輝達 (NVDA) 2006 Q3 法說會逐字稿

Welcome to the PortalPlayer Inc. third quarter fiscal 2006 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 play, please dial 719-457-0827, with the pass code: 8563431. At this time, for opening remarks and introductions, I would like to turn the call over to Ms. Christine Moses, Investor Relations for PortalPlayer. Please go ahead ma'am.

Thank you for joining us today. In addition to this call being available by phone replay, it is being broadcast via the investor relations page of PortalPlayer's website at www.PortalPlayer.com. Earlier today we issued our press release and filed it with the SEC. The press release is also available on PortalPlayer's website. The press release contains certain non-GAAP financial measures, which we will discuss during today's call, together with the most directly comparable financial measures, calculated in accordance with GAAP and reconciliations of the differences between these measures.

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 that 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 core competencies, our ability to execute on our product road map and overall diversification strategies, future plans and growth, development efforts, features, benefits, introductions of products and technology, our entrance into new markets, anticipated customer demand, our ability to execute our product road map, our revenue growth, market trends, and demand for the benefits of the feature rich segment of the personal media players market, and anticipated growth of this market, market trends and demand for PCs, notebooks and consumer devices that incorporate secondary display technology and anticipated growth of this market, expected revenue from sales into this market, [inaudible] of the Microsoft Vista Slide show technology, our ability to incorporate new video technologies into our platforms, benefits from a new manufacturing flow, investments in facilities in India, demand for our products, our projected fourth quarter and future spending levels, and future financial results, GAAP and non-GAAP financial results, including revenue, net income, expenses, gross margins, ASPs, stock based compensation charges, tax rates, cash flow and operating expenses, including but not 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(Q) for the period ending June 30, 2006, as filed with 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 the forward looking statements. These forward looking statements speak only as the date hereof. 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. PortalPlayer reports earnings per share and net income, in accordance with GAAP, and additionally, on a non-GAAP basis. PortalPlayer uses non-GAAP additional measures to exclude certain expenses it believes appropriate to enhance an overall understanding of its past financial performance, and also its prospects for the future.

PortalPlayer believes that by providing these non-GAAP financial measures is useful to its management and investors because they provide a consistent basis for comparison of a company's financial condition and results of operations between quarters, which comparison is not influenced by stock based charges, the amortization of purchase and tangible assets, and the related tax effects on these items. The full reconciliation of the GAAP to non-GAAP financial data can be found in our earnings release, issued earlier today, and we ask that you review it in conjunction with this call.

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

Thank you and welcome everyone. As you saw from our press release, Q3 revenue was in line with our guidance and we generated cash from operations to end the third quarter with $195.5 million in cash and short term investments, an all time high. We were able to further reduce our spending, as expected, while continuing to focus on our strategic programs.

Our projected fourth quarter spending level, before stock and amortization charges, is now expected to be about 40% less than it was in the fourth quarter a year ago. Also in Q3 we executed well on our strategic technology road map to achieve a more diversified business structure. In our personal media player business, we continued to ship products to our largest customer for its new video enabled model. We expanded our relationship with SanDisk to include its C200 series of media players and continued to market our technology to a broader customer base.

We expect revenue from our PreFace product line to ramp in 2007 as manufacturers introduce their innovative designs throughout the year. Also during the quarter, we successfully taped up technology for our next generation family of products. For the first time we used a customer owned tooling manufacturing model and are planning to sample the new chip set during the fourth quarter this year, ahead of the January consumer electronics show in Las Vegas.

In early October we acquired AVCore Inc, an early stage, entrepreneur-funded company, engaged in the development of high definition, or HD, video capabilities that we believe fit well within our technology road map. The total acquisition price for AVCcore was $2.5 million. We plan to use cash for this transaction, with about half being paid in Q4 and the rest is expected to be paid over a three year time period.

Through this acquisition we add HD video expertise to our design teams in India and in the United States. The acquisition also brings us HD video related intellectual property that will assist us in developing our next generation high definition technologies. In a few minutes I will go into more details about each of our target markets and the milestones we have achieved, but first I will turn the call over to Olav, who will go over the quarterly financials, Olav.

Thank you Gary and welcome everyone. The third quarter financial results we're reporting today are once again in line with our previous guidance, with revenue of $34.8 million. In the third quarter more than 10% of this came from what we've termed other customers and we expect revenue from other customers to increase on an absolute dollar basis, as well as a percentage of overall revenue, to an all time record level December quarter.

Our third quarter gross margins of about 43% was better than we expected and was about 80 basis points higher than in the previous quarter. As we discussed with you last quarter, we still expect mild pressure in the fourth quarter. This is, of course, due to the fact that our largest customer did not transition to our follow on product, to the 50-21 device, while at the same time we continue to experience a decline in ASPs for the 50-21. As a result, we expect our fourth quarter gross margin to be below our long term model of 41% to 44%, but the overall gross margin of 2006 is expected to be around the low end of the model.

From the technology perspective, the third quarter marked a very important milestone. As Gary mentioned earlier, we successfully taped our new product family. Not only did we tape out what we expect to be very impressive technology, we also did this for the first time in a customer owned tooling, or COT manufacturing flow. We expect this move to positively impact our margins in '07, once we start selling our new SOCs that were manufactured using this more direct manufacturing flow.

The third quarter also marked another positive milestone for us. We added another revenue flow to our business. For the first time we have begun to license our Silicon software. As a result, we recorded royalty income in the third quarter, and expect income from royalty and licensing to increase over the coming quarters. This new revenue flow was designed specifically to enable us to extend the life of our mature, feature rich technology, while broadening our available market to include product typically dominated by lower cost technology providers. We are very excited to implement this model for the first time, to help bring high-end product features to media players priced under $100 and Gary will share details with you in a minute.

Net income for the third quarter was $1.5 million, compared with a net income of $10.3 million in the same period a year ago. The third quarter, 2006 net income resulted in an income of $0.06 per diluted share, based on 25.4 million weighted average shares outstanding, compared with a net income of $0.40 per dilute share, based on approximately 25.5 million weighted average shares outstanding in the same quarter a year ago.

Net income in the second quarter of '06 was $1.4 million, or $0.05 per dilute share, based on 20.3 million weighted average shares. This included not only stock-based compensation charges, but also the amortization of intangibles and the tax effects of the items. Remember that in the second quarter of '06, we also booked a net tax benefit of about $1 million to our P&L, even though we were profitable.

Now, excluding stock-based compensation charges of $2.8 million, in accordance with FAS 123(R), also excluding [inaudible] $40,000 of amortization of intangible assets, as well as the tax effects associated with these charges, non-gap net income for the third quarter of '06 increased, quarter over quarter, to $3.4 million, or to $0.13 per diluted share, based on 25.4 million weighted average shares outstanding.

The non-GAAP effective tax rate of 34%, which is one percentage point lower than our previous guidance, and this is compared with a non-GAAP net income in the third quarter of 2005 or approximately $11 million, or $0.43 per diluted share. Non-GAAP net income for the second quarter of '06, which in addition to excluding stock-based compensation, also excludes amortization of intangibles, as well as the tax effects of those items, was $1.9 million, or $0.08 per dilute share.

And in our earnings release we provided detailed reconciliation between gap numbers and the non-GAAP numbers, which details the compensation charges, the charges resulting from the amortization of intangibles, together with the tax effects, for Q3 of '06, Q3 of '05 and the year-to-date information for both years, as well as the effect associated with adjustment of our effective GAAP tax rate.

Excluding stock-based compensation and the amortization of intangibles, our operating expenses were about $12.4 million for R&D and SG&A in the third quarter, which was about $1.3 million lower than our Q2 spending. This shows, again, how flexibly and [inaudible] we can react to changes in our business. We plan to be very cautious with our spending to achieve a balance between investing wisely, so we can successfully execute on our technology road map, and providing a financial model that supports our current transition to a much more diversified business model.

We expect our Q4 operating expenses to be about $11.5 million, which then will be almost 40% less than the fourth quarter a year ago. We continue to expect, as in the third quarter, to be cash positive in the December quarter, and get close to a $200 million cash level by year end.

Our stock based compensation charge of $2.8 million this quarter was for stock based compensation in accordance with FAS 123(R), including expenses related to our restricted share grants that we began issuing in '05, elements of amortization of deferred compensation and some variable charges. For Q4, we expect our total compensation charge under FAS 123(R) to be about $2.7 million before the effects of taxes.

And now let's turn to the balance sheet. In the third quarter we continued to successfully manage our inventory level, with a quarter end balance of only $2.9 million. Our deferred income position represents the gross margin for shipments in the last two to three weeks of the quarter, was $4.5 million. Head count at the end of the quarter was 266, with about 60% of our employees based in India and our other locations in Asia, and about 40% in the U.S, about 90% of our overall headcount technical employees.

I also want to give you a brief update on the new facility that we're building in Hyderabad, India. We have now completed the building's shell and expect it to be completed by year end. We expect this to be a worth while investment from a recruiting, a development, and financial standpoint.

Before I turn the call back over to Gary, let me summarize our guidance for the fourth quarter. We expect revenue to be about the same as in the third quarter, with a range of $31 million to $38 million. Total OpEx, before stock and amortization charges, is expected to be about $11.5 million. Stock based compensation charges are expected to come in at about $2.7 million before the effect of taxes.

GAAP, net income or loss pre-diluted shares are expected to be between a loss of $0.03 to income of $0.05, based on approximately 25.7 million weighted average shares outstanding. Excluding the stock compensation charges, $340,000 of amortization, related to our purchase intangibles, and related tax effects, non-gap net income per diluted share is expected to be between $0.05 and $0.14.

On top of this, there might be an additional charge for a one-time write off of in process R&D from the acquisition of AVCcore in the fourth quarter. However, we expect to be limited, of course, by the relatively small amount of cash we've paid so far for this acquisition. The exact amount will be determined in an evaluation analysis undertaken in the fourth quarter. And at this time I would like to turn the call back over to Gary for his comments, Gary.

Thank you Olav. Now let's take a closer look at the milestones we achieved in our target markets. First, the personal media player market; we were very pleased that our largest customer introduced refreshed versions of its video-enabled media players last month, all of which use our technology.

As we announced in the press release today, we also expanded our relationship with SanDisk. SanDisk's Sansa c200 audio players, which use our technology, began shipping in the spring and have been very well received. We expect SanDisk to become the second largest brand of flash based media players in the United States, according to MPT Group's retail track. Now SanDisk has designed our technology into its new Sansa c200 series of audio players. These players will use silicon base and our proven technology, a color display, media card slot and two gigabyte memory capacity for under $100. The Sansa 200 is expected to be a volume seller in SanDisk's outstanding lineup of media players.

As Olav mentioned earlier, we are [inaudible] of our mature technology to cost effectively migrate our feature rich technology into the sub-$100 market. This is a new approach for us and has enabled us to win additional business from mid-range personal media players that address customer demand feature rich functionality at lower price points. This plays into our strengths, while helping customers to break the $100 barrier. We plan to selectively use this business model in the future to win additional business with customers where we can extend the life of our technology, or address markets that are typically occupied by our competitors.

Looking ahead, we believe 2007 will be a very innovative year for the personal media player market. On the content side, we expect to see content distribution sights, with new business models that could spur demand for additional content, including HD. New media players would likely be introduced with a variety of wireless capabilities, enhanced video and other new features.

Now let's talk about our personal media display business. When we launched our Preface technology with Microsoft last January, we envisioned innovative, simply, inlet display on notebook computers, through which users could access all kinds of data, without having to boot the computer, and with hundreds of hours of battery life. What we've found in working through our design opportunities with our customers is that the potential applications are in fact much broader than that.

PC manufacturers are interested in the technology to finally to be able to differentiate their products and they are designing new ways to implement the technology. For example, the secondary display can be used to extend the value of the always on [ inaudible] portable devices that are associated with the PC. Many are looking factors that enable the secondary display to function as a media center remote control, personal media player, and Blue Tooth enabled VoIp handsets, among others.

We believe this potentially expands our overall target market because the manufacturers are thinking about using Preface for other products, not just with notebook computers. Supporting that effort, we recently hired new team members for this business unit, including a new divisional Chief Technology Officer, [Dean Skelp], who was most recently at Intel for nine years.

These core innovative designs are possible because of the flexibility in features available in PortalPlayer's Preface platform. With the designs being more complex and with the count of sideshow and gadgets being used, it has resulted in longer design cycles associated with these new designs. Therefore, assuring an on-time launch of Vista, we do expect unit volumes to start of modestly in January, with customers that plan to synchronize their introduction with the Vista launch.

We expect initial Preface orders, therefore, to come in towards the end of this year for those customers. We expect volumes to increase throughout 2007 as additional manufacturers ship their products with more enhanced secondary display applications. We are excited about this market and the opportunity it gives us in leveraging our existing technology to an entirely new space, targeting a new customer base, and significantly expanding our target market.

Now let's take a look at wireless initiatives. We believe our highly integrated wireless solutions will be the foundation of future platforms in all of our target markets and we are very pleased that after [inaudible] months of development, we have successfully taped out our next generation of what will be a family of products. Within our labs, we have passed critical milestones of demonstrating and testing wireless connectivity and multiple operating support in pre-silicon development environments. We plan on implementing the new chip set during the forth quarter and believe we are on track to have some exciting technology to show customers at the consumer electronic show in January and at [inaudible] in February.

Our focus now is to deliver the chips and software platform to our target customers, in order to achieve additional design wins, which could result in initial customer product shipments in the second half of 2007. In addition, we are continuing our business development and sales efforts to target new customer designs for the late 2007 and 2008 time frame.

Now let me share with you another initiative that we are aggressively working to develop. We've recently seen a dramatic increase in the amount of high definition, or HD, content available, both by broadcast TV and through internet downloads. The availability of this content is driving consumer demand for flat panel displays with HD capabilities. In fact, flat panel TVs are expected to outsell traditional TVs in the United States in 2007.

As consumers become more accustomed to having this HD content available in their home, they will soon demand portable devices that allow them to take their HD quality content with them wherever they go. This trend ties together four key concepts that we believe all play into our value proposition. One, the ability to manage very high quality [DRM] content. Two, the need for increased storage, in excess of 100 gigabytes for HDD or hard drives, and tens of gigabytes of flash memory. Three, the need to wirelessly connect these portable devices for the acquisition and enjoyment of various HD content. And four, the display of content on both portable devices and external flat panel screens.

Most of you have probably seen HD quality and can agree that it is the driving force of the future and we're exciting to be working on a technology to bring HD to portable devices.

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

[OPERATOR INSTRUCTIONS] And our first question today is from Glen Young from CitiGroup.

Hi, this is Peter Tures for Glen Young. I'm curious if you talked a bit about Preface initial shipments starting in January and ramping through the year. Can you give us an idea of how many OEMs you're working with and how you see -- describe the ramp a bit better, maybe just give us a sense of how large an opportunity that's going to be by year end. I think you described it in terms of -- relative to the size of the notebook previously.

Sure, let me start off though by, I think, underlining one of the threads that really came out of, hopefully, this conference call and our work in the Preface environment, is it's actually evolution beyond, as you talked about, just the pure lid association in the notebook. We have been pleasantly surprised how our customers have taken that and broadened that into other areas. Having said that, that does take design time. So those, I think, will take some time to develop through the '07 timeframe.

So our early adopters are certainly moving along as expected, and as we say, assuring Vista launches on time, which we still believe and hope it does indeed. We think those early adopters will be providing that early volume, and as for the end of the year, we think some of these new, additional applications, I think, will be giving us a chance to broaden our application with Preface. So, it has a bright future for us in '07.

So you're saying that some of the designs will actually be shipping for revenue in '07, so '07 holiday season?

Let's be careful of the '07 holiday season, absolutely. If you mean Christmas '07, yes. I mean, we're expecting that our Preface technology is, in fact, going to be synchronizing with the Vista launch in Q1 of '07, so absolutely, by the Christmas '07 we certainly hope to see more of these innovative designs in a broader base than just a pure notebook application, yes.

Okay. And then, again, can you give a sense of how many -- so you're launching with Vista. I assume that's -- at least that part of it is with PC OEMs. Can you give us a sense of how many are potentially coming to market, and maybe how that number increased through the year, or give us some way to think about sizing that.

Again, as you know from a purely numerical point of view, we're very careful to focus only on the next quarter, but we believe that this could be millions of units in '07. The Preface product line, as you said, will start modestly, as we talked about, around the Vista launch. So I think that gives you some color.

Okay. And then you talked some about, I think it was flexible licensing as you're moving into the sub-$100 MP3 products, can you just help us understand how you manage your own internal ASPs, or your ASPs into those products? And previously with Apple you'd done a lot of software and systems design. I'm guessing that you're potentially moving out to a broader customer set. Is that right, or are you still going to keep it as just larger MP3 manufacturers that you're working with?

Well, again, starting at the top level there, our approach, as you said, is, in general, to focus more on targeted larger customers that work well for the model. So, as we said, the c200 is the fist model that has utilized that. I'm not going to give you specific financial details behind that model today, but what I will say is that the underpinning of this is, one, it allows more direct access for those customers to the silicon foundry; and then two, as you indicated, our licensing of the Firmware platform. The beauty of that is it allows the combination of extending the value of our mature technology, but it allows that to get to the sub-$100 price point. So, it's really a new revenue model, incorporating both silicon and licensing of the Firmware platform.

So, also Peter, to your question, are we going to take it to a market maybe with smaller customers. We have started this in the true PortalPlayer fashion with the big guys and we're exploiting, basically now, for '07, for the quarter to come. We can benefit the company from taking it maybe to a broader range of customers. We're extending life of mature technology with the big guys, that's as we have done business in the past, but that doesn't mean it can't open up to a much broader market in the future.

And does that change your revenue recognition at all, as far as the licensing versus the device?

Sure, that's a different revenue recognition model, but it does [inaudible] one thing, right. It's in addition. It's a new market. It's new customers. It's new product. The chip model remains the same. That's the same model that you're already used to for so many quarters now and then recognizing revenue, licensing and royalty has its own rules. I mean you have royalty income, you have license income. Royalty income is sort of volume based. License income is time based. So, it's a little too complex to go into detail now, but yes, it does change certainly to some degree. It's 100% [inaudible] model too.

All right, great, thank you.

And we will go nest to Michael Masdea from Credit Suisse.

Good afternoon. This is Ahmed Sura, calling in for Michael Masdea. PortalPlayer was traditionally just on the high end PMP market. Now I've heard you talk a lot about the sub-$100 market, maybe even HD or flat panel displays. Can you discuss the change - what's driving the change in strategy to go at the lower end PMP market and some of these broader markets?

The lower end market, frankly it's, I think, a natural evolution of how technology moves down the price curve. I think the way you characterize us here at PortalPlayer is we've really done extremely well in feature rich personal media players and as those features and as color display cost drive reduce, we can drive that with our customers into this sub-$100 price point. The look of this is essentially evolving high feature technology, which we expect to do extremely well, into the sub-$100 price point, not shifting the low end commodity market, but leveraging our strengths, frankly, through, I think, fairly creative models, such as the licensing models, to allow us to go after the $100 model below, without distorting our existing traditional silicon based model.

So, the only reason we're going there is our technology, with the reduced price of displays, allows us to target that, and I think we've chosen a very creative way of attacking that market, without cannibalizing our existing silicon based business.

Okay, I'm assuming the ASPs at the lower end, or in the licensing model, are a lot lower than what PortalPlayer has traditionally seen. Do you think there is going to be additional pressure on PortalPlayer's traditional ASPs that are still being sold into higher end PMP players?

No, I think there's pressure in general, but that frankly, comes more from a competitive environment. The reaction we're seeing from our customers, such as SanDisk, for example, is they have in the E series a traditional model and we've used this new revenue flow model in their C 200s. So, I think, in effect it allows us to actually, in some effect, sort of protect the pricing models and pricing targets for our traditional product line, by moving to a much more flexible model on the licensing side. So, I think it's a protection mechanism, not a weakening mechanism.

Got it. And can you comment on the acquisition and how do you see that product portfolio complimenting PortalPlayer's current product portfolio?

Sure. As I mentioned, the team we acquired is a very talented team that has done significant work in the are of video technologies, in particular high definition technologies. Part of our vision here at PortalPlayer, as you also mentioned in your commentary, as we focus on feature rich and high end products, we think high definition -- once people see high definition, they get it. It's one of those sort of light switches that go on and we think that in the future companies that can exploit that and bring that sort of enjoyment and [inaudible] viewing capability to portable devices, I think there's some very innovative products. And so that was the rationale for us to help accelerate that, both with people and with intellectual property.

Got it. And just a final, could you give any comments on the CEO transition plan. Is there any update or just what is the latest timeline?

Sure. The board is driving the process, as you'd expect, and they're interviewing a pipeline of candidates.

Got it. And say it comes to the end of the year, you plan on staying on - the current CEO stays on until the new one is inevitably, even if it takes longer than expected?

My overall plans haven't changed, but I expect to help with a smooth and effective transition at the time. So, I think that really just sums it up well.

Okay, thanks for answering all my questions.

Thank you.

We will take a question from [Jason Vuam] from Thomas Weisel Partners.

Hi, this is actually Alex Kim calling in for Jason. I just thought where I'd like to begin is just on the 10%, as far as other customer revenue and the commentaries looking into the December quarter that would reach an all time high. I'm just trying to get a sense of any way to quantify that and then as far as looking into 2007, how does that go as well?

I think the momentum is very clear. I don't want to split up our revenue guidance by customer. I've never done that, I don't want to start it now. I gave a little more color because it is part of the execution of our strategy that we announced two quarters ago, focusing on other customers and helping them to bring great technology to the market. And so Q4 is going to be an interesting quarter for us because we are going to see a record in this.

I can probably give you color. It's not like just $100,000 more than the previous record. It's really a lot of momentum behind this and, as you can imagine, SanDisk is a big driver. Again, this is the focus of the company. We really support the guys that can do it and SanDisk is doing very well. Now, '07 is -- I certainly have some good numbers there, but I can't share them with you at this time.

Okay, that's fair. Just a clarification question on Preface, are we going to see December quarter revenues with Preface? Because I was a little confused with some of the line of answering and obviously in one [inaudible], you are expecting volume there, but I guess the question is, in your guidance, are we reflecting Preface revenues?

No, I don't reflect any material revenue in the Q4 guidance. What we've said -- it's kind of like in line with what we said earlier when we said we might expect a little revenue in Q4 to support the January launch. I think it is better to say that we do expect the POs to come in. If we ship them last day of the quarter, then okay, then there's some revenue, but it's not included in the guidance. We do however, expect to see the first POs now.

Okay. And just one final question on the general health of the MP3 player market. Are you seeing pockets of inventory -- is sales coming in, as far as expectations for the broader market; are you doing okay; just whatever commentary you can add with respect to the general health of the MP3 player market.

Particularly this quarter it's interesting, because this is, sort of, the second full year of MP3 player success. I think it's very well planned. I think all players that we know have learned from last year and have put a lot of planning in. I don't think there is a need, from our perspective, for big pockets of inventory, but the question is really for our customers to answer. From our perspective, I think it's a very healthy market and well planned.

Great, thank you guys.

And we will take a question from Adam Benjamin from Jeffries.

Thanks guys. With respect to the gross margin guidance, it's -- you don't usually give gross margin guidance, but your guidance seems to imply about 36% for December quarter, and I know that you cited it being below your normal range, due to the Apple transition and ASP declines. I'm just trying to reconcile that with the growing piece of the license, which I would think would be 100% gross margins, so that should offset some ASP declines. Can you talk a little bit about that?

Sure, last part of your question, 100% yes, that's true. So the license or the royalty model is 100% gross margin. Yes, you're right. I don't give guidance on gross margin. I started, however, last quarter with it and I sort of reiterated what I said last quarter, which is Q4 is under pressure to some degree because we're missing the follow on technology that we should be shipping by now and we don't. And so, I think, this other reason hasn't changed. Nothing has changed. It's in line with the expectation and how we discussed it on the last call.

To your point, what the gross margin is, I still can't give the exact number because there is a lot of variables in there. We're better than expected this quarter than we were before. The variables are always the customer mix and certainly further success on reducing our manufacturing costs. And in this case, you pointed it out, it's certainly also the royalty model and how much it's going to effect it next quarter. So I have to be a little vague on the exact numbers. It is below 41%. We said that clearly. This shouldn't surprise anybody, because that's in line with what we said last quarter.

Okay. And then based on your internal targets, when do you think, at the earliest, you can get back up into that, what is it, $0.41, $0.44 - is there a kind of given range?

I think 2007. It'll start right in January when we're going to see first success from Preface. It will go as we go through 2007. We're going to see success and that's a significant impact on our margin, when we go into the direct manufacturing flow, the COT, that we've been basically talking about for years and have chosen really, design by design to not do it or do it and this time, the 2007 technology will be manufactured using that flow. That's a significant impact on gross margin.

The customer that makes us bring other customers is going to have an impact on this. And then the increase in the success of the royalty model, as we might take this to other customers, will have a very positive impact from that too. So, I'm not going to tell you it's on February 10th or anything. It's really starting in Q1 and it's going to improve through the year.

So for the full first quarter, you think you can get back to that target, it sounds like.

I don't know. I don't want to say that Q1 is already within the target model of 41% to 44%, but probably well on the way.

Okay. And just to follow up a little bit on the licensing strategy, just trying to understand how that works and how the impact that you could see with your chip business. Just can you give us more color on the thought process of this licensing strategy? Obviously it's a lot more profitable, but it does delay the silicon business and that opportunity. So just trying to understand the pros and cons of this and why you guys think that there are obviously more pros than cons.

Well yes. Well, the first proposition is that we absolutely, having seen the result of that, view it as an adaptive revenue flow. You're quite right. We weren't planning to take an existing design and convert that to a royalty model. The royalty model allows us stretch to different points where we don't want to take our existing chip set in terms of its ASP. So rather than drag that down to that point, for the first time it allows us now to attack devices below $100. You've never really seen us in those feature rich products below $100. We've typically been in the $149, $199, more typically $249 product range.

So I think it actually opens up a new segment in the market, allows us to be very competitive and change the rules somewhat, with how our competitors will deal with us, in that price band. So, it's not a traditional model of just dragging down your old chip set and trying to squeeze every penny out. It absolutely has allowed us to target an additional market segment and, I think, in a creative way, which makes it tough for the competition.

I think under normal circumstances, just using the design that we announced today, the C 200, would not have been [our win]. You know, this would have been a competitors design and we got this by doing what we explained on the royalty license law, so it's a great success for us.

Are you guys willing to give us any kind of potential target we should be looking at, in terms of revenue, potentially, we could see for this licensing line 2007?

Not at this point, because we've started just with one right now and it's very fresh. I mean, we've been working on this for quite some time, but now we see the benefits in Q4 and we want to exploit that very carefully as we move into the first quarter. I'm pretty sure I can talk a little more about on the fourth quarter call in January.

Just two quick ones, you usually give the ASP declines year over year, can you provide that for September Olav?

I can. It was exactly what it was in the past two quarters. We dropped quarter over quarter 8%.

Okay, and what was the year over year?

It's somewhere in the 30 -- 28% to 30% range.

Okay, and then last one and I'll go away, is just last quarter on the conference call you mentioned a wireless opportunity that you expected to see in '07. Can you provide us an update there and let us know the timing of what we can expect on that?

Sure. The timing hasn't changed for that. Again, I think, with our new technology taping out, as we indicated, and samples due back imminently, we're working incredibly hard in that segment with that customer. So we see no change in that timing for that design.

And any additional customers in that segment?

We have a number of active discussions underway. I'm not going to talk about specific opportunities at this point, but you should expect that our sales and marketing people are knocking on a wide variety of doors at this point. Now we have, essentially, a platform coming that really changes the type of applications we now conserve.

All right, thanks a lot guys.

Thank you.

And we will take a question from Daniel Ernst from Hudson Square Research.

Yes, good evening, thanks for taking the call. Three questions, if I might. First of all, in 2007, as you sit here now, do you expect to be still serving that customer with product? And then second question, in the same market, in the personal media player market, have you been able to secure any additional design wins that we just haven't heard about yet, that are in pocket, that could be opportunities in '07, if they ramp, are there any additional wins we just haven't heard of yet? And then, the last question, on the wireless opportunity, you had mentioned that as being a driver in PMP, or -- are we still seeing wireless as a separate product for the handset market? Thanks.

Let me answer the last question first. I think, as we talked about in today's call, I think our vision and belief is that wireless connectivity is an integral part of essentially most handhelds in various forms as you go into next year. So I think the wireless investments we've been making over the past 18 months will absolutely play themselves out in all the market segments we serve. So I think you'll see a broad push of that.

In terms of the specific opportunities with particular customers, as we said, we don't talk about, ahead of time, those specific opportunities, but if there are customers that want to build a feature rich portable multi media devices and products, you should be expecting that our sales and marketing guys are calling them as we speak.

And then your existing customer, do you still expect to be serving them in '07?

Well the video I-pod was just refreshed. Beyond that we don't discuss the customers' road maps. It wouldn't be a surprise to see a continued diversity across the whole PMP market, of types of products that customers bring to market, but we don't discuss specific customers' road maps, as you can expect.

Understood, thank you.

Thank you.

And we will take a question from Craig Berger from Wedbush Morgan Securities.

Good afternoon, thanks for taking my question. Just real quickly on the OpEx, is this kind of the trough, or is there any more spending reductions to come?

I think that's in line with the guidance we've given in the past six months. We sort of guided you guys to $12 million, so we're a little below that. We believe these are the choices that we need to execute well in our 2007 strategy.

Right, and is there tape out expending in Q3 that's being diverted to other projects in Q4?

There are tape outs certainly, as we guided in Q3. There's nothing that we have to discuss in Q4 for tape out. The tape out is done.

Okay.

But to your point, there are additional -- there's always on-going investments. There isn't a one-off deal and it's done. There are always continuing and residual charges, residual access to both technology and IP, so you'll see a continuing tale to those types of investments.

And I apologize if this has been asked, I got on a little bit late, but with respect to [inaudible], I know you guys said you're planning on starting to ship next year, do you have any update with respect to what you think the magnitude of shipments could be throughout the year? I know if you go back to CES timeframe, you guys put out some rough potential numbers out there. Any update to those numbers?

Again, with the qualifier I gave earlier, that is we've got good insight from some of the early adopters and through the year, with these new [inaudible] it's harder to judge that. But we think it could be in the millions of units.

In the millions of units? Okay. And then I know on the MP3 site Apple and SanDisk are both big customers. Who else are your larger MP3 customers?

The focus customers that we talk about are always SanDisk. You know Apple and then Phillips is a customer. We have some success in the market, we do have activity with some Taiwanese White Box and I think there's not a lot of guys left there in the market, as you know.

So Phillips would be the other name that, particularly as you look to the second half of this year, has been a player that's had continued investment in this place. I've indicated that there certainly is a consolidation occurring in the space here. So again, our approach in the past, and it's always continued to be, is to target the volume runners, and then use innovative business models to sort of [inaudible] different prices points. So that's why the licensing model has worked well in the $100 model, for example, with SanDisk. And so we'll tend to exploit those creative ways to work with the large volume providers in this space.

Okay, last question for me. I know you guys don't talk about specific customers or programs, but just generally for investors, is this kind of $30 million quarterly revenue run rate sustainable in '07? I'm not asking for specific guidance in terms of directional magnitude. Should we be expecting a significant leg down at any point in the future, or is this kind of a reasonable base at which to then drive normal seasonality in some other growth platforms?

Well I think it's going to be a mix. Yes, you're right, I don't want to get too much into 2007. This is not the policy to talk about it, but in terms of what '07 means in business development and for us, there is, number one, certainly there will be seasonality. We do expect it over the first and second quarter, as always. Don't know exactly what it is. It's too early. We only have year, really, to compare it to.

But, '07 overall, I think, looks to be a very exciting year for us. I mean we're bringing new customers up. We're adding the licensing model now, so it's not just a revenue, but certainly also a margin and contribution dollar question. We have new manufacturing models. We have the Preface ramp. So [contra] seasonality [inaudible] there's a new business being added to our current revenue model and I think we don't really want -- I don't want to talk about the further reduction of expenses because I think we've found the level we need for 2007. So, it's hard for me to give you a revenue number, a run rate, because seasonality is the one big element that in our consumer electronics space, that makes it almost impossible to talk about a [quality] run rate.

The focus is profitability. The focus is cash positive and the focus is to exist exciting businesses to our current business model in 2007. I think we're on a good path there.

Have you ever said what the wireless technology is you guys are pursuing on you chips? Is it cellular of Wi-Fi or Blue Tooth or --?

For competitive reasons, actually, we haven't been specific with -- our guys keep kicking me. They want to unveil the product when we actually launch the product. So no, we've been specifically vague around the technology there. In longer term, and in the past, we've actually talked and demonstrated many of the technologies you described, but we haven't described the current or the combination that will be associated with the new platform, primarily for competitive reasons.

Any hint to us on when you guys are going to come out with that?

Well, we saw, I think, a little stronger than a hint today in that we announced that we had successfully taped out the product. We will be receiving samples any day. We intend to sample customers in Q4 this year, primarily to get us and them ready to be able to do exciting demonstrations, for example, at CES in January in Las Vegas and also ready through GSM.

Great, thanks guys.

Thank you.

And our last question today is from Quinn Bolton from Needham and Company.

Thanks, jumped on late, so I apologize if a couple of these have been hit, but first could you state again what you said about the pricing, both quarter over quarter and year over year?

I said, in line with the previous two quarters, an 8% quarter over quarter drop in ASP and about 28% to 30% year over year for the third quarter.

Okay. And then to follow up on Craig's question on the wireless. I know you're not really giving a lot of details, but can you say are you designing your platforms to work with standard chip sets, or are you actually starting build in either base ends and/or transceiver functionality into your system on a chip? Can you sort of say how you're approaching it? I know you're not going to talk about what protocols you're looking at, but are you building that actually into your chip, or are you just building interfaces to work with the chip sets from third party suppliers?

No, and I think you know us fairly well. I think the description that you can look towards is the way we've described it as a highly integrated platform. And we talked about the integration of wireless audio capabilities and video. And so you should expect this to be much more highly integrated than you would see from us in the past.

Perfect. Okay, great. And then just on the licensing program, wasn't sure if you gave a lot of details there, but is this something where they're licensing your software or are they licensing your hardware design. Just wondering if you could go through sort of what exactly is the customer licensing for the sub-$100 player market.

Well again, we'll give you the high level view there, in that -- two parts to it. One, obviously the Firmware platform needs to be licensed. That's a sort of integral part of our platform. And essentially on the licensing model we're allowing a more direct access to the silicon provider itself. As you do know, our manufacturing flow is typically through intermediaries and so there's two elements. There's the licensing of the Firmware platform and also elements associated with allowing more direct access to the silicon provider.

Is there any envision to sort of take the Firmware and make it more applicable to a standard third party arm control? Does this strategy have applications, say, in the cellular hand set or other non-portable media player markets?

Potentially. I think part of it, as we indicated earlier, we've sort of put our toe in the water here with one large customer there, and who knows what it might develop to. The way we look at the licensing model is of an additive way to expand the life of a mature business. We've not set up a separate business unit. This is not a main thrust of being a licensing business, this is a way of us adding and extending life to maturing products and allowing us to sort of reach down one more product level in the pyramid. It is not a transformation of the company into a licensing company, with all that goes with that. This is an additive flow to products that are in the maturing cycle of the business.

Got you. Thank you very much for taking my question.

Thank you.

And that concludes our question and answer session. I would like to turn it back over to Gary Johnson for any additional or closing remarks.

Well thanks to everyone for joining us today. With that, we will conclude this conference call. Thank you.

And that does conclude today's conference call. Thank you for your participation. You may now disconnect.