majority of which is expected to be recognised in the current financial year.

The expected strong second half for PURE Digital materialised with revenue for this period up 85% on the first half and 37% up on the corresponding period last year. Overseas sales now account for around 10% of revenue, with the DAB markets in Scandinavia, Benelux and Switzerland now developing.

Gross profit for the year was £19.0m, an 8% increase on last year (2005: £17.6m). The gross margin was 54% for the year, the reduction from 58% last year primarily accounted for by the higher proportion of revenues from the PURE Digital business.

Research and development expenses increased by 7% to £20.7m (2005: £19.4m). This increase was significantly less than that of the previous year of 20% when a much larger investment was needed at the time in support of new technology delivery. R&D investment is critical to ensure that our IP development programmes, particularly the PowerVR SGX graphics/video technology and our META and Ensigma based mobile TV platform and TV technologies, stay on schedule to meet market requirements. In addition, it is important to ensure that there are adequate resources to support our growing customer base to exploit our technologies and generate future royalties. Sales and administrative costs were £5.5m (2005: £5.0m) including additional investment in overseas business development resources.

The loss before tax for the year of £6.9m (2005: loss £6.4m) reflects the increased investment in research and development which has offset the growth in gross profit. In comparison to the first half, the increased royalties and stronger performance of the systems business significantly reduced the second half loss before tax by over 50% to £2.1m. The company no longer qualified in the year to receive a Research and Development tax credit in the form of a cash refund and therefore we have incurred a tax charge of £0.5m on overseas earnings which compares to a tax credit of £0.8m for last year.

Working capital showed an increase of £4.4m compared to March 2005 due to some build up of stock for PURE Digital and also increased debtors. The latter resulted from the increased royalties and licensing billings at the end of year; the first quarter of the current financial year will benefit from these cash receipts. Capital spend in the year of £1.5m was lower than last year (2005: £2.6m). The operating cash outflow of £10.1m in the year was offset by the £9.1m raised in July 2005 by the placing of 15.0 million shares. However, with the on-going increase in royalties, the operating cash outflow in the second half was significantly reduced to £2.5m. Cash resources at March 2006 were £6.4m (March 2005: £7.7m).

Business Update Overview

Technology Business Update

The key elements and drivers for our technology business are:-

• Partner SoC volume shipments which drive today’s royalties
• New SoC design wins which result in deployment of our IP in silicon products and drive royalties in 1.5 to 2 years
• Licensing our IP to existing or new partners which drives market penetration of our IP through new partner SoCs

The progress during the financial year and outlook for each of these elements is as follows:

Partner SoC Volume Shipment and Target Markets

We started the year with seven partner SoCs in production or shipping across four key markets: one in digital radio (Frontier Silicon), three in mobile multimedia (Renesas and Intel), two in car navigation (Renesas) and one in STB/TV (Frontier Silicon) segments. During the year the number of partner devices in production or shipping has risen to 13, which includes four new devices in the mobile phone segment (Texas Instruments, Renesas, Philips, Freescale), one T-DMB mobile TV device (Frontier Silicon) and the first Sharp TV SoC for LCD TVs. The growing number of partner SoCs has in turn driven the dramatic increase in the volume of SoCs shipped during the year.

At the beginning of the year, in the mobile phone/handheld segment, three handsets based on our PowerVR graphics were shipping as well as the DELL PDAs. The number of announced handsets and mobile devices using our PowerVR technology has now risen to well over 25. These include well over 10 DoCoMo FOMA 902i and 902iS handsets from NEC, Fujitsu, Mitsubishi, Panasonic, Sony-Ericsson, and Sharp using OMAP2 or SH-Mobile application processors; three recently announced DoCoMo 702iD handsets from Panasonic, Sharp and Mitsubishi also based on either Renesas or TI OMAP devices; the Motorola MS550 and SKY IM-8300, based on SH-Mobile shipping in Korea; the Helio Hero, based on SH-Mobile just shipping in USA; and Sony Ericsson P990, M600, W950 handsets, as well as the recently announced M608 (targeting the Chinese market), based on the Philips Nexperia PNX4008 device. Many of these are yet to start shipping but they provide increased confidence that royalty in this market segment should increase significantly.

We expect further handset design wins and/or launches over the current financial year including major handset suppliers in key markets such as Japan, Korea, China, Europe and the US. The mobile phone market is fast approaching 1 billion units per year and we continue to believe that over time more than 50% of this market is a very relevant target for mobile graphics and multimedia technologies. Given that our existing semiconductor partners include the majority of the world top ten, we have the potential to benefit significantly as this market develops.

In the digital radio market we continue to have over a 70% market share via our partnership with Frontier Silicon, whose Chorus device has been selected by many manufacturers including top brands such as Sony, Philips, Sharp, Roberts and PURE Digital. Currently over 130 shipping end-user products are using our technology. We expect new shipments in the UK DAB market to exceed 2.5 million units in 2006 and reach close to 6 million by 2008.

In the car navigation market, the vast majority of the new 3D-based navigation systems in Japan use the Renesas NaviCore family of chips which deploy our PowerVR technology. This market is now transitioning from an ’after-market‘ to ’factory-fit‘ which is driving increased volume. The 2005 market size for car navigation was around 4 million units for the Japanese market, which tends to demand advanced technologies first. Already 25% of shipping end-user products in this market have migrated to 3D-based solutions and the trend is continuing with most of the new designs adopting 3D technology. The worldwide car navigation market, which generally takes its lead from Japanese trends, is currently around 9-10 million units, however over time a car navigation system is expected to become a standard feature in every car, leading to bigger volumes for this market. Additionally the trends towards virtual dashboards using LCD technology and synthesized 3D-graphics are accelerating within the car industry and will further grow this market. The additional major multiple-use licenses closed recently with Renesas and another significant new partner targeting this market are endorsements of our offerings and are expected to further strengthen our position in this market.

With our initial lead partner activities in the set-top and TV markets well under way our TV technologies are now attracting more interest from key players. Our early generation technologies were originally deployed by Frontier Silicon SoC targeting the set-top market and shipped in a number of Freeview boxes. Our partnership with Sharp, which has licensed our TV platform for use in its LCD TV products, continues. Sharp is a leader in the LCD TV market with a market share of around 40% in Japan and 20% worldwide in this segment. The first SoC developed through this partnership entered production recently leading to the first LCD TV shipment in Japan. The worldwide market for LCD TV in 2005 reached 17 million. The forecasts from key industry players suggest that the LCD TV market will exceed 100 million units by 2010. In addition to the relationships above, other IP cores, including graphics, are also being designed in by our other semiconductor partners targeting the TV market. We expect further progress in existing lead partner activities and also the securing of new partners in this market as our technology base matures and broadens.

The scalability and flexibility of our software-defined radio technology based on our UCC and META IP has enabled us to very effectively adapt these technologies to mobile TV in addition to the digital radio and TV segments. We are one of the very first companies with digital mobile TV technologies implemented in silicon and shipping in the market. The Samsung T-DMB mobile-TV product, the B2300, is already shipping in Korea and will be followed by the Samsung SGH-P900, a T-DMB handset for Europe, which is being released to coincide with this year's FIFA World Cup in Germany. We have this year introduced the Vigo and Kurosawa IP platforms for multi-standard mobile TV reception. Multi-standard support is increasingly in demand in this market due to the proliferation of competing local standards. Vigo has already been licensed by Frontier Silicon and is the basis of its recently announced Paradiso chip.

New SoC Design Wins

We have seen continued growth in the number of committed partner SoCs that use our technologies. This growth underlines our medium to long-term royalty revenue stream as these new design wins progress through development and launch. Across the mobile phone, TV, mobile TV, digital radio/audio, car navigation, and amusement market segments, we now have a total of around 40 partner SoCs committed by partners, up from 28 at the same time last year. Thirteen of these are now in production and shipping with some only recently reaching this stage.

The target markets for the 40 committed partner SoCs are: 20 in mobile phone/PDA, seven in STB and TV, two in digital radio, six for car navigation/information, two in amusement and three for mobile TV segments. These devices constitute a strong basis for both our participation in the relevant markets and continued future growth of royalty revenue as volume ramps up and more devices enter into production. We expect the number of shipping devices to increase from 13 to over 20 by the end of 2006/7.

Given our partners’ activities in deploying the IP that they have already licensed from us and also the ongoing active and strong pipeline of new licensing discussion, we expect the number of partner SoC design wins to continue its steady growth in the current year.

Licensing and Customisation Progress Update

For the year to 31 March 2006, we concluded nine major new licensing/customisation agreements across the mobile, TV, digital radio and car navigation/information segments.

Intel was the first lead partner to license PowerVR SGX, our new generation of programmable multimedia technology. This technology sets the benchmark for programmable graphics and video solutions and provides scalability across mobile, consumer, and computing segments. During the last year two other top ten semiconductor companies, Renesas, an existing PowerVR MBX licensee, and NEC, a new partner, also licensed the Power SGX technology. As a result we now have seven out of the top ten semiconductor companies who have selected PowerVR technology. We are seeing strong interest from other existing and new partners for PowerVR SGX and expect it to secure further market penetration. Additionally, we concluded further licensing agreements for the PowerVR MBX family with both existing partners Renesas, Philips, and Sunplus and new partner Centrality for a variety of markets including mobile, car navigation, consumer and toys. We expect further licensing agreements for PowerVR MBX in the current year as some of our partners extend their license and also as second tier customers identify demands for such technology in their products. We also extended our relationship with Sharp which is focussed on the TV segments.

A number of factors impacted the level of progress in new license closure during the year. There was some slow down in the industry in the first half, which impacted the decision making process on new technologies, however this has been followed by a pick-up in the second half. More specific to our business, this was compounded by uncertainty over the adoption of new graphics standards such as OpenGL ES 2.0 and OpenVG. This situation became clearer towards the end of last year and accelerated our discussions with partners. The early nature of mobile TV market has meant that the decision and review cycles at our potential customers have tended to be longer than normal. Again, the trends and requirements of this market are now becoming clearer which is helping to progress our licensing discussions and activities. In particular, the clear indication that the mobile TV market will require support for multi-standards (DVB-H/MediaFLO in USA, T-DMB/DVB-H in Europe, ‘One Seg’ ISDB-T in Japan and T-DMB/DMB-T in Korea and China) means that, through our programmable software defined radio technology based on Ensigma UCC and META, we are now in a unique position of being able to supply such a multi-standard solution. In addition, our activities in the TV market have to date been at a relatively early stage with engagement only with lead partners. We expect this area to develop and result in further important partner engagement during the current year.

Overall, the growing customer engagements and serious discussions over the past six months have significantly strengthened our opportunity pipeline. This has involved both existing and new technologies and is helping to drive future licensing business. The key areas that we are seeing strong and active engagements in are mobile multimedia (graphics/video), TV, mobile TV, car navigation, and digital radio/audio markets.

Additionally, as we said at the end of last financial year, we have completed the establishment of a small but effective marketing and sales team in the US which is beginning to bear fruit with new opportunities. Similar steps have been taken in Taiwan and we expect to be taken in Korea to ensure we are able to service the growing interest in our technologies from all key regions.

PURE Digital

During the year, PURE Digital has maintained its leadership of the DAB market through a strategy aimed to address three key goals. Firstly, it has continued to deliver products which provide advanced and novel features, taking advantage of the digital nature of DAB and the emergence of digital audio. In this regard it has launched new or enhanced products with features such as pause/rewind/record, digital storage (SD Card), MP3 integration, USB upgradeability, EPG (Electronic Programme Guide) and more recently teletext-style capabilities (Intellitext TM). EVOKE-3 for example brings many of these advanced features together in an elegant and iconic design with industry-leading sound quality.

Secondly, it has diversified the product range beyond portable/kitchen radios enabling other traditional consumer audio segments with DAB while increasing usability and other advanced features. Specifically PURE’s new micro system product, DMX-50, integrates many advanced features as well as CD, MP3 and digital storage making it an industry leading step in this segment.

Thirdly, PURE has also ensured it enables quality low-cost products for mainstream markets so that its brand can secure maximum shelf space and reach most consumers. The recently launched PURE ONE at £49 has been received extremely positively and has attracted strong demand. This product offers the Intellitext technology which has gained strong industry support from broadcasters, including services targeting World Cup news coverage.

As a result, PURE Digital sales have been growing, and in particular it enjoyed a strong Christmas period, and now has over 25% market share in UK, volume shipments increasing accordingly as the digital radio market becomes mainstream. European shipments have been steadily increasing and now account for around 10% of PURE Digital’s business; we expect these to grow further as the digital radio markets in these regions develop. In the UK, all major stores and retailers including John Lewis, Argos, Dixons, Comet, and Tesco now sell PURE Digital products. Additionally, PURE Digital’s range was selected by M&S as it enters the consumer electronics markets with quality products.

Outlook and the Future

With the growth in partner chip volume close to 12 million units and royalty revenues to £5.6m, the real strength of our business has begun to be demonstrated during the last year. We expect this unit shipment and royalty growth to continue with increased volume from existing shipping devices, end-products already announced starting to ship, and future partner SoC introductions continuing.

Similarly, we expect PURE to continue its progress in the digital radio/audio market as its innovative and leading products continue to be selected by retailers and digital radio technology becomes a de facto feature in most home audio and music systems.

Our fundamental technologies have been designed to effectively address a number of key emerging and growing markets. We have our graphics/video and mobile TV technologies now deployed in a growing number of handsets from most of the key global players. This is complemented by continued growth in digital radio/audio and car navigation/information markets where we have already achieved leading positions, and now by the initial LCD TV shipments in Japan and mobile TV shipments in Korea which use our technologies.

Whilst we expect a significantly more active year for licensing opportunities, it remains difficult to precisely forecast the timing and the associated level of revenues. However, ongoing customer discussions and the resulting active pipeline of licensing opportunities are giving us confidence that our technologies will continue to be adopted by existing and new partners.

In the current financial year we expect to see increasing engagements in mobile multimedia, mobile TV, digital radio/audio and next generation TV partnerships. In support of this we have, in the current financial year, recently signed a new important licensing agreement with our partner Freescale which, together with the £6.0m licensing order book brought forward from last financial year, provides a sound base for licensing revenue growth in the current financial year.

Hossein Yassaie
Chief Executive
24 May 2006

Financial Tables

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