Knowles Corp (KN) 2017 Q1 法說會逐字稿

Good afternoon, and welcome to the Knowles Corporation First Quarter 2017 Financial Results Conference Call. (Operator Instructions) As a reminder, this conference is being recorded.

With that said, here with opening remarks is Knowles' Vice President of Investor Relations, Mike Knapp. Please go ahead.

Thanks, Amanda, and welcome to our Q1 2017 earnings call. I'm Mike Knapp, and presenting with me on the call today are Jeff Niew, our President and Chief Executive Officer; and John Anderson, our Senior Vice President and Chief Financial Officer.

Our call today will include remarks about future expectations, plans and prospects for Knowles, which constitute forward-looking statements for purposes of the safe harbor provisions under applicable federal securities laws. Forward-looking statements in this call will include comments about demand for company products, anticipated trends in company sales, expenses and profits and involve a number of risks and uncertainties that could cause actual results to differ materially from our current expectations. The company urges investors to review the risks and uncertainties in the company's SEC filings, including, but not limited to, the annual report on Form 10-K for the fiscal year ended December 31, 2016, periodic reports filed from time to time with the SEC and the risks and uncertainties identified in today's earnings release. All forward-looking statements are made as of the date of this call, and Knowles disclaims any duty to update such statements, except as required by law.

In addition, pursuant to Reg G, any non-GAAP financial measures referenced during today's conference call can be found in our press release posted on our website at knowles.com, including a reconciliation to the most directly comparable GAAP measures. All financial references on this call will be on a non-GAAP continuing operations basis, unless otherwise indicated. Also, we've made selected financial information available in the webcast slides, which can be found in the Investor Relations section of our website.

With that, let me turn the call over to Jeff, who will provide some details on our results. Jeff?

Thanks, Mike, and thanks to all of you for joining us today. For Q1, we reported revenue of $194 million, up 5% from the year-ago period, with gross margins of 38% and earnings per share of $0.12. All metrics came in above the midpoint of our guidance range. In our audio segment, sales came in slightly stronger than expected, driven by better-than-anticipated MEMS microphone demand from 2 of our largest North American customers as well as from Chinese OEMs. Overall, revenue from audio comprised 74% of total sales in the first quarter.

In the precision device segment, Q1 sales were also better than expected due to stronger demand for our timing and capacitor devices. We are seeing improved order trends in our defense, industrial and medical markets with a stable telecom infrastructure market driving demand for our products. Precision devices represented about 26% of total company revenue in Q1.

We continue to see strong demand trends in our MEMS microphone business. Voice as a user interface and improved audio quality are driving the need for higher-performance microphones, multi-mic adoption and smart microphones across our mobile, ear and IoT markets. Revenue in our microphone business grew in Q1 versus the year-ago period, and we expect sales in this business to be up for the full year 2017 versus '16 as customers remain focused on improving audio input for their devices.

Last month, we were pleased to see Samsung highlight the importance of enhanced audio capture when it launched its latest flagship phone, the Galaxy S8 and S8+. These handsets come equipped with new high-performance microphones that help minimize distortion in noisy environments and optimize performance for activities like concert recording or improved voice capture to enable new features like Bixby, its new smart voice assistant.

I mentioned last quarter that our capabilities in acoustics, signal processing and software have enabled us to benchmark the performance of our customers' products across many different use cases. This data has provided us with a foundation to clearly demonstrate the benefits of additional mic content for our customers and drive multi-mic adoption. We continue to see evidence that we are successfully demonstrating the advantages of adding more microphones to improve or enable important use cases. Recently, smartphone OEMs, like Vivo, have embraced higher-quality microphones and doubled the number of mics in their latest X Series handsets per device. In addition, HTC is now leveraging 4 microphones in their new flagship phone versus 3 mics in their prior phone for better noise cancellation and multimedia capture. This improves the consumer experience and enables OEMs to differentiate its products in the market.

In our hearing health business, customers continue to leverage multiple MEMS microphones to improve performance due to the advantages over electric mics, particularly around automated assembly and performance robustness across temperature and moisture. High-end hearables from companies like Doppler and Here One are also implementing multiple mics and balanced armature speakers to deliver new solutions that combine the features of a commercial earbud and assisted listening device. Some of these hearables can amplify speech, intelligently cancel noise and enable customers to blend music and the sounds around them to enhance situational awareness.

Just 2 weeks ago, our largest IoT customer, Amazon, announced that for the first time, it was making the high-performance far-field microphone array and voice processing technology found in the Echo available to hardware makers who want to build the Alexa experience into their products. With the Alexa 7-mic far-field development kit, the company is enabling developers to build and launch voice-activated products by reducing development time and cost.

In addition to driving more mics per device, we are also excited about our growing portfolio of smart microphones. Last week, we introduced the world's first smart microphone with an embedded digital signal processor. This new smart microphone combines a world-leading MEMS device with a best-in-class, open digital signal processor into a single subminiature package. This complete and customizable solution is similar in size to a MEMS microphone found in today's leading mobile electronic devices and provides an open platform that enables OEMs and third-party software developers to create and customize advanced features or leverage Knowles' industry-leading software and algorithms for a turnkey solution. This is the first intelligent microphone from Knowles built on the company's internally developed microphone and DSP technology platforms and enables features like voice wake with voice commands, spatial recordings and event detection, such as breaking glass or an infant crying. With voice rapidly emerging as the primary user interface, this smart mic simplifies audio design and can reduce total system cost. Overall, we continue to lead the MEMS microphone market. Our diverse customer base, our scale, our breadth of product and our control over the MEMS, ASIC, packaging, signal processing and software designs uniquely positions us to improve audio input for our customers.

With that, I'll turn it over to John to expand on our financial results and provide our guidance for the second quarter.

Thanks, Jeff. As Jeff mentioned, we reported first quarter revenues of $194 million, above the midpoint of our projected range and up 5% from the year-ago period, driven by slightly higher demand in both audio and precision devices. Audio revenues of $144 million were down 24% sequentially due to typical seasonality and up 5% from the year-ago period. Revenue from Chinese OEMs and 2 of our largest North American customers were up from year-ago levels, while revenue from a Korean customer was down due to a later launch of its flagship handset.

Precision device revenues of $50 million were down 2% sequentially and up 4% year-over-year as a result of increased shipments in defense, industrial and medical markets. First quarter gross margins were 38%, 50 basis points above the midpoint of our guidance and 30 basis points better than prior year, driven primarily by productivity improvements within our precision device segment. Operating expenses in the quarter were $55.6 million, in line with expectations and down $3 million from the year-ago period, as we continue to realize the benefits from cost-reduction actions taken in the second half of 2016. For the quarter, adjusted EBIT margin and non-GAAP diluted EPS was 8.2% and $0.12, respectively, with both metrics above the midpoint of our guidance range. Further information, including a detailed reconciliation of GAAP to non-GAAP results, is provided in the financial tables of today's press release and can also be found on our website at knowles.com.

Now I'll turn to our balance sheet and cash flow. Cash and cash equivalents totaled $63 million at March 31. For the quarter, cash flow from operations was $18 million, and capital spending was also $18 million. Bank borrowings were unchanged from December 31, 2016, levels.

Moving to our second quarter guidance. We expect total company revenue for the quarter to be between $180 million and $200 million, flat with prior year at the midpoint, with increases in MEMS microphone revenues driven by multi-mic adoption, the launch of our Korean customer's new flagship handset and growth in IoT. We expect these microphone increases will be partially offset by a decline in microphone shipments to Chinese customers in connection with the realignment of inventory levels, which we expect to largely correct by the end of the June quarter; and a decline in our hearing health business, primarily as a result of lower market share of receivers as we become more disciplined in our pricing practices.

Precision device revenue is expected to be consistent with prior year levels. We are projecting non-GAAP gross margin for the quarter to be approximately 37.5% to 39.5%, down slightly versus prior year levels. The year-over-year decline at the midpoint is expected to be driven by increased costs in connection with planned capacity increases to support microphone growth in the back half of the year and the absence of onetime favorable items that were recognized in the second quarter of 2016.

R&D spending in Q2 is expected to be between $24 million and $27 million, up 4.5% from prior year levels due to increased project spending related to new products. Selling and administrative expense is expected to be approximately $31 million to $34 million, down 8% from year-ago levels, as a result of cost-reduction actions taken in the second half of 2016, partially offset by higher incentive comp costs. We're projecting adjusted EBIT margin for the quarter to be in the range of 7% to 9% and expect non-GAAP diluted EPS to be within a range of $0.08 to $0.14 per share. This assumes weighted average shares outstanding during the quarter of just over 92 million on a fully diluted basis. We're forecasting an effective non-GAAP tax rate of 8% to 12% for the quarter. Please refer to our press release for a GAAP to non-GAAP reconciliation.

For the second quarter, we expect cash generated by operations to be approximately $5 million to $10 million. CapEx in the second quarter is expected to be approximately $20 million as we continue to expand capacity and introduce new products in our MEMS microphone business to support growth in the back half of the year. We expect CapEx for full year 2017 to be within the range of 6% to 8% of total revenue. We are well positioned with our major customers' new product introductions in the second half of the year, and we continue to anticipate full year revenue growth in the mid-single-digit range, expanding operating margins and increasing EPS for full year 2017 versus '16 levels.

I'll now turn the call back over to Jeff for closing remarks, and then we'll move to the Q&A portion of the call. Jeff?

Thanks, John. As John said, I continue to expect mid-single-digit revenue growth for full year 2017 driven by both growth in our audio and our precision device segments. In audio, we are leveraging our capabilities in acoustics, software and signal processing to improve audio quality and enable consumers to control their device via voice. We expect audio revenue in the second half of 2017 to be driven by multi-mic adoption in the mobile market, the launch of our customers' new handsets and adoption of new audio products across our end markets. I remain extremely excited about the revenue opportunities around voice today and in the years to come.

Operator, we can now take questions.

(Operator Instructions) And our first question comes from the line of Suji Desilva of Roth Capital.

So the China inventory correction, can you talk about the percent of revenues that was China this quarter? And maybe what it might dip down to, just to understand the peak and trough there?

Yes, let me describe -- John's looking at the numbers right now as a percent of revenue, but let me kind of just put some color on what we're seeing. First of all, I would just start off by saying, the last 6 quarters, we've had, I mean, a very strong growth year-over-year. So I -- and what we're kind of seeing that the dynamics we've talked about in the market over the last year, 1.5 years, relative to multi-mic adoption, using more high-performance mics and their share gains in the marketplace continue. So we look at this kind of as a pause in Q2, and we do expect that growth will resume in Q3. John, you want to add some color on this?

Yes. Suji, in terms of Q1, the revenue with Chinese OEMs were kind of in the range of 11%, and I'd assume kind of a 10% to 12% range for Q2, so.

But ultimately, we kind of see it as being kind of a pause here after just 6 quarters in a row of very, very good growth.

Okay, good. Those numbers offer magnitude there. And then the inventory increased slightly. Was that driven by the China customers' inventory [slimming]? Or is that building for the Korea customer's delayed launch? Or just some color there would be helpful.

When we referred to the inventory, if you think about the cycles that happen, I don't know if this is what you're referring to, but typically, what we have is the front half of the year has obviously a lot less sales for us than the back half of the year. And there's 3 or 4 items. There's the holidays in the back half of the year. There's the launch of our North American customer. Increasingly, there's also -- we're seeing with our big IoT customer that there's a big push towards the back half of the year as well. I think one of the things that we've been debating internally here, and we're starting to see maybe kind of a slight shift this year, which is slightly different than maybe previous years, which is Q4 could be stronger than Q3, primarily driven by some of the timing of some of these handset introductions, coupled with our large IoT customer and how they're building and what time of the year is when the sales become quite large.

Suji, if I can also just add, if you were looking at the balance sheet in our press release and looking at our inventory increase from 12/31 to 3/31, there was a bit of an increase, and it really relates to a production transfer that is taking place in our audio segment. We're building up inventory in connection with completing that transfer during the second and third quarters.

Okay. That helps. And then the last question, on the new DSP-based microphone. Is that a significantly longer design cycle than the traditional microphone? And is there an ASP uplift as you ramp those up?

Let me start with that first question -- your second question first. Yes, we do expect a pretty significant price uplift from this product. Here's what I would say is, the first generation of smart mics that we've introduced, I would say, probably lacked some flexibility. They were hard-coded smart mics with specific -- for specific use cases. I think what we kind of see this as is developing an open DSP which, for sure, we're going to have some of our software products on it, but it also allows our customers and third parties to write software to it for their own applications. And so to the extent it's more flexible, I would sit there and say the design cycles should not be as long. And I would also say, the -- it cuts across multiple markets, this product. The smart microphones we've introduced at this point have been primarily targeted at the mobile market. This cuts across IoT, there's opportunities in the ear, there's also opportunities, for sure, in mobile. So we're really excited about the potential for this product.

Our next question is from the line of Bill Peterson of JPMorgan.

Solid job on the quarterly execution. Maybe piggybacking the last question. A few months ago, one of your main competitors introduced also what appears to be a smart mic along with DSP-driven sensory. Just kind of wanted to see what you're seeing in the marketplace in terms of the interest in such products. And I guess, secondarily, I suppose this new microphone you're talking about, would this replace the existing Voice iQ that I guess, thus far, has only had a few customers try to adopt it?

Again, I'll answer your second question first. That would be true. It would potentially, over the longer term, replace some of the Voice iQ-type products that we've got in the marketplace today. I think what I would say, there's a couple of key differences between what we see in the marketplace that people are talking about. First of all, we are sampling already. We are sampling customers. And our expectation is that we would have revenue late this year from this product. Secondly, I think what also is great about this product is it being open, which is just a really important feature that we heard from the market that, yes, in some cases, we want to use your software, but we want to write our own software; or we want to use this third-party. I think that's a very, very big plus. And I think the last thing I think that we continue to focus on, if you think about the reason we've been so successful in the MEMS microphone market, we talk about the broad product portfolio. This adds to that. We talk about the scale. This adds to it. We can talk about our ability to control the supply chain and design from the perspective of the DSP. We own the technology that goes in that DSP. We own the microphone, the packaging, the test, the assembly. And so from our perspective, I think this is a much more flexible, encompassing product that will have a lot of use across multiple markets.

Okay. I guess, more broadly on intelligent audio. You didn't really speak too much on that, things like Versant. Can you give us any sort of guidepost on how the design pipeline is? Is this still looking more like a 2018 opportunity? What -- how should we be thinking about the growth of this in -- later in this year and into next year?

Yes, here's what I would say is, I think we've talked about this on previous calls. I said the primary revenue that we see coming out of the intelligent audio capability in this year is driving the multi-mic adoption. I mean, I see it when I visit customers about how now we are having strong influence on convincing them to add additional microphones. And in some cases, we've gotten some software sales. We get some smart mic sales. I think what we're learning as we get deeper and deeper into this, flexibility is important for our customers. And when we introduced the product that we talked about just last week, this product creates the kind of flexibility the customers are looking for to use our total solution, but also develop their own solutions. So if I think about what I talked about in the last quarter, and I'll just say it again this quarter, primarily, we're focused on this year on driving multi-mic adoption. I would say that we're going to start to see more revenue from some of these products as we -- later this year and into 2018.

Okay. Last question for me as well. When you think about the IoT business, you're speaking more about it, I was wondering if you can help quantify how large it is now and how we should expect to grow this business in the second half. I mean, should we assume this can reach, say, like I guess 10% of revenues? Or how should we think about the growth of this throughout the year?

Yes, I would say it's probably not going to get to 10% of revenues this year. But remember, I would say this is starting from an extremely low point in '15. So I would say it's going to be somewhere between 5% and 10%, probably closer to 10%. But it's starting from a point of 0 2.5 years ago, right? So we're starting to see this be a significant contributor. I would say the second piece of this is that we're very optimistic about the proliferation, right? I think, primarily, the revenue has come in the short term around what we've kind of called the hubs, right? But I think in the longer term, if you look at like IoT World conference, which is going on in a couple of weeks, if you look at what happened at CES, what you kind of see is we're being inundated with requests from other companies who want to voice-enable their device beyond the hub. And so what we're hopeful is, beyond the hubs, I think there'll still be a lot of growth this year, next year. But I think after that, you're going to start seeing more of these peripheral devices starting to drive growth.

Our next question is from the line of the Harsh Kumar with Stephens.

Jeff, couple for you. Sorry, I promise this is my last question on China and hopefully for everybody else. But any color on how big the impact of inventory is? So China is only 11% of revenues. I'm curious, is it possible that most of your $9 million or so miss relative to the Street for the guide is China? If that's the case, China is off 50%. Is that -- am I thinking about it correctly? Or is that a lot less than that and there are other parts in it?

Yes, so here's kind of how I'd kind of look at it. I mean, there's a couple ways of looking at this, and we can talk about it sequentially or year-over-year. But here's kind of how I would view it. First, I'm going to start saying that even with the essentially flat revenue sequentially, slightly down to flat revenue sequentially, we have strong growth in mics. We still have strong growth in mics. So I mean -- so it's still okay in Q2. But I would say we were expecting to be stronger in Q2 because of China. And China is just not showing up in Q2 because of its inventory situation, which we think will correct itself by the end of Q2. The second thing, there is some decline in the hearing health business, which John mentioned in his discussion, relative to -- we've taken kind of an approach on our receivers of being a little bit more price disciplined in the hearing health market. It's cost us some share. Now what I would just say, I would add one more thing about this is, we continue to be optimistic on our hearing health-type products in some of the, what we call, commercial applications for assisted listening devices, pro audio, earbuds, hearables. We continue to be -- see that being an area of growth. But in the short term, in our hearing aid business, we are -- we have decided to kind of walk away from some share, which is causing some of that.

Harsh, just to add a little more color to China. I mean, if you think about, we talked last quarter about, in 2016, China grew 60%. We continued to see growth, not at that rate, but decent growth in Q1, slowing, but still growth. Now as we've said, we're seeing kind of flat sequentially. If we would have continued to grow at that, call it, 60% growth, that is close to $10 million.

I got you. Okay. No, that's very helpful. And then are you with your largest customer, when -- I'm curious, when do you actually see the ramp? Do you see it in June? Or do you see all of that in 3Q calendar?

Well, I would say this, Harsh, I'm not going to share confidential information. I think you can read kind of what is in the marketplace, just like we read the marketplace. And so I'll just kind of quote from what we see in the marketplace, which is, there's still a fair amount of speculation on what handsets and what's the timing of introduction. And I kind of -- just kind of said it in an earlier question, which is this may be a little bit different this year than the previous years. In a lot of years, Q3 is our biggest quarter. But what we kind of see here is, is first, there could be some, I would say, later ramp in some of these things, coupled with -- when you look at our IoT customer, last year was much stronger for them in Q4 than Q3. And we're kind of expecting a similar type situation this year.

Fair enough, Jeff. I think you mentioned that earlier. And then how do you feel about your -- so once you get past this inventory issue, you sort of get back into China and start shipping with gusto again. How do you feel about share gains, maybe not at the rate of last year, but still share gains in China with your MEMS microphones this year for 2017?

I would say, Harsh, that this year, our share will probably go up. But let me just explain, it's going to be a little different this year. I wouldn't expect significant share gains in China this year. What I would expect is a stable share in China, still stable share at our largest customer, coupled with the IoT market growing at a very rapid rate, where we have high share. So I would say that is probably more how we gain some share. But I wouldn't say that this year's growth is going to be driven a lot by share gains. I would say it's IoT. I would say it's introduction of new handsets by some of our larger customers in the back half of the year, and there will be growth in China, but more driven by the multi-mic adoption that we've kind of like driven.

But we don't expect full year growth in China to be anywhere near the 60% level...

No, and we said that in previous calls. We said that in previous calls as well.

Our next question is from the line of Bob Labick of CJS Securities.

Just going over to the hearing health part you've just alluded to, can you talk a little bit about how big is the receivers as a percent of sales for hearing health? I guess, you had $58 million last year Q2 in hearing health or $220 million for the year. What percent is receivers? And how much did you walk away from, just so we can kind of quantify this on an annual or quarterly basis?

Yes, I mean, I guess what I would just say is we're not going to go into that level of detail. There's -- I can give you a little more color about some of the things that we see. First of all, let's keep in mind here that, in our receiver business or our hearing health business, I would say we kind of view it as 3 separate pieces that we look at. There's the microphones that we sell to the hearing health. There's the receivers that we sell to hearing health. And then what we call internally, we call our commercial business, which is where we take that same technology and sell it to other markets besides hearing health. That's like the pro audio, the hearables, the earphones. So generally speaking, I would say, in microphones and receivers, the mics have an ASP that's about half of what our receiver is. And to the extent that when we lose a receiver unit on a revenue basis, it's more than it would be on a MEMS device or a microphone. That said, we walked away from some receiver business intentionally that was going to require us to make some CapEx investment that just didn't have the return that made sense for us. And I'm not going to go into that level of detail exactly how much it was, but I think we are being pretty disciplined around price in this market. And to the extent we want to make sure that we continue to generate strong cash flow out of this business, we will do that. The last piece I would just say is that we're still pretty positive about the future of sales receivers to non-hearing aid customers. There's pro audio, hearables, earphones, assisted listening devices. This seems to be a market that over the last year, 1.5 years, has done very well. And as we look towards the back half of 2017 and into 2018, we see opportunities in the space as well.

Okay, great. Maybe just following up on that. You gave us a range for the size of the IoT market for you. How big is the hearables market? Not hearing health, but the Bragi headphones and Dash and those kind of opportunities. Roughly how big is that now? And how big can that be at 1, 3, 5 years from now?

I would say it's still relatively small. I mean, it's not a huge market today. But we can definitely see this market starting to emerge. And not to say that it's similar in our thought process, but it is in terms of what's in mobile, starting, obviously, from a much lower base here; is that we're seeing a lot of requests, like IoT and mobile for multi-mic applications. You're seeing more and more headphones, hearables, devices that all require more mics. I always use the example, there's been a ton of press about ANC in the marketplace. When we hear that, that's music to our ears from that perspective that anybody who's using ANC is going to need more mics. And so I'd say -- and this is all being driven by the idea that Bluetooth is going ultralow power, this is driven by powered USB C and lightning cords. And so we feel pretty optimistic about the long term coming from a smaller base, though.

And the next question is from the line of Jaeson Schmidt of Lake Street Capital Markets.

Most of my questions have already been asked, but just want to start with a clarification regarding your largest customer. So you guys feel confident about that relationship. The only thing that's uncertain this time around seems to be the timetable of launches, correct?

Well, I mean, I think from our perspective, what we said is our goal is, last year, we had a very strong year with them. We felt pretty good, and we feel good about where we are today going forward. I mean, I don't think we have much more comment on that at this point. There's -- every year, we go through this on timing, right. I mean, this is not an uncommon thing. Do they announce in North America and ship in North America -- or sorry, announce and ship in North America only? Do they launch globally? Now you've added the additional complexity that the rumor in the market, nothing we're confirming, is that there's going to be multiple phones. And so that adds some level of, like, well, which phone would sell more, right? And so from our perspective, it's more about -- yes, more about timing.

Okay, that's helpful. And then just the last one regarding how we should be thinking about OpEx going forward. Obviously, ticking up slightly in Q2. But do you guys anticipate needing to spend heavily in the back half of the year?

Yes, I can take this. I mean, let me just go back to what we said last year. We had a target of reducing our OpEx, and we did throughout 2016. We exited '16 actually below our target, which was an annualized run rate of $140 million. I really don't expect an increase above that $140 million rate in 2017. So we should really see pretty strong operating leverage and favorable impact as a result of maintaining our operating expenses at this $140 million or less run rate. And we'll always look at additional opportunities to reduce our operating expenses.

Our next question is from the line of Tristan Gerra from Robert W. Baird.

This is Maggie McNally on for Tristan Gerra at Baird. You've talked about having the smart speaker turnkey solution later this year. How do you see smart speakers growth later this year and next year? And what is the competitive landscape for intelligent audio in that area?

Yes. Okay, all right. Here's -- what I'd say is there's definitely going to be an area where we're going to try to participate in this, I would call it, hopefully, more of a turnkey-type solution to some of the issues that the non-hub people are facing. And I mean, I don't see us kind of like when you look at some of our very, very big mobile customers, that there's going to be a big opportunity beyond multi-mic adoption, maybe a little bit of software in those applications. I think there's this peripheral group of people in the IoT space that are hungry for new solutions. And I think there's going to be some opportunities. And hopefully, we'll start to talk more about this later this year. But here's what I would just say is, in spite of all -- as I said earlier, in spite of all the great talk around IoT, I would say that primarily the volume, right, today is driven around the hubs, and the multi-mics around the hubs today, right. That's where the volume is today. But I think in the future, as we get into 2018 and beyond, I think there's going to be more opportunities than just at the hubs. The last point I would just make is going back to our announcement of our smart microphone. I think this is a key step in the direction we're trying to head, which is, look, we can do some of these things in order to enable solutions with this, where we have our own software, our own capability to drive multi-mic adoption. But we really want to enable third parties and our customers to be able to enable new applications as well, hopefully, all driving more microphone demand.

Okay. And then just as a quick follow-up. Given that more bezel-less smartphones are coming to market, notably from China, is this expected to drive demand for your ultrasonic mics?

That's an interesting question. There's been a number of phones that have been introduced in the market that utilize our microphones relative to ultrasonics. You probably know of a few of them that are in the marketplace. I would say there is an opportunity. But so far as what we've seen is, these are primarily very high-end flagship phones. I think the one you could probably refer to that everyone is kind of aware of is, I believe it's called the Mi Max, which is the phone from Xiaomi. That's a very high-end phone for the China market. And so, so far, I would say is what we're seeing is these are very, very high-end phones. But I would just say that -- I'd add to this, I played with one of these phones. It's very interesting because the screen is allowed to become extremely large without that speaker sitting on the front of the phone, right? And so I think there are some opportunities. So I wouldn't say it's going to have a huge impact on us in 2017.

(Operator Instructions) Our next question is from the line of Christopher Rolland of Susquehanna.

Guys, perhaps you could talk about utilizations at your packing -- packaging facility particularly, and how that might trend through the year and then also how your CapEx might play into that equation.

Yes, we can do that. I think we talked about this a little bit last quarter. I mean, we exited last year running full out with essentially running down inventory. You can kind of see it in our balance sheet, how it looked at the year-end. As we went to Q1, I would say the demand was, as we said in here, was slightly stronger than expected. And I don't know if, John, if you have this. But maybe we added a little bit of inventory, but I don't think we added a ton of inventory back in Q1. We are starting to install the capacity in Q2. We are, I would say, excited to get that online because we want to make sure we're prepared for a very, very strong back half of the year. So basically speaking, I would say is, our expectation, we're going to have pretty high utilization, which is kind of abnormal throughout the whole year this year versus our utilization is usually lower in the first half, rising to high utilization in the back half. So we should have better utilization throughout the full year this year.

Yes. Just to add, we increased our inventory by about 10 million. As I mentioned, part of that increase was due to a closure of a -- one of the production facilities in our mic business. And then we also rebuilt...

(inaudible)

In our audio segment. And the other was kind of replenishing inventory from the 12/31 levels.

We had announced the closing of a facility as part of another -- it's not a major, major...

Small facility.

Small facility that we built inventory. It's not in our microphone business and to that extent, we built some inventory. And I know we've been trying to build some inventory in our mic business because we exited the year at a very low level.

Okay, great. And playing into that as well, do you guys think that the global kind of supply-demand equation for mics is changing here at all? I mean, I know some guys have left the market here. Is it slowly changing in your favor to the point where you guys think you can get maybe firmer pricing?

Well, again, we talked about that last quarter. And when I start thinking about it, the -- John has always talked about 6% to 10% price erosion on mature products. In '16, I would say we were closer to the 10% than the 6%. But as you look into 2017, right now, we are seeing an improving price environment.

Less price erosion.

Less price erosion, right, than we had in last year. And I would say there's a combination of things here, right. One is we've been successful in introducing some new microphones, like we've talked at Samsung, which helps, right. The demand is quite strong in the marketplace with, what we see is a number of competitors who are making very, very small margins on this product category, which makes it hard to justify CapEx or capacity increases. Coupled with, I think what we've talked about is we're looking a lot closer at being more disciplined on some of the mature products and maybe walking away because the demand is high enough from some of the mature lower-ASP products.

And at this time, I'm showing no further questions. I'd like to turn the call back over to Mr. Mike Knapp for any closing remarks.

Great, thanks very much for joining us today. As always, we appreciate your interest in Knowles and look forward to speaking with you again on our next earnings call. Thanks, and goodbye.

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