輝達 (NVDA) 2005 Q3 法說會逐字稿

Welcome to the PortalPlayer, Inc. third quarter 2005 earnings conference call. Today's call is being recorded and will be available for playback beginning two hours after the completion of the call. To access the replay, please dial 719-457-0820 with the pass code 8519249.

At this time for opening remarks and introductions, I would like to turn the call over to Ms. Kristine Mozes, Investor Relations for PortalPlayer. Please go ahead.

Thank you for joining us today. In addition to this call being available by phone replay, it is being broadcast live via the Investor Relations page of PortalPlayer's website at www.portalplayer.com.

Earlier today, we issued our earnings press release and filed it with the SEC. The press release is also available on PortalPlayer's website.

Before we begin, we note that we will discuss certain non-GAAP financial measures during today's call, which are on the Corporate Governance section of our website, together with the most directly comparable financial measures calculated in accordance with GAAP and reconciliations of the differences between these measures.

This non-GAAP information is provided to enhance the user's overall understanding of our historical financial performance. Specifically, we believe non-GAAP results provide useful information to both management and investors, by excluding the stock-based compensation expenses.

With me today is Gary Johnson, President and CEO of PortalPlayer, and Olav Carlsen, PortalPlayer's Chief Financial Officer.

I will begin this call by reading our Safe Harbor statement. The statements on today's call, which are not historical facts, are forward-looking statements within the meaning of the Private Securities Litigation Reform Act.

These forward-looking statements include, but are not limited to, statements as to our future plans and growth; our roadmap for future products and broadening of our product offering; our development efforts, features, benefits and introductions of products and technology; diversification of our end-markets; our plans to hire additional resources; our and our customers' market position, market trends, including drivers for high content and high capacity; the acceleration of those drivers and expected capacity sweet spots; market demands, including seasonal trends, expected customer product introductions and their affect on demand; demand for our products; our intention regarding breaking-out revenue, benefits of net operating loss carry-forwards and future financial results; GAAP and non-GAAP, including revenue, net income, expenses, gross margins, ASPs, stock-based compensation charges, tax rates, cash flow, weighted average shares outstanding, and operating expenses, including, but now limited to, future R&D spending and selling, general and administrative expense.

These forward-looking statements are subject to a number of risks and uncertainties that could cause actual results to differ materially from those discussed in these forward-looking statements. Please refer to today's earnings release, our Form 10-K for the year ended December 31, 2004, and our Form 10-Q for the quarter ended June 30th, 2005, as filed with the SEC, and from time to time in our other SEC reports, for information on risk factors that could cause actual results to differ materially from those discussed in these forward-looking statements.

These forward-looking statements speak only as of the date hereof and PortalPlayer disclaims any intent or obligation to update these forward-looking statements. Additionally, this conference call is the property of PortalPlayer and may not be recorded or rebroadcast without specific written permission from the Company.

Now I'd like to turn the call over to Gary for his introductory remarks. Gary?

Thank you, and welcome everyone. Before we begin, I want to note that today we filed an S1 registration statement. And as you know, we cannot comment on the filing, but refer you to the S1 and the related press release for more information.

As you can see from our press release, Q3 was yet again another outstanding quarter for PortalPlayer. We are very excited that the first feature-rich Flash products using our technology, were introduced in the third quarter. Right out of the gate we entered the Flash market with two designs that are regarded as truly revolutionary media players.

One is the widely acclaimed iPod Nano and the other is the Sirius S50. We believe these product introductions are fueling demand as companies begin to unveil their products for the seasonally strong holiday months. As a result, we achieved very strong financial results for the quarter, including record revenue, up 30% sequentially, and record net income before taxes, at $13.7 million.

We are very proud of these results. In summary, our financial metrics were in line or better than our guidance.

So what were our major initiatives in Q3? We focused much of our attention on helping our customers bring their revolutionary Flash-based products to market, worked with additional customers to get their products ready to launch this quarter, continued to focus on operational efficiencies and accelerated our product roadmap for products we plan to introduce next year and beyond. So again, excellent execution.

In a few minutes I will go into more detail about each of these initiatives, but first, I will turn the call over to Olav, who will take you through the details of our third quarter financials.

Thank you, Gary, and welcome everyone. This third quarter of '05 was again a quarter of very significant year-over-year growth. We are very pleased to report that net revenue for this quarter was about $58 million, more than we've ever sold in any given quarter in our Company's history. An approximate 126% increase from the $25.6 million in the same period a year ago, and up 30% from the revenue of $44.6 million we recorded in the second quarter of '05.

We again saw market shift in favor of our largest customer, particularly as a consequence of the introduction of a new Flash-based product in third quarter of this year. However, having said that, in Q3, shipments to our other customers were at a steady level of $3.5 million, about the same level as in the previous quarter.

As expected, the third quarter was the first in which we recorded revenue from Flash-based products. Because we're moving to a universal platform approach for our products such as the 5022 family can be used for either hard drive or Flash-based products, we do not intend to break out the revenue by memory type, due to competitive reasons.

As we also mentioned last quarter, the 5022 family now accounts for a majority of our total revenue and as it has been shipping in volume for a few quarters, we have now started to see the benefits of increased operational efficiencies. This supported a healthy increase in our gross margins, to 45.5% in the third quarter. And in summary, the 5022 family has really been a great success within the marketplace.

Net income for the third quarter was $10.3 million, compared with a net income of $3.2 million in the same period a year ago. And this third quarter 2005 net income resulted in the income of $0.40 per diluted share, based on 25.5 million weighted average shares outstanding, compared with an income of $0.18 per diluted share, based on approximately 17.4 million basic weighted average shares outstanding in the same quarter a year ago.

The difference in the share count between these two quarters is, of course, due to the fact that in the third quarter of '04 we were still a Private Company.

Net income in the second quarter of '05 was $6.3 million, or $0.25 per diluted share, based on 25.1 million weighted average shares.

We continue to apply an effective tax rate of 25% to our results and for tax purposes this year, we continue to benefit from our net operating losses that we carry forward from previous years. It is noteworthy that before applying this tax rate, our pretax operating net income was a record $13.7 million this quarter.

Now, excluding non-cash stock compensation charges of $699,000, non-GAAP net income for this third quarter of '05, was $11 million, or $0.43 per diluted share, compared to the non-GAAP income in the third quarter of '04, of approximately $4.6 million, or $0.26 per diluted share.

Non-GAAP net income for the second quarter of '05 was $6.8 million, or $0.27 per diluted share.

On our website, under the Investor Relations tab, we provide a detailed reconciliation between GAAP numbers and the non-GAAP numbers, which details the stock compensation charges for each quarter.

And so, now let me discuss some information on this quarter's P&L and then I will move on to the balance sheet.

The third quarter was, again, a great success on many accounts with record revenue and record net income before taxes. As I mentioned earlier, increased operating efficiencies helped increase our gross margin for the third quarter to 45.5%. This is above our long-term model of 41 to 44%, which we don't change at this time.

We've said in the past that we expect ASPs to decrease in the 20 to 25% range, year-over-year, on the single SKU basis and expect the blended portfolio ASP to decrease by 10 to 15% year-over-year, as we're able to achieve higher prices on our newer products.

In Q3, our portfolio ASPs decreased by 17% year-over-year, which when taken into account the lower 8 and 9.5% portfolio declines we saw in the first and second quarters of this year, put us well within our target model for the year so far. By the way, we also saw our cost decline in a similar pattern.

Operating expenses were about $13.2 million for R&D and SG&A in the third quarter, a $1.9 million increase from the previous quarter, in line with what we planned and guided to.

Let me break this down for you. The majority of the additional spending, about $1.3 million, was allocated to our R&D activities, which came in at $9.2 million. As expected, our acceleration of some of our important R&D milestones resulted in additional planned expenses of a nonrecurring nature, such as acquiring value-added intellectual property and technologies in Q3.

We were also, again, able to fill some of our strategically important staff openings in the engineering area and R&D expenses were well within our long-term operating model that calls for R&D spending to be at an average of 16 to 17% of our revenue.

I want to take a few minutes to discuss the very flexible spending model that we have been implementing over the past quarters. On the one hand, we've focused on adding strategically important resources, mostly headcount, to our internal infrastructure. On the other hand, as our revenues have increased, we've also been investing in R&D through a discretionary variable model, which includes outsourcing development efforts to expert third party providers.

In doing so, we've created a flexible spending model that allows us to operate within our long-term R&D spending model of 17% of revenue and accelerate our roadmap for future products.

On a quarter-by-quarter basis, we can adjust our R&D spending levels as needed, but also taking into account our revenue projections. Going forward, we expect to continue to manage our R&D spending to about 17% of our revenue, as we make continuous investments into people and technology to support our very competitive roadmap.

SG&A expenses in the third quarter were $4 million, which is within our long-term operating model of 6 to 7% of revenues. This is a $523,000 increase from the previous quarter. For the fourth quarter of '05, we expect SG&A to remain with our target long-term model of 6 to 7% of revenue.

Our non-cash compensation charge included, as always, elements of amortization of deferred compensation and some variable charges, and for the second time now, a charge for amortizing the expense of restricted share grants, which we granted in the previous quarter in order to reduce our overall cost associated with the expensing of stock-based compensation.

Going forward, we expect our non-cash stock compensation charges to be $600,000 to $800,000 in the fourth quarter of fiscal '05. However, the stock compensation charge will again include a small variable element based on our ending stock price, and therefore, the exact amount is hard to predict.

Now let's turn to the balance sheet. Our accounts receivable were 40.4 million and our inventory balance at September 30, was at $4.3 million, all of which is finished goods. This represents about 9 to 11 days of inventory. And while this is below our target of 30 days, it is higher and more favorable than the 4 days we had last quarter, and again reflects the strong activity level we saw at the end of the quarter.

Accordingly, our deferred income position, which represents the gross margin for shipments in the last three weeks of the quarter, increased from $5 million last quarter, to a record level of $10.9 million at the end of Q3. So we ended the quarter with very positive momentum going into the coming holiday seasons.

Headcount at the end of the quarter was about 250. We added 22 employees during the third quarter, most of them in R&D. At the end of the quarter, more than 3/4 of our overall headcount was focused on our current or strategic R&D activities and again, about half of our overall headcount was based in Hyderabad, in India.

As Gary mentioned earlier, we filed an S-1 registration statement today. Because of the SEC quiet period rules, we cannot comment further, but refer you to the S-1 and related press release for more information.

We're very excited about the upcoming holiday season and believe we're very well positioned for significant growth in Q4. We believe that our revenue for the fourth quarter will be in the range of $65 million to $75 million.

Operating expenses are expected to be approximately $17 million, and we expect our stock-based compensation charges to be between $600,000 and $800,000; GAAP net income per diluted share to be between $0.34 and $0.43, based on approximately 28.5 million weighted average shares outstanding. This number includes an estimated 2.3 million weighted average shares, in light of our S-1 filing.

Non-GAAP net income per diluted share, excluding our compensation charges, is expected to be between $0.37 and $0.46.

And at this time, I would like to turn the call back over to Gary for his comments. Gary?

Thank you, Olav. As you can see, from a financial standpoint, the third quarter was once again a great success. It was a smooth and successful quarter from an operational standpoint. Our entire PortalPlayer team continues to execute impeccably on the business plan and product roadmap in supporting our world class customers.

This past quarter we focused on helping our customers successfully introduce their new feature-rich Flash products, which we refer to as Feature-Flash products, for the holiday season, as well as worked with our customers to finalize exciting new hard drive-based products, already introduced in October and expected to be introduced in the fourth quarter.

The first Feature-Flash product to ship using our technology was the extremely popular iPod Nano, which was launched in early September. As I'm sure you have all heard by now, the Nano uses a PP-5021 device from PortalPlayer, a family member of the 5022. Using advanced package technologies, the 5021 is our smallest chip package ever, reducing the volume by approximately 44% from the 5022.

As we have mentioned in the past, we are also increasing our investments in product development for a range of wireless technologies. The first opportunity we see in this area is in bringing new features and functionality to satellite radio players.

Today, we announced that we have teamed up with Korea-based, Humax, one of the world's leading digital satellite set-top box manufacturers, to change the way customers interact with digitally broadcast satellite radio content.

Our objective is to help create personal and portable devices that enable end users to enjoy digitally broadcasted content when and where they choose.

Our first joint project was to assist in the development of the Sirius first wearable satellite radio, the Sirius S15, which was announced in September. The Sirius S50 is a great example on how we can leverage our personal media player platform to the wireless markets. The S50 allows users to store and listen to content whenever and wherever they want. The S50 uses our 5022 device, includes a color display and can store up to 50 hours of Sirius content, or a mix of Sirius content and MP3 and WMA files. Business Week called this device a radical handheld.

The digital broadcast market encompasses a variety of technologies, including satellite radio, internet radio, digital audio broadcasting, on-demand content, such as podcasting, and eventually, digital television broadcasting. Our goal is to give consumers greater flexibility and freedom to interact with this content when, where and how they wish.

Some of the capabilities that we can help enable include being able to listen to and view content while on the go, and in the future, we expect to help establish multiple recording scenarios, similar to a TV digital video recorder.

As a reminder, our first two Feature-Flash design wins are using our 5022 family. With this generation we have successfully developed a unified storage platform that works interchangeably with both hard drive and Flash storage media. In doing so, we offer our customers more flexibility in designing or producing their new product models.

With our 5022 family, customers have the option to either use our device as-is for great price performance, or choose the other system components, such as audio or video, for higher-end solutions to use through our coprocessor interface.

In the future we expect customers will be able to have the same choices for wireless capabilities. Either use our integrated solutions or choose specific vendor solutions that connect to our solutions via a coprocessor interface.

Some customers are choosing our PP 5024 device, because of its fully integrated mixed signal solution. We are excited about the designs we have won for that device and expect it to attract new customers to the PortalPlayer platform. We look forward to giving you more details as our customers' products rollout and they allow us to do so.

Now let's take a look at some market trends. We see several market drivers accelerating the demand for high-capacity players. First is the availability of podcasts and now music video and TV shows. As consumers continue to download higher quality content, we believe that they will increasingly require more capacity to store that content.

Second, we believe streaming broadcast services, where users can time-shift radio content, will spur demand for high-capacity devices. Third, we believe some consumers will be attracted to subscription services, where they can download as many songs as their players can hold, for one monthly fee.

Lastly, in the future we believe time-shifted video, like TiVo DVR capabilities, will spur the need for larger capabilities.

With the content people store on their personal media players expanding beyond just music, we believe they are going to need higher capacity players to store and manage that content. This is exactly where PortalPlayer excels. Over the next 12 months, we expect 2-gigabyte and 4-gigabyte Flash designs will become the new sweet spot of the market.

Looking ahead, we continue to work on our next generation technologies in preparation for the 2006 product cycle. In the consumer electronics industry, which is very competitive and fast-paced, it is critical to remain on the forefront of technology innovation and that we achieve our deliverables on time. The PortalPlayer team continues to execute crisply on this front.

At the same time, we continue to build out parallel chip design teams, to broaden our product offering, accelerate our roadmap and diversify our end-markets. We are very excited about the future.

In summary, we're having great success with our largest customer. We successfully took a leading position in the Feature-Flash market for our first quarter out. We are excited about the momentum that is building for the fourth quarter. And we continue to invest in future technologies and look forward to showcasing some of those technologies at CES in January.

We are happy now to open up the call to take your questions about our business, but I do want to remind everyone that it is our policy not to comment on specific customers, products or roadmaps. Operator, we are ready for questions.

[OPERATOR INSTRUCTIONS] Randy Abrams of CSFB.

I wanted to see if you could start, in looking at your deferred revenue, it was almost 11 million in the quarter, as you cited, which would imply that you started the quarter shipping to higher revenue run rate.

Maybe talk about why your implied guidance, it seems to suggest a slowdown in shipments. Is that conservatism or is there some other factor playing into that or could they actually hold up at beginning of quarter shipment levels?

Not every week is the same to begin with, right? I mean, from about three weeks of revenue you can certainly [unintelligible] relate to some degree to the quarter revenue, but not exactly.

Is there anything else? Well, there's always supply constraints on high level complexity products that are ramping fast. We're not, certainly, gating this. If there is any upside or anything in that quarter, we're ready to supply more.

Yes. Maybe on those lines, you've always had good visibility when it was more on the drive guise. Are you seeing Nan Flash constraining? Or maybe it's another component, but constraining shipments over the coming months? And what are the implications for first quarter if that is the case?

Frankly, yes, we do believe that the demand for high-capacity Flash is actually growing faster than current supply can keep up at this point. Primarily because of that rapid movement that's gone from what was the sweet spot, 256/512, to now the 1, 2 and 4-gig. And as Olav indicated, often when you're ramping fast, it does take time for those to get an equilibrium.

But as you said, you know, when you look at history, it's often the storage element that can be lagging in that market. But over time, we think they we'll certainly get [two equilibriums] to the right point.

Okay. And maybe go into--I know you talked about your target for R&D and SG&A, but you are seeing a big step function up in revenue. So maybe talk about what you're doing operationally, what's driving the up tick in expenses in fourth quarter? Are there tape-outs that might be factored in there, or is it expenses for new platforms, so maybe talk about some of what we're seeing in fourth quarter?

As I said earlier, we're working on an extremely flexible spending model. We've worked on this for a couple of quarters now, and specifically with--you know, if you follow our guidance for Q4, it really comes to fruition here. We have actually been very careful in adding fixed expenses, you know, expenses that are internal infrastructure expenses and have added a lot of variable expenses to our cost structure. Something that we can ramp up real quickly, as I said in my prepared remarks, working with a third-party expert developers outside that we can ramp much faster than internal resources.

So, that can also mean expensing some intellectual property that we acquire in any particular quarter, depending on some milestones of delivery. So there's a lot of ways to react very flexibly to revenue increase. Especially when you, like our Company, we're really firm with our 17% R&D spending model.

Glen Yeung of Citigroup.

This is Peter [Karazeris] on for Glen Yeung. I had a question about, in your third quarter last year, you had a somewhat similar revenue growth and deferred income dynamic, and yet that quarter your gross margins were down sequentially. This quarter they're up. I wonder if you could just give us some sense of what's driving that from a pricing or cost environment perspective? And then I have a follow-up.

You know, this year is the 5022. The 5022 has been shipping now a couple of quarters and it's ramped really successfully. And with its ramp into real volume production in the third quarter, we were also able to harvest some good operational efficiencies on the supply side.

We've passed on most of those efficiencies to our customers and the result was a healthy increase of a couple of basis points in our gross margin.

And then, you were talking about the additional the spending in R&D, or keeping it at 17% and trying to work with partners to keep some flexibility, so you can, I guess, deliver to market in a timely fashion.

There's been some discussion around a coprocessor that's in the Nano. I was curious if you could speak to what type of--what was critical about that technology? And then as you're going into the 2006 design cycle, how you see that playing out?

Let me just talk about the 17% then and then Gary might be able to add to the coprocessor question. The spending this quarter was really not just to stay on target, it was really to accelerate some, you know, our roadmap. As our revenue increases quarter-over-quarter in the past, and we're able to not just stay on track, but accelerate.

Let me remind you that I think it was in the last conference call that we told you that next year's generation technology was already taped-out in Q2. That was basically possible because we are willing to spend the 17% of revenue in R&D and to accelerate as much as we can to bring as much R&D activity into the current quarter as we can, to be extremely competitive there in our roadmap.

And now I'll pass the coprocessor question to Gary.

Thanks, Peter. So of course I won't specifically refer to any customers' products, but let me just talk about the coprocessor strategy in general, because I think it's an important one that we've used most successfully in the past as we enter and we're part of a fast-growing market.

And one way to look at what the coprocessor is, is essentially, we supply the main CPU on these solutions. Say, for example, a PC like the Intel CPU, and then occasionally you have these adding components like communications cards or in the case of the future, you'd think things like video, where you have an additional component.

That component is generally used where customers are really trying to get to market very quickly and where the new features are developing. And so, we've worked very successfully with coprocessor devices in the past in things like USB and FireWire. And then over time, what we see is as we integrate those in, we can then really start to give our customers the cost savings and really an improved power consumption.

So the coprocessor model we've used effectively in the past, and you should expect to see it now in these new markets as new features come to market quickly. It's a quick way to get to market. But long-term, we look at integration then as our strategy to drive down the overall system cost and then to do a great job, frankly, on the battery life.

Very good. Thank you and nice quarter.

Jason Pflaum of Thomas Weisel Partners.

Maybe just to start with the guidance again. Can you talk a little bit about your expectations for the linearity of the fourth quarter? Seasonally, I would think it would be very front-end loaded. And then you can just talk about how that compares to what you saw last year in the fourth quarter?

Jason, I don't think it was too front-end loaded. There was a lot of activity in the first three weeks. But I think October is a very busy month and so is November. Turnaround times in Taiwan and China have really shortened significantly, so that you can have very significant production in October and November that still reaches the shelf [spread] before Christmas.

Okay, so no major difference as far as linearity relative to what you saw last year?

Not really, no.

Okay. Also, on the gross margin, did you give guidance for the quarter?

No.

We've certainly talked about our long-term model of 41 to 44%, which I've done again.

Right. It seems like you would get some incremental benefit from the ongoing shift towards the 5022 this quarter and some of the new products that were not rolled out. Is that fair to assume that you could get some incremental benefit?

Well, we've had a manufacturing volume that we've never experienced before either, right? It was the highest manufacturing volume in our Company's history, in Q3. With that and specifically in the third quarter that we just went through, with the ramping of the 5022, we get those operational efficiencies.

Let me not extrapolate that out into the fourth quarter. Let me just say that I'm very comfortable with modeling a financially highly successful company around our long-term model of 41 to 44%.

Okay, fair enough. Just two more questions here. One, I haven't had a chance to look at the actual line, but if you could just talk generally about the purposes of the cash that you intend to raise? I think you have 150 or so million cash on the books right now. Pretty strong position. What's the big driver behind another 100 million or so?

Jason, unfortunately, I cannot comment on that, as we're in the quiet period, as the SEC calls it.

Okay. And then finally, can you just give us an update on your progress on the handset front? You didn't really talk much about that. Just curious when we might be able to see first revenue in that area? Thank you.

So I'd characterize that with oh, steady as you go. As we indicated, we think to pull together really compelling end-to-end solutions are going to be a key part of that. And so we're actively investing in that space again. I think the strength of an applications processor has proved itself out with the Sirius S50 design win. And so again, I would characterize it as steady as you go.

Okay. Would 2006 timeframe be reasonable?

As we've talked about previously, we were probably looking toward the end--to the second half of 2006, primarily because, as you know, the cycle it really takes in both qualification and other reasons. So, that's consistent and that hasn't changed. As I say, we're making steady and I think, smart investments in that space.

Shawn Slayton of SG Cowen.

Just some housekeeping up front here, Olav. Can you give me your numbers for cash from operations and CapEx and D&A?

Cash from operations is about, let me see, it's pretty close to our earnings, basically, it's about $12 million.

Okay.

And on CapEx, it is very low. As you know, we're a fabless Company. Superfabless, basically, working with our partners LSI and eSilicon. So, it's in 1.5 million range.

Okay, and then the D&A? You just gave me CapEx. Did you just give me D&A? I apologize.

I'm sorry, I understood MD&A, I'm sorry.

No, depreciation and amortization?

We're about 1 million in depreciation and we have no amortization, because there's nothing really that we're amortizing, other than our stock charges.

Right, okay. Thanks for that. And I don't want to beat this to death again, but it's pretty important to next year's earnings forecast, so I want to make sure I get it right. Kind of on an absolute basis for the current quarter, R&D kind of like a $12 million range, we should model that on an absolute basis into 2006. Is that correct?

I think the easiest way to really look at the spending is really to stick with the 17%. I can't help you, certainly, with what your model has in terms of revenue for all sakes, but if you stick with the 17% spending for R&D, that is how we look at our willingness to spend in order to execute on our roadmap.

Okay, understand. Any additional or accelerating activity in your system and package product?

When we gave the preamble to the questions here, we did refer to the 5024 and I think gave some nice color on that. So, we are very pleased with how that is looking to shape out.

Okay. Let me ask you, Gary, I remember we talked a couple of quarters ago and you had mentioned that 2005 was likely not the year for video, as far as a converged audio/video portable device. Can you refresh us on your thoughts now as to that, in light of this Apple device and just kind of update us on your understanding of the market audio and video functionality?

Sure. Remember, as we describe the video side, I always have a wry smile, because if you remember, I always stressed--and I still believe that, that these devices are not your two-hour DVD playback device.

And so, my first preamble when we talk about video is to try to get people off the view that these are devices, I think still of these small handhelds, for many hours of video viewing. And we stressed the sort of more specialized content for these types of devices, you know, movie trailers and such like. I wouldn't claim that we were as bold to bridge out the TV shows, but I think in terms of the size of the content and the type of video content, I think that's consistent with our view and vision. Again, we are probably most skeptical about very long viewing technologies on the device.

And so we still think specialized content, I think we'll see more coming, that sort of gives you sort of the 15-seconds to 15-minutes video smacking capability. We think that's very exciting and we're investing very appropriately on an integration roadmap for that type of profile.

Okay, I understand. Can you speak--I know you guys don't want to touch on anything incremental to the S1, but Gary, hopefully you can give us an understanding of your view of the future of PortalPlayer, again, from new markets, maybe stuff that you didn't touch on in the preamble?

You're going to have a lot of cash on the balance sheet. I just want you to try to maybe add a little bit of flavor on maybe what PortalPlayer looks like as a Company in another 18 months. Do you grow by acquisition? Is it mostly organic? Help us understand, from 50,000 feet, PortalPlayer as a business.

Sure, happy to do that. The basis of what we do really well is really providing solutions that we think go into very innovative, portable media playback type devices. And we started off here in the MP3 market, but that, as you've now seen with video and others, is continuing to grow there.

So one of the biggest trends that we think is missing, and we've talked about that for successive quarters now, is the idea of having a constantly connected device. And as we think about the different types of technologies that can connect these devices wirelessly, back to either the PC or a satellite service or a coffee shop, there is a wide range of wireless technologies that we think will be an integral part of this type of platform.

So it's not just your cell phone with 3G. It's not just the WiFi. We think you'll see technologies like ultra wideband in the future, really start to tie in a very interesting types of connector devices that will start to serve different demographics.

I think some folks will, for example, will start to enjoy TV and video content maybe differently than someone who wants news and audio. And so the bottom line is, we think these adjacent market and opportunities that build upon our strength on the media playback and portability offer us now very exciting adjacent markets that we'll be talking about in the future as we [move] to both that CS and in other forms.

Okay. I'll yield the floor. Thanks.

Quinn Bolton of Needham & Company.

Great quarter. First question, Gary, don't know if you can really comment, because it starts to get into your 2006 platform, but you've seen one of your customers introduce a video capable device that uses a coprocessor. I'm wondering if you can say out in 2006, as we see more video enabled devices coming to market, do you think that you'll need a coprocessor to handle H.264 and some of the more advanced video codecs that are being used in the market? And then I've got a few follow-ons.

Quinn, I don't think there's one standard answer there. What we do well at by being that main CPU on a motherboard, is actually we put in place the environment where we do play well with other players. We think that for cost and power, a high level of integration generally wins. And as you've seen us in the past integrate in other auxiliary components like FireWire and USB, it would be natural for us to start to attack and look at that level of integration.

But having said that, there are always customers that want to have different permutations in things like graphics and video and in wireless. So the answer is, we'll be looking, of course, at the right level of integration at the right time for both cost and power, for now. And then we'll be working--continue to work with a wide variety of folks as this platform becomes much broader in the future.

Okay. Sort of a follow-on question. As you look to sort of expand the capabilities of the current 5022 family, I don't know whether that involved an ARM upgrade from ARM 7 to one of the more advanced ARM cores. But to the extent you do select a new ARM core, does all the software--is that all code-compatible between the various ARM processor families, or would there be any rework you need to do to the existing code base, to the extent you did go from, say, an ARM 7 to an ARM 9?

Well, I don't want to speculate here about future product architecture, so I'll sort of step back from the big picture there. And it is fair to say that once you're within a processor family like ARM or MIPs, the migration is considerably easier than you would have if you had jumped processor family recently. So let me leave it at that for this point. I really don't want to tip our hand on our future product roadmaps here.

Okay. One for Olav. Olav, just first wanted to clarify, did you say that the blended ASP was down 17%, versus year-ago quarter?

That's correct.

And then, just sort of some color around that. Do you think that that had to do more with just the volume ramp of the 5022 and that device being on .13, or might it have had to do more with the fact that your biggest customer introduced two new families here in the last month or so?

Could there have been any price negotiations sort of involved with the introduction of the new players, that now that those are introduced, pricing comes back to more what you saw, say in the first and second quarter of '05?

I don't want to tie the pricing really to any products that are introduced in the market. We just renegotiate our prices from time to time with our customers. And our cost has really developed very positively in the past quarter, as I mentioned earlier, with the ramping of the 5022. And so the renegotiations with our customers were just also in line with what we saw in our cost. It was not really tied to a specific introduction of a product.

Okay. Can you say whether those price renegotiations, was that kind of more of an annual basis or is that more of a shorter-term, say quarter-to-quarter?

You know, every customer is different and it's not a [science, it's an art]. It's renegotiating the prices as you ramp in volume, as roadmaps change. It's hard to describe it here, in detail.

Okay. And then last question then I'll yield the floor. I'm assuming that none of the gross margin benefit that you saw this quarter came to do with an insourcing or a move to COT. It sounds like you're still heavily [unintelligible] in kind of the eSilicon LSI Logic model. So, to the extent you went COT, that would all be incremental gross margin in the future?

We would talk about this if it were this way, yes, absolutely. Nothing has changed in our supply-side model.

Daniel Ernst of Hudson Square Research.

Three questions, if I might, maybe drilling into first the MPEG-4 question. When do you think you can move beyond MPEG-4 SP into some of the full-rate MPEG-4 and VC1, etc., given that that's where the market seems to be going? And maybe answer that question in light of the competition, PixelWorks and Broadcom both making acquisitions in that space this year. NVIDIA talking about things that look like they're in your market and sort of maybe give us an idea of the competitive landscape in the portable media space?

And then, secondly, on the question of bringing silicon design, now that you're looking at running maybe 75 million in the fourth quarter, is that the level where it just makes sense to bring that in-house?

And then, the third question is just to clarify. I think you said that you thought that you could produce things during November that would hit the shelves in Christmas here. Are you saying that you could have the lead times within four weeks? Thanks.

Let me take the first two there, Dan. So on the video side, we've been a integral developer of video for an extended period now. And in fact, we have been watching the market very closely in terms of developing at that core competency and core expertise.

The question is, when do you put it onto the main CPU? You know, the analogy would be here again with looking, say, at Intel on a motherboard, when is the point that you would bring the graphics and the video into the main core solution?

So, our strategy is to intercept a video roadmap that again we will differentiate. We'll hit the performance targets we need, but at the right price point and with great power consumption. And so, we're not loosing any sleep over the video roadmap here. We think we have it well-placed and again, we think at the time where integration counts, we'll be in good steps for that.

On the COT side of the house, again, you're right, traditional folklore would be, beyond 10 million units you start to move to COT. What I've got to say though, is that from the flexible business model that Olav indicated at earlier, we quite enjoy this flexibility and support we get from large world class suppliers like LSI and others and it gives you a great deal of flexibility to go and make smart investments in other types of IP.

So, yes, I think over time we'll certainly start to move to that, but as Olav indicated, we'd make that clear at that time. We're finding our supply partners are responding very favorably to that potential shift to COT and we're enjoying that flexibility and support from those guys.

I'll take the last part of your question, Dan, the lead time. Yes, I did say that manufacturing volumes in November, are certainly still a volume that could be sold in December on the shelf.

So, this is more of a question certainly for our customers, because I'm not too much in the loop on the manufacturer turnover time. But in general, you can say that two to three weeks is probably the turnover time in China and Taiwan now.

Wow, that's good to hear. But Gary, could I actually just maybe get you to comment on the competitive landscape a little bit, if you would?

Sure. This market is getting larger and of course, we start to attract other market entrants. I think the specialization that we still have in the demand from the space and the amount of software still starts to sort of sort the wheat from the chaff. Competitors we are seeing that are actually doing a pretty good job, a better job on the software side are companies like TeleChips, out of Korea, who are in that market space I think are showing quite well.

So that class of customer on the base market. And of course, as these devices start to morph in the future, we expect and will see the more broadline suppliers in this market. And again, our approach there is to really understand the application, to bring the five generations of experience we've done to really drive the balance between power and price performance, so we come out with the most optimized solution.

So, broadline suppliers, yes, I think you'll see a host of those. They haven't succeeded so far five generations in this market and we don't think that dynamic is going to change. And then we are seeing companies like a TeleChips, that is getting more software intensive. They seem to do a fairly good job in Asia today.

Craig Berger of Wedbush Morgan Securities.

He's gone.

Adam Benjamin of Jefferies & Company.

Just a couple of questions here. Last quarter you had talked about your expectation for significant revenue in Q3 from the 5024. Has that outlook changed at this point?

Adam, I don't think we talked about significant revenue from the 5024. We said we would expect significant revenue from Flash-based products. And we always said that the 5024 is a specific Flash product, but the 5022, or now its family member, the 5021, is also a Flash product. So, I think that's the way that we positioned it last quarter.

Okay. I mean, you did say specifically significant, but you qualified it as 10 to 90%, a pretty big range. But--.

Oh, I'm sorry. I thought you were focused on the 5024 versus the 5022. It is absolutely significant revenue from Flash-based products in Q3, yes.

Okay. Second question is, with regard to the S1 you filed, it specifically references 13 million being shipped into Hon Hai in Q1 and Q2. And you've said previous to this that your first Flash-based revenue had been in Q3. Should we assume that the revenue into Hon Hai in Q1 and Q2 was for hard drive base players?

I'm not making any reference to the S1 that you referenced. Our largest customer is working with various ODMs out there. One of them is Inventec and one is Hon Hai. The way that they're allocating the business to one or the other is really nothing I can comment on, Adam.

Okay. Previous to this you've talked about ASP and units on a year-over-year basis. You've given the ASP decline on the year-over-year basis. Can you provide the units for this quarter?

Unfortunately, I cannot comment on that either. It's just our policy not--we talk about ASPs to try to give you some color in how our ASPs develop, but we don't talk about units.

Okay. Last question. I'll try this one. The gross margin, your target has always been 41 to 44%. You did a little bit better than that, at 45% this quarter. Obviously, with the arrangement with LSI and eSilicon, there's some give and take there with respect to the ASPs.

Can you give us a view as to whether you think that target should really be increased or should we be looking at this longer-term or even the next couple of quarters to moderate back to the target range of 41 to 44%? And I'll leave it at that.

I can answer that one, Adam. Actually, we're proud here that we've developed a financially very successful model around a 41 to 44% margin. So, as the margin quarter-over-quarter develops, depending on price negotiations and the cost development and other factors like ramping in volumes that we've never experienced, we still want to say that the 41 to 44% long-term margin model is the one that we actually model our financial future around. This is how I want to put it.

Okay. Maybe let me ask one more question on that, Olav, and see if you can answer this. You had a 17% decline in ASPs, yet you had a bump in gross margin in the quarter, which is something to be cheered as a semiconductor company. So, my question is, going forward, could that occur in the next couple of quarters as well?

It could occur in the next couple of quarters, yes. But it doesn't have to.

Jason Paraschac of Kaufman Brothers.

Just a couple of quick questions, hopefully. One, just to clarify on deferred revenue, that is just showing your margin on the chips that you shipped in basically the final three weeks of the quarter, correct?

That's correct.

Okay. So that would imply about a 25 million revenue shipment in those final three weeks, which leaves, up to the midpoint of your guidance range, only 45 million to go during the rest of the quarter. And that is typical linearity? Am I putting all those pieces together?

Well, you're putting the pieces together. So again, I said not every week is the same, right? And in the last three weeks of September we saw a lot of activity, we said on the call. It's almost three weeks of September, you know our revenue recognition policy. Not every week is the same. We haven't, certainly, used the number that you used, the 25 million, because that implies that we would give guidance to the margin that we ship those products at, so we haven't done that. But, overall, I think the math that you did is an okay math.

Okay, but, did I hear your comment to an earlier question correctly, that you would characterize that as typical or not atypical linearity?

You know, we only have really two or three years. I mean, last year was our first year of really volume shipment. This is our second year. So talking about typical patterns for PortalPlayer is a little early. But if I compare it to last year, it's relatively typical.

Okay. Another clarification. Did you, in the third quarter, recognize revenue from the 5024?

No, we have not.

Okay. And then the last question, going back to the competitive landscape, obviously there's the coprocessor on the video iPod from Broadcom, but as you talk about the evolution of not just the iPod, but MP3 players in general, adding wireless capabilities and who knows what else, that's inviting other competitors in the ilks of Broadcom or an Intel. How do you defend your turf against those guys encroaching on the total board cost there? And grant it, you're working on some of the developments, but you're also talking about the fact that your chip works so well with these other partners.

Right. From an overall board cost or bill of material, we frankly have, because of the high cost of the storage, never ranked ourselves and take [pride] of how much our percentage of building material is. It's always been a small percentage, because of the large amount of storage there.

And so I think in effect, what we look at is, what can we offer in very low-power, highly integrated solutions there? And as you talk about wireless, unless you're looking at some of the more exotic future technologies, many of the technologies, WiFi and others and Bluetooth, are at a state where they're essentially a pipe.

And in terms of the abilities first to work with a provider that provides that well-standardized optimized pipe, we think we view it frankly as another USB or FireWire connector solution. It is no more than that. It doesn't provide real value-add in terms of them having to do new types of features on their pipe. It's a connectivity solution, like USB and FireWire. In many cases, it's now got more and more commoditized and available from lots of different sources.

And again, we don't measure ourselves on percentage of bill of materials, we view on are we on the right integration roadmap for the sweet spot of price and performance and power and making sure we get that right in time for our largest customers' needs? And that is our paramount focus, versus systemically trying to increase bill of material costs.

Okay. But if I could just twist that around here. I guess your competitors would look at it as their strategy is to increase their bill of materials. And I would think that them getting a socket, even though if it's a standard wireless chip or some other interface, that's a leg up in them getting a footprint in there and eventually displacing you. Is that a threat in your outlook?

Well, again, if you view that as a stepping point from us as a fifth generation platform provider, you could view that auxiliary component as a very expensive additional cost to a solution. And if that may be the expeditious way to get there in the short-term, but if you view our ability to integrate, to take that component out, that's a great opportunity for us as well.

And so, we're not going to begrudge the early introduction of the coprocessors in the solution. In a way, it sets us then an additional ASP target that we can then roll into our solution and hopefully give our customers ASP savings over that. So, when a platform cost goes up, that essentially gives us the ability to target more integration.

And I don't think, as maybe you're implying, it's going to end up as, who has the highest dollar cost on the platform. That's not how we look at the business. We look at securing that main CPU motherboard slot that we've had for five generations and continuing to run the OS and all the features that surround that.

And as we've done successfully now, integrated in many different types of mixed signal capabilities like highest performing USB OTG 2.0 solutions into that solution. So we view ourselves as the central motherboard solution, with an integration roadmap to pull value in from these coprocessors over time.

Craig Berger of Wedbush.

Thank you for taking my question and congrats on a nice quarter. Can you help us understand what type of insight or visibility you have into 2006 design wins?

Let me try to give you some color without--as you know, we, from a financial point of view, really look at one quarter out. But it will be fair to say that, for example, we understand the cycles extremely well and understand the cycles of our key customers extremely well in this market. We announced in Q2, that we had taped-out--or given the case of at least one tape-out in the Q2 timeframe of new products that we think will align nicely with our customers' roadmap for '06.

So, we've been at this now for multiple generations. We think the '06 roadmap and solutions that we have in place and are developing, are very well suited. In actual fact, frankly, our technologists are really now looking at the '07 timeframe. It's really the '07 now where we're doing lots of work, both on our existing platforms and new platforms on the advanced development. So I would characterize '07 as our advanced development timeframe and '06, we're really in the thick of that development now.

That's helpful. Thank you. With respect to Q1 seasonality, is normal still down 20 to 30% sequentially, and do you see anything to indicate that Q1 '06 would be anything other than normal?

Craig, I can't talk about anything that goes above and beyond Q4 in specific, so let's not talk about Q1 in specific. But let's talk about how we look at '06. So, a year ago or nine-months ago, we were talking about '05 as the year that is probably more transitional than already really consumer electronics seasonally impacted. And so it was. The first two quarters were relatively strong.

We said then '06 is probably more of a typical seasonal consumer electronics year and right now we're reevaluating this. We're not quite sure how it's going to turn out, but '06 could have a typical seasonal consumer electronics trend, with the first half a little slower and the second half strong. But it could also still be a year of some traditional trends.

It's as much as I can say and want to say right now, because it's a little too early to really talk about the whole year and I can't really give you a direct comment on the first quarter of '06 at this time.

Okay. And then just my final question is, you've got about 10 days of inventory on hand. Can you help us understand your ability to respond to upside requests in Q4?

We have no concern about it at all. We've made sure, weeks and weeks ago, that we have inventory on hand in our warehouse and then certainly with a lot of flexibility in our supply chain. Let me remind you that LSI, they're sitting in between us and the fab. So we have very strong partners. We have no problem what so ever thinking of being able to supply upside if we're asked to.

Thank you. Due to time constraints on today's call, I would like to turn the call back over to Mr. Johnson. Please go ahead, sir.

Thank you everyone. Thanks everyone for joining us on the call today. With that, we will simply conclude the conference call. Thanks again.

Thank you.

Thank you. We do appreciate your participation in today's call. At this time you may disconnect.