AXT Inc (AXTI) 2007 Q1 法說會逐字稿

Good afternoon. My name is Larry, and I will be your conference operator today. At this time, I would like to welcome everyone to the AXT first quarter 2007 earnings conference call. (OPERATOR INSTRUCTIONS) Thank you. It's now my pleasure to turn the floor over to your host, Dr. Philip Yin, Chief Executive Officer. Sir, you may begin your conference.

Good afternoon, everyone, and welcome to AXT's first quarter 2007 call. I am Phil Yin, Chief Executive Officer. I would like to thank you for taking the time to be with us. With me today is Wilson Cheung, our Chief Financial Officer.

Wilson will take you through a detailed financial overview of first quarter results and then I will give you my perspective on our markets and future opportunity. Following the conclusions of my comments, Wilson will provide forward-looking guidance and then we will open up the call to your questions. Wilson?

Thank you, Phil.

Before we begin, I would like to remind you that during the course of this conference call, including comments made in response to your questions, we will provide projections or make other forward-looking statements regarding, among other things, the future financial performance of the company and our ability to maintain profitability, control costs, and improve efficiency, improvements in our manufacturing costs, improvements in our competitive position and our technology development, the impact of customer qualification of our products, new opportunities for our China joint ventures, improvements in our production processes, product quality, and yields, cost and supply of raw materials, the impact of technology developments providing new markets for gallium arsenide and germanium substrates as well as market conditions and trends.

We wish to caution you that such statements that deal with future events are based upon management's current expectations and are subject to risks and uncertainties that could cause actual events or results to differ materially. In addition to the factors that may be discussed in this call, we refer you to the company's periodic reports filed with the Securities and Exchange Commission and available online by link from our web site for additional information on risk factors that could cause actual results to differ materially from our current expectations.

This conference call will be available on our web site at axt.com through May 2, 2008. Also, before we begin, I want to note that shortly following the close of market today, we issued a press release reporting financial results for the first quarter of 2007. This press release can be accessed from the Investor Relations' section of AXT's web site at AXT.com. Now turning to our financial results, revenue for the first quarter of 2007 was $12.5 million compared with $13.1 million in the fourth quarter of 2006.

Total gallium arsenide substrate revenue was $8.8 million for the first quarter of 2007 compared with $11.1 million in the fourth quarter of 2006. Specifically, 6 inch diameter wafer sales were 3.3 million for the first quarter compared with 4.9 million in the fourth quarter of 2006 due to the delay of BIFET qualifications of certain customers and less than expected orders from a few handset market customers, which Phil will explain later in the call. Indium phosphide revenue was 518,000 for the first quarter of 2007 compared with 456,000 in the fourth quarter.

Germanium substrate revenue was 541,000 compared with 318,000 in the fourth quarter. Finally, sales of raw materials, primarily 99.99% pure gallium were 2.6 million in the first quarter of 2007 compared with 1.2 million in the fourth quarter as a result of three new Japanese raw materials customers. These additional raw materials sales are not expected to be repeated with such magnitude in the second quarter of 2007. In the first quarter of 2007, revenue from North America was 27%, Asia-Pacific was 57%, and Europe was 16% of total revenue.

No customers generated more than 10% of our revenue during the first quarter. While the top five customers generated 34% of our first quarter revenue. Gross margin was 43.2% of revenue for the first quarter of 2007. This included a benefit from the sale of approximately 785,000 in fully reserved wafers, which positively affected the quarterly gross margin by 6.3 percentage points. However, our gross margins continue to benefit from overall yield improvements in many areas of manufacturing.

By comparison, gross margin in the fourth quarter of 2006 was 38.2%. This included a benefit from the sales of approximately 730,000 in fully reserved wafers, which positively affected fourth quarter gross margin by 5.6 percentage points. Selling, general and administrative expenses were $3.7 million for the first quarter compared with 2.9 million for the fourth quarter of 2006 as we incurred additional legal expenses in anticipation of settling existing lawsuits and professional fees on SOX and other related matters. Research and developments costs were 460,000 for the first quarter of 2007 compared with 854,000 for the fourth quarter, which included accrued severance of 424,000.

Stock compensation expense was $120,000 for the first quarter of 2007, of which $13,000 was in cost of revenues, $89,000 in SG&A, and $18,000 in R&D. Income from operations for the first quarter of 2007 was $1.2 million compared with income from operations of $1.2 million for the fourth quarter. Net interest and other income for the first quarter of 2007 was $213,000 compared with net interest and other income of $1.1 million for the fourth quarter, which included a gain on Finisar stock of $1.3 million.

Net income in the first quarter of 2007 was $1.3 million or $0.04 per diluted share based on $31.3 million weighted average shares outstanding. By comparison, in the fourth quarter of 2006, we reported net income of $3.4 million or $0.13 per diluted share based on 25.5 million weighted shares outstanding, which included approximately $0.05 from the gain of sale of Finisar stock and $0.04 from our income tax benefits. The increase in shares outstanding is the result of our follow-on public offering of 6.6 million shares of common stock completed in December of 2006 and in January of 2007. Let's now look at our cash on the balance sheet.

Cash and cash equivalents with maturities of less than three months, short-term investments and other investments and high grade debt securities with maturities of less than two years, including restricted deposits were $43.6 million at March 31, 2007, compared with $42.7 million at December 31, 2006. This increase includes $3.7 million from the exercise of the green shoe in January from our December follow-on offering. Our cash used in operations for the first quarter was approximately $1.6 million.

Accounts receivable net of reserves were $8.6 million at March 31, 2007, compared with $9.6 million at December 31, 2006. Day sales outstanding was at 62 days for the first quarter compared with 68 days in the prior quarter. Net inventory increased to 24.4 million at March 31, 2007, from 20.3 million at December 31, 2006, primarily in raw materials due to the timing of purchases for anticipated production and work in process.

Depreciation in the first quarter was 303,000. At March 31, 2007, the company, including our consolidated joint ventures, had 1,030 total employees of whom 826 worked in production. This concludes our financial review. Let me now turn the call back to Phil.

Thank you, Wilson. The first quarter was both challenging and rewarding for AXT. With the delay in BIFET qualifications of certain customers and less-than-expected orders from a few handset market customers, total revenue came in below our expectations. However, through significant engineering and operating achievements in our cost reduction efforts coupled with positive product mix, we posted record gross margins in the quarter allowing us to exceed our earnings expectations.

Further, qualification activity across all of our product lines has been robust and early feedback from customers and potential customers lead us to believe that 2007 will be a strong year for AXT. In fact, we believe that the opportunity has fueled our growth in past years is significant today as it has ever been. Now let's begin with gallium arsenide. During the first quarter, we were very pleased to report that we qualified a major European wireless device manufacturer for our 6 inch semi insulating substrates.

We're also pleased to report that we have completed our BIFET qualification and have several other qualifications with Tier I companies that are ongoing. As many of you are aware, our industry is going through a major transition in which a number of handset manufacturers are moving from the usage of [hyper HBT and PM] transistors to the use of a BIFET which combines the two on one another small footprint chip. We believe that while the industry moves through the qualification process, all the companies that supply compounds and (inaudible) substrates to this market, including AXT, are experiencing revenue in their 6 inch substrates, delays in the 6 inch substrate.

However, we expect to complete these qualifications this quarter and then to resume growth in our 6 inch substrates thereafter. Ultimately, we expect a benefit from this transition because in addition to enhancing device performance, the use of BIFET devices reduces use for handset manufacturers, which will allow them to produce basic handsets geared for developing countries, such as China and India. We believe that the availability of these lower cost handsets will expand the availability market, fueling the demand for gallium arsenide substrates.

In fact, based on strategy analytics latest report, semi insulating gallium arsenide bulk substrate output will grow from 22 million square inches in 2006 to approximately 26 million square inches by 2010. In addition, SA reports that the wireless communication segment will account for 79% of the total gallium arsenide mimic market in 2011 driven primarily by 2.5 and 3G digital cellular and wireless land, growing from a market of 1.6 billion in 2006 to approximately 3.1 billion in 2011. Further, our low-cost manufacturing facility in China and our ability to expand capacity cost effectively will allow us to benefit from this new market.

In fact, we believe that our ability to manufacture in China could become increasingly important as more device manufacturers develop manufacturing facilities or relationships there. In April, Anadigics announced that it is expanding the capacity in China through an investment deal with the Kunshan New and Hi-Tech Industrial Development Zone to join the constructed state of the art 6 inch gallium arsenide IT Fab in China's Jiangsu province. The move will expand the company's wafer fabrication production beyond its primary fab. in Warren, New Jersey.

Anadigics believes that the project will provide them with an attractive cost structure and the ability to meet future fab capacity needs, as well as providing them with increased access to one of the fastest-growing markets for their wireless and broadband communications. We expect that more companies like Anadigics will follow suit and our ability to provide substrates locally in China will further enhance our value proposition. Turning to semiconductor and gallium arsenide substrates for LED applications, our revenues were consistent with the prior quarter at the $4 million range.

We continue to be selective in the business that we choose to take on as pressure in this market is fairly high. We are pleased to report that we have begun qualification with a major North American LED manufacturer and we are hopeful to complete this process this fall. Ultimately, the driver in the LED market is to move to replace additional incandescent and fluorescent light bulbs with those made with LEDs.

LEDs are already gaining popularity in traffic signals, automotive, electronic billboards, and backlighting for flat panel displays, LCD TVs and mobile handsets and camera flash. And we expect that application and their use will continue to grow. In fact, particularly with a worldwide emphasis on ecofriendly designs, many high-end homes are now being fitted with LED lighting. Strategy analytics reports the LED market will grow at 11.7 compounded annual growth rate or CAGR, growing from 5.3 billion in 2006 to approximately 9.5 billion in 2011.

Now let's turn to indium phosphide. We continue to be pleasantly surprised by our revenue in this area of the business, recording more than 500,000 in the first quarter. But we still believe that the market for fiber optics will not be significant for some time. We are in a strong competitive position to address future market demands. During the first quarter, a large optical amplifier and switch company conducted an audit of our facility in China with very positive results.

We hope that this relationship will continue to our indium phosphide revenues as early as the third or fourth quarter of 2007. In germanium, we are pleased to report that during the fourth quarter of 2006, we completed our qualification of concentrated photovoltaic multi junction solar cells with terrestrial applications at a major North American supplier. We're also anticipating qualification of space applications with the same supplier. We have begun working with this customer to further enhance our technology and process and we expect that this partnership will lead to volume productions in 2007.

Also, demand in Europe continues to be strong and we are pleased to announce that we are in the process of completing our fourth germanium qualification with a German-based company. We believe that the greater efficiency of the CPV triple junction solar cells are giving germanium substrates to become the material of choice for photovoltaic applications. In fact, due to the efficiency of triple junction solar cells, strategy analytics reports that the germanium substrate demand from terrestrial CPV will grow from 50,000 4 inch wafers in 2006 to approximately 750,000 wafers in 2011.

That's a 216% compounded annual growth rate. Finally, turning to our raw materials business, over the last several quarters we have been substantially increasing the market prices of many of our raw materials. For example, [49 pure] gallium is currently selling for approximately 500 to $550 per kilo low versus the 400 to $450 per kilo in Q4 and 250 to $300 per kilo a year ago.

In addition, the germanium metal prices has already increased substantially from $600 per kilo a year ago to a recurring price of $1100 per kilo. These increases underscore the importance of our joint venture operations and the competitive advantage that they give us. Rather than buying critical raw materials on the open market, where supply can be limited and prices can increase rapidly, our joint ventures allow us to secure ample capacity at very attractive prices.

Also, with the completion of our capacity increases at most of our joint ventures, they are able to sell more materials on the open market in the first quarter. As further capacity expansions are completed, giving us the opportunity to sell more raw materials on the open market and as the demand and price of raw materials increases, we expect that our international presence will grow in this area.

We continue to investigate new joint venture opportunities that will allow us to expand our suite of offerings and other, and strengthen our competitive advantage. In closing, despite the revenue delay caused by industry transition and some shortfall weakness in handset sales, we feel very positive about our growth potential in 2007. Our substrates are performing well in BIFET qualifications and following their estimated completion in the second quarter, we expect to see renewed revenue growth in our 6 inch substrates.

Our sales activity continues to be robust and we're excited about our new qualifications with Tier I players in semi insulating and semi conducting gallium arsenide, germanium, and indium phosphide products. Further, I am extremely proud of our operations and engineering team for achieving great success in improving our efficiency and cost structure. In addition to these improvements, we have a multitude of cost reduction programs in place, of which we will see the benefits as we move forward.

AXT continues to execute well at all levels and our accomplishments coupled with our growing market and significant competitive advantages position us well for continued growth in 2007 and for years to come. I will now turn the call over to Wilson to discuss our forward looking guidance. Wilson?

Thank you, Phil. We estimate our revenue for the second quarter will increase to between $13.1 million and $13.5 million. Also, we estimate that our net income per diluted share will be between $0.03 and $0.06 which takes into account stock compensation expense of approximately 150,000 and our weighted diluted average share count of approximately 31.4 million shares. This concludes our prepared comments. We're now happy to answer your questions.

(OPERATOR INSTRUCTIONS) Your first question comes from Pierre Maccagno of Needham.

Wilson, if you could talk a little bit about the market transition here to the BIFET. How fast is that happening? What percentage of PAs are going in that direction? So how is that affecting you long-term?

I'll take that, Pierre. You know that there's transition going on because of low-cost, footprint, et cetera, et cetera.

When you say how fast, are you mean, are you referring how fast from our standpoint or the market itself?

The market, yes.

Well, obviously, I think everyone in Anadigics Skyworks who have developed this process, this technology, I'm sure they're trying to qualify their customers as fast as possible because it would behoove them to do that because it would open up the market for the lower cost of handsets. So it's hard for me to judge that particular aspect of the market from our standpoint.

As I mentioned, we're anticipating it to be completed at the end of the second quarter and revenues should return or go increase around the third quarter and going forward. From a market standpoint, I really can't comment on that.

In your opportunities with the top two players, any comment on that?

You mean from, as far as the BIFET process?

Yes. Or getting design wins?

No. Really, no. I haven't discussed this with them or have not had the opportunity, really.

Okay. Thanks.

Sure.

Your next question comes from Mr. Dave Kang of Roth Capital.

Thank you, good afternoon, guys.

Hey, Dave.

First question is, looking at your revenue, looks like it came up maybe 6 - 700,000 short with respect to your low end of the guidance.

Wondering if you can -- since you mentioned two factors, is it possible to just kind of qualify how much was due to BIFET versus weakness with some of your customers?

Dave, this is Phil. It was mainly due to the delays in the BIFET equal -- So -- [multiple speakers]

most likely to some seasonal inventory adjustments for the small diameter. Seminsulating material.

There are some guys on 4 inch still.

Okay. Just wondering whether you guys decided what to do with the follow-on, whether to increase your JV stake or venture into something else? Have you decided on that yet?

Well, I think that question's been asked several times already and I think my answer to that was, we are always looking for opportunities to complement our current product portfolio. As you know, the joint ventures that we have right now are extremely important. We feel we have a strong competitive advantage because of these joint ventures, especially in light of all the pricing increases in raw materials and gallium and germanium, so yes, we are looking at other joint ventures.

Our President of joint ventures, Davis Zhang, is extremely active in that area, so yes, absolutely.

Okay. Regarding your germanium business, certainly a nice increase. I was hoping you could just talk about some activities.

I guess you don't want to mention names, but the customer that you mentioned, seems like you're qualified in their terrestrial and in the process of being qualified for their space program. Is that something that could happen this quarter or maybe perhaps by third quarter?

Yes. I don't think it'll be this quarter. I think it will be probably in like Q3.

Q3, okay.

Yes, more business on the terrestrial. Space obviously is going to take a little bit longer.

Right. Talking to those guys, it sounds like even though they've got a huge backlog, that should start to ramp up '08, not necessarily '07. Is that kind of how we should expect your germanium to perform, more of an '08 story?

Right on, Dave.

Okay. Can you just talk about, so your raw materials business certainly had a nice pop. Last quarter I think they were capacity constraints. Can you talk about capacity expansion, how much was added last quarter and going forward how much is planned for additional capacity?

Yes. Well, every one of our joint ventures has added capacity.

The only one that has not completed it is the germanium one in Mongolia. And that's expected to be completed in June, but every one has basically doubled their capacity. I mean, I can be specific with you after the phone call. I don't want to give you wrong numbers, but I'll be happy to call you and tell you exactly where it went from X to Y.

What about in terms of gallium arsenide, can you talk about your competitor's capacity situation? I know they have longer lead times on all that. Has their situation changed in the last quarter or so?

I really can't comment on that. I really don't know because they're not, we're the only public company in this area.

True, true. Just a couple of numbers questions for Wilson. So gross margins certainly was very strong, even if you strip that number out, your real gross margin was around 37%, which is much stronger than what we anticipated. So where does this number go, going forward, Wilson.

I think that you should continue to expect margins to be in the mid to high 30% range.

Looking at the Q2 guidance we gave out, we did take into account about 250,000 fully reserved wafers in that number. You should continue to see this trend possibly for the remainder of 2007.

You said last quarter, expect low 30%, so that number is certainly going up, which I'm pleased to see. What about the OpEx, it was a little higher than expected. I guess the litigation, how much was that? Can you quantify that?

Sure. This quarter we did ramp up a little bit more in legal expenses because we're currently at the tail end of settlement negotiations. We probably spent another $400,000 to $500,000 more than the norm. And as soon as we have settled the lawsuits, we will make the proper timely announcements of disclosures. Is that going to happen fairly soon, like end of next quarter?

We are very hopeful that it will happen very, very soon.

Okay. I think that was it. Thank you.

Thank you, Dave.

Your next question comes from Richard Shannon of Northland Securities.

Hi, guys.

Hi, Richard.

A couple questions wrapped around gross margins. Phil, if you could, be great to quantify the deltas on the gross margins resulting from perhaps a little bit lower revenues from the 6 inch gallium arsenide, maybe a little bit better from raw materials than obviously with your cost reduction programs. Can you help us qualify those deltas in any way?

It's Wilson here, Rich. I'll try to take that question.

As much as I'd like to tell you the exact margins for the specific products, it's just kind of difficult. What I can tell you is that this particular quarter, we absolutely have better product mix. If you look at the raw materials, they are normally above 35 to 40% gross margin range for raw material sales. Same thing for indium phosphide, they're also higher than the norm. If we were able to increase those shares in the future, that would definitely help our margins in the future.

In addition to that, I think more importantly, Richard, is the, a big improvement we have made in cost reductions in manufacturing. That really helped our gross margins.

And I think that's real important, Phil, but I guess I would like to press you a little bit more on this. You talked about some product mix here and obviously we can try to judge what some of these product categories are going to do outside of gallium arsenide, but Phil, your comments in your script seem to suggest that a great deal of the gross margin upside was from the cost reduction programs. I'm just trying to get a better sense of what was the bigger driver there?

If you split it out, yes, it's maybe like50/50, I would say.

Okay. Then obviously, it's a little bit difficult for us to judge how successful you have been and how successful you can be continuing in the future on these cost reduction programs, which appear to be doing well. Can you give us some sense of how long you expect those, what kind of progress is it going to be the same kind of rate improvement or would you expect it to slow over time. How should we think about this, Phil?

When you say slow over time, obviously you're going to hit a point where you can't , I mean 100% is 100%,

How do we think about this?

Just to let you know, we have a multitude, I mean a multitude of cost reduction programs going on. As you know, M. S. Lin, who's our COO comes from silicon manufacturing. So he's implementing all of the disciplines that he learned in the last 30 years in silicon manufacturing into our compound business and I think has been very, very evident in our gross margins.

Like I said, we have a multitude of cost reduction programs. He's got MBOs to meet these, so I see more improvement in cost reductions.

Okay, great. Well, we'll continue to look for some good execution there. A question on the second quarter revenue guidance. I would assume from the comments I heard in your script that the dollar growth isn't necessarily going to come from the 6 inch gallium arsenide, but maybe some other areas like raw materials.

Is that where we should expect to see some of the dollar growth here on forward?

I think you should expect to see indium phosphide to probably stay the same and germanium, it will probably be the same. Raw materials, you would actually expect a little lower than Q1. We don't expect to receive the same orders from the three new Japanese customers at that magnitude, but we are anticipating gallium arsenide substrate revenues to improve compared to Q1.

Okay.

Great. Phil, you mentioned in one of the previous questions regarding germanium, is there any way you can give us a sense of what kind of volumes you expect or maybe what kind of revenue level you expect when your customers start getting into production volumes, be it late this year, early next year, whenever that occurs?

I can't really be too specific, because obviously we have an NDA. But I can tell you that the CPV or the concentrated photovoltaic market, which is the triple junction, again it's growing at a phenomenal rate.

And it's mainly all because of the efficiency of the triple junction solar cells. The cell itself is very, very small, right, compared to the system itself. So it's the system ,its the system price that really dictates the cost equation when you're building an energy plant. As you go forward, there's many, many energy plants that are being built, especially in Europe. I think there's one right now building in Australia. I think it's a 154-megawatt plant, which is enough power for about 120,000 people, which is like about 50,000 families or homes.

So from a substrate standpoint, let me just be a little bit more specific. A 4 inch wafer, germanium, one 4 inch wafer germanium will generate about 1 kilowatt of power. And a 4 inch germanium substrate based on current specs is equal to about 7 grams. So 7 milligrams, therefore, will give you about one watt of power. By the way, a silicon one takes about 10 grams that will give you one milliwatt of power. So if you take a 154 mega watt plant that is being built right now in Australia that equates to 154,000 4 inch wafers which equals to 1 ton of germanium. I am just giving you one example of these plants that are being built. You probably know, there's been announcements in the paper, who got what contracts, etc., etc.

That should give you a good idea of how many germanium wafers are going to be used.

That's great. Thanks for that detail, Phil. That was great. One last question for me regarding the three Japanese customers for raw materials.

Was there a one-time issue or one-time event coming in the first quarter and you expect it to drop off in the second, or can we expect to see those customers come back in later this year?

First of all, these are new customers from one of our joint ventures and they only did business with us the first time. We are expecting them to come back, although in Q2, we don't expect to be in that magnitude.

Great. Thanks a lot, guys.

Thank you, Richard.

(OPERATOR INSTRUCTIONS) Your next question comes from Rusty Cannon of RKC Capital.

I had a question.

You mentioned before you exited 2006 with a market share for GAs in the mid-teens. I was wondering if you can shed a little light on where that stands now or a forecast for that?

This is Phil, Rusty. Strategy analytics is supposed to be coming out with a report sometime in June to be more specific, but just talking to some of their analysts, it's in the low teens. And we were in single digits before that.

Okay.

And a follow-up question, you had mentioned a statistic when you talked about germanium, and I missed that. It was something 50,000 - 750,000. Can you repeat that?

Wafers. From 50,000 wafers to 750,000 wafers. 50,000 4 inch wafers in 2006 growing to about 750,000 4 inch wafers in 2011. This is some data I got from SA.

Got it. Thank you.

Okay. By the way, that's based on all the energy plants that are going to be built around the world.

One last question then on germanium, you also mentioned your annual report that you saw a lot of interest in China for this. Just curious as to why it would be focused in that area or what it might take to get it spread out to other areas around the world?

Could you be a little bit more specific on that question? When you're saying germanium, are you saying in China, raw materials of germanium, or are you saying --

You said in your annual report that the increase in germanium revenue was due to an increase in customers in the PRC.

Oh, yes, yes, okay.

I was wondering, is there reason for that or why in the PRC and why not elsewhere as well.

Well, yes, of course elsewhere, but in the PRC, specifically, we started off with one big customer who's actually application was really for satellites. I don't know if you've read the recent announcement.

China's going to launch 12 more satellites in 2007, so there's this particular customer has a contract for those satellites, so we expect the revenue to increase with this customer. That was the premise of that statement.

Actually in Q1, we expanded that to Germany.

Yes, right.

Exactly.

Got it. One last question, actually, no, that was answered. It was about your large cash balance after your secondary, but I think you addressed that, so I'm good. Thanks.

Thank you.

Your next question comes from John Evans of Wells Capital.

Can you talk just a little bit about linearity in the quarter for 6 inch, and maybe if you can give us any insight into what you've seen after the quarter's ended, etc.?

Well, I think if you look at the revenue trend, even in the last few quarters, you will see that the increases is a lot more dependent on how fast customers qualify us. So it's more customer-specific versus linear and given the BIFET delay until the end of this quarter, you're expecting to see a more improportionate increase in Q3 and Q4 in terms of gallium arsenide revenues.

So you thought you would get qualified then, sometime in February, late February and have revenues in March for a couple of those customers?

Yes. This is Phil, by the way. With any qualification that is going on, the qualification is all dependent on what we call free reactor time at a fab. Fab manager's first responsibility is production. When they're, right now, almost all the Fabs are maxed out.

So all the reactor time is being used. So if there's a qualification going on, usually that's on the back burner. So if you pressure them enough, obviously they'll run it for you. So it's really dependent, as Wilson said, customer by customer. How badly do they want to qualify you, right?

Right.

How badly do they want to bring in another supplier.

One qualified, as Wilson said, it's going to be a step function as far as revenue increases, because not all customers are going to get qualified all at the same time and give you production orders.

Got it.

I hope I answered your question.

That's helpful. Thank you so much.

Thanks.

Your next question comes from [Brian Horry] of [Aurelia] Management.

Thanks. I'm joining the call late, so I don't if this was covered or not. Is there an inventory turn target that you guys have or is there a level at which you expect inventory to kind of flatten out here at some point?

We do have an internal target as far as inventory turn is concerned, but I can tell you that you probably noted that there's a little spike in the inventory levels this past quarter and really its because of the raw materials purchases that we did in anticipation of the production for the remainder of the year. We are monitoring these inventory levels very closely and as the remainder of the year comes along, we'll try to utilize those inventory, but we do expect the inventory levels to remain similar levels in the next quarter.

And how about beyond that?

Well, that would depend on the arrangements that we have with the customers. Some customers may require inventory consignment arranges with them, so with all these arrangements, we would have to adjust our internal target for inventory turns.

Okay. Thank you.

(OPERATOR INSTRUCTIONS) There appear to be no further questions Dr. Yin. I'll turn the floor back over to you.

Thank you, everyone, for participating in our conference call. Just to remind you, next week we are presenting in at the AeA Micro Cap Financial Conference in Monterey, California and we look forward to see you next time. Thank you very much.

This concludes today's AXT conference call. You may now disconnect.