NVE Corp (NVEC) 2011 Q1 法說會逐字稿

Good day, ladies and gentlemen, and welcome to the NVE Corporation's first quarter results call. At this time, all participants are in a listen-only mode. Later we will conduct a question-and-answer session, and instructions will follow at that time. (OPERATOR INSTRUCTIONS.)

I would now like to introduce your host for today's conference, Mr. Daniel Baker, President and CEO.

Good afternoon and welcome to our conference call for the quarter ended June 30, 2010, also the first quarter of fiscal 2011. As always, I'm joined by Curt Reynders, our Chief Financial Officer. This call is being webcast live and being recorded. A replay will be available through our website, NVE.com.

After my opening comments, Curt will present a financial review of the quarter, I'll highlight some business items, and then we'll open the call to questions.

We filed our press release with quarterly results and our quarterly report on Form 10-Q with the SEC in the past hour, following the close of the market. Both filings are available through our website.

Comments we may make that relate to future plans, events, financial results, or performance are forward-looking statements that are subject to certain risks and uncertainties, including, among others, such factors as risks and continued growth in revenue and profits, uncertainties related to agreements with large customers, uncertainties related to research and development contract funding, risks related to developing marketable products, uncertainties relating to the revenue potential of new products, risks of losses on our marketable securities, and uncertainties related to economic environments, as well as the risk factors listed from time to time in our filings with the SEC, including our most recent annual report on Form 10-K. It's updated in our recently filed quarterly report on Form 10-Q. The Company undertakes no obligation to update forward-looking statements we may make.

We're pleased to report increased revenue and earnings for the quarter, driven by solid product sales. Product sales increased 12% to $6.19 million. Total revenue increased 6% to $7.24 million, and net income increased 6% to $0.64 per diluted share.

Now I'll turn the call over to Curt to cover details of our financial results.

Thanks, Dan, and good afternoon. As Dan mentioned, total revenue for the quarter increased 6% to $7.24 million, our nineteenth consecutive quarterly year-over-year increase in total revenue. The increased was despite a comparison to an extraordinary year-ago quarter in which contract research and development revenue more than quadrupled.

The revenue increase was due to a 12% increase in product sales to $6.19 million, our twenty-second consecutive year-over-year increase in product sales. Very robust sales into industrial markets more than offset weakness in medical device markets. The strength of industrial markets was encouraging, and we continue to be quite optimistic about the medical device markets long term. Demographics are favorable, and healthcare reform could make medical devices available to more people.

Quarterly contract R&D revenue decreased 20%, to $1.05 million, due to the successful completion of certain contracts and contract activities. Dan will talk more about contracts in a few minutes.

Gross margin remained very strong, although it decreased to 71% of revenue compared to 72% last year due to a slightly less favorable product mix, with the particularly strong sales into industrial markets.

Total expenses increased 7% for the first quarter of fiscal 2011 compared to the first quarter of fiscal 2010 due to a 28% increase in research and development expense. The increase in research and development expense was due to a decrease in contract research and development activities, which caused resources to be reallocated to expense R&D. We also increased product development activities.

Interest income increased 29% to $476,000 for the quarter due to an increase in interest-bearing marketable securities. Income before taxes for the quarter increased 6% compared to the first quarter of fiscal 2010, to $4.67 million, and pre-tax margin was 65%.

The provision for income taxes was a slightly higher percentage than the prior year quarter--34% of income before taxes compared to 33% last year because of a higher federal effective tax rate. Net income for the first quarter increased 6%, to $3.1 million, or $0.64 per diluted share, compared to $0.61 last year, and net margin was 43%.

Our exceptional profitability is a credit to our employees' productivity and a validation of the value of our products and services. In the past quarter, NVE was included in a list on the website of Investors Business Daily of the top five companies in the semiconductors industry, ranked by operating margin. Also in the past quarter, our return on revenue, our net margin, ranked first among the 100 largest companies in Minnesota, according to the Star-Tribune.

Cash flow strengthened our balance sheet considerably, and a strong balance sheet allows us to defend our intellectual property if necessary and allows for contingencies.

Operating cash flow was $5.42 million for the quarter. As of June 30, cash plus marketable securities was $54.7 million, an increase of $5.13 million in the quarter, to exceed $50 million for the first time. Income taxes payable increased $1.54 million because we had no estimated income tax payments due in the most recent quarter. We have two payments due in the current quarter, the quarter ending September 30.

Purchases of fixed assets were approximately $62,000 for the quarter. Capital expenditures could be several hundred thousand dollars during the rest of the fiscal year as we complete a major capacity expansion.

Our previous Agilent agreement amendment, Amendment Number 2, provided a non-refundable payment of $250,000 by Avago to us. In accordance with accounting rules, we recognized the payment as revenue over the amendment term at a rate of approximately $21,000 per quarter, ending in the past quarter.

In the past quarter we began converting underutilized space into a new production test area and a new R&D lab. We expect costs related to that phase of our expansion to be covered by a tenant improvement allowance that was part of the extension to our building lease that we signed in 2007.

We expect, however, that including a planned expansion of our production clean room space, that cost will exceed the tenant improvement allowance by $500,000 to $1 million. We expect to account for costs not covered by the tenant improvement allowance by amortizing them as leasehold improvements over the remaining lease, which is through December 31, 2015.

Dan will provide some details on our expansion, as well as his perspective on our business. Dan?

Thanks, Curt. And I'll cover our expansion, customer agreements, new products, R&D, patents, and governance.

As Curt said, in the past quarter, we began converting underutilized space to a new production test area and a new R&D lab. We moved into the new R&D lab in the past quarter, and we plan to finish the new production test area this quarter.

The current expansion allows for future growth by converting approximately 1,900 square feet to production, about a 40% increase in production space. The space being vacated will be converted to production clean room space. The clean room expansion could begin as soon as this quarter and could be done as soon as late this calendar year.

A brief summary of what we do in the two areas we've expanded. The new R&D lab is specifically designed for spintronic R&D. In complete circuits, spintronics and spin-dependent tunnel junctions are extremely rugged, but because of their nanoscale dimensions, raw spin-dependent tunnel junctions are sensitive to static electricity. The new lab has grounding rods and a special static-dissipative floor. It will allow more productive R&D on more complex spintronic structures.

In production tests, we test 100% of our sensors and couplers to ensure that they meet the most demanding requirements. For example, we test most of our couplers at 3,200 volts AC or 4,500 volts P. That's the equivalent of 3,000 D-cell batteries, which would be a 600-foot-long flashlight. We also test parts at rated temperature, which is up to 125 degrees Celsius, or 257 degrees Fahrenheit. This is done with custom equipment, and now those production tests, which were scattered around the building, will be consolidated.

There are currently two sections in our clean room. One bay has equipment primarily for spintronic layer deposition. The other is primarily photolithography and patterning. The completed construction frees up space for a third bay, which will increase our capacity by separating photolithography and patterning into separate bays.

We filed agreements with two important customers in the past quarter. First, we executed a letter of intent relating to a supply agreement we signed with Phonak AG last year. Phonak sells hearing instruments--hearing systems--using our spintronic sensors. The letter of intent sets pricing and defines terms for an amendment to the supply agreement, including an extension of the supply agreement term through March 31, 2015, and expansion of NVE products under the scope of the agreement, and minimum purchase requirements.

Second, we executed a third amendment to a 2001 OEM supply agreement between us and Agilent Technologies. Agilent, and later Avago, has distributed private-label versions of certain of our couplers since 2002 under that agreement. Avago has an excellent reputation in the high-performance coupler market, good distribution, and expert customer support. The agreement would have expired last quarter, but the amendment extends the term for three more years.

Despite its history in optical electronics dating back to Hewlett-Packard in the 1950s, Avago management had the foresight to see the value of NVE's competing non-optical spintronic technology. It's an excellent validation of our technology.

That letter of intent and Avago amendment were filed under Current Reports and are available through our website. We plan to file the Phonak amendment called for in the letter of intent when it's signed.

Risks related to the expiration of those two agreement were included in our annual report on Form 10-K filed in May, so we updated that risk factor in the 10-Q filed today. It's been our practice to provide email alerts to interested parties when we make SEC filings such as material contracts. You can sign up for those emails via the Request Investor Information page of the Investors section of our website. There's a link also to RSS feeds from the SEC.

In the past quarter, we introduced a new medical sensor, designated the BD027 low-voltage nanopower sensors, which are lower-voltage, lower-power versions of our award-wining BD020 sensor. The BD027 runs on a supply voltage as low as 0.9 volts, making it ideal for single-battery implantable medical devices. Typical power consumption is a remarkable 29 nanowatts at 0.9 volts.

The BD027 is packaged in our 1.1-millimeter-square Ultra-Leadframe Land Grid Array, or ULLGA package, which fits on the head of a pin. A size 312 hearing aid battery would theoretically run the sensor for about 200 years. I say "theoretically," because the battery has a three-year typical shelf life. Since hearing aid batteries are usually replaced every week or so, our sensor is an almost insignificant battery drain.

Our products were promoted at two important trade shows in Germany last quarter--the Power Conversion Intelligent Motion Exhibition and the Sensor Test Exhibition--in cooperation with our distributors. Germany is a strong market for industrial control and factory automation, and it's been a very good market for us.

As Curt noted, first quarter contract R&D revenue decreased as a result of the successful completion of certain programs and program phases. We hope that the completed programs will lead to production devices, although that may depend on factors beyond our control.

We focused our contract work in areas that are strategic to us in terms of future growth and revenue potential. Two long-term strategic development areas we've discussed include compassing sensors and MRAM. The goal of a spintronic compass is to determine heading using low-field tunnel junction sensors to measure the angle of the earth's magnetic field. Since our last call, we've completed prototype wafers, and we're in the process of test and evaluation. If all goes well, we may ship tested prototypes to our customer this quarter.

Additionally, we received a new government research contract titled "Three-axis Vector Magnetometer with Novel Z-axis Sensor" from the National Science Foundation. Goals include miniaturization and reduced power consumption with applicability to navigation and consumer electronics. NSF contracts are held to high standards for scientific merit and commercial potential, and the NSF has supported Nobel prize-winning research. The contract start date was July 1, and there's a link to the abstract from the In the News page of our website.

Another long-term strategic development area is anti-tamper MRAM. MRAM is an integrated circuit memory which is fabricated with nanotechnology and uses electron spin to store data. MRAM may have the potential to combine many of the best attributes of different types of semiconductor memories. Anti-tamper technology is in demand for defense, aerospace, and commercial application.

Our anti-tamper technology uses MRAM intellectual property we've developed over the years and expands the technology and specialized know-how we can eventually bring to bear on large-scale MRAM.

A sobering "60 Minutes" story updated last month covered the vulnerability of infrastructure to cyber attacks and highlighted the need for anti-tamper technology. Therefore, we continue to invest a significant amount of R&D on MRAM and related technology. I mentioned on our previous call that we were in the process of adding MRAM spintronic structures to foundry wafers. We have since delivered prototypes with working memory disks, which we consider an important milestone. We've also won new anti-tamper contracts, including a government R&D contract for over $1 million.

We continue to strengthen our patent portfolio. In the past quarter, we were granted a patent titled, "Cross Point Magnetoresistive Memory," which relates to MRAM. Like much of our intellectual property, the cross point memory invention was made with US government support--in this case, the Missile Defense Agency. This is an example of the value created by our government contracts, and under federal legislation, companies normally may retain the principal worldwide patent right to any invention developed with US government support.

In addition to the MRAM patent granted last quarter, just last week we received notice of allowance of two patents--a magnetothermal MRAM patent and a coupler patent. Also in the past quarter, we received an ex parte Quayle action on a US patent application titled, "Thin-Film Structure Magnetizable Bead Detector."

A notice of allowance is a written notification that a patent application has been examined by the Patent Office and is nearing issuance. An ex parte Quayle action indicates that prosecution on the application's merits is closed, but there may be amendments on formal matters, and we provided those amendments.

A recently allowed MRAM patent is titled, "Magnetic Memory Layers Thermal Pulse Transitions," and relates to magnetothermal MRAM. Magnetothermal MRAM is an MRAM design that uses a combination of magnetic fields and ultra-fast heating from electrical current pulses to reduce the energy required to write data. Magnetothermal MRAM could allow smaller MRAM cells and lower power consumption. And that, in turn, would allow denser MRAM. We believe magnetothermal technology can also be combined with spin momentum transfer technology.

The recently allowed coupler patent is titled, "Signal-Isolated Linear Receiver," and relates to couplers, also known as signal isolators, because they electrically isolate the coupled systems. We make spintronic couplers to transmit information faster from the fastest optical couplers.

The bead detector patent application describes a system used for detecting the presence of selected molecular species. Biosensors have been one of our long-term R&D thrusts. We continue to plan for production of biosensor disposables next year for a manufacturer of clinical analyzers. Longer term, in vitro diagnostics could shrink, and our biosensor technology could move to a point of care and eventually could be part of laboratories on chips.

There are links to the Cross-Point Magnetoresistive Memory patent as well as the Magnetothermal MRAM Signal Isolator and Bead Detector patent applications from our website.

Our tenth annual meeting as a public company has been scheduled for August 5 here in Eden Prairie. The materials are proxy statement, letter to shareholders, and annual report on Form on 10-K have been filed with the SEC, sent to shareholders, and are available from the Investors section of our website.

The annual meetings have been well attended and lively, and we look forward to seeing many of you. At last year's meeting, attendees got a commemorative coffee cup to celebrate NVE's 20-year anniversary, which were a big hit. This year we'll unveil a new coffee cup for attendees, which could become highly collectible, but you need to be there to get one.

For good corporate practice, our entire Board of Directors stands for election every year. Under new proxy rules, we provided more information on our Directors' experience, qualifications, and skills that qualify them. We're fortunate to have an exceptionally experienced, successful and hard-working Board. Our Chairman, Terry Glarner, for example, recently ranked first in average tenure, first in stock performance, and fifth overall in the Minneapolis-St. Paul Business Journal's recent Top 25 list of Hardest-Working Board Members.

There's been a fair amount of legislative activity relating to executive compensation. Our compensation criteria set a high standard for performance, which we believe is how it should be. Independent data compiled by DeMarche Associates, the Star-Tribune, and the Minneapolis-St. Paul Business Journal support the prudence of our pay policy. Depending on regulatory developments, we may also have a shareholder's say on pay resolution in future proxies.

The letter to shareholders with our proxy mailing highlights, our financial performance for fiscal years 2006 through 2010, the period of the financial data in our 10-K. In just that four years' span, total revenue more than doubled, net income increased more than 500%, and cash plus marketable securities more than quadrupled.

I also noted in the letter than our performance earned NVE a place on Forbes's two most recent lists of the 200 Best Small Companies in America. Our growth qualified us for the latest Fortune Small Business list of America's 100 Fastest-Growing Small Public Companies, and our return on revenue ranked first among the 100 largest companies in Minnesota, according to the Star-Tribune.

Now I'd like to open the call for questions. Patty?

Thank you. (OPERATOR INSTRUCTIONS.) Our first question comes from Steven Crowley of Craig-Hallum Capital.

Good afternoon, gentlemen.

Good afternoon, Steve.

Afternoon, Steve.

A couple of questions, driven by the performance in your prepared commentary. You spoke to the character of the products business in the first quarter, with quite strong activity out of the industrial side of your business and some weakness on the medical device side of the equation over the short term.

Should we view the weakness in the medical business as a temporary phenomenon that we just live through? Is it an ongoing phenomenon? What can you tell us about the ingredient set for that side of your business as we look forward?

Steve, as I mentioned, we continue to be quite optimistic about the medical device markets. I think it's just a short-term inventory deal. The demographics in the medical device area are quite favorable.

And sometimes, because we sell to distributors and customers that maintain significant inventories, they may be looking at--they may predict an increase in demand down the road and they might buy more, or they might forecast less of a demand and might buy less. Customer inventories can be volatile.

Perhaps it's distributors and customers wrestling with economic uncertainties. But like I said, despite the near-term uncertainties and volatilities, our product sales have consistently grown. And we're optimistic in the long term, and we just had our twenty-second consecutive year-over-year increase in product sales.

So from that, although it's probably difficult to calibrate, it wouldn't seem that there's anything structurally presenting itself as a major impediment to ongoing success in the medical device arena. Looking back at the performance of your products business, and in the fourth quarter it had real strength out of that segment in that vertical market, but you've had a somewhat less-than-strong quarter out of medical. Is it at least reasonable for me to think that one strong quarter, one less strong quarter, you get back to a more normalized picture out of that vertical market over the relative near term?

Steve, this is Dan. Yes, we don't see anything structural there in the medical business. We see continued underlying strength, and as Curt said, with the medical business, they tend to have large inventories because of the critical nature of their products. They can't run out of things for obvious reasons. And so that can cause some volatility. But we see the underlying strength continuing.

Okay, and then your comments about the industrial side of the business certainly sound encouraging at first blush. Besides it being quite strong in the period, what can you tell us about the ingredient set going forward there? Are those drivers, whether they're applications or products or particular customers, seemingly still in good stead?

Yes, the underlying fundamentals appear to be strong. I guess there's always a concern about the economic uncertainty down the road. Our products go into industrial automation, factory automation and industrial controls, and so it depends on people building factories and, ultimately, people building the capital goods or the durable goods, often that those factories produce.

But we're seeing strong economic conditions. We've also been successful at acquiring customers and introducing new products. We've highlighted in the past our controller area network products, which go into industrial markets. So we see this as a very encouraging sign. As always, the concern of will the economic recovery continue, and that's difficult for us to predict. But so far we're seeing some very encouraging strength in those industrial markets.

And we've certainly talked about some higher-profile new product programs and had some regular updates about those programs, and I want to come back to that. But in terms of your growth and/or traction in the industrial marketplace right now, have you seen any substantial new applications for your standard products into the industrial domain really gain some significant traction here, whether in automotive or a new segment of manufacturing, or is it more market recovery and more customers in those same segments that you've been successful in before?

I think it's in the segments that we've talked about, by definition industrial control and factory automation. But what we're seeing is an upturn in the economic conditions and the economic environment. And a lot of what we believe our gains are, are at the expense of conventional technology or older technology or competitive devices. And we've been, we believe, winning design sockets through better performance, through better lead times, having parts available as lead times have stretched out, and having new types of products such as controller area networks and other products that fill a unique need.

So we're continuing to grow, we believe, by gaining share and gaining against our competition, and because of the increase in investment that we're seeing in industrial markets.

Okay. And then in terms of the contract manufacturing--or excuse me, contract research and development, big difference there--and the variability we saw in that revenue line in the first quarter, I'm trying to rationalize some of your comments about the definitive completion of some projects' contracts that should lead to commercial product revenues in the future. That's the move of revenues from one category to another and, hopefully, substantially more over time as you generate product revenues.

But there's also the phenomenon of getting more contracts in that revenue segment, and you referenced some success on the government front. What kind of visibility do you have for a better performance in absolute dollars in the contract R&D business moving forward versus what we saw in the first quarter, or what can you tell us about the prospects for that revenue category?

Maybe what we could do is I could first talk about the possible transition from contract R&D to production, and then maybe Curt can talk about what we see for prospects going forward, or what our visibility is there.

And when we, if we successfully complete an R&D project, we hope to demonstrate the feasibility of a particular part or device or approach, but there can be a gap in between the completion of the R&D and that product moving into production. I think as you correctly point out, though, that production revenue can generally be much larger and grow much more quickly than contract R&D.

And the reason we do contract R&D is twofold--to get parts into production and products into production that can drive future growth, and the second is to build intellectual property that's applicable in other areas.

So we do see a potential for production products that result from these contracts, although they may not immediately replace the revenue from the contract R&D, because it takes time, then, to get the products into production. That's generally not a funded activity. And then it takes time for the products to ramp up. But we think it bodes very well for the long term.

And Curt, do you want to address the visibility of contract R&D revenue?

Yes. Steve, contract R&D is really hard to predict and, as you probably noticed over the years, it can be lumpy. Revenue can be affected by not only when contracts end and when we may get follow-on contracts, but also could be affected by particular tasks within contracts.

The timing is tough to predict. Some of it depends on the government. If they're government contracts, a lot of times there's not money available until a new government fiscal year. But we are continuing to pursue contracts and also win contracts in some of the strategic areas that Dan talked about, and we've also spent more on Company-sponsored product R&D. And as we've said for several years, products and the IP is what will drive the future growth of NVE.

Understood. As we try and build a model, we're coming off a March quarter that was a high-water mark for contract R&D. And the June quarter represented the lowest quarter in the last, I guess, seven. Is it reasonable to expect, as we go forward, that the likely performance of that business segment should be between those two goalposts? Or is there a much wider range of outcomes?

It's really tough to say. I would say it wouldn't be unreasonable to expect it to be somewhere in between those areas as we've--I believe as you've mentioned--in the last seven quarters, we were somewhere in between the most recent quarter and the March quarter, which was, I believe, a five-year high for us.

That's helpful. And then the last line of questioning, and I'll hop back in the queue. As I mentioned, you've done a nice job of updating us on three significant new product programs, and it seems like all three are progressing or, in the case of the biosensor, the consumable biosensor for--the biosensor as a consumable component of a next-gen diagnostic system--the timeline's holding together, and it appears that there's revenue potential from sales of those products next year.

So one, I'm asking for confirmation that my logic is correct surrounding that opportunity. And it seems like there's revenue opportunities for the other two initiatives between now and then, as you move forward with the compassing sensor, and there's the opportunity for your customer to move from production prototypes to full production products and new scale manufacturing for low-density MRAM. That's a complex question, but I think you get the gist of what the overall question is.

Yes, I think we got the gist, and we do see production opportunities and product sales opportunities in each of those three areas. And the timeframe and the volumes vary, and it's difficult to predict. A lot of it's beyond our control. But we see great potential in each of those areas. We see large potential markets, we have competitive advantages, and we're working with partners who can get it to market. So we believe that it's well worth the R&D that we've spent, and that we're going to see the results in product sales down the road.

When you say you're shipping, you're likely shipping tested prototypes to a customer this quarter for the compassing sensor, are those tested prototypes for your customer, say, a Tier 1 supplier to the wireless market, to go out and cultivate production unit orders from the ultimate customers for these products?

Yes. We're providing them with prototypes. They're going to provide demonstrators or a module, and they have contacts and channels into handset manufacturers, and that's the way we intend to, we hope to bring this product to market.

Okay. I'll drop back in the queue and come back with a couple of questions, but I'll get out of the way here. Thanks very much for taking my questions.

Thanks, Steve.

Our next question comes from David Wu of GC Research.

Yes, good afternoon, gentlemen. I was just trying to look at the product revenue side, and I soon looked at your past. In the past, when you have a hit, it seems to be a one-quarter event, and inventory correction should be a lot longer than that unless the end market mysteriously slowed down for a very long time. Did I get the first look right, or is history not a good tie?

That has been the history. It's hard to say definitively that that will continue, because we're relying on our customers. And as Curt mentioned when he was discussing inventories, that it's not just our customers' requirements, it's their prediction of their requirements, and their prediction of their requirements overlaid on what they have for inventory. So the pattern has been that we get near-term quarterly variations, but it's not inconceivable that those can continue longer. But that has been, in the past, roughly the time periods that we've seen for these variations.

Yes, I would suspect that medical stuff contingently consumed again and customer level and inventory adjustments as probably minor. Anyway, when you look at the two segment mix sets under your markets, industrial factory automation versus medical, I was wondering, roughly, when you look at your June quarter, what do they roughly represent as a percentage of product revenue? And the other thing I wanted to ask is how did these things fluctuate, but what's been max in the past, the percentage of those two segments?

Yes, we just haven't broken out those percentages, and it can be difficult to do it real precisely. I think overall, we know approximate levels of each, but it's just not something that we've broken out in the past.

Yes. Okay. Should I assume that medical was your hot market a couple of quarters the past year, and that it accounted for over half the business, and now it's under half?

I guess we just aren't going to get into those percentages. We can't be real precise with it, and it's something we just don't break out. We have talked about it in past quarters when we do talk about it qualitatively, and we talk about other quarters where we've had strong quarters for medical and weak quarters for industrial.

So we're fortunate in that we have a certain amount of diversification and maybe even a little bit of counter-cyclicality. And that allows us to smooth out our production workflow and to keep our factories running at a reasonable level. So we're not whipsawed the way companies that are either pure medical or pure industrial semiconductors can be. So we feel it is an advantage, and we've had quarters where we've had the reverse situation in terms of the strength or weakness between industrial and medical businesses.

The reason I asked that question is because, once again, to the December quarter, hope for September or late September or the December quarter, hopefully two things happen. The industrial, from everything one hears about companies that reported numbers, their September values is pretty good for the industrial factory automation side. And if you can get your inventory correction done in the quarter, we could pretty well have both of these end markets going up some time rather late September or the December quarter. Is that a reasonable scenario?

It's not something we try to predict. We leave it to analysts like yourself. But we're trying to build our capacity to allow for us to be able to build considerably more devices than we can now. The great long-term strength in our markets, and we try to avoid predicting quarter to quarter, because our plans has to be longer term than that. When we hire people or make capital investments, we see them as investments for the long term.

So when we look out in those kinds of timeframe, which are the timeframes that are important for our planning purposes, we see a bright future in both the medical device segment and in the industrial factory automation markets. And we're planning for success in those markets as well as the markets, the longer-term markets that we've talked about, those being things like compassing, automotive, and anti-tamper biosensors.

So we do see excellent prospects for the long term, and we don't try to chase that quarter to quarter.

I understand. If I were to look at, say, the capacity planning you're putting in place in that 1,900-square-feet conversion, should I think about revenues, product revenues capability well in excess of $10 million a quarter?

It's hard to break it down and to turn that into a revenue. It's hard to convert square feet into revenue. What we look at, though, is we want to have plenty of capacity for the long term--for growth to make sure that we can handle some of the quarter-to-quarter fluctuations that we get.

And so we're not like a commodity semiconductor company, and I know you cover some of them, where it's important that they maximize their capacity utilization. Our view is that we want to have adequate capacity. And so we're removing some particular bottlenecks, we're clearing a path to expand our clean room, which is where we make the spintronic devices and where we do much of the value added that's inherent in our products.

So we want to have adequate capacity, and it's not directly translatable into dollars, because it depends on the products, it depends on the mix, and it depends on where the space is. But we think that expanding test and the clean room are areas that can increase our capacity by quite a bit, disproportionate to the amount of square feet, because they are areas that can facilitate a lot more production through them.

Okay. That said, I guess there's not much visibility into when the pipelines on contract R&D is, right? I was thinking that the number seems to go, just looking at the history, it seems to go through a period of not much growth, and then suddenly we have bumps. And that step-up sort of thing and we're, we're probably into this flattening period. I was wondering when should we think about, which fiscal year should we think about a step-up in contract R&D?

As Curt said, I guess he eloquently said it can be lumpy, because the contracts can be, they can be relatively large compared to the total amount of contract R&D revenue. So one or two contracts can make a fairly large difference in that number.

But I think the important thing that, the way we look at it is, we look at contract R&D as a way to do research and development in strategic areas, to fund that research and development, to do things that are valuable to us that will add value to our Company, and we're fortunate in that our customers are willing, in many cases, to pay for that. So, for example, in the last fiscal year, we had 19% of our revenue invested in R&D. And a very small portion of that hit our bottom line as an expense. Most of it was customer-funded.

And the second thing is to develop products and technologies that can eventually be put into production for those customers or for the customers who funded or for others so that we can build our product sales. So we've seen some lumpiness in contract R&D, but we view our future as a future of growing product sales and longer term in licensing certain of our technologies. So we don't really view contract R&D as a scalable revenue source.

Yes, I understand. I understand. That's your seed corn for future product revenues, anyway.

Exactly.

Okay, bye. Thank you.

Thank you. And our next question comes from the line of Patrick Kirksey of Perimeter.

Hey, guys. Thanks for taking my question. I wasn't sure I was going to get on. Actually, I just have more of a comment versus a question, and that is, as a top 10 institutional shareholder of your stock, I sure would love to see the management have a little bit more stake in the game in terms of stock ownership of your own Company. I looked at the current holdings for you guys as well as the Directors, both outright holdings as well as in conjunction with all the different stock options. And it just would really be nice to see if you guys have a little bit more stake in the game, maybe bought some stock in the open market or exercised some options but then didn't sell those, just to show that--I mean, you guys do a great job running the Company. I have no complaints there. I just would really like to see you guys add a little bit more stock. Thank you very much.

Well, I appreciate the comment. I'd probably make a couple of points. Our Company is fairly frugal with option grants. We haven't granted any options to management in several years, and speaking for myself personally, I have a fair amount of exposure to the Company stock, which is how it should be, and I haven't changed that exposure in many years.

So we believe in this Company, and our compensation is tied to the success of the Company, and that's as it should be. But I appreciate your comment.

Were there any other questions, Patty?

No, no, that takes care of it. Thanks, guys.

Okay.

I'm showing one more question in the queue. Steven Crowley, your line is open.

Just a quick follow-up as it relates to the anti-tamper MRAM. In terms of your capacity expansion and some of the capabilities that you're adding and detailed in your prepared commentary, I trust adding the ability to add advanced spintronic structures to product dovetails the necessary capability for you to manufacture that lower-density MRAM in-house, or am I mixing apples and oranges there?

No, that's one of the capabilities that we want to have in-house, is the ability to make anti-tamper MRAM, smaller-scale MRAM that we talked about before. And our strategy in general is to manufacture those special-purpose, low-density MRAMs that would be used for anti-tamper or similar applications.

And we don't have any plans to scale up, and it's not practical for us to scale up for large-scale MRAM. But we do plan to make that MRAM here, the smaller-scale MRAM, the anti-tamper MRAM, and we want to have capacity to do that and to meet our customers' requirements. So that's one of the things that goes into the longer-term planning.

And in terms of your recent accomplishment of delivering prototypes with working memory bits, you're delivering those prototypes to prospective customers directly, in contrast to our prior discussion about wireless?

Yes, in that case, we're dealing more directly with customers. That tends to be, at least initially, that tends to be military, aerospace, and the protection of high-value assets. And longer term, it could move into more of a business model similar to what we envision for automotive and for consumer electronics with Tier 1 suppliers, where the end users tend to limit their number of suppliers and look to buy modules from their direct suppliers, the Tier 1 suppliers.

So longer term, we might move in that direction. But in the near term, we're more tightly coupled with the customers in that kind of business.

And you are targeting, it sounds like multiple customers at this stage, with those prototypes?

Yes.

Okay. And then one final question as it relates to the success you've had with a customer with a diagnostic biosensor and the consumable portion of a next-gen system. Does your success with that customer preclude you from developing other relationships and moving down the timeline with other diagnostic customers at this point? Is it serial, or can you run it in parallel fashion?

We can run in parallel fashion. We generally don't give exclusivities for our technology. We sometimes provide limited exclusivity for certain products or certain implementations of our technology, but our business model is to provide technologies to broad markets, so that would be our goal there.

Great. Thanks again for taking my questions.

Thank you. Well, I think we're about out of time, so I do want to thank you. We were pleased to report strong product growth and strong earnings for the quarter. We look forward to seeing some of you at our annual meeting two weeks from tomorrow, and we plan to speak with you again in October to report our second quarter results. Thank you again for participating in the call.

Ladies and gentlemen, thank you for participating in today's conference. This concludes the program. You may all disconnect. Everyone have a great day.