SemiLEDs Corp (LEDS) 2011 Q2 法說會逐字稿

Welcome to the SemiLEDs second quarter of fiscal year 2011 earnings conference call, which ended February 28, 2011. This call is being webcast live on the Events and Presentations page of the Investors section of the SemiLEDs website at www.SemiLEDs.com.

This call is property of SemiLEDs and any recording, reproduction or transmission of this call, without the express written consent of SemiLEDs, is strictly prohibited. As a reminder, today's call is being recorded. You may listen to a webcast replay of this call by going to the Investors section of SemiLEDs' website. I would now like to turn the call over to Erica Mannion, Investor Relations for SemiLEDs.

Good morning. Thank you for joining us to discuss SemiLEDs' financial and operating results for the second quarter of fiscal year 2011. With me today are Trung Doan, Chairman and Chief Executive Officer, and David Young, Chief Financial Officer. Today, Trung will begin with a brief overview of the industry and review of the second quarter. David will review Q2 financial results and provide fiscal third-quarter 2011 guidance.

On the call today, you may hear forward-looking statements about events and circumstances that have not yet occurred. Actual outcomes and results may differ materially from the expectations contained in these statements due to a number of risks and uncertainties. Please refer to the Company's recent SEC filings at the SEC's website at www.SEC.gov for detailed discussions of the relevant risks and uncertainties.

The Company undertakes no responsibility to update the information in this conference call under any circumstance. The press release distributed today that announced the Company's results is available on the Company's website at www.SemiLEDs.com in the Investors section under Financial Press Releases.

The current report on Form 8-K furnished with respect to our press release is available on the Company's website in the Investors section under SEC Filings and on the SEC's website. You will also hear discussions of non-GAAP financial measures. Reconciliations of these non-GAAP measures to the most comparable GAAP financial measures are contained in the press release distributed today and available on the Company's website. Now I'll turn the call over to Trung Doan, Chairman and CEO. Trung, go ahead.

Thank you for joining us today. While we believe the long-term market opportunity of LEDs has not changed, the [market] did not meet our expectations relative to revenue, earnings per share and gross margin. As we have become a public company, our competition have taken notice of our fiscal Q4 2010 53% gross margin and fiscal Q1 2011 51% gross margin when we announced it in January 2011.

As we previously disclosed, this quarter, we were affected by the aggressive pricing environment [beginning] what we believe was an unreasonable request for a significant price reduction by a large customer.

Today, the market environment is even more challenging. Demand is weak and the industry is experiencing significant pricing pressure resulting in limited visibility. In January, ASPs will drop -- will reduce by double digits, our customers have asked us to make price concessions. We decided to protect our marketshare and make these price concessions, which have materially affected our financial results.

Furthermore, there is less demand today because customers are concerning about the rolling pricing environment. While we expect this situation to continue until calendar Q4, the long-term market opportunity and the driver of LED adoption have not changed.

We look at the double-digit price drop of the Q2 quarter as an opportunity for evaluating the LED adoption curve by reducing the upfront cost of LED lighting products. We have to focus on delivering the best (inaudible) per dollar per watt by improving our yield and device performance.

With the current market demand, we are intentionally slowing down our plans to double our capacity to 20 million units per month. However, to lower our costs and improve our performance, we are accelerating our (inaudible) plan and improve our development cycle time by adding more staff and tools.

Today, we have capacity for 12 million units per month. We are running at 80% to 90% of capacity due to material shortage of metal organic compounds or MO. We have multiple sources for this material and are currently seeking additional sources. Currently, we are working with our strategic supplier to address this shortage and expect to have this issue resolved within the next few months. We expect to have capacity of 14 million units per month by September.

Now, what happens in China (inaudible) five-year plan. Last month, China laid out its spending plan for 12 five-year plans, including the goal of (inaudible) fossil fuel to account for 11.4% of primary energy consumption, and energy consumption per unit of GDP to be cut by 60% by 2015. China authority in charge of the LED lighting industry has also been upgraded from the Ministry of Science and Technology to the National Development and Reform Commission.

These developments demonstrate the Chinese government's commitment in driving LED efficiency and LED lighting adoption. We believe this five-year plan will be beneficial to SemiLEDs as we are the high-performance LED low-cost supplier. Recently, the (inaudible) government had announced that it will invest no less than RMB300 million into (inaudible) energy-saving projects.

This project will cover five districts of Foshan together with Dongping Newtown. All the roads, streets, terminals and large-scale public works will be upgraded section by section. The project involves about 120,000 LED streetlamps that will be installed all over Foshan and (inaudible) of (inaudible) of growth.

The [main public] place will also be adopting LED lamps step-by-step. That is about 180,000 lamps per 800,000 square meters of interior LED lights. In addition, 100,000 LED lights are for outdoor lighting. China [SemiLEDs] joint venture is already located in Nanhai Foshan.

In this quarter, we successfully transferred our (inaudible) technology from Taiwan to China in February and began pilot production ramp. At this time, we are doing view optimization while expecting to start assembling and shipping product only after May. While we don't provide (inaudible) number, the China SemiLEDs joint venture is running at full scale. The capacity will be greater than 10 million units per month.

In mid-March, we have announced (inaudible) of our new I-Do products. I-Do is a second generation of the I-Core AK series of LED chips in a white light package. The I-Do chip can deliver up to 135 lumens per watt, a more than 10% improvement over previous I-Core generation due to a new design with increased efficiency, improved reliability and a (inaudible) market. We expect the new product to begin volume production this month. And SemiLEDs should begin to recognize revenue in fiscal Q4.

It is typical for new products to command higher margins, so we expect once I-Do is running at full production, full volume, our gross margin will be positively impacted. With the new I-Do product family, we believe SemiLEDs is one of the few companies that can deliver up to 135 lumens per watt LED in volume production using our differentiated disruptive and patented copper alloy technology. And offering the best price to our customer on a lumen per watt per dollar basis to address the upfront cost issue. This will speed up the LED lighting movement.

We will do our part by focusing and control our costs. How? Increasing volumes of new high-performance I-Do chips, (inaudible) our four-inch (inaudible) plant and improving manufacturing efficiency of our existing 2.5 inch (inaudible) ramping up China SemiLEDs four inch to take advantage of China opportunities. Now I will turn over the call to David who will take you through our second-quarter financial and our guidance for third quarter.

Thank you, Trung. For the second quarter of fiscal 2011, revenue was $10 million. That is a 30% increase from $7.7 million in the second quarter of fiscal 2010 and a 24% sequential decrease. Revenues attributable to the sales of LED chip sales represented 47% of our revenues. Revenues attributable to the sale for LED components increased 14% sequentially and represented 41% of our revenues in the quarter. The decrease in total revenues was primarily due to increased pricing pressure as previously discussed on our last call, as well as the usual seasonality in our business in fiscal Q2 due to the Chinese New Year holidays.

GAAP net loss was $1.2 million for the quarter, a 161% decrease compared to the same period last year. GAAP diluted loss per share was $0.05. The Company recorded a foreign currency transaction loss of $163,000 in the quarter. On a non-GAAP basis, net loss was $0.7 million, a 138% decrease compared to the same period last year, non-GAAP diluted loss per share of $0.03. Non-GAAP net loss excludes stock-based compensation expense of $433,000 net of tax.

We ended the quarter with $102.6 million in cash and cash equivalents, which is an increase of $92.8 million from the prior quarter. SemiLEDs completed an initial public offering in December 2010 generating net proceeds of $95.5 million before deducting operating expenses of $3.4 million.

Cash generated by operations was $1.7 million, which included $1.7 million of depreciation and amortization. We spent $3.4 million on capital expenditures in Q2, which resulted in free cash flow of negative $1.7 million. We define free cash flow as cash provided by operations net of capital expenditures.

GAAP gross margin was 23%. GAAP operating margin was negative 6%. As Trung mentioned, ongoing pricing pressure, lower capacity utilization and a change in product mix significantly impacted margins in the fiscal second quarter. Gross margins were also affected by the increased pricing of metal organic compounds due to shortness of supply. R&D expenditures increased sequentially $291,000 to, $738,000 as a result of the development of our recently introduced I-Do products while SG&A expenditures increased $0.9 million to $2.2 million. The increase in SG&A was the result of increased litigation expenses, D&O liability insurance and salary and benefits.

Tax benefits for the quarter was $219,000, or 60% of the loss before income taxes. The effective tax rate for 2011 is estimated to be 2.1%. Days sales outstanding was 94 days as compared to 72 days for the prior quarter. The slowdown in collection was due to sales that were back-end loaded toward the end of Q2 and we extended longer terms to our customers.

The inventory days on hand was 179 days compared to 188 days at the end of the prior quarter. Inventory was $15.2 million for the second quarter of fiscal 2011, a sequential increase of $1.9 million from the first quarter.

Now, let's turn to guidance for third quarter of fiscal 2011. Guidance reflects the pricing pressure and weaker demand in the industry. We expect Q3 revenue to be in the range of $6 million to $7 million. GAAP gross margin is expected to be in the range of 25% to 30%. GAAP net loss for Q3 is targeted to be in the range of $2.6 million to $2 million. GAAP EPS is expected to be in the range of negative $0.10 to negative $0.07 per diluted share. Diluted shares outstanding is estimated at 27.3 million.

This concludes our formal comments and now I will ask the operator to open the line up for questions.

(Operator Instructions). CJ Muse, Barclays Capital.

Thank you for taking my question. I guess first question when you think about the revenue weakness in the guidance for May, I was hoping maybe you could separate between both supply and demand. Is this more of a supply or demand type of a problem? And I guess within that, would love to hear your thoughts on what is happening on the mix side between low and high end, as well as what you did identify in terms of pricing for both of those segments?

Okay, thank you. So this is Trung. Today, the market is very challenging in terms of people order in the spot market because of the pricing erosion environment. So we would look at purely the demand side and we forecast days on what we see in the spot market, the demand side.

Okay, I guess what I am getting at is, in terms of the thesis that general lighting will require higher-end LEDs and there is less supply there and therefore pricing should hold up incrementally better at least and I guess would love your thoughts on what you're seeing on that front.

Well, what we see, the pricing -- double-digit pricing erosion during the February timeframe has really made our customer very worry about ordering, long-term ordering. We see that, the demand side, people don't want to be having built up inventory because of that. So that is where our forecast comes from.

Okay, that's helpful and then last question from me. Can you provide an update on where you stand with China SemiLEDs, specifically around capacity loading, utilization rate, and how we should see that, given the current environment, whether there is any changes in your thoughts there through calendar '11?

The current market environment is very low, so what we do is that we -- things still picking up (inaudible) China SemiLEDs. We still try to optimize yield. Probably we have seen that we have equipment installed. We've run pilot lines to test the pilot logs, to test the line in the years coming up, we still plan -- we should come up, as our shipping product after May and there are a lot of projects that currently, as I mentioned in my presentation, in my speeches, that Foshan government have put out a project to convert the streetlights and we are spending money. So we hope that everyone (inaudible) that, that would be a driving force behind the demand in China coming up.

So this is the beginning of what we see I think more and more different announcements from China. Last week, we have seen also an announcement from Guangdong province also. So that is still our emphasis on China SemiLEDs, still intact at this time.

Very helpful. Thank you.

Jesse Pichel, Jefferies

(inaudible) for Jesse. How are you doing? So on your last call, you mentioned your customers are among the winners of 50 demo projects in China. What is the status of those projects and do you see others start flowing for those projects?

This is Trung again. I will try to answer about the project in China. Right now, the China SemiLEDs is ready to (inaudible). We have seen some testing from EMC projects. You have probably heard about EMC have started testing our product now and we have sent some product from Taiwan SemiLEDs to some of our local government to get the testing of our product and that is -- I do believe that is still on track coming up now.

About the timing exactly, we don't know exact timing, but we are seeing, as I mentioned before, we start seeing a lot of announcements and a lot of issues of tendering and testing taking place right now.

Okay. And also can you give us an update on your long-term gross margin target and also maybe some more color on your product mix?

This is David Young here. At this point, I think we do not want to reiterate our long-term gross margin target at this point given the limited visibility we have in the short term.

Yes, sure. And can you give us more color, like what is the breakdown between your components and chips, what is the breakdown between your gen one and gen two products?

Right now, for Q2, our chip revenues make up about 47% of our sales, components about 41% and at this point, as far as chip sales goes, the majority of our sales are still in the high-performance products at this point.

Okay. Thanks.

We don't see the I-Do product coming in, revenues coming in until fiscal Q4.

Okay.

Anything further from our questioner?

I am done. Thank you.

Jed Dorsheimer, Canaccord.

Thanks for taking my question. I guess I just want to try and dig into the confidence or logic in the gross margin guidance. Maybe, David, if you could provide a little bit more detail in terms of this quarter we saw gross margins drop to the 23% range. So how much of that was attributed to the utilization and then how much of that do you attribute directly to pricing? And then if we could just look into both of those components, both utilization and pricing in more detail, if you could quantify that.

Yes, so it has been an extremely challenging quarter for us given the overall -- the market sentiment has been pretty negative. So our gross margin definitely has taken a hit. And the largest (inaudible) of our margin decline has to do with -- the pricing has to do with the pricing pressure that we see in the marketplace and our unit costs -- our cost of sales went up a little bit as a result of the low utilization in our factories. And of course, you know the (inaudible) talked about the shortage of MO supplies and that kind of increased the cost of supplies a little bit in the quarter. But by far, the decline in our gross margin had to do with the pricing pressure (multiple speakers).

Okay. That's fine. But as we look at the guidance of 25% to 30%, I mean you are stating a clear bottom with the 23%. So what is the embedded -- yet sales are dropping off and getting cut in half from what you did in the last quarter. So assuming that utilization is going to fall again, are you assuming that pricing is improved -- what are the pricing assumptions as we look at the gross margin increase for next quarter?

I think -- hopefully our assumption or forecast in this quarter -- I think we are forecasting a little bit in terms of unit volume a drop in unit volume from this quarter and ASP we expect to be roughly flat, maybe a little bit lower this quarter. And as far as cost concerns, we are going to do everything we can to improve our yields and improve our cost structures. So yes, I think we are not going to see a significant rebound in our ASP until we start shipping the I-Do products.

So I guess what is giving you the confidence that pricing is going to be flat quarter-to-quarter? All evidence suggests that pricing is actually still declining.

Yes, we said it was roughly flat and within our model, we are still pricing a little bit -- a little bit of a pricing decline from quarter-to-quarter the next quarter.

Got you. And so this last quarter, how much did pricing come down? Was it more than 20%? More than 30%? And I am not asking for the exact amount for competitive reasons, but if you can try and bracket sort of just the order of magnitude that we saw in terms of the decrease and then what the expectation is for next quarter.

If you look at our -- I mentioned that we are double-digit -- really double-digit --.

We had over a 20% decrease in gross margins, so double-digit could be a big amount. Did you see 10%? Is it more like 20%? Or is it closer to 30%, any -- just help us get in the ballpark?

Yes, up north, 20% to 30%.

All right. So 20% to 30%. And so as we look at -- David, I think your comments -- I guess -- I am not sure -- is it flat or is it sort of -- it is less pricing pressure than this last quarter, but what is the expectation for embedded in that 25% to 30% gross margin guidance?

Right now, I think we definitely don't expect to see the same magnitude of pricing decline in the next quarter, but we are kind of modeling our pricing about -- an additional 10% decline in ASPs.

A 10% decline next quarter?

That's right.

(multiple speakers)

(multiple speakers) is very low and we intend to defend our marketshare and (multiple speakers).

I get that the visibility is low. Why not pull the guidance?

Well, we believe that we can view the guidance to show that you can have expectation of our Company and as a public company, that is the expectation that we should deliver (multiple speakers). We believe we can deliver.

So what I am trying to get at, Trung, is the expectation that you are setting is that you are confident that you are seeing a bottom here in terms of the margin. But I guess as I dig into it, the confidence doesn't seem all that high, that it is necessarily a bottom. Is that the right way to -- the visibility is tough that you are not sure about the 25% to 30%? That is what I am getting at.

Well, we don't see that at all. All we say is that, from what we are seeing, these are the numbers we believe in.

Okay. And then I guess last question, the MO compounds, you don't have longer-term contracts on those or you are buying that from spot?

We have long-term contracts of MO, but we get -- currently, there are issues with our supply or if you hear that there is issue of a supplier in UK have been (inaudible) to the industry and we believe that we have a strategic supplier that we are working with that is able to resolve this within the next few months.

Okay, that's helpful. Thanks, Trung. Thanks, David.

Steve Milunovich, Bank of America.

Trung, in your prepared remarks, you said something about the gross margin remaining depressed through I thought you said calendar 4Q. Is that correct?

Say it again. Which one?

In your prepared remarks, you said something about the gross margin staying in the 20%s or at a lower level through fourth quarter. I thought you said calendar fourth quarter as opposed to fiscal.

That's correct. That's correct.

Okay, so through calendar (multiple speakers). Okay, so I-Do is not coming in in fiscal 3Q. It is going to start to help in fiscal 4Q, but even so, it doesn't sound like you are looking for a dramatic improvement in gross margin at that point due to concerns about continued pricing pressures?

Well, we should start recognizing it in our fiscal Q4. But remember, it always takes about two quarters for the product to come up, to get -- become a majority. So that is typical historical. So we did say we still expect that we receive -- we recognize revenue in Q4 fiscal year. That is when the situation will change we believe will be calendar Q4 in terms of the aggressive pricing environment.

(multiple speakers). (inaudible) we can control our destiny by two things -- control our costs by improved yield and introduce new products. How the market looks like, we believe the market, the current aggressive pricing environment probably will last until calendar Q4. But we will do our part to improve our yield and try to improve our margin by introducing new products, I-Do and also improve our yield. I hope that (multiple speakers)

So regarding the pricing pressure, last quarter, you referred to a significant competitor that made a kind of lowball bid to one of your key customers. In terms of the source of the pricing pressure this quarter is it predominantly from that large competitor that continues to price aggressively perhaps more broadly or are you seeing sort of broader pricing pressure from other incumbent large LED companies? Or are you also now starting to see kind of backlighting vendors move up into this space creating incremental pressure?

The pricing pressure --e the environment is very aggressive. We didn't believe how aggressive our competition was, so I don't want to comment more on that. We will not get these markets. What we can control is our costs and our performance and we will do that.

Why do you think the demand is so weak? Is it mostly due to the China streetlamp softening or it actually seems to be broader than that at this point? And recall last quarter when you had that pricing pressure, you made the point that it happened very much at the end of the quarter. There wasn't much time to do anything about it. You obviously have had time since, but it hasn't helped. So why do you think demand is so weak?

Well, we are going to have the environment of aggressing pricing environment with price eroding double-digit and very fast, dropping very fast. It creates an issue with a lot of customers where they look at what they have in inventory for pricing drop (inaudible) them up. That creates big problems for many customers. We want to see a clear stable pricing environment.

So you are suggesting that the pricing pressure is causing the demand weakness, not the other way around?

Well, a lot of customers are afraid to go on to our inventory. They look at it -- I bought it last month for this price. Now this month, the price changed. That creates a big problem -- that creates an issue for many companies.

Regarding that, how about your inventory? You have got about six months of inventory, $15 million, where do you think that is going to go over the next three to six months?

When we (inaudible) this inventory that was when our revenue was at $13 million and then this quarter, the pricing dropped. Well, if we -- our inventory goes up and we intend to roll or look -- we intend to go after the market to maintain our marketshare. But I think that is very hard to predict now, but that is our intention.

Okay, and then, finally, could you comment on where you think the expense levels are going to be over the next -- at least the next quarter, if not over the next couple of quarters relative to where you just reported?

David?

As far as the expenditures, we believe our SG&A -- our expenses is going to still be about $2.6 million for Q3 and then our R&D expenses should be about $800,000 next quarter.

$800,000 you said, David?

Yes.

Okay, thank you.

Ben Pang, Caris & Company.

Thanks for taking my questions. First off, in terms of the component shortage, does that impact your competitors as well?

Sorry, can you repeat the question again?

On your MO compound shortages, does that impact your competitors as well?

We have to say the reason why we are a much smaller company if you refer to other bigger competition, but we are looking very closely with our very large supplier, but we believe that we can resolve this within the next few months.

Okay. Moving on more to the end market side, in China specifically, are you starting to see any differentiation in the marketshare between the higher lumens products, the higher performing LED chips versus the low end? Are you starting to see a bigger market split? That should benefit you guys, right?

In terms of the China market, of the streetlight projects or in the future, we will have a standard that is dictated by the government, some local, some national, but there is also another thing that I have -- we have indication that there would be a strong (inaudible) to local (inaudible) supplier. So they would like to orient it to LED devices grown locally in China. So now in China market, if you combine both, the local grown EPI and the high end, that is about 100 lumens per watt, not many.

So when do you expect that to -- when do you start to see that shift? I mean based on this new, as you commented on the new policies or the new 12-year plan, etc., what is the actual timing of when these policies start to move forward?

Well, we have started seeing a lot of announcements in the last few weeks. Again, I mentioned to you about Foshan, Nanhai. We look in Nanhai and so that announcement was very timely also. And then we also hear an announcement from Guangdong province about what we do about (inaudible) that was also announced about a week ago. But they said they will end the year, they will spend about RMB2 billion, but those are all the news that was given by the government. And don't quote me, while I would suggest that you should go and get some of that (inaudible). I just saw about a week ago, you will start seeing a lot of these things coming in now.

Okay. And then finally, you commented on the fact that you could control for your gross margin. One of them that you mentioned was the yield. You are talking about the yield for your older product though, right? I mean your new product really doesn't ship until another quarter from now. So are you talking about your older product yield that you are actually trying to fix right now?

No, no. Our I-Do start shipping -- sampling started in March and we started shipping orders. We started this month, okay? Now the volumes was just (inaudible) coming up, okay? So probably we will see the main volume start coming in in next quarter. So we are ready to accept volume purchases. You can buy from us, you name it, you want -- we ship you okay, your order is done tomorrow, we can do it.

Since you are already I guess quoting for these products, is the pricing for the I-Do where you expect it to be?

Yes. Actually, it is another digit higher than our old product.

Okay, that's fair. All right, thank you very much.

Daniel Amir, Lazard Capital Markets.

Thank you for taking my question. A couple questions here. First of all, back to the inventory issue, are we -- is there a thought here about inventory write-off at some point or how should we look at this level of inventory just so you can give a little clarification on that?

Today, if we sell at low enough price, we can sell them all. We think that the price is very steep, dropped last quarter and we are working on the inventory and selling them at this quarter.

Okay. So you are basically going to reduce the price enough and you are going to just try to flush out the inventory, is that the idea?

Yes, we watch out for our inventory. We don't want to grow so high, but we are actually -- we are working through the inventory right now. Yes, our inventory.

Okay. And then maybe more of a bigger picture. I mean you are clearly going after marketshare and sacrificing margins. This is not necessarily the story that you wanted to have people perception of SemiLEDs. You were much more trying to position yourself as a high brightness Chinese LED play, but now you're clearly going after marketshare, you are competing with more low-end product as well. What is the level of your confidence that maybe your former expectation of how your business model is going to play out is actually going to be sustainable in the long run?

If you see that we move and introduce a new product called I-Do, that should (inaudible) probably very leading product. We can deliver up to 135 lumens per watt (inaudible). That is where we are aiming ourselves still high-performance. Sometimes when the market makes a turn and when competition creates a very aggressive market environment that you react to, but we believe in the long-term we still are a low cost producer, high performance and with the disruptive technology, that is still our business model.

I believe this actually really creates an excellent opportunity for us. For a low (inaudible) cost issue with the (inaudible) cost issue is still a big issue now. With the price drop double-digit, it has really changed the adoption, the lumen to LED lighting. Eventually it creates an opportunity and I think it will come faster maybe (inaudible) and as we go through each, that we can lower our costs lower and we are in a very good position that we can deliver the high performance. At the same time, we can cut our costs by moving toward four-inch, six-inch wafer in the future. We have a very unique technology and we still believe we are in an industry to provide both (inaudible). So our thesis hasn't changed, but it happens to be a (inaudible) that created [right] aggressive pricing environment by competition.

(inaudible)

We cannot predict what people will do, but we can predict what we will do.

Okay. So my final question is on China. Can you just give a ballpark quarter when you actually think that facility will be profitable just from a modeling perspective as it does impact your other income line?

So this is David here. I think, for China, we expect that we will start recognizing revenues about the middle of next quarter. Some revenues are coming in and in terms of profitability, I think we're looking at about Q4 or Q1 next year.

Okay, great. Okay, thank you.

That does conclude our question-and-answer session and that will conclude our conference call for today. We thank you for your participation.