AXT Inc (AXTI) 2016 Q3 法說會逐字稿

Good afternoon, everyone, and welcome to AXT's third-quarter 2016 financial conference call. Leading the call today is Dr. Morris Young, Chief Executive Officer, and Gary Fischer, Chief Financial Officer. My name is Terrance; I will be the coordinator today. (Operator Instructions) As a reminder, this conference is being recorded. I would like to turn the call over to Gary Fischer. Sir, you may begin.

Thank you, Terrance, 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, are based upon 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, 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 October 26, 2017.

Also before we begin I want to not that shortly following the close of market today we issued a press release reporting financial results for the third quarter of 2016. This information is available on the investor relations portion of our website at AXT.com.

Now turning to a review of our third-quarter results. Revenue for the third quarter of 2016 was $21.9 million compared with $20.5 million in the second quarter of 2016. This is above the high end of our expectations of $20.5 million to $21.5 million. In the third quarter of 2016, revenue from North America was 11% of total revenue, Asia Pacific was 66% and Europe was 23%.

In the third quarter, we had one customer that generated more than 10% of revenue and the top five customers generated approximately 38% of total revenue reflecting again our diversification of both products and customers. Gross margin in the third quarter was 34.6%. This improvement from the prior quarter is the continued result of increasing product volume, a favorable product mix, and good progress in manufacturing efficiencies and yield improvements.

Total operating expenses in the quarter were $4.9 million. This is down slightly from the previous quarter. We've continued to keep OpEx relatively flat quarter to quarter. Total stock compensation expense was $281,000 for the third quarter of 2016, of which $5,000 was included in cost of goods sold, $238,000 in SG&A and $38,000 in R&D. Operating profit for the third quarter of 2016 was $2.7 million compared with $910,000 in the previous quarter.

Interest and other income for the third quarter was a net charge of $312,000. This net number consists of four categories. Number one, net interest earned on our cash of $105,000; number two, foreign exchange gains of $83,000; number three, equity accounting on our unconsolidated joint ventures, a loss of $581,000; and number four, other items equaling a gain of $81,000.

For Q3 of 2016, we had a net profit of $2.2 million which is $0.07 per share. This is north of our guidance which was a range of a profit of $0.03 to $0.05 per share. By comparison, we had a net profit of $1.2 million or $0.03 per share in the second quarter of 2016. Along with profits, cash increased nicely in the quarter by $2.4 million. Cash and cash equivalents increased to a total of $47.3 million as of September 30, 2016. This compares with $45 million at June 30, 2016. Depreciation and amortization in the third quarter was $1.2 million and CapEx was $500,000. Accounts receivables net of reserves were $18.4 million at September 30 compared with $18.0 million at June 30.

Net inventory at September 30 was $38.7 million compared with $38.6 million in inventory at June 30. Ending inventory consisted of approximately 50% in raw materials, 43% in work in process and 7% in finished goods. The spread between the three buckets remains very consistent.

Okay, so this concludes our financial review. I'll now turn it over to Dr. Morris Young for a review of our business.

Thank you, Gary. Q3 was a solid quarter that highlighted the success of our ongoing diversification and business model improvement. We achieved revenue and profitability above the high end of our guidance range and generated strong cash flow. In addition, our gross margin performance was the highest it has been since Q1 of 2012.

We continue to benefit from a positive product mix including indium phosphide substrates and other materials with high end applications. In addition, through the implementation of a number of programs, we are achieving improved yields for both ingots and wafer processing. The benefit of these programs and other cost-reduction measures are becoming increasingly visible in our financial results.

Now let's turn to our markets. Global -- the global buildout of fiber optical connections continued to be the leading driver of our indium phosphide sales. Fiber optic technology is helping to enable the proliferation of applications such as cloud computing, the Internet of Things and video streaming. Worldwide, fiber deployment has 100 million connections in 2015 and is expected to continue to grow for the long-term.

However, consistent with our recent report, we are seeing some near-term softness in the GPON and EPON markets in China. We believe that these markets are taking a pause to rebalance following two years of strong growth. This softness caused a more modest decline in our indium phosphide sales in Q3 and we expect that GPON and EPON will continue to be weak in Q4. Nevertheless, our overall indium phosphide product revenues will increase in Q4.

In addition to fiber to the home deployment, data center connectivity continues to gain momentum as a driver of our indium phosphide growth. Cisco estimates that by the end of 2016, six gigabytes of data will be routed through data centers driven by cloud computing, mobile data, video streaming and Internet of Things, and this number is expected to double by the year of 2020.

Further, networking bandwidth is doubling every 2 to 3 years with 10G transitioning into 25G and 40G ports evolving to 100G. Silicon photonics based solutions are expected to be a significant enabling factor for these transitions, particularly in cloud and hyper scale computing environments. All of this is positive for our indium phosphide product lines because, to state it simply and concisely, where you use laser light to transmit data, you need indium phosphide.

As evidence that silicon photonics is moving from the research phase to market adoption, during Q3, Intel launched its first silicon photonics products, a family of 100G optical transceivers for interconnecting data center networking switches. These products further expand a growing ecosystem of silicon photonics based solutions from a number of key players in the data center networking space.

In addition, Intel also announced that Microsoft is deploying this technology in its Azure cloud platform for connectivity between switches in order to drive scale. Azure is the second-largest cloud provider in the world. These two data points affirm the growing momentum of the technology and the likelihood of its eventual widespread adoption.

In addition to optical electronics applications, such as (inaudible), indium phosphide may also become the material of choice for electronic applications such as 5G wireless technology. We believe that the deployment of 5G in the years to come could provide yet another sizable opportunity for our indium phosphide business. We are excited by our success to date in taking an early market lead in indium phosphide.

As an emerging material, we expect to see some lumpiness in our sales in any given quarter, but feel confident that indium phosphide will be a primary source of growth and opportunity in our business for the foreseeable future. The application that drives this demand are significant and will be rolled out incrementally over the long period of time. This closely mirrors the decade-long product lifecycle that we have seen with gallium arsenide.

The application, of course, evolve and change, but the fundamental material technology has a long trajectory. Now let's turn to gallium arsenide. We had a solid quarter in Q3. Demand was stronger than expected. However, our revenue forecast for Q4 is lower for gallium arsenide substrates. In general, sales of semi-insulating gallium arsenide has reached a relatively stable level that provides a healthy base of profitable revenue for our business. In addition, we're working with the customers on certain investigation new applications for the material that could provide future upside potential.

In the semiconductor gallium arsenide market, we continue to participate selectively in high-end LED applications such as backlighting, signage and automotive. That places value our performance, reliability and efficient cost structure. While the LED market remains highly competitive and fragmented, we are seeing relative stable demand that we expect to continue into 2017.

Over the long-term, we're closely watching the continued market development of (inaudible) for 3D fencing applications such as gaming, mobile phones, smart TVs, high-speed communications and high-powered material processing. 3D sensing requires devices with relative high proficient functionality and consistent reliability which at our gallium arsenide substrate level and translate into the need for very low defect densities, that is very low EPD.

Our VGF technology and proprietary processes allows us to offer industry-leading specifications that creates a significant competitive advantage for high end VCSEL applications. While we think it is still best to take a conservative view of the rate and timing of market adoption of 3D sensing technology, we believe that this application could provide an attractive opportunity for our business if it is adopted into high-end smart phones, which could total 500 million to 600 million units per year.

In closing, our revenue continues to diversify with good opportunity to drive long-term growth and financial improvement. We're focusing our resources on strategic (inaudible) applications in indium phosphide, gallium arsenide and germanium substrates that are showing promising market trends. Our raw material business remain under pricing pressure, but we are seeing price start to stabilize and, in some cases, improve. This could lead to a more favorable pricing environment in quarters to come.

In addition, we are delivering a business model that prioritize cost efficiency, spending discipline, diligent cash management and shareholder return. We feel positive about the coming year and look forward to reporting to you our continued progress. This concludes my prepared comments. I will now turn the call back to Gary for our fourth quarter guidance. Gary?

Thank you, Morris. As Morris discussed, several factors are expected to come into play in Q4 including the market weakness in China and the rebalancing of gallium arsenide substrate revenue following an unusually strong quarter for that material in Q3. As such, we believe that total revenues will be in the range of $18.5 million to $19.5 million. In spite of these near-term factors that are expected to result in a down quarter in Q4, we do not see any fundamental changes in our key markets.

We are excited by the indium phosphide as a growth driver for our business in physical year 2017 and beyond and expect that gallium arsenide will continue to provide a stable revenue base with upside potential for VCSELs and other investigational applications. In terms of our bottom line, the outlook for Q4, we're expecting to be in the range of $0.02 to $0.04 profit per share based on 33.1 million diluted common shares outstanding.

Okay, this concludes our prepared comments. Morris and I would be glad to answer your questions now. Operator, please take over.

(Operator Instructions) Tom Sepenzis, Northland Capital.

Hey, guys. Congratulations on the great quarter. I was hoping you could touch on raw materials and what you're seeing there in terms of pricing, if that's changed at all.

Tom, as we said, gallium price during the quarter seems to have stabilized and has a little bit uptick, so is germanium pricing. However, we don't want to pick the bottom, so to speak, but we are cautiously optimistic; it may improve in the coming quarters.

But what are you expecting just in terms of your chemicals business revenue wise in December relative to September (technical difficulty) up or down?

As you know, that it's a -- for gallium, it's the material -- if the price of gallium improved materially, that should help our bottom line quite significantly because we have a large investment in gallium material supply. As you know that this quarter, we had a negative of, what, Gary? $581,000?

From the 7 unconsolidated joint ventures, correct, yes

And they are mostly coming from the sales of gallium and germanium, so if those price start to improve, then it should help us -- instead of a negative, it should help us on our bottom line.

Okay, I guess what I'm trying to get at is in your prepared comments, you said that despite the slowdown in China, overall indium should be up in December, quarter over quarter. Gallium looks like it's stabilized, so therefore should be around flat. Germanium is a pretty small percentage of the overall business at this point so I'm just trying to figure out why you're expecting a drop of $2 million to $3 million top line.

Oh, okay; I misunderstood. I thought you were talking about the raw material business. Yes, as far as --.

Yes, no, I was trying to see if that was going to be down significantly that would account for that, but that doesn't sound like you expect that to be down significantly, so I'm just trying to figure out why the drop in revenue from $22 million down to $18.5 million to $19.5 million.

The main decrease in the revenue forecast comes from two categories, okay? One is raw material. We expect it to drop $1.5 million in raw materials.

Okay.

And in gallium arsenide, we expect it to decrease by about a little bit over $1 million. However, I think -- well, germanium we also expect it to drop slightly, but I think it's around $150,000, not significant, but I think indium phosphide, we do expect revenue to have an uptick in Q4 relative to Q3, right, Gary? That translates into overall a decrease --.

Yes, no, that helps tremendously. (technical difficulty) ask one more and then I'll get back in queue. (technical difficulty) has anyone started any trials using (inaudible) for 5G mobile (technical difficulty) that you know of?

Yes, you know, I think 5G what format would be used -- obviously, the verdict is still out. I mean there are people saying -- using PHEMT with a very advanced structure. You can achieve very high frequency operations, so one of the candidates is going to be PHEMT, but I think the challenge there is yield and also the line width of these devices are very narrow, so they have a difficulty doing the manufacturing processing.

On the other hand, indium phosphide, and is also very early in the development -- there are -- we know of -- there are people very much interested to trial with indium phosphide which we have not finished the development yet, and also there are people using our 3-inch, 4-inch indium phosphide substrate to develop indium phosphide HBT devices for the 5G applications. So I think the race is on, but I think, fortunately, we have both ends covered, but, no, you know us so we would probably hope that indium phosphide would do better because it's a new material, and so the demand for that material could increase significantly if that material was adopted.

So, if you were to take me to speculation mode, I think probably both materials would be used and maybe the high end would be using indium phosphide and the low-end may be gallium arsenide, but as you use increasingly the frequency in mobile communications, indium phosphide is just purely better mobility, better ability to handle higher frequency operations.

So you are shipping at least some small (technical difficulty) volume in the indium phosphide for amplifiers?

Yes, but very small compared to optical electronic. As we said, optical electronic applications by far, the leading revenue driver for us now.

Yes, no, it's just nice to see that (technical difficulty). And then, I'm sorry, did you give a gross margin guidance for the December (technical difficulty) --?

Gary, did we? No?

No, we didn't.

But it would most likely be backed out to the 28 to 29 levels that we saw earlier in the year on the (technical difficulty) run rate?

I think you can begin with a 3 but it's not going to be as high as it was this quarter, for sure.

Great. Thanks very much.

Richard Shannon, Craig-Hallum.

Well, hey, Morris and Gary, thanks for taking my questions. Let's see, maybe I'll follow up on a couple of topics already started here, maybe looking into the fourth quarter revenue guidance. Maybe I missed what you're implying regarding some of the pieces here, but, Morris, I think you said raw material is expected to come down I think you said $1.5 million or so sequentially. Given the fact I think you're implying that pricing is firming up here would suggest some volumes are falling off there. Can you give us an understanding what's driving that? Is this a temporary situation or could it remain at these more depressed levels?

Yes, I think raw material does depend upon -- I mean from my speculation, our understanding, in the third quarter we had a sizable delivery to the Japan market in the tune of 10 tons of gallium, so my guesstimate is that in the market is realizing the pricing has hit bottom, so people want to accelerate the delivery. Okay? So you don't expect the other (inaudible) buy again in Q4, but of course, I'm not speculating to say that gallium prices going to skyrocket, but I think the delivery of very large volumes, so you can speculate that people are saying, it's the bottom, let me buy up and get my inventory filled up. Okay?

So that's the relativity but I don't think -- as you see, our raw material business in the last three, four quarters, has up and downs but I think it ranges from -- all the way from $5 million quarter to $3.2 million a quarter. Last quarter was strong, but I think Q4 because of the high volume delivery in Q3 is expected to go down in Q4, but I don't think it's going to continue, no.

Okay, that's helpful. And then on the topic of gallium arsenide, I may have missed why you're expecting lower revenues in the fourth quarter. Was that from semiconductor and semi-insulating applications and is this -- you expect this to be more of a temporary or more of a sustaining trend here?

The expectation actually is from both, surprisingly, semiconducting is about down very slightly, $100,000, $150,000, but most significant is from semi-insulating. We're seeing two major customers are telling us that they have an inventory adjustment in Q4 so they want us to hold off shipment and we're checking with them and they are saying, it should come back in Q1.

Okay.

But, we only (multiple speakers) --

So it's a quarter -- it's a drop-down this quarter; we don't think it's a fundamental change in the volume and market.

Okay. That's what I thought that just want to confirm that one. Let's see here, a couple more questions from me. You mentioned a single 10% customer. Is this the one that you have many times over the past several years or is this the more recent one that's more optically or indium phosphide oriented?

It's the other one, so --.

The other one? Okay.

The longer one (multiple speakers) --.

Okay. I guess maybe last question for me, you brought up the topic of 3D sensing, you adjusted your recognition. I want to get a sense of when the earliest that you might see the opportunity arise in terms of when it will require AXTI to pick up production here? It's my understanding that capacity is somewhat limited for surge volumes that might be required for even a medium-sized smart phone application, so if you were to deliver to a smart phone OEM and the second half of the year, when would that require your pick up in production?

That's a very good question, Richard, but I think -- I think this thing is sort of in a mix of -- in a flux. At least the customer is giving the signal that the pickup should come even earlier than the middle of next year, but, on the other hand, we see things are still a little bit in flux because we haven't seen the order yet.

We're definitely in qualification mode, so that -- so how to project what's going to come is very difficult for me, okay? Because we're really at the bottom of the food chain. So as far as answering your question about capacity is concerned, yes, we have been in communication with our customers and say, look, if they said big order coming in, we've got to prepare.

It is somewhat challenging, but also there is other factor in play is -- you know this EPD spec is very tight today, so we do have a challenge in our yield, so we do expect that we work on it and improve the yield significantly, if we can, then capacity becomes a secondary issue. But if we cannot, then we need to increase capacity to fulfill even the projected volume that is coming.

Okay. Fair enough --.

Did I answer your question?

Yes, you did, Morris; thank you. I think that's enough for me. I will jump out of line, but thank you, guys.

Arthur Su, Needham.

Hey, guys. Congrats on a great quarter and thanks for taking our questions. So first question is on GM, gross margin. You highlighted a few factors, more volume, better product mix and then some progress in generating manufacturing efficiencies. I was wondering if you could give a little bit more color on how these three factors rank, which one contributed more and how sustainable you think this level is going forward.

Gary?

Okay, yes, I'm not sure I can weight them extemporaneously as to which one was the biggest driver. Obviously, we're helped with higher volume because it spreads the fixed costs over more units. It was not ASPs, I can tell you that. The ASP student go up; it wasn't like some big blip that allowed us to get higher margins because of ASPs.

It's definitely about increased yields. We've made some tremendous progress in the crystal growth part of our production. Crystal growth has a bit of black magic in it for me as a business guy. And so there is a lot of very small but very sensitive steps in crystal growth process and we've made -- we've done a lot of experimentation and we've made, just frankly, a lot of good results which results in higher yields which then, of course, brings your costs down.

But, reciprocally, on the way for side, after we've grown the crystal and have the ingots and then convert it to wafers, there's also a lot of steps in the wafer manufacturing side that have to do with how you saw the ingot up, how you polish it, how you clean it, that have a lot of proprietary process technology, which we've also been focusing on and that has also increased yields. So I think cost-reduction on the floor -- we've had a lot of long-running programs now for the last 18 to 24 months to be more efficient in how we use floor stock, so that's helped. But I would say most of the game has to do with yield and maybe secondly, it's a tie between overall cost efficiencies and increased volume.

So can I chime in for one other point? As you see, I think our product actually evolves, okay? That is, look, when you say we don't -- we didn't see a big price increase, never -- I don't think we ever see a price increase --.

We wish.

We wish, so every customer needs lower price. However, when you address a certain market, let's say last year you were delivering EPD as 1000 EPD for certain market, the unit price per square inch is such an, all of a sudden there is a new demand which requires EPD of 500 or even 100, the price will go up, so -- but you don't put that into price increase. But rather you are switching your market to a different specification; that commands a higher price. So I think we're doing that gradually, but I think that more than offsets the usual price decrease that you see every year.

Yes, I think it's probably noteworthy from a business analysis standpoint, since we did disclose that indium phosphide was a little bit soft, and yet our revenue was high for -- overall revenue for the quarter, so that has to mean that the other products are doing okay in terms of manufacturing yields and gross margins. So -- and in fact, that's a reasonable -- that's an appropriate and accurate conclusion, or -- (multiple speakers).

I think the other question is can we sustain it?

Okay, can we sustain it? We think we can. Of course, we want to keep the volume up, but we actually -- I don't want you guys to get carried away and be too optimistic, but -- so I think something in the low -- beginning in the low 30s is safe for modeling. But our goals are to continue to improve the gross margin and we think it's a realistic goal. It's been very interesting just to focus on manufacturing and running the business and it's something that as a management team we're confident about and we feel like we're making good progress.

Great. Thanks for all that great color. Moving on to indium phosphide, I know that you had said there was a slight decline this quarter and that you expect uptick in or a modest increase in 4Q. Can you remind us what the exposure you have to the China market and what would be responsible for the uptick in 4Q?

Yes, I think the significant -- our exposure to the China market and the GPON/EPON market is very significant. We were talking to an analyst the other day and saying, GPON/EPON actually is relatively low in the pricing foodchain or technology food chain as compared to 100G or 400G transceivers. But nevertheless, what you translate into (inaudible), everybody needs an indium phosphide substrate to began with.

So for us, those GPON/EPON are quite significant, and so the turn off in the last quarter and continuing to Q4 is actually quite significant for us, but I think our analysis is that we believe we are accurate in that the market didn't go away; it's inventory adjustment. We're not seeing we're losing market share at all, but the way our -- and curious if you were to come back in what form will they have a big jump in demand if they got -- the spigot was turned off for a while.

Yes, and we can say this, too, that yes, we have exposure in China and we've explained and commented on that but we, as we said, our indium phosphide revenue in Q4 is going to increase, but it's not because of China; it's because of everything else.

So our exposure remains in China, but we do think we have a diverse market approach. We do also see the data center Photonics business increasing, and collectively those things are offsetting the weakness in China.

Thank you. So, on cash excluding China, would you say the rest of the business is pretty stable or would you characterize it as having a little bit of lumpiness across the quarters?

No, actually it's increasing. We do expect, for instance, the data center business to increase significantly in the coming quarters.

Great. Okay, I think that wraps it up for me. Thanks for taking the questions.

Zach Houston, Footprints Asset Management.

Good afternoon, Gary, Morris and congratulations on another good quarter. I guess just to start off with, I know, Morris, you talked a little bit about it on the prepared remarks but could you just talk a little bit more about the lifecycle that you are seeing for the indium phosphide? I know you guys had a good run with the gallium. And then just following that, what specific drivers are you seeing or that you could dive a little bit more into detail in regards to the lumpiness that you may see in the short-term on the indium phosphide side?

Sure, so in our prepared comments. I'm an old bachelor in this industry. I was talking to Gary and I actually remember in the good old days in the year 1995 or even before that, we see the gallium arsenide cycle just booms and demand for 980 pump lasers for the fiber-optic communication. In fact, 980 lasers still being made just the price is lower and back then it was the star of the demand for gallium arsenide -- low (inaudible) gallium arsenide substrates. Okay, and then followed on by other laser applications and other optoelectronics applications and, finally, towards the end of the 20th century, well, 1998, 1999, the star of the electronic application for gallium arsenide kicks into the application of the wireless smart phones, and it enjoys growth for six-inch gallium arsenide for many, many years.

So our comment was that if we see indium phosphide should take a parallel path to that, okay? So I would say this is still early in the innings for indium phosphide off the electronic applications still, because if you read into some of these recent research reports, what do you call it, optical super cycle, the data centers, the natural upgrades, it's hard for me to repeat those research findings.

They are saying they are how many cities in China? I think 360 cities. Every city has so many connections and translates to something like 400 or 4 million of these transceivers needed and the total capacity for the other optical transceiver capabilities is only 250,000. But of course, those are markets we get excited but they belong to our customers. Well, the futures down to our substrate level. The guy who make 400G, 100G substrates, using substrate is probably equivalent to the GPON and the EPON, okay?

But nevertheless, our advantage is we filter everything down to us and the more advanced you want to make you want low EPD staff, which we excel. But, by the way, in indium phosphide, there is no junk substrate needed or critical electronic application needs some degree of low EPD, okay? So I don't know if I have explained this. So I think for us, we are playing not in the center ring of all these optical super cycles, but, nevertheless, wherever the cycle continues it will always filter down to us.

And yet another driver, we were talking to analysts, was this upgrade to the 5G. We have opportunity to play into the mobile device, HBT for the high-speed amplifier or switches, but nevertheless, even in the infrastructure, on the pole, or the mini cell when you collect all this information of all the Internet of Things, mobile phones, all this connection needs to be transmitted to either the central tower or back to the data center.

So if you think about this, all this traffic, it all needs fiber-optic communication, wherever you need fiber-optic communication, light is needed and laser light needs indium phosphide substrates. So I think it's a very exciting phenomenon to see and I think it's going to be -- if you don't see anything else out of horizon at all to replace light, so I think we're going to see quite a few years of growth.

Okay, okay, that's helpful. Thank you. And then just shifting gears on the VCSEL side, you touched base a little bit on the qualification that's going on now. Just wondering if you've received any feedback on that front and as well as, could you just talk a little bit about how you may see the market share break up with the VCSEL application?

No, we haven't gotten the feedback yet; we delivered the material. We are anxiously waiting for the results. As far as the market share is concerned, there are mainly three suppliers, other than AXT. There is a German supplier, there is a Japanese supplier, and I think if you take from this CEO, Morris Young, I think we have certain advantages. We develop our own VGF (inaudible) we're (inaudible) VGF for the last, what, 30 years? So we know how to make low EPD substrates. But of course, we respect our competitors; they also have very good scientists, but my take is I think this market were to develop quickly if demand is strong it will really play into our strength.

That is, we can react to a very fast development in our market and very stringent requirement or specification. EPD is what we're good at, okay? That's what I think, but when will this market launch? When will this market develop? It's really hard for me to say.

Okay, thank you. That concludes my questions and congratulations again on a good quarter.

Arthur Su.

Hey, guys I just had a quick question on the relocation of the gallium arsenide wafer production operations in China. Is there -- do you have any update on the progress of that?

Yes, we can give you some what I would call soft update because we don't have any -- we haven't even picked a land site yet, so the first step has been to work with the agencies and the government and that has gone very well in the last probably four or five months. Frankly, we were a little bit nervous at first, but it's become much more good spirited and good faith and so that's going well.

And we have been surveying various sites in China that we would like to put our gallium arsenide line into. We've narrowed it down to about two and Morris and I are both going to go to China next month and we hope that we can get very close to a decision. So that's just kind of the first step, which is pick a physical location, and then from then we'll have to proceed to construct a building and fit it up and things like that.

So we're talking a long cycle. It's going to take a while. We're talking years, not weeks or months by any means, but it's going good, and it's kind of a headache. But it's actually not as bad as we thought, maybe six or nine months ago.

And, absolutely, and we certainly -- one of the priority select our new site, we'd like to be close to what we are, because that helps the physical move as well as retaining some of the key employees, which I think is key too for our stable production. So we're relatively optimistic about the development.

We continue to expect that we will remain in the current location for research and development, for our China headquarters, for indium phosphide. So the focus is on gallium arsenide, and we're proceeding.

Great, thanks for that color. Appreciate it.

And at this time I am showing no further questions.

Okay, thank you and thank you for participating in our conference. AXT management will be presenting at Needham technology conference in January 2017. As always, feel free to contact me or Gary Fischer directly if you would like to meet with us. We look forward to speaking with you in the near future.

Ladies and gentlemen, thank you for your participation in today's conference. This concludes the program. You may now disconnect. Everyone have a great day.