亞德諾半導體 (ADI) 2002 Q2 法說會逐字稿

Good afternoon and welcome to the ADI second quarter 2002 earnings teleconference call. Following today's presentation there will be a formal question and answer session. At that time instructions will be given should anyone wish to ask a question. Until that time all lines will be a listen only fashion.

At the request of Analog Devices, Incorporated this conference is being recorded for instant replay purposes. Should anyone object you may disconnect at this time.

I would now like to turn the meeting over to today's host, Director of Corporate Communications. Mr. Fishbeck, sir, you may begin when you're ready.

Thank you very much. Yes, this is Jim Fishbeck and welcome to Analog Devices second quarter earnings release conference call. If you don't yet have our earnings release that we put out today you can get it by visiting the investor relations section of our Web site at www.Analog.com and clicking on financial releases.

This call is also being broadcast live on the Internet as a Web cast, so anyone wishing to tune into the Web cast can go to ADI's investor relations Web site and click on the words financial releases. You'll see a microphone icon there you can click on.

Participating in today's call are Jerry Fishman, President and CEO and Joe McDonough, Vice President for Finance, Brian McAloon, Vice President of DSP and Systems Products, Robbie McAdam Vice President of Analog Products and Vincent Roche, Vice President of Worldwide Sales.

As always, we'll begin with opening remarks from Mr. Fishman and the remainder of the call will be devoted to answering questions from our analysts and participants. Now, analysts/participants can press star-1 on their telephone at any time, starting now, to ask a question during the first round. We'll poll for questions in the same order we receive them, and please do not press star-1 more than once during the first round. If you do press star-1 to ask a question and wish to cancel your request before your name is called you can do so by pressing star-2.

I would like to point out that under the provisions of the Private Securities Litigation Reform Act of 1995 this conference call will include forward-looking statements. These statements are not guarantees of future performance and they do involve certain risks, uncertainties and assumptions, which are difficult to predict. Risk factors, which may affect our future operating results, are described in our most recent annual report on Form 10k filed with the Securities and Exchange Commission.

All references to financial results discussed during today's conference call will refer to pro forma results. Today's release includes both pro forma and GAAP results and information on the difference between the two.

Also this conference call will include time sensitive information that may be accurate only as of the date of the live broadcast, which is May 16th, 2002.

This call is the property of Analog Devices. Any redistribution, retransmission or rebroadcast of the call in any form without the express written consent of Analog Devices is prohibited.

Now I'd like to take a few moments to let all of you know that after 30 years with Analog Devices I will be retiring at the end of this month. Communicating the Analog story to investors has provided me an exciting and rewarding career and I'd like all of you to know what a pleasure it has been to work with each of you for so long.

Maria

, a long time Analog Devices employee who has a technical, marketing and communications background, will be taking over the investor relations function. Maria and I have been working together for some time now to effect a smooth transition and I know she's looking forward to getting to know and work with each of you in the future.

Now we're ready for Mr. Fishman's opening remarks. Jerry?

Well, good afternoon. Sales for our second quarter were $413.4 million, which was up just over 5 percent sequentially from last quarter and is really the first sequential increase in our sales in the past five quarters. Pro forma earnings per share were $0.13.

Both revenues and earnings were at the high end of the guidance that we provided in last quarter's conference call as order rates continue to accelerate throughout the quarter, gross margins improved and operating expenses remained under tight control.

Both Analog and DSP revenues both increased by approximately 5 percent sequentially. Analog revenues represented approximately 77 percent of our total sales in Q2.

During Q2 both OEM and disti revenues increased sequentially with disti revenue growth, which represents literally tens of thousands of customers worldwide slightly exceeding OEM revenue growth.

We're also encouraged very much so by the growth of the OEM channel, which has been the weakest channel for us and most of our competitors during this downturn.

Gross margins increased by 150 basis points to 53.4 percent as production volumes increased.

Operating expenses grew slightly during Q2 as we reduced the force shutdowns that we had been taking in most locations throughout ADI.

Both engineering and FMG&A are still well above our model level of 25 percent in aggregate and we're planning to restrain expense growth to an absolute minimum level until we approach model levels and that will provide very good expense leverage going forward.

Nevertheless, we continue to very selectively hire design and applications engineers as we have during most of this cycle since it is the design and ultimately the design end of our newest products that will lead us to above market growth rates in the future.

Operating margins improved 220 basis points to 14.2 percent of sales and that's up from 12 percent last quarter as we are beginning to enjoy both margin and expense leverage as revenues increased.

Our balance sheet remained strong during Q2. Given the signs of business recovery and an increasing backlog we've now begun to increase production levels to respond to current demand. In addition we've begun to build some buffer die bank inventories as we transition manufacturing from our four-inch fabs to our six and eight-inch fabs to ensure high quality customer service during this transition. As a result, inventories increased slightly for the first time this quarter and are likely to increase again next quarter.

Accounts receivable, day sales outstanding increased from a historic point -- (audio break) --

Overall our communications revenues grew 4 percent sequentially in Q2 and represents approximately -- (audio break) -- of our total revenues. These revenues are approximately equally split into four communications -- (audio break) -- base stations, broadband, wireless, wireless appliances and the last bucket is all other communications applications, which go to many, many customers and many, many different applications. Each of those is about 25 percent of our total communications revenues or 7.5 percent of our total sales.

During the second quarter we saw the strongest revenue growth in a broad range of power management, radio frequency and DSP products used in wireless handsets and appliances.

Wireless infrastructure or base stations remain weak as carriers continue to wrestle with financial issues and the slower than predicted deployment of many new services. Nevertheless, call volume continues to increase and user pressure for better service and new data features will require many new base stations going forward.

Designing activity for both our Analog and our DSP products remains extremely strong with the leading base station manufacturers around the world and we believe we're very well positioned to continue to gain share as this segment recovers.

We experienced growth in broadband access products for the first time in many quarters, primarily as a result of new design wins for ADI products in Southeast Asia and in Europe. Broadband deployment in the U.S. remains tepid, as does broadband infrastructure investments.

Based on our much higher backlog in communications products we're now planning for communications revenues to increase approximately 10 percent next quarter, which is our Q3.

Computer revenues increased approximately 5 percent during Q2, primarily as a result of increasing penetration of new products for power management and measurement for Pentium processors, flat panel displays and audio signal processing, where we enjoy very high market share.

Revenues from computer products represent approximately 20 percent of ADI's total sales.

Based on our substantially higher backlog from computer customers and forecasts that we're getting from our largest customers we'd expect revenues from computer customers to increase approximately 10 percent sequentially in Q3.

Our consumer revenues experienced the highest growth rate this quarter, growing over 30 percent sequentially as demand for high-end consumer products such as digital cameras, digital camcorders, DVD players and advanced audio products remained robust. These are all product areas where we have very high market share and we see continuing strength in consumer products going forward based on order momentum during Q2.

Consumer revenues currently represent approximately 10 percent of our sales and we'd expect consumer revenues to increase by approximately 10 percent in Q3.

Industrial revenues increased slightly after four quarters of steady decline. This segment includes industrial automation and process control, medical instrumentation, automotive, military, security imaging and ATE products where we sell to a very, very fragmented base in all these markets of over 50,000 customers around the world.

Revenues from this group of industrial customers had been declining in line with overall reductions in worldwide capital spending and will recover as the economy continues to improve. Overall, these customers represent now approximately 40 percent of ADI's sales.

Although there is only the very beginning of solid evidence of a broad based recovery within the industrial markets, based on improved order rates that we experienced from our industrial customers in Q2 we're now forecasting industrial revenues to increase by approximately 5 to 10 percent sequentially in Q3.

Overall, our sense of overall market conditions is that demand for products that actually touch consumers has improved, in some cases dramatically, those that support communications infrastructure investments have soared and that the industrial base is slowly improving as the economy returns to more normal growth rates.

I would now like to move along a little bit and give you a little more flavor on some of the trends we're seeing in our Analog and also our DSP business and our sense of the likely scenario in these businesses going forward.

As I mentioned earlier, Analog revenues were 77 percent of our total revenues during Q2 and grew by approximately 5 percent sequentially. By far the strongest product segment in our Analog business was converter products, which represent over 30 percent of our total sales in Analog. Converter revenues increased 10 percent sequentially.

We enjoy very high market share in converters, with a customer base that now totals over 30,000 customers in virtually every market segment in every geography. Overall, the growth rate of our Analog products remains amongst the highest in the Analog industry over the past three years and we believe this continues to be one of the very best businesses in which to be investing in the entire semiconductor industry.

Despite the very strong margin performance of our Analog business we believe we have room for further improvement in the margins of our Analog business. We're now beginning to see the benefits of our program that move virtually all our back-end testing to Asia over the past 18 months. This program is now mostly completed. We now test approximately 95 percent of our Analog products offshore.

This quarter we finalized our plans to transition over the next several quarters Analog products that are currently manufactured in four-inch wafer sizes to new more modern Analog facilities that process six and eight-inch wafer sizes. This plan will -- (audio break) -- cycles of our four-inch Analog products, thereby ensuring the long-term availability of these products to our customers.

This quarter we recognized as non-recurring charge of $27 million, which is primarily related to this program. We'll also continue to incur some special charges for each of the next few quarters as we accelerate depreciation over the remaining service life of the older four-inch equipment.

Once completed this plan will reduce manufacturing costs approximately $60 million annually and therefore provide additional gross margin improvement in our Analog business.

After transferring production to larger diameter fabs we can double our current Analog volume with little additional capital and we can triple our Analog volume with relatively light capital expenditures. This should allow us to obtain peak margins in our Analog business at lower revenue levels than during the last up cycle and could provide upside beyond the peak of the last cycle as revenues grow.

Our Analog business in aggregate has come through the cycle in great shape. We now have over 2,000 Analog engineers working on the most advanced products on the most advanced Analog process technology available and our designing activity for Analog products is at the highest level that we can remember.

The operating leverage of this business is extremely high going forward as a result of infrastructure cost improvements that we've made and that we're continuing to make and the fact that our fabs in Analog are still very underutilized.

Our DSP business, although more seriously affected by the concentration of DSP in the telecommunications market, has really made great progress during this cycle. We've renewed our DSP core portfolio with Black Fin and Tiger Shark, so now we're offering the most advanced DSP cores in the industry and have put us well on our way to claiming the technical high ground in DSP, much as we have had in the Analog business for many, many years now.

As such, we anticipate that our horizontal DSP products, which are now sold to over 10,000 customers worldwide, could grow at above industry growth rates going forward as customer reaction to these new cores has been truly exceptional.

We're also more enthusiastic about our DSP prospects in wireless and telecommunications infrastructure and in many high end consumer, military and security vertical applications.

Obviously the severe roll-off in our DSP sales as a result of the telecommunications meltdown has negatively impacted DSP operating margins as we kept R&D investments high to bring our new DSP cores to the market in a timely fashion.

As DSP revenues continue to grow and DSP investment requirements begin to modulate we will amortize the R&D in DSP over much higher sales and we'll see very high operating leverage on increasing DSP sales.

So in summary the best leverage in our Analog business is on the gross margin line and the best leverage in our DSP business is on the R&D line.

Combined with our intention to continue controlling SMG&A costs and all other costs in the company, we believe that the overall leverage that we can experience on increasing sales is substantial.

It seems clear that as we predicted last quarter our Q1 represented a trough quarter for revenues for ADI in this cycle. Although volatility in the end market still makes it somewhat difficult to be very precise, as a result of our stronger orders Q2 and a much higher opening backlog, our plan currently calls for approximately 8 percent sequential revenue increases to approximately $445 million in our Q3.

Based on our opening backlog, which customers have requested for shipment in Q3, we'll need approximately 40 percent in turns business to meet this guidance, assuming cancellations remain at current low levels.

For reference we received 53 percent of our Q2 revenues from turns business.

So obviously visibility has improved to levels that we're much more comfortable with moving forward.

On these revenues we're planning for gross margins to continue to improve to an estimated 54.5 percent. Operating expenses are expected to increase in the third quarter primarily due to the restoration of salaries, which had been reduced during the down cycle. Operating margin is planned to approach 16 percent of sales in Q3, which would result in pro forma diluted earnings per share increasing by $0.02 to about $0.15.

Small tax rate declines projected for Q3 will likely offset non-operating income declines as a result of lower interest rates.

Therefore, as I said, we're planning for pro forma earnings per share to grow by about $0.02 sequentially to $0.15 for Q3.

It's really important at this juncture to clarify what we know and what we don't know beyond Q3. Clearly inventory depletion has abated in most of our end markets with the exception of certain segments of the telecommunications market. Our belief is that there is little restocking of inventory at our customers but instead an ordering pattern that's coincident with current demand fulfillment. This conclusion is based on the fact that many of our larger accounts have started ordering again after over a year of order rates that were well below their consumption rates.

We're encouraged by the order strength that we've seen in the consumer market, the PC market and the wireless communications markets and those are all markets that, as I mentioned earlier, touch consumers directly.

We're also encouraged by industrial customers beginning to order products for the first time in very many quarters.

And finally we're encouraged by many customers beginning to order with slightly longer lead times, which has allowed us to build backlog for the first time in recent memory.

We also feel especially good about our new product performance as this really represents the payback for all the investments that we've been making throughout this down cycle. In Q2 virtually the entire increase in our revenues came from products that we introduced in the past 18 months. Our new products now total about 20 percent of ADI's total revenues. This shows that not only are we introducing record numbers of new products but more importantly that they're being rapidly accepted and rapidly deployed by our customers. New products will lead ADI and our customers out of this recession as they have done many, many times before.

If the economy continues to improve we should begin to see an acceleration in our industrial business, hopefully followed by at least some increased spending in telecommunications infrastructure in future quarters. But of course nobody really knows how well this will play out, so we still remain cautious for now until we see more definitive patterns developing in the end markets.

Looking forward we continue to believe that the high-performance Analog and DSP businesses are likely to be the highest growth product categories in the entire semiconductor market as signal processing technology drives the highest growth end markets.

Through the last up cycle and also the last down cycle we've continued to build our technology and our product portfolio, we've significantly strengthened our organization, we've reduced infrastructure cost throughout the company and at the same time we've produced very respectable margins through the entire cycle.

Since this cycle began in early 1999 we are today one of very, very few companies that is operating at revenue levels well above when the cycle started in early 1999. This is true in both the broader semiconductor markets as well as amongst our high-performance Analog and DSP competition. This indicates that we've built significant market share in both the up and the down cycles and we've managed the company much better than we ever did historically with higher peak and higher trough margins than ever in our history.

As the end markets turn and now there's increasing evidence that many of them are beginning to turn, we're well positioned to continue to outperform the market as we have been doing over the past three years and we also believe we can generate very strong operating margin leverage as sales continue to increase.

Thank you, Jerry. And this is Jim Fishbeck again. We're now ready for the questions from our dial-in participants. For any of the analyst participants who missed the comments at the beginning of today's call, if you have a question please press star-1 on your phone and we'll ask for questions in the same order that we receive them. If you're listening on a speaker phone please pick up the handset when you ask a question and please limit yourself during each round to one primary question and no more than a follow-on question.

We are recording the call today so that those who were unable to be with us can dial in later to listen to it. The recording will be available at about two hours after the completion of today's call and will remain available online for a week. The recorded call will also be available via the Internet by visiting the Analog Devices Web site at www.analog.com.

Today's first question comes to us from

of Robert & Stevens.

, go ahead.

Hi. Good afternoon. I've got a quick question just to clear up. What was your sequential growth of communications revenue this quarter? And then a follow-up. Thanks.

Four percent we said.

OK, great. You seemed to have dropped out a little on the call.

Then my main question is in regards to I've noticed that few products were introduced this quarter for displays, for portable electronics and also flat panels and one of them was a mixed signal introduction for an analog DVI interface with flat panels. What's your future roadmap for new display technologies and also does this include more mixed signal products? And also what would be maybe a potential dollar content in a 15 or 17-inch panel going forward? Thanks.

Robbie, why don't you go ahead and take that?

(inaudible.)

Yeah, I think the whole display area for us, given the base of technology we have, looks like we have the right technology to drive a lot of new designs in there and I think that's a very important part of what we're doing right now in our analog business.

Thank you.

OK, thank you. Our next question comes to us from

of

. Go ahead, Alan.

Thank you very much. Before my question I'd just like to say to you, Jim, thanks for your years of service. On behalf of the buy side you've been both very professional and a great asset to the company.

My question has to do with capacity utilization. Could you comment on where you stand today in terms of capacity utilization and based on the trend of revenue growth and order patterns that you see where do you anticipate being, say, at the end of the next quarter?

Well, I think last quarter our fab capacity utilization was somewhere around 50 percent and this quarter we're going to turn it up a little bit and it should be just slightly above 50 percent.

Thank you.

Yeah, of course, that's highly dependent in the future on revenues. If the revenues continue to grow then certainly our utilization will grow with increasing revenues.

OK, does that cover your question, Alan?

Yes, thank you.

OK, thanks very much and thanks for the kind words.

Our next question comes to us from

of Prudential Securities. Go ahead,

.

I missed part of the beginning of the conference call but I was wondering if you could give us some light on what specifics you get off the DSP business this quarter, if there was anything that you want to highlight.

I'm sorry --

Could you repeat the question there,

?

I was wondering if you could highlight any specific growth area for your DSP business in the April quarter?

Well, I think our DSP business improved broadly in most areas with the exception of telecommunications infrastructure. So we saw increases in the wireless area and we saw increases in DSL, but I think even more important than that we saw some good increases in some of the horizontal markets for our DSP, given our new DSP cores. I mean, that's an important part of our DSP franchise and one that we're seeing many, many new designings with these cores, which gives us great confidence that that business is really going to be poised for some pretty good performance going forward.

OK. And then just one more question, if I could. You mentioned that you would transition to six and eight-inch within the next two quarters. Should we expect this transition to be completed by the end of this year? And also which percentage of our Analog offering will be produced on the eight-inch fabs?

I heard the first question. I didn't hear the second. I'm sorry.

I'm sorry. And then the second part was which percentage of our Analog offering will be eventually produced on the eight-inch fabs?

Yeah, the question was what percentage will be produced on the eight-inch fabs.

The eight-inch question is one we really don't have any statistics on. You know, we have one eight-inch fab and a couple of six-inch fabs that we're going to transition these products to. Now, it could turn out that by the time we're all done maybe a third on the eight-inch and two-thirds on the six-inch wouldn't be a bad estimate, but that is really an estimate. We don't know exactly how that's going to do.

I'd say over the next two to three quarters, maybe two to four quarters the transition should be complete. It's important to realize on Analog products that were built on four-inch wafers, you know, that's not a simple transition to do. A lot of these products are older products and we have to ensure to our customers that we fulfill our commitment to our customers that we're going to not interrupt their source of supply of these products ever, because one of the most important values that customers attribute to what's in our Analog business is we don't go obsoleting products on them or have products where there's no second source that they can no longer get.

So one of the very important things we're trying to do during this transition is make sure that our customers view this as a seamless transition, which means that it's going to take a little bit longer for us to do this seamlessly than it would take if we didn't have to worry too much about that.

So I'd say depending upon which fab and which location it will take somewhere between two and four quarters to complete.

Great. Thanks for that.

Thank you,

.

Our next question comes to us from Matthew

with Merrill Lynch. Go ahead with your question, please

My apologies, gentleman. That was a mistake on my part.

OK. Then we will move along to David

with

. Just one second, David. There you are. Whoops, hang on one second. We'll get you switched on here. OK, David, are you with us? It looks like I switched the wrong one. It looks like we have selected

with Morgan Stanley.

, why don't you go ahead with your question and then we'll get back to David?

Actually, this is Sonya

for

.

I had a couple of questions. I was hoping you could cover the distribution patterns in the quarter. So how large as a percentage of total revenues was disti in the quarter and do you expect the distribution business to outperform or underperform the overall guidance that you gave for next quarter? And can you just tell me what the customer bookings were on distribution as well as ADI's bookings from distribution?

Let me take the last one first. Our customers bookings on distributors were approximately 10 percent higher than our distributors bookings on us. So the book to bill ratio on distribution was somewhere around 1.1, which is a good sign.

The percentage of our business that we did through distribution last quarter was approximately 50 percent and we expect, you know, I would expect over time as some of the OEM customers begin to come back that that percentage would go down to more normal levels, which is in the high 30s to low 40s.

The reason that distribution has been such a high percentage is because we've seen such a large falloff in the large OEM customers particularly the telecommunications customers. So more normally that's in the low 40s or high 30s and I expect that as we continue the recovery here that is what will happen.

OK, thank you. And actually I do have a follow-up question. Can you talk about the breadth of recovery you're seeing in the industrial segment from the application point of view as well as from a regional point of view?

Well, we don't have it broken out in that fine a detail between location and in market, but I'd say broadly we've had a lot of industrial customers, you know, large ones and small ones alike that have really clamped the orders in almost every market, in automatic test equipment, in industrial process control, in the instrument business and all that stuff was pretty well clamped down pretty hard.

You know, one of the good signs that we've seen on the breadth question in the industrial customers is our distribution business has picked up and distributors do a large percentage of our industrial business for us, so that's a sign that at least the second, third and four tier accounts have really started to pick up.

You know, it's also true that our inventory in distribution has really gone way down. Over the last two quarters the inventory in distribution went down $15 million. So we think the inventories that distributors are carrying is very lean. The customers are beginning to order products. The end customers are. And as a result the distributors are beginning to order products for current consumption. But their inventory remains extremely low.

Great. Thank you very much.

Thank you. We're going to try once again and see if we can't get David

hooked up here with his question. I think they're going to open the line for you, David. Give it a try.

OK, great. Well, in my signs I noticed that you are exiting at the high point in terms of bookings, so congratulations and thank you very much all this time.

Now to the questions. Jerry, I've just been through your nearest competitor, the one down in Texas. We hear about how they're capturing all the 2.5G, 3G base station business in the future and how without recompiling you get all the benefits of high-performance DSP. I think I've been through the second point before but can you explain to me what the situation is in base station design wins and whether, in fact, the fact that Tiger Shark needs recompilation does that affect your design wins from a customer standpoint?

Lastly, I missed some of your communication comments. Somehow my telephone died or you dropped off the line and I heard that communications were up 4 percent sequentially. Was that all wireless or were there any other things besides wireless and ADSL?

Yeah, well let me answer the question on where the revenue growth was in communications and then Brian will take a stab at defrocking the myths in the base station business.

You know, as we said it was up 4 percent in total. We saw increases in both wireless and DSL during the quarter. Most of the increases in DSL were in Europe and Asia where our position is the strongest. And we began to see increases in many of the other markets that don't add up to any particular segment but are all throughout the communications sector.

Yeah, Jerry, I think we might have missed about 30 seconds when you were reading the communications part. I think we had a glitch on the phone line I think so maybe we could just read that again.

All right, well let me just tell you what we said specifically. We said that communications revenues were up 4 percent and represent about 30 percent of the revenues. They're basically split into four buckets: base stations, broadband, wireless and then the fourth bucket is all other communications applications.

The strongest revenue growth we saw in communications was in power management products, radio products and DSP products that are in handset, wireless handsets and other appliances like PDAs.

Overall the base station business, at least the production part of the base station business remained weak but on the other hand call volume is increasing and the pressure for better service and new data features is going to require a lot of new base stations going forward.

To answer your other question directly the designing activity for our Analog stuff and also our DSP products in base stations remains extremely strong and that's true, I want to emphasize, in both Analog and DSP.

You know, we've in the base station business always enjoyed a very strong position on the Analog side and as a result of the architecture of Tiger Shark we have a value proposition of base stations that is very compelling and for many of our customers reduces their base station costs by half.

Now, if you go back a couple years ago that was not a big deal but if you talked to base station manufacturers or the companies that really control the wireless infrastructure right now and we've talked to a lot of them the cost of the base stations is now a big, big deal. So if you can go into those markets and offer a proposition that's sort of half the cost of the existing proposition I can tell you, you get a lot of attention.

You know, we have six or seven major design wins of our DSPs and base stations and we're not going to go into the customer base of those but these are amongst many of the leading base station manufacturers around the world.

So I'm not going to comment directly on anything TI says but I can tell you that both our Analog and our DSPs are doing extremely well in base stations.

Brian, do you have something else you want to say?

Yeah, I think that what we took, David, is we basically looked at the base station as a system and really talked to the customers to understand what their main problems were. And obviously as Jerry has mentioned it's really important in the next generation of base stations to get the cost down. And cost, you know, we've been able to show to customers that we can take 50 percent out of the signal processing

. In addition to that we've been able to show that our architecture is completely programmable, which allows them, by the way, to do field upgrades remotely, which is another cost saving.

And so really it's not just about materials on the base station but also the field upgrade ability features with the resulting cost decreases that have really allowed us to break through to these six plus base station manufacturers.

Now, to attack the myths on the program element really many of the programs that are written now for the base station area are done in C. And C is a very common language and our DSPs are programmed in C and some of our competitors are done in C. And what we've been able to do in actual sites is go in and supply a lot of the base station customers with large chunks of those programs developed by some of our software partners, thereby easing the burden on them.

So really I think it's we've attacked it from a number of different perspectives and really understood the base station as a system and by doing that given the customers advantages that other more rigid architectures can't achieve.

Yeah, I think the other part to remember is just like in the handset business a large amount of the building material of a base station is Analog. And a lot of people tend to focus just on the DSPs in there and even though, as Brian says, I think we'll do very well in DSPs in base stations we currently supply 50 or 60 percent of the Analog content in base stations. You know, those are chock full of high speed converters and other very, very hard to do Analog functions. And I think what history has written, a much larger part of the building material, as it is in handsets, by the way, will continue to be on the Analog side of base stations, and I think that's a part that there's no dispute about how strong we are in.

Thank you.

OK, thanks. This is Jim Fishbeck again and that does complete our first round of questions. So starting now if you have a second round question you can press star-1 on the phone to queue up for those questions.

Hello, are we there?

While we're waiting a few seconds for those names to appear I'd like to mention that our third quarter earnings release is scheduled for just after market close on Thursday, August 15th, and our conference call is scheduled to start at 4:30 Eastern Time that same day, so you might wish to note that date and time on your calendar now, but as always we'll send you an e-mail a week or two ahead of time.

Now we're ready to start the second questions and the first question in the second round comes to us from

with Robertson Stevens. Go ahead.

Great. Thank you. This question is regarding wireless infrastructure and getting there is somewhat of a push out in the build out of this infrastructure. Do you see pricing becoming more competitive in this sector? And also can you comment on how DSP pricing was in the April quarter? Thank you.

Yeah, I think as Brian said and I said a little earlier this cycle now given what's going on in the infrastructure side the customers are becoming much more aware of overall system cost than they have been before when it was just a question of getting the service up irrespective of the price. So our sense has always been to if we can understand the system and we can pioneer an architecture that really saves them money we can both get their costs down and still make pretty good margins with our products. And that's always been our strategy in Analog and I think the base station market represents another example of that.

You know, overall I think in the DSP market there's really been no real discernible trends on price. By the way, not in the Analog market either because a large portion of the products are proprietary and no matter what happens in the cycle the prices tend not to go up and down very much.

So I'd say overall there's no real trends on the price and there haven't been really any trends on the price during this entire cycle.

Thanks. Very helpful.

Thank you. The next question comes to us from Joe

with Merrill Lynch. Go ahead, Joe.

Hi. Can you hear me?

Sure.

We've got you.

Great. I'm wondering if we can get a comment on how the direct conversion radio technology is going, what the ramp there has been like? And then I have a follow-up.

Brian, do you want to take a stab at that and then I'll give you some color?

Sure. Yeah, we've got a number of designs now in field production for the original field product that we released about a year or so ago. We've kept up the R&D developments on that and recently sent out the update, which reduces the bill of materials and the

have fallen down to now really like a total bill of materials to the 8 to $10 area.

We intend to take the direct conversion end product into and be first to market with products for the edge market or the very high dealer rate transfer over GSM market.

And really the ramp with the existing customers that we've got is going quite well right now.

You know, I think one more trend that we've talked about, Joe, a little bit in the past that's really helping us here now is that given that not only the production but the design of many of these wireless appliances, and that includes not just handsets but also things like the RIM pager and so on, since so many of those designs are now moving to Asia the customers really do want an entire sort of bill of materials from one vendor and all they want to do is just sort of assemble the plastic and ship it.

And in that sense being able to supply the radio, the Analog base band, the power management as well as the DSP base band, for those ODMs that are building those things that really does really help us. And we go in there and give them a reference design, we give them software that's type approved, that works. I mean, that's a real change from what it was a couple of years ago and has given us an opportunity in many places where we haven't had an opportunity before. One notable place where we see that happening even more than we expected is in China, where a large part of the growth rate on some of these products is now.

Now, I would also say though as a whole if you look at the handset business for Analog it's really only 3 or 4 percent of our sales. So it's not a dominant part of our sales. It's not very exposed. But on the other hand we do see opportunities to participate in segments of that where we think we can add value and make good margins and we're continuing to do that.

OK. Thank you, Jerry. And then as a --

By the way, Joe, the radio is a very important part of that.

Oh yeah, indeed. You guys were among the most vocal about this and I just wanted to know how it was going.

And then a financial question: Let's say hypothetically you guys get back to $500 million top line in quarter X, and I won't beat you up about when that's going to be, hypothetically what kind of operating model at the gross and operating level might it be reasonable to look for?

Well, it's hard to predict unless we look at the mix of the business and how we get to $500 million, but I think what you'll see is steady progress on the gross margins, steady progress on the operating expense leverage and therefore steady progress on the operating margins of the business.

You know, one of the things that we're enthusiastic about, about the operating model, is that a lot of these infrastructure costs that we've taken out earlier this cycle in the back end and now in this part of the cycle in the front end will allow us to get back to the margins that we were running at lower levels of sales. I mean, that's why you do all this stuff. And we've always, particularly in our Analog business, believed that we could -- that there's no reason why our gross margins shouldn't be as high as anybody's in that business and I think when you look at what we've been doing over the last sort of 18 months and what we're going to continue to do really over the next 12 months there's no reason why the operating margins in that business shouldn't begin to converge on the very best in the industry.

You know, in the DSP business we've said that we've invested a lot of money and the R&D is very, very high and therefore the operating margins low, but if DSP does what we expect it to do over the next couple of quarters and even longer than that, that R&D gets down to a much lower percentage of our sales because many of the sort of infrastructure DSP investments are abating now that we have these cores out. I think we've got great leverage there, too.

So it's hard to give you an exact number. We'll try to update you at the end of the quarter on what our expectations are for the quarter after and what kind of leverage we can get, but I think as was clear this quarter that if we just get a little sales growth we get great leverage. I think if we continue to get sales growth we'll continue to get great leverage. And our goal clearly is to get the equivalent margins we ran on the last cycle with lower sales and maybe even higher margins on higher sales if it goes above that.

So I mean that's clearly what we've been working on and we're pretty far along on that process of getting there.

OK. Thank you. And I can just assume that operating expenses in dollar terms are not going to move a whole lot going forward?

Well, I think the way to think about the operating expenses is we have a few one-time things to get through. This quarter we decided to restore the salaries and last quarter we decided not to shut down our places for a couple of weeks. This quarter we decided to restore the salaries. I think once we get past a few of the one-time things that we have to start paying people and stop shutting down the businesses I think the operating leverage will be tremendous.

OK. Thank you very much, Jerry.

OK. Thank you, Joe.

The next question comes to us from Vincent

with Citigroup Asset Management. Go ahead.

Hi. On the consumer business I think you said that it was up 30 percent sequentially. Was that entirely driven by new digital product ramp or was that elements of perhaps inventory replenishment from customers? And then I think you said up 10 percent in Q3. Is that a temporary seasonal deceleration growth rate because of summer and should we expect a reacceleration in Q4?

Well, I'd say when you're growing in the consumer business like we're growing at 10 percent sequentially is nothing to apologize for in that business.

Sure.

But I'd say it's really the penetration of the kind of products we do in some of these high end consumer products and the fact that throughout the cycle the consumer has stayed active. And if you go into the stores there's no evidence of any inventory accumulating there. If you want to get the right digital camera it's still hard to get. DVD players are selling out. The high-end audio products are selling out. Some of the high performance TVs are selling out. So I think through this cycle the consumer has surprised everybody, and that's why our consumer business has been growing.

You know, the other reason, of course, is the penetration into some of these products is accelerating. So not only are we getting sort of the unit growth rate of consumer products going up but our dollar content in many of those products is increasing as we sell more and more content into each of those products.

So the consumer space is one that surprised us all through this cycle and we're now believing it is one of the very important growth engines for Analog going forward.

And do you think your growth rates in Q4 will accelerate beyond what you're forecasting for Q3?

I think we'll have to wait and see as we see what the orders are in Q3.

OK. And what's the largest part of the consumer business either by product or by end market application?

Well, like a lot of our products it's broken down into many, many different segments. You know, we have a very strong position in digital cameras, still cameras, a very strong position in digital VCRs. We have a very strong position in DVD players. Any digital consumer product we have a very strong position in because they all need very high-end Analog and increasingly many of them are going to need DSPs.

So there's no one product, there's no one customer, there's no one application; it's really spread out amongst lots of different things.

All right. Thanks.

Thank you. We only have one more product -- or one more question, I should say.

We've got a lot more product.

A lot more products; only one more question queued up for us at the moment. And if there are no more after that, that will wrap up our call. But this question comes to us from Stan

of JP Morgan. Go ahead.

Yeah. Hi. Thanks, guys.

I was just wondering if you could possibly comment on the computing segment. I know you mentioned it's about 20 percent of your business. Can you just give us an idea of kind of what you're seeing right now and maybe what sort of a build you're expecting come the July back to school time rame?

Well, you know, interestingly in computers it's a little more complicated with Analog because really our growth rate is really a product of the same two factors as is going on in the consumer market. One, it's of course related to PC software, and secondly it's related to we have more and more products and more and more dollar content in every PC.

You know, we gave you some numbers a little earlier that said that based on everything we see, based on the backlog our computers customers have given us, and we sell our computer products to every single -- virtually every single large computer OEM from Dell and Compaq and HP and IBM and virtually every one of those, so we have a pretty broad spectrum of computer customers and the best sense that we have from them is that in third quarter we're going to see another 10 percent sequential increase.

You know, that's not just computers. In that category we put flat panel displays and a lot of other things that are really part of the computer segment for us.

So we're seeing pretty good strength there and I think a lot of that -- part of that is due to the market being a little bit better and I think a large part of that is due to our penetration of computers with more dollar content per PC.

Sure. And narrowing down your power management stuff can you mention explicitly where that's going? Is that into notebooks or desktops or both?

It's really going into both.

OK.

And I'd say an increasing part of that is now going into notebooks.

OK. And do you have -- is there any sort of a dollar content number you could throw out there?

Oh, it's hard to say. Do any of you guys have a rough guess at the percentage that would go into notebooks?

It used to be sort of more geared towards the desktop a year ago but it's now reaching about 50 percent. And I'd say if you look over the next couple of quarters that's going to keep increasing.

OK. Great. Thanks.

OK, thank you. There are a couple others I guess that aren't going to let us get away without answering another question and one of them is Joe

who has another question. Go ahead again, Joe.

Yeah. I'm like the Terminator; I keep on coming back.

Can you talk a little bit about new product revenue, in particular as we look into the upcoming quarter? Do we expect new product revenue to grow or is this recovery more sort of rebookings of existing products?

I think it will -- you know, it's hard to predict in advance but we did take a rough look at that in the last couple of days just to get our own sense and I think it's going to be both. I think an important part of that is going to continue to be the newest products. You know, when we look back over 20 years every one of these recessions, customers get out of it, buy new products and of course their new products have our new products in it. So I think a good part of it will be new products but also some of the older products we're seeing some life on too. But there's no doubt that well certainly for this quarter that we finished almost all of it came out of products that were not around 18 months ago and I don't think it will continue to be all of it but it will continue to be an important part of it.

And if I just sort of think about where that was coming from is it fair to say that sort of power and display drivers and stuff for this wave of new consumer electronics products has been an important source of growth?

It's all been very important sources of growth for us.

OK. Thank you.

Thank you, Joe.

And now we've got another question from David Woo on his cell phone. Go ahead, David.

OK. Quickly, I heard the words first for the first time customers are giving you a little longer lead time. What kind of customers and why would they even bother to give you a longer lead time since you since you've cost them so much of their inventory in die banks

can respond quickly to demand?

And the second part of that, a second question rather is it seems to me that there's a trend towards getting down to one chip CPE for the ADSL business and I was wondering whether you can be competitive in that space relying on TSMC fab to do that integration for you on pretty much digital CMOS?

Yeah, as far as why customers are beginning to do it, you know, I think all told although customers still believe and it's true that many products are in die bank and they sort of know that, I think they're beginning to sense that things are tightening up a little bit on products that are not in die bank. And I think they probably heard a little bit about some of the comments TSMC has made that on some of the more advanced technologies where many of the newer products are there really aren't a lot of die banks. Most of the die banks are the older products so I suspect when we look behind all the detail a lot of the 26 week sort of backlog that we've been building is likely to be on many of the newer products where a lot of die inventory doesn't exist.

But nevertheless for the first time the numbers don't lie about that and we've seen a larger increase in the orders for 26 week delivery than we've seen in the orders for 13 week delivery and that's a sign that we haven't seen in a long time and I believe a sign that customers are getting just a little bit more confident that they're at least saying things might get a little tighter, we don't know for sure so let's at least take a look at scheduling some stuff out, given that our inventories or their inventories are low and they don't feel like they're just choked with all the inventory they have. And it's across a lot of customers and a lot of markets that we've been seeing that.

Want to talk a little bit about the DSL?

Sure. This is Brian here. In the CPE segment really there are a couple areas there and a couple trends. One is for, as you said, the single chip, you know, DSL CPE only play and really what the customer wants there is performance both in terms of power

and cost and materials. And what we've been able to show with our Eagle processor is that it's got a superior level of building materials over the competition.

And we've actually extended that offering by joining Eagle together with another processor called Falcon to basically have a complete DSL home gateway processor. So we've taken the complex analog portion of the DSL engine and put it together with the complex digital engine --

All participants, thank you very much. If you can please press star-1 if you have questions and star-2 to cancel. Please press star-1 if you have a question, again, and star-2 to cancel. Thank you very much.

-- the margin stack. In actual fact the competitors that we see out there are all in a similar position to ourselves in terms of using foundries. In fact, the so-called vertical competitors really don't seem to be present and we don't at least rate them at present. So customers are more concerned about the performance, the bill of materials and the level of integration that they're getting and we think we're doing pretty well there.

You know, I think we had talked last quarter, I believe, David, about this sort of bake-off that was over there in Taiwan for millions of lines in Taiwan. And everybody stood up and took their best shot at that. And given that DSL has been sort of a doggy place to be in the last four quarters everybody was pretty aggressive on that. And when all was said and done against everybody putting their best foot forward we won that. And I think we won that because we have the best product, we have the best level of integration and most importantly we have the best roadmap going forward.

So at the end of the day with all the press releases and everyone sort of saying they've got all the business what really depends is who's getting the business now. And like I said in the U.S. things are still dead but in the deployments that are going on outside the U.S. we're doing pretty well and we think we'll continue to.

Thank you.

You know, the other thing I'd say, just like I said in the handset business, is DSL now is a pretty small part of our business. So we've been saying, and sometimes people listen and sometimes they haven't, that we're not a DSL company. DSL is one vertical amongst many that we invest in and that's the way you should think about it.

Thanks.

OK. I think we have a question here from

and we're trying to get him switched into us here so he can ask us a question. Are you with us, John?

I had a real tough time getting on. I just want to clarify with --

We're asking the operator here if she can switch in

to us. Can we try that again?

Yeah, can you hear me?

Mr.

, go ahead, sir.

Yeah, can you hear me? Can you hear me, Jim? Hello?

Hello, John. Are you there?

I am. Can you hear me?

Well, we're not reaching John at the moment. Maybe we can try him again. I think Adam Parker with Sanford Bernstein also has a question. Operator, can you switch him in please?

Stand by, sir.

While we're waiting to see if we can't get either John or Adam or both in here let me take a minute here and mention to you, if you haven't written it down already, our next conference call will be for our third quarter results --

Operator?

Is that you, John?

That is me.

Go ahead. You're on the air. Go ahead.

Sorry to bother you. I've been trying about five times; definitely need an upgrade of this networking system.

I wanted to ask you --

You're probably using the wrong cell phone.

Yeah. No, I'm actually on a land line, but I wanted to ask you about order patterns. It seems like they're pretty strong in the quarter. You know, most companies are seeing, I don't know, analog companies, 20 to 25 percent sequential order growth and kind of guiding to your high single digit, low double digit kind of range.

What's the momentum like going into May and the summer? Does it look like the current order trends are somewhat sustainable?

Well, we had three strong months during the quarter. You know, April was strong, March was strong, February was strong. We didn't see any roll off. the early weeks in May -- it's only a week in May or a week in a half since we closed the quarter -- looked pretty good.

So we're being a little cautious here on the guidance because the summer is coming up and who knows what's going to happen in July, of course, which is the last month of our third quarter. But at least so far we've seen pretty strong trends in the orders you know, both in the OEM channel and the disti channel.

And then your expectations for turns is down quite a bit. If the turns levels stay high, the order book has been strong, there is a chance it sounds like for upside surprise in the current quarter.

There's always a chance. You know, we try to give you our best sense of what it is. You know, we have an internal plan for the revenues that we told you. We're being conservative because a lot of times the top line drives the expense plan and until we really know, you know, everything is locked and loaded and we think it's in our advantage to try to remain conservative on what we commit externally and what we allow internally, and we'll just have to wait and see how things develop. If the patterns are stronger certainly, if the patters are not we think the 8 percent is a reasonable guidance.

Got you. And then, Jim, with regard to tax rates for the rest of this year where would you guide us explicitly?

Hello? Can you hear me?

Yeah. Can you hear us, John?

Sorry. Yes, I can, yeah.

All right.

Hello, John?

Yeah, with regard to the tax rate over the next two quarters explicitly, do you have one or is it just a plug for the bottom line?

Yeah, into the $4 million range per quarter due to the drop in interest rates and we've reassessed the mix of business going forward and if the business comes in the way we think it might the tax rate of probably 22 percent would be the range that we'd have going forward, and we would expect that could continue into the early part of next year as well.

OK, 22 percent. And so did you say that net interest income is in the four million range?

The non-operating income, net of everything that's in that bucket.

Net of everything, okay. All right. Thank you very much.

OK, thank you, John.

Now I think we have a question for us from Michael

with Credit Suisse First Boston. Go ahead. Michael, are you with us there?

Stand by for me for just a moment. We have to take this next question. He disconnected, sir.

OK, operator. Can you tell us who that next question is coming from, please?

Yes.

I think Adam Parker from Sanford Bernstein had a question for us. Can you bring him?

Yes. Stand by for me.

Can you guys hear me?

Mr. Parker, go ahead, sir.

Hi. Can you guys hear me?

Go ahead.

Great. Just a couple questions. In terms of incremental margins they're around 83, 84 percent this quarter and your guidance is for roughly 100 percent incremental margins next quarter. I know a more long-term trend is something like 70 percent for incremental margins. And I'm just trying, could you briefly review roughly how many quarters out I can expect until I get to a more normalized incremental margin level?

Joe?

You're looking at 100 percent incremental margin next quarter?

Well, it looks like you're going to add 30 million in revenue and about 30 million in gross income roughly was your guidance.

In gross margin?

Right.

No. Our guidance for next quarter was 54.5 percent gross margin.

Right. So if you do the difference of the delta on gross income from this quarter to next quarter and the delta on revenue it gets you well above a more normalized incremental margin revenue in the 70 percent range longer term. So I'm just trying --

Well, we said that we thought that the operating margins, that's operating profit before tax and before non-operating income, would go from 14.2 percent of sales this quarter to approaching just slightly below 16 percent next quarter.

Maybe I'm not being understood. If you're guiding from about 413 to 445 that's a 32 million increase in revenue roughly and the gross income, the gross margin guide implies a similar increase in gross income quarter to quarter, meaning that you're going to have more than a normalized level of incremental margin both this quarter and next quarter.

Well, our guidance is to go from 53.4 percent of sales this quarter to 54.5 percent next quarter. That's a little more than a $20 million increase quarter to quarter. It's about 65 percent.

OK, I'm sorry. Maybe that is. A lot of the call has been in and out and I don't have the document in front of me.

So I'll ask my second question, which is about converters. I don't know if you track WFDS data month to month but I was a little interested if it was a linear quarter in terms of converter sales or was it very back-end loaded because the February data point from WFDS was pretty weak in converters and I'm wondering if you had a lot of converter share in April or if you continue to gain share in that space?

I mean, we don't track each product each month against any of this industry data so I really don't know the answer to that. I'd say that our converter position has been increasing from high levels to even higher levels over the last couple of quarters and the last couple of years and that's about all I can say.

OK, so within the quarter it wasn't more loaded toward April than it was --

I don't know the answer to that.

OK.

We don't track it like that.

OK. One other question, if I can, is Texas Instruments today, and I know you talked about this before, but they were saying that within their DSP strategy they were really working on some more application specific DSPs to drive revenue and they mentioned consumer and infrastructure as a couple of examples. Can you talk about outside of the handset space do you see general purpose DSPs growing at a faster rate than application specific ones in the next couple years and do you not chase some of that business because you believe it's lower margin or can you just take a look at that a little more?

I'd say let me take a step back and say the way we think about running Analog Devices rather than respond directly to that.

OK, great.

We believe that the way to really build a business is to build a franchise from the bottom up. So just like we've done in our Analog business for 25 years we develop core technology in our Analog business and then from time to time when we see an important vertical that (audio break) we adapt that very rapidly (audio break).

I think in the DSP business we play the same game (audio break) trying to develop very solid (audio break).

Operator, can you help us out here? There's a lot of background noise we're picking up here. Is that interfering with our participants' ability to hear the call?

Stand by. Let me find where the noise is coming from, sir. Someone may have an open line.

OK, Adam, hang on a second here. We'll see if she can clean up the line there and then we'll have another crack at it.

So let me keep going. Are you still there?

Yeah, Adam, are you still there?

OK. So the way we approach the DSP market is very similar to the way we approach the Analog market. The first line of defense is get a very solid horizontal base of customers and the second line of defense or offense is to take some of that technology developed in the core and go after verticals as we think there are verticals that can support high margins and sustainability. And I think in the DSP business that's what we're going to do. There are some verticals like that. We've talked about them. But we approach that after developing the base of core technology much like we have in the Analog business.

So we go from the horizontal to the verticals not from the verticals to the horizontals. That's a very big distinction of the way we think about that and many of our competitors do. We think it also leads to much higher gross margins.

OK, Adam, are you still connected to us at this point? All right, we're going to assume that you can hear us and heard that answer and I think you may have been taken off the queue.

I think we also have a question from

at Midwestern Research, and I don't know, operator, but if you would please take a crack at seeing if you can switch him in.

Can you guys hear me?

We've got you. Who have we got?

You've got Woody.

Good, Woody. Well, I'm glad we've got somebody live here. Go ahead. What's your question?

I just had a question in terms of how you saw the quarter kind of roll out. I noticed that your accounts receivable is kind of up 12 percent sequentially and revenue is up a little more than five. So did you have a really good April or did it just kind of build as you went along or is there something going on there in terms of the terms you're giving people?

Hello?

Can you hear us, Woody?

Yes, can you hear me?

Got you.

This is Joe McDonough. We actually had quite a linear quarter as it turned out and the accounts receivable was mostly related to the fact that last quarter we had a pretty significant drop in inventories at our distributors. They sold off some of the stock and improved their turns a bit. So they had obviously paid us for that. That brought our DSOs down last quarter to really an historically low level that's not sustainable. And so they went back up this quarter to about 48 days, which actually is pretty good. We traditionally have been running in the low 50s and so the DSOs are actually pretty good compared to our business and we expect them to stay more or less in the range that they're in right now.

I'm not doubting that they're very good; I was talking on the absolute dollar amount that went up 12 percent sequentially.

Yeah, and the reason was because of this distribution shift last quarter that drove the DSOs down.

OK. Thank you.

OK, thank you, Woody. And it looks like there's no one else in the queue so that completes today's call. So on behalf of Jerry Fishman and Joe McDonough, Brian McAloon, Robbie

and Vincent Roche thanks again for all of you for joining us today, for your interest in Analog Devices and for taking the time to be with us. We look forward to talking with all of you again and that will be during our third quarter conference call, which is scheduled for Thursday, August 15th, beginning at 4:30 Eastern Time. We'll talk to you again and thanks again. Goodbye for now.

Thank you for participating in today's teleconference call and everyone have a good day.