Magnachip Semiconductor Corp (MX) 2007 Q3 法說會逐字稿

Welcome to MagnaChip's third quarter results conference call. We will cover operating and financial results for the third quarter 2007. At this time, all participants are in a listen-only mode. Later we will conduct a question and answer session. (OPERATOR INSTRUCTIONS). This call is scheduled for one hour. As a reminder, this conference is being recorded today. A reply will be available two hours after the call today, through midnight Eastern time on November 1, 2007. The replay dial-in number is 1-201-612-7415 with account number 3055 and conference ID number 257699. The replay will also be accessible at www.MagnaChip.com.

I would now like to turn the call over to Mr. David Pasquale. Thank you, sir, you may begin.

Thank you, operator, and welcome everyone to MagnaChip's third quarter 2007 earnings call. Joining us today from the Company are Mr. Sang Park, the Company's Chairman and CEO and Mr. Bob Krakauer, President, and Ms. Margaret Sakai, SVP, Finance. After management's prepared comments, we will have time for any questions.

If you have not yet received a copy of today's results release, please call 646-536-7003 at the Ruth Group, or you can get a copy off of MagnaChip's investor relations global web site, www.MagnaChip.com.

Before I begin the formal remarks, the Company's attorneys advise that this conference call contains statements about future events and expectations which are forward-looking statements. Any statement in this call that is not a statement of historical fact may be deemed to be a forward-looking statement that involves a number of risks and uncertainties that could cause actual results to differ materially. In some cases, you can identify forward-looking statements by such terms as believes, expects, anticipates, intends, estimated, the negative of these terms, or other comparable terminology. Factors that could cause actual results to differ include general business and economic conditions and the state of the semiconductor industry; demand for end use products by consumers and inventory levels of such products in the supply chain; changes in demand from significant customers; changes in custom order patterns; changes in product mix, capacity utilization; level of competition, pricing pressure and declines in average selling price; delays in new product introduction; continued success in technological innovations and delivery of products with the features customers demand; shortage in supply of materials or capacity requirements; availability of financing; the exchange rate fluctuations, litigation and other risks as described in the Company's SEC filings, including its annual report on Form 10-K for the period ended December 31, 2006. Although we believe that the expectations reflected in the forward-looking statements are reasonable, we cannot guarantee future results, level of activity, performance or achievements. You should not place undue reliance on these forward-looking statements.

At this time, I would like to now turn the call over to Mr. Park. Please go ahead, sir.

Thank you, David. Thank you, everyone, for joining us for this call. We are pleased with how the third quarter developed. Revenue came in at $200 million, above prior guidance, which called for the flat revenue versus Q2 revenue of $194.1 million. This increase is the result of a continued improvement in new product developments and operational executions which contributed to share gains at current and new customer accounts.

At the Company, we remain highly focused on delivering a distinctive mix [of] signal and analog products and service solutions for the high-growth consumer electronic end markets. We made progress in design wins and new product development across all of our three business units. We introduced our new LTPS display driver solution and our new AMOLED display driver IC for mobile phones. We also extended our offering of mobile display products with high-speed serial interfaces, such MDDI and MIPI, and developed SNLC (inaudible) that improves display contrast while reducing power consumption. These products expand our ability to meet the regularly growing demand for the high-resolution display for mobile TV and other similar applications.

Further, we launched new products in our flat-panel display driver business and continued to diversify and deepen our account penetration in world-leading LCD (inaudible). Specifically, we introduced on LCDS two (inaudible) solutions with an ultra-low power process that facilitates higher product performance in ultra-slim [multiple applications].

In our image sensor business, our revenue grew 29.1% versus Q2 as our 1.3 megapixel and VGA products continued to shift in volume, (inaudible) expanding the number of our accounts. We are expecting full-year product to tape out in 2007 examples to customers. Our newest production of 2.2 megapixel technology solutions includes a 3.2 megapixel product, a 2.1 megapixel product, and one of the industry's smallest [size] 1.3 megapixel product as well as our newer 1/10th inch VGA. Additionally, we plan to introduce production version of our highly sensitive low-light sensor for the PC camera applications early next year.

In our foundry business, we are now [into] our strategic foundry business and process technology transfer agreement for the California Microdevices. We continued to develop leading-process technologies, such as our circuit on the [pack] technology which reduces the size to the smallest size currently available in the market to improve our service offerings to customers. We expect such a new technology development and technology transfer agreements to continue to drive our growth going forward.

Our capacity utilization output pace was 91% for Q3 and is continuing to rise. We have made capacity additions to our fab this quarter to meet our business expansion needs in Q4 2007 and beyond. We remain highly focused on making 2007 the year of MagnaChip's recovery.

Now, I would like to turn the call over to Margaret for the review of financials.

Thank you, Sang. Net revenues for the three months ended in September 30, 2007 was $200 million, compared to $194.1 million in the second quarter of 2007. This is an increase of 3% from the prior quarter. Average selling price erosion from Q2 2007 to Q3 2007 was approximately 1.8% for wafer foundry business and 4.5% for CMOS image sensors based on a shift in mix to smaller form factor VGA products, while average selling price for display driver ICs increased by 2.4%.

Revenue by segment for the quarter was $79.3 million from display solutions, $22.4 million from imaging solutions, $84.8 million from semiconductor manufacturing services and $30.5 million from others.

Display solutions revenues decreased 6.8% from the prior quarter due to inventory reductions in the supply chain that reduced volumes. Imaging solutions revenue increased by 29.1% from the prior quarter due to higher sales driven by a small form factor VGA and the 1.3 megapixel products. Semiconductor manufacturing services revenue increased 12.9% due to volume increases of from new and existing customers.

Revenue by geography was 64% from Korea, 20% from (inaudible) China, 11% from Japan and 16% from the rest of the world. Revenue by end market for the quarter was 90% from computing, 20% from wireless, 16% from consumer and 45% from wafer foundry. Our wafer foundry business is further broken down as 23% from computing, 17% from wireless, 57% from consumer and 3% from industrial.

In the third quarter, we had one customer greater than 10% and the top 10 customers represented 66% of total revenue. Gross margin was $31.3 million, or 15.6% of our revenue for the quarter ended September 30, 2007, compared to $27.8 million, or 14.3% of our revenue in the prior quarter. Operating expenses were $57 million, or 28.5% of revenue in the current quarter compared to $56.8 million, or 29.3% of revenue, excluding $13.4 million in special charges in the second quarter of this year.

R&D expense in the third quarter was $33.4 million, or 16.7% of our revenue compared to $32.5 million, or 16.7% of our revenue in the prior quarter. We had an operating loss of $25.7 million during the quarter compared to a loss of $42.4 million in the second quarter of this year.

Net interest expense for the third quarter was $15.3 million compared to $15 million in the prior quarter of 2007. Other non-operating income is comprised of the net effect of currency gains and the losses in the period. Most of this current effects are non-cash impact of outstanding intercompany debt.

Net loss for the three months ended September 30, 2007 was $38.8 million compared to a loss of $45.3 million in prior quarter of this year. Depreciation and amortization expense was $48.8 million, or approximately 24.4% of revenue in the third quarter. EBITDA for the third quarter was $23.1 million compared to $17 million in the prior quarter. While EBITDA is not defined by generally accepted accounting principles, it is commonly used to measure a Company's ability to service its debt. Our current revolving line of credit of $100 million has financial covenants linked to EBITDA performance. We were in full compliance with our debt covenants at the end of the third quarter.

Headcount as of September 30, 2007 was approximately 3575. This is a 0.3% decrease from one year ago.

Capital expenditures for the third quarter were $40 million versus $7.5 million in the year-ago quarter. We expect the CapEx will be approximately 11% of revenue in 2007.

Total available cash and cash equivalents were $61.9 million as of the end of the third quarter. Accounts payable days were 82 compared to 62 days in the second quarter of 2007, primarily due to an increase in inventory in anticipation of the expected sales ramp in quarter four.

Inventory days of supply was 51 compared to 39 in the prior quarter. Net inventory was $94.1 million compared to $71.7 million in the prior quarter. Accounts receivable net of reserves was $124.3 million at quarter end, and increase of $7.1 million from the second quarter 2007 due to higher sales in the current quarter. Our accounts receivable days of sales outstanding were 57 in the current quarter compared to 55 days in the prior quarter.

Now, let me turn the call over to Bob.

Thank you, Margaret. This was another encouraging quarter for us as results were better than expected. As with last quarter, the overachievement of our financial targets is the result of operational changes made some time ago. We're now seeing the continued and consistent results from a more rigorous product introduction process, quality process and attention to our key customers' needs. Our CRM system is aiding us in tracking new design win opportunities through to successful closure and improving our forecast visibility and accuracy. We expect these operational improvements to translate into improved financial performance going forward.

As we benefit from higher utilization and operating leverage in our cost structure, importantly, design wins continue to rise due to improvements in our new product introduction process which did continue to fuel our growth into Q4 and 2008. Overall, we're highly confident in our business trajectory. We expect a reduction in depreciation expense this coming quarter as the depreciation of wafer fabrication equipment from our acquisition is completed on a large portion of equipment. This should be a benefit of approximately $24 million in the next quarter versus the current quarter. Factory utilization is currently running at higher levels although we expect a typical December slowdown at the end of the year, plus the holiday buildup in October and November.

With the increased volume and reduction in depreciation expense, we expect gross margins to improve by over 10 percentage points from the third quarter. We expect operating expenses to increase 8% to 10% from the prior quarter based on the timing of new products being introduced and associated materials cost as well as higher incentive payments related to improved financial performance.

While we are following through on our announced closure of our 5-inch wafer fab early next year, we have successfully been able to support a large number of customers in transferring their programs to our 6-inch wafer fab and due to our business volume increases have been able to absorb the impacted staff into other parts of our manufacturing organization. We continue to expand our process and services offering in our wafer foundry business, but the core of our customers' needs are shifting to larger wafer sizes.

Additionally, we were pleased to find that the resale value of the equipment in this line received higher interest than we expected and we have recorded a $3.6 million cash deposit for this equipment with expectations that this sale will be finalized in early 2008.

On October 1, 2007, MagnaChip filed a Form 8-K with the SEC detailing the amendment of its existing credit facilities. Under the amendment, certain monthly reporting requirements of the Company and certain financial covenants were modified. MagnaChip now has a less restrictive minimum liquidity requirement clause. We believe the amendment will provide us with additional flexibility moving forward and will support the Company's operational recovery. This amendment changed the conditions of the loan through the end of 2008 with a step up in requirements afterwards. We thank our bank lenders for their continued support of the Company.

As Sang mentioned, this is the year of the MagnaChip turnaround and we are pleased to see continued momentum in new design wins and new customer engagements this quarter. Thank you for your continued interest in MagnaChip. Operator, that concludes our prepared remarks. We can now take any questions.

(OPERATOR INSTRUCTIONS) Robert Hopper, UBS.

A couple of questions. Bob, just because you didn't mention it here, I want to make sure that the revenue guidance that you provided I guess a couple of weeks ago is still intact, no changes to that?

Correct.

Moving on to I guess a couple of small picture issues and a little bigger picture for a second, first on the image sensor side, what was the mix of the image sensor business for the quarter and how do you think that is going to play our over the quarter in 4Q? And staying with that, you talk about expectations to ship [3221] megapixel. I guess I'm trying to understand if you can give a little more granular terms of where you actually have design wins and what you're shipping today in that business?

Yes, today, our business is pretty evenly spread 1.2 megapixel design wins and VGA. We were very pleased to see very significant growth while in the China geography for CMOS image sensors as well as in other countries in Asia, but very pleased in the penetration in China. On a go forward basis, we mentioned in our prepared remarks that we're taking out what we consider to be final versions of our 3.2 digital autofocus megapixel camera with 2.2 micron pixels, a new 2 megapixel product as well, a 1/10th inch small form factor VGA, and what we believe may be the industry's smallest 1.3 megapixel die. And we see an increasing demand at 1.2 megapixel forming into next year greater than our expectations. So all three plan to tape out -- excuse me -- all four of those products plan to tape out in this fourth quarter and be sampling to customers, some at the end of Q4 and into early Q1.

Just sticking to that, can you talk a little bit about the guidance for top line and where we should expect to see the revenue growth come from? Should we see just due to seasonality and maybe some of the product launches, a little bit more of the incremental revenue come from the image sensor business this quarter, or do you think it's just going to be evenly distributed? Maybe it will help us out on that side?

Yes. I think we have already done a press release on that guidance for next year -- excuse me -- next quarter. Previously as stated, we prefer not to make kind of granular comments about where that is that. We would be happy to make comments about where that is in the next earnings call.

Okay. I guess just a little bit bigger picture about the image sensor market, particularly about a couple of your competitors. One, you have Hynix coming out saying their plan is to reenter that market. And secondly, Micron is still reevaluating what their plans are for that business. Can you talk about where you see the risks are from a perspective with the Hynix relationship? Do you think that there is a possibility that you will be a partner for Hynix? Because they talked about having a partner while they got their own IP ready. And then, secondly, just bigger picture for the overall market, where you see that going from a pricing perspective, as well as an opportunity competitive landscape, just an update on that.

If you'll remember their announcement, there's no [specifics], so we don't know exactly which product line they will begin with. And whatever they do, it's going to take a good two years. The comparison to our own experience, this CMOS imaging sensor process technology takes much slower than people expect, and in terms of managed production volume. So we don't see immediate impact for some time. And, obviously, we have no direct communication with Hynix at this line. And again though, this is the market that anybody can enter and Hynix is one of them. There's not much we can do about it. But obviously, we do have our own strength and we're going to work on that strength and continue to maintain our business.

Jeff Harlib, Lehman Brothers.

I was wondering if you could talk about how you are seeing pricing in your three businesses. It looks like there was a moderation of pricing pressure in Q3, maybe you could comment on that.

Yes, on ASP, we actually saw ASPs rise [in DSP], small decline in CMOS image sensors mostly on some mix of product with some small price declines there on some of the larger accounts as they ramped and a very minor ASP drop mostly on mix in our wafer foundry business.

And how about looking into Q4, what you're seeing in those businesses? And also, just on your gross margin comment, Bob, it looks like the $24 million and change in D&A, it looks like that is around 10 points on gross margin. So can you make any comment on how you are looking at kind of adjusted gross profit margin in Q4 versus Q3?

I made my prepared comments and I think beyond there, you're going to have to do your own analysis. I would rather stick with what our prepared comments were.

But generally in the market, there are less pressure on pricing into fourth quarter, and because of market situations, that's all we can say.

I'm sorry -- I missed that.

What we see in the market, there are less pressure on pricing, and that is what we see and that's all we can tell you.

Okay. I realize you said you're not going to be as granular on your -- where the revenue growth is, but I'm just wondering if you could talk a little bit about -- usually, you give a little more detail on maybe some of the individual product areas, whether it's small or large display drivers, just more on some of your new foundry wins, where this 20% sequential revenue growth is being concentrated.

In general, I said that we see this [trend] evenly on all business we're in. That is all we can say.

Okay. And in image sensors, then, did you have -- in terms of the growth you are seeing there, is that mostly from orders on your existing products, or is some of it on the 2 megapixel products?

As I said stated, we expect the new products to release at the end of Q4, so the guidance that we've given on that is on the existing products at this time.

And what was your capacity utilization in 3Q?

I said 91% [output base].

91?

[Is the base], yes, 91. [Interface] is the highest.

Eric Reubel, MTR Securities.

Bob, if I can ask a question on working capital, it looks like a fairly large extension in payables offset some of the growth in inventory. Can you talk a little bit about how we should look at that into Q4? And can you give us a sense of where inventory would end exiting the year?

Yes. Our finance group and sales team both did good jobs on two fronts. First, the finance and purchasing teams did a great job negotiating improved terms with vendors on accounts payable days. And we had a concerted program to do that, to improve our working capital management in that area. We also had a big piece of [AP] that's around a buildup in inventory, as Margaret mentioned, that's in anticipation of the growth in the next quarter. And on the accounts receivable front, our sales and customer services team did a great job on collections relative to a growing quarter and it was heavier in the back half of the quarter versus the front. So I think I'm very pleased on both AR and AP. Inventory has grown mostly because of a requirement that -- to be able to [skip] (inaudible) into fourth quarter. And as stated by my seasonal comments, we'll see that much of a heavier burden of those shipments happen October, November, just during the normal holiday seasonality. So we had to build up that inventory for this in advance of that.

Okay. Then if I can just turn to the gross margin for a moment. It looks like the incremental drop-through was very strong in the quarter, about 60%, even as the Hynix sort of other memory continued to be a part of the mix. Is it fair to say that there is a plan to kind of move that capacity that's being used for Hynix memory to some of the more proprietary business lines, and can we expect to see, if that were to occur, kind of a continuing sort of support for a high drop-through on an incremental margin basis?

If you're tracking down (inaudible) at the other income, and that is being gradually reduced, and that's our expectation into the future quarters. And obviously, we will use those capacity for our own product as we look at our fab utilization rate continuously rising. So [it's all add up] that we use more of capacity for our own products.

One more for me. Bob, could you give us any color on what the Company is planning with respect to the fourth business unit? When does that launch, and any color, and what markets you're looking to serve?

We cannot comment at this time.

Fair enough. Thank you.

Guy Baron, Credit Suisse.

Just two quick questions here. Maybe I missed this, but on the display driver side, can you maybe give a little bit of color on what you're seeing in terms of volumes versus pricing, given the much tighter supply environment right now?

Obviously, there is a strong demand for LCD, including large and small. [And that's our] indication of our shipment. It's not driver IC, it is the LCD that people are having a tough time to get the volume they want to. That is indicating that our end market is very stable.

All right. So would you expect to see ASPs sort of stabilize and move up going forward?

The market we're in, which is electronic hardware, continuously increasing to the lower cost. So there will be a general price down and nothing more nothing less than that.

And then a few clarifications here. The $24 million drop in depreciation, will that all come from COGS?

That was the cost of goods sold number. There is a minor change in SG&A, but the majority of that was manufacturing equipment was in the COGS line already.

And then, what is your general view of the way gross margins peak at your ideal capacity utilization, which I'm going to assume is probably somewhere in the mid-90s?

We have longer-term goals to improve gross margin based on utilization, productivity and cross-mix enhancement. As we enter (inaudible) businesses as previously in a question, we expect that to be in the higher margin area as well. So our Company longer-term gross margin goals are between 35% and 40%, but that will take us time. So we are operationally continuing to make a decline in gross margins as you have seen this year, and it's one of our key goals moving forward to continue to make improvements in that through 2008.

Can you give a little more qualification to what CapEx spending represents in terms of capacity addition?

Since we do general R&D tools as well, but right now for us, the majority of our CapEx is for capacity expansion, debottlenecking. I think on a long-term basis, we expect CapEx to be about 10% of revenue. You saw here in his quarter a big amount relative to our past quarters, but it's because our utilization number has climbed up, and so we have added kind of the next increment for our growth in Q4 and into the early half of '08. So it comes in step functions. But we feel pretty good about our capital intensity staying at the 10% level on a go-forward basis.

Okay. And I guess the last one I have here is that you seem to be on a trajectory here. Can you maybe reconcile the difference between where you appear to be going and where your bank covenants have been set? There seems to be a very wide gap between the two. Is there a low-balling of where those levels were set, or is there a missing piece here?

No, actually, this is very, very simple. My job is to set that hurdle as low as possible. I know your standard assumption would be, we take that forecast and haircut it at 15%. That was not the methodology that was used. The methodology that was used was to say, what is the lowest acceptable number, no matter what our forecasted go-forward amounts are, just relative to some of the inconvenience we have seen on this line for all involved over the last year. And we have a great support supportive bank group that allowed that methodology.

(OPERATOR INSTRUCTIONS). (inaudible), Deutsche Bank.

One question about the Hynix comments about coming into some of the lines of business possibly that you guys are in. Sang, I think you said that it would, based on your experience, it would potentially take two years for them to enter into image sensor or some of the other divisions. Is that correct?

Yes.

You also said you have not actually spoken with them, so I don't understand how you know that and/or if there's any possibility of them going out and buying another competitor and coming into this space, how you guys are able to sort of quantify and/or potentially prepare for that.

Again, we cannot speak for the Hynix, so we don't know exactly what they do, and there are many options they have. But even so, they bring someone else (technical difficulty) technology into the fab, and in general terms it takes at least 1.5 to two years to get optimized yield.

So you're saying you're taking (MULTIPLE SPEAKERS)

Get the first customer qualification done. Get the customer qualification done takes one year.

Okay, so your estimate is around the situation where they would start from scratch, not actually buying someone who already has that in place?

(inaudible) we don't know what's their plan.

[Derek Liung], Nomura Capital.

Just a couple of quick questions. The first is a clarification. Did you say in your prepared comments that gross margins would be up 10% from the third quarter?

I said 10 percentage points.

10 percentage points, and that includes the decrease in depreciation that you expect going forward, right?

Correct.

Okay. And also, do you have any more clarity in terms of design wins for your 2 to 3 megapixel products in 2008? Have you won any, or are you still in sampling mode?

No, as I stated, we expect to tape out those products in the fourth quarter and to be sampling the customers and the end of Q4 and into the first quarter of 2008. On that basis, the answer is, no, we don't have design wins at this point. Although we have close working relationships with customers and they know where we are at and we're working cooperatively on that process. So we have a good understanding of where the design opportunities are and what it takes to win across some key accounts, and we've been in this sector for a long time and that helps us.

When we say design wins, that means that we've completed the qualification at the customer. So it takes the actual working samples to have design wins. Obviously, we have a lot of communication. We believe we have a lot of [design-ins], so maybe that where (inaudible).

Seeing as there are no further questions in the queue, I would like to turn the call back to management for any concluding remarks.

Well, thank you very much for your time and attention and continued support from all of us at MagnaChip.

Thank you again. As we say all year and we're trying to meet the market's expectations and we demonstrated third quarter and that will continue into the future. Thanks for your interest in MagnaChip.

Ladies and gentlemen, this concludes today's teleconference. Thank you all for your participation.