AXT Inc (AXTI) 2012 Q4 法說會逐字稿

Good afternoon, everyone, and welcome to AXT's fourth quarter 2012 financial conference call.

Today's call is being recorded. Leading the call today is Dr. Morris Young, Chief Executive Officer; and Raymond Low, Chief Financial Officer. My name is Deanna, and I will be your coordinator today.

I would now like to turn the call over to Leslie Green, Investor Relations for AXT. Please go ahead.

Thank you, Deanna, and good afternoon, everyone.

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 control costs and improve efficiency, increase orders in succeeding quarters, improve our competitive position as the market improves, as well as other market conditions and trends. We wish to caution you that such statements deal with future events, and are based on the Management's current expectations, and are subject to risks and uncertainties that could cause actual events or results to differ materially. These uncertainties and risks include, but are not limited to overall conditions in the markets in which the Company competes, the global financial conditions and uncertainties, market acceptance and demand for the Company's products, and the impact of delays by our customers on the timing of sales of products.

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 website 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 website at AXT.com through February 25, 2014.

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 fourth quarter and fiscal 2012. This press release cab be accessed from the Investor Relations section of AXT's website at AXT.com.

I would now like to turn the call over to Raymond Low for a review of the fourth quarter and fiscal 2012 results. Raymond?

Thank you, Leslie.

Revenue for the fourth quarter of 2012 was $18.9 million, compared with $20.8 million in the third quarter of 2012. Total gallium arsenide substrate revenue was $11.4 million for the fourth quarter of 2012, compared with $12.9 million in the third quarter of 2012. Indium phosphide substrate revenue was $1.6 million for the fourth quarter of 2012, compared with $1.6 million in the third quarter of 2012. Germanium substrate revenue was $1.7 million for the fourth quarter of 2012, compared with $2 million in the third quarter of 2012. Raw material sales were $4.3 million for the fourth quarter of 2012, flat from $4.3 million in the third quarter of 2012.

In the fourth quarter of 2012, revenue from North America was 14.4%, Asia Pacific was 66.3%, and Europe was 19.3% of total revenue. One customer generated more than 10% of our revenue during the fourth quarter, while the top five customers generated 39.7% of our fourth quarter revenue. Gross margin in the fourth quarter was 19.5%, compared with 26.3% of revenue for the third quarter of 2012. The drop in gross margin in the fourth quarter of 2012 was attributable in nearly equal measures from the lower selling price of raw gallium, sales mix, and lower capacity utilization. Selling, general, and administrative expenses were $3.7 million for the fourth quarter of 2012, compared with $4 million in the third quarter of 2012. Research and development costs were $875,000 for the fourth quarter of 2012, compared with $844,000 for the third quarter of 2012.

Total stock compensation expense was $342,000 for the fourth quarter of 2012; of which $22,000 was including cost of revenues, $279,000 in SG&A, and $41,000 in R&D. Loss from operations for the fourth quarter of 2012 was $0.9 million, compared with income from operations of $0.7 million in the third quarter of 2012. Net interest and other income for the fourth quarter of 2012 was $522,000. Net loss in the fourth quarter of 2012 was $753,000, or a loss of $0.02 per diluted share. This compares with net income of $933,000, or $0.03 per diluted share in the third quarter of 2012. Cash and cash equivalents with maturity of less than three months, short-term investments, and other investments in high-grade debt securities with maturities of less than two years decreased by $1.4 million to $50.1 million at December 31, 2012.

For the fiscal year of 2012, AXT generated $9.5 million in cash and cash equivalents. Accounts receivable net of reserves was $17.9 million at December 31, 2012, compared with $16.9 million at September 30, 2012. Days sales outstanding were at 87 days for the fourth quarter, compared with 75 days for the third quarter of 2012. Some major customers delayed payment at our calendar year-end, and submitted payments in the first 11 days of January, which would have had the effect of lowering DSO to 71 days at December 31, 2012.

Net inventory was $40.4 million at December 31, 2012, compared with $39.9 million at September 30, 2012. Of this, approximately 50% is raw materials, 38% is work in progress, and 12% is finished goods. Depreciation and amortization in the third quarter was $1.1 million, and capital expenditures were $2.1 million. As of December 31, 2012, the Company, including our consolidated joint ventures, had 1, 284 employees of whom 1,070 worked in production.

And now let's turn to our results for the year ended December 31, 2012. For the fiscal year 2012, revenue was $88.4 million, down from the $104.1 million in fiscal year 2011. Net income for fiscal year 2012 was $3.1 million or $0.09 per diluted share, compared with net income of $20.3 million or $0.61 per diluted share for fiscal 2011.

This concludes our review of the results. I will now turn the call over to Morris. Morris?

Thank you, Raymond.

2012 was a year of many moving pieces in our industry. Consolidation within the base of customers for our product is likely to have slowed certain qualifications for AXT, but also has the potential of opening new doors for us in 2013 and beyond. This past year, we also saw SOI technology enjoy increased adoption for certain types of RF devices that have historically been gallium arsenide-based. We are mindful that SOI will coexist with gallium arsenide in our market going forward, but we believe that the rapid proliferation of smartphones and tablets, coupled with superior linearity and speed of gallium arsenide for XPTS and other devices will continue to provide AXT with healthy growth opportunities.

During 2012, we also saw a drop in the price of raw gallium to historic lows, as capacity in our industry increased beyond what the market demand required. Industry growth would rectify this issue, and a turnaround in pricing can happen quickly. As we move into 2013, we believe that the dust is settling on a turbulent year, and our industry is adjusting to the many changes that have been taking place. With our positive customer relationships, low-cost manufacturing, and highly efficient cost structure, AXT has weathered a tough year and is well-positioned to leverage new opportunities as they emerge.

In semi-insulating gallium arsenide, while our sales were up sequentially in Q4, the demand environment remains soft, as it has been for many quarters throughout the year. We saw significant changes within our customers' competitive landscape. Market share shifts and consolidation likely caused customers to be more cautious in their purchasing decisions, and also slowed our progress with new qualifications. Further, the more widespread usage of SOI technology, largely in antenna switch devices, impacted the overall industry. Despite these challenges, as we enter 2013, we do so with cautious optimism. The many challenges in our customer base potentially opened up new opportunities for AXT. And with the dust finally settling, we are beginning once again to renew qualification discussions.

Turning to semiconducting substrate, as expected, demand continued to be soft, particularly in certain geographies such as Taiwan and China. The semiconducting market has always been a very fragmented and competitive market. And in the current environment, we believe that a number of suppliers are struggling to weather the challenging business conditions. AXT has certainly felt the pain of the recent downturn, but we are in a far more advantageous position. We are a diversified business, with a highly competitive product portfolio that can address a wide breadth of customer requirements and a cost structure that is lower than many of our peers. We firmly believe that the market for LEDs will rebound, but it is likely that the competitive landscape will experience some consolidation before the market returns to its previous levels.

2012 was also a weaker year for germanium substrates, as the market for satellite solar cells were softer than previous years. However, as we entered 2013, we are beginning to see a pickup in activity, particularly in Europe and in China. Our customers in these regions are planning for stronger demand than in the previous year, and AXT is well-positioned to meet their requirements. Our greatest challenge in this area of our business is the ever-rising cost of germanium raw material. As a result, we have experienced a degradation of our margins, as would be expected under these circumstances. We are actively working with our customers to equitably share the impact of raw material costs, and believe that our competitive cost structure and joint venture arrangements continue to make AXT an attractive supplier for this market.

With regard to raw material, while the costs of germanium has soared, the costs of raw gallium has reached record lows since hitting its peak in Q1 of 2011, as a result of rapid increasing capacity for gallium production. It is important to understand that raw -- aluminum resources, which is the source material from which gallium is extracted are limited; and we are not seeing any additional aluminum refining capacity coming on line. We believe that improvements in demand environment for gallium will allow the excess capacity to correct itself, triggering an increase in selling price for our joint ventures over time.

Further, the addition of gallium refining capacity brought on line by our joint ventures over the past year and a half, will be beneficial to AXT in the next cycle. AXT's unique joint venture agreement provides incremental margin opportunities to our overall business model, and we believe that the pricing environment can turn very quickly as the market for gallium arsenide-based device recovers.

In closing, while we are coming off of a very tough year, we believe that we have been able to weather the environment better than most in our industry, remaining profitable for the year and generating nearly $10 million in cash. As we enter 2013, we are seeing signs of market improvements in several of our product categories, and believe that the current landscape holds interesting opportunities for AXT. Industry projections for wireless devices suggest that we will continue to see a strong proliferation of smartphones, tablets, and other consumer products that will ultimately drive demand for our substrates.

We are approaching the year with cautious optimism, and we continue to exercise tight expense control and careful financial planning. Also, as we announced today, we are pleased to put in place a stock repurchasing program that will allow us to opportunistically buy back common shares of AXT stock. We believe that this program will contribute to our goal of delivering enhanced shareholder value in 2013.

I will now turn the call back to Raymond to discuss our forward-looking guidance. Raymond?

Thank you, Morris.

In the first quarter, we are expecting to see total revenues of between $20 million and $21 million. We are expecting net loss in the first quarter between $0.08 and $0.07 per share, based on approximately 33.1 million common shares outstanding. This loss per share takes into account an expected amortization of inventory reserves that will be incurred during Q1 and Q3 of 2013. Also expected additional R&D costs and the annual tax withholding in China on dividends declared by our joint ventures.

This concludes our prepared comments, and are happy to answer your questions.

Thank you.

(Operator Instructions)

We will take our first question from Avinash Kant with DA Davidson & Company.

Good afternoon, Morris and Raymond. A few questions actually, Raymond. You just issued the guidance for the Q1, and could you break down the impact of the inventory reserve and some of the other things that you talked about? How much is the impact of higher R&D and inventory reserve in the quarter?

The higher R&D, to answer that question, it's easier -- is approximately $0.01 extra additional expense in Q1 2013. And then the amortization of the inventory, that would be approximately 3.5% of the Q1 revenue, which approximates about 3.5% of gross margin.

3.5% of Q1 revenue, that is pretax?

Yes.

So, that is the impact on the quarter, not the year, right?

Correct, the quarter -- (multiple speakers) -- the decrease between Q1 and Q3.

It is not going to come in Q2, though, right?

There will be some in Q2.

Could you give us some idea how to think of it, for modeling purposes, in Q1, Q2 and Q3?

Just to give you -- obviously, the percentage-wise would differ as the revenue base increases or decreases. But just to give you an idea of the dollar volume, it is approximately $750,000 in Q1, about $525,000 in Q2, and it decreases down to $250,000 in Q3.

All pretax numbers, right?

Correct.

Okay. And Morris was talking a little bit about the landscape changing, and opportunity of the customers. Could you expand a little bit on that? Of course, IQE seems to be becoming quite big. Does it mean, given the business you have had there, you have a higher opportunity there now?

Well, as we said in our conference call, I mean, this year the consolidation is really very, very intense. And you can see that everybody is fully aware IQE has bought out Kopin. And so, there are good things and bad things. And obviously, we now understand part of the reason perhaps we didn't get into those qualifications was probably because of [struggling] businesses. Of course, it is difficult to tell going into the future, but we do have a reasonable, good relationship with IQE We certainly will try to knock on doors and offer our good quality product with competitive pricing to our customers again.

Okay. Perfect. Thank you.

We will take our next question from Edwin Mok with Needham & Company.

So, first question, Raymond, just to be really clear. Beyond the inventory reserve, first of all, the higher R&D that you talked about, right? You also talk about an annual tax in China -- did I get that correct? And how much would that be?

It is just a withholding tax that we have to pay on dividends declared by our consolidated joint ventures. And in Q4, we did not have this dividend, but we actually received a dividend expense in Q1. It is approximately equates to $0.01 extra withholding tax -- $0.01 EPS effect.

Great. That's very helpful, just to clarify that.

And then, second thing is just based on the guidance you guys had provided, based on all the numbers you just provided, if I crunch the numbers quickly it -- you kind of imply, if I exclude all these one-time stuff, your gross margin's roughly around flattish this quarter, right, excluding the inventory reserve? Can I ask you if that -- and I am wondering that is correct, right? And then number two, is that based on kind of pricing while it is recovering, gallium is still pretty weak. Is that why the gross margin is flattish, even though you are guiding for revenue to rebound?

No, actually, Edwin, the gross margin is going to decrease from Q4.

Then can I ask why --? (multiple speakers)

So, before we had a 19.5% -- that is why I just told Avinash, we have got this inventory reserve that we have to amortize, which is going to be a charge to Q1, which $750,000 charge in Q1 -- if I just assumed $21 million revenue, that approximates 3.5%. So, that is the worsening effect from 19.5%. So, you could take it down by at least 3.5%.

Yes. I know, I know. My point is, basically, if you exclude that charge that you just mentioned, right? The gross margin on a apples-to-apples basis actually would have been roughly around flattish?

Yes, roughly correct. Right. I think like 1%, so yes.

And can I ask you why it is flattish, given that you guys are assuming revenue will recover?

The revenue is more in the raw materials sector.

Well, I mean, Edwin, I think the revenues do increase slightly. We do see, as we see it now in this quarter, things are starting to pick up a bit. So, we are cautiously optimistic, because Q1 usually is a slow quarter for our industry, but we do see some pickup, some very good signs. But also, because of the industry was so -- kind of unpredictable, so we would take a fairly cautious stand. But I think, as Raymond said, we are carrying what we had to pay for the inventory write-down and absorption of the lower capacity utilization for last year.

I see. Okay. That's fair.

Just in terms of [called out] groups, I think, Morris, you mentioned on the call that, actually semi-insulating improved sequentially in the December quarter, right? And you also mentioned that the germanium business, you started to see signs of improvement. If I look into the first quarter and maybe a little bit beyond that, are we expecting those two markets to be really driving the rebound in the March quarter? And then beyond that, how do you think about the semiconducting, given that it has dropped quite a bit over the last two quarters?

Okay. Well, germanium, I am quite confident because all the signs seem to say that the satellite launch is going to begin again, as well as some CPV activity in China, actually we see is fairly strong, at least the initial stage of asking for quotes there are fairly strong. And we do see that Europe is fairly strong, in terms of demand in germanium. Indium phosphide being a much smaller segment of the market is growing fairly strong for us, as well.

Semi-insulating, I am, again, guardedly optimistic. I think this year it is probably going to grow, but because of the -- some uncertainties, as well as the announcement from Qualcomm, sort of put a damper on my enthusiasm a bit.

But for semiconducting, I think that market can always come back like a lion. I don't know if you remember in Q2 of 2012, I mean, we had a huge quarter in semiconducting business. So, I think that business -- when all the inventory got digested, and when it start to turn, it can turn very quickly. But we definitely didn't model a fairly strong growth for semiconducting at this moment. But we do see -- raw material is probably going to be growing slightly, fairly strong growth for germanium, and fairly strong growth for indium phosphide. And we do expect wireless to grow, but the uncertainly is probably in semiconducting.

I see. Great, that is helpful. And then, just quickly on -- recently, the yen has been falling. I think two of your large competitor in gallium arsenide is in Japan, right, as well as actually some of your customers as well. How does the changing yen affect your [orders]? Does it affect you at all? Do you see [stock] -- do you see your competitors getting a little bit more aggressive in pricing, or have you seen anything yet?

That is a good question. Edwin, I do remember the same question when yen was coming -- getting strong -- from JPY120 to JPY76, and that didn't affect it much. But if I were to look for just economically, what will it affect? When you make gallium arsenide or indium phosphide or even germanium, most of the raw material which gets into the -- how to make the substrates, they are all quoted in dollars, okay? Gallium, arsenic, pBN, [port], everything is quoted in dollars. So, it is not going to help anybody or not make it anybody a disadvantages.

The only part I think is going to make some difference is probably the labor. But again there, I think it is controversial because AXT's labor is in China. I mean, no matter how strongly -- I mean, China, the labor rate has come up tremendously in the last four or five years. But still, compared to Japan or United States or Germany, I mean, that is still much lower, no matter how you cut it. I mean, it's not a 10%, 20% difference, kind of difference. Of course, we are also fully realizing our competitors are -- a division of very large companies. So, I am not so sure they base their pricing solely on the exchange rate alone.

I see. That is actually very helpful. And then lastly, I think previously you guys talk about some design activities, particularly working with -- I guess one of the -- working with the epiwafer maker, as well as kind of end customer, especially on the gallium arsenide side, right? I was just curious, any update on that end? And now that IQE has kind of rolled off a few capacity, does that change the top qualification dynamics there? And have you seen any kind of movements since they made those announcements?

Well, with -- let me put it this way -- we are working on it. But we haven't got anything breakthrough, so cannot say.

Okay. All right. Thanks for answering all of my questions. Thank you.

Thank you, Edwin.

We'll take our next question from Richard Shannon with Craig-Hallum Capital Group.

Hi, Morris and Raymond, how are you doing?

Good, Richard.

Good. Maybe I will just follow up the last question, regarding opportunities for some share gains with new customers. Do you have any expectations of a time frame by which those decisions might be made?

Richard, I mean, the qualification I am sure is a big disappointment to me, and probably to our investors. I mean, we worked on it for a whole year last year. I think the good news, we always say, it is still going. But the bad news is we never went through. I think definitely it is a disappointment. I think with the new consolidation in the industry, as I said, we are definitely offer our good service and product, and most competitive pricing to our new customer again, and hopefully they will listen to us.

As to timing, it is really difficult to call. I would say, some of the product, I believe we already qualified. I mean, it is a business decision that takes more than one party to agree and start purchasing. When they start purchasing, it is probably going to be small volume to begin with and hopefully ramp up.

Okay. Fair enough. Question on your guidance, specifically on the sales side. Heard some of your responses to the last few questions. Just want to get -- maybe dial in and get a little bit better sense of the moving parts in your sales guidance. If I were to guess, it sounded like the raw materials would be the biggest driver of your sequential increase. Will you give us your thoughts on directionally, either up, down, or however else you like to discuss the wireless and LED, and the germanium businesses as well?

I think germanium is going up, especially I think, too, it is second quarter and onward. Indium phosphides is probably going to be a fairly strong growth opportunity. But the base is small. That's why Raymond is counting more on the growth of raw material. And wireless -- it is interesting. I think it is -- we definitely have a new opportunity there. But I think Q1 is probably going to be flattish, and we have some opportunities going forward.

Okay. And then in LED?

LED is the big unknown. We are trying very hard, as I said before. I still remember the good quarter we had on Q2 of 2012 -- a huge quarter. So, they can be turned [around] very fast. But this market is -- extremely competitive in certain areas, such as China. We have some great opportunities, some were in Taiwan and Japan, and if we can get into that, then that market can grow fairly fast, as well.

Okay. Just to follow up on raw material sales outlook here. If I am to guess that the rough revenue levels you are looking at for the first quarter would be a lot closer to the levels you had in the first half of last year, as opposed to the second half. Do you view this as a sustainable level? I mean, do you see the same amount of tonnage demand out there, or is this a kind of one-time, or how do you view this?

Richard, actually, the tonnage went up. It is just the sales price erosion in gallium that actually made the revenue. In fact, we actually did increase revenue from Q4 over Q3.

Yes.

And that was a combination of revenue, but also -- sorry, volume, but decrease in pricing. So, looking forward to Q1, I mean, since the end of December, the price up to now in February has actually gone down. So, now, with February guidance looking forward, we are not sure when the price is going to increase. But again, volumes are picking up. So, maybe it is just a timing effect.

But one correction, Raymond. I think what you are quoting is the metal page --

It is just the guidance -- (multiple speakers)

The metal page really has nothing to do with the large volume quote anyway.

Correct.

But I think the tone is such that -- there are several things. I mean, Richard, normally when you see very precipitous decrease in price, you say the volume must be decreasing as well, or holding flat. But I think, in this cycle at least, we are selling more. There is actually more demand out there. But it is just not big enough to absorb all the extra capacity. I mean, that is [one]. And the pricing -- I think, again, you can always find Metal-Pages, but that is not -- it's a good guideline, but usually it is the history, okay?

And the third point I do want to point out I think is that, we are probably one of the lowest cost manufacturers anywhere in the world. I cannot say the lowest, but we are one of the lowest. So, our business -- our joint venture partner business is fairly tough business. I mean, a tough competitor, let's put it this way.

So, we can survive, but to ask me when the prices will start to turn, that is a tough question. And normally I would say, it takes at least two to three quarters after the substrate business improves, and they probably will then start to turn. I mean, of course, there are other things into it, too. The rest of the economy activity such as -- gallium is used for making magnets, making gallium nitrate, LED light bulbs, as well as some of the solar cells. So, gallium definitely has a very diversified utilization applications.

Okay. And to be clear, Morris, I was asking a question because, around the point of, I thought your implied guidance suggested a lot more volume, not less. So, just wanted to make that clear.

To follow up that same track of thinking, Morris, are you seeing any evidence of some of your competitors, especially like these aluminum mines, actually taking capacity offline?

Oh, that's already happened. I mean, they are, because of the decreasing price. I know at least two or three of them -- they just shut their factory down because the selling price is below their cost. But they will take a little bit more, as you start to consolidate, and some of them shut it down. But, of course, the reverse process is also true. When the price goes up, and when it goes over a certain threshold, and somebody decides -- hey, that's over above my cost, and they will start production again.

Yes. Okay. Thanks for those thoughts, Morris.

One last one from me. Maybe just ask a big-picture question here. You announced a share buyback. I wonder if you have considered any other options for releasing more value on the stock, clearly very cheap stock, trading well below book value. I don't know if there is any other ways you've thought about doing that, and any other ways that you can increase margins of your business, notwithstanding the pricing of gallium? I think either of those would be taken very positively by the stock price. I mean, any thoughts on any of those topics?

Sure. We are working on it. As we always say that it's a great amount of value, right, in our joint ventures. And it carried our book -- at a fairly low book value. But you even attempted to write up to say what they are really worth. But until you monetize it, nobody can say what it is. And that is one category I think we can help ourselves with.

We obviously are very consciously looking for large -- more volume to fill up the factory. We definitely feel the pain of less utilization, and thus, the fixed overhead increase -- overhead increase in general is hurting our profitability. So, we are looking ways to fill up our factory. But unfortunately, some of these headwinds are not in our favor, such as germanium raw material pricing is high, and we are trying to negotiate with our customers.

So, we're doing all the above. And for one -- try to unlock some of the value for our joint ventures, better utilize our factories. And we are having progress to improve yield and efficiency. And we are doing all those.

Okay. Great. Thanks for the thoughts, Morris. Thanks for your patience with all my questions here.

Thank you, Richard.

We will take our next question from Tom Sepenzis with Northland.

Hi, Morris. Hi, Raymond. Thanks for taking my question. I guess, just kind of big picture, Qualcomm obviously had an announcement about a full CMOS front end. I am just curious, if they are successful there, and others follow suit, in the low end to mid end, how do you see gallium arsenide maintaining share, or the kind of volume that you would need to continue on in that business? And how would you deal with that?

Yes. I think, Tom, I actually saw your report. I thought you said nothing to worry about. (laughter) But obviously, this is something that we are very much aware of the announcement, and we will continue to watch its development. But I think gallium arsenide industry is a fairly developed industry. I mean, it's what, $6 billion industry, and gallium arsenide is used for better linearity, better power efficiency.

And also I'd say, it is a benefit of -- you can do it very quick turnaround, instead of a very fixed product, which, like memory chips that you can use forever. Cell phone -- they turn into different generations at a very, very fast pace. So, those are some of the advantages for gallium arsenide.

I think, again, it took 20 years to build the big pyramid as it is today. Obviously, we are feeling the pressure or the competition from SOI. But also, I remember 10 years ago, we just beat up -- beat back the silicon competition from silicon germanium when they first emerged to be a competitor for gallium arsenide.

So, I think, overall, gallium arsenide is going to stay. Whether -- how the battle is going to shape out, and it is hard for me to tell. I think all we can say is -- we all have to watch. But I think it's going to evolve into many years.

I think also I want to point out, the other thing is that although smartphone people are saying it is maturing, the new -- but nevertheless, it is going to be nearly 2 billion cell phones will be sold year over year. So, we are just making the material. So, it is still a fairly healthy business. And also wireless is going to be the theme of the future of human communication. So, all those are, I think, work in our favor. When you have a very growing demand of a very good business, you cannot just turn back all competition.

Right. Thank you. Presupposing that people use best-in-class materials, so gallium arsenide for power amps, and silicone or SOI for switches, is there an opportunity for you with silicon germanium to expand into more wireless markets using that technology?

No, Tom. We are not in silicon germanium. I mean, if silicon germanium is successful, we only supply germanium material. No, we are not in silicon germanium. But I think obviously, I mean, the application just expands beyond all those, yes.

Okay. Great, thanks very much.

We will take our next question from Dave Kang with B. Riley Caris.

Thank you, good afternoon. First question is, Raymond, how much was stock compensation? I think I missed that number.

It was $342,000 for the fourth quarter.

Okay. And then, Morris, regarding gallium prices, it has been flat for the last month or so. I mean, do you think it has bottomed? What is your take on that?

Oh, I certainly hope so, Dave. (laughter)

What's the chatter? I mean, what's the chatter among the industry people? I mean --?

I really cannot tell. I really think, Dave, you should take it as -- the really good sign is the demand is strong.

Yes.

The bottom has not fallen out. I mean, definitely the demand is strong.

So, I shouldn't be concerned? I mean, if demand is strong, and yet price is not picking up. Shouldn't that be a concern or --?

Well, there is nothing I can do about it, because the capacity increase is such that there are people who are willing to do it. But as I have said, again, everybody's cost of making that gallium is different. If you make that gallium in Germany, I mean, then your cost is higher. It's probably $450 a kilogram. If you migrate to a lower cost place -- so it can be anywhere from $450, $500, down to $390, $350, $300, and so on and so forth. What I think is AXT's strength is that our cost is one of the lowest perhaps. I cannot be sure it is the lowest. And then we just have to wait until the market take care of itself, I mean --

Right.

The lower it goes, the more of the guys is going to be exiting the market.

Assuming the LED market does recover in second half, would that be enough to move the needle for --?

Yes, absolutely. (multiple speakers ) I mean --

Yes? (multiple speakers)

That is a -- we know we have customers who buys our gallium to make trimethylgallium to make the LEDs.

LEDs? Okay.

So are solar cells.

Sure.

And not to mention gallium arsenide for wireless devices.

Right. Right.

And I think the other thing is -- all the customers like us, we now are so confident there is more capacity, so we don't carry any inventory.

Yes.

So, everybody -- if everybody starts to feel the pressure a little bit and starts to buy inventory, then all of a sudden demand is going to even increase more. So, I am only telling you all these possibilities. But I still say, I wouldn't know. I mean, right now, I hope it will stabilize, it stabilized, maybe wait for another quarter or two. And then -- then there is a possibility it will come back up, if demand continues to increase.

Got it. And then, you talked about R&D going up, and that is going to be about $0.01 per share. Is that just a first-quarter event, or can you just walk us through how R&D will kind of act for the rest of the year?

We are planning to increase R&D for the next few several quarters.

Several quarters?

Yes, in the tune of about $0.01 per share.

Got it. Got it. Any particular areas that you are focused on or --?

Yes. We are working on some projects on substrates.

Substrates? Got it. And then last question is -- IQE, now that it has become an 800-pound gorilla, I was wondering if you can quantify any kind of an incremental pricing pressure, that IQE has gotten so much bigger than before? Is it hard to quantify at this point?

It is hard to quantify. I mean, the negotiation was -- I mean, without them consolidating, it is difficult enough.

Yes.

But we go through every year.

Yes.

So -- and not to say that to negotiate with any other large customer is easy. So, I don't think just because they doubled in size will make them even more difficult. I think, overall, substrate business -- I would describe the pricing environment to be sort of normal. I mean, they are not increasing, for sure. But they do sort of follow the normal decreasing every year.

Got it. All right. Thank you.

Thank you, Dave.

We will take a follow-up question from Avinash Kant with DA Davidson & Company.

Hi, Morris and Raymond, a few more questions. So -- maybe Raymond could take this one. If I look at the third quarter and the fourth quarter, it looks like looking at the revenue mix, revenues in the materials segment were exactly the same. So, would you attribute all the margin decline to just volume?

No. It's actually a little bit more complex than that. I actually did do an analysis between Q3 and Q4. As Leslie said, the three factors were almost shared exactly the same -- the raw material sector, pricing, and then also sales mix, and then lower capacity utilization. It was almost an even share between the decrease between Q3 margin and Q4 margin.

So, maybe, Raymond, could you give us the average gallium pricing during the September quarter and the December quarter?

Sure. Just using Metal-Pages as a guideline, because we obviously cannot give out our selling price from our own joint venture. The Q3 average per Metal-Pages, Q3 2012, was $319. Q4 average was $307. And as of today, January and February, the average is $291. So, as I said, even in the first two months so far, the price of gallium per Metal-Pages has fallen 5.1%.

Okay. And then, the share count guidance that you are giving, is that based on -- so share count is going up actually, right? Yes. But in Q4 and Q1 --

Yes --

You just announced a share buyback plan. What's attributable to that?

No, it actually didn't go up by much. It's only about 200,000 I think, Avinash. But that does not take into account any of the share buyback plan yet, because that will basically only kick in -- the open period in May 2013.

So, you talked about the Q1 share count being how much?

Hold on. I will give it to you right now. It is about 33.1 million.

Yes. And what was the share count in Q4?

Something like 32.9 million.

Okay. So, you have not attributed the share buyback in this one?

No, not yet.

Is there any timeline in the share buyback plan? It will last for so long, what's the time?

It's only going to open in -- the next open window period in May 2013. In fact, May 2.

And then it's going to be open, there is no end to this plan?

It's going to be a one-year plan. We are only going to be buying per rule 10b-18, and purchasing during an open window period.

Okay. But there is a one-year limit on this one. And did you break down your semiconducting and semi-insulating revenues for the quarter?

No, but I can give it to you. It was a mix of -- hold it -- 44% to 56%.

How much?

44% semiconducting to 56%. Now, Avinash, that was an entire flip from Q3, which was 54% semiconducting and only 46% semi-insulating. So, we definitely had a sales mix during Q4.

So, semiconducting seems to have seen -- semiconducting was 44% you said, right?

Correct.

That declined quite a bit actually.

Yes. A 29% decline from Q3, while semi-insulating actually went up 8%.

Okay. And one other question I had was -- yes. So, in the guidance that you had given for Q1, what do you think you have modeled as materials sales?

That is why most of the increase is actually going to come from raw materials.

Materials, okay.

And as you see there, the pricing actually went down as I just gave you Metal-Pages pricing. But the volume is going to increase.

Okay. So, with the mix and all these issues that you have, the higher R&D, and the Q1 and Q3 kind of impact on -- from China, where do you think your break-even point at this point is?

That is a very tough question, Avinash. It definitely changes. But you could see the low points right -- sometimes it could be at $18 million, $19 million revenue.

At $18 million to $19 million, you will break even?

Not a hard and fast number because things do change.

Okay. But your guidance, of course, the low end of the guidance is a loss of $0.08 on $20 million?

Correct. That is why -- because there is some other things that came into play or they are going to come into play for Q1, which was not there really in Q4.

So, when we try to figure out how to think of the impact of these going forward into Q2 and Q3?

Oh, okay. I think you were the guy -- so as I said before, if I used $750,000 in Q1, which is going to be part of this amortization of sins of the past for the lower consumption -- sorry, lower utilization, so I just used $750,000 net on a revenue base of $21 million equates to about 3.5%. Now, obviously, I don't know what Q2 revenue base is going to be, but you can model $525,000. And in Q3, you could model $250,000. So, whatever that percentage works out to, whenever Q3 comes around is going to change. But that's the absolute dollar amount I am modeling on right now.

Okay. Thanks for your answers. Yes.

Okay.

We will take a follow-up question from Edwin Mok with Needham & Company.

Hi. I have a question regarding your raw material joint venture business. So, I think historically when gallium price is really high, it was margin contributing, right, actually help drove better gross margin for your business, right? Is it fair to say that now margin is below your corporate average margin?

Yes. Edwin, if you just even did the rough calculation, it is slightly below the corporate average.

Okay. That's helpful. And then, I guess, just longer-term questions. You guys announced a buyback -- which [we assume] around $6 million of cash, right? And you are guiding for a loss in the coming quarter, right? Do you think cash balance is an issue, especially given that you have some of your cash is tied up in these long-term securities, or --?

No, the long-term securities are not that much tied up. But out of the $50 million that we have, pretty much only $9 million is actually tied up in longer term. It's up to two years. But those obviously longer-term investments give you higher interest returns.

But you do have the financial flexibility to sell those if you want to then?

Yes, yes, we could liquidate that.

I see. I see. So, it means that if you find a more interesting joint venture or you want to increase your buyback, do stuff like that, you can access that cash if you need to?

Yes. Sure.

I see. Okay, yes. I wasn't quite sure about that. Okay, that was very, very helpful.

One last question, I guess for you, Morris. Beyond kind of the near term and -- is there any other areas that you feel that you might be able to -- either enter, either related to raw material, or related to your substrate business, that might be a longer term? Is that some areas that you might be interested in entering, that might be a reason why you are increasing R&D spending?

This particular R&D budget increase was for substrates. But we are working on, of course, other opportunities to enhance our business scope and capacity, as you said. But yes, we are working on it. But by nature, we obviously cannot talk about it before the chicken is hatched.

I see. Great. I was hoping -- I will throw that one out then. All right. Thanks for answering my questions. I appreciate it.

Thank you, Edwin.

At this time, I'd like to turn the call back over to Dr. Young for closing remarks.

Thank you for participating in our conference call. This quarter we will be presenting at the ROTH conference in Dana Point, and look forward to seeing many of you there. As always, feel free to contact me, Raymond, or Leslie Green directly if you would like to meet with us. We look forward to speaking with you in the near future.

Ladies and gentlemen, this does conclude today's conference. We thank you for your participation. You may now disconnect.